Lululemon Stock Dives After Lowering Profit Margin Expectations For Q4 2022

Key takeaways

• Lululemon shares dropped 9% when the company announced lower guidance for the fourth quarter of its fiscal year.
• Even with the lowered guidance, Lululemon should still have strong earnings for the quarter.
• The stock has rebounded since its Q4 announcement, up 4% from its low, as investors buy into an oversold stock.

Lululemon is a popular retailer and a popular stock for investors. Last week the company announced investors should expect weaker-than-planned fourth quarter earnings, which sent the stock tumbling. But was the bad news as bad as the company warned, or this is simply a chance to buy an outstanding stock on sale?

Here is what investors need to know, and how Q.ai can help.

Lululemon estimates vs. actual results

Lululemon lost 9% of its share price on Jan. 9, 2023 as the popular athletic apparel manufacturer issued updated guidance for its fourth quarter earnings of FY 2022 ending on Jan. 29, 2023. The company originally predicted revenue growth of 25% to 28% but adjusted its earnings per share slightly downward to 25% to 27%. It also warned that its gross margin would fall 90 to 110 basis points from the previous year during the fourth quarter instead of growing by 10 to 20 basis points.

In response to the lowered expectations, Lululemon plans to reduce expenses in areas including general, selling and administration to protect its operating margins. Wall Street responded to this slightly negative news by selling off Lululemon stock in large quantities, causing the share price to decline.

Why investors started selling shares

The main reason investors sold off shares came down to gross profit margins. This is in response to a perception that Lululemon heavily discounted its merchandise during the 2022 holiday season. Discounting is usually the response to excess inventory sitting on the shelf because there’s little demand for a product. It’s worth noting that Lululemon wasn’t the only retailer fighting tough economic headwinds that made it difficult for consumers to find discretionary income.

Even though Lululemon engaged in discounting for the holiday season, it’s not reflective of impending doom for the company. Instead, it’s more indicative of supply chain issues working themselves out and throwing a glut of inventory into the stores that would otherwise get delivered at a predictable pace. As a result, Lululemon had to clear out its excess inventory to smooth out its operations. It’s worth noting that the discounts were absent for the first 9 months of the year and were only used during the 2022 holiday season.

Diving deeper into the numbers

A look further into the fourth-quarter earnings guidance shows that the future for Lululemon isn’t as bad as investors seem to think. Before the adjustment, Lululemon predicted year-over-year margin increases of 58.3% to 58.4% but ultimately lowered it to 57% to 57.2% for a little more than a one percentage point reduction.

This reduction was accompanied by an increase in revenue guidance from between $2.605 billion and $2.655 billion to between $2.66 billion and $2.7 billion. This represents a 25-27% increase compared with the same quarter of 2021. It also expects its diluted earnings per share to come in at $4.22 to $4.27 per share, narrowed from its previous guidance of $4.20 to $4.30.

Lululemon stated that it purposefully increased its inventory to satisfy strong demand for its products. This could be a positive or a negative for the retailer as this could lead to improved sales or another round of discounts in the future. Results won’t be known until the company releases its fourth quarter report in March 2023 to determine how the consumer market responded to the amount of available inventory on retail floors.

Another issue that investors seemingly overlooked is that the company is expanding internationally and stands to improve its profitability when the dollar weakens against other currencies. The U.S. dollar has been strong against international currencies, which makes exports more expensive and causes inventory turnover to slow. The U.S. dollar will eventually lose its strength, and the cost of exports will drop, enabling international buyers to purchase more products for the same amount of money.

Should investors buy the Lululemon dip?

Many times when negative news is released, investors overreact and drive the stock price down further than it should go. The same often happens when good news is released, where investors become overly optimistic and drive the stock price too high.

No matter which scenario happens, in the following days, the stock corrects itself as the news is further analyzed and calmer investors react. This was the case with Lululemon. On the surface, revising down estimates is never a good thing as it can point to trouble ahead. However, in the case of Lululemon, the revisions down were mild. Revenue growth estimates were revised from a range of 25-28% to 25-27%. If Lululemon didn’t make its statement and reported revenue growth of 27%, investors would have been thrilled as this was at the top end of the guidance.

Furthermore, while some discounting was done during the holiday season, Lululemon is still experiencing strong demand, given that they are planning to increase inventory levels. It could be that the company offered discounts simply because all other retailers were heavily discounting apparel, and Lululemon needed to do some discounting to get customers into its stores.

The stock price reflects the belief that the issue is more of a non-issue and that the company will be fine moving forward. Since the stock dropped 9% on the day of the announcement, the stock has rebounded 4% from its low. For long-term investors, this could be an excellent buying opportunity for a high-quality stock that rarely goes on sale.

For other investors, an option like the Q.ai Value Vault Kit could be a wise choice. This Kit invests in stocks that are trading below what they should be. It uses the power of artificial intelligence to identify these stocks and trends in the markets and invests accordingly.

The bottom line

While lowered guidance from a company can be bad, investors need to take a step back and not allow their emotions to make decisions for them. In the case of Lululemon, the revised guidance is not much of a negative. When the company reports fourth-quarter earnings, investors may be able to look back and see this as a great time to buy a high-quality stock.

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