Jones Apparel Group (NYSE:JNY) stock price has dropped by over 30% since the firm reported its 1Q11 earnings April 27. The multi brand company that designs and markets women and children apparel, footwear, jeanswear, jewelry and handbags competes directly with other apparel and accessories brands like Liz Claiborne (NYSE:LIZ) and Phillips Van Heusen (NYSE:PVH) as well as department store mainstays such as Polo Ralph Lauren(NYSE:RL) and store owned private labels.

We currently maintain a $16.86 Trefis price estimate for Jones Apparel Group, at a whopping 65% premium to the stock market price.

The decline in stock price can be attributed to 2 key factors that have resulted in two short spurts of rapid decline in Jones stock price. Below we take a look at these two factors and present rationales for our bullish estimate.

Margin Contraction In its 1Q11 earnings, Jones reported revenue growth of 8.3% to $961 million, beating the analysts average estimate of $939.2 million. However, the profit available to shareholders was down at $24.9 million, compared with $37.5 million a year earlier. This was driven primarily by a decline in firm gross margin which fell to 34.4% from 36.8% a year earlier.

Chart created using Trefis’ app

We currently forecast Jones to maintain steady margins across its product segments in 2011 as the firm plans to raise prices on clothes and its more expensive shoes in first half of the year, followed with hikes across all of its products in the second half. The company also said that it has been keeping inventories tight to help stem the margin decline. [1]

However, if Jones is not able to curb the margin decline going forward in the face of continued high unemployment, rising gasoline prices and a troubled housing market and the margins shrink by 2% across Jones divisions in 2011, there could be a downside of 40% to our $16.86 Trefis price estimate for Jones and hence justify the current stock price. This goes to show how sensitive the stock is to the gross margin trends.

Kurt Geiger Acquisition On June 2, Jones Group Inc. luxury shoe retailer Kurt Geiger from private equity firm Graphite Capital for about $350 million in cash and debt, adding to its international presence. The acquisition positions Jones as one of the world most powerful portfolios of fashion footwear and is expected to bump up its international penetration. However the stock price has dived more than 10% since the announcement and it might be due to the fact that there is usually a premium involved in acquisitions, which could have been too high in this case, especially as Jones already has a net debt on its balance sheet.