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Nike earnings: ‘There’s something going on in China,’ analyst says

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Camilo Lyon, BTIG managing director & analyst, joins Yahoo Finance’s Julie Hyman and Brian Sozzi to discuss the declining sales in China and the athletic apparel giant’s global supply chain.

Video transcript

JULIE HYMAN: We are also watching shares of Nike today, and those shares have been trading higher after the company reported North American sales rose last quarter. Gross margin expanding as well. There's one fly in the ointment, and let's talk about that with our next guest.

Camilo Lyon is BTIG managing director and analyst. He covers Nike. And, Camilo, good morning. You're focusing, as are many folks, on the decline in sales-- the continuing decline in sales in China, another 20% drop there. How persistent do you think that's going to be, and do you think that the market is wrong to sort of overlook that drop?

CAMILO LYON: Good to be with you, Julie. Thanks for having me. Well, you know, the decline in China is certainly alarming for a couple of reasons. Number one, it was far steeper than what we had anticipated, negative 24% decline on a constant currency basis. We were thinking down 13. That's worse than its peers, Adidas and Vans from VF. So, clearly, there's something going on in China. The company talked about supply constraints really limiting the fact that they could meet that demand.

However, we through our work have found that there has been pretty good evidence of really hot releases and launch product that Nike sells out typically in minutes sitting idle on shelves in China. Now, whether that's a function of a more nationalistic stance that consumers are taking in China to favor domestic brands, like Anta and Li Ning, or is that a function more of the COVID restrictions that keep coming into play around any flare ups? You know, there's a little bit of a troubling sort of trend there that we're watching.

The inventory situation should steadily improve, and Nike guided to a sequential improvement. But we note that they did stop short of saying when the market would return to growth. We don't think that that's a market that returns to growth before this fiscal year ends. So we're looking at the summer time frame, probably fiscal Q1, before we see that market return to growth, which-- it's an important market from not only a growth opportunity perspective, but from an EBIT margin contribution perspective.

BRIAN SOZZI: And, Camilo, just staying on China, if the consumers in China are focusing more on those domestic brands, I mean, does that mean Nike's best days in China are behind it?

CAMILO LYON: No, I don't think that's the case necessarily. Nike has an unbelievable ability to recapture any sort of lost demand, and I think that they have an opportunity to do that. They certainly have the balance sheet to invest behind that. And interestingly, in the quarter, I just reported, they talked about having invested-- have an increased investment in China by 40% on the demand creation marketing side.

So that tells you that that market really needs more of an investment to regain the momentum that it has seen for the brand, and I think that they're positioned to do so. But I just don't see that happening any time soon, which from my perspective, likely keeps a stock in a range-bound trading position.

JULIE HYMAN: Now, so that's the demand side of the equation, which is quite interesting that you flagged that. I do want to talk a little bit more about the supply side of the equation. And as you point out in your note, the company is back up to about 80% of capacity in its factories in Southeast Asia. But as Brian and I were talking about earlier in the show, I have to wonder if this latest COVID wave-- you know, we are seeing how it's tearing across the US-- if that's not going to cause some more hiccups for production in Vietnam.

CAMILO LYON: It certainly could. It could absolutely continue to stymie the progress that the global supply chain is trying to make to alleviate the pressures throughout that supply chain, not only from the manufacturing side, but also from the ports, and the trucks, and the deliveries, and really throughout the chain. Right now, we haven't seen any impact that's noteworthy from our supply chain checks in Southeast Asia, but that's certainly not to suggest that it won't happen.

You know, when we're talking about the ramp up of production in Vietnam, the comments that Nike made last night are incredibly consistent with the comments that we had made back in September when we downgraded the stock, not only from the pairs of lost due to the shutdown production, but also the ramp-up period.

So if we think about when these factors can start to turn on at a full-capacity perspective, that likely doesn't happen until February or March, after the Lunar New Year in Vietnam when the workers return to the factories in full force. So that really coincides with a summer time frame before we can start to see inventories normalize across the globe. So again, that is assuming that there aren't any further COVID-related slowdowns or shutdowns that could prolong that sort of supply ramp up.

BRIAN SOZZI: And, Camilo, we recently caught up with the folks over at-- excuse me-- over at Allbirds, a brand very focused on sustainability. In a few minutes from now, we'll talk to the team over at On Holdings, another brand focused on sustainability. Is Nike behind the curve on these efforts? Because, clearly, it's an increasingly important issue with shoppers.

CAMILO LYON: I don't think they're behind the curve. Remember, this is a global behemoth. So, you know, the scale perspective on what they're doing from a manufacturing side and the sustainability side will take some time to represent an overwhelming part of their production mix. That said, the company has done really well to incorporate and create products and shoes that are made from recycled goods and more sustainable materials.

I think sustainability throughout the process of their production, the production process, is something that they're keenly focused on. But again, when we're talking Nike, this is a battleship, and battleships take some time to turn. Allbirds comes at this from a much smaller base of shoes and pairs that we're talking about. So, you know, they have an advantage not only because of their size, but also because that's where the company was really born out of.

But Nike is definitely making strides to improve processes throughout their supply chain not only from the materials used, but also from the production-- from the production methods incorporated into the factories and the recycled use of waste products to pump that back into more units produced.

JULIE HYMAN: A speedboat versus a battleship perhaps if we're talking about the navigability--

CAMILO LYON: Very.

JULIE HYMAN: --of each of those. Camilo, thanks so much. Good to catch up with you. Camilo Lyon is BTIG managing director and analyst, talking to us about Nike and the shoe business.

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