Under Armour: The Nike Look Through

| About: Under Armour, (UAA)

On 12/4, I published an article on Seeking Alpha discussing Under Armour, Inc. (NYSE:UA) as a short idea. The short worked quite well (the stock was down 12.28% from the close on 12/2 through 12/31), but since the beginning of the year, UA has moved up considerably, up 38.07% in 2012 versus the S&P being up 12.37% as of the time of this writing. The outperformance in 2012 is alpha, and while I could explain away why the stock is up, I won't, and will simply acknowledge that if you held beyond December, the short idea just didn't work. Let's review a few reasons why a revisit to the UA short could make sense in the coming days, as we head into the company's earnings in April.

  • Nike, Inc. (NYSE:NKE) just reported earnings for the period ended 2/29/12. The two knocks on the earnings: gross margin and higher inventory levels. Specifically, NKE reported consolidated gross margin of 43.8%, up from the previous quarter (42.7%), but down relative to the 45.8% reported as of 2/28/2011. Inventories stood at $3.3 billion, up relative to the previous quarter's $3.2 billion. The reason these metrics are relevant: UA has a persistent inventor y problem over the past several quarters (and if the NKE look through proves prescient, the company won't have strong turnover in the quarter) and is not a margin leader (especially relative to the much larger NKE, so the look through could prove problematic for UA).
  • UA has outlined considerable growth targets, with expectations for 2012 set at the "higher end" of the 20% - 25% Operating Income growth outlook and the "low end" of the 2012 Net Revenues Outlook of 20% - 25%. The risk (as illustrated by NKE): a lower than expected inventory turn and a higher than expected cost of revenues could pressure both outlined targets. The greater risk is obviously to the Operating Income, where management outlined more positive guidance.
  • The stock is trading at 42.1x 2012 and 32.8x 2013 earnings (expensive relative to the peer group), with the growth imbedded into the earnings being 26.1% in 2012 and 28.3% in 2013. With NKE highlighting a somewhat sluggish North American business, it would appear that the market is paying up for the UA growth without much concern for the downside risk to operations.
  • UA 1Q sales are likely to feel some impact from the mild weather in the Northeast (the company has a strong market position in cold weather performance apparel). With headwinds from inflation (on cost of revenue) and turnover (inventory), the marginal impact of weather could prove substantive.

There is no denying UA has a growing presence in sports apparel and footwear. However, UA is competing against one of the best managed and most innovative companies in the world , and while the suite of products have captured market share in active apparel, I would argue there is no unique niche (as compared to, say, a Lululemon Athletica Inc. (NASDAQ:LULU)) relative to what is offered by NKE (and to a lesser extent, the generic brands offered by the big retailers, which will appeal to the cash strapped consumer not looking to pay a premium for similar apparel) and management has not done particularly well on the financial management of the business.

Headed into April, the next quarter, and further on into 2012, with several data points out of NKE, UA has emerged as a reasonable short (again).

Disclosure: I am short UA.