Last Tuesday, retail sales figures were released and the news was not pretty – as a whole they declined 1.8%. Discount retailers have been showing strong results, but if you’ve missed the boat on them, there is no reason to worry. At some point, consumers will shun the inferior goods of discounters and splurge on upscale products as economic conditions improve.
On Friday, the news was more upbeat as we learned that the Consumer Confidence Index rose more than expected to 61.9 from 57.3 in March, marking the highest level since September when the financial crisis worsened. The latest numbers indicate belief amongst shoppers that the worst is now behind us. In this article I will highlight a few retailers that seem well prepared for the recovery in consumer spending and a few whose shares you should avoid.
Lululemon – Capturing a Growing NicheIn case you haven’t noticed the yoga studios popping up in your neighborhood lately, the market for yoga products and services is on fire. In fact, the market as a whole has grown 87% in the past four years to $5.7 billion per year. Lululemon, a maker of yoga inspired athletic gear with 113 stores primarily located in Canada and the United States, has built a strong business serving this market.
The company has successfully grabbed a niche segment of the athletic apparel market that was previously overlooked by the likes of Nike, Adidas and Under Armour. One great quality of Lululemon’s niche market is the high-income level of yoga practitioners – 44% make over $75,000 per year and 24% make over $100,000 per year according to the 2008 Yoga in America Study. As a result, Lululemon’s premium pricing is not an obstacle for its target market and the firm’s gross margins of 51% far exceed the industry average of 41%.
The company has been taking steps to drive down overhead costs instead of resorting to deep discounts, which preserves their margins and brand value over the long term. They also just opened their much-anticipated online store, which should bolster sales and earnings significantly in coming quarters.
The company’s earnings have held up very well in spite of the dismal retail environment, as fiscal 2008 sales increased 31% and earnings rose 22%. The company has no debt and return on equity stands at a very respectable 30%. Over the past few weeks, the firm’s shares have seen very strong volume as they have climbed higher, signaling accumulation by institutional investors. The company’s shares appear to be in a new long-term uptrend having crossed over their 200 day moving average on Friday. While I see the shares as a long term buy, traders should consider waiting for the stock to pull back to the $10.25-10.50 range before entering.
True Religion – Capitalizing on Demand for Premium DenimAnother upscale retailer outperforming the market lately is True Religion, a maker of ultra premium denim jeans that retail for $175-$300 per pair. Despite the steep price for its jeans, the firm hasn’t had a tough time making money in this economy. Their latest quarterly earnings blew past estimates, rising 52% on a sales increase of 64%. These are remarkable results given the tough retail environment.
True Religion has recently revamped its sales strategy, as it shifts towards opening more company owned stores that carry much higher margins than selling through department stores. Gross margins currently stand at 58%, up from 54% two years ago and much higher than the industry average of 41%, The firm added 27 stores in 2008 to bring their total count to 42, and have 25 more planned for 2009. The company’s expansion looks to be well timed since commercial rents have been falling recently, positioning the firm well for the upcoming rebound in consumer spending.
The firm’s shares appear to be significantly undervalued, as they currently trade at just 8 times earnings despite their strong earnings growth and a very healthy 37% return on equity. The stock has been trending upward in above average volume for four of the last five days, with rising relative strength - a bullish combination. If you factor the industry PE ratio of 12, that would put True Religion’s shares at 22.18 - 50% higher than where they stand today.
Buckle – Teen Retailer Bucks Trend While March same store sales at teen retailers American Eagle (AEO) and Abercrombie and Fitch (ANF) cratered 16% and 34% respectively, sector mate The Buckle (BKE) posted a nearly 15% rise. Despite the woes of other teen retailers, Buckle has enjoyed 20 straight months of double digit same store sales increases. The company sells mid to high-end casual apparel, footwear and accessories through 387 retail outlets. It opened 21 stores in 2008 and has 21 more planned for 2009.
The company has been able to avoid inventory risks and deep discounting by buying small quantities of items that it can sell quickly, which also allows retail outlets to stay on top of the newest trends. In its most recent quarter, Buckle grew its earnings a notable 17% on a revenue increase of 21% - another strong performance given the economic headwinds.
Since earnings were released on March 11, Buckle’s shareholders have been rewarded with strong gains, but the stock’s relative strength has been slipping lately. With earnings growth seen slowing to 9% this fiscal year and a forward PE of 14, the stock could run out of steam soon.
Joseph A Bank – Promotions Boost SalesIn contrast to Lululemon, True Religion, and the Buckle, menswear retailer Joseph A Bank (JOSB) has been driving their sales through aggressive promotions offering deep discounts. It’s latest promotion, which ended April 9, offers to refund the $199 cost of a suit if the buyer loses his job before July 1. Other recent promotions have included merchandise markdowns of 50-70%.
The discounts have worked especially well for Joseph A Bank in the current retail environment. On April 9, the firm blew away earnings estimates, as EPS grew 14% on a 19% increase in sales. While the discounts have been great for current earnings, the firm strategy may backfire in the quarters ahead as their customers come to expect deep discounts. Case in point is employee pricing from car makers a few years back- after offering the promotion, retailers had a hard time selling cars at full price and had bring back the promotion to spur sales.
Consensus on the Street calls for JOSB’s earnings to grow in the high single digits this year and to rise about 5% in 2010. The impact of recent earnings surprise appears to be priced into shares at this point and they should be due for a short term pullback. Unfortunately, the firm can’t rely on deep discounts to propel long term growth, so I would not recommend purchasing shares at current levels – there are far better growth opportunities out there.
Disclosure: Author is long LULU
