The COVID-19 pandemic has exacerbated the widely held notion that retail is dying. But BMO Capital Markets senior retail and e-commerce analyst Simeon Siegel argues the pandemic may have actually ‘saved’ troubled retailers like Under Armour (think: large brands that operate at a loss). Suggesting the virus forced all companies to “take a breather,” he said the situation created a “once-in-a-lifetime opportunity for them to focus on health, rather than growth.” While Nike, Adidas and Puma may not be ‘broken’, NPD Group senior sports industry analyst Matt Powell believes all three companies would also benefit from “promoting less often, growing their direct [to consumer] businesses and exiting stores and categories that aren’t profitable.”
Our Take: Much of Siegel’s thesis is based on the premise that “a huge portion of the [negativity surrounding the retail sector] can be isolated to brands’ tendencies to pursue growth without thinking about the resulting benefit or detriment.” The combination of humans always wanting more and investor demand for growth makes it nearly impossible for companies to embark on strategies that willingly forsake revenues—even if those in charge recognize that smaller means stronger.
There’s no denying COVID-19 has hurt brands across the retail sector, but the unusual circumstances surrounding the last six months gives companies a chance to reset. As Siegel explained, “What’s interesting here is [that the process of slashing revenues] has already been done. Normally, it would take [a brand looking to make a wholesale change in strategy] at least one year (and often longer) to implement because [the company] needs to go through the process of pulling back on promotions.” In this case, COVID-19 took care of all the revenue-slashing, allowing brands to change their approach overnight.
The new sales baseline gives brands an opportunity to reimagine their vision for a post-COVID world and Under Armour (UAA) has not been shy about its intent to once again become a premium brand. Siegel says, “Ultimately that means selling fewer goods. Sell less, charge more, make more.” In fact, the BMO analyst’s model indicates UAA could choose to raise pricing by 25% and “as long as they lose less than 40% of their business, they would still be making money.” Increasing pricing +25% will certainly result in depressed sales volume, but it seems highly unlikely the company would lose nearly half of its business over $12.50 on a $50 purchase.
It should be noted that Under Armour began moving down the profits-over-growth path before the Coronavirus outbreak. It’s far too early to determine if UAA has truly changed its stripes. As Powell noted, “We’re still in a period of flux. [The industry] still has major inventory issues at the wholesale level and brands (including Under Armour) need to get that inventory more in line with sales levels” (before we can truly make an assessment). But there is reason to believe the company is taking advantage of the reset opportunity. “We’ve seen some multi-hundred million dollar back peddlings [from them]—something they would not have done in prior times,” Siegel said (think: walking away from UCLA and Cal sponsorships, scrapping plans for its NYC flagship).
To be clear, closing stores is not among the ways Siegel believes Under Armour can improve profitability. He explained, “Under Armour stores have been meaningfully underperforming versus competitors such [that] in a way there is probably a better opportunity to figure out how to use their store channel than to throw it away.” Remember, Nike’s growth has “essentially been credited to the fact that the company has been focusing so heavily on e-commerce and their own stores,” Siegel said.
Chasing 2019 sales figures is another surefire way for the footwear and apparel companies to fall short of profitability expectations. “One of the dumbest strategies a brand could pursue is trying to get back to ’19 levels quickly,” Powell said. “You want to reset [the business] at a new low and let it grow organically with a different approach.” Siegel reminded, “For the first time in recent retail history, [brands] have to decide how many stores to open rather than how many stores to close. It’s a complete about-face in terms of the thought process.” It’s worth noting athletic shoe sales are down -11% (worth an estimated $2.5 billion) through August. Powell does not expect much of an improvement over the tail end of the year.
Much like UAA, Siegel’s model indicates Nike could increase pricing (+20%) and, as long as they lost less than a third of their business, still grow EBITDA. But he argues that because the Oregon-based company has “shown time and again an ability to transcend the normal bounds of consumer saturation,” he sees no reason for them to pare the business down. Nike has also shown it is capable of increasing profitability by enhancing the company’s DTC business.
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