Business Context and Reporting Period
Company: Lululemon Athletica Inc.
Filing Type: Form 10-Q (Quarterly Report)
Period Ended: October 31, 2007
Business Overview: Lululemon designs, manufactures, and distributes technical athletic apparel, primarily sold through corporate-owned retail stores, franchises, and wholesale accounts. As of October 31, 2007, the company operated 62 corporate-owned stores and 8 franchise stores across Canada, the United States, Japan, and Australia. The company completed its Initial Public Offering (IPO) on August 2, 2007.
Key Financial Metrics
Revenue and Profit (Nine Months Ended Oct 31, 2007):
- Net Revenue: $169.6 million (up 75.5% from $96.7 million in the prior year).
- Gross Profit: $89.9 million (Gross Margin: 53.0%, up from 50.9%).
- Income from Operations: $28.4 million (Operating Margin: 16.8%).
- Net Income: $16.2 million (up 139% from $6.8 million in the prior year).
- Diluted Earnings Per Share (EPS): $0.23 (up from $0.10).
Liquidity and Balance Sheet (As of Oct 31, 2007):
- Cash and Cash Equivalents: $36.3 million (up from $16.0 million at Jan 31, 2007).
- Total Assets: $141.2 million.
- Total Liabilities: $43.1 million.
- Working Capital (excl. cash): $20.1 million.
- Debt: No outstanding borrowings under the revolving credit facility.
Cash Flow (Nine Months Ended Oct 31, 2007):
- Operating Cash Flow: $10.5 million provided.
- Investing Cash Flow: $24.7 million used (primarily for property/equipment and franchise acquisitions).
- Financing Cash Flow: $32.0 million provided (primarily from IPO proceeds).
Material Changes vs. Prior Period
Revenue Growth Drivers: The 75.5% revenue increase for the nine-month period was driven by a 30% increase in comparable store sales and the opening of 31 new corporate-owned stores (11 in Canada, 18 in the US, 2 in Japan). Additionally, the acquisition of three franchise stores in Calgary in April 2007 contributed $14.0 million to revenue.
Expense Increases: Selling, general, and administrative (SG&A) expenses rose 75.1% to $61.5 million, primarily due to increased store employee compensation ($10.3 million) and corporate compensation ($8.0 million) to support expansion. Stock-based compensation expense increased significantly to $4.2 million from $1.5 million.
Profitability: Despite higher expenses, net income more than doubled due to strong gross margin expansion (driven by reduced product costs as a percentage of revenue) and operational leverage.
Guidance, Outlook, and Risks
Outlook: Management expects continued growth in net revenues but anticipates a decline in the growth rate relative to historical periods as the revenue base expands. Future growth is expected to be concentrated in the United States. The company plans to increase store count in North America and expand international presence through joint ventures.
Capital Resources: The company believes cash from operations, IPO proceeds, and its revolving credit facility are sufficient to meet liquidity needs for at least the next 24 months. Approximately $26.9 million of IPO net proceeds have been used for capital expenditures and inventory.
Risks and Contingencies:
- Legal Proceedings: A former executive officer filed suit in March 2007 for breach of contract and wrongful dismissal; the company is vigorously defending the claim.
- Supply Chain: Reliance on third-party suppliers for fabrics (e.g., Luon fabric from a single manufacturer) creates risk of delays or quality issues.
- Brand Dependence: Success depends heavily on maintaining the brand image; expansion into new markets carries the risk of brand dilution or lack of acceptance.
- Currency Risk: A significant portion of revenue is generated in Canadian dollars. A 10% appreciation of the USD against the CAD would have reduced operating income by approximately $3.3 million for the nine-month period.
- Seasonality: Over 35% of net revenue is typically recognized in the fourth quarter due to the holiday season.
Investor Verification Checklist
- Comparable Store Sales: Verify the sustainability of the 30% comparable store sales growth rate in the context of a larger store base.
- US Expansion Execution: Monitor the success of the 18 new US store openings and the ability to replicate Canadian success in the US market.
- Inventory Levels: Review inventory turnover and provisions for obsolescence, as inventory increased significantly to $49.7 million to support growth.
- Stock-Based Compensation: Assess the impact of increasing stock-based compensation ($4.2 million for nine months) on future profitability as the company matures.
- Legal Resolution: Track the status of the lawsuit filed by the former executive officer for potential financial impact.