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Lululemon profit rises, warns margins will be pinched

Lululemon Athletica Inc. is bolstering its reputation as a stock market darling, which is how the upscale yoga wear retailer started its public corporate life more than three years ago.

Moe Doiron/Moe Doiron/The Globe and Mail

Christine Day is racing to reinvent sweat pants.

In the process, the chief executive officer of high-end yoga-wear chain Lululemon Athletica Inc. is turning to an unlikely source to gain a competitive edge: Apple Inc.

Ms. Day's strategy, much like that of the tech giant, is to focus on re-imagining its merchandise offerings in a bid to stand out with aesthetically pleasing, functional – and pricier – products.

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The CEO said on Thursday she will pour more money this year into developing new apparel lines with new technical features and fabrics, even though the investments will pinch the retailer's gross profit margins.

"Elements of those innovations go into other key and then ultimately core items, which is kind of like the Apple philosophy of constantly reinventing your core item," Ms. Day said on a conference call. "Winning for the long term is what creates the value for the brand and [keeps]our products at that premium level. And we don't want to compete on price with average product."

Facing the pressures of increasingly heated competition from lower-cost retailers, Ms. Day is betting that shelling out more to improve and broaden her offerings will pay off in the long run. She's also counting on producing smaller batches of higher-priced products to test new lines – in biking and spinning wear, for example, and, coming soon, in swim and surf wear – while grappling with higher costs for raw materials and overseas labour which also eat away at margins.

Her scarcity model – producing a limited number of fashions to create high demand – as well as focusing on functional and attractive merchandise – conjure up parallels to Apple's strategy. Now Ms. Day has to show that her athletic fashions remain as big a draw as Apple's tech prowess.

"Both are lifestyle brands and generally sought after," said David Ian Gray at retail consultancy DIG360 in Vancouver. "Both have a history of using scarcity to trigger buzz."

In the fourth quarter, the buzz once again helped yield results that beat Vancouver-based Lululemon's own targets and those of analysts. Its profit surged to $73.5-million (U.S.) or 51 cents a share from $54.8-million or 39 cents a share a year earlier, while sales in its established yoga wear shops jumped 26 per cent – a key retail metric.

Nevertheless, gross profit margins narrowed and inventory grew. Gross margins fell to 56.3 per cent of revenue from 58.5 per cent a year earlier – and will be closer to 55 per cent in 2012, the company said. Inventory at the end of the quarter rose to $104.1-million (U.S.), from $57.5-million a year ago.

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The company's deliberate move to raise inventory levels to fill rising demand is a double-edged sword. By the fourth quarter, merchandise levels were high enough to warrant marking down prices to clear out excess merchandise in January, which pinched margins.

Still, Ms. Day's big wager on product innovation seems to be generating results. "We continue to be astounded by the vast array of unique and highly technical product offerings and believe the competition will be hard pressed to keep up with Lulu's pace," said Jennifer Black of Jennifer Black & Associates in Lake Oswego, Or.

The retailer will be adding road biking, spinning and cold-weather items later this year. It recently piloted bicycle commuter clothing designed to be worn at work also. "To go from biking to work into the office in the same jacket is fabulous and very innovative," Ms. Black noted.

Sheree Waterson, chief product officer at Lululemon, said it is pushing more into men's wear, with new lines being introduced in the fourth quarter that will feature "transformable" garments that can be worn "from sport to street and from sport to sport."

And the company is working on "super-lightweight fabrics" so that runners will "feel like they are not wearing anything at all, which is the Holy Grail, of course," she said. It's broadening into accessories its Silverescent "stink-free" line of yoga fashions that touts the silver in its yarn as being able to squelch odour-causing bacteria. Men "really appreciate the anti-stink properties of the nylon and the Silverescent that we have versus polyester, which tends to attract and hold smell" Ms. Day added. "So both in functionality and look of the garment – is [what]we are appealing to."

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About the Author
Retailing Reporter

Marina Strauss covers retailing for The Globe and Mail's Report on Business. She follows a wide range of topics in the sector, from the fallout of foreign retailers invading Canada to how a merchant such as the Swedish Ikea gets its mojo. She has probed the rise and fall (and revival efforts) of Loblaw Cos., Hudson's Bay and others. More

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