Saturday, January 11, 2014

Esthetics International Group (EIG) -Growing beauty player (DBSV)

Esthetics International Group (EIG)
NOT RATED RM1.05 KLCI : 1,852.95
Return *: 1
Potential Target * : 12-Month RM 1.40 (33% upside)
Growing beauty player

Successful turnaround with new management to drive 3-year earnings CAGR of 40%
Proxy to ASEAN’s growing affluence with new salon expansion and product distributorships
Attractive valuation of 8x FY15 PE (ex-cash); fair value of RM1.40 implies 33% upside


The Business
Growing wellness and beauty player. EIG has three business segments comprising i) exclusive distributorship for Dermalogica skin care products, Davines hair care products and Tisserand beauty/aromatherapy products to >1k independent salons across ASEAN and HK; ii) owns/operates 70 outlets (52 salons, 18 retail kiosks) in MY, SG, TH and HK, offering complete range of skin care and wellness services; and iii) selling its own inhouse FMCG skin care line under Clinelle brand.

Aggressive expansion. EIG targets to increase its corporate salons to 100 within 2-3 years. Meanwhile, expansion into the massive Indonesian market is in the pipeline after the recent approval from the Indonesian government in Aug13 for its product distribution business. Also, exciting marketing plans for its Clinelle brand are set to further increase its market share, riding on the improved performance over the past 3 years.

The Stock
Fair value of RM1.40 per share. We value EIG at RM1.40 pegged to 15x FY15 EPS, reflecting its unrivalled dominance in the fastgrowing yet resilient ASEAN consumer market. EIG’s 32 sen net cash/share implies that the stock is currently trading at only 8x FY15 PE (ex-cash).

Exponential growth. EIG is on track to achieve impressive 3-year earnings CAGR of 40% over FY13-16F, after booking a record high profit of RM8.5m (> 3-fold y-o-y) in 1HFY14. Strong operating cash flow from the retail-focused business will continue to sustain its growth momentum via the highly-scalable business model, thanks to its entrenched brand name and extensive distribution channel.

BACKGROUND & STRATEGY
Management shake-up. EIG Chairman, Mr Eddy Chieng and his family has taken over the company since Aug10, holding 60.8% stake in the company. Since then, the family has been very focused on building a strong foundation to achieve their vision of becoming the leading beauty and wellness company in Asia. The strategic change in leadership has culminated in a business consolidation plan to focus on core brands and segments which have started to show very promising results.

Consolidation plan. The new management inherited several problems including an unfocused company strategy and high inventory levels. Over the past three years, EIG has been undergoing a consolidation and turnaround plan involving the closure of lossmaking home and third party brands and businesses, and refocusing on the core strengths and businesses of the Group: i) Professional Distribution, ii) Corporate Salons; and iii) Fast Moving Consumer Goods (FMCG). The management also adopted a more prudent revenue recognition policy for its corporate salons to abide by the matching principle.

Growing core businesses. For professional distributorship, EIG secured early renewals for their distributorship of Dermalogica for ASEAN + HK until year end 2015 with an option to renew for a further five years. For corporate salons, the Group expanded with new outlets in MY, SG, HK and TH. Meanwhile, EIG invested heavily in the distribution chains and marketing activities for its FMCG brand under Clinelle products to build brand awareness and drive sales growth.

REVENUE DRIVERS
Product distribution. EIG is the exclusive distributor of Dermalogica professional skin care products in Malaysia, Hong Kong, Indonesia, Brunei, Philippines, Thailand and South China, and nominated distributor for Vietnam and Cambodia. In total, product distribution accounts for roughly 33% of the Group’s revenue (RM44m) in FY13.

Owner/operator of beauty salons. The Group owns and operates a chain of 70 skin care salons and kiosks in Malaysia, Singapore, Hong Kong and Thailand under the trade name AsterSpring (formerly known as Leonard Drake). Products from the product distribution segment are also sold in these salons. This segment is the largest, contributing 56% of the Group’s revenue (RM75m) in FY13. In-house FMCG beauty product line. EIG is focused on the development, production and distribution of its in-house brand of skin care products, Clinelle. Clinelle is distributed through pharmacies and high traffic outlets throughout Malaysia and Hong Kong such as Guardian, Watsons and Sasa. Revenues grew 12% yo- y to RM15m and accounted for 11% of the Group’s total revenue.

FINANCIALS
Secure financial position. The Group has net cash of RM59m as at 30 September 2013, equivalent to 32 sen a share. This is lower than 34 sen per share as at 31 March 2013 due to CAPEX spending on renovation of six new outlets in Malaysia, Hong Kong and Singapore and acquisition of new office units in Singapore and Hong Kong. Operating cash flows remain strong at RM17m for 1H14 (vs RM7m in 1H13) on the back of stronger sales growth.

Strong revenue growth. EIG recorded 2Q14 turnover of RM37.5m (16% y-o-y; 10% q-o-q) bringing 1H14 turnover to RM71.5m (11% y-o-y). Earnings also grew to RM4.8m in 2Q14 (4698% y-o-y; 30% q-o-q) with year to date earnings at RM8.5m (372% y-o-y). This was driven by higher revenues from its corporate salons and continued focus on cost management. Staff and rental biggest expenses. Wages and salaries are EIG’s single largest cost component due to its staff strength of 700 employees across MY, SG, HK, TH to run the operations. Meanwhile, rental costs make up roughly 15% of operating expenses in FY13 as management focuses on operating salons in strategic and prime locations within prominent lifestyle malls which typically incur higher rental fees.

First interim dividend declared. EIG declared its first interim franked dividend of 1.5 sen/ share less 25% tax in respect of FY14, following a final franked dividend of 2.5sen/share in FY13. The management is also looking to raise its dividend payout progressively, taking into consideration the financing requirement for its expansion plans in the pipeline.

KEY OPERATING ASSETS
Flagship salons in key locations. The Group continues to raise the profile of its corporate salons by securing strategic and prime locations for its flagship salons such as One Utama and KLCC in Malaysia. The extensive salon network has helped to raise the company’s profile as one of the leading wellness and beauty players in the region.

Improving inventory management. Under the new leadership, EIG has been improving its inventory level to a healthy level of RM15m, compared to RM40m in FY10. The efficient inventory management will help to improve its profitability going forward.

GROWTH PROSPECTS
Careful brand expansion. In 2012, the Group introduced two complimentary leading brands under its professional distribution segment, Davines and Tisserand. For Davines professional hair care products, EIG has secured exclusive distributorship in Thailand for 10.5 years from 1 Jul 2012 followed by Malaysia, Singapore and Brunei for a period of 10 years with the option to renew for a further 10 years (10+10) from 1 Jan 2013. In the case of Tisserand aromatherapy and beauty products, EIG has secured exclusive distributorship in Malaysia, Singapore, Thailand, Brunei, Indonesia, Philippines, Vietnam, Cambodia, Myanmar, and Hong Kong for a 10+10 contract period from 21 Nov 2012.

New products for its in-house brand, Clinelle. While clearing inventory from the previous management, the Group is now able to launch new and updated range of Clinelle products such as the Ingenius anti-ageing line, UV Defense SPF50 and Blemish Care series. Clinelle will continue reviewing its product portfolio and build up its product range to increase market share of retailing space.

Stronger footing in Hong Kong. EIG recently acquired one unit of office space in Kowloon, Hong Kong for approximately RM16m. The location is strategic and within walking distance of two MRT stations. With this acquisition they will fully own their corporate office in Malaysia, Singapore and Hong Kong and avoid rental escalation. The new offices will also form a strong base for product distribution and marketing.

Geographical expansion. The Group is set to expand its footprint throughout the region by building up dealer network in untapped markets, particularly the massive consumer markets in Indonesia and Philippines. ASEAN’s huge population and growing domestic consumption represents a promising opportunity for EIG to grow its business.

VALUATIONS
Attractive valuation. EIG is currently trading at 11x FY15 EPS which is grossly unjustified given its strong growth prospects in the growing ASEAN consumer segment. While share price has surged by some 90% from mid-May13, thanks to the record high 1HFY14 performance, we believe that the upcycle has only started. We derive our TP of RM1.40 based on 15x FY15EPS, which is a 15% discount to its peers’ existing valuation of 17.7x. We like EIG for its unique business model to ride on ASEAN’s growing affluence which is unrivalled by most of its peers .

Steady earnings growth with a strong balance sheet. We like EIG for its growing yet resilient business, thanks to its large customer base due to strong network of corporate salons and professional distributors. Also, its strong balance sheet with RM59m net cash position will stand the Group in good stead for its aggressive expansion pipeline.

Family-run business. Shares in EIG remain tightly held by the Chieng family, with a free float of 38%. The family via their investment vehicle Providence Capital Sdn Bhd has been steadily accumulating shares and as recently as Sept 2013 acquired a further 20,000 shares bringing their total shareholdings to 60.9%.



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