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Promotions or Inflation? What Under Armour’s Worried About Most

Like Adidas and Walmart before it, Under Armour is downgrading its income forecast.

The sportswear giant shared its first quarter earnings Wednesday, reporting flat revenue growth as it faced a 10 percentage-point headwind from order cancellations.

Looking at the upcoming quarter and the full fiscal year—Under Armour’s fiscal year now begins April—however, the company anticipates promotional pressures will be the “biggest factor” impacting gross margin, chief financial officer David Bergman said, followed by inflationary pressures, channel mix and shifting foreign exchange rates.

In a Nutshell: Due to “repercussions from last fall’s lockdown,” Under Armour believes “an overabundance of product is about to hit the market,” particularly as supply chains begin to recover, interim president and CEO Colin Browne said.

Over the past year, Under Armour has purposefully run leaner inventory levels as it looked “to clean the market and prime the brand for future growth.” Where other companies have recorded substantial increases in product as shipping times have elongated, Under Armour’s inventories were up just 8 percent at the end of the first quarter.

“While well intended and we believe successful in helping to restore brand health, this strategy was further [exacerbated] by Covid-impacted product supply chain and order constraints, along with order cancellations, all conspiring to impact our revenue performance,” Browne said. “As we pivot to our next phase, we are adjusting this model to unleash the brand’s full potential.”

By the end of March next year, Under Armour expects inventories to be up about 10 percent compared to the same time three years ago. This compares to expected revenue growth above 20 percent over the same period, Browne noted.

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“We’re seeing the right inventory arriving at the right place at the right time in order to service consumers,” he said. “So we feel our inventory is going to be pretty clean and going to be at the right place at the right time to meet consumers and provide those with performance solutions they never knew they needed in combat and looking about, as we say, across the brand.”

The “industrywide” inventory challenges and “more significant” inflationary pressures make for a cautious consumer outlook and “a very promotional” market, Browne said. Under Armour will need to participate in “many” of these promotions, he noted.

“Although we’re not excited about being more promotional, we’re going to do it a very strategic way,” Bergman said. “A lot of it is going to be focused on our outlet business, where consumers are kind of always expecting those deals. I don’t think you’re going to see us going deeper than our competitors.”

Though Under Armour maintained its prior full-year revenue growth forecast of 5 to 7 percent—7 to 9 percent excluding approximately 200 basis points of anticipated foreign currency headwinds—the sportswear company has lowered its expectations on several other key metrics.

Under Armour now expects gross margin to end the year down 375 to 425 basis points compared to the prior forecast of a 150 to 200 basis point decline. Versus its last outlook, the decline is “primarily” driven by higher expected promotional activities, channel mix and additional negative impacts from anticipated changes in foreign currency, it said.

It also downgraded its operating income from a range of $375 to $400 million to between $300 and $325 million. Excluding an expense related to ongoing litigation, it expects operating income to reach $310 million to $335 million.

Under Armour now expects diluted earnings per share to land between 61 cents and 67 cents, compared to its prior expectation of 79 cents to 84 cents. This includes a 28-cent benefit related to a tax valuation allowance, including 16 cents related to prior restructuring. Litigation matters are expected to have a 2-cent negative impact. Factoring in these impacts, the company anticipates adjusted diluted earnings will be 47 cents to 53 cents per share, versus its prior expectation of 63 cents to 68 cents.

As of June 30, Under Armour’s inventories totaled $954 million, an 8 percent increase over the same time last year.

Net Sales: Under Armour’s revenue remained flat at $1.3 billion in the quarter ended June 30. On a currency-neutral basis, it inched up 2 percent. This result included an “approximate” 10 percentage-point headwind related to “proactive order cancellations due to supply constraints associated with Covid-19 pandemic impacts,” Bergman said.

Wholesale revenue grew 3 percent to $792 million, while direct-to-consumer revenue fell 7 percent to $521 million, driven by an 8 percent drop in owned and operated store revenue. E-commerce, which represented 39 percent of Under Armour’s total DTC business, fell 6 percent compared to the prior-year period.

North America sales came in flat—up 1 percent on a currency-neutral basis—at $909 million. International revenue decreased 3 percent to $431 million, but increased 2 percent on a currency-neutral basis. Sales fell 1 percent in Europe, the Middle East and Africa and 8 percent in Asia Pacific, and increased 6 percent in Latin America. In currency-neutral terms, they grew 6 percent in EMEA and Latin America, but fell 4 percent in Asia-Pacific amid Covid-related lockdowns in China.

“Looking forward, while there are some green shoots and signs of better days ahead, the zero-tolerance China Covid policy keeps us cautious,” Bergman said.

Apparel revenue dropped off 1 percent to $868 million, while footwear grew 1 percent to $347 million. Accessories dropped 13 percent to $97 million.

Net Earnings: Gross margin fell 280 basis points compared to the same period last year to 46.7 percent. The decline included 160 basis points of Covid-related supply chain impacts, 50 basis points from higher promotions and discounting, 40 basis points of unfavorable channel, regional and product mix impacts and 30 basis points of negative impacts from foreign currency fluctuations.

Selling, general and administrative expenses increased 9 percent to $596 million, including $10 million in legal expenses related to ongoing litigation matters. Under Armour’s first-quarter operating income was $34 million, $44 million on an adjusted basis.

The company recorded a net income of $8 million, or 2 cents per diluted share, in the first quarter. Its adjusted net income was $15 million, or 3 cents per diluted share.

CEO’s Take: “Over the last couple of months, I’ve spent significant time meeting with customers and partners and teammates,” Browne said. “And I can report that our brand remains strong and that our multiyear efforts to strengthen our core business is working. Yet cutting to the chase, there is considerably more that we can be doing to maximize larger opportunities in consideration for the Under Armour brand over the near and long term.”