Adidas (OTCQX: ADDYY) continues to outperform Nike (NYSE: NKE) in the key North American market. Nike released its Q2 fiscal 2018 report yesterday, in which it reported subpar results in North America. This is directly attributable to Adidas’s recent strength in the region, which has caused market share losses for Nike and its Jordan brand.
Nike’s continued weakness relative to Adidas in the North American market provides evidence to refute some commentators who have argued that Adidas’s popularity would be short-lived.
I will argue in this article that Adidas remains the best bet in the sportswear industry based on its strong growth and valuation. I’ll also touch on Nike’s recent results, which I believe provide valuable insights into Adidas’s performance.
Nike’s North American Growth
Nike has experienced a steady slowdown in North America, which has long been its largest and most profitable market:
| Fiscal Year |
Revenues |
YoY Growth |
|
Q3 2016 |
$3.7 billion |
13% |
|
Q4 2016 |
$3.7 billion |
0% |
|
Q1 2017 |
$4 billion |
6% |
|
Q2 2017 |
$3.7 billion |
3% |
|
Q3 2017 |
$3.8 billion |
3% |
|
Q4 2017 |
$3.8 billion |
0% |
|
Q1 2018 |
$3.9 billion |
(3%) |
|
Q2 2018 |
$3.5 billion |
(5%) |
Compare this to the below chart of Adidas’s North American revenues:
| Calendar Year |
Revenues |
YoY Growth |
|
Q1 2016 |
$862 million |
22% |
|
Q2 2016 |
$934 million |
26% |
|
Q3 2016 |
$1.1 billion |
26% |
|
Q4 2016 |
$1.15 billion |
29% |
|
Q1 2017 |
$1.17 billion |
31% |
|
Q2 2017 |
$1.2 billion |
26% |
|
Q3 2017 |
$1.3 billion |
23% |
Adidas has outperformed Nike as of late for several reasons: one, we are currently in a stage where customers are actively seeking out casual, fashion-oriented apparel and footwear.
This is why Adidas and Lululemon (NYSE: LULU) have done well over the past couple years, whereas Nike and Under Armour (NYSE: UAA) have struggled. Nike and Under Armour products are perceived more as performance gym-wear, which is not “in” right now.
Adidas has also bolstered marketing and product development efforts in the United States, increasing hiring at its North American headquarters in Portland. Nike has done the opposite, cutting its global workforce by 2% and laying off workers at its own headquarters.
I believe that Adidas and Nike’s results are strongly inversely correlated, for the following reasons: the North American sportswear market is the largest and most mature in the world.
Secondly, if more people are buying Adidas shoes, then less people must be purchasing Nike products. This doesn’t necessarily hold in a country such as China, whose sportswear market is large enough and growing rapidly to the point where both Adidas and Nike can achieve gains.
As such, shareholders of both companies must closely monitor the results of both firms to forecast future growth trends and gauge competitive dynamics. I have heard the argument made on numerous occasions that sportswear companies are difficult to invest in because one cannot perfectly forecast the future and fashion trends are constantly changing.
However, I would argue that sportswear is a good sector to invest in for precisely these reasons. One can assess the current performance of any given retail or athletic apparel company by visiting local athletic retailers and speaking to customers and managers, and through several other methods (which I’ve discussed at length in prior articles). Keeping a finger on current trends can lead to outsized gains if investors remain vigilant.
International Growth
Adidas has been able to maintain international growth in most regions; China and North America are its fastest growing regions:
(Source: Data taken from Adidas’s Q3 2017 earnings report)
North America and China are also Adidas’s second and third-largest regions in terms of sales and as such, growth in these two areas are critical to the long-term trajectory of the company.
As you can see from the above chart, Russia and the CIS (Commonwealth Independent States) were the only geographic regions in which sales did not increase by double-digits, demonstrating that Adidas has done an impressive job of improving its business worldwide.
Overcoming The Retro Slump
The next couple of earnings reports for Adidas will be critical because sales of its popular Stan Smith and Superstar franchises are finally slowing, as per Foot Locker (NYSE: FL) management on its Q3 2017 earnings call.
The Superstar was the best-selling shoe of 2016 and one of the reasons why Adidas was able to get back on its feet. Adidas, to its credit, has done a good job of branching out and creating new products: the NMD, Ultra Boost, Alphabounce, and Tubular shoes are all efforts by the company to diversify outside of its popular retro shoes.
Adidas’s growth has continued lately, indicating that the company has managed to successfully weather the slump in retros. However, investors must carefully monitor how well its new lines of sneakers perform as these represent the future of the company.
While some believe that Adidas’s renewed popularity in North America is temporary, I believe the company has made structural and innovation-related improvements in its business that position it well for long-term growth. Sales in North America have increased by over 20% for the past seven consecutive quarters, refuting the idea that Adidas’s resurgence has been a temporary fad.
Valuation
Adidas currently trades at 30x earnings and 1.7x sales, which are reasonable multiples given its rapid growth as of late.
(Source: Data taken from companies’ respective SEC and IFRS filings)
Adidas’s market cap is $60B less than that of Nike despite making only $10 billion less per year, a difference than can be attributed primarily to Nike’s superior profitability.
The two companies’ business models are fairly similar and I expect this difference in profitability to narrow as Adidas continues to make up ground in the all-important North American market. Adidas has grown sales in the low-mid teens for the past couple of years, whereas Nike has grown in the low single-digits.
It is growing sales faster than any of its competitors, despite its relatively large size. Net sales grew by 15.6% and operating income increased by 24.8% for the first nine months of 2017, an impressive number given that yearly revenues are already $24 billion.
Operating margins and overall profitability should continue to expand as the company is enjoying significant operating leverage as sales in North America and China continue to expand rapidly. Growth should slow somewhat, but I expect growth in the low-teens to continue for the foreseeable future.
Conclusion
I have been bullish on Adidas for quite a while now, and I still believe that the company represents the best bet in the sportswear industry. Investing in the sportswear industry is a challenge due to the fickle nature of fashion and consumer preferences, and as such I will continue to keep readers updated via articles on this site.
I will also monitor the effects of the tax reform on Nike and Adidas, as Trump’s protectionist leanings may have negative consequences for Adidas, which is based in Germany. Please feel free to reach out with any questions or disagreements either via the comments section below or through email (my email address can be found in my Seeking Alpha bio). Thanks for reading and happy holidays!
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