In its fourth quarter ended Jan. 31, 2006, Urban Outfitters increased sales an impressive 27%, while overall quarterly comparable sales increased 8%. For the full year, sales increased 32%, and total comparable-store sales increased 11%. The results also included a short-term word of caution: February sales were described as weak due to a "seismic shift in women's fashion that occurred late last year," according to management.
Management's stated goal is to grow revenues at 20%-25% annually and increase profits faster than sales. If you believe that management can keep this up for at least the next five years, then the stock is worth picking up at the current price. I estimate that the company needs to grow at just less than 15% per year for 10 years to justify the stock's current price. Major inputs include a 12% estimated cost of capital and 3% terminal growth rate. As always, it's best to do a sensitivity analysis with a range of inputs.
Urban Outfitters has had a stellar run, with plenty of growth left ahead. But my basic issue with clothing retail stocks is that shoppers are fickle; it's only a matter of time before management flubs a seasonal fashion trend or has a period of misses. February's difficult results suggest that the company may already be slipping. For the savvy Foolish investor, a miss or two might not be a bad thing; the resulting pullback in the stock price could create a better margin of safety for Fools seeking to begin a long-term investment.
I'm also concerned about the long-term viability of the Urban Outfitters brand. Back when the chain consisted of a dozen or so novel stores at trendy college campuses, the brand had a unique, almost cult-like reputation and a handful of devoted shoppers. But how hip will Urban Outfitters be once they're located in nearly every mall throughout the country? The same goes for Anthropologie. Remember Gap
At a recent price of $24.66, Urban has a trailing P/E of about 32 and a forward P/E of 26. It is important to note that these amounts do not appear to include employee stock options expenses, which have been relatively significant for Urban over the past few years. The company's 10-K filing should shed more light on the subject.
On the plus side, the company has a strong historical track record, no long-term debt (growth is funded internally), strong operating margins, and a number of remaining growth avenues as it expands into shopping malls throughout the U.S. However, as with all retail stocks, eventually it will hit a saturation point in new store openings. Until then, there will both be hits and misses on fashion trends. Urban Outfitters' long-term growth potential remains tempting, but I'll wait for the next fashion faux pas to pick up some shares at a better valuation.
Fool contributor Ryan Fuhrmann has no financial interest in any stocks mentioned (that means he's neither long nor short the shares). Feel free to email him for feedback on this article or to discuss Urban Outfitters further.