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Nike: Innovation and Efficiency Could Push Its Valuation Higher

Company seems to have adopted the right strategy to generate improving financial returns

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Jul 13, 2018
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The performance of Nike (

NKE, Financial) in the fourth quarter of its fiscal 2018 year represented a significant improvement on previous quarters.

Revenue increased by 13% to $9.8 billion, moving 8% higher on a currency-neutral basis. It was driven by strong double-digit growth in international markets and Nike Direct globally. Earnings per share in the fourth quarter increased by 15% to 69cents, with improving innovation and investment in its operational performance being major contributors.

Demand creation expense for the quarter moved 25% higher to $983 million. This was largely the result of increased sports marketing investments, new product launches and brand campaigns. Investment in its global operations and innovation contributed to a 14% rise in operating overhead expense, increasing to $2.1 billion.

Innovation

Since the release of its fourth quarter results, the company’s stock price has gained around 10%. This brings its capital gain for the last year to 33%, which is substantially higher than the S&P 500’s return of 14% during the same time period.

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Further stock price growth could be ahead for the company. It continues to invest in its digital capabilities, with additional progress in this area set to generate higher sales and profitability over the medium term. For example, it is seeking to improve the customer experience through its NikePlus membership. This provides data on customer preferences, and allows personalized product offerings that could lead to high conversion rates. Since relaunching in the latter part of 2017, NikePlus has beaten membership targets. Used alongside the new Nike app at retail, it could offer higher engagement and sales among existing customers.

Linked to NikePlus membership is the company’s growth potential in smart retail. It recently opened a new store in Los Angeles, which is data-driven and seeks to stock inventory that consumers within the local area have shown an interest in. This is still a concept store at the moment, but it suggests that increasing use of data to drive higher sales could lie ahead for the company. And with Nike enjoying success in customer engagement through innovations such as the Sneakers app, it seems to have considerable growth potential from investment in its digital capabilities.

Efficiency

Nike’s financial performance also looks set to improve due to its investment in creating a more efficient business. The company is utilizing new technology in order to reduce production costs and the time it takes to bring products through the supply chain.

For example, it has been working with Flex Ltd. since 2015 to introduce more automation into the production process. This could include innovations such as laser-cutting of materials and automate gluing being rolled-out across Nike’s manufacturing sites. The savings from an increasing use of robotics could be large. It is estimated that utilizing automation could reduce costs by $400 million if it was used to produce 30% of the company’s North American footwear.

Additionally, Nike is focusing on its "express lane." This reduces the amount of time between a product’s design and it appearing on shelves from a few months to just a few weeks. The company has also scaled seven key distribution centers around the world in the 2018 fiscal year, while a new Rebound facility in North America focuses solely on accepting return product and getting it back into the marketplace. Greater speed across its supply chain could lead to improving operational and financial performance.

Competition

Of course, Nike has faced increasing competitive pressure in recent quarters – especially in North America. Although its sales performance in the region improved in the fourth quarter of the year, apparel revenue for the 2018 fiscal year increased by just 1%. One reason for this is the shift of a number of apparel brands into the athleisure space, with companies such as Uniqlo seeking to gain a foothold in what has become a fast-growing segment.

In response, Nike has sought to drive new product development. In the most recent quarter, some 80% of its sales growth was from its most recent shoe and apparel releases. It has also invested heavily in marketing, with its brand creation expense moving 25% higher in the final quarter of the 2018 fiscal year. New products and higher spending on them could lead to a competitive advantage versus its sector peers – especially since few rivals can match its $983 million marketing budget from the fourth quarter.

Verdict

Nike’s focus on innovation and efficiency could act as a growth catalyst on future earnings. NikePlus membership has the potential to drive engagement and conversion rates higher, while innovative stores that adapt to localized preferences could improve sales over the medium term. The company’s focus on making its supply chain faster and more efficient could improve its financial prospects yet further. And while competition in the athleisure segment is increasing, the marketing capabilities and release of new products could help the stock to perform relatively well.

While Nike’s stock price has made solid gains in recent months, there could be further growth ahead. The company seems to have a sound strategy which could catalyze its operational and financial performance, as well as its investment outlook.

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