To The Moon

$Nike(NKE)$ Nov 24 Update

Earning Overview

Nike today is trading with a price-to-earnings (P/E) ratio of around 21.95, indicating that it is valued at 21.95 times its trailing earnings. The forward P/E ratio, which projects earnings for the upcoming year, is higher at 26.83, suggesting that investors anticipate slower near-term growth in earnings per share. Additionally, Nike’s price-to-sales (P/S) ratio stands at approximately 2.31, reflecting a valuation of 2.31 times its revenue, while its price-to-book (P/B) ratio is 8.2, showing a significant premium over the company’s book value.

Nike's profitability metrics, such as a 10.6% profit margin and a 15.22% return on invested capital (ROIC), illustrate solid financial efficiency. Despite the recent 27.5% drop in its stock price over the last year, analysts recognize Nike's high brand value and global market presence as competitive advantages, which continue to attract investor interest despite near-term challenges in key markets like China

Nike has faced significant challenges in November 2024, largely due to global economic factors and internal strategic shifts. The company is dealing with slower demand in regions like China and Europe and has lowered its revenue outlook for fiscal 2024, now expecting just 1% growth. In response, Nike is implementing a cost-cutting initiative to save up to $2 billion over the next three years, which includes layoffs and a more selective approach to retail partnerships as it balances direct-to-consumer sales with traditional wholesale channels.

Financial Situation

Stock Valuation

Nike's stock has been perceived as overvalued, but the recent price drop (down 28.5% YTD) has made it closer to fair value. While it's trading around 26 times forward earnings—historically high for a company with slower growth—it reflects Nike's strong brand and competitive advantage. Some analysts believe a fair entry price would be around $65 to achieve a substantial return over the next five years.

Earnings and Revenue

Nike’s last earnings report showed mixed results. Earnings per share (EPS) exceeded expectations, while revenue was slightly below projections. However, year-over-year figures reveal some concerns, with a 10% drop in revenue, an 8% decline in wholesale, and a sharp drop in direct-to-consumer (DTC) sales. These factors led Nike to withdraw its annual guidance, choosing instead to guide on a quarterly basis.

Leadership Change as a Potential Catalyst

The appointment of a new CEO, Elliot Hill, has generated optimism for a turnaround. Investors anticipate that fresh leadership could rejuvenate the company, much like other brands (e.g., Chipotle, Starbucks) that experienced similar boosts after leadership changes. Hill's tenure could create new strategic shifts, improve operational efficiency, and potentially drive stock performance.

Inventory and Market Share

Nike's inventory challenges in 2024 are largely due to a shift in consumer demand and lingering effects from the COVID-19 pandemic, which disrupted the supply chain and led to overstocked seasonal items. To address this, Nike is aggressively managing its inventory by trimming product supply, especially where demand has slowed. This strategy includes reducing stock at both Nike stores and third-party retailers while focusing on high-demand items, like retro running shoes, to maximize profitability. Additionally, the company is implementing a $2 billion cost-cutting plan, which includes streamlining operations, enhancing automation, and even reducing workforce in some areas.

Nike’s approach also emphasizes direct-to-consumer (DTC) channels, which provide better inventory control and align more closely with changing consumer buying patterns. DTC sales help Nike bypass traditional retail bottlenecks and allow faster response to market shifts. By expanding AI and machine learning in forecasting, Nike hopes to improve inventory management and prevent similar issues in the future.

Nike is facing challenges from high inventory levels, a result of the pandemic-era demand miscalculation. The company overestimated demand growth from 2020-2021, leading to inventory buildup. Though there has been progress in inventory reduction, recent upticks indicate continued management challenges. Additionally, Nike's market share in athletic footwear has leveled off, largely due to increased competition from brands like Adidas, Puma, and Hoka.

Future Growth Potential

Projections suggest that Nike’s EPS might grow around 6% annually, which, although moderate, could support a potential 70% upside if the stock rises to $129 over the next five years. For investors seeking a potential double (100% gain), buying closer to $65 might provide a better entry point.

Discounted cash flow analysis

The discounted cash flow (DCF) analysis for Nike suggests a range of implied share prices based on adjustments to growth rates, capital expenditures, and margins.

Base Implied Share Price at $56, With the default parameters used in the analysis, the implied share price for Nike stands at $56, which aligns with some of the lowest price targets on Wall Street. This figure implies that Nike may be around 25% overvalued at its current market price.

Adjusted Growth Rates and Analyst Projections, By adjusting the growth rates to more optimistic analyst estimates, the implied share price rises to approximately $61.80. However, this still implies the stock is around 19% overvalued, indicating potential caution for investors relying solely on optimistic growth assumptions.

EBIT Margin Adjustments, Assuming Nike’s EBIT margin could return to its 2022 levels, the implied share price would increase to $73, making it closer to fair value (around 3% overvalued). This adjustment accounts for operational improvements that could enhance profitability.

Lower Capex Growth Rate, Adjusting the capital expenditures growth rate to 1.5%, which aligns with Nike's fiscal 2024 rate, further boosts the implied share price to nearly $79.89. At this level, the stock would be slightly undervalued (by about 5%) at its current trading price, suggesting a favorable valuation under conservative spending assumptions.

DCF Model Valuation

The DCF model indicates that Nike's fair valuation varies significantly with growth and expense assumptions, with implied share prices ranging from $56 to $79.89. This analysis suggests Nike is close to fair value or slightly overvalued, but the business remains robust, and long-term investors may find it appealing, particularly if they believe in the company’s ability to improve margins and manage expenses effectively.

Summary

In summary, while Nike has room for improvement and growth potential, especially with new leadership, challenges remain in inventory management and a saturated footwear market. The stock may offer solid long-term returns but likely requires patience and a willingness to dollar-cost average if prices dip further.