Aah, the endless temptation to hit “BUY” on the brands we love.
The Finance Ghost shares that it’s hard enough to avoid this trap on the local market, with familiarity bias driving many investors to buy retailers that might not be great investments, all while ignoring unfamiliar names in other sectors that could give far superior returns.
Just don’t do it
Let’s start with an easy example of how buying a big brand without doing any investment analysis can get you into trouble. Well, “trouble” is a relative term here. Given the extent of depreciation of the rand in recent years, you really had to be unlucky in the offshore markets to underperform a local equity portfolio.
Still, you would be forgiven for thinking that Nike has been a superstar for investors. After all, the world’s greatest athletes usually have a swoosh somewhere on them. The adverts are legendary and highly inspiring. Scottie Scheffler was adorned in Nike from head to toe as he won The Masters. When you watch Chasing the Sun on a Sunday night and feel immensely proud of the Springboks all over again, the Nike logo is never far away.
Yet, here we are, with a share price return of 7% over five years. That’s not 7% per year. That’s 7% overall:
Adding in a dividend yield of 1% - 1.5% per year does little to improve this picture. Also note the level of volatility in this stock, despite it being such a blue chip. Even for one of the most valuable consumer brands in the world, the markets can be tough. With a complex supply chain and a global business, there’s always a challenge of some kind to deal with at Nike.
Clearly, there’s more to share price success than just having a great brand.
When life throws you a Lululemon
Lululemon won’t be a familiar name to most South Africans, yet it has a commanding global position for premium athleisure wear. The brand was built around yoga culture and even managed to survive some incredibly damaging comments by its founder a few years back, so Lululemon has demonstrated the kind of customer resonance and resilience that drives returns.
Unlike at Nike, the returns over five years have been excellent. The casualisation of the world thanks to the pandemic is only good news for Lululemon and athleisure culture in general.
Look carefully at this chart though, as the entry point for your investment makes absolutely all the difference here:
Practically doubling your money in five years is a lovely outcome, especially in dollars. Over three years though, you’re flat thanks to the recent capitulation in the share price. Lululemon is widely regarded as having invented the athleisure category, yet this is a stock that came into 2024 at around $500 and is now trading at roughly $350. That’s a 30% drawdown, which is the kind of drop you expect to see in a full-blown market crash.
How is this possible from the world’s favourite yoga pants? Did the brand suffer a major setback this year, or is there something else going on?
If the shoe fits…
I’m sure there are people out there who like Crocs. My four-year-old certainly likes his Crocs, which do look cute on a little one. I’m just entirely unconvinced that adults should ever be allowed to wear them.
Despite being a brand that I would never buy in an adult size, the share price has obliterated Nike and even Lululemon over five years. To show just how ridiculously well Crocs has done, I’ve charted it against the GOAT of consumer businesses: Apple.
This perfectly demonstrates the danger of choosing stocks based on logos and not fundamentals. It also shows the immense volatility in the apparel industry. Look again at the Crocs vs. Apple chart and not how smooth the Apple share price journey has been in comparison to Crocs.
When ugly shoes can generate beautiful returns, there’s once again more to it than personal feelings about the brand.
What you pay is what you get
Think of that pair of Nikes you’ve been eyeing up. Would you still buy them if they were 20% more expensive? How about 50%? What about double the price?
Without a doubt, there’s a point at which you simply won’t be interested anymore. The Nike share price works in exactly the same way.
I use TIKR to get really good information on metrics like traded multiples. If you’re serious about your investing, it’s a really worthwhile addition to your toolkit. Here, for example, is what happened to the Nike Price/Sales multiple over the past three years:
On this basis, you might think that it’s a relative bargain. Clearly, the multiple is far lower now than it was three years ago.
But before we get carried away with that line of thinking, the five-year picture shows the full story:
Is it a bargain now, or was it just ridiculously expensive during the pandemic and sanity has now prevailed? The multiple has come down to levels below the pre-pandemic period, but not by a huge amount. Also keep in mind that we are now in a higher interest rate environment, so multiples should be lower than pre-pandemic.
Nike’s share price performance has been the function of a valuation that got far too ahead of the story. There is nothing wrong with the brand. It’s absolutely true that the world’s best athletes are adorned in swooshes. The point is that investment success is as much about what you paid as what you got for it.
High multiple? High expectations.
A valuation should always be viewed in the context of growth prospects and strength of the business. Nike already has a massive global footprint, so it’s very difficult (if not impossible) for the company to achieve outstanding growth rates. At Lululemon, the valuation multiple has been eye-wateringly high, yet growth was delivered year after year as the business expanded.
This year, the growth outlook at Lululemon has faltered. It became too modest relative to the expectations baked into the valuation. Because of that, the market panicked and hit the sell button, which is typical of what happens in a high valuation scenario.
Here’s what the Price/Sales multiple has done:
Like Nike, the multiple moved lower in the aftermath of the pandemic. Also like Nike, the multiple is below pre-pandemic levels. But unlike Nike, there’s still been a strong share price return at Lululemon. Even though the multiple shows a similar shape, the difference is that Lululemon has achieved solid top-line growth.
The share price has been driven by underlying performance rather than just multiple expansion.
Expectations management: why Crocs has been the winner
The market was easily seduced by the flashy growth stories at the likes of Nike and Lululemon, with classic familiarity bias taking hold. Meanwhile, Crocs simply got on with it, growing the business and trading at a far lower earnings multiple. Those funny looking shoes just aren’t as exciting for investors.
Today, the Crocs Price/Sales multiple is exactly where it was five years ago. In contrast, Nike and Lululemon are lower than they were. When the multiples move like this, the impact on share prices is significant:
If you remember nothing else from this sector comparison, remember that paying too much for a company can really impact shareholder returns, no matter how strong the underlying brand is. Share price charts are simpler to understand than valuation multiple charts and this one certainly tells quite the story:
And even then, just look at that volatility in Crocs. If you want to invest in the apparel sector, you better buckle up for quite the ride. You need a strong stomach to ride this kind of volatility.
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