1Q09 ASP of backpacks and luggage recorded a decrease of 11% and 8.2% respectively over 4Q08. The group reduced its ASP in order to maintain its market share amid slowdown in consumer discretionary spending. Further, the lack of TV advertisements in 1Q09 has reduced its product appeal. Falling ASPs has led to margin erosion to below 30%.
While the group is sitting in a net cash of RMB 997m, more than half would be deployed in FY09. The group plans to set aside RMB 150m on advertising and billboards and RMB 170m for the construction of its new plant. In addition, we estimate the group to pay RMB 80m for dividends given its commitment to a 20% dividend payout for FY09. We also estimate a RMB 160m to be set aside for working capital needs as the group may face longer trade receivable days amid the global slowdown.
To maintain its market dominance, the group plans to resume store expansion by 4Q09 when it targets to add 500 stores in Fujian, Jiangsu and Shandong progressively. However, the group will have to pay for the furniture and fittings of the new stores that could amount to RMB 400m. Assuming this expenditure will be amortised over the next 5 years, we estimate this new store expansions will erode its net margins by 3ppt.
We have reduced our earnings estimates for FY09 and FY10 by 7% and 14% respectively to reflect lower gross margins in line with the management’s target of 30-31%. Our target price is cut to 35 cents (pegged to 5x FY09 PER), a 50% discount to its HK peers. Despite the lack of catalysts in the near- term, the group looks undervalued at 3x PER considering its dominating market share (36%) in the PRC.
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