Shareholders of Lululemon Athletica inc. (NASDAQ:LULU) have had the strength of their resolve tested this year. There have been big, near-vertical jumps to the upside and similarly near-vertical drop-offs in share price—all within the space of a few months.
Shares have been recovering since the decline in April that saw the price crater 20%.
I’m sure that after the hit, LULU has made its way back onto the radars of growth funds as fundamentally, LULU is a growth stock. The bears of course, will claim that the company is in a secular decline, but what I see is an attractive long in niche retailer that has a loyal, almost cult-like following.
Not Just Any Retailer
Retailing as a whole is still struggling, which makes the case for multiple expansion difficult to make. However, given the difference in business model to traditional big box retailers and the superior margins it should produce, LULU deserves to trade at a premium.
The direct-to-consumer model allows LULU more control over distribution, pricing, and therefore margins. The lack of a wholesale business also gives LULU the ability to maintain the end customer relationship better than pure distributors or pure wholesalers.
The brand and reputation has not suffered. I would attribute the revenue slow-down to supply chain causes rather than structural issues that affect the viability of the brand. LULU’s emphasis on lifestyle and fitness has built a following around its vision. This lends itself well to targeted marketing to amongst fitness gurus and female customers.
Pundits’ clamoring for the death of athleisure (in addition to retail at large) are simply mistaken. There will always been winners and losers in every trend, but this is right in LULU’s wheelhouse. LULU can garner direct feedback from its engaged customer base and ultimately produce a product that flies off the shelves. It’s one of the benefits of the vertically integrated model.
LULU’s Investments to Pay Off
LULU is not unaware of the erosion of brick and mortar so it has been diligently investing in ecommerce. I expect these investments to pay off in the second half of the year in the form of sales growth and improved operating margins. In addition to online, LULU has also launched the popular “buy online, pick up in store” initiative, which should boost digital sales.
LULU has also been actively restructuring Ivivva, which was a drag on comparable sales growth in the first quarter. Turning it around involves closing 40 of 55 stores and converting a handful to Lululemon stores. When management can quickly admit to mistakes, recognizing that something isn’t working, it’s a positive sign in my mind.
LULU in China
Across the Pacific lies another one of LULU’s advantages over U.S. focused peers. LULU has geographic diversity between Canada and the U.S. and is about to throw in the world’s largest consumer market. Results should start trickling in next quarter though perhaps not materially until next year.
I have my eye on gains on Alibaba Group Holding Ltd’s (NYSE:BABA) Tmall platform. If this takes off—and there’s good reason to believe it will with a wealthier, ever health conscious Chinese middle class—China could be a major driver for future earnings growth. It would more than compensate for the domestic woes.
Overall, analyst estimates seem low for a high quality brand. Given the number of levers that LULU can pull from international growth to new products (like the Enlite bras), it seems likely that a surprise to the upside in the latter part of the year is in store.
As of this writing, Luce Emerson did not hold a position in any of the aforementioned securities.
