• Thu. Jul 25th, 2024

Nike Hit With Class Action After Trouble With DTC Sales Model

Nike’s once-celebrated direct-to-consumer (“DTC”) strategy has landed the sportswear company in hot water with a Florida pension fund, with the fund filing a securities class action against two of Nike’s executives over the company’s alleged misrepresentation of how the retail strategy was performing. Filed in the U.S. District Court for the District of Oregon, the newly-filed suit takes aim at Nike and the executives’ alleged insistence to investors and others that the new consumer sales model was a success when actually the truth was much different.

According to the June 20 complaint, the City Pension Fund for Firefighters and Police Officers in the City of Pembroke Pines (“City Pension Fund”) argues that Nike’s consumer sales strategy – dubbed Nike Direct by the company – was not actually “continuing to fuel” Nike’s “momentum” at all. The business model, which Nike launched in 2017, was a drag on the company’s performance, despite CEO John Donahoe and Chief Financial Officer Matthew Friend’s repeated claims to the contrary over the next several years. The company – in leaning into the  popular sales model that sees brands skip the wholesale middleman and sell directly to customers  – “largely disengaged” from its traditional wholesale and retail partners to the economic loss of the pension fund and other investors, City Pension Fund alleges.

“Notwithstanding [its] struggles with NIKE Direct and its direct-to-consumer strategy,” City Pension Fund claims that Nike, Donahoe, and Friend (collectively, the “defendants”) “continued to tout the purported strength of NIKE’s business model over the next year, telling investors that NIKE’s ‘competitive advantages continue to fuel our momentum’ and that NIKE is primed to ‘leverage our competitive advantages to not only gain share but also grow the market.’”

According to the filing, in June 2022, about a year after Donahoe and Friend began touting the success of Nike Direct during earnings calls, investors learned about Nike’s “inability to generate sustainable revenue growth” when the company announced that quarterly revenues declined 1 percent year-over-year and quarterly wholesale revenues declined 7 percent year-over-year. And that was only the beginning, the complaint points out.

Three months later, and in spite of modest revenue growth, Nike reported that its net income declined 22 percent year-over-year. Meanwhile, the company’s excess inventory was 44 percent higher than it had been in the first quarter of 2022. Taken together, this news led to the price of Nike stock declining 13 percent over the course of one trading day in September 2022. 

The numbers got worse from there, the complaint states, prompting Donahue to admit in March 2024 that “Nike is not performing [to its] potential” and announcing the company’s decision to step back from its reliance on Nike Direct and return to leaning in on the whole partners, many of which Nike had cut ties with when it implemented the DTC model.

With the foregoing in mind, City Pension Fund alleges that Nike’s statements about the troubled business model and company performance, as well as its failure to disclose material adverse facts about its business and operations – namely that Nike could not keep up with competition after it cut ties from its wholesale and retail partners in favor of Nike Direct – were “materially false and misleading”  and caused it to suffer significant damages. 

In connection with those statements and omissions, the defendants “participated in a scheme to defraud and committed acts, practices and participated in a course of business that operated as a fraud or deceit” on investors in violation of Section10(b) and Section 20(a) of the Exchange Act and SEC Rule 10b-5, the plaintiffs claim. City Pension Fund is seeking compensatory damages and equitable relief to be determined at a jury trial, as well attorneys costs. 

THE BIGGER PICTURE: The new securities class action that Nike is facing comes as other companies and their executives grapple with similar investor-lodged class actions of their own. For instance, last year shareholders accused Allbirds of misrepresenting the state of the company’s business and operations after it allegedly started shifting its efforts to capture new consumers with new, non-core products (including technical performance running products geared for elite athletes) “at the expense of core customers.” All the while, Plaintiff Gennady Shnayder accused the the sustainable footwear startup of “materially misleading the investing public, thereby inflating the price of Allbirds’ securities, by publicly issuing false and/or misleading statements and/or failing to disclose material adverse facts about the company’s business.” 

Specifically, Shnayder alleged that Allbirds’ management consistently touted the company’s successful focus on the strategic plan set out in the registration statement that it filed with the U.S. Securities and Exchange Commission ahead of its $237 million IPO in 2021, while failing to alert shareholders that they were actually implementing a significant shift in Allbirds’ business operations.

Elsewhere in the footwear world, adidas was named in a proposed class action suit in April 2023 after allegedly misrepresenting and/or failing to disclose adverse facts about the risks associated with its Yeezy deal with longtime partner Ye (formerly Kanye West). The German sportswear giant’s failure to disclose the impact of Ye’s “routine mistreat[ment] of Yeezy and adidas employees” on adidas’ operations and bottom line inflated the company’s stock price in violation of the Securities Exchange Act, the plaintiff argues in that still-ongoing case.

And still yet, late last year, Farfetch shareholders accused the online fashion retailer and its executives, including CEO José Neves, former chief financial officer Elliot Jordan and Group President Stephanie Phair, of making misleading statements ahead of its headline-making decline and subsequent buyout. According to that ongoing class action, which was filed in a federal court in Maryland in December 2023, Farfetch misled investors and failed to disclose that it was experiencing a significant slowdown in growth in the U.S. and China; that it faced onboarding challenges impacting the launch of its recent Reebok partnership; and that it had downplayed certain challenges it faced with respect to its ability to manage its supply chain and inventory; along with other claims.

Overall, investor-led class actions like this have become more common in recent years and such litigation is expected to increase. As a 2019 Woodruff Sawyer note pointed out, economic uncertainty and market volatility could “cause companies to miss expectations, keeping securities class actions on an overall steady rate” after a slowdown in filings in previous years. True enough, a January 2024 report by Cornerstone Research showed that securities class action litigation increased in 2023 from the year before, reversing the years-long trend of decline.

A representative for Nike was not immediately available for comment.

The case is City Pension Fund for Firefighters and Police Officers In the City of Pembroke Pines v. Nike, Inc., John J. Donahoe II and Matthew Friend, 3:24-cv-00974 (D. Or.).

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