Lululemon Is A Unique Play In The Sports Apparel Industry With A Bright Future Ahead

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About: Lululemon Athletica Inc. (LULU)
by: Nikolaos Sismanis
Summary

Lululemon has been delivering incredible numbers throughout the quarters.

Stock buybacks are driving the stock higher and show management's confidence at the current valuation.

I will be waiting for the upcoming quarter's results and am planning to initiate a position by fall.

I was not aware of how big the yoga market was until I enrolled in university almost two years ago. I knew that yoga was an upcoming trend back in Greece, but I was shocked when I discovered how popular it is in a more mature market like the UK.

Every time a lecture was about to begin, the always late, coming from yoga class girls would wear the same-logo yoga pants. I was not involved in the stock market back then, and therefore, could not recognize what I now know to be the Lululemon (LULU) logo. It's fascinating to me how many different colors these girls had, and still have, and how loyal they are to their brand.

(Photo from theformfitness)

The Lululemon brand has taken the world by storm. It was only a few weeks ago that I was in Bali. Bali, apart from its exotic locations, is famous as the perfect place for yoga and meditation enthusiasts. Again, I saw a considerable portion of the people practicing, enjoying their Lululemon apparel. What I found out was that people liked Lululemon clothes both for their well-designed clothing line and how good/comfy the materials felt while wearing them.

Anyone who does some research will find that the Lululemon brand is well-rooted and growing. I believe the company to be an excellent long-term growth opportunity, even though the stock has been running upwards for a while.

The company

Lululemon's vision for its stores is to create a community hub where people can learn and discuss the physical aspects of healthy living, mindfulness and living a life of possibility. This is indeed the case. The brand has a real cult behind it. Visiting a store, one will understand how much customers are passionate about the products of their favorite activity.

The company's first designs were made for women to wear during yoga. Through plenty of feedback from their customers, though, it now designs for yoga, running, cycling, training and most other sweaty pursuits for women and men.

Last quarter's results count 455 total company-operated stores, compared to 411 at the end of Q1-2018. Lululemon is growing at a rapid pace.

The numbers

Net revenue for the quarter was $782 million, up +20% from Q1-2018. Gross profit followed suit, netting $421.7 million, up+22%. By opening more stores, growing sales volume and ramping up production, Lululemon should be able to improve margins further. Indeed, last quarter's margins were 53.9%, up +80bps.

When it comes to Lululemon's revenue growth, few stocks can make such an excellent impression on investors. The company doesn't have a single trailing quarter less than its previous one for the past 12 years.

(Source: Macrotrends)

Moreover, due to the business model having high margins and the premium pricing Lululemon labels its products at, the company has pretty much always been profitable.

(Source: Macrotrends)

I am also glad that Lululemon has chosen buybacks as the primary way to return capital to shareholders. While I love stocks like Nike (NKE), being a foreign investor, I am often discouraged by the dividend withholding tax. So far, Lululemon has not mentioned any plans to distribute capital in the form of dividends, which makes me happy.

The share count for the quarter was 131.3 million, compared to 135.9 million in Q1 2018. During the first quarter of fiscal 2019, Lululemon repurchased 1.0 million shares for $163.5 million. I know that lots of investors like me appreciate the advantages of their stocks being repurchased. However, it must always be kept in mind that if a company repurchases shares at a high valuation, it damages shareholder value. Should the stock price decline and it takes a while to return to all-time highs, there is massive shareholder value lost due to the time value of money concept.

So far I am pleased with the aggressive buybacks, because management looks confident regarding the future and the company's profitability.

Consumer Spending

One research piece I read on Eventbrite claims that the average yoga fan spends $62,640 on yoga in a lifetime, $28,800 of which are spent on classes. At least for me it sounds too much, and I question the truthfulness of that claim. I can, however, say that I know lots of girls who spend like crazy when it comes to Lululemon's products. You can tell by the countless different colors they own. In any case, consumer spending in the yoga industry is increasing and is expected to hit more than $11.56 billion annually by 2020.

(Source: Statista)

Valuation

The top and bottom lines have both seen impressive growth. Investors who wish to get in the stock will have to pay a premium valuation. The stock is currently trading at ~48x earnings. Lululemon is not a value stock by any means; however, given its excellent track record of delivering the right numbers, I believe the valuation is fair. After all, historically, Lululemon has traded above ~30x earnings.

(Source: Macrotrends)

The stock is expected to report earnings next month, for which management has guided for revenue of $825-835 million and $0.86-0.88 of diluted EPS. With a forward P/E of ~33 and a stellar record of Lululemon's earnings growth, I believe the current valuation is at a fair level. Assuming the company maintains a multiple of around 45 times earnings, with an earnings growth rate of ~20%, I can see the stock hitting $200/share soon. However, any assumptions, in my opinion, are inaccurate, because the recent market volatility has proven predictions to be pointless. My optimism and bullish thesis revolve around management's excellent execution to penetrate a hard industry and also customers' obsession with the Lululemon brand.

Conclusion

Lululemon is a unique play in the sports apparel industry. Most companies find it hard to penetrate it, since brand behemoths like Nike and Adidas (OTCQX:ADDYY) dominate the space. The company has managed to establish a fantastic position from a branding standpoint with a truly loyal customer base. The yoga industry is on the rise, and Lululemon is expanding to other sports too, for both genders. I feel the valuation to be fair, considering its consistent growth in both the top and bottom line. I am anticipating the company's next earnings report with excitement, as I am planning to initiate a position by fall. Did I mention that I applied to my Uni's Yoga Society? Because I did.

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.