Lululemon Stock: Buy the Dip

Lululemon Stock

Lululemon Stock (NASDAQ:LULU)

Investors were surprised when Lululemon Athletica Inc. (NASDAQ:LULU) lowered its gross margin guidance for FQ4’23, which could mean worse inventory adjustments. It also happened at the same time that its sales forecast went up. Still, investors probably paid the most attention to how retailers’ more aggressive advertising campaigns during the holiday season affected the stock market.

Lululemon Could Make a Comeback in FY2024

In its FQ3’23 earnings commentary, LULU said it was confident that supply chain dynamics would improve. So, when investors look at the company’s future, the change in gross margin guidance from last year is not a good sign.

As a result, Lululemon said that its Q4 gross margin is likely to drop 100 basis points (bps) year over year, which is a bigger drop than the 15 basis point (bps) change it had predicted before.

So, LULU expects its Q4 gross margin to be around 57.1%, less than 58.1% a year ago. Still, this number is better than the FQ3 number of 55.9%, which suggests that the worst of the company’s write-downs are over. Also, the company emphasized that it has OpEx levers it can pull to lessen the effect. For example, “general and administrative expenses are 100 to 120 basis points higher than its previous expectation of 30 to 50 basis points of leverage,” the company can use these expenses to its advantage.

It makes sense for investors to think that Lululemon could still make a comeback in FY24 if its business in China keeps getting better.

Notably, management lowered its FQ4 adjusted EPS guidance range to $4.22 to $4.27, which suggests a midpoint of around $4.245. It is also a little less than the $4.25 it said it would be before. So, investors will be watching to see if the outlook for FY23 will get better or worse as macroeconomic conditions get worse.

There are still reasons to be hopeful, though. Through January, spot rates for shipping containers worldwide had already gone down, and a global freight index had dropped to a level that hadn’t been seen since September 2020.

Also, problems in the global supply chain that made it hard for retailers to make accurate inventory predictions have lessened because the recession slowed down exports from Taiwan and Korea.

Because of this, Lululemon’s supply chain’s dynamics and visibility will keep improving through 2023.

Also, Lululemon has done well even though consumers spend less on extras. Its new revenue forecast calls for sales to grow by nearly 26% in the fourth quarter, which is much more than its previous guidance of 23.5%. Because of this, Lululemon has continued to outperform the rest of the industry thanks to the strength of its brand and the fact that it has the best prices.

Recent estimates from Mastercard (NYSE:MA) suggest that Lululemon did better than its competitors during the holiday season, as “Online sales grew 10.6% year over year and in-store sales increased 6.8%.”

Lululemon Is Doing Well in China

Even though the country’s economy and consumer spending have been down lately, investors should know that the company is doing well in China. Even though COVID had strict lockdowns, the management talked about its confidence and momentum in China in December, which suggested that LULU had done better than expected. During the Q3 2023 earnings call, CEO Calvin McDonald stressed:

“And in China, we remain very excited. Our new store openings, we opened 9 stores in [FQ3] in Mainland China. We have 88 now in [the] market. Their performance continues to exceed expectations. In markets where we don’t have constraints related to COVID, the store performance and online performance are very strong. So we remain very excited about the market.”

Because of this, Lululemon has a strong brand, and its fast-growing direct-to-consumer segment, which made up nearly 41.3% of revenue in FQ3’23 (compared to 26.9% in FQ3’19), adds to this.

So, now that China has lifted COVID restrictions, LULU is in a good position to take advantage of its recovery in consumption as China refocuses on meeting its GDP growth goals.

Because of this, we want investors to pay attention to what the company says about its plans and changes in its China market in 2023.

A growth premium is already built into the price of a share of LULU, making it a pricey stock. So, LULU’s last NTM EBITDA multiple was 17.2x, much higher than the peers’ median of 10.3x (according to S&P Cap IQ data).

Even so, Lululemon Stock is trading at a discount to its average over the past 10 years, which is 17.2x. So, Lululemon is at a crossroads. Even though there is a chance of a global recession, management must plan for growth.

Investors need to consider whether China’s upcoming recovery after the peak of its COVID wave will help reduce the adverse effects of global macroeconomic headwinds. Also, if the Fed keeps interest rates high for a long time, Americans’ spending on things they don’t have to could go down even more. So, it still needs to be clarified if the US economy will avoid a recession. But LULU’s growth premium shows that it will be at risk if the recession is worse than expected and hurts earnings in the future.

Still, after yesterday’s (January 9) shocking pre-Q4 report, there is now a chance to invest in Lululemon stock because of the gap down.

We found that LULU has returned to its 50-week moving average, which has helped it recover from its lows in May. So, buyers have kept supporting big drops in its momentum, probably because they think it will get better in 2023 or 2024.

As was already said, LULU stock is much lower than its 10-year average, which means it is no longer expensive. If the US or global economy can avoid a disaster in 2023, this is a good time for long-term LULU investors to buy at the bottom.

Featured Image: Unsplash @ Marco Tjokro

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About the author: Stephanie Bedard-Chateauneuf has over four years of experience writing financial content for various websites. Over the years, Stephanie has covered various industries, with a primary focus on consumer stocks, cannabis stocks, tech stocks, and personal finance. This stock lover likes to invest for the long-term. Stephanie has an MBA in finance.