Lululemon will need to introduce new fabrics and technology to hold its popularity

Business Strategy and Outlook

With a narrow-moat Lululemon has a solid plan to expand its product assortment and geographic reach while building its core business. While there are many firms looking to compete in its core categories, the firm benefits from the athleisure fashion trend and will continue to achieve premium pricing due to the brand’s popularity and the styling and quality of its products. The narrow-moat rating is based on Lululemon’s intangible brand asset. The “Power of Three x2” five-year plan laid out at Lululemon’s April 2022 investor event as sound. The firm’s three priorities are product innovation, e-commerce, and international expansion. The product innovation is critical as many competitors, including no-moat Gap’s Athleta, sell women’s leggings of similar quality. Thus, Lululemon will need to introduce new fabrics and technology to hold its popularity in this critical category. The firm also plans to add to its assortment in men’s (24.6% of 2021 sales) and expand its nascent athletic footwear line. These categories fit the Lululemon brand, they also bring it in direct competition with athletic apparel firms like wide-moat Nike.

Boosted by the pandemic, Lululemon’s e-commerce will become increasingly important. There should be a 21% growth for the channel in 2022 and expect e-commerce sales will permanently exceed store revenue by 2024. Lululemon’s e-commerce should benefit from investments in digital capabilities (such as buy online, pick up in store), new product, and an expanding loyalty program. Its e-commerce operating margins at 44% in the long term, rising digital sales should lift its overall profitability. There is an opportunity for Lululemon to expand outside of North America. Sales outside the region accounted for just 15% of total in 2021 but have been growing more than 30% per year. Lululemon is building its brand overseas and has a large opportunity for new stores and larger online sales in China, the second-largest activewear market. The 2031 sales outside of North America will approach $4.2 billion (up from $957 million in 2021) and account for 23% of total sales.

Financial Strength

Lululemon is in exceptional financial shape. Lululemon is the rare apparel firm that developed a multibillion-dollar brand without long-term debt. The firm closed April 2022 with $649 million in cash and an undrawn $400 million revolving credit facility. Lululemon will generate significant free cash flow for stock buybacks. The firm’s free cash flow to equity has grown rapidly over the past six years (to $1 billion in 2021 from $154 million in 2015), allowing it to repurchase about $1.8 billion in shares in that period. It will generate about $6.9 billion in free cash flow to equity over the next five years and use most of it for buybacks. However, Lululemon may reduce shareholder value by repurchasing shares above the fair value estimate. The firm could easily afford to issue dividends but has not done so and will not do it in the future too. Lululemon’s capital expenditures are at an annual average of 6.2% of sales over the next decade. Its capital expenditures as a percentage of sales are relatively high for a firm in its industry as it operates its own stores. Most of its capital expenditures are for remodelling and relocation of stores and opening new stores. Lululemon will open about 370 stores over the next decade. The firm is also investing heavily in its digital capabilities.

Bulls Say’s

Lululemon’s online sales increased to $2.8 billion in 2021 from less than $100 million in 2010. It is estimated its e-commerce operating margin at roughly 44%, about 20 percentage points better than its store margin.

Lululemon has a big opportunity in greater China, where the firm operates fewer than 100 stores. China is the second-largest athletic apparel market in the world and has high growth.

Lululemon is often credited with the development of “athleisure”, which is a major change in how people dress and continues to thrive.

Company Profile

Lululemon Athletica Inc. designs, distributes, and markets athletic apparel, footwear, and accessories for women, men, and girls. Lululemon offers pants, shorts, tops, and jackets for both leisure and athletic activities such as yoga and running. The company also sells fitness accessories, such as bags, yoga mats, and equipment. Lululemon sells its products through more than 570 company-owned stores in 17 countries, e-commerce, outlets, and wholesale accounts. The company was founded in 1998 and is based in Vancouver, Canada.

(Source: MorningStar)

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