Friday, May 02, 2008

Hongguo - signs of monopoly

Signs of monopoly

Hongguo does show signs of having a good business. Earnings is consistently increasing since they were listed in 2003, with a compounded annual growth rate (CAGR) of 20.3% since 2003 to 2007. The key word here is consistent; Hongguo has never dropped its earnings since IPO in 2003, and in fact it has been steadily increasing.

ROE is also pretty consistent (in fact showing a slight uptrend), around 20 to 22% since listing, giving a very respectable 5 year average ROE of 22.2%. By breaking down ROE into 3 components, we can see exactly what drives ROE over the years. Hongguo did not do it through debts as the financial leverage ratio went down from 1.61 in 2003 to 1.37 in 2007. Hongguo did not do it through net margins (more about that later) as net margins shows a decline from 19.3% to 14.9% in 2007. Instead, Hongguo increased asset turnover from 0.71 in 2003 to 1.09 in 2007 – a sign that they are pretty efficient at generating revenue from their assets.

A look at the ROA shows the same picture. The drop in net margins is compensated by the increment in asset turnover, causing ROA to rise up since 2003 to 2007 with a 5 year average of 15.1%.

So why do consumers buy Hongguo’s shoes? By finding out the answer to this, we can understand if Hongguo has a consumer monopoly. If it does, is the economic moat that prevents other competitors from eroding its profit deep and wide?

Hongguo has 2 core businesses:

1. Design, production and retail of their two in-house brands, C.Banner and E.Blan for the domestic market in PRC

2. Original equipment manufacturer (OEM) for global footwear brands for the international market

For their in-house brand C.Banner, it is a ladies’ fashion footwear label aimed not at the general mass market but more at the quality upmarket side. C.Banner is ranked 2nd in 2005, 3rd from 2002-2004 in terms of market share from CIIIC (national statistics board of PRC). C.Banner replaces Qianbaidu in 2002 as the equivalent of brand name. Qianbaidu was previously ranked 6th in terms of market share in 1999, but is aimed at the medium price range, unlike the new C.Banner.

Most notably, C.Banner is also recognized as National Famous Brand in 2005. According to the State Bureau of Quality and Technical Supervision which governs the assessment of national-level brand name products, a national brand name must satisfy the following basic criteria:

1. The product must be a national quality award-winning item whose quality is among the best of its kind in the country and has reached advanced international standards.

2. The product must meet market needs and have won widespread recognition. The manufacturer must have the necessary technical know-how and have achieved economy of scale in its production capacity. Its annual sales and economic benefits must be among the top in the industry for over five consecutive years.

3. The manufacturer must possess advanced and reliable production facilities and have the ability to conduct research and development.

4. The product must have good market rating and after-sales service.

5. The product must have met all the quality requirements in spot checks by all the relevant government departments over the past three years, and none of the product for export has have ever been rejected or involved in quality-related claim for damages.

As can be seen, the criteria stated are not easy to meet and is in fact quite strict. The fact that C.Banner is a national brand name must testify to the fact that the branding is not just widely known, it actually brought in tangible economic benefits to Hongguo.

From what I read, there are only 8 major players whose ranking rotates throughout the years. As such, I consider them possible competitors to Hongguo, even though their product mix and target audience might be different. These are the competitors (not arranged in any order):

1. Daphne –Prime Success or Yong’en

2. Belle – Belle International Holdings

3. Senda – Jiangsu Senda Footwear

4. Fuguiniao – Shishi Fuguiniao shoes development

5. Harson – Jiangsui Kunshan Zhen Zing Footwear

6. Teenmix – Belle International Holdings

7. Basto – Shanghai Basto Footwear

Of course, the 8th is C.Banner (or Qianbaidu, their older name).

On 13th Nov, Belle international acquired 5 companies from Jiangsu Senda Group, which includes Jiangsu Senda group sanxia footwear and shanghai basto footwear. In other, words, Belle basically acquired nearly all the competition (Belle, Senda, Teenmix and Basto are all under Belle international now), giving rise to 3 major players (not arranged in any order):

1. Prime success (1880.HK)
2. Belle International Holdings (0210.HK)
3. Hongguo International (H14.SI)

In terms of market cap (22nd April, 2008):

1. Belle International – SGD 10.8 billion
2. Prime Success – SGD 739 million
3. Hongguo – SGD 204 million

In terms of Points of sales (POS) as of 31st Dec, 2007:

1. Belle International – 6,090 from PRC alone, 6,143 in total
2. Prime success – 2,374 from Daphne, 2859 in total in PRC
3. Hongguo – 540 for C.Banner, 840 in total in PRC

In terms of EPS (RMB) as of 31st Dec, 2007:

1. Hongguo – 27.76 cents
2. Belle International – 25.03 cents
3. Prime success – 21.08 cents

In terms of net margins based on FY2007:

1. Belle International – 17.0%
2. Hongguo – 14.9%
3. Prime success – 10.1%

Without doubt, Belle International is the major competitor for Hongguo in PRC market. It is also stated in an interview dated 16th Sept, 2003 that Belle international is their main competitor. Prime Success (Daphne) is not a direct competitor as they are in a different shoe segment and their shoes are selling at half or two-thirds the price of Hongguo’s shoes, hence Daphne is in a different market segment from Hongguo. I did some sleuthing and found that the average selling price (ASP) of Daphne shoes range from RMB 200-250 (SGD 40 – 50) per pair in 2007, which is exactly what Hongguo had mentioned. Daphne is the No.1 brand in Chinese ladies footwear market for the past 10 consecutive years.

Are they concerned about foreign brands competing with them? They mentioned no, because the pricing tends to be very high (above 1,500 RMB or SGD 300 per pair), hence they are targeted at very high-end customers. On the contrary, Hongguo shoes ranged around 300 to 400 RMB (SGD 60 – 80 per pair).

It seems that tiny Hongguo is able to fight off the competitors pretty well, despite its limited market cap. They possibly have something that consumers like about their brand. Or rather, I propose that Hongguo is able to carve a little niche out of selling shoes to a group of people who are left behind by Daphne’s middle class range and foreign players’ high-end range.

But as I read more, I realized that both Prime Success and Belle International had substantial exposure to sportswear. For FY07, Belle’s business is split into 2 main divisions – footwear and sportswear. The footwear division is responsible for 53.1% of FY07 revenue stream while sportswear consists of 46.9% of revenue. The sportswear growth rate for Belle from 2006 to 2007 is a staggering 244.9% while the growth rate for footwear is only 34.8%.

Prime Success FY07 revenue consists of 75% Daphne and Shoebox brand (both are ladies’ fashion footwear brand) and 8% Adidas. Shoebox brand has ASP of RMB 75 – 100 per pair, so it is catered to the low-price market segment. Prime Success also mentioned repeatedly that Adidas is a renowned brand and are planning to grow that segment. Hence, we can see that the two major players are concentrating their firepower on growing their sportswear segment.

In other words, we see the following situation:

Belle – covering all the market segment, concentrating on growing their sportswear business. Belle and Staccato (brand under Belle International) ASP is about RMB 600-700 per pair.

Prime Success – covering low-price end (Shoebox) and middle-price range (Daphne), as well as sportswear (Adidas). They obtained distribution rights for Nike products in China too and mentioned they are going to focus on growing Daphne and sportswear brands. Daphne ASP is around RMB 200-250 per pair.

Hongguo – focusing only on designing, production and retailing of in-house and international brands of shoes, mainly aimed at middle to high end ladies fashion footwear. They do retailing for fashion apparel too. Think Byford, Hugo Boss, MaxMara, Bodyline, Ermenegildo Zegna, Guess, Colorado and Nine West. C.Banner ASP is around RMB 300-400 per pair.

I think with this, I have found Hongguo’s situational monopoly in the cutthroat consumer market in PRC. They have found their niche on a group of people not covered extensively by the major competitors. Belle can be a worthy competitor, but they are focusing their fight on the sportswear segment. Prime Success’s Daphne continues to be a major contender for market share with Hongguo’s C.Banner, but Prime success also seems to be more interested in growing their sportswear brands. Besides, Daphne ASP of RMB 200-250 per pair puts it at a different league with the ASP of C.Banner, which is around RMB 300-400 per pair.


Anonymous said...


How about overseas markets? and more importantly retail outlets (how long they have been in the market and breadth). Market penetration (ie. good retail locations -- remember how much osim pay just to penetrate into US?) and economies of scale are bigger "barriers" imo.

A tabulation of these 3 companies financial ratios will show a clearer pic.

Prime success missed its profit forecast few quarters back and seen a drastic drop in price.

Good Job LP!


Anonymous said...

-- continue from previous:

Do you have P/Es and other financial ratios for the 3 companies? (maybe I did not read thoroughly :) )

How do you make the decision to choose HG over the other 2?

la papillion said...

Hi HH,

Thks for your valued comments :)

I did look overseas for their competitors, as I discovered that there are no comparable companies in singapore selling the same thing as them. The closest competitor are Belle and Prime success from HK. Even then, these two are different from Hongguo, as I've stated in the article.

I do have their PE and financial ratios. The PE for all three are out, I'll post them shortly. As for their financial ratios, I intend to do them soon when I have the time.

Why did I choose HG over others? I have some restriction on the choice of my research (as I'm collaborating with grey), so my choice is strictly SGX listed stocks. I have more confident in Belle than Prime success though. I'll do more on this area and discover why I like HG over others too. So far, I choose HG because the price is right, so I entered while I'm around 60-70% done for the research.

My feeling is that HG is good, but not that good. I wouldn't put more than 10% capital in it.

Anonymous said...


I used to monitor them, their p/es should be much higher than HG.

Prime success was smacked twice. Once when it missed profit forecast and another, its COE was probed.

*Find out how long they have been in the market and their P/Es.. am curious. :)


la papillion said...


Haha, I intend to find out their historical PE too. Prime success seems to be in some trouble, their net margins went down to 10% despite them supposedly having greater synergy due to their economics of scale. I'll find out more.

For a sneak preview, here's the current PE (based on 31st Dec 2007 full year earnings):

PE for Belle ~ 31 times
PE for Prime success ~ 23 times
PE for HG ~ 10 times.

For HG, highest and lowest PE since IPO is 26.3 and 5.5 respectively. Applying a PE of 5.5 times for HG will get a price around $0.3 per share.

ps. didn't know you monitor prime success :)