Nike Remains a Great Long Term Buy
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Nike’s (NYSE: NKE) performance for the financial year ended May 2012 was way below par for the sports apparel and footwear giant. While revenues grew 16%, net income inched up a measly 4% and earnings helped by a generous buyback climbed faster at 8%. The gross margin sunk to 43.4%, down 220 basis points from 45.6% last year. Trimming overhead and sales, Nike managed to keep net margins from completely losing its footing to 9.2%, also down from 10.2% in FY 2011. This was Nike’s worst net gross and profit margin in a decade.
Input costs rose and even though Nike managed single digit price increases it wasn’t enough to keep margins at last year’s levels. Worse, for the quarter ended May 2012, Nike's gross margin shrunk to 42.8% - a sixth consecutive quarterly drop in gross margin.
Europe continued to be a drag in FY 2012 – sales increased 9.5%, but operating income fell 15%, which could indicate that Nike was pushing merchandise out of the door at discounted prices.
Overall inventories too rose 23% over May 2011, largely because of higher input costs and some unsold stock.
Going forward, Nike now expects Chinese revenue growth to slow down to single digits from 23% in FY 2012, and expects European revenues and income to weaken further in 2013.
Why Nike remains a great long term buy
Nike has the best brand recognition amongst its peers in 2012, jumping 13 places to 44th in the top 100 list. By contrast, Adidas (NASDAQOTH: ADDYY) and Puma did not even make it to the top 100.
A study on brand awareness at the London Olympics showed that in spite of being outspent by Adidas, Nike still came across as the official sponsor of the London games.
Divesting non-core businesses such as Cole Haan and Umbro is a good idea to focus on its main brands.
Nike should also get a boost from the London Olympics and its five year deal with the NFL – becoming the NFL’s exclusive supplier of uniforms. Besides uniform sales, expect brand recognition to get an even more significant boost from one of the largest TV audiences in the world.
China will still grow in the single digits, but I expect margins to improve slightly and boost the bottom line; even chief rival Adidas expects to grow its Chinese revenues by 10% next year.
Emerging markets revenues and income jumped 18% and 24% in FY 2012. This segment will get a boost from Brazil hosting the Soccer World Cup in 2014 and the Olympics in 2016.
Direct consumer sales grew at 24% in FY 2012, growing on the back of an already impressive 19% in FY 2011, accounting for almost 17% of Nike’s total brand revenues. Greater direct sales will also help net profit margins.
Nike’s price earning of 20 is within range of its historical price band of 18-21 – it deserves a premium for its biggest moat -- its brand. Its second biggest moats are scale and reach – it is entrenched as a leader or second in every growing market and is constantly innovating and adapting to local trends. Worldwide, Adidas and Puma’s combined revenues are less than Nike’s by about 50%.
Nike’s price had dropped to $85, a day after its historic earnings miss on June 29th – I still think it is a great long term buy at $96 and at every decline.
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