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Saturday, February 23, 2013

Eratat Lifestyle – To Ride On China’s Domestic Consumption Theme?


This article is a repost from Ernest’s Blog
China is slowly changing its reliance on exports to more of a domestic consumption focus. One such company which may be able to ride on this domestic consumption story is Eratat Lifestyle (“Eratat”).
Description Of Eratat
Eratat started as a sports shoe / sportswear company and moved into the design and distribution of lifestyle fashion apparel under its proprietary brand “ERATAT” (“ 鳄莱特”) about 3-4 years ago. Please refer to their company website for more information.
Investment Merits
1. Near Term Results Likely To Be Better Without One Off Items
Eratat recognised a one off sales incentive in 4Q11 of RMB51.7m and renovation subsidy RMB41.8m in 1H12. Without these one off items, it is reasonable to assume that 4Q12F and 1H13F results are likely to better off on a year on year comparison.
2. Strongest Catalyst: New Distributors
Eratat has been in talks with new distributors via their 100 percent-owned subsidiary in Shanghai. Discussions have been ongoing for a few months and they are likely to materialise this year. However, impact is likely to be seen in 2H13F and (perhaps) more so in FY14. This is likely to be the strongest catalyst for the company.
3. Right Industry, Albeit Competitive
Eratat is in the right industry and based on China’s macro outlook, the retail industry is likely to ride on the wave of domestic consumption and do well over the next couple of years.
4. Active Investor Relation Efforts
Both Ken Ho, CFO and Kellyn Tan, Eratat’s investor relation (“IR”) have been active in doing IR activities. Unlike other S chips who may be discouraged (due to their low company share price despite their efforts) and stop meeting people, Eratat’s CFO and IR have been actively engaging the investment community despite their low share price last year.
5. Net Cash Per Share Of 15.7 Cents (SGD)
Eratat has no outstanding loans and according to the management, they do not have any bad debts on their accounts receivables for the last five years. For the net cash of 15.7 cents (SGD), it is noteworthy that the net cash fluctuates. They are usually lower in 2Q and 4Q as a significant amount of cash would be placed as trade deposits to their apparel manufacturers to secure delivery of their apparel products.
Investment risks
As with all investments, there are some noteworthy points to take note:
1. Possibility Of Equity Raising
Readers who have been following Eratat understand that Eratat requires significant working capital for their apparel business. Eratat outsources the manufacture of their apparel products to mid or large sized third party manufacturers. These third party manufacturers concurrently manufacture apparel products for high end local and international brands. In order to secure delivery of products, Eratat has to place 50-60 percent as trade deposits at the time of placing orders with them. (They do not have their own apparel manufacturing facility because their current size does not warrant them to have their in house facilities.) In order to expand faster in their apparel business, it is likely that the company may need to raise more cash for their working capital requirements.
2. Usual S Chip Risks Apply
Besides the usual corporate governance risk surrounding S chips, they also face liquidity risk and price risk. Although sentiment has improved since last year, it is still rather fragile. (I believe most investors would still sweat whenever the S chips that they hold halt trading) Eratat’s liquidity has improved markedly since mid-December 2012 but its average 30 day and 100 day exponential moving average (EMA) volumes are still at modest levels of around 2.3 million and 1.3 million of shares respectively.
Valuations – 2.3x FY13F PE; NAV / Share ~ $0.355
Based on Chart 1 below, Eratat has surged 74 percent from the low of around $0.080 in July – Sep 12 to $0.139 on 18 Jan 13. However, its valuations do not appear to be excessive. It trades at around 2.3x FY13F PE. NAV / share is approximately $0.355. Estimated yield is 3.0 percent. SIAS covers this company with a one year target price of $0.240.

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