NKE

NIKE, Inc. 10-Q Summary: Quarter Ended August 31, 2002

Business Context and Reporting Period

This Form 10-Q covers the first quarter of fiscal 2003 ended August 31, 2002. NIKE, Inc. designs, produces, and markets sports and fitness footwear, apparel, and equipment globally. The reporting period is significantly impacted by the adoption of Statement of Financial Accounting Standards No. 142 (FAS 142) regarding goodwill and intangible assets, effective June 1, 2002.

Key Financial Metrics

Note: Total Debt calculated as Current portion of long-term debt + Notes payable + Long-term debt.

Material Changes vs. Prior Period

• Accounting Change Impact: The company recorded a non-cash cumulative effect of accounting change of $266.1 million due to the adoption of FAS 142. This charge turned a pre-change net income of $217.2 million into a net loss of $48.9 million. The charge consisted of $178.5 million in goodwill impairment (Bauer NIKE Hockey and Cole Haan) and $87.6 million in trademark impairment (Bauer).
• Revenue Growth: Revenues increased 7.0% year-over-year. International regions drove growth with a 13.6% increase in reported dollars (8.1% in constant dollars). The U.S. region grew 1.5%, while the Americas region declined 11.1%.
• Margin Expansion: Gross margin percentage improved by 200 basis points to 41.4%, the highest in recent history, driven by lower sourcing costs and a favorable product mix (classic footwear).
• Operating Expenses: Selling and administrative expenses increased as a percentage of revenue from 26.6% to 28.6%, primarily due to World Cup 2002 marketing spending and overhead from new retail stores and acquisitions (Hurley).
• Liquidity: Cash provided by operations decreased to $174.1 million from $235.4 million due to increased working capital requirements. Net cash used in financing activities was $249.2 million, driven by debt repayments, dividends, and $53.1 million in share repurchases.

Guidance, Outlook, and Risks

• Foot Locker Relationship: Management expects U.S. sales to Foot Locker to be significantly below prior-year levels for the second and third quarters of fiscal 2003 due to lower orders and purchase limitations. The company is pursuing other retailers to offset this decline but does not expect to fully offset the loss in the short term.
• Supply Chain Disruptions: Recent West Coast port closures and apparel sourcing issues are causing delivery delays for U.S. retailer orders. This may impact revenue timing and increase airfreight costs. The duration of the backlog is currently unclear.
• Order Trends: Worldwide futures and advance orders for footwear and apparel (Sept 2002–Jan 2003) were 2.5% higher than the prior year, though management notes this is not necessarily indicative of future revenue growth due to order mix and cancellation risks.
• Capital Allocation: The company continues a $1 billion share repurchase program, funded by operating free cash flow. They also maintain a $1.0 billion shelf registration for debt issuance, with $910.0 million remaining available.

Investor Verification Checklist

• Impairment Details: Verify the specific valuation assumptions used for the $266.1 million FAS 142 impairment charge regarding Bauer and Cole Haan.
• Foot Locker Exposure: Assess the magnitude of the revenue shortfall from Foot Locker and the success of alternative distribution channels in the U.S.
• Port Closure Impact: Monitor the resolution of West Coast port closures and the resulting impact on Q2 and Q3 delivery schedules and freight costs.
• Inventory Levels: Review inventory balances ($1,424.8 million) relative to sales trends to ensure no further write-downs are required given the supply chain delays.
• Debt Structure: Confirm the terms of the new $90.0 million medium-term notes issued in the quarter and the status of the $1.1 billion bank facilities.