This past month I made a couple of decisions both involving iconic brands. One to buy some more stock in the House of Mouse and the second was to buy some shares of the Swoosh.
Added to position in Walt Disney (Ticker: DIS)
One day in September the stock fell 3 percent to under $100/share. Disney announced that they were also going to be removing all Star Wars and Marvel content from Netflix and include it in their streaming portal in 2019. This was not a surprise as it fits in with their strategy to take more control in the distribution of their content. Factoring in the Canadian dollar was now trading up over $0.82/US, I thought it would be good to add a few more shares to my position. I hold Disney in my son’s RESP account and it’s a type of stock that I would be comfortable holding for a long period of time given best of breed quality of the company.
Opened position in Nike Inc (Ticker: NKE)
Nike has been another company that I've had on my wish list of stocks that I would buy but were too expensive in my eyes. Recently thought the stock has been under some pressure so did a little digging to see if the fundamentals are still good in the business to jump in and open a long-term position. Here's the process I went through where I incorporate answering the 8 questions I ask when evaluating a stock and which I teach in my Everyday Investing course
Question 1: What do they sell?
The boiler plate explanation courtesy of Reuters: "NIKE, Inc. is engaged in the design, development, marketing and selling of athletic footwear, apparel, equipment, accessories and services. The Company's operating segments include North America, Western Europe, Central & Eastern Europe, Greater China, Japan and Emerging Markets. Its portfolio brands include the NIKE Brand, Jordan Brand, Hurley and Converse. As of May 31, 2016, the Company focused its NIKE brand product offerings in nine categories: Running, NIKE Basketball, the Jordan Brand, Football (Soccer), Men's Training, Women's Training, Action Sports, Sportswear (its sports-inspired lifestyle products) and Golf. Men's Training includes its baseball and American football product offerings. It also markets products designed for kids, as well as for other athletic and recreational uses, such as cricket, lacrosse, tennis, volleyball, wrestling, walking and outdoor activities. The Company sells a range of performance equipment and accessories under the NIKE Brand name."
Nike’s value proposition is about physical achievement. It’s about winning and if you’re going to climb that mountain, run that marathon, hit that homerun, or do those 500 sit-ups, you need to be dressed for it. Nike with it’s Swoosh is one the most iconic brands on earth. It’s everywhere. It’s become a uniform for physical activity.
Question 2: Who do they compete with?
The main competitors are Adidas and Under Armour which offer their own version of sports lifestyle fashion and sports equipment.
Question 3: Who buys their products and services?
Logically it would be reasonable to assume people who like sports and are physically active will consume Nike products. However, Nike has done a masterful job in bringing sports apparel into everyday fashion. You don’t have to be in a gym to wear a Nike product. As a result, Nike has immersed itself in all levels of consumer demographics.
Question 4: Will they buy their product over and over again?
Apparel has limited use, so there will always be a need for shoes, shirts, shorts and other basic clothing.
Question 5: Do they make money?
In the last 3 years, Nike has generated returns on invested capital in the 39 to 42 percent range compared to its cost of capital of 9.7 percent. The company is creating significant economic profit and tangible wealth for its shareholders. While its ROIC has been falling it is still quite strong. On average its ROIC has been around 25 percent over the past decade which is very strong. It continues to hold a dominant market share in the US at 60 percent and a 13 percent market share in the active wear segment.
Nike is truly a global business with 55% of their sales coming from outside the US. The US market has been decreasing in sales in recent years and has been a factor in the stock pulling back. The growth in sales is coming from outside.
Question 6: What do they own and who do they owe money to?
Looking at their financials, the company has a very strong liquidity position with a current ratio above 3. It has more cash than long-term debt so it is financially very strong. Nike has a very manageable level of intangible assets as well as its debt level.
Question 7: How risky is their business?
Nike has been target of much criticism over the years, whether it’s for it manufacturing and sourcing in low wage countries or for its direct targeting to low income people to the point where people literally kill each other for a pair of Air Jordan’s. It comes with the territory of being an aspirational, global iconic brand. It’s a fashion brand and like fashion it is very susceptible to finicky consumer tastes. It’s very cyclical and there are always upstarts that try to challenge like Lululemon and Under Armour. Athletic casual fashion has been a hot segment in recent years but it looks like it is entering the late stages. Right now Nike has been showing some chinks in the armour (excuse the pun) as companies like Adidas and Under Armour have been chipping away and taking away share especially in the ultra comptetive footware segment.
Nike is in the fashion business and as such always runs the risk that it will become out of fashion and dated so maintaining consistent level of freshness in its product lines is very challenging. It’s a big reason why it relies heavily on endorsement by major professional sports figures to give the brand the street cred. One recent example highlights this when Golden State Warriors forward Kevin Durant that kids despite the emergence of Under Armour and Adidas, still view Nike as the blue chip brand.
Nike sells through retail stores like Dicks and they have come under great pressure as Amazon has slowly taken share. Nike has seen this and has engaged with Amazon in forming a partnership to sell a selected range of products via Amazon.
Question 8: Is the stock cheap?
When you compare Nike with similar companies on a multiple basis, the stock is about fair value. On a discounted cash flow basis the company’s value comes in the$58 to $70 range, so maybe the stock has a value in the mid $60’s which would give it about a 30 percent gain potential which is decent for me. The stock has been falling since summer when it was as high as $60.
Nike is a best of breed in sports apparel. When you think of athletic shoes and clothes and to a certain extent equipment, Nike is the default. The brand is instantly recognizable. Heck even my 2 and 5 year old know the Swoosh and they are into it. Their marketing has been that powerful. They are in a very competitive industry in where there are always upstarts trying to chip away, but they continue to dominate the segment and continue to generate bucket loads of cash and Economic Profit. The company financially is rock solid with a very healthy cash level and manageable debt. The sports apparel sector appears to be in a down cycle as other companies like Lululemon and Under Armour have been under pressure and retailers like Dicks and Sports Authority have been getting pummelled.
The stock has been down because of this, however the company is still creating tangible wealth and is growing nicely outside the US. There is a fair bit of geographic bias by US based analysts on the stock based on their weaker US sales numbers. It looks like there is some decent upside on the stock over the long term. Based on this I decided to buy the stock at the $53 level and I’m willing to buy more if the stock were to fall further.
Note: Shortly after finishing this post, Nike posted quarterly results which showed further weakness in US sales and the stock fell another 4% from where I bought. I ended up buying more stock to further lower my cost base.