With the S&P 500 and Nasdaq Composite both taking huge hits in 2022, investors are probably scared to put money into the stock market right now. This fear is justified, given how much portfolio value has likely been lost throughout the year.
But amid all the uncertainty out there right now, I still think it's a great time to be a buyer of stocks. In fact, I've had my eye on one particular business that I think has the potential for huge returns going forward. It also provides investors with a rare mix of growth and value that is hard to find in the stock market.
Here's why Lululemon Athletica (LULU -7.23%) is the next stock I'm going to buy.
Superb growth
In its third quarter (ended Oct. 30), this top apparel enterprise increased revenue 28% year over year to $1.9 billion, with net income rising 36% to $255 million. These figures continue longer-term trends of huge gains on both the top and bottom lines for Lululemon. Same-store sales also jumped 22%. And for the current quarter, Lululemon expects revenue to rise 25%.
As many other retailers struggle with the worsening macroeconomic situation, thanks to high inflation and interest rates, Lululemon keeps finding ways to take market share. This is a key reason why I like the stock so much.
However, it's not all good news. As of Oct. 30, Lululemon's inventory balance totaled $1.7 billion, up 85% from the prior-year period. The issue with bloated inventory levels is that a business might be forced to implement aggressive promotions and discounts in order to sell merchandise quickly before it becomes obsolete and falls out of favor with shoppers. We see this type of activity happening now with Lululemon's biggest rival, Nike.
But Lululemon hasn't historically resorted to this type of pricing strategy. In fact, the company only relies on its website and footprint of 623 stores worldwide, as well as a small number of approved retailers that are mainly fitness studios, to push products. This has been a smart move as Lululemon's gross margin has averaged 53.3% over the past decade. This is a clear indicator of a strong brand that has pricing power.
"[D]ecisions to...not move pricing aggressively has allowed us to continue to sell [at] our regular price, not be forced into unnecessary markdowns or course correcting with promotional play like we're seeing happen in the marketplace," CEO Calvin McDonald mentioned on the Q3 2022 earnings call.
While posting wonderful growth in the past is obviously a positive for investors, what really matters is the outlook going forward. By fiscal 2026, Lululemon's management team believes the company can hit $12.5 billion in revenue, which would be double fiscal 2021's total.
A critical part of this plan, called the "Power of Three x2" strategy, is to substantially boost Lululemon's overseas presence, quadrupling international revenue by fiscal 2026. In the most recent quarter, 68% of sales came from the U.S., so there is certainly a lot of room to grow in other countries. Unsurprisingly, China, where Lululemon currently operates 88 stores, is a huge opportunity.
Add higher revenue to expanding margins, and it's not a stretch to imagine that Lululemon's profitability will soar in the years ahead.
Outstanding value
You might quickly assume that Lululemon's stock trades at an expensive valuation as a result of the company's fast growth that I discussed above. Over the past five years, the average price-to-earnings (P/E) ratio of the stock was 54. With shares off 19% in 2022 and down 34% from their peak, Lululemon is now selling at a P/E of 35.
The reason this valuation gets me excited is because it is only slightly higher than Nike's P/E of 33. In my opinion, Lululemon is the better business to own over the next five years. Lululemon is increasing revenue at a faster rate, possesses a superior financial profile, and has a strong consumer brand.
To be fair, Nike has a much longer operating history, and its brand is one of the strongest in the world regardless of industry. But with the companies' valuations essentially on par with each other, I think Lululemon has the potential to boost portfolio returns going forward. That is why it's the next stock I'm going to buy.
