The big story in retail this quarter, so far, has been inventories.
Inventories rising to keep ahead of supply chain snarls. Inventories outrunning revenue growth, foreshadowing discounts and shrinking profit margins to come. Inventories absorbing rivers of cash flow and pushing retailers such as Target (TGT 1.28%) and Walmart (WMT -0.65%) into the red.
But none of that is athletic apparel retailer Lululemon Athletica's (LULU 0.77%) problem.
Image source: Getty Images.
In one respect, Lululemon Athletica's fiscal 2023 first-quarter earnings report (for the quarter ending May 1), released late last week, did resemble the reports filed by larger retailers. Its inventories surged in the quarter -- up a mind-boggling 74% year over year, an even bigger jump than Target's 43% rise in inventories, or Walmart's 32%. That investment in inventory turned Lululemon's free cash flow negative in the quarter -- just as their inventory outlays did for Target and Walmart.
You'd probably expect that to result in bad news for Lululemon's profits, too, as it was for Target and Walmart -- but you'd be wrong.
Inventories rose -- and profits did too
In fact, while Lululemon's inventories grew rapidly -- outrunning revenue growth of 32% by a factor of more than two -- on balance, the retailer had a pretty fantastic quarter. Sales of $1.6 billion topped analysts' consensus targets, as did profits per diluted share of $1.48. (And those profits were up 33% year over year.) Though its gross profit margin shrank by 320 basis points (due to "supply chain disruptions and inflationary pressures"), Lululemon managed to expand its operating profit margin by 30 basis points to 16.1%.
And despite the rather alarming growth in inventories, Lululemon management reassured investors that its inventories are not bloated, but rather "well positioned to support its expected revenue growth in the second quarter."
Far from warning investors about plans to discount goods and liquidate excess inventory, as other retailers have done, Lululemon predicted that its revenue will continue growing in Q2 -- up about 26% to $1.75 billion or better -- with profits per share in the range of $1.89 to $1.94. (That entire range, by the way, is ahead of analysts' consensus estimate.) Furthermore, for the year, Lululemon is forecasting sales growth of at least 24% to $7.6 billion, with profits per share in the $9.42 to $9.57 range -- which is, again, ahead of Wall Street's estimates.
Granted, this implies some margin erosion in the second quarter, with profits forecast to grow by only 19% year over year -- less than its expected rate of sales growth. But Lululemon's estimate for the year is that profits will rise by 26%, outrunning sales growth. That implies that management foresees a quick recovery in profit margins.
If the numbers roll in as Lululemon expects they will, 2022 could be pretty fantastic for this stock.
