Snapshot
LULU
NEGATIVE
1 9 J A N U A R Y 20 1 2
Lululemon Athletica Inc.
www.lululemon.com
Industry
Textile – Apparel
Clothing
Price
$60.51 (01/18/12)
Market Cap
8.68 billion
Enterprise Value
8.41 billion
Price-Earnings Ratio
53.41
EV/Revenue
9.61
Debt/EBITDA
0.00
Short Interest
19.1%
Days to Cover
3.2
Company Description
Cash-Flow Deterioration
Continues
1
2
Considerations: A substantial decline in cash flows has led to a build of
positive accruals and plummeting FCF margins.
Potentially elevated
inventory levels from rising input costs may pressure future
earnings/margins.
Declining new-store productivity may signal the early
stages of a slowdown in growth for the retail chain.
Expenses are likely
to be outsized in the near future, given the unusual uptrend in CapEx to
depreciation.

Lululemon Athletica Inc. (LULU), together with its subsidiaries, engages in
the design, manufacture, and distribution of athletic apparel and accessories
for slim-figured women, men, and female youth primarily in Canada, the
United States, and Australia. Its apparel assortments include fitness pants,
shorts, tops, and jackets for healthy lifestyle activities, such as yoga, running,
and general fitness. The company’s fitness-related accessories comprise bags,
socks, underwear, yoga mats, instructional yoga DVDs, and water bottles.

LULU sells its products through its retail stores and a network of wholesale
accounts (such as yoga studios, health clubs, and fitness centers), as well as
directly to consumers through e-commerce. As of 10/30/11 the company had
165 corporate-owned stores under the Lululemon Athletica and Ivivva
Athletica brand names. Lululemon Athletica Inc. was founded in 1998 and is
based in Vancouver, Canada.

For the 12 months ended 10/30/11, LULU’s net income came in at $165.3
million, representing a 73.0% YOY increase. Over the same period, FCF
(CFOA) diverged from net income, falling 70.9% (5.5%) to $36.5 million
($145.6 million).

The combination of the increase in reported earnings and significant cashflow deterioration resulted in a 3,120 bps YOY increase in total accruals1 to
24.1% of average total assets. This figure is also 2,255 bps higher than the
company’s trailing three-year average of 1.5%.

Similar to total accruals, operating accruals2 increased 2,907 bps to 27.8% of
average current assets. Growth in inventory was the primary driver behind the
recent growth in total and operating accruals, consuming $54.9 million in
CFOA in the most recent TTM period.
Defined as net income + stock based compensation – free cash flow.
Defined as EBITDAS – CFOA (pre-tax and pre-interest).
14614 N. Kierland Blvd., Suite S-260
Scottsdale, Arizona USA 85254
Tel 480.998.8585 Fax 480.998.4747
products@gradientanalytics.com
www.earningsquality.com
© Copyright 2012 Gradient Analytics Inc.
LULU
Snapshot

LULU’s accruals also remained outsized when compared to its peer group,3
which on average reported total and operating accruals of 8.1% and 10.1%,
respectively, for the period ended 10/30/11.
Table 1. Analysis of Cash Flows and Accruals
($ units in millions)
12M Ended:
10/30/11
EBITDAS
$280.7
YOY % change
54.5%
07/31/11
$261.6
64.4%
05/01/11
$234.9
70.9%
01/31/11
$214.1
88.8%
10/31/10
$181.7
99.5%
$165.3
73.0%
$145.6
-5.5%
$36.5
-70.9%
$152.2
81.4%
$165.0
33.3%
$58.9
-42.3%
$135.6
90.1%
$173.1
35.5%
$73.8
-32.0%
$121.8
109.1%
$180.0
52.6%
$149.6
46.1%
$95.5
134.3%
$154.1
123.3%
$125.6
154.2%
FCF margin
YOY bps change
Accruals/ATA
YOY bps change
Peer accruals/ATA
YOY bps change
4.2%
-1,586
24.1%
3,120
8.1%
568
7.2%
-1,090
19.5%
2,328
4.7%
462
9.7%
-1,159
14.7%
2,618
5.0%
585
21.0%
-158
-7.4%
705
1.0%
171
20.0%
757
-7.1%
-475
2.4%
472
Operating accruals/ACA
YOY bps change
Peer operating accruals/ACA
YOY bps change
27.8%
2,907
10.1%
801
19.2%
1,648
6.8%
809
9.8%
2,065
7.1%
1,067
0.9%
2,242
2.9%
844
-1.2%
167
2.1%
424
Net income
YOY % change
CFOA
YOY % change
FCF
YOY % change
Inventory Metrics Spike
Upwards
3

For the 12 months (three months) ended 10/30/11, LULU posted YOY sales
growth of 39.5% (31.0%) to $874.7 million ($230.2 million). By contrast, the
company’s inventory balance increased by 76.9%YOY to $129.2 million.

Inventory relative to 12-month revenue increased 312 bps YOY to 14.8%,
representing a three-year high for the company. Looking at shorter-term
trends, inventory to three-month revenue increased to 56.1%, up 1,457 bps
YOY and also a three-year high.

Mitigating some of our concerns, $33 million of the total increase in inventory
was from in-transit inventory (versus $11 million last year); with management
explaining that the increased inventory amount was due to keeping up with
excess demand (Q3 2011 analyst call). However, should demand trends
change, we remain concerned about deteriorating margins from higher
markdowns, rising input costs, and increased competition in the upcoming
quarters.
Peer group includes Under Armor (UA), Nike (NKE), Finish Line (FINL), Bebe Stores (BEBE), Wet Seal (WTSLA), and Urban Outfitters (URBN).
Page 2 of 5
LULU
Snapshot
Table 2. Inventory Analysis
($ units in millions)
Period Ended:
Inventory
Inventory to 3M Revenue
Inventory to 3M Forward
Revenue
Inventory to 12M Revenue
3M DSI
12M DSI
YOY change
Inventory (%)
Inventory to 3M Revenue (bps)
Inventory to 3M Forward
Revenue (bps)
Inventory to 12M Revenue (bps)
3M DSI (%)
12M DSI (%)
New Store Productivity
Declines
4
10/30/11
$129.2
56.1%
07/31/11
$88.9
41.9%
05/01/11
$64.4
34.5%
01/31/11
$57.5
23.4%
10/31/10
$73.0
41.5%
38.8%
38.6%
30.3%
30.8%
29.8%
14.8%
98
10.8%
78
8.5%
72
8.1%
58
11.6%
81
81
73
69
67
72
76.9%
1,457
33.6%
-184
26.9%
-221
30.4%
-402
40.2%
-462
906
77
-300
-110
-268
312
21.3%
12.2%
-96
4.2%
3.1%
-149
6.6%
-1.8%
-166
-1.4%
-11.6%
-150
1.3%
-15.6%

For Q3 2011, LULU had sales growth of 31.0% YOY, including the results
from 31 new stores added in the last year. Excluding these new-store
openings, comparable-store sales increased 18.0% YOY.

Based on these trends, we estimate that new-store productivity4 declined to
56.0% in the most recent quarter from 188.2% in Q3 2010, compared to an
average of 168.0% in 2010.

When asked about the decline in the Q3 2011 analyst call, CFO John Currie
said, “New store productivity is not down from what it’s been at all. New
stores are still opening, better projected annual rate in excess of 11,000 square
foot, and that’s been the case throughout the year and it’s not declining.”
However, as shown in Chart 1 (next page), according to our estimate, newstore productivity has declined significantly over the last four quarters.
We calculate new store productivity as (Sales growth – SSS) / Total Sq. Footage Growth.
Page 3 of 5
LULU
Snapshot
Chart 1. Sales Growth Trends
250.0%
200.0%
Total Sales
Growth
150.0%
100.0%
Same Store
Sales
New Store
Productivity
50.0%
0.0%
Q2 2009 Q3 2009 Q4 2009 Q1 2010 Q2 2010 Q3 2010 Q4 2010 Q1 2011 Q2 2011 Q3 2011
-50.0%
Capital Expenditures Rise
Relative to Depreciation
Expense

During the TTM ended 03/31/11, capital expenditures (CapEx) increased
79.3% to $51.1 million,5 while depreciation increased by a comparatively
slower 13.3% to $26.0 million.

As a result, CapEx remains outsized relative to depreciation expense. In
addition, the level of capital expenditures relative to revenue also increased,
rising by 130 bps YOY to 5.8%. Meanwhile the ratio of depreciation to
revenue declined 69 bps YOY to 3.0%.

Although we note that the company is in expansion mode, the current CapEx
to depreciation ratio of 1.97x suggests that depreciation expense could pose a
significant threat to future margins. In the long run, the ratio of CapEx to
depreciation must revert eventually to 1.0.
(See table, Analysis of CapEx and Depreciation Trends, next page)
5
This excludes $58.0 million of capital expenditure of land in Q1 2011.
Page 4 of 5
LULU
Snapshot
Table 3. Analysis of CapEx and Depreciation Trends
12M Ended:
CapEx6
Depreciation
CapEx/Depreciation
CapEx as a % of revenue
Depreciation as a % of revenue
Change, YOY
CapEx (%)
Depreciation (%)
CapEx/Depreciation (%)
CapEx as a % of revenue (bps)
Depreciation as a % of revenue (bps)
10/30/11
$51.1
$26.0
1.97x
07/31/11
$48.1
$25.1
1.91x
05/01/11
$41.3
$24.2
1.71x
01/31/11
$30.4
$23.5
1.29x
10/31/10
$28.5
$22.9
1.24x
5.8%
3.0%
5.9%
3.1%
5.4%
3.2%
4.3%
3.3%
4.5%
3.7%
79.3%
13.3%
58.2%
120.6%
13.2%
95.0%
115.1%
16.0%
85.5%
94.9%
19.2%
63.5%
45.4%
21.0%
20.1%
130
-69
200
-87
166
-91
83
-105
-40
-112
Purpose: Gradient EQA Snapshots leverage proprietary signals that our analysts use to determine Earnings Quality metrics of interest.
Following a brief review of the earnings quality signals generated by our proprietary screens leveraging a variety of proprietary and other publicly
available data, ratings of Positive, Neutral or Negative are assigned to summarize our perspective of noteworthy Earnings Quality metrics.
Disclaimer: Earnings Quality Analytics is the property of Sabrient Holdings, LLC, d/b/a Gradient Analytics (“GRADIENT”). Unauthorized
reproduction or redistribution of this document in full or in part is strictly prohibited by law and a violation of the Copyright Act. Information
contained herein may not be reproduced in whole or in part, including photocopying of printed copy or e-mail forwarding, without the express
written consent of GRADIENT. You must contact Gradient Analytics, Inc., for authorization to reprint or reproduce any part of this document.
The information, opinions and analysis contained herein are provided “AS IS” based on sources believed to be reliable, but no warranty or
representation of any kind, expressed or implied, is made as to their accuracy, completeness, correctness, or otherwise. This report is for
information purposes only and should not be used as the basis for any investment decision. GRADIENT disclaims liability for damages of any sort
(including lost profits) arising out of the use of or inability to use this report. Other than annual fees from subscribers to its Earnings Quality
Analytics/Equity Incentive Analytics services, Gradient does not receive, directly or indirectly, any consideration for publishing this report.
Gradient has not received any consideration, either directly or indirectly, from the issuer analyzed herein. GRADIENT is not an investment advisor
and this report is not investment advice. This information is neither a solicitation to buy nor an offer to sell securities. Information contained
herein reflects our judgment at the time of original publication, may include minor elements of prior screening results published to clients, and is
subject to change without notice. Gradient does not have a long or short position in securities mentioned. Safe Harbor Statement: Statements
contained in this document, including those pertaining to estimates and related plans other than statements of historical fact, are forward-looking
statements subject to a number of uncertainties that could cause actual results to differ materially from statements made. {2012.01} © Copyright
Sabrient Holdings, LLC 2012
6
All CapEx figures on this table exclude $58 million capital expenditure of land in Q1 2011.
Page 5 of 5