Lululemon Leaps Over a Low Bar, but Growth May Be Gone

Lululemon investors would like to forget about last year, but problems persist for the yoga specialist.

Mar 28, 2014 at 3:00PM

Yoga master lululemon athletica (NASDAQ:LULU) released fourth-quarter earnings yesterday morning. Followers used to eye-popping growth from the high-end exercise apparel vendor may have done a double take at the numbers. Lululemon's sales grew just 7% in the quarter, due in part to one less week in the calendar, while same-store sales dropped 2% on a constant dollar basis. That sluggish performance comes after revenues jumped 31% on a 10% increase in comps in the fourth quarter of 2012. 

Meeting low expectations
Despite the weak growth, shares were still trading higher the day of the report, climbing as much as 10%, but that was primarily due to lowered expectations. Its gross margin compressed by 300 points to 53.5%, offsetting the sales growth as earnings per share held flat at $0.75 per share. That still beat analyst estimates of $0.72. The top line was also ahead of the analysts' mark, coming in at $521 million against estimates of $515.1 million. 

Inventory problems have hobbled the company over the last year as a flaw in its trademark black luon pants earlier in the year carried over to more recent quarters, and the brand suffered other troubles including former CEO Christine Day's surprise resignation and founder Chip Wilson unseemly comments about women's bodies. But even though those problems are in the past, its once-stellar growth may be gone for good as its outlook was well below expectations. 

Source: Flickr.com.

For the current quarter, the retailer sees EPS of $0.31-$0.33, in line with its shortage-affected performance a year ago of $0.32, and well below estimates at $0.38. Revenue projections were also below estimates, and the company sees flat combined comps, which includes the faster-growing e-commerce channel. For the year, the company expects EPS of just $1.80-$1.90, down from $1.91 in 2013, and below estimates of $2.14.

It's surprising to see shares gaining in light of the weak guidance. Investors may believe the company is just being conservative as new CEO Laurent Potdevin said 2014 would be a year of "investment," or they may feel reassured about Lululemon's long-term prospects. Potdevin also said the company would accelerate global expansion, and it plans to open its first European store in London soon.

Foolish bottom line
Investors seemed to be excited by Potdevin's plans to aggressively accelerate expansion plans, but increased store expansion will weigh on margins if the company can't find a way to return to organic growth. I'd still expect strong performance from Lululemon's international openings, which it's been priming for years, but declining same-store sales seem like a concern for domestic expansion. In the past year, Lululemon grew its store count by 20.3%, leading to a 16% increase in revenue but just a 4% increase in operating income.

That margin compression may have been primarily a consequence of inventory problems, but its weak profit guidance indicates that lower profitability may be here to stay. I'd rather see Lululemon work to bring its profitability up to historical levels than increase sales through new store openings, which tend to be less profitable than mature stores. Keep an eye on gross margin levels going forward. If they continue to fall, that may be the strongest sign yet that Luluemon's heady days are over.

Growth stocks that won't disappoint
Lululemon once looked unstoppable, but last year's missteps have cost investors. If you want some growth stocks you can count on, follow Motley Fool co-founder David Gardner's lead. He's found stocks with returns like 926%, 2,239%, and 4,371%. In fact, just recently one of his favorite stocks became a 100-bagger, and he's ready to do it again. You can uncover his scientific approach to crushing the market and his carefully chosen six picks for ultimate growth instantly, because he's making this premium report free for you today. Click here now for access.

Jeremy Bowman has no position in any stocks mentioned. The Motley Fool recommends Lululemon Athletica. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.

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