The Gap - Earnings Call - Q1 2026

Executive Summary

• Gap Inc. delivered a clean beat in Q1 FY2025 (reported May 3, 2025): revenue $3.463B vs S&P Global consensus $3.416B*, and diluted EPS $0.51 vs consensus $0.456*; gross margin expanded 60 bps YoY to 41.8%, and operating margin rose 140 bps to 7.5%.
• Brand momentum remained broad-based: Old Navy comps +3%, Gap brand comps +5%, Banana Republic flat, Athleta −8%; online grew +6% to 39% of net sales as stores were flat.
• FY2025 guidance was maintained (net sales +1–2%, underlying operating income +8–10% excluding tariffs) with new tariff disclosure: $250–300M gross cost with net $100–150M impact to FY2025 operating income after mitigation; Q2 outlook calls for flat sales, gross margin similar to Q1, and slight SG&A leverage.
• Call focused on tariff mitigation (diversifying sourcing; China <3% by year-end), supply chain resilience, and technology initiatives (RFID, AI enablement) underpinning margin durability and brand reinvigoration.

Values from S&P Global for estimates marked with *.

What Went Well and What Went Wrong

• What Went Well

  • Broad-based execution and margin expansion: “We expanded operating margin 140 basis points…EPS was $0.51…strong cash balance of ~$2.2B”.
  • Brand momentum: Old Navy delivered its ninth consecutive quarter of share gains with Active and Denim leading; Gap comps +5% with strong full-price sell-through and elevated collaborations (Gap Studio, DOEN, Harlem’s Fashion Row).
  • Digital strength: Online sales +6% to 39% of net sales; management emphasized Gap Inc. as “the number one branded apparel e-commerce business in the U.S.”.

• What Went Wrong

  • Athleta underperformed: net sales −6%, comps −8% due to insufficient compelling product for core customers; AUR down modestly primarily from higher promotional activity at Athleta.
  • Tariff headwinds: management quantified a $250–300M gross cost with $100–150M net operating income impact, weighted to H2, despite mitigation strategies.
  • Q2 gross margin YoY implied decline due to lapping prior-year credit card benefit; guidance flags ~60 bps deleverage absent that non-recurring item.

Transcript

Operator (participant)

Good afternoon, ladies and gentlemen. I would like to welcome everyone to the Gap First Quarter 2025 earnings conference call. At this time, all participants are in a listen-only mode. For those analysts who wish to participate in the question-and-answer session after the presentation, you may now press star one to enter the Q&A queue. As a reminder, please limit your questions to one per participant. If anyone should require assistance during the call, please press the star key followed by the zero key on your touch-tone phone. I would now like to introduce your host, Whitney Notaro, Head of Investor Relations.

Whitney Notaro (VP of Investor Relations)

Good afternoon, everyone. Welcome to Gap Inc.'s First Quarter Fiscal 2025 earnings conference call. Before we begin, I'd like to remind you that the information made available on this conference call contains forward-looking statements that are subject to risks that could cause our actual results to be materially different. For information on factors that could cause our actual results to differ materially from any forward-looking statements, please refer to the cautionary statements contained in our latest earnings release, the risk factors described in the company's annual report on Form 10-K filed with the Securities and Exchange Commission on March 18th, 2025, and any subsequent filings with the Securities and Exchange Commission, all of which are available on gapinc.com. These forward-looking statements are based on information as of today, May 29th, 2025, and we assume no obligation to publicly update or revise our forward-looking statements.

Our latest earnings release and the accompanying materials available on gapinc.com also include descriptions and reconciliations of financial measures not consistent with generally accepted accounting principles. Joining me on the call today are Chief Executive Officer Richard Dickson and Chief Financial Officer Katrina O'Connell. With that, I'll turn the call over to Richard.

Richard Dickson (President and CEO)

Thank you, Whitney, and good afternoon, everyone. The first quarter was another great quarter during which we delivered what we said we were going to do, exceeding expectations across key financial metrics. We had positive comp sales for the fifth consecutive quarter, expanded both gross margin and operating margin, and gained market share for the ninth consecutive quarter. We are lapping the early stages of our transformation, and our two largest brands, Gap and Old Navy, are winning in the marketplace and demonstrating the potential of our brand reinvigoration playbook. Old Navy and Gap saw growth across all income cohorts, with Old Navy gaining share in both top and bottom cohorts and Gap gaining share in top and middle cohorts, showing our strategic intent is working. During the quarter, we increased our year-over-year e-commerce penetration, with Gap Inc.

Ranking as the number one apparel e-commerce business in the U.S., reflecting our ability to meet customers where they are. We remain focused on controlling the controllables, driving continuous improvement, and pursuing exciting opportunities as we operate and build this company for long-term growth. Our strategic priorities are clear. Our intent is unwavering, and despite a dynamic environment, we're staying firmly on course, and it's showing in our results. Tariffs are understandably top of mind, so let me take a moment to share how we are approaching this topic. Based on what we know today, we are working to develop plans to mitigate as much of the anticipated tariff impact as possible, taking actions in the short term without compromising the long-term integrity of our strategy. We have been successfully diversifying our sourcing footprint for several years, demonstrating the agility and resilience of our supply chain.

China, as an example, used to be one of the top sourcing countries for our product. In 2024, it represented less than 10% of our sourcing, and exiting 2025, we now expect it to be less than 3%. Most other countries represent less than 10%. Vietnam and Indonesia represented 27% and 19% of our sourcing last year, respectively, and our goal is for no country to account for more than 25% by the end of 2026. We are taking a collaborative approach with our global sourcing partners to maintain and build on the long-term relationships we have across our supply chain. Diversification also means nearshoring as well as domestic investment. We're planning to double our vendor sourcing of American-grown cotton in 2026, with about 90% of our sales in the quarter in the U.S. and an American workforce of over 65,000 investing in the U.S.

is an important priority for our business. Today, we are much better equipped to handle complex headwinds because we have a stronger financial foundation, and we are operating with greater discipline, growing brand momentum, and improved platform capabilities. The first quarter was yet another proof point that our strategy is working, and I remain optimistic yet realistic about the opportunities ahead as we navigate a highly dynamic environment. On today's call, as usual, I'll provide an update on our first quarter performance and progress in the context of our four strategic priorities. Then, Katrina will walk you through our detailed financial results and our financial outlook, after which we will open the call for questions. Let's start with our first strategic priority, financial and operational rigor. Gap comparable sales were up 2% in the quarter. Comps at Old Navy, our largest brand, were up 3%.

This is the brand's ninth consecutive quarter of market share gains, reinforcing its leadership position as the number one specialty apparel brand and retailer in the U.S. Gap comps were up 5%, the sixth consecutive quarter of positive comps, and the brand delivered its eighth consecutive quarter of market share gains. Banana Republic comps were flat as we continue to focus on reestablishing this premium brand in our portfolio, and as we expected, Athleta comps have been challenging, down 8%, and we remain focused on resetting the brand for the long term. We expanded operating margin 140 basis points versus last year. EPS was $0.51, up 24% versus the first quarter of last year, and we ended the quarter with a strong cash balance of approximately $2.2 billion. The rigor and discipline we have put into managing the business is serving us well.

Turning to our next strategic priority, driving relevance and revenue by executing on our brand reinvigoration playbook. Our portfolio consists of iconic, trusted brands, each in a different stage of the brand reinvigoration journey. Let's begin with Old Navy. Old Navy is off to a strong start, outperforming in the first quarter with a 3% comp and the ninth consecutive quarter of market share gains. This momentum underscores Old Navy's growing relevance with customers and the team's continued rigor of execution. We are bringing more innovation, style, and value in 2025, and the brand's category leadership drove its Q1 performance, led by Active and Denim, which are both strategic growth categories for the brand. During the quarter, we continue to advance our strategic pursuit to become the destination for the family as the value player in the Active category.

Notably, Old Navy continued to gain share in Active as the number five player in the category. The launch of our Studio Smooth collection outperformed our expectations, delivering exceptional comfort and value to consumers and marking another step forward in our expansion in the category. We are not stopping there. With our Active product resonating, we are amping up the storytelling. Earlier this week, we launched the brand's first major Active campaign in years, "Old Navy, New Moves" which is getting great reception. The brand's Q1 performance was also fueled by the success of our trend-right crafted denim collection with styles in loose and barrel fits, embroidery, and braided details. This is another great proof point that great style at great value wins across the family. During the quarter, Old Navy grew share in denim, ranking number four in the category.

In women's, we launched a new occasion dress collection supported by a marketing campaign that drove some of the highest reach and engagement on social media to date, an encouraging sign that our product and storytelling are landing with impact. The inspiration for the occasion line was born from customer insights and then informed by Zac Posen's expertise in occasion wear, ultimately creating a versatile collection where standout style meets unbelievable value. Customers responded well to the collection's design and quality, reinforcing the strength of Old Navy's value with strong full-price sell-through. Kids also had a great quarter, reinforcing our position as a top kids and baby brand in the U.S., with strength in licensing and graphics.

We are continuing to lean into this strategic category with the recent launch of our iconic summer Americana collection for the family, bringing the brand's first partnership with Disney to life in key markets in June. We are intently focused on enhancing the customer experience at Old Navy, which is driving higher NPS scores for both stores and online. We're investing in technology that elevates the customer experience, and our phased rollout of AI-powered RFID is a great example of how we're bringing smarter operations and sharper service to our stores. We also recently announced plans for Old Navy's next-generation flagship in New York's Herald Square, an iconic location for an iconic brand. Opening in 2026, the new store will be a modern expression of Old Navy, bringing our creativity to life through curated assortments and interactive moments designed to better engage customers.

We enter the second quarter well-positioned with pricing clarity, consistent messaging, and leadership in key categories. As we lap last year's strongest quarterly comp in Q2, we do so with sharper execution, a focused playbook, and a brand that's meeting the customer where they are and where they're going. Now, let's turn to Gap. Gap continues to execute our reinvigoration playbook with clarity and consistency, delivering a standout 5% comp in Q1. This marks the brand's sixth consecutive quarter of positive comps and its eighth consecutive quarter of market share gains, clear indications that Gap is resonating with consumers and gaining relevance. Momentum in women's continued to build quarter over quarter, fueling the brand's strong Q1 performance. We are building a consistent brand narrative that we are applying with relentless repetition.

In Q1, this was exemplified through our exciting "Feels Like Gap" campaign that leveraged music by Mette with a timely feature of Parker Posey. We continue to advance our authority in denim in Q1. This is a foundational category for Gap that has been a key pillar of the brand's reinvigoration. We gained share in the category with on-trend styles like wide leg, barrel, relaxed silhouettes, and pull-ons, all of which are exciting our customers. Taking insights from our Flatiron store, we're now rolling out an enhanced denim experience to top locations, a great example of how we're turning insights into action. We also saw strength in key categories like fleece, sweaters, and sleepwear, essentials that are building deeper loyalty and driving brand affinity with our customer.

The brand strategy, including collaborations, is attracting a new generation to Gap while reinforcing the brand to those who have loved us for years. We are bridging the generation gap. Collaborations continue to drive relevance and revenue for the brand in the quarter, with Harlem's Fashion Row and Doen contributing to strong new customer response, increased engagement, and meaningful buying beyond the collabs. The Gap Studio collection designed by Zac Posen launched last month and is also bringing excitement and buzz to the brand. As Gap brand's highest expression of style, craftsmanship, and quality, Gap Studio showcases expert tailoring, intricate details, and a modern take on American style. Initial response has been positive, with strong sell-through at full price, demonstrating the brand's elevated design direction and generating over 1.3 billion impressions so far.

All of these collabs are showing strong attachment rates, with customers adding other Gap products to their basket. We are testing the brand's elasticity as we push the boundaries of our pricing power through some of these programs. The strength of the Gap brand is clear and reflects increasing brand relevance and growing connection with our customers. With its strong execution of our playbook, we believe Gap is well-positioned to continue this momentum. At Banana Republic, we continue to focus on reestablishing the brand, and we are encouraged by the ongoing progress. We delivered a flat comp for the quarter, with fundamentals improving and new proof points emerging. The underlying health of the business is strengthening with a pricing architecture that is taking hold. Men's continued to perform well, driven by key items, and we are pleased by improving performance in women's, particularly in coats, skirts, and pants.

Having made progress on fit and style, we are now focusing on greater alignment in design and merchandising across men's and women's, which we believe will cultivate broader appeal. The White Lotus collaboration was a standout, generating over 3 billion impressions and bringing new customers into the brand while staying true to the brand's aesthetic. This has been one of Banana Republic's most impactful collaborations yet. Banana's narrative-based storytelling is personifying the brand well through the lens of travel, adventure, and modern exploration. The brand's marketing is becoming more efficient and effective as we continue to lean into our social-first influencer strategy. We continue to strengthen the foundation at Banana Republic, and with each quarter, we are seeing clearer signs of brand progress and customer engagement. Shifting to Athleta. As we shared last quarter, we are resetting the brand, and we know that we have more work to do.

In Q1, we continue to work through the over-rotation we discussed last quarter towards new, more trend-forward customers. While we were successful in bringing new customers in the quarter, we still did not have enough compelling products to appeal to our existing customer base, and that showed in the brand's performance. As we said on our fourth quarter call, we expect this year to be choppy as we focus on fixing the fundamentals, and this is reflected in our outlook. Athleta is a purpose-driven, women-centric brand rooted in the power of she and has a valuable place in both our portfolio and the industry. We are investing in design talent, and as we build out the team, we are working to find the right balance across the assortment, delivering product that blends fashion, function, and brand relevance. This will take time.

There's more work to do, and we are committed to taking the necessary steps to reset the brand. Moving to our third strategic priority, strengthening the platform. As we shared on our last earnings call, we continue to prioritize technology investments as a key lever to drive efficiency, elevate the customer experience, and position us for long-term growth. We aspire to be a human-centered, digitally enabled organization, and we're fortunate to be operating in close proximity to the Bay Area's world-class tech community. We are actively engaging with leading tech companies as we continue to modernize our organization with exciting opportunities to drive innovation across our business, and we look forward to sharing more as these initiatives progress.

We're focused on building the right tools to power growth, advancing inventory management, digital product creation, AI-enabled capabilities to power customer and employee experiences, and strengthening our e-commerce engine with a sharper focus on customer insights and loyalty. Our rigor and the strength of our balance sheet allows us to go on offense, investing in the capabilities, infrastructure, and our brands that will fuel growth for years to come. Behind every great strategy is a strong culture. Gap is a 55-year-old company that has navigated its fair share of disruption, and at the heart of that endurance is our culture. It's one defined by creativity, resilience, and a deep sense of purpose. These are driving impactful outcomes for our business. Today, we are a much stronger company, not just operationally, but culturally.

We're building a more united, focused, and energized organization, one that's rooted in values, driven by talent, and inspired by the belief that great brands can shape culture and connect deeply with consumers. We've made real progress on the fundamentals of the business, but what sets us apart is our people, their dedication, agility, and belief in what we're building together. That culture is our superpower, and it's what will carry us forward. We delivered the first quarter with the same clarity of purpose and operational discipline that's becoming a hallmark of how we run the business. The rigor we've embedded across the organization continues to serve us well. We have a powerful portfolio of brands that matter, and we're proving that they can matter even more.

Our strong supply chain, resilient teams, and sharp focus on controlling the controllable has enabled us to manage expenses effectively and meet our bottom-line objectives. Looking ahead, I'm confident in our path forward, not just because of the results that we've achieved, but because of the team that's delivering them. I want to thank our employees for their ongoing commitment and our partners for their continued collaboration. With a strong financial foundation and a more united culture, we believe we are well-equipped to navigate this complex, dynamic environment. We are making steady progress executing our strategy, and we remain focused on building a high-performing company that drives shareholder value creation over the long term.

I'll now turn the call to Katrina for a closer look at our financials.

Katrina O'Connell (EVP and CFO)

Thank you, Richard, and thanks, everyone, for joining us this afternoon.

In the first quarter, we once again exceeded financial expectations, demonstrating that the meaningful progress we've made on our strategic priorities is translating into strong results. The disciplined approach we've implemented throughout the business led to sales growth, gross margin improvement, SG&A efficiency, and earnings gains in the quarter, further strengthening our solid balance sheet. The revitalization of our brands, combined with continued financial and operational discipline, is enabling us to perform while we transform, consistently delivering on our commitments and strengthening overall performance. Our strong first-quarter results reinforce our confidence in the fundamentals of the business, which is enabling us to reaffirm the net sales outlook for fiscal year 2025. That said, as trade policy evolves, we remain mindful of the impact of tariffs on our financial outlook for the remainder of the year.

In a moment, I'll share more details on our guidance, which reflects both the strength of our execution and brand momentum while separately providing our view on the new headwinds from shifting trade policy. First, I'll share some key highlights from the quarter. It's been energizing to see our brand reinvigoration continue to drive results, with net sales and comparable sales both up 2%. Our brands demonstrated progress in driving relevance and revenue, especially Old Navy and Gap, with strong market share gains. We expanded gross margin by 60 basis points and leveraged SG&A 90 basis points versus last year. This resulted in an operating margin of 7.5% for Q1, a 140 basis point improvement compared to last year. We achieved 24% growth in earnings per share to $0.51, highlighting the earnings power of our business.

We returned approximately $131 million to shareholders in Q1 through share repurchases and dividends, demonstrating our commitment to our balanced capital deployment framework. We ended the quarter with $2.2 billion of cash, cash equivalents, and short-term investments, giving us the financial flexibility to continue executing with confidence. We are reiterating our fiscal 2025 outlook of net sales up 1%-2% and are still expecting operating income growth in the 8%-10% range, excluding any tariff impact. We are currently estimating a net impact of approximately $100 million-$150 million to fiscal 2025 operating margin based on current tariff policy. I'll take you through the details of our outlook shortly. Now, turning to first-quarter results, net sales of $3.5 billion increased 2% year-over-year, with comparable sales up 2% as well.

By brand, starting with Old Navy, net sales were $2 billion, up 3% versus last year, with comparable sales up 3%. Old Navy's consistent delivery and execution was notable as they continued to win in key categories like active and denim and gain share. Turning to Gap Brand, net sales of $724 million were up 5% versus last year, and comparable sales were up 5%. Gap continued to execute the brand reinvigoration playbook with excellence, driving continued momentum and achieving positive comp sales for the last six quarters. Banana Republic net sales of $428 million were down 3% year-over-year, with comparable sales flat. We are encouraged by the early signs of progress in our women's performance. Athleta net sales of $308 million decreased 6% versus last year, and comparable sales were down 8%.

As Richard mentioned, we're working to reset the brand this year and have work to do to improve product and marketing, which will take some time. Let's continue to the balance of the P&L. Gross margin of 41.8% increased 60 basis points versus last year, ahead of our expectations. Merchandise margin was flat, with the remaining 60 basis points of expansion driven by ROD leverage. SG&A was $1.2 billion in the quarter, flat to last year as we demonstrate continued rigor in our expense management. SG&A's percentage of net sales was 34.3%, leveraging 90 basis points versus last year, ahead of our expectations. First-quarter operating margin of 7.5% improved 140 basis points compared to last year. Earnings per share in the quarter were $0.51, up 24% versus last year's earnings per share of $0.41. Now, turning to the balance sheet and cash flow.

End-of-quarter inventory levels were up 7% year-over-year, primarily as a result of earlier receipts and faster transit times. We remain committed to our disciplined inventory management principles, and we believe we ended the quarter with the right inventory composition. We ended the quarter with cash, cash equivalents, and short-term investments of $2.2 billion, an increase of 28% from last year, further demonstrating the rigor we've put into managing the business. Capital expenditures in the quarter were $83 million. In line with the capital allocation framework I outlined on our fourth quarter call, we returned approximately $131 million to shareholders in Q1 in the form of dividends and share repurchases. More specifically, we paid $61 million to shareholders in the form of dividends, and the board recently approved a second-quarter dividend of $0.165 per share. We also repurchased 4 million shares during the quarter for approximately $70 million.

It's important to note that we have $331 million remaining on our share repurchase authorization as we proactively and opportunistically achieve our goal of offsetting dilution. Our strong balance sheet gives us the foundation to focus on capital allocation with the goal of enhancing long-term shareholder value. In this dynamic environment, this also allows us to be thoughtful about the levers we're pulling to mitigate potential headwinds while remaining mindful of pursuing opportunities for growth. Now, turning to our outlook for fiscal 2025. We've been operating in a highly dynamic backdrop for the last few years, and we're expecting the same for the balance of fiscal 2025. Our outlook assumes a relatively consistent macroeconomic environment, but acknowledges the potential for increasing uncertainties related to consumer behavior and global economic and geopolitical conditions.

As a result, we continue to take a balanced view with our guidance and remain focused on controlling the controllables. Today, I'll provide a fiscal 2025 outlook that does not include tariffs and then separately quantify the potential impact of trade policy on our profits should current policies remain. Since last quarter's outlook, trade policy has introduced new cost headwinds to margins in the form of tariffs. Because tariffs remain dynamic, we've not reflected the potential effect in the outlook we provided today. However, we are providing an estimate of our latest view. We remain confident that our strategic priorities are working, as evidenced by another strong quarter. That success underscores our belief that the outlook we provided on our fourth quarter call remains fundamentally intact, excluding the estimated impact of current tariffs.

Starting with full year 2025 net sales, we continue to expect net sales to be up 1%-2% year-over-year. Our outlook assumes ongoing strength at Old Navy and Gap, stabilizing performance at Banana Republic, and a longer recovery timeline at Athleta. We believe great brands can win in any environment. Moving to gross margin, we continue to expect underlying gross margin to expand slightly year-over-year, with roughly equal amounts coming from ROD leverage and merchandise margin. Turning to SG&A, we continue to expect SG&A to leverage slightly for the full year. As we discussed on last quarter's call, we're driving continuous improvement in the cost structure of the company as we rigorously drive savings in our core operations through efficiency and effectiveness. Our outlook continues to reflect the approximately $150 million in cost savings and efficiencies we expect to achieve this year through better operations.

We remain committed to reinvesting a portion of the $150 million of efficiencies into future growth projects as we pursue the long-term success of the company. While we have contemplated whether to delay these strategic investments in the face of trade policy headwinds, between our foundational execution and balance sheet strength, we believe the pursuit of these initiatives remains important to the long-term momentum of the company. Select examples of these initiatives are product-to-market capabilities that will build localization and speed, in addition to foundational capabilities like RFID and AI. A portion of these savings will also offset continued inflation. Finally, for fiscal 2025, we expect underlying operating income growth of approximately 8-10% for the full year. Now, regarding tariffs, as I mentioned previously, given the dynamic nature of trade policy, our fiscal 2025 outlook does not reflect the potential effect of tariffs.

However, based on what we know today, if current tariffs of 30% on most imports from China and 10% on most imports from other countries remain for the balance of the year, we estimate a gross incremental cost of approximately $250 million-$300 million. We currently have strategies to mitigate more than half of that amount. After considering our mitigation strategies, we estimate a remaining net impact of about $100 million-$150 million to fiscal 2025 operating income, primarily weighted to the back half of the year. As a global leader with the benefit of scale, we are moving swiftly with our mitigation plans, which include adjustments to our sourcing, manufacturing, and assortments. We remain committed to evaluating the remaining levers we have at our disposal to achieve further mitigation.

Importantly, we're taking a long-term view as we continue to mitigate these headwinds rather than responding with short-term decisions that could compromise the integrity of our strategy. This is an early view, and trade policy remains dynamic, so we will continue to reassess and refine our approach as future developments arise. We are being even more rigorous in our approach to inventory for the balance of the year. We've further tightened the way we purchase unit inventory for the second half of the year to ensure maximum flexibility for various demand scenarios and to enable us to be more responsive to consumer demand. We continue to expect capital expenditures of $600 million for the year as we utilize our strong balance sheet to invest in the organic opportunities for value creation that we see in our business.

Now, let me share some color on our outlook for the second quarter of fiscal 2025. It's important to note that we estimate minimal impact to our Q2 outlook based on currently enacted tariffs. We expect second quarter net sales to be roughly flat year-over-year. This contemplates our solid quarter-to-date performance and reflects a 1 percentage point impact related to the lapping of the benefit we saw last year from the incremental revenue related to our credit card agreement, which we do not expect to recur this year. We expect second quarter gross margin to be similar to our first quarter gross margin. This outlook reflects the impact from lapping last year's credit card benefit, which is the primary driver of the implied year-over-year decline. Finally, we are planning for second quarter SG&A to leverage slightly versus last year.

In closing, I'm incredibly proud of the strong first quarter performance, which reflects disciplined execution and underscores the progress we are making. While tariffs have the potential to impose new costs, we remain focused on controlling the controllables and executing our strategic priorities, which are driving results. We remain committed to building on this momentum as we work toward becoming a high-performing company that delivers sustainable, profitable growth and long-term value for our shareholders.

With that, we'll open the line for questions.

Thank you. As a reminder, for those analysts who wish to participate in the question-and-answer session, you may now press star one to enter the Q&A queue. Our first question will come from Alex Straton from Morgan Stanley.

Alexandra Straton (Managing Director of Retail Equity Research)

Thanks so much. Congrats on a nice quarter. I wanted to focus on tariffs here.You said you can mitigate more than half of the impact, and I'm just curious, is there room for that to be bigger both this year and then over time? It sounds like maybe that's the case given your reinvestment commentary. Thanks a lot.

Richard Dickson (President and CEO)

Thanks, Alex. First of all, thank you for the shout-out on the quarter. We're really pleased with the progress and the results. I'm happy to sort of address the tariff question upfront. What I would say is, first off, Katrina and I will take this, but like any business, we're constantly navigating complexity. In this case, it's tariffs. It's our responsibility to do so without compromising the long-term integrity of our strategy and, most importantly, the customer value proposition. We've already had strategies to mitigate over half of the anticipated impact of tariffs.

Now, this has been done through thoughtful adjustments to sourcing, manufacturing, assortments, and we also remain committed to achieving additional mitigation over time. We've also shared with you that we've been diversifying our sourcing footprint for several years. China, as an example, used to be one of our top sourcing countries, and we now expect it to be less than 3% by the end of this year. By the end of 2026, we're planning for no country to account for more than 25%. There's a lot more information to unpack, but I'm going to pass it to Katrina to talk about our outlook and the estimated tariff impact.

Katrina O'Connell (EVP and CFO)

Great, and thanks, Alex. I mean, our goal, first and foremost, in providing the outlook we provided today was transparency. We were very purposeful in separating the outlook from the estimated tariff impact. We believe that the outlook provides a perspective on the underlying health of the business, which is working, as well as the estimated impact of current tariffs, which could still change. I think last night's news is a good example of where we're still trying to see where this lands. The first half of 2025 is largely unimpacted by current tariffs. There was no impact in Q1 and very minimal impact to Q2. The estimated tariff impact that we provided today is really primarily weighted to the second half, and much of that will be determined with shipping that occurs late in the second quarter and beyond. That is sort of the context to the way we set the outlook.

As it relates to the actual tariff impact, if current tariffs of 30% on most imports from China and 10% on most imports from other countries remain for the balance of the year, we have estimated a gross incremental cost of $250 million-$300 million. Now, as you note, we have already swiftly, in the last few weeks, put in place strategies to mitigate more than half of that amount. Considering those mitigation strategies, we have about a remaining net impact of $100 million-$150 million to fiscal 2025. I think given we'll know more coming out of the July 9th milestone and pending court decisions, we certainly expect to be able to provide more perspective on the remainder of the year on our next call.

Meanwhile, we do expect to mitigate the impact over time and plan to use the same levers we've discussed, including adjustments to sourcing, manufacturing, assortments. As Richard said, we're committed to the long-term strategy even as we navigate this short-term disruption.

Alexandra Straton (Managing Director of Retail Equity Research)

That's super helpful. Good luck.

Richard Dickson (President and CEO)

Thank you.

Operator (participant)

The next question is from Adrienne Yih from Barclays.

Adrienne Yih (Consumer Discretionary Research Analyst)

Good afternoon, and congratulations on the quarter and the Gap brand in particular, from where I sit. It looked like they were really driving full-price selling. My first question, Richard, is on the Gap brand. It seems like you are starting to have moments, whether they're the collaborations where you can really drive full price, and then in quieter moments, we still do often see sort of box off or purchase off. I know you've talked about kind of maintaining the balance between providing value and then having these kind of full-price moments. Can you talk about kind of your success in getting sort of more Gen Z, more millennial, and then striking that fine balance? At what point, what do you need to see to start pulling back more on these sort of box off promos? Thank you.

Richard Dickson (President and CEO)

Adrienne, thank you so much for the call-out of the quarter, but in particular, the Gap brand, which we collectively are really proud of the progress that we've been making. They've done an incredible job executing with clarity and consistency our brand reinvigoration playbook. As you note, Q1 comps accelerating to 5% while achieving the eighth consecutive quarter of market share gains is really proving that momentum is building.

The strong performance has been fueled by innovation in product, style, product newness, and compelling marketing with a social-first approach. Both men's and women's gained share in the quarter, and our brand campaigns and the collaborations, which you mentioned, are also attracting a new generation to Gap. Now, we're doing this while we're also reinforcing the brand to those who have loved us for years. Examples of this, the recent campaign featuring Parker Posey, resonated with consumers of all generations. Its unique creative format is a great example of how we're bridging the generation gap. The collaborations that we've been working on, like Harlem's Fashion Row, Doen, the recent launch of Gap Studio, have generated real excitement and buzz for the brand, but it's also showing that we can drive strong full-price sell-through, which is demonstrating the brand's pricing power.

It's a very exciting moment for the brand as we get more and more traction and momentum. With the strength of our playbook in action and the power of the brand as performing, we really do believe that the Gap brand is well positioned to continue the momentum.

Adrienne Yih (Consumer Discretionary Research Analyst)

Great, thank you. Katrina, my follow-up is on the mitigation practices that are already in play. Kind of at that number, the gross number, if you were to mitigate that, it's seemingly kind of implying a low to mid-single-digit price increase if you were just using that. I didn't hear you talk about price increases as one of the things that you had already were undergoing. Certainly, you wouldn't do that until later in the year. I'm wondering where pricing falls into the mitigation strategies. Is it in there already? Thank you.

Richard Dickson (President and CEO)

Adrienne, let me just take that, and if Katrina wants to embellish. We are approaching our pricing strategy as we always do. We consider all the various inputs while maintaining the overall value proposition for our consumers. Based on what we know today, we do not expect there to be meaningful price impacts to our consumer. We really do believe that strong brands can win in any market. As we look ahead, we see the potential for further market share opportunity. We are going to continue watching trade developments, the consumer, as we do very closely, and the competition closely. At this particular time, we are approaching our pricing strategy as we always do.

Adrienne Yih (Consumer Discretionary Research Analyst)

Fantastic. Best of luck. Thank you.

Richard Dickson (President and CEO)

Thank you.

Katrina O'Connell (EVP and CFO)

Thank you.

Operator (participant)

Ladies and gentlemen, as a reminder, please limit your questions to one per participant. Up next is Matthew Boss, JPMorgan.

Matthew Boss (Senior Equity Research Analyst)

Great, thanks. Richard, at the Gap brand, could you speak to new customer acquisition as you comp the comp and drivers of the consistency that you're now seeing at Old Navy, or just any change in momentum at either brand so far in May? Katrina, I guess excluding tariffs, is this year's outlook for 8%-10% operating income growth on 1%-2% sales? Is that a reasonable multi-year model algorithm? Lastly, is there any reason multi-year that you can't mitigate the full tariff impact through sourcing diversification?

Richard Dickson (President and CEO)

Matthew, thank you. We'll tackle that question as a team. I think the first part of that, as I mentioned, we really are bridging the generation gap, particularly with the Gap brand. Our recent campaigns are designed to literally attract all generations through music, big ideas, and the amplification of those through really what we'll call fashiontainment marketing. The collaborations that we've been driving have real proof points of that. New customer acquisition is increasing. We also saw that through the collabs, there's a halo effect, and the core brand is driving at least 25% of that basket. So the collabs, while driving new traffic and new volume, 25% of that basket includes core product. We have great proof points both qualitatively and quantitatively that our strategy is really working. Now, on Old Navy, which is important to talk a little bit about, we delivered really strong comps for the quarter, 3% increases. It's also our ninth consecutive quarter of market share gains. Again, proving the consistency in the deliverables of the execution are really resonating.

We called out categories like active and denim, where we've been very intentional about pursuing a leadership position, and it's showing up in the results. Our active business continues to grow quarter after quarter. We're the number five player in the category, and we're continuing to gain share as recent as this quarter. You might have noticed we launched a new segment called Studio Smooth. The collection has outperformed our expectations, which is really marking another step forward in the category. We, on Tuesday, introduced our new campaign, Old Navy New Moves. It is a great, exciting campaign that supports the active wear strategy. It's culturally relevant marketing that's really speaking to the brand playbook. It is a clear example of how we're accelerating Old Navy's adoption of the new brand playbook, taking big product ideas, amplifying them with storytelling, and ultimately connecting to the consumer. Generation Gap, for sure.

We've got Lindsay Lohan, Dylan Efron, Quenlin Blackwell, and even Charo in the campaign. It just launched Tuesday, and it's also getting great traction. It's also important to note denim was really another big category standout for us. We've gained share in that category as we secured our position as the fourth largest adult denim brand in the U.S. We also saw a positive response to our occasion dress collection, which had really strong full-price sell-through, serving as a great example of pricing power. When you have great product, great style, and great value, customers take notice. Look, these are all foundational elements that we've established in our portfolio, and in particular, Old Navy, underpinning the brand's performance, and it's giving us real confidence that we will continue to deliver in 2025. Maybe I'll turn it over to Katrina to answer the second part of the question.

Katrina O'Connell (EVP and CFO)

Yeah, so Matt, I think it is fair to say that our longer-term economic model is for us to deliver somewhere in that low to mid-single-digit sales growth range, with then operating margin that grows in the high single-digit range. When you combine that with return of cash to shareholders, you get a very nice top-tier TSR. That algorithm, I think, is one that we look to repeat over time. Any reason over a multi-year we can't mitigate? No, I don't think so. I mean, I think there's a few things. Momentum in the business is a great way to start to offset, and we're working on that through our reinvigoration. We continue to stay very focused on efficiencies within the cost structure of the company. We've got a track record of that. We'll stay focused on that.

I think lastly, I spoke to some of the investments that we're staying committed to because they are important for the momentum going forward. Many of those, like AI, RFID, and some of the product-to-market capabilities, are intended to help shore up margins over time. That's part of the reason why we remain committed to those in the near term so that we can continue to make progress over the long.

Matthew Boss (Senior Equity Research Analyst)

That's really great color. Best of luck.

Richard Dickson (President and CEO)

Thank you.

Katrina O'Connell (EVP and CFO)

Thank you.

Operator (participant)

Up next, we'll hear from Lorraine Hutchinson, Bank of America.

Lorraine Hutchinson (Senior Equity Research Analyst)

Thank you. Good afternoon. Can you talk about the puts and takes driving the flat merchandise margin this quarter? Which brands or strategies lead to the upside in the remainder of the year to hit your guidance for merch margin?

Katrina O'Connell (EVP and CFO)

Lorraine, I think on merchandise margins, for Q1, we were very proud that we were able to expand merchandise margins by 60 basis points. That was underlying merch margins of relatively flat, which was holding on to many of the gains we got over the last few years. The margin expansion really came from ROD. Our brands are really resonating well. That is really allowing us to gain relevance and have market share gains as well as giving us pricing power in the market. As we look to Q2, we have guided to margins to be similar to Q1. That does imply a year-over-year decline. That is really from lapping last year's credit card benefit. If you remember, that was a primary driver of some of the increases last year. As we lap that, that does drive a decline year-over-year.

The underlying merchandise margins are intended to be relatively flat. As we look out to the full year, we continue to expect underlying gross margins to expand slightly, with roughly equal amounts coming from ROD leverage and merchandise margin expansion.

Operator (participant)

The next question will come from Dana Telsey, Telsey Advisory Group.

Dana Telsey (Chief Research Officer)

Hi, good afternoon, everyone. As you think about the solid progress that you've made in both Gap and Old Navy on the product side and also the customer appeal side, how are you thinking about Banana Republic and Athleta? What happens with anything different with tariffs with them versus the other brands and attracting new customers? Lastly, just on store and online sales, what did you see by brand traffic in each of them? Does it differ at all in how you're seeing the consumer convert? Thank you.

Richard Dickson (President and CEO)

Dana, thanks for the question. I'm happy to talk about Banana Republic and Athleta. I'm really encouraged by the ongoing progress that we've made in Banana Republic. We've also talked about it being the focus on reestablishing the brand by fixing fundamentals. We see some great new proof points emerging. Delivering a flat comp in the quarter, we're leaning much more heavily into classics, much more precise assortments. Fit is resonating as we work to rebuild that trust with our customer. Men's continue to perform well, and we've been pleased by the improving performance in women's. We've been focused on greater alignment in design and merchandising across both genders, which we believe will cultivate a broader appeal over time. The work the team has done to improve women's and strategically redeploy our marketing to a much more culturally relevant storytelling brand is really resonating.

I would call out one of the highlights from the quarter was the White Lotus collaboration. I mean, it was a real testament to the clarity of our positioning as a modern explorer brand, one that embodies, obviously, the spirit of exploration. It was inspired by the world of White Lotus, but still distinctly Banana Republic. I think it's a great example of our playbook in action. We are going to continue to strengthen the foundation at Banana. With each passing quarter, we are seeing clearer signs of brand progress, customer engagement, and it's giving us confidence that the brand is indeed on the right path forward. Now, Athleta, important to say, has a really valuable place in both our portfolio and in the industry. We have been resetting the brand to be more effective in competing in the marketplace.

We do expect this year to continue to be choppy as we continue to focus on fixing the fundamentals. This has been reflected in the outlook that we provided today. As I've said, we've made progress with the brand in 2024. This was primarily through a lot of discipline and rigor, which is actually showing up in better profitability. What we need to do more work on to break through is get our product and marketing to get back to top-line growth. We are continuing to work through what we shared last quarter, which was an over-rotation towards a new, more trend-forward customer. By the way, we've been successful in bringing new customers into the brand. We did also see new customers in the quarter, but we still do not have enough compelling products to appeal to our large existing customer base.

That is showing up in the brand's performance. We are investing in design talent. We are working to find the right balance across the assortment. It will take some time. We do have work to do, but we are absolutely committed to taking the necessary steps and resetting the brand. The next part of your question was channel strategy. Let me just talk a little bit about that. First of all, the goal is to always be where our consumers are, where they are and where they are going, whether that is in our stores or through a digital dialogue. We have been really focused on cultivating the best experience that we can provide across every touchpoint. It is a work in progress, but we are making progress. This quarter, we saw store sales flat in the first quarter, and our online business grew 6%.

It represents about 39% of our total net sales, but it's also demonstrating the strength of our digital business. Today, Gap Inc. is the number one branded apparel e-commerce business in the U.S. We've got nearly 1.5 billion visitors in the last 12 months, and it represents an extraordinary continued growth opportunity for us. We're obviously going to continue to focus on advancing and expanding our e-commerce capabilities and create more compelling customer experiences, but not at the expense of our stores. We love our stores. Stores are a really important way for customers to experience our brands. They bring our product, our storytelling, our service to life in ways that digital can't. With our company that operates a fleet of 2,500 stores, we're always optimizing our retail footprint, enhancing customer experiences, testing new formats.

We believe both channels represent great opportunities for continued growth, and we will continue to update you on both channels and our progress that we're making.

Dana Telsey (Chief Research Officer)

Thank you.

Operator (participant)

The next question today will come from Paul Lejuez, Citigroup.

Paul Lejuez (Head of Consumer Discretionary Research)

Hey, thanks, guys. Can you talk about the comp drivers by brand, traffic, ticket, curious what you saw on AUR, and then also just on the Old Navy business? Can you maybe quantify where the market share gains are coming from from an age demographic perspective? Thanks.

Richard Dickson (President and CEO)

As I mentioned on Old Navy, we've been really gaining market share overall as the ninth consecutive quarter of market share gains. We're seeing gains primarily, as I've called out, in the strategically intended categories, particularly denim and also active. We have seen progress across many categories overall, dresses in particular, again, with our occasion launch.

We are really pleased with the overall progress that we're making, again, as we look at total market share. One of the areas that I think is also important to note is from a consumer perspective, we saw our income cohorts really respond to the Old Navy proposition. We saw expansion in both top income and bottom income cohorts. It really is resonating with our consumer. I mean, we've got a strong value proposition that appeals to a wide range of consumers. As we get more relevant, as we drive more style, design, and narratives on storytelling, we're seeing a top income cohort migrate into the Old Navy brand. We also saw that on Gap. Gap is gaining share in the top and the middle cohorts.

When you back up from this, what we recognize and what we believe is our portfolio is really appealing to a wide range of consumers. It's giving us great flexibility in today's environment. We have a stronger portfolio of brands that is resonating with consumers across multiple cohorts as well as generations. It's our job just to continue making great product, great style, great quality, keeping the value proposition, and growing our presence in the marketplace. We are very pleased with market share gains across our brands and specifically with the categories that we've been strategically intending to grow.

Katrina O'Connell (EVP and CFO)

Paul, as far as comp drivers in the quarter, we were pleased to see both traffic as well as average transactions up in the quarter, which is what drove the positive comp.

Paul Lejuez (Head of Consumer Discretionary Research)

Thanks, Trina. Within the transactions, anything on AUR or CPT?

Katrina O'Connell (EVP and CFO)

AUR was down modestly, but that was honestly primarily due to higher promotional activity at Athleta.

Paul Lejuez (Head of Consumer Discretionary Research)

Yeah. Thank you. Good luck.

Richard Dickson (President and CEO)

Thank you.

Katrina O'Connell (EVP and CFO)

Thank you.

Operator (participant)

Our next question is from Ike Boruchow from Wells Fargo.

Ike Boruchow (Managing Director of Consumer Equity Research)

Hey, Katrina and Richard. Just a gross margin question. Just, Katrina, can you just do us a favor and maybe just quantify what that margin headwind is that you have from the year-over-year credit card issue in the second quarter? I know you do not want to get into the details on the numbers, but just at a high level, if we excluded the tariffs based on your guidance for gross margin, are you effectively guiding the back half versus flat? If we put in the tariff that seems like it should hit, but it is not in the guide, is that roughly like a 50 basis points headwind? If you put it in, if you take it out, it's flat. If you put it in, it's down 50, just ballpark. Is that fair?

Katrina O'Connell (EVP and CFO)

I think to take the first one first, Ike, for gross margin in second quarter, we just provided an outlook that said that gross margin in Q2 would be similar to our first quarter gross margin. That implies roughly somewhere in that 60 basis point decline. That's largely the credit card impact from last year that we are lapping this year and do not expect to get. Without the credit card impact, yes, margins would be somewhat flat to leveraging slightly. As it relates to the guidance that we gave, we continue to believe that the underlying impact to gross margin for the year is that we will have margins leveraged slightly.

We said that that was almost equally merch margin leverage and ROD leverage. Separately, as we provide sort of that $100 million-$150 million of potential tariff impact, again, we'll know a lot in Q2 as we see where policies settle. We'll be able to update what that means. If you hold the $100 million-$150 million on the year, depending on what revenue you're looking at, I think you'll get to somewhere in that 80-90 basis point annual headwind. I'll let you calculate the back half. More to come. Again, it's dynamic. We're continuing to work on the mitigation, and we're also continuing to wait for clarity on policy, which remains uncertain.

Ike Boruchow (Managing Director of Consumer Equity Research)

Thank you.

Richard Dickson (President and CEO)

Thanks, Ike.

Operator (participant)

Ladies and gentlemen, our final question today comes from Simeon Siegel from BMO Capital Markets.

Simeon Siegel (Senior Managing Director of Retail Equity Research)

Thanks, everyone. Richard and team, obviously, fantastic job on the resonating marketing. How are you thinking about the marketing spend for the year? And I guess, how are you judging the success of the campaigns? Should they be driving units? If so, is it new customers versus going deeper with existing? Is it ability to take higher prices, general awareness, media impressions, etc.? Just curious how you're gauging what a successful campaign should look like and how you're tracking them. Thank you.

Richard Dickson (President and CEO)

Thanks, Simeon. Appreciate that. Marketing is a much more complex function than it has been in the past. We've been working very hard at driving new narratives and putting our brands back in the cultural conversation. As I've said often, our job is to be everywhere our consumer is with the right creative messaging.

I think over time, as we've initiated our reinvigoration playbook, we're really starting to see the momentum of that come across. It's evidenced by our performance in the first quarter. We actually are spending less marketing dollars, but we're generating more revenue. We're generating more relevance. This really goes to speak about the creative conversation that we're starting to have. We believe we're on the right track, and the metrics are really proving it. As we continue to be more effective and efficient with our spend, we start to see and gain more strength in our own conviction. New assets that we've created based on data and consumer insights is driving new customer acquisition. I mean, we are seeing our house file increase and increase with new generation and new customers. The assets that we're developing are showing great traction. We are planning to accelerate what's working.

We're testing and learning as we go. It has a very specific strategic focus on social media content. It is, in fact, the number one platform for our consumers by time spent, by influencer content. It is the most common product discovery methodology among Gen Z and millennials. Look, it is early days. We're testing new tactics. We continue to work towards a more balanced funnel strategy over time. When I back up and I look at the progress that we've made, the identities that we're creating that separate our portfolio from each other, I'm really pleased with the progress. I think the metrics are speaking for themselves, and we'll continue to work hard at it, ultimately becoming more effective and efficient with better creative and better medium mix models.

Simeon Siegel (Senior Managing Director of Retail Equity Research)

That's great. Thanks. If I could just throw one quick one in, Katrina, what's a great way to think about where ROD leverages, what comp? Because it just seems impressive to get 60 basis points of leverage on a 2% growth. Any help there would be helpful. Thank you.

Katrina O'Connell (EVP and CFO)

Sure. We've done a lot of work on ROD, as you know, by closing 350 stores over the last few years that were underproductive. With that, ROD will leverage for the full year on any positive sales growth.

Simeon Siegel (Senior Managing Director of Retail Equity Research)

Great. Thanks a lot, guys. Let's look for the rest of the year.

Richard Dickson (President and CEO)

Thank you so much.

Katrina O'Connell (EVP and CFO)

Thank you.

Operator (participant)

Ladies and gentlemen, we have reached the end of our question-and-answer session. That does conclude today's conference. We would like to thank you all for your participation. You may now disconnect.