Chow Tai Fook (1929 HK)

Transcription

1 Equity Research Consumer Discretionary Chow Tai Fook (1929 HK) Accumulate (initiation) Target price: HK$11.70 Albert Yip, CFA SFC CE No. ADT GF Securities (Hong Kong) Brokerage Limited 29-30/F, Li Po Chun Chambers 189 Des Voeux Road Central Hong Kong Well positioned for long-term growth in China; initiate at Accumulate Initiate at Accumulate with TP of HK$11.70 We forecast EPS will grow at a CAGR of 12% in FY16-17, lower than its peers. The company should also see lower store growth of 8-9% in FY15-17 (12-14% for LF and CSS) given its much larger market share and retail network in China. That said, we believe CTF is well positioned for long-term growth as sector competition intensifies given its good balance between self-operated/licensed stores and above-peer online retail revenue. In addition, its new inventory ownership unification strategy facilitates inventory relocation between stores, which could support further development of omni-channel retailing over the long-term. We value CTF at HK$11.70/share, based on 15.6x FY16E P/E, which is the average of its 1-year forward P/E. We have a higher target valuation for CTF than for LF (9.0x) and CSS (11.6x), and believe this premium is justified given its leading market share, mostly directly-operated retail network, vertically-integrated business model and differentiated product portfolio. Well positioned for long-term growth in China 1) Changes to inventory ownership unification are a long-term positive: wholesale revenue is recognized when sales transactions are completed with retail customers at franchised stores, allowing inventory to be relocated between franchised and self-operated stores to facilitate sales transactions and further development of omni-channel retailing. CTF wants this change to be fully implemented by end-fy17. 2) Good balance between self-operated/franchised stores: At end-1h15 CTF had a 62/38 mix of self-operated and franchised stores in China. Having self-operated stores as the main distribution channel means that store quality is closely monitored and managed, while the opening of franchised stores has helped accelerate CTF s penetration into lower-tier cities. 3) Above-peer online retail revenue. 1H15 results weaker than LF CTF saw a bigger net profit decline than peers in 1H15 (- 23% vs LF s -18%) despite its better SSS (-31% vs LF s -41%) and more flexible operating cost structure. While GM saw a noticeable improvement of 5.4ppt to 31.8% driven by a 10ppt increase in the proportion of revenue from gem-set products to 28%, OP margin remained flat as the GM expansion was offset by a 5ppt increase in SG&A expenses ratio. Stock performance 20% 10% 0% -10% -20% -30% Nov-13 Feb-14 May-14 Aug-14 GM highest among peers We believe CTF s higher-than-peers GM is attributable to the following reasons. (1) A more favorable product mix: The proportion of CTF s sales attributable to gold products (which generate the lowest GM across all product categories) is lower than peers. (2) Product differentiation: For example, CTF is earning a GM of around 40% from its Mickey Mouse and Winnie the Pool gold product series, which is much higher than that of general gold products. (3) A vertically-integrated business model: Unlike its peers, CTF s value chain extends further upstream to cover the procuring, cutting and polishing of rough diamonds rather than simply covering jewelry design and manufacturing (mid-stream). As a result, the GM of its diamond products (as reflected in non-gold jewelry GM) is higher than peers. In addition, its overall in-house production ratio of 50% is higher than CSS s 40% and LF s 30%. (4) A price premium: CTF is able to charge a price premium on its products relying on its leading market share and brand awareness. HSI CTF Source: Bloomberg Key data Nov 28 close (HK$) Shares in issue (m) 10,000 Major shareholder Cheng Yu Tung Family (89.3%) Market cap (HK$ bn) 108 3M avg. vol. (m) W high/low (HK$) 14.48/9.50 Source: Bloomberg Stock valuation Year-end March Turnover (HK$ m) Net profit (HK$ m) EPS (HK$) EPS YoY (%) P/E Yield (%) BPS (HK$) P/B ROE (%) ,434 5, ,407 7, E 71,872 6, E 79,589 7, E 86,828 8, Sources: Company data, GF Securities (HK) Research

2 Well positioned for long-term growth in China We believe CTF is better positioned than peers for long-term growth in China. (1) Changes to inventory ownership unification: CTF initiated inventory ownership unification in Aug Following the unification, CTF remains the owner of the inventory at franchised stores, and wholesale revenue will be recognized at the prevailing prices only when sales transactions are completed with retail customers. The purpose of this change: 1) inventory can be relocated between franchised and self-operated stores to facilitate sales transactions (currently it is difficult to relocate inventory between franchised stores and other stores due to tax issues); 2) to facilitate the development of omni-channel retailing and O2O interactions so that online customers can pick up their products from franchised stores; 3) to increase the stability of franchised stores as the price risk of gold inventory distributed to these stores will be managed through hedging carried out by CTF. The change to inventory ownership will be implemented gradually and is expected to be completed by the end of FY17. We believe this is positive for CTF s long-term development in the China market. Its impact: 1) CTF s wholesale revenue will decline by HK$4-5bn in total during FY15-17, implying a 1-2% net profit decline per year; 2) inventory balance will increase by 10-12%. (2) Above-peer online retail revenue: CTF s e-commerce retail sales value (RSV) grew 91% YoY in FY14 but represented less than 1% of its overall revenue. According to L2 s Digital IQ Index, CTF is ranked No. 1 among watch and jewelry brands in terms of digital competence in mainland China. CTF is also leading peers with its sales on Tmall. Figure 1: CTF was the No. 1 best-selling jewelry brand on Tmall and Taobao in Sep 2014 Source: Ebrun (3) Good balance between self-operated/franchised stores: At end-1h15 CTF had a 62/38 mix of self-operated and franchised stores in China. Having self-operated stores as the main distribution channel means that store quality is closely monitored and managed, while the opening of franchised stores has helped accelerate CTF s penetration into lower-tier cities. As the sector s competition is intensifying, we believe store management becoming more important. Better-than-peer store profitability CTF had 1,927 jewelry stores in China (1,201 self-operated and 726 licensed stores) as per its latest interim results. We estimate that its profit margin per store was better than peers at 11.3% (see Figure 2) mainly due to its higher proportion of sales revenue attributable to high-margin gemset products. Page 2

3 Figure 2: Peer comparison China market operating figures Latest interim results (HK$m) Chow Tai Fook Luk Fook Chow Sang Sang Total No. of stores 1,927 1, Self-operated 1, Franchised 726 1,190 na Capex/store HK$6-10m HK$8-10m Rmb9-11m Revenue of self-operated stores 11, ,540 Revenue/self-operated store Retail sales value (RSV)/total store 9 na na Revenue mix by product Gold products 50% 80% 62% Non-gold products 50% 20% 38% Self-operated stores profit ^ na Profit/self-operated store na Profit margin (%) na 7.6% 7.7% Self-operated and franchised stores profit * 1, na Profit/total store na Profit margin (%) # 11.3% na na Sources: Companies, GF Securities (HK) Research estimates ^ We estimate CSS s self-operated stores profit by assuming that its China segment profit as a percentage of retail segment profit is the same as its China retail revenue as a percentage of retail segment revenue. * Including profits from the China retail, wholesale and licensing business segments. # CTF s profit margin is calculated by dividing profit per total store by RSV per total store. GM highest among peers We believe CTF s higher-than-peer gross margin is attributable to: 1) A more favorable product mix: the proportion of CTF s sales attributable to gold products (which generate the lowest GM across all product categories) is lower than peers. 2) Product differentiation: for example, CTF is earning a GM of around 40% from its Mickey Mouse and Winnie the Pooh gold product series, which is much higher than that of general gold products. 3) A vertically-integrated business model: unlike its peers, CTF s value chain extends further upstream to cover the procuring, cutting and polishing of rough diamonds rather than simply covering jewelry design and manufacturing (mid-stream). As a result, the GM of its diamond products (as reflected in non-gold jewelry GM) is higher than peers. In addition, its overall in-house production ratio of 50% is higher than CSS s 40% and LF s 30%. 4) A price premium: CTF is able to charge a price premium on its products due to its leading market share and brand awareness. Gold hedging policy Figure 3: Blended GM comparison by product category Last financial year Chow Tai Luk Fook Chow Sang GM by product category (%) Gold products 14-16% 11-12% 10-13% Non-gold jewelry 40%+ to 50% 34-39% 39-44% Watches 22-24% na 22-24% Product mix (%) Gold products 61% 67% 69% Non-gold jewelry 34% 33% 27% Watches 5% na 4% Overall GM (%) 27.3% 21.9% 16.7% Sources: Company data, GF Securities (HK) Research estimates CTF hedges around 70% of its gold inventories by entering into short positions through gold loans and bullion forward contracts. Its hedging ratio is higher than CSS (40%) and LF (20-25%). Page 3

4 Growth outlook We forecast FY15/16/17 net profit growth of -8/12/12% on revenue growth of -7/11/9% and OP margin changes of 0.1/0.1/0.4ppt. China market to drive revenue growth We estimate FY15/16/17 revenue growth of -5/12/12% from CTF s China jewelry segment on store number growth of 9/9/8% and SSS growth of -9/7/7%. For HK, Macau and other Asian markets, we anticipate FY15/16/17 revenue growth of -13/9/6% in driven by -18.5/5/4% SSS growth and 7/1/1% store number growth. Margin expansion expected We expect CTF s GM to widen from 27.3% in FY13 to 30.1% in FY17, mainly driven by a greater proportion of high-margin gem-set jewelry in its sales mix (from 21.1% of total revenue in FY14 to 26% in FY17). Furthermore, we expect its OP margin to expand 0.1ppt YoY to 12.1% in FY15 fueled by a 3ppt GM increase which would be partly offset by a 2.7ppt increase in its SG&A expense ratio as a result of operating deleverage. Its OP margin is likely to widen by 0.1/0.4ppt YoY in FY16/17 on GM improvements and a decrease in its rental expense ratio. Figure 4: SSS growth Figure 5: Store number growth 60% 50% 40% 30% 20% 10% 0% -10% -20% -30% 48% 35% 20% 16% 32% 32% 7% 7% 15% -3% 17% -9% 5% 4% -4% -19% FY10 FY11 FY12 FY13 FY14 FY15E FY16E FY17E 3,000 2,500 2,000 1,500 1, % 15% 20% 1,627 1,358 1,179 2,670 2,474 2,273 2,077 1,836 13% 13% 9% 9% 8% FY10 FY11 FY12 FY13 FY14 FY15E FY16E FY17E 25% 20% 15% 10% 5% 0% China HK & Macau Total stores Growth (%) Sources: Company data, GF Securities (HK) Research Sources: Company data, GF Securities (HK) Research Page 4

5 Valuation Figure 6: Key assumptions (HK$m) FY13 FY14 FY15E FY16E FY17E Total revenue 57,434 77,407 71,872 79,589 86,828 growth % 1.5% 34.8% -7.2% 10.7% 9.1% - HK, Macau and other Asian markets 27,126 35,259 31,374 34,560 36,612 growth % 10.5% 30.0% -11.0% 10.2% 5.9% store growth (%) 10.5% 6.7% 18.8% 4.5% 4.3% SSS (%) -3.7% 20.1% -18.5% 5.0% 4.0% - China jewellery 29,099 40,516 38,433 42,865 47,841 growth % -9.1% 39.2% -5.1% 11.5% 11.6% store growth (%) 13.8% 5.8% 7.5% 6.6% 5.5% SSS (%) -3.0% 17.2% -9.0% 7.0% 7.0% - China watches 1,210 1,632 2,065 2,165 2,376 growth % na 34.9% 26.5% 4.8% 9.7% store growth (%) 8.3% 50.5% -10.9% 8.2% 7.6% Gross profit 16,283 21,152 21,796 23,724 26,098 Gross margin (%) 28.4% 27.3% 30.3% 29.8% 30.1% Sales mix (%) gold 57.4% 61.2% 51.3% 52.5% 52.0% gem-set 22.9% 21.1% 26.6% 25.5% 26.0% platinum and karat gold 14.5% 13.4% 16.1% 16.0% 16.0% watches 5.2% 4.3% 6.0% 6.0% 6.0% SG&A expenses ratio (%) 16.0% 15.8% 18.5% 18.0% 17.8% Operating profit 7,317 9,255 8,691 9,679 10,941 growth % -13.3% 26.5% -6.1% 11.4% 13.0% OP margin (%) 12.7% 12.0% 12.1% 12.2% 12.6% Net profit 5,505 7,272 6,663 7,482 8,416 growth % -13.2% 32.1% -8.4% 12.3% 12.5% Net profit margin (%) 9.6% 9.4% 9.3% 9.4% 9.7% Payout ratio (%) 40% 50% 40% 40% 40% Sources: Company data, GF Securities (HK) Research estimates Since its IPO, CTF s valuation has been de-rated from a high of 26x to an established range of 11-21x 1-year forward P/E. We value CTF at HK$11.70/share, based on 15.6x FY16E P/E, which is the average of its 1-year forward P/E during the period that it has been trading between 11-21x 1- year forward P/E. We have a higher target valuation for CTF than for LF (9.0x) and CSS (11.6x), and we believe this premium is justified given its leading market share, vertically-integrated business model, mostly directly-operated retail network and differentiated product portfolio, which includes FOREVERMARK, Rio Tinto, Disney, Sanrio, Swarovski and Hearts On Fire. Page 5

6 Figure 7: P/E band (HK$) Dec-11 Apr-12 Aug-12 Dec-12 Apr-13 Aug-13 Dec-13 Apr-14 Aug-14 27x 23x 19x 15x 11x Sources: Bloomberg, GF Securities (HK) Research estimates Figure 8: Hong Kong jewelry and watch retailers valuation comparison Price TP Mkt Cap Price change (%) P/E (x) EPS growth (%) Revenue growth (%) Yield (%) P/B (x) ROE (%) Ticker Rating () (HK$) (HK$ m) 1D 5D 1M 3M YTD FY13 FY14E FY15E FY16E FY14E FY15E FY16E FY14E FY15E FY16E FY14E FY15E FY16E FY14E FY14E Chow Tai Fook # 1929 HK Hold , (4) (7) (8) (7) Luk Fook # 590 HK Buy , (13) (12) (8) Chow Sang Sang 116 HK Accumulate , (5) (5) (14) Hengdeli 3389 HK NR 1.50 na 6,959 (1) (3) 20 5 (21) Emperor Watch 887 HK NR 0.36 na 2, (1) (24) (40) (12) Time Watch 2033 HK NR 1.19 na 2,642 1 (2) (2) na na na Oriental Watch # 398 HK NR 1.64 na 936 (1) 3 (5) (10) (20) Average (2) (13) Sources: Bloomberg, GF Securities (HK) Research estimates ^ Company year ends in Jan. Financial year 2014/2015/2016/2017 data is shown as FY13/14E/15E/16E to facilitate data comparison. * Company year ends in Feb. Financial year 2014/2015/2016/2017 data is shown as FY13/14E/15E/16E to facilitate data comparison. # Company year ends in Mar. Financial year 2014/2015/2016/2017 data is shown as FY13/14E/15E/16E to facilitate data comparison. Figure 9: Chinese and international jewelry and watch retailers valuation comparison Price Mkt Cap Price change (%) P/E (x) EPS growth (%) Revenue growth (%) Yield (%) P/B (x) ROE (%) Ticker Rating () Crncy (US$m) 1D 5D 1M 3M YTD FY13 FY14E FY15E FY16E FY14E FY15E FY16E FY14E FY15E FY16E FY14E FY15E FY16E FY14E FY14E Richemont # CFR VX NR CHF 42, Swatch UHR VX NR CHF 21,303 (1) (1) 6 (6) (19) (19) Tiffany ^ TIF US NR US$ 13,739 (1) Pandora PNDORA DC NR DKK 11, Signet Jewelers ^ SIG US NR US$ 10,375 (2) FF Group FFGRP GA NR EUR 2,383 3 (0) 7 (8) (61) Liaofengxiang CH NR RMB 2,263 (2) Guangdong CHJ CH NR 8.89 RMB 1,223 (2) 4 (6) Ming Jewellery CH NR RMB 938 (1) 4 (1) (1) na Average (0) Sources: Bloomberg, GF Securities (HK) Research estimates ^ Company year ends in Jan. Financial year 2014/2015/2016/2017 data is shown as FY13/14E/15E/16E to facilitate data comparison. * Company year ends in Feb. Financial year 2014/2015/2016/2017 data is shown as FY13/14E/15E/16E to facilitate data comparison. # Company year ends in Mar. Financial year 2014/2015/2016/2017 data is shown as FY13/14E/15E/16E to facilitate data comparison. Company overview Founded in 1929, CTF is a leading jeweler in mainland China, Hong Kong and Macau. It manufactures and sells mass luxury and high-end luxury jewelry including gem-set products, gold products, and platinum/karat gold products. It also distributes watches of various brands. Mass luxury (HK$2, ,000) currently accounts for over 80% of the company s total revenue. As of Sep 30, 2014, CTF had 119 stores in Hong Kong, Macau and other Asian markets, as well as 1,927 jewelry and 135 watch stores in China. Risk factors 1) Cannibalization risk; 2) Valuation de-rating triggered by a gold price slump; 3) Slowdown in the Chinese economy; 4) Slowdown in mainland Chinese tourist arrivals to HK. Page 6

7 Figure 10: Financial statements Profit & loss (HK$m) Balance sheet (HK$m) Year ended 31 Mar FY13 FY14 FY15E FY16E FY17E Year ended 31 Mar FY13 FY14 FY15E FY16E FY17E Revenue 57,434 77,407 71,872 79,589 86,828 Fixed assets Cost of sales (41,151) (56,255) (50,076) (55,866) (60,731) PPE 2,155 3,054 6,160 7,251 7,291 Gross profit 16,283 21,152 21,796 23,724 26,098 Prepaid lease payments Deposit paid for acquisition of PPE Other income Investment in a JV SG&A expenses (9,181) (12,207) (13,272) (14,299) (15,452) Loan receivables Other gains and losses Goodwill Other expenses (1) (38) (91) (38) (38) Deferred tax assets Operating profit 7,317 9,255 8,691 9,679 10,941 3,442 4,263 7,949 9,023 9,048 Net finance cost (222) (89) (176) (108) (159) Current assets Share of profit/(loss) of JV 0 (3) (5) (3) 0 Inventories 27,315 42,544 34,084 40,306 46,007 Profit before tax 7,095 9,163 8,510 9,568 10,782 A/C receivables 3,048 3,146 2,921 3,235 3,529 Income tax expense (1,417) (1,714) (1,759) (2,002) (2,277) Deposits and prepayments 924 1,727 1,603 1,775 1,937 Non-controlling interests (173) (177) (89) (84) (88) Loan receivables Net profit 5,505 7,272 6,663 7,482 8,416 Others EPS (HK$) Pledged deposit Term deposit Growth rates (%) Cash and cash equivalents 8,305 9,467 10,148 10,575 11,029 Revenue 2 35 (7) ,777 57,554 49,991 57,125 63,737 Net profit (13) 32 (8) EPS (20) 32 (8) Total assets 43,219 61,817 57,940 66,148 72,785 Margin & ratios (%) Current liabilities Gross profit margin A/C payables 249 1, ,103 1,199 OP margin Other payables 1,504 2,894 2,657 2,849 3,162 Net profit margin Amount due to non-controlling shareholders of subsidiaries Effective tax rate Tax liabilities 472 1, Payout ratio Bank borrowing 1,000 6,300 2,000 4,000 4,000 Gold loans 4,836 10,787 8,451 9,482 10,234 Cash flow statement 8,413 22,507 15,028 18,462 19,734 Year ended 31 Mar FY13 FY14 FY15E FY16E FY17E Profit before tax 7,095 9,163 8,510 9,568 10,782 Non-current liabilities Net finance cost Deferred tax liabilities Share of (profit)/loss of JV Retirement benefit obligations Others (123) (450) (392) Depreciation and amortization ,123 1,174 Share option expenses Equity Change of working capital 3,794 (13,610) 8,325 (6,402) (5,747) Shareholders' equity 32,926 37,173 40,676 45,353 50,617 Tax paid (1,464) (1,278) (1,736) (1,880) (2,139) Non-controlling interests 935 1,279 1,368 1,452 1,540 Operating cash flow 10,030 (5,420) 15,696 2,532 4,241 33,861 38,452 42,043 46,805 52,158 Capex (1,174) (1,368) (3,900) (2,200) (1,200) Total liabilities & equity 43,219 61,817 57,940 66,148 72,785 Interest received Disposals Financial ratios (HK$m) Acquisitions (27) 0 (1,170) 0 0 Year ended 31 Mar FY13 FY14 FY15E FY16E FY17E Change in term deposits 0 (500) Current ratio Change in pledged deposits (9) Quick ratio Others 15 (23) Investing cash flow (1,113) (1,727) (4,888) (2,009) (1,002) A/C receivable turnover days A/C payable turnover days Change of bank borrowings (8,017) 5,297 (4,300) 2,000 0 Inventory turnover days Change of gold loans (706) 6,376 (2,336) 1, Dividend paid (1,710) (3,350) (3,133) (2,829) (3,180) Asset turnover Interest paid (330) (175) (358) (299) (357) Total assets/total equity Others Net gearing (%) net cash 19 (0) 5 5 Financing cash flow (10,623) 8,221 (10,127) (97) (2,784) ROE (%) Net change of cash flow (1,705) 1, ROA (%) Forex changes Sources: Company data, GF Securities (HK) estimates Page 7

8 Rating definitions Benchmark: Hong Kong Hang Seng Index Time horizon: 12 months Company ratings Buy Stock expected to outperform benchmark by more than 15% Accumulate Stock expected to outperform benchmark by more than 5% but not more than 15% Hold Expected stock relative performance ranges between -5% and 5% Underperform Stock expected to underperform benchmark by more than 5% Sector ratings Positive Sector expected to outperform benchmark by more than 10% Neutral Expected sector relative performance ranges between -10% and 10% Cautious Sector expected to underperform benchmark by more than 10% Analyst Certification The research analyst(s) primarily responsible for the content of this research report, in whole or in part, certifies that with respect to the company or relevant securities that the analyst(s) covered in this report: (1) all of the views expressed accurately reflect his or her personal views on the company or relevant securities mentioned herein; and (2) no part of his or her remuneration was, is, or will be, directly or indirectly, in connection with his or her specific recommendations or views expressed in this research report. Disclosure of Interests (1) The proprietary trading division of GF Securities (Hong Kong) Brokerage Limited ( GF Securities (Hong Kong) ) and/or its affiliated or associated companies do not hold any shares of the securities mentioned in this research report. (2) GF Securities (Hong Kong) and/or its affiliated or associated companies did not have any investment banking relationships with the companies mentioned in this research report in the past 12 months. (3) All of the views expressed in this research report accurately reflect the independent views of the analyst(s). Neither the analyst(s) preparing this report nor his/her associate(s) serves as an officer of the companies mentioned in this report, or has any financial interests in or holds any shares of the securities mentioned in this report. Disclaimer This report is prepared by GF Securities (Hong Kong). 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