The Gap 2006 Annual Report Download

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2006 Annual Report

Table of contents

  • Page 1
    2006 Annual Report

  • Page 2

  • Page 3
    ... iconic apparel brand recognized throughout the world for its casual American classics-great knits, khakis, t-shirts and of course, denim. Through GapKids, babyGap, Gap maternity, and GapBody we build on the power of the brand by dressing our customers throughout the different stages of their lives.

  • Page 4

  • Page 5
    ... interpretations of classic fashion for men and women through elevated design and luxurious fabrics, Banana Republic has come to define accessible luxury suitable for the workplace to social gatherings. Based on positive customer response, we continue expanding the brand into product categories...

  • Page 6

  • Page 7
    ...and accessories for adults and children, at a surprising value, all in a fun energizing shopping environment. Customers count on Old Navy to deliver what they want-and need. From Old Navy's Item of the Week-a special item at a special price each week-to its eye popping deals and promotions, Old Navy...

  • Page 8
    www.gap.com www.oldnavy.com www.bananarepublic.com Gap Inc.Direct

  • Page 9
    ... Inc. Direct-Gap Inc.'s e-commerce division-gives customers a convenient way to shop our brands online. With Gap Online, Old Navy Online and Banana Republic Online, Gap Inc. Direct is one of the largest specialty e-commerce apparel retailers in the U.S. In 2006, our online sales increased 23 percent...

  • Page 10
    ...a difficult year. Certainly there were positive developments-including continued progress at Banana Republic, the launch of Piperlime and the opening of new Gap franchise locations around the world. But these were overshadowed by performance at Gap and Old Navy. Importantly, we came out of 2006 with...

  • Page 11
    ... enticing marketing, pricing and inventory strategies and act on them decisively. Old Navy operates in one of our most competitive markets, and we cannot be as tentative as we became in the past two years. Moving forward, we will stand strong behind key product trends each season, and back our big...

  • Page 12
    ... our work and reduce our cost structure in order to be competitive and react more quickly in our retail environment. We need to empower each of our brands to make decisions that are appropriate for their customers. We need to rebuild a leaner corporate center and bring autonomy to each business. In...

  • Page 13
    ... those brands back on top. We have great real estate and a strong balance sheet. We have been tested before and demonstrated our ability to overcome adversity. I believe we will do it again. Along with Gap Inc.'s Board of Directors and management team, I am committed to steering our company on a new...

  • Page 14
    ... cash and equivalents Per Share Data Net earnings-diluted Dividends paid Statistics Net earnings as a percentage of net sales Return on average assets Return on average stockholders' equity Current ratio Number of store locations open at year-end Comparable store sales increase (decrease) percentage...

  • Page 15
    ...' Equity percent 25 24 22 Net Sales Per Average Square Foot in dollars 415 378 428 412 390* 15 15 02 03 04 05 06 02 03 04 05 06 * The calculation for 2006 net sales per average square foot is based on 52 weeks for a consistent comparison to the prior years. Financial Highlights 13

  • Page 16
    ... Corporate Overview Executive Officers of the Registrant Five-Year Selected Financial Data Management's Discussion and Analysis Quantitative and Qualitative Disclosures About Market Risk Report of Independent Registered Public Accounting Firm Consolidated Balance Sheets Consolidated Statements...

  • Page 17
    ... the last price reported for such date in the NYSE-Composite transactions. The number of shares of the registrant's common stock outstanding as of March 26, 2007 was 815,646,737. DOCUMENTS INCORPORATED BY REFERENCE Portions of the registrant's Proxy Statement for the Annual Meeting of Shareholders...

  • Page 18
    ...; (viii) year-over-year change in inventory per square foot at the end of the first and second quarters of fiscal year 2007; (ix) capital expenditures (net purchases of property and equipment) in fiscal 2007; (x) number of new store openings and store closings in fiscal 2007; (xi) net square footage...

  • Page 19
    THE GAP, INC. 2006 ANNUAL REPORT ON FORM 10-K TABLE OF CONTENTS Page PART I Item 1. Item 1A. Item 1B. Item 2. Item 3. Item 4. Business ...Risk Factors ...Unresolved Staff Comments ...Properties ...Legal Proceedings ...Submission of Matters to a Vote of Security Holders ...PART II Item 5. Market for...

  • Page 20
    ... retail and outlet stores selling casual apparel, accessories, and personal care products for men, women and children under the Gap, Old Navy, Banana Republic, Piperlime, and Forth & Towne brands. We operate stores in the United States, Canada, the United Kingdom, France, Ireland, and Japan. We also...

  • Page 21
    ... online businesses are offered to complement our store experience and are intended to strengthen our relationship with our customers. In October 2006, we launched Piperlime, our online shoe shop, located at www.piperlime.com. Certain financial information about international operations is set forth...

  • Page 22
    ...bus shelters and billboards, and indoor venues, such as in-mall kiosks. In addition, we advertise online. We run TV ads for Gap and Old Navy, and radio ads for Old Navy. We plan to continue our investments in advertising and marketing in fiscal 2007. There can be no assurances that these investments...

  • Page 23
    ..., our annual reports on Form 10-K, quarterly reports on Form 10-Q, current reports on Form 8-K and amendments to those reports as soon as reasonably practicable after we electronically file or furnish such materials to the U.S. Securities and Exchange Commission ("SEC"). Our Code of Business Conduct...

  • Page 24
    ...which may make it more difficult for us to respond rapidly to new or changing fashion trends or consumer acceptance for our products. If sales do not meet expectations, too much inventory may cause excessive markdowns and, therefore, lower than planned margins. Our business is highly competitive and...

  • Page 25
    ... mix of merchandise for our broad and diverse customer base, managing inventory effectively, using more effective pricing strategies, and optimizing store performance by closing under performing stores. Failure to meet the expectations of investors, security analysts or credit rating agencies...

  • Page 26
    ... merchandise efficiently. We continue to evaluate and are currently implementing modifications and upgrades to our information technology systems supporting the product pipeline, including merchandise planning and inventory management. Modifications involve replacing legacy systems with successor...

  • Page 27
    ... our systems related to merchandise planning and inventory management, we continue to evaluate and implement upgrades to our information technology systems for point of sales (cash registers), real estate, finance and human resources. Upgrades involve replacing legacy systems with current and...

  • Page 28
    ... domestic regional offices and approximately 37 international offices. We own approximately 8.6 million square feet of distribution space located in Fresno, California; Fishkill, New York; Groveport, Ohio; Gallatin, Tennessee; Brampton, Ontario, Canada; and Rugby, England. In 2006, we closed one of...

  • Page 29
    ... and are subject to uncertainties. Actions filed against us include commercial, intellectual property, customer, and employment and securities related claims, including class action lawsuits in which plaintiffs allege that we violated federal and state wage and hour and other laws. The plaintiffs...

  • Page 30
    ... Equity, Related Stockholder Matters and Issuer Purchases of Equity Securities The principal market on which our stock is traded is the New York Stock Exchange. The number of holders of record of our stock as of March 26, 2007 was 9,847. The table below sets forth the market prices and dividends...

  • Page 31
    ... information with respect to purchases of common stock of the Company made during the fourteen weeks ended February 3, 2007, by The Gap, Inc. or any affiliated purchaser, as defined in Rule 10b-18(a)(3) under the Exchange Act. Total Number of Shares Purchased as Part of Publicly Announced Plans...

  • Page 32
    ... ...Inventory per square foot increase (decrease) ...Working capital ...Total long-term debt and senior convertible notes, less current maturities (d) ...Stockholders' equity ...Other Data Purchase of property and equipment ...Number of new store locations opened ...Number of store locations closed...

  • Page 33
    ...Banana Republic, as the new president of the Gap Brand and Michael Cape, former Vice President, Director of Brand Marketing for J.C. Penney Company, Inc., as the new executive vice president of marketing for the Old Navy brand. Conversion of Old Navy's Outlet stores into Old Navy stores. In order to...

  • Page 34
    ... sales numbers for the quarter and year include this additional week; however, comparable stores sales calculations exclude the 53rd week. Net sales for the 53rd week of fiscal 2006 were $200 million. Net sales by brand, region and channel are as follows: 53 Weeks Ended February 3, 2007 Gap Old Navy...

  • Page 35
    ... year net sales can be classified as follows: 53 Weeks Ended February 3, 2007 Increase (decrease) ($ in millions) Banana Republic (2) Gap (2) Old Navy Other (3) Total 2005 Net Sales ...Comparable store sales ...Non-comparable store sales ...Direct (Online) ...Foreign exchange (1) ...2006 Net...

  • Page 36
    ... Square Footage Store Locations (in millions) January 28, 2006 Number of Square Footage Store Locations (in millions) Gap North America ...Gap Europe ...Gap Asia ...Old Navy North America ...Banana Republic North America ...Banana Republic Japan ...Forth & Towne ...Total ...Increase over Prior Year...

  • Page 37
    ... marketing and store related activities, $169 million in increased payroll and related expenses for more employees and merit, $32 million in increased share-based compensation as a result of the adoption of Statement of Financial Accounting Standards No. ("SFAS") 123(R), "Share-Based Payment...

  • Page 38
    ... $42 million of year to date sourcing expenses were reclassified in fiscal 2005. This reclassification had no effect on net earnings. Lower advertising expenses primarily driven by our decision not to run a holiday television campaign at Gap brand and lower bonus expense related to fiscal 2005...

  • Page 39
    ... of outstanding tax contingencies. FINANCIAL CONDITION Liquidity We consider the following to be measures of our liquidity and capital resources for the last three fiscal years: ($ in millions) February 3, 2007 January 28, 2006 January 29, 2005 Working capital (a) ...Current ratio (a) ...Net cash...

  • Page 40
    ... about $700 million. We expect to open about 230 new store locations and to close about 200 store locations. Included in both the expected store openings and closings are 45 Old Navy Outlet stores that will be converted to Old Navy stores. As a result, we expect net square footage to increase about...

  • Page 41
    ... January 28, 2006 52 Weeks Ended January 29, 2005 Net cash provided by operating activities ...Less: Purchases of property and equipment ...Free cash flow ... $1,250 (572) $ 678 $1,551 (600) $ 951 $1,597 (419) $1,178 The following table sets forth our reconciliation of projected fiscal 2007 free...

  • Page 42
    ... $2.0 billion, including commissions, at an average price per share of $20.29. Debt and Credit Facility The following discussion should be read in conjunction with Note 2 of Notes to the Consolidated Financial Statements. During fiscal 2006, the remaining balance of our 6.90 percent notes payable of...

  • Page 43
    ... retirement of debt due to premiums paid and write-off of debt issuance costs. Contractual Cash Obligations and Commercial Commitments We are party to many contractual obligations involving commitments to make payments to third parties. The following table provides summary information concerning...

  • Page 44
    ... the Consolidated Balance Sheets; however, the minimum lease payments related to these leases are disclosed in Note 4 of Notes to the Consolidated Financial Statements. Purchase obligations include our non-exclusive services agreement with International Business Machines Corporation ("IBM") entered...

  • Page 45
    ... financial statements. Management has discussed the development and selection of these critical accounting policies and estimates with the Audit and Finance Committee of our Board of Directors. Merchandise Inventory In fiscal 2005, we implemented a new inventory system and effective January 29, 2006...

  • Page 46
    ... a review of real estate market conditions, our projections for sublease income and sublease commencement assumptions. Most store closures occur upon the lease expiration. Insurance and Self-insurance We use a combination of insurance and self-insurance for a number of risk management activities...

  • Page 47
    ... tax in other income. Share-Based Compensation With the adoption of the Statements of Financial Accounting Standards 123 (Revised 2004), "Share-Based Payment", ("SFAS 123(R)") at the beginning of our first fiscal quarter of 2006, we added "Share-Based Compensation" as a critical accounting policy...

  • Page 48
    ... risk management; we do not use derivative financial instruments for trading purposes. Additional information is presented in Note 6 of Notes to the Consolidated Financial Statements. We have performed a sensitivity analysis as of February 3, 2007 and January 28, 2006, based on a model that...

  • Page 49
    ... on our senior unsecured debt rating. However, we do not expect this downgrade to have a material impact on our financial statements. See Note 2 of Notes to the Consolidated Financial Statements. During fiscal 1997, we issued $500 million aggregate principal amount of debt securities, due September...

  • Page 50
    ... 8. Financial Statements and Supplementary Data THE GAP, INC. INDEX TO CONSOLIDATED FINANCIAL STATEMENTS Page Report of Independent Registered Public Accounting Firm ...Consolidated Balance Sheets as of February 3, 2007 and January 28, 2006 ...Consolidated Statements of Income for the fiscal years...

  • Page 51
    ...REGISTERED PUBLIC ACCOUNTING FIRM To the Board of Directors and Stockholders of The Gap, Inc.: We have audited the accompanying Consolidated Balance Sheets of The Gap, Inc. and subsidiaries ("The Company") as of February 3, 2007 and January 28, 2006, and the related Consolidated Statements of Income...

  • Page 52
    ... ...Property and equipment, net of accumulated depreciation ...Other assets ...Total assets ...LIABILITIES AND STOCKHOLDERS' EQUITY Current Liabilities: Current maturities of long-term debt ...Accounts payable ...Accrued expenses and other current liabilities ...Income taxes payable ...Total current...

  • Page 53
    ... Weeks Ended January 29, 2005 Net sales ...Cost of goods sold and occupancy expenses ...Gross profit ...Operating expenses ...Loss on early retirement of debt ...Interest expense ...Interest income ...Earnings before income taxes ...Income taxes ...Net earnings ...Weighted average number of shares...

  • Page 54
    ...service awards ...Excess tax benefit from exercise of stock options ...Other non-cash items ...Deferred income taxes ...Change in operating assets and liabilities: Merchandise inventory ...Other assets ...Accounts payable ...Accrued expenses and other current liabilities ...Income taxes payable, net...

  • Page 55
    ...to stock award plans ...9,149,786 Conversion of convertible debt ...434,367 Tax benefit from exercise of stock options by employees and from vesting of service awards ...Adjustments for foreign currency translation ...Adjustments for fluctuations in fair market value of financial instruments, net of...

  • Page 56
    ... accessories and personal care products for men, women and children under a variety of brand names including Gap, Banana Republic, Old Navy, and Forth & Towne. We operate stores in the United States, Canada, Ireland, the United Kingdom, France and Japan, while our independent third party franchisees...

  • Page 57
    ... in our Consolidated Balance Sheets and measure those instruments at fair value. See Note 6 of Notes to the Consolidated Financial Statements. Merchandise Inventory In fiscal 2005, we implemented a new inventory system and effective January 29, 2006 (the beginning of fiscal 2006), we changed our...

  • Page 58
    ...and $9 million in fiscal 2006, 2005, and 2004, respectively. Key money is the amount of funds paid to a landlord or tenant to acquire the rights of tenancy under a commercial property lease for a property located in France. These rights can be subsequently sold by us to a new tenant or the amount of...

  • Page 59
    ... the contract rent obligations and the rate at which we expect to be able to sublease the properties. We estimate the reserve based on the status of our efforts to lease vacant office space and stores, including a review of real estate market conditions, our projections for sublease income and...

  • Page 60
    ... of Staff Accounting Bulletin No. ("SAB") 101, "Revenue Recognition in Financial Statements" as amended by SAB 104, "Revenue Recognition." Revenue is recognized for store sales when the customer receives and pays for the merchandise at the register with either cash or credit card. For online sales...

  • Page 61
    ... related amount recognized in the Consolidated Statements of Income. Prior to fiscal 2006, we accounted for share-based awards to employees and directors using the intrinsic value method of accounting in accordance with Accounting Principles Board Opinion No. ("APB") 25, "Accounting for Stock Issued...

  • Page 62
    ...value added and some excise taxes. We present such taxes on a net basis (excluded from net sales). We do not expect the adoption of Issue No. 06-3, which is effective for interim and annual reporting periods beginning after December 15, 2006, to have a material effect on our financial position, cash...

  • Page 63
    ... into 85 million shares of The Gap, Inc. common stock and approximately $0.5 million was paid in cash redemption. On August 30, 2004, we terminated all commitments under our $750 million three-year secured revolving credit facility scheduled to expire in June 2006 (the "Old Facility") and replaced...

  • Page 64
    ...In no event will the interest rate be reduced below the original interest rate on the note. NOTE 3. INCOME TAXES The provision for income taxes consisted of the following: ($ in millions) 53 Weeks Ended February 3, 2007 52 Weeks Ended January 28, 2006 52 Weeks Ended January 29, 2005 Current Federal...

  • Page 65
    ...28, 2006 Deferred tax assets Compensation and benefits accruals ...Scheduled rent ...Nondeductible accruals ...Fair value of financial instruments included in accumulated other comprehensive earnings ...Depreciation ...Inventory capitalization and other adjustments ...Other ...State and foreign net...

  • Page 66
    ..., insurance and taxes to which the Company is obligated are excluded from minimum lease payments. Tenant allowances received upon entering into certain store leases are recognized on a straight-line basis as a reduction to rent expense over the lease term. At February 3, 2007 and January 28, 2006...

  • Page 67
    ... on the status of our efforts to lease vacant office space and stores, including a review of real estate market conditions, our projections for sublease income and sublease commencement assumptions. In fiscal 2006 and 2004, we recorded a net sublease loss of $5 million and $15 million, respectively...

  • Page 68
    ... inventory is sold. An unrealized loss of approximately $14 million, net of tax, has been recorded in accumulated other comprehensive earnings at February 3, 2007, and will be recognized in cost of goods sold over the next 12 to 18 months at the then current values, which can be different than year...

  • Page 69
    ... of (a) the number of shares that remained available for grant under the 2002 Stock Option Plan (the "2002 Plan") as of January 24, 2006, the date of board approval of the 2006 Plan, and (b) any shares that otherwise would have been returned to the 2002 Plan after January 24, 2006, on account of the...

  • Page 70
    ... After December 1, 2006, eligible U.S. employees are able to purchase our common stock at 85 percent of the closing price on the New York Stock Exchange on the last day of the three-month purchase period. Employees pay for their stock purchases through payroll deductions at a rate equal to any whole...

  • Page 71
    ... date of grant using an option-pricing model is affected by our stock price as well as assumptions regarding a number of subjective variables. These variables include our expected stock price volatility over the term of the options and ESPP shares, the expected term based on projected employee stock...

  • Page 72
    ... form of units. One share of common stock is issued for each unit where vesting is subject to continued service by the employee, or earned for each unit where vesting is immediate in the case of members of the Board of Directors ("Service Awards"). In some cases, Service Awards are granted after the...

  • Page 73
    ... market value of the stock at the date of grant or as determined by the Compensation and Management Development Committee of the Board of Directors. The following table summarizes stock option activity for our stock option plans: Shares Weighted-Average Exercise Price Balance at January 28, 2006...

  • Page 74
    ... a weightedaverage remaining contractual life of 3 years. NOTE 9. EMPLOYEE BENEFIT PLANS We have a qualified defined contribution retirement plan, called GapShare, which is available to employees who meet certain age and service requirements. This plan permits employees to make contributions up to...

  • Page 75
    ... than the average market price of the company's common stock during the period and, therefore, the effect is antidilutive. NOTE 11. COMMITMENTS AND CONTINGENCIES In January 2006, we entered into a non-exclusive services agreement with International Business Machines Corporation ("IBM"). Under the...

  • Page 76
    ... issues and are subject to uncertainties. Actions filed against us include commercial, intellectual property, customer, employment and securities related claims, including class action lawsuits in which plaintiffs allege that we violated federal and state wage and hour and other laws. The plaintiffs...

  • Page 77
    ... Information." Net Sales ($ in millions) 53 Weeks Ended February 3, 2007 Gap Old Navy Banana Republic Other (3) Total Percentage of Net Sales U.S. (1) ...Stores Direct (Online) Canada ...Stores Europe ...Stores Asia ...Stores Other Regions (2) ...Total Company ...52 Weeks Ended January 28, 2006...

  • Page 78
    ... of our long-lived assets for both fiscal 2006 and 2005, respectively. NOTE 14. SUBSEQUENT EVENTS On February 26, 2007, we announced that we will close our Forth & Towne stores. We plan to close all 19 stores by the end of June 2007, and anticipate that the pre-tax expenses associated with the...

  • Page 79
    ... with unredeemed gift cards. During fiscal 2006, we recorded a charge of approximately $32 million in impairment of long-lived assets. (b) During the second quarter of fiscal 2005, we released approximately $58 million of our sublease loss reserve related to properties in San Francisco that we...

  • Page 80
    ... including our principal executive officer, principal financial officer, controller and persons performing similar functions. Our Code of Business Conduct is available on our website, www.gapinc.com, under "Investors, Corporate Compliance, Code of Business Conduct" and in print to any person who...

  • Page 81
    ... 14. Principal Accountant Fees and Services The information required by this item is incorporated herein by reference to the section entitled "Principal Accounting Firm Fees" in the 2007 Proxy Statement. PART IV Item 15. Exhibits and Financial Statement Schedules 1. 2. 3. Financial Statements: See...

  • Page 82
    ... Financial Officer (Principal Financial and Accounting Officer) Pursuant to the requirements of the Securities Exchange Act of 1934, this report has been signed below by the following persons on behalf of the registrant and in the capacities and on the dates indicated. Date: March 30, 2007 Date...

  • Page 83
    ... Trust Company of California, filed as Exhibit 4 to Registrant's Form 10-Q for the quarter ended November 1, 1997, Commission File No. 1-7562. Indenture, dated November 21, 2001, between Registrant and The Bank of New York, filed as Exhibit 4.2 to Registrant's Annual Report on Form 10-K for the year...

  • Page 84
    ... 33-54686. 1996 Stock Option and Award Plan, filed as Exhibit A to Registrant's definitive proxy statement for its annual meeting of stockholders held on May 21, 1996, Commission File No. 1-7562. Amendment Number 1 to Registrant's 1996 Stock Option and Award Plan, filed as Exhibit 10.1 to Registrant...

  • Page 85
    ... Option and Award Plan, dated September 25, 2002, filed as Exhibit 10.43 to Registrant's Form 10-K for the year ended January 28, 2006, Commission File No. 1-7562. Form of Nonqualified Stock Option Agreement for Paul Pressler under the company's 1996 Stock Option and Award Plan filed as Exhibit 10...

  • Page 86
    ..., Commission File No. 1-7562. Non-Employee Director Retirement Plan, dated October 27, 1992, filed as Exhibit 10.43 to Registrant's Annual Report on Form 10-K for the year ended January 30, 1993, Commission File No. 1-7562. Statement Regarding Non-Employee Director Retirement Plan, filed as Exhibit...

  • Page 87
    ... File No. 1-7562. 2006 Long-Term Incentive Plan, filed as Appendix B to Registrant's definitive proxy statement for its annual meeting of stockholders held on May 9, 2006, Commission File No. 1-7562. Amendment Number 1 to Registrant's 2006 Long-Term Incentive Plan. Form of Non-qualified Stock...

  • Page 88
    ...28, 2006, Commission File No. 1-7562. Cash Payments in Connection with December 2005 Option Exchange, filed as Exhibit 10.81 to Registrant's Form 10-K for the year ended January 28, 2006, Commission File No. 1-7562. Statement Regarding Computation of Ratios Code of Business Conduct, filed as Exhibit...

  • Page 89
    ... Directors directly regarding any corporate governance matter via email to [email protected]. These emails are received and reviewed by our Chairman and our Lead Independent Director as well as our Corporate Secretary's office. * Audit and Finance Committee †Compensation and Management Development...

  • Page 90
    ... leading international specialty retailer offering clothing, accessories and personal care products for men, women, children and babies under the Gap, Banana Republic, Old Navy and Piperlime brand names. Please visit www.gapinc.com for more information, including online versions of our Annual Report...

  • Page 91
    Design: Cahan & Associates, San Francisco Printing: Cenveo Anderson Lithograph Executive Photo: Chris Gaede Photography

  • Page 92
    Two Folsom Street San Francisco, CA 94105 gapinc.com