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Long: Sitoy Group Holdings

|Includes: Sitoy Group Holdings Ltd. (STYDF)

Sitoy Group (SEHK:1023) is one of the largest, if not the largest, OEM of luxury handbags and small leather goods. The company's manufacturing facilities are located in the city of Dongguan in southern China. In 2009, the Company started a new travel goods manufacturing facility in Yingde (northern Guangzhou). Coach (COH) is the company's largest customer, accounting for 53.4% of the Company's FY2015 (ended 30 June 2015) revenue. Other customers include Michael Kors (NYSE:KORS), Prada (SEHK:1913), Tumi (NYSE:TUMI), etc., and the top five customers account for 78.2% of revenue. We estimate that the company accounts for 25-30% of Coach's handbag and leather goods supply. The company has over 13,000 employees, including approximately 1,000 employees in its Creative Center and R&D Center, which offers customer a one-stop solution to design, research, development, real-time costing and manufacturing. Sitoy is majority owned and controlled by the brothers, Mr. Michael Yeung (43.4%) and Yeung Wo Fai (23.4%), who serves as the Chairman and CEO of the company, respectively.

Customer concentration risk is inevitable in the OEM industry. By way of example, the top five customers for Shenzhou International (SEHK:2313), the market leading OEM for knitted apparel, accounted for 85.4% of its 2014 revenue of RMB11.1 billion (top customer accounted for 23.5%). A limited number of customers means that the Company is able to organize its production lines efficiently. Furthermore, a high number of fringe customers (small orders) would mean that the company will have significant customer acquisition and service costs, resulting in lower profitability.

The company's largest customer is Coach, which had been suffering from declining sales since 2012-13. However, in the most recent quarter ended December 2015, Coach's revenue seemed to have stabilized as it reported a 1.6% year-over-year decline in revenue. COGS decline by a smaller 0.6% year-over-year. Overall, we see the stabilization of Coach as a positive for Sitoy.

Sitoy Group launched its TUSCAN'S handbag and luggage brand in China in 2011. To date, the brand is operating 81 retail outlets - 22 stand-alone retail stores and 59 concession counters in department stores. While revenue for this operation has increased to HK$108 million in FY2015 from HK$79 million in FY2014, this is still a money-losing operation, losing HK$15 million in FY2015. Overall, the company has invested HK$43 million into the retail operation, which we believe, isn't too terrible for the company's size. Nevertheless, we would have liked for the company to focus on its core OEM business and leave the business diversification aspect to investors (by investing in retail stocks).

For the fiscal year ended 30 June 2015, the company generated HK$3,380 million in revenue (USD433 million), representing a y-on-y decline of 12.4%. Since FY2009, Sitoy Group has continually improved its gross margin from 16.9% to 26.1%, while EBITDA margin rose from 8.2% to 15.4%. FY2015 was a relatively challenging year for the company, as revenue declined by 12.4% to HK$3,380 million, EBITDA margin declined by 170 bps to 15.4%, and net margin declined by 90 bps to 12.2%. However, margins continue to be very respectable.

Sitoy Group is currently trading at 6.6x FY2015 P/E and 2.7x FY2015 EV/EBITDA with a dividend yield of 8.5%. The company has HK$1.3 billion of cash (HK$1.32 per share against a share price of HK$2.74) and no debt. Trading volume is very thin, with an average of 162,575 shares out of 1 billion outstanding.

We believe that the key risk to the company are customer concentration risk and competitive pressure from China and Southeast Asia, as well as a general lack of liquidity in its stock. The company's low valuation, pristine balance sheet and strong cash flow generating capabilities makes it an attractive counter.

Long Sitoy at HK$2.70 (9.3% above 52-week low), with a stop-loss at HK$2.40.


  • Stabilization / turnaround for its largest customer, Coach
  • New business stream from expansion to travel goods manufacturing, especially if it can win one or two marquee customers

Disclosure: I am/we are long STYDF.