Is Now the Right Time to Buy Nike Stock?

Nike's (NKE -1.26%) stock tumbled 13% on Sept. 30 in response to its latest earnings report. In the first quarter of fiscal 2023, which ended on Aug. 31, the athletic footwear and apparel giant's revenue rose 4% year over year (10% in constant currency terms) to $12.7 billion, which beat analysts' estimates by $140 million. Its net income declined 22% to $1.5 billion, or $0.93 per share, but still cleared the consensus forecast by a penny.

Those headline numbers seemed stable, but Nike's declining margins, rising inventories, and gloomy guidance spooked investors. Does that sell-off represent a good long-term buying opportunity for investors who can tune out the near-term noise?

Image source: Nike.

Nike's sales are still rising

Nike's business has remained resilient during previous downturns. Back in fiscal 2020, which ended on May 30 of the calendar year, its revenue declined slightly as it grappled with the initial impact of the COVID-19 pandemic. But its growth accelerated again in fiscal 2021 as those headwinds waned, and its business continued to stabilize throughout fiscal 2022.

The robust growth of Nike Direct, its direct-to-consumer channel that houses its e-commerce platform and brick-and-mortar stores, enabled it to recover quickly while reducing its overall dependence on third-party retailers. Nike Direct continued to grow in the first quarter of fiscal 2023, and its weight on Nike's top line has steadily risen over the past few years.

Data source: Nike. Constant currency basis. YOY = year over year. 

Over the past year, the global growth of Nike Direct also offset its declining sales in China, which had been disrupted by COVID-related shutdowns. That balancing act continued in the first quarter, as Nike's 13% year-over-year decline in constant currency revenue across the Greater China region was offset by its growth in North America, Europe, and other regions.

Nike expects its revenue to rise by the "low double digits" in constant currency terms for the full year, which implies its growth will actually accelerate from fiscal 2022. It expects its reported revenue, which will be throttled by a strong dollar and other currency headwinds, to increase by the "low to mid-single digits" compared to its 5% growth in fiscal 2022.

Mind the rising inventories and declining margins

Nike's top-line growth looks stable, but the company rattled investors with a 44% year-over-year increase in its inventories during the first quarter as its gross margin declined 220 basis points to 44.3%.

Data source: Nike. YOY = year over year. 

Nike attributed its rising inventories to volatile transit times in North America as well as an intentional decision to stock up on inventories for future seasons ahead of schedule. It was further inflated by tough comparisons to its factory closures in Vietnam and Indonesia last year, which had temporarily reduced its inventories.

As for its shrinking gross margins, Nike blamed higher freight and logistics costs, higher markdowns in North America, and unfavorable currency exchange rates. The first two challenges are linked to inflation, which boosts gas prices and curbs discretionary purchases, while the last one won't fade away as long as rising interest rates prop up the strong dollar.

Nike doesn't expect those three headwinds to dissipate anytime soon. It expects its gross margin to sink 350-400 basis points year over year in the third quarter as it aggressively liquidates its excess inventory, and for its gross margin to decline 200-250 basis points for the full year.

Nike's results couldn't support its valuations

Nike's earnings report wasn't disastrous, but its stock was richly valued before its post-earnings plunge. Analysts currently expect Nike's revenue to grow 7% this year as its earnings decline 2%. But at $100 per share, Nike's stock was already valued at 27 times this year's earnings. By comparison, Nike's rival Lululemon (NASDAQ: LULU) -- which is expected to grow both its revenue and earnings by about 27% this year -- trades at 31 times forward earnings.

So when it became clear that Nike wasn't growing as rapidly as Lululemon or other higher-growth retailers, its stock tumbled. But at $80, Nike's stock still can't be considered a screaming bargain at 22 times forward earnings.

Instead, it's still valued as a "safe haven" blue-chip stock like Coca-Cola and P&G -- which both face fewer near-term challenges than Nike. To make matters worse, Nike's bleak outlook for its gross margins could prompt analysts to slash their earnings forecasts for the full year -- which would cause its price-to-earnings ratio to rise.

It's not the right time to buy Nike

Nike's business will be fine over the long term, but its stock could still fall a lot further as the bear market drags on. Investors should either buy stronger growth plays like Lululemon or stick with more stable blue chips instead.