Lululemon Is Raising Some Eyebrows

| About: Lululemon Athletica (LULU)

Summary

Lululemon athletica has caught my attention this morning as it looks like the stock is going to be taking a beating following earnings.

I discuss the results and why the Street is reacting so negatively.

What to look for going ahead to get back on track.

Lululemon athletica (NASDAQ:LULU) has caught my attention this morning as it looks like the stock is going to be taking a beating following earnings that seemed to be decent, but failed to be a blowout, which many have come to expect. It is raising some eyebrows. This apparent selloff could be an opportunity in a company that has been in growth mode for years. But the question is, can the athletic wear company continue its growth trajectory? Some are betting that it cannot, hence today's selloff. The name has been priced for perfection like many other growth names. However was tbhe quarter really all that bad? Well what we need to do is dig into the numbers as well as assess expectations in order to understand where this stock is heading.

Before delving into the numbers I do want to say that there is betting on both sides in this name. Some analysts see this name moving higher, with target prices in the mid $70s or $80s, while others see it going down to $40 on reduced demand. Why do I say the name is priced for perfection? Simply look at the basic trading metrics. It is trading at 40 times current earnings, and well over 30 times forward earnings. It does not pay a dividend. Competitors in the athletic wear space that I have previously covered trade at 15-25 times current earnings. This is a strong growth name pure and simple. Some may argue we missed the boat on the strong returns. However, the company seems poised for continued growth, but is dependent on a strong consumer. But results today are raising eyebrows. That all said, what is going on?

Let me first start off by saying the net sales were up 14% year-over-year to $515 million from $453 million a year ago. I like to look at year-over-year comparisons because quarter-versus-quarter in this sector doesnt make much sense. The name is very seasonal. Year-over-year comparisons are appropriate for my style of long-term investing, but are particularly useful for stocks like Lulu which command a premium. Thus, if the year-over-year numbers, and by contrast expected future performance, do not show strong growth, the stock is going to likely get hit. It is something an old professor used to call 'premium-punishment.' I am looking at this as a long-term investor. Sales growth of 14% is strong, but slightly below what I would look for in a name trading at 40 times current earnings. Of course, currency issues need to be considered, and when controlling for these sales were up 15%.

All in all revenues missed estimates by about $1 million. While this may not seem that bad, and it really wasn't, the problem is when priced for perfection, anything but meeting and exceeding expectations hurts. Hence, the stock is getting crushed. We also should continue to consider comparable sales, and these increased 4% (or 5% on a constant dollar basis). These are strong, but its a number we must watch going forward. I want to add that direct to consumer sales are trending higher in many sectors. For Lulu, these sales spiked an adjusted 16% to $88 million.

Turning to expenses, these also rose year-over-year. Cost of goods sold increased $20 million to $260 million. Further, selling, general and administrative expenses were up $35 million to $180 million. As such, because the increase in sales outpaced the increase in expenses, gross profit jumped 20% to $254 million. Turning to earnings, the diluted earnings per share were $0.39, up from $0.34 last year. Making some adjustments, we saw that the earnings per share was $0.38, and this was in line with estimates.

So, for a company priced for strong growth, an in line bottom line and missed top line is quite disappointing. The outlook too, was not up to par, at least considering the expected growth trajectory. For fiscal Q3 2016, net revenue will to be in the range of $535 million to $545 million based on total comparable sales in the mid-single digits on a constant dollar basis. Diluted earnings per share are expected to be in the range of $0.42 to $0.44 for the quarter. That is for the full fiscal 2016, net revenue to be in the range of $2.325 billion to $2.350 billion based on total comparable sales in the mid-single digits on a constant dollar basis. Diluted earnings per share are expected to be in the range of $2.11 to $2.19 for the full year. If the company can come in at the higher ends of these ranges, I foresee the stock continuing to appreciate. Shares look to head below $70 today, for the first time since June. Given the expectations, a buy here will necessitate results coming in toward the higher end of the range. I however am mildly bullish, and am watching the stock.

Note from the author: Christopher F. Davis has been a leading contributor with Seeking Alpha since early 2012. If you like his material and want to see more, scroll to the top of the article and hit "follow." He also writes a lot of "breaking" articles that are time sensitive. If you would like to be among the first to be updated, be sure to check the box for "Real-time alerts on this author" under "Follow."

Disclosure: I/we have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.

I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.