Nike released its fiscal second-quarter 2023 financial report last week and unveiled enormously positive results. The company's revenue surged 17.3% year -over year, beating analysts' average target by $740 million. Moreover, the company saw reduced input cost pressure, which resulted in a 21 cents per share earnings beat versus estimates.
Doing a deeper dive into Nike's second-quarter earnings report illustrates the company's ongoing organic growth. Nike Direct sales surged by 25% year over year, its wholesale sales jumped by 30% and digital sales gained an incredible 34% during the three-month period.
Much of Nike's organic growth is due to increased digitalization. The company's omnichannel sales strategy provides consumers with a more convenient shopping experience as they can view, pay and select their delivery methods bespoke to their needs. In addition, Nike's improved consumer targeting and inventory management is a result of better data analytics, which could see the company continue to grow its income statement in the coming years.
Despite Nike's outstanding second quarter financial results, though, I have reservations over the company and the stock's medium-term prospects; here's why.
Recession risk and accruals
Although Nike has trumped its earnings targets in successive quarters, the company has failed to deliver adequate earnings per share results during four of its last 12 quarters, suggesting its stock might be susceptible to the risk of crashing in a recession.
Stock price momentum can be measured cross-sectionally or by a time series regression. The latter defines a stock's price momentum in isolation and is often caused by a company's earnings momentum. Nike's earnings crash risk is likely a feature of its cyclicality and could hinder the stock's long-term trajectory.
In addition, the company is exposed to emerging markets, which might act as a liability as emerging markets are at greater risk of recession. The strong U.S. dollar is also heavily discounting emerging market revenues for Nike.
Nike's Beneish M-Score of -2.3 is good news to investors. The Beneish M-score metric measures the aggressiveness of a company's accounting metrics. As a rule of thumb, a company's accounting practices are considered conservative whenever its M-Score is below -1.78. This indicates it is not likely to be artificially manipulating its financial numbers.
Despite Nike's favorable Beneish M-score, I still have reservations about its accruals. Nike's excess accruals suggest that its income statement isn't in line with its tangible cash movements. A deeper dive into the retail giant's financial statement line items indicates that it has reduced its receivables and inventory. The prior isn't of much concern because a receivables overload can be considered as "masking uncollectables." However, the latter is worrisome as it could mean that Nike anticipates lower demand for its products going into 2023.
Valuation and dividend analysis
Nike's valuation metrics are severely unfavorable, especially after the stock price spiked following the latest positive earnings report. A discounted cash flow model (DCF) suggests that the stock is tremendously overpriced in the marketplace. A DCF model works by discounting a company's estimated future cash flows (minus a discount rate to account for the value of money decreasing over time) to arrive at a fair value estimate for its stock. Below is a screenshot of my results from the GuruFocus DCF calculator; I estimated a growth rate of 11.1% for the next 10 years for the stock, with a discount rate of 10%. Even with such an optimistic growth projection, the stock still looks overvalued.
Furthermore, Nike's stock is trading at 11.96 times its book value, indicating that its ordinary shareholders own little residual value. Nike is a mature company; thus, its price multiples speak volumes.
Lastly, Nike's stock provides little worth in terms of dividends. The stock's forward dividend yield of 1.17% is accompanied by a dividend coverage ratio of 2.44. Although Nike's coverage ratio is relatively reasonable, it doesn't suggest that the company could ramp up its dividend payments anytime soon.
Volatility and technical analysis
Volatility analysis measures a stock's sensitivity to broader indices and their sub-sections. In this case, Nike's beta coefficient of 1.14x means its stock is 1.14 times as volatile as the S&P 500. The broad-based opinion on Wall Street is that a recession is due in 2023, which could deter Nike stock's prospects as a high-beta asset.
Regression analysis shows that low-beta, high-dividend, quality and value stocks have outperformed the broader market during 2022's bear market. The market is yet to pivot from its risk-off environment, which could see the same segments outperform in 2023.
Source: Koyfin
Although an argument can be drawn for quality, Nike doesn't fall into any of the other mentioned segments as its beta coefficient, price multiples and dividend profile are all unfavorable. Thus, there's no technical evidence supporting a 2023 Nike stock recovery.
Concluding thoughts
Nike's second-quarter earnings results displayed the company's robust organic growth. The company has also shed nearly 30% of its market value since the turn of the year, leading many to believe its stock is oversold. However, history indicates that Nike is susceptible to earnings crash risk, which could dent its prospects. Furthermore, Nike stock is severely overvalued even after this year's declines and doesn't provide an overly impressive dividend profile.
