Earnings/Share
2010A
2011A
2012A
2013E
Mar.
$0.51
$0.54
$0.60
$0.95
Jun.
$0.53
$0.62
$0.59
$0.78
Sept.
$0.57
$0.68
$0.61
$0.78
Dec.
$0.47
$0.50
$0.42
$0.66
Year
$2.08
$2.34
$2.22
$3.17
P/E
Ratio
20.61x
19.93x
21.45x
23.09x

Nike, Inc. is a globally iconic brand that has solid foundation for future growth: Nike’s brand power gives it a competitive advantage when compared with its other competitors. Nike’s has big name endorsements from the top athletes in the world, adding on to its big name in sports. Nike has an estimated 50% market share in the sports athletic footwear/apparel industry and has starting the process of penetrating the Asian market.

Heavily investments in Research and Development have allowed NKE to be create the best technology for its products: Nike’s strong tradition of innovation and technological advances has made it the leader in its industry. The actual products are well known brands themselves such as
Air, Jordan, Shox, and Dri-Fit. Nike invests heavily in Research and Development, investing in finding the next best technologies.

The stock buyback program that NKE has in place will significantly raise the market value of its shares: Nike announced a $5 billion share repurchase program in 2008 and announced another
$8 billion repurchase program in the third quarter of 2012. Both of these programs show the confidence in Nike’s long term growth and their dedication to return value to its shareholders.

NKE was not heavily affected by the recession: Nike did not see tremendous decreases in business during the economic recession in the consumer discretionary sector. This is because it is the largest player in its in 1 dustry and operates at such a large scale that it was able to cut its losses.
1 Source: Yahoo Finance

CFA Institute Research Challenge 4/19/2013
Nike Inc. is the world’s largest supplier of athletic footwear, with an estimated 50% of this $20 billion market. Nike is engaged in the design, marketing, and distribution of athletic and sports-inspired footwear, apparel, equipment, accessories, and services. The company’s wholly-owned subsidiaries include Cole Haan, which designs , markets, and distributes dress and casual shoes, handbags, and coats; Converse Inc., which designs, markets, and distributes athletic footwear, apparel and accessories; Hurley International LLC, which designs, markets and distributes action sports and youth lifestyle footwear, apparel, and accessories.
History and Founding
Nike was founded by Oregon track athlete Phil Knight and his coach Bill Bowerman in January 1964.The company initially was a distributor for a Japanese shoe company, but they eventually left the distribution business and created its own line of footwear, that would bear its patented “Swoosh” symbol. The company’s core competency was high quality and light weight running shoes that would give any athlete a competitive advantage in his or her sport. Nike initially sponsored athletes such as University Oregon track athletes and once the brand started gaining momentum, they increased their reputation were endorsed by Michael Jordan of the Chicago Bulls. Nike has sponsorships in many major sports including basketball, american football, soccer, and golf. Up to the present, Nike has focused a lot of its resources on Research and Development and has become an industry leader by doing so.
Management Team
Nike, Inc. has had a relatively stable management team. Phil Knight has been Chairman of the Board of
Directors for the majority of the time since the founding of the company. The company’s President and CEO,
Mike Parker, has worked with Nike since 1979 and was instrumental in the acquisitions of Converse Inc. and
Hurley International LLC. With a stable management team, Nike is positioned for steady future growth.
Acquisitions and Subsidiaries
Nike Inc. has been proactive in acquiring smaller companies within the sports apparel and accessories industry. Nike currently owns Cole Haan, a casual footwear and dress company, Converse Inc., an athletic footwear and apparel company, Hurley International LLC, an action sports and apparel company, and Umbro
International Limited, an athletic and casual footwear and apparel company. Nike is currently in the process of divesting the Cole Haan and Umbro businesses so that they can focus resources on their core businesses which are the NIKE, Jordan, Converse, and Hurley brands.
Sports Marketing
Nike Inc. has many top talented professional athletes under contract to endorse the company and get the brand well known in growing markets. These include players from every major sport. For example, Kobe
Bryant and LeBron James are both star players in the National Basketball Association who both have endorsement contracts with Nike. In their contracts, there are stipulations that say that these athletes need to promote the product in growing markets. That is why both Bryant and James have both traveled to China to run basketball events and promote Nike’s products.
Growth Strategy
Globalization is a huge part of Nike’s growth strategy. The company has been on of the earliest companies in the industry to penetrate the Asian market, particularly China. China accounted for 10.5% of Nike’s total revnue in the 2012 Fiscal Year, a 23% increase in revenue when compared with the 2011 fiscal year and a
45.8% increase when compared with the 2010 Fiscal Year. The market has been increasing at an increasing rate, so Nike has realized that gaining market penetration in the relatively unsaturated market in China is vital to their long term growth.
Research and Development
Nike Inc. puts considerable emphasis on Research and Development, high-quality construction, and innovation. Their highly technically competent staff of scientests and researches create new technologies that are incorporated into products that can lead to reducing injuries, enhancing athletic performance, and maximizing comfort. Nike is very proactive with its R&D, holding many patents including the Nike Swoosh,
NIKE Air, and many other technologies.
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CFA Institute Research Challenge 4/19/2013
Nike is the frontrunner in the sports apparel and footwear market. The company achieves relatively high and consistent margins in all of its business segments because it operates on such a large scale compared with its competitors. Nike also has more than 50% market share, which makes it the leader in the industry.
Market Capitalization
Below are the market capitalizations of Nike and its competitors.
Nike (NYSE): $54.82 billion
Adidas (FWB, Frankfurt): $16.6 billion
Under Armour (NYSE): $5.87 billion
Sketchers (NYSE): $1.13 billion
Asics (TYO, Tokyo): $3.60 billion
Source: Google Finance
SWOT Analysis
Strengths
1) Nike is a global market leader that possesses an iconic brand name that has a tremendous amount of brand recognition. Nike’s trademarked “Swoosh” symbol is known all throughout the world and is endorsed by the top athletes in every major sport.
2) Nike has no factories. It does not invest in manufacturing plans and workers, which makes their balance sheet look streamlined.
3) Nike is very Research and Development oriented. They have an evolving and innovative product range that is a leader in the industry.
4) Nike’s share buyback program will boost stock price by restoring confidence in the company.
Weaknesses
1) Nike has not addressed the problems that have arised from labor and factory conditions around the globe.
Since 1996, there have been complaints of child labor, which have hurt the company’s publicity and also its sales.
2) A higher price point on Nike’s products lowers the market potential for the company.
3) Nike has been expanding on its product line, going away from its core competency in athletic footwear.
Although they have started to divest some of their acquisitions not in the athletic footwear market, they have wasted capital in businesses they should have never entered.
4) The retail sector is price sensitive and since Nike generates most of its revenue through its retailers, ins tend to decrease when supplying to decrease.
Opportunities
1) Nike already has such an iconic brand, that they eventually may be able to get into other areas of the apparel industry.
2) Nike has the strongest presence in emerging markets compared to all of its competitors. China generated
10% of Nike’s total revenue in 2012, so they have a great opportunity to penetrate this relatively unsaturated market.
3) Product development. Nike is also arguably a fashion brand in addition to an athletic brand in youth culture. Developing a product line tailored to fashion forward youth culture could be a huge opportunity.
Threats
1) Fierce competition from Adidas and other worldwide known brands who sponsor sports teams and leagues
2) Importing costs, due to international barriers and shipping requirements
3) Nike is involved with international trade. It operates with different currencies, which are not always stable over long periods of time. This issue of the possibility of having unforeseen losses due to currency fluctuation is existent wit all global brands.
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CFA Institute Research Challenge 4/19/2013
Porters Five Forces
Factor
Buyer’s Power
Supplier’s Power
Industry Rivalry
Threat of Substitution
Barriers to Entry
Score
Neutral
Weak
Intense
High
High
Description
Buyers have many different options when it comes to which brand they choose. However, they have very little influence over prices.
Suppliers have very little power since they are supplying raw materials and there is no differentiation from one supplier to another.
There are many different brands with similar products offered at similar prices.
There is little differentiation between products of one brand and products of another.
Brands that are already in the market have built brand equity that can be difficult to challenge.
Buyer’s Power:
There are many brands for buyers to choose from, so most prices are competitive and fair for most buyers. This being said, the buyer has little influence over the price and if the price increases across the market, then they will have to pay the higher price or buy a product from a lower quality brand.
Supplier’s Power: Because there is little difference between one supplier’s materials and another’s, the lowest price will be chosen by a brand. Suppliers thus have very little influence over prices and must offer their materials at the lowest possible price.
Industry Rivalry: There are many firms that offer similar products at competitive prices. This intense competition leads to technical innovations from brands that are trying to differentiate their products. Brands in this industry must also invest heavily in marketing seeing as a product’s awareness to the consumer is crucial to its success.
Threat of Substitution:
Because of one brand’s product may easily be substituted for another brand’s each brand much keep their prices competitive or risk losing customers. The high threat of substitution in this industry drives brands to try to differentiate their products and build brand loyalty among customers.
Barriers to Entry: Established brands not only have the financial clout to buy raw supplies in bulk but also have strong brand equity. The average customer will be more likely buy a product from the brand that they already trust and are familiar with rather than one that they have not heard of and are unsure of the quality of its products.
Nike has proved its worth to shareholders through its consistent growth and the fact that they have increased their annual dividend rate every year for the past 11 years. While its stock price is slightly overvalued, we believe that this is not an inaccurate judgement but rather a reflection of the public’s confidence in Nike’s stock. It has developed a commanding presence in the market, with a market share that more than quadruples its closest competitor. Nike has alos proven itself as the frontrunner in innovation for the athletic footwear and apparel industry, cementing itself as a formidable force for years to come.
Revenue Drivers:
One of Nike’s most important revenue drivers is its capability to predict consumer behavior. Its products must adhere to what its consumers want, which is particularly tricky considering that Nike is a global brand.
57% of Nike’s revenue comes from non-US sales and so it is important for them to recognize consumer trends from around the world. Nike’s recognition of the importance of the consumer was demonstrated in
February of 2009 when it announced a corporate restructuring and cost reduction for the purpose of refocusing the company on the consumer.
Margin Drivers:
Nike maintains strong profitable margins by keeping manufacturing costs low and adapting well to changing global economies and trade barriers. Nearly all of Nike’s footwear and apparel are manufactured outside the
US and these manufacturers purchase the needed raw supplies in bulk. This keeps manufacturing costs low and allows Nike to keep their prices competitive with the market. Nike has manufacturers in over 33 countries and thus the economies and trade barriers in these nations have a great effect on Nike’s manufacturing costs. The global economic recession resulted in a slowing of international trade as many nations reverted to protectionist trade strategies. This trend brings with it increased tariffs and further complications with trade. This is a concern because if left unattended, it can increase the manufacturing costs of the product, resulting in adversely affected margins.
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September 22, 2008
Nike Announces $5 Billion Share
Repurchase Program
This revealed confidence in their long-term growth and their dedication to return value to shareholders
February 10, 2009
Nike Announces Corporate
Restructuring and Cost Reductions
In a move to enhance consumer focus and drive innovation to market
November 18, 2010
Nike announces 15% increase in quarterly dividend
Nike once again proves its worth to shareholders with a 9 th straight increase in dividend rate
May 31, 2012
Nike Announces Plan to Divest of Umbro and Cole Haan
So that it can focus on driving the growth in the NIKE, Jordan,
Converse, and Hurley brands
December 26, 2012
Nike Splits Stock with a Split Ratio of 2 to 1
Nike split its stock in a sign that they are financially healthy
Figure 1: NKE Stock Prices from March 2008 – March 2013
Source: Yahoo Finance
Three models were used to determine the intrinsic value of NKE.
Comparable Companies Model
To appropriately apply the comparable companies model, we have to compare NKE with well performing competitors. The companies we chose include Under Armour Inc., Adidas, Sketchers, and Asics. Adidas is the second largest manufacturer in the industry (with Nike being the biggest) and has similar products when compared with Nike. We used total enterprise value to Revenue and EBITDA multiples and PE Ratios to model the intrinsic value. The price range implied by the model ranges from $38.82 to $62.31 after running sensitivity analysis.
Discounted Free Cash Flow Model
For the DCF model, we chose to use free cash flow to firm since it is a better company performance indicator than free cash flow to equity. To calculate the terminal value, we use the TEV/EBITDA multiple methods and the implied long term growth rate is 2.94%. Considering that Nike is the biggest player and its size is twice as much as Adidas, we believe 2.94% is reasonable. The price range from the DCF model is between
$48.91 and $57.29.
Residual Income Model
The Residual Income model is a fairly new model. We applied this model to supplement our valuation. For long term residual income growth, we only apply 2%. This is because unlike free cash flow, residual income is hard to keep high growth rate. Residual income is the difference between EPS and cost of equity per share
(calculated as the book value of equity per share times the cost of equity). As EPS increases, the book value of equity increases so that the residual income may not increase or even decrease. The price range is between
$51.92 and $85.84.
Valuation Conclusion
Nike, as a well diversified company and S&P 500 index leader, has less volatility on stock price so we come up with a narrow target price range from $51.92 to $57.29. The table below shows our valuation conclusion.
2
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0 0,5 1
$90,00
1,5
4/19/2013
2 2,5 3 3,5 4 4,5 5
$90,00
$70,00
$50,00
$70,00
$50,00
$30,00 $30,00
Comparable Comp.
DCF Residual Income
8,00%
7,00%
6,00%
5,00%
4,00%
3,00%
2,00%
1,00%
0,00%
Revenue growth
Nike’s sales has increased over the last few years driven by improved selling prices and higher volumes.
Footwear has accounted for the most of the company’s growth. The estimated sales growth rate in the current quarter and next quarter are 2.90% and 7.70% respectively. As the biggest player in the industry, Nike’s estimated stock growth rate for the next five years is as high as 8.50%. We project annual revenue to grow at the following rates for years 2013 to 2018: 5.03%, 8.38%, 8.09%, 9.45%, 8.22%, 2.94%. We project revenue to be stable after 2018. The reason we do believe that Nike will have these rates of revenue growth is because the company has great potential in emerging markets and will continue to grow in the next five years.
10,00%
9,00%
2013 2014 2015 2016 2017 2018 and after
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Margins
Historically, from 2008 to 2012, the average gross margin was approximately 45.03% and average EBITDA margin was approximately 12.99%. We assume that this data will continue to grow at the average rate. We project both the profit and the EBITDA to increase by 38.76% from 2013 to 2017.
18000
16000
14000
12000
10000
8000
6000
Gross Profit
EBITDA
4000
2000
0
2013 2014 2015 2016 2017
Working Capital
Working capital decreased by $782M from $3377M in 2009 to $2595M in 2010. When calculating working capital, we excluded cash, cash equivalents, and short term investments from current assets, and excluded the current portion of long term debt from current liabilities. The decrease was caused by the increase of cash and cash equivalents. We believe that Nike has decided to increase its cash and cash equivalents to avoid financial risk, and maintain company operations. This drags the average percentage of working capital lower than normal, but we still used the average rate of 16% to forecast the working capital in the future.
6 000
5 000
4 000
3 000
2 000
1 000
0
2013 2014 2015 2016 2017
Free Cash Flows and Earnings
We used the formula NOPAT + D&A –CAPEX – Change in Working Capital to calculate the Free Cash
Flows for Nike. Because of the -$782M change in working capital, the free cash flow was $2,311M in 2010,
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CFA Institute Research Challenge 4/19/2013 much higher than other years. The percent of cash flow to revnue was 3.34% in 2012, and based on our assumption, it will continue to increase at approximately 4.66% from 2013 to 2017. We used the EBITDA times EBITDA multiple to calculate the terminal value and we got $28,822.37M. The equity value we calculated is $38,191.37M, divided by the shares outstanding 721.3M, we calculated our projected price at
$56, which is lower than the market price $52.95.
2 500,0
2 000,0
1 500,0
1 000,0
500,0
-
2008 2009 2010 2011 2012 2013 2014 2015 2016 2017
Ratio Analysis
Short Term Liquidity
Nike has had a relatively higher quick ratio than Adidas but a lower quick ratio than Under Armour in the past few years. This indicates that Nike has good short term obligation and it is more likely to happen in the future as well. In addition, Nike has relatively high inventory turnover compared with Adidas and Under
Armour. In 2012, Nike’s inventory turnover was 4.5 and its competitors were 3.1 and 3. This shows that Nike has strong sales and Nike buyers have greater purchasing power than competitors’ buyers. Moreover, in order to determine whether or not Nike is a high liquidity company their cash conversion cycle has to be proven.
Nike has a relatively low cash conversion cycle compared to Under Armour, but a higher one compared to
Adidas. This tells the investor that Nike used up an average time to convert its inputs into cash while Adidas is doing a great job of converting its products into cash in a shorter period of time, even though it has a lower quick ratio and inventory turnover than Nike.
Profitability
Nike has outperformed by having higher Return on Equity than each one of its competitors. This indicates
Nike has better operating margins than Adidas and Under Armour.
Operating Performance
The debt ratio indicates the operating risk and the borrowing power of a company. Nike has higher debt ratio than Under Armour and lower debt ratio than Adidas. Nike’s average debt ratio shows the company is having a medium operating risk.
These factors below could prevent the stock price from reaching our target price:
Financial results may be adversely affected if substantial investments and management attention in business and operaitons fail to produce expected returns. Nike often has substantial investments in acquisitions of new business, manufacturing innovation, and expansion of existing retail operations.
However, the substantial investments might not result in the same degree of returns or profitability. The
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CFA Institute Research Challenge 4/19/2013 negative growth or sales can have a huge and adverse impact on Nike. Moreover, investors might lose confidence in Nike and invest their money elsewhere.
Products are subject to risks associated with overseas sourcing, manufacturing, and financing. Nike relies on outsourcing for natural and synthetic fabrics and threads, and many specialized performance fabrics from various manufacturers. These could be a disruption that Nike might face a shortage of supplies from manufacturers. In addition, if Nike encounters an increase in demand and suppliers are unable to meet demand then Nike would have to find new manufacturers. In addition, if Nike encounters an increase in demand and the suppliers are unable to meet demand then Nike would have to find new manufacturers elsewhere. By doing so, there is no assurance that supplies will arrive on time and quality uncertainty might occur. The late supply shipment will cause Nike to pay extra delay transportation fees to the third party who delivers Nike’s products to other states or countries. This issue can adversely affect Nike’s financial performance.
Consolidation of retailers or concentration of retail market share among a few retailers may increase and concentrate Nike’s credit risk, and impair Nike’s ability to sell their products.
In some countries, sports apparel and athletic footwear are dominated by a few retailers. The concentration of retail market share can result in an increase of credit risk. If the retailers are experiencing negative growth and shortage of liquidity, it could increase the risk of the payable not paid to Nike. In addition, if the retailers reduce the purchase amounts then it would be relatively difficult for Nike to find a new purchaser to remedy the revenue gap the retailers caused.
Low Spread High Weights Xl Y Xh Y
Comparable
Comp.
DCF
Residual
Income
$38.82
$48.91
$23.49
$8.38
$ 49.91 $29.29
$62.31
$57.29
$79.19
40%
40%
20%
0
5
$49.91
$49.91
0
5
$57.29
$57.29
Min Max
Price Range $ 45.07 $ 63.68 by weights
$ 49.91 $ 57.29
Valuation Calculation by min & max
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Ownership and material conflicts of interest:
None
Receipt of compensation:
Compensation of the author(s) of this report is not based on investment banking revenue.
Position as a officer or director:
None
Market making:
The author(s) do not act as a market maker in the subject company’s securities.
Ratings guide:
Banks rate companies as either a BUY, HOLD or SELL. A BUY rating is given when the security is expected to deliver absolute returns of 15% or greater over the next twelve month period, and recommends that investors take a position above the security’s weight in the S&P 500, or any other relevant index.
A SELL rating is given when the security is expected to deliver negative returns over the next twelve months, while a HOLD rating implies flat returns over the next twelve months.
Disclaimer:
The information set forth herein has been obtained or derived from sources generally available to the public and believed by the author(s) to be reliable, but the author(s) do not make any representation or warranty, express or implied, as to its accuracy or completeness. The information is not intended to be used as the basis of any investment decisions by any person or entity. This information does not constitute investment advice, nor is it an offer or a solicitation of an offer to buy or sell any security. This report should not be considered to be a recommendation by any individual affiliated with CFA Institute or the CFA
Institute Research Challenge with regard to this company’s stock.
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