• Matt Wolodarsky

Finding the next digital transformation investing homerun


Summary: The top two performing stocks of the last decade, Netflix and Domino’s, are often the two most cited case studies of companies that have undergone successful digital transformations. What can we learn from these two digital transformers so that we can find the next bricks and mortar digital investment success story? There are four shared qualities of the Netflix and Domino’s digital transformation success stories that we can use to pattern recognize the next set of digital transformation winners. Both companies had started their major digital transformation initiatives prior to their stock price taking off. Both had strong digital capabilities. Both had a long runway of growth that digital was unlocking. Both are extreme customer centric companies. Using this formula, I set out to find high potential digital transformation investing opportunities. I settled on three companies I felt matched the above criteria the best and did a deeper analysis. The purpose of the analysis that follows is to find the best digital transformation investing opportunity, amongst Home Depot, Starbucks, and Nike.

What do Netflix (NASDAQ: NFLX) and Domino’s Pizza (NYSE: DPZ) have in common?


It turns out a lot.


Aside from having the key ingredients for what I would consider a “special” night during our COVID quarantine – Tiger King binging and Pizza; they were also the top two performing “large cap” stocks of the 2010s.


Making their shareholders wealthy throughout the last decade was not all Netflix and Domino’s Pizza had in common.


They also both started their digital transformation journey’s more than a decade or so ago, digitizing their customer experience, operations and creating whole new value propositions powered by digital. Domino’s transformed how customers order pizza, thru its app, directly via twitter, on Amazon Echo and Google Home, thru Facebook Messenger, smart TVs and even by texting them a pizza emoji. Domino’s dragged its entire franchisee network along for the journey, digitizing their operations thru innovations like AI enabled “virtual ordering assistant”.


A lot of people either do not know or forget that Netflix isn’t a digital native company. In January 2007 JP Morgan downgraded Netflix’s stock due to significant competition and a lack of understanding what Netflix’s ‘second act’ would be beyond DVD Distribution. Netflix was founded in 1997 as a mail-order DVD subscription business. Netflix has not only transformed itself, but in doing so how we consume media. Netflix created a new cultural zeitgeist of binge watching in the process.


Both have invested significantly in their digital transformation. Domino’s has steadily invested in its digital transformation for more than a decade, building internal expertise, doing system integration, enabling digital customer experiences, creating a digital enterprise platform for franchisees, and experimenting in new areas like drone delivery, robotics and high tech delivery vehicles. Netflix made bet the business type investments to transform itself into a streaming giant, including a $40M investment to build new streaming technologies in 2007 (Source: https://producthabits.com/how-netflix-became-a-100-billion-company-in-20-years/). At the time the company had only a $49M net income 12 month run rate DVD delivery business and there was no demand for a streaming service.


They both have deep digital capabilities. Domino’s has become almost more of a software company than a pizza chain, with 50% of their headquarters-based employees working in software and analytics. Domino’s has also instilled an agile approach to their digital projects, employing A/B testing to learn and iterate. This ethos of experimentation is critical for digital success.


Netflix started out with a deep digital bench, using data and analytics in its early days as a DVD delivery company to build a recommendation engine that predicted the pattern of DVD title requests by subscribers. Over the years they have added to their digital expertise.


Both have a deep understanding of their customers and have established unbreakable relationships thru their focus on the customer. Netflix knows when you pause, rewind, and fast forward its content, they know the ratings you have given content, what you search for, what times of the day you view, what you played before and after The Crown, and what you quit watching after just 10 minutes. They use this customer insight to not only recommend titles you are likely to want to watch but they also use it to inform what content to create. You have probably heard how the decision to make House of Cards was made entirely based on customer data – the popularity of a British version of House of Cards, Kevin Spacey, David Fincher and political dramas on the platform made a clear vector chart that revealed a US based version would likely succeed. Before even the first view, Netflix knew it had a hit on their hands.


The member ID you use to sign in to place your Domino’s order is their ticket to learning everything there is to know about your pizza consumption habits. Due to the digital nature of both Domino’s and Netflix, each engagement generates more data to add to their profile of you, so they can anticipate and meet your every need. Companies that establish this sort of digital relationship with their customers and mine the data it generates, leave their competitors in the dust.


While both Netflix and Domino’s digital transformation driven massive stock run up over the last decade may have slowed, there are other companies out there that are either early in their transformation, or still have a lot of digital value ahead of them to capture for their shareholders. However, it’s not easy to find them because digital transformation is not easy. A stunning 70% of digital transformation initiatives fail (source: https://www.mckinsey.com/industries/retail/our-insights/the-how-of-transformation). Finding the next digital transformer winners is worth the effort. And, as I covered in a recent post about the impact of digital transformation on investing, it’s not too late.


So, how can we spot the winners before their digital transformation gains become so obvious and priced into their stock price that we miss the investing opportunity? I believe there are four criteria for spotting the potential high return digital transformers.


After screening dozens of public companies for high potential digital transformation investing opportunities, I settled on three companies I felt matched the above criteria the best for a deeper analysis. The purpose of my analysis is to find the best digital transformation investing opportunity, amongst Home Depot, Starbucks, and Nike.

Home Depot is two and a half years into a three-year, $11 billion digital transformation investment program that begin in 2018. While they are now starting to see some dividends from these investments, it hasn’t been entirely smooth sailing. Home Depot had faced slower growth in digital sales due primarily to a legacy technology environment that constrained the company’s efforts to digitize its customer experience.


This is not completely uncommon. Many long-standing bricks and mortar companies have a hodge podge of technology infrastructure built up over decades that constrain their ability to move quickly into digital. Home Depot seems to be back on track. In 2019 the company grew its online sales 21.4% year over year. I will want to see this digital business growth rate accelerate in the coming quarters to know that Home Depot is firing on all cylinders, and fully realizing the gains from its digital transformation.


Moving from a legacy IT infrastructure to a digital model is not cheap or easy. Home Depot will need to invest more in its IT infrastructure over the coming years to move beyond the digital table stakes they’ve now achieved, to a more differentiated digital business. As a potential shareholder I’ll be looking for future investments in digital that ensure Home Depot sees its transformation thru to a more mature stage in the coming years.


How significant is Home Depot’s digital transformation?

Across the three main types of digital transformation, digitizing the customer experience, digitizing operations, and creating whole new value propositions thru digital, Home Depot has focused mostly on the first two thus far.


Digitize customer experience

The One Home Depot initiative, Home Depot’s largest digitization investment, is transforming the shopping experience for Home Depot customers, creating a seamless shopping experience across in-store and online.


The One Home Depot initiative has created unique omni-channel experiences like “buy-online-pick-up-in-store” and in-store directions from within the Home Depot mobile app to the precise in-store location of a product of interest.


While Home Depot has made good progress creating a true omni-channel shopping experience, they are coming up short in terms of maturing their digital relationship with customers beyond the basics of commerce transactions and the in-store experience. For example, they are not fully leveraging the opportunities to use digital to build customer loyalty towards their brand. This is even true with their most engaged customer cohort, their Pros. They currently lack sophisticated personalization and digital brand experiences that would go a long way in increasing spend per customer. As explained by their CEO Craig Menear during a November 2019 analyst call:


"Take the B2B website experience, for example. Our investments in a personalized B2B website experience is a significant component of the unique value proposition we are creating for our pros. As you would expect, the most engaged customer cohort is 135,000 pros that we on-boarded at the beginning of the year, and we are seeing meaningful lift in spend as these customers become more familiar with the new experience. The rollout of the B2B site experience itself is on track, but underlying IT work must be completed before turning on additional elements of personalization and functionality for our larger pro customers.”

Digitize operations

Home Depot has invested to digitize its operations, including in-store improvements, integration of its digital experience, and increasing the capacity of its fulfillment network. For example, Home Depot has invested $1.2 billion on building out direct fulfillment centers. Once fully implemented, 90% of the U.S. population will have access to 1-day delivery from Home Depot.


The result of these operation-based investments has led to Home Depot recently achieving the highest level of sales per square foot in its history.


How strong are the company’s digital capabilities?

Like many bricks and mortar companies committed to their digital transformation, Home Depot has aggressively recruited technical talent. The pivot to transform with internal digital talent came with the realization they needed to continuously iterate based on customer feedback. Home Depot decided it needed to do much of its digital development in-house. It leaned on partners to help it shift to operate like a software company and in 2017 started to hire an additional 1,000 in-house tech professionals. Today, Home Depot produces 90% of its code in-house. (Source: https://go.forrester.com/blogs/a-blueprint-for-pragmatic-digital-transformation-the-home-depot-story/)

While it’s good to see the commitment to becoming more like a software company, some marks have to be deducted from its leadership team’s digital quotient. The leadership team either miscalculated or they poorly executed the re-architecting of Home Depot’s IT infrastructure. Critical to realizing more advanced digital scenarios. Either way it leaves a stain on their track record and reflects poorly on their digital capabilities. The delays have been a lag on Home Depot’s digital business growth, and it seems leadership should have had a better handle on how their legacy infrastructure could hinder their digital transformation.


How much runway does their transformation have to add shareholder value?

Home Depot is still in the early stages of their digital transformation. They are nearing the completion of the basics, after some initial setbacks they are working to overcome. They can’t proceed with bigger moonshot bets, especially in the area of creating new digital based value propositions, until they complete the omni-channel transformation they began two and a half years ago.


Home Depot may tap Augmented Reality (AR) more (they have basic AR functionality available today in their mobile app) to enable their customers to design and visualize what their home improvement projects could look like, get pre-purchase advice from Artificial Intelligence (AI) based bots, and easy ordering all from within one AR based experience.


There is also opportunity for Home Depot to focus more on the outcomes they are trying to enable for their customers. It’s not about just selling the supplies to a Do-it-Yourself (DIY) homeowner so they can install a deck. Rather, it is about helping the DIY homeowner be successful with the backyard deck project so they will want to take on the next home improvement project and buy more from Home Depot. With this mindset, Home Depot can offer its customers new digital services or premium content as part of a subscription that adds new revenue streams. This could include a digital service where Home Depot virtual experts are on call 24/7 to “virtually” guide you through your next home project in whatever level of detail is required.


Speaking of subscription opportunities for bricks and mortar retailers. Home Depot could steal a play from 329-year-old Swedish retailer Husqvarna. They offer home and pro consumers a subscription service called Battery Box that provides them with access to heavy, battery-powered equipment like hedge trimmers, chainsaws, and leaf blowers. Their subscribers pay a flat monthly fee and return stuff when they are done. So, rather than flinching at buying a table saw for one-time use, the subscriber could now move forward with their home project and buy the supplies from Home Depot. All of this starts with a customers’ digital identity. As Home Depot mines the data they assemble around this identity, they will learn more about their customers, and be able to identify new revenue opportunities in better service of their customers.


There is lots of opportunity for Home Depot to bring more value to customers thru unique digital experiences and services, but first they must get the basics right. If Home Depot can execute on the more advanced digital opportunities they have yet to tackle, I see a long runway ahead for investors to capture the increased shareholder value these opportunities are sure to create.


What is the company doing to become more customer centric?

While it seems Home Depot is collecting a treasure trove of data and connecting the dots between this data for fresh new insights, they are limited in how they’ve put it to use.

It’s great they use the data they collect to better understand their customers, which I’m sure comes in handy when conceiving marketing campaigns or doing merchandising. But they are still operating in an analog world with this data. When we review Starbucks and Nike next you will see how much more opportunity there is for Home Depot to use this data in real time to create personalized offers, build loyalty, anticipate demand, and offer more customized products.


Investor Takeaway

The delays Home Depot has encountered during this first phase of transforming into a major omni-channel could be good news for investors. If you are confident Home Depot will get itself out of their current state of IT spaghetti, enabling them to tackle more advanced digital scenarios, the benefits from their digital investments will start to accelerate and likely materialize in stock price appreciation over time.

Starbuck is an early pioneer of digital transformation. Starbucks first started accepting mobile payments in 2011, well before tech brands like Apple and Samsung were able to execute on mobile pay. If Starbucks already has a lot of digital transformation mileage, why am I including them as a potential digital transformation investment? Haven’t most of the shareholder gains from Starbucks digital transformation been realized?


What excites me about Starbucks digital future, and what I describe in more detail below, are their growth opportunities including China, on demand delivery, and the possibility of monetizing its own digital platform software. Starbucks has a track record of continual digital innovation, demonstrating the company has the capabilities to identify and capitalize on these and other new digital based opportunities.


Make no mistake, Starbuck is a software company that has mastered the art of deeply understanding and satisfying its customers, that just so happens to sell coffee.

And they have an on-going commitment to digital transformation that could enrich current and potential shareholders for years to come.


How significant is Starbucks’ digital transformation?

To say Starbucks has delivered on significant digital transformation initiatives, rewarding its shareholders over the years, is an understatement. Starbucks is the example of how traditional bricks and mortar retailers can leverage digital innovations, rather than fight them.


While it would be easy to assume Starbucks has wrung out all the juice available from a typical digital transformation, this is not the right way to look at what Starbucks is doing. Starbucks does not do digital transformation in a linear manner. Theirs is a never ending and iterative approach to grind out more and more value from digital. Starbucks stays on the leading edge of adopting new, disruptive technology and re-applying them across the customer experience, operations, and its value proposition. They started with mobile ordering years ago, added mobile commerce, member ID and big data, and personalization. Now they are applying AI, Cloud, cryptocurrency, block chain and the Internet of Things (IoT) to continue their next wave of digital evolution.


Digitize customer experience

Any discussion about how Starbucks has digitized its customer experience begins with what they refer to as their digital flywheel.

Starbucks’ digital flywheel strategy is all about acquiring new customers, offering rewards to increase loyalty and spend at Starbucks, personalizing offers, making ordering convenient, and enabling easy digital payments. All sorts of customer data is being collected throughout this flywheel. As Starbucks sells coffee to its customers, they learn more about their customers preferences, and use that insight to get them to buy more thru personalization, thus generating more data thru more transactions. This strategy drives customer loyalty and increases the frequency and spend of its customers.


Starbucks does a lot of pre-purchase and post purchase tracking to assess the lift in spend once they acquire a new customer into its digital flywheel. They know modest increases in the total universe of monthly active digital customers drives significant long-term value. Monthly active users of the Starbucks mobile app are an important metric to monitor to assess its future enterprise valuation. And, if this last quarter (Q2 2020) was any measure the strategy is working. Active members increased by 15% year over year to 19.4 million at the end of fiscal year 2019.


Digitize operations

The latest disruptive technology Starbucks has begun to apply across the organization is Artificial Intelligence (AI) with its Deep Brew initiative. As explained by their CEO Kevin Johnson the programs mission statement is:


“Deep Brew will increasingly power our personalization engine, optimize store labor allocations, and drive inventory management in our stores. We plan to leverage Deep Brew in ways that free up our partners, so that they can spend more time connecting with customers. Deep Brew is a key differentiator for the future.”

While Deep Brew had been applied to the personalization engine it uses for customer offers and recommendations, it is now being applied to company and store operations. Deep Brew will automate inventory and replenishment orders, predict staffing needs, sequence orders, anticipate equipment maintenance, and streamline supply chain logistics.


Another significant operations digitization initiative for Starbucks is how they will be using the internet of things (IoT) technology to better manage and maintain the machines used throughout their store network. Each Starbucks store has more than a dozen pieces of equipment, from coffee machines to grinders and blenders, that must be managed without a glitch. They will be connecting these machines to the cloud so they can collect data after every shot of espresso pulled. The data collected will help with predictive maintenance and to push down new recipes directly to the machines, eliminating what was a very manual process involving over 30,000 stores in 80 markets around the world.


New value proposition

Starbucks is always looking for ways to create new value for its customers through their use of digital. One emerging examples of this is delivery. Starbucks has been ramping up the rollout of their on-demand delivery service in partnership with Uber Eats. Starbucks now has 1,600 stores across the US offering deliveries. Similarly, Starbucks partners with Alibaba for its deliveries in China.


Starbucks made news in 2019 when it partnered with, and took an equity stake in, Brightloom – a restaurant tech company. The move is designed to bring Starbucks’ digital flywheel software to its global license partners and possibly the broader restaurant industry. It’s an interesting opportunity and takes Starbucks in the direction of becoming a Software-as-a-Service (SaaS) provider to the restaurant industry. While Starbucks is looking to mimic how Amazon evolved from an online bookstore to a SaaS company by creating Amazon Web Services, it’s too early to tell if they will be successful. Starbucks has created the pre-eminent digital customer experience platform, from ordering to payments to personalization; we will have to wait and see if they are successful in moving beyond coffee to become the dominant SaaS provider to the restaurant industry. At the very least the move will help get the remaining half of their global licensees on the platform so that Starbucks customers have a consistent digital experience from wherever in the world they may be ordering coffee.


How strong are the company’s digital capabilities?

Starbucks has digital innovation in its DNA now. Its first foray into the digital world was in 1998 when they launched Starbucks.com, followed by providing Wi-Fi in its stores in 2001. To help accelerate their digital transformation Starbucks established the Starbucks Digital Ventures (SDV), an internal incubator for digital projects in 2008.


Starbucks has built on this digital capability foundation over the years through people, process, and technical expertise:


  • People: Over the last few years there have been some notable people developments, including having a Chief Digital Officer and VP of Data Analytics on its senior management team, appointing former tech executive Kevin Johnson to be its CEO and adding Microsoft CEO Satya Nadella to the company’s board of directors

  • Process: Starbucks has a lot of the processes of a tech startup. They adhere to the agile software development process and have a culture of experimentation. This includes instituting proper experimentation approaches to ensure new ideas are tested amongst a statistically significant group of stores before rolling out broadly (source: https://anthonysmoak.com/2019/01/04/starbucks-digital-and-analytics-a-perfect-blend/ ).

  • Technical expertise: Starbucks has the deep technical expertise to master disruptive technologies and put them to use to drive growth. One example is their data science capabilities. Data is used across the organization to make decisions concerning product, sales, marketing, operations, and customer experience. Starbucks has 30 million+ digital connections feeding into its personalization systems. That’s everything from data about what times of day people usually order to which drinks they typically like, which can then be combined with other data like the geolocation and time of year to offer up personalized recommended items and offers. They even have a real estate analytics team using geolocation, weather, and purchase pattern data to determine where to place its next retail locations.

How much runway does their transformation have to add shareholder value?

Because of their commitment to a never-ending digital transformation I have confidence as a Starbucks shareholder that they will find multiple ways to boost shareholder value from their digitization efforts. It could be their recent bets with delivery, cryptocurrency, AI or even becoming a SaaS provider to the restaurant industry. However, what has me most excited about Starbucks’ runway for digital driven growth is China. But what does Starbucks efforts to grow their footprint in China have to do with digital? More than you think.


China is not a traditional coffee drinking market. China has historically been so tea-crazy that Chairman Mao used it as toothpaste. Today, Chinese people drink on average six cups of coffee per year. U.S. consumers drink 388 per year, and Germans drink 867. (Source: https://news.cgtn.com/news/3d3d414d314d7a4d34457a6333566d54/index.html ).


To capture this massive greenfield opportunity Starbucks will need to apply a digital first approach to win in China. Digital has become part of the Chinese coffee culture. The mobile commerce habits of Chinese consumers demand companies and brands that want to win in China to adapt or die. Yum China -- licensee of KFC and Pizza Hut in China - reported in March 2020 that they have an amazing 250 million loyalty rewards members via its mobile app.

Digital is what enabled local coffee startup Luckin Coffee was able to take the market by storm. Luckin Coffee has grown to 4,500 stores (as of January 2020), exceeding the number of Starbucks stores in China, on the back of the company's proprietary mobile app. Luckin Coffee runs a mobile first coffee experience where customers place orders on their phone and pickup at one of the small Luckin kiosks typically inside office buildings. The focus of these kiosks is on maximizing throughput and efficiency.


While Luckin Coffee has proven to be a disruptive competitor to Starbucks in China, it’s recent entanglement in a massive fraud perpetrated by its COO Jian Liu and subsequent Nasdaq delisting (pending appeal) has created a distraction for them that could create an opening for Starbucks to pull ahead. It’s not just Luckin Coffee’s self-inflicted wounds that have put Starbucks in the pole position. A few years ago, Starbucks adapted its linger style café formula to the local market, going big on mobile ordering, payments, and on-demand delivery in its second largest market. Starbucks has developed important digital partnerships in China with Tencent, Alibaba and others to fit the quick coffee preferences of Chinese consumers. They are doing their best digital innovation in their largest growth market:


"Starbucks is growing and innovating faster in China than anywhere else in the world” - Kevin Johnson, President and CEO of Starbucks

Starbucks is executing well with digital in China. Starbucks' digital loyalty programs reported ending 2019 with more than 9 million active rewards members in the middle kingdom, representing a year-over-year increase of 36%. There is still a lot of upside in China that Starbucks is poised to capture with a continued focus on meeting the digitally savvy Chinese consumer on their terms.


What is the company doing to become more customer centric?

Using their digital flywheel platform, Starbucks has so perfected the customer experience that they are now reselling this approach and the technology to other restaurants in the industry.


Starbucks has some of the most loyal customers of any company in the world. This is not because of the addictive nature of the top ingredient used across their many drinks. Starbucks knows so much about their customers that they can cater a personalized experience that removes all friction from buying “my drink they way I like it”.


Investor Takeaway

Starbucks is a pioneer in digital transformation. They have since managed to turn their transformation into a never ending and iterative process that has been embedded into the culture at Starbucks. Starbucks has been, and will continue, being an early adopter of all sorts of different disruptive technologies. While it may not deliver the 20%+ annualized average return for SBUX shareholders it has over the last 10 years (as of May 18th), asking for market beating returns seems realistic. Provided Starbucks continues its successful track record of using digital to deepen customer loyalty, streamline operations and win in new, growing markets like China.

In October 2019, Nike named John Donahoe their new CEO. This was not your average CEO successor announcement. Mr. Donahoe, who has been on the Nike board of directors for five years, has a successful track record leading several tech companies. Most recently it was as CEO of the high growth enterprise cloud provider ServiceNow and prior to that as CEO of eBay.


What does a tech executive appointment at the highest level of the company mean for Nike, and more importantly current and future shareholders? It’s not like Nike is new to the digital game. It has been on its digital transformation journey for some time. In 2012 for example, Nike launched its digital-fitness tracker FuelBand, as a reaction to Startup rivals Fitbit and Jawbone. It fizzled out though. After several product generations, shortly before the Apple Watch was released, Nike torpedoed the nascent fitness tracker.


More recently Nike has been on a tear with their digital strategy and execution. Digital is Nike’s fastest-growing channel already representing more than 20 percent of overall business currently. Sales thru digital is projected to rise to 30 percent by 2023. Despite this progress, I believe there is more runway ahead as exemplified by Nike’s appointment of Donahoe as their CEO. As Cowen analyst John Kernan noted at the time of the announcement - “Nike is in the process of amplifying their digital capabilities and speed and Mr. Donahue will accelerate that trajectory”. Nike is putting the pedal to the metal on its digital transformation strategy.


How significant is Nike’s digital transformation?

Nike is hitting on all cylinders in terms of improving the customer experience thru digital. They are also driving margin improvements from the investments they have made to digitize operations. Where they have room to improve is using digital to create new value propositions for customers altogether. They have started with some small probes in this area. There is a lot more greenfield opportunity for Nike to deliver transformational new value propositions. This means potential opportunity for investors. Let’s examine the scale of their efforts in each of the three areas of digital transformation.


Customer experience digitization

Nike is digitizing its customer experience through personalization, Artificial Intelligence (AI), e-commerce, and apps. I mean a lot of apps.

By my count Nike has six unique digital experiences for the consumer, each purpose built, serving distinct needs, and building brand loyalty. Their most comprehensive platform, Nike APP is a hub for membership experiences, powered by a personalized storefront and collection of content. Nike APP members spends 3x more than a guest. The ultimate source for “sneakerheads”, the SNKRS app fuels the passion of over 4 million sneaker fans. Both the Nike Run Club and Training Club are the number one apps in their respective categories. The Nike App at Retail provides in-store customers with personalized experience via their devices. Nike.com is the sports apparel giant’s e-commerce site.


Most importantly, Nike is not resting on its success to date. The company does a lot of experimentation in enhancing their customer experience thru digital. This is a good sign of Nike’s ability to continue to offer differentiated digital experiences that engage and delight.


Operations digitization

Nike has digitized its supply chain over the last few years to increase its margins. This has included leveraging real-time sell-through data and radio-frequency identification (RFID) to better match supply to demand.


Nike has also made additive manufacturing a core part of its strategy to improve time to market and reduce costs. Former CEO Mark Parker, “we’re continuing to scale our transition from cut and sew, where precision is at the stitch level, to digital design, where precision is at the pixel level.” The goal is “getting product to the consumer faster. It’s about lowering our product cost, really trying to drive greater labor productivity, less waste in the system, new design capabilities.”


New value propositions

Nike is starting to make inroads in developing whole new value propositions for customers, unlocked by digital. This includes their “Reserved-by-you” perk, offering digital subscribers guaranteed access to must have shoes, and the Nike Connect program. Nike Connect uses an NFC chip planted in their products to provide the owner with access to unique content. For example, the company released NBA Connect a few years ago, where a simple tap of the jock tag of the jersey unlocks curated content and personalized offers based on the team jersey you purchased.


While these value-add initiatives show promise, they are not transformational. If you were a harsh critic you would probably say these sorts of digital value props are gimmicky. I think they deserve more credit as worthwhile enhancements, albeit small, that will add new value on top of the product the customer probably already intended to buy. Let’s be clear. These are not whole new digital products or services that will unlock billions in revenue for the company.


There are exciting digital value proposition opportunities for Nike if they can come up with the right vision and execute well. More on this below.

How strong are the company’s digital capabilities?

With their appointment of John Donahoe (former CEO of ServiceNow and eBay) as Nike CEO and acquisitions of technology companies, Nike is transforming itself into a technology company:

  • It bought computer vision startup Invertex Ltd., which makes technology that could eventually enable customers to accurately measure their feet at home.

  • It bought predictive analytics company Zodiac in 2018, following up in 2019 with the acquisition of another analytics company called Celect.

  • In 2016 Nike acquired Virgin MEGA, a digital design studio.

Here is how Nike describes its digital maturity, as expressed by one of their executives:


“Fundamentally, at this stage, Nike is a technology company. It’s a technology company that builds upon its historical strengths in footwear design, storytelling and inspiration, and it’s able to use those in combination to solve problems that no one else can solve”

I love to see companies with a long history, that pre-dates digital, transform themselves into software companies. It appears that Nike is making that transition successfully.


How much runway does their transformation have to add shareholder value?

Much of Nike’s runway for digital growth is tied to personalization. They have applied personalization quite successfully to optimize the customer experience. Nike’s next frontier for personalization is in using it to create whole new products and services that drive new revenue streams. Three areas where I think personalization could unlock new growth for Nike include an emergent subscription service, and future potential opportunities in digital personal training and customized shoes.


Subscription service

Nike has entered the world of digital subscriptions. They recently launched the Nike Adventure Club, a digital sneaker subscription service for kids. With the service parents can receive anywhere from four to 12 pairs of sneakers per year, and it comes with nice accoutrements.


Armed with more data from its app ecosystem and new digital services, Nike is in a good position to build the ultimate subscription service that meets the personal sport and lifestyle needs of each customer segment they serve. Whether they are kids, runners, basketball, or soccer players.


Digital personal training

Looking beyond the shoes and sports apparel that Nike has built an empire on, their real purpose is helping people optimize their individual sports performance. With advances in new technologies such as sensors, wearables, ubiquitous connectivity, big data, and artificial intelligence, Nike could provide highly personalized sport performance coaching to the millions of athletes using their products.


Imagine being able to subscribe to a digital personal trainer service from Nike that tracks and monitors your training and health stats to provide the perfect workout and health plan, with tools to track your progress. The cherry on the sundae? What if Nike used its celebrity athlete endorsements and artificial intelligence to provide you with seemingly personalized motivation from time to time. Yeah, I may spend more time practicing my jump shot if Lebron James is giving me coaching tips and the odd nudge on my app.


Nike is already making inroads to “smart” footwear that offer a glimpse into their potential ambition in this area with the launch of the Adapt BB in 2019. The guts of the shoe are a 40 by 50-millimeter casing that contains the operating system of the shoe – powered by a gyroscope, Bluetooth sensor, rechargeable battery, and motor. The shoe operating system acts as communication network that could be used in the future to monitor your running strides on jogs, or feet placement for bodyweight workouts, and use the data it collects to provide form correcting tips on the fly. Combine that with Nike branded wearables like a jogging shirt with a built in heart monitor or wristbands that monitors your pulse, Nike can collect all sorts of signals during and after your workout that can be mined for insights.


Using artificial intelligence in combination with the data insights they collect from wearables and Nike could provide tips, benchmarking (against top tier athletes and those with similar health profiles) and guidance to help you reach peak performance.


Customized shoes

There is an arms race underway amongst the top shoe manufacturers to use 3D printing to offer consumers truly individualized shoes. This means individualizing the shape, fit and performance of the shoe to fit the individual buying the shoe. Today Nike, as do many of the other shoe manufacturers, offer style customization thru its Nike By You service. The big opportunity is customizing the shoe for fit and performance. Moving from mass-made shoes in few sizes to individualized higher-performing shoes requires significant investment. Nike will need to out innovate Adidas and New Balance, but the rewards are significant for whoever wins this arms race. They are off to a good start with their 3D printing partnerships and acquisition of computer vision Startup Invertex, which conceivably could be applied to scanning your foot to design the perfect fit shoe.

Admittedly these are both speculative opportunities on my part and are likely longer-term opportunities. Further technology advancements are required to realize these scenarios, but the building blocks are there.


What is the company doing to become more customer centric?

Across its portfolio of apps, including the Nike App at Retail, Nike is learning a lot about the preferences, habits, buying patterns and aspirations of its customers, whether expressed digitally or physically within a store. To get this comprehensive view of the customer, across multiple app and retail interactions, Nike has linked this data with one single membership profile. This enables Nike to deliver a consistent consumer journey across physical and digital that builds further loyalty.


Investor Takeaway

With a new digitally savvy CEO at the helm, lots of headroom left to grow their digital sales channel, and new digital value proposition opportunities in front of them, I’m pretty optimistic about the future of Nike. What excites me most about Nike is their opportunity to grow their subscription business. Subscription based companies are growing nine times faster that the S&P 500 due to the strong moat a happy subscriber base establishes (Source: Subscribed, Tien Tzuo, 2018). Nike has the right combination of customer centricity, compelling digital experiences and an improving personalization competency to succeed with their subscription business, setting up shareholders for an extended run up of the stock.


The Bottom Line

Looking across the criteria for spotting potential high return digital transformers, it is clear from a purely fundamentals perspective that Starbucks is the best opportunity. Nike is a close second.


Digital transformation investing scorecard

In the real world we cannot ignore valuation. Using back of the napkin type valuation metrics none of these three digital transformers are good buys currently. I will be monitoring the stock prices of both Starbucks and Nike closely, ready to pounce if the valuations become more reasonable.



Now that we have looked at investing opportunities amongst bricks and mortar companies that are undergoing a digital transformation, what about the tech companies powering these digital transformations? Subscribe to my newsletter today to get access to my upcoming special report on the emerging cloud platform providers that are powering digital transformation and therefore should be on your watchlist.

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