Nike (NYSE:NKE)
Nike’s (NYSE:NKE) inventory levels are the only focus of the current investing narrative. The sports shoe business continues to expand rapidly, particularly considering the current retail climate and economic woes; yet, the promotional climate has limited the expected profit. Due to Nike’s poor inventory management and the high valuation, it has been given recently, the company is overvalued and recommends selling shares.
Inventory Management
During the fiscal third quarter of 2019, Nike saw very high revenue levels. A major concern is that the sales increase was partially due to greater customer demand but rather to promotional promotions and markdowns to lower inventory levels.
The sportswear manufacturer witnessed a drop in gross margins of 300 basis points to 43.3%. Before the current inventory correction and increased expenses from the supply chain, the gross margin was routinely in the 45% to 46% area, so it was welcome to see an increase from the preceding quarter’s 42.9%.
Clearly, gross margins would soar for a corporation with 14% quarterly sales growth, which would amount to $12.4 billion in this case. An open topic is how much of a market there really is for full-price Nike products.
The company’s earnings per share for the quarter came in at $0.79, well above analysts’ predictions of $0.55. As in the past, investors have been warned that Nike’s cautious earnings forecast means the company will likely comfortably beat expectations despite posting modest year-over-year growth. Earnings per share (EPS) declined by $0.08 in FQ3’23 compared to FQ3’22, while the business topped FQ2’23 EPS projections by the same $0.20.
Despite the strong top and bottom line results, investors are more concerned about the stock on hand. Nike’s stock was up 50% from the previous quarter. Yet, the business could still cut its inventory by $420 million, bringing the total to $8.9 billion.
Management has cut purchases for the spring and summer seasons to get inventory levels back to normal. But, Nike’s yearly sales were closer to $40 billion when it had $6 billion in inventory going into covid, while it is currently targeting $50 billion or more.
In the future, the corporation should be able to manage far more stock. Nike expects to have the inventory problem fixed in the current quarter and steady inventory levels beginning in FY24 since the supply chain is generally in line with pre-covid delivery timings.
Competitively Priced to Achieve Excellence
Even if Nike fixes the stockpile problem, it does not mean the stock is a buy. During FQ4, the business forecasts sales growth of 0% to 1%.
Nike is accepting fewer shipments in the spring and summer, which will temporarily lower sales levels due to competition from Under Armour (UA, UAA) in recent quarters. In FY24, the corporation plans to stop using price reductions.
Nike has had a great pricing strategy for years, yet it has had problems like this inventory shortage. The business has warned that sales would be weak for the next several quarters, calling into doubt the value of its shares at its current price.
Remember that in FQ3’20, before the introduction of covid, Nike made $0.78. The company’s profits have returned to pre-covid levels.
Earnings per share projections for FY23 have been cut to $3.23. Nike’s gross margins are expected to revert to more typical levels closer to 46% in FY24 and FY25, boosting earnings per share significantly.
While sales are expected to increase by just 7% in FY24, the stock trades at 31 times those projections. Although these targets are certainly attainable, there is no room for growth so long as there is a chance that margins won’t recover to their former levels.
At the current $122, investors need greater assurance that the sports clothing firm will achieve earnings per share of $4.80 or more in fiscal year 25 (FY25); otherwise, the stock will become attractive. On Holding (ONON) is set to become a highly successful European running and tennis shoemaker by 2023, with sales forecasts rising 39% to $1.84 billion. This presents fascinating dangers for Nike.
Takeaway
The most important thing for investors is that Nike will have a more stable inventory position as it enters FY24, allowing the firm to expand. The market’s continued company valuation based on these expected earnings has left investors with little to gain over the following year.
Featured Image: Unsplash @ Luis Felipe Lins
