Earnings Preview: Nike’s Strategy Should Keep Delivering Growth Across All Categories

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Sports giant Nike (NYSE:NKE) is scheduled to report its earnings for the first quarter of fiscal 2015 on Thursday, September 25. In the previous quarter, the company recorded a 11% revenue growth over the same quarter in the previous fiscal period, along with an expansion in gross margin of 170 basis points. [1] For the full fiscal year, Nike’s reported revenues grew by 10%(11% on a currency neutral basis). The growth was driven by an 8% increase in unit sales and 4% increase in average unit price. The company expects the same momentum to continue into the first quarter of fiscal 2015. Nike delivered strong growth across its product portfolio in fiscal 2014 and we expect these strategies to continue delivering growth in fiscal 2015. Additionally, incremental investments in the company’s Direct to Consumer business, should help boost the operating margins of the company.

Nike has guided for a low double-digit growth in revenues for the first quarter of fiscal 2015, with a 75 basis point expansion in gross margin, on account of a shift to higher margin products in the sales mix and increased revenues in geographies like South America and Europe due to the FIFA World Cup, which was held in Brazil in June and July. However, the Selling, General and Administrative Expenses are also expected to rise owing to promotional expenses undertaken by the company in anticipation of the FIFA World Cup. [1] We expect the company’s earnings to be in line with its guidance for the reasons cited by the company.

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Recap of Q4 FY14 Results

In the fourth quarter of Fiscal 2014, Nike’s revenues from continuing operations were up by 11% on a reported basis and 13% on a currency neutral basis. Gross margin increased 170 basis points to 45.9 %, driven by a sales mix of higher margin products and businesses, higher average prices, lower input costs and continued strength in the higher margin Direct-to-Consumer business. The company’s strong performance in Q4 2014 was underscored by high growth in North America and Europe. High demand in running, basketball and football categories continue to fuel the growth momentum for Nike. Chinese sales disappointed as the company’s revenues from the region grew by 2% on a currency neutral basis in Q4 2014 compared with the 7% growth in the previous quarter. The company’s outlook on this market in 2015 continues to be optimistic. [1] Revenue for Nike Brands from the DTC channel grew 27% driven by 10% comparable store growth and an impressive 42% growth in online sales. [1]

Nike’s Strategy To Keep Working

Nike delivers growth by focusing on specific categories in specific geographies. The company focuses on individual product categories such as running, football, basketball, football and men’s training to drive innovation and incremental sales in these product categories.

Running and basketball are two categories for Nike that are witnessing high growth and have strong market potential. The company is tapping growth in these categories by providing innovative technologies such as Nike Free, Lunar, Flyknit and Dri-Fit,  as well as leveraging partnerships with leading athletes such as Kobe Bryant and LeBron James. We expect these two categories to continue to grow at a strong rate in the future.

In this quarter, Nike focused on using the FIFA World Cup to grow its sales. Even though, the company’s main competitor Adidas is the official match ball and apparel sponsor, Nike has leveraged the popularity of the event to put its products in the limelight. Additionally, the company also partnered with DHL in order to make its supply-chain operations in Brazil more efficient. The extra sales as a result of the event will not only help the company’s bottom line in the quarter but also help it continue on its path of gaining market share from Adidas in Europe, where Nike’s business is structured around football. [2]

Nike’s Regional Performances

a) North America represents the biggest market for Nike, accounting for ~40% of its revenues. The company is the market leader in the North American athletic footwear market, with nearly 60% market share. Moreover, sales in the footwear category are driven by the basketball category, which has higher margins than other footwear categories. Nike’s strong footwear performance is based on using endorsements by iconic figures such as Michael Jordan and Kobe Bryant to sell its products. New endorsement deals, such as those with Lebron James and Kevin Durant should help Nike retain the same strength over the coming quarters. Additionally, the strength of the company’s growing Direct-to-Consumer business should ensure that sales in this region remain solid.

b) Emerging markets (excluding China) revenue grew by 25% in the previous quarter. The high growth was also a result of the pent-up demand caused by supply chain issues faced by the company in Mexico in the first half of fiscal 2014. Emerging markets provide long term growth opportunity for Nike, and the company will leverage international sporting events such as the 2016 Summer Olympics in Brazil to drive its future sales.

With growing economic prosperity in the region, Central & Eastern Europe represents another fast growing market for Nike. Not only did the company’s sales jump 12% in the fourth quarter, the futures orders also stood at a promising 10% (in constant currency terms) at the end of Q4. Therefore, we believe this region will continue to be a strong growth driver for Nike in the near future. [1]

c) China is expected to hold the key to Nike’s future growth, owing to its large population and a fast growing economy. However, Nike’s Chinese sales have been hit in the recent past due to ineffective brand positioning, which led to a long drawn process of clearing out excess inventory by offering discounts. The company is actively addressing this situation by focusing its assortment with a greater level of precision on sports and products that are most preferred by Chinese consumers.

Nike has also setup new distribution centers and increased its marketing capacity in the region. The sales figure in the face of this restructuring process will be a key indicator of Nike’s health in China. In an encouraging sign, Nike’s revenues from the Greater China rose 7% in Q3. However, the trajectory of growth in sales from Greater China is unlikely to be linear, as shown by only 2% growth in revenues in Q4. Reported future orders at the end of the quarter stood at a healthy 6%. [3]

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Notes:
  1. NIKE’s CEO discusses F4 Q2014 Results, Seeking Alpha, June 2014 [] [] [] [] []
  2. Nike Gears Up For The FIFA World Cup In Brazil, Trefis, May 2014 []
  3. Nike, Inc. Reports Fiscal 2014 Fourth Quarter Results, NASDAQ BPQ, June 2014 []