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Nike's Sound Quarter Despite Miss

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Nike Inc. (NKE - Free Report) posted strong fiscal 2011 third-quarter earnings of $1.08 per share, up 7% from the year-ago earnings of $1.01 per share. However, earnings for the quarter compared unfavorably with the Zacks Consensus Estimate of $1.12 per share.

Quarterly Details

Despite macroeconomic headwinds, Nike’s total revenue grew 7% to $5,079 million from $4,733 million in the prior-year quarter. The company continued to benefit from its strategy of consistently focusing on innovative products that provide a competitive edge over its rivals. Revenue for the quarter fell short of the Zacks Consensus Estimate of $5,168 million.

Revenues for the NIKE Brand grew 8%. Excluding currency impact, NIKE Brand revenues rose 9% led by growth in all seven NIKE Brand key categories and geographic regions except Japan.

Nike’s quarterly gross profit increased 5% year over year to $2,327 million, while gross margin contracted 110 basis points to 45.8%.  The decline was primarily attributable to higher product and freight cost, which was partially offset by favorable profitability from Direct to Consumer operations, positive foreign currency impact and benefits from cost reduction initiatives.

Selling and administrative expenses for the quarter grew 5.0% to $1,637 million from $1,563 million in the year-earlier period. Operating income for the quarter grew 7% to $707 million from $663 million in the year-ago period. Operating margin came in at 13.9% compared with 14.0% in the year-ago period.

Global inventories were up 18% year over year to $2,536 million, mainly to meet strong demand and counter tough comparison.  Nike ended the quarter with cash and cash equivalents of $2,132 million compared with a cash balance of $2,225 million in the year-ago period. During the quarter, the company repurchased 5.5 million shares for about $468 million as part of its 4-year, $5 billion program approved in September 2008.

Future Orders

Nike reported an 11% year-over-year increase in future orders scheduled for delivery from March 2011 through July 2011; the order amount reaching $7.9 billion. Future orders measure customer orders scheduled for delivery in the coming season and are a widely used metric to gauge the performance of retailers.

Our Recommendation

Given Nike’s dominance in the athletic industry and its solid fundamentals, we believe that the company has the ability to drive growth consistently. The company’s long-term strategy of aggressive emerging market expansion and focus on direct-to-consumer business as well as other brands add to our positive sentiment.

The unique amalgamation of solid balance sheet strength, free cash flow generation capability and an efficient managerial team will enhance Nike’s top-line performance in the coming quarter.

Nike’s exposure to international markets however makes the firm susceptible to currency fluctuations. The strong U.S. dollar may adversely affect the top- and bottom-line results. The weakening of foreign currencies against the U.S. dollar may require the company to either raise prices or contract profit margins in locations outside of the U.S. An increase in product price may have a direct impact on consumer demand. 

Nike’s business remains highly competitive in both domestic and international markets running up against local as well as established players like Deckers Outdoor Corp. (DECK - Free Report) ), Adidas AG (including Reebok) and Puma.

We maintain our long-term “Neutral” recommendation on Nike. The quantitative Zacks #2 Rank (short-term Buy rating) for the company indicates upward directional pressure on the stock over the near term.

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