Athleisure, a term used to describe athletic-inspired leisure apparel, has been a source of strength for retailers in recent quarters and has found a solid niche in the heart of consumers. Athletic-casual wear has become a popular style choice and continues to be more accepted in a wide variety of social situations. The footwear market is following a similar trend.
The dominant player in athletic footwear in the US is Nike (NKE); there are no ifs, ands, or buts about it. The Nike Free franchise–that’s only one of its running shoe franchises–recently eclipsed the $1 billion annual sales rate, which makes it bigger than 7 of the 10 largest shoe brands in the US. With well over $18 billion in sales in fiscal 2015, Nike is still not satisfied and remains on the hunt for new growth opportunities, ways it can improve efficiency, and then use those efficiencies to further expand its business. To its significant credit, the company has dominated an extremely competitive marketplace–much like the athletes who endorse its products–and its brand recognition is a large reason why.
Other companies have gained traction in competing with Nike, the hottest being Under Armour (UA), though none are remotely close to touching Nike. As of the third quarter of 2015, Under Armour had recorded 22 consecutive quarters of revenue growth greater than 20%. Though less than 20% of its sales come from footwear, the segment is its fastest-growing by a significant margin, and the scale the company is developing will be the key factor if it is to ever become a true peer of Nike. Adidas (ADDYY) is still a major player in the global athletic apparel market, but it has lost some market share in US athletic footwear, partially due to the rapid rise of Under Armour.
Under Armour has a clear opportunity for expansion given its size compared to Nike, but Nike has some growth opportunities that are similarly compelling. The athletic footwear market in the US is expected to lead the overall footwear market in growth in accordance with the athleisure movement taking place, and it outpaced the overall footwear market with 9% current value growth in 2014 compared to 2% growth in current value for the total footwear market, of which Nike has nearly 20% value share.
A major portion of the athleisure movement moving forward will take place in women’s and kids’ sales. Total children’s footwear advanced 11% in value in the US in the last five years, and is expected to be a leader of the charge moving forward. Retailers such as Foot Locker (FL) and Finish Line (FINL) have reported this trend as a high-growth area, and they view it as a continued source of upside in coming years.
Nike’s growth plans also include taking advantage of lagging options in athletic-inspired footwear for women and children. Specifically, the firm points to its Jordan brand of basketball and basketball-inspired shoes as a source of growth. According to Nike management, “Michael Jordan’s legend transcends sport and culture across gender, age and geographies. He is by all definitions, a living icon.” Not many companies have this kind of star power in their corner, and it is particularly important in an industry such as retail, where consumer perception is everything.
For perspective on how strong the brand has become, the firm recently opened a multi-level store in downtown Chicago dedicated entirely to the Jordan brand. The brand has become as strong as it is while only focusing on men’s shoes that are directly related to basketball. Management indicated that it plans to aggressively expand the brand’s reach to other sports and women’s and children’s styles as well.
Another one of the company’s brands has significant upside potential. The Converse brand is currently known solely for its classic Chuck Taylor All-Star shoes, but Nike’s management also has expressed that it has plans similar to that of the Jordan brand to diversify the brand’s offerings and expand its global footprint. Nike plans to double the size of the Converse brand by 2020; the potential that lies in leveraging Nike’s scale with these two brands is tremendous.
Significant growth opportunities are prevalent for both Nike and Under Armour, though Nike is currently better positioned to take advantage. Nike’s growth in Asia, particularly China, and Western Europe has been impressive. In fiscal 2015, Nike’s footwear sales in China grew 28% on a constant currency basis from fiscal 2014, and the same division advanced sales 25% in constant currency in Western Europe. Under Armour continues to invest in growth opportunities across the globe, and it is paying off. International revenue in the third quarter of 2015 accounted for 11% of total revenue and increased 50%+ from the year-ago period. Western Europe is expected to be a source of growth for athletic footwear in the coming years.
On the domestic front, US-based retailers Finish Line and Foot Locker have essentially hitched themselves to the Nike hype train and have become derivative plays of sorts of the sports apparel behemoth. Both companies reported more than 70% of their total merchandise being purchased from Nike, an incredibly high number, but this again speaks to the popularity of the Nike brands and franchises among consumers in the US. However, both retailers are largely dependent on a variety of other factors, such as mall traffic, to drive sales, so their performance should not be taken as a perfect lens into Nike’s numbers.
In 2014, footwear accounted for nearly 80% of Foot Locker’s total sales. The firm has established its primary strategic goal outside of its core operations as the growth of its kids’ footwear and apparel sales, while its primary geographic expansion target will be continued growth in Europe. International sales made up just over 30% of the company’s sales in fiscal 2015. Foot Locker already has material operations in Germany, Italy, and France in Europe, as well as Canada, New Zealand, and Australia.
These strategies will be the key drivers behind Foot Locker’s goal of achieving $10 billion in annual sales by 2020, up from 2014 reported sales of $7.2 billion, as will its efficiency initiative of increasing sales-per-gross-square-foot to $600, up from 2014 levels of $490 in sales per gross square foot. Foot Locker also operates a number of other retail brands including mall-based retailer Champs and direct-to-consumer Eastbay.
Finish Line has a much less significant global footprint than Foot Locker. In fact, as of fiscal 2015, ended February 28, the firm did not have any operations outside of the US and Puerto Rico. The company is slightly more levered to footwear sales than Foot Locker, which made up 88% of Finish Line’s total sales in fiscal 2015 and grew by nearly 9%. Finish Line remains focused on the high growth areas of women’s and kids’ footwear, as well as continuing to improve its digital business.
Finish Line also has an agreement with Macy’s (M) in which it operates a store-within-a-store format. As of early April 2015, Finish Line operated 395 of such stores, and the firm is now turning its attention to a select group of 75-100 of these locations that it believes have the greatest potential to be game changers. As of the end of fiscal 2015, Finish Line was operating a total of over 700 Finish Line and Running Specialty stores.
A limited geographic footprint could impede success at Finish Line and may be a potential weakness for Foot Locker as well. For example, the direct-to-consumer businesses of Under Armour and Nike are gaining significant traction and could spell trouble for retailers. Online shopping is becoming the new norm, and even as we are hesitant to say that shoe shopping will eventually join the movement in a transformative way, the momentum in Nike’s e-commerce operations is material. Nike’s e-commerce sales grew 55% in fiscal 2015 to more than $1 billionm, and management expects this figure to grow to $7 billion in 2020. It is reasonable to expect that footwear will make up at least half of this figure, as it currently accounts for ~64% of total revenue. Shoe shopping, in our view, will mostly remain an in-person endeavor, but it’s hard to deny the increased tendency for consumers to place substantial emphasis on style may take precedent over proper fit and comfort in our ever-changing society.
But regardless of whether consumers are comfortable purchasing their shoes online, Nike and Under Armour are growing their own store bases. As of the end of fiscal 2015, ended May 31, Nike had 339 factory or brand stores in the US and 592 international factory or brand stores. These stores, and its e-commerce operations, are higher-margin businesses than its wholesale operations with Finish Line and Foot Locker. This number is significant enough to directly compete with Finish Line if Nike had no wholesale operations and was simply a retailer of its own products. Under Armour’s company-owned store base is not as significant as Nike’s, with 130 factory and brand stores in North America, nine in China, and eight in Latin America.
Under Armour’s direct-to-consumer business accounted for over 30% of its total revenue in 2014, and its North American segment of that business grew 31.5% from 2013. Meanwhile, Nike brand direct-to-consumer sales grew 25% in fiscal 2015 to $6.6 billion. This takes into account global direct-to-consumer and total sales for Nike brand products, where direct-to-consumer sales accounted for 23% of all sales. Though the increasing direct-to-consumer operations of companies such as Nike and Under Armour may not dominate the footwear market, they certainly are becoming a factor. The increased margins that are associated with such businesses are certainly attractive to producers, especially at the scale of Nike. The increasing desire for consumers to get their shopping done from the convenience of their own homes is making its way to the footwear market, no matter how resistant we may think it is to such a trend.
Foot Locker reported strong results in the third quarter of 2015, particularly in comparable sales growth, which brought material hope for the sporting goods stores and mall-based retailers. However, Finish Line’s deal with Macy’s may not be turning out to be all that it had desired, as was evident in its need to shift its focus to a smaller portion of the stores to improve the operations. All things considered, Nike and Under Armour are extremely strong companies, and we cannot deny the fact that both are likely to continue to grow and spread their reach. However, neither company is trading at an attractive price. Foot Locker does not offer a material value opportunity either, and while we believe Finish Line appears to be the best value of the bunch, we do not necessarily feel comfortable hitching our wagon to a mall-based retailer.
In this group, the shoe just doesn’t fit. But it might in the future.