The coronavirus pandemic has been massive challenge for retailers in 2020, but is has accelerated digital trends in consumer shopping behavior that can benefit those willing to adapt. I think Nike (NKE -0.13%) will bounce back from the crisis stronger than ever because of its rapidly-growing digital business. Let's dig a little deeper to find out why this footwear company is poised for continued success.
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Transitioning to a digital business model
Nike was slammed by the coronavirus pandemic, which disrupted supply chains and closed down its retail outlets in the fiscal fourth-quarter -- sending revenue down 38% to $6.3 billion. But management used the crisis as an opportunity to accelerate the company's transition to a digital business model, and this can improve margins and boost profitability over the long term.
The company reported first-quarter revenue of $10.6 billion, only 1% below the prior-year period. And while retail sales volume continues to lag, online sales are powering growth in key regions like EMEA (Europe, Middle East, and Africa) and Greater China, which expanded by 5% and 6%, respectively. Nike's digital sales already represent over 30% of total sales, and could soon generate the majority of revenue if current trends persist. CEO John Donahoe expects the shift to continue, even after the pandemic is over.
Here's what he had to say at the company's first quarter earnings call on September 22:
The consumer today is digitally grounded and simply will not revert back. Our NIKE digital business is already meeting our mix goal of 30%, nearly three years ahead of schedule, and we will continue to grow from here.
A more streamlined and profitable Nike
Continued growth in Nike's online business could mean better margins and the potential for bigger profits. The company already enjoys a 10 point higher gross margin on digital sales versus wholesale, and management plans to boost digital margins further by placing inventory closer to consumers to lower fulfillment cost, as well as leveraging customer data to personalize product offerings and enable higher sales prices.
Nike's gross profit margin jumped from 37.3% to 44.8% quarter over quarter as it adapts to a more digital business model. But the company's gross margin is still down around 90 basis points against the prior year period because of markdowns and other challenges related to lower retail traffic.
Nike is reducing its operating margins by slashing advertising expense (focusing on a lower number of more impactful campaigns) as well as layoffs to eliminate redundancies in the workforce. The company's demand creation expense (advertising) fell 33% to $677 million, and its selling and administrative expense fell 11% to $2.97 billion in the first quarter. Operating expenses could fall further in the coming periods as the employee terminations begin in October.
It's not too late to hop on board
Nike's has turned the coronavirus crisis into an opportunity, and the market is taking note. The stock is up 24% year to date, and it boasts a PE multiple of 66 -- which significantly higher than the S&P 500's average of 29. But I think Nike stock is still a great buy, despite its lofty valuation, because it looks positioned to generate better-than-average bottomline growth through its transition to a more digital business model.
