Lululemon Makes Other Hot Clothing IPOs Look Cheap

I’ve been counting down the days since I heard that hip yoga-wear retailer lululemon (Nasdaq: LULU) was going to IPO. This is exactly the kind of growth story I love to see - a foreign company whose initial foray into the US has been greeted with wild excitement by affluent urban tastemakers. Walk into any yoga class in Chicago or New York and you’ll see women and men of all ages going into downward dog adorned with lululemon’s distinct omega-esque logo. It’s just a matter of time before this sight spreads to the rest of the country.

I figured that lululemon would undoubtedly be the next in a recent run of hot clothing stocks to go on a tear. Despite recognizing their popularity early on, I largely sat on the sidelines as the stock prices of Zumiez, Under Armor, and Crocs (which I did hold briefly) soared. I was never able to pull the trigger as the stocks always seemed too richly valued. I vowed that I wouldn’t make the same mistake this time with lululemon.

It seems as though a lot of investors made the same promise and wanted to load up on lululemon at any price. In comparison to the IPOs of the aforementioned companies (and Citi Trends, another recently IPOed retailer), lululemon appears to give new meaning to the word “overvalued.”

Like LULU, all four of the other companies soared on their first day of trading. And all four of the companies have posted huge annual returns since that first day close (interestingly, each company also found its stock at a lower level 1 week after the initial IPO). But it seems as though investors may have learned their lessons and banked enormous future growth assumptions into lululemon’s initial valuation.

Let’s take a look at all four of these companies today.

How does lululemon’s valuation stack up? Not well. In terms of estimated growth rates, the closest comparison is Crocs. Despite an amazing track record as a public company and future growth estimates exceeding lululemon’s, Crocs is selling for a forward P/E that is 75% lower. While one can argue that this makes Crocs undervalued, I tend to see a 29 forward P/E as fair for a growth company.

And unlike Crocs, lululemon’s growth is limited by the number of stores it can build. The company currently has 59 locations and plans to build another 20 to 25 this year. As Crocs’ popularity grew, it quickly able to scale up its distribution to thousands of retailers. For lululemon to ultimately fetch the same valuation as Crocs, which would not even triple the stock price, it would have to produce approximately 20x more profit than the $7.7M it earned last year. Furthermore, as SmartGuyDH wrote on July 16, it’s unclear whether lululemon’s primary purpose for going public was to fuel growth.

Don’t get me wrong- I would love to own shares of lululemon, just not at this price. This is a company with 25% same-store sales growth and $1400/sq. foot sales, which may be the best in all of retail. It capitalizes on the current yoga craze with desirable, high-priced products. But ultimately, this is a niche retailer whose “cool factor” has caused the market to get ahead of itself. Keep lululemon on your watch list, but don’t count on it to produce the same eye-popping returns of the hot retailers that came before it.

Disclosure: SmartGuyAB does not own shares in any of the companies mentioned.

Comments

[Jim Glazen:]

Plug in 700 international stores by 2015 generating $2.5 billion in annual revenue and $400 million in profits. This will be THE woman's athletic apparel manufacturer and retailer.

Apply a 17 multiple on 2015 earnings and you get a market cap of $6.8 billion. That's a compounded rate of return on the current stock price of 18%.

Good luck getting in cheaper. I doubt you'll get the opportunity.

2007 Jul 30 08:12 AM

[Smart Guy S...:]

That's pretty optimistic math. Last year, LULU generated $7.7 million in profit on $148M in sales, for a 5.2% net margin. Your numbers would require a 16% net margin, not to mention the opening of 100x as many stores as they currently have. How are they going to achieve that margin, given that they are already selling clothes at sky-high prices? And your ridiculously optimistic scenario nets only an 18% annual return - I think there are some better options out there for my money.

2007 Jul 30 10:47 AM

[Jim Glazen:]

Stock is already up another 7% today. Doubters like you thought Google was overvalued at $85 only to sit on the sidelines and lament.

700 stores is 12 times as many stores as today, not 100. Since you can't even perform basic math, I won't try to argue my case any further.

Just watch the stock and lament.

Enjoy.

2007 Jul 30 11:43 AM

[Jim Glazen:]

by comparison, I predict Crox will be bankrupt long before 2015. Plastic clog shoes are a fad that will obviously go bust.

2007 Jul 30 08:19 AM

[Jim Glazen:]

Lulu up 13% today. lmfao!! maybe you ought to change your name to dumbguystocks.com

2007 Jul 30 02:19 PM

[moosebump:]

Jim - you might end up being right but the current price is certainly pricing in optimistic projections (like yours).

A few of elements of your projections don't agree with what management is saying themselves:

1. Your 700 Intl plus 300 NA stores = 1000 or 950 more than today. Over 8 years to 2015 thats 119/year. But they are expecting to do 'just' 25 this year and up to 35 next. Their store opening process is fairly time and effort intensive as they put more effort into training staff and becoming active in the local fitness community. How well does that scale? I think its poses some risk now at 25 - 35 stores a year since they have only ever done 14 in a single year before now.

2. They have also said they would go international via JV so not all Int'l expansion would accrue to lulu shareholders.

3. They are targeting a 20% operating margin so after 35% tax that is more like 13% net. So even on 2.5B, your profit is $325.

2007 Jul 30 03:47 PM

[Jim Glazen:]

Fundamentals don't matter as much as psychology for Lululemon at this point. The 25% comps and "beating the street" earnings estimates will be enough to continue to propel the stock higher. The higher it goes, the more shorts it attracts and the more is continues to inexplicably power higher.

It will eventually crash but not before the valuation gets ultra irrational and the stock destroys thousands of short sellers. That's how it always works for hyper growth momo stocks.

Is $4.5 billion market cap reasonable for a piece of junk plastic clog shoe maker?

The stock market is a game of exploiting hopes and dreams. Most companies and their management teams are piles of junk.

2007 Jul 30 08:21 PM

[SweetHomeKilla:]

Jim Glazen is a pumper dumper, anything this guy pumps is destined for the garbage bin, Jim is a pile of junk.

2007 Sep 13 12:36 AM