Lululemon Earnings: Strong Momentum Leading Into a Competitive Holiday Period

Key Morningstar Metrics for Lululemon Athletica

• Fair Value Estimate: $267.00
• Morningstar Rating: 1 star
• Morningstar Economic Moat Rating: Narrow
• Morningstar Uncertainty Rating: High

What We Thought of Lululemon Athletica’s Earnings

As has been typical, Lululemon Athletica’s LULU third-quarter sales and earnings exceeded its guidance and our expectations. These results bode well for a good finish to the year, despite concerns about slowing consumer spending on apparel and a promotional holiday period across the industry. We expect to lift our fair value estimate of $267 per share by a mid-single-digit percentage. However, we view the stock as overvalued (it’s trading at more than 35 times its expected 2023 EPS), based on our 10-year discounted cash flow model and the threat of ever-increasing competition in athleisure.

Lululemon’s 19% sales growth in the quarter eclipsed our 18% forecast. By channel, e-commerce sales (41% of total) beat our 17% estimate with 18% sales growth, while 19% growth in store sales (49% of total) was shy of our 21% forecast. Looking ahead, the company noted significant industry discounting in the early part of the holiday shopping season and suggested it may invest in traditional advertising, which is unusual for the firm.

Lululemon guided to high-single-digit-percentage sales growth in North America in the fourth quarter—a slowdown from the recent pace but in line with our expectation for moderating growth in the region. Overall, although its fourth-quarter sales growth guidance of 13%-14% is slightly below our 14.5% estimate, the firm has a history of conservative guidance, so we view the difference as insignificant.

Lululemon’s adjusted gross and adjusted operating margins of 58.1% and 19.8% were, respectively, up 220 and 80 basis points over last year and 50 and 110 basis points above our estimates. Like others in the apparel industry, the firm’s gross margin benefited from lower transportation costs. While this should boost its fourth-quarter gross margin as well, higher planned marketing spending will partially offset this benefit. In the long run, we think Lululemon can maintain annual 58% gross margins and build its operating margins to 25%-26% from the present 22%-23%.