Shares of Nike raced higher following the company's earnings report that was released after the bell on Tuesday. The next day, shares traded as high as $130.38, or 11.6% above the close for the previous day, before settling at $127.11. Nike ended Wednesday almost 9% higher than it had closed the previous day. This wasn't an insignificant move considering the company was already valued at ~$180 billion.
What sent shares higher was the company's digital sales. In my opinion, they are why the stock could likely go even higher in the future.
Quarterly highlights
Nike reported earnings results for its first quarter of fiscal 2021 on Sept. 22. Revenue was down less than 1% year-over-year to $10.6 billion, but this was a massive beat of Wall Street analysts' estimates of $9.12 billion. On a currency neutral basis, revenue was flat from the previous year. Earnings per share improved 9 cents, or 10.5%, to $0.95. This was 45 cents above estimates.
Most analysts had expected the pandemic to be a significant headwind to the quarter. The majority of analysts who follow the company had lowered their expectations for both revenue and EPS in the lead up to the release.
To be fair, while traffic to physical stores did decline, Nike was able to realize a higher conversion rate. The customers that were making it to physical stores were purchasing higher amounts of products. Nearly all Nike-owned physical locations were opening during the quarter in almost every region. Only Asia (excluding China) and Latin America had a significant portion of stores (10% or more) closed during the quarter. Nike Direct sales grew 12% to $3.7 billion, with growth seen in every region that the company operates.
What really drove the quarter was the company's digital performance, which added nearly $900 million of incremental sales. This channel grew 82% overall or 83% on a constant currency basis and contributed more than 30% of sales during the quarter.
Double-digit growth was seen in North America, Greater China and Asia Pacific and Latin America. Europe/Middle East/Africa was up more than 100%. Digital sales also provided the added benefit of usually being higher margin business than physical store locations.
In addition, company data showed that more than 50% of the Nike members worldwide had at least one workout during the quarter. The Nike Running Club app experienced four consecutive months of at least a million downloads of its Audio-Guided Runs.
Clearly, Nike customers are going digital for more than just product offerings. Consumers are seeking out additional digital experiences beyond just shopping that result in connecting them in other ways to the company. It's no wonder that digital sales were so much higher this quarter.
If the pandemic continues and stores have to be closed again, Nike will likely turn even more to its digital channel. If a recovery takes place, then consumers have already shopped digitally and are likely to feel comfortable doing so again..
Digital sales also helped Nike work off inventory levels, which had been higher by more than 30% after the fourth quarter of fiscal year 2020. For the first quarter, inventories were higher by 15% year-over-year, but down 9% from the previous quarter. Nike expects inventories to be rightsized by the end of the second quarter.
The company used promotions to help move product, but not to the point where margins were significantly impacted. Gross margins were down just 90 basis points to 44.8% and easily topped consensus estimates of 42.9%. Higher supply chain costs related to Covid-19 also pressured margins. The higher margins from digital sales helped to offset this.
Total sales for North America were down 2%, but footwear, which contributes almost 70% of revenues for this region, grew 11%. Apparel and equipment were both down at least 21%. Shipped from store capabilities have been brought to scale and now account for 20% of revenue in those stores offering the service.
Great China, Nike's most important growth market, was up 6%. Footwear was again the prime driver of growth. EMEA had sales growth of 5% as apparel outshined footwear, but both had solid numbers during the quarter. Asia Pacific and Latin America were the weakest segment for Nike as sales were down 18%. This region was impacted by the closing of physical locations more so than the other regions. Fortunately, this region is the smallest for Nike.
Footwear was the standout company-wide as sales were up 4%. Every other product type was lower compared to the previous year. Nike had solid growth in footwear in its largest region (North America) and most important growth region (China). Even Converse saw an uptick in demand as sales were up 1%.
Part of this performance can be attributed to the company's innovation in its footwear segment. For example, the company launched its first dedicated maternity collection during the quarter as well as introduced a yoga line that can work for all genders and body types. Even Nike's sustainable footwear platform, Space Hippie, continues to see high levels of demand, especially from the company's younger consumers. This ability to continually bring products to market helps keep the company afloat during difficult times, but can really drive growth higher during periods of economic expansion when consumers often have more discretionary cash to spend.
Selling and administrative expenses were down 11% to $3 billion, mostly due lower travel and related expenses which were offset by restructuring costs and investments in digital capabilities. Demand creation was also down due to lower marketing spend during live sporting events. The cancelation of most live sport events during the quarter removed $677 million from expenses.
Nike suspended share repurchases in the fourth quarter of fiscal year 2020, but has $11 billion, or almost 6% of its current market capitalization, remaining on its share repurchase authorization.
Turning to the balance sheet, Nike ended the quarter with $9.5 billion of cash, cash equivalents and short-term investments. This was almost $6 billion higher than the prior year due in part to a bond (debt) issuance in March. Nike ended August with total liquidity in excess of $13 billion. The company also has undrawn credit facilities should it need them.
Nike had $8 billion of current liabilities at the end of quarter, with $138 million of current debt. The company has $13 billion of total debt on its balance sheet.
Valuation
The market reacted quite positively to the Nike's first quarter earnings result, most likely due to the results from the digital channel. Almost a third of sales came from e-commerce. By offering digital users more than just a way to shop, Nike can leverage those contacts and turn them into higher sales. It has already happened in the most recent quarter. Since digital sales usually come with better margins, Nike is poised to see its EPS grow as well.
According to analysts surveyed by Yahoo Finance, consensus estimates call for $2.85 of EPS for fiscal year 2021. It is likely that these numbers have not been updated since the results release, but when they are, I think they will likely be raised higher.
Shares of Nike are expensive, trading at 43.2 times this year's current earnings estimates. The company delivered a quarter well above what analysts predicted. Nike also showed a blueprint for future growth with its digital channel. For this stock, I think quality comes with a price.
Author disclosure: the author has a long position in Nike.
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