This morning was one of our less fun ones given earnings reports from Sherwin Williams (SHW), Whirlpool Corp. (WHR) and Under Armour (UA). Given those results and impact on the respective share prices, we are issuing this special alert rather than waiting until tomorrow for the next regular issue of Tematica Investing.

Quickly, here is the actions we are making, with our explanation further down:

• After you get this alert we will close out the shares of both Sherwin Williams (SHW) and Whirlpool Corp. (WHR), removing them from the Tematica Investing Select List.
• We are cutting our price target on UA shares to $40 from $55, but we are still keeping our Buy rating on the shares. 

So what did we learn this morning that is driving this action?

We are removing both Sherwin Williams and Whirlpool shares from the Tematica Investing Select List given the combination of weaker than expected September quarter results and downside guidance for the balance of 2016. Included in the reset outlook are weaker than expected revenue growth that will translate into reduced EPS expectations near-term. The share reaction in the shares — SHW down more than 9 percent and WHR down over 10 percent — mean the shares are likely to remain range bound if not fall further as Wall Street recasts its earnings expectations for the coming quarters.

While we could be patient with the shares, we suspect there will be other better-positioned opportunities to come rather than endure a potentially slow craw to our breakeven points with these two positions.

Turning to Under Armour, this morning Under Armour reported better than expected September quarter results and re-affirmed its 2016 revenue forecast. For the quarter UA delivered EPS of $0.29 per share on revenue of $1.47 billion vs. expectations of $0.25 per share in earnings on revenue of $1.45 billion. Ticking through the company’s earnings report reveals double-digit growth across all revenue categories (wholesale, direct to consumer, North America, International, apparel, footwear and accessories), with total revenue up 22.5% on a year-over-year basis.

So why are UA shares down? 

On the earnings conference call, UA management shared it will step up the level of investment to drive growth and it will weigh on margins and bottom line performance over the coming several quarters. Even though UA reiterated its 2018 revenue target of $7.5 billion, this increased level of investment in most aspects of the company’s business to achieve its revenue targets means resetting margin and EPS expectations.

As such, UA backed away from its 2018 operating income target of $800 million, and while it did not offer a specific revision, it painted the picture of mid-teens operating income growth over the next two years, which suggests operating income more like $580-600 million by 2018 compared to $440-$445 million this year. Compounding these investments is the likely prospect that gross margins improvement will be the continued expansion of the company’s footwear margins, which are in the low-to-mid 30% range today.

Ahead of the company’s earnings call, UA shares were up 2% on the better than expected September quarter results. During the call, however, as we and other investors digested the updated guidance the shares dropped more than 14% pre-market. What we are seeing is a major reset in expectations for both the company’s financial performance and the corresponding valuation for its shares. That reset, which paints 2018 earnings more like $0.75-$0.80 than the current $1.00 per share consensus, has us cutting our price target on UA shares to $40 from $55.

After adjusting for the sharp falloff in UA shares this morning, which is likely to be overdone in the short-term as Wall Street revises its earnings and price target expectations as we have done, our revised price target offers 23% upside. As such we will continue to keep a Buy rating on UA shares.

We expect UA will be in the penalty box with investors, a position that takes a company time to work its way out of. The silver lining is that while its growth rate has been reset, UA is still poised to continue to grow its revenue and operating income in the coming quarters as its initiatives take hold. As the shares settle out in the coming days and cool off from today’s news, and we would look to be opportunistic.

We’ll have more for you tomorrow in your regularly scheduled Tematica Investing!

Chris Versace
Chief Investment Officer
Tematica Research, LLC