In a bullish report, HSBC said that despite tough conditions expected to continue in the U.S., sales growth and margins are expected to improve for the global sporting goods sector following its “post-pandemic hangover.” Beneficiaries include Adidas, Lululemon and Puma, all rated “Buys” by HSBC while Nike remains at “Hold” due to its U.S. exposure.

“After a period of boom (tight inventories, limited promotions, strong usage of sporting goods products) and of bust (overproduction, back to promotions, mainland China difficulties, cost pressures), the sporting goods subsector is hopefully now moving into a better sales growth environment despite the ongoing sluggishness of the U.S. market in which promotions are still elevated and demand is muted,” Erwan Rambourg, HSBC’s lead analyst in the space, wrote in the report.

HSBC expects top-line growth will rebound in the quarters ahead globally for the sector with the exception of the U.S., where growth is expected to remain restrained for at least the next six months. The revenue gains are projected to be led by China, which is expected to outperform against “somewhat depressed levels” despite current signs of macro weakness in the region.

“Since the Better Cotton Initiative (BCI) event in late March 2021, Western sporting goods brands have lost a lot of market share to local Chinese brands,” Rambourg wrote, “We now see this very important profitable market changing materially and Western brands gradually playing a bit of catch up.”

Nike, Adidas, H&M, and other major Western apparel brands faced a boycott in China starting in early 2021 over past comments the fashion brands made about labor conditions in Xinjiang’s Western region, home to Muslim Uighurs.

HSBC’s report showed that based on Euromonitor and HSBC calculations, the market share in China from 2019 to 2022 diminished from 26.0 percent to 22.6 percent for Nike, from 16.8 percent to 11.2 percent for Adidas, and from 2.0 percent to 1.3 percent for Puma. Over that same period, market share was estimated to have expanded to 11.0 percent from 8.6 percent for Anta to 10.4 percent from 6.8 percent for Li Ning and to 7.5 from 6.5 percent for Fila (licensed to Anta in China.)

HSBC expects gross margins for the overall global sporting goods industry to rebound on lower input and freight costs as well as “a more benign promotional landscape,” with the exception of the U.S. Rambourg wrote, “EBIT margins should also rebound broadly in line with gross margin as some operating leverage could be reinvested this year and some FX benefits late 2024 as well.”

The report details how promotional pressures should be lessened as Adidas, Lululemon, Nike, and Puma have all significantly reduced year-over-year inventory levels that peaked in fall 2022. The report also noted that global all-in freight rates are now at about $1,681 per 40-foot box, steadily declining from a peak of over $10,000 in fall 2021.

On foreign-currency exchange changes, HSBC said Adidas, Puma, and Nike are expected to benefit in quarters ahead, mostly due to U.S. dollar and euro weakness.

Among stocks, HSBC prefers Adidas and Puma to Nike while initiating coverage on Lululemon with a “Buy” rating.

Nike Maintained A “Hold” On Sales Concerns
Rambourg said Nike “remains an undisputed leader but its particularly large exposure to the US market continues to make it more vulnerable in the short term.” HSBC maintained its “Hold” rating on Nike and reduced its price target to $113 from $120 on lowered sales expectations.

The analyst noted that Nike officials have already guided for moderate sales growth in its fiscal first quarter ending in August but Rambourg believes Nike will then face challenges lapping against strong double-digit growth in the second and third quarter of its last fiscal year. Rambourg wrote, “While we acknowledge that Greater China is in a much better place for the entire sector and notably Western brands and particularly Nike, we are concerned by what could turn out to be very muted growth in the key US domestic market as well as EMEA until March 2024.”

Recent warnings from Dick’s Sporting Goods and Foot Locker “serve as a reminder that the US sporting goods market, with very few exceptions, is in a very tough spot,” he added. Rambourg also believes Nike’s move to reopen certain wholesale accounts, including DSW and Macy’s, is a reaction to brand weakness.

“Granted, those new accounts are unlikely strategic but still, it seems that Nike is looking to expand its footprint at a time when others (e.g., Puma) are looking to segment, elevate, implement a “less is more” approach to distribution,” Rambourg wrote. “In EMEA, Nike has taken tremendous market share in the post COVID-19 era and we also feel there that there is a risk that the very visible outperformance starts to moderate somewhat.”

Adidas Benefits From Increased Product-Focus
HSBC maintained its “Buy” rating on Adidas at a €220 target price. Rambourg said Adidas, under its new CEO Bjørn Gulden since the year’s start, is doing better than initially expected with a boost from Yeezy drops and some strength in the underlying business.

Rambourg believes Adidas is benefiting from Gulden’s philosophy to focus “more on products over processes and on execution,” with the revival of iconic Samba and Gazelle models and a strong Terrace trend indicating the product is improving. Rambourg also believes Adidas has an opportunity to develop limited editions for sneakers, similar to Nike’s Air Jordans, that will help the brand secure better placement at trendy sneaker shops. Nonetheless, the soon-to-launch collaboration with Pharrell Williams for Samba “could become iconic,” believes Rambourg, and further collaborations are expected to continue to elevate the Terrace trend.

Rambourg added, “The most important thing in our view is the change of culture currently happening at Adidas since Bjørn has arrived, he has been empowering people and encouraging staff to take decisions/risks.”

Puma Expected To Raise FY23 Revenue Guidance
HSBC maintained its “Buy” rating on Puma and lifted its price target to €80 from €67 due to raised earning expectations. Rambourg said he expects margins to benefit as the “bulk of the inventory cleaning is likely behind” Puma to help reduce promotional pressures.

Rambourg further said Puma has delivered “a solid organic sales growth performance even in tough times.” He suspects Puma’s guidance of a high single-digit sales growth rate in 2023, implying sales up 6 percent currency-neutral in the second half – “appears conservative” in light of the “solid product pipeline,” in the second half, including the launch of Rihanna’s Fenty x Puma, the Formula 1 Race planned in Vegas in December, and Lamelo MB03 basketball shoe.

Rambourg also noted that the change in CEO, with Arne Freundt replacing Adidas-bound Gulden at the year’s start, “did not change the group dynamics that are still very sound, as proved by the performance YTD and some positive key changes such as the streamlining of the exposure to the off-price channel in the US, to better represent the brand in key quality doors.”

Lululemon Dominates Its Niche
HSBC initiated Lululemon with a “Buy” rating at a price target of $500. Rambourg said his team is “convinced that the brand can continue to grow and dominate its niche while it remains in its early innings of growth given its predominantly North American, apparel and female exposure combined with a still very low awareness outside North American markets.”

Rambourg said Lululemon is a mix of business models. Rambourg shared, “There are similarities with luxury stories in as much as Lululemon goes mostly DTC (91 percent retail contribution to group sales), cutting off the middleman wholesaler and generates luxury-like margins (EBIT margin of 22.1 percent in FY22). Of course, the brand benefits from the long-term compounding nature of sports as consumers look to live healthier and at least certainly more comfortable lives both in a professional and a leisure setting. Unlike Nike and Adidas though, Lululemon is for now mostly female-driven (65 percent of sales), apparel-heavy (95 percent+ of sales), and, importantly, very much North America-centric (84 percent of sales) but this is evolving fast. Finally, like many cosmetics players or Nespresso, an important part of sales now takes place online, which is also margin-accretive and very healthy.”

Rambourg said that while some investors may have concerns over Lululemon’s high stock valuation, HSBC expects “margins and overall the superior,(and sustainably higher, returns relative to peers” will continue given its growth potential. Also, HSBC has few concerns over growth moderating. Rambourg wrote, “Short term, the US seems to even accelerate on the back of a robust pipeline; long term the Chinese opportunity seems to be a very large (and profitable) one. Moreover, given still a limited brand awareness in many key markets, there is an ample opportunity for growth.”

Photo courtesy Lululemon