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Urban Outfitters, Inc. (URBN) Q4 Earnings Raise Some Red Flags

Margin pressure and flat sales led Q4 earnings to decline. URBN stock is up in Tuesday's aftermarket trade, but the pressure is mounting.

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Heading into the Urban Outfitters, Inc. (NASDAQ:URBN) fourth-quarter earnings report, there were two areas of focus for investors. Urban Outfitters already released Q4 sales figures in early February. Flat comparable-store sales for the period were below expectations, but URBN stock still gained modestly on the news. As such, trailing revenue wasn’t likely to be a major point of emphasis in the Urban Outfitters earnings report.

Rather, the focus was on margins, and on fiscal 2018 (ending January) guidance. And on both fronts, expectations were low. MKM Partners downgraded URBN stock on Feb. 27, specifically citing margin pressure at Anthropologie. Wunderlich cut its price target for URBN to $26 on Monday, projecting compressed margins from higher online sales. Goldman Sachs already had cut Urban Outfitters stock to “Sell” in early February, on concerns of overall retail weakness going forward.

Urban Outfitters earnings for Q4 appear to support those concerns — even though shares have risen modestly in after-hours trading.

The same pressures dogging the entire retail sector appear to have made their way to Urban Outfitters. That’s not pushing URBN stock lower in Tuesday after-market trading, but it could in the weeks ahead.

Urban Outfitters Earnings Show Margin Pressure

Many retailers have responded to the endless omnichannel threat driven by, Inc. (NASDAQ:AMZN) by building out e-commerce businesses of their own. But until recently, investors hadn’t quite understood the inherent problem with that strategy: It hurts profit margins.

Adding an e-commerce supply chain and other capabilities on top of an existing brick-and-mortar footprint simply adds more cost. And to compete with online-only rivals, retailers must cut price as well.

Urban Outfitters specifically cited that problem in its Q4 release. Gross profit margin for the fourth quarter was down 142 bps year-over-year. The issue, per URBN, was “primarily” delivery and supply chain costs. Those costs were elevated by increasing DTC (direct to consumer sales). For the quarter, flat comparables were driven by a double-digit increase in DTC revenue – offset by declining sales in-store.

The formula of ~flat revenue and increasing e-commerce share implies margin and profit pressure – and that’s exactly what happened to Urban Outfitters earnings. Net income declined 12% year-over-year in Q4, with EPS missing analyst estimates by a penny. And declining profits won’t support URBN stock, which still trades at nearly 14x EPS at after-hour prices. (To be fair, the multiple is closer to 12x including the company’s ~$3 per share in cash and securities.)

Sales and Profit Growth Questions Remain For URBN Stock

The problem coming out of the fourth-quarter release is that those margin pressures aren’t likely to abate. In fact, CEO Richard Hayne said in the Q4 release that Urban Outfitters would increase its focus on DTC sales. Store occupancy costs were flat as a percentage of sales in the fourth quarter. But further revenue weakness in store could add deleverage on that line as well — and further pressure Urban Outfitters earnings.

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