This is a name that is working for the right reasons. While it might not make you rich at $100 (that’s pushback we get), the reality is that the TRADE, TREND and TAIL fundamentals are converging in a way for it to offer up one of the better risk-adjusted returns in retail into 2013. Nike is currently sitting at a 20x multiple on this year’s earnings, and when we look at the catalyst calendar and setup over the next two years, we can find no reason to justify multiple degradation. The earnings acceleration to a 20% CAGR alone should set the stage. We’re building up to $7 in earnings 2-years out, which suggests a $140 stock, or around $120 in a year.
Along the way, you own one of the top ten brand names in the world and the clear leader of a duopoly in a GDP plus industry. Over our TAIL duration (3 years or less) we think you will start to see the benefit of unprecedented investment today to change the landscape of this industry. Our point can best be explained in an hour long conversation (or a soon-to-be released Black Book), but the crux rests in the convergence of new manufacturing technologies, mass customization, and digital proliferation of sport and commercially available product. This might not sound new to people who know the story, but we're convinced it is underappreciated from a strategic and modeling perspective. In the end it will keep Nike’s top line alive long past when the consensus thinks it will roll over due to perceived cyclical threats.
TREND (3 months or more): Over our intermediate-term TREND duration, two things should happen. 1) China should continue to stabilize and turn back up within two quarters. Keep in mind that it has been one of the biggest sentiment/stock obstacles, and China is Nike’s highest-margin region by a country mile. 2) Gross margin should turn decidedly positive after lagging for two years. These factors provide a massive cushion to the extent we see any slowdown in the US – though we don’t expect to see any growth in the US below 8% for the foreseeable future.
TRADE (3 weeks or less): From a near-term TRADE perspective, we’ve got the positive print showing such solid execution against a backdrop of such negative sentiment, and a stock split that takes effect on Monday the 24th. While we hate to suggest that the latter helps, but it arguably helps the sentiment around accessibility to a retail investor over the near-term. The immediate-term SIGMA set-up is solid.
As for the quarter, here are some of the puts and takes…
- The 2-year growth rate for US footwear is the highest in the history. The number ‘should have rolled’ according to the consensus. But it accelerated. Some will say that we’re just kicking the can down the road until revenue eventually decelerates. We call it execution. As a sidenote, Nike’s US footwear business alone grew in the quarter by nearly 3x the size of the entire revenue number UA printed for footwear in 3Q
- US margins were up 272bps. Close outs are down and inventories are clean.
- We like the blend of pricing vs ASP for footwear -- +3% and +4% respectively.
- Comp store sales grew 18%. ‘Nuff said.
- Running and hoops were both up over 20%. That’s solid. But women and action sports were down – that’s not what we want to see as these are barometers for future growth. Yellow flag that one.
- China revenue was -11% as the company continues to clean up its self inflicted black eye. While they continue to boast about how they can fix China because they’ve been in this position before, we’d ask “how did you get in this spot given that you’ve been here before? Nonetheless, futures in China at down half the rate of the revenue decline, which supports the trajectory that management suggests the business is on. Margins in China remain weak, but that’s a relative term given that they’re still clocking in at 32%.
- In what might be a validation of the apocalyptic end of the Mayan calendar, Japan put up the highest 2-year growth rate in 13 quarters.
- We do not, I repeat DO NOT, like the fact that Emerging Markets futures are only up 7%. That’s the sixth consecutive quarterly decline. Last we checked, Emerging Markets are supposed to grow. EM represents 14% of the company, and an greater proportion of its future. This is not a thesis killer for us, but is one of the issues we need more comfort with.
Overall, there will always be parts of a portfolio that need work. We think that when everything nets out with where Nike is today, it is a great place to be.