The Fashion Retailer Defying the Odds

Brick-and-mortar stores are dying a slow death.

Apparel stores, once a staple of mall hangouts, are proverbial ghost towns.

Yet, Lululemon Athletica (LULU) manages to drop double-digit revenue growth year after year.

And they show no signs of slowing down.

Financial pros picked up on this stock after its Q3 earnings call delivered exactly what investors wanted to hear.

But with the stock approaching all-time highs, and a stretched valuation, is there still an opportunity to own the company that made yoga pants a thing?

Lululemon’s Business

Lululemon Athletica stands out as a formidable contender in the realm of athletic apparel. 

Founded in Vancouver, Canada, in 1998, the company carved out a niche with its technical apparel suited for yoga, running, training, and other sweat-inducing activities.

Today, its fitness lifestyle brand includes a broad range of athletic wear, apparel, accessories, and footwear,  serving both men and women.

Revenues are broken down by channel:

• Company-Owned Stores (54% of revenues)
• Direct to Consumer (42% of revenues)
• Other (4% of revenues)

Sales can also be broken down by region:

• U.S. (65% of revenues)
• Canada (13% of revenues)
• China (12% of revenues)
• Other (10% of revenues)

Management introduced its Power of Three x2 growth plan, focusing on product innovation, guest experience, and market expansion.

The strategy blends international expansion, digital and physical retail investment, and continuous product innovation across key categories, all of which they directly addressed in their Q3 2023 infographic:

Source: LULU Website

Financials

Source: Stock Analysis

While most clothing retailers are barely holding on, Lululemon is growing like a tech startup.

Revenues have yet to dip below 10% at any point in the last decade.

And their last numbers pushed upwards to 30%, some of their best growth ever.

At the same time, the company’s online expansion continues to improve margins, offsetting some inflationary pressures.

Nonetheless, the +14% free cash flow rate is one of the highest in the industry. And with practically no debt, all that cash gets plowed back into the business or used to repurchase shares, yielding roughly 2% annually.

Valuation

Source: Seeking Alpha

Lululemon’s growth makes it one of the most expensive apparel stocks on the market.

Discount retailers like TJ Maxx (TJX) and Ross Stores (ROST) trade at half the P/E and price-to-cash ratio of Lululemon, while traditional apparel companies like American Eagle Outfitters (AEO) and Abercrombie & Fitch (ANF) trade at anywhere from a quarter to a third the price of Lululemon using those same measures.

Growth

Source: Seeking Alpha

The difference in premium all boils down to growth.

Lululemon’s average revenue growth ranges from 25%-30%. TJ Maxx and Ross Stores are half that, while American Eagle and Abercrombie hover around 10% average annual growth.

While Lululemon’s EBIT and free cash flow growth, though excellent, aren’t at the top of this group, you need to remember that many of these retailers are coming back from the brink of bankruptcy.

Profitability

Source: Seeking Alpha

We were surprised to see Abercrombie put up better gross margins than Lululemon.

However, Abercrombie can’t translate that to bottom-line success the way Lululemon can.

It is worth noting that discount retailers delivered higher returns on equity this year. While that’s not a trend, it could imply a better outlook for retailers in 2024.

Our Opinion 6/10

Lululemon is a fabulous company with a well-laid-out strategic vision.

That’s also why the stock is expensive.

We only rated it a 6/10 because of the price.

If this were October, we’d be all over it at $400 a share.

For now, it’s one to put on your watchlist for a pullback.