Keith added UA again into the Hedgeye Virtual Portfolio. Again, true to our process, we (the analyst team) will have key ideas over long durations, and he will manage near-term risk by trading around the position. We recognize two different calls here at Hedgeye…1) the research call, and 2) the risk management call. A portfolio action usually occurs when those two calls match up, or change meaningfully on the margin. In this instance, there is no change to the research call.
TAIL (3-Years or Less): UA should put up $3bn in revenue by ‘14 – impressive given a $1.5bn print in 2011. That incremental top line breaks out as follows. a) $500mm in men’s, b) $300mm in footwear, c) $300mm in int’l, d) $250mm in women’s, e) $125mm in accessories. It’s tough to find any name out there growing EBIT in the 25-30% range. This translates to over $2 per share in earnings at UA’s current margin structure (which we think is sustainable). Simply put, UA was built to be expensive.
A few more considerations on the TAIL call. There’s no fundamental reason why footwear should not attain share at least in line with lesser brands like New Balance, Reebok, Brooks, Saucony…Admittedly it has not happened yet, but will – the big risk is that it costs them more to do it. When this accelerates, we pity anyone short this stock.
International is also next on the docket with the hire of Charlie Maurath.
All in, it’s true that it faces a stiff competitor in Nike, but barriers to entry here are immense, and UA has already invested to jump that hurdle. Few others have. In addition, UA has ~2x the Direct-to-Consumer exposure as Nike – that’s one of the benefits of building a business without a legacy wholesale model that’s dependant on dinosaur retailers to conform to its marketing plan.
TREND (3-Months or More): With sales in both apparel and footwear accelerating into 2H driving solid top-line growth, UA also has a bullish gross margin setup over the next four quarters. Headed into 2H, gross margins will face margin pressure from mix as DTC (-50bps) and footwear (-25bps) continue to grow offset by less promotional activity due to lower excess inventory levels compared to last year. In addition, the sales/inventory spread turning positive for the first time in eight quarters coming out of Q2 is very gross margin bullish.
The fact that UA has ~5% of sales coming from outside the U.S. actually plays into its favor with the strengthening USD. UA’s failure overseas has actually turned into a near-term benefit relative to competitors that operate globally and need to translate profits to US$.
TRADE (3-Weeks or Less): Near-term factors are mixed for UA. Our estimate is 8% ahead of the Street in the upcoming quarter reflecting strong sales trends reflecting share gains in both apparel and footwear. Apparel sales have continued to outpace the broader industry posting greater than 2pts of share gain quarter-to-date. Meanwhile, footwear sales have reaccelerated since early June reflecting the early success of the new Spine platform and launch of UA’s new basketball line.
On the flip side, UA just lost its SVP/Sourcing, which is not good. Also, DKS writing off its investment in UK’s JJB is not great for UA’s int’l growth given the relationship between the two. We’re more concerned with perception than reality, but the facts can’t be ignored. When concerns are high, we’re buyers.