What Nike Told Investors

In this episode of MarketFoolery, Chris Hill chats with Motley Fool analyst Jason Moser about the latest headlines and earning reports from Wall Street, including the latest earnings report from Nike (NKE -0.74%). They also discuss how, as the Federal Reserve eased restrictions, a big bank announced its big share buyback plan. Finally, they answer a listener's question about a stock that just keeps rocketing this year and much more.

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This video was recorded on Dec. 21, 2020.

Chris Hill: It's Monday, Dec. 21st. Welcome to MarketFoolery. I'm Chris Hill, with me today, Mr. Jason Moser. Good to see you, Sir.

Jason Moser: Happy Dec. 21st!

Hill: Yes, shortest day of the year.

Moser: Just around the corner here, right?

Hill: No, today; today is the shortest day of the year.

Moser: Oh, is it, really? Oh, wow! For some reason I was thinking of the 23rd, but I mean, hey, nevertheless, that's great. Hey, let's get back to some longer days. I'm tired of waking up in, like, the middle of the night, when it's 7:00 in the morning, and you know, sitting there watching TV at 4:30 in the afternoon, and realizing it's pitch-black dark. [laughs]

Hill: [laughs] Today, we've got big banks, we've got a big guest coming up on our Industry Focus podcast, and we're going to start with another big quarter from Nike.

Second quarter profits came in higher than expected, revenue in China up 24%, online sales continue to impress. So, no surprise that shares of Nike are up 5% this morning and hitting a new all-time high.

Moser: Yeah, well, we've been saying it all year regarding strong businesses in trying times like these. And CEO John Donahoe even reiterated it on the call when he said, "These are times when strong brands get stronger." And certainly, Nike is one of those strong brands going into this. I mean, we knew that it was going to be able to pivot and deal with this situation better than most and it's proving out to be the case. As you noted, strong financial performance across the board. Revenues of $11.2 billion, that was up 7% on a currency-neutral basis. Nike Direct sales, this was really impressive, Nike Direct sales were $4.3 billion; that was up 30%. But if you do a little math, then you can see that Direct was actually almost 40% of the company's business.

So, listen, we talk about these companies that are taking more ownership of the brand and the experience, and Nike is doing that, and it's really benefiting. And Nike digital sales up 80% on a currency-neutral basis; that's now three straight quarters of approximately 80% of better digital growth. China, as you mentioned, was the real star of the quarter. They are working on a little bit of an accelerated timeline there in recovering from COVID-19, of course, and so, I think that management is learning a lot from what they've done in China, and they're able to bring that over to North America and to the digital sphere.

North America, flat, not too terribly impressive, but really, given the situation, that's actually pretty good. They've got inventories in check. Gross margin compressed a little bit just due to basic cost regarding the pandemic and some higher promotional activity. But when you look at this quarter in total, just another stellar quarter from what I consider a stellar business.

Hill: I think you're right about North America. I mean, just the fact that it's basically flat, it's like, that's fine. And I think part of it is because of what we just saw out of China, even when you factor in, yeah, Singles' Day was part of the quarter in China, so maybe if Singles' Day doesn't happen, maybe it's only up 22% or something like that, like, I don't know how much Singles' Day moved the needle, I know it helped. But I think that's part of the optimism that we're seeing is the rebound in China and thinking of how that can apply to North America in 2021.

Speaking of which, I don't know if you had a chance to go through the call at all, I'm curious the extent to which Donahoe or anyone on his team said anything about their expected marketing spend in 2021, because if history is any guide, when the Olympics roll around, [laughs] when there are these major global sporting events, businesses like Nike and adidas ramp up their marketing spend.

Moser: They do, they do. And I'm glad you mentioned that, because he did actually mention on the call, they noted that they expect, I like what they call it, [laughs] they call it "demand creation," and that's just a creative, that's just a nice way of saying, hey, listen, we're going to be spending a little bit more money in the near-term in order to get the name and the brand out there and advertise. But that's what they call it on the call. They expect demand creation as a percentage of revenue, it's going to gradually increase here in the coming quarters versus the most recent quarters.

And I think that makes a lot of sense from a number of different angles. I mean, we've got, obviously, a lot of good news in regard to the vaccines. I think that we're going into 2021 with some optimism, some well-deserved and well-grounded optimism. I think the sporting world will continue to accelerate, albeit slowly. I think we're going to continue to see the sporting world come back online in full eventually. We see consumers getting back out to games and out to places where they can watch games. And that gives Nike that opportunity to get that brand back top of mind.

So, yeah, they are going to be spending more, it ultimately leads up to this big Olympics event later in the year, which is essentially the 2020 Olympics just in 2021. And I think they're going to go a little bit bigger this time around; I think that's fair to say. I think all brands probably will. Because they just see this as such an opportunity on so many different fronts. It's the comeback, right? It's not just the comeback for the sporting world, but it's the comeback for the entire world here, [laughs] getting past all this COVID stuff. And so, I think that's money well spent.

They've done a really good job of doing what they say they're going to do in making sure they keep inventory in check, making sure they keep the expenses running this business in check, not spending too much, but spending where it needs to be spent, obviously restructuring the business and supply chains and what not, to cope with what has been a very, very different world here this past year. But that's money well spent. I mean, I look at that, that's kind of like R&D for those tech companies, right? It's money that they have to spend. If they don't spend it, then they get caught flatfooted and someone comes out of the blue and takes over the conversation.

So, to me, this is a company that's very well capitalized. I mean, the balance sheet, cash and equivalents up to $11.8 billion, remember they just issued a big bond issuance here in March. So, they have all of the capital resources they need. The shareholders are still winning; they recently raised the dividend 12%. They continue to buy back shares -- well, I mean, they bought back shares over the past five or so years, they will resume repurchase activity here very shortly. And so, I think investors can look forward to that as well.

Hill: I agree with everything you just said, but can we agree that demand creation is a phrase that the marketing people came up with because they were tired of being picked on for spending money, like, internally, there are people, just like, and they're like, we got to come up with something better than this. It's like, you know, what we're doing, we're creating demand, that's what we do. You guys spend a lot of money, no, we create demand. [laughs]

Moser: [laughs] I agree. I agree totally. And I don't blame them for that, because that first reaction when you tell someone, you're spending... think about it, when you come home and your better half tells you that she just bought some big-ticket item. You're kind of like, oh, God! Can we really afford... you know, it creates stress when you say that you're spending more money. But if you can frame it as such that it's really all for the benefit of the business, then I think investors maybe feel a little bit less stress in regard to that up-spending and recognize it's probably a good, sort of, forest for the trees type of thing.

Hill: You know what, you say that like you yourself have never come home and had to say to her, uh, I just spent a lot of money on this thing. [laughs]

Moser: Well, I definitely have. It is a two-way street; no question about it. [laughs]

Hill: Last Friday the Federal Reserve announced it will allow big banks in the U.S. to resume share buybacks in the first quarter of 2021. And Jamie Dimon and his crew wasted no time whatsoever, [laughs] JPMorgan Chase (JPM 0.15%) announced a $30 billion buyback plan. And shares of JPM are up about 3% this morning. It makes sense to me, because it's been a tough year in terms of -- I mean, we've spent a lot of time talking about a lot of stocks that have doubled, and then some, this year, Jason, and the big banks are not in that group.

Moser: No, they're not. I understand why they are dealing with a very difficult environment here interest rate wise. I mean, anytime banks get stuck in these low interest rate environments, it becomes more difficult for them to eke out that profitability. Of course, these bigger banks have other ways to go about that, right, they do have trading operations and other ways to do that. But in JPMorgan's case, I mean this isn't necessarily a Goldman Sachs, so to speak. So, it is nice to see that they are able to resume this.

I mean, we've talked about these tailwinds for banks in 2021 and some of the different things that could be happening in their favor here. Share buyback is certainly one. If you remember, it was back in March that these buybacks were essentially suspended due to the pandemic. I mean, that was the right decision. It was becoming somewhat clear that there was going to be at least some period of economic hardship there. And you know, we even saw that in the reserves that these banks have been setting aside lately. And just for an example, back in October, on the October earnings call, as of the October earnings call, JPMorgan had around $34 billion held in reserves at that time, that's high, [laughs] that's a lot of money. But I mean, it's for a good reason, right? They are protecting themselves against losses, against bad loans, against delinquencies that it's reasonable to assume those are going to happen.

Now, management on that call, they're looking at this from the perspective, and I think that we'll see delinquencies actually tick up early in 2021, see some of those resulting in charge offs toward the back-half of 2021 as well. But with the recent stimulus package, this sounds like it's going to be passed, obviously, good news in regard to the vaccines, they're starting to see more confidence in the economy actually being able to recover and deliver somewhat reasonable growth assumptions there. So, they're going to slowly, but surely, start releasing those reserves. That number is going to come down. They're going to be able to use, obviously, a lot of their capital to continue buying back shares. $30 billion, that's a decent chunk of change. $30 billion, ultimately in today's share price, that translates to about 250 million shares. And that's about 8% of the shares outstanding.

And then if you look at JPMorgan since 2016, that share count is down around 17%. So, typically, you know, investing in these banks, a big part of the argument is dividends and share buybacks. And that argument really hasn't existed here over the past several months for good reasons, but it sounds like things may be shaping up in 2021 for banks. I could see some tailwinds starting to develop. It's absolutely worth keeping an eye on these guys.

Hill: I also just like the fact that in the statement from JPMorgan Chase, Jamie Dimon refers to the bank's balance sheet as a fortress. We will continue to maintain a fortress balance sheet that allows [laughs] us to safely deploy capital.

Moser: It's like the best words you can use in regard to your balance sheet, like it makes you feel so good knowing that you have a company that has that perspective, that's their perspective is that they want their balance sheet to be a total asset to protect them from any potential problems that may exist. And to my mind, I just think that Jamie Dimon is the best CEO in the banking industry, period. One of the greatest CEOs out there in the market today, I think. And I appreciate his focus, I appreciate his input. I hope to never see him actually pursue politics, I think he's better off as a consultant or something, I think you can serve our political landscape very well through that measure as opposed to like getting into politics. And politics just seemed like a deadend for so many folks, he's just such a bright mind with so many great perspectives on things. And I think shareholders in JPMorgan feel really good about the fact that he's still running the show.

Hill: Our email address is [email protected]. We got an email from Tom Kaufman, he writes, "I've been watching shares of Digital Turbine (APPS -5.21%) rocket for months, could you possibly weigh in on the company? I'm wondering if you think Digital Turbine is a good choice for the long term? Thanks for all you do and Merry Christmas and Happy New Year!"

Right back at you, Tom. Digital Turbine is a company I was not familiar with. This is a $5 billion market cap; it operates essentially an on-device media platform for wireless carriers. They've got a partnership with Samsung. One analyst made the analogy that Digital Turbine is basically Roku for smartphones.

Moser: Yeah. Digital Turbine is not a company that I've ever really dug into, but it's understandable that it's caught investors' attention this year. The stock is up close to 700% this year. And I mean, we've seen it all year long, I feel like at this point my dogs can pick stocks, Chris, because it just seems like they [laughs] all do nothing but go up. But with that said, I think that with Digital Turbine, and in digging into this business a little bit to learn more about it, you know, I'm not going to sit there and say it's something worth owning or something you should take a pass on. I definitely understand the interest level there.

It's a business that ultimately is a software business. It enables mobile operators and original equipment manufacturers to ultimately manage and monetize their devices in regard to app installation. I mean, when you get a new device, these operators are finding ways -- you know, app developers want you to download their apps, and so they're going to pay these operators to figure out ways to do that. So, they pay these operators, these operators pay Digital Turbine. And it's a nice little relationship, but it seems like it's working out fairly well. Digital Turbine's revenues are growing considerably.

Now, with that said, the stock is trading at somewhere around 200X earnings right now. On the one hand, I give it credit for being a profitable business, that's kind of unheard of these days, right, these high-flyers [laughs] are all really good at not making money, but Digital Turbine is actually making money, so that's in their favor. But still, that 200X earnings, you have to at least acknowledge that.

And I think that, for me -- so, part of the question there that Tom asked was in regard to Apple, and Digital Turbine software being pre-installed on iPhones. And I'm not certain of that. I didn't see anything in the news that suggested that was the case; it may or may not be, I'm not sure. But one thing I did find that is worth noting, and this is in the company's 10-K, this is largely an Android story. I mean, this is an Android-based tech provider. So, really, if it comes pre-installed on iPhones, there's absolutely some opportunity there.

Now, Apple is obviously taking a very big stance in regard to privacy and data protection; that's something to keep in mind as well. But this is basically, as it stands today, largely an Android story. And that's good; I mean, Android, globally speaking, is the dominant mobile platform, and it can cross many, many different hardware devices. So, that's good. And then, it's just trying to understand how they make their money, who are their customers. And it's worth noting, again, I found this in the 10-K, they are very tied to some very big customers. And if you just look at some of these numbers here. During the fiscal years ended 2020-2019, Verizon Wireless was responsible for a little over 37%, and almost 46% of the company's revenue. And AT&T was responsible for 30% and 38.7%, respectively, of their net revenue.

So, you can just see that the company is very dependent on some very big customers, there's just no doubt about that, you have to keep that in mind, but with that said, it does have a larger operator ecosystem, so to speak; I think +40 major operators around the world. Mobile advertising is a massive business, it's a massive market opportunity. So, I think it really boils down to the tech that this company offers and how compelling it is, how well it works; it seems like it works pretty well, so could be a business worth digging more into. But it has had a stellar year, so I would just be a little bit careful in regard to the valuation, which strikes me as one of the bigger risks with a business like this today.

Hill: A stock trading at 200X earnings, all I can do is picture Ron Gross just, like, hitting his head against his desk. [laughs]

Moser: [laughs] I mean, I think a lot of people are doing that with a lot of these companies today. It's been a phenomenal year and it seems like 2021 is shaping up to be another good one, but that old Buffett thought it's starting to really resonate and ring louder in my ears, you know, be fearful when others are greedy, and it does feel like that greed is hitting new levels every day. So, it's just worth keeping in mind.

Hill: Real quick before we wrap up. You have a very special guest on Industry Focus later today.

Moser: Yeah, yeah, it's going to be a lot of fun. If you've watched CNBC or you watched Shark Tank then you probably know Mr. Wonderful, Kevin O'Leary. He's going to be joining us today for Industry Focus. Matt and I are going to sit down and chat with him for a little bit, so we're really excited about the interview with Kevin O'Leary. And he's got a new finance app out there that he's going to talk about. And the conversation will extend far beyond that into all sorts of areas of the business and investing world. So, I'm really excited about that.

Make sure to tune in later this afternoon, it'll drop on all podcast platforms, Spotify, Apple, Stitcher, wherever you get your podcasts.

Hill: If you're not already listening to Industry Focus, I mean, this is the episode to jump in on. Jason Moser, thanks for being here.

Moser: Thank you.

Hill: As always, people on the program may have interest in the stocks they talk about, and The Motley Fool may have formal recommendations for or against, so don't buy or sell stocks based solely on what you hear.

That's going to do it for this edition of MarketFoolery. The show is mixed by Dan Boyd, I'm Chris Hill, thanks for listening, we'll see you tomorrow.