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Why Morgan Stanley Downgraded Lululemon to ‘Equal-Weight’

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Price movement

Lululemon Athletica (LULU) has a market cap of $10.5 billion. It fell by 10.6% to close at $68.57 per share on September 2, 2016. The stock’s weekly, monthly, and year-to-date (or YTD) price movements were -12.3%, -11.4%, and 30.7%, respectively, on the same day.

LULU is trading 13.1% below its 20-day moving average, 10.8% below its 50-day moving average, and 6.5% above its 200-day moving average.

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Related ETFs and peers

The iShares Edge MSCI USA Quality Factor ETF (QUAL) invests 0.13% of its holdings in Lululemon Athletica. The ETF tracks an index of US large- and mid-cap stocks, selected and weighted by high ROE (return on equity), stable earnings growth, and low debt-to-equity relative to its peers in each sector. The YTD price movement of QUAL was 5.5% on September 2, 2016.

The iShares Dow Jones US ETF (IYY) invests 0.04% of its holdings in Lululemon Athletica. The ETF tracks a broad, cap-weighted index of US companies covering 95% of the US market.

The market caps of Lululemon Athletica’s competitors are as follows:

  • Nike (NKE) — $98.2 billion
  • Gap (GPS) — $9.8 billion

Lululemon Athletica’s rating

Morgan Stanley has downgraded Lululemon Athletica’s rating to “equal-weight” from “overweight.” It’s also reduced the stock’s price target to $70 from $74 per share.

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Performance of Lululemon Athletica in 2Q16

Lululemon Athletica reported 2Q16 net revenue of $514.5 million, a rise of 13.6% compared to its net revenue of $453 million in 2Q15. The company’s gross profit margin and income from operations rose by 5.6% and 11.1%, respectively, in 2Q16 compared to the prior year’s period.

Its net income and EPS (earnings per share) rose to $53.6 million and $0.39, respectively, in 2Q16, compared to $47.7 million and $0.34, respectively, in 2Q15. It reported adjusted EPS of $0.38 in 2Q16, a rise of 11.8% over 2Q15.

Cash and inventories

LULU’s cash and cash equivalents rose by 6.8%, and its inventories fell by 2.4% in 2Q16 compared to 4Q15. Its current ratio rose to 4.9x, and its debt-to-equity ratio fell to 0.22x in fiscal 2Q16, compared to its current ratio and debt-to-equity ratio of 4.1x and 0.28x, respectively, in 4Q15. During 2Q16, the company repurchased 0.2 million shares of its common stock at an average price of $63.65 per share.

Projections

Lululemon has made the following projections for 3Q16:

  • net revenue in the range of $535 million–$545 million, based on total comparable sales in the mid-single digits on a constant dollar basis
  • EPS in the range of $0.42–$0.44
  • 137.5 million outstanding weighted average shares
  • a tax rate of 30.5%

The company has made the following projections for 2016:

  • net revenue in the range of $2.3 billion–$2.4 billion based on total comparable sales in the mid-single digits on a constant dollar basis
  • EPS in the range of $2.11–$2.19, or $2.07–$2.15 when normalized for tax and interest adjustments made during 1Q16 and 2Q16
  • 137.5 million outstanding weighted average shares
  • a tax rate of 28.7%

Now we’ll look at Verifone Systems (PAY).

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