BUSINESS

Lululemon dealt setback as CEO plans to exit amid clothing problems

06/11/2013 09:00 EDT | Updated 08/11/2013 05:12 EDT
TORONTO - The fallout from the latest wardrobe malfunction at Lululemon Athletica Inc. (TSX:LLL) continued Tuesday as the stock plunged following news that the woman who helped build the company's reputation plans to depart.

Chief executive Christine Day's announcement late Monday came as a surprise to most and overshadowed better-than-expected earnings at the athletic clothing retailer.

BMO Capital Markets analyst John Morris said the company is now in the midst of a "time of turmoil and change" as it prepares for the next stage in its expansion while fixing some past problems.

Lululemon shares ended Tuesday down $14.81 or 17.6 per cent at $69.22 on the Toronto Stock Exchange and fell $14.43 to US$67.85 on the Nasdaq, which handles most of the stock's trading volume.

The company has soared to a level of unprecedented success in recent years by exploiting a retail category that was practically untapped when it first hit the scene. Much of the growth was encouraged by Day who took an active role in building the company with a grassroots marketing campaign that rallied customers with in-store yoga classes and other community events.

However, a number of stumbles in quality control have raised questions about whether she would be the right person to lead a global expansion of the company into China and Europe.

Day, who will remain as CEO while the board searches for a replacement, provided little explanation for her departure other than to say the timing was right for a new leader to launch its next 10-year plan.

Lululemon is still struggling to overcome the recall earlier this year that saw the retailer yank about 17 per cent of its black Luon yoga pants from store shelves for being too sheer.

The company blamed the problem on a style change and production problems and hired a new team to oversee the making of the pants. Around the same time, chief product officer Sheree Waterson left the company though specific reasons for Waterson's exit were not disclosed.

Day, who joined Lululemon in 2008 shortly after its initial public offering, said she told the board of her plans to leave on Friday and a search committee was put in place over the weekend, which would be a relatively quick decision for a major shift in leadership. The move raises many questions about the future direction of the retailer.

"We expect it to take some time to fill the all-important roles with the right people," wrote Morris in a note.

"Moreover, it takes time for new teams to gel."

Morris said the company is likely to endure more turmoil as works on the quality control issues, launches a new distribution channel structure and related IT systems, and prepares to expand to new countries.

"We continue to believe the company faces quality-control issues outside of the black Luon pants, based on our consumer research," he added.

Faulty clothing has been a recurring problem for Lululemon which has grown at such a speedy pace over the past five years that it's had trouble keeping its products stocked on shelves. Those challenges have forced the company to ramp up production, but also could be at the root of numerous complaints last year about colours bleeding from some of its tops and see-through bathing suits and pants.

Lululemon can't afford to fumble its international rollout into more fickle markets like Hong Kong and much of Europe, which favour clothing that's more formal over stretchy yoga pants.

Jaime Katz, an analyst at Morningstar in Chicago, suggested Lululemon could look to other major sportwear companies like Under Armour or Nike for executive expertise that would serve the company well in the coming years.

"If you can pick and choose people from some of the competitive firms that have gone through these growing pains in the past you can maybe prevent some of the mishaps that just kind of tend to occur as a business grows," Katz said.

The transition comes as the retailer, which reports in U.S. dollars, posted a first-quarter profit of $47.3 million or 32 cents per share.

The results came in above analyst expectations of 29 cents per share, according to a poll of analysts by Thomson Reuters, but marked only a slight increase in profits from a year ago when it earned $47 million, also 32 cents per share.

Revenue strengthened 21 per cent to US$345.8 million from US$285.7 million.

The company also boosted its full-year outlook, with expectations of earnings per share of $1.96 to $2.01, an increase from $1.95 to $1.99. Revenue is targeted to be in the range of $1.645 billion to $1.665 billion, an increase from $1.615 billion to $1.640 billion.

Lululemon also plans to delist from the Toronto Stock Exchange on June 24 due to "minimal trading volume of its shares."