Did Lululemon Just Make a $2 Billion Mistake?

Lululemon (NASDAQ: LULU) has been one of the best-performing apparel stocks of the century, as the company pioneered an entirely new category of clothes: athleisure.

However, over the last couple of years, the stock has been a downright disaster and is now down 72% from its all-time high at the end of 2023. Challenges facing the brand have included weakness in North America due to brand saturation, competition, and complaints about the product quality and lack of newness in its styles. Additionally, tariffs, including the removal of the de minimis exemption, hit the Canadian company hard, forcing it to rearrange its e-commerce supply chain for the U.S., where most of its revenue comes from.

In the face of those headwinds, former CEO Calvin McDonald, who had led the company since 2018, said he would step down last December, leaving the board to search for its next CEO.

On Wednesday night, Lululemon announced that decision, naming longtime former Nike (NYSE: NKE) executive Heidi O'Neill as its next CEO, effective Sept. 8. Investors responded by dumping Lululemon shares, and the stock finished Thursday down 13.3%, wiping roughly $2 billion off its market cap.

It's not unusual for a stock to move on the announcement of a new CEO, especially when it's a high-profile company or one that's attempting a turnaround, but a double-digit percentage dive is extreme.

Did Lululemon just make a $2 billion mistake? Let's take a closer look at what O'Neill's selection means for the apparel company.

Image source: Lululemon.

Why Lululemon chose a former Nike exec as its next leader

In the press release announcing O'Neill, the board cited "the breadth of her experience, her demonstrated success delivering breakthrough ideas and initiatives at scale, and her ability to be a knowledgeable change and growth agent."

O'Neill spent nearly 30 years at Nike, during a time when the company grew from less than $10 billion in sales to nearly $50 billion. She also previously worked at Levi Strauss, and has served on boards for companies like Spotify Technology and Hyatt Hotels.

Nike is the largest company in Lululemon's industry, and O'Neill's experience growing a company from the size of Lululemon today to a much larger business may have seemed particularly valuable to the board and likely distinguished her from other candidates.

Why investors jeered the move

While O'Neill's resume is clearly impressive with nearly three decades at Nike, it deserves some context.

Like Lululemon, Nike has struggled badly in recent years, with the stock down 75% since its peak in 2021. Nike is in the midst of its own turnaround under CEO Elliott Hill, though those efforts have yet to pay off. Hill let go of O'Neill as part of a leadership shake-up last year. O'Neill was a key leader of the direct-to-consumer (DTC) business under previous CEO John Donahoe, though the strategic shift to DTC, which neglected the traditional wholesale business, is now seen as a costly mistake by Nike that both stunted its own growth and allowed competitors like Deckers and On Holding to get more shelf space at Nike's retail partners.

It's unclear to what extent O'Neill deserves blame for that strategy, but that may explain why she is no longer with Nike.

The skepticism seems fair, but O'Neill deserves a chance

O'Neill is a seasoned industry executive. She would seem like a good fit for a healthy and growing Lululemon, but that isn't where the exercise apparel company is these days. It needs a visionary leader or a turnaround agent, someone capable of breathing new life into the brand and taking the product next level.

A leader with, say, start-up experience or who had executed a turnaround might have been seen as a better fit. Still, O'Neill deserves a chance, and her most recent experience isn't necessarily predictive of how she'll run Lululemon.

It's still several months before she takes over, and we'll hear from Lululemon at its next earnings call in June. Some momentum in the business before O'Neill's arrival could go a long way toward improving investor sentiment toward the stock. There's still an attractive turnaround opportunity here with the stock at a price-to-earnings ratio of less than 11, but it's clear O'Neill will have to work to win over investors when she takes the reins.

Jeremy Bowman has positions in Lululemon Athletica Inc. and Nike. The Motley Fool has positions in and recommends Deckers Outdoor, Lululemon Athletica Inc., Nike, On Holding, and Spotify Technology. The Motley Fool recommends Hyatt Hotels. The Motley Fool has a disclosure policy.