We’re at a point where most Retail investors know who Li-Ning is (largest local athletic brand in China), but that’s about it. Management gave some good insight on the Chinese market as they see it, which definitely impacts US companies.
Key Highlights:
- Discounting at retail on the rise due to higher inventory from international brands
- Suppliers see labor costs increases of 10%-15%+ persistent ‘in coming years’
- Li Ning seeing retail orders down high-single-digit in Q3 likely representing trough in near-term sales trends
- Int’l growing near 50%. But still only 1.4% of sales. (Shouldn’t it be growing 300%?)
- Competitive front between domestic and international competitors remain Tier 2/Tier 3 cities.
- We’re 9-months into their stepped up marketing plan to kick-start top line.
(2H F10 results)
Sales: +15%
Inv: +28%
SIGMA – significant negative move to Quad 4
- Despite increased investment spending, the company leveraged SG&A by 30bps in 2010 while gross margins remained flat on +13% sales growth
- The company’s new ‘Brand Revitalization’ is one of the key initiatives underway (launched in June 2010) to both reinvigorated the top-line, but also offset cost inflation – marks a bit of a restart for the company which started mid-year.
- At the Channel level – rationalizing distributor operated store exposure, while also implementing wholesale discount policy of 3-points to those that can achieve specified GM hurdles of 46%-47%.
- Easy growth stage for retailers to simply open new doors is over, they now have to focus on profitability
- Company now in second phase of consolidating single store distributors, which is also taking place within the marketplace as the industry consolidates due to increasing competition among retailers
- Have not seen an notable uptick in new customer additions so far in the first 6-9months of brand revitalizing efforts
- Outlook for retail expansion (~400 stores in 2011) suggests a deceleration compared to recent history of 1000 stores in 2008 and 2009 and 666 in 2010.
- As at 31 December 2010, there were 7,915 LI-NING brand retail stores in China, net increase of 666 stores for the year
- While Int’l sales grew 49% in 2010, it still only represents 132mm RMB – 1.4% of total sales
Market Outlook:
- Expect 13-14% market growth this year vs. 30%+ prior to ‘08
- Li Ning has relied on opening new store growth in the past, this is changing
Changing Chinese Consumer: – trading up
- 40 cities fall into main stream - Tier 1 category
- Tier 2 - Tier 3 cities are moving towards a main stream market from more of a basic market, sub Tier 3 cities still considered basic markets – less attractive opportunities
- Growth rate in lower tier cities will be higher than upper tier cities in the intermediate-term
Competition:
- Competition with international brands most significant in Tier 2 - Tier 3 cities
- Most Chinese brands are trying to grow via channel expansion (new door growth 800+ excluding Li Ning), but that is slowing
- Accelerated retail discount rates have been resumed as international brands have returned to prior inventory levels while retailers are looking to remain lean and more efficient – particularly in Tier 2 - Tier 3 cities
Cost Inflation:
- labor costs increases in 1H of 2010 to now have been rising at irrational level
- In speaking with suppliers, they are of the view that labor costs will continue to rise at a +10%-15% pace over ‘the coming years’
- RM costs also expected to continue to climb near-term
Conclusion:
- Company could shorten the value chain shifting towards more retail from a branded manufacturer, reducing expenses a la Nike and Adidas
- b/c of cost structure and in china, the company has chosen not to move to this structure – will have to decide on one of the two paths once the market becomes mature in the future
Outlook:
- According to data so far in Q3, retail orders are down high-single digit yy, but believe this is likely to be the bottom for the year with reacceleration in Q4 – will be concentrating efforts on sell-through
- Expect positive MSD same-store growth for the full-year driven by sales in Tier 2 cities - down from double-digit growth last year
- Could see consolidated company GMs trend downward if recent RM cost increases continue
Other:
- After several years of preparation beginning in 2007, the Group kicked off the brand revitalization campaign for the LI-NING brand in July 2010 to mark the brand's 20th anniversary.
- Endorsements: During the year, the Group announced the sponsorship of world-class track and field athletes including Jamaican sprinter Asafa Powell, and the top Norwegian javelin thrower Andreas Thorkildsen. In August 2010, the Group signed up NBA rookie, Evan Turner. The Group will continue to upgrade its arsenal of sponsorship resources by signing up more world-class sports stars as well as up-and-coming athletes
- the planned "LI-NING Logistics Centre", a fully automated warehouse of more than 50,000 sq. m. in Jingmen Industrial City designed to enable the Group to adapt to the needs of the market in a timely manner, has been completed and is scheduled for trial operation at the end of 2011
Casey Flavin
Director
