adidas Not a Good Investment (now)

Analysts Cedric Lecasble and Anthony Guglielmo cut their rating on the stock from Market Perform to Underperform, with a €65 target price. They argue that a strong U.S. dollar will hurt the company’s profitability, a problem that can’t necessarily be offset by price increases elsewhere.

They note that the stock could benefit from some positive news, including its first-quarter earnings report in early May, but that there are too many uncertainties remaining. Russia is one area of trouble, as prices have risen to compensate the impact of the country’s currency, but that could impact near-term demand.

The group is dedicating increasing resources to North America (20% of group sales vs. 35- 40% of the global sporting goods market) with unprecedented marketing spend in efforts to reverse major market share losses. But the major risk in our view is sourcing, as we estimate that 90% of the group’s sourcing bill is US$ denominated. The group traditionally hedges its US$/€ position 12-15 months in advance and we believe the pain might only start materialising from Q4 2015 or even 2016.

We show some simulations of the theoretical impact of US$ sourcing on gross margin before and after mitigating factors such as price increases. In our view, the pricing environment in 2016 will be critical and management believes the whole industry will need to increase pricing going forward.

What if other players have different pricing strategies? Next year’s major sporting events (European football championship in France and Olympics in Brazil) are likely to support demand but also to drive above-average marketing spending.