Lance Armstrong Ruins Dick’s Sporting Goods’ Fourth Quarter

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Monday morning, sporting goods retailer Dick’s Sporting Goods (NYSE: DKS) announced results for its fourth quarter. Revenue fell short of consensus expectations, growing 12% year-over-year to $1.8 billion, even though the firm had an extra selling week. Earnings per share fell well short of expectations, growing 17% year-over-year to $1.03 per share, even though the company had $0.03 added by the extra week of retailing.

Dick’s Sporting Goods had been on a roll throughout most of 2011 and 2012, but same-store sales growth totaled just 1.2% year-over-year growth during the fourth quarter. Same-store sales at Dick’s Sporting Goods locations actually dipped 2.2%, though Golf Galaxy’s same-store sales increased 1.3%, and e-commerce sales soared 54%.

Management identified hunting as a strong driver during the quarter, even though supplies of ammo were constrained. Athletic apparel and footwear were also strong, with basketball shoes and cleats performing well. Unfortunately for the company, this strength was offset by a warm winter December in which the company chose to draw down inventories.

However, because the firm decided to clear inventory, it did not have ample product for when the weather got cold and snowfall accelerated in January. Further, fitness sales were weak, which the firm blamed mostly on Lance Armstrong and his decision to come clean about his doping. Management specifically stated:

“…the Livestrong brand is a little bit more than 50% of our treadmill and elliptical business. And unfortunately, when the news came out about Lance and the issues that he had and that being confirmed, people had a very negative reaction to the Livestrong brand, unfortunately. Even though with Lance ... he's no longer with the foundation, the foundation does great work, the customers had a very negative reaction to the Livestrong brand. And the business with Livestrong treadmills and ellipticals, which, as I said, were over 50% of our business, just stopped.”

When the news was released, the market wondered whether it would be Nike (NYSE: NKE) taking some blows to revenue. However, the LiveStrong apparel line is a tiny portion of the firm’s overall revenue mix, and the brand has done a wonderful job of absorbing any impact. Michael Jordan, Kobe Bryant, Michael Vick, Oscar Pistorious, and Tiger Woods have all had their fair share of private life debacles (some worse than others), but Nike has done a fantastic job simply dissociating from the athlete or ignoring it.

However, the treadmills aren’t co-branded like other products, and appear to be associated only with LiveStrong, which we at Valuentum think caused the product sales to suffer so much. Nevertheless, this isn't likely to persist long at Dick's Sporting Goods, nor do we think it will have any impact on Nike's top or bottom lines.

Nevertheless, we saw some nice gross margin expansion, with margins increasing 80 basis points year-over-year to 32.6%. This was partially offset by some SG&A growth, which increased 60 basis points to 20.8% of sales. Gross margin expansion could continue in 2013, but investment in the firm’s technology infrastructure will likely weigh on overall operating margins, which totaled 11.7% during the fourth quarter and 8.9% for the full-year.

Free cash flow was solid again in 2012, but up only marginally from the year prior at $220 million. We haven’t seen much free cash flow growth at the company over the last few years, but the company has been very generous in returning cash to shareholders via dividends, special dividends, and share repurchases.

Looking ahead, the firm is looking for same-store sales to increase 2%-3% in fiscal year 2013, driving earnings per share of $2.84-$2.86. Management suggested that $0.12 per share of earnings will be lost to the company’s focus on “growth initiatives,” though we do not see a reason the company would include such a figure into guidance. The capital investments for 2013, expected to be $299 million on a gross basis, may be elevated for only one year, but we have no real way of knowing such for sure, especially periodic increases in capital expenditures are simply a side effect of a fast growing retailer. Free cash flow is among the most important metrics driving Valuentum's valuation, and we think it will improve over time.

Regardless, we do not believe a huge sell-off in shares of the sporting goods giant was necessarily justified, but we also believe shares continue to look fairly valued at this time. Therefore, we won't be looking to add the name to any of Valuentum's actively managed portfolios.

RJ Towner has no position in any stocks mentioned. Valuentum has no position in any stocks mentioned above. The Motley Fool recommends Nike. The Motley Fool owns shares of Nike. 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. Is this post wrong? Click here. Think you can do better? Join us and write your own!

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