Lulu Stretching for Growth
Peter is a member of The Motley Fool Blog Network -- entries represent the personal opinion of the blogger and are not formally edited.
Yoga-wear fashion darling Lululemon (NASDAQ: LULU) has been one of the great growth stories of the past 3 years, outperforming even the mighty Apple (NASDAQ: AAPL) since the market bottom in early 2009. Lululemon is up more than 800% since then and that is including the recent 20% haircut the stock has taken since peaking in early May. Half of that loss occurred after they reported their latest set of financials. While Lululemon’s bottom line beat Wall St. estimates it did so through a huge expansion of inventory, reporting $0.32 per share in net earnings or $46.6 million. Back out the rise in inventory, however, and that number drops to $13.3 million.
Trading at a multiple north of 60 in a fragile market is a precarious place to be, just ask Baidu (NASDAQ: BIDU) who also reported strong earnings growth in May but lowered their future guidance has resulted in a 20% retrenchment in the price of the stock, which is currently trading at a P/E of 36.4. At the first sign of trouble, the momentum players book profits, the shorts press their advantage and bloom comes off the rose very quickly.
For Lululemon, however, their growth story is predicated by the deliberate pace of their expansion using word of mouth marketing on the ground in new markets. This bottom up approach may prove too timid for Wall St. in the near term. With their latest guidance and the stock trading in the mid 60’s that would imply trading at a multiple of 40 by the next of FY 2012.
E-tailing Their Tails Off
One major bright spot in the earnings report was the growth of their on-line business and use of social media to build and protect brand equity. Year over year online sales nearly tripled from $13.8 million to $38.4 million. This, however, only represents 13.4% of net revenue. It is through this channel that they will have to internationalize their brand. While they mentioned international expansion positively in their earnings call, a quick e-mail to investor relations yielded the following answer:
Our company’s current business focus is expansion in North America, and we have no plans in the near future to develop the brand internationally. However, I will keep your information on file if we intend to move forward with international expansion in the future.
Stretching the Limits of North America
When I reviewed Lululemon last month there was noise about moving into Asia, with showrooms opening in Hong Kong and Shanghai. This is absolutely essential to continue valuing Lululemon as a growth stock. The earnings call highlighted the seasonality of their revenue which means that their initial target markets are either saturated (Canada with 49 stores) or maturing (U.S. with 112). Without a strong push into Asia it would seem the stock will lack the impetus to punish those millions of shares currently short which have piled on as the stock pushed into bubble territory.
Per the latest data more than 10% of Lululemon’s float is sold short. So, while this is usually a bullish sign for a stock, it also needs to be accompanied with a compelling reason for the bulls to attack that short position with any conviction.
Their brand image is extremely important to them and they believe very strongly in ensuring that the integrity of the company’s ethical image is important to maintaining their revenue potential. As they can easily have their margins ground down by The Gap’s (NYSE: GPS) Athleta brand on any news of fainting Cambodian girls in one of their factories. While I applaud that sensibility as a means for protecting their premium image as a company one wants to invite into their community at the same time there has to be a credible plan to actually bring that brand to the communities where the highest potential revenue is, namely Southeast Asia.
Until then today’s earnings report may be a signal for investors to start considering Lululemon less as a growth stock and more as a value stock. Is there value at a multiple of 50?
PeterPham8 has no positions in the stocks mentioned above. The Motley Fool owns shares of Apple and Baidu. Motley Fool newsletter services recommend Apple and Baidu. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.If you have questions about this post or the Fool’s blog network, click here for information.