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As previously stated, the primary goal behind the opening of NTB is not merely to deliver financial profits from store operations. It is part of a long-term strategic objective to create and amplify the brand heat, driving the entire business of Nike China before, during, and after the Olympic Games. The close and direct connection between NTB and the company’s business goal in China was clearly articulated by Charlie Denson, Brand President, Nike, Inc, at the Beijing store opening on August 7, 2007. Mr. Denson said, “As we head toward the Olympics, we’re extending our brand leadership, deepening our consumer relationships and building what we expect soon to be a

$1 billion256 business and Nike’s second-largest market in the world” 257. The leadership strategically envisioned and specifically connected the business goal in China to the NTB.

Given that China in 2007 was an emerging market, the company initially invested cautiously, with initial store size and investment that was smaller than that of other NikeTowns. The lease term was only five years, reflecting the intention to “test” the

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Nike China has grown at a phenomenal face: in 1994 Nike China was an $8 million enterprise; by 2002 sales had reached $100 million. In 2008, achieved $1 billion revenues in 2008. Source: the company’s website.

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Charlie Denson, Brand President, Nike, Inc, at Beijing store opening, August 7, 2007. Source: Company site.

market. We assumed that at the end of the “testing” period, the option to renew would be exercised and another **-year lease term. However, Nike actually took action to increase its Stage I investment prior to the expiration of the initial lease term. Rather than wait for the end of the “testing period”, the company invested in Stage II by committing

additional investment to increase the store size within the year after the NTB opened. The decision to invest in Stage II prior to the expiration of the first lease term can be explained from the NPV (and RO) analysis. Unlike the other Nike Town investments examined in this study, the initial NPV analysis of Nike Town Beijing was positive, indicating that the investment will add value to the company as a “stand alone” entity. After Stage I was implemented, the result was better than expected by the initial cash flow projections, leading to the early Stage II investment commitment with more confidence of success. Our RO application, if applied to the initial internal NPV estimates would have enhanced the confidence of making the Stage I and Stage II

investment as it would have accounted for more than the “stand alone” value added from the NPV analyses.

The Beijing case also demonstrates the implementation of an alternative sigma from a local comparative company. In the previous three cases, we use the standard deviation of Nike stock to as sigma in the three markets (UK, France, and US) that have similar market characteristics and high market correlation. China, at the moment is a distinctive market compared to the other Western markets. Its ample labor resources have invited many foreigner investments and its gigantic market demand has attracted global

China would experience higher variances in operating cash flows than a company operating in the U.S. In our judgment, it is more appropriate to use an alternative sigma for our application of real options to NikeTown Beijing. We selected Li Ning stock returns as the underlying asset. Li Ning stock returns reflect the Chinese sportswear industry more than the global brands (Nike and/or Addidas) operating in China. The company’s aggressive growth and expansion are reflective of its life cycle that also coincides with the growth spurt of the Chinese economy. We are fairly confident that the result embedded option values generally mirrors the external benefits of the Nike Town investment.

Since its opening on August 3, 2007, NTB has been performing well, better than the initial estimates.258 The store has been well received259 and has been utilized in many ways other than selling Nike products such as hosting running events and world famous sports celebrities’ visits. Nike Town Beijing signals that Nike is committed long term to not only producing in China, but distributing through retail channels that are typical of the companies present operations in the U.S. and European countries.

* WACC **% used in this study is for all investment projects, regardless of country risk,

currency risk, variations of general retail sales, and sports retail sales in particular, different economic cycles compared to home country. This figure may have to be re- examined since it is project risk that dominates the risk measurement in the investment evaluation rather than home country financing cost.

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For business confidentiality, the actual results cannot be disclosed in this paper.

6 Discussion 6.1 Overview

To test the proposition that the Real Options concept complements the traditional NPV analysis, this study examined four Nike flagship stores located in dispersed geographic markets. The application of Real Options methodology to investment decision-making enables detection of value-adding aspects of a company’s real investments that the NPV approach does not normally capture.

Real Options are not traded and thus assertions of value creation in excess of those identified by the NPV analysis cannot be directly tested. Following Jensen, we adopted a deductive approach to hypothesis testing to account for the difficulty in directly testing Real Options. Using the company’s internal, proprietary, and historical investment analysis data to illustrate Real Options applications, we find that the results of our study of the four cases of Nike’s investments in NikeTowns London, Paris, Chicago, and Beijing are not inconsistent with the predictions of the Real Options concept and, therefore, do not invalidate our stated hypothesis. These case studies serve as evidence in the continuing test of the Real Options concept. This is summarized in Table 26.

Table 26: NikeTown Case Study Results Summary Store Open Date RO Type NPV RO Scenario I RO Scenario II NPV 2 RO 2 Value

London 07/17/1999 Expansion -$4,468 $6,072 2nd Sigma N/A $7,220 Paris 11/25/2005 Growth -$2.320 $2,129 N/A N/A N/A Chicago 07/02/1992 Delay $2,531 $3,871 No Delay $7,349 $19,493 Beijing 08/01/2007 Stage $1,612 $2,062 2nd Stage $1,254 $1,702

Investments in NikeTowns are well-suited for RO testing because

NikeTowns were not envisioned as separate profit centers by the company. Rather, the flagship stores were meant to creatively showcase the best of the company’s innovative products and to generate excitement and emotional ties between the brand and store visitors and area consumers. NikeTowns promote the brand and the company’s array of products in dramatic and distinctive ways. In contrast to the company’s other retail shops, which are envisioned as standalone profit centers that are properly evaluated in terms of sales of products on the premises, the value that a flagship store creates for the company is more widespread. As has been

previously discussed, the halo effect and other strategic values generated by a flagship store are not included in the cash flow directly generated by the particular NikeTown being evaluated. From this perspective, the traditional incremental investment analysis of NPV is limiting, and NPV is likely an inadequate tool by itself to evaluate NikeTown investments. The tool does not fully fit the purpose of the investment. If used, it must be supplemented to account for the positive side effects that are not easily measured. The Real Options method can provide, at least

partially, one measurement of the value created by a flagship store above and beyond the revenues generated directly from the store premises. This is

demonstrated in the SRI by the results of the four case studies. Two of the four cases examined had negative NPV’s, and one had a small positive NPV. However, these cases all have positive RO values. When these values are considered in the decision making, the investments became more attractive. In NTC’s case, had the difference in RO due to the delay being evaluated, the impact of delay is not only from the financial aspect, but also from the strategic value such as contingent business opportunity loss.

These results suggest that management might find benefit to including real options analysis in future investment evaluations where it is intuitively obvious that the beneficial effects extend beyond the marginal investment in question, as is the case with the NikeTown flagship stores.

6.2 Interpretation of the Results