It was the Consumer's Revenge. Or the PR man's Nightmare. The Olympic champion, Quincy Watts, was into the back straight of the 400 metres and the gold looked in the bag when suddenly the sole of his Nike shoe parted from its upper. Watts staggered across the finishing line in fourth place. It was a spectacular and humiliating public relations disaster. For the athlete was at that point the focus of a television commercial for super-cushioned Air Max shoes made by Nike. Watts took his shoes and very publicly dumped them in a rubbish bin.

That was at the World Championships at Stuttgart in 1995, but they are still gloating at Adidas, Nike's chief rival, where the year after staff punched the air in triumph when their man Donovan Bailey, in the space of just 9.84 seconds, became the Fastest Man in the World wearing Adidas shoes.

Not that Nike did not get its revenge. At the 1996 Olympics in Atlanta 12 firms paid pounds 28m each to be named official sponsors. Adidas was one of them. Nike was not. But it stole the thunder by buying up every prominent billboard in town and plastering them with hard-hitting Nike ads which stole all the media attention. It also built its own Olympic village and then paid huge sums to all the top stars to appear there. It was so successful that in the run-up to the recent Olympic bid the games' governing body insisted that every bidding city had to buy up all its poster sites for a six-week period covering the games to prevent a repeat.

So Nike have turned their attention to football and the World Cup in France. There, Adidas have paid to set up an official "village" beneath the Eiffel Tower. Nike have been out-manoeuvred by the authorities so that they are able to locate their village only on the outskirts of the French capital. In response Nike have set the marketing industry abuzz with reports that the firm is to spend pounds 20m on stunts to upstage Adidas again. Adidas are threatening "counter-stunts".

It's what the industry calls "guerilla marketing". It is aggressive and impertinent, according to Roger Baird of Marketing Week, who has spent the past month unsuccessfully trying to find out what the stunts might be. Of course, there may be none. Hype is an integral part of the conflict which for all its "guerilla" tag is taking on the characteristics of a full-scale set-piece big battle which makes the ancient conflict between Coke and Pepsi seem tame.

Indeed Nike has recently beaten Coca-Cola, Virgin and other pushy contenders in the UK advertising, marketing and PR industries list of Top 20 "super- brands". Sportswear is now the big league. Almost half the shoes sold in the United States now are trainers.

More than that, sportswear is serious fashion. Not that it has that much to do with sport. Everyone from President Bill Clinton to Liam Gallagher of Oasis wears Adidas (for contrast, Blur's Damon Albarn wears Nike). Only about a fifth of the gear that Adidas sells is actually worn for sport. "Eighty per cent of our products are used for leisure," said an Adidas spokesman. "Sport has become the pop of the Nineties. Sportswear sales have gone at a phenomenal rate in the past five years."

The ultimate endorsement is that of the criminal classes: the most popular training shoe among burglars is the Nike Air Max, according to one police survey. Nike has begun to open Nike-only stores, styled in the portentous manner of a cultic temple from the period of the Antiquities rather than a mere shoe-shop.

Image is everything. It may only be Nike's technical experts who have its trademark tick - which Nike-men call the "swoosh" - tattooed on their thighs, but it is not uncommon to see street-smart kids with it shaved into their stubbled hair.

But image costs. Between 1987 and 1990, the average price of a training shoe in Britain doubled from pounds 24.99 to pounds 49.99, and today, prices of between pounds 99 and pounds 200 are common. Football shirts, running pants and sweatshirts are all similarly inflated. Retail prices are often 600 per cent of what it actually costs to produce the goods.

It is not hard to see where a lot of that margin goes. Nike pays out huge sums to major sporting superstars such as Tiger Woods, Pete Sampras and Eric Cantona. Michael Jordan, the legendary point guard for the Chicago Bulls basketball team, is reputed to earn $10m a year from his Nike deal. Andre Agassi, who wore a Nike baseball cap throughout his Wimbledon triumph, is paid about $2m a year. They do their best to earn the money. Michael Johnson wore gold trainers with a massive Nike tick when he won his Olympic gold medals in the 200 metres and 400 metres. Shane Warne, the Australian bowler, wears a Nike ear-ring.

It is all along way from the small shop lit only by a paraffin lamp in which in the 1920s Adi Dassler and his brother Rudolf, two sports-mad cobblers, began in Herzogenaurach, not far from Nuremberg, to make shoes for track and field athletes and footballers. In 1936, the black athlete Jesse Owens disproved Hitler's Aryan theories at the Berlin Olympics when he won four Olympic gold medals wearing their shoes. The distinctive Adidas brand mark of three white stripes was developed in those days as a way of bolstering the shoes' sides.

More than 30 years later, Bill Bowerman, a track coach at the University of Oregon, and Phil Knight, a college runner, founded a similar business in America. The name Nike - the Greek goddess of victory - came to one of Knight's partners in a dream. A local graphic designer was paid $35 to come up with the Nike "swoosh".

Today both have moved beyond running shoes into a whole range of sportswear. Nike now spends pounds 5.6bn on marketing alone and commands about 35 per cent of the massive global market. Adidas trails behind with pounds 2bn, but it has recovered from the losses incurred earlier this decade when it was owned by the disgraced French politician Bernard Tapie, who bought it from Dassler's widow. Under the chairmanship of Saatchi's former chairman Robert Louis Dreyfus, it has almost totally revamped its product range, adopted a more aggressive marketing strategy and overtaken the industry's third big player, Reebok, which was the market leader in the 1980s but which now spends a mere $400m a year on sponsorship. Behind the big three is a pack of smaller companies such as Pony, Puma and Mizuno, and Britain's Umbro, which has stitched up the English football kit scene.

Until recently football remained outside the Nike sphere of influence. But the company's strategists have recently decided that this is the great hole in the sportswear market. First they signed an eight-year sponsorship deal with the US Soccer Federation worth pounds 74m - a small investment, its analysts reckon, against the time when football takes off in America. Then, earlier this year, Nike signed the biggest sponsorship deal in the history of marketing - a pounds 200m package with the Brazilian national football squad. To that they have added the national squads of Italy, Holland, Nigeria and Korea. They have also bought up a series of individual players, including a pounds 10m contract with the Liverpool striker Robbie Fowler. They are ready to challenge Adidas, which has done deals with Germany, France, Spain, Argentina, Yugoslavia, Romania, Sweden, Hungary, Morocco and China.

But at a cost. It is not just that clashes occur when a player is sponsored by one firm and his team by another. They try to keep that quiet, although news of it leaked when Nike objected to the fact that almost half of the England rugby team appeared in a variety of footwear against Canada at Twickenham recently. Nike was annoyed to discover that the ace goal-kicker Rob Andrew preferred boots made by Mizuno. They insisted that he blacked out the tell-tale white marks in future.

Nobody who knows Nike was surprised. "They are brash and arrogant, but they are in such a strong market position that you ignore them at your peril," said one insider. Indeed. But their brashness can cause them problems. During the 1992 Barcelona Olympics, they had the magisterial pole-vaulter Sergi Buteka at the centre of their ad campaign. "Spanish air traffic control has been informed," said the ad. It was embarrassing, therefore, when Buteka "no-heighted". Then there was the great 1500 metres hope, the Algerian Noureddine Morceli, another Nike athlete. "Ever heard the Algerian national anthem? You will," said the Nike ad. And everyone did - but only when another Algerian, Hassiba Boulmerka, won one of the women's races - wearing someone else's shoes. Poor old Morceli was thrashed. Another Nike great white hope, Daniel O'Brien, didn't even get through the US trials.

The schadenfreude was not just Nike's, of course. In a world of rash claims, the 100 metres world record-holder, the American Leroy Burrell, was sponsored by Mizuno to race in "wonder shoes that will smash the world record". He lost to Carl Lewis, who everyone had written off as past his prime.

But it was not just the reckless predictions which made Nike ads controversial. There was something about their aggressive tone. "It got them a lot of coverage in Atlanta," recalls Roger Baird. "They had ads with athletes throwing up as a sign of how gruelling the games were."

In Chicago, at a time when more than 100 youths had been killed for their trainers in the previous couple of years, a Nike commercial with the catchline "Get Some" was taken off the air after being said to glamorise gang warfare. A black civil rights group led by Jesse Jackson urged a boycott of Nike products for a time. But the row did nothing to depress Nike's general sales. Nor, apparently, did the controversy when US Muslims protested about a new Nike logo intended to look like flames on a line of basketball shoes with names like "Air Bakin'" and "Air B-Que" - unfortunately the flames resembled the word "Allah" written in Arabic script. After a threat to urge Muslims around the world to boycott Nike products, the firm withdrew the line and donated $50,000 for a playground to an Islamic elementary school in the United States.

Then there was the "good-vs-evil" ad, in which a team captained by Eric Cantona saw off a team of cyberspace and ended the match by booting the ball right through the stomach of one monster. It was banned from Danish cinemas and criticised by the football authorities, Fifa and the International Olympic Committee.

But the most serious controversy, and one which is still growing in the United States, is over the low pay and appalling conditions of sport-shoe makers in Thailand and the Philippines. A report by Christian Aid showed that a woman worker producing Nike trainers in China would have to work nine hours a day, six days a week for 15 centuries, on current wages, to match the pounds 929,113 salary of Nike's head, Phil Knight. One factory in Vietnam was reported to have made 61 women run two laps around a plant to discipline them for failing to meet production quotas and for wearing improper footwear.

President Clinton, in an attempt reverse months of disastrous publicity generated by the reports of ill-treatment of factory workers around the world, got Nike and other companies to sign an unprecedented agreement, a code of conduct on employment practices around the globe. Nike and the others would undertake to honour a 60-hour maximum working week - with overtime not to be forced - and to respect the minimum wage laws of the countries in which plants are located. They also undertook not to employ workers under the age of 14. In return, companies abiding by the code will be able to sew "No Sweat" labels into their products to reassure shoppers that in spending their money they are not indirectly supporting slave labour.

It may not be enough. "They've agreed a code of conduct but they haven't agreed on how to monitor it," says Bethan Brookes, a researcher for Christian Aid. "They want to monitor it themselves or get their auditors to do it. We think that's not independent enough."

Nor do many US consumers. Recent reports are that two of Nike's top American football stars are considering terminating their sponsorship contracts, so disquieted are they.

The market for training shoes has in any case taken a downturn in the United States. Shares in Nike have fallen heavily in the US this summer. American kids are turning their backs on trainers in favour of more rugged footwear. Whether the cause is concern over ethics or mere changes in teenage fashion, one thing is clear: the European and world-wide soccer market becomes increasingly important to Nike and its rivals.

Nike has begun to take soccer very seriously. Europe's footballers are now finding that the money to be made from sponsorship can far outstrip their earnings from sport. Paolo Maldini, the Italian footballer, made more last summer from a Nike poster campaign than from playing in Euro 96. (Other soccer stars featured in the campaign, including Eric Cantona, picked up large amounts of money without even kicking a ball in the tournament.)

Already an direct impact on the sport is discernible. In the summer Nike acted as a broker in football's biggest-ever transfer - the pounds 18m deal of Brazilian star Ronaldo, whom Nike sponsors, from Spain's Barcelona to Inter Milan of Italy. At first, insiders say, the company advised him against the transfer. At one stage, to protect its investment in the Brazilian star, Nike considered buying out his contract and lending him out to its sponsored football clubs around the world. Eventually a deal was done, but it was the first one in which a sponsor has interfered with football's decision-making process.

To Nike and Adidas there is nothing new in the idea. Earlier this year they organised two artificial events which have no bearing upon the formats of the athletics the events were rooted in. They created artificial distances. Donovan Bailey vs Michael Johnson was billed as the Olympic 100m champ vs the Olympic 200m champ and as Canada vs USA. But in reality the $150m showdown at Toronto's SkyDome was Adidas vs Nike. Johnson, the American sprinter who won gold medals for both 200m and 400m at last summer's Olympic Games, had signed a six-year $12m endorsement deal with Nike. Bailey was already in the Adidas stable. The hype before the event was formidable but the race itself was a flop, with Johnson pulling up short with an injured leg halfway through. He was ignominiously taken off the course in a golf-cart.

The day before, in Holland, Adidas had put up a $1m prize for a world two-mile record. The protagonists were Noureddine Morceli of Algeria and Ethiopia's Haile Gebreselassie - two of Adidas's leading clients. The winner would get the $1m if he went under the eight-minute mark. They failed. But non-Adidas athletes were not invited, so the impressive Kenyan runner, Daniel Komen, who may well have beaten them both, was excluded, By coincidence, Komen happens to run for Nike.

Will we see such manipulation in football now? Nike have recently signed the Scottish champions, Rangers. "Nine out of ten: must do better," says the ad slogan it has ostentatiously posted outside Celtic's ground - Celtic set the record of nine league titles in a row, which Rangers has now equalled and hopes to beat. It is typical Nike. But what practical consequences, insiders are beginning to wonder, may follow when the Nike- men start pulling the strings?

Nike hopes to acquire an investment in the England team now. England is in the process of negotiating a new kit deal. All the big global companies, including Adidas, have tendered to supply the national team's kit, which is currently provided by Umbro. Nike are the favourites to replace them. Not everyone will feel easy at the prospect.