As football mania engulfs the entire planet with the FIFA World Cup drawing closer,adidas AG (ETR:ADS), as one of the six FIFA partner,s is hogging its share of limelight. However, the German sportswear retailer is not banking on the World Cup alone. It has a solid business model that makes the company a strong contender for long-term growth.
Nothing succeeds like success
adidas AG (ETR:ADS) has impressed with 8% y-o-y growth in operating profits to 442 million euros ($578 million) in the first quarter. And this was despite 2% lower sales, which was affected by Reebok’s loss of a 10-year National Football League contract.
What did the trick for the company was its gross margin, which improved by 2.4% over previous year to a record 50.1%. This is outstanding by industry standards, and it is only the second time in adidas AG (ETR:ADS)’ history that the gross margin exceeded 50%.
NIKE, Inc. (NYSE:NKE) also boosted its gross margin by 0.3%, but its 44.2% in the third quarter was no match for the German giant. In its recent quarter, the new kid on the block,
adidas AG (ETR:ADS) is gaining from its good pricing power and of course the success of its new products like Delta apparel, CrossFit ranges, etc, which carry higher margins. Regional and channel optimizations are also yielding results.
The margin momentum will continue throughout the year, and the company is likely to get to the higher end of its gross margin guidance of 48% to 48.5%.
Global business model
adidas AG (ETR:ADS) is a global company with international revenue of $11.5 billion annually. Its presence in emerging countries allows it to leverage their rapid growth. The company saw a sales increase of 12% in Latin America, 6% in Greater China, and 3% in emerging European markets.
To ensure maximum returns, adidas AG (ETR:ADS) is increasing its spending on sales and promotions. In the first quarter marketing expenses were up by 50 basis points to 11.6% of sales. It has also stepped up its global e-commerce activities by launching more than dozen sites spanning across Europe, Russia, Canada, and South Africa. No wonder online sales in the first quarter were up 68%.
In the global arena, Adidas is the only company that can pose a real threat to world’s number one – NIKE, Inc. (NYSE:NKE). The latter has around $15.3 billion of international revenue and deep pockets to support big sales efforts. Last year it spent $2.7 billion on marketing and promotions.
In the third quarter, NIKE, Inc. (NYSE:NKE) grew its sales from emerging markets by 8%. However things are moving a little slowly in China due to oversupply. The company is currently engaged in clearing off excess inventories and proactively cancelling some order backlogs.
There is an interesting market share battle going on between NIKE, Inc. (NYSE:NKE) and Adidas in China. The former has always dominated the Chinese international sportswear market and has a market share of 12.1%. But Adidas is inching closer with a market share of around 11.2%.
Under Armour Inc (NYSE:UA) had so far been content with its North American presence, but it has recently announced big global plans. The company is looking at international revenue of $640 million by 2016. This is of no immediate consequence to Adidas and NIKE, Inc. (NYSE:NKE) but Under Armour Inc (NYSE:UA) has a track record for springing surprises.
Key product areas
Adidas has identified three key product areas to fuel growth: running, basketball, and outdoor. All three areas are enjoying double-digit growth. During the first quarter they grew by 12%, 18%, and 21%, respectively.
The $14 billion US running shoe market is a big target area for most sportswear companies. NIKE, Inc. (NYSE:NKE) dominates this with 60% market share. Adidas has around 10% market share, while Under Armour Inc (NYSE:UA) has 2%. However, Adidas is hoping to gain share with its newly launched Energy Boost sneakers. Nike is countering the challenge with its FlyKnit sneakers, and Under Armour Inc (NYSE:UA) is pushing its Spine Venom running sneakers.
Energy Boost has received an excellent response in both the US and other countries. The demand is so strong that Adidas cannot supply enough, and the company is looking solve this by getting BASF, which makes the shoe’s cushioning foam, to increase production. Adidas has also signed on fashion designer Rick Owens to make designer running shoes priced between $400 and $500.
In basketball the focus is on North America, which saw 45% sales growth in the first quarter. The company may make a basketball shoe based on Energy boost technology.
For outdoors the fastest growing markets are Greater China, Brazil and South Korea, and there is good momentum in the Terrex Fast R and Swift Solo product lines.
Reebok is a wildcard
Adidas acquired Reebok in 2005 to combine forces against Nike. But this never happened – on the contrary, Reebok has been more of a problem child for Adidas.
Within a span of one year Reebok faced as many as three burning issues. It lost its big contract with NFL, faced fraud at its India division, and suffered from the strike in US Ice Hockey League. But Reebok’s story is far from over. Adidas senses considerable opportunities left in the brand, particularly stemming from its CrossFit range, which saw a 13% sales gain in the first quarter.
CrossFit Inc’s fitness programs are incredibly popular in the US and Europe, and Reebok is currently the only brand that is producing CrossFit-specific products. Adidas is making Reebok’s CrossFit logo the symbol of the fitness brand.
Apart from fitness, Reebok is also focusing on dance and yoga. With such concentrated efforts to revive the brand, Reebok carries good potential.
Last word
Adidas has done a great job in introducing exciting new products and backing them up with big promotions and increased e-commerce activities. Its global reach allows it to leverage the benefits of both matured and new markets. The company is making excellent margins and growing its earnings at a good pace. The turnaround in Reebok can be an added catalyst for growth.
Eshna De has no position in any stocks mentioned. The Motley Fool recommends Nike and Under Armour. The Motley Fool owns shares of Nike and Under Armour. Eshna is a member of The Motley Fool Blog Network — entries represent the personal opinion of the blogger and are not formally edited.
The article This German Retailer Is Sure to Grow originally appeared on Fool.com is written by Eshna De.
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