Nike's Q3 Results Are Good, But Puma Looks Better

Stock price: $74.2
Conclusion: Good resistance in Q3. We are slightly upgrading our valuation range to $72-$77 in light of improved worlwide future orders. Nonetheless, our pricing range suggests that Nike (NKE) stock price looks close to its fair value.

Q3 results: sales up 7% reported (+2% organic-down 3% 9m), EPS adjusted up 2%, slightly down 9m. Guidance F10: Revenue slightly below last year levels, higher gross margin, low single digit increase in SG&A.

Good results? Yes. Outstanding? No.

• Q3 showed a return to slight growth (2%) which is clearly encouraging. Looking at the 9m performance, Nike revenues fell 3%, which is better than Adidas (OTCQX:ADDDF) down 6% in F09, but only slightly better than Puma (OTCPK:PMMAF) (down 3.7% in 2009).
• We are more impressed by Nike’s achievement on the bottom line front. Nike succeeded in enhancing gross margin by 50bp in the first 9m, while its competitors Puma and Adidas lost 50bp and 330bp respectively in 2009. Nike managed to preserve that gain at the operating margin level thanks to a tight cost control. SG&A declined in line with reported sales, despite a sharp increase in Q3, related to marketing expenses, retail spending and compensation.
• Where does Nike stand from a profit margin standpoint ? YTD Gross margin at 45.9% is in line with Adidas (45.4%) but 5.4 points lower than Puma (51.4%). Puma is more exposed to lifestyle apparel than Nike, where pricing is better. However, Nike’s control over selling and administrative expenses looks much better than peers, enabling it to achieve 13% operating margin, in line with Puma.

All in all, we are looking for stable sales and earnings for F10.

Looking for mid single digit growth in sales and low double digit growth in EPS for fiscal 2011.

• Worldwide future orders scheduled for delivery from March to July 2010 are up 6% organic. The good news comes from the US, up 4%. Orders from Eastern Europe and Japan were still negative, more than offset by growth in China, Lat-Am and Western Europe. Nike benefits from its leading position in the premium end of the market in Greater China, which accounts for 17% of sales.
• Reported sales could be held back by a negative swing in forex based on current rates.
• Gross margin could slightly increase (+30bp to 46%), as a result of lean manufacturing, raw material consolidation, streamlined product line and faster growth in retail. In addition, faster growth in apparel should help margin. These factors should compensate for more headwind from freight costs, commodity increases and currencies.
• Nike pricing power seems under control thanks to clean inventories, down 17% currency neutral, even more in China (-27%).
• Selling and administrative expenses could benefit from positive leverage, helping to boost margin by further +60bp to 13.6%.
• We expect management to use its cash pile of $4bn to seize acquisition opportunities in the sector and buy back shares.

Nike trades at 18.4xP/E based on our calendar 10 estimates, in line with Adidas but at a 20%+ premium to Puma (Nike’s premium exceeds 30% on EV/EBITDA basis). We think that Nike’s excellent earnings visibility is largely priced in. We believe that Puma offers greater rerating prospects.