Over the last several weeks, we’ve seen stronger than expected sales in athletic apparel at Dick’s Sportin Goods (DKS), Footlocker (FL), and The Sports Authority. Additionally, we’ve noticed strength at Under Armour (UA) in both indirect and direct retailing channels. Furthermore, we think some of the footwear, particularly the bright colored running and training is resonating slightly better than expected with consumers. As a result, we are raising our fair value of Under Armour to just under $50 per share. This price implies a 2011 price to earnings ratio of 26 times our forecast and remains significantly below where it is currently trading.
Footwear isn’t good, but it’s getting better
Some of the recent footwear releases in Under Armour’s running have been better than we expected. Sales of the UA Charge premium running shoe look strong, and the $120 price-point provides the company with a higher gross margin than previous releases. Admittedly, the company has kept the amount of shoes released lower than previous running releases, which is certainly helping with pricing. The Charge is no competitor to the Nike Lunar line, but we do think Under Armour has slightly more potential in running than we had been giving it credit for.
However, Under Armour basketball is still not performing well. The design looks slightly improved; however, we think the NBA lockout hurt Under Armour more than competitors Nike (NKE) and Adidas (ADS). Unlike Nike, whose lineup includes the majority of the NBA all-stars (Kobe Bryant, LeBron James, Kevin Durant, Dwyane Wade, Carmelo Anthony), Under Armour includes a struggling, small market point guard (Brandon Jennings) and rookies like Kimba Walker and Derrick Williams (don’t worry if you haven’t heard of them, only NBA junkies have).
Since we believe the players truly drive the meaning of the brand in basketball, it’s been difficult for Under Armour to gain traction when its players are not even on the court. We expect steep discounts that will cut into margins, as adidas sells its Derrick Rose line for full price and consumers wait for Nike to open to scoop up $180 pairs of
Core performance driving results
Though we don’t think Under Armour is making incredible strides versus Nike and Lululemon (LULU) in women’s apparel, it certainly appears to be gaining some momentum, specifically in its performance tights. These tights are a lower price-point than Lululemon pants, and appear to be equally popular as Nike performance pants.
The bread and butter performance tops are still the stalwart of Under Armour’s business. Normal colors like black, blue, and red are sold out of normal sizes at several retailers, and pushing some product through Nordstrom (JWN) seems to be helping with fashion credibility. We’ve also seen acceleration in the charged cotton t-shirts, though the sales could be cannibalizing a bit of the cotton T business.
Commodity cost savings won’t hit Under Armour until spring or summer of 2012, but we did adjust our forecast to allow for higher gross margins in 2012. Cotton isn’t quite as big of an input as it is for Nike, but cheaper cotton is a plus for sweatshirts and t-shirts, and lower shipping costs help all retailers.
Ultimately, we still think shares of Under Armour are overvalued, but we think our new fair value reflects realistic operational success. Under Armour is improving its footwear operation, but its lack of international success and uninspiring entrances into new markets like basketball have caused us to remain skeptical of the firm’s long-term growth.