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Nike Case: an Investment Paper

Nike Case: an Investment Paper

Nike Case: An Investment Paper Time Context Nike generated $ 2. 45 billion in operating income on revenues of $ 19 billion in the fiscal year ended in May 2009. However, its stock price has stagnated or became inactive for the last two years and its future sales and earnings are likely to be adversely affected by increased competition from both established firms (like Reebok and Adidas) and upstarts (such as Underarmour). This business problem made Nike to consider an expansion into the fashion apparel business, producing high-priced casual clothing for teenagers and young adults. Viewpoint

The business problem involves financial matter. The investment to fashion apparel business is considered a financial problem. This must be handled by a financial executive. Thus, the viewpoint used in this study will be of that a financial executive. Central Problem Nike is considering an expansion into the fashion apparel business, producing high-priced casual clothing for teenagers and young adults. The central problem is whether to accept or to reject this project. The acceptance or rejection of this project might somewhat affects Nike’s inactive stock price and its future sales and earnings. Statement of Objectives

Must Objectives ? To estimate the operating income from the proposed apparel division investment to Nike over the next 12 years; ? To estimate the after-tax return on capital for the operating portion of the period – from Years 3 – 12; ? To estimate the after-tax incremental cash flows from the proposed apparel investment to Nike over the next 12 years; ? To estimate the net present value of the expansion project to Nike if the project is terminated at the end of the 12th year, and both working capital and investment in other assets can be sold for book value at the end of that year; ?

To estimate the net present value of the expansion project, making reasonable assumptions about investments and cash flows after year 12 if the apparel division is expected to have a life much longer than 12 years and; ? To accept or to reject the expansion project. Want Objectives ? To determine if the expansion project is feasible; ? To ascertain the profitability of the expansion project; ? To determine the excess of cash inflows from the expansion project; and ? To determine the acceptability and rejection of the expansion project.

Areas of Consideration Strengths ? Nike is a very competitive organization. Nike continues to have the greatest market share in the U. S. branded athletic footwear. ? Nike is a global brand. Nike’s trademark, swoosh sign, and the slogan, “Just Do It”, is recognizable everywhere. ? Nike is strong at research and development, as is evidenced by its evolving and innovative product range. Nike primarily conducts marketing research on a continual basis to assist in maintaining the company’s position as the leader in athletic and sporting apparel business.

Weaknesses ? The organization does have a diversified range of sports products. However, the income of the business is still heavily dependent upon its share of the footwear market. This may leave it vulnerable if for any reason its market share erodes. ? The retail sector is price sensitive. Retailers usually tend to offer a very similar experience to the consumers with another cheaper product, which in return tends to get squeezed as retailers try to pass some of the low price competition pressure onto Nike. Opportunities The brand is sternly defended by its owners who believe that Nike is not a fashion brand, however, a large number of consumers wear Nike products because they derive a fashion trend rather than to participate in a sport. Nike is a fashion brand which also creates opportunities for Nike. ? There are many international regions that still need tapping and there is need for sportswear and with Nike’s strong global brand recognition, it can initiate in many markets that have the disposable income to spend on high value sports goods. Threats Nike is exposed to the international nature of trade so it sells its product in different currencies which destabilizes the costs and margins for profits over long periods of time. ? The competitors are constantly developing alternative brands and techniques to take away Nike’s market share. ? Price sensitivity of the consumers is a potential threat. Consumers are constantly shopping around for a better deal that conveys a good quality and if one store charges a higher price for the products, the consumer would try to seek a better deal of the same product I the premises that delivers the same value but cheaper of the two. A recession may lead to job shortages in most of the Nike’s worldwide branches. ? The textile industry unpleasantly upsets the atmosphere. ? The organization has experienced many adverse publicity feedbacks due to its widespread advertising. Alternative Courses of Action 1. The operating income for Nike Fashion Apparel should be as follows: Based from the table above, the investment to fashion apparel is feasible. Having an increase of the market share by 0. 50% every year, because of the introduction to fashion apparel products, connotes additional revenues to Nike. 2.

The average return on capital should be 13. 25%, which is higher than the cost of capital of 8. 20%. Return on capital constitutes gain from the investment. Thus, exceeding the cost of capital, having a return on capital, triggers profitability of the investment. 3. The Nike Fashion Apparel Expansion showing after-tax cash flows should be as follows: The table above shows an excess of cash inflows after cash outflows starting from year 3. Having more income generated through cash received in excess of the cost of producing that income connotes the feasibility of the investment. . If the project is terminated at the end of the 12th year, and both working capital and investment in other assets can be sold for book value at the end of that year, the internal rate of return should be equal to 10. 06% and the net present value profile of this project to Nike should be as follows: 5. If the apparel division is expected to have a life much longer than 12 years, the internal rate of return should be 10. 03% and the net present value profile of this project to Nike should be as follows: Final Decision

The operating income of the investment, as well as cash flows, may not be enough to prove its feasibility. The average return on capital percentage may be considered as a low percentage and it can be linked to the dropping stock price as a reflection of stockholders’ confidence in the company. However, the project for expansion is feasible and profitable, based on the data supplied. The investment on expansion into the fashion apparel business, producing high-priced casual clothing for teenagers and young adults is accepted.

Detailed Action Plan |ACTION |ACTIVE OFFICER |BUDGET | |Collect information on other apparel companies that are | | | |possible competitors to the project of expansion |Research & Development |- | |Allot budget for expansion to fashion apparel |Finance |$ 2. billion at initial amount at | | | |year 0 | |Employ a major-testing organization to do a market study |Research & Development |$ 250 million | |Allocate 20% of its existing general and administrative costs | |Initially, $ 500 million and expected| |to the new fashion apparel division |Finance to grow 5% a year | | | |Initially, $ 1 billion and expected | |Allot budget for advertising expense |Marketing |to grow 4% a year | | | |Initially at $ 1 billion at year 3 | |Expansion of distribution network |Marketing |and expected to grow at the inflation| | | |rate | Note:The time duration for the project establishment is over 12 years.