Thinking in bets
01 June 2023
We took a short position on Nike via options a few weeks ago, when the stock was trading at $125 (versus $105 today). Like what we wrote for Hugo Boss, our reasoning is relatively simple. Like many retailers, Nike has built up very large inventories in 2022, which it now needs to sell off.
However, emptying shelves doesn't happen with a snap of the fingers. The easiest way to attract customers is to lower prices. As costs do not fall in the same proportions, the impact on gross margins is direct. With Nike, it has fallen from 46% in 2022 to around 43% in recent quarters. At the same time, inventories have fallen slightly but remain at historically high levels: there's still a long way to go.
We believe that margins should continue to be under pressure, even though sales may slow down (as the Group's CFO admits, "pressure on consumers is increasing"), dragging net income below $5 billion. The rich PE valuation - close to 30x - should at least return to where it has been historically, around 25x: such a scenario would take the share price well below $80.
Of course, there is a positive scenario for Nike, where sales hold up just as well as margins, leading to no drop in valuation. This seems to be the scenario favored by other investors, and has enabled us to buy our options at a lower cost, with a potential payoff of over 10x if our scenario materializes. "Heads I win, tails I don't lose much", as Mohnish Pabraï would say.
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