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Under Armour: Good Opportunity Of Value Trap?

|Includes: UA, Under Armour, Inc. (UAA)

With retailers finishing giving their quarterly results, we could see that there is a certain weakness developing in the sports apparel business. With the bankruptcy of Sports Authority, the weakness in sales at Dick's Sporting Goods (NYSE: DKS) and at Foot Locker (NYSE: FL), investors are becoming scared of this sector. Dominated by Nike (NYSE: NKE) and Adidas (OTC: OTCQX:ADDYY), the sector had a good growth story in the last few years with Under Armour (NYSE: UAA, UA) but the stock is getting hurt in the last year in a half with price war with Nike and slower growth from the company, especially in the footwear category. We will look under the numbers and the story to see if the company is on a good track or if it should be avoided.

Under Armour was founded in 1996 by ex-Maryland University football player Kevin Plank, who is still the CEO to this day. He created a football jersey that kept the player dry even after huge effort. The company did its IPO in November 2005 and since then, the stock have gone up 518.50% because of a huge increase in sales and earnings. Also, they created a new class of stock in 2016, the C class stock giving no voting rights in the company to be sure that CEO Kevin Plank keep most the votes by the way of his B class stock with 10 votes each. In the last few years, Under Armour have gone to the connected fitness business with the purchase of MyFitnessPal and have tried an international expansion with the signings of some soccer teams for sponsorships like Aston Villa, Southampton and Tottenham Hotspur. Some of the big names athletes signed by the company include Montreal Canadians goalkeeper Carey Price, boxing world champions Saul Alvarez and Anthony Joshua, NFL quarterbacks Tom Brady and Cam Newton, Washington Nationals star Bryce Harper, WWE wrestler and movie star Dwayne ''The Rock'' Johnson and NBA MVP Stephen Curry. They also, last year, signed a contract, starting in 2020, with the Major Baseball League to be the official supplier of athletic outfit for the whole league. They also signed sponsorships with many universities in the NCAA, including Notre Dame and UCLA. But since the last, the stock plunged 49% on sluggish sales and slowing of the growth in the company as shown in the chart below.

Source: Morningstar

Let's look at how the numbers stack up.

Year

2007

2008

2009

2010

2011

2012

2013

2014

2015

2016

Revenue (in millions $)

607

725

856

1064

1473

1835

2332

3084

3963

4825

EPS per share

0.13

0.10

0.12

0.17

0.23

0.3

0.38

0.47

0.53

0.45

Free Cash Flow

-49

30

99

20

-64

149

32

79

-343

-82

Source: Morningstar

As we can see, it isn't really a problem of growth that brought the huge drop in the price of Under Armour. The company still increased revenue by 21.75% in FY2016, which is impressive. The irregular free cash flow is typical from a growth company since they invest more in a year to chase new opportunities. But the drop in EPS per share, and therefore the net income of the company, gives us maybe a window into what happened in FY2016. If we look at net margin, we can see that Under Armour net margin dropped from 5.87% to 4.1% during 2016 and even dropped more during the first quarter of 2017 to 3.61%. Like told in the introduction, the sports apparel sector and the retail sector for those products is getting very difficult in the last few years with bankruptcies and a price war between the three biggest companies of the sector. Furthermore, Under Armour missed the price point for its new basketball shoe, the Curry 3, that sold less than expected. The increase in footwear year-on-year was only 2% and growth have slowed to an increase of 11 to 12% for 2017 according to management. Moody's have kept the debt of Under Armour to Baa2, the equivalent of BBB for S&P, but put a negative outlook on the debt because of macroeconomics issues in the US retail sector. 10% of sales from Under Armour comes from Dick's Sporting Good and when Dick's don't have a good quarter and inventory issues, it hurts Under Armour sales. Under Armour is trying to reduce that dependence by increasing their presence overseas, which is an enormous growth opportunity for them, and in the US by entering Kohl's store in FY2016.

In the end, we can see that Under Armour issues are part execution of their strategy in the basketball area and that management knows that, as they said in their Q1 earnings call, and will try to improve on this. Part of the issues that affect the company is due to a tough retail sector in the US and to a price war with Nike and Adidas. Since those things are cyclical in nature and Under Armour is looking at more diversification in this sector, it could help mitigate the drop in revenues growth. Also, Under Armour still has 89% of their sales in the US and growth in the international sector, especially if they can sign a big soccer club sponsorship contract like Real Madrid, will help fuel growth. Also, the MLB contract for all uniforms beginning in 2020 will give them another channel for growth. But due to its volatile price and the fact that it doesn't pay a dividend, this stock should be kept for the long term and investors should expect some decrease in the stock price on the short term while the issues are corrected. But Under Armour status as the third biggest sports apparel brand, increasingly being more a sports technology company and sponsorship of MLB and up and coming young stars gives them a good competitive advantage. But it is a buyer beware stock that could either gives big rewards or a cruel deception.

Disclosure: I am/we are long UAA.