Morgan Stanley is bearish on LULU: the Americas business may need to 'shrink to grow'

Overview

This report focuses on Lululemon Athletica Inc. and makes the core judgment that its Americas business is already meaningfully larger than its sustainable revenue base. Morgan Stanley believes market consensus continues to assume an overly large Americas business scale while being too optimistic about China's growth potential. As a result, LULU may be entering a new phase of 'shrink to grow,' where a deeper and longer Americas reset is exchanged for healthier long-term growth, but at the cost of downward revisions to revenue, margins, and EPS expectations in the short to medium term.

Core views

The report maintains a negative stance: first, the sustainable scale of the Americas business may be only about $3-6.5B, below the market expectation of more than $7B for 2026-2028e; second, while China remains a source of growth, the market may be overestimating its ability to replicate the regional scale of NKE/ADS; third, under a combination of slower revenue growth and a more conservative margin path, LULU may be only a roughly $10-11 EPS-capacity company rather than the roughly $12 expected by the market; fourth, if management proactively resets the Americas business, short-term earnings revision risk will rise further.

Analysis framework

The report uses three frameworks to cross-validate the scale of the Americas business: peer historical growth trajectory comparisons, a pre-pandemic normalized growth path, and Morgan Stanley's proprietary Softlines scale framework; on valuation, it uses DCF scenario analysis combined with assumptions for revenue growth, EBIT margin, terminal growth rate, and terminal EBIT margin to form bull, base, and bear cases.

Methodology notes

• Peer benchmarkingPeer historical growth trajectory analysis

  Compare LULU with the historical expansion paths of global athletic apparel, multi-brand specialty retail, and single-brand fashion peers.

  This framework shows that a reasonable scale for LULU's Americas business is about $3-5B, around 25-60% below the market's 2026e expectation.

• Growth normalizationPre-pandemic growth rate reversion framework

  Assumes LULU's Americas revenue compounds at the pre-pandemic low-teens% growth rate rather than continuing the abnormal mid-20% acceleration seen during the pandemic.

  This framework implies the current Americas business should be about $6.5B, still around 10% below the market's 2026e expectation.

• Proprietary quantitative frameworkSoftlines scale framework

  Assesses the characteristics of mature apparel retail businesses at different revenue scales based on ten structural criteria.

  This framework suggests LULU's Americas business characteristics are closer to companies with annual revenue of $3-7B, below the current $7B+ level.

• Valuation methodsDCF scenario analysis

  Forms price targets through assumptions on revenue growth, EBIT margin, terminal growth rate, and terminal EBIT margin.

  The base case uses about 2% average revenue growth for 2027e-2030e, about 13% EBIT margin, a 0% terminal growth rate, and about 12% terminal EBIT margin, corresponding to a $93.00 price target.

Asset mapping & comparison

Structured mapping from thesis to named assets (strengths, weaknesses, peers, risks).

• LULU.US

  Direct coverage target

  Strengths

  The brand still has global recognition, and if the Americas returns to growth, China momentum continues, and gross margin returns to peak high-50s%, there is upside risk to the stock price.

  Weaknesses

  The Americas business may be above its sustainable scale, revenue growth is slowing, and the market has overly high expectations for the China opportunity and mid-term EPS capacity.

  Comparison

  Compared with global athletic apparel, multi-brand specialty retail, and single-brand fashion peers, the current scale of LULU's Americas business appears more like it has exceeded its sustainable revenue base.

  Risks

  A steeper decline in the Americas, slower growth in China, gross margin falling back toward historical low-50s%, and increased SG&A investment or deleveraging.

Key data

• RatingUnderweightMorgan Stanley relative rating, indicating expected lower risk-adjusted returns versus the industry coverage universe over the next 12-18 months.
• Price target$93.00The Price Target stated in the report.
• Current price$116.63July 21 closing price.
• Implied upside/downside-20.3%Calculated using the $93.00 price target and the $116.63 current price.
• Reasonable scale range for the Americas businessabout $3-6.5BCross-supported by three independent frameworks.
• Market expectation for the Americas business$7B+The report says the market expects more than $7B for 2026-2028e.
• Mid-term EPS capacityabout $10-11Below the market expectation of about $12.
• 2027e-2030e base-case revenue growthaverage about +2% y/yBase-case assumption.
• Base-case terminal assumptions0% terminal growth rate, about 12% terminal EBIT marginDCF base case.

Impact & implications

If the report's view is correct, the main investment debate around LULU will shift from international expansion and brand premium to downsizing the Americas business, margin rebalancing, and EPS downgrade risk. For investors, the current share price may not yet fully reflect the earnings pressure from a reassessment of the Americas revenue base and management's strategic adjustment; even if long-term brand health improves, the short to medium term may still involve lower growth, higher promotions, and weaker operating leverage.

Risks

• The Americas business reset may last longer than the market expects, leading to continued downward revisions to revenue and EPS.
• The growth rate of the China business may not be able to continue scaling up to the regional size of NKE/ADS in the local market.
• Higher promotional activity may cause gross margin to fall from elevated levels.
• Additional SG&A investment or operating deleveraging may pressure EBIT margin.
• If the Americas business recovers growth faster or China growth exceeds expectations, the Underweight view faces upside risk.

What to watch

• Whether new management explicitly adopts a 'shrink to grow' strategy for the Americas business.
• Whether Americas same-store sales and store and online trends stabilize.
• Whether growth in the China business can continue and successfully scale up.
• Whether gross margin returns to peak high-50s%, or falls back to low-50s% due to intensified promotions.
• Whether 2027e-2030e revenue growth, EBIT margin, and EPS expectations continue to be revised downward.