Nike: Does a good brand equal a good investment?
Opdateret: 8. okt. 2022
Nike is one of the most well-known brands in the world. According to the Visual Capitalist, Nike was the 17th most well-known brand in the world in 2021. However, just because it has a strong brand, it doesn't necessarily mean that it is a good investment. In this analysis I will give my opinion on Nike as an investment.
This is not a financial advice. I am not a financial advisor and I only do these post in order to do my own analysis and elaborate about my decisions, especially for my copiers and followers. If you consider investing in any of the ideas I present, you should do your own research or contact a professional financial advisor, as all investing comes with a risk of losing money. You are also more than welcome to copy me.
Since I have attended the workshop with Phil Town, I have decided to change the layout of my analyses a bit. I will do some more calculations and also briefly go through why the company has meaning to me. If you want to read more about how I evaluate a company, please go to "MY STRATEGY" on my website.
For full disclosure, I should mention that at the time of writing this post, I do not own shares in Nike. I do however own shares in Crocs, which is somewhat a competitor. Currently Crocs is 3,96 % of my portfolio. If you would like to see or copy my portfolio, you can see how to do so here. As I don't own shares in Nike or any of their direct competitors, I have no skin in the game, which will help keeping this analysis neutral.
I believe that most people know Nike. It is a multinational corporation that is mostly known for their footwear and apparel. The company was founded in 1965 as Blue Ribbon Sports and changed its name to Nike in 1971. Nike has acquired several other companies, the most well-known being Hurley International and Converse. Nike mainly sells footwear (66 % of revenue in fiscal 2022) and apparel (30 % of revenue in fiscal 2022). Their products are sold through wholesale (58 %) or Nike Direct (42 %), which is Nike owned retail stores or online. Their largest market is North America, which contributed with 41 % to their revenue in fiscal 2022. Nike is one of the most well-known brands in the world. Not only the name but also the Swoosh logo, which most people known. Hence, it is safe to say that Nike has a very strong brand moat.
Their CEO is John Donahue. He has only been the CEO since January 2020. Prior to becoming CEO of Nike, he served at Nike's Board of Directors since 2014. He has also been the CEO for ServiceNow and eBay, while he also serves as Chairman of the Board at PayPal. He has an MBA from Stanford Graduate School of Business and a bachelor's degree in economics from Dartmouth College. It is difficult to judge John Donahue after such a short tenure as CEO, but he certainly has the credentials in place. In my opinion, there are some good reasons for Nike to pick John Donahue as a CEO beside his credentials. E-commerce will be a priority for Nike in the future to boost their profits, and there is hardly a better leader than one that has been the CEO of eBay in the past. Another reason that John Donahue is a good pick is that Nike still suffers from the sexual harassment scandal from 2018, and John Donahue is credited for doing a lot to advance women to leadership roles at eBay through the Women's Initiative Network, which could improve Nike's reputation in the future.
I believe that Nike has a brand moat. While it is too early to say if management is good, I believe that the impressive credentials will be good for Nike. Now let us investigate the numbers to see if Nike does live up to our requirements for a strong moat. In case you want an explanation about what the numbers are, you can have a look at "MY STRATEGY" on the website.
The first number we investigate is the return on investment capital, also known as ROIC. We want to see 10 years of history and we want the numbers to be above 10 % in all the benchmarks. Nike has delivered fantastic numbers throughout the last ten years, and not once has the ROIC been below 10 %. Not even in 2020, where lockdowns affected a company like Nike. Not many companies have delivered a ROIC like Nike, and seeing these numbers are very encouraging.
The next numbers are the book value + dividend. In my old format this was known as the equity growth rate. It was the most important of the four growth rates I used to use in my analyses, which is why I will continue to use it moving forward. As you are used to see the numbers in percentage, I have decided to share both the numbers and the percentage growth year over year. There have been some bumps on the road along the way, and it isn't surprising to see that the equity dropped to record low levels during the pandemic. While the numbers before the pandemic were slightly concerning, it is nice to see that Nike has delivered the last two fiscal years, where they have delivered record high numbers.
Finally, we investigate the free cash flow. In short, free cash flow is the cash a company generates after it has paid for operating expenses and capital expenditures. Not surprisingly, Nike has delivered a free cash flow in all years. The free cash flow has grown nicely since 2018 until 2021 except for the lockdown year of 2020. The free cash flow is slightly down in 2022 but it isn't too concerning as it is still above all previous years except for 2021, where we had a lot of Government stimulus in the U.S.
Another important thing to investigate is debt, and we want to see if a business has a reasonable debt that can be paid off within 3 years. We do so by dividing the total long-term debt by current earnings. Doing the calculation on Nike, I can see that Nike has 1,48 years earnings in debt, which is acceptable.
Based on the moat and the numbers, I believe that Nike is an interesting company but like with all other investments, there are some risks if you are considering investing in Nike. Worsening global economic conditions. Nike mentions that the potential deterioration of the economic market could affect their performance moving forward. Nike's sales are impacted by discretionary spending by consumers, and declines in consumer spending have in the past reduced the demand for Nike's products. Lower demand would result in lower revenue, higher discounts, and lower margins. With a recession looming, it could be something that would affect Nike for years to come. Competition. In their annual report, Nike describes the footwear and apparel industry as highly competitive on a worldwide basis. The intense competition and the rapid changes in technology and consumer preferences in the markets does, as the Nike describes it, constitute significant risk factors in their operations. A few contract manufactures supply a significant part of the footwear. According to the annual report, four footwear contractors accounted for approximately 58 % of their footwear production. The reason it is a risk is that it could lead to a situation as Nike is in now with a high amount of inventory. Last year, Nike got hit by factory lockdowns in Vietnam and Indonesia, to make up for it, Nike ordered plenty of inventory this year. As a result, inventory grew by 65 % in Q1 2023 (fiscal year) compared to the year before. Some of this inventory will need to be sold at a discount, which hurt margins.
There are also plenty of potential for Nike moving forward. Growing Nike Direct. Nike is growing Nike Direct year over year, and especially digital sales is growing at a high pace. In the last quarter digital sales grew by more than 23 % year over year. Management expects continues growth in Nike Direct, which will result in higher margins and higher profitability along the way. Innovation. In his letter to shareholders, CEO John Donahue mentioned the culture innovation at Nike, which will fuel growth moving forward. He mentioned innovations such as Dri-FIT, Infinalon, and FlyEase as innovations that sets them apart from their competitors. In the latest earnings call, he mentioned Nike Forward and called it Nike's biggest innovation since Dri-FIT 30 years ago. Nike Forward is a lightweight yet warm product that requires fewer steps to make, which results in lower carbon footprint. Hence, these innovations could set Nike apart from their competitors, as it has in the past. Strong brands. As previously mentioned, Nike has a strong brand moat, which has been long lasting. In his letter to shareholders, CEO John Donahue mentioned that Nike's global portfolio is a key competitive advantage. He mentioned that brands like Nike, Jordan, and Converse are three of the most connected brands across diverse markets worldwide that continues to create deeper and more direct consumer relationship. I agree and it is hard to see any of these brands being out of fashion any time soon. Hence, these brands alone could make Nike a good investment.
All right, we have gone through the numbers, potential and risk regarding Nike, and now it is time for us to calculate a price for Nike. To calculate price, we will need numbers that I have explained in the "MY STRATEGY" section of the website. I do not want to go through the whole calculation here. I chose to use an EPS at 3.75 (which it was last fiscal year). I chose an Estimated future EPS growth rate of 11,9 (which is the expected growth rate at Finbox), Estimated future PE 23,8 (which is the double of growth rate, as the historical highest PE is higher) and we already have the minimum acceptable return rate on 15 %. Doing the calculations by using the formula I described in "MY STRATEGY" we come up with the sticker price (some call it fair value or intrinsic value) of $67,91, and we want to have a margin of safety on 50 % , so we will divide it by 2 meaning that we want to buy Nike at price of $33,96 (or lower obviously), if we use the Margin of Safety price.
Our second way to calculate a buy price is the TEN CAP price, which is also explained at "MY STRATEGY". To do so, we need some numbers from their financials, keep in mind that all numbers are in millions. The operating Cash Flow last year was 5.188. The Capital Expenditures was 758. I tried to look through their annual report to see, how much of the capital expenditures were used on maintenance. I couldn't find it though, so as a rule of thumb, you expect 70 % of the capital expenditures to be used on maintenance, meaning we will use 530,6 in our further calculations. The Tax Provision was 605. We have 1.578,8 outstanding shares. Hence, the calculation will be like this: (5.188 - 530,6 + 605) / 1.578,8 x 10 = $33,33 in TEN CAP price.
The last calculation is the PAYBACK TIME. I also described in "MY STRATEGY". With the Free Cash Flow Per Share at 3,41 and a growth rate of 11,9 %, if you want your purchase back in 8 years, the PAYBACK TIME price is $46,80.
I believe that Nike is a great company with a huge brand moat. I believe that management is good as well. Nike is facing some risks when it comes to the global economy, which could affect consumer spending. I also hope that management will learn from their mistake and not ramp up inventory as they have done this year. Nonetheless, Nike is a company with timeless brands that will continue to sell. They are an innovative company, and it will be interesting to see how Nike forward will perform. Finally, I also really like that Nike is growing their digital sales, as it will improve margins moving forward. I will add Nike to the portfolio if it ever hit the PAYBACK TIME price at $46,80, but I don't know if that will ever happen. If not, I will look elsewhere.
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