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McMaster Investment Council
Lululemon (NASDAQ: LULU)
Consumer Goods Team
Consumer Goods Team
11/18/2019 McMaster Investment Council 2
Portfolio Manager Analyst Analyst Analyst
Graham Hodder Doris Feng Ryan Whitcher Marc Ferrari
Program: Honours CommerceYear: 4th
Prior Experience: Wells Fargo, TD Asset Management
Program: Honours CommerceYear: 3rd
Prior Experience: Sunlife Strategy
Program: Honours CommerceYear: 3rd
Prior Experience: TD Wealth, Market Research Intern
Program: Honours CommerceYear: 2nd
Prior Experience: Real Estate Investor, Beacon Hall Golf Club
I Industry Overview
Rise of E-Commerce
Industry Overview
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The athletic apparel industry looks to continue growth at a faster rate than it has in the past
Key Trends Macro outlook
North America Specialty Apparel Revenue
Increase in Yoga and Athleisure demand Disposable Income per Capita
Market Share Athleisure Sector
Average 10% YOY revenue growth in the NA athletic wear segment since 2014
NIKE
ADIDAS
VF CORP
UNDERARMOURPUMA SE
LULULEMONATHLETICA
42%
30%
10%
6%6% 4%
Active/athletic revenue has grown +$1.6B over the past five years
Athletic brands should be +$21B larger in FY19 than in FY13 compared to traditional brands
Disposable income per capita increasing at average of 5% since 2016
Personal spending increased by 3.9% in 2019
Garment Spending
Increase in income and personal spending has driven spending in consumer discretionary and athleisure revenues upward
Digital and e-commerce has been a powerful driver of EBIT margin improvement.
Industry estimates ecommerce sales to double by 2023
0% 20% 40% 60%
280
300
320
340
2016 2017 2018 201940000
45000
50000
55000
2016 2017 2018 2019
% increase in ecommerce sales (2019)
Total yoga bottom wear market expected to reach $1.721 billion by 2021
Athletic wear is no longer limited to the gym and created a new category of “athleisure”
Increase interest in men's athletic wear has further boosted market segment
Industry Revenue Market Breakdown
Key Highlights Key Highlights
US median income increased to $63,179 in 2019
0
10,000
20,000
30,000
40,000
50,000
60,000
70,000
2014 2015 2016 2017 2018 2019 2020E
LULU’s contribution to industry growth continues to increase
LULU has driven 25% of NA industry growth since 2015, only trailing Nike but crucially ahead of Adidas
Nike and Adidas expected to increase their market share by 3% by 2021
ETF Comparison
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LULU is significantly outperforming the broad retail market as a whole
Index/Security Ticker
S&P/TSX SPY
S&P Retail ETF XRT
iShares Global Consumer Discretionary ETF RXI
Lululemon Athletica LULU
Nov - 14 Nov - 15 Nov - 16 Nov - 17 Nov - 18 Nov - 19
II Company Overview
McMaster Investment Council
Company Overview
Regulations in OntarioRegulations in Ontario
Lululemon Athletica Inc is a designer, distributor and retailer of athletic
apparel.
• Operate through two primary segments: Direct-to-Consumer and retail stores
• LULU #1 fashion trend amongst females and #7 overall preferred female apparel brand
• Founded in 1998 in Vancouver, IPO issued in 2007 at $14
• 440 company-operated locations worldwide across 14 countries, 80% of stores in North America
• Large focus on fostering a community that reflects a healthy lifestyle
• Known for unparalleled brand quality and comfortability across all product lines
Ticker(LULU:
NASDAQ)Enterprise Value
$27.15B
Share Price $205.91 P/E 51.4x
Market Cap $26.99B EV/EBITDA 30.8x
52 Week Low-
High
$110.71 -$205.91
EBITDA Margin 25.2%
Stores
65%
DTC
26%
Other
9%
US Canada Australia + NZ China Region Europe
Company Snapshot
Revenue Breakdown
Financial Snapshot
Retail Store Locations
Revenue by Geography Revenue by Segment
Canada 17%
USA 72%
Other 11%
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LULU’s has grown into an international athletic apparel powerhouse with a strong fundamentals
McMaster Investment Council 8
Chief Executive Officer COO & EVP, International Chief Product Officer Chief Financial Officer
Calvin McDonald Stuart Haselden Sun Choe Patrick Guido
Management Overview
Background:• CEO of Sephora’s America
for 5 Years (LVMH Owned)• EVP of Loblaws for 17 Years
Education:• Rotman MBA – University
of Toronto• Bachelor of Science from
Western University
Background:• CFO of Lulu for 5 years• CFO of J.Crew for 3 years• 20+ years in strategy &
operations roles at F500 retail companies
Education:• MBA from A.B Freeman
School of Business• Bachelor of Arts degree
from Auburn University
Background:• SVP Merchandising at Lulu• Various Management roles
in retail including, Guess, Levis & CPO at Marc Jacobs
Education:• Bachelor of Arts University
of Maryland
Background:• 7 Years at VF Corp. as VP of
Corporate Development & Treasury
• 15+ years in finance roles at F500 retail companies
Education:• MBA – Vanderbilt University• CFA Charterholder• B.Sc from Georgetown
University
LULU’s management team is focused on driving growth strategies while sustaining strong brand loyalty
11/18/2019
$0
$50
$100
$150
$200
$250
06-Jan-2017 06-Jan-2018 06-Jan-2019
9
1
Stock Performance
14.93%
8.49%
7.50%
4.29%
2.39%
Date Headline
Aug 2017 Restructuring of Ivivva brand, closed 47 out of 55 stores
Dec 2017Conclusion of a rapid retail expansion that saw over 40 retail locations added in F17
Jul 2018Loyalty program rollout in North America and New CEO Calvin McDonald
Mar 2019 $163M share buyback. Repurchased 1M shares
Apr 2019 Implemented “Power of Three” strategic plan
Sept 2019 2020 Q2 Earnings release
1
2
3
4
5
6
12
3
45
6
2 Year Stock Chart
Company History Largest Institutional Money Manager Ownership Stakes
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Stock price has continued on an upward trajectory and isn’t done growing
LULU’s supply chain is currently diversified across several countries to mitigate changes in trade policy
Supply Chain Analysis
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• 44 different manufacturers produce Lulu products
• They have recently convinced their largest supplier to build a manufacturing plant in Haiti to be closer to their largest consumer, North America
• Lululemon does not own or produce and of its fabrics directly
• Its trademarked “Luon” fabric is its largest fabric requirement, making up about 30% of the company’s total fabric use. The fabric is sourced from a single supplier
• The company has four distribution centers, located in Vancouver, Washington, Australia, and Ohio
• LULU’s transit time for online customers has fallen by 46%, averaging just under two days in the US
• LULU believes these distribution facilities should be enough to fulfil the company’s needs, including sales growth, over the next several years
• 460 stores worldwide
• Main retail in North America
• E-commerce business has seen steady growth
Raw Materials & Suppliers
Eclat textile
36.5% of COGS
Lenzing AG
<1% of COGS
Delta Galil
<1% of COGS
Li and Fung
<1% of COGS
Eclat Textile
Other suppliers
44%
LULU’s supply chain is currently underexposed to trade uncertainty due to a minimal 6% of sourcing from China
Manufacturer
Distribution
Brick & Mortar Retail + E-Commerce
Primary Supplier Overview
44%56%
LULU is heavily reliant on relationship with Eclat Textile as they are their primary
sourcing partner
Various
Manufacturers
Consumers
Supply Chain Overview and Process
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Historical EBITDA Picture Free Cashflow Growing
Gross Margin & EBITDA Margin Comparable Store Sales
$197.40 $154.10
$236.90
$331.50
$517.00
$-
$100
$200
$300
$400
$500
$600
2015 2016 2017 2018 2019
CAGR of 17%
18%
7%6%
5%
1%
7%
0%
2%
4%
6%
8%
10%
12%
14%
16%
18%
20%
201820172016201520142013
48%
51%
53%
55%
44%
46%
48%
50%
52%
54%
56%
15%
17%
19%
21%
23%
25%
27%
2016 2017 2018 2019Gross margin EBITDA Margin
$434.40 $442.46 $508.58
$595.21
$826.84
$- $100 $200 $300 $400 $500 $600 $700 $800 $900
2015 2016 2017 2018 2019
Lulu has demonstrated resiliency and a strong ability to grow financial and operational metrics
Company Overview: Strong Fundamentals
Investment ThesesIII
Investment Thesis I – Strong Internal Capabilities Driving Growth
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Sustainable Competitive Edges Strong Financial Metrics
Low Sales-to-Awareness
5-Year EPS CAGR5-Year Revenue CAGR
26.9%30.6%
18.0%15.5%
10.2%13.2%
21.0%
1. Highest revenue growth within the industry
2. High sale/low awareness ratio points to exceptionally loyal customer base
3. Second largest driver of North American Category Growth
4. Highest sales per square feet of any U.S. apparel retailer
25%
92%
70%
27%
Innovative, High Quality ProductsLulu constantly improves product quality through inventions such as new fabrics
Customer-centric ApproachLulu has placed customers at the heart of the
corporation by iterating products based on consumer feedback
Customer LoyaltyTheir products have garnered a “Community-
environment” as Lulu has translated co-created experiences into an effective
customer acquisition and retention strategy
22%
10% 8% 9% 8%4% 6%
Lulu’s sustainable competitive edges and strong performance have resulted in industry leading growth rates and margins
Continue to Grow Men’s Market
LululemonPractice
$148 annual fee
Personal development curriculum
Monthly classes hosted in local studios by LULU ambassadors
Member only development programs and events
Exclusive membership products
Investment Thesis II – Market Penetration Strategies
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Introduction of the Loyalty Program Expand Omnichannel Offerings
In recent years it carries > 40% to contribution margin and has increased from 11% of revenue in FY12 (~$100M) to 26% in FY19 (>$850M)
Omnichannel offerings already lead to meaningfully results in KPIs: their Q4 results from 2018 showed that guest acquisition +30% and email file +70%
21%
79%
20% CAGR
Opportunity in
the next 5 years
Only 21% of business is
currently coming from men
Offering Highlights
Online only size and color
offerings
Innovated ‘buy online,
pick up in store
capabilities’
Mobile point of sale
capabilities to complete
purchase anywhere in
store
1
2
LULU has been able to balance in store with online sales as store traffic has risen the past quarters as
well – this is a balancing act which many competitors have accomplished
Piper Jaffray’s Spring 2019 Teen Survey has been a leading indicator for brand momentum
• LULU is the #7 preferred female apparel brand• Saw 4x share gains as a male athletic brand vs. 1.5 years ago
Current State
35% Growth in Q2 ’19
33%Growth in Q1 ’19
$1BAhead of Schedule in reaching
Sales Target
Future StateOpportunity
Lululemon already enjoys their status as the ‘Starbucks’ of athleisure
The loyalty program could add over $700M in incremental sales
Men’s athleisure
segment projected
to grow at a CAGR
of 20% over the
next five years
Double revenue in the next 5 years
Double breadth and segment offerings
Increase the amount of targeted campaigns
1
2
3
Expanding in the men’s, loyalty program, and digital segment will continue to penetrate markets currently served
Investment Thesis III – International Growth Strategy in Asia
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Current Lulu International Exposure Per Capita Spending Could Double in China in 10 Years
Lulu has 460 stores in total at the end of Q2 2019
U.S.
Australia
& New Zealand
Asia
28 are located in China
EuropeCanada
292
64
43
38
23
Current State Future State
A favorable channel mix, logistical
savings (closer to sourcing base),
stronger store traffic/productivity, and
greater full-price selling creates an ideal
investment landscape
China is expected to be bigger than the
rest of Lulu’s international business by
FY24
Key driver behind 33% increase in
revenue in the Asia-Pacific region Operate 150 stores by FY24
There is currently >40% annual square
footage growth and bigger in $ than
Europe
Management is focused on international
sales reaching 25%
Large and successful partnership with T-
mallLaunch their own e-commerce site
Sporting Goods Market Size 2015 2016 2017 2018
Global (PFC Estimates -Billions) $ 265 $ 282 $ 298 $ 315 North America $ 97 $ 102 $ 106 $ 110 Western Europe $ 38 $ 41 $ 43 $ 44 Greater China $ 28 $ 31 $ 35 $ 39 Other $ 102 $ 108 $ 115 $ 121
Estimated Growth Rates (PJC)
Global (PFC Estimates) 6.20% 6.50% 5.80% 5.40%North America 5.00% 5.00% 4.00% 4.00%Western Europe 5.00% 6.00% 5.00% 3.00%Greater China 12.00% 12.00% 12.00% 12.00%Other 6.30% 6.60% 5.90% 5.60%
Population (Billions)
Global 7.383 7.467 7.550 7.643North America 0.356 0.356 0.361 0.364Western Europe 0.448 0.449 0.450 0.451Greater China 1.397 1.404 1.410 1.415Other 5.182 5.256 5.330 5.413
Retail $ Per Capita
Global $ 36 $ 38 $ 40 $ 41 North America $ 272 $ 284 $ 293 $ 303 Western Europe $ 86 $ 91 $ 95 $ 98 Greater China $ 20 $ 22 $ 25 $ 28 Other $ 20 $ 21 $ 22 $ 22
Expansion Plans have Garnered Wins Already Future Expansion Strategies
Q3 ‘18 Q4 ‘18 Q1 ‘19 Q2 ‘19
added >505 in combined comps
china e-commerce comp over 200%
Opened first store in Stockholm, Sweden
+ 10% store comp
+61% Asia Market growth
+50% EMEA Market Growth
Opened first store in Osaka Japan
Hosted first Sweatlife in Berlin
>70% Growth in Asia
39% Revenue Growth in Internationally
34% Revenue Growth in Internationally
68% market share growth in China
Q2 ‘18
International growth, mainly fueled by China has opened up additional markets for expansion opportunities
ValuationIV
Company Comparable Analysis
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Public Comparable Analysis
Commentary• Primary comp group focused on high end clothing brands that reflect a similar business model and target consumer vs. traditional apparel comparables
• Secondary comp group offers similar product offering, but are targeted towards a broader audience
• Lulu has sustained strong financials with the highest revenue CAGR of 22% and the 2nd largest EBITDA margin of 25%
• Market leader in same store sales at 18% vs. Artizia at 9.80% and Nike at 6%
• Extremely strong ROIC of 40% which is attributed to continue to reinvestment in the business
LULU is a high multiple stock that deserves a premium because of strong fundamentals and further growth opportunities
EV / EBITDA P/E
Company Name Market Cap Enterprise Value 5-Yr Rev CAGR EBITDA Margin Gross Margin Current FY1 Current FY1
*All figures are in USD as of valuation date
Higher End Clothing Retailer/ AthleisureUnder Armour Inc $7,545 $8,876 10% 7% 45% 19.9x 18.1x 53.1x 38.6x
Nike Inc $140,198 $138,809 8% 14% 45% 24.6x 22.4x 33.5x 29.2xAdidas AG $60,232 $59,233 9% 13% 52% 15.1x 14.2x 30.5x 24.6x
VF Corp $34,773 $35,109 8% 17% 51% 17.1x 17.3x 25.6x 23.6xAritzia Inc $1,595 $1,356 4% 16% 55% 13.4x 10.3x 26.3x 19.0x
Canada Goose Holdings Inc $4,142 $4,772 6% 28% 62% 27.2x 20.0x 42.0x 24.0xMean $41,414 $41,359 8% 16% 52% 19.6x 17.1x 35.2x 39.9x
Median $21,159 $21,992 8% 15% 52% 18.5x 17.7x 32.0x 24.3x
Everyday Apparel BrandsAmerican Eagle $2,798 $2,480 4% 12% 54% 8.4x 8.4x 17.2x 14.8x
Gap $6,666 $6,444 1% 12% 38% 4.3x 4.3x 7.0x 10.2xLevis $6,746 $6,845 3% 12% 37% 4.6x 4.6x 10.9x 10.3xMean $5,403 $5,256 3% 12% 43% 5.8x 5.8x 11.7x 11.8x
Median $6,666 $6,444 3% 12% 38% 4.6x 4.6x 10.9x 10.3x
Lululemon Athletica Inc $24,879 $26,593 22% 25% 55% 25.9x 25.4x 49.7x 39.9x
DCF Model Assumptions
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Assumptions
Free Cashflow Valuation($ in millions of U.S. dollars except per share amounts) Projection PeriodFree Cash Flows 2015 2016 2017 2018 2019 2020E 2021E 2022E 2023E 2024E 2025ERevenues 1,797 2,061 2,344 2,649 3,288 3,847 4,501 5,132 5,747 6,437 7,016
Growth Rate 15% 14% 13% 24% 17.0% 17.0% 14.0% 12.0% 12.0% 9.0%
Total COGS (883) (1,063) (1,145) (1,250) (1,472) (1,731) (2,026) (2,258) (2,529) (2,832) (3,087)% of Revenue 49% 52% 49% 47% 45% 45% 45% 44% 44% 44% 44%
Total SG&A (538) (628) (778) (904) (1,110) (1,289) (1,485) (1,693) (1,874) (2,092) (2,280)
% of Revenue 30% 30% 33% 34% 34% 34% 33% 33% 33% 33% 33%Total EBIT 376 369 421 495 706 827 990 1,180 1,345 1,513 1,649
Less: Tax (EBIT * Tax Rate) (109) (111) (131) (143) (198) (232) (277) (330) (377) (424) (462)
Less: Capital Expenditures (120) (143) (150) (158) (226) (277) (300) (345) (380) (420) (450)
Add: D&A & Non-Cash Expenses 58 73 88 108 122 155 184 209 245 260 295
Less: Change in working capital and other (4) 63 (4) (33) (106) (14) (17) (56) (73) (80) (59)
Free cash flows to the firm (FCFF) 209 125 233 334 510 487 614 770 906 1,009 1,091 Cost of capital 9.1% 9.1% 9.1% 9.1% 9.1% 9.1% PV Free Cash Flows to the Firm (FCFF) - 481 556 639 689 704 697
EBITDA 442 509 603 828 974 982 1,174 1,390 1,590 1,773 1,944
Multiple MethodEBITDA Multiple 19.6xLast forecast EBITDA 1,944
Terminal value 38,099Present value of terminal value 24,649Terminal value as % of Enterprise Value 86.7%Present value of forecast FCF 3,767Forecast period as % of Enterprise Value 13.3%Enterprise Value 28,416Debt (hardcode as of valuation date) 698Cash (hardcode as of valuation date) 624Equity Value (Market Cap) 28,342Shares outstanding 123Current Price (as of valuation date) 198.02Fair Value Share Price 230.42Upside 16.4%
WACC CalculationUS Treasury 1.87%
Expected market return8.6%
Market risk premium 6.76%Country Risk Premium 6.66%Beta 1.10
CAPM Cost Of Equity 9.30%Cost of debt 1.7%
Tax rate 28.0%
After Tax Cost Of Debt 1.22%Debt-to-total Capitalization 97.50%Equity-to-total Capitalization 2.50%
WACC 9.10%
DCF Model: Sensitivity Analysis
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Results
WAC
CEV/EBITDA Multiple
16.6x 18.1x 19.6x 21.1x 22.6x
8.1% 208.56 224.62 240.68 256.74 272.80
8.6% 204.09 219.79 235.48 251.17 266.86
9.1% 199.74 215.08 230.42 245.75 261.09
9.6% 195.51 210.50 225.49 240.48 255.47
10.1% 191.39 206.05 220.70 235.35 250.00
WAC
C
EV/EBITDA Multiple16.6x 18.1x 19.6x 21.1x 22.6x
8.1% 5.3% 13.4% 21.6% 29.7% 37.8%
8.6% 3.1% 11.0% 18.9% 26.9% 34.8%
9.1% 0.9% 8.6% 16.4% 24.1% 31.9%
9.6% -1.3% 6.3% 13.9% 21.5% 29.0%
10.1% -3.3% 4.1% 11.5% 18.9% 26.3%
Target Price of $230 with 16.4% upside
Catalyst Probability Evaluation
Q3 Earnings • Management provided guidance above analyst expectations for revenue and EPS results• Consistent trend of earnings beats
Teenage Brand Perception Growing
• Shown continued share gains in Piper Jaffray’s brand awareness survey, a proven indicator for brand momentum • #1 Fashion trend for women (leggings) and #7 overall female and male preferred apparel brand
Category Expansion • Already started rolling out personal care products across 50 stores and have seen success• Footwear line set to complement core product offering
Supply Chain Exposure • Company has little exposure to China vs competition Relatively safer from tariffs compared to the marketplace
Risk Probability Evaluation
Consumer Spending Decline
• This economic cycle has been fueled the resilient North American consumer, a low interest rate environment and historically low unemployment levels.
• Any change in these factors may impact discretionary income
Fashion Trends • Companies with a strong brand presence must keep up with the latest fashion trends to remain competitive. Unattractive designs and faulty products will negatively impact reputation
Sourcing Inflation & Tariff Pressure
• Currently has experienced minimal impact from Chinese tariffs although vendor movement into Southeast Asia poses a risk to increasing sourcing costs
New Top Line Management
• CEO McDonald and CFO Guido have only been with LULU for 1 year and have yet to be tested. Operational execution, brand momentum, and the domestic retail environment were already strong when both joined
Risks & CatalystsRisks
Catalysts
Collectively, the catalysts driving Lulu’s business outweigh the potential risks, which are primarily macro trends
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Questions?
Appendices
DCF Assumptions
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2020E 2021E 2022E 2023E 2024E 2025E
Revenue 17% 17% 14% 12% 12% 9%
COGS (% of Revenue) 45% 45% 44% 44% 44% 44%
SG&A (% of Revenue) 34% 33% 33% 33% 33% 33%
CAPEX (% of Revenue) 7% 7% 7% 7% 7% 7%
D&A (% of Revenue) 4% 4% 4% 4% 4% 4%
Assumptions
Category Expansion
11/18/2019 McMaster Investment Council 24
Large category expansions complements core products
Footwear
• Positions the corporation for strong long- term growth opportunities
• Already conducted a year long trial run with APL• It is currently in the pipelines as it is in the R&D stages;
analysts believe it will drive long term growth prospects
SelfCare – Personal Care Products
• Rolled out across 50 stores• Deodorants, moisturizers, shampoo, lip balm• Launched after successful test run earlier on this year• Partnership to sell items through Sephora• Worked with athletes throughout its rigorous two-year
R&D process