LULU - Lululemon

[ItsAValueTrap]

Out of curiosity... I don't really understand why people are shorting this stock.  Some of the forum members here are shorting it... can you provide some insight why?

 

Their sales growth and return on equity are simply astronomical.  I do not see ridiculous overvaluation here.

[ItsAValueTrap]

http://www.valueinvestorsclub.com/value2/Idea/ViewIdea/27795

Here is a VIC writeup (shorting LULU) when it was at $29.

 

Lululemon Athletica ("LULU" or "Lululemon") is priced for perfection at current levels (16x FYE 1/31/2012 EBIT, 24x EPS).  The market believes that current metrics and margins will apply through full penetration, which is increasingly unlikely given (i) new competitors in the yoga space and (ii) sustained gaps in US store productivity (due partly to (i) today's economic climate and (ii) the presence of new competitors).  The biggest risk here relates to timing and the stock's technicals (17% of float is sold short / 10 days to cover).  I think ~$20 (30%+ return) is a reasonable target price, as the market realizes that current metrics and margins are unsustainable and the equity is repriced.  I would not be surprised to see sizable insider selling after Q409 earnings (Advent International, a 7% shareholder, could sell their remaining stake given the stock's performance and valuation, and the fact that they are approaching a five year hold on this investment).

[Guest rimm_never_sleeps]

because it's ridiculously overpriced for what it is, a somewhat faddish retailer that will be subject to copycats. I don't short companies like this. but I totally see why you would if you are looking for overvalued stocks to hedge a long portfolio.

[ItsAValueTrap]

I think that brands and retailing concepts are very difficult to duplicate.

 

Brands like Louis Vitton are difficult to duplicate.  There are companies that make pretty good physical copies of their handbags (apparently they are almost indistinguishable now?)... LV still enjoys high margins.

 

Retailing concepts are easier to duplicate but... it rarely happens for whatever reason.  Sam's Club is pretty much a clone of Costco... Walmart's Sam's Club expansion in Canada pretty much failed and they shut down all the stores.  If commodity retailers were easier to duplicate, you would see more similarity in operating margins and return on capital.

 

2- In a more general sense, is a P/E of 47 fair if a company is growing fast enough?  It doesn't seem out of line to me.

[Palantir]

What I don't like about LULU is that they sell a freestanding product. By that I mean, once you buy a product, your interaction with the company ends. There's no support spending, no regular replacement or repeat buying, no network effects etc etc. Hence I don't think it deserves a huge premium. Had you caught it early in the growth phase when it was just catching on, then it would have been great.

 

This could still be a good pick if they sell more lines of desirable products. Which could happen, or not.

[Guest rimm_never_sleeps]

47 p/e? depends. how confident are you in being able to predict the fcf's 3, 5 and 10 years out? high p/e investing has rarely been a rewarding strategy over the long term. if I was going to do high p/e investing I would start with bullet proof franchises like vrsk, visa, mc, ecolab.

[benhacker]

ValueTrap,

 

In a more general sense, is a P/E of 47 fair if a company is growing fast enough?  It doesn't seem out of line to me.

 

When I look at companies I try to not separate two important metrics.  Earnings multiple (which is high for LULU as you note) and also ROE (also very high).

 

47 times earnings could perhaps make sense.  But given that those earnings are built on a small asset / equity base (their current ROE is 35+%) it seems very very dear a price to pay.

 

But the reason these stocks are always so controversial is there are basically two ways to look at them:

 

1) LULU is special as evidenced by their crazy ROIC / ROE.  They will remain special and continue to grow very fast.  Their value is mostly in their moat / brand / management.  Current book value is meaningless and earnings will compound for a very long time.  There is rarely a price too high to pay for these kinds of businesses.

 

2) LULU is special today, but in the long run competition for stores that have cute clerks, fancy yoga pants, and various performance wear is *mostly* a commodity business.  The trajectory of LULU's ROE will decline to the 10-15% range very rapidly, and at a valuation of $10B for ~200 physical stores and a brand seems overdone.  This is a company that is trading for 25% of the value of Nike for instance.

 

I don't think anyone is alleging that LULU is a fraud, so this is a fairly simple case.

 

The question you need to answer is how long can this company maintain it's excess returns and amazing financials performance (sales / sq ft are amazing!!!!).  What trend does it look like for incremental returns as the competition emerges (does it drop from a 35% ROE to 12% overnight, etc).

 

What does a stock price at 14x book and 40+ PE say about what the market thinks about the above?  Is your estimate a lot higher or lower than that?

 

That's it.  Pretty simple (but not easy).

 

Ben

 

[kevin4u2]

What I don't like about LULU is that they sell a freestanding product. By that I mean, once you buy a product, your interaction with the company ends. There's no support spending, no regular replacement or repeat buying, no network effects etc etc. Hence I don't think it deserves a huge premium. Had you caught it early in the growth phase when it was just catching on, then it would have been great.

 

This could still be a good pick if they sell more lines of desirable products. Which could happen, or not.

 

Lulu is not a commodity product and I would take exception to your comment that after a purchase your interaction with the company ends.  I would spend some time at a store and talk to the women who shop there.  It's incredible, they are a huge brand and the moat is large.  Most people look at the 10Q or 10K and dismiss the company as a "yoga" clothing store.  Couldn't be further from the truth.  As I have said before, I don't know one person who wears their clothing for yoga.  Their market is as large as any popular clothing brand.

 

Now, I don't know their growth rate (nor do I own the common stock) but I would bet that return customers account for at least 75% of sales.  Lulu is definitely a brand that people want to be seen in.  The brand isn't as well known in the USA as it is here in Canada but give it some time and that will come.  That is why the stock sells at high multiples. 

[benhacker]

I would actually generally agree with Kevin's warnings.  This company has pretty loyal customers today.

 

I'm short a small amount as an FYI, but believe the company is truly excellent.  Just don't think it can sustain the returns / moat at such a high level as it grows.  My basis is around the current price.

 

Ben

[ItsAValueTrap]

I guess I was hoping for the short thesis to be more sophisticated or for there to be something else to the short thesis.  For example, maybe they have extremely aggressive accounting and therefore their profits, margins, and ROE are overstated. 

[Palantir]

Hmm......we need more female insight.

 

Frank what do your "sources" tell you?

[ubuy2wron]

Sorry but this companies moat is no wider than the founders swimming pool. (The founder who has been selling stock hand over fist,  purchased the house next door on Vancouvers most expensive street ,knocked down the house and built a swimming pool) I do very little shorting but I have been tempted with this name

[tengen]

Lululemon is the Apple of yoga pants

[beerbaron]

Lululemon is the Apple of yoga pants

 

Yes but Apple is valued at 12 times earnings!

 

BeerBaron

[Cardboard]

Probably more where this discussion belongs:

 

Listen to the conference call that just finished. This quality issue will be asked about for years! It seems that the Luon process is very complicated, hard to replicate. Depending on the shape of the woman, it will adjust differently and create more or less sheerness. It is their 4th quality issue this year, not just Luon. It probably just came out now because it was getting out of hand. I am quite shocked by the low level of quality assurance that they had in place considering that they knew about this difficulty. Sounds very amateurish to me. Gap with their Athleta stores and Nike will chew them alive.

 

Look also at all the commentaries on their website blog:

 

http://www.lululemon.com/community/blog/a-letter-to-our-guests/

 

Some of them are their "hard core" long term fans. They are clearly moving away from the brand. They loved the Vancouver hippy style, peace and love, grass root and social media junk. You would never, I mean never, see such comments a year or two ago on that blog. It was all congratulatory. The only negative comments came from people who said that they love the clothes, but could not afford the price tag.

 

The company has moved more commercial under Christine Day and her Starbucks experience. Last year they opened 21% more stores which was quite fast vs their historical more paced approach, but the guidance at the 3rd quarter conference call was for much fewer in this starting fiscal. Inventory per store has grown too under Day, so there is less of that scarcity factor that was present before. There is certainly a deviation from the original strategy. While it has worked wonderful for them to date, the slowdown in the U.S. growth in store count, then moving more to international expansion is perplexing. Maybe that they are moving away from the "hard core" fans who are a very special breed, but it is hard to imagine retaining such cult with regular customers who will compare pricing.

 

Reputation is key, some women have been asked to literally show their butts in store to prove sheering in order to get a refund! This is not like a plant where you can tightly control what comes out. Here you have a multitude of people in the stores dealing with the recall including students. I would also encourage you to look at their website and to count how many models on the pictures are dressed with the black pants. It is the major seller. A reputation is very important, especially when you are charging a big premium to your competitors who sell very comparable to identical goods.

 

Cardboard

[fareastwarriors]

Lululemon is the Apple of yoga pants

 

Yes but Apple is valued at 12 times earnings!

 

BeerBaron

 

How about the Salesforce of yoga pants?

 

;D

[ItsAValueTrap]

Hmm apparently some of Lulu's customers were complaining about quality issues back in 2010:

 

http://luluaddict.blogspot.ca/2010/09/lets-talk-about-quality.html

 

From reading the Lululemon Addict blog (basically a fan blog), I get the impression that:

- Lululemon has had quality control issues for a long time.  Pilling, poor construction, color bleed, sheerness.  This affects a small portion of their product.

- Customer service could be better. / The culture is to blame the customer.

- People still want Lululemon anyways.  (!)

- Atleta probably isn't going to kill them in yoga apparel because the clothes aren't as fashionable and cute.

 

Maybe it is helpful to look at Starbucks.  Its quality started slipping, but Starbucks did really really well anyways.  Maybe this is because Starbucks was far ahead many of its competitors.  On the other hand, the pressures from Wall Street pushed Starbucks into meeting Wall Street's expectations of hyper growth and expanding margins (which sometimes comes from cost cutting).  Also, Starbucks' quality went down when its founder was no longer the CEO; Schultz came back to turn Starbucks around.  So overall this leaves me skeptically optimistic about Lululemon.  I think that it will grow into a retail powerhouse... unless its current CEO screws it up.

[DCG]

I, for one, have no problem with see-through yoga pants.

[lessthaniv]

I, for one, have no problem with see-through yoga pants.

 

Have you ever been to a yoga class on January 2nd?

!!!

[BRK7]

I, for one, have no problem with see-through yoga pants.

 

Have you ever been to a yoga class on January 2nd?

!!!

 

Hilarious!

[benhacker]

I closed out my position today.  I think this was an interesting case.  LULU dropped 25% while the market rose maybe 40% from the start of this thread.

 

I still find LULU to be fundamentally overpriced, and also there is more uncertainty with the new leadership, but relatively speaking, I think it's not a super compelling short here given the many additional expensive names out there today.

 

Will be interesting to see what kind of #'s they are putting up 10 years from now and what the market is valuing them at.

 

Ben

[Chalk bag]

Gents, it might be time to revisit this name. Unless it royally screws up and is no longer competitive, LULU will never trade at 10x EPS and will forever remain in the limbo of growth and value -- upon which the EPS growth over time bails all investors out.

Any updated thoughts?

[ItsAValueTrap]

Under Chip Wilson and Christine Day, Lululemon's ROIC was something ridiculous (over 50%).  I think there may be some reversion to the mean with the new CEO.

[no_free_lunch]

Chalk bag,

 

It's worth looking at.  However, don't kid yourself that it can't go lower.  There is a risk of substantial additional downside.  I think with any specialty retailer there is that chance that fashion skips the company by.  Management is a major wild card right now so there's a second risk there.  On the positive side, here in Canada it still seems like a strong brand.  Their prices are very high and people just shell out for it.

 

Leaps might be a way to play it.

[ZenaidaMacroura]

What do you guys (and gals?) feel like the correct multiple should be?  I'm thinking a bit higher than 20 - a lot of established mature brands trade at that level and lulu seems to have some kick left.