Spencer Platt
Investment thesis
Due to supply chain issues, most activewear companies have significantly increased their inventory balance. However, Under Armor (New York stock market :AU) (New York stock market :UAA) was able to maintain inventories at pre-pandemic levels. Bulls love the potential of curry line and a significant discount compared to its peers. However, we remain neutral. First, Under Armor is still looking for a permanent CEO. The CEO largely determines the vector of development of the company, and his absence is an important argument in favor of his removal. Second, high margins provide a buffer against rising costs, and Under Armor is characterized by a low and volatile margin. According to our assessment, Under Armor is trading close to its fair market value. We value stocks as a Hold.
Company profile
Under Armor specializes in the manufacture and sale of activewear, footwear and accessories worldwide. The manufacturer produces its products under the brands UNDER ARMOR, UA, HEATGEAR, COLDGEAR, HOVR, UNDER ARMOR UA Logo, and others. The company operates through 1,400 own and partner stores/outlets in North America, EMAE, Asia-Pacific and Latin America. The revenue structure is shown below:
Created by author
Effective inventory management
At the end of September, Nike (NKE) released its first quarterly report, in which management predicted lower margins due to a 44% increase in inventory. Investors viewed with trepidation the news about the problems of the largest sportswear company, Nike stocks fell and drawn from peers including Under Armour.
Due to supply chain issues, most activewear companies have significantly increased their inventory balance. Under Armor is one of the few companies that has been able to maintain inventory at pre-pandemic levels.
In addition, over the past five years, Under Armor has reduced inventory levels as a percentage of sales, while major competitors either stayed put or significantly increased the indicator.
| 2019 | 2020 | 2021 | 2022 | MTT | |
| UAA | 22.34% | 17.28% | 22.86% | 14.88% | 16.14% |
| NKE | 13.84% | 16.85% | 14.79% | 15.70% | 17.12% |
| ADDYY | 15.21% | 15.58% | 23.68% | 18.54% | 19.39% |
| LULU | 15.58% | 15.69% | 16.20% | 18.07% | 16.46% |
Effective inventory management is one of the two main bullish arguments about Under Armour. Indeed, maintaining a reasonable level of inventory indicates that the demand for the product remains and ensures a stable cash flow from operations.
A billion contract
One of Under Armor’s main ambassadors is Stephen Curry, point guard for the Golden State Warriors and one of the greatest basketball players in NBA history. Steven signed his first contract with UA in 2013, after leaving Nike. In 2020, a separate CurryBrand was created. Curry’s current contract expires in 2024 and costs the company about $20 million a year.
In a recent interview for rolling stone, the athlete said he was going to sign a lifetime contract worth more than a billion dollars. Thus, Stephen will stand alongside celebrities such as Michael Jordan, LeBron James, Cristiano Ronaldo and Lionel Messi.
Today, Jordan wins Cosmic $600,000 for Nike every hour, which can equal $5.26 billion a year (about 11% of Nike’s revenue). Considering the clothing manufacturer’s contracts with Michael cost around $150 million a year, the deal seems very profitable.
LeBron James’ share of Nike’s revenue is more modest and in our view more comparable to the future Curry brand. James brings in around $600 million a year, with a deal worth $30 million for the apparel maker. Stephen Curry will be able to show similar numbers after a while.
Signing Curry can provide further impetus to Under Armor’s growth because, as practice has shown, great athletes continue to influence sport and business even after their careers. Given his status as the greatest 3-point shooting performer in NBA history and his importance to all of basketball, Curry’s popularity won’t fade away even years after his career ended.
About risks and assessment
As we noted above, one of the two main bullish arguments about Under Armor is efficient inventory management. The second argument is a significant discount of the company with its peers. Indeed, Under Armor is trading cheaper than Nike, adidas (OTCQX:ADDYY), and Lululemon Athletica Inc. (LULU).
| UAA | NKE | LULU | ADDYY | |
| PER | 8.86x | 24.68x | 37.53x | 14.17x |
| EV/S | 0.59x | 3.08x | 5.87x | 0.98x |
| P/P | 1.51x | 8.58x | 14.31x | 2.86x |
| P/CF | 4.53x | 31.95x | 54.98x | 11.02x |
However, a large discount is due to several objective reasons. First, Under Armor is still looking for a permanent CEO. Former CEO Patrik Frisk remained in this position for a year and a half and left the company in May. The CEO largely determines the vector of the company’s development, and his absence is an important argument in favor of his absence.
The second reason is Under Armour’s weak and unstable net margin. This is important because a high margin provides a safety margin in case costs increase. A 5% increase in costs and expenses for a company with a 10% margin will cost 45% of the net profit, and for a company with a 30% margin, the net profit will only decrease by 12%.
A low margin complicates the estimation of DCF at the assumption-making stage, because an increase in future expenses of several percentage points results in a significant deviation from expected cash flows and estimated fair market value. This is the reason for the wide range of price targets of investment banks.
Refinitiv
A significant deviation from the estimated fair value implies a potentially high standard deviation of the shares. This is probably one of the main reasons for the discount.
Our assessment of UAA shares
The DCF model is based on several assumptions. Revenue for the full year is expected to grow 5% year-on-year, by the lower end of the guidance range provided by company management. We expect revenues to grow at an average annual rate of 2% from 2025 through the end of the forecast period, in line with the Fed’s inflation target.
Under Armor management expects that by the end of the year, gross profit will decline 375 to 425 basis points from a year ago. We assume that the indicator will decrease by 400 basis points to 46.5% and remain at this level until the end of the forecast period. This assumption is not too conservative, since until 2020 gross profit was in the range of 45.1 to 46.9%.
We expect operating profit for the year to be $312.5 million – management’s forecast ($300-325 million). This corresponds to an operating margin of 5.2%. Additionally, we expect operating margins to increase due to a reduction in fixed costs as a percentage of revenue. This assumption is not conservative, as Under Armor’s operating margins have always been unstable.
Future capital expenditures as a percentage of revenue are also in line with management’s forecast. DD&A as a percentage of revenue is equal to the average value of the four years 2018-2021. The terminal growth rate is 2%. Our assumptions are presented below:
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With a cost of equity equal to 9.88%, the weighted average cost of capital (WACC) is 8.8%.
Created by author
With a final EV/EBITDA of 5.7x (which matches the current indicator for the discretionary consumer sector), our model predicts a fair market value of $3.58 billion, or $7.86 per stock, which is below the Wall Street consensus estimate of $10.8. . Therefore, the company is trading close to the estimated fair market value.
You can see our model here.
Conclusion
The bullish arguments about Under Armor are clear and fair: the company has been able to keep inventory levels the same, and the signing of Stephen Curry, one of the greatest basketball players in NBA history, can help drive growth. AU. Additionally, the company is trading at a significant discount to its competitors. However, the discount has objective reasons. First, the absence of a permanent CEO creates risks for shareholders. Second, low and unstable net margins lead to a significant deviation from expected cash flows and estimated fair market value. We monitor the company from the outside.
