NIke：Inventory And China Commentary Will Be Crucial

Nike last night released its Q4 2023 results (as of 2023/5/31), Q4 achieved revenue of $12.83 billion, up about 5% from $12.23 billion a year earlier, although the overall growth rate still showed a downward trend from the previous year, but higher than market expectations of $12.59 billion, but the net profit performance was poor, Q4 achieved net profit of $1.03 billion, lower than The net profit was $1.03 billion in Q4, down from $1.44 billion a year earlier, and earnings per share were 66 cents, down from 90 cents a year earlier and 67 cents expected by the market, which is relatively rare for Nike.

The most criticized point of Nike's earnings report lies in the fact that the gross margin still hasn't stopped its downward trend, which is the main factor that led to the profit being less than the market's expectations. The company's Q4 gross margin fell 1.4 percentage points year-on-year to 43.6%, while the company's previous historical average is usually around 45%-46%, for consumer sports, more than 30% of revenue are used to give sales, management and other expenses, the impact of changes in gross margin on profits becomes very important.

The company attributed the decline to higher product input costs, higher freight and logistics costs, increased promotional discounting activities and unfavorable currency exchange rates. However, this reason contradicts its peers and other retailers, most of which were caught in a dilemma of high freight and logistics costs leading to reduced profits last year, yet as supply chain issues recede this year, many retailers are reporting that margins have rebounded this year, such as lululemon's gross margin of 57.5% in the first quarter, compared to 53.9% of revenue in the same period last year, mainly driven by air freight the impact of falling costs.

Personally, I think Nike's gross margin decline is more attributable to inventory issues. Nike's inventory was valued at $8.5 billion in the fourth quarter, unchanged from a year earlier, but sales were down year-over-year. Nike's current inventory is still about 23% above 2021 levels and remains at a high level, and the company has been slower to respond to the more subdued growth levels brought on by poor consumption than other retailers. Although the company's management has been emphasizing its confidence in inventory management during conference calls, the company's choice to tighten purchases in the first half of the year and extend them into the second half of the year clearly indicates that the inventory issue is still under considerable pressure. For fiscal year 2024, the company expects gross margin to increase 140 to 160 basis points year-over-year from 43.5% this year, and guidance is still not back to normal levels.

Along with the more subdued revenue growth, the selling and administrative expense ratio is still up. Nike's selling and administrative expenses rose 8% in Q4 to $4.4 billion, and the selling expense ratio was 34%, up 33% from last year. And it has been steadily climbing. Of that, demand generation expenses, primarily marketing activities, rose 3% to $1.09 billion, and operating administration expenses rose 10% to $3.3 billion, which the company attributed to payroll-related expenses and variable costs associated with its Nike Direct.

The more subdued consumer environment in the first half of the year, in turn, forced Nike and other retailers to spend more on marketing and promotions to boost sales, which further depressed margins. The company still expects full-year SG&A expenses to grow faster than revenue to support events such as major global sporting events and product launches, which is not a good sign.

Gross margin issues will be the focus of attention in the next earnings report. Exceeding expectations for inventory improvement and gross margin improvement will effectively thicken profits.

Sales in the U.S. grew 5% to $5.36 billion, compared with market expectations of $5.29 billion, up 5% and lagging behind other regions. Consumers have scaled back spending and become more discerning about discretionary spending such as in the apparel and footwear sectors. This, in turn, has forced Nike and other retailers to spend more on marketing and promotions to boost sales, thereby depressing margins. Looking at the first half of U.S. retail sales, the apparel category continued to decline year-over-year after March

As the most important market, North America accounted for 44% of overall sales, and the downturn in North America was the main reason for the lower revenue growth in the first half. However, the second half of the year could turn out to be better, with recent releases of durable goods orders, new home sales data and consumer confidence reinforcing expectations of a soft landing. Demand for durable goods and optional consumer goods is expected to stabilize and pick up, with apparel demand set to pick up from a year earlier.

The rebound in China this quarter was very bright in terms of data, with Nike's fourth quarter sales in China up 16% year-on-year to $1.81 billion, higher than the expected $1.68 billion. While the data is impressive, it may have been inflated considering the same period last year, when the Shanghai outbreak occurred, and 2021Q4 China revenue was $1.93 billion, with this quarter's revenue still below previous levels.

On the other hand, consumer demand did recover after the epidemic, and Nike also benefited, with profits recovering better than revenue. Part of this is reflected in the fact that with the gradual improvement of the inventory situation, this quarter's full-price sales level is the highest in eight quarters; it is also illustrated by the significant improvement in the profit situation this quarter, with operating profit up 70% year-on-year.

Nike's earnings report this quarter was less than satisfactory, compared to its peers, Nike's response to de-stocking appears to be somewhat sluggish, its real strength lies in the strength of the brand and its absolute dominance in the niche footwear and apparel market, this quarter should be the low point of the next few quarters, the second half of the year with the rebound in U.S. consumer spending, and the continued recovery of the Chinese market demand, revenue growth is expected to improve year-on-year, gross margins if they can improve beyond expectations will bring additional profit surprises.