Be fearful when others are greedy and greedy when others are fearful. That quote seems especially appropriate for this piece on Under Armour (NYSE:UAA) stock. A few weeks ago, everyone was bullish on the shares of the athletic apparel company.
Under Armour was coming off a strong earnings beat, analysts were upgrading the shares, and Under Armour stock was flying high near $25. But during that stretch, I warned time and time again that the enthusiasm surrounding Under Armour stock was both overstated and unsustainable.
Fast forward a few weeks. Everyone is bearish on UA stock. The company is coming off a disappointing Investor Day, analysts are downgrading the stock, and UAA has dropped nearly 30% to $18.
Now I think it’s time to buy the dip in Under Armour stock.
The reality is that UAA’s top line is increasing slowly, but it has strong margin expansion potential and long-term staying power in an athletic apparel industry that has stable, continuous drivers. Cumulatively, that means that UAA is a good company, but not a great one. At $25, Under Armour stock had the valuation of a great company. At $18, its valuation indicates that the underlying company is neither good nor great.
Thus, the time to sell Under Armour stock was a few weeks ago. Now is the time to buy UA stock . I wouldn’t be surprised to see UA stock rally back to $20 very soon.
The Under Armour Story Is Good Enough
If anything was obvious from the company’s Investor Day, it is that Under Armour’s outlook isn’t great.
The company’s North America business, which went from red-hot to ice-cold over the past few years, isn’t expected to get red-hot again anytime soon. Instead, it’s expected to expand by low-single-digit percentage levels into 2023, indicating that UAA will generate sector-average growth and maintain its current market share.
Meanwhile, analysts predict that UAA’s international growth will cool. Growth in Europe, the Middle East and Africa is expected to slow from the mid-20s percentage levels to a high single-digit percentage rate by 2023. The company’s growth in the Asia-Pacific region is expected to slow from the mid-30s to the mid-20s during that stretch. The implication of this data is that the company’s international business is following in the footsteps of its North America business and will consistently slow over the next several years.
Broadly speaking, the company’s outlook isn’t great. But it’s good enough.
Under Armour’s revenue growth rates are expected to improve to the low-double-digit percentage range by 2023, and its margins are expected to march higher. The company’s bottom line is expected to increase around 40% annually over the next five years.
Overall, Under Armour’s story is good, but not great. Its revenue growth is expected to improve, but not roar higher. Analysts predict that its North American business will stabilize, but not rebound tremendously. UAA’s international business is expected to keep growing, but at a slowing rate. Analysts predict that its margins will rebound, but fail to reclaim previous highs. Its profits are expected to explode higher, but from their currently depressed base.
The Valuation of Under Armour Stock Is Attractive
Greatness was priced into Under Armour stock at $25. A good, but not great, outlook is priced into UAA stock at around $20. At UAA’s current level of about $18, neither good nor great is priced into the shares, and that’s why this dip looks attractive.
Under Armour’s five-year targets look very reasonable. Management predicts that the company’s revenue will rise by mid-to-high-single-digits annually, while the company’s gross margin will increase to 48%, and its EPS will surge by an annualized average of 40%. Most of those targets are achievable.
Over the past several quarters, the company’s top line has grown in the mid-single-digit range. Over the next several years, slowing international growth should be offset by stabilized North America growth. Thus, today’s mid-single-digit revenue growth rate is here to stay.
Meanwhile, margins should track significantly higher. Gross margins peaked above 48%, but UAA won’t get back to those peaks because of its higher direct-to-consumer sales and its launch of less lucrative distribution channels.
But Under Armour’s gross margins can come in just below the previous peak as its North American business stabilizes. Meanwhile, stable revenue growth should drive the company’s opex leverage, pushing its operating margins up to 10%-11% by 2023.
As a result, it seems reasonable to believe that the company’s EPS can reach $1.15 by 2023. From 2018’s projected base of 22 cents, that represents a five-year compounded annual growth rate of ~39%, just shy of management’s 40% mark.
Nonetheless, that outlook makes Under Armour stock attractive at these levels. Based on Nike’s (NYSE:NKE) average forward price-earnings multiple of 25 and EPS of $1.15, the 2022 price target for Under Armour stock is just under $29. Discounted back by 10% per year, we get a 2018 price target of just under $20.
So Under Armour stock seems reasonably undervalued after the recent selloff.
The Bottom Line on UAA
The time to sell UA stock was back when it was at $25. Now, it’s time to buy UAA, as the stock is undervalued given reasonable, conservative long-term growth assumptions.
As of this writing, Luke Lango was long UAA and NKE.