After a period of significant outperformance against peers and major equity-market benchmarks since 2009, upward trend for Under Armour (NYSE:UA) reversed (after mid 2015) and a price drop of approximately 45% followed. As a result, and given the popularity of the stock, one may evaluate whether it is the right time to open a position, increase an existing one, hold, reduce, or sell. No doubt, there may be many, even considering to sell the stock short or increase existing short positions even after a correction of this magnitude.
Figure 1. Under Armour Stock Price and Volume
The facts suggest that Under Armour is currently characterized by negative sentiment, mainly associated with its ability to continue growing by rates exceeding 20%. As it turns out, its pricing is very sensitive to expectations about significant sales growth. It is not a coincidence that the stock price tumbled 13.2% (from $37.90 to $32.89, its biggest drop in almost eight years) after the company reported its slowest revenue growth in the last five years and company executives warned that future revenue growth is not going to be as strong as it was expected a year ago. Much of this decline has been attributed to the bankruptcy of retailer Sports Authority. However, one should note that the chain's bankruptcy as well as growth-oriented concerns about rival NIKE (NYSE:NKE), most likely indicate that demand prospects for athletic shoes and apparel may not be that robust.
As we can see in Table 1 that follows, Under Armour has been the worst performer among some of the companies considered as rivals such as Nike, Adidas (OTCQX:ADDYY), Sketchers USA (NYSE:SKX) and Columbia Sportswear (NASDAQ:COLM).
Table 1. Total Returns
For those not very familiar with the company, Under Armour is engaged in the development, marketing and distribution of branded apparel, footwear and accessories for both men and women. The Company's geographic segments include mainly North America (consisting of the United States and Canada) and to a lesser extend, Europe, Middle East and Africa (EMEA), Asia-Pacific, and Latin America. Connected Fitness is the technology unit of the company.
Table 2. Product and Geographic Segmentation
As we can see in the figure below the stock has experienced significant selling pressure as reflected in the index "Buying / Selling Pressure" which is based on price changes and volume. This is an index focusing on mid- to long-term horizons and aims to capture accumulation and distribution. One can use this index by focusing on trends, regime shifts as well as "divergences", a popular approach used by followers of technical analysis to spot peaks and troughs. What it turns out besides the obvious selling pressure of the last 12 months is the "weakness" of the indicator before the peak of late 2015. A possible entry point could result by a positive divergence, i.e., stock price is experiencing new lows while the indicator is not.
Figure 2. Buying / Selling Pressure (240-days Horizon)
The recent weak market performance is also reflected in the below analysis based on highest highs and lowest lows of 20 and 60 (trading) days. This set of indices commonly known as Donchian Channels is used by trend followers and can provide us with an idea about how this subset of market participants may be or how will be positioned in the stock. Clearly, the stock remains in a "selling" or "short selling" regime and a long position at the moment would be 100% against the trend.
Figure 3. Donchian Channels, Highest Highs and Lowest Lows of 20 and 60 Days
Negative investor sentiment for Under Armour is more than evident in short interest which exceeds 25% (analysis starts from 2007, a period of severe distress, for comparison purposes).
Figure 4. Days-to-Cover Ratio and Short Interest as % of Equity Float
For comparison purposes, in the table that follows, we can see short interest data for the rivals of Under Armour considered in this article. Average short interest of the S&P 1500 companies is approximately 6.3%.
Table 3. Days-to-Cover Ratio and Short Interest as % of Equity Float
Stocks with extremely high short interest should be approached with caution yet, not necessarily avoided at all cost. In many cases, short sellers can be wrong as their investment behavior may not be based on solid fundamentals but rather, on momentum and sentiment. Actually, many contrarians use short interest to predict stock price direction based on the idea that if everyone is a seller then the price has already reached (very) low levels and thus, the risk/reward ratio is attractive. In few words, short sentiment does not always reflect superior information about the true prospects of a company. Yet, high short interest in Under Armour clearly suggests market concerns about the growth and profitability expectations reflected in the stock price.
In addition, the fact that the Days-to-Coverage Ratio is close to 8 (5 for the S&P 1500) suggests that should positive news for the stock arrive, short sellers might face difficulties covering their positions at desired price levels. This factor, besides overall uncertainty regarding company fundamentals will play an important role in stock volatility in the future. Even a not-so-significant positive surprise in next quarter results, might result in a significant positive price reaction with short seller s rushing to cover their positions.
A Growth Story
There is no doubt that Under Armour was and remains an investment concept based on growth. As it is evident from the figure below, revenue growth over the last ten years has been more than double the average figures of the firms belonging to the S&P 1500 Textiles and Apparels Industry. However, over the last quarters it seems that the company faces difficulties in maintaining growth rates well above 20%. In terms of profitability, Under Armour does not seem to perform as it did in the past with both EBITDA and Earnings underperforming over the last quarters.
Figure 5. Sales Growth and Capital Efficiency
Evidently, the most significant weakness of the company lies in its ability to create positive cash flow a fact directly affecting the valuation of the company in the traditional DCF way. A large portion of cash is directed to capital expenditures and as a consequence the question is whether this investment effort is going to result in sustainable growth (and to what extend). As we can see in Table 4, Under Armour's Capital Expenditures to Sales ratio is considerably higher than its peers' figures. Needless to say, such a high investment ratio is required to maintain revenue growth rates close to 30%, more than double the growth of its peers.
Table 4. Sales Growth and Capital Expenditures
As it is evident from the figure that follows, Under Armour was and still appears to be overpriced in terms of all valuation metrics considered. More specifically, it turns out that price appreciation since 2009 was mainly driven by what is commonly called multiple expansion, the fact that investors are willing to pay more for each dollar of generated sales and profits. However, trend has reversed since mid-2015 and valuation metrics are converging to industry norms.
Figure 6. Valuation Metrics
In Table 5 we report basic valuation metrics for both reported and estimated sales, earnings and cash flows. In terms of the price to book value ratio, Under Armour is priced as its peer Nike with the rest of the competitors priced lower. The same holds for price relative to sales where based on estimated revenue, Under Armour appears "cheaper" than Nike. However, earnings tell a different story with Under Armour appearing to be rather expensive. The same holds if we account for growth with the PEG ratio around two. Again, cash flow appears to be weak as a result of capital expenditures and increases in net working capital required to support growth. Overall, Under Armour does not appear to be a "Growth at a Reasonable Price" investment opportunity.
Table 5. Valuation Metrics
Besides up-to-recently robust sales growth, Under Armour gross profit margin is in line with the industry norm. However, it seems that operational expenses are significantly higher than the average a fact reflected in EBITDA and Profit margins that underperform industry performance. One reason behind this fact is the company's high-profile deals along with higher marketing expenses to boost its brand image and as a consequence local and international sales. As of Q2-2016 there was also a $23-million impairment charge resulted from the Sports Authority bankruptcy. Selling, General, and Administrative Expenses rose 20% annually to $499 million in Q3-2016.
Figure 7. Profitability Measures
In Table 6 we report basic profitability measures for Under Armour against the peers considered in this article. Nike is the best performer in terms of profitability with Under Armour underperforming its U.S. peers. What is more, operational expenses over sales are five percentage points higher than Nike's, a company which is considered as similar. Should Under Armour find the way to reduce operational expenses to levels similar to Nike's the effect on cash flow and as a result, stock price will be significant.
Table 6. Profitability Measures
In terms of capital efficiency, it turns out that Under Armour underperforms the S&P 1500 Textile and Apparel Index by a significant margin.
Figure 8. Capital Efficiency Measures
More specifically, Under Armour returns are not even half Nike's and in general lower than all the peers considered for the reasons discussed in the "Profitability" section.
Table 7. Capital Efficiency Measures
Liquidity and Leverage
In terms of liquidity and leverage we note that over the last years Under Armour's fundamentals have converged to industry norms. The aggressive business expansion plan of the company has resulted in lower liquidity and higher leverage ratios, however without reaching alarming levels which could put the company under distress during an economic downturn.
Figure 9. Liquidity and Leverage Measures
Compared to its peers considered in this article, Under Armour appears to hold relatively high amount of debt without however raising any red flags if we consider the company on an isolated basis.
Table 8. Liquidity and Leverage Measures
Under Armour's stock price has experienced a significant price drop over the last year a fact which, after considering the company's growth potential might be considered as an opportunity from a contrarian's viewpoint. However, short-term momentum and technical indicators are very weak indicating that negative performance might continue just as the result of negative sentiment. In addition, increased uncertainty related to its future business performance drives required discount rates higher.
From a fundamental standpoint, future stock price performance will depend heavily on the realization of revenue-growth expectations as well as the improvement in company fundamentals and in particular cash flow. Significant capital expenditures should be reflected in robust revenue growth in the quarters ahead otherwise multiple contraction may continue resulting in lower stock prices. Besides the challenge of maintaining growth rates over 20%, company management has to deal with increasing operational expenses that drive profitability, cash flow and returns to investors, lower.
Overall, Under Armour does not appear to be a "Growth at a Reasonable Price" investment opportunity since valuation metrics, even after accounting for optimistic analyst estimates, are far from a margin-of-safety area. Under Armour is a solid company yet, the significant uncertainty about its future performance along with the current investment sentiment and valuation metrics do not paint an attractive risk/reward picture.
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