Improved Outlook for Lululemon, but Shares Rich

Narrow-moat Lululemon’s LULU shares jumped approximately 6% after a press release issued early Jan. 14 announcing that it raised its revenue and profitability outlook for the fourth quarter and full-year 2018 due to strong momentum in the business through the holiday season. Management ticked up its fourth-quarter sales outlook (to $1.14 billion-$1.15 billion from $1.115 billion-$1.125 billion prior and against our $1.07 billion estimate) and diluted earnings per share expectations (to $1.72 to $1.74, up from $1.64 to $1.67 and against our $1.64 estimate). We expect to slightly raise our top-line and profitability outlook to incorporate further strength in the e-commerce business and holiday sales. After digesting the news and taking into account the additional cash generated since our last update, we expect to raise our $77 fair value estimate by a mid-single-digit percentage. However, our longer-term outlook of high-single-digit combined comp growth and low-20s operating margin on average over the next five years remains intact. As such, we continue to view the stock as rich and would suggest investors avoid building a position in the name at the current valuation.

We continue to believe that Lululemon participates in a highly competitive apparel market with multiple strong competitors, many of which have large cash reserves and a strong supply chain for quick R&D, product development, and geographic expansion. As a result, we think spending will be elevated over the next few years due to investments (such as e-commerce capabilities, international expansion, and greater marketing campaigns) required to stay relevant in a quickly changing athleisure market.

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