Stella 1836

[winston]

20090107 SBI Stella (1836 HK, HK$6.94, HOLD) - Expected pressure from economic gloom

FY12/09F sales guided to down 10%. The company’s customers have reduced their order size for 2009 after a silent Christmas. According to MasterCard Inc.'s SpendingPulse unit, retail sales in the US dropped 5.5% in Nov and 8% in Dec through Christmas Eve, making it one of the worst holiday shopping periods in decades. The management expects top line to retreat 10% in FY12/09F with single-digit decline in both sales quantity and price. Meanwhile EBITDA margin is anticipated to remain stable.

The guidance is better than expected. We have assumed a 8.6% decline in shipment volume to reflect the falling demand during the downturn, though the company should be better off compared to other peers given its reputation for quality work and R&D ability. On selling price side, due to its cost-plus nature, we expect it to be dragged down 11.1% by softening raw material cost and intensifying competition in a shrinking market. Another potential threat will come from potential change of sales mix as consumption may migrate to cheaper products, which, however, could be offset by the company’s strive in expanding its capacity for higher-end designer’s labels (2m pairs at present).

Forecast maintained. Despite the better-than-expected guidance from the management, we keep our forecast unchanged with concern of further sliding down of consumption spending and sever survival competition among footwear manufacturers. The declining selling price will push down EBITDA margins from 13.0% in FY12/08F to 5.1% in FY12/09F. We expect the recovery to emerge in FY12/10F.

Target price intact. We maintain our target price for the counter at HK$7.36, which represents a 20.0% discount to the estimated fair value of HK$9.20 (HK$5.78 from operation and HK$3.42 from US$377.5m net cash at end-Sep). The current share price has approached our target and, accordingly, we change our recommendation from BUY to HOLD.