On Holding (ONON 2.66%) has taken investors on a wild ride since its IPO. The Swiss footwear and sportswear maker went public at $24 in September 2021, and its shares soared to an all-time high of $51.45 just two months later.
But over the following two years, On's stock lost nearly 50% of its value as rising rates and other macro headwinds crushed the market's pricier growth stocks.
Let's see why that sell-off might represent a buying opportunity for patient investors.
Image source: Getty Images.
How did On carve out its high-growth niche?
On was founded by Olivier Bernhard, a former Swiss Ironman champion and Nike athlete, in 2010. After studying the flexibility of garden hoses, Bernhard developed a proprietary cushioning technology called CloudTec, which creates moving "cloud" cushions under a runner's feet. These cushions expand when a foot is in the air, but lock together when a foot hits the ground to create a firmer foundation for the next step.
Bernhard initially presented a CloudTec prototype to Nike, but the footwear giant rejected the design. But instead of abandoning the idea, Bernhard partnered with David Allemann and Caspar Coppetti to start On. The company patented its CloudTec technology and launched its high-performance Cloudracer shoe in 2012.
On subsequently gained a lot of attention after Nicola Spirig, one of Switzerland's most famous triathletes, started wearing and promoting its Cloudracer shoes. On gained more traction after Swiss tennis legend Roger Federer became a major shareholder in the company and backed the launch of "The Roger" shoe in 2020. Today On is the largest footwear brand in Switzerland, and holds a mid-single digit share of the crowded U.S. footwear market. It also expanded into China in 2018.
How fast is On growing?
In 2022, On generated 60% of its revenue in North America, 29% in Europe, and 7% in the Asia Pacific. All three regions grew rapidly in spite of the pandemic, the Ukraine war, and other challenging macro, currency, and geopolitical headwinds.
|
Metric |
2020 |
2021 |
2022 |
|---|---|---|---|
|
North America Sales Growth |
86% |
39% |
80% |
|
Europe Sales Growth |
46% |
97% |
36% |
|
Asia-Pacific Sales Growth |
29% |
86% |
88% |
|
Total Sales Growth |
59% |
70% |
69% |
Data source: On Holding. YOY = Year-over-year.
On's revenue rose 57% year over year in the first nine months of 2023, and it expects 46% growth to 1.79 billion Swiss francs ($2.1 billion) for the full year. By comparison, analysts expect Nike's revenue to rise 2% in fiscal 2024 (which ends in May 2024).
On's superior growth can be attributed to three main tailwinds. First, it's still a small brand with plenty of room to grow. A recent UBS sportswear survey found that the public's awareness of On was rising as it expanded into more markets. UBS believes the company can maintain an astounding compound annual growth rate (CAGR) of 45% over the next five years.
Second, On is expanding its direct-to-consumer (DTC) channel to boost margins and reduce dependence on wholesale retailers, which are more exposed to macro headwinds and supply chain disruptions. Its DTC sales rose at a CAGR of 66% from 2020 to 2022. Its DTC sales grew another 57% year over year in the first nine months of 2023 and accounted for 35% of its top line.
Lastly, On targets high-end consumers, who are more resistant to economic downturns. The company justifies its premium price tag (about $130 for its Cloudracer) with its CloudTec cushions, which set it apart from its competitors. It also doesn't dilute that brand appeal with big promotions and discounts.
How profitable is On?
On was unprofitable at the time of its IPO, but it finally generated a full-year net profit of 57.7 million Swiss francs ($67.6 million) in 2022. In the first nine months of 2023 the company generated a net profit of 106.3 million Swiss francs ($124.5 million). Analysts expect On to post a net profit of 132 million Swiss francs ($154.6 million) for the full year.
On attributes the soaring profits to the growth of its DTC business, its "premium positioning," and its focus on full-price sales instead of margin-crushing markdowns. The company expects to achieve a gross margin of "at least" 59% for the full year, up from 56% in 2022. That puts it far ahead of Nike, which ended the latest quarter with a gross margin of less than 45% as it struggled with soft sales, larger markdowns, and supply chain disruptions.
Analysts expect On's net income to rise at a CAGR of 99% from 2023 to 2025. That's a stunning growth rate for a stock that trades at 40 times next year's earnings.
This pullback is a buying opportunity
All of these strengths make On look like a great investment at $28 per share. The company has carved a defensible niche among higher-end shoppers, it's growing like a weed, and it's undervalued relative to its growth.
On's stock might remain under pressure as Nike, Adidas, and other industry bellwethers struggle in this choppy market, but the bulls should rush back once it proves that it doesn't belong in the same basket as those aging leaders.
