Business Context and Reporting Period
Lululemon athletica inc. designs, manufactures and distributes athletic apparel through corporate-owned stores, e-commerce, franchises and wholesale accounts, primarily in Canada, the United States and Australia. This Form 10-Q covers the thirteen and twenty-six weeks ended August 1, 2010, compared with August 2, 2009. The request metadata identifies “2009 Q2,” but the filing is for fiscal 2010 second quarter. Fiscal 2010 is a 52-week year ending January 30, 2011.
At August 1, 2010, the company operated 126 corporate-owned stores and four franchise stores, compared with 110 corporate-owned and 14 franchise stores at January 31, 2010. Direct-to-consumer sales represented 7% of first-half revenue.
Financial Highlights
| Metric | Q2 FY2010 | Q2 FY2009 | First 26 Weeks FY2010 | First 26 Weeks FY2009 |
|---|---|---|---|---|
| Net revenue | $152.2 million | $97.7 million | $290.5 million | $179.4 million |
| Gross profit | $80.3 million | $45.2 million | $154.7 million | $80.2 million |
| Gross margin | 52.8% | 46.2% | 53.2% | 44.7% |
| Income from operations | $34.2 million | $14.3 million | $66.7 million | $24.2 million |
| Net income attributable to lululemon | $21.8 million | $9.2 million | $41.4 million | $15.8 million |
| Diluted EPS | $0.30 | $0.13 | $0.58 | $0.22 |
| Operating cash flow | Not separately provided | Not separately provided | $34.6 million | $28.7 million |
- Second-quarter revenue increased 56%; first-half revenue increased 62%.
- Second-quarter operating margin increased to 22.5% from 14.6%; first-half operating margin increased to 22.9% from 13.5%.
- Second-quarter SG&A rose 49% but declined to 30.3% of revenue from 31.6%; first-half SG&A rose 57% and declined to 30.3% from 31.2%.
- Comparable-store sales increased 31% in constant dollars and 38% including foreign exchange in the second quarter; first-half comparable-store sales increased 33% in constant dollars and 44% including foreign exchange.
Balance Sheet, Cash Flow and Liquidity
- Cash and cash equivalents were $178.2 million at August 1, 2010, up from $159.6 million at January 31, 2010.
- Working capital excluding cash was $34.2 million. Total current assets were $259.1 million and current liabilities were $46.7 million.
- Inventories increased to $66.5 million from $44.1 million at year-end, reflecting business expansion and working-capital investment.
- Operating cash flow was $34.6 million, investing cash flow was $(24.1) million, and financing cash flow was $6.1 million for the first 26 weeks.
- Capital expenditures were $11.6 million, and $12.5 million was spent to acquire franchised stores.
- No borrowings were outstanding under the CDN$20 million uncommitted revolving credit facility. Letters of credit and guarantees totaled $1.8 million.
- The filing reports no undisclosed borrowings, derivative contracts, synthetic leases or other material off-balance-sheet arrangements beyond the disclosed letters of credit and guarantees.
Material Changes and Unusual Items
- On May 12, 2010, the company increased its ownership of lululemon Australia from 13% to 80%, obtaining control. The acquired business contributed $3.8 million of revenue and a $0.5 million operating loss from acquisition through August 1, 2010.
- The remeasurement of the previously held Australian investment generated a $1.8 million gain included in other income.
- On July 20, 2010, the company reacquired a franchised store in Saskatoon for $6.6 million. Reacquired franchise rights increased goodwill and intangible assets to $24.7 million from $8.1 million at January 31, 2010.
- The company recorded $173,000 of acquisition-related costs in the first half.
- The effective tax rate increased to 40.3% in the second quarter and 40.1% for the first half, primarily because of deferred tax liabilities on undistributed foreign subsidiary earnings not expected to be reinvested.
- Inventory increased materially, while the provision to reduce inventory to market value increased to $3.6 million from $2.6 million at January 31, 2010.
Guidance, Outlook, Commentary and Risks
- Management stated that cash flow, the balance sheet and liquidity support continued investment in stores, people, infrastructure and working capital. It expected cash from operations and available revolver capacity to meet liquidity and capital needs for at least the next 24 months.
- The company planned to open seven to nine additional stores during the remainder of fiscal 2010, with estimated fiscal-year capital expenditures of $4.4 million to $6.3 million for those openings. The filing does not provide formal revenue or EPS guidance.
- Management highlighted e-commerce growth, store expansion, comparable-store productivity, brand recognition and product execution as key growth drivers, while noting that discretionary spending and investment timing would be assessed in light of economic conditions.
- Results are seasonal, with a significant portion of operating income historically generated in the fourth quarter. Interim results may not be indicative of the full year.
- Key risks include macroeconomic pressure on discretionary consumer spending, foreign-exchange exposure without hedging, inventory forecasting and markdown risk, supplier concentration and sourcing disruptions, dependence on leased retail locations, execution of store expansion, e-commerce and information-system disruptions, competition, brand and product risks, and reliance on third-party manufacturers.
- Two California wage-and-hour class actions had tentative settlements pending final court approval. Management did not believe other ordinary-course proceedings would materially affect financial position or results.
- A 10% depreciation of the Canadian dollar against the U.S. dollar was estimated to have reduced first-half operating income by approximately $4.1 million, based on the filing’s sensitivity analysis.
Most Important Facts to Verify
- Confirm the applicable period: the filing is fiscal Q2 2010, not Q2 2009.
- Assess whether the significant revenue and comparable-store sales growth can persist after accounting for new stores, e-commerce expansion, acquisitions and favorable foreign exchange.
- Monitor inventory growth, valuation reserves, markdowns and working-capital consumption.
- Verify the final purchase-price accounting for the Australian investment and reacquired franchise stores, including potential changes to preliminary fair values.
- Evaluate the effect of the higher tax rate and deferred tax liabilities on future earnings and cash taxes.
- Review execution of the planned seven to nine store openings and the company’s substantial long-term operating lease commitments.
- Track final approval and financial consequences of the two tentative class-action settlements.