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Luk Fook Holdings Growth Weakens Due to High Base and Drop in Volume Equity Research January 18, 2018 Luk Fook Holdings Growth weakens due to high base and drop in volume Company Update Maintain HOLD What's new Ticker 00590.HK Luk Fook announced its 3QFY18 (October–December 2017) CICC investment rating HOLD operating data: overall SSSG of its retail business was +1%, slowing Last close HK$32.20 markedly from 2QFY18’s +17% due to the higher base in 3QFY17 and CICC target HK$35.51 drop in volume caused by the higher gold price. 52wk price range HK$35.57~20.29 Market cap (bn) HK$19 Comments Daily value (mn) HK$21.45 SSSG of Mainland was -4% due to its higher base vs. HK/Macau; Shares outstanding (mn) 587 specifically, licensed shops outperformed self-operated ones. Besides, Free float (%) 100 the Company recorded >100% sales growth for the Singles’ Day Daily volume (mn sh) 0.65 online shopping festival, and e-business typically has stronger Business sector Luxury & Jewelry profitability compared to self-operated stores, with the former’s single-digit OPM outpacing the latter’s. HK/Macau SSSG +1%, led by 00590.HK HSCEI 168 the launch of good-value-for-money gem-set jewelry products. Total POS +73 in 3QFY18 to reach 1,615 (Mainland +71; HK & Macau +2). 151 134 Peer comparison: Luk Fook vs. Chow Tai Fook: in October-December 2017, Chow Tai Fook’s SSSG was 5% in Mainland China & HK/Macau, 117 outperforming Luk Fook; however, partially due to the fact that CTF (%) Value Relative 100 offered deeper discounts to promote its gold products at year end. 83 Jan-2017 Apr-2017 Jul-2017 Oct-2017 Jan-2018 Prospects: 1) Luk Fook plans to open at least 100 POS for FY18. 2) The Company maintained their single-digit SSSG projection for HK/Macau, (HK$ mn) 2016A 2017A 2018E 2019E but lowered that of Mainland China from double-digit to single-digit level for FY18; while the faster-than-expected channel expansion Revenue 14,031 12,807 14,469 16,530 could offset the negative effect. 3) As of profitability, Luk Fook (+/-) -11.9% -8.7% 13.0% 14.2% expects its 2HFY18 OPM to remain stable HoH at around 10%, but to Net profit 959 1,017 1,148 1,303 (+/-) -40.6% 6.1% 12.9% 13.5% improve YoY. And, 4) for 4QFY18, the SSSG of gem-set jewelry is likely to turn positive in the Mainland due to the lower base in 4Q. EPS 1.63 1.73 1.96 2.22 BPS 14.77 15.11 15.92 16.98 DPS 1.10 1.10 1.10 1.10 Valuation and recommendation CPS 3.51 1.23 1.49 1.78 We maintain our FY18/19e EPS forecasts at HK$1.96/2.22 P/E 19.7 18.6 16.5 14.5 (+12.9%/+13.5% YoY). Luk Fook is trading at 16.5x/14.5x FY18/19e P/B 2.2 2.1 2.0 1.9 P/E. We maintain our HOLD rating and cut our target price by 9.2% EV/EBITDA 12.6 12.1 10.5 9.2 to HK$35.51 due to valuation shift (based on 16x FY19e P/E), 10.3% Dividend yield 3.4% 3.4% 3.4% 3.4% upside. Its licensing business model makes it easier to penetrate ROAA 8.7% 9.5% 10.5% 11.2% lower-tier cities; while with its limited market share (ranking fifth in ROAE 11.1% 11.6% 12.6% 13.5% Mainland China), the competitive environment remains challenging. Risks Gold price fluctuations. Source: Wind, Bloomberg, company data, CICC Research Haiyan GUO Jinfeng QIN Analyst Associate [email protected] [email protected] SAC Reg. No.: S0080511080006 SAC Reg. No.: S0080116100004 SFC CE Ref: AIQ935 Please read carefully the important disclosures at the end of this report CICC Research: January 18, 2018 Financial summary Financial statement (HKD mn) 2016A 2017A 2018E 2019E Financial ratios 2016A 2017A 2018E 2019E Income statement Growth ability Revenue 14,031 12,807 14,469 16,530 Revenue -11.9% -8.7% 13.0% 14.2% COGS -10,777 -9,530 -10,939 -12,480 Operating profit -38.7% 6.4% 11.0% 13.1% Selling expenses -1,982 -1,994 -2,055 -2,380 EBITDA -36.8% 5.4% 14.2% 12.4% Administrative expenses -149 -155 -175 -200 Net profit -40.6% 6.1% 12.9% 13.5% Other ops income (expense) -51 -14 -14 -17 Profitability Operating profit 1,212 1,289 1,431 1,618 Gross margin 23.2% 25.6% 24.4% 24.5% Finance costs -14 -9 0 0 Operating margin 8.6% 10.1% 9.9% 9.8% Other income (expense) -79 -54 -54 -54 EBITDA margin 9.6% 11.1% 11.2% 11.0% Profit before income tax 1,161 1,250 1,397 1,585 Net margin 6.8% 7.9% 7.9% 7.9% Income tax -200 -223 -238 -270 Liquidity Minority interest -3 -10 -11 -13 Current ratio 5.31 5.92 5.98 6.29 Net profit 959 1,017 1,148 1,303 Quick ratio 1.70 1.54 1.56 1.69 EBITDA 1,347 1,420 1,621 1,822 Cash ratio 1.38 1.17 1.15 1.27 Recurrent net income 959 1,017 1,148 1,303 Liabilities / assets 17.5% 15.9% 16.0% 15.5% Balance sheet Net debt / equity net cash net cash net cash net cash Cash and bank balances 2,432 1,862 1,945 2,217 Return Trade and bill receivables 215 217 244 279 RoA 8.7% 9.5% 10.5% 11.2% Inventories 6,345 6,973 7,492 8,035 RoE 11.1% 11.6% 12.6% 13.5% Other current assets 338 380 460 460 Per-share data Total current assets 9,330 9,431 10,142 10,991 EPS (HKD) 1.63 1.73 1.96 2.22 Fixed assets and CIP 604 564 504 409 BPS (HKD) 14.77 15.11 15.92 16.98 Intangible assets and others 696 684 620 556 DPS (HKD) 1.10 1.10 1.10 1.10 Total non-current assets 1,300 1,248 1,124 965 Cash flow per share (HKD) 3.51 1.23 1.49 1.78 Total assets 10,629 10,679 11,266 11,956 Valuation Short-term borrowings 400 0 0 0 P/E 19.7 18.6 16.5 14.5 Trade and bill payables 246 382 360 411 P/B 2.2 2.1 2.0 1.9 Other current liabilities 1,111 1,212 1,337 1,337 EV/EBITDA 12.6 12.1 10.5 9.2 Total current liabilities 1,757 1,594 1,697 1,748 Dividend yield 3.4% 3.4% 3.4% 3.4% Long-term borrowings 0 0 0 0 Total non-current liabilities 104 105 105 105 Total liabilities 1,861 1,699 1,803 1,853 Share capital 59 59 59 59 Retained profit 8,615 8,815 9,287 9,913 Equity 8,674 8,873 9,345 9,972 Total liabilities & equity 10,629 10,679 11,266 11,956 Cash flow statement Pretax profit 1,161 1,250 1,397 1,585 Depreciation & amortization 135 131 190 204 Change in working capital 872 -511 -524 -527 Others -106 -149 -187 -220 Cash flow from operations 2,063 720 877 1,042 Capital expenditure -104 -95 -122 -100 Others 718 -314 21 22 Cash flow from investing 614 -408 -101 -78 Equity financing -29 0 0 0 Bank borrowings -1,071 -400 0 0 Others -567 -731 -646 -646 Cash flow from financing -1,668 -1,131 -646 -646 Foreign exchange gain (loss) -22 -13 -47 -47 Net changes in cash 987 -832 83 272 Source: Company data, CICC Research Company description Luk Fook is one of the leading jewellery retailers in Hong Kong and Mainland China. The Group principally engages in the sourcing, designing, wholesaling, trademark licensing and retailing of a variety of gold and platinum jewelry, gold ornaments and gem-set jewelry with shops in Mainland China, Hong Kong, Macau, Singapore, the United States and Canada. Throughout the years, its achievements have been reflected by the outstanding performance in merchandising, sales, administration, financial and marketing aspects. The group will continue to identify new business opportunities in the international market. Please read carefully the important disclosures at the end of this report 2 CICC Research: January 18, 2018 Figure 1: SSSG breakdown by region 80% 66% HK/Macau Mainland China 60% 40% 33% 36% 23% 18% 20% 11% 11% 6% 5% 1% 0% 2% 1% 3% 1% 0% -6% -5% -7% -4% -20% -12% -11% -10% -11% -19% -20% -19% -23% -22% -26% -24% -24% -30% -28% -40% -39% -60% -54% -52% Source: Company data, CICC Research Figure 2: SSSG breakdown by category 80% 58% Gold Gem-set Jewelry 60% 40% 21% 19% 16% 20% 11% 11% 9% 10% 4% 5% 5% 0% -2% -1% -6%-6% -4% -3% -20% -8% -11% -15% -18%-18% -14% -19% -21%-20% -25% -25% -19% -26% -26%-28% -26% -40% -28% -47% -60% -65% -80% Source: Company data, CICC Research Figure 3: SSSG comparison: Luk Fook vs. Chow Tai Fook SSSG 1QFY15 2QFY15 3QFY15 4QFY15 1QFY16 2QFY16 3QFY16 4QFY16 1QFY17 2QFY17 3QFY17 4QFY17 1QFY18 2QFY18 3QFY18 Luk Fook Overall -54% -21% -7% -20% -18% -6% -25% -27% -24% -37% -10% 2% 5% 17% 1% HK/Macau -54% -20% -6% -22% -19% -7% -26% -28% -24% -39% -11% 1% 3% 18% 1% Mainland China -52% -30% -11% -5% 0% 2% -10% -19% -24% -23% 5% 11% 23% 11% -4% Chow Tai Fook Overall -40% -20% -18% -16% -15% -3% -15% -26% - - - - - - - HK/Macau -50% -29% -21% -26% -24% -13% -23% -27% -20% -30% -2% 4% 5% 13% 5% Mainland China -28% -12% -15% -9% -7% 6% -6% -25% -17% -22% 4% 12% 11% 9% 5% Source: Company data, CICC Research.
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