Two divergent retail stocks at a crossroads


  • Padini is one of the darlings of investors looking at consumer retail and dividend plays



-A +A
This article first appeared in The Edge Malaysia Weekly, on October 31 - November 6, 2016.

 

TWO retail stocks — Wing Tai Malaysia Bhd and Padini Holdings Bhd — have been on different share price trajectories amid a persistent weakness in consumer sentiment and spending.

For Wing Tai, it has been an especially tough year given that its two core businesses of fashion retail and property development have been facing macroeconomic headwinds.

This has weighed down its share price, which slumped to a five-year low of RM1.04 on Oct 7. During better days, the stock had traded above RM2 per share, touching a five-year high of RM2.287 on May 22, 2013.

For most of the past year, Wing Tai had been struggling at just above the RM1 level after briefly reaching a one-year high of RM1.30 on Dec 1, 2015. Last Wednesday, the counter closed at RM1.10.

In sharp contrast has been the stellar performance of Padini’s share price over the past year, making it one of the darlings of investors looking at consumer retail and dividend plays.

The counter climbed to a five-year high of RM3.035 on Sept 6 and is now hovering around that level.

Year to date, it has gained an impressive 64.3% to RM2.88 on Oct 26, from RM1.753 on Jan 4.

Padini, which is closely tracked by analysts, has seven “buy” and four “hold” calls with an average target price of RM3.13.

Wing Tai has seen its shares shed 10.57% in value, from RM1.23 on Jan 4 to RM1.10 on Oct 26.

But as the fashion world knows all too well, trends and cycles come and go. Is this a good time to take another look at Wing Tai? Does Padini’s rally still have any momentum?

Based on their closing prices on Oct 26, Wing Tai is trading at a substantial 59% discount to its net asset value of RM2.70 while Padini is trading at a price-to-book ratio of about four times, given its net asset value of 71 sen.

The answer to whether Wing Tai is fundamentally undervalued and whether Padini is expensive lies in their outlook for the near future.

For starters, although Wing Tai and Padini are both in the fashion retail business, they have different operating models. Wing Tai is akin to a local partner for international brands while Padini manufactures and sells its own homegrown brands.

They target slightly different consumer segments too, with Wing Tai’s brands appealing more to the mass affluent group while Padini targets the mass market, says a retail industry player.

Wing Tai has 12 international brands in its portfolio — including Topshop, Dorothy Perkins, Miss Selfridge, Warehouse, Karen Millen, Pumpkin Patch, Wallis, BCBG, Ben Sherman, Burton and Furla — across 85 retail outlets in major cities.

A highlight of Wing Tai’s retail segment is its 45% joint venture with Japan’s Fast Retailing Co Ltd, which owns the well-loved Uniqlo brand. Wing Tai and its partner operates about 36 Uniqlo outlets in Malaysia, with 10 of them opening in FY2016 alone, as well as an online store.

Padini sells its range of clothing, shoes and accessories under such brands as Padini, Vincci, PDI, Seed, Miki and P&Co at 145 single-brand and multi-brand concept stores.

The company also sells shoes and fashion accessories under the Vincci or VNC label overseas through retail stores managed by dealers and licensees.

 

Wing Tai’s earnings down

As a group, Wing Tai’s earnings have fallen sharply in the past year. For the financial year ended June 30, 2016 (FY2016), net profit plunged 85.6% to RM10.01 million from RM69.59 million the year before while revenue fell 12.8% to RM275.82 million.

The manufacturing and retailing of garments segment is the largest contributor to Wing Tai’s revenue, making up about 65.3% in FY2016 (RM180.09 million) and 56% in FY2015 (RM177.19 million). The rest comes from the sale of development properties as well as rental income from serviced apartments and development properties.

A closer look at Wing Tai’s segmental results over the last five years shows that lower earnings from its property development business have been a significant drag on the overall earnings.

In FY2016, its property development gross profit halved to RM24.24 million from RM57.19 million the year before, with revenue similarly halving to RM72.966 million.

On the company’s retail side, sales have been rather stable over the years, even inching up 2% to RM174.03 million in FY2016 from RM170.47 million the year before.

However, the same cannot be said for gross profit from its retail segment, which slid for five consecutive years from RM38.98 million in FY2012 to RM11.074 million in FY2016.

More alarmingly, margins from Wing Tai’s retail business have also become more squeezed year after year.

Back-of-the-envelope calculations show that the company registered double-digit gross profit margins of about 23% for that segment in FY2012 but they slid to the teens in the subsequent years. Pre-tax profit margins came down to about 6.36% in FY2016.

Similarly, Wing Tai’s joint venture with Uniqlo has registered strong growth, to the top line at least. Uniqlo Malaysia’s revenue grew almost 30% to RM499.49 million in FY2016 from RM384.25 million the year before. Net profit, however, fell 20.2% to RM17.72 million.

According to a retail industry observer, this margin squeeze suggests that Wing Tai has been aggressively pushing for market share and sales at the expense of stronger margins and earnings.

“Wing Tai’s brands are well known but the company does not own them. And it has to deal with the weak ringgit while managing overheads and the challenging spending sentiment,” says the observer.

What is the way forward for Wing Tai? In its annual report, the company sounds more upbeat on property demand, particularly in the growth areas of Malaysia. But for retail, it expects challenges such as the weak ringgit and sluggish consumer spend to spill over into next year.

“Despite softer property market sentiments and global economic uncertainties, the group is determined to manage and overcome them by continuing to streamline its operations to enhance its performance,” says Wing Tai.

 

Does Padini still have momentum?

Padini’s share price and earnings have seen a strong performance. For the financial year ended June 30, 2016 (FY2016), revenue crossed the RM1 billion mark for the first time at RM1.301 billion, up 33.06% from RM977.9 million the year before. Net profit rose 71.25% to RM137.38 million.

As the company points out, FY2016 had been “an exceptionally good year” given that all its subsidiaries booked strong growth in earnings.

The growth in earnings was in part due to FY2015 being affected by inflationary pressures on cost and uncertainties following the implementation of the Goods and Services Tax as well as Padini’s decision to maintain its prices and absorb the GST, which compressed margins.

“This year was a mixture of improvements in efficiencies as well as a normalisation of sorts from that dismal time, and where the group has had the good fortune of having a stable network of supply and distribution channels, which was being strengthened,” says Padini.

A look at its different subsidiaries and segments show that the strongest growth in earnings in FY2016 came from the Vincci brand, where gross profit more than doubled to RM29.92 million. Gross profit from Padini Corp Sdn Bhd and Yee Fong Hung (M) Sdn Bhd — which runs Brands Outlet and P&Co — rose 50.3% and 48% respectively to RM60.57 million and RM65.9 million.

After some margin compression in FY2015, Padini’s various subsidiaries returned to double-digit pre-tax profit margins in FY2016 of between 12% and 14.3%.

So, back to the earlier question, does Padini still have growth momentum?

AmInvestment Research seems to think so, on the earnings front at least.

In an Aug 28 note, it forecast more growth for Padini’s earnings over the next two financial years. The research house is estimating a 7% rise in the company’s earnings to RM147 million in FY2017, a further 12% increase to RM164 million in FY2018 and another 10% growth to RM181 million in FY2018.

It, however, maintained its 12-month fair value for Padini at RM3, which could mean that its upside is limited.

“We are keeping our estimates unchanged and continue to like Padini for its strong brand recognition, sterling earnings track record, wide distribution network and dominant position in the retail and apparel industry,” says AmInvestment Research.

In contrast, AllianceDBS Research analyst Cheah King Yoong downgraded Padini to a “hold” in August, with a target price of RM2.60. In an Aug 16 note, he tells investors that he is taking a more cautious view given the recent run-up in the company’s share price.

“Following the strong rally, the stock has exceeded our target price of RM2.60. We continue to like Padini, given its solid fundamentals and hands-on management, but we believe that the group’s current valuation has priced in its near-term growth prospects,” says Cheah.

What then of Wing Tai?

Perhaps the answer is yes for anyone with an appetite for betting on stronger growth in consumer spending and the ringgit’s value as well as a recovery in the property market.