DISCLOSURE APPENDIX AT THE BACK OF THIS REPORT CONTAINS IMPORTANT DISCLOSURES, ANALYST CERTIFICATIONS, AND THE STATUS OF NON-US ANALYSTS. US Disclosure: Credit Suisse does and seeks to do business with companies covered in its research reports. As a result, investors should be aware that the Firm may have a conflict of interest that could affect the objectivity of this report. Investors should consider this report as only a single factor in making their investment decision. CREDIT SUISSE SECURITIES RESEARCH & ANALYTICS BEYOND INFORMATION ® Client-Driven Solutions, Insights, and Access 8 June 2016 Americas/United States Equity Research Apparel lululemon athletica Inc. (LULU) FORECAST REDUCTION Rating OUTPERFORM Price (07-Jun-16,US$) 68.14 Target price (US$) 76.00 52-week price range 68.80 - 44.09 Market cap (US$ m) 11,684.41 Enterprise value (US$ m) 11,221.74 *Stock ratings are relative to the coverage universe in each analyst's or each team's respective sector. ¹Target price is for 12 months. Research Analysts Christian Buss 212 325 9667 [email protected]Sara Shuler 212 325 7643 [email protected]Pallavi Bakshi 212 538 8434 [email protected]Executing On Topline Growth And Margin Turnaround lululemon maintained solid demand momentum this quarter as topline growth was strong, with the 8% total comp in constant currency above consensus estimates for 6.7% and guidance for up mid-single digits. Additionally, gross margin in the quarter exceeded our expectations, suggesting the magnitude of the structural benefits from supply chain initiatives may be greater and earlier than expected. We remain bullish on the stock even given the lack of visibility into how upcoming product catalysts may drive traffic as we see the potential for supply chain improvements and margin expansion through FY17 to support double-digit earnings power. We reiterate our Outperform rating, adjust estimates, and maintain our Target Price of $76. ■ Demand Strength Continues Across Categories. lululemon executed on topline with revenues of $496M in-line with our estimate for $497M and well above guidance for $483-488M. The 8% total comp (constant currency including DTC) suggests that the company has been able to maintain consumer demand momentum, likely due to new product introductions recapturing lapsed consumers. Both the Women's and Men's categories were strong, with women's pants up double-digits Y/Y and Men's up 21% Y/Y. We note that the company saw outsized growth in their Other channel, with a 52% Y/Y increase due to greater sell-through in outlets and warehouse sales as part of inventory clearance initiatives. ■ Potential For Women's Tops To Drive Traffic Still Unclear. New women's tops are expected to be introduced in the summer, which we believe will be important as the company seeks to recapture lapsed consumers. With the bar set high after the success of the pants refresh, we still lack visibility into Share price performance LULU.OQ S&P 500 INDEX Ju l- 1 5 Oct-15 Jan - 1 6 Apr-16 40 50 60 70 On 07-Jun-2016 the S&P 500 INDEX closed at 2112.13 Daily Jun09, 2015 - Jun07, 2016, 06/09/15 = US$68.27 Quarterly EPS Q1 Q2 Q3 Q4 2015A 0.34 0.34 0.35 0.85 2016E 0.33 0.37 0.43 1.04 2017E 0.37 0.45 0.53 1.26 Financial and valuation metrics Year 1/15A 1/16E 1/17E 1/18E EPS (CS adj.) (US$) 1.86 2.15 2.59 3.07 Prev. EPS (US$) - 2.21 2.66 3.17 P/E (x) 36.6 31.7 26.3 22.2 P/E rel. (%) 207.9 181.7 171.1 162.0 Revenue (US$ m) 2,060.5 2,340.7 2,610.7 2,921.3 EBITDA (US$ m) 442.5 489.2 563.1 641.7 OCFPS (US$) 4.75 5.61 6.83 8.06 P/OCF (x) 14.0 12.1 10.0 8.5 EV/EBITDA (current) 25.2 22.8 19.8 17.4 Net debt (US$ m) -501 -463 -414 -394 ROIC (%) 49.40 48.31 48.69 48.48 Number of shares (m) 171.48 IC (current, US$ m) 526.00 Net debt (Next Qtr., US$ m) -504.6 EV/IC (x) 17.7 Net debt/tot eq (Next Qtr.,%) -44.5 Dividend (current, US$) - Source: Company data, Thomson Reuters, Credit Suisse estimates
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DISCLOSURE APPENDIX AT THE BACK OF THIS REPORT CONTAINS IMPORTANT DISCLOSURES, ANALYST CERTIFICATIONS, AND THE STATUS OF NON-US ANALYSTS. US Disclosure: Credit Suisse does and seeks to do business with companies covered in its research reports. As a result, investors should be aware that the Firm may have a conflict of interest that could affect the objectivity of this report. Investors should consider this report as only a single factor in making their investment decision.
CREDIT SUISSE SECURITIES RESEARCH & ANALYTICS BEYOND INFORMATION®
Client-Driven Solutions, Insights, and Access
8 June 2016Americas/United States
Equity ResearchApparel
lululemon athletica Inc. (LULU)
FORECAST REDUCTION Rating OUTPERFORMPrice (07-Jun-16,US$) 68.14Target price (US$) 76.0052-week price range 68.80 - 44.09Market cap (US$ m) 11,684.41Enterprise value (US$ m) 11,221.74*Stock ratings are relative to the coverage universe in each analyst's or each team's respective sector.¹Target price is for 12 months.
Executing On Topline Growth And Margin Turnaroundlululemon maintained solid demand momentum this quarter as topline growth was strong, with the 8% total comp in constant currency above consensus estimates for 6.7% and guidance for up mid-single digits. Additionally, gross margin in the quarter exceeded our expectations, suggesting the magnitude of the structural benefits from supply chain initiatives may be greater and earlier than expected. We remain bullish on the stock even given the lack of visibility into how upcoming product catalysts may drive traffic as we see the potential for supply chain improvements and margin expansion through FY17 to support double-digit earnings power. We reiterate our Outperform rating, adjust estimates, and maintain our Target Price of $76.
■ Demand Strength Continues Across Categories. lululemon executed on topline with revenues of $496M in-line with our estimate for $497M and well above guidance for $483-488M. The 8% total comp (constant currency including DTC) suggests that the company has been able to maintain consumer demand momentum, likely due to new product introductions recapturing lapsed consumers. Both the Women's and Men's categories were strong, with women's pants up double-digits Y/Y and Men's up 21% Y/Y. We note that the company saw outsized growth in their Other channel, with a 52% Y/Y increase due to greater sell-through in outlets and warehouse sales as part of inventory clearance initiatives.
■ Potential For Women's Tops To Drive Traffic Still Unclear. New women's tops are expected to be introduced in the summer, which we believe will be important as the company seeks to recapture lapsed consumers. With the bar set high after the success of the pants refresh, we still lack visibility into
Share price performance
LULU.O Q S& P 5 0 0 IN D EX
Ju l - 1 5 O ct - 1 5 Jan - 1 6 A p r - 1 64 0
5 0
6 0
7 0
On 07-Jun-2016 the S&P 500 INDEX closed at 2112.13Daily Jun09, 2015 - Jun07, 2016, 06/09/15 = US$68.27
Number of shares (m) 171.48 IC (current, US$ m) 526.00Net debt (Next Qtr., US$ m) -504.6 EV/IC (x) 17.7Net debt/tot eq (Next Qtr.,%) -44.5 Dividend (current, US$) -Source: Company data, Thomson Reuters, Credit Suisse estimates
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how this new product could drive store traffic and support LULU's growth story into 2H16. Management noted that store assortment has started to shift, with new sports bras the first piece of the overall tops refresh.
■ Gross Margin Turnaround Accelerating With 2Q Positive Inflection. Gross margin exceeded expectations, down 35bp Y/Y to 48.3%, better than our model for down 190bp Y/Y to 46.7% (consensus of 47.1%). Gross margin benefited from 40bp of product margin improvement, lower FOB costs, reductions in raw material costing, and lower air freight, and was offset by F/X and occupancy cost headwinds. We are encouraged to see the magnitude of gross margin benefits be greater and earlier than expected as supply chain improvements take hold, and are modelling for gross margin to potentially be up 100bp Y/Y in FY16 to 49.4%, marking the first year of gross margin expansion since FY11.
■ SG&A Deleverage Weighs On Operating Margin. SG&A spend was up 410bp Y/Y to 36.6%, above our in-line model for a 225bp Y/Y increase to 34.8% as the company was burdened by heavy F/X revaluation losses ($13.5M versus $4.4M last year) from the appreciation of the Canadian dollar. Additionally, consulting costs related to the supply chain initiatives and increased marketing costs kept spending elevated. The company expects consulting costs to wind down by the end of Q2, but is now guiding to deleverage for the full year.
■ Making Good Progress On Reducing Inventory Levels. Inventories were up 21% Y/Y on expected 2Q revenue growth up mid-teens. This was better than our expectation for inventories to be up 23.3% Y/Y, and is a sequential improvement in-line with the company's plan (inventories were up 37% Y/Y in 4Q15, up 56% Y/Y in 3Q15, and up 59% Y/Y in 2Q15). Our proprietary inventory tracker suggests this inventory reduction is being carried out while maintaining pricing discipline, as our estimated markdown intensity for the quarter was lower Y/Y at a rate of 1.6% in 1Q16 from 1.9% in 1Q15. Management noted they now expect inventories to be below forward sales growth starting in 2Q, as well as for the remainder of the year, nicely ahead of the initial 2H16 completion goal.
■ Laying Groundwork For Increased eCommerce Focus. Investments behind building an integrated eCommerce experience for consumers are coming into focus, with the roll-out of a newly designed website and mobile site this quarter. lululemon has laid out a goal to increase digital penetration to over 20% of revenue (19.5% as of FY15) and we believe investments to grow this channel are appropriate as the digital channel grows in importance. The roll-out of RFID technology and CRM capabilities look to be the next step for the company in tracking inventories and targeting marketing strategies directly for consumers which we believe will support their digital growth potential.
■ Raising FY16 Outlook, Cautious On Significant 2H Acceleration. lululemon raised their full-year revenue ($2.305-2.345B from $2.285-2.335B) and EPS outlook ($2.08-2.18 including the 1Q tax benefit of $0.03 from $2.05-2.15). We remain cautious on this guide as the company is embedding a significant back-half acceleration in earnings, even as visibility into the sustainability of topline momentum in 2H16 remains unclear.
■ Adjusting Estimates And Maintaining Target Price Of $76. Our FY16 comp, revenue and EPS estimates go to 6.8%, $2,341M, and $2.15 from 7.8%, $2,353M, and $2.21. Our FY17 comp, revenue and EPS estimates go to 6.2%, $2,611M, and $2.59 and from 7.0%, $2,662M, and $2.66. We maintain our Target Price of $76 based on an equal weighted average of 1) peer comparable growth retailer multiples ($78), 2) a DCF price ($74), and 3) a long term growth model ($75).
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1Q16 ResultsFigure 1: Resultslululemon athleticaEstimate vs. Actual, Y/Y Comparisons($ in millions except per share data)
o SSS up mid-single digits constant currency (combined store and DTC)■ Gross margin: Up 120bp Y/Y ■ SG&A: Significant deleverage (1/3 of the impact attributable to F/X)■ EPS: $0.36-0.38■ Tax rate: 30.2%■ Share count: 137.5M ■ Stores: 8 net new stores
o SSS up mid-single digits constant currency (combined store and DTC)■ EPS: $2.08-2.18 including $0.03 1Q tax benefit (prior $2.05-2.15)
o Earnings up double digits in 2H16■ Gross margin: Positive inflection from 2Q16 onwards and up for the year■ SG&A: Deleverage, with the greatest impact in 1H and modest deleverage now
expected in 3Q and 4Q■ Operating margin: Overall leverage, flow-through of improvements in 2H16■ Capex: $160-165M (prior $150-155M)■ Tax rate: 28.9% (prior 30.2%)■ Share count: 137.5M (prior 138M)■ Stores: 40 net new stores (prior 44 net new stores)
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Figure 5: Income Statementlululemon athletica inc.Income Statement($ in millions except per share, store, and sq. foot data)
Effect of exchange rates on Cash and Cash Equivalents 48.8 48.8 0.0 (79.8) (44.6) 48.8 0.0 0.0 0.0 0.0Impact of discountinued operations 0.0 0.0 0.0 0.0 0.0 0.0 0.0 0.0 0.0Change in Cash and Cash Equivalents 48.6 (45.5) (156.1) 114.2 (38.8) 19.1 (51.5) (156.2) 140.0 (48.6) (34.2) (163.0) (38.8) (48.6) (20.0) 5.1 38.4Cumulative 3.1 (153.0) (38.8) (32.4) (188.6) (48.6)
Cash at End of Period 550.0 504.6 348.5 462.7 462.7 481.7 430.2 274.1 414.1 414.1 664.5 501.5 462.7 414.1 394.0 399.1 437.5
2016 2017
Source: Company data, Credit Suisse estimates
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Companies Mentioned (Price as of 07-Jun-2016)lululemon athletica Inc. (LULU.OQ, $68.14, OUTPERFORM, TP $76.0)
Disclosure AppendixImportant Global Disclosures I, Christian Buss, certify that (1) the views expressed in this report accurately reflect my personal views about all of the subject companies and securities and (2) no part of my compensation was, is or will be directly or indirectly related to the specific recommendations or views expressed in this report.
3-Year Price and Rating History for lululemon athletica Inc. (LULU.OQ)
The analyst(s) responsible for preparing this research report received Compensation that is based upon various factors including Credit Suisse's total revenues, a portion of which are generated by Credit Suisse's investment banking activitiesAs of December 10, 2012 Analysts’ stock rating are defined as follows:Outperform (O) : The stock’s total return is expected to outperform the relevant benchmark* over the next 12 months.Neutral (N) : The stock’s total return is expected to be in line with the relevant benchmark* over the next 12 months.Underperform (U) : The stock’s total return is expected to underperform the relevant benchmark* over the next 12 months. *Relevant benchmark by region: As of 10th December 2012, Japanese ratings are based on a stock’s total return relative to the analyst's coverage universe which consists of all companies covered by the analyst within the relevant sector, with Outperforms representing the most attractive, Neutrals the less attractive, and Underperforms the least attractive investment opportunities. As of 2nd October 2012, U.S. and Canadian as well as European ratings are based on a stock’s total return relative to the analyst's coverage universe which consists of all companies covered by the analyst within the relevant sector, with Outperforms representing the most attractive, Neutrals the less attractive, and Underperforms the least attractive investment opportunities. For Latin American and non-Japan Asia stocks, ratings are based on a stock’s total return relative to the average total return of the relevant country or regional benchmark; prior to 2nd October 2012 U.S. and Canadian ratings were based on (1) a stock’s absolute total return potential to its current share price and (2) the relative attractiveness of a stock’s total return potential within an analyst’s coverage universe. For Australian and New Zealand stocks, the expected total return (ETR) calculation includes 12-month rolling dividend yield. An Outperform rating is assigned where an ETR is greater than or equal to 7.5%; Underperform where an ETR less than or equal to 5%. A Neutral may be assigned where the ETR is between -5% and 15%. The overlapping rating range allows analysts to assign a rating that puts ETR in the context of associated risks. Prior to 18 May 2015, ETR ranges for Outperform and Underperform ratings did not overlap with Neutral thresholds between 15% and 7.5%, which was in operation from 7 July 2011.Restricted (R) : In certain circumstances, Credit Suisse policy and/or applicable law and regulations preclude certain types of communications, including an investment recommendation, during the course of Credit Suisse's engagement in an investment banking transaction and in certain other circumstances.Volatility Indicator [V] : A stock is defined as volatile if the stock price has moved up or down by 20% or more in a month in at least 8 of the past 24 months or the analyst expects significant volatility going forward.Analysts’ sector weightings are distinct from analysts’ stock ratings and are based on the analyst’s expectations for the fundamentals and/or valuation of the sector* relative to the group’s historic fundamentals and/or valuation:Overweight : The analyst’s expectation for the sector’s fundamentals and/or valuation is favorable over the next 12 months.Market Weight : The analyst’s expectation for the sector’s fundamentals and/or valuation is neutral over the next 12 months.Underweight : The analyst’s expectation for the sector’s fundamentals and/or valuation is cautious over the next 12 months. *An analyst’s coverage sector consists of all companies covered by the analyst within the relevant sector. An analyst may cover multiple sectors.
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Credit Suisse's distribution of stock ratings (and banking clients) is:
Global Ratings DistributionRating Versus universe (%) Of which banking clients (%)Outperform/Buy* 56% (39% banking clients)Neutral/Hold* 35% (20% banking clients)Underperform/Sell* 9% (44% banking clients)Restricted 0%*For purposes of the NYSE and NASD ratings distribution disclosure requirements, our stock ratings of Outperform, Neutral, and Underperform most closely correspond to Buy, Hold, and Sell, respectively; however, the meanings are not the same, as our stock ratings are determined on a relative basis. (Please refer to definitions above.) An investor's decision to buy or sell a security should be based on investment objectives, current holdings, and other individual factors.
Credit Suisse’s policy is to update research reports as it deems appropriate, based on developments with the subject company, the sector or the market that may have a material impact on the research views or opinions stated herein. Credit Suisse's policy is only to publish investment research that is impartial, independent, clear, fair and not misleading. For more detail please refer to Credit Suisse's Policies for Managing Conflicts of Interest in connection with Investment Research: http://www.csfb.com/research-and-analytics/disclaimer/managing_conflicts_disclaimer.htmlCredit Suisse does not provide any tax advice. Any statement herein regarding any US federal tax is not intended or written to be used, and cannot be used, by any taxpayer for the purposes of avoiding any penalties.This material is intended for your use only and not for general distribution. This material is not intended to promote or procure a particular outcome in the UK referendum on membership of the European Union (the “Referendum”). Credit Suisse does not promote or endorse either campaign in the Referendum. This material does not constitute, and should not be interpreted as, a recommendation by Credit Suisse as to the merits of a particular outcome of the Referendum.
Target Price and RatingValuation Methodology and Risks: (12 months) for lululemon athletica Inc. (LULU.OQ)
Method: Our $76 target price is based on the average of (1) comparable multiples ($78); (2) a DCF, or discounted cash flow analysis ($74); and (3) a long-term growth scenario ($75). We believe the stock will continue to trade above peers, and accordingly, we have an Outperform rating.
Risk: Risks to our $76 price target and rating for LULU include uncertainty associated with store productivity improvements, consumers' disposable income, foreign currency fluctuations, and accounting risk related to capitalization of retail leases.
Please refer to the firm's disclosure website at https://rave.credit-suisse.com/disclosures for the definitions of abbreviations typically used in the target price method and risk sections. See the Companies Mentioned section for full company names Credit Suisse expects to receive or intends to seek investment banking related compensation from the subject company (LULU.OQ) within the next 3 months.As of the date of this report, Credit Suisse makes a market in the following subject companies (LULU.OQ).Important Regional Disclosures Singapore recipients should contact Credit Suisse AG, Singapore Branch for any matters arising from this research report.The analyst(s) involved in the preparation of this report may participate in events hosted by the subject company, including site visits. Credit Suisse does not accept or permit analysts to accept payment or reimbursement for travel expenses associated with these events.Restrictions on certain Canadian securities are indicated by the following abbreviations: NVS--Non-Voting shares; RVS--Restricted Voting Shares; SVS--Subordinate Voting Shares.Individuals receiving this report from a Canadian investment dealer that is not affiliated with Credit Suisse should be advised that this report may not contain regulatory disclosures the non-affiliated Canadian investment dealer would be required to make if this were its own report.For Credit Suisse Securities (Canada), Inc.'s policies and procedures regarding the dissemination of equity research, please visit https://www.credit-suisse.com/sites/disclaimers-ib/en/canada-research-policy.html.As of the date of this report, Credit Suisse acts as a market maker or liquidity provider in the equities securities that are the subject of this report.Principal is not guaranteed in the case of equities because equity prices are variable.Commission is the commission rate or the amount agreed with a customer when setting up an account or at any time after that.For Credit Suisse disclosure information on other companies mentioned in this report, please visit the website at https://rave.credit-suisse.com/disclosures or call +1 (877) 291-2683.