Nike (NKE 0.04%) shares popped following its strong fiscal first quarter earnings report last week . One of the highlights was a return to growth in footwear sales, after sales declined in the previous quarter. Even with stores reopening, customers continued to shop Nike's e-commerce channel, which lifted sales of classic sneaker styles. 

As for the stock, it trades at a forward P/E of 44, which looks expensive. Nonetheless, the valuation might be justified depending on how much extra profit margin management can squeeze out of e-commerce sales going forward.

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Digital sales are very profitable for Nike

The quarter was solid overall, given that Nike was operating below full strength with only a majority of its stores open. Nike should also see improving margins from further growth in digital sales, where the company generates 10 points of higher gross margin than sales through the wholesale channel.

Digital sales sharply accelerated once shelter-in-place began in March, and it hasn't let up. Digital sales increased 82% year over year last quarter, which is slightly faster than the previous quarter's 75% growth. 

"The accelerated consumer shift toward digital is here to stay," CEO John Donahoe said during the fiscal first-quarter conference call. Nike's digital sales made up over 30% of the business last quarter. While the proportion of digital sales may dip as physical stores get back to full speed, the e-commerce channel will become increasingly important to Nike's future. Management sees digital sales reaching 50% penetration of the business over the long term. 

Nike was targeting a midteens annualized growth rate in earnings before the pandemic, but it may grow profits faster in a post-COVID-19 world, based on Donahoe's statement about the permanent shift toward e-commerce and the higher gross margin those sales bring.  

Nike is backing it up with action. It's investing to expand fulfillment capacity and build predictive modeling tools to better anticipate demand. It's also continuing to push member personalization using data, as more customers at checkout self-identify as Nike members. 

Demand for footwear remains resilient

The high valuation is somewhat concerning because Nike is not a fast-growing small player like rival lululemon athletica. Nike is the global leader in athletic apparel, with a massive $37 billion in revenue. Before the pandemic, its revenue was growing around 7.5% annually since 2013, which is not enough to support a high valuation. 

However, the company's profits have been growing faster than revenue, with net income up 32% year over year in the quarter ended in November last year. This trend continued in the most recent quarter, with total revenue down 1% but net income up 11%. Sneakers are in high demand, and with Nike's demand creation expense dropping by 33% last quarter, more profit fell to the bottom line. 

"We tightly managed operating expenses including lower and more effective marketing spend as live sporting events slowly started to resume, while investing to support accelerating digital growth and transformation," CFO Matt Friend said during the conference call.

Friend elaborated on some digital investments they have made recently, stating, "To date, we've done some impressive things to achieve scale, highlighted by our app ecosystem, our RFID investment and our omni-channel distribution centers."

The stock is not expensive relative to growth expectations

Nike is technically a retail stock, but it's becoming just as accurate to refer to it as an e-commerce stock. It's likely due to the momentum in the digital business that analysts are currently forecasting earnings to grow at an annualized rate of 25% over the next five years, which is around the level of earnings growth achieved before the pandemic. 

Nike's future in digital looks very promising, and further growth in e-commerce is a sure path to a higher profit margin. Before the pandemic, management was targeting an annual improvement to gross margin of 50 basis points, on average, per year through fiscal 2023, stemming in part on its initiatives to build direct connections with consumers. Recently, management announced its new Consumer Direct Acceleration strategy to further increase member engagement and personalization. 

Based on the company's momentum in e-commerce and the higher margins it should realize as digital penetration increases, Nike may not be as expensive as its high valuation suggests.