CFO Ken Ho fielding questions last Friday at M Hotel during a results' briefing for analysts and investors, including several NextInsight readers. Photo: Leong Chan Teik

The July-Dec10 period marked the start of a complete focus on casual lifestyle apparel and footwear, instead of sportswear, resulting in higher selling prices and profit margins.

ERATAT LIFESTYLE’s net profit surged by 96.8% year-on-year to RMB40.2 million in the quarter ended Dec 2010.

And this came right after another sizzling quarter (July-Sept 2010) of 108% net profit growth year-on-year to RMB 44.1 million.
 
Eratat has been enjoying higher profit margins and ex-factory average selling prices for its apparel – a testimony to the success of its repositioning away from the competitive sportswear sector to casual lifestyle wear.

The transition was successfully completed at the beginning of the 2010 autumn/winter season (ie, July-Dec 2010), and the Group’s ASP and gross margin started to grow from then.

The other piece of good news from Eratat is that, unlike many S-chips, the company has a track record of paying dividends. This time it is RMB 0.03 per share for the 9 months ending Dec 2010, compared to RMB 0.0466 for the 12 months of 2009 (Eratat has changed its financial year to end in Dec instead of March).

Based on a presentation by Kellyn Tan, its VP for investor relations, and Ken Ho, the CFO, last Friday, it would appear that the catalysts for further growth in the current half-year are:

a) Eratat has RMB477 million of orders of apparel and footwear to be delivered to its distributors, up by 23% from the same period in 2010. (This excludes third-party sales of footwear).

b) Eratat is launching its ERATAT Premium brand for the men’s range in Tier-1 shopping malls in Zhejiang, Guangdong, Henan, Shandong, Anhui and Shanxi.

Eratat wants to migrate its brand image to the premium level with its Premium range of men's wear being retailed in Tier-1 shopping malls. Photos: Eratat

Key point to note is it is Eratat’s distributors which are bearing the cost of setting up the 50 new outlets, and the risks of this business.

Eratat only designs and supplies the merchandise, which will retail mainly for RMB 600-800 for casual clothes, for example. Eratat supports the distributors via longer credit terms.

Among the distributors who wanted to offer the premium range, a handful were chosen based on their management and financial capabilities, said Mr Ho.

“They can see the potential of the brand. They have done their calculations regarding costs such as rental and they are confident this business is sustainable.”

Eratat CFO Ken Ho and Vice-President for investor relations Kellyn Tan. File photo: Leong Chan Teik

Mr Ho was also asked, among other things, about the risk of receivables and the recent attempt to place out new Eratat shares to a fund, CMIA.

Q: I understand all your distributors have given a personal guarantee on their debts. If they have problems, can you go after their properties and other assets?

Mr Ho: That would be the last resort. We monitor our distributors on an ongoing basis so we would know of any financial distress they may have before they say “I will go bankrupt tomorrow.”

How? They would have been consistently late in payments, having disagreements with us on pricing, opening of new shops, etc. There are tell-tale signs. And as you know, we have two trade fairs every year – we can cut down our exposure to such distributors by giving them less than what they want to order of our products.

Q: Why did Eratat attempt to place out shares to CMIA at a 30% discount to Eratat’s NTA?

Mr Ho: We have been wanting to raise funds for between 6 months and a year, so we can grow faster. We have explored a few options, including a rights issue. And we had a lot of funds who were very interested – but we found their terms to be very punishing. For example, convertible bonds – the conditions for redemption are not within our control. It’s subject to their control and market price. We have seen companies whose operations were badly affected by the redemption of their convertible bonds.

CMIA took a lot of time to do their due diligence – about 2 months. Later we decided to go with them as they are a reputable fund. They have a track record of being long-term investors and they share our outlook on the China market potential as they have good market knowledge. They have a team of experts in other fields and we feel we can leverage on them. At the same time, they have followers – if they invest, institutions will watch them, which will help raise our profile.

The first attempt to do the placement was disapproved by SGX. We are still in discussion and hope the next time we will be successful.

Q: Doing the placement at 4X PE and 0.7X book value – does that send a signal to the market that you consider this to be the fair value? At this low valuation, why not just privatise the company?

Mr Ho: It is our interest to stay listed. Valuation of our shares depends on market sentiment, what’s going on globally...  and we know that the valuation of S-chips is much lower than HK stocks.

Q: Why don’t you take an offshore bank loan – it would cost lower than selling shares at 4X PE.

Mr Ho: We have considered that. Offshore loans – that depends on the structure and the restrictions placed on usage outside of Singapore. Taking a bank loan in China in the towns and provinces – if we apply for a loan, it’s not just collaterals the bankers are interested in but also a personal guarantee from the business owner and a guarantee from an unrelated party. It is common practice, as some of you know.

Yes, we can obtain that but one day, the unrelated party will want a guarantee from you – and this places our company at risk.

In addition, the cost of a loan is not that cheap – about 10-12% per annum.

And they can give you, say, a 3-year loan but they require you to repay everything at the end of the year before it’s renewed. What happens if the central bank has a tightening policy and we cannot get a renewal? We have considered all these factors, which is why we are doing what we are doing.

And we now have a business expansion plan which we believe we can control and will take us to another level in the market. When a strategic partner like CMIA comes along and it can add value to our management and the market’s perception of our stock – can we wait until our valuation goes to 7X before we consider any fund raising option?


a) You can read Eratat's very detailed results' announcement on the SGX website.

b) Recent story: ERATAT LIFESTYLE, CHINA GAOXIAN: What analysts say.....