Aritzia

Written by Portfolio Manager & Head of Research, Jamie Murray, CFA.

Aritzia – Refreshing Our U.S. Growth Thesis.

The three broad drivers of long-term growth in earnings per share (EPS) for any company are 1) revenue growth, 2) margin trajectory, and 3) capital management. This is not to dismiss qualitative factors like management strength, corporate governance or insider ownership but factors like these need to translate into EPS growth for a stock to outperform. We will examine Aritzia on these three vectors.

Revenue Growth

Aritzia achieved strong revenue growth from 2019-2022, with sales more than doubling from $980 million to $2.2 billion. In 2023, revenue grew just 6%, reflecting a slowdown in consumer spending and a stale product assortment (see “Margins” section for more details). When we take a step back, we believe Aritzia is still delivering strong sales productivity, i.e., sales per store location (Figure 1), which is calculated as total sales (including online sales) divided by total locations. We look at sales on a trailing twelve-months basis (TTM). Per-store sales in Canada and the U.S. are up 70% and 100%, respectively, from pre-pandemic levels indicating the company is holding on to its market share growth over the past five years. Note this metric has partially benefitted from several expanded stores with larger footprints, which should further boost sales per location moving forward.

Figure 1: Aritzia Sales per location

We include eCommerce revenue in the above metrics as we believe eCommerce revenue will grow with new store locations. Aritzia’s online sales typically benefit from the increased awareness created by new locations. Figure 2 underlines this effect with Google search prevalences across the U.S., with dark blue shaded areas representing high interest in Aritzia relative to the other metro areas. Notice how mature Aritzia markets like New York, California, Illinois and Washington (Aritzia has operated in these states for 5-10 years) have high awareness versus newer markets like Texas, Florida and Nevada (under 5 years and lower store density).

Figure 2: Aritzia U.S. Relative Search Activity

Aritzia management has identified 150 locations in the United States suitable for boutiques with 51 locations currently open and another 13 slated for 2024.  We believe an additional 100 U.S. boutiques could contribute $2.5B in additional revenue (at $25M per location), equal to its total company revenue last year.

Margins

Aritzia’s EBITDA¹ margin fell to 9.3% last year vs. 16.0% the previous year. This represented a decline in net income of more than 50%. Although lower sales growth contributed to the decline, it was compounded by inventory management and cost inflation challenges due to the setup of a new distribution facility. While the loss in profits was disappointing to investors, the challenges were short term and solvable. The company has already made considerable progress in rectifying them. The distribution facility is now operational and will be a tailwind for margins going forward. As well, inventory levels have been brought down 33% over the past six quarters despite modest growth in sales and store locations.

Figure 3 shows Aritzia’s EBITDA margin since 2018 and the expected level in 2025-26. While margins are currently below levels achieved when the company was smaller and less scaled globally, Aritzia’s management team thinks it can drive EBITDA margins back towards the upper teens (17-19%) by 2027.

Figure 3: EBITDA margins should recover back towards historical levels next year

Capital Management

As equity investors, we look for growth in profitability driven by sales and margins. However, it is capital management that is the key to unlocking higher share prices as companies must achieve growth in earnings without diluting shareholders by issuing new equity or taking on too much debt. Aritzia would certainly experience an increase in sales if it tripled the rate at which opened new locations, but this strategy would be fraught with risk if, for example, the locations were not suitable or the associated lease terms unfavourable. Likewise, it could take on debt to purchase another fashion brand, instantly increasing its revenue base without regard to strategic fit or the price paid.

The best way to analyze how a company will manage its capital in the future is to look to its history. For Aritzia, this shows little to no debt (except for its store leases and a credit facility to manage its short-term cash/inventory needs) and no dilution to its shareholder base.  This indicates that Aritzia has executed its growth plan to the benefit of shareholders, with improvements in financials on a “per share” basis. This is evident in its growth in earnings per share from $0.50 in 2018 to an expected $1.71 in 2024. We think EPS could eclipse $3.00 in three years.

Conclusion

Despite the share price volatility over the past two years, we believe Aritzia remains on the path to higher earnings per share. Our research indicates Aritzia should execute well its long growth runway in the U.S., which will increase sales, and maintain conservative leverage and dilution. Our model forecasts Aritzia earning $3.25 per share in 2027. Applying a 15x P/E multiple equates to a $50 share price, which represents 50% upside from the current price of  ~$33.

1: EBITDA is short for earnings before interest, tax and depreciation. It is a shorthand calculation for cash earnings from a business’ assets.