UA: Sweeping Apparel Under The Carpet?

Yes, footwear is performing well. But my analysis begs the question as to whether UA is sweeping ad spend associated with cleaning apparel inventories under the performance footwear rug.

You've seen me throw out some incrementally positive comments recently on UA - particularly given what appears to be very solid execution on its footwear launch (which is still tracking extremely well, by the way). Footwear is extremely important to future growth UA, but let's not forget that apparel accounts for 90% of its current cash flow. For every positive datapoint I see on footwear, I get more guarded on apparel.

Our analysis shows the heavy step-up in brand-promotion media spend in the first half. Yes, we all know that UA lowered the earnings boom early this year for this very reason, but that was due to the footwear launch. We're seeing this come through, but what I'm surprised to see, however, is the massive year/year increase in print ad spending on performance apparel. While I am not yet certain as to why, let's stay intellectually honest and at least ask the question as to whether the company is sweeping ad spend associated with cleaning apparel inventories under the performance footwear rug.

My long standing take on UA is that the brand is tremendous, and that I don't question for a minute that it can grow 30% top line for another 3-5 years. But simply think that the gross margin needs to come down another 2-3 points to reach UA's potential. Last I checked, growth stocks at 30x+ earnings don't like when margins come down. I like the brand, but I still don't like the stock.

Exhibit 1: The increase in instances of promotional activity synch almost perfectly with change in the Sales/Inventory spread. Interpreting the chart shows that promotions are high, but so are inventories. Margins have yet to take the big hit.

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