While its outsized growth in China continues to get much of the media attention, Lululemon Athletica, Inc. churned out sales gains of 11 percent in the second quarter in North America, continuing to gain a major share in its core market. In 2022, North America represented 84 percent of revenues.
“Within North America, we remain pleased with the underlying strength of the business with double-digit growth in quarter two, consistent with our Power of Three x2 target, and we continue to gain market share,” said Calvin McDonald, CEO, on a call with analysts.
McDonald noted that in the second quarter, the adult active apparel industry decreased its U.S. revenue compared to the same period last year, according to Circana’s POS-tracking service. Over this time period, Lululemon gained 1.3 points of market share in the U.S. with gains in both men’s and women’s, according to Circana.
The 11 percent North America growth in the quarter marked a deceleration from the 17 percent growth seen in the first quarter, but McDonald said sales in North America have picked up in recent weeks. He said, “We are seeing our business in North America accelerate relative to quarter two.”
Second-Quarter Results Top Guidance
Overall, Lululemon lifted its full-year guidance for the second straight quarter after driving second-quarter results ahead of expectations. Net revenue increased 18 percent (20 percent on a currency-neutral basis) to $2.2 billion in Q2, topping guidance in the range of $2.14 billion to $2.17 billion. Analysts’ consensus estimate was $2.17 billion.
Lululemon ended the quarter with 672 stores, adding 72 stores since the close of the 2022 second quarter. Earnings improved 21.6 percent in the quarter to $341.6 million, or $2.68, compared to adjusted earnings of $281.0 million, or $2.20, a year ago. EPS of $2.68 beat guidance in the range of $2.47 to $2.52 and was ahead of analysts’ consensus target of $2.53.
Including a gain on the sale of an administrative building, net earnings in the 2022 second quarter were $289.5 million, or $2.26 a share. Total comparable sales in the quarter increased 11 percent (13 percent on a constant dollar basis). Comparable store sales increased 7 percent (9 percent on a constant dollar basis.)
Direct-to-consumer (DTC) revenue increased 15 percent (17 percent on a constant dollar basis), representing 40 percent of revenue compared to 42 percent a year ago. Traffic increased by over 20 percent in both store and DTC channels.
Gross Margins Boosted By Lower Freight Costs
Gross margins in the quarter expanded 230 basis points to 58.8 percent. The improvement was driven primarily by a 330 basis-point increase in overall product margin resulting from freight favorability. Meghan Frank, CFO, said on the call, “We remain pleased with the product margin strength we continue to realize on top of the strong gains over the last several years.”
The combination of product and supply chain costs and occupancy deleveraged 70 basis points in the quarter, driven predominantly by ongoing investment in product development and supply chain. The unfavorable impact from foreign exchange delivered a 30-basis-point headwind to margins.
SG&A expenses increased to 37 percent of sales from 35.4 percent for the same period last year. The higher SG&A expense rate reflects continuing investments to build brand awareness as well as additional investments to support its Power of Three x2 five-year growth plan.
Under its Power of Three x2 plan unveiled at its Analyst Day in April 2022, goals include growing total revenue from $6.25 billion in 2021 to $12.5 billion by 2026, including doubling its men’s business, doubling its digital business, and quadrupling its international business. Double-digit growth is targeted for North America operations as well as women’s and stores.
Income from operations in the quarter reached $479.3 million, up 22.6 percent on an adjusted basis. Operating margins were 21.7 percent, up 80 basis points on an adjusted basis. Outside of North America, international sales grew 52 percent, led by 61 percent growth in China. McDonald noted that the overall APAC region as well as EMEA “also continued to perform well.” He added, “Our business remains strong and balanced across regions.”
Product Innovation
By category, women’s revenue increased 16 percent in the quarter versus last year, men’s increased 15 percent, and accessories grew 44 percent. In women’s, customers are “responding very well to our core franchises as well as our newer Play activities,” said McDonald. Strength continues to be seen in key franchises, including Scuba, Define and the Dance Studio jogger. Softstreme has emerged as a strong franchise. In Play categories, tennis and golf collections “remain strong performers,” said McDonald.
In men’s, ongoing strength is being seen in the ABC Pant franchise. McDonald said, “Our teams continue to expand and evolve the assortment, which now includes four styles and four fits and is available in three proprietary fabrics, Warpstreme, Utilitech and WovenAir with additional fabrics and solves for unmet needs planned for upcoming seasons. As we expand this trusted franchise, we are gaining share of wallet from existing guests, while at the same time attracting new guests to our brand.”
In accessories, the overall bag range is “performing well,” including crossbody styles, backpacks and small pouches. The breakout Everywhere Belt Bag generated strong double-digit growth in the quarter on top of strong gains a year ago. Customers are responding well to an expansion of the Everywhere Belt Bag line to multiple sizes, color waves, prints and pattern.
In footwear, Lululemon recently introduced the Chargefeel 2, a “run to train style,” and is gearing up for the launch of men’s footwear next year. McDonald said about footwear, “We are making steady progress in this category, and I’m excited with how our team continues to evolve the offering.”
Amplifying Brand Awareness
McDonald said that while product innovation is a key driver of its Power of Three x2 growth plan, raising brand awareness also remains a key priority. He pointed out that as previously disclosed, unaided brand awareness is still only 25 percent in the U.S. with unaided awareness in the single digits in every market outside North America, except the UK and Australia.
McDonald said Lululemon has accelerated efforts to increase awareness, including introducing the initial phases of its “Get Into It” campaign, its Dupe Swap exchange event in Los Angeles, and the launch of its Further women’s-sports initiative that includes a multi-day ultramarathon set for 2024.
The next installment of the “Get Into It” women’s campaign, focusing on Lululemon’s heritage in bottoms, will continue to highlight core franchises and feature ambassador and professional tennis player, Leylah Fernandez. For men, the ABC franchise will be highlighted “with some fun and exciting special guests.” McDonald added, “The campaign will include digital media assets across our stores and e-commerce sites as well will also test some targeted television in the U.S.”
Lululemon will also release its Global Wellbeing Index in the coming weeks aligned with World Mental Health Day which will also support brand awareness. McDonald added that Lululemon’s grassroots, community-driven approach remains unchanged, but the number and frequency of larger-scale activations and global brand campaigns are being increased. McDonald said, “We are doing this within the confines of our P&L and keeping overall marketing spend relatively stable as a percentage of sales on an annual basis.” Lululemon will also be investing in “leveraging both earned and paid media in new and creative ways.”
Regional Expansion
Regionally, McDonald said that beyond a “compelling pipeline of innovation planned” to drive continued double-digit growth in North America, China celebrated the National Fitness Day in August with the third installment of Lululemon’s Summer Sweat Games. The games included 3,400 participants from more than 100 stores in 36 cities.
In Australia, a store optimization program and the recent rollout of ship-from-store supported growth. Lululemon’s first store in Thailand opened in July, marking the company’s 100th location in the APAC region and saw its “strongest” opening in the APAC region. McDonald said, ‘In addition, we’ve seen a noticeable uptick in travel and tourism within APAC, which is also having a positive impact on our business.”
In EMEA, a second store opened in Amsterdam, seen as a key European city, to a strong response. “It’s incredibly exciting for all of us at Lululemon to see the strong acceptance of our brand across all markets within our international business,” said McDonald. “With each new store opening, we see a groundswell of support that welcomes Lululemon into the community. Our runway for growth is substantial, and I am optimistic about the future as we continue to expand our business.”
Inventory was up 14 percent at the close of the quarter. Frank said that at the close of the third quarter, Lululemon expects inventory to be up in the high-single to low-double digits versus last year. The relatively low inventory growth rate is due to the provision for Mirror Hardware taken in the year-ago fourth quarter that has not been anniversaried. In the fourth quarter, she said Lululemon continues to expect inventory growth to be relatively in line with sales growth.
Outlook
Looking ahead, revenue in the third quarter is expected in the range of $2.165 billion to $2.190 billion, representing growth of 17 percent to 18 percent. EPS is expected to be in the range of $2.23 to $2.28 for the quarter, up 12.8 percent at the midpoint range against $2.00 in the 2022 quarter.
For 2023, the company expects net revenue to be in the range of $9.510 billion to $9.570 billion, representing growth of 17 percent to 18 percent. Under its previous guidance for the year, sales were expected in the range of $9.44 billion to $9.51 billion, representing growth of approximately 17 percent.
EPS for the year is now expected in the range of $12.02 to $12.17 compared to previous guidance in the range of $11.74 to $11.94. Under the midpoint of the updated range, EPS is expected to climb 20.1 percent from $10.07 in 2022.
Gross margins are expected to increase between 190 and 210 basis points (an increase of 180 to 200 basis points previously) versus 2022. The expansion relative to last year is driven predominantly by lower air freight expenses. For the full year, airfreight costs are expected to be down approximately 210 basis points versus 2022. Markdowns for the year are expected to continue to be relatively in line with last year and 2019.
Source: SGB MEDIA