Lululemon Athletica Inc. — Form 10-Q Summary
Reporting period: Fiscal first quarter ended April 30, 2017, compared with the quarter ended May 1, 2016. The request metadata identifies “2016 Q1,” but the supplied filing is for fiscal 2017 Q1. The filing is unaudited and prepared under U.S. GAAP.
Business Context
Lululemon designs, distributes, and sells athletic apparel and accessories through company-operated stores, e-commerce, outlets, showrooms, wholesale accounts, temporary locations, and license and supply arrangements. The company operated 411 stores at April 30, 2017, including 356 lululemon stores and 55 ivivva stores. Results are seasonal, with a substantial portion of annual operating profit historically generated in the fourth quarter.
Key Financial Metrics
| Metric | Q1 FY2017 | Q1 FY2016 | Change |
|---|---|---|---|
| Net revenue | $520.3 million | $495.5 million | Up 5% |
| Gross profit | $256.9 million | $239.1 million | Up 7% |
| Gross margin | 49.4% | 48.3% | Up 110 bps |
| Income from operations | $45.4 million | $57.6 million | Down 21% |
| Operating margin | 8.7% | 11.6% | Down 290 bps |
| Net income | $31.2 million | $45.3 million | Down 31% |
| Diluted EPS | $0.23 | $0.33 | Down $0.10 |
| Operating cash flow | $19.4 million | $40.0 million | Down $20.6 million |
Adjusted, non-GAAP results excluding ivivva restructuring charges were gross profit of $262.3 million, gross margin of 50.4%, operating income of $63.2 million, operating margin of 12.1%, net income of $44.3 million, and diluted EPS of $0.32. These measures are not substitutes for GAAP results.
Comparable sales declined 1% overall. Comparable store sales declined 2%, or 1% on a constant-dollar basis, primarily because of lower traffic. Direct-to-consumer revenue was essentially flat, as lower website conversion offset increased traffic and transaction value. Revenue growth was primarily driven by 38 net new company-operated stores opened since the comparable prior-year period.
Cash, Liquidity, Debt, and Capital Allocation
- Cash and cash equivalents were $698.3 million at April 30, 2017, compared with $734.8 million at January 29, 2017.
- Working capital excluding cash and cash equivalents was $228.4 million.
- Operating activities provided $19.4 million; capital expenditures used $19.9 million; financing activities used $14.5 million.
- Cash decreased $36.6 million during the quarter, including a $21.6 million unfavorable foreign-exchange effect.
- The company had a $150.0 million unsecured revolving credit facility, with $149.2 million of capacity available. No borrowings were outstanding apart from $0.8 million of letters of credit.
- The company repurchased 234,405 shares for $12.8 million during the quarter. Remaining authorization was $86.4 million at April 30, 2017. An additional 0.2 million shares were repurchased for $10.4 million through May 29, 2017.
- Management stated that cash, operating cash flow, and available revolver capacity should meet liquidity and capital expenditure needs for at least the next 12 months.
Material Changes Versus the Prior Comparable Period
- Revenue increased 5%, but comparable sales declined 1%, indicating that new-store growth offset weaker underlying comparable performance.
- Gross margin improved due mainly to lower product costs and higher average retail prices, partly offset by higher inventory provisions, occupancy and depreciation, and product and supply-chain costs.
- Selling, general and administrative expense increased 10% to $199.1 million and rose to 38.3% of revenue from 36.6%, reflecting higher head-office, store labor, marketing, depreciation, software, and professional costs.
- Reported operating income and net income declined materially because of ivivva restructuring charges and higher operating expenses.
- Operating cash flow fell principally because of increased inventory purchases.
- Foreign-currency revaluation produced a $5.8 million gain in Q1 FY2017 versus a $13.5 million loss in Q1 FY2016, while translation effects increased accumulated other comprehensive loss by $32.7 million in Q1 FY2017.
- The prior-year quarter included discrete tax benefits and related items from transfer-pricing arrangements and repatriation of foreign earnings, reducing comparability.
Outlook, Unusual Items, and Risks
On June 1, 2017, the company announced a restructuring of ivivva toward a primarily e-commerce model. It expects to close approximately 40 of 55 ivivva stores, convert approximately half of the remaining stores to lululemon stores, close all ivivva showrooms and temporary locations, and streamline corporate infrastructure. The restructuring is expected to be substantially complete by the end of fiscal Q3 2017.
- Q1 FY2017 included $17.7 million of pre-tax restructuring-related costs: $5.4 million of inventory write-downs and committed-purchase losses, $11.6 million of long-lived asset impairments, and $0.7 million of employee-related costs.
- Total fiscal 2017 restructuring costs were estimated at $50 million to $60 million, including $15 million to $17 million of long-lived asset impairment and accelerated depreciation, $30 million to $37 million of restructuring costs, and $5 million to $6 million of inventory-related charges. Estimates may change materially.
- Expected restructuring costs of $30 million to $37 million were expected to be paid in cash.
- Key risks include weak traffic and conversion, competition, inventory forecasting and markdown risk, supplier concentration and production disruption, raw-material and labor-cost inflation, tariffs and trade restrictions, foreign-exchange volatility, cybersecurity and technology disruptions, international expansion, lease obligations, tax changes, litigation, and execution risk related to the ivivva restructuring.
- A pending New York wage-and-hour class action seeks unspecified damages; management intends to defend the matter and does not believe current proceedings will materially affect the company.
- Management concluded that disclosure controls and procedures were effective as of April 30, 2017, with no material changes to internal control over financial reporting during the quarter.
Investor Verification Points
- Confirm the intended reporting period, because the supplied filing is Q1 FY2017 rather than Q1 FY2016.
- Assess whether comparable-sales weakness, particularly lower store traffic and e-commerce conversion, persists after the quarter.
- Track the timing, cash cost, and final amount of the ivivva restructuring against the $50 million–$60 million estimate.
- Reconcile reported and adjusted profitability, including the treatment of restructuring, inventory, foreign-exchange, and prior-year tax items.
- Monitor inventory growth, provisions, committed purchase obligations, and operating cash-flow conversion.
- Evaluate foreign-exchange exposure, especially the effect of movements in the U.S. dollar against the Canadian dollar.
- Review the pending employment litigation and the company’s significant supplier, lease, trade, technology, and brand-related exposures.