Expect Volatile Performance From Urban Outfitters

No-moat

Although we were encouraged by improved apparel performance, lower markdowns, and digital sales strength (up by double digits during the holiday season), we still believe that Urban Outfitters lacks an economic moat and that performance will be volatile, given product hits and misses and brick-and-mortar exposure. Further, we still see distribution channel mix shifts and deleverage offsetting potential margin enhancement from merchandise margin improvements. Therefore, we see little change to our long-term estimate calling for low-single-digit average annual sales growth over the next five years and adjusted operating margin range-bound in the 7%-8% range. As our fiscal 2018 forecast overestimated market weakness (we are currently modeling a 1% consolidated retail segment decline in the fourth quarter), and to incorporate the impact of tax reform, we expect to increase our $27.50 fair value estimate by $2-$3. That said, shares are trading north of these levels, and we would continue waiting for a more attractive risk/reward proposition.

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