Nike: Somewhat Expensive

by The Compound Investor

Nike (NKE) stock surely ranks as one of the market’s great long-term wealth creators. The sporting goods giant IPO’d back in late-1980 at the split-adjusted price of 18¢. The current price is a shade over $98.40. Even ignoring all the dividend cash paid out in that time, you can see this has been a life changing investment for a lot of folks.

With that firmly in mind, I understand why a lot of people view Nike as a buy-and-hold type. Even restricting things to a shorter timeframe doesn’t really impact the compounding machine here. I have ten-year returns running at circa 20% per annum. That would have turned a $100,000 initial investment into over $650,000 as things stand. Suffice to say, it has totally crushed the wider market.

Regular readers can guess what’s about to come. A fairly significant portion of those returns have come from an expanding valuation multiple. A decade ago, investors paid under 20x earnings to own the stock. Right now, folks have to pay circa 40x earnings (with that figure based on FY19 profit to normalize for COVID-19). Average per-share profit growth over that period clocked in around the 11% per annum mark.

COVID-19

Now, Nike runs a somewhat peculiar financial calendar in that its fiscal year ends in May. Though slightly odd, it does mean that we can see the impact of COVID-19 in terms of hard dollars. Most firms that feature on this site have only just finished their second quarters, with financial results still a few weeks away. Not so here, as Nike released its 4Q20 results last week.

As you’d expect, they were almost comically bad. Revenue came in at $6,300m, nearly 40% lower than the roughly $10,180m posted in 4Q19. The company posted a GAAP loss of circa 51¢ per share, which was more than a dollar per share lower than the 62¢ profit posted in the equivalent period last year. Overall, the numbers were a mess, and I’m not sure it is worth analyzing them in anything other than total isolation. I don’t think the firm will see a worse quarter, ever.

On that note, here’s what may be worth pointing out. Firstly, no balance sheet issues here. Nike carried a net cash balance for years until very recently so it was well placed entering the downturn. It held circa $9,650m in gross debt at the end of May, practically none of which is due over the next twelve months. Cash and cash equivalents stood at just under $8,800m. It has another $4,000m available by way of credit facilities, should it need it.

Secondly, check out the store closures. The company noted that 90% of its Nike-owned stores in North America, EMEA (Europe, the Middle East and Africa) and APLA (Asia Pacific and Latin America) were closed for eight weeks in the quarter. Wow! Fortunately, the same proportion of its stores are now open across the globe, so that horror show of a quarter should be a one-off.

Valuation

The bigger issue for Nike is that its stock is barely down this year. It opened calendar year 2020 at around the $102 per share mark. My screen shows a current price of just over $98.40. Here’s the thing: at its low point in March you could buy the stock for 24x its FY19 earnings of $2.50 per share. That is an absolutely fine long-term entry point that probably won’t present much of a headwind. Spread over, say, two decades, it maybe works out to a couple of percentage points per annum if you are unlucky.

To provide some color to that assertion let’s consider analyst estimates for future earnings. According to my screen FY21 profit is slated to come in at around $2.35 per share. That figure obviously incorporates further COVID-19 impact given Nike’s FY21 is already underway and the virus is still with us. Moving forward, those profit estimates grow to around $3.30 per share and $3.80 per share for FY22 and FY23 respectively. Quick number crunching implies double-digit profit growth absent COVID-19.

That is good at 24x prior-year earnings, but at $98.40 per share Nike stock currently trades at 40x FY19 profit. Out to FY22, it trades at circa 30x forward earnings. I’d characterize that as being somewhat expensive. Ideally, I’d like to be confident in predicting low-teens annual earnings-per-share growth over the long haul to make it work. As I said in the opening, Nike probably qualifies for that small group of stocks that is either a buy or hold, but never a sell. If I owned it, I would hold at this point.

Note

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2 comments

JB July 7, 2020 - 1:54 pm

I was fortunate enough to build a 1/2 position a few years ago with an average cost in the low 50’s. I almost pulled the trigger on buying more in March as you referenced in your article, but decided to hold off for other opportunities. Great company and great stock. Thanks for the article, I recently stumbled upon your site and like it because we seem to share some common thoughts.

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The Compound Investor July 9, 2020 - 5:56 pm

Yep, great company and stock. It kind of fell off my radar for a bit, by the time I checked in it had already had its own V-shaped recovery. The miracle of central banks I suppose! Thanks for reading!

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