lululemon athletica inc.

Thank you for standing by. This is the conference operator. Welcome to the Lululemon Athletica, Inc. first quarter 2022 conference call. As a reminder, all participants are in listen only mode and the conference is being recorded. After the presentation, there will be an opportunity to ask questions. Analysts who wish to join the question queue may press star then one on their telephone keypad. Should you need assistance during the conference call, you may signal an operator by pressing star and zero. I would now like to turn the conference over to Howard Toobin, Vice President, Investor Relations for Lululemon Athletica. Please go ahead.

Thank you and good afternoon. Welcome to Lululemon's first quarter earnings conference call. Joining me today to talk about our results are Calvin McDonald, CEO, and Megan Frank, CFO. Before we get started, I'd like to take this opportunity to remind you that our remarks today will include forward-looking statements reflecting management's current forecast of certain aspects of Lululemon's future. These statements are based on current information, which we have assessed, but by which its nature is dynamic and subject to rapid and even abrupt changes. Actual results may differ materially from those contained in or implied by these forward-looking statements due to risks and uncertainties associated with our business including those we have disclosed in our most recent filings with the SEC, including our annual report on Form 10-K and our quarterly reports on Form 10-Q. Any forward-looking statements that we make on this call are based on assumptions as of today, and we expressly disclaim any obligation or undertaking to update or revise any of these statements as a result of new information or future events. During this call, we will present both GAAP and non-GAAP financial measures. A reconciliation of GAAP to non-GAAP measures is included in our quarterly report on Form 10-Q and in today's earnings press release. In addition, the comparable sales metrics given on today's call are on a constant dollar basis. The press release and accompanying quarterly report on Form 10-Q are available under the investor section of our website at www.lululemon.com. Before we begin the call, I'd like to remind our investors to visit our investor site, where you'll find a summary of our key financial and operating statistics for the first quarter, as well as our quarterly infographic. Today's call is scheduled for one hour, so please limit yourself to one question at a time to give others the opportunity to have their questions addressed. And now, I would like to turn the call over to Calvin.

Thank you, Howard. I am pleased to be here today and share with you the highlights of our quarter one performance. It's been just over a month since I saw many of you in person at our recent Analyst Day presentation in New York. These are exciting times for Lululemon. as we embark upon our next five-year growth plan, the power of three times two. Our teams are energized and deep in the work of the plan we shared. I look forward to providing you with updates on future earning calls as we make progress on the key initiatives we laid out. However, I'd like to spend our time today discussing the macro environment and the unique aspects of Lululemon which continue to contribute to our strong performance. As you saw in our press release, The momentum in our business continues and 2022 is off to an impressive start. Revenue in the first quarter increased 32% versus last year and 27% on a three-year CAGR basis. And adjusted earnings per share grew 28% and 26% on the same basis. There are several notable metrics that underscore our performance this quarter. Starting with product, the guest response to our core and new merchandise remains very strong. Our product continues to drive demand, and we experience robust traffic growth in both channels, with stores and e-commerce up approximately 40%. And finally, we're in a strong inventory position relative to last year. While our levels are higher than our historical norms, we are comfortable with the quality and composition of our inventory. This allows us to balance the momentum we're seeing in the business with the challenges that remain within the global supply chain. With that in mind, I'd like to spend a few minutes on China, given the current conditions related to COVID-19 and its impact on both our operations and supply chain. Consistent with many retailers in the region, we are seeing modest impacts of the COVID-19 related lockdowns on our stores and with some of our vendors. Throughout the first quarter and into the second quarter, we have seen up to a third of our 71 stores close for a period of time. As I'm sure you've seen, This week, stores are reopening in Beijing and we are starting to see restrictions ease in Shanghai. Even with the closures, our business remains solid in the first quarter with revenue growing in double digits versus last year and growing over 60% on a three-year CAGR basis. In addition, our growth plans remain on track as the majority of our 40 international new store openings this year are planned for mainland China. From a sourcing perspective, When looking at finished goods for the upcoming fall season, mainland China represents only 4% to 6% of our total unit volume. When we include trims and other components, the volume increases. Although the majority of our vendors are now up and running, we have experienced delays and expect some level of impact on future receipts. Our teams are closely monitoring the situation, staying in regular contact with our vendors, and working to mitigate the current risks. Having said all of this, We remain excited about our business in China, and we view the current situation as short-term in nature. Our brand momentum remains strong, and we will continue to invest in the region, and we're excited about what the future holds for Lululemon in this important market. When looking at the global supply chain, overall, the environment remains challenging. Ocean lead times are not improving, and air freight costs remain high. To address these issues, our team is carefully balancing our business momentum with timeline uncertainties to help ensure we meet guest demand. This comes with a commensurate investment in air freight, which is important given we see satisfying guest demand as a priority. Our timelines allow us to pivot when we see trends change from air to ocean, and all costs are included in our guidance. We will continue to carefully assess and manage. Switching now to inflation, as we mentioned last quarter, We are seeing increased input costs on raw materials, labor, and as I just spoke about, air freight. We continue to monitor the situation closely and are taking actions to mitigate the impact on our P&L. These include ongoing cost management, working with our vendor partners to identify additional efficiencies and pricing opportunities. As I've shared previously, we are implementing some select price increases and have not seen any negative impact to our sales volume as a result. However, unlike many in the industry, we do not use promotional pricing as a lever to drive top line sales. Therefore, we are very intentional with our pricing strategies and we monitor guest response accordingly. That said, I remain cautious around increasing prices in this period of uncertainty and we will continue to monitor and maintain a measured approach toward this strategy. Given the times in which we are operating, I wanted to highlight for you the unique strengths of Lululemon, which drive our performance quarter after quarter. We have many attributes that make our brand unique, create competitive advantages, and lead to the ongoing momentum in our business. As I've shared before, the pandemic has contributed to a fundamental change in behaviors that provide us with compelling opportunities to grow. These include... Our guests wanting to live an active and healthy lifestyle and looking for additional support related to wellbeing and recovery. And as normalcy returns, their desire for versatile apparel has increased. Plus our DTC model provides a strong and direct connection to our guests with incredible insights across every touch point. And we have a very balanced approach to growth across channels, geographies, merchandise, categories, gender, and activities. And finally, Our primary focus on technical athletic apparel creates demand for our product across seasons and mitigates the demand for our products. and to bring new technical features into our merchandise assortment. Our foundational principle is when you feel your best, you perform your best. We utilize the science of field to bring a consistent flow of innovation to our assortment across a variety of activities. Our product pipeline remains very strong, and it's the bedrock of the business. In quarter one, we launched footwear, golf, and tennis, all meeting with great guest response. With footwear, We leveraged 20 plus years of experience designing and developing technical apparel to bring a unique solve to the women's footwear space. Many in the industry designed footwear for men and then adapt for women. We designed our shoe for women first. We introduced our first shoe Blissfield in March, and we were proud that it was named the best women's specific shoe in 2022 by runners world. The response has been enthusiastic. and since we were prudent with our inventory buys, we have seen out of stocks. Although we expect to be in a better inventory position in the coming weeks, demand has far exceeded our sales forecast. As a result, we do anticipate that we will be chasing into additional inventory for the remainder of the year. Turning to our play activities, golf and tennis both performed well this quarter. These collections are comprised of pieces from our core assortment as well as styles designed specifically for these activities. This strategy allows us to manage our assortment, grow share of wallet, while also leveraging our core and driving sales. We are pleased with these results and will continue to lean into these strategies. Looking ahead into quarter two, we have several exciting product stories to tell. First is SenseNet. To continue expanding our run apparel assortment, this week we launched our newest fabric innovation, After four years of research and development, we have brought to market SenseNet, a proprietary fabric that seamlessly engineers zones of support, breathability, and mobility directly into the fabric. Based upon collaborative work with our ambassadors and athletes, we determine the sensation runners are looking for with unrestricted, lightweight support, while also delivering the technical performance and endurance they expect from Lululemon. And our SenseNet collection provides this sensation in nine styles for men and women. Second is hike. To leverage the versatility of our core, as we've done with golf and tennis, we're on track to launch hike in the coming weeks. This assortment will combine elements of our core assortment with new styles designed specifically for hiking. This is an unmet need we heard from our guests, specifically as hiking has gained popularity during the pandemic. Next is throwbacks. Our product team has been spending time in our archives to find the best of the best and re-release limited editions of some of our guests' favorite styles, including revamped versions of our Astro Pant, Shape Jacket, and Inspire Crop. And finally, footwear. As I mentioned, we're excited with the initial response. We just launched our second style, the Rest Feel Slide. this week, and we remain on track to roll out our next two styles later this year, charge feel and strong feel. This is just the beginning for us within this category, which has considerable opportunity. So in summary, our results and our guidance demonstrate the strength of our business and the momentum of our brand. This is enabled by our omni-operating model, our product innovation, and our balanced approach to growth. We have shown our ability to successfully manage through what's happening around us, and I am continually inspired by how our teams around the globe consistently deliver for our guests, for each other, and for our stakeholders. With that, I'll now turn it over to Megan.

Thanks, Calvin. I'll begin by saying how excited I was to host our recent Analyst Day and get to meet and speak with many of you in person. As we delivered early on our total 2023 revenue goals, we used Analyst Day to launch our growth plan for the next five years. Our new plan builds upon our proven Power of Three formula and calls for a doubling of total revenue from $6.25 billion in 2021 to $12.5 billion in 2026. Hence, we've appropriately named the new plan Power of Three times two. Our teams are already executing against our new plan, and we're off to a solid start despite the ongoing headwinds in the macro environments. So let me now share with you the details on our Q1 performance. I will also discuss specifics on our balance sheet, including our inventory and cash position. Please note that when comparing the financial metrics for Q1 2022 with Q1 2021, the adjusted operating results for Q1 2021 exclude approximately $8 million of mirror acquisition-related costs and their associated tax effect. You can refer to our earnings release for more information and reconciliations to our GAAP metrics. For Q1, total net revenue increased 32% to $1.613 billion, ahead of our guidance, driven by outperformance in North America. Comparable sales increased 29% with a 24% increase in stores and a 33% increase in digital. On a three-year CAGR basis, total revenue increased 27%, an acceleration from Q4. In our store channel, sales increased 36% on a one-year basis and 13% on a three-year CAGR basis. Productivity was above 2019 levels and continues to trend that way to date in Q2. On average, we had 98% of our stores open throughout Q1. We currently have 97% open with current closures related predominantly to the impact of COVID-19 in China. Wear footage increased 16% versus last year, driven by the addition of 56 net new stores since Q1 of 2021. During the quarter, we opened five net new stores and completed four co-located optimizations. In our digital channel, revenues increased 51% on a three-year CAGR basis and contributed $721 million of top line, or 45% of total revenue. Within North America, revenue increased 26%, and within international, we saw a 37% increase, both on a three-year CAGR basis. And by category, men's revenue increased 30% on a three-year CAGR basis, women's increased 24%, and accessories grew 43% on the same basis. I'm also excited with what we're seeing in traffic across both channels. In stores, traffic increased over 40%, while at the same time, traffic to our e-commerce sites and apps globally increased nearly 40%. On a three-year CAGR basis, traffic is up over 10% in stores and nearly 40% in e-commerce. This speaks to the strength of our Omni operating model as we engage with our guests in ways most convenient to them. Gross profit for the first quarter was $870 million, or 53.9% of net revenue, compared to 57.1% of net revenue in Q1 2021. Our gross margin decrease of 320 basis points relative to last year was driven by a 370 basis point decrease in product margin. Q1 product margin included an increase of approximately 340 basis points in air freight related to macro supply chain challenges. which was higher than our guidance of 300 basis points due to increased usage relative to our initial plans. Markdowns were approximately flat with last year. Relative to 2019, markdowns decreased by 40 basis points. We also experienced 10 basis points of deleverage from foreign exchange. This was partially offset by 60 basis points of leverage on fixed costs driven by occupancy and depreciation. Moving to SG&A. Our approach continues to be grounded in prudently managing our expenses while also continuing to strategically invest in our long-term growth opportunities. SG&A expenses were $608 million, or 37.7% of net revenue, compared to 40.5% of net revenue in Q1 2021. Leverage in the quarter versus Q1 2021 resulted from leverage in our store and digital channels, somewhat offset by increased investments in corporate SG&A and depreciation. Operating income for the corridor was $260 million or 16.1% of net revenue compared to adjusted operating margin of 16.4% in Q1 2021 and inclusive of approximately 340 basis points of additional air freight expense. Tax expense for the corridor was $70 million or 27% of pre-tax earnings compared to an adjusted effective tax rate of 24.5% a year ago. The increase relative to last year is due primarily to a decrease in tax deductions related to stock-based compensation and an accrual for withholding taxes on a portion of our fiscal 2022 Canadian earnings. Net income for the quarter was $190 million, or $1.48 per diluted share, compared to adjusted earnings per diluted share of $1.16 in Q1 of 2021. Capital expenditures were $111 million for the quarter compared to $64 million in the first quarter last year. Q1 spend relates primarily to investments to support business growth, store capital for new locations, relocations and renovations, and technology investments. Turning to our balance sheet highlights, we ended the quarter with $649 million in cash and cash equivalents and nearly $400 million of available capacity under our revolving credit facility. Inventory grew 74% versus last year and was $1.3 billion at the end of Q1. We continue to strategically use air freight to help mitigate industry-wide supply chain issues and support our top line momentum, with these higher costs having an impact on inventory when looked at on a dollar basis. We also believe that 2019 is the most relevant comparison point given supply chain challenges since the beginning of the pandemic. On a three-year CAGR basis, unit inventory increased 36% relative to 2019 at the end of Q1 and is well positioned relative to our Q2 2022 top-line guidance of a 26% increase on a three-year CAGR basis, again, comparing to 2019. It's important to mention that due to ocean transit times, our in-transit inventory is up relative to 2019 and is contributing approximately five percentage points to the three-year unit CAGR of 36%. I'd also mention that we likely left guest demand on the table last year as we were under inventory due to supply chain issues. Hence, our product teams have taken this into account as they've planned receipts for this year. We also continue to leverage our core assortment, which comprises approximately 45% of our inventory. Looking forward, we expect to see the highest one-year inventory growth rate of the year in Q2 on both the dollar and unit basis before levels begin to moderate in Q3. In Q2, inventory dollar growth relative to last year will be modestly above levels at the end of Q1. On a three-year CAGR basis, unit growth will remain up approximately 36%. In Q1, we repurchased approximately 700,000 shares at an average price of approximately $328. At the end of the quarter, we had approximately $955 million remaining on our recently authorized $1 billion repurchase program. Let me shift now to our outlook for Q2 and the full year 2022. For Q2, we expect revenue in the range of 1.75 to 1.775 billion, representing one year growth of 21 to 22% and a three year CAGR of approximately 26%. We expect to open 20 net new company operated stores in Q2. We expect gross margin in Q2 to be down approximately 200 basis points relative to Q2 of 2021. Our Q2 guidance includes an impact of approximately 150 basis points of pressure from air freight costs due to poor congestion and capacity constraints. In Q2, we expect our SG&A rate to be relatively flat with Q2 2021. Turning to EPS, we expect adjusted earnings per share in the second quarter to be in the range of $1.82 to $1.87 versus adjusted EPS of $1.65 a year ago. Our range of $1.82 to $1.87 excludes a $0.07 gain on a real estate sale we expect to realize in Q2. For the full year 2022, we now expect revenues to be in the range of $7.61 to $7.71 billion. This range assumes our e-commerce business grows in the high teens to low 20s relative to 2021. When looking at total revenue, our guidance implies a three-year CAGR of 24% to 25%. which continues to be higher than our three-year revenue CAGR of 19% leading up to 2020 and higher than the target of approximately 15% growth we set forth in our new power of three times two growth plan. We continue to expect to open approximately 70 net new company operated stores in 2022. Our new store openings in 2022 will include approximately 40 stores in our international markets and represents a square footage increase in the low 20% range in total. For the full year, we were forecasting gross margin to decrease between 100 to 150 basis points versus 2021. The reduction relative to last year is driven by increased investment in our DC network and a strategic increase in content development costs for Lululemon Studio Mirror. The increased costs and gross margin will be offset by a reduction in digital marketing, which flows through SG&A. In addition, we now expect air freight, to have a modest negative impact of approximately 30 basis points versus our prior expectation of flat. Turning to SG&A for the full year, we are forecasting leverage of 50 to 100 basis points versus 2021, driven by increased sales and the shift in Lululemon Studio mirror investments I just mentioned. And when looking at operating margin for the full year 2022, we now expect it to be approximately flat with last year. inclusive of the 30 basis points of incremental air freight expense I just mentioned. For the full year 2022, we now expect our effective tax rate to be 28 to 28.5%. For Q2, we expect our effective tax rate to be approximately 28.5%. For the fiscal year 2022, we expect adjusted diluted earnings per share in the range of $9.35 to $9.50 versus adjusted EPS of $7.79 in 2021. Our EPS guidance excludes the impact of any future share repurchases and the gain on a real estate sale we expect to realize in Q2. We continue to expect capital expenditures to be approximately $600 to $625 million for 2022. The increase versus 2021 reflects increased investment in our supply chain, digital capabilities, new store openings and renovations, as well as other technology and general corporate infrastructure projects. Our range of $600 to $625 million is approximately 8% of revenue, in line with our current power of 3 times 2 target of 7 to 9%. Thank you. And with that, I'll turn it back over to Calvin for some closing remarks.

Thank you, Megan. As you can see from our results, Lululemon continues to deliver the kind of performance that sets us apart within the retail industry. Two weeks ago, we held our annual leadership summit and brought together virtually over about 2,000 of our leaders from around the globe. We detailed our power of three times two growth plans and spoke to our culture at Lululemon and to our purpose, which is to elevate human potential by helping people feel their best. And the passion from every participant, the enthusiasm during every breakout was simply incredible. It reinforces my confidence in all that lies ahead for Lululemon as we both navigate what uncertainty emerges and work toward delivering on our goals to double our business within the next five years. It's an honor to lead this incredible organization. And now we'll take your questions. Operator?

Thank you. We will now begin the question and answer session. Analysts who wish to join the question queue may press star then one on their telephone keypad. You will hear a tone acknowledging your request. If you are using a speakerphone, please pick up your handset before pressing any keys. To withdraw your question, please press star, then two. We will pause for a moment as callers join the queue. The first question comes from Matthew Boss with JP Morgan. Please go ahead.

Great, thanks, and congrats on another really nice quarter. So, Calvin, what I thought was striking about this quarter was the consistency, meaning across the 27% top-line CAGR, you delivered strength across men's, women's, international, and North America. So maybe could you help speak to the momentum of the brand versus maybe the expansion of the overall TAM, what you think is really driving it? Any comments on May to start the second quarter? And then just how best to think about your ability to chase upside demand relative to the inventory that you have?

Thanks, Matthew. Well, I think it, as you know, and you've heard me say before, you know, we're in early innings of growth, and we continue to experience balanced growth across all of our levers, gender, activity, category, channel. and markets, and Q1 was no different. And it plays to our product innovation, plays to where we are in the opportunity and penetration across all of those levers and how we still have room to grow women's while we're working to double our men's business, similar in our physical retail store footprint as we double digital and internationally with our momentum and growth in North America. It's the narrative that we've been sharing and working towards continues to play out. And as we look forward to future quarters into the future years and doubling our business, it's where we gain the confidence in our ability, knowing what we can continue to create and see that balance across all levers inside the organization. And when I do look forward in the product pipeline, feel very good that we continue to bring innovation into our own categories of run, train, and yoga. We saw a lot of success. We just launched Sense Knit, as you might have seen in the last few days, which is a wonderful new innovation and fabric to help further our strength and run, and the launch of our play activities in the last quarter with golf and tennis, One achieved the goal of driving credibility in those activities as well as lifting the core. So very excited about how product is resonating in the pipeline for new innovation and have a lot of confidence that we'll continue to see those growth opportunities as we move forward.

And Matt, I just add to that in terms of May. You know, I think we're pleased with the continued momentum in our business as reflected in and our 26% three-year CAGR guide for Q2. And then in terms of inventory relationships to sales as the year progresses, we feel really comfortable with our inventory position. As we move into Q2, the team's done a nice job pulling forward inventory to meet our demand. And we are guiding to 24% to 25% for the full year, a little bit more conservative in the second half, given we have more of a line to cite clearly to Q2 and some of the macro uncertainty in front of us, but feel well-positioned overall.

That's great. Best of luck. Congrats again.

Thank you. The next question comes from Mark Altschweger with Baird. Please go ahead.

Good afternoon. Thank you for taking my question. I guess just first, with respect to the updated guidance, great to see the momentum. You raised the high end of the guidance, both on sales and earnings, kind of more than flowing through the Q1 upside, even with some of the incremental macro headwinds that you and others are facing out there. So we're hoping you could just unpack that a bit more. I guess what has changed regarding the plan for the remainder of the year? relative to a couple of months ago? And how do you feel about the various levers you have in the business? Should there be perhaps some incremental choppiness with kind of broader consumer demand?

Yep. Thanks, Mark. So in terms of our guide for the second quarter, we obviously have line of sight to the second quarter at this point in time. 26% three-year CAGR, and then, as I said, a little more conservative for the second half of the year. But feeling like our Q1 momentum is flowing into Q2, so comfortable flowing through some upside there. As I mentioned, we do have a little bit of incremental air freight pressure for the year, which we've reflected in our guidance. And overall, EPS raise also reflects some benefit from tax rates. In terms of levers as we move throughout the year, as we've been employing over the last couple of years, we're running multiple scenarios to ensure we're able to meet guest demand as it comes and remaining flexible, pushing in on air freight, but also being flexible there and matching that with demand as well. So certainly using that muscle that we developed throughout the last couple of years in terms of how agile we are in meeting our guest demands.

Thank you for that. And I apologize if I missed this, but could you give us just a little bit more perspective on China, what you're seeing quarter to date? I know it's just kind of a mid-ish single-digit percent of your sales, but with the store closures you mentioned, I guess, where is that tracking and what is incorporated in your guidance in terms of getting those trends back to full productivity? Thanks.

Yep. In terms of China, we have approximately 20% of our stores closed currently. So 15 out of 71, primarily in Shanghai and Beijing. We've taken that into account in our guidance. We did have eight of our 10 stores in Beijing reopen this week, and we're also seeing restrictions begin to ease in Shanghai. And the overall impact of that revenue in Q1 was more than made up by strength in other regions. and we're seeing, I would say, overall the situation improve there. Also keeping a close eye, I would say, on sourcing. A small percentage of our total unit volume comes out of China, but continue to monitor closely there.

Thank you, and best of luck.

Thank you. The next question comes from Ike Boruchow with Wells Fargo. Please go ahead.

Thank you. Good afternoon. Just on the inventory, Calvin or Megan, could you maybe just talk a little bit more on are there pockets of categories where you feel like you have a little bit too much? Is it broad-based? I'm looking at men's, women's, some of the ancillary newer categories. Is there any area where there's a little bit more than others? And then does this change any of your thought on potential markdown cadence into 2Q? in the rest of the year. I think, Megan, you said markdowns were flat in Q1, but kind of curious what your thinking is for the rest of the year. Thanks.

Yep. Thanks, Ike. So, in terms of inventory, I'd say we feel well-positioned. If anything, there might be some pockets of inventory where we wish we had a little bit more, just given the dynamic nature of an environment, and certainly have been where possible pushing into core inventory, which is about 45% of our assortment and doesn't come with attached markdown liability. As I mentioned, Q1, so markdowns are relatively flat year over year, and then 40 basis points down to 2019. We feel confident in our top-line trend going into Q2 at a 26% three-year CAGR and well aligned with our inventory growth. when adjusting for the in-transit piece on a unit basis and have no plans to change the markdown cadence of our business as we look throughout the year.

Got it. Thanks.

Thank you. The next question comes from Kimberly Greenberger with Morgan Stanley. Please go ahead.

Great. Thank you. This is Alex Drayton on for Kimberly Greenberger. I just wanted to ask a quick question. There's all this chatter in the market and some signs we're seeing a slowdown, at least on the lower end consumer. But your results don't suggest there's any weakness across your customer base. So maybe could you talk to if you see any signs of weakness across in certain regions or in certain customer demographics? And can you also just remind us of what the average kind of household income is of a Lulu customer?

Hi, Alex. It's Kelvin.

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