On Thursday morning, Lululemon Athletica (NASDAQ:LULU) announced very disappointing earnings, which sent shares tumbling in early trade. This is on the back of an already mediocre performance for the stock in 2014. What went wrong, and how can you avoid owning such a disastrous stock in your portfolio in the future?
If you look at the headlines that were released, it appears that Lululemon’s profits plummeted by 60 percent. However, this was mainly due to a 1-time expense because of the fact that the company is repatriating foreign profits in order to fund a stock repurchase program, which was announced in Thursday’s earnings release. So while net quarterly income fell from $47 million down to $19 million, the company’s operating income actually rose from $66 million to $70 million. Furthermore, sales rose from $346 million to $385 million.
The problem with the release was in the same-store sales data; same-store sales fell by 4 percent year-over-year. They fell by 7 percent if you don’t adjust for currency fluctuations. The increase that we saw in revenues resulted from new stores, although this wasn’t enough to appease investors. These numbers are simply unacceptable for a growth company.
Investors who have been following the company could have seen the writing on the wall for a while. Sales growth has been declining for a couple of years, and profit margins began to decline in the most recent year. This is also when we began to see the stock peak out around $80/share. With margins declining and sales growth decelerating, it is pretty evident that investors would be unwilling to pay a premium multiple for the company’s shares.
Despite the fact that the stock is down so much from its high, there is a good chance that it has further to fall. The reason for this is not so much that the company’s sales growth will continue to decelerate and that margins will continue to compress, but that investors will assume this to be the case and value the stock accordingly. With shares still trading with a premium price to earnings multiple, there is ultimately more downside to come.