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Hong Kong stocks high dividend concept stocks.

Author | Muppets

Editor | Xiaobai

In 2023, the Hong Kong stock market was generally sluggish, but Jiuxing Holdings (01836.HK), a footwear OEM company with Taiwanese background, rose against the trend and its market value exceeded 10 billion.

Today, Fengyunjun will take you to analyze this company and explore the current business situation behind it.

Reversing business difficulties through factory relocation

Jiuxing Holdings was listed in Hong Kong, China in July 2007. It is mainly engaged in the design, development, manufacturing and sales of footwear products (shoes and boots). The company mainly serves international brand customers, and its products cover different categories such as sports, leisure, fashion and luxury.

In the past ten years (2014-2023), Jiuxing Holdings' revenue mainly came from women's shoes and men's shoes, accounting for approximately 60% and 40% respectively.

In addition, the company has no more than 6% of its revenue from OEM of handbags, leather goods, and clothing products, as well as the retail business of its own shoe brands Stella Luna and What For. Since the revenue share of these business lines is generally small, Fengyunjun will not further analyze them here.

The company's business covers multiple global markets, mainly in Europe and the United States (accounting for more than 70% of revenue in 2014-2023). Its main customers include many well-known overseas brands. It not only cooperates with international sports brands such as Nike and Under Armour, but also provides products for luxury brands such as Balenciaga and Prada.

Since 2020, the company has adjusted the disclosure method of revenue structure by region. Therefore, the comparability of revenue structure data in the past ten years is relatively weak, and the chart is for reference only.

(Source: Company annual report, Chart: Market Capitalization APP)

Jiuxing Holdings not only provides OEM services for these brands, but also involves the design, development and manufacturing of shoes. The company has been favored by many well-known international brands for its product design and commercialization capabilities, product technology and quality control accumulated through years of cooperation with European and American brands.

As of the end of 2023, Jiang Zhigang, the company's actual controller and one of the founders, held a total of 6.4% of the company's shares through direct and indirect shareholdings (including indirect shareholdings through the investment company Cordwalner Bonaventure Inc.).

In 2023, the company's revenue was US$1.49 billion, a year-on-year decrease of 8.5%, but its non-GAAP net profit attributable to shareholders increased by 23.3% year-on-year to US$150 million.

Note: Unless otherwise specified, all amounts in this article are in U.S. dollars.

However, in terms of the overall trend, the company's revenue has almost zero growth in the past 12 years (2012-2023).This situation is almost common in the industry.

Another Taiwanese-funded company that does sports shoe OEM, Yue Yuen Group (00551.HK, whose parent company is Pou Chen Industries and is listed in Taiwan, China), also had a CAGR of only 1% during this period.

(Source: Company annual report, Chart: Market Capitalization APP)

The reason why the company still achieved a year-on-year growth in non-GAAP net profit attributable to shareholders despite a decline in revenue is that, although overall revenue and shipments declined, the company allocated its production capacity to higher-end shoe styles, especially luxury and high-end fashion categories, thereby improving profitability.

In addition, since 2021, the company has continued to focus on improving operational efficiency and saving money by streamlining the number of employees (as of the end of 2023, the company's number of employees was 40,000, a year-on-year decrease of 6.1%) and cutting employee benefit expenses (expenditures in 2023 were 360 ​​million, a year-on-year decrease of 10.2%).

In the Q1 2024 operating data disclosed on April 18, 2024, the company stated that revenue for the quarter increased by 17.6% year-on-year, and sales volume increased by 21.9% year-on-year to 11.7 million pairs of shoes. The company stated that all of its product categories have seen varying degrees of growth.

Among them, the sales growth of sports products was particularly obvious.

The Q1 operating data disclosed by the company is very limited, including only data such as revenue, sales volume, and average selling price. It is impossible to calculate operating data such as net profit, so there are no charts or graphs of the financial data included in this article.

The most surprising thing is that the company said it had achieved one of the goals in its three-year plan (2023-25) set at the beginning of 2023 in the first year:Increase operating profit margin to 10% by the end of 2025.

The company's stock price continued to rise after the announcement. As of June 28, 2024, the company's stock price had risen by 17.9% compared to the day the announcement was made.

Jiuxing Holdings today is no longer the same as it was before 2020. Since 2012, the company's net profit attributable to shareholders after deducting non-recurring items has continued to decline, from 150 million that year to 100 million in 2019.

The COVID-19 pandemic in 2020 made matters worse. The pandemic has impacted the global supply chain and the footwear retail industry. Coupled with the additional costs caused by the short-term shutdown of factories in mainland China, the Philippines and Bangladesh, the net profit attributable to shareholders after deducting non-recurring items fell by 98.2% year-on-year to less than US$2 million.

During the epidemic, the situation of footwear OEM companies being severely affected is not an isolated case. Yue Yuan Group also suffered its only net loss of 70 million yuan in 2020 during the period of 2014-2023.

(Source: Yue Yuen Group Annual Report, Chart: Market Capitalization APP)

Another A-share listed company founded by Taiwanese businessmen, Huali Group (300979.SZ), is also engaged in footwear OEM business. Since its factories are located in many regions including Vietnam, Dominican Republic, Myanmar, etc., the regions are relatively dispersed, so it is less affected.

Since the beginning of 2021, the company has turned its predicament around and, like many of its peers, has started a trend of rapidly moving its production capacity to Southeast Asia.

Through the annual reports of previous years, we can see that the management explained the whole process as follows:

Over the past 20 years, the labor and raw material costs of Chinese foundries have continued to rise, putting continuous pressure on the profitability of Jiuxing Holdings. In 2020, the outbreak of the COVID-19 pandemic became a turning point. The company resolutely closed most of its Chinese factories permanently and transferred production capacity to Southeast Asia to take advantage of lower local labor costs.

Since then, relying on the good customer relationships accumulated over the past 20 years, the company has obtained orders with higher purchase prices between 2021 and 2023, such as luxury and high-end women's shoes and sports shoes, which has improved the company's profitability, reversed its previous operating difficulties, and maintained the company's net profit at the level of 90 million to 150 million.

(Source: Company Annual Report)

However, this explanation ignores the role of Taiwanese enterprises in the industry cycle and business development over the past 30 years. When Jiuxing Holdings was able to win orders from European and American customers, sincere hard work was certainly important, but the accidental opportunities brought about by the development of the times should not be ignored.

Today, factories are relocating to Southeast Asia, which is also in line with the development of the times and cannot be attributed solely to the insights of managers.

The rise and fall of the OEM model: from China to Southeast Asia

First, let us think about a question: why is the OEM model so common among Taiwanese companies?

For example, electronic foundries include Hon Hai Precision Industry (Foxconn), Wistron, Pegatron, Compal, Quanta Computer, Inventec, etc., while in chip foundry manufacturing, companies such as TSMC, UMC, and GlobalWafers also occupy an important position.

As one of the "Four Asian Tigers", Taiwan, China seized the opportunity of the transfer of labor-intensive industries from Western developed countries to developing countries in the 1980s, attracted a large amount of foreign capital and technology, developed an export-oriented economy, and achieved rapid economic growth.

In the early days, Taiwan's manufacturing industry was dominated by labor-intensive industries such as textiles and toys, with footwear and leather goods also playing an important role. After years of development, Taiwan has accumulated industrial chain resources and professional and technical personnel, laying the foundation for future international orders.

In addition, Taiwanese businessmen were exposed to the European and American markets earlier and are familiar with Western business culture and communication methods, which gave them an advantage in cooperating with international brands.

At that time, Taiwan had another advantage that could not be ignored: as the scale of business expanded, Taiwanese businessmen turned their attention to mainland China, which had more abundant labor and land resources. The mainland's industrial supporting facilities and development space provided favorable conditions for the further expansion of Taiwan's foundries.

Moreover, since the mother tongue of Taiwanese businessmen is Chinese, it is also very convenient for them to invest in building factories in mainland China, as well as for subsequent operations and management.

In fact, Nike, one of Stellar Holdings' major customers, asked its Taiwanese suppliers to move their shoe production lines to mainland China in the 1980s to further reduce production costs.

Jiuxing Holdings’ development into a leading company in the development and manufacturing of high-end footwear and leather products is inseparable from the efforts and capabilities of the founding team, but also inseparable from the historical background in which it operates: it encountered the rise of Taiwan’s OEM industry and the opportunities of China’s reform and opening up.

Jiuxing Holdings was established in 1982, just in the period when Taiwan's OEM orders were booming. As Taiwanese businessmen set up factories in mainland China, Jiuxing Holdings also quickly established a factory in China.

Moreover, this OEM model also explains why the company's profitability peaked in 2007-2008 and then began to decline gradually.

The financial crisis of 2007-2008 prompted many luxury brands to seek ways to reduce costs and increase efficiency, and setting up factories in China gradually became common. A large number of OEM orders for luxury brands poured into China, and China's production capacity could not keep up for a while, so these brands competed to offer attractive order prices to attract Chinese manufacturers to cooperate with them.

Therefore, the period from 2007 to 2008 was a high point of profitability for Chinese OEM factories. At that time, the costs of raw materials and workers’ wages were still low, and luxury brands were willing to offer relatively generous prices.

Jiuxing Holdings' gross profit margin, adjusted operating profit margin and net profit margin almost reached their highest points in 2007, which were not broken again in the following 13 years, namely 23.6%, 12.8% and 12.2% respectively.

(Source: Company annual report, Chart: Market Capitalization APP)

The situation is similar for Yue Yuen Group. These three operating data reached 23.7%, 10.6% and 9% respectively in 2007, but the profitability of these two companies has been declining since then.

The earliest operating data that Huali Group can trace back to is only 2017, so it is not included in the comparison.

One of the main factors behind the decline in profitability is rising labor costs.

Taking the luxury goods OEM factories in Dongguan as an example, in early 2002, the monthly salary of workers was generally around RMB 600-700, but around 2012, this figure had risen to RMB 3,000-4,000. At this time, if the factory insisted on offering a monthly salary of less than RMB 2,000, it often found it difficult to recruit enough workers.

However, in the past decade, luxury brands have hardly raised order prices, so the profit margins of OEM factories have been continuously compressed.

In addition, the prices of raw materials such as leather, chemical fiber, and cotton have continued to rise, due to rising environmental protection costs and rising labor costs of upstream suppliers. These factors have jointly eroded the profitability of companies such as Jiuxing Holdings.

At this time, the OEM industry in Southeast Asian countries is like China 20 years ago. The local industrial chain and management experience are constantly maturing, making the practice of building factories in Southeast Asia more and more operational and economically feasible.

The outbreak of the epidemic in 2020 became the last straw. Due to the obstruction of the supply chain, Jiuxing Holdings missed a large number of orders that year, and its net profit fell sharply year-on-year, with a large amount of production capacity idle. As a result, the company once again stepped up its efforts to close factories in China, retaining only three factories in mainland China to cope with sporting goods and high-end customers.

Since then, the company, like its peers, has begun to significantly increase its efforts to relocate production capacity to Southeast Asia.

By 2023, according to statistics, international sports brands such as Adidas and Nike have placed 40% to 50% of their footwear production capacity in Vietnam.

Therefore, the company's development over the past 20 years and the management's ability to judge the situation are closely related to the company's development destiny, but we cannot ignore the general background of the development of the times and industry cycles: Jiuxing Holdings was established in Taiwan, China in the 1990s, and therefore seized the opportunity to build a factory in mainland China to engage in luxury goods OEM.

Today, the company has relocated its factories to Southeast Asia, expanded its production capacity in countries and regions such as Indonesia and Bangladesh, and regained low-cost labor.

The company's gross profit margin, adjusted operating profit margin, and adjusted net profit margin have almost returned to the level of 2007, which is similar to a repeat of history (the period when the factory was built in mainland China). In 2023, the company's three profitability indicators will be 24.6%, 11.9%, and 9.5%, respectively.

Therefore, the company's ROE data has also shown a similar trend of change as the company's profitability has cyclically rotated over the past 15 years. It first experienced a decline until it hit bottom in 2020, and then the ROE improved significantly due to the improvement in profitability brought about by the relocation of the factory.

The company's ROE is 13.7% in 2023, compared with 22.61% for Huali Group and 6.6% for Yue Yuen Group.

(Source: Company annual report, Chart: Market Capitalization APP)

The reason why Huali Group has a higher ROE is that it built factories in Southeast Asia earlier, and it does not have the expenses such as factory relocation and employee placement that Jiuxing Holdings has to face now.

Yue Yuen Group's ROE is lower because the company also has some retail business, and the ROE of the retail business is relatively lower than that of the OEM business.

Generous shareholder returns

If we only look at the common shareholder return indicators that investors care about most, Jiuxing Holdings has its appeal.

It took the company only one year to reverse the downturn in 2020 and bring its net profit back to the historical average level in 2021-2023. The speed at which it did so attracted the attention of many investors.

With the increase in valuation, the company's PB has increased significantly compared to a year ago: the PB in June 2024 is approximately 1.4, while it was only 0.8 in the same period last year.

(Source: Company annual report, Chart: Market Capitalization APP)

In addition to the rapid rebound in performance, Jiuxing Holdings is also a high-dividend concept stock in the Hong Kong stock market. The average dividend rate of the company since its listing is 75.6% (74.4% in 2023), which is higher than the average level of 30%-60% in the Hong Kong stock footwear sector.

The superposition of two favorable concepts has attracted a lot of attention to this stock.

An important reason why the company can distribute dividends generously is that Jiuxing Holdings is very simple and pure. The management hardly considers business diversification and is very cautious in expanding production capacity.

Therefore, except for a portion of the company's earnings that is reserved for future fixed asset investments such as factory construction and equipment purchases, and a small portion as reserve funds, the rest is basically distributed as dividends.

(Source: Company annual report, Chart: Market Capitalization APP)

Similarly, because the company itself has a certain amount of cash reserves, the large-scale factory relocation that began in 2020 was basically completed relying on the company's own funds, without increasing leverage or borrowing.

The company's debt-to-asset ratio is increasing mainly because the company is leveraging its bargaining power with upstream suppliers to extend the payment period of accounts payable in order to achieve better cash flow management.

As of the end of 2023, the company's interest-bearing debt ratio and debt-to-asset ratio were 0.5% and 24%, respectively.

(Source: Company annual report, Chart: Market Capitalization APP)

Because the company has always been cautious about rapid scale expansion and business diversification, its capital expenditure has basically remained between 50 million and 80 million in the past 10 years, with few aggressive increases in investment. Almost half of its net operating cash flow can be converted into the company's free cash flow each year.

In 2023, the company's free cash flow will be 160 million. The cumulative free cash flow since its listing is 1.16 billion.

(Source: Company annual report, Chart: Market Capitalization APP)

However, these highlights in these data cannot conceal the importance of the company's business strategy and industry status behind it.

The fact of the company's current operating status is that the OEM model has certain risks. European luxury brand manufacturers usually choose several OEM factories at the same time to avoid a monopoly. Therefore, the company's own business does not have a strong moat and irreplaceability.

No matter how excellent the business management is, it has to respect the impact of changes in industry cycles.

For stock investors who value dividends, the company's ability to continue operating and generate cash flow that can be used for dividends over a long period of time is actually a more important premise than the dividend rate indicator.

Disclaimer:This report (article) is an independent third-party research based on the public company attributes of listed companies and the information disclosed by listed companies in accordance with their legal obligations (including but not limited to interim announcements, regular reports and official interactive platforms, etc.). Market Capitalization strives to be objective and fair in the content and views contained in the report (article), but does not guarantee its accuracy, completeness, timeliness, etc. The information or opinions expressed in this report (article) do not constitute any investment advice, and Market Capitalization shall not bear any responsibility for any actions taken as a result of using this report.

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