Wide-Moat Nike Continues To Deal With External Challenges As Fiscal 2023 Begins; Shares Undervalued

Nike closed its (May-ended) fiscal 2022 with mixed results as significant virus-related disruptions in China and continuing supply problems hampered sales. Moreover, the firm’s guidance for fiscal 2023 was soft due to unfavorable currency movement, high shipping costs, and uncertain consumer spending amid high inflation. Specifically, Nike’s guidance suggests reported revenue growth may fall short of our 12% forecast due to the stronger U.S. dollar, while its gross margin may miss our 47.3% estimate by around 130 to 180 basis points on greater discounting and higher shipping and other costs. Despite this outlook, we think demand is generally healthy and expect some of these issues will abate as the fiscal year progresses. Moreover, Nike intends to raise prices by mid-single-digit levels, which we think will be accepted by the market due to its brand strength, the source of our wide-moat rating. Thus, we do not expect to make any material change to our $133 fair value estimate, and view Nike’s shares as attractive. We think investors are underestimating its brand strength and long-term growth prospects in China, as well as the potential for margin enhancement as it continues to shift to direct-to-consumer from wholesale distribution in North America.

Nike’s sales slipped 1% in the fourth quarter, missing our 1% growth estimate. Sales dropped 19% in Greater China as lockdowns affected more than 100 cities. We believe results in the region are improving as restrictions have been lifted. In North America, sales dropped 5%, a bit worse than our negative 2% forecast, against a difficult comparison due to last year’s stimulus. While we think consumer spending may be slowing due to inflation, we believe the impact on Nike is mild this far. Meanwhile, the company reported strong 9% sales growth (20% constant-currency) in Europe, the Middle East, and Africa, and is poised to continue this momentum with the World Cup and other major football tournaments this year.