Foot Locker, Inc. earned stock upgrades and upwardly adjusted price targets following the news that the company had hired Mary Dillon as CEO, the former CEO of Ulta Beauty.
As reported, as part of a planned succession process, Dillon replaces Dick Johnson, president and CEO, who retires on September 1. Johnson has led Foot Locker since December 2014. He will continue as executive chairman through January 31, 2023, and step down from the board on that date, remaining as a senior advisor until early April 2023 to facilitate a smooth transition.
Dillon was CEO of Ulta Beauty from July 2013 until June 2021, driving revenue on a CAGR basis of 16 percent and tripling the company’s market capitalization over her eight-year tenure. Previously, Dillon was president and CEO of U.S. Cellular, the global chief marketing officer of McDonald’s and held leadership roles at PepsiCo.
The management change comes when Foot Locker is focused on growing sales of Adidas sneakers and other items at its stores to counter the shrinking presence of its biggest supplier, Nike.
The upgrades also partly reflect solid results for the second quarter. In the second quarter, earnings on a non-GAAP basis fell 47.4 percent to $1.10 per share from $2.09 per share in the prior-year period but came out ahead of Wall Street’s consensus estimate of 90 cents. Foot Locker only slightly narrowed its full-year guidance, better than many investors had feared.
The chain also stressed it continues to make progress adjusting to a planned reduction in Nike product as non-Nike sales at core banners were up high-single-digits in the second quarter. Strong growth came from Adidas, Vans, Converse, New Balance, Crocs, Puma, Brooks, and Asics. Hoka One One and On were among the newer brands that gained additional shelf space. Foot Locker also secured a new partnership to sell more fan merchandise online via Fanatics.
An investor hopes that Dillon will improve Foot Locker’s relationship with Nike. In late February, Foot Locker announced that Nike’s portion of Foot Locker’s sales would decline to about 55 percent by the fourth quarter of 2022, down from approximately 65 percent in the 2021 fourth quarter and 75 percent overall for 2020. Foot Locker will also receive less “high heat” or marque products, such as retro Jordans.
On Friday, on the news of the CEO hire and second-quarter results, shares of Foot Locker rose $6.41, or 20.0 percent, to $38.39.
Among investment firms, Barclays raised its rating to “Equal Weight” from “Underperform” and its price target to $38 from $24. Analyst Adrienne Yih wrote, “The hiring of Mary Dillon is a game changer to the FL thesis in our view, given her track record of delivering shareholder returns at ULTA. We see her as an undoubtedly great choice for the role, given her experience managing a multi-branded retailer with several key strategic vendors at a wide range of price points catering to all consumers. While we believe it is likely that Nike continues to prune its wholesale distribution, we do believe that there are offshoots of emerging brands within footwear that are helping to fill the void while growing market share, improving the outlook for FL to successfully become ‘a house of brands’.”
Yih also said Foot Locker’s updated guidance for the year was “not as bad as feared given the inflationary pressures on lower-income consumers.”
Morgan Stanley upgraded Foot Locker’s shares “Equal-Weight” from “Under Weight” and raised its price target to $36 from $24.
Analyst Kimberly Greenberger said the upgrade reflected the potential of Dillon to transform the business. She described Dillon as a “very accomplished retail executive” with over 35 years of experience across Ulta, McDonald’s and Pepsico, among other companies, with an “impressive track record.”
Greenberger added, “She most recently served as the executive chair and CEO of ULTA, drove an impressive 16 percent revenue CAGR, and tripled the company’s market capitalization in her tenure. As evidenced by the 20 percent-plus intraday stock reaction, the market thinks Dillon could engineer a similar transformation at FLL-T, and we agree. And perhaps, even more importantly, we suspect she also garners the business a ‘grace period’—time for her to assess the business, announce and implement changes and then see if she can improve results. To us, this means the market may be willing to look through any bad news N-T, and the stock could trade at higher levels until investors have more/less conviction around her ability to transform the business.”
Greenberger also cited Foot Locker’s initial success with finding replacement brands to help compensate for the loss of some access to Nike product and the only slightly lowering of guidance. She wrote, “In our view, quarterly EPS beats and/or positive EPS revisions could support the stock at current levels or higher for some time.”
Greenberger nonetheless said the long-term risks that supported its prior “Underweight” rating remain, including the reduced access to Nike product becoming a “permanent headwind” that other brands cannot offset. She also cited Foot Locker’s exposure to traffic-losing malls and the risk that other major footwear vendors will accelerate direct-to-consumer pushes.
Jefferies reiterated its “Buy” rating and raised its price target to $47 from $43. Analyst Corey Tarlowe said Foot Locker’s stock uptick on Friday reflected success against “subdued expectations” and the hiring of Mary Dillon.
Tarlowe noted that comp sales decline of 10.3 percent in the quarter came in ahead of expectations of negative 14.6 percent. She said most encouragingly, non-Nike comp sales were up high-single-digits, and the new Fanatics partnership is expected to provide a new growth platform.
Gross margin in the quarter also beat consensus, and a cost-optimization program, announced in the first quarter and starting to ramp up in the third quarter, is expected to reduce costs by $200 million annually. Tarlowe wrote in a note, “The FY guidance calls for better GM trends than previously expected, illustrating better occupancy trends and supply chain costs. We believe there is slightly lower relative markdown risk in footwear versus apparel right now, and FL is well-positioned in the category.”
Williams Trading upgraded Foot Locker to “Hold” from “Sell” at a price target of $29. Analyst Sam Poser said the upgrade reflects the second-quarter earnings beat and the hiring of Mary Dillon.
Poser wrote, “Ms. Dillon is highly regarded by investors. Under her leadership, ULTA revenue increased 288 percent, and operating metrics improved better than that. She does have strong knowledge of off-mall retail and has been integral in bringing better brands to ULTA. Investors should not be counting their chickens regarding Ms. Dillon’s ability to salvage FL’s relationship with Nike, but her appointment as CEO does bring some hope, and today’s increase in the stock price is far more attributable to the announcement that Ms. Dillon will become CEO than the overall shape of FL’s business.”
The loss of between $800 million to $1 billion at the cost of Nike allocations remains will be a headwind. Poser wrote, “There is not, and will not be, any item from any other brand that sells as many or liquidates as quickly as a Jordan shoe. As such, FL will need to take huge inventory risks attempting to offset the lost allocations from Nike.”
Poser also believes Foot Locker’s acquisitions in recent years, including stakes in GOAT, Pensole, Rockets of Awesome, Carbon38, as well as the outright buys of WSS and Atmos have distracted management from “fixing its core banners and its omnichannel capabilities.”
Poser said the incoming CEO “may be better suited” to fix Foot Locker’s problems, including improving customer engagement via its omnichannel/digital platform. The new CEO also must ensure that Foot Locker’s expanded partnership with Adidas doesn’t further “strain” Foot Locker’s relationship with Nike and lead to additional reduced allocations.
Poser concluded, “We remain convinced that FL will not be able to effectively offset the loss of much marquee Nike product, will be a share loser over time, and that the recent acquisitions will not bring the expected results. At the same time, we believe new leadership may reinvigorate the company.”
Photo courtesy Crain’s Chicago Business/Mary Dillon
