Lululemon’s Stock Needs A Rest At $339

After a 97% rise since the March 23 lows of this year, at the current price of $339 per share we believe Lululemon’s stock (NASDAQ: LULU) has reached its near term potential. Lululemon stock has rallied from $172 to $339 off the recent bottom compared to the S&P which moved 47% over the same time period. Further, the stock is up 45% year-to-date in 2020 while the S&P 500 is almost flat. Gradual store openings, as well as Lululemon’s strong digital sales, which grew 68% in Q1 2020 (ending April), has helped the stock in beating overall markets. Moreover, the stock is up a whopping  332% from levels seen in early 2018, only two years ago. Lululemon’s stock has fully reached the level it was at before the drop in February due to the coronavirus outbreak becoming a pandemic. In fact, the stock is 29% ahead of the figure it was at in February. This seems to make it fully valued as, in reality, demand and revenues will likely be lower this year than last year

Some of the stock price rise of the last 2 years is justified by the roughly 50% growth seen in Lululemon’s revenues from $2.7 billion in 2017 to $4 billion in 2019. This combined with a 1.6x jump in net income margin from 9.8% in 2017 to 16.2% in 2019, and a reduction in share count due to stock repurchases worth $0.7 billion, helped earnings per share basis swell 161%. Notably, Lululemon’s margin expanded as a result of robust revenue growth coupled with lower product costs, a favorable mix of higher-margin products, and lower markdowns. Finally, Lululemon’s P/E ratio grew from about 41x at the end of 2017 to 47x at the end of 2019. While the company ‘s P/E has now increased to 69x, it seems to be overvalued when the current P/E is compared to levels seen in the past years. P/E of 47x at the end of 2019 and 41x  as recent as late 2018. We believe there is a possible downside for Lululemon’s multiple when compared to levels seen over the recent years, and the stock is unlikely to see significant upside after the recent rally and the potential weakness from a recession-driven by the Covid outbreak. Our dashboard ‘Why Lululemon Stock moved 332%‘ provides the key numbers behind our thinking, and we explain more below.

How Is Coronavirus Impacting Lululemon’s Stock?

The Coronavirus crisis has hit the apparel industry hard. Fading consumer demand, reduced discretionary spending, rising unemployment levels, and stay-at-home orders resulting in stores remaining closed continue to take their toll. However, Lululemon is uniquely placed in the apparel industry. Lululemon’s loyal customer base and unique product portfolio have helped the company carve a niche position in the apparel market. Although the coronavirus outbreak will have a sizable impact on Lululemon’s revenues in FY20 due to lower discretionary spending and the adverse impact of store closures. However, we believe the demand for yoga and athleisure products will rebound as the outbreak of the virus subsides. Furthermore, Lululemon’s well-established digital business is helping to mitigate the impact of store closures on the company’s top-line.  Despite Lululemon’s strong brand presence, though, the company’s business will be impacted in FY’20.

However, over the coming weeks, we expect continued improvement in demand and subdued growth in the number of new Covid-19 cases in the U.S. to buoy market expectations. Following the Fed stimulus, which set a floor on fear, the market has been willing to “look through” the current weak period and take a longer-term view,  with investors now mainly focusing their attention on 2021 results.

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