(URBN) Urban Outfitters Incorporated – Bear of the Day

We are initiating the coverage on Urban Outfitters (URBN) with an Underperform recommendation. Despite registering growth of 6.3% in the top line, the company’s third-quarter 2012 earnings of $0.33 per share fell 23.3% from the prior-year quarter due to the rise in cost of sales and SG&A expenses.

The company’s inventory level, which rose 27%, remains a matter of concern. The company, in order to clear its inventory, is selling the slow-moving stock of women’s clothing at increased markdowns, which in turn, is weighing upon margins. Its gross margin contracted 571 basis points to 35.4% during the quarter.

Management now expects the fourth quarter gross margin to be lower than the third quarter. Fashion obsolescence remains the key issue for the company’s business model. In the past, this has weighed down on the company s comparable-store sales and operating margins. The company is presently inflicted with the same fashion risk.

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