Earnings Call: H2 2019

Mar 27, 2020

Good morning, everyone. Welcome to Chow Sang Sang Holdings International Limited, HKEX stock code 116, fiscal year 2019 annual result conference call. With us today are Chow Sang Sang Chairman and Group General Manager, Mr. Vincent Chow, Executive Director and Group Deputy General Manager, Mr. Vincent Chow, and Chief Financial Officer, Mr. Morison Chan. The teleconference will develop into three sections. First of all, we will have Mr. Chan walk us through the group annual result highlights, as well as the key financials. Then we will have some latest business updates from our group management. After the speaker's remarks, there will be a question and answer section. Before I turn the call over to Mr. Chan, may I give you a brief introduction about Chow Sang Sang. First listed in Hong Kong in 1973, Chow Sang Sang is the first jewelry company to be listed in Hong Kong. It operates more than 600 Chow Sang Sang jewelry stores in more than 130 cities across mainland China, with more than 90 stores in Hong Kong, Macau, and Taiwan. It has production facilities in mainland China and Hong Kong. Its business also includes wholesale of precious metals and securities and futures broking. With that, it is my great pleasure to turn the call to our Chief Financial Officer, Mr. Morison Chan. Morison, please. Thank you. Good morning, everybody. I would like to run through the presentation deck, which has been posted on our chowsangsang.com website with you. First of all, I would like to give you an overview about business segments of Chow Sang Sang Group. As shown on page 4 of the presentation deck, our core business segment is jewelry. In general, it accounts for approximately 92% of total turnover and more than 90% of group consolidated net profit. We also have wholesale of precious metals and securities and futures broking business. Chow Sang Sang jewelry is principally engaged in design, manufacture, and sale of jewelry products. These include gold, gem set, platinum, and karat gold jewelry. Retail stores are operating under Chow Sang Sang, MINTYGREEN, EMPHASIS, and Integrated brand. We adopt several store models, and we do not have any franchise stores. We are also authorized retailer of Rolex and TUDOR. On page 5, you can see that we have a total of 700 stores as at December 31, 2019. There are 606 stores in mainland China, 77 owned stores in Hong Kong and Macau, and 24 stores in Taiwan. We also do business through various e-commerce platforms, including our own chowsangsang.com e-shop, Tmall, JD, and Vipshop. Please turn to page 6. Our store number increased from 441 in 2015 to 700 in 2019. Store expansion is mainly driven by our new stores in mainland China. Page 7 shows you the store movement during 2019. For Hong Kong and Macau, we have five new stores in Whampoa, Sham Shui Po, North Point, Tsuen Wan, and Tung Chung, where we can better serve local customers. Out of the total 120 new stores in mainland China, 69 are located in shopping malls. Now, please turn to page 9. Group turnover in 2019 decreased by 5.7%, mainly because of unfavorable Hong Kong and Macau sales in the second half. Gold price increases from USD 1,300 per ounce in June to USD 1,500 per ounce in December last year. Approximately 40% of our gold inventories are hedged by gold loans. With the help of the increasing gold price, gross profit percentage increases from 24.6% in 2018 to 26.9% in 2019. On page 10, you may notice that there is a decrease in EBITDA and net profit for the year ended 31st December 2019. We make margin loan provisions of HKD 372 million arising from securities and futures broking business. Without these provisions, our 2019 net profit should basically stay flat at above HKD 1 billion. Now, please turn to page 12. Turnover of jewelry segment decreased by 5.1% in 2019. With higher gross profit percentage, segment operating results increased by 6.4%. Next page 13, shows you distribution of jewelry sales by geographical area. In 2019, Hong Kong and Macau sales registered a decrease of 16%, owing to social unrest in the second half. Mainland China sales increased by 4% in Hong Kong dollar terms, or 9% in renminbi. As a result, mainland China sales percentage increased from 54%, 55% in past years to 60% in 2019. Page 13 and Page 16 show the product mix structures for Hong Kong and Macau, and mainland China markets of our jewelry business. In general, gold, gem-set jewelry, platinum or gold, and watch contribute 65%, 22%, 6% and 7% to total sales. Watch sales performance in Hong Kong and Macau was outstanding in 2019. Now, please turn to page 17. Hong Kong and Macau same-store sales growth for 2019 edged down after high base in 2018. Both gold and gem-set same-store sales growth percentage dropped in the second half because of shrinking tourist sales and social unrest. With the support of strong watch sales, for which SSSG was positive by 53%, overall 2019 same-store sales growth amounted to -12%. Page 18 for mainland China jewelry business. Gold product sales growth was softened as gold price started to rally by mid-2019. Nevertheless, gem-set jewelry showed improved SSSG in the second half. Overall annual SSSG declined marginally by 1%. Page 19 for all markets. Average selling price for jewelry registered single-digit percentage decline in 2019. Average selling price for gold products held firm. On Page 20, you can see that our mainland China e-shop sales as a percentage to total China sales increased steadily from 9% in 2015 to 16% in 2019. Even in February and March this year, sales were not adversely affected by coronavirus outbreak to a large extent. Maybe we can skip page 21, and please turn to page 22. Let me recap the key financial figures. Turnover decreased by 5.7% to HKD 17.7 billion, mainly because of 5.1% down in jewelry sales. Gross profit increased by 3.2%. Profit attributable to equity holders amounted to HKD 644 million, down 36.4%. As I mentioned before, this included deduction of margin loan provisions of HKD 372 million arising from securities and futures broking business. Taking out these provisions, net profit for 2019 would stay flat. Page 23. Chow Sang Sang Group remains in strong cash position. Cash and cash equivalents stood at HKD 1 billion as at 31st December 2019. Gearing was 25.3% and unutilized banking facility percentage was 60%. Let's move on to business update section, which is on page 25. In 2020, pre-Chinese New Year sales were promising for both Mainland China and Hong Kong and Macau markets. However, the coronavirus outbreak during the last week of January reversed the positive trend. In Hong Kong and Macau, January and February same-store sales growth amounted to -44%. Majority of our stores remained open, but with shortened business hours in Hong Kong. We have been negotiating with all landlords for rental reduction. February rental reduction percentage ranged from 0% to approximately 50%. In Mainland China, up to 77% of stores suspended operations during the first week of February. Right now, over 96% of our stores resumed operations in Mainland China. Some of these operate with shortened business hours. In view of the stressed economic climate, we have imposed various measures. This includes freezing headcount, delaying CapEx, optimizing inventory, and aggressive negotiation with landlords on rental reduction. We will limit net store additions to about 30 this year. I move on to talk about our strategies. Please turn to page 27. We will continue to focus on three areas, which are store expansion, product development, and omnichannel platform deployment. For store expansion, we maintain our steady store expansion plan for Mainland China market in long run. Factor segmentation or multi-brand is one of our strategies to enlarge our customer base. For example, EMPHASIS brands specialize in bold design, and MINTYGREEN brand caters for fans of daily wear. For product development, we keep developing our own collections and house brands. We also put extra effort in promoting personalized jewelry service. Customer can select different diamond, ring setting, metal material, and even add engraving with words or symbols to create their own unique ring. Personalized jewelry service has already accounted for 5% of all diamond sales in 2019. We are now adding more product categories and platforms. For omnichannel services, we aim at providing seamless online, offline shopping experience for our customers. It's an integration of our sales force, physical stores, various e-commerce platforms, our CRM system, and instant message tools. To take personalized jewelry service as an example, customers can create their rings on chowsangsang.com website or be assisted by our sales force with iPad device in our stores. Customers can also enjoy free delivery service or elected to pick up their unique design in Chow Sang Sang store. Thank you very much, and this is the end of my presentation. Thank you, management. We now begin our question and answer sections. If you have any question for today's speaker, please press 01 on your telephone keypad and you enter queue. After you are answered, please ask your question. If you find that your question has been answered before it is your turn to speak, please press 02 to cancel the questions. So once again, please press 01 on your telephone keypad now to ask a question. Our first question is Hugo Son from Macquarie. Please go ahead. Hi. Good morning. Thank you very much for taking my question. I have three questions. The first one is, just want to clarify on the rental reduction in Hong Kong. I was wondering which period is this reduction for? My second question is regarding the impairment of receivables from the broking business. Just want to understand if this impairment, would it be reversible in future? And whether there will be such impairment reoccurring again in the future. My third question is on the online sales in Mainland China. You mentioned that the online sales trend was seeing upward trend during the virus outbreak. Could you elaborate more on the online sales trend during this period? And, if you are seeing any customer behavior change post this outbreak. Thank you. Okay, thank you for your questions. I cannot hear clearly about your first question. It is about rental. Can you repeat your question? Sure. You mentioned that the rental reduction in Hong Kong, up to 50% cut. I was wondering how long would this rental reduction last? Which period is it for? Period. Okay. I am referring to February this year. Hello? Got it. For your second question, it is about our provision for margin loan. For our securities and future broking business, we make margin loans to our clients. For those provisions, the value of the underlying securities fall below the loan balance. That created a shortfall, so that is why we create such a loan provision. Right now, we are actively pursuing to collect the debts. We are not 100% sure whether it is collectible or we can get repayment. But, just in case that we can collect the shortfall or the clients are able to inject additional cash or collaterals, we may or may not reverse the provision. On the other hand, as in all securities business in margin loans, if the market continues its free fall globally, it is hard to say whether further provisions will be required or not, as you can all understand. The third question is about online business. As I mentioned in my presentation, our online business is quite good. Our e-shop sales kept continually growing. We can see that, in particular, during the period when there was coronavirus outbreak, our e-commerce sales were not adversely affected by the coronavirus to a large extent. We saw a decrease in e-commerce sales in February this year, but it is not a huge percentage. It is slightly affected by the virus outbreak. In March, we even saw an increase in e-commerce sales on year-to-year basis. Let me add a little bit to the rental question. Because of the situation, we started negotiating with landlords for rental relief in February. But in the course of negotiation, some landlords are good enough to talk about relief packages that would go into March and perhaps even April. It all differs on how the landlord treats his tenants. Thank you. Thank you. Next question is Emily Lee, Nomura. Hi, management. Thanks for the presentation. A couple of questions from my side. First of all, I was wondering if you could give us some early indication of March same-store sales for both Hong Kong as well as China. Because obviously, there were a lot of disruptions in January and February. With 95% of the stores resumed operation, I am just wondering how same-store sales is in China as well as Hong Kong. Secondly, it has to do with the leases, again. We did talk about the relief measures are more for March as well as April, potentially. But when we talk about the lease renewal for this year, how much are we expected to see a drop for when we are talking to landlords? At what point will we consider closing some stores? Because we do have 70 stores in Hong Kong. One more question from me, then I will go back to the queue, is on gem set. Basically, when we look at the chart that you provided in the PPT, the same-store sales for gem set in China has actually dropped continuously since first half 2017. I just want to get some information as to why this has been ongoing. Any chance we can revert to the positive trend? I know this year is probably going to be a little bit difficult, but are we seeing some substantial changes in terms of the consumer behaviors or purchasing patterns that has hurt our same-store sales in gem set in China? Thank you. For the first question, it is about March sales. Let me elaborate a bit more about the trend of sales in 2020. As I said before, up to 77% of our stores in mainland China suspend operation. But since middle March to end March, shops are gradually reopening. Right now, most of the stores have been reopened and with shortened business hours. We saw that because of such a change, sales were growing, but overall sales remained very slow. For Hong Kong, we basically have not shut down many stores. One or two stores suspend operation, and for the other stores, we cut the operating hours. Up to now, we did not see significant improvement, even in March. All in all I have to say is that the sales remain pretty slow. That is about the sales status. Sorry, can I just add on a little bit? Is it fair to assume that both Hong Kong and China same-store sales in March so far is trending very similar to what we saw in January and February? For January and February, the SSSG that we told you is an average for the 2 months. January, first 3 weeks, sales were good. All I have to say is that shops were opened, and the sales are pretty slow. It is hard to tell an exact percentage right now. Got it. I think I can give rough figures on the sales trend in China between January and March. January 2020 is roughly about the same as 2019 for January. February, because the majority of the stores were closed, the total sales were down by 90%. But for March overall, we believe we will end up only a 50% drop compared to March last year, that is in China. For Hong Kong, March sales is down by around 60%. Got it. Very clear. Okay. Regarding the second question about rental renewal in Hong Kong, in general, one-third of our stores will be renewed annually. One-third. Okay? About 33%. So, our landlords are pretty smart, okay? It is not hard to predict what the percentage of rental reduction. But I assure you that our management team will try our very best to negotiate with them. With regard to rental renewals, I can say that we will take a very tough stance. If the renewals do not carry enough concessions in the rental, we will walk away from the premises. As you have very wisely noticed that we have so many shops in Hong Kong already, a few less will not do us any harm. Thank you. Okay. For your first question. It is about the SSSG, same-store sales growth, for gemstone jewelry in mainland China. Let me recap some numbers for all the audience. The first half 2019 SSSG was -12% for mainland China, and the second half SSSG is -5%. We have been seeing improvements, and that is why we keep adding different varieties in terms of collections, and also reintroduce the personalized jewelry service to try to enhance the customer experience. Okay. A couple of points to add. It seems like in the second half of 2019, the gold price has started to increase. That makes diamonds seem to be more attractive in one way or another. That is one possibility. Another point is because of the social movements in Hong Kong, I think the southern part of China do benefit from an increase in jewelry sales because some of the tourists from, I think Guangdong area, are not quite able to come to Hong Kong. So they are buying the gemstone jewelries in our shops in China. I think that give a boost, because among the five regions we have, mainland China, the southern part performed specifically well in jewelry sales in the second half of 2019. Thank you. Thank you, management. Next question is Benjamin Cole from Lighthouse Advisor. Yeah. Hi. Thanks for taking the call. My question relates to the broking business. As previously discussed, there was a provision. My question is, have you taken any meaningful steps to improve the risk management? Clearly, the losses come about because there is a margin call and the customers cannot pay, but the share price fell faster than you can liquidate. What changes are you making going forward? Will you curb the margin loan business? Will you be faster to liquidate? Are you stopping this margin loan business entirely? Can you share with us? We are taking steps to remedy the situation. We are not making any further margin loans, that I can tell you. Because of the ongoing process, I can only say that the situation is under control. We are watching very closely. I might add that we are, as we have said many times in these sessions, in these conferences, that the broking business is not our main business, and we have always been looking for ways to get out of it. We will be, because of the joint venture. Actually, the joint venture with Harvest that is reported previously, it was an exit strategy for us. Now that that strategy turns out to be not working, we will look for other means of exit. Thank you. Okay. Thank you. Our next question is James. That's all from me. Thank you. Our next question is James Morton, Santalucia Asset Management. Please go ahead. My questions have been largely addressed by previous questions. But I just wonder if you could give us a slightly more precise number on the February rental reductions. You said zero to 50. Do you have a weighted average rent reduction for your store footprint? Thank you for your questions. Let me elaborate more about the rental reduction. In February, not all landlords offer us with rental reduction. About 37% of the landlords offer rental reduction schemes to us. As I said before, the rental reduction rate range from zero to 50. On average, the rental reduction percentage is about 22%, 23%. Thank you for your question. Thank you very much. Our next question is Lim Sheng Yee from Psytree Capital Advisor. Hi. Three questions from me, actually. The first question is, I've noticed in the press that there's been a rebound of gold bars or retail gold bars, gold coin demands in Europe and U.S. Have you seen that across Hong Kong and China? That's the first question. Second question is, how much flexibility do you have around labor costs? Considering the rental and also the labor cost reduction potential, at what levels do you think you can break even? The third question is, if you could just recap your newborn and wedding demand as a percentage of sales across Hong Kong and China, that'd be very helpful. Okay, thank you for your questions. Regarding the first questions about sales for gold bar, we did see a rebound in gold bar sales. Please be reminded that for gold bar sales, the margin is extremely slim. I have to tell you the truth. It helps the business, but it won't help the margin a lot. For the second question about the labor cost, labor cost normally amount to about 9% to total turnover. For frontline staff, about 30%-40% of the salary structure is in the form of commission. Which means they got sales, they got paid. We saw significant reduction in sales. Although we offer incentive schemes to assist them, we didn't give them zero. All in all, because of the drop in sales, we saw that the labor cost percentage of sales will increase. Okay? But for us, I think it's still manageable. For your third question is about newborn trend in China. Let me give you some numbers about the target market for us. About 30%-40% of the sales are catered for wedding and related markets. About 10% of our products are catered for gifting. I think we have a well mix of different products to tackle the trend and the demand of the newborn trend. Thank you. Let me add a little bit to the point on cost savings. As Morison has mentioned before, we have taken different kinds of measures for cost savings. As we all understand, in the retail business, rental and personnel expenses are the major items on our list. We have taken a strategy of trying to cut costs on rentals, but not on personnel costs, because we believe in a rebound, and we want to keep as many of our key frontline players as possible. What we have taken is we try to assist all our frontline staff as much as possible, by offering them incentive, coupling their sales incentives so that they would try to help themselves rather than to give them a straight handout. Of course, we have lost some people by natural attrition during this period. But overall, we have been trying as much as possible to preserve the workforce, especially at the frontline. Thank you. Yeah, good to hear. If you don't mind, two more follow-up questions from this. The first question is, can I just double-check from an accounting perspective, the fair value gains go straight into the COGS? That's the first question. The second question is on capital returns. Given where the share price is today, have you considered buybacks relative to dividends, and can you maybe walk us through the thought process around that? Sorry. For the first question, would you please repeat that again? We cannot hear it clearly. The fair value gains from your bullion loans and your hedging derivatives, that's actually booked in your cost of sales rather than below the OpEx, which some of your peers do. Right? Can I just confirm your accounting methodology for your fair value gains? Because I think across the board, there's different ways, or different jewelers use different ways to account for it. Okay. For the first question, for the gold loan hedging, we did realize gain or loss as a result of the gold loan repayment. We booked the gain or loss in the cost of sales. Okay. Thank you. Yep. For the second question, it is about whether we will do share repurchase. We do have the right to do share repurchase, but we do not have the intention to do any share repurchase right now. Okay, thank you. Our next question is Cara Barnes from Apollo Investment Management. Hi. Good morning. May I come back to the broking losses on the margin loans? How many clients does this relate to, or if appropriate, how many independent groups of clients? Similarly, is there any concentration in particular securities or related groups of securities, or specific circumstances? I think I previously understood that you only gave margin loans in case of IPOs. Was this a freak in terms of market movements or a failure of control? Okay. We make margin loans to clients that we are familiar with. Okay? We do have rigid credit control systems. For each and every margin loan, it has to be reviewed and authorized by all our responsible officers and authorized personnel in our securities and future broking business. I think we are of the view that our internal control system is maintained in such an unusual way. For this margin loan provisions, okay, I think all of you now understand that the market volatility was extremely high last year, and it remains high this year. We will keep close attention to the change in share price, and then we will closely monitor the situation. Thank you. Can I follow up? Is it a broadly based group that might bear some relationship to the index, or is it a concentrated group of stocks or clients for which the prospects may be more limited? There are actually a number of margin loan clients. Okay? They provide collateral in the form of securities. Basically, Hong Kong stocks to us as securities or collateral. Hong Kong stocks vary greatly in quality. Hong Kong stocks. Am I answering your question? Are they what you would traditionally regard as Hong Kong blue chips, or are they more speculative or dubious securities? When we talk about the collateral, we are not talking about one or two securities. There are a wide variety of collaterals provided by our clients. Thank you. As a reminder, please press 01 for questions. The next question is Innes Hwang from Apollo Investment. Hi, management. Just going back to the provision. You mentioned that some of the collaterals were Hong Kong-listed stocks. Can I ask, when you made the provision, was that at the Hong Kong stock at December 31st price? Should the market drop further, should we expect any more provision? Okay. For the provisions that we made last year at 31st December 2019. We compared the closing price of those underlying securities and the loan value. To exactly answer your questions, we did make reference to the closing price of the underlying securities as at 31st December 2019. Let me recap what we just told. The market volatility remains high and the share price goes up and down. We may or may not make additional provision as a result of these changes. In any case, we are closely monitoring the situation, and we will push our clients to inject additional collaterals just in case that there are any shortfalls. Thank you. This is the end of Q&A section. Management, do you have any follow-ups before we do closing? No follow-up. Thank you very much. We will now begin closing comment. On behalf of the entire Chow Sang Sang management team, we would like to express our thanks to you all for your kind interest and participation in this call this morning. We look forward greatly to talking to you soon. Also, a recording playback will be available for 30 days. For the playback access number or should you have any further inquiry, please feel free to reach us via ir@chowsangsang.com. Thank you, and have a nice day.