Buy
Your right choice Extensive
distribution network U-Right has over 300 distribution points in China,
25 self-managed retail shops in Hong Kong, and 15 franchise shops in the Middle
East. It also signed distribution agreement with distributors in Japan and
Spain. It will continue to extend its global reach. Texcote
Technology Texcote business has a much higher margin than ordinary garments.
Texcote Technology can be applied to various textile products. As U-Right owns
global intellectual rights in Texcote, it can receive license fees and share
the turnover by partners. 5 new production lines will be installed by mid-2004
and the group will have a total of 10 new productions lines by mid-2005. It is
expected to strengthen Texcote processing ability substantially. Tapping enormous
China market potential U-Right’s strategy is to expand into second- to
third tier cities. During the period of 1998-2001, consumer spending growth
rates for some provinces are higher than that of Guangdong. As U-Right has
positioned itself as middle-end brand, we believe the market potential will be
huge. Attractive
valuation U-Right is trading at 7.6x and 6.3x prospective FY04 and FY05 PER,
respectively. Yields are 3.9% and 4.8%. Valuation is attractive given the earnings
growth potential. We believe it should be trading at 10x FY05 PER, which is
equivalent to $0.67.
Source: U-Right
International, Tung Tai estimates Company background U-Right is principally engaged in design, manufacture, distribution and retail of men and ladies casual wear for China and Hong Kong market. It has transformed from a retailer to a brand owner. To diversify its business, the group acquired 51% stake in Texcote Group in 2002. It also owns the global intellectual property rights for Texcote Technology. Then it started to apply Nano technology to its apparel. Since then, U-Right’s business has been divided into two streams, garments retail and distribution, and Texcote processing and licensing. U-Right outsources 90% of its production to over 100 OEM sub-contractors in China. Reliance on a single sub-contractor is minimal. The other 10% of output is produced by the group’s production line. The largest 5 customers account for 52% of total turnover and the largest customer accounts for 13% as at 31 March 2003. Extensive
distribution network The group has an extensive
distribution network in the PRC. It is also expanding its global reach U-Right has an extensive distribution network in the PRC and Hong Kong. It has over 300 distribution points on the mainland and 25 self-managed retail shops in Hong Kong. Due to fierce competition in major cities in China, the group’s targets are second to third tier cities. The group has positioned its brand, U-Right, as middle-end brand, making it affordable to a large number of people. The group has 15 franchise shops in the Middle East. It also signed distribution agreement with distributors in Japan and Spain in July 2003. Texcote Technology Textile products treated by Texcote technology have much higher margin than ordinary garments. In addition, U-Right can receive license fees and derive income from joint ventures Textile products using Texcote-Processing Technology have major advantages of being water repellent, stain resistant and breathable without changing the texture or appearance of fabric. Therefore, profit margin for Texcote business can reach 50-60%, which is much higher than that (30-40%) of ordinary garments. As U-Right owns the global intellectual rights of Texcote Technology, it can receive license fees, ranging from $5M to $8M, from joint venture partners. In addition, the group can share the turnover by joint venture partners. At present, the group has a number of joint venture partners, namely, Kiu Hung International, Maytron Enterprise, Onlen Fairy’s Land and Guangdong Da Zhong Medical Products Plant. Encouraging interim results Turnover in 1H04 increased by approximately 20% and net profit surged over 98% The group recorded encouraging results in 1H04. Turnover increased 19.6% y-o-y from $263M to $315M. Net profit surged 98.2% y-o-y to $37.8M. Turnover from Texcote jumped from $3.2M in 1H03 to $53M and accounted for 16.8% total turnover, representing 16x spectacular growth. During the SARS period, sales in Hong Kong had dropped by 20-30%, but it has recovered in recent months. Turnover from Hong Kong retail sales dropped only 8.6% y-o-y to $52M. The group aims at maintaining full-year sales at the same level as in FY03. Net profit surged as Texcote business has become profitable, compared with a loss in the same period of last year. It was also helped by reduction in expenses. Expenditure on advertising on Texcote was lower than that of last year. Administration expense also decreased. The management expects their growth will be in line with turnover growth thereafter. Texcote business gaining share has enhanced gross profit margin In 1H04, 78.7% of revenue comes from China, 16.5% from Hong Kong and the remaining 4.8% from overseas market. Overall gross profit margin of the group increased slightly from 36.2% in 1H03 to 36.5% in 1H04. The increase in share by high profit margin Texcote business was offset by a drop in Hong Kong retail business. Profit margin for retail sales in Hong Kong is higher than that in China because the group can only earn the wholesale margin for sales in China. Revenue from China has increased from 66% of total turnover in 1H03 to 78.7% 1H04. Export sales accounts for 4.8% of total turnover. The group will continue to extend its global reach, but we do not expect it to raise the turnover share substantially because the profit margin for exports is relatively low. Future growth drivers Texcote Technology New production lines in Shunde can strengthen its Texcote processing ability substantially U-right currently has one nanotechnology processing production line in Shenzhen. The maximum production capacity is 200,000 pieces of garments per month. Besides garments, the production line also has the flexibility to process other fabric products. Orders in hand for the existing production line has reached 6 months already. To tap the tremendous market potential, a new plant in Shunde with 10 new production lines and 300,000 sq.ft. gross floor area is under construction. 5 of them commence operation in mid-2004. Production volume can be increased by 1M items per month. The remaining 5 production lines commence operation in 2005. New production lines can process other fabric products such as plush toys, handbags, footwear, etc. The capacity expansion can strengthen its Texcote processing ability significantly. Through cooperation with Da Zhong, the group’s nano medical products can have wide distribution. U-Right targets to set up a subsidiary to develop nano medical products During SARS period in the first half of this year, U-Right launched anti-bacteria nano medical products processed by Texcote technology. The nano masks by U-Right had surpassed the new standards, which was changed and implemented by General Administration of Quality Supervision, Inspection and Quarantine (GAQSIQ) in June 2003. Da Zhong is one of the few authorized protective masks and medical products in the PRC. Through the distribution network of Da Zhong with over 500 distribution points, U-Right’s nano medical products can be sold through an extensive network. The group plans to set up a subsidiary to further develop nano medical products. Its target is to establish its own brand name in China. After the SARS outbreak this year, people are more conscious on hygiene. We believe future demand for quality medical products will be tremendous. It may become a fast growing sector in Texcote business. Enormous China market potential Consumer spending in many provinces has climbed during the period 1998 to 2001. The group’s target of expansion in China is 30-50 franchise shops per year, focusing on second- to third-tier cities. According to National Bureau in Statistics, consumers spending in some provinces from 1998 to 2001 has been growing continuously and are listed as follows:
Growth rates for some of them are even higher than that of Guangdong. We believe consumer spending in those provinces will pick up The group’s distribution points are
concentrated in Southern China, where consumer spending is the highest.
However, it also has quite a lot of distribution points scattered in other
provinces. Some of their growth rates are higher than that of Guangdong. CAGR
for Guangdong between 1998 and 2001 is 5.47%. CAGRs for Sichuan, Hubei, Jiangsu
and Zhejiang are 5.71%, 6.02%, 8.17% and 9.4%, respectively. We believe the
growth momentum in consumer spending in other provinces will continue to be
strong and can pick up that of Guangdong. U-Right has positioned itself as
middle-end brand. The increasing affordability of consumers on the mainland
will lead to larger demand of the group’s garments and market potential is
huge. Consumer spending (in million yuan) in some provinces from 1998 to 2001 According to CEPA, products with 30% value added in Hong Kong can be exempted from import tariff. To capitalize CEPA, the group is considering setting up a new plant in Hong Kong. It is in negotiations with international brands for Texcote technology treatment on their products. Conclusion As U-Right continues to add its distribution points in China, revenue from China is expected to have significant contribution. Excluding new shops, orders in hand has the same level as last year. Fuelled by the optimistic outlook of Texcote business, we believe net profit can have stable and sustainable growth in the coming few years. We expect FY04 turnover to jump over 30% and net profit to surge by over 300% to reach $75.2M. Cash position of the group has been improving. As at 30 September 2003, cash in hand was $145M, compared with $108M at the end of March. Due to installation of 5 new production lines by mid-2004, capex for the first 6 months in 2004 is $50M. For the 5 new production lines to be installed by mid-2005, another $50M capex will be needed. Net gearing dropped from 28% to 12% in 1H04. As at 30 September 2003, current ratio was 1.86x. Prospective FY04 and FY05 PER at current price are only 7.6x and 6.3x, respectively. Assuming a 30% dividend payout ratio, yields in FY04 and FY05 are 3.9% and 4.8%. Given the growth potential, valuation is attractive. We believe it should be traded at 10x FY05 PER, which is equivalent to $0.67. Profit and loss account
Source: U-right
International, Tung Tai estimates Consolidated Balance Sheet
Source: U-Right International 2003 annual report Consolidated Cash
Flow Statement
Source: U-Right
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