Lululemon Athletica Inc. annual report, FY2016

Lululemon Athletica Inc. — Form 10-K Summary

Reporting period: The filing is the Form 10-K for the 52-week fiscal year ended January 29, 2017, identified as fiscal 2016. The request metadata references “2015 Q4,” but the source filing is for fiscal 2016; it includes unaudited fourth-quarter comparisons for fiscal 2016 and fiscal 2015.

Business Context

Lululemon designs, distributes, and sells premium healthy-lifestyle athletic apparel and accessories under the lululemon and ivivva brands. Revenue is generated primarily through company-operated stores and direct-to-consumer e-commerce, with additional outlet, showroom, temporary-location, wholesale, warehouse, and licensing revenue.

406 company-operated stores at January 29, 2017, up from 363 one year earlier; 43 net new stores were added during fiscal 2016.
International operations included stores in Australia, Europe, China, Hong Kong, Singapore, South Korea, New Zealand, Puerto Rico, and Switzerland.
Direct-to-consumer revenue represented 19.3% of fiscal 2016 revenue; other channels represented 8.0%.

Financial Performance

Metric	Fiscal 2016	Fiscal 2015	Change
Net revenue	$2.344 billion	$2.061 billion	+14%
Gross profit	$1.200 billion	$997.2 million	+20%
Gross margin	51.2%	48.4%	+280 basis points
Income from operations	$421.2 million	$369.1 million	+14%
Operating margin	18.0%	17.9%	+10 basis points
Net income	$303.4 million	$266.0 million	+14%
Diluted EPS	$2.21	$1.89	+17%

Company-operated store revenue increased 12% to $1.704 billion.
Direct-to-consumer revenue increased 13% to $453.3 million.
Other revenue increased 31% to $186.7 million.
Total comparable sales increased 6%, or 7% on a constant-dollar basis. Comparable store sales increased 4%, or 5% on a constant-dollar basis.
SG&A increased 24% to $778.5 million, rising to 33.2% of revenue from 30.5%, reflecting store and head-office employee costs, technology, marketing, distribution, and foreign-exchange revaluation losses.
The reported effective tax rate was 28.2%, compared with 27.8%; excluding specified tax and related-interest adjustments, the rates were 30.7% and 29.5%, respectively.

Fourth-Quarter Information

For the unaudited fourth quarter of fiscal 2016, revenue was $789.9 million, compared with $704.3 million in the fourth quarter of fiscal 2015. Operating income was $196.6 million versus $166.3 million, and net income was $136.1 million versus $117.4 million. Diluted EPS was $0.99 versus $0.85.

Cash Flow, Liquidity, and Debt

Operating cash flow was $385.1 million, up from $298.7 million.
Capital expenditures were $149.5 million, primarily for stores, digital capabilities, information technology, systems, and corporate facilities.
Cash and cash equivalents were $734.8 million at year-end, compared with $501.5 million at the prior year-end.
Working capital excluding cash and cash equivalents was $186.4 million.
The Company had $149.2 million of available capacity under its $150.0 million unsecured revolving credit facility; only $0.8 million of letters of credit was outstanding and there were no other borrowings.
The facility matures December 15, 2021, is subject to financial covenants, and the Company reported compliance with those covenants.
Fiscal 2017 capital expenditures were expected to range from $170 million to $175 million.
Fiscal 2016 financing cash outflows included $29.3 million of share repurchases. A new $100 million repurchase authorization remained substantially available at year-end.

Material Changes Versus the Prior Comparable Period

Revenue growth accelerated through store expansion, comparable-store improvement, and continued e-commerce growth.
Gross margin recovered materially from the prior-year decline, driven primarily by lower product costs, improved average retail prices, and lower raw-material commitment costs.
Operating income returned to growth for the first time in three years, although SG&A grew faster than revenue.
Cash generation improved substantially as inventory purchases were aligned with forward sales trends.
Foreign-exchange revaluation losses increased to $8.3 million from a $12.0 million gain in fiscal 2015, primarily related to U.S.-dollar cash and receivables held by Canadian subsidiaries.
Foreign-currency translation produced a $36.7 million increase in accumulated other comprehensive income, compared with a $64.8 million loss in fiscal 2015.
The Company finalized an Advance Pricing Arrangement with U.S. and Canadian tax authorities, producing a further $10.7 million net tax recovery in fiscal 2016 and related interest expense of $1.7 million.

Outlook, Risks, and Unusual Items

Management’s fiscal 2017 priorities were product innovation, digital and omni-channel capabilities, North American store optimization, and accelerated international expansion, particularly through store growth in Asia. Management expected SG&A to increase as the Company invested in stores, e-commerce, technology, and long-term growth.

Key risks include intense competition, premium pricing pressure, changing consumer preferences, inventory forecasting, product quality and recall exposure, and dependence on a limited supplier and manufacturing base.
Five manufacturers produced approximately 63% of fiscal 2016 products, while approximately 40% of raw materials were produced by a single manufacturer. The Company generally has no long-term supply contracts.
Approximately 75% of products were produced in South East Asia, South Asia, or China, exposing the Company to labor, trade, tariff, transportation, political, currency, and regulatory risks.
Foreign-exchange volatility is material; the Company historically did not hedge currency exposure.
Non-cancelable operating lease commitments totaled $518.6 million, and product purchase obligations totaled $176.3 million at year-end.
Cash of $559.5 million was held outside the United States, and approximately $852.3 million of Canadian subsidiary earnings were treated as indefinitely reinvested; estimated U.S. taxes upon repatriation were approximately $38.4 million.
Pending legal matters included a wage-and-hour class action in New York. A previously disclosed derivative lawsuit was dismissed, and the dismissal was affirmed on appeal in February 2017.
The Company recognized $4.5 million of previously unredeemed gift-card balances as revenue during fiscal 2016.
Management and the independent auditor concluded that internal control over financial reporting was effective as of January 29, 2017.

Investor Verification Checklist

Verify that the intended comparison is fiscal 2016 versus fiscal 2015 rather than “2015 Q4,” because the filing’s annual reporting period ended January 29, 2017.
Review the sustainability of the 280-basis-point gross-margin improvement and whether product-cost benefits persist.
Track SG&A growth, general corporate expenses, and foreign-exchange revaluation losses relative to revenue growth.
Assess comparable-store sales, e-commerce growth, international store productivity, and returns on planned fiscal 2017 capital expenditures.
Monitor inventory levels, markdowns, write-offs, and supplier concentration.
Review the effect of lease commitments, future lease-accounting changes, and the $100 million share-repurchase program on liquidity and per-share results.
Evaluate tax exposure related to transfer pricing, foreign earnings, and potential repatriation.