Here’s How Valuable The Wearables Business Is To Nike

Last month, Nike (NYSE:NKE) laid off people in its hardware division, which makes the fitness tracking wearable device FuelBand. The company explained its decision by saying that the lay off was part of a re-alignment of resources with business priorities, hinting that its priorities in its Digital Sport Business are undergoing a change. From now on, it seems that Nike will shift its focus to fitness software, like its Nike+ API, which can be integrated by other hardware makers into their devices. The retailer also launched a software incubator called the Fuel Lab in the same week to help hardware makers integrate its fitness measurement system, Nike Fuel, into their devices. ^[1]

This move comes as the wearable gadget category is getting populated, with electronics manufacturers like Samsung and Apple having entered or looking to enter the category. Last year, Credit Suisse issued a report that identified wearables technology as ripe for major growth having hit “an inflection point in adoption”. ^[2] From 200,000 in the first half of 2013, wearable sales jumped to 1.6 million in the second half of the year, a 700% increase. Research firm Canalys estimates that the smart band segment will reach 8 million annual shipments in 2014, growing to more than 23 million by 2015 and over 45 million by 2017. This means that the industry is primed for a near five-fold growth from its current market size of $3-5 billion to $25 billion by 2017. ^[3] Considering that such a big opportunity exists, it seems surprising that Nike looks like it has decided to concede defeat even before a fight begins for share of this market. However, deciding to focus on its core competency-sports and training apparel-instead of trying its hand at electronics hardware manufacturing and racking up losses, might not be such a bad decision, especially if Nike can use its fitness tracking software to drive more people towards its products.

See our complete analysis for Nike

Selling Devices Is Much More Lucrative Than Selling Apps

Assuming an expiry period of around two years for a wearable device, around 40 million wearables will be in active use by 2017. Taking the bullish case that each wearable user will download at least 50 apps on to their device, 2 billion apps will be active on these devices. If around 15% of these apps are paid, at 300 million apps and at an average app price of $3, we can expect the wearables app market to be just around $1 billion. How much of this market can a fitness app that runs on the Nike+ API be reasonably expected to capture? Even if Nike becomes the go-to fitness app maker for wearables, the top line contribution from this stream should be a factor that propels the company towards its stated revenue target of $36 billion by 2017. (It must be kept in mind that these estimates are extremely bullish, as they are based on data for iPhone and iPads. Apple smartphone and tablet users download more paid apps on average than those using the products of other companies.) Moreover, it is extremely improbable that Nike will try to sell its API software to hardware manufacturers instead of making it open source. Compare this to the revenues that a maker of a wearable device can generate: at 10% market share, $2.5-3 billion worth of revenues can be added. But given the intense competition anticipated in this market, gaining 10% market share might prove costly for Nike’s bottom line, especially as it has no expertise in hardware manufacturing and selling.

What Nike Plans To Do With Fuel

The Nike FuelBand records a user’s fitness data and sends it via bluetooth to an Apple device. The FuelBand is also tightly connected with Nike+, a website where fitness activity aficionados post their fitness data and compete among themselves. Nike+ allows access to Nike’s online stores, but the purpose of the website is to get people to embed the Nike brand more fully into their lives. Ever since the introduction of the FuelBand, Nike+’s membership has grown by more than 300% to reach 28 million. The company aims to triple that number and reach 100 million members worldwide.((Nike Channels Apple Using Apps To Hit $36 Billion Target, Bloomberg, April 2014)) By becoming a leading provider of software API’s for wearables, but leaving the heavy lifting of hardware manufacturing and selling to experienced practitioners, Nike can leverage its presence on many more devices to direct users to the website. Moreover, if the company can expand its capacity to provide more than just data visualization and offer analytics based on the data to suggest its products via in-app advertising, it might even be able to sell more products at a lower cost for the company. To sell more products, Nike will have to target newer customers and newer markets. It seems unlikely that a lot of people who aren’t serious runners, most likely belonging to the existing Nike customer base, will actually purchase wearables in the first place, thereby limiting the company’s access to potential new buyers.

Effectively, the decision to step out of wearable hardware manufacturing to being only a software provider means that the company sees this space only as a potential tool for marketing and advertising. While this will surely increase the awareness of the company’s products, whether it will increase sales remains moot.

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1. Nike reportedly abandons the FuelBand and lays off its hardware division, The Verge, April 2014 [↩]
2. The Future Of Wearable Technology, Credit Suisse, April 2013 [↩]
3. Wearables Market Heating Up, Techcrunch, February 2014 [↩]