Loco for Lulu

High Sales. Higher stock price. Is Lululemon the next megabrand?

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High Sales. Higher stock price. Is Lululemon the next megabrand? Photograph by KC Armstrong.

It’s Sunday afternoon at Lululemon Athletica in Toronto’s Eaton Centre mall, and though there’s no big sale, customers have swarmed the store. Near the entryway, three girls sip from Starbucks cups and debate the wicking effects of the tops spread before them in multiple hues, while nearby an employee jogs on the spot to demonstrate the anti-chafing properties of a T-shirt to a Lulu first-timer.

The shoppers are mostly women, preteen girls to ladies in their mid-60s, browsing the racks side by side. Many are already squeezed into Lululemon pants and tops, making it difficult to tell who’s an employee and who’s just a customer updating her wardrobe.

About 10 people wait in line for one of four change rooms tucked away at the back of the store. One willowy employee zips herself into a patterned hoodie from a handy pile and does a nimble spin. “I love the white. What do you think?” she asks no one in particular. Other employees and customers unanimously coo their approval. She removes the garment and passes the item to a customer who rubs her thumbs over the soft fabric and soon heads, beaming, toward the winding checkout line.

From the outside, it’s just another store. But inside, Lululemon offers customers something more irresistible than a new look: the potential to transform into the best imaginable version of themselves. Is it possible that $98 stretch pants are the path not only to a cuter bum but also a spiritual awakening? For these shoppers, it is.

Building on his experience in the skate and snowboard business, Chip Wilson founded Lululemon in 1998. Now 54 years old and worth an estimate $1.25 billion, he has quickly transformed Lululemon from a yoga-inspired grassroots company in Vancouver to an international retail phenomenon, and done it by promoting an ethic of self-betterment through exercise, positive thinking and clothes that tread the fine line between wholesome-casual and sexy. The message and the product have spread like rippling water across demographics and regions through clever use of what can only be described as holistic guerrilla marketing. Lululemon sends employees to attend local workout classes and show off the latest collection, the stores sometimes host community events, and local yoga instructors teach free, in-store classes. “They go beyond simply putting the right merchandise out in a store. They really connect with the customer in terms of being part of a community,” says Maureen Atkinson, a senior partner at J.C. Williams Group in Toronto. “People want to look healthy and body aware and like they do yoga, even if they don’t.”

It’s that broad allure that has built an almost cult-like devotion among consumers who normally don’t have much in common: from urban hipsters to suburban moms, from preteens to boomers, all united in their common desire for comfortable, flattering clothes—not to mention peace and happiness.

Competitors were slow to catch on to the fact that Lulu wasn’t selling workout clothes so much as they were selling membership to a club with a very appealing uniform. And a huge hit in the mall turned into an even bigger bonanza on the stock market, where Lulu’s share price has sky-rocketed by 1,888% in just over two years. That has made a lot of investors very, very rich, but it has also begun to raise questions. The stock now trades for almost 45 times projected earnings for 2011. To put that in perspective, that’s about twice the average of the rest of the firms in its specialty retail group, and even greater than buzzworthy tech companies like Apple and Google that trade at about 14 and 16 times, respectively. And somehow, most analysts are still bullish, despite the challenges that eventually face any fast-growing retailer: supply-chain bottlenecks, the ever-present threat of brand fatigue, and a new e-commerce platform that will try to woo customers acclimatized to Lulu’s superior retail experience to the deep cold of online shopping.

Shareholders are sitting on a very large bet that Lulu is well on its way to becoming a global mega-brand. But can good karma (and accelerating profit) survive the transition from lucrative boutique to high-volume retail? Can Lululemon conquer the big time without selling its soul? We’re about to find out.

About three years ago, Carolyn Beauchesne was in the mood to celebrate. The stay-at-home mother of three from Orange County, Calif., had joined a gym with child care, and after lots of hard work, had met a weight-loss target. She decided it was time to upgrade her gym wardrobe. “I started buying Lululemon—I got fixated on it,” she says. As the months went on, Beauchesne turned shopping at Lululemon into her reward for continuing her commitment to spinning classes and the gym. “I would buy myself a new top or something,” she says. “It became my big hobby. I don’t collect golf balls or paper weights—I collect Lululemon.”

When it got to the point that Beauchesne fell asleep wondering what outfit she’d wear to the gym the next day, she decided to start a blog called Lululemon Addict to keep track of the new merchandise being released in Lululemon stores. She aggregated the pictures and information from each individual store’s Facebook page, and the result was a website that even Lululemon employees admit to using as a resource. There’s something new to post almost every day. “I started the blog for myself, but now it gets about 10,000 to 12,000 people visiting per day,” she says. “I just went on vacation, and people wondered what happened to me.”

Though the company’s lingo rolls off her tongue effortlessly, the 46-year-old has never worked for Lululemon. “There are lots of other ladies like me online,” she insists. “They’ll post their outfit of the day, and everyone will ooh and ahh!” Beauchesne’s devotion to Lululemon has extended the reach of its stores, and created a new spot for its customers to gather online. The fact that she has been publishing her blog since December 2008, on her own time, and isn’t paid, makes her the ultimate brand ambassador.

Uniting a like-minded community of body-conscious and fashion-aware women is a fundamental part of Lulu’s retail strategy. Lululemon is the first mainstream clothing company to really adopt the “salon” business model. This method, which is also at the core of Apple’s retail strategy, harkens back to the days of 17th-century gatherings, where like-minded thinkers came together to share culture, ideas and theories. In the modern-day retail environment, this strategy puts buyer and seller on the same side. Both are focused on an idea of self-betterment that overshadows the commercial transaction itself. This ethos transforms the stores into a low-pressure space for personal development. In the case of Lululemon, the employee (which the company calls an educator) talks to the shopper (called the guest) about her passions and pursuits, and they work together to select the ideal garment. The final purchase comes to represent an investment in herself, her ideas and goals, rather than in a Power Y tank top. In fact, Lululemon stores keep goal-setting sheets behind the counter to give out to guests. This way, they can leave on a journey with a specific plan to help put that tank top to use.

Salon-style retail is a trend consumers embraced as interest in personal achievement overtook the desire to just own or consume more things. “The concept of salon-based retail is something that Apple has done really well. You can go to the Apple store, and they will teach you how to use Keynote or GarageBand,” says Nick Parish, the North American editor and a consultant at Contagious, a U.K.-based media and marketing company that has written about the salon retail trend. “It’s the same at Lululemon. You can go to the store, and they’ll teach you how to do a downward dog. They’re helping to facilitate that culture and market that they cater to.”

Selling an emotion, as well as an actual product, is a strategy that has worked for decades. “People don’t really buy a product or a service. They buy a solution to a problem,” says Ken Wong, a professor of marketing at the Queen’s School of Business. Charles Revson knew this well. As the founder of the Revlon cosmetic company once said, “In the factory we make cosmetics; in the drugstore we sell hope.” The Lululemon logo now represents an impulse to exercise and be healthier; wearing it announces your membership in an elite club of enlightened people. The company may have been founded on yoga principles, but Lululemon’s real genius lies in what some analysts call the “Blue Ocean” strategy—the ability to foster new demand in an uncontested market instead of competing for pre-existing customers. “There’s limited competition, and there’s innovation, but not innovation in technology. It’s innovation in adding value to an existing platform, or idea, like Guy Laliberté did with Cirque du Soleil when he merged circus and the theatre,” says Keith McIntyre, president of K.Mac & Associates, a marketing communications agency.

In this case, Lululemon has taken the category of women’s athletic apparel—which has been an afterthought for women’s fashion brands like La Senza and Bebe, and an “also-ran” side of the business at Nike and Adidas—married it to mainstream casual and turned it into a high-performing category all its own.

That community really appeals to women who want to feel healthy, sexy and empowered, but who also feel intimidated by the physicality and exhausting commitment mandated by serious fitness buffs. Sure, wearing Lulu makes you look great, but more important, that little insignia is a reminder that the real source of attractiveness is who you are on the inside. If you truly feel good about yourself, and make small, positive choices like drinking more water and taking deeper breaths, then you will be happier and healthier. A beautiful body, weight loss and flexibility will come with time after that—but the first priority should be on inner satisfaction and fulfillment.

Bring all those Lulu fans together, give them the good-quality items they expect, build their trust, and with that comes pricing power. While Lululemon’s goods are in the higher end of the sector, customers see value in the products. “While you’re there, you’re thinking about what you can do better, and so you buy,” says Atkinson. “There are rarely discounts, so you always feel as though you’re paying the item’s true value, as opposed to one of these ‘60% off’ stores where, when you pay full price, you feel like you’re getting cheated, which is the way a lot of retailers approach things. A lot of people don’t believe retail prices anymore.”

To the casual observer, the return of yoga to the mainstream and the concurrent success of Lululemon

like the kind of happy but short-lived accident that could soon seem as dated as the Atkins diet or Crocs. But imagine if a company like Starbucks had been dismissed as a passing fad. Over the course of four decades, Starbucks grew from one small shop in Seattle’s historic Pike Place Market to more than 6,000 locations in more than 30 countries across the world. Along the way, there were snags—stores closed because of misjudged locations, for example—but the company continued to grow at a blistering pace. Then, in 2007, Starbucks CEO Howard Schultz noticed that, while his company had become a more efficient and effective machine, it had lost some of the more romantic, home-grown spirit that had initially attracted customers. Schultz sent out a note to his management team, now referred to as “the Valentine’s Day memo,” saying that over time the coffee company “had to make a series of decisions that, in retrospect, have led to the watering down of the Starbucks experience.” To combat further “commoditization” of the Starbucks brand, Schultz implored his staff to keep a return to the soulful coffee shop experience in the back of their mind.

As Lululemon continues to grow and surpass estimates, this is a warning they would do well to heed. They’ve already survived their amateur years, which brought their own share of miscues. In 2007, Lululemon was forced to remove tags that said some of its fabrics contained a seaweed that fought inflammation, bacteria and stress, after a New York Times test found no trace of the stuff. Then, in 2008, sinister messages like “You only have 30,000 days to live and then you are dead” were found printed on its iconic red-and-white Lululemon bags, hidden under a separate layer featuring the company’s “manifesto,” which includes happier messages like “Friends are more important than money.” It was later revealed that the company had decided the former manifesto was too harsh, but would responsibly recycle the bags rather than destroy them. Lulu also issued a statement saying the company is “known for speaking our mind and inspiring creativity and freedom of thought in everything we do.” Still, it made sure to remove the remaining bizarre bags from stores.

Those slips have mostly been eliminated since current CEO Christine Day took over Lululemon in June of 2008, replacing former Reebok executive Robert Meers. Day, it’s worth noting, came from two decades at Starbucks, where she most recently led the fast-growing Asia Pacific Group.

Day’s lessons from the coffee chain will be necessary to guide Lululemon through the second stage of growing pains in the coming years, starting with Lulu’s ability to meet consumer demand for their products. Sales of stretchy garments, made with Lululemon’s high-tech fabrics, exceeded expectations in the first quarter of this year and forced the company to accelerate some of the deliveries. It also meant shipping goods by air rather than the more cost-effective sea transport. “Having limited inventory will hinder their near-term sales, especially in Q1 and Q2,” says Erika Maschmeyer, a senior analyst from Robert W. Baird & Co. To handle increasing demand, Lululemon has found a second manufacturer of Luon (its unique stretchy fabric now famous for supporting women’s derrières) and is working on better planning with its factories. It’s also trying to manage the availability and consistency of Lululemon’s 46 other specialty fabrics (up from the original seven), so that there’s enough inventory of, say, the Silverscent material, which is spun out of silver fibres that reduce bacteria and make workout bags less stinky.

But there’s a strategic side to Lululemon’s apparent inability to meet demands, and that’s that the company operates on a scarcity model that “encourages customers to buy now, and creates some excitement and fervour,” says Maschmeyer. Even customers can see advantages to Lulu’s get-it-while-it’s-hot strategy. “If you go to class and everyone’s wearing the same thing as you, it’s a yucky feeling,” says Beauchesne. “That happened to me once. I showed up for spinning, and the educator was wearing the same exact Lulu tank as me.”

Playing with supply and demand is like walking a tightrope, though. McIntyre says that incentive to buy now can wind up alienating people. “Creating scarcity increases demand, but that only goes so far before people say ‘I’ve had enough.’”

Still, with the company trading at 45-times projected earnings, it seems that investors are confident of Lululemon’s ability to walk that rope. “There are very few retailers in the specialty apparel niche that have the ability to grow square footage at double-digit levels like Lulu does,” says Janet Kloppenburg, a specialty retail analyst with JJK Research. “And there are even fewer companies in our group that can do that while generating operating margins in the mid-20% range. So, what the investors are saying is, ‘We believe in the brand, and are willing to pay more upfront to get a greater level of growth going forward.’”

Analysts seem excited about Lulu’s prospects, but the bar is set high for future performance. “Lululemon needs to continue to beat expectations, and earnings estimates need to continue to come up, but I feel confident that while there may be stumbles here and there, they have huge potential in the U.S., through their e-commerce channel, and eventually, internationally,” says Maschmeyer.

Lululemon ended fiscal 2010 with 13 more stores than the year prior, and has plans to open up 30 new stores in 2011. That’s good news, because Lulu’s strategy involves not only quality product, but also getting it into the waiting hands of primary consumers in higher-end shopping areas. That’s one area of the company Michael Baker, a retail and property analyst from Australia has been watching carefully as Lulu expands its reach into his country. “Australian commercial retail real estate is really expensive, and they are now moving in to all of the prime retail centres,” he says. “At the start, people were not used to paying for the quality differential, because the price points are definitely higher in that category of goods. And I don’t think people appreciated it was different.”

One way to get around a high upfront investment in bricks and mortar can be to push business online, something Lululemon plans to test with the launch of a new online shopping website this month. The company has moved its e-commerce division in-house to save money, and hopes a better online-shopping experience will grow these web sales to be about 15% of the business. But how can a store that discounts very little product and relies so heavily on its customer-education experience hope to compete in the online-shopping shark tank? One study, conducted by digital strategy company Delvinia, suggests that people would rather feed their family meat and produce bought online than buy a top without feeling the quality and observing the fit in front of a mirror. In fact, of all the product categories Delvinia inquired about, customers said they were least likely to shop for clothing online.

But when they do take to the web in search of apparel, the price tag has to be perfect. Respondents rated price the most critical factor when buying online, with 85% saying they have their eye on the dollars and cents. But analysts like Maschmeyer think the e-commerce platform will perform well. “Generally, when retailers have an effective multi-channel model, selling both in stores and online, they find that customers spend more and shop more frequently,” she says. In the fourth-quarter earnings call, CEO Christine Day was equally optimistic, seeing “a mid-term target of 15% as being very achievable.”

Cultish. Faddish. Overpriced. To the competitors and haters who want to see Lulu crash and burn, those are its vulnerabilities. On Facebook, there’s an “I Hate Lululemon” Facebook group that offers support “for anyone getting sick of people wearing these ridiculously overpriced yoga pants.” Amid the harsh criticisms are notes such as “Why do people working for lululemon claim to be ‘authentic’ when actually they end up robotically cloning their charismatic leader, Chip Wilson?” Another website, seacowcoalition.com has rewritten the Lululemon manifesto (those inspirational statements printed on those red-and-white shopping bags) with directives like “Brand Loyalty: It’s almost like having a personality,” and “Your worth as a women depends on people looking at your butt.”

And even competitors are starting to take direct aim at the company. Nick Parish recently saw one ad for Old Navy’s cheap alternative to Lulu’s yoga pants that made an explicit jab at the company. It said: “Our guru thinks you’re lulu if you spend $90 for yoga pants.” “It’s interesting to see them directly go after Lululemon, and even mention the name,” says Parish. (Lululemon representatives declined to comment for this story.)

Sometimes, in cases where a brand has lost touch with consumers, this kind of backlash can turn a company’s success against it. This has happened with Starbucks coffee shops and Apple computers, the names of which immediately polarize people into fans or haters. But so far Lululemon’s irresistible promises are exactly what its consumers want to hear—what they’re desperate to believe. They don’t have to settle for mediocrity, can do greater things with their lives, and it’s easy to make the first step by taking a deep breath.

And the acerbic attacks of rivals and contrarians are of little consequence next to the feelings of Christine Thompson. A marketing consultant from Seattle and a former Apple employee, Thompson did her first real yoga class with some colleagues on a retreat in Provence, France, only three years ago. “I was a francophile, so they convinced me to go along,” she says. “And then it turned out to be one of the hottest Junes on record, so we were practising in mid-30-degree heat!” This was also where she observed Lululemon for the first time. “I was the only duffer in the class, and many of the other women had these pants with a symbol on their butt, and their pants did not appear to be sweating as much as mine,” she recalls.

When Thompson returned to her affluent neighbourhood, she noticed the same symbol on a store in the mall, and promptly bought some outfits to continue her yoga practice in the U.S. She’s been practising ever since, and yet she calls herself a Lululemon outlier. “I’m a size 12, and sometimes things don’t fit, but you wouldn’t think I’m an outrageously big person,” she says. Size 12 is usually the largest size Lululemon makes. “It’s obvious that they’ve designed for a smaller body, and then scaled it up without thinking about how a body shape changes, with curves.”

Thinking back to her time with Apple, Thompson says it’s easy to see why Lululemon has been so successful, because both companies “think about the experience they want to create through the whole life cycle of the product. So, you have a designed set of experiences along a journey.”

Thompson speaks favourably of the brand, and its marketing strategy, and even says she would buy from Lululemon again. But the truth is that Thompson hasn’t bought anything from the store in months. “One of the reasons I don’t stop by their stores as much anymore is because I’ve often gone in and found the size 12 cubes totally empty,” she says, noting there are always lots of smaller sizes. “Or, they’ll have something that was obviously a design flop.”

She takes comfort in knowing that her yoga classes are loaded with boomers. And they have boomer bodies, too. “They’re not the streamlined chicks you see in the images.” She just wishes Lululemon would recognize that there’s a bigger community of yoga lovers who would love to wear Lulu. Until then, she will continue her yoga practice in the Lululemon pieces she already owns, taking the company with her, on her quest for happiness. For Lulu, the biggest challenge may be holding on to customers like Thompson, and crossing that breach between how Lululemon sells its ideals, and what the store actually sells.

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