Edward Yi Hua Kang – Chief Executive Officer
Jack Sun – Chief Operating Officer
Emily Guo – Chief Financial Officer
Angel Zhang – Vice President of Finance
Albert Lee – Maxim Group
Joseph Reel – Baker Brook Capital
Ever-Glory International Group, Inc. (EVK) Q2 2008 Earnings Call August 4, 2008 8:30 AM ET
Welcome to the Ever-Glory second quarter earnings conference call. (Operator Instructions) I would now like to turn the presentation over to Crocker Coulson.
Good morning and good evening to those of you joining us from China, and welcome to all of you to Ever-Glory International Group’s second quarter 2008 conference call. My name is Crocker Coulson, President of CCG, Ever-Glory’s investor relations firm. Joining us today on the call are Ever-Glory’s Chairman and CEO, Mr. Edward Yi Hua Kang; the company’s Chief Operating Officer, Mr. Jack Sun; the company’s Chief Financial Officer, Ms. Emily Guo; and Vice President of Finance, Ms. Angel Zhang.
Today’s call will follow the following format. First Mr. Kang will provide us with a few introductory comments. Then Ms. Zhang will provide a more detailed overview of the business and summarize financial results for the second quarter. Then Mr. Kang will provide a few closing remarks. During the Q&A, Ms. Zhang will provide translation for Mr. Kang and Ms. Guo.
I’d like to remind our listeners that in this call management’s prepared remarks contain forward-looking statements which are subject to risks and uncertainties. Therefore, the company claims the protection of the Safe Harbor for forward-looking statements that’s contained in the Private Securities Litigation Reform Act of 1995.
Any statements today that are not historical facts are forward-looking statements that involve risks and uncertainties that could cause actual results to differ materially from those in the forward-looking statements. Such factors include but are not limited to the company’s ability to accurately complete product orders, coordinate product design with customers, expand and grow its distribution channels, political and economic factors in the People’s Republic of China, the company’s ability to find attractive acquisition candidates, dependence on a limited number of larger customers, and other factors detailed from time to time in the company’s filings with the US SEC and other regulatory authorities. Ever-Glory undertakes no obligation to publically update or revise any forward-looking statements whether as a result of new information, future events, or otherwise. Accordingly, although the company believes these expectations reflected in forward-looking statements are reasonable, there can be no assurance that such expectations will prove to be correct.
In addition, any projection as to the company’s future performance represents management’s estimates as of today, August 4, 2008, and Ever-Glory assumes no obligation to update these projections in the future as market conditions change. For any one of you unable to listen to the entire call at this time, we are going to make an electronic replay available on the company’s corporate website at www.everglorygroup.com. Now with those formalities out of the way, it’s now my pleasure to turn this call over to Ever-Glory’s Chairman and CEO, Mr. Edward Kang.
Ever-Glory is very happy to show investors our financial and operational growth performance. As the first Chinese apparel company listed on the American Stock Exchange, we are not only a leading apparel manufacturer, but also an accomplished fashion retailer for medium- to high-grade wear-now casual, sportswear, and outerwear. We have several business partners in the United States, Europe, Japan, and China, including a famous brand fashion retailer Chinese store.
I am very glad to report that in the second quarter of 2008, we again achieved very good revenue and earnings growth. First, for this quarter, revenues increased 70% from the same period of 2007 to $24.1 million. Secondly, because we improved our mix of high-margin products and efficiency, gross margin increased to 18.1%. It was 15.9% in the second quarter of 2007. Third, gross profit for this quarter was $4.4 million, up 95% from that of last year. Fourth, with our retailer business in China, La Go Go, we currently have open 44 stores in 22 cities in China. As a result of all these factors, our net income increased 31% from that of last year.
On July 16, 2008, our stock began trading on the AMEX under the text symbol EVK. We expect it to provide us with increased liquidity and access to a much broader investor base. Now, I will turn the call over to Ms. Angel Zhang, our Vice President of Finance. She is based in New York. She will provide more details on key events during this quarter, and summarize financial results.
I’m excited to join you all today, and I look forward to communicating with you about Ever-Glory’s progress in future quarters. We’d like to remind you that our mission is to become the leading Chinese retail clothing chain and an expert in apparent design and supply chain management because we believe these are essential to our success. During the second quarter of 2008, we had significant operational achievements with nearly triple-digit percentage increase in gross profit and solid increase in sales and net income.
We made strategic gains during the quarter, shifting orders in our US market away from our major customers in order to improve the mix of higher margin sales. Three of our four regions showed sizable improvement in gross margin, which we attributed to improved efficiency in product mix and increased value-added service offerings. These gains were made in the face of the continued appreciation of the Chinese RMB and rising labor cost.
We also made great progress in our La Go Go retail strategy. We launched La Go Go just seven months ago, and already we have opened 44 retail stores in 22 cities in China. Our goal is to open between 80 and 100 La Go Go retail stores throughout 2008, and we are confident that we will meet that target by the end of the year. In addition to the retail stores, we plan to open eight to ten standalone La Go Go stores in the coming months. Each store will be both freestanding and in shopping malls in major cities.
During the quarter, La Go Go sales represented 1% of our total revenues, and we believe this concept will soon become a chief source of growth for us. Each store is expected to generate revenues of approximately 30 to 60 RMB per month, and we believe our retail business could account for 4% to 5% of our total revenues for 2008 fiscal year.
We experienced strong growth in our all of our markets last quarter. In Europe, Japan, and China, sales grew 80%, 103%, and 118% respectively from the prior year. Sales to the US increased 18%, and as I said earlier, in the second quarter, we shifted orders in the US market away from our customers in order to improve the mix of higher margin products. We replaced those sales with high-end orders from two newer customers, and we expect US order volume to grow during the second half of the year as orders from these new customers increase with our experience.
Among our customer wins during the quarter, we announced that we have qualified to become a manufacturing partner of Country Road Limited, a major Australian retail chain. During the 2007 fiscal year, Country Road earned net income of approximately US $15.8 million on $224 million in revenue. The retail chain currently operates 132 concession retail and warehouse stores in Australia and New Zealand, so this was important news for us. After another evaluation, Ever-Glory will need to begin cooperating with Country Road in the future, and we will start to begin shipping orders during the third quarter.
As Edward noted, our most recent news occurred in the United States as we successfully made a move to the American Stock Exchange from the over-the-counter bulletin board. Our common stock debuted on the AMEX under the symbol EVK on July 16, 2008. We are very proud to become the first Chinese apparel manufacturer listed on AMEX, and having access to the global capital market and a more visible public profile will place us in an important position to execute our plans for sustained growth as we further expand to international market and increase our market share within China.
With that, let’s change to a more detailed view of our financial performance. During the second quarter of 2008, net sales increased 70.7% from the second quarter of 2007 to $24.1 million. This growth was primarily the result of increased sales to Europe, Japan, and China where sales rose 80%, 103%, and 118% respectively from the same period a year ago. Sales to customers in the United States increased 18% after we adjusted our custom structure and moved from targeting mass market to high quality up-end market segment. We expect US order volume to increase during the second half of the year, as high-margin orders from our new customers increase with experience.
Sales from La Go Go, our newly launched retail business, accounted for 1% of net sales during the quarter. The stores are performing as we expected through the first 6 months, and we expect sales from La Go Go to account for 4% to 5% of total revenues for fiscal year 2008. During the quarter, gross profit was $4.4 million, or 18.1% of sales, up 94.5% from gross profit of $2.2 million, or 15.9% of sales a year ago. The increase in gross margin was attributed to improved control over manufacturing overhead costs, improved production efficiency, and higher margin from customers in Japan, in the US, and China where the company has transitioned into higher end markets.
Selling expenses during the second quarter increased to $0.4 million, from $0.1 million in the prior year. This was primarily caused by higher travel expenses and marketing expenses associated with our international sales force, increased export expenses, and greater advertising expenses to promote the La Go Go retail stores.
General and administrative expense increased to $1.8 million in the second quarter of 2008 from $0.9 million in the same period of 2007. This increase was attributed to higher payroll expenses from expansion of the business, higher depreciation expense on office facilities, expenditures on new office equipment, and increased public company expenses.
As a result, operating income in the second quarter increased 91.1% to $2.2 million from $1.2 million a year ago. Our operating margin improved to 9.2% of net sales from 8.2% a year ago, primarily because of the higher gross margins. Interest expense was $0.6 million, compared to $0.1 million in the year ago period. The increase was primarily related to $0.5 million in non-cash charges from the convertible note issued in August 2007.
Finally, in the second quarter of 2008, net income was $1.3 million, compared with $1 million a year ago. Net income included $0.5 million in non-cash interest expense associated with the convertible note. Diluted earnings per share were nil compared to $0.10 per diluted share in the second quarter of fiscal 2007. I would like to point out that the calculation of the diluted EPS for the second quarter of 2008 includes all shares issuable upon conversion of the company’s convertible notes and warrants, and thus reduces net income by $1.4 million of unamortized discount and issuance costs which will be realized as a non-cash expense upon conversion of the convertible notes and warrants.
Turning to the balance sheet, as of June 30, 2008, we had $1.6 million in cash and cash equivalents. Working capital stood at $11.0 million, and bank loans totaled
$5.8 million at quarter end. As of June 30, 2008, stockholders' equity stood at $25.1 million. During the first quarter of 2008, we generated $3 million of cash flow from operations. Capital expenditures for the second half of the year are expected to be approximately $2 million, which we plan to fund with our operating cash flow.
For the 2008 fiscal year, we expect revenues of between $90 to $100 million and net income of $8.0 million to $8.6 million, excluding the impact of non-cash charges related to the conversion of our convertible notes and warrants.
And now, Edward will provide some final financial remarks before we open up the call for your questions.
In the second quarter of 2008, we achieved repeat growth in revenues, gross profit, and net income. Our cost management and higher-end product mix produced good results. Our La Go Go chain is attaining growth in the number of stores, and 1750. In the past, our experience has been that 60% of our revenues come in the second half of our financial year, so we are confident in our full year performance. We look forward to providing more updates in the next quarter. Again, thank you for listening and for your lasting interest in Ever-Glory’s success.
(Operator Instructions) Your first question comes from Albert Lee from Maxim Group.
Albert Lee – Maxim Group
The second quarter results look like they reflect a nice year, with that uptick in the gross margins to about 18%, and you cited efficiencies on the manufacturing side as well as higher-end product mix as reasons for the improvement year over year, so assuming you can hit your retail store targets of 80 to 100 stores this year, when do you believe that the revenue mix shift towards higher margin retail will begin to be reflected in your gross margins going forward, and do you have any internal goals in mind on the gross and operating margin side as far as where you think they can get to?
Because our private label La Go Go just started in March of this year, this means up to now we have had only 3 or 4 months. My idea is that margins and revenue will come to our financial report at the end of this year or maybe beginning of next year. Up to now, you have seen only 1%, and our target is within this year, it should come to 4% to 5% of total revenues of Ever-Glory. This means I think in the 10-K which should be reported or maybe beginning of 2009, maybe first quarter or second quarter, because for the fashion business, we always report high sales always in winter, so this means that from September up to February is always a very high season with high volume of sales.
Albert Lee – Maxim Group
Do you see much in the way of additional opportunities to eke out more efficiencies on the manufacturing side or do you see that topping out at roughly 18% as it currently stands? Just in general terms, where do you see retail on a per store basis the economics shaking out in terms of gross margin on a normalized basis?
For the first question regarding our gross margin, always we keep a target of 15-18%, and for La Go Go, per store, keep a target of about 55-60%. The retailer business is different from the international business. Our wholesale gross margin may be 15% or 18%, and for the retail business, we keep it at 55% to 60%.
Albert Lee – Maxim Group
Lastly, I know it’s too early, but if you can elaborate generally on the performance thus far of the La Go Go stores that has been opened for about a quarter now, about 3 or 4 months. Are they meeting your expectations thus far in terms of volume per store, foot traffic, any other metric that you can cite? Generally speaking, are they meeting your targets for those stores that have been open for 3 to 4 months?
About 4 days ago, I went to the Chengdu area. I think you would have heard of Chengdu City, right? We have opened about 7 stores in Chengdu, and I spent two days there, and I found the locations of our stores were very good, and as far as performance, in every store, the sales up to now are okay. We have had the stores open starting in March, so this means April is when we started sales, and up till now, I think sales are fine. In the summer season, the sales are always not so good, but currently, all the sales are fine.
Albert Lee – Maxim Group
Geographically, you mentioned additional 40 somewhat stores that you are looking to open by the end of the year. Where geographically are you looking at and why?
As of now, we are at 44 stores that are open in 22 big cities, and to catch the winter sales, we should be opening other stores in August and September. Now, we have another 20 stores under construction, so this means that before October, maybe we could be up to 80 stores or thereabouts. The cities we are looking at are around the 22 cities and additionally some in Shanghai or [inaudible] area.
Albert Lee – Maxim Group
So, you’re talking roughly 80 stores by October.
Yes, almost, because now we have another about 20 stores that are underway.
The next question comes from the line Joseph Reel from Baker Brook Capital.
Joseph Reel – Baker Brook Capital
I had a question about the capital commitment. I know in the 10-Q, it mentions that you have an addition $11.9 million paid for capital commitment, and I noticed that you’ve gotten extensions in the past, and I guess I had two questions about that. The first question is where does that capital go, I mean, is that capital that you have to actually pay out of the company or is that just capital invested in the company, and then the second question is, is it routine to get these extensions and if you are short of getting an extension, what would the consequences be?
Our capital in total in the beginning was about $20 million, and out of that, we have a commitment of $11.9 million, and now we have an application with the Chinese government for extending it to April 25, 2009. This means that we have enough time. Why are we always extending? Because in the past we were always thinking that we should be raising some money from the capital market, but in the end we find some of the terms and conditions are not so good, so we refused some of the terms, so up till now, we never raised any money from the capital markets.
Joseph Reel – Baker Brook Capital
When you make a capital contribution, is that money that goes out of the company to the Chinese government, or is that just an investment in the company, that you have to have a certain amount of capital in the company and you can still use it for business purposes?
When we get this money assuming the government does not reject the document, this money is invested in Ever-Glory for extending our business, for expansion of our international business and retailer business.
There are no further questions at this time. I would now like to turn the conference back over to Crocker Coulson for closing remarks.
We’d like to thank all of our listeners for your attention this morning and also for the questions that you had. In addition, if any of you later on after reviewing the company’s filings have additional questions, feel free to contact us, and we’ll set up a call either with Mr. Kang or with Emily or Ms. Zhang, and we also look forward to any of you who are visiting China if you’d like to visit the company’s facilities or visit some of our new stores, we’d be happy to accommodate you. Thank you again, and we look forward to coming back sometime in November to talk about our third quarter results.