LULU was sold from the portfolio because of increased discounting and management instability; while it may recover over five years, the current risk profile is too high for holding.

And I want to actually start by giving another introduction to how exactly the intrinsic value portfolio works. And I think this will be particularly important today because there will be positions that we discuss in which one of us is or was more bullish than the other one.

So the basics basically the intrinsic value portfolio is a shared portfolio that Sean Kyle and I manage and the way we handle this is basically by a simple rule. So the portfolio is obviously a paid portfolio since we don't give any financial advice nor do we actually manage money.

However, each of the positions owned in the portfolio has to be in the personal portfolio of at least one of us hosts. Some are obviously in all of our portfolios, but the main rule, one of us has to own the company.

So, for all the stocks in our intrinsic value portfolio and the ones that we discuss today, you can be sure that we actually lost money on them.

Okay, how about we start with the most recent sell in our portfolio, which would be Lululemon. And for context, the stock entered our portfolio at an average price of about 200 bucks and left it at $116 per share.

I should probably be the one to take the lead on this one since it was my pitch. And I should say I still haven't fully given up on the idea that Lulu will turn around. I think there's a good chance that looking back five years from now, especially at the current valuation, it will have looked like a pretty good entry point and will probably have been peak pessimism, but there is definitely an opportunity cost of holding a stock in your portfolio that is already down more than 40%.

And that played into our rationale for why we decided to remove it from the portfolio.

And so just for context, the thesis was that you could buy this really high quality retail brand with industryleading margins, 35% returns on invested capital, 20% kaggers on historical growth, and a very very strong athleisure brand.

Really the pioneer of athleisure. All for what seemed to me like a very reasonable price of 15 times earnings while they were buying back stock massively and all those sorts of things.

And obviously you don't want to pay a premium for those historical growth rates, right? Just because a business has done well previously doesn't mean that it's guaranteed to continue to do well.

But I believed and to some extent still do that Lululemon is not a brand that's just going to come and go. And if anything, it's a brand that can continue to thrive while being mainstream.

And so, like I said, it basically invented the athleisure style. And I thought that that might help them more than it seems to have, at least when you look at what's happened to the business in the last year.

But generally, I agree with you that Lulu might be trading higher five years from now. Although I probably have lower conviction on that than you have. But I think when you say that Lulu survives the mainstream, that certainly means that they're staying cool while being worn and seen all the time, right?

That's what a retail brand like Blue Lemon wants to achieve. And it's basically what brands like Nike and Adidas have already achieved. And they are the exception, not the rule. I should say that.

>> I generally would agree but for me Lulu has actually been in the mainstream for such a long time now that I do still believe it has these kind of resilient mainstream qualities.

Right? Fashion is a really fast-paced business. Of course, if your collections are unpopular for a season or two, you can get in trouble quickly and you have all this excess inventory and that can really destroy your cash pile quickly, but things can turn around just as fast when collections go viral again.

And so, Lulu is definitely going through the painful process of transitioning from a rapid growth business to a more mature business, excluding maybe China, but we also don't know how durable growth in China is going to be anyways.

And so they definitely have a few product releases that have fallen flat in light of more and more competition from brands like Aloe and Vori in particular. And then at the same time, you've had this dispute where the founder of the company has been openly critical of the board for some time and you've got the CEO stepping away right as the business starts to underperform and then now for the rest of the year you have interim management in place.

And so that's a lot of volatility for any stock to process in one year.

And from my vantage point, I still wear Lulu all the time. And I still think it's a really, really strong brand and a really high quality product, which is why I could probably talk myself into buying it again if it gets cheap in the way that Crocs was where we're talking about trading at like five or six times free cash flow per share.

But when you have people just temporarily filling in at the management level at such a critical inflection point in the company's history without a really strong leader paving the way, it's just not a bet that I felt was appropriate for us to continue holding on to given how much had changed in the thesis from when we first invested in it.

>> There are many brands that, you know, go out of style for a while and then they come back many years later. And I guess the problem for me is that I just have a hard time seeing that turn into a compounder at any point.

And I have an even harder time sort of anticipating when to jump on and off the bandwagon. And the idea with Lulu has been to buy a company that doesn't have these typical fashion cycles.

And it's just a tough game to play. I think the time to make money on these companies is just very early on in their life cycle.

so I assume that at some point it will hit a similar roadblock to what you know little lemon is currently seeing and apart from luxury companies there's just very few brands that can escape that cycle for good is a bit different when you're talking about with companies like Nike where they're not necessarily by definition trying to be premium or luxury but like with Aritzia and Lulu There is this paradox of growth where the more you become mainstream, the less premium and luxury you're likely to be seen as.

And so the reason I thought Lulu could perhaps be different is that for pretty much my entire teenage and adult life, it has continued to be extremely popular. So it's not like this is a brand that shot up in popularity for two years and then you bet everything on it.

But since 2010, it has really been a very strong brand nationally, at least across the US and Canada. And it did have these compounder-l like growth economics for 16 years or more, while they also began really gaining traction internationally, 40% 30% year-over-year growth in places like China or some of the recent numbers.

And so unfortunately though, the business in North America decelerated and then declined much faster than I anticipated admittedly. And no retail stock is going to survive a slowdown in its core market without a significant revaluation of its market multiple.

So, even if Lulu is a brand that still boasts industryleading sales efficiency per square foot, customer retention, returns on capital, and and all these other kind of metrics, they just aren't going to be able to survive that without a massive cut to the stock price.

And so after actually resisting a handful of different brands as competitive threats throughout their rise into the mainstream and beyond, the pressure I would say from Aloe and Viori and also these cheaper knockoffs on sites like Amazon has just become too much in their core markets, especially in the US, things have just gotten really saturated in athleisure.

And what really gave me pause in particular was seeing all the discounts that they were offering in recent months. And originally I had said that if we saw Lulu rely more on discounts to drive sales that would likely mark the end of its era as being perceived as a premium brand and that would destroy their margins and their earnings over the following years. And that was always my big concern.

And so when I had been shopping on the Lululemon site recently, I really I had to admit I was shocked by how much apparel was on sale. And again, I I've spent, you know, many years visiting the Lululemon site for myself and for my wife and for gifts for friends and stuff like that.

And it really felt like there was an extraordinary amount of stuff on sale. And then when I did some deeper digging, I did find data. I think it was from CNBC that supported the claim that Lululemon has in fact been doing an unusual amount of discounting.

So, it wasn't just totally anecdotal speculation.

And the thing is with discounting is that it's a very attractive short-term solution because you can boost sales and clear out old inventory and it looks really good for your cash flow numbers, but the problem is that it conditions your customers to wait for discounts to shop and buy your products.

And so it diminishes the brand's perceived value. It's no longer, hey, I'm willing to pay $100 for these leggings. I'm going to wait for them to sell at 70 or maybe 60 or whatever it is.

And that just erodess the brand over time. And what had made the business so special in the first place begins to fall off where again they had actually industryleading rates of full price sales which refers to the percentage of their inventory that they would turn over without needing any discounts in the past.

And as that reality has started to change, especially in the last year, that is what made me really begin to doubt the thesis.

Whenever you try to figure out whether a stock is a value trap or not, you sort of look for these leading indicators, right? A lot of times you see the headline numbers that they still look great, you know, revenue, margins, and all of that.

When something that you can look at for these retail companies is discounting, how much of their inventory is getting discounted and how does it sell? And it would still, you know, not be visible in the revenue numbers, perhaps in the margin, but it doesn't have to be immediately.

But you will figure out that over time if they just keep doing that and the perceived value of the brand is going down they will not be able to take the same amount of money for their goods and services as they did before.

So over time you will see sales decline, you will see margins decline and that's why you look for these sort of leading indicators.

And I believe that a huge part of the problem for Lulle Lemon at least is that they do have a management team that's not built for the future right at now. It's much harder to make decisions that hurt in the short term but benefit in the long run when the person responsible for those decisions won't be there anymore.

>> I fully agree with that. And just to clarify again what you're referring to, Daniel, that company is currently led by interim co-CEOs, which is even more complicated when you're having two short-term leaders instead of just one after their former CEO Calvin McDonald left the company.

And so in part, I'm sure that decision was due to pressure from the founder of Lululemon, Chip Wilson, who uh made his discontent with Lululemon very well known. And even the departure could have probably been an opportunity for a bit more optimism and maybe a new direction for the company.

But it did not help things when Lulu announced that Heidi O'Neal from Nike would be the replacement. And so just given the massive challenges and mistakes that Nike has made in the last few years, there's definitely more exciting news to get than hearing that someone from that company is coming to rescue Lululemon.

So, as I told you and members of our mastermind community when I sent out an update a few months ago on our decision to sell the position, I could probably stomach a lot of this uncertainty for my personal portfolio because of the conviction I have in the brand and I have such a long investing time horizon that I don't mind really stomaching a lot of volatility.

But it's really another thing to keep it as a holding in our intrinsic value portfolio where I'm forcing the conviction to some extent onto you and Kyle if you don't feel as enthusiastic about the brand and then we're also constantly comparing all the positions in our portfolio against the new stocks that are being pitched each week on the show.

That's what we saw with Adobe, Lululemon, all of those companies.

>> And just for the sake of giving the whole picture, the argument for why you should hold on to positions like PayPal, but also Lululemon is to trust that you bought the asset at a cheap enough price that in the long run you will make your money back or make a profit one way or the other.

It's a much better business obviously than PayPal and probably also Lulu ever were. If you look at both Lulu's and PayPal stock chart, then you just layer the topline growth over it, you will see there's a pretty strong correlation there for both of those companies.

Lulu push outed CEO in favor of interim co-CEOs. While the founder was publicly at war with his own company,

And I also wouldn't be surprised again if we saw something similar with Lulu where if you actually held the stock for 5 years from today, I would not be surprised if things ended up being okay.

But the question is just are you willing to ride out those losses after things have already changed pretty dramatically?

And so I don't know if it'll be an acquisition for Lululemon. Probably not. But certainly there could be a shift in sentiment, business fundamentals, especially as they continue to grow in China, and then that could all change the valuation dramatically.

I mean we obviously know you would have never bought PayPal and I would have never bought Lululemon.