Nike President and CEO John Donahoe’s announcement on September 13 that he would step down from the company’s top position puts a bookend on a tumultuous financial and cultural period for the Beaverton, Oregon-based sportswear giant. Nike’s decision to pivot aggressively toward a direct-to-consumer (“DTC”) business model over the last several years – now widely considered to be a misstep by experts, investors, and even company leadership, itself, according to recent lawsuits – not only contributed to Donahoe’s resignation and a plummeting stock price for Nike, but also a fractured distribution network and legal troubles for the company and its executives.
And though Donahoe’s leadership tenure at the company may be coming to a close over the next several months (he will step down this month but stay on at the company as a consultant until early next year to help with the transition), two securities fraud class action lawsuits that allege that Nike and Donahoe failed to disclose critical risks related to the adoption of a DTC model continue on. The plaintiffs in the two proposed class action cases argue that Nike’s hard transition to DTC – which cut out traditional retailer partners like Foot Locker and smaller stores from Nike’s sales strategy – was a high-risk move that the company glossed over in its communications with investors.
At the same time, the plaintiffs allege that Nike willfully misled them about the success of the DTC strategy until it was too late.
Why DTC Didn’t Work
Nike’s push towards a DTC business model was seen as a bold move when it began in 2017 under former CEO Mark Parker, and it gained significant traction during the COVID-19 pandemic, Kenneth Anand, of counsel at Jayaram Law and author of “Sneaker Law,” told TFL. The idea was simple: by bypassing traditional retailers and selling directly to consumers, Nike could cut out the middlemen, increase profit margins and “take back” its supply chain. But Nike’s attempt to overhaul its decades-old business model came with some unexpected pitfalls, an over-aggressive strategy, and a lack of flexibility to change.
For instance, during the pandemic, consumers became more comfortable shopping online, and Nike became more dependent on DTC, Anand told TFL. The sportswear titan “figured that with such a strong brand, they could rely more on digital sales and cut out the middle man,” he said. “But once the pandemic started to fade, people wanted to go back to stores, try things on, and experience the product firsthand. Nike didn’t diversify fast enough, and by the time they realized, it was too late.”
Not uncharted territory, the DTC model has been highly successful for brands that built their businesses around the concept from the start. Warby Parker, for example, transformed the eyewear industry by offering customers the ability to try on glasses at home before purchasing, eliminating the need for retail showrooms. Similarly, Allbirds leveraged its online platform to sell eco-friendly footwear, growing a loyal customer base that valued both sustainability and direct engagement with the brand. So, why not Nike?
The key difference between Nike and brands like these lies in their origins, Anand said. Warby Parker and Allbirds built their entire business model around DTC, offering unique, niche products that filled specific gaps in the market, and creating loyal followings online. They also kept their operations nimble, expanding to physical retail only after establishing a solid online foundation. Nike, on the other hand, was built on a robust retail network and decades of partnerships with retailers, according to Anand. These retailers were critical to Nike’s success, offering consumers the chance to try products in person and engage with the brand in a hands-on way.
When Nike pivoted heavily towards DTC, it severed ties with many of these long-standing partners, a move that may have happened too quickly and not only cut off an important segment of its sales strategy but also likely confused consumers. “They cut off relationships with big chains like Foot Locker and mom-and-pop stores that had historically promoted their brand,” Anand said. “These stores were essential to their community presence, and when Nike pulled back, it alienated a lot of those retailers.”
Securities Lawsuits
The securities fraud cases waged against Nike shed some additional light on the downfall of its DTC efforts, namely, by way of claims that Nike misled investors about the true risks involved in its DTC strategy. According to the two proposed class action complaints, by painting an overly optimistic picture when the opposite was actually true, Donahoe caused significant financial harm to investors. Named as a defendant in both of the lawsuits along with Chief Financial Officer Matthew Friend, the plaintiffs claim that the two executives led the charge by way of misleading statements that they made between 2021 and 2024 about the Swoosh’s DTC initiative.
The twin class action lawsuits, which were filed in federal court in Oregon by a Florida pension fund and an individual Nike shareholder in June and July, respectively, make nearly identical allegations: Nike’s leadership emphasized the potential profits of its DTC strategy during earnings calls and other events without adequately addressing its downsides, including the risk of alienating long-standing retail partners and misjudging consumer behavior as the pandemic waned.
Despite executives (including Donahoe) stating that all well was for Nike on the DTC front, the City Pension Fund for Firefighters and Police Officers in the City of Pembroke Pines alleged in their June 2024 complaint that the business model shift was not “continuing to fuel” Nike’s “momentum” at all. “Notwithstanding [its] struggles with … its direct-to-consumer strategy,” the City Pension Fund has claimed that Nike, Donahoe, and Friend continued to tout the purported strength of NIKE’s business model in 2022, telling investors that Nike’s ‘competitive advantages continue to fuel our momentum’ and that Nile is primed to ‘leverage our competitive advantages to not only gain share but also grow the market.’”
According to both lawsuits, in June 2022, about a year after Donahoe and Friend began touting the success of the “Nike Direct” DTC model, investors learned during earnings calls 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 plaintiffs contend. Three months later in September 2022, Nike reported modest revenue growth and a net income decline of 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 to decline 13 percent over the course of one trading day in September 2022.
The numbers got worse from there, the City Pension Fund asserts in their lawsuit, thereby, prompting Donahoe to admit in March 2024 that “Nike is not performing [to its] potential.” At the same time, he announced 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. The City Pension Fund contends that Nike’s communications to investors were overly optimistic, and that it failed to outline how quickly consumer behaviors might shift post-pandemic and what the risks associated with severing long-term partnerships with key retailers might look like.
Likelihood of Success
The plaintiffs in the two securities fraud lawsuits against Nike face challenges in proving their claims, according to legal experts familiar with the case. Vivek Jayaram, founder of Jayaram Law, told TFL that the plaintiffs in both cases must clear a high legal bar to succeed, though it is not an impossible hill to climb.
Primarily, they will need to allege material misrepresentation – that Nike made statements or omissions that were significant enough to influence investors’ decisions. “The plaintiffs must show that any alleged omission or misleading statement was material, meaning that a reasonable investor would have found it important in making their decision to invest,” Jayaram explained. This can be a difficult hurdle to overcome, especially since companies often defend such cases by arguing that their statements were merely general strategies. “Nike will likely argue something like that these were forward-looking statements about a strategy, not promises of a guaranteed performance,” he stated. “They’ll say, ‘We didn’t hide the strategy, and we certainly didn’t guarantee it would be foolproof.”
Additionally, under the business judgment rule, executives have broad discretion to make business decisions, even if those decisions do not pan out as expected. “Executives are allowed to make bad decisions,” Jayaram said. “It’s not illegal to have a failed strategy.” Additionally, proving scienter – or intent to deceive – will be another difficult aspect of these cases for the plaintiffs. “The hardest part of a securities fraud case is proving scienter – you have to show that Nike’s executives knowingly misled investors or were reckless in doing so.”
This means that the plaintiffs will need to show that Nike executives had access to internal information that contradicted their public statements, Jayaram told TFL, noting that “you have to show that executives knowingly misled investors or had access to information that contradicted their public statements.”
As such, the success of these cases may ultimately depend on what is uncovered during discovery. “They’ll look for internal emails, reports, anything that shows executives knew the strategy wasn’t sustainable but kept promoting it to boost stock prices,” Jayaram said, noting that if the plaintiffs can produce internal documents showing that Nike executives were aware that the DTC strategy was failing, it would obviously strengthen their case. However, “unless there’s an email or a report that shows executives knew the DTC strategy wasn’t working and kept quiet, it’s going to be tough for plaintiffs to show that Nike acted with the necessary intent.”
Nike is also likely to argue that any decline in DTC performance was immaterial and not significant enough to warrant public disclosure. “Nike might say, ‘Yes, we had a bad quarter, but it wasn’t enough to make a big deal about it. We didn’t hide anything significant,'” per Jayaram. And as far as Donahoe’s resignation goes, the plaintiffs may attempt to point to it as evidence that the DTC strategy was in trouble. But that might not amount to much. “In their opening statements, you can imagine the plaintiffs pointing to Donahoe’s resignation and saying, ‘Look, the boss got fired – obviously something was wrong,” Jayaram posited. But still, Nike could counter that the resignation was unrelated to the DTC strategy or the allegations of fraud. “It comes down to what they can get in discovery.”
Overall, while the lawsuits raises allegations that could amount to something, the plaintiffs still face significant hurdles in proving their cases, as is the reality with many securities fraud lawsuits. As Jayaram pointed out, “Fraud is easy to allege and almost impossible to prove.” Without clear evidence from discovery showing that Nike executives knowingly misled investors, the plaintiffs may struggle to meet the high burden of proof required in securities fraud cases.
What’s Next for Nike?
While Nike’s move to shift to DTC is at the center of the pending legal disputes, Anand highlighted how the removal of products from physical stores also left a gap in the company’s business model and reputation with consumers. The retail aspect of Nike’s business model was a big part of its connection to customers, and after Nike pulled back from that aspect of its brand identity, it hurt them. “You could walk into a shop and talk to a sales representative and they would recommend a Nike shoe,” he said. “I believe they waited too long to change course. They should have been faster about pivoting back as they saw things were changing.”
Whether the company is able to pivot back now remains to be seen. A lot of the empty shelf space Nike left behind was taken up by upstart competitors like Hoka, On Running, and Brooks, among others, which are all relying heavily on novel technologies for their increasingly popular shoe models in order to gain a competitive advantage over older, more traditional running shoe brands.
“People were starting to look to other brands because they could go and touch and experience the products that filled the space that Nike gave up,” Anand claimed. “And at the time, I think there were a lot of retailers that were extremely upset when Nike pulled out; But many would be happy to have them back. It certainly will be a draw to have Nike on the shelves.”
Still yet, though the securities fraud cases are ongoing, Nike’s stock rose by 8 percent in the hours after Donahoe’s resignation announcement. Also, the company announced that former senior executive Elliott Hill will rejoin the company to take on the president and CEO roles that Donahoe leaves behind. But even before Donahoe left, the company had shifted its sales strategy and started to focus on a new “Winning is Everything” ad campaign, Anand pointed out. “Nike is a beast,” he asserted. “It needs to get back to what made them great – innovative products and strong relationships with retailers.”
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