2022 is going to be the year everything returns to normal, yet investors are going to discover that everything has changed; big companies that you thought you knew have been completely remade, for the benefit of shareholders, suggests Jon Markman, editor of Strategic Advantage.
During the course of this year I expect a big rally for Nike (NKE) — the athletic shoe and apparel company that has become synonymous with athletic champions. From Michael Jordan and Tiger Woods to Cristiano Ronaldo, the Portuguese soccer super star, Nike executives have paid top dollar to associate the business with winners.
That strategy has made the brand extremely valuable. Research from Brand Finance found last April that Nike was the number one-rated apparel brand in the world in 2021. The Beaverton, Ore.-based company retains that title for a seventh consecutive year.
Brand awareness has allowed Nike to rejigger its business model. The global pandemic and digital transformation revealed a new business vector for Nike, and it is a game-changer. Executives quickly discovered that consumers were more than happy to buy their products online, sight unseen.
Typically, Nike would have to share part of the retail price with Foot Locker (FL), Target (TGT) or any of the tens of thousands of retailers that carry its footwear and apparel. Switching a good part of that trade online removes the middleman. Nike gets the entire retail price, and that fat margins that come along with the sale. It means much larger profits and free cashflow.
Following the fourth quarter financial results in May, CFO Matt Friend said he expected that moving more of the overall business toward a direct-to-consumer model could push profit margins into the middle 40% range.
Shares have been mired in a trading range since then. Analysts are worried about the global supply chain and bottlenecks in Southeast Asia. That is short term thinking. Supply constraints will ease, yet Nike’s business model is being changed forever, to the benefit of shareholders.
The stock trades at 35.5x forward earnings and 5.7x sales. This is within the historic valuation yet the business is fundamentally changing. Margins are risings and cashflow is growing briskly.
Based on margin expansion, I expect Nike shares to jump to the $275 level over the next 18 months, a gain of 63% from current levels. Nike is ready to fit into a new valuation.
