Oh, how the mighty have fallen. Since reaching a record high of $511.29 at the end of 2023, its stock prices Lululemon Athletica (NASDAQ: LULU) have a 44% crater. This is despite S&P 500 generating an impressive total return of 18% over the same period.
To be clear, this apparel stock has still been a huge market performer over the past decade (up 650%). However, investors have become pessimistic about the state of the business.
What is the best course of action? If you buy the dip in it growth stock? Let’s evaluate both the bear and bull arguments for Lululemon and see if there is an answer.
The apparel industry is making it difficult for Lululemon to sustain success
Lululemon is known for selling high-quality athletic and lifestyle apparel at premium prices. This has placed it well historically. But the fiercely competitive nature of the apparel industry is hard to ignore. There are no barriers to entry. This means that anyone with an idea and access to capital can start designing and selling clothes, which has become even easier with the advent of the internet.
In addition, consumers have zero switching costs. They are free to be as faithful or as unfaithful as they want, spending their money on whatever clothes or shoes they like at any time.
It’s also worth mentioning how difficult it is to find consistent success in this industry. Consumer tastes seem to be always changing. I’m not sure anyone could have predicted the renewed popularity of looser clothing these days.
In Lululemon’s case, it faces stiff competition across the board from industry heavyweights such as Win and Adidas to smaller rivals such as Vuori and Alo Yoga. This simply means that the business needs to stay on top of its game when it comes to product innovation. In its most recent fiscal quarter (Q1 2024 ended April 28), Lululemon’s sales grew 10% year-over-year. While a healthy gain in its own right, it represented a slowdown from previous quarters. Perhaps the market thinks Lululemon’s days of dominance are over.
There are reasons to be bullish on Lululemon
I fully accept and understand the bear hypothesis described above. But I think Lululemon is still worth considering as a portfolio addition right now.
This company has a strong brand name. Over the past five years, Lululemon’s gross profit margin has averaged an outstanding 56.5%. This indicates pricing power or consumers’ willingness to pay for what they must believe is a differentiated product offering.
Lululemon is also very profitable, which you wouldn’t immediately guess considering the stock’s disappointing performance this year. The business brought in $1.6 billion free cash flow fiscal 2023 on revenue of $9.6 billion, good for a fantastic 16.7% margin. This allows management to continually repurchase shares.
Despite the recent sales slowdown, it’s hard not to be excited about the company’s long-term prospects. Lululemon generated only 27% of its revenue for the first quarter of 2024 outside the US and Canada. Consequently, international markets, particularly China, present a huge opportunity.
The final reason investors should consider buying the stock lies in the valuation. Lululemon’s stock trades at a from price to earnings (P/E) multiple of 97 in the fall of 2020 during the pandemic-affected stock market boom. A valid argument could have been made that the stock was not an investor at this high level.
However, the valuation is much more attractive today. Shares trade at a P/E ratio of 23.1. For comparison, the S&P 500 has a P/E multiple of 24.4.
Lululemon’s slight discount to the overall market may not be justified. According to Wall Street consensus analyst estimates, the business is expected to grow revenue and earnings per share at a compound annual rate of 10.9% and 11.7%, respectively, between 2023 and 2026. This favorable outlook is a yet another reason to buy Lululemon stock.
Should you invest $1,000 in Lululemon Athletica right now?
Before you buy stock in Lululemon Athletica, consider the following:
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Neil Patel and his clients have no position in any of the stocks listed. The Motley Fool has positions and recommends Lululemon Athletica and Nike. The Motley Fool recommends the following options: long January 2025 $47.50 calls on Nike; The Motley Fool has one disclosure policy.
Down 44%, Should You Buy the Dip in This Growth Stock? originally published by The Motley Fool
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