lululemon athletica (LULU) shareholders are probably sweating about now. The share price dropped some 7% last week when the company admitted to accomplishing, earnings-wise, exactly what it said it would. It’s scary to think what actual bad news would have done. And despite creative theories on why there are still big gains ahead for these shares, lululemon continues to exhibit the more mundane characteristics of an overbought stock, as seen in a stock chart.
Few, however, want to talk about potential problems with lululemon’s shares now. (We’ll get to them below anyway.) The company’s management is widely respected for turning expensive yoga pants into a sought-after active wear brand with a loyal and growing following. The share price is still up some 743% in less than three years. When the latest earnings report missed some Wall Street forecasts (but hit or beat the company’s own), analysts at William Blair and UBS reiterated outperform recommendations. KeyBanc Capital changed its rating on lululemon from hold to buy.
Generally, these investors believe the strength of lululemon’s brand will fuel profit and share-price growth into the future. They point out that demand at some stores over the holidays exceeded inventory and overwhelmed the work force. They’re betting that small fixes like adding handheld check-out devices (like Apple store employees use), an additional distribution center and some new international stores will push up 2013 revenues and earnings some 25%. They note that lululemon stuff rarely goes on sale, and that has propped up the company’s profit margins when competitors like Nike (NKE) and Under Armour (UA) catered more to seasonal bargain hunters.
More old-timey investors believe lululemon’s great brand can’t overcome the natural course of events for young, hot shares; one where share price valuations decline following the very fast early growth of small companies. Lululemon isn’t little any more. It had $1 billion in revenues last year ($269.94 million in 2008), and a market cap of $9.6 billion. Same store sales growth is falling off rapidly, mainly because the stellar numbers of its past make pretty comparisons difficult. Even the highest estimates for sales growth this year don’t come close to the 50% gain in 2011 and the roughly 45% gain predicted for fiscal 2012 ending mid-Feb. Yet its PE ratio remains in the stratosphere.
Competitors like Nike, The Gap (GPS) and even Nordstrom (JWN) have added lines recently to directly compete for lululemon customers; another one of the bothersome but certain events as a company matures. Valuation and competition led Credit Suisse to cut its recommendation on the shares last week from buy to hold. Bank of America Merrill Lynch maintains a sell rating.
Still, most everyone agrees that lululemon is a great company. Whether it’s a great investment now is apparently up for debate.
Dee Gill, a senior contributing editor at YCharts, is a former foreign correspondent for AP-Dow Jones News in London, where she covered the U.K. equities market and economic indicators. She has written for The New York Times, The Wall Street Journal, The Economist and Time magazine. She can be reached at email@example.com.
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