Jul 28, 2021
[11 min Read]
$LULU - Lululemon Athletica Inc. designs and distributes their athletic apparel, and accessories to their customers worldwide. Lululemon's goal is to continue to grow their cult-like following around the principals of exercise and health.
Lululemon is actively chasing this goal, which Is evident through their recent purchase of MIRROR, which is an in-home fitness company with an interactive workout platform with live & pre-recorded classes.
Recently, Lululemon has set their eyes on further expansion into China, Europe, and Asia, which could be very lucrative if done correctly, as these countries/continents have large markets.
Lululemon has split their business into 2 main segments in their sec filings for reporting purposes. These two segments include their Company-Operated Stores, and their Direct-to-Consumer segment (DTC).
In 2020, their DTC segment represented 52% of their total revenues. This increased drastically from 2019, as in 2019 only 29% of Lululemon's revenue came from their DTC sales channel. This increase is good to see as an investor as the DTC sales model tends to have better margins, which can help Lululemon's profitability and help them report better financials.
In 2020, Lululemon's Company-Operated segment represented 38% of their total revenues. This is a large decrease from their 2019 figure of 63%. Once again this is good to see as DTC tends to be favourable for companies.
This drastic shift away from Company-Operated stores, and to their DTC sales channel can be attributed to COVID-19. Many companies (including Lululemon) were forced to close their stores at the start of the pandemic, these companies were forced to either adapt or be left behind. Luckily for Lululemon, they already had an established DTC model, which helped them to adapt quickly and capture the online market very quickly. As a result of this, Lululemon was able to generate record revenues and increase their margins.
The rest of the revenues not accounted for belong to their “other” segment. This “other” segment includes their revenues from MIRROR, outlet stores, and pop-up stores.
Despite the pandemic still raging on Lululemon was able to net an increase of 30 stores in 2020. Out of these 30 stores, 10 came from the USA, 17 came from China, 2 came from the UK, 2 came from South Korea, and 1 came from Germany.
If you did the math, you will have noticed that I just listed off 32 new stores, this is because I have not factored in the 2 stores that were closed down over the past year, 1 store in Canada closed, and 1 store in Japan closed.
As we can see from their Company-Operated Stores data, Lululemon is currently expanding into Europe and China. It is likely that we see this expansion continue in China and Europe, as well as a focus on starting to expand into Asia.
Lululemon has acknowledged that their revenues are very seasonal, and that they tend to generate the most revenue in the fourth quarter. This is very common among multiple industries (especially retail) as it is the holiday season. However, Lululemon's business is much more seasonal than most. This can be observed through their revenues in 2019 and 2020, in which $LULU earnings reported that 47% and 56% of their revenues in these respective years came in the fourth quarter alone.
This is important to know as an investor and is noteworthy especially as we approach $LULU stock earnings for Q4 (likely to be on January 31st, 2022). This jump in revenues is already somewhat priced in, however if we assume that 56% of their revenues comes in Q4 this year than we ca make our own estimate.
Using this 56% figure, we can estimate Lululemon's Q4 EPS to be $2.74 [(sum of Q1-Q3)/ (0.44)] - (Sum of Q1-Q3). This implies that Lululemon will beat their earnings report in Q4 by 10.93% (Q4 EPS estimated to be $2.47 by taking the average of 8 analyst estimates) which may serve to be a catalyst in the future.
On July 7th, 2020, Lululemon purchased all of the outstanding shares of MIRROR, which is an in-home fitness company with both live and on-demand classes. It has been reported that this purchase was $500M. Of this $500M, Lululemon has reported that $360M of it is “goodwill”.
For those of you that do not know, “goodwill” is the difference between the purchase price of a business, and that businesses fair value of assets [= (assets acquired) - (liabilities assumed)]. In this case, Lululemon paid $350M over the “fair value” of MIRROR, this goodwill is valuable due to the reputation and the brand that the purchased company built.
In their SEC 10-K filing, Lululemon stated that they purchased MIRROR based off of growth, discount, and royalty rates that they believe the can make in the future. This is important as Lululemon believes that they can generate revenues and profits in the future.
In order to undergo my comparable analyses, I needed to find 4 companies that are comparable/similar to Lululemon.
These companies need to exhibit the following characteristics to be considered: be publicly listed, have valid financial ratios/multiples, have similar operations to Lululemon, and be of similar market cap.
By narrowing down the companies based off of the above criteria, I ended up with the following 4 comparable companies:
I was able to calculate the WACC through my own models. These models can be found in the DCF model. My WACC model estimated that Lululemon's WACC is approximately 7.75%, which I used in my DCF model.
I used a CAGR that was between Lululemon's gross profit growth rate over the past 5 years, and the average forecasted CAGR over the next 5 years. By doing this I arrived at a CAGR of 19.26% over the next 5 years.
I estimated lululemon's CAGR for 2029 and 2030 to be 10 as it seems like a reasonable number given Lululemon's growth. In the years between 2025 and 2029, I slowly tapered down the growth rate from 19.26% to 10%.
Operating Expense Increase Rate (2021-2025):
In order to achieve this figure, I used the same approach as the CAGR. By doing this I arrived t an Operating Expense Increase Rate of 19%.
Operating Expense Increase Rate (2029+):
To predict Lululemon's operating expense growth rate for 2029 and beyond, I decided to use 9%. I did this because the operating expense increase rate has always been relatively close to their CAGR.
Depreciation and Amortization Increase Rate:
Over the past couple of years, Lululemon's average yearly Depreciation and Amortization growth is 15.47%. I used this historic growth rate to forecast the future growth in my DCF model.
I was able to find Lululemon's tax rate to be 28.10% through their SEC 10-K filings.
Capital Expenditure Growth Rate:
Over the past couple of years Lululemon's CAPEX has grown at an average of 2.2% per year. I used this historic rate to forecast their future growth rate.
Risk Free Rate:
I was able to find Lululemon's risk free rate through a website called Finbox. Finbox estimated that Lululemon's risk free rate was 2.25%.
In order to arrive at a $LULU stock price target, I decided to undergo a discounted cash flow (DCF) model. In order to compete my DCF model, I used the information found above in the “valuation information” section of this report. By doing this, I found Lululemon's fair value to be $459/share, which implies an upside of 15%. This is quite reasonable; however, it may be a little high and as a result of this I decided to undergo 3 comparable analyses to gather more information.
Through comparing Lululemon's EV/EBITDA multiple to that of their competitors (listed above in the “competitors” section of this report), I found that $LULU stock price target should be $311/share. If this were the case, there would be an implied downside to this investment of 22%. This is vastly different from the results achieved through the DCF model, so I underwent another comparable.
By comparing Lululemon's EV/Revenue multiple to that of their competitors, I found that Lululemon should have a fair value around $160/share. If this were to come to fruition, there would be an implied downside to this investment of 60%. This is vastly different from the DCF valuation and is even very different from the previous comparable. As a result of this inconsistency, I decided to undergo one final comparable.
By comparing Lululemon's P/E ratio to their public competitors, I found them to have a fair value of $324/share, which would imply a downside risk of 19%. This result is somewhat consistent of that achieved through the EV/EBITDA comparable, however as a result of the general inconsistency among comparable analyses, I decided to take the average result from each of them.
By taking the average result of the 3 comparable analyses, I arrived at one, all-encompassing comparable valuation of $265/share, which implies a downside risk of 34%
Due to the inconsistency between the comparable valuation and the DCF valuation, I decided to take the average result in order to draw one price target for Lululemon. By doing this I arrived at an overall $LULU price target of $362/share, which implies a downside risk of 9.4%.
My plan would be to wait for Lululemon to drop 9.4% (or to the $362 price target) before buying in.
I prefer this plan over shorting $LULU because I believe in the long-term prospect of Lululemon, and Lululemon has big reactions to news and is very volatile in the shorter time frames.