Executive Summary / Key Takeaways

• Carter's, a leading childrenswear marketer, is facing significant macroeconomic headwinds, including inflation and declining consumer confidence, impacting demand, particularly in its U.S. Retail segment.
• Recent performance shows consolidated net sales and operating income declines, driven by lower demand, pricing investments, and fixed cost deleverage, though Q1 results were in line with internal plans.
• The company is undertaking strategic initiatives, including targeted pricing adjustments, increased brand marketing, and operating model enhancements, aimed at improving traffic, unit volume, and operational efficiency.
• Forward-looking guidance has been suspended due to the ongoing leadership transition and substantial uncertainty introduced by potential new tariffs on imported goods, which management expects could have a material impact.
• Despite near-term pressures and risks, Carter's maintains a strong balance sheet and liquidity position, providing resources to fund strategic investments and navigate the challenging environment.

Setting the Scene: A Market Leader Adapts

Carter's, Inc. (NYSE: CRI) stands as a venerable institution in the children's apparel market, tracing its origins back to 1865. Over more than a century and a half, the company has cultivated a portfolio of highly recognized and trusted brands, including its namesake Carter's, OshKosh B'gosh, Skip Hop, and exclusive lines developed for major mass retailers like Walmart (WMT), Target (TGT), and Amazon (AMZN). This "House of Brands" strategy, bolstered by strategic acquisitions like OshKosh in 2005 and Skip Hop in 2017, positions Carter's to serve families with young children across a spectrum of needs and price points, from essential layette items to fashion-forward playwear and lifestyle products.

The company operates through a robust multi-channel global business model encompassing company-owned retail stores, a significant eCommerce presence, and extensive wholesale distribution networks. As of March 29, 2025, Carter's boasted 1,057 retail stores in North America and products available in approximately 19,500 wholesale locations in North America, alongside international wholesale accounts and licensees operating in over 1,100 locations across more than 90 countries. This unparalleled reach is a core competitive advantage, allowing the company to meet consumers wherever they choose to shop, a critical factor in the current retail landscape.

The children's apparel market, however, has been subject to broader macroeconomic pressures. Overall market growth has been sluggish, averaging less than 1% annually since 2019. More recently, persistent inflation, elevated interest rates, increased consumer debt, and declining consumer confidence have weighed heavily on families with young children, leading to reduced discretionary spending. This environment has spurred a notable shift in consumer behavior towards value and convenience, benefiting mass channel retailers and, consequently, Carter's exclusive brands business within its U.S. Wholesale segment. Simultaneously, it has created headwinds for the U.S. Retail segment, impacting traffic and demand.

In this competitive arena, Carter's faces rivals ranging from large athletic and lifestyle brands like Nike Inc. (NKE) with its significant apparel market share, to broad apparel retailers like Gap Inc. (GPS) and specialized children's apparel players like The Children's Place (PLCE), as well as diversified corporations like VF Corporation (VFC). While precise, directly comparable market share figures for all niche competitors are not publicly detailed, Carter's holds a reported 7.12% share in overlapping markets and maintains its position as the number one most trusted brand in young children's apparel. Compared to peers like Nike, Carter's specializes deeply in the young children's segment, offering a value proposition rooted in essentials and broad accessibility, contrasting with Nike's premium athletic focus. Against Gap and PLCE, Carter's leverages its superior distribution scale and strong wholesale partnerships, particularly in the mass channel, which has proven resilient during recent economic shifts.

Operationally, Carter's supply chain is a key differentiator, built to support the complexity of its multi-channel, multi-brand model. The company has strategically diversified its sourcing base away from China over the years, with less than 4% of total FOB sourced from China in 2024, relying more heavily on countries like Vietnam, Cambodia, Bangladesh, and India for apparel production, and sourcing cotton primarily from the United States, Brazil, India, and Australia. This diversification aims to mitigate risks associated with geographic concentration and evolving trade policies. Furthermore, the company has invested in technology to enhance efficiency and responsiveness. This includes a new allocation tool and dynamic demand forecast tool aimed at optimizing inventory placement and buying decisions, as well as personalization capabilities and AI-enabled technology in marketing and retail to improve customer engagement and retention. While specific quantitative performance metrics for these technologies are not detailed, the strategic intent is clear: to drive operational improvements, accelerate response times to consumer trends, and deepen customer relationships, which management views as foundational for future growth, particularly in direct-to-consumer channels.

Recent Performance and Strategic Responses

Carter's recent financial performance reflects the challenging market dynamics and the strategic investments undertaken to counter them. Fiscal year 2024 saw consolidated net sales decline to $2.84 billion from $2.95 billion in 2023, with operating income falling to $254.7 million from $323.4 million. Adjusted earnings per share also decreased. While the fourth quarter of 2024 exceeded internal expectations, the outlook for 2025 profitability was anticipated to be more challenging.

The first quarter of fiscal 2025 continued to show pressure, though results were in line with the company's internal plan. Consolidated net sales decreased by $31.7 million, or 4.8%, to $629.8 million compared to the first quarter of 2024. This decline was attributed to decreased demand across channels, lower traffic in U.S. Retail, reduced average selling prices per unit due to pricing investments, and the strengthening U.S. dollar. Consolidated gross profit fell by $24.1 million, or 7.6%, to $291.1 million, resulting in a 140 basis point decrease in gross margin to 46.2%. This margin contraction was primarily driven by lower net sales, reduced average selling prices, and unfavorable foreign exchange impacts, partially offset by lower average cost per unit sold.

Selling, general, and administrative (SGA) expenses increased by $4.9 million, or 1.9%, to $270.3 million. As a percentage of net sales, the SGA rate increased by 280 basis points to 42.9%. This deleverage was a direct consequence of lower sales volume combined with increased costs related to leadership transition ($6.1 million) and operating model improvements ($3.2 million), as well as investments in new and remodeled retail stores. The net effect on profitability was a significant decrease in consolidated operating income, which fell by $28.9 million, or 52.6%, to $26.1 million, with the operating margin contracting by 420 basis points to 4.1%. Net income decreased by $22.5 million, or 59.1%, to $15.5 million, resulting in diluted net income per common share of $0.43, down from $1.04 in the prior year quarter.

Segment performance mirrored these trends. U.S. Retail net sales decreased by 4.3%, driven by lower traffic and average selling prices, partially offset by new store contributions and growth in baby products. While eCommerce traffic increased and units per transaction improved (attributed to pricing investments), store traffic declined. U.S. Retail operating income plummeted by 83.9% to $2.3 million, with segment margin falling 380 basis points to 0.8%, impacted by lower gross margin and SGA deleverage. U.S. Wholesale net sales decreased by 5.3%, primarily due to lower demand for exclusive brands and with department stores, partially offset by growth in Skip Hop, Little Planet, and off-price channels. Wholesale operating income decreased by 12.7% to $55.3 million, with margin down 190 basis points to 22.1%, affected by lower average selling prices and mix shift. International net sales decreased by 4.9%, largely due to unfavorable foreign currency translation ($6.4 million headwind) and lower average selling prices, resulting in an operating loss of $0.2 million compared to income in the prior year.

In response to the challenging demand environment and competitive pressures observed in 2024, Carter's implemented strategic investments in the latter half of the year, carrying into 2025. These included targeted pricing adjustments on approximately 20% of the U.S. retail assortment, primarily opening price point items, aimed at improving price competitiveness and driving unit volume. Management noted that these investments contributed to improved unit velocity and conversion rates. The company also increased its investment in brand marketing to attract new customers and deepen relationships. Furthermore, a comprehensive assessment of the business led to planned enhancements to the operating model, focusing on faster, more responsive product development processes, with associated consulting costs impacting Q1 2025 results and expected to continue throughout the year.

Financially, Carter's maintains a solid position. As of March 29, 2025, total liquidity exceeded $1 billion, comprising $320.8 million in cash and cash equivalents and $843.6 million available under its $850 million secured revolving credit facility, which matures in April 2027. The company had $500 million in senior notes outstanding, maturing in March 2027.

While cash flow from operations was negative in Q1 2025, reflecting lower net income and changes in working capital, the company's overall liquidity provides the flexibility to fund planned capital expenditures of approximately $65 million in fiscal 2025, focused on store investments, distribution facilities, and IT initiatives, as well as continue its dividend program ($0.80 per share paid in Q1). The company did pause open market share repurchases in Q1 2025, with $599 million remaining under authorization, to align capital return with free cash flow generation in the current environment.

Outlook, Risks, and Strategic Path Forward

Looking ahead, the near-term outlook for Carter's is marked by significant uncertainty, leading the company to suspend its forward-looking guidance. This decision, articulated by the new Chief Executive Officer, Douglas C. Palladini, reflects the need for the new leadership to fully assess the business and the substantial complexity introduced by the evolving tariff landscape.

Macroeconomic factors, including persistent inflation, elevated interest rates, and declining consumer confidence, are expected to continue impacting consumer demand. The retail industry remains promotional, adding pressure on pricing and margins. However, recent trends in early Q2 2025 showed some positive momentum, with April month-to-date U.S. retail comparable sales running up approximately 13%, contributing to a combined March/April comparable sales increase of about 4%. International segments also showed strength in April, with Canada comps up 9% and Mexico comps up 25%. While encouraging, these trends are subject to volatility and do not replace formal guidance.

A critical risk factor is the uncertainty surrounding international trade policy, particularly potential new tariffs. The company sources all of its products from a global network, primarily in Asia, with 60% of fabric used in 2024 sourced from China. While apparel and accessories FOB from China is less than 2%, the Skip Hop business has a higher concentration (~45% of FOB). The tariffs announced by the Trump Administration on April 2, 2025, and subsequent developments, introduce significant risk of increased supply chain costs and volatility. Management expects these new tariffs could have a material impact on the business and financial results in fiscal year 2025 and beyond if not fully mitigated. Potential mitigation actions include pricing adjustments, product configuration changes, and further supply chain diversification, but management acknowledges these may not fully offset the impact, potentially affecting market share, revenue, and gross margins. The elevated uncertainty also increases the risk of potential impairment charges to goodwill and intangible assets.

Under the leadership of Mr. Palladini, who assumed the CEO role in April 2025, Carter's is focused on developing a clear, simplified, and focused strategy aimed at returning to quality, sustainable, and accretive growth. This involves balancing financial efficiency with strategic investments, focusing on product resonance and emotional loyalty drivers alongside transactional efforts. The ongoing operating model improvements are seen as foundational to enhancing capabilities, particularly for direct-to-consumer growth. The company plans to continue investing in its retail fleet, technology, and supply chain diversification to strengthen its competitive position.

Conclusion

Carter's is a market leader with strong brand equity and an extensive multi-channel reach, providing a solid foundation. The company is actively responding to the current challenging macroeconomic environment and competitive pressures through strategic investments in pricing, marketing, and operational efficiency. While these initiatives are showing early signs of improving sales trends in some areas, they are also contributing to near-term profitability pressures. The suspension of guidance underscores the significant uncertainty, particularly related to potential new tariffs, which pose a material risk to costs and financial performance. The new leadership is tasked with refining the strategic path forward to drive sustainable growth. For investors, the focus remains on the company's ability to effectively execute its strategic initiatives, manage costs and supply chain risks in a volatile environment, and leverage its financial strength to navigate the current headwinds and capitalize on future opportunities in the children's apparel market. The success of the new strategy and the impact of tariff developments will be critical factors to monitor.