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American Apparel founder out when sex doesn't sell

A man walks past an American Apparel store on June 19, 2014 in New York City. American Apparel's board has voted to remove the company's controversial CEO, Dov Charney.
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A man walks past an American Apparel store on June 19, 2014 in New York City. American Apparel's board has voted to remove the company's controversial CEO, Dov Charney.

For years, American Apparel has used sex to sell. It became a problem when people stopped buying.

Allegations of misconduct and sexual harassment lawsuits against founder Dov Charney were dismissed by the company as baseless charges brought by disgruntled employees, even as its founder openly admitted to dating his underlings and walking around the company headquarters in his underwear. For a while, this "edginess" was part of American Apparel's appeal, but the company struggled when the economy went south and never really regained its footing.

"I think consumers looking for basics are much more price-sensitive than they used to be," said Morningstar retail analyst Jaime Katz.

The combination of losses and litigation might have just been too much.

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"When the board is fighting challenges such as anxious creditors and angry shareholders, incremental lawsuits make it that much more difficult," said Todd Slater, managing director at Threadstone Advisors, LLC. "If you add litigation to the other challenges it's facing … it becomes a bigger distraction."

American Apparel said Wednesday that its board had voted Charney out as chairman and planned to terminate him for cause as president and CEO, the result of an "ongoing investigation into alleged misconduct."

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"Clearly the board felt that Charney had crossed the line and could no longer serve as an effective leader," Tim Calkins, clinical professor of marketing at Northwestern University, said via email.

Wall Street evidently agreed. American Apparel's stock, which has traded between 46 cents and $2.09 in the past 52 weeks, was up about 7 percent Thursday at 68 cents. Its stock once topped $15 a share. The Los Angeles-based company — which initially attracted positive press for making clothes in the United States — said in its first-quarter filing last month that same-store sales fell 7 percent.

"I think it worked well when the timing was right, but as Americans became more price-conscious, the (domestic manufacturing) story falls to the wayside," Katz said.

While the debt-saddled company's financial difficulties are out in the open, it's also possible that the ongoing investigation the company referred to uncovered something that made Charney too much of a liability to keep.

Read MoreAmerican Apparel once again compliant with NYSE

"We do not believe the termination was due to Dov's work performance; we expect the sordid details to become apparent in the near term," Brean Capital, LLC analyst Eric Beder wrote in a research note Thursday. "We expect for it to leak out or be part of a court filing in the near future." (Brean is an adviser to American Apparel.)

Even with Charney gone, this doesn't mean moving forward will be easy for the interim management team. The board warned that firing Charney may have triggered a default with its creditors, and Charney remains American Apparel's largest shareholder.

"Anytime you get rid of the CEO, you open a Pandora's box," said Charles Elson, a specialist in corporate governance at the University of Delaware. "Anytime you change management, it can be disruptive to the company."

This is especially true for companies driven by a singular entrepreneur's vision, like American Apparel. "Dov Charney is a remarkable brand builder," Northwestern's Calkins said. "The challenge now is maintaining the American Apparel brand without Charney at the helm."

Beder agreed. "Dov was the heart and soul of the product," he said. "The worry is that they'll lose their fashion edge …. They have to eventually hire a full-time CEO who understands this consumer."

The University of Delaware's Elson said that despite the swirl of controversy surrounding Charney, the board still had to weigh the financial and reputational risks against the benefits of keeping him on board. "Your fiduciary duty is to the company's success, and issues of personal concern aren't really material in that analysis," he said.

Morningstar's Katz, though, pointed out that corporate responsibility has become somewhat of a lightning rod lately, with activists targeting corporate behemoths like Wal-Mart Stores and McDonald's over their operating practices. "Maybe the boards are starting to take notice that if they don't take action they can be held responsible," she said.

"Boards seem to have certain levels of tolerance, and then they don't," Beder said.

--By NBC News

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