Nike: Adding Some 'Swoosh' to the Portfolio

Aug.31.10 | About: Nike Inc. (NKE)

Co-founded by Bill Bowerman and Phil Knight, Nike (NYSE:NKE) began as a small footwear distribution company and is now the largest seller of athletic footwear and apparel in the world.

In 1966, Nike released its first major product, the “Cortez” running shoe, which is still a popular product today. A few years later and after ruining his wife’s waffle iron, Bowerman designed and Nike released the “waffle” running shoe, which spurred the company into the growth story that it is today.

Steve Prefontaine, a famous distance runner at the University of Oregon coached by Bowerman himself, became the first endorsee of the company. Ever since then, Nike has been endorsing athletes across the globe and is known for the most fashionable and advanced athletic gear in the world. In fiscal 2010 and 2009, non-U.S. sales accounted for 58% of total revenues compared to 57% in fiscal 2008.

Virtually all of Nike’s footwear/apparel is manufactured by independent contractors outside the United States with a majority of the manufacturing taking place in East Asia, particularly China and Vietnam. In addition, the company also has wholly-owned subsidiaries that include Cole-Haan, Converse, Hurley, and Umbro. Although, I believe that Nike should sell off Cole-Haan as that subsidiary is in the casual wear industry and not engaged in Nike’s primary business of athletic wear. Nike has better uses for that capital rather than reinvesting it into the unrelated subsidiary in terms of product line.

Another concern of some investors is Philip Knight, co-founder and Chairman of the Board, who owns 74% of the Class A common stock. If all of his Class A were converted into Class B common stock, Mr. Knight would own over 14% of the Class B common stock. These shares are available for resale, and the sale or prospect of the sale of a substantial number of these shares could have an adverse effect on the market price of the common stock. However, I believe that any rapid sale is highly unlikely, even upon the co-founder’s death. Therefore, any adverse effect on the company’s stock in this regard is highly unlikely.

In addition, Nike has only $445.8 million in long-term debt; however they have several endorsement contracts, which are crucial to their brand’s promotion and are still legal enforceable claims on the company. The estimated fair value of all Nike’s endorsement contracts totals $3,790 million with an average of approximately $600 million to be paid out every year. However, with $3,079.1 million of cash on the balance sheet and net income of $1,906.7 million, Nike maintains sufficient earning power supported by strong cash generation. In fiscal 2010, the company produced a net increase in cash and equivalents of $788 million. Nike also proudly upholds a Standard & Poor’s Debt Rating of A+.

Consequently, with a P/E of nearly 18, Nike may be warranted for the long-term investor’s portfolio.

Disclosure: The author has no positions in NKE at the time of writing.