- EEXCUTIVE SUMMARY
Nike Inc. was founded by Bill Bowerman and Phil Knight in 1964. Within 58 years, the company has transformed its business model to become one of America’s largest corporations. Currently the world’s largest designer, manufacturer and distributor of sports equipment, apparel, footwear, accessories, and other services, the American multinational headquartered in Oregon, United States, has a brand value in excess of $32 billion (Nike Annual Report and Accounts, 2021). Nike Inc. offers six broad product lines. The company partners with independent contractors to outsource all raw materials used in the production process. All manufactured products are primarily marketed and distributed by affiliated retail stores across the world. The company also explores other marketing channels such as independent distributors, digital platforms, sales representatives and licensees (Nike Annual Report and Accounts, 2020).
Between FY2018 and FY2021, Nike Inc reported a significant increase in revenues—from $36.3 billion to $44.5 billion respectively—and net income within the period also skyrocketed from $1.9 billion to $5.7 billion respectively. However, business financials declined in 2020 due to the outbreak of COVID-19, which slowed production and generally affected global economies. Revenue and net income also maintained a downward slope from 1.87% (2020) to 36.98% (2021).
PURPOSE OF THE REPORT
This paper on Nike Inc’s financial performance aims at analyzing the feasibility of a proposed investment in the sport TV industry, mainly to ascertain the expected return on investment (ROI).
ROI is significantly high because guarantees a short payback period, positive NPV and IRR > interest rate. Moreover, sensitivity analysis indicates the proposed investment will provide very wide margins of safety for all simulated variables.
Nike Inc. implement the proposed investment in the TV industry. The Consultant also suggests debt financing as a preferred strategy because the interest rates are quite low at 3% and the interest cover is 29 times higher.
2. MOTIVATION FOR THE PROPOSED INVESTMENT
Nike Inc’s diversification into the electronic media industry should start with acquiring and existing TV station with global reputation and vast marketing potential. The focus on a niche market (e.g. sporting events) would be an effective internationalization and/or globalization strategy for achieving competitive advantage.
Nike Inc reported a significant drop in net profit between 2019 ($4 billion) and 2020 ($2.5 billion) due to impacts from the global pandemic. Thus, continued decline in net profits highlights a new dimension of risk which can affect visibility in global markets and attainment of business objectives if the investment proposal is ignored.
Low profits caused by the pandemic led to workforce downsizing and temporary closure of Nike Inc’s physical stores. The lockdown of international airports, shipping ports and national borders disrupted supply chain activities. Social distancing also limited purchase at physical stores. Although the company financials showed signs of recovery in 2021 with $5.7 billion reported as profit, there is need to sustain productivity and competitiveness against market shocks from various factors—such as economic and demographic (Nike, 2020).
TV broadcasting in the electronic media industry, especially local/international sporting events, has high ROI and can be explored to sustain profits. Children and adults enjoy different TV programs, sometimes, several hours a day. Statistics also show that earnings from adverts makes TV broadcasting a money-spinning business (Richter, 2020; Stoll 2021). Thus, the stability of this revenue stream can sustain growth in Nike’s profitability.
- APPRAISAL OF THE PROPOSED INVESTMENT
The Consultant proposes and initial investment valued at $6.85 billion. The amount should be spent on establishing/outfitting a new TV station or acquiring an existing company to be upgraded for 24/7 transmission of local and global sporting events. The capital outlay and expected inflow for the proposed investment are as follows:
As at FY2021, Nike Inc has an estimated cost of capital valued at 3% based on the effective interest rate.
The importance of appraising viability of proposed investments for a large corporation like Nike Inc cannot be overemphasized. Payback Period (PP), Accounting Rate of Return (ARR) and Discounted Cash Flow (DCF) are the widely used evaluation metrics for capital investment decisions. DCF is further divided into Internal Rate of Return (IRR) and Net Present Value (NPV) (Bamber & Parry, 2014).
The payback period provides insight into the timeline (expressed in years) when a capital investment can generate enough revenues to recover the initial capital outlay.
The table above shows that Nike Inc’s investment in TV broadcasting will achieve a positive net cash flow after three years and before the end of its fourth year. The payback period of 3.74 years and huge profit margins make this investment project very attractive.
The Net Present Value (NPV)
Porterfield (1965) described NPV as a discounted cash flow method of analyzing capital investment with focus on the time value of money. NPV is based on the assumption that bigger cash flows are better than smaller ones and earlier cash flows are better than later ones. Basically, the statistical tool helps to ascertain value to be created by undertaking a given investment project. The NPV is calculated as the difference between the present value of cash inflows and the present values of total cash outflow. Therefore, when the NPV is positive, it means the inflow is higher than the outflow and this highlights the viability of an investment project.
Further, the table below indicates NPV of the proposed investment in a TV broadcasting station is $2.8 billion after 5 years—a pointer to the profitability of proposed investment.
The Internal Rate of Return (IRR)
IRR refers to the rate of return that equates the investment outlay (outflows) with the present value of all inflows. In other words, IRR is the rate of return that makes the NPV = 0. Therefore, when the rate of return is higher than the IRR, the project will yield a negative NPV, and hence, unprofitable. Based on this, Nike Inc’ robust risk management mechanisms and the maximum interest rate payable on debt financing can be leveraged to achieve competitiveness and sustainable profits (Pandey, 2005).
Manipulation of the Excel template as shown in the table above reveals the NPV of proposed investment to be zero or near zero (-$10,000) when capital cost reaches 25.9%. The investment is therefore viable because Nike Inc. has a strong financial base to fund it, as well as a market appeal to recover from loans with interest rate as high as the IRR value of 25.9% Additionally, Nike Inc. can offset the loan from net cashflows and still make profits because IRR on the project (21.42%) exceeds initial capita cost of (3%).
To ascertain the feasibility of this report, it is important to analyze the political, economic, social, technological, environmental and legal (PESTEL) factors present in the external business environment.
Political: Some identified factors influencing Nike’s global dominance and profitability are government legislations on quality standards and licensing. Changing regulations in the digital media industry will also determine the success or failure of investment in TV broadcasting. Violation of local or international regulations can lead to costly lawsuits.
Economic Factors: The TV broadcasting business is a capital-intensive project and profits are largely influenced by subscription price, attractiveness for investors (i.e. shareholders and partners), ads revenue, and taxation. Other economic factors include: (a) inflation (b) employment rate (c) income distribution (d) niche market (demographics) etc. Notwithstanding the rising cost of subscription-based TV services in the US, Nike Inc can leverage capital and technology to drive revenues.
Technological: Development in digital technology that permits online streaming of live sporting events has transformed the global TV industry. Thus, Nike Inc can create competitive advantage by integrating advanced digital technologies that deliver fast and affordable WiFi and 5G services.
Social: Globalization of business demands consideration for the culture and traditions, including beliefs, moral values and religious background of customers. While businesses in one location can use aggressive marketing in TV, billboard and print media ads, it is worth noting that what is considered acceptable in one location or for a customer segment may be offensive to others. This highlights the need to integrate societal values, perceptions, preferences and behaviors in the decision-making process.
Environmental: Although Nike Inc lays claims to be operating a sustainable business with high economic, social and governance (ESG) impact, the TV broadcasting project might face litigations for exposing people to radiation risks if high-tech network equipment is mounted within cities.
Legal: The entertainment industry is highly regulated by governmental laws, particularly on copyright issues, patents protection, and character defamation that are subject to costly lawsuits if neglected.
- RISK ASSESSMENT
Business risk means the possibility an expected ROI would not be actualized due to certain factors. In this context, the return means the NPV of Nike Inc’s investment that will increase ROCE from 48.8% to 72%, ROA from 15.77% to 19.7%, and net profit margin from 12.85% to 15.61%. (All initial ratios were computed from Nike Inc 2021 annual reports).
Risk assessment is conducted by simulating the extent to which various factors that influence the NPV (that is, cash inflow, cash outflow and cost of capital) would have to change for the NPV to become zero or negative thereby affecting the expected ROCE, ROA and Net profit margin of the proposed investment. The table below shows result from the simulations.
Sensitivity to the cost of capital for Nike Inc’s project
As shown in the table above, an 800% rise in interest rate (from 3% to 25%) will yield a negative NPV. This level of increase in interest rates will reduce Nike Inc’s ROE from 44.86% to 28.2% and the company’s interest cover from 29 times to 2.53 times.
Sensitivity to the project costTable above shows the proposed investment will yield a negative NPV if implementation costs increases by 44% (that is, from $6.8 billion to $9.8 billion). Where the increased costs were incurred from additional investment in assets, a 44% increase in the project costs will reduce Nike Inc’s projected ROA to 12.5%.
The Consultant does not expect inflation rate or other factors to cause such a massive increase in projected costs.
Sensitivity of NPV to the project benefit (cash inflows)
Table above indicates there will be a negative NPV if projected cash inflows from the TV broadcasting business declines by 30.6% (from $10.275 billion to $7.128 billion). Likewise, a 30.6% decrease in projected cash inflows will lower projected net profit margin from 15.61% to 11.08%.
In conclusion, discounted payback period of the investment is approximately 4 years, thus, this relatively short timeframe makes the project acceptable.
Bamber, M. and Parry, S. (2014). Accounting and Finance for Managers. [e-book) London: Kogan Page. Available through: Anglia Ruskin University Library http://libweb.anglia.ac.uk
Nike Inc. (2020). Nike statement on COVID-1, viewed 5th May 2022, https://news.nike.com/news/nike-coronavirus-statement Nike Statement on COVID-19
Nike Inc. (2021). Annual report and accounts. Retrieved from https://s1.q4cdn.com/806093406 /files /doc_financials/2019/annual/nike-2019-form-10K.pdf
Pandey I. M (2005). Financial Management. Ninth edition. Vikas publishing house PVT ltd, New Delhi
Porterfield, J. T. (1965). Investment Decisions and Capital Costs. Prentice hall, 1965
Richter, F (2020). The Generation Gap in TV Consumption, https://www.statista.com/chart/15224/daily-tv-consumption-by-us-adults/
Rothaermel, F. (2017). Strategic Management. 3rd Ed. New York: McGraw Hill.
Stoll, J. (2021). Top TV shows by total viewer numbers in the U.S. 2020-2021, https://www.statista.com/statistics/804812/top-tv-series-usa-2015/
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