Red-hot athletic apparel company Lululmeon (NASDAQ:LULU) reported strong third-quarter numbers on Thursday, Dec. 6, but investors weren’t satisfied. In response to what was yet another double-beat-and-raise quarter, LULU stock dropped more than 5%.
Why the surprise weakness in LULU stock? Although it was a double-beat-and-raise quarter, the “raise” part was entirely driven by strong third-quarter results. The revenue and earnings guides for the fourth quarter were simply in line with expectations, while the comparable sales guide called for a rapid deceleration in comps to ~10%, from ~20% in the prior three quarters.
Broadly speaking, Lululemon is a richly valued stock. Richly valued stocks need to hit all marks on earnings reports to go higher. LULU missed a few marks in its Q3 report. Namely, the company didn’t have a good enough holiday quarter guide. As such, concerns regarding slowing growth are still lingering, and even building now. As those concerns are building, LULU stock is falling.
But, this post-earnings drift is an opportunity to buy the dip for long-term oriented investors. In the big picture, LULU is in the early stages of a massive transformation from women-focused yoga apparel retailer, to global athletic apparel retailer with multi-gender and multi-product appeal.
Strong third-quarter numbers affirm that this transition still has a ton of momentum. So long as this momentum persists, the long-term trend for LULU stock will be up, up and away.
Why Lululemon Stock Dropped
For the casual observer, the post-earnings drop in Lululemon stock may seem a little odd. After all, Lululemon beat on third-quarter earnings. They also beat on third-quarter revenues and comparable sales, and raised full-year 2018 revenue, comparable sales and earnings guidance.
But, all that good news was overshadowed by what the Street viewed as a weak holiday quarter guide. While the full-year 2018 guide got a big lift, the big lift was entirely powered by strong third-quarter results. The fourth-quarter guide came in largely as expected. The Q4 revenue and earnings-per-share guides matched consensus expectations. More importantly, the fourth-quarter guide called for a huge slowdown in all important comparable sales growth. Comps are expected to be up just ~10% in Q4. They’ve been up around ~20% over the prior three quarters.
As such, LULU stock dropped after strong Q3 earnings earnings because the fourth-quarter guide left investors wanting more. Importantly, the fourth-quarter guide let slowing growth concerns linger.
Indeed, those concerns are building now. Due to a flattening yield curve from the threat of bigger tariffs and higher rates, many investors are expecting a material economic slowdown in 2019. Heading into the Q3 report, there were price point concerns regarding the resiliency of Lululemon during an economic slowdown (Lululemon clothes aren’t cheap). Those concerns are now building that the Q4 guide calls for comparable sales growth to essentially half in the fourth quarter.
All together, Lululmeon’s third-quarter report was strong. But, the fourth-quarter guide was not. Thus, LULU stock dropped after Q3 earnings.
Why It Should Bounce Back
LULU stock is dropping big because of a weak fourth quarter guide. But, Lululemon management has a reputation for guiding conservatively. That is why Lululemon has topped both revenue and earnings estimates in every quarter throughout calendar 2018 and calendar 2017.
Given the brand’s exceptional momentum (nearly 20% comparable sales growth in each of the past three quarters) and the strong U.S. consumer (despite broader market turbulence, the job market remains strong and consumer confidence remains high), it seems exceptionally likely that this trend of topping expectations will persist through the holiday quarter.
Thus, LULU stock is dropping today because of a weak Q4 projection. But, LULU stock will rise over the next several months because actual Q4 numbers will come in way above expectations, as they always do.
That’s the first reason to buy LULU stock. The stock is positioned favorably for a nice pop on what will be strong Q4 numbers in a few months.
The second reason to buy LULU stock on the dip is because the long-term bull thesis is very compelling. For all intents and purposes, this company has all the necessary ingredients to become the next Nike (NYSE:NKE). Lululemon has an exceptionally loyal and rapidly growing customer base.
Brand value is high. Product quality is high. Consumers are willing to pay a premium for the product. Importantly, the company is growing beyond yoga apparel and branching out into other athletic apparel products, even shoes. Of equal importance, the brand is rapidly growing relevance in the Men’s department, and expanding internationally with great pace.
Overall, this company has all the ingredients to become the next Nike. Do I think that will happen? No. But, I do think that this company’s winning Nike-like attributes will continue to power healthy revenue and earnings growth over the next several years, the sum of which warrant the stock’s premium valuation and will ultimately keep LULU stock on a winning trajectory.
Bottom Line on LULU Stock
LULU stock is a long-term winner going through a rough patch due to broader economic concerns and slowing growth concerns at Lululemon. Those concerns are overstated in the big picture, and this post-earnings drop is nothing more than a buying opportunity for long-term investors.
As of this writing, Luke Lango was long LULU and NKE.
