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NIKE Inc. (NYSE:NKE)

F3Q09 Earnings Call

March 18, 2009 5:00 pm ET

Executives

Pamela Catlett - Vice President of Investor Relations

Mark Parker - Chief Executive Officer

Charlie Denson - President - Nike Brand

Don Blair - Chief Financial Officer, Vice President

Analysts

Bob Drbul - Barclay’s Capital

Omar Saad - Credit Suisse

Robert Ulm - Merrill Lynch

Kate McShane - Citigroup

Jim Duffy - Thomas Weisel Partners

Chris Svezia – Susquehanna Financial Group

Michelle Tan – Goldman Sachs

Operator

Welcome to Nike's fiscal 2009 third quarter conference call. For those who need to reference today's press release you will find it at www.Nikebiz.com. Leading today's call is Pamela Catlett, Vice President of Investor Relations.

Before I turn the call over to Ms. Catlett let me remind you that participants of this call will make forward-looking statements based on current expectations and those statements are subject to certain risks and uncertainties that could cause actual results to differ materially. These risks and uncertainties are detailed in the reports filed with the SEC including forms 8K, 10K and 10Q.

Some forward-looking statements concern future orders that are not necessarily indicative of changes in total revenues for subsequent periods due to mix of future and at-once orders, exchange rate fluctuations, order cancellations and discounts which may vary significantly from quarter-to-quarter. In addition, it is important to remember a significant portion of NIKE, Inc.'s business including equipment; most of Nike retail, NIKE golf, Cole Haan, Converse, Hurley and Umbro are not included in these futures numbers.

Finally, participants may discuss non-GAAP financial measures. The presentation of comparable GAAP measures and quantitative reconciliations are found at Nike's Web site. This call might also include discussion of non-public financial and statistical information which is also publicly available on that site, www.nikebiz.com.

Now I would like to turn the call over to Pamela Catlett, Vice President of Investor Relations.

Pamela Catlett

Thank you and thank you everyone for joining us today to discuss Nike's fiscal 2009 third quarter results. As the operator indicated, participants on today's call may discuss non-GAAP financial measures. You will find the appropriate reconciliations in our press release which was issued about an hour ago and at our website www.Nikebiz.com.

Joining us on today's call will be NIKE, Inc. CEO and President, Mark Parker, followed by Charlie Denson, President of the NIKE Brand and finally you will hear from our Chief Financial Officer, Don Blair, who will give you an in depth review of our financial results. Following their prepared remarks, we will take your questions.

I will now turn the call over to NIKE Inc. President and CEO, Mark Parker.

Mark Parker

Thanks Pam and good afternoon everybody. I see our third quarter as a snapshot of how to deliver value in a volatile economy. Today’s results have a lot of parts, but underlying all of them are excellent operating results driven by healthy revenue growth, share gains for the Nike brand and flexible and prudent business management.

In tough times having strong brands and sound business principles is just the beginning. We’ve had the same simple and powerful strategy for years; stay close to the consumer, drive innovation into the marketplace, operate with excellence and manage with financial discipline. Q3 proves that Nike can be opportunistic in the short-term and position the company to deliver consistent, long-term value to shareholders. I feel very good about our performance and our potential.

It’s good to be in the business of sports, especially now when core values and passions gain so much importance. Because we are the leader and the innovator in this business we are positioned to catalyze and expand growth. It’s not enough to be a legacy player in today’s global economy. A company’s history is not nearly as important as its potential. There’s a new premium being defined and it is based on trust, authenticity, innovation and a deep connection with the consumer.

These are the things that people value and the things that Nike delivers consistently. Q3 illustrates more than our performance over the last three months, it shows how we’ve managed the business and executed our growth strategy over the last three years. We consistently leverage our portfolio to grow the market, we gain share, outperform the industry and position ourselves for long-term growth.

A big part of that strategy is aimed at being a better, more responsive organization. You’ve all asked yourselves the question, “Can Nike really cut costs and still deliver growth?” Last quarter I told you we’d take a flat plus approach to expenses. We did better than that. We pushed down hard on headcount, travel and meeting costs and tightened overall SG&A. We are seeing the results of that discipline but it’s not just about cutting costs. If that’s all you’re doing, that’s nothing more than business as usual and that won’t win the day in this environment. We are more ambitious than that.

We are streamlining and realigning the entire organization on a global scale to target growth and effectively manage expenses at the same time. We are making some tough decisions like the planned reduction in staff and moving to consolidate our manufacturing base. They are tough decisions and they are smart decisions that will better position the company for sustained growth. As a result, we expect to incur a restructuring charge of $175-225 million with the majority of the charge occurring in Q4.

If you’re wondering does that mean Nike is cutting back on innovation, I will be perfectly clear. That is absolutely not. We are not backing off. In fact, we are accelerating our innovation agenda. When we invested in innovation to help athletes in Beijing we knew those ideas would translate to consumers all over the world and they have. I have seen very clearly how our category offense builds strong businesses. Our brand and product innovations are huge competitive advantages and absolutely essential to our success. We are going to continue to leverage them to raise the bar for ourselves and for the industry.

I want to be clear that innovation isn’t limited to the Nike brand. It’s the organizing principle for the entire Nike, Inc. portfolio. It drives product creation. It defines how we manage every brand and how we connect with consumers. We use innovation to build brand equity and integrity. That brings strength to each individual brand but even more important it builds flexibility and diversity into the portfolio. That means we can reach consumers in multiple markets, across cultures and up and down price points. That is really valuable in an economy like we have today.

We take the same smart and aggressive approach with every brand in the Nike portfolio as well. For the quarter, Converse leads the way growing 33% including strong momentum in our One Star product. Hurley continues to out perform the competition and pick up share in a tough action sports market. Cole Haan and Nike Golf are feeling the downward turn more acutely as consumers reduce their discretionary spending on luxury products.

The diversity and flexibility of our portfolio allows Nike, Inc. to remain on the offense in a variety of circumstances and it allows each brand to be opportunistic in its own field of play. The same potential exists for Umbro. We are making good progress on the brand, the product and on operations. In 10 days a new Umbro will make its debut with the launch of England’s redesigned national team kit. It is one of the most valuable and visible assets in the entire world of sport and this 85-year-old brand is injecting it with a whole new level of drama and innovation. Really just a taste of what’s to come.

Has the business turned the corner? Not yet. Umbro is going to require more work and time to optimize its potential. While we continue to view Umbro as a vehicle for long-term growth within the Nike portfolio, we have concluded that the value of the company’s investment in Umbro has declined. As a result, in the third quarter we have taken an after-tax impairment charge of $241 million to reduce the carrying value of the Umbro assets on our books. Don will take you through the details in a few minutes.

On balance I continue to see Umbro as a rich source of innovation and authenticity for football around the world and a solid growth asset in the Nike portfolio.

By aggressively managing every Nike business, we are able to leverage our strengths and go after growth in spite of the macro economy. In other words, we see rich opportunities that Nike can pursue while the economy rebuilds itself. We don’t have to wait until after the recovery. That requires an aggressive and holistic approach to marketplace management. For Nike that means driving innovative product into the market more quickly, leveraging our brand strength and delivering premium experiences to consumers wherever they touch the brand, in store and online.

We remain committed to elevating and scaling our direct-to-consumer business and we continue to work with our wholesale partners to further differentiate our portfolio of bands across our key accounts and around the world. It is more important than ever for Nike to stay true to its values and to leverage its competitive advantages and we have a lot of advantages; innovative product, deep consumer connections, brand strength, financial discipline and a united and deeply competitive management team.

We are incredibly focused on managing the business. Q3 shows that the action we take to edit the business can amplify opportunity. In other words, we are able to build a better company, drive efficiency and cost savings into the business and reinvest in clear and present opportunities whether it’s in product innovation, sports marketing, demand creation or at retail. These are the things that put us in a position to accelerate our strategic vision rather than having to reinvent it . I see that as an enviable position.

Now here’s Charlie to give you more depth on the Nike brand.

Charlie Denson

Thanks Mark. Good afternoon everybody. The bottom line is, the strength of the Nike brand has never been more obvious or more valuable. As Mark said, we are on the offense when it comes to leveraging that strength. Q3 shows that when consumer confidence dips, trust in authentic brands rise and that is a solid foundation for growing the business in a skittish economy.

Looking at our results, on a constant dollar basis, the Nike Brand generated revenue of $3.8 billion, up 2%. Global footwear was up 6% to a new Q3 revenue record of $2.6 billion with revenue gains in the U.S., China, Japan and the U.K. Global apparel was down 4%. More about that in a minute. Year-to-date revenues are up in every region and across nearly every category led by revenue and market share gains in running, basketball and sportswear. By the way, when we said there was potential for Nike in action sports, it showed itself in Q3. Nike SB is now number one in core skate shops and Nike 6.0 was the fastest growing footwear brand in the action sports space.

I want to expand on something Mark mentioned about accelerating our innovation agenda. At the top of that agenda is product. For the current season, spring 2009, it is the first time we’ve taken product that was created completely inside the new category offense and delivered to the consumer. Consumers are responding. Basketball and running, two of our largest global categories, are leading the way.

Let’s go to basketball first. There is a lot of energy in this category right now. It is hard to believe that just two years ago people were saying the business had peaked. We looked at it differently. We knew that the gold medal game in Beijing was an opportunity to use as a catalyst to re-energize basketball. That’s what has happened.

I really like where our basketball business is right now. First, we have really strong product in the market and more on the way. The Kobe IV low-top, the Jordan True Flight and the AJF6 are all performing extremely well. Second, we are identified with the best players in the game; guys like Kobe, Lebron, Carmelo, Chris Paul and Dwayne Wade are all leading the new game wearing Nike, Jordan and Converse. Third, we are seeing consumers respond to an improved consumer experience at retail. We are seeing it very dramatically at the House of Hoops stores where revenue increased double digits in all three locations.

All of this contributed to Nike basketball being up double digits, led by the Jordan Brand. Looking forward, we are seeing double digit futures growth in Nike basketball as well as Brand Jordan. Basketball is back in a big way. March Madness starts tomorrow with 52 teams in Nike. That is the most ever. There is no doubt that the basketball silhouette is re-asserting its dominance and with an 80% share and our brands aligned like they are, we are ideally positioned to leverage that energy.

The running category continues to be the source of pure performance for the serious runner. For example, our biggest performance running franchise, the Air Pegasus 25, is a great effort combining performance and sustainability. The Vomero plus which is now the number one selling shoe at running specialty shops here in the U.S.

Basketball and Running are good examples of doing what we do best and that’s master the science of sport and create energy around design and performance. We did the same thing in Beijing. Some of you have asked me, “Nike invests a lot of time and money in creating product for the Olympics but what do you really get out of it?” Here are two quick examples. Fly Wire technology which is migrating across categories, brands and product types as well as light weight design. The best example being the Hyper Dunk, still one of the hottest selling basketball shoes in the game. As Mark said, we are seeing our Beijing innovations resonate throughout our entire product line. The Olympics have always been a great stage to innovate and our spring 2009 product line proves it. Yet the best is still to come.

I said I would touch on apparel, where we are seeing focus and improvement. Again, we are mastering the science of performance. Our Pro Combat product is a great example. It is fundamentally changing the role of base layer apparel. You are going to see Pro Combat on some of the best college basketball teams this tournament season and you will see a lot more of it going forward as Pro Combat moves into soccer and football. It is going to give athletes a competitive edge in the games that they play and it is going to give Nike that same advantage in the marketplace.

As I said, we are also able to create energy around great design. The Eugene Track Jacket has generated a lot of buzz in the world of sports culture with its iconic V-for-victory design. The fact that it is popping up on marquee athletes like Rafael Nadal, Roger Federer and Cristiano Ronaldo proves its cross-category appeal. It is a great example of delivering the youthful and competitive energy of sports through apparel.

We talk a lot about how we edit the business to amplify our growth. That is something we are also doing on the product front. Reducing the total number of SKU’s to really focus on the most innovative and high potential concepts across footwear, apparel and equipment. I am very pleased with the progress we are making here, especially in apparel. Even though sales are challenging, we are doing a good job managing down inventory and elevating design to grow a healthier apparel business and we are driving this excellence and clarity across the entire product creation process; all the way through to the retail floor.

I think when we look back at this time in Nike’s history we’ll see it as a period of great change. The Nike brand and consumers are moving into a new world and a new relationship. The value equation transcends just price. We are seeing the rise of new expectations based on quality, performance and sustainability in products. We are seeing consumers gravitate towards authentic brands that work hard to earn their trust and keep it.

We are also building a better, more responsive organization. As Mark said, cost cutting in today’s environment is just business as usual. We are aiming a lot higher. We are using our category offense as a dominant lens to review and refine 100% of the Nike brand operations worldwide. We are still a growth company and we are positioning ourselves to be more competitive than ever.

When we are done we will have a simpler global organization, fewer layers, faster decision making and a much more effective go-to-market process. We will be able to get much closer to the consumer and to the market at every turn.

So, the moral of the story for Q3 is brand strength is a powerful asset in turbulent times but brand agility will be our competitive advantage for the long term. We will be ready.

Here’s Don to take you through the numbers.

Don Blair

Thanks Charlie. Today’s environment challenges every company to adapt quickly to maintain profitability and preserve capital. Some companies also have the opportunity to increase competitive separation and create long term value. We are convinced that for Nike the current environment represents both a challenge and an opportunity.

To meet the challenge, we are maintaining our financial discipline and making the difficult decisions to maintain profitability and position Nike for sustainable, long-term growth. To realize the opportunity, we are sharpening our focus on our consumers, delivering innovation to the marketplace and raising the bar on operating excellence. I believe that our third quarter results begin to demonstrate our ability to both meet the challenge and realize the opportunity.

Reported third quarter revenues declined 2% to $4.4 billion but currency neutral revenue increased 2%. Excluding currency changes, Nike Brand revenues grew 2% while revenues for our other businesses which include Converse, Cole Haan, Hurley, Nike Golf and Umbro grew 3%. In a tough retail environment, our products out performed the market on both sell in and sell through as consumers moved to the leading brands and we gained market share.

Third quarter diluted earnings per share declined 46% to $0.50 but included in our results is a $241 million after-tax, non-cash charge for impairment of the assets of Umbro which reduced Q3 diluted earnings per share by $0.49. Excluding the impairment charge, diluted earnings per share would have increased 8% to $0.99. Although we expect Umbro’s financial performance for fiscal 2009 to be slightly better than previous guidance, projected future cash flows have fallen below the levels we expected at the time of the acquisition.

This erosion is a result of both the unprecedented decline in global consumer markets, particularly in the U.K., and our decision to adjust the level of investment in the business. In addition, financial market volatility has reduced both the estimated present value of those future cash flows and the market value of comparable businesses. While we continue to view Umbro as a vehicle for long-term growth within the Nike portfolio, we have concluded that the value of the company’s investment in Umbro has declined.

On a currency neutral basis, Nike Brand footwear and apparel futures orders scheduled or delivery from March through July 2009 declined 2%. Futures were lower in comparison to a prior year that included orders related to the Beijing Olympics and the European Football Championships and they also reflect the impact of the difficult consumer environment. Real dollar futures for the period declined approximately 10% as the U.S. dollar has strengthened significantly against most world currencies.

Gross margin for the third quarter declined 120 basis points to 43.9%. Currency hedging delivered benefits in the quarter but that upside was more than offset by higher product costs, discounts and obsolescence reserves. Lower margins in our other businesses also contributed to the gross margin decline.

SG&A for the quarter decreased 4% versus the prior year. Excluding FX effects, demand creation, operating expenses and total SG&A each grew about 1%. This rapid deceleration of spending reflected our actions to refocus resources and reduce spending. Net interest expense in the third quarter was $3 million compared to $19 million of net interest income last year. The change was primarily due to lower interest rates on investments. Consistent with previous quarters, other income for Q3 was comprised largely of gains and losses on currency hedges.

The net impact of hedge gains and losses and the translation of foreign currency profits from our international units increased year-over-year pre-tax income by $25 million for the quarter and $120 million year-to-date.

Our effective tax rate for the quarter was negative 3.6% driven by the tax benefit on the impairment charge. Excluding this factor, the effective tax rate would have been 23.9% reflecting increased profit from operations outside the U.S. and resolution of open audit items. Our current estimate for the fourth quarter tax rate is about 29%.

Our balance sheet remained robust as of the end of Q3 as cash and short-term investments totaled $2.6 billion or about $5.34 per diluted share. Net of outstanding debt of $800 million that equates to nearly $3.69 per share. Our return on invested capital for the 12 months ended February 28, 2009 was 20.4%, 3.9 points below the previous year driven largely by the impairment charge. Excluding the impact of the impairment charge, return on invested capital would have been 23.2%.

Our business model is exceptionally capital efficient. Since we don’t have large investments in fixed manufacturing and retail assets, managing working capital is the key to driving cash flows and ROIC. We are particularly focused on managing the components of working capital in this macro economic environment. For the first nine months of fiscal 2009, free cash flow from operations was below prior-year levels driven largely by higher investments in working capital.

Accounts receivable at the end of Q3 were 4% higher than the prior year. When compared to our strong collection performance over the last few years this has reduced cash flow. Tough economic conditions are placing increasing pressure on retailers and licensees. Actual losses have been fairly minimal thus far but we will continue to focus on strict enforcement of payment terms and proactive collection efforts to conserve capital and minimize loss exposure.

At the end of the quarter inventories were 3% higher than the prior-year quarter and relatively healthy overall. Nike Brand footwear accounted for the majority of the increase partially as a result of early factory deliveries. Nike Brand apparel inventories declined year-over-year due to our strong focus on clearing excess inventory and tightening our buys. On a net basis, inventory growth did not have a material impact on year-over-year cash flow.

We don’t often talk about payables but shifts in these accounts can also affect our cash flows. As we have reduced inventory purchases and SG&A spending our payables have declined reducing free cash flow from operations. As we begin to anniversary these lower spending levels the impact of lower payables on cash flow should ease.

Now let’s take a look at results in our operating units, starting with the U.S.

Revenue in the region increased 3% in the quarter, a remarkable performance. Sales to nine of our top ten accounts increased while one was essentially flat. Revenues at Nike owned retail stores grew 2% for the quarter reflecting growth in e-commerce and new store openings. For the quarter, comp store sales for Nike owned in line stores declined 28% driven largely by lower traffic. Factory store comps were down 3%.

U.S. footwear revenue grew 8% and we continue to significantly outperform the competition. Driven by the product innovation Charlie highlighted, Nike and Jordan brand footwear together have gained 2.4 points of market share in the U.S. over the 12 months through January and the Nike brand is now over three times the size of our closest competitor. Incidentally, Converse also gained 9/10 of a point over the same period.

U.S. apparel revenue declined 9% as growth in running and Jordan was more than offset by lower sales in most other categories. While we certainly aren’t satisfied with lower revenues we have made significant progress streamlining and elevating our product line and reducing inventory. In addition, over the last 12 months we have gained share in a tough market.

Overall futures for the U.S. region fell about 1% as growth in footwear was offset by lower orders for apparel. Pre-tax income in the U.S. rose 2% as the impact of revenue growth and lower SG&A was partially offset by higher sales discounts.

In our European Region, which includes the Middle East and Africa, third quarter revenues declined 14% with 10 points of the decline due to currency changes. Excluding the impact of currency, footwear revenues were down slightly and apparel revenues declined 7%. Although revenues declined, we continue to out perform the market here as well as both our footwear and apparel shares increased in the largest five countries of Western Europe.

European futures for the next five months fell 9% on a currency neutral basis. This drop was primarily driven by lower apparel futures, reflecting weaker market conditions and the comparison to strong orders in advance of last year’s European Championships. Pre-tax income for Europe declined 18% reflecting lower revenues, investments in demand creation and retail and weaker European currencies.

The Asia Region delivered solid third quarter revenue growth of 8% including one point of growth from currency. On a currency neutral basis, revenues for every product type grew as did most countries in the region. As expected, third quarter revenue growth in China moderated to about 10% versus over 50% growth in the prior year quarter. Revenues in Japan declined slightly 2%.

For the quarter, pre-tax income for the Asia region grew 11% driven by revenue growth and lower demand creation spending. The Americas region continued to deliver excellent operating results in Q3 although weaker currencies in the region dampened reported results. On a currency neutral basis, revenues in the region grew 15% as both footwear and apparel and each of the Latin American countries grew double digits. For the quarter, reported revenues declined 5% and pre-tax income declined 22%.

Third quarter revenues from the businesses reported as other increased 1% to $592 million. For the quarter, these businesses reported a pre-tax loss of $344 million driven primarily by the impairment charge at Umbro. Among the continuing businesses in the group, Converse, Cole Haan, Hurley and Nike Golf, strong growth at Converse was offset by declines at Cole Haan and Golf. Overall, these businesses delivered 5% revenue growth on a currency neutral basis but reported pre-tax income fell 21%.

Excluding the impairment charge losses at Umbro were smaller than expected for both Q3 and year-to-date. As we have managed our business over the last six months, we have focused on two primary financial management goals; delivering appropriate financial performance in these challenging economic times and positioning the company for sustainable, profitable growth over the long-term.

Our objective is to manage our business exceptionally well today and to take the opportunity to strengthen our company and improve our competitive position for tomorrow. To achieve those goals, we are taking action in four key areas.

One, we are maintaining our cautious approach to planning revenues and buying inventory. Two, we are tightening our supply chain to manage downside risk, maximize profitability and position ourselves for the future. Three, we are streamlining our management structure to increase speed, move closer to the consumer and free up resources for investment. Four, we are managing our capital resources carefully to preserve liquidity and flexibility.

Let me expand on each of these a bit. First, planning revenues and inventory. We are very encouraged by the strength of our brands around the world but we are taking a cautious view of the overall market and planning revenue to be roughly flat on a currency neutral basis for the balance of fiscal 2009. Hence, we are buying inventory tightly as we work with our retailers to keep inventories healthy.

Second, we are tightening our supply chain. The reduction of worldwide demand for consumer products is already having an impact on factories and workers in the developing world and our manufacturing partners are not immune. To maintain a healthy manufacturing base for the present and the future we are taking proactive measures to consolidate production with our strongest, most efficient and most innovative sourcing partners. These capacity consolidation actions will require a significant amount of operational attention over the next 18 months and may result in some additional tooling and logistics costs. However, these steps will put us and our suppliers in the best position to navigate current challenges and position ourselves for the future.

Third, we are streamlining our management structure. We are looking at every aspect of our cost structure to ensure we are investing resources against the highest potential growth opportunities. Examples of the steps we have taken include maximizing the impact of product creation resources by editing assortments and reducing styles, shifting demand creation investments from traditional media to higher impact digital executions, reducing T&E and meeting expenses and ramping up our focus on procurement. Our performance on SG&A cost management in the third quarter illustrates the progress we are making.

As we announced last month, we are also evaluating our deployment of people. To enhance consumer focus, drive innovation more quickly to market and establish a more scalable cost structure for the future we are reducing management layers and leveraging support services across our businesses globally. We expect to complete the majority of these changes by the end of our current fiscal year.

As we move to implement these restructuring activities we expect to incur charges of $175-225 million over the next several quarters. We anticipate the majority of these charges will occur in the fourth quarter of this fiscal year. When fully implemented, we expect to generate annualized savings of a comparable amount which we intend to invest behind our strategic priorities. This reinvestment will allow us to continue to support the future growth of our business while holding SG&A flat with current levels.

Finally, we are managing our capital resources to preserve liquidity and flexibility. That begins with a sharp focus on managing working capital and making capital expenditures carefully in light of the changing market environment. We did not repurchase our stock in the quarter and while we believe today’s share price is well below the intrinsic value of our company, we believe it is prudent to maintain liquidity given the current uncertainty in the financial markets.

These actions will be the key drivers of our expected results for the fourth quarter. We expect currency neutral revenues for the fourth quarter to be roughly in line with the prior year. As we have seen with our reported futures growth, revenues that we report would be less at current exchange rates. These revenue growth expectations reflect comparisons to reported mid-teens revenue growth last year in advance of the Olympics and Euro Championships.

Fourth quarter gross margins will likely be well below prior year levels driven by adverse FX rates and higher discounts and off price sales. We expect SG&A, however, to decline at a mid-teens rate as we continue to focus on reducing expenses and anniversary the heavy demand creation investments in last year’s fourth quarter.

As we move into the first half of fiscal 2010 we will face some very challenging comparisons to the double digit growth we delivered in the first half of fiscal 2009 as well as the adverse impact of the stronger dollar. As a result, we expect reported revenues for the first two quarters of fiscal 2010 will most likely be below prior year levels. It is difficult to make hard predictions but we would hope to see a return to top line growth in the second half of our fiscal year as industry conditions improve and our prior year comparisons get a bit easier.

While we maintain a cautious view on the market and the revenue outlook we will continue to work the levers of our P&L to deliver appropriate financial performance for this environment while positioning the company for long-term growth. That means managing our supply chain to maximize gross margins, tightening expenses and continuing to improve the tax efficiency of our international operations.

Without question we are in unprecedented times. We remain prudently cautious but no less confident in the long-term growth prospects for our industry and our company. Our business is driven by sports and sports continue to grow and evolve, creating inspiration for consumers and opportunities for our brands even in tough times. We have confidence in our market sector and in our ability to outperform that market by focusing on what we do best; deepening our consumer connection, driving innovation, strengthening our brands and proactively managing our business to create value for our shareholders.

With that, we will open it up to answer your questions.

Question-and-Answer Session

Operator

(Operator Instructions) The first question comes from the line of Bob Drbul - Barclay’s Capital.

Bob Drbul - Barclay’s Capital

First, on the SG&A can you give us, I’m not sure if you did on this quarter’s demand creation dollars versus overhead?

Don Blair

What I did say was the growth rate for both demand creation and operating overhead were both up 1% in constant dollars and they were both down low to mid single digits in reported dollars. Overall we were down 4% for total SG&A.

Bob Drbul - Barclay’s Capital

Some questions on the international business. Can you elaborate a little bit more on the European trends? United Kingdom, Russia and could you give us some more color on China as well in terms of the business there?

Charlie Denson

Let’s just start with Europe. Europe is a challenging environment. The most challenging markets are Spain or Iberia, Italy and France. The U.K. we are holding our own. It is a tough market place as we all know but the overall year-over-year business comparisons are relatively flat. Actually we are seeing some nice growth right now in Germany. We feel good about the brand’s position going through and looking at Germany. We are gaining share we feel and we are, as Don and I both pointed out, anniversarying some pretty big numbers in Europe last year as we started to ramp up towards the European Championships.

In China, again a little bit of softness coming out of the holiday period. I think everybody has talked about that and everybody is pretty much up to speed. Starting to anniversary some of the significant ramp up for Beijing. I think we have talked about that over the last quarter or two. That being said I think our brand strength continues to be very strong. We have a very good position in that marketplace competitively speaking with regard to brand strength. We feel really good about that. As we sort through some of the overhang from Beijing we are very optimistic as we look at China as a growth vehicle going forward.

Bob Drbul - Barclay’s Capital

When you look at oil and where you are when will we start to see a benefit from the lower sourcing costs in the business?

Charlie Denson

I think you will probably start to see that more significantly as we move into fiscal 2010. You may recall that when oil was spiking in the spring and early summer of 2008 we were not seeing significant flow through impact. We talked about the delay at that point and our ability to negotiate with factories. When the oil price came down we are going to see the benefit a little more slowly as well. We definitely see improvements in oil prices coming into our fall and holiday seasons.

Operator

The next question comes from Omar Saad - Credit Suisse.

Omar Saad - Credit Suisse

I am hoping you can talk a little bit more about the structuring you alluded to on the call Mark and how it fits in with prior realignment you have announced with respect to focusing more on sports categories. Can you give us a little more color on how you are thinking about proceeding with that process?

Mark Parker

First of all, a lot of this work that we have started with the restructuring goes back to 2007. As you mentioned with our focus one elevating the categories you mentioned in the organization and trying to make NIKE more consumer connected, more competitive in each of the segments of our business. This work we are in the middle of right now is really following the same line of thinking. First of all you have to recognize our success and our potential is based primarily on our ability to build our brand strength, innovative and compelling products and experiences, really connecting more deeply with consumers. The work we are doing to re-engineer the company is focused on doing all of those things better. That is really the driving force behind all this. It is creating more responsive, more effective, more competitive and again a more consumer focused organization. As we like to say it is absolutely the case. It is not just about cutting costs. As we all know this is a period of time where it is not business as usual. It is about adapting, changing and evolving to be a better company. I think personally to allow the great talent we have here, the passion and the competitive drive of the people here at NIKE to really realize its greatest potential we are doing some things to streamline the organization, flatten the organization and de-layer in some cases, minimize any redundancy in positions and really make NIKE a faster, more nimble and efficient company overall. That really falls very much in line with the work that started in bringing more focus to the categories you mentioned in the business.

Omar Saad - Credit Suisse

Don you mentioned the re-tooling in the supply chain and that process could last over 18 months. A lot of the expense is going to be running through the P&L in the next quarter. Did I understand that correctly?

Don Blair

Actually if you think about what we are doing on the factor base the impact in terms of charges is going to be minimal. The cost, if any, will really be in terms of how it flows through our logistics costs and margins. So at this point we are working very hard with our sourcing partners to make this an orderly transition. We have planned this very carefully but one of the things that happens when you work through a process like this is that there will be some uncertainty involved. We are very confident we have done the planning properly and we are hopeful we will be able to make this minimally impactful with business but this is not going to be an up-front charge issue. This is going to be something that if it does happen will flow through margin.

Omar Saad - Credit Suisse

Mark and Charlie, I wanted to ask you about the concept that we might have been in a sports bubble the last ten years. People were so crazy about sports and corporations were chasing dollars to be involved in sports and landmark multi-billion dollar stadiums were being put up and huge athlete contracts to play professional sports. Now you are seeing stadiums with unsold seats. Stadiums can’t sell the seats. NBA franchises that are running into liquidity issues. Do you think…how do you think in this kind of new paradigm we are in the role that sports plays in society and how does it impact you from a cost and marketing perspective and from the demand side do you see there being an impact at the consumer level and how people view sports?

Charlie Denson

First of all I think we remain very bullish on the power of sports and its role in the economy. The interest in sports from a consumer standpoint, some of the assets that are in and around the world of sports might be changing or resetting in terms of value in some cases but overall the robust interest in sports and the commercial opportunities around it we are as bullish about that now as we have been. Setting aside the recession we are in right now. Looking at just sports itself and its popularity and consumer interest and the participation levels we see that not dwindling at all. If anything we are seeing more of an appetite for what we are doing. We are not seeing dramatic decreases in average selling prices in our products. We are not seeing any real fall off in terms of the opportunities we see in front of us. I wouldn’t say there has been a dramatic shift of late. If anything I think the interest in sports is strong and healthy.

Again, I think you might be seeing some of the assets that are around sports, properties, event sponsorships and that sort of thing…some of that value being reset in these times.

Mark Parker

I’ll just jump in. It is an interesting thing, a sports bubble that you mentioned. You mentioned a couple of things. Attendance may be down in some cases but I think viewer-ship is actually up. So I think that is something you have to think about a little bit. You talk about traditional access to events which has been a metric that most people use, versus really what maybe a new access is which is really more like immersion. We are seeing kids online anywhere from 20 minutes to 2-3 hours as they immerse themselves in the new access points to sports whether it is through the athletes, through communities that are talking about it and it is 24 hours a day. So that has changed incredibly.

I think the other thing you think about too is the traditional sports, the stick and ball sports versus the new action sports and the different communities and environments that are being created around some of these and some of the things we have talked about as we build our brand in some of these new areas. For us it is all about a focused effort around each one of these sports and their communities. I think we have talked a lot about that consumer experience and how we continue to build the brand and reinvent the brand, connecting with these kids. I think the bubble may not be as much a bubble. Maybe if you are in the old and not transitioning to the new you may feel like you are in a bubble and it is about ready to burst. But if you are part of the new it is really almost an infinite landscape from which to engage with consumer in new and energetic ways.

Operator

The next question comes from Robert Ulm - Merrill Lynch.

Robert Ulm - Merrill Lynch

First, I just wanted to follow-up on Bob’s question at the beginning on China. You have broken out China futures the last couple of quarters. I was just wondering if you would do that for us today. Also, are there any changes in your plans for store growth in China this coming quarter and into next year? Then my second question would be on the futures window. When you look at the futures you put out today the sort of three month forward versus the six month forward so when you look at the fiscal first quarter and you come up against the Olympics is there a dramatic shift or weighting where you are down really big in futures in the forward three month period? If you have time for a third, I would love any quick comment on Jean Jackson and sort of expected changes in D to C as she is heading that up?

Pamela Catlett

I didn’t even ask for them to issue reprimand on questions so we would like to cover all three. I just want to make sure we have them straight. You want China?

Robert Ulm - Merrill Lynch

China just to follow up on Bob’s the futures and store growth plans in China? Second is just the futures orders given the second half of the window of the futures is up Beijing Olympics, is the minus 10 consistent or very weighted to that second half of the window? Then just Jean Jackson taking over the D to C business, any changes expected there?

Charlie Denson

I was ready to go. Pam was just getting everything cleared up here. As far as retail expansion goes, we have slowed down a little bit in China as you would expect with conditions the way they are. We still will continue to grow our retail footprint in China through our partnership door program. Maybe not quite as an accelerated rate as you have seen over the last 18 months. That is where that is. With regards to the future window the actual bigger number comparisons are against the first half of this reporting window on the futures piece because there was really a ramp up going into the fall, not necessarily all hitting in the fall holiday piece. We did see some softness in those numbers but we have actually seen those numbers improve as we start to move towards the holiday booking period next year. That is really where the China business sits right now which is what gives me some optimism as we look out in the future based on our brand strength and our continued pursuit to the Chinese consumer.

Mark Parker

I’ll take the question on Jean Jackson. First of all I just want to take the opportunity to reiterate our commitment to making our direct to consumer business a real competency that we can better leverage to a healthy and profitable marketplace. We are going to continue to invest prudently during these periods but invest in formats that will lead the market. We will stay focused on intensifying our commitment to this real critical piece of our business so that is not wavering one bit. In fact I think the recent appointment of Jean to lead our overall NIKE, Inc. direct to consumer business is another big step in that direction. It is another big commitment we are making to that competency for NIKE across the portfolio, not just in the NIKE brand. Certainly in the physical stores as well as the e-commerce opportunities we have in front of us.

I have worked with Jean closely on the board. She has been on the NIKE board for eight years. I am very close to Jean and know what she comes in here with tremendous retail experience and I think her leadership will again add a great deal to our commitment to that direct to consumer business. We are very excited about that.

Operator

The next question comes from Kate McShane – Citigroup.

Kate McShane - Citigroup

Just very quickly, how much of the SG&A guidance declines for the fourth quarter you gave today is being driven by a reduction in media rates and how much is being driven by just a reduction in spend?

Don Blair

I don’t have this analytically. My sense would be this is really a spend issue. There are two reasons I would say that. Number one is last year we were doing a tremendous amount of marketing around the European Championships and the Olympics so you have a fairly heavy calendar. We are also evolving away as we talked about in the prepared remarks from more traditional media to more online and digital. We still are on air to some degree but that is not as big a driver as you might think.

Kate McShane - Citigroup

I know this has been asked before in many conference calls over the years but I was wondering if you could talk about futures and if they are becoming even less relevant as a way of assessing top line future growth in the context of the environment? I think one of your competitors recently said they are not reporting backlog numbers any longer because of the amount of at-once they are seeing. Can you comment on that?

Don Blair

I would say first of all that futures are an important part of our business model so that is something that is going to continue. They have always been directional indicators. I don’t think you can be literal about futures growth. We certainly have a large part of our business that is not on futures. I think they are still a useful directional indicator but you have to take them in context of the broader business. That is why we give you some pretty good indication of where we think the trends are going. That is why we continue to report them.

Operator

The next question comes from Jim Duffy - Thomas Weisel Partners.

Jim Duffy - Thomas Weisel Partners

A couple of questions, one on SG&A and one on hedging. Don, regarding the restructuring you often talk about the many levers that you have. I’m trying to get a feel for your strategic approach to SG&A. You mentioned an objective from the restructuring to keep SG&A flat. How did you pick flat and is that a reflection of gross margin expectations and certain operating margin targets or a return on invested capital objectives? Some color there would be helpful.

Don Blair

When we started down the road of looking at where we wanted to position the company for the future we actually started with directional indications financially but our main thrust was how do we position the company to grow in the long-term? How do we be faster to market? How do we drive innovation? How do we eliminate layers? So, we put a set of financial guard rails around the process and our main focus was making sure we were in the right place for the long haul because we are very confident in our long-term business prospects and this was an opportunity for us to put the infrastructure in place to get there. What I would tell you is the process was bottom up. We are designing the organization we think positioning us for the future. As Mark said our guidance here is around flat. We are going to do what we think is the right thing for the business. The key is making sure we are deploying the resources against the highest potential opportunities and that is what we are doing.

Jim Duffy - Thomas Weisel Partners

Can you provide an update on your hedge positioning? What are the other income expectations in the fourth quarter? How far out are you hedged? Are there any dynamics in the FX movements where you are feeling particularly exposed?

Don Blair

One of the things I expect to pattern for the fourth quarter is going to be the same as what we have seen for the last couple of quarters which is the nature of our hedging program when you have a strengthening dollar situation we are going to see weaker translation of international profits and we are going to get an offset back in the other income expense line. So whenever you have that sort of pattern in currency you are going to see other income and expense perform as it did in the third quarter. Our hedge positions are actually out into fiscal 2010. We have some positions out into fiscal 2011 that were put on some time ago. It is obviously a very complex portfolio of hedges but as you can see from the results in the third quarter as well as year-to-date it has been very effective for us.

Operator

The next question comes from Chris Svezia – Susquehanna Financial Group.

Chris Svezia – Susquehanna Financial Group

My first question here is just on the futures. Just to be clear I think you mentioned the footwear piece of the futures was stronger than the apparel and secondly maybe you could just talk a little bit about ASP trends and the overall order book globally?

Charlie Denson

Actually I don’t have that one just at hand. I’m just going to look that one up here but generally…

Chris Svezia – Susquehanna Financial Group

Is it fair to say generally speaking ASP has continued to see some level of improvement in the order book?

Charlie Denson

I’m sorry, say again?

Chris Svezia – Susquehanna Financial Group

Are you saying you continue to see some level of ASP improvement in the overall order book? A continuing trend of what you had been seeing in the past?

Charlie Denson

What we have been seeing over the last couple of quarters is the impact of some price increases we took over the last year or so. So those have had a beneficial impact on ASP’s. We now have started anniversarying that so we have seen increases. Going forward I think we are going to see more stability in the ASP piece.

Chris Svezia – Susquehanna Financial Group

If you could just talk about on the U.S. futures position, it is declining sequentially and I guess I was just curious…is that just because retailers may be just working down inventory levels, being more cautious as they went through January and closed out their fiscal year? Because it seems like we are seeing very significant growth in your footwear business in the U.S. as we have gone through February. I was just wondering if you could just talk about your thoughts as we go through the quarter in terms of what might unfold on the footwear piece of your business in the U.S. relative to what you are seeing in futures?

Charlie Denson

Right now most of the retailers closed their fiscal year out either calendar year or January. So some of that softness that you mentioned is correct. I think at retail our sell through has continued to be very strong and we feel great about our performance in February and right now I am certainly not going to sit in a position where I am going to start predicting the future in these conditions. So, with that we feel very good about our brand strength. We do seem to be somewhat of a safe haven in turbulent times. That seems to be playing out in the early parts of calendar year 2009.

Chris Svezia – Susquehanna Financial Group

You look to U.S. and European markets, you have a very fluid operating structure in terms of bringing product to market and then if necessary moving product and moving inventory through your outlet business. As we look to China and just kind of curious given what is going on there in trying to move and flow inventory can you talk about the opportunities to maybe improve how you are operating and moving product in China? I believe you are opening up a new facility some time in the next year or so to improve facilities. So it looks like there is an opportunity. I was wondering if you could just talk about that?

Charlie Denson

As that business matures and goes into its next phase of growth we have announced a new distribution center which will, to your point, aid us in managing the business and fulfilling demand at the appropriate level in a timely fashion. We are also building an outlet program, a factory store outlet program, in China as well. I think we have some stores in place today. I am not prepared to go into specific numbers. We also have some partners with stores. So we are building that circulatory system that is giving us the ability to manage the brand in mature markets like the United States and Western Europe and putting ourselves in the same position in that market place we call China which is still going to be one of the fastest growing markets for us over certainly the next couple of years.

Operator

The next question comes from Michelle Tan – Goldman Sachs.

Michelle Tan – Goldman Sachs

First, on the SG&A side just to clarify the goal of flat applies to fiscal 2010?

Don Blair

That’s right.

Michelle Tan – Goldman Sachs

Can you elaborate a little bit on some of the opportunities and the bigger buckets the environment is creating that you are looking to reinvest some of those savings towards? Just big picture?

Don Blair

We still believe there are tremendous opportunities for us in a lot of our international markets. We are obviously going to be mindful of the environment that is there but building our brands and our businesses in places like China that is a long-term play and so that is a place where we are going to continue to be aggressive. We talked about developing our action sports business. Charlie talked about the success we have had so far. We think there is a lot of additional opportunity there. We really consistently talked about how we build more compelling marketplaces, an integrated offense of owned retail and partner retail. We are going continue to invest in places like that. So the investment portfolio is a lot of the areas we have been talking to you about the last couple of years. As Mark said this is an opportunity for us to accelerate the execution of our strategies, not to reinvent them. We are being very mindful of the current environment and making sure we are putting the resources where we think they can do the most good in today’s world.

Charlie Denson

I’ll just add we are looking at being more surgical in terms of product best-category based opportunities as well. As we like to say, staying on the offense, so we are very keenly aware of some of the upside opportunities from a product and category standpoint in the key geographies around the world. So we are going to be taking advantage of those opportunities with some demand creation spend against that in the year ahead as well. So we are not saving our weight of prosperity here. We are going to be investing where we think, as Don said, the return is the greatest.

Michelle Tan – Goldman Sachs

On the gross margin side, any sense of the magnitude of impact of markdowns versus currency? Does currency impact the inventory number on the balance sheet?

Don Blair

Do you want to rephrase that one for me?

Michelle Tan – Goldman Sachs

The first question on the gross margin expectation. Magnitude of the hit from currency versus mark downs? Is one bigger than the other in the fourth quarter?

Don Blair

I think both of those will be key drivers of the merchandise. I can’t tell you what the exact portion is but certainly from a currency standpoint the hedging program we have has been very, very helpful for us over the last three or four quarters. We are going to see a little more flow through in the fourth quarter of that dollar strength. Yes, it does affect the value of the inventory on the balance sheet both in terms of when you buy it, it turns into for example more Peso’s. Then when you translate it back into dollars there is another piece of delta. That is why inventory, as we say to you when we look on it on a unit basis and we look at it country by country and category by category we feel very good about where our inventory is right now.

Pamela Catlett

Thank you for listening. We will speak with you soon.

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Source: NIKE Inc. F3Q09 (Qtr End 02/28/09) Earnings Call Transcript
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