Down 30% This Year, Is It Time to Buy Lululemon Stock?

Investors in the retail/apparel sector are currently worried about supply chain shocks, inflation, and rising transportation costs impacting business health.

While this has negatively affected some companies, Lululemon Athletica (NASDAQ: LULU) has defied the odds and continues to put up great financial results. The rapidly growing athleisure brand is increasing market share among high-income female consumers and is executing nicely with expansions into shoes and other product categories.

However, given recent market volatility, the stock is down 29% year to date. With the company growing as fast as ever, is now the time to pick up some shares of Lululemon stock?

Image source: Getty Images.

Great first-quarter results

Lululemon released its first-quarter 2022 financial results on June 2. Overall revenue grew 32% year over year to $1.6 billion, with comparable-store sales up an impressive 24%, showing a strong recovery of in-person shopping from the COVID-19 pandemic.

One of Lululemon’s competitive advantages over smaller apparel brands is its large store base across major world cities. It opened five new stores in Q1 and now has a footprint of 579 stores around the world.

Operating income totaled $260 million in the quarter, up 34% year over year, with operating margins expanding slightly compared to 2021. Investors have to be happy that profit margins are holding up despite rising inflation and transportation costs, which typically have a negative impact on profitability for retailers.

Management is using these profits to return cash to shareholders with share repurchases, at a total cost of $232.6 million in the quarter. Share repurchases reduce a company’s share count and help increase free cash flow per share, the key driver of shareholder returns over the long haul.

For the full year, Lululemon expects to hit revenue in the range of $7.61 billion to $7.71 billion. If it hits the high end of this guidance range, that would equate to a three-year compound annual growth rate (CAGR) of 25%. Pandemic or not, athleisure is here to stay, and Lululemon is taking full advantage of the trend. 

Growth opportunities in shoes and other categories

Lululemon’s bread and butter is women’s leggings and the yoga category. But it has recently expanded into new product categories, including men’s workout items, which drove growth in the past few years. Over the next five years, it plans to expand its athleisure portfolio even further.

First, and perhaps most important, it recently launched a women’s running shoe called the Blissfeel. It is early days, but management said that so far demand for the product has far exceeded its initial sales forecast. The athletic footwear market is valued at over $100 billion in annual sales due to the premium prices consumers are willing to pay. It will be tough to gain market share from leaders like Nike and Adidas, but even if Lululemon can gain a sliver of the athletic shoe market, it can drive high levels of top-line growth. 

Second, Lululemon is expanding outside of general yoga/workout clothes into new niches like golf, tennis, and hiking. Again, like with footwear, it is unclear how much of Lululemon’s business will come from these niches a few years from now, but they can allow the brand to expand to more consumers across the world.

Third, Lululemon still has tons of room to grow awareness in multiple international markets. Most important of these are China and Europe, where the company has less than 10% unaided brand awareness. As the team increases marketing and opens up more stores in these regions, this metric should change in a more positive direction.

Ambitious five-year growth plan

At its recent analyst event, Lululemon management outlined its five-year growth plan. Expectations are for the business to double revenue by 2026, which will be achieved by doubling the men’s and e-commerce segments and quadrupling international revenue.

Investors will need to keep a close eye on these categories over the next few years. If Lululemon achieves its goal, it could generate $12.5 billion in revenue in 2026. Assuming operating margins stay flat at around 22%, this will equate to $2.75 billion in annual operating income in 2026.

So is the stock a buy?

With the recent drawdown, Lululemon now has a market cap of $35.5 billion. Assuming it reaches $2.75 billion in operating income in 2026, the stock trades at a forward price-to-operating income ratio of 13, well below the market average. This indicates that investors are heavily discounting Lululemon’s ability to achieve these financial hurdles. 

Apparel is a tough industry, with only a few companies like Nike able to sustain dominance. But with Lululemon’s strong brand, growing store base, and expansion into new product categories, the company looks poised to join this exclusive club. At a reasonable valuation, that makes the stock a buy right now

Brett Schafer has no position in any of the stocks mentioned. The Motley Fool has positions in and recommends Lululemon Athletica and Nike. The Motley Fool has a disclosure policy.

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