Under Armour is making progress in its recent brand repositioning that includes better targeting teens and tapping lifestyle offerings. However, shares fell $1.01, or 8.2 percent, to $11.22 Wednesday as management warned on an analyst call that markdown pressures felt in its most recent quarter will continue in coming quarters.

On its quarterly call for the fiscal third quarter ended December 31, Dave Bergman, CFO, said that even though Under Armour isn’t providing its fiscal 2024 outlook until its fourth-quarter call in May, the company is “anticipating the macroeconomic backdrop to stay uneven in calendar 2023 with elevated sector-wide inventories that could result in ongoing promotions lasting longer than previously expected.

He added, “In this respect, we are employing proactive measures to protect and ensure the health of our brand to mitigate these potential pressures as best as possible as we lay the groundwork for next year’s operating plan.”

Asked in the Q&A session whether the weakening is due to f consumers pulling back or the impact from market-wide inventory imbalances, Bergman said it’s both.

“We definitely have seen that the promotional environment went a little bit deeper and we believe it’s going to go a little bit longer,” said the CFO. “And a lot of that has to do with some of the building inventories that are out there with all the brands. And that is something that all of the retailers are going to need to work through in the coming quarters. And we are seeing that that’s probably going to take a little bit longer than what we would have expected maybe 90 days back. And the consumers are out there, and the traffic is reasonable, but conversion is a little bit challenged. And I think that folks are being a little bit more cautious here for a while. And so, we expect that pressure to continue as we move through this calendar year for a while.”

Third-Quarter Results Top Estimates
The subdued forecast came as Under Armour reported fiscal third-quarter earnings that topped Wall Street estimates as better-than-expected expenses offset higher margin pressures than expected. The Baltimore-based brand maintained its sales guidance for its full fiscal year but raised its EPS outlook due to an improving expense trend, as well as favorable foreign currency developments and a slightly lower tax rate.

In the third quarter, revenue grew 3.4 percent to $1.6 billion, exceeding Wall Street’s consensus target of $1.55 billion. Sales on a currency-neutral basis were up 7 percent.

Net earnings came to $122 million or 27 cents a share, against $109.7 million, or 23 cents, a year ago. Excluding a $45 million earnout benefit in connection with the sale of the MyFitnessPal platform and a $2 million benefit from a tax valuation allowance release related to prior period restructuring, adjusted net income was $76 million, or 16 cents a share, up 13.4 percent from adjusted earnings of $67 million, or 14 cents, a year ago.

Adjusted EPS of 16 cents a share topped Under Armour’s guidance in the range of 7 cents to 9 cents and Wall Street’s consensus estimate of 9 cents. The beat was attributed to the improved expense rate, more favorable foreign currency exchange, and a better-than-anticipated tax rate.

“We delivered a solid quarter,” Colin Browne, Under Armour’s interim president and CEO, told analysts, citing a “standout” performance in EMEA and “solid demand” in North America that helped offset margin pressures in North America and weakness in China.

Browne succeeded Patrik Frisk as CEO on an interim basis in June 2022. In late December, Under Armor announced that Marriott International President Stephanie Linnartz would join the company as president and CEO, effective February 27, 2023. Browne will resume his position as COO.

On the call, Kevin Plank, Under Armour’s founder, executive chair and brand chief, thanked Browne for his “steadfast leadership” and touted the accomplishments of Linnartz. Plank said, “She has a distinguished track record of executing best-in-class brand strategies and developing talent and led Marriott’s multibillion-dollar digital transformation and award-winning loyalty program, expertise that will give us a critical level up in one of our most vital areas of strategic focus.”

North America More Promotional Than Planned
By region, North America revenue in the quarter was down 2 percent compared to the prior year, to $1 billion. A wholesale decline of 6 percent offset 1 percent growth in DTC, driven by strength in e-commerce. Browne said, “Though we continue to see solid demand in our largest region, we were more promotional during the quarter to manage inventory against this challenging retail backdrop. Despite the dynamic retail environment, we continue to focus on elevating the consumer experience across channels while driving operational excellence.”

International revenue increased 14 percent to $527 million (up 24 percent currency neutral).

Within the international business, EMEA was again strong, increasing 32 percent (up 46 percent currency neutral) to $265 million. Browne said, “This growth was driven by a solid sell-through across wholesale and DTC along with earlier-than-planned shipments. We are encouraged by our momentum in EMEA and intend to remain nimble given the continued marketplace uncertainty and building inventories.”

In Asia-Pacific, sales decreased 9 percent (up 1 percent currency neutral), to $198 million. The currency-neutral gain came despite ongoing COVID challenges impacting retail traffic and store availability, particularly in China. Wholesale saw growth in Asia-Pacific. E-commerce saw positive momentum outside of China.

In Latin America, sales increased 45 percent (up 41 percent currency neutral), to $64 million.

By channel, wholesale revenue increased 7 percent to $820 million, with increases in its full-price and off-price businesses. DTC revenue decreased 1 percent to $715 million as a 6 percent decline in owned and operated store revenue partially offset by a 7 percent increase in e-commerce revenue, which represented 45 percent of the total DTC sales during the quarter.

Licensing revenue decreased 19 percent to $30 million, driven primarily by the timing of minimum royalty guarantees associated with the brand’s Japanese licensee.

Footwear Leads Category Gains
Apparel revenue decreased 2 percent to $1 billion. Strength in golf and team sports was offset by softness in training. Strength was also seen in men’s and women’s bottoms during the quarter, particularly the Unstoppable franchise, with a “solid performance” also seen in outerwear.

Footwear revenue increased 25 percent to $354 million with positive results in all categories, benefiting from better product availability during the quarter. Footwear growth was driven by strength in run with the Hovr Machina 3 resonating well, especially in APAC and EMEA. Strength was also seen in team sports, particularly basketball with the Curry 10; and American football cleated products. Core run product continues to achieve “solid results” with Rogue, Assert and Pursuit seeing strength in the period, according to Bergman.

Accessories revenue declined 2 percent to $105 million as softer sales of cold weather accessories more than offset strength in bags.

Gross Margins Worse Than Expected
Gross margins in the quarter declined 650 basis points to 44.2 percent, worse than Wall Street’s consensus target calling for a decline of 580 basis points. Bergman said the decline was driven by 400 basis points of negative impacts from higher promotions and discounting; 130 basis points of unfavorable channel impacts primarily related to higher distributor sales; 60 basis points of adverse foreign exchange effects; 50 basis points of unfavorable region mix, related to higher EMEA and Latin American sales; and about 50 basis points of unfavorable product mix due to the strength in footwear. These negative drivers were partially offset by 40 basis points of favorable supply chain impact, driven by lower freight costs, which more than offset product cost headwinds during the quarter.

Bergman said, “Our larger than expected Q3 gross margin decline was primarily due to higher than planned markdowns within our wholesale business and increased promotional activities within our DTC business as we manage through inventory.”

Third-quarter SG&A expenses were down 11 percent to $604 million, better than Wall Street’s consensus target calling for a decline of 9 percent. The reduction was due to lower marketing, incentive compensation and consulting expenses. As a percent of sales, SG&A expenses were reduced to 38.2 percent from 44.2 percent.

Operating income rose 9.9 percent to $94.7 million, topping its guidance in the range of $75 million to $85 million.

Inventories Surge 50 Percent
Inventories were up 50 percent year over year. Browne noted that part of the elevated inventory levels reflects year-ago inventories being depressed due to a focus on keeping inventories lean to stoke demand as well as supply chain disruptions. He said, “A large part of this increase and the increase over the next few quarters is simply normalizing to levels to us being a close to a $6 billion brand.”

Browne noted that on a dollar basis, inventories are up $800 million year over year, similar to 2015 when Under Armour was a $4 billion business.

Inventory growth is expected to peak at the close of its fiscal year followed by “elevated yet appropriate step-downs” in the following quarters. Browne said, “We continue to feel confident about where we are relative to our plans and managing this aspect of our business. To this point, we expect inventory to stay around three turns as we work through this challenging environment.”

Browne said the supply chain disruptions continue to ease with reductions in air and ocean freight costs during the third quarter and that’s expected to continue into the fourth quarter.

Brand Repositioning Gaining Traction
On the call, Browne highlighted the progress Under Armour has made in its repositioning efforts outlined on its second-quarter analyst call. The changes include:

  • Increasing the brand’s focus on lifestyle or non-active offerings;
  • Improving engagement with the 16 to 20-year-old varsity athletes; and
  • Improving segmentation across price points.

Browne noted that the non-active, or what Under Armour calls “live moments” of consumers’ lives remains a “significant long-term growth opportunity that triples the total addressable market for Under Armour.”

Offerings addressing the sports style opportunity include the SlipSpeed, a training shoe with a convertible heel to switch between active and recovery modes that was soft-launched in October and will expand globally on February 14. Said Browne, “From early reads, SlipSpeed’s strong DNA, also sees it slotted into the space in between moments of style and self-expression.”

To support the global launch, a pop-up store will open in the Flatiron District in Manhattan to showcase SlipSpeed and the brand’s newest apparel offerings in a new format featuring less product density and enhanced storytelling. Other footwear and apparel updates are being planned to address more casual wearing occasions. Said Browne, “You will see immediate progress and points on the board as we are reimagining some of our Spring/Summer 2023 floor sets with enhanced merchandising and storytelling to showcase how Under Armour can be worn away from training and competition.”

On the second priority, Browne said Under Armour is evolving its marketing and omnichannel strategies to better connect with 16- to 20-year-old varsity athletes. This includes refining online content to amplify brand identity and drive relevance with the younger demographic.

“We’re seeing early improvements in brand metrics with this demographic in the US and key international markets like Mexico and China,” said Browne. “All this feeds into our ability to drive excellence into our omnichannel presence, particularly in e-commerce, where we also started to see the early benefits of recent investments. So overall, encouraging, and we look forward to leaning in and applying even more in the coming seasons.”

The third priority focuses on advancing the brand’s segmentation strategy across the “good, better, best” spectrum with a heightened focus on “better, best” offerings.

Browne said varsity athletes tend to buy more frequently at fuller and higher price points than other groups throughout the year. He said, “We’re going category-by-category, addressing what premium looks like at every price point, determining opportunities to drive additional better and best level product assortments and what the marriage of innovation and style should look like as if we’re designing unencumbered. As we continue to sharpen and hone this strategy, we’ll also heighten our storytelling to drive a more pronounced premium elements on athletes.”

Under Armour’s updated outlook for the fiscal year ended April 1, 2023, calls for:

  • Revenue growth is unchanged from the previous expectation of a low single-digit percentage rate increase on a reported basis, up at a mid-single-digit percentage rate on a currency-neutral basis.
  • Gross margin is expected to decline at the higher end of the previously provided 375 to 425 basis point range.
  • SG&A expenses are now expected to be down at a low single-digit percentage rate against the prior year versus the previous expectation of “down slightly.”
  • Operating income remains unchanged from the previous outlook and is expected to reach $270 to $290 million. Excluding the company’s litigation reserve, adjusted operating income is expected to reach $290 to $310 million.
  • Diluted EPS is expected to be 71 cents to 75 cents (56 cents to 60 cents previously). Excluding the impacts from a tax valuation allowance, earn-outs related to the sale of MyFitnessPal, and litigation reserves, adjusted EPS is now expected to be in the range of 52 cents to 56 cents versus the previously expected range of 44 cents to 48 cents. The improvement reflects more favorable foreign currency developments, a slightly lower tax rate and the improving expense rate.
  • Capital expenditures are now expected to be approximately $200 million, down from the previous expectation of approximately $225 million.

Photo courtesy Under Armour