Sales and earnings at Gap Inc. took a tumble last year, as the retailer continues to struggle with weak traffic and subpar fashion offerings.

This story first appeared in the February 24, 2012 issue of WWD. Subscribe Today.

Gap’s fourth quarter net income fell 40.3 percent to $218 million, or 44 cents a share on a diluted basis, compared with $365 million, or 60 cents, in the same period last year.

Net sales in the fourth quarter, ended Jan. 28, were $4.3 billion compared with $4.4 billion for the year ago period, while comparable sales were down 4 percent.

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For the year, net income dropped 17 percent to $833 million versus net income of $1.2 billion in 2010. Net sales totaled $14.5 billion, representing a decrease of 1 percent from net sales of $14.7 billion the year before. Comp-store sales in 2011 were down 4 percent. The San Francisco-based specialty retailer is projecting 2012 earnings per share in the range of $1.75 to $1.80, compared with $1.56 a share on a diluted basis for 2011.

Gap’s problems last year were compounded by higher product costs, though a decline in the price of cotton is expected in the second half of this year; Old Navy’s price structure being too weighted to the “best” zone, and not enough value being offered at outlets.

On the positive side, the company delivered a higher average unit retail price, continued to tightly manage expenses, generated $800 million in free cash flow, and repurchased 111 million shares at an average price of $18.11. Also, Gap further reduced dependency on its brick-and-mortar business in North America, where 1.3 million square feet of retail space was eliminated. In addition, progress was seen on the international front, with Gap now operating in 39 countries compared with 31 at the beginning of 2011.

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Another big change was the creation of the Gap Global Creative Center in New York. It’s the hub of creativity for Gap stores around the world, bringing domestic and international designers under one roof to align the Gap aesthetic and serve as a bridge between the design and merchandising teams to better coordinate their efforts.

“In spite of 2011 earnings being below last year, we’re pleased with the progress we made against our long-term strategic plan, including growing our online business and expanding internationally,” said Glenn Murphy, chairman and chief executive officer of Gap Inc. “There’s no doubt that improving our performance, especially in our base businesses, is the top priority in 2012, and we’re confident this is the right time to invest wisely to win back customers.”

Later, in a conference call, Murphy said the company will continue the investment in international expansion, but the difference this year will be increased but “focused” investments on product, marketing and e-commerce in the domestic businesses.

In spite of the 2011 results, “We actually did make quite a bit of progress on our strategic plan,” Murphy said, though he stressed, “We need to have consistent product execution every quarter, every year, across all of our brands.”

Regarding last year’s international performance, Murphy said it was “a bit of a mixed bag,” with the women’s business not registering with customers in Europe. However, he said he’s feeling “very good” about China, where stores currently operate in five cities but will be in 10 by the end of 2012. He also said the first outlets will open in China in the fall and that Banana Republic will be expanding in France.

“We still believe in Europe, but we’re very cautious,” Murphy said. Brazil and India will be targeted for expansion “down the road.”

In other news, Gap’s board approved a new $1 billion share repurchase authorization and said it will increase the annual dividend per share by 11 percent, from $0.45 in fiscal year 2011 to $0.50 for fiscal year 2012.

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