Global sportswear giant Nike Inc. (NKE, Financial) reported mixed results for fourth-quarter and full-year 2023 on June 29, with quarterly revenue surpassing expectations and net income falling short.
The company's performance was influenced by a number of factors, including cost-conscious consumers in North America, a strong recovery in China, higher supply chain costs and increased promotional efforts. The stock declined 3% in after-hours trading following the earnings release, and the losses extended on June 30.
The company is making a strong comeback in China, but this progress has been masked by the challenges it faces in other key markets. The company is richly valued at a forward price-earnings ratio of 35, which leaves room for a disappointing market performance this year.
Challenges in the North American market
In North America, Nike's largest market, consumers have been cutting back on sneaker and sports apparel purchases due to high inflation. This resulted in reduced discretionary spending and a slower sales growth rate of 5% in the fourth quarter, the slowest in four quarters. As a result, U.S. wholesalers have become more cautious in placing new orders. In contrast, Europe, the Middle East and Africa region experienced a modest sales increase of 3% in the recent quarter.
The company's gross margin declined by 140 basis points to 43.6% in the reported quarter. The Beaverton, Oregon-based company resorted to promotions and discounts to clear excess inventory, which put pressure on margins. Higher supply chain costs, input costs and labor costs also contributed to the decline. Jessica Ramirez, a senior analyst at Jane Hali & Associates, noted the cautious consumer behavior in Nike’s key regions and the need for promotions to attract customers will continue to impact the gross margin over the next several quarters.
Shifts in consumer spending patterns
There has also been a significant shift in spending patterns since the onset of the pandemic. Consumers have prioritized essential items, resulting in increased spending on food-related products and other necessities. Further, with energy prices soaring, utility costs have risen. Consequently, spending on housing and household fuels has seen a significant increase compared to 2020 levels.
The high cost of energy has impacted consumers' budgets, leading to a greater allocation of funds toward meeting essential household needs. Despite this, in-person services, particularly hotels and restaurants, have witnessed a notable rebound in 2023. Consumer spending in this category has experienced the most significant surge compared to 2020 levels, driven by the pent-up demand following the slowdown due to pandemic-related lockdowns.
Decline in apparel and footwear spending
The shift in consumer spending toward in-person services, food and utilities has come at the expense of other categories, such as household goods and apparel. Items like furniture, appliances and clothing experienced increased demand during the lockdowns of 2020-21, which is now beginning to reverse. A recent report by Coresight Research highlights a continued slowdown in spending on apparel and footwear, with growth reaching just 2.7% in April compared to the same month last year.
This marks the fourth consecutive month of growth deceleration in this category. The report also predicted a further slowdown in growth, with demand expected to fully fade away in 2023. According to Zheng, an analyst at Coresight Research, the surge in demand for apparel and footwear began in June 2020 and lasted for nearly two years, driven by pent-up demand. However, the current decline suggests it is starting to diminish due to inflationary pressures.
Growth in China
The recovery of Nike's sales in China, with a notable 16% jump following the relaxation of mobility restrictions, is a positive development amid the challenges faced in North America. The pandemic and subsequent economic downturn have had a profound impact on Chinese consumers' shopping attitudes. Price sensitivity has also reached new heights, with consumers investing time in research and price comparison to secure the best deals.
Approximately 36% of a recent survey's respondents said they enjoy seeking out brands and products with the best cost-effectiveness, and around 60% actively search for discounts and promotional coupons before making a purchase. The recent 618 Shopping Festival, China's first major shopping event after the pandemic, tapped into this shift in consumer behavior. E-commerce platforms, including JD.com (JD, Financial), Alibaba's (BABA, Financial) Tmall and PDD Holdings' (PDD, Financial) Pinduoduo, pivoted their strategies to attract consumers with deep discounts and monetary subsidies.
Takeaway
Nike guided for lackluster revenue growth in the next quarter, reflecting the complexities of consumer spending behavior. Despite consumers expressing their intent to spend more in certain categories, their cautious spending patterns have resulted in negative year-over-year growth. While the company has seen a strong recovery in China, challenges remain in North America.
Effective inventory management and navigating supply chain costs are crucial for success in this challenging environment. However, Nike maintains its prominence as a leading brand with a market share of 27% for athletic footwear, particularly among teenagers, and as one of America's preferred clothing and footwear brands. There is also untapped potential in markets like Korea and India. The company certainly enjoys a long runway for growth in international markets, but things may get worse before they get better from a market performance perspective as Nike’s challenges are yet to be fully reflected in its market value.
