By and  on December 14, 2006

Speculation is again building among investors that Gap Inc. may be the target of an acquisition, and hedge fund billionaire Edward Lampert's name just won't go away.

Several financial sources speculated that Lampert could be looking to complete Act III. Act I was scooping up Kmart from bankruptcy. Act II was merging the troubled discount retailer with Sears, Roebuck & Co., creating Sears Holdings, in 2005. Now, some financial sources theorize that Lampert wants another acquisition. They claim Gap, Home Depot and Anheuser-Busch are among the names being considered as potential targets. Financial sources contend Gap is the most likely candidate, but other analysts dismissed that idea, pointing out that acquiring the retailer would be difficult because Gap, based in San Francisco, is tightly controlled by the Fisher family.

Lampert could not be reached for comment on Wednesday. A spokesman for Gap declined to comment.

Still, the prospects are intriguing, given Gap's stock valuation; low, long-term debt, and strong operating cash flow, which is about $1.8 billion for the trailing 12 months.

Gap Inc.'s market capitalization is about $15.9 billion. The stock has been trading around $19. The 52-week high is $21.39, and the low is $15.91. Gap has an EBITDA enterprise multiple of 7.1, which is well below industry average takeout multiples of 8.9 times pre-tax earnings. At the 7.1 multiple, the price tag on Gap Inc. is roughly $13 billion.

From Lampert's perspective, the retailer's huge cash flow could be diverted from paying dividends, making investments and doling out capital expenditures ($600 million in the most recent fiscal year) to his favorite investment: derivatives.

Lampert, who is founder of ESL Investments, was able to triple earnings at Sears Holdings, to $196 million, in the third quarter on a 2.1 percent sales decline by making investments in derivatives. Derivatives involve contracts between companies that typically are hedged or speculative. These financial instruments often involve equity, bonds or commodities.

Citigroup Global Markets analyst Kimberly Greenberger said in a report last August that Gap "does not score high as a likely privatization candidate."

Later, in a separate interview, Greenberger said, "Any potential acquirers would have to get signed off by the Fishers, who own 30 percent of the common stock. I don't think the Fishers are interested in selling Gap. They are the founding family and have historical ties that I don't think they are willing to cut."If the Fishers do decide to sell, there would be tax implications that would make it impossible for the family to leave stock to heirs, analysts said. Donald G. Fisher, chairman and founder of Gap Inc., is 77 years old.

However, Gap's 7.1 takeout multiple is attractive, financial sources said. Moreover, institutional investors own more than 58 percent of the stock, and may be interested in seeing a return on their investment that only a sale or leveraged buyout could produce, sources said.

Christine Chen, senior research analyst, Pacific Growth Equities, said every couple of months Gap buyout speculation "pops up, but a transaction is highly unlikely."

"While it is compelling, I don't think it makes sense," Chen said. "The Fisher family still has control, and is not interested in selling and has been backing up [chief executive officer Paul] Pressler."

Pressler is credited with cleaning up the retailer's operations and balance sheet, which included lowering the long-term debt load. On the merchandising front, Gap has been criticized for its fashion misses. "But I don't think a private equity fund can do any better unless they have a star merchant in their wings," Chen said.

WWD reported this week that Karyn Hillman, senior vice president of apparel merchandising for Banana Republic, was promoted to senior vice president of merchandising for the Gap Adult unit of flagship brand Gap — a position that was open for several seasons.

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