2022 wasn’t kind to growth stock investors. Carnage was widespread among some of Wall Street’s favorite companies, especially those situated in consumer-focused industries.
Fears around slowing sales and a potential recession helped to push Nike (NKE) stock down roughly 14% in the year ended in mid-January. But Nike demonstrated in its latest earnings report that it is still firmly in growth mode. Let’s look at a few reasons why the stock’s best days are still ahead of it.
Growth accelerated
Nike’s report for the second quarter of fiscal 2023 (ended Nov. 30, 2022) showed strong – and accelerating – sales trends. The footwear giant’s quarterly revenue spiked 17%, hitting $13.3 billion compared to $11.4 billion in the year-ago period. That on its own was impressive enough. But consider that this figure jumps to 27% growth after accounting for currency exchange rate shifts. Nike also achieved a significant sequential step-up, as revenue gains were just 10% in the first quarter of the 2023 fiscal year.
These trends are mainly powered by the company’s ability to continuously release shoes and apparel that resonate with exercise lovers and sport fans. “Nike’s results this quarter are a testament to our deep connection with consumers,” CEO John Donahoe said in a press release.
That level of brand strength is rare in the industry, and it is a strong factor supporting the bullish investing thesis. Nike has a dominant position in a quickly growing global niche, which positions it well for market-beating sales gains.
Inventory is improving
But, in recent quarters, Wall Street has been disappointed by Nike’s weakening financial picture. Even with the aforementioned revenue gains, the Q2 picture wasn’t all rosy: Gross profit margin fell by 3 full percentage points to 43% of sales. Toss in the fact that inventory is up 43% heading into a potential recession, and you’ve admittedly got cause for concern.
Those worries are overblown, though. Nike has spent several quarters cutting prices in some areas while shifting production rates. Those initiatives are finally about to pay off. “We believe the inventory peak is behind us,” Donahoe told investors in late December, “as actions we’re taking in the marketplace are working.”
As a result, Nike affirmed its fiscal year earnings projections and is primed for improving profit margin trends. The temporary pressures from currency exchange rate shifts and inventory overhang will end soon, while Nike’s growth opportunities are more long term.
Looking ahead
Speaking of those opportunities, look for Nike to shift more toward a direct-selling model over the next few years. Lululemon (LULU) benefits from its lack of a large warehouse retailing segment, as investors can see from the competitor’s higher profit margins.
Nike has a good shot at boosting its own profitability toward the 50% range over the next several years, even if 2023 is disrupted by a further slowdown in consumer spending. The combination of higher prices, innovative new releases, and a continued shift toward more direct sales will all help in this regard.
Meanwhile, the stock is attractively priced given the balance between risk and opportunity. Nike is available at 4 times annual sales, or a 20% discount from early 2022. Lululemon, by comparison, is valued at 5.5 times sales.
Sure, compared to its smaller rival, Nike is less profitable and slower-growing. But investors who purchase the stock today with an eye toward holding it for several years likely won’t be disappointed.
— Demitri Kalogeropoulos
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Source: The Motley Fool