Stock Plunge

Wall Street Sours on Lululemon’s Growth


Breaking: trends are trendy.

Case in point: Lululemon Athletica. The high-end yoga apparel retailer has enjoyed astronomic growth as the craze for stretching, striking poses, and uttering Hindi phrases has gone national. It’s hard to negotiate the streets of New York these days without being knocked in the head by a yoga mat strapped onto a backpack.

Its shares, as shown by the chart below, soared from the single digits in 2009 to a peak of $82 in June.

But trends can get taken too far. Companies get overconfident. Consumers are fickle. In fashion, as Heidi Klum says on Project Runway, “One day you’re in, the next day you’re out.” LuluLemon isn’t quite out. But it’s not quite as in as it used to be. The company has had a rough 2013, as Erin Cunningham documented in these pages last month. There were the see-through pants that had to be recalled, the resignation of its chief executive officer, and accusations that the company discriminated against plus-sized women because it doesn’t make clothing larger than size 12.

Thursday morning, Lululemon suffered another blow: disappointing third-quarter earnings that led the stock to fall more than six percent in early trading. Since June, the company has lost about 21 percent of its market capitalization. Its shares have assumed the dreaded “downward stock” pose.

The revelations in the earnings report are likely to be more damaging to Lululemon’s brand than the revealing pants or the executive turmoil. Fashion bloggers don’t pick up much on things like same-store sales and gross margins, but the numbers help explain why Lululemon has fallen out of fashion, at least as an investment.

Here are the fiscal 2013 second quarter. At first blush, the numbers look pretty good. Net revenue was up 22 percent year over year, and same-store sales (the preferred metric for retail analysts) were up a healthy eight percent. “Direct to consumer” revenue (online sales?) rose 39 percent from the year before, and now account for 14.3 percent of revenues. Income from operations were up 12.5 percent from the year before to $79 million. So, a profitable company with rising sales.

What’s not to like? Well, for companies that have rich stock-market valuations, it’s the rate of growth that matters. And Lulu is getting winded.

Until recently, Lululemon was putting up insane growth numbers. In the first quarter of 2012, same store sales were up a stunning 25 percent from the year before. In the second fiscal quarter of 2012 they were up 15 percent. In the third fiscal quarter of 2012 they were up 18 percent from the year before. But growth has cooled. In the fourth fiscal quarter of 2012, they were up 10 percent. In the first fiscal quarter of 2013, they rose just seven percent. In its announcement today, Lululemon said it expected same-store sales in the fiscal third quarter would have an “increase in the mid-single digits on a constant-dollar basis.” In other words, we’re talking same-store sales growth of 4-6 percent. That’s a huge comedown from recent rates. And the projected earnings per share for the third quarter – 39 cents a share – are exactly the same as the second quarter.

The company also has a problem with margins, or how much of every dollar in sales it is able to keep as profits. In the third fiscal quarter of 2011, income from operations as a percentage of net revenue was 25.9 percent. In the third fiscal quarter of 2012, income from operations as a percentage of net revenue was 25.5 percent. In the most recent quarter, income from operations as a percentage of net revenue was 22.9 percent. Translation: compared with two years ago, the typical sale at Lululemon yields about 11 percent less profit.

Look, by most measures, Lululemon is still a hot company. It sells a lot of goods, and its sales volume is rising. The company continues to open new stores: there were 226 stores in Canada and North America at the end of the most recent quarter, compared with 2012 at the end of last October. The company is solidly profitable. In an era in which discretionary spending is pinched, most retailers would kill to have this kind of growth.

But exercise and fashion trends are trendy. And so are stocks. Investors are souring on Lululemon simply because the rate of its growth is declining, and because they worry that the market for people willing to pay $120 for a pair of flimsy pants may be reaching something close to a saturation point. When you have a large base, it gets harder and harder to get meaningful growth. Especially if your products are expensive at a time when the wages of the typical American aren’t rising much. And that sudden skepticism has translated into a loss of about $2.7 billion in market capitalization over the past few months.

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