It’s extremely rare I say this, but I got this Nike quarter wrong. I hold myself to an extremely high standard on all my names (especially Nike), but was expecting the company to smoke the quarter, and it didn’t happen. The company printed $0.66 ($0.67 adjusting for a higher tax rate), which, in fairness, is slightly better than the company’s implied $0.60 guidance. But was $0.02 shy of the Street. The biggest variance from our numbers to the actuals was North America growth, which we had at 15% and it came in at 5%. We got both China and inventories right, as China accelerated to 25% growth in the quarter, and inventories were flat vs last year, after starting the year $3bn ahead. Very impressive that Nike cleared so much inventory so quickly – though it hit Gross Margin materially throughout the year – more than the company is implying in its commentary (bullish for MayFY24).
Let me cut right to the thesis, and why I’d be buying on any weakness on Friday. Nike is a company that grows in multi-year bursts. I’ve seen (and lived) it time and time again over the course of nearly 30-years. It resets the marketplace, R&D, pricing, and product positioning with the right retail channels and then goes through a multi-year burst of share gain while it simultaneously grows the market. I firmly believe that we’re at the beginning of one of those multi-year bursts, which should start to play out in the current quarter. Inventories are down double digits in units, so the company is being ‘Macro Aware’ in product and promotion planning at wholesale. But the company gave guidance of 5% top line growth for the upcoming year (I was assuming it’d give lsd guide), which I think will end up closer to 10%. Ditto on the gross margin. As I expected, Nike guided to ~100-200 upside in GM for the year. But when you add on lapping apparel discounting from last year, excess freight (which was just renegotiated to below 2019 levels), lack of FX hit, and the shift to digital (which we think will put the ‘is digital accretive’ argument to bed this year) we get to over 400bp-500bp GM improvement for the year. That gets us to $4.50 or better for the year, compared to the consensus (the company straddled the street with its guide, so numbers unlikely to change) of about $3.85. Mind you, this ‘burst’ of growth is beginning at the same time we think that competitors like Adidas, Puma and UnderArmour are melting down. This is like 2004 all over again, when Adidas acquired Reebok and served up 800bp of market share on a silver platter to Nike. We think Adidas has to be torn down to the studs and rebuilt again in order to regain relevance, and think that it’s going to tank numbers next year. Again, this is not a 1-year phenomenon. We’re looking at a 2-3 year acceleration in growth and profitability. We built to $5.75-$6.00 in FY25 (May), which is 20% ahead of the consensus.
Also mind you that John Donohoe has been CEO of Nike for 3-years and EBIT has been flat due to several transitory factors – not the least of which is the pandemic and share loss in China. That’s over. China is back with 25% growth this quarter, accelerating on a 2 yr basis for 2 quarters in a row. EBIT has been flat at $6.5bn for three years running for Donohoe due to investing in a downcycle (something we LOVE and Wall Street hates). Now cost headwinds are turning into tailwinds, top competitors are hemorrhaging share, and Nike’s growth should accelerate meaningfully. Dononoe has 2-years left in the C-Suite (mandatory ‘unwritten rule’ of age 65 retirement as Nike CEO). He’s going to push EBIT dollars North of $10bn before he retires. Don’t listen to the company’s guidance. They’re gonna beat, and beat big over a multi-year time period. The stock might look expensive at 27x earnings, but Street numbers are wrong. On our numbers (which we took down slightly due to a more competitive North American market in FY24), it’s trading closer to 18x core earnings. If competition wasn’t melting down, we’d be less bullish, as Macro is still a concern. But the trifecta of share gain, investment cycle rolling over, and apparel liquidation from last year going the other way – we think this company is primed to have a monster rebound in FY24 – which is in no way part of the uber-bearish narrative circulating today around this stock.
We presented a detailed deck on the Footwear space recently, highlighting competitive pressures, lower barriers to entry, but most importantly the increased per capita consumption of sneakers we expect to see Globally in the coming years. Along with that, we’re seeing the ‘luxury’ segment of sneakers emerge, with brands like Golden Goose, Dior, LV, Celine, and others push price points in sneakers over $1,000. The irony is that many of them are copying Nike designs and slapping on their logo, and Nike is testing (and mass selling) product at price points that were once thought unthinkable. And it will be selling those on a direct basis and capturing the lion’s share of the economics instead of sharing with wholesalers. Add this secular tailwind to the ‘burst of growth’ thesis we expect to see in the coming years.
For access to our presentation Athletic Footwear | Duopoly Destruction, or Paradigm Shift: Video Replay Link CLICK HERE
In the end, this was a good quarter for Nike with progress in many areas. Not the quarter we expected, but it showed us the right set up for an acceleration in the next Fiscal Year and beyond. Nike sits in the Top 3 on our Best Idea Longs list with RH and CPRI. If we’re right in $6.00 in earnings power, this is good for a $180 stock – a massive 65% upside over a TAIL duration for a big cap name on a beta-adjusted basis.
