Should You be Buying These High P/E Consumer Stocks?

Sandeep is a member of The Motley Fool Blog Network -- entries represent the personal opinion of the blogger and are not formally edited.

The shares of some high multiple consumer stocks including Chipotle Mexican Grill (NYSE: CMG), Lululemon Athletica (NASDAQ: LULU) and Under Armour (NYSE: UA) have been under pressure lately. The shares of Chipotle Mexican Grill have seen a 20% downfall in a month after David Einhorn presented a bearish case highlighting the competitive threat posed by Taco Bell. Sports clothing and accessories company, Under Armour, recently announced good Q3 results with EPS of $0.54 beating the consensus estimates of $0.52, yet the stock is down 10% as downward revision to 2013 expectations didn’t go well with the investors. The shares of Lululemon are also down over 6% on the Under Armour outlook. Although these companies have a huge growth potential, the expectations seem to be even higher. Thus, there is a little margin for error.

Despite the recent correction, I don’t think investors should be chasing Chipotle as the company is still trading at a forward P/E of 24.2 which seems unjustified for a company that is losing market share in its particular category and is expected to post flat to low single digit same store sales growth in 2013. Lululemon has attained a leading position in the core yoga market and enjoys strong brand loyalty. However I would prefer to remain on the sidelines as the stock is facing some near-term pressures. Management had already indicated that October sales may fall off and Credit Suisse analyst Christian Buss further pointed out that Lululemon’s new casual lines are not gaining consumer traction and the company is offering more discounts due to weaker than expected demand. 

However, I love Under Armour despite its high P/E and believe that it has multiple growth opportunities going forward, including an expansion of its core apparel line through innovation (i.e. Charged Cotton, Cold Black), category expansion (particularly footwear), women’s business, direct-to-consumer and, longer-term, international. I think the recent pullback provides a good opportunity to own a name which is expected to see 20%+ top-line growth for the next several years and has a very little exposure to Europe (international equals ~6% of sales).

Under Armour continues to benefit from strong domestic consumer demand for athletic apparel (apparel sales up 22.4% in Q3) and the company is capitalizing on this with new product innovation, including Charged Cotton, Storm Fleece and Cold Black. Moreover, Morgan Stanley’s AlphaWise suggests that there are strong intentions to increase spending in performance apparel next year and Under Armour is the brand where the purchase intent increased the most in apparel. Thus, the Initial 2013 sales guidance looks appropriately conservative and I expect gradual increases to guidance as the year unfolds.

I think there is a long road ahead for Under Armour to make significant inroads in the very competitive footwear business where Nike (NYSE: NKE) is the unquestioned leader in innovation. In my opinion, though footwear remains a relatively small business, it is a significant long-term growth opportunity. Under Armour has improved its footwear platform with new technologies, such as Charge RC, Micro G and Spine, and these product introductions seem to have been well received although distribution so far has been limited.

From a valuation standpoint, no doubt Under Armour looks expensive on a forward P/E basis (trading at 34x forward earnings). However, the company has a high expected growth rate to support its multiple. Let’s compare Under Armour’s growth adjusted valuation multiple (PEG ratio) with respect to Nike and Adidas.

<table> <tbody> <tr> <td> <p>Company</p> </td> <td> <p>Nike</p> </td> <td> <p>Adidas</p> </td> <td> <p>Under Armour</p> </td> </tr> <tr> <td> <p>PEG Ratio</p> </td> <td> <p>2.18</p> </td> <td> <p>2.77</p> </td> <td> <p>1.88</p> </td> </tr> </tbody> </table>

From the above table, we can see that Under Armour looks undervalued with respect to both Nike and Adidas. Thus, the stock is not that expensive after all. Given multiple long term growth drivers and a potential upside to the 2013 sales guidance, I think investors should consider buying this stock on the recent pullback.

sandeep2gupta has no positions in the stocks mentioned above. The Motley Fool owns shares of Chipotle Mexican Grill, Nike, and Under Armour. Motley Fool newsletter services recommend Chipotle Mexican Grill, Lululemon Athletica, Nike, and Under Armour. 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.

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