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Lululemon: Takeover Target?

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It seems that beleaguered yoga-apparel retailer Lululemon Athletica Inc. (LULU - Free Report) has now become a potential takeover target in the apparel retail industry, given the drastic decline in share price and the ongoing troubles in its operations. Lululemon is likely to fall prey to the acquisition aspirations of giant sports-related apparel retailers like Nike Inc. (NKE - Free Report) , V.F. Corp. (VFC - Free Report) and Columbia Sportswear Co. (COLM - Free Report) , all of which are looking to expand into the yoga product line.

Though a fundamentally strong company, the share price of Lululemon is currently close to its 52-week low of $42.28, reflecting a decline of over 44% in the last year. Moreover, the stock price of this Zacks Rank #5 (Strong Sell) company has almost halved from its 52-week high of $82.50 reached on Jun 10, 2013.

Lululemon has been in troubled waters since Mar 2013 when the company was forced to recall its Black Luon yoga pants and crops from its stores and e-Commerce site due to quality-related issues. This created a lot of buzz in the press, which, coupled with controversial comments from Lululemon’s founder that offended many of its women customers, led to lower traffic trends in the company’s stores throughout fiscal 2013, thus impacting the overall company results.

Though an elaborate process, we believe that the company is on the path to overcome these issues. To address these problems, the company has already appointed a new Chief Operating Officer, Lauren Potdevin, and is working hard towards improving supply chain and quality control.

Looking from the fundamental perspective, we note that Lululemon has established itself as a market leader in the yoga apparel segment of North America, dealing in elite and premium activewear brand. We believe that the company possesses an unmatched level of long-term growth opportunity in the industry based on its potential to expand square footage and enhance its business globally as well as by expanding its ivivva model.

Moreover, Lululemon has the ability to drive impressive top-line growth by focusing on e-Commerce retailing channel, international expansion and investment in innovating newer product categories. The company ended fiscal 2013 with a total of 254 company-owned stores, including 171 stores in the U.S., 54 in Canada, 25 in Australia and 4 in New Zealand.

Though the stock looks attractive in terms of profitability ratios with Return on Equity (ROE), Return on Assets (ROA) and Return on Capital (ROC) substantially higher than the peer group average, it looks expensive in terms of P/E multiple. Currently it is trading at a P/E of 24.1, 48.9% higher than the peer average. Thus, we believe the chances of being acquired at this lofty valuation are dim.

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