Bicycle Shifting trends in the bicycle market The sustainable growth trajectory of the bicycle market Overweight (Initiate) Total bicycle sales in Korea reached roughly 1.93mn units in 2014, growing at a CAGR of Industry Report 2.1% over the previous five years (since 2009). By revenue, the market expanded 7.3% CAGR to around W513bn during the same period. This underscores that market growth June 30, 2015 has been driven more by price than by volume. We believe Korea’s bicycle market remains underpenetrated at 29%, far lower than the 60-80% penetration rates seen in Daewoo Securities Co., Ltd. Europe and Japan. Hence, we see potential for long-term sustainable growth, backed by increasing domestic penetration and entry into export markets. [IT Mid-Small Cap] Major changes in market trends Will Lee +822-768-4168 1) The primary users of bicycles are shifting from teenagers to more financially capable [email protected] people in their thirties or older. Consequently, the main product group is moving from Chuljoong Kim low-end bikes to higher-end ones. The resulting rise in prices has become the key driver +822-768-4162 of overall market growth. [email protected] 2) Domestic bicycle manufacturers are diversifying their product portfolios beyond standard bicycles to tricycle strollers, electric bikes, and equipment and accessories. 3) In line with market growth and shifting trends, the government is expected to continue introducing supportive policies, including the development of related infrastructure. Initiate with Overweight; Top pick is Samchuly Bicycle We initiate coverage on the bicycle industry with an Overweight recommendation. We present market leader Samchuly Bicycle as our top pick, given its trend-setting leadership and dominant market position. We recommend watching no. 2 industry player Alton Sports, which has its own manufacturing plant and is seeking growth through exports. We also highlight Very Good Leisure, which is likely to see earnings improvements on the back of the leisure business’s growth. Combined operating profit and market cap of the three major domestic bicycle companies (Samchuly Bicycle, Alton Sports, and Very Good Leisure) Source: Company data, WiseFn, KDB Daewoo Securities Research Analysts who prepared this report are registered as research analysts in Korea but not in any other jurisdiction, including the U.S. PLEASE SEE ANALYST CERTIFICATIONS AND IMPORTANT DISCLOSURES & DISCLAIMERS IN APPENDIX 1 AT THE END OF REPORT. June 30, 2015 Bicycle I. Domestic bicycle industry Market characteristics The bicycle industry is largely divided into finished products and parts production. A bicycle comprises around 300 parts and components, which bike producers assemble to make finished products. As parts and components are the major determinant of bike quality, core components makers hold a high status within the industry’s value chain relative to other manufacturing industries. Among the key components, transmissions, handles, gears, and frames are mostly standardized, and thus mass production makes good economic sense. As such, specialized producers exist in each of these components. For finished bike producers, the ability to procure quality parts and ensure stable production is a key determinant of competitiveness. Broadly, finished bike producers are classified as either manufacturers or distributors. Manufacturers have their own distribution channels, and some even design/produce components. Their product lineups include bikes designed for various purposes, including recreation/leisure, mountain biking, and city riding. Distributors, meanwhile, assemble imported components into finished bikes or import/distribute finished bikes. They tend to be smaller in size than manufacturers, and mostly handle low/mid-priced city bikes. In Korea, finished bike producers consist mostly of wholesalers, i.e., distributors. Parts are manufactured in countries like China where labor and production costs are low, and then assembled in Korea (OEM system). The bicycle industry displays a strong seasonal pattern. The period from March to October is traditionally the peak season, as good weather lends itself to outdoor activity. In Korea, the best time for outdoor activity is between April and June (2Q), with bicycle sales surging around the Children’s Day holiday. Bicycles are widely viewed as an eco-friendly alternative mode of transportation, and governments around the world are promoting their use to help ease air pollution and traffic congestion. As such, bicycle demand is likely to trend up over the long run. Figure 1. Bicycle components Source: JimLangley.net, KDB Daewoo Securities Research KDB Daewoo Securities Research 2 June 30, 2015 Bicycle Domestic bicycle market continues to grow According to the Korea Customs Service, total bicycle sales in Korea reached roughly 1.93mn units in 2014, growing at a CAGR of 2.1% over the previous five years (since 2009). Meanwhile, revenue expanded at a healthier pace over the same period (at a CAGR of 7.3%), hitting roughly W513bn in 2014. Bicycle unit sales are increasing at a modest pace of around 2-5% per year, but revenue growth has averaged around 7%, indicating that market growth has been driven more by price than by volume. In 2015, we expect the domestic bicycle market to expand to 2mn units, up 4% YoY. In terms of revenue, the market is projected to grow 7% YoY to roughly W550bn, with price still driving market expansion. In 2014, bicycle sales worldwide stood at 120mn units, including 28mn in Europe, 24mn in China, 14mn in North America, 11mn in Southeast Asia, and 9mn in Japan. We believe Korea’s bicycle market remains underpenetrated at 29%, far lower than the penetration rates in the Netherlands (98%), Germany (87%), and Japan (67%). And Korea’s share in the global bicycle market is a meager 2%. This means there is ample room for sustainable growth over the long term, backed by increasing domestic penetration and entry into export markets. Figure 2. Domestic bicycle market size (based on volume) Figure 3. Domestic bicycle market size (based on revenue) ('000 units) (%) (Wbn) 2009 - 2014 CAGR: 7.3% (%) 2,500 15 600 20 Domestic market size (L) Domestic market size (L) 550.0 YoY (R) YoY (R) 512.7 13 2,000 472.9 2,000 1,929 458.1 1,733 1,749 1,777 1,747 10 15 1,704 396.1 400 1,500 8 335.4 339.2 5 10 1,000 3 200 0 5 500 -3 0 -5 0 0 09 10 11 12 13 14 15F 09 10 11 12 13 14 15F Source: Korea Customs Service, KDB Daewoo Securities Research Source: Samchuly, KDB Daewoo Securities Research Figure 4. Bicycle penetration rate in Korea vs. overseas Figure 5. Bicycle penetration rate trend in Korea ('000 units) (%) 20,000 35 Netherlands 98% Units (L) Penetration rate (R) 29.3 27.4 30 25.7 15,000 24.0 22.5 25 Germany 87% 21.2 19.9 18.6 20 10,000 Japan 67% 15 10 5,000 Korea 29% 5 0 0 0% 20% 40% 60% 80% 100% 07 08 09 10 11 12 13 14 Source: Shimano, Samchuly, KDB Daewoo Securities Research Source: Korea Customs Service, KDB Daewoo Securities Research KDB Daewoo Securities Research 3 June 30, 2015 Bicycle With the number of bicycle riders estimated to have exceeded 10mn in Korea, there has been a notable pickup in bicycle imports, which posted the strongest YoY growth in the recreation/leisure goods category from January to May. Indeed, imports of camping gear, trekking shoes, and leisure/hunting gear plunged 31%, 24%, and 9% YoY, respectively, while imports of fishing goods and supplies expanded 15%. In contrast, bicycle imports surged more than 35% YoY. From January to May, bicycles’ share in total recreation/leisure goods imports approached 60%. More than 70% of imported bicycles came from China in 2014, as most finished bike manufacturers in Korea operate production lines in China or import components from Chinese OEMs. The second highest proportion of imports came from Taiwan, at 23%, followed by Europe (4%) and the US (1%). The growth in imports seems attributable to the mostly wholesale nature of Korea’s bicycle industry and the steady rise in bicycle demand. Figure 6. YoY growth in imports of recreation/leisure goods: Figure 7. YoY growth in imports of recreation/leisure goods: Jan. to May 2015 vs. Jan. to May 2014 2014 vs. 2013 (%) (%) 50 40 34.5 24.7 25 20 14.7 9.7 0 0 -8.8 -6.5 -25 -20 -16.1 -23.6 -30.6 -24.6 -50 -40 Bicycles Fishing goods Leisure/hunting Trekking shoes Camping gear Fishing goods Bicycles Camping gear Trekking shoes Leisure/hunting gear gear Source: MCST, KCISA, KDB Daewoo Securities Research Source: MCST, KCISA, KDB Daewoo Securities Research Figure 8. Imports breakdown (Jan. to May 2015) Figure 9. Imports breakdown (2014) Fishing goods Camping gear Fishing goods 15% 19% Trekking shoes Camping gear 17% 7% 28% Trekking shoes 9% Bicycles Bicycles 59% 46% Source: MCST, KCISA, KDB Daewoo Securities Research Source: MCST, KCISA, KDB Daewoo Securities Research KDB Daewoo Securities Research 4 June 30, 2015 Bicycle Market competition Korea’s bicycle market is dominated by three domestic players, Samchuly Bicycle, Alton Sports, and Very Good Leisure. Collectively, they commanded over half of the market in 2014, with respective market shares of 31%, 11%, and 11%. Foreign makers Giant Bicycles (Taiwan), Merida Bikes (Taiwan), and Specialized Bicycle Components (US) each held 4-5% of the market. The bicycle market can be divided into low/mid-end (city bikes) and high-end segments. The city bike category is an oligopolistic market, with Samchuly and its subsidiary Very Good Leisure estimated to have a 60% market share, and Alton Sports 25%. Besides the ability to secure quality components, having stable distribution channels is also key to boosting bike producers’ competitiveness.