Adidas invests for market share and profit gains

Despite relatively weak demand for apparel, slower comparable store sales increases in Europe and delayed deliveries in the U.S. market, the Adidas Group managed a sales increase of 16 percent in constant currencies and an even sharper rise in profits for 2017, which encouraged it to upgrade its five-year profit guidance.

Kasper Rorsted, the Adidas group's chief executive, said at a press conference in Herzogenaurach on March 14 that the year reflected its new strategy of balanced growth. Instead of taking part in a two-horse race on sales, the company is pursuing the dual target to raise profit margins and to gain market share.

In reported euros, the group's turnover moved up by 14.8 percent to €21,218 million in 2017. The comparison refers to continuing operations that chiefly consist of the Adidas and Reebok brands, after the company was reshaped through the sale of Taylormade golf equipment, Adams Golf, Ashworth and CCM Hockey.

The sales uptick came mostly from the areas in focus under the group's « Creating the New » strategy. It was fueled by robust growth for the Adidas brand in North America and Greater China, along with a jump of 57 percent in online sales, which reached a level of more than €1.5 billion or 7 percent of the group's turnover. The company launched its Adidas app in several countries and is moving toward a target to raise its online sales to €4 billion by 2020.

Footwear was the engine behind the group's sales expansion, with an increase of 23 percent to €12,427 million for the year. Footwear sales surged by 24 percent in constant currencies, compared with 7 percent for apparel and 6 percent for hardware.

The Adidas brand alone raised its sales by 16.3 percent to €18,993 million, up by 18.1 percent in constant currencies. Women's products outperformed the brand as a whole, with a sales jump of over 20 percent in constant currencies in 2017.

The Adidas brand's sales soared by 35 percent in constant currencies in North America, fueled by running, training, Originals and Neo. It clearly gained market share, as the sales of Nike and Under Armour have been less buoyant in North America. Rorsted suggested that Adidas was targeting a U.S. market share of 15 percent, albeit without discussing any timeframe.

The brand would have expanded faster in North America without constraints on its distribution. The group said it faced warehousing issues that prevented it from shipping online orders rapidly. The group is addressing the bottlenecks with new warehouses, as detailed below, but deliveries of online orders are unlikely to get much faster until the second half of this year. The brand could also suffer some longer-term impact, as unsatisfied online customers in North America may be less inclined to order again. The company's operating profit margin in North America moved up by 4.7 percentage points to just 10.9 percent.

Sales of three-striped products shot up by 30 percent in constant currencies in Greater China, with soaring online sales, a doubling of sales in the outdoor category and continued expansion across the country. Adidas has about 10,000 stores around China and it aims to raise that number to 12,000 by 2020. The group's regional gross margin dipped by 0.5 percentage points as it moves into lower-tier cities. China remains a juicy market, yielding an operating margin of 35.4 percent for the group, although managers said this was unlikely to hold until 2020.

After two previous years of ample double-digit sales growth, the Adidas brand delivered another sales jump of 12 percent in constant currencies to €5,883 million in Western Europe, with double-digit rate increases in the running and outdoor categories, as well as Originals and Neo. The group's gross profit margin was up by 1.1 percentage points to 45.5 percent in the territory, which covers most of Europe, despite a negative impact of 2.0 percentage points from exchange rate changes, and the regional operating profit margin advanced by 2.1 percentage points to 20.0 percent.

Latin America generated a sales increase of 12 percent in constant currencies for the Adidas brand. Rorsted said that the group made strategic adjustments to whip up its performance in Brazil and Argentina, where it faced similar issues due to the chaotic economic situation. Frédéric Serrant, former sales manager in France and in India, and former general manager in Chile, became managing director in Brazil in July 2016, taking over from Fernando Basualdo. The group closed about 20 stores in Brazil and cut a few dozen jobs. Its regional expansion in 2017 was driven by Mexico and Argentina, and smaller markets such as Chile and Peru.

The Adidas brand's turnover was up in constant currencies by 10 percent in Japan and by 11 percent in the Middle East, Africa and other Asian countries. The group announced on this occasion that it changed its regional structure to form a single Asian entity under the leadership of Colin Currie, its managing director for Greater China. While remaining in charge in China, Currie will lead a regional group of about 150 employees from Shanghai by the end of the year.

This means that China and Japan will be grouped together with South East Asian countries, including Thailand, Malaysia and Singapore, all the way to Indonesia, Australia and New Zealand. Another regional entity, Emerging Markets, will bring together other Asian countries, including India, as well as the Middle East and Africa. Emerging Markets have been led since October by Martin Shankland, former managing director in Russia.

Russia was the only regional market where sales shrank. The Adidas brand's turnover was down by 13 percent in the local currency for the year, partly due to about 180 stores closures in the country. This helped to raise the operating profit margin in Russia by 5.2 percentage points to 20.6 percent for the year. The group ended the year with 737 stores in Russia and the other CIS countries, and most of the 170 stores that it intends to close in 2018 are in this area.

Running was a standout category for the Adidas brand, since it generated a sales increase of 23 percent in constant currencies, compared with 8 percent for the entire sport performance division. It was dragged down by declines in basketball and football, which were blamed partly on the discontinuation of partnerships with the NBA and Chelsea football club.

The football category faced a tough comparison with 2016, when it benefited from the European championships, but it improved in the last quarter, as Adidas started selling products related to the World Cup taking place this year in Russia. Rorsted said that the growth of the Adidas group made this competition less impactful than in previous years in terms of sales, but he acknowledged that it remained unique in terms of brand exposure.

The sharpest sales increase for the Adidas brand came from its Originals and Neo division, which grew by 32 percent in constant currencies for the year, after an uptick of 45 percent in 2016. Rorsted predicted that the trend to wear sports gear as casual apparel would continue, but that it would slow down.

The group has been striving to support sustainable growth for the Originals category by investing in contemporary franchises such as NMD, to compensate for shifts in fashion that create ups and downs in demand of classics such as the Stan Smith and Superstar. The Adidas brand's “modern franchises” raised their sales by more than 50 percent for the year, compared with increases of 30 percent for Originals as a whole, and 35 percent for Neo. These contemporary franchises have grown to make up more than half of the Originals footwear business.

The Reebok brand's sales firmed up by 4.1 percent to €1,843 million last year, up by 4.4 percent in constant currencies. On this basis, its turnover declined by 15 percent in North America and by 2 percent in Russia. The former was caused chiefly by 38 U.S. store closures in the course of the year. They make up the bulk of closures planned under the « Muscle Up » program, which was launched in 2016 to stem losses at Reebok. But this was compensated for by currency-neutral increases of 24 percent in Western Europe, 25 percent in Greater China, 12 percent in Latin America and single-digit rate increases in other regions. Rorsted was most enthused about an increase of 4.0 percentage points to 40.7 percent for Reebok's gross profit margin.

The improvement at Reebok helped to raise the Adidas group's gross profit margin by 1.2 percentage points to 50.4 percent for the year, and its operating profit margin moved up by 1.2 percentage points to 9.8 percent. The company ended 2017 with net income from continuing operations of €1,354 million, amounting to a rise of 25.2 percent. It would have increased by 32.2 percent excluding one-time tax adjustments.

The company's annual report shows that its marketing spending rose last year by 13.3 percent to €2,141 million, while spending on points of sale increased by 13.6 percent to €592 million and R&D expenses jumped by 26 percent to €187 million.

The volume of shoes produced for the group rose to 403 million pairs in 2017 from 360 million in the prior year, with Vietnam's share rising to 44 percent and Indonesia's share going up to 25 percent, while China fell to 19 percent. The largest supplier, presumably Yue Yuen (see the story at the bottom of this issue), filled 11 percent of its requirements.

Asian manufacturers handled 93 percent of the group's sourcing of 404 million units, up from 382 million units. China led the charge with 23 percent of the output, followed by Cambodia and Vietnam. The company says it has attained a faster product creation cycle of 60 days or less for 85 percent of its footwear and 80 percent of its apparel.

Details on Reebok and the group's guidance are in the analysis below.