Nike - Swooshing or Sinking?

Note: this post was carried today on Wallstrip

Overview

As always, I’ll let’s the internet dialogue do the talking, but what emerges from the data is one of the more complex and confusing pictures I’ve seen yet. The challenges and opportunities facing Nike are both daunting and exciting to the investor, and some of the major themes include:

The Good - a possibility

1. Can Nike broaden its brand appeal from identification with a single individual into THE sports and fitness company? 

2. Can Nike become the principal sports and fitness-goods beneficiary of the health wave across its big-spending demographic?

3. Can China serve as an engine for turbo-charging sales in what is shaping up to be a key battleground?

4. Can partnerships with truly cool companies like Apple propel Nike into the vanguard of hip?

5. Can line extensions into an increasingly broad array of sporting and fitness products leverage Nike’s brand and distribution network into rising profits?

The Bad and the Ugly - let’s hope not

1. Can Nike maintain its hip image in a post-Jordan world?

2. Has its brand become too prostituted through its sponsorship of everything sports from high school and college football teams to Tiger Woods?

3. Will increased scrutiny on poor offshore labor working conditions cause a PR nightmare?

4. Will its use of “informants” and other paid influencers in its target market precipitate a backlash against its “contrived cool” image?

5. Will the costs of competing in China against a fierce rival like Adidas make a “win” a pyrrhic victory?

I guess when it comes right down to it there are two principal themes that get right to the core of Nike’s prospects - success in positioning the brand to be “cool” yet sustainable and success in growing its franchise and making money in China. Answer these two questions and you’ve got the answer of the stock’s near- and medium-term prospects.

Nike - the Brand

The boys from Beaverton are working hard to create Nike 2.0. All you need to do is to live on their website a little to get a sense of the image they are trying to create:

1. We’ve got a clear mission (tag line: “To bring inspiration and innovation to every athlete in the World” and, oh by the way, our definition of athlete is: “If you have a body, you are an athlete.” Sure, guys, whatever)
2. We’re all about innovation and inspiration (and we happen to have a picture of the uber-hip iPod Nano to prove it)
3. We’ve got a rich and proud heritage - this stuff isn’t contrived man. We’ve been around a long time (that old black-and-white picture you’ve got up there really makes me teary…sniff, sniff)
4. We’ve got cutting edge product technology (and it’s not just shoes, man. What are those hardware gadgets? I really think these guys DO want to be Apple)

Stuck in the past?

Ok, ok, maybe they are trying too hard, but you get the point. There is no doubt from both the internet conversation and their website and corporate messaging that they are trying to bridge the gap from an image built around an icon (Sir Air himself) to one built around technology and cool. And the effect of Michael is still being felt today, even in the key venues of hip like NoHo’s Flight Club:

The entire back wall of the store is devoted to Air Jordans, the sneakers that revolutionized footwear. But, I asked one of the clerks, why Michael Jordan? “Because before Michael Jordan there was none of this,” he said, sweeping his hand along the wall of shrink-wrapped individual Jordans as if showing off his new Picasso mural. “Back in the day it used to be all about the Adidas. Then Nike came along, and Michael Jordan came along, and that was that. Everything changed.”

Now, being tethered to an icon of the past is not necessarily a good thing:

I’m sorry that there has to be a negative comment but I think that all the products are very ‘Nike’ in their styling and I dont really like Nike because I think that the products in general are a bit kitch (apart from the classic Nikes with the big tick and the concept of the air max 95). Are Nike shoe designers mainly product designers or fashion designers? I understand that Nike design shoes with a big emphasis on function for sport etc but I get the impression that they dont research into true fashion trends outside of the US. I’m not sure if Nike realise this but in the UK Nike are seen as uncool in a lot of social groups (unless you’re wearing an oldskool design). If Nike want their shoes to fit in with the fashion of youth groups then they should really study these groups in Europe and maybe do research based on music groups… because often thats where these trends develop from. Not everyone is into Hip Hop and sport if you know what I mean.

If Nike had a design studio based in the UK (or Scandinavia, or Australia) that really understood the trends of young people they really would double their sales. Someone should definitely make good use of that tick.

Now, Nike is working hard to broaden their appeal and perception as a sports and fitness, company, not just a shoe company, which is illustrated by several acquisitions they have made to extend their reach, for instance:

1. Cole Haan
2. Bauer
3. Hurley
4. Converse

Running towards the Future

Ok, ok, that’s cool. But none of this is really moving the meter in terms of enhancing brand value. Likely the biggest (and hippest) branding initiative going on right now relates to their budding relationship with Apple around the Nike+ project. Apple’s press release is here.

Nike+iPod is a partnership between two iconic, global brands with a shared passion for creating meaningful consumer product experiences through design and innovation, Parker said. This is the first result, and Nike+iPod will change the way people run. Nike+iPod creates a better running experience. We see many more such Nike+ innovations in the future.

Now, hitching your star to Apple + Steve Jobs can never be a bad thing. Right? Well, let’s hear what the blogosphere has to say:

For $29, you too can be a runner by Brent Ozar

One of our recently hired Windows engineers sold me on it when he walked me through the Nike Plus web site. It showed his progress, showed challenges he’d entered with other runners, and showed various Nike challenges, showed Lance Armstrong’s running pace, yadda yadda yadda. The graphs made my eyes pop - I could envision myself looking at a graph of my progress, seeing a metric of my improvement. That was it. I was sold.

Running Works. by Closet Therapy

Seriously, who woulda thunk? I’ve been running (actually, it’s more of a combination of a jog-walk) more regularly since I got my Nike+iPod set. True, the set is a bit excessive: I can just as easily run without it. But something about the satisfaction I get while syncing the iPod to my computer after each run and reviewing it online gives a sense of accountability, the iPod doesn’t lie.

Nike+ iPod running appliance: this is Web 2.0 by Sean Teirney

Possibly the coolest feature is the seamless integration via iTunes with the NikePlus.com site- every time you sync your Nano, it will send the stats from your latest workouts to your account on Nike+ so you have one place where you can login and track your progress. You can also challenge up to fifty friends anywhere in the world and compare their progress with your own (smack-talking is always the best motivator for improvement). The Nike / Apple partnership is genius on so many levels- Apple has a new product, Nike sells more of their shoes and sports apparel that integrates, Apple sells entire workout playlists of celebrity athlete’s favorite workout songs complete with voiceovers to inspire the runner, both get access to a valuable community.

Analysts: Apple deal a boost for Nike by Mathew Honan (Playlist)

Despite Nike’s strong association with sports, Apple has owned the market for portable players, with the iPod shuffle and iPod nano dominating the flash-based music player market traditionally favored by athletes due to the devices smaller sizes and durability. At the 2006 Winter Olympic Games in Turin, for example, a pair of white earbuds were seemingly de rigueur for athletes from all over the world, be they figure skaters or snowboarders.

Ok, so we all get the joke. This looks pretty good. I guess the question we all need to be asking ourselves is who is getting the better end of the stick here - Nike or Apple? This from Business Week:

Nike dreamed up the idea for the product and contacted Apple to develop the technology behind it, Nike CEO Mark Parker said at the news conference: “A while back we asked a big question: Could we harness the power of digital technology to improve a runner’s experience?” It turns out the answer is a smart running shoe, equipped with a small sensor that can track motion and distance and other metrics that runners find important, but the information would only be available after their run is complete, not while running. “We quickly realized that making a smart shoe wasn’t smart enough.”

So Parker called a friend: Apple CEO Steve Jobs. The result was the kit, which both called simply a “great start.” The two companies will develop more products as part of an ongoing partnership.

Boarding for Hip?

Nike is taking steps well beyond Apple to cement their image as a hip, responsive, edgy comapany. For example, look at their approach towards Skateboarders:

And the surveillance paid off. Within two years, Nike reissued the Dunk, a 1985 basketball shoe that executives discovered had been co-opted by skaters. And it kept on reissuing it ­ the same basic design ­ but with different color schemes and motifs designed in collaboration with celebrities, graffiti artists, skaters and storeowners. Playing on skate’s secret language of images and icons, the different editions soon became cult fetish objects with “personalities” and nicknames like Shanghais, which
contain a Chinese character, and Heinekens whose color scheme resembled that of the Dutch beer. But they kept the numbers strictly limited ­ stores were only able to order 24 pairs and most lines were produced in hundreds rather than thousands. According to Niketalk, just 777 of the Dunk Lucky 7 were ever made and a collaboration with artist Futura resulted in just two dozen
pairs of shoes.

Nike did it smart. By keeping numbers down they were able to manage demand, and the potential profit margins of being able to sell Dunks for as much as 5x the suggested $65 retail price eroded the resistance of many independent storeowners, by, as Bodecker put it, allowing them to “keep the lights on.” So you won’t find Nike skate shoes in chain stores, or the huge barn-like retail outlets. Nike only sells to small independent skate stores, but where there used to be only two or three in a city, now there are two or three in a mall.

Nike knows how to build markets and brand. If history provides any guidance, management will make the right moves and take their time.

Nike and China - Fun for Profit or a Competitive Quagmire?

The Opportunity: a $3 billion sport shoes and apparel market poised for explosive growth (by comparison, American’s spend $30 billion on sport shoes and apparel). Nike has done well in China thus far, but the challenge has been positioning a premium product in an emerging market where cheap knock-offs are yours for the asking. Even with these challenges, Nike is letting it all hang out; with the 2008 Beijing Olympics coming, Nike is sponsoring 21 out of 28 of China’s Olympic squads. To say this shows commitment is the understatement of the century. That all said, nobody is ceding this risky but unbearably attractive market to the Beaverton boys. At present, there are three major players in the Chinese market: Nike, Adidas, and Li-Ning (the local challenger).

The current name of the game in China: major land grab in advance of the 2008 Beijing Olympics. Let’s take a quick look at the competitive landscape.

1. Li-Ning

China : Sports brand Li-Ning plans for Beijing Olympics (fiber2fashion)

Leading Chinese sports giant Li-Ning plans to add 700 stores this year for a total of 4,000 in preparation for the 2008 Beijing Olympics. In 2005, store number rose from 2,887 to 3,300.

The company said about 80 percent of the new stores, which will be located mainly in shopping malls, will be franchised.

Same-store sales, which increased 12.8 percent in the first half of 2005, will also see double-digit growth for the full year.

Ahead of the Olympics, the firm is also boosting promotional and NPD spending. Promotional investment will account for 14-16 percent of total turnover in 2007, compared to the current 13-15 percent, and NPD will rise to 5 percent of costs in 2008 from 3.8 percent currently.

2. Adidas

Adidas aims to overtake Nike sales in China by 2008 Olympics (FinanzNachrichten.de)

Adidas AG (Nachrichten/Aktienkurs) aims to overtake Nike Inc. (Nachrichten) in the China market by the 2008 Beijing Olympics, with a program of accelerated store openings, sponsorship deals and its acquisition of Reebok International Ltd., Adidas’s top executive told the Wall Street Journal.

It plans to open an average of 1.5 new outlets a day in China over the next two years as part of a plan to double its current 2,500 Adidas-brand stores in the country by 2010, chief executive Herbert Hainer was quoted as saying in the report.

‘In two years, I believe we will be market leader in China,’ said Hainer, in Beijing to meet with China’s Olympic Games organizing committee as an official sponsor for the games, where it has committed to spend an estimated 80 mln usd.

Nike, Adidas and Li Ning in three-way race by Normandy Madden (AdAgeChina)

Nike’s global dominance and marketing firepower helped it secure the No. 1 position in China several years ago. Exact market share figures are difficult to come by in China, but industry experts believe Nike controls about 30% of the market today, followed by Adidas with 25% and Li Ning in third place with 18%.

Although Nike has less fashion credibility among Chinese teens than brands like Adidas, its brand is aspirational, according to P.T. Black, a partner at Jigsaw International, a youth trend consultancy in Shanghai. “It encourages kids to be strong in character and have the courage to be an individual,” not entirely Confucian ideals.

So, in short, Nike is fighting the good fight but any battleground that requires major capital commitment, gobs of management time and entails large execution/counterfeiting risks worries me.

Bottom line - Nike has good products. Problem is, they are subject to fads, are still overcoming the legacy of an icon that cannot be replaced, facing increasing competition abroad and trying to extend their brand into other areas. This is not a backdrop where the risk/reward looks favorable. Based upon the data. But the data is just people, right?

Thanks to Rob Passarella and RIck Calmon for their copious research and assistance with this post.

The author does not have a position in the securities of Nike.