Business Context and Reporting Period
Company: Lululemon Athletica Inc.
Filing Type: Form 10-K (Annual Report)
Period Ended: February 1, 2009 (Fiscal Year 2008)
Business Overview: Designer and retailer of technical athletic apparel, primarily yoga-inspired, sold through a vertical retail strategy of corporate-owned stores and franchises. As of the period end, the company operated 113 stores (103 corporate-owned, 10 franchise) primarily in Canada and the United States, with a small presence in Australia. Operations in Japan were discontinued in fiscal 2008.
Key Financial Metrics
| Metric | Fiscal 2008 (2009) | Fiscal 2007 (2008) |
|---|---|---|
| Net Revenue | $353.5 million | $269.9 million |
| Gross Profit | $179.1 million | $144.9 million |
| Gross Margin | 50.7% | 53.7% |
| Income from Operations | $56.6 million | $51.6 million |
| Net Income | $39.4 million | $30.8 million |
| Diluted EPS | $0.55 | $0.45 |
| Cash and Cash Equivalents | $56.8 million | $52.5 million |
| Operating Cash Flow | $46.4 million | $36.5 million |
| Capital Expenditures | $46.8 million | $35.2 million |
| Long-term Debt | $0 | $0 |
Note: Comparable store sales growth was 0% for fiscal 2008, down from 34% in fiscal 2007. Sales per square foot for corporate-owned stores open at least one year averaged $1,450, down from $1,700 in the prior year.
Material Changes vs. Prior Period
- Revenue Growth: Net revenue increased 31% ($83.5 million) driven primarily by the opening of 35 new stores in fiscal 2008. However, growth was tempered by a 0% comparable store sales result, compared to 34% growth in the prior year.
- Margin Compression: Gross margin decreased 300 basis points to 50.7%. This was attributed to increased occupancy costs as a percentage of revenue (due to sales deleveraging), higher depreciation from new store openings, and increased product costs/markdowns.
- Impairment Charges: The company recorded a $4.4 million provision for impairment and lease exit costs in fiscal 2008, related to the closure of one underperforming store and the identification of four other locations where asset carrying values exceeded fair value. No such charge existed in fiscal 2007.
- Discontinued Operations: Operations in Japan were discontinued in the third quarter of fiscal 2008, resulting in a net loss from discontinued operations of $1.1 million for the year.
- Foreign Exchange: The depreciation of the Canadian dollar against the U.S. dollar negatively impacted reported results, estimated to have reduced income from operations by approximately $3.7 million.
Guidance, Outlook, and Risks
Management Outlook: Management expects a "very difficult economic environment" for fiscal 2009. They anticipate negative comparable store sales for the year due to reduced consumer spending and foreign exchange volatility. The company plans to be disciplined regarding new store openings, targeting approximately six new stores in fiscal 2009. An e-commerce website is expected to launch in the first quarter of fiscal 2009.
Key Risks and Contingencies:
- Economic Sensitivity: High sensitivity to consumer spending on non-essential items; potential for further sales deleveraging and margin pressure.
- Store Performance: Risk of further store closures and associated lease exit costs if underperforming locations are identified.
- Supply Chain: Reliance on third-party manufacturers (approx. 65% in China) and single-source suppliers for key fabrics (e.g., Luon).
- Legal Proceedings: A lawsuit filed by a former employee (Brian Bacon) regarding termination and stock awards is being vigorously defended; management believes the claim is without merit.
- Foreign Currency: Continued exposure to fluctuations between the Canadian and U.S. dollar, with no hedging strategy currently in place.
Investor Verification Checklist
- Comparable Store Sales Trend: Verify the sustainability of the 0% comparable store sales growth and the impact of the economic downturn on future quarters.
- Impairment Provisions: Monitor for additional asset impairment or lease exit costs as management continues to evaluate its store portfolio.
- Foreign Exchange Impact: Assess the sensitivity of future earnings to the Canadian dollar exchange rate, given the lack of hedging.
- Inventory Levels: Review inventory turnover and write-downs ($0.9 million in fiscal 2008) to ensure alignment with slowing sales.
- Capital Allocation: Confirm the execution of the planned e-commerce launch and the capital efficiency of the reduced store opening plan for fiscal 2009.