As investors are aware, both our firm and GeoInvesting questioned Exceed Company (NASDAQ:EDS) (see here and here). Management responded here. Our full research update can be found here, although a concise summary is below.
After interviewing all of EDS's major distributors, we learned that the majority of stores EDS claims do not exist. We have the interview recordings here and here, and the transcripts available here. We corroborated the distributor's statements by obtaining the distributor's financial statements, which conclusively show that the distributors do not purchase anywhere near the volume that EDS claims. Financials for the distributors are available here.
EDS manufactures sports apparel and footwear under the brand "Xidelong." These products are sold only to distributors who then distribute them to the retail stores. There is only 1 distributor per geographic area, generally a province. The distributors directly own and operate roughly 1 of 3 stores. The rest of the stores are operated by franchisees referred to as "third-party retailers" in SEC filings.
The diagram below (click to enlarge images) represents the claimed store count as of December 31, 2010. Management is forecasting store growth north of 15% for 2011.
EDS Claimed Store Count
The summaries of some of our interviews are below, more interviews can be found in our full length report.
- Legal Entity - Guangzhou Saidong Trade Development Ltd. (广州市赛动贸易发展有限公司)
- Address - 广东省广州市荔湾区人民中路555号2701、2702室
- Geographic Region Under Control - Guangdong Province
We interviewed the manager in charge of sales, Mr Chen Yongxi. In the interviews he confirmed that his company directly owns and operates 30-40 stores, while there are 50-60 stores operated by franchisees in the province. This equates to a total provincial store count between 80 and 100. As seen above, EDS claims to investors 279 stores in the Guangdong province.
- Legal Entity - Anhui Yongyi Trade Co., Ltd. (安徽省合肥市长江东路美菱工业园)
- Address - 合肥市科学岛公交二保场职工宿舍7幢304室
- Geographic Region Under Control - Anhui Province
We interviewed Mr. Kang, the Human Resource Manager of Anhui Yongyi. We originally called him but he preferred to be interviewed by QQ, China's popular IM service. The QQ log can be found here. Mr. Kang confirmed that the company directly owns and operates 30 stores. He also confirmed that 70 franchisees operate the rest of the stores in the province and that there were 100 stores operated by these 70 owners. This equates to a cumulative total of 130, while EDS simultaneously claims 284 stores.
- Legal Entity - Wuhan Fangang Trading Co., Ltd. (武汉凡港商贸有限责任公司)
- Address - 湖北省武汉市江汉区大兴二盛巷93号
- Geographic Region Under Control - Hubei Province
We interviewed Manager Lei of Wuhan Fangang Trading. Manager Lei originally told us there were more than 100 stores total in the province. However after further inquiry he revealed approximately 130 stores. In the Hubei province management claims nearly 300 stores.
- Legal Entity - Hangzhou Bulong Sporting Goods Co., Ltd. (杭州步龙体育用品有限公司) & related company Hangzhou Feijayo Trading Co., Ltd. (杭州飞耀贸易有限公司)
- Address - 杭州市江干区江干区德胜东路华贸鞋城A4-105号
- Geographic Region Under Control - Zhejiang Province except for the area of Wenzhou (Wenzhou is operated by Mr. Xu)
Mr. Xu claimed to operate about 20 stores. Hangzhou Bulong Sporting Goods claimed more than 100 stores total in the province. Unsatisfied with a vague answer, we inquired about how many stores were in Hangzhou, the company's headquarters. The company answered there were 10 stores in the region. Our investigator then became suspicious. As she put it:
Hangzhou accounts for 15%-20% of the total population of Zhejiang. The rest of the province is more rural, mountainous, underdeveloped, and poor. If only 10 stores are in Hangzhou I suspect the claim of 100+ stores is exaggerated.
Our Zhejiang staff was then tasked to identify all the stores in the province excluding Wenzhou. They identified a total of 50 stores as shown below:
Interestingly our Zhejiang team independently identified the same numbers for Hangzhou as the distributor claimed, a full listing of these store addresses can be found here. This leads us to believe that it's possible some distributors were exaggerating their store count, in an effort to impress our investigators.
Whether there are 60, 80, or 120 stores in the province, management is claiming 386 stores to investors, so the company is still massively overstating its scale.
We obtained the financial data for Anhui Yongyi Trade Co., Ltd., Guangzhou Saidong Trade Development, Ltd., Kunming Jiemeilong Trading Co., Ltd., Chongqing Tengqiao Trading Co., Ltd., Harbin Kaixiang Trading Co., Ltd., and Wuhan Fanang Traing Co., Ltd. Some companies only had 2009 financials available, while others had only 2010 financials, while some had both years, so we will analyze the years separately.
While management doesn't break down sales by specific distributor, nor provide their identities to inquiring investors, it's easy to extrapolate the approximate sales EDS is claiming.
In 2009 EDS claimed 3,694 retail stores which had total sales of $304,423,000, which equates to $82,410 in sales per store. For 2009 we have financials for Wuhan Fangang Trading Co., Ltd. Chongqing Tenqiao Trading Co., Ltd, and Anhui Yongyi Trade Co., Ltd. These distributors represent the Hubei, Chongqing, and Anhui provinces respectively. In aggregate EDS claimed 695 stores for 2009 between these 3 provinces. Based on average sales per store of $82,410 this equates to total sales to these 3 distributors of $57,274,950 during 2009.
However a big problem for EDS emerges when totaling these distributors revenue, these distributors total revenue is less than $4,000,000 (using 6.5RMB per dollar), while EDS claims to be selling them about $57,000,000 worth of shoes and apparel. Its COGS is only $3,500,000, yet EDS is selling them $57 million worth of product.
We were also told that the Chongqing distributor and the Hubei distributor are small companies with less than a dozen employees. We couldn't obtain an employee count for the Anhui distributor. We would like EDS to explain how it sells $60 million worth of products to these boutique companies.
We will repeat the exercise with the 2010 data. As of December 31, 2010 EDS claimed 4,333 stores with total revenue of $408,900,000 which equates to an average sales per store of $94,369. For 2010 we have financials for Kunming Jiemeilong Trading Co., Ltd., Guangzhou Saidong Trade Development, Ltd., Anhui Yongyi Trade Co., Ltd., and Harbin Kaixiang Trading Co., Ltd. These are the only distributors for the Yunnan, Guizhou, Guangdong, Anhui, and Heilongjiang provinces.
During 2010 EDS claims a total of 1206 stores between these provinces. Accordingly EDS is claiming roughly $113,809,014 in sales for these provinces. However these distributors total revenue is less than $8,000,000. Once again we find it preposterous that these small distributors are purchasing $140 million in products from EDS.
While domestic enterprise financial data isn't as scrutinized as it is for a foreign investment enterprise, it is generally accurate. Still not a single of the 7 distributors financials match with what EDS is claiming. Guangzhou Saidong's and Wuhan Fangang's financials match with what the distributors told us in interviews. The rest of the distributor's metrics are suprisingly small.
Consequently, investors are left pondering what percentage of EDS's claimed sales are real. We would recommend investors listen to one investor who was one of the few to make money rising the RTO bubble, selling at the peak, and riding it back down.
"The facts are that companies who are committing even a slight amount of fraud are doomed to be delisted and trade below $1. Period." -Rick Pearson
Disclosure: I am short EDS.