Back in mid-2015, Adidas (ADDYY -5.31%) launched a five-year turnaround plan that called for faster production and rotation of its products, expanding its direct-to-consumer channels, and deeper engagement campaigns with its customers, retailers, and partners.
Those efforts paid off: Adidas' annual revenue rose 40% between 2015 and 2019, its gross margin expanded from 48.3% to 52%, and its operating margin rose from 6.5% to 11.3%. Adidas' stock has rallied roughly 260% over the past five years, easily outperforming its rivals Nike (NKE -12.81%) and Under Armour (UA -8.31%) (UAA -9.77%).
However, past performance never guarantees future gains, so let's take a fresh look at Adidas to see if it can continue generating robust returns over the next five years.
How did Adidas outperform Nike and Under Armour?
Nike and UA rely heavily on endorsements from professional athletes, but Adidas enlisted popular celebrities like Kanye West, who created its best-selling Yeezy shoes; Beyoncé, who developed a new line of signature footwear and apparel while relaunching her own Ivy Park brand; and Kylie Jenner, who promoted Adidas' Falcon sneakers.
Adidas foam-based "Boost Technology" soles also resonated with runners, and prompted Nike and UA to launch similar products. In short, Adidas developed new products faster, secured more creative partnerships, and locked in younger shoppers.
In Piper Jaffray's latest "Taking Stock with Teens" survey, Adidas was the third most popular footwear brand for teens behind Nike and VF Corp's Vans. Under Armour didn't even crack the top five. Much of Adidas' growth in North America, where it generated 8% constant currency sales growth last quarter, seemingly came at the expense of Under Armour, which posted a 2% sales decline in the region last year.
Adidas also adopted similar strategies in China, enlisting Chinese celebrities and launching bold new collections inspired by Chinese culture. Those aggressive localization efforts generated a 15% jump in its Chinese revenue last year.
Short-term pain, long-term gains
Adidas expects 2020 to be a "very painful year" as the COVID-19 crisis shuts down its retail stores and disrupts its supply chains. It expects to offset some of that pain with the growth of its e-commerce business, which generated 35% annual sales growth in the first quarter as shoppers pivoted from its brick-and-mortar channels to online ones.
Yet Adidas' revenue still fell 19% annually during the first quarter, and it anticipates another 40% drop in the second quarter. Adidas didn't provide clear guidance for the full year, but analysts expect its revenue and earnings to decline 17% and 74%, respectively, followed by stronger growth in 2021.
We should take those long-term forecasts with a grain of salt, since the COVID-19 crisis remains unresolved and the economic fallout could significantly curb spending on discretionary goods. A supply glut in athletic shoes and apparel could also result in steep markdowns at its first-party stores and desperate clearance sales by other brick-and-mortar retailers.
In short, 2020 and 2021 will likely be challenging years for Adidas. During last quarter's conference call, CEO Kasper Rorsted declared the underlying trends in the sportswear market remained "equally good or even better in the medium term," but warned it needed to stabilize its business and "get to the medium term" first.
Rorsted said Adidas would make the "right decisions" when it comes to its expenses, but it wouldn't leave certain "attractive" markets behind and "be jeopardized or be punished for that in the next five years to come." Rorsted didn't elaborate further, but he was likely referring to the athleisure market, which Under Armour is notably avoiding, and its celebrity-backed and localized designs.
So where will Adidas be in five years?
Adidas hasn't unveiled a fresh five-year plan to succeed its current one yet, but it will likely focus on stabilizing its business in the aftermath of COVID-19, maintaining the pressure on Nike, UA, and other rivals as it controls its spending, and continuing the innovative strategies that have boosted its revenue and margins over the past five years.
Adidas probably won't replicate its gains from the past five years, due to the much tougher macro headwinds, but the stock should gradually rise over the next five years as it defends its growing niche against its industry peers.