Is Nike Rebounding in China?

After employing a "reset" strategy Nike is starting to show signs of life in Greater China, but its future orders have some investors concerned. What lays ahead for Nike?

Apr 30, 2014 at 9:00AM

After its China sales declined for three consecutive quarters (the third quarter of 2013 through the first quarter of 2014), Nike (NYSE:NKE) began to turn things around in the second quarter of 2014. The growth continued in the third quarter, although future orders declined 1%, which left some doubt about whether or not Nike had really regained its footing.

China

Breaking China down
Sales in Greater China, which also includes Taiwan, Hong Kong and Macau, increased to $697 million for a 9% increase over the third quarter of 2013 (and a 10.8% increase from the second quarter of 2014). During the third quarter, footwear led the way, growing 14% over the third-quarter 2013 number (30% from the second quarter of 2014). Apparel stayed flat in comparison with the third-quarter 2013 figure (-19% from the second quarter of 2014), while equipment dropped 3% from the third quarter of 2013 (+19% from the second quarter of 2014).

If you compare the first three quarters of 2014 to the first three quarters of 2013, footwear increased 7% (and 5% excluding currency changes), apparel gained 5% (and 3% excluding currency changes), and equipment fell -8% (and -11% currency-neutral).

The bottom line: Nike's footwear sales have been steadily working their way up, but apparel and equipment still have a ways to go. Fortunately for Nike, footwear makes up 67% of its China sales. As another bright spot, Nike's own retail stores in Greater China have increased their same-store sales by at least 20% in each of the past two quarters.

China as percentage of Nike's total sales
The China division accounts for 10.6% of the Nike brand's overall revenue (excluding Converse brand sales and Corporate revenues). By comparison, the leading North America division generates 46.8% of Nike's revenue and Western Europe produces 19.7%. Sales in emerging markets, including Brazil, comprise 14.2% of Nike sales.

Nike generates over 50% of its revenue beyond North America, a sharp contrast with upstart Under Armour (NYSE:UA), which brings in less than 8% of its $2.3 billion revenue from international markets. Nike's main competitor Adidas (NASDAQOTH:ADDYY) generates 12% of its net sales in the Greater China market; the company reported revenue of $1.66 billion euros for a 7% increase over its 2012 sales (currency-neutral).

Nike has room to grow
According to a recent report by Research and Markets, the Chinese footwear athletic market is projected to grow at a 9.5% compound annual growth rate, or CAGR, until 2018. China already has the largest athletic footwear market in the world due to its large population and the rising incomes in the country over the last five years. However, international sellers like Nike and Adidas account for only 20% of revenue in the highly competitive marketplace. Nike (including the Nike, Jordan and Converse brands) has about a 60% share of that 20% -- or 12% of the total China market.

This means that the footwear leader has plenty of room to grow. Beyond Adidas, most of the competition comes from China-based companies, including Li Ning Company, ANTA Sports Products and 361 Degrees International. Plus, both Adidas and upstart Under Armour have launched recent initiatives in China around high-concept retail stores, which could put further pressure on Nike sales.

Concerns about the immediate future
Two primary concerns spooked investors, which caused the recent price drop for Nike. First, Nike warned about near-term earnings declining due to currency headwinds and a drop in future orders in Greater China. Future orders dropped 3% from the same quarter of 2013. This followed a 4% increase for future orders during the second quarter.

A Fool's summary
So far the jury is still out on whether or not Nike's "reset" strategy in China has succeeded. Positive indicators have definitely appeared -- like increasing footwear revenues and growing same-store sales that point in that direction -- but for the sportswear giant to gain back some investor confidence, it needs to sustain this progress over more than a few quarters. 

If the earnings and currency warnings do come to fruition, look for the stock to trade down or in a narrow range for the next few quarters, as short-term holders bail out based on any bad news. However, long-term holders who stay put should see rewards as Nike's fundamentals remain strong -- and it has proven in the past that it can weather short-term challenges like currency headwinds and figure out challenging marketplaces.

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Chris Brantley has no position in any stocks mentioned. The Motley Fool recommends Nike and Under Armour. The Motley Fool owns shares of Nike and Under Armour. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.

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