Yue Yuen prepares to spin off retail operations

Pou Sheng is aiming to raise at least $309 million, assuming its parent receives shareholder approval.
Hong Kong-listed athletic shoe manufacturer Yue Yuen Industrial will go ahead with the spin-off of its retail distribution business in China, assuming that its minority shareholders give it a nod of approval at a special general meeting on Tuesday. In anticipation of their okay, Merrill Lynch and Morgan Stanley, who are joint bookrunners, will start to take orders from institutional investors today.

The Hong Kong listing candidate, named Pou Sheng Group, is aiming to raise between HK$2.41 billion and HK$3.09 billion ($309 million to $396 million) from the sale of all new shares, which it will use primarily to expand its retail network and to repay bank borrowings.

The price range has been set at HK$2.93 to HK$3.75, which translates into an adjusted 2008 price-to-earnings ratio of 17.1 to 21.7 times.

On that basis, Pou Sheng is being pitched at a sizeable discount to branded Chinese retailers like Belle International or Li Ning. Observers say a discount is warranted because Pou Sheng doesnÆt have a brand of its own. On the other hand though, it has an extensive distribution network û it currently has over 9,000 points of sales including outlets operated by its 22 provincial joint ventures and sub-distributors û which offers sportswear products for a large number of top international and domestic brands, including Nike, Adidas, Reebok, Puma, Converse, Asics, Hush Puppies, Li Ning and Kappa. For several of these it also has the leading market share in China.

Other companies with a similar business model include watch distributors Xinyu Hengdeli and Peace Mark which have a market cap of roughly the same size as Pou Sheng, but are relatively illiquid. Also, the more exciting growth prospects of the sportswear market means Pou Sheng should trade at a premium to these two, syndicate analysts argue. As at yesterdayÆs close, Xinyu Hengdeli was quoted at a 2008 P/E of 16.3 times, while Peace Mark traded at a fiscal 2009 (to March) P/E of 14.6 times, according to Bloomberg. Pou ShengÆs financial year ends in September, but its P/E numbers have been adjusted to a calendar year to make the comparison with other stocks a bit easier.

Belle, which manufactures and sells eight brands of primarily ladies shoes, is currently trading at a 2008 P/E multiple of 28.8 times, while sportswear designer and retailer Li Ning is quoted at 34.8 times. Anta and China Dongxiang, whose brands arenÆt quite as strong as the other two, trade at P/E multiples of 27.5 and 21 times, respectively.

Interestingly, Pou Sheng will be in the market at the same time as another sportswear retailer, namely Xtep International Holdings, which is also kicking off an IPO today with the help of JPMorgan and UBS. Xtep, which focuses on fashion sportswear (a cross-over between functional sports clothing and fashion items), does have its own brand, but a less extensive distribution network than Pou Sheng. Xtep is being pitched at a 2008 P/E of 17 to 23 times.

Supporting the investment case for both these companies is the general industry growth and increasing spending power, which coupled with the upcoming Olympics has led more people to spend more of their money on sportswear. That trend is expected to continue as the spending per capita on these items is still low in China compared with other countries.

And although it isnÆt a retail brand, Pou Sheng should be able to lean on the Yue Yuen name when it comes to attracting investor interest. The parent company, which is part of Hong KongÆs Hang Seng Index and well-known by both institutional and retail investors, is involved in original equipment manufacturing (OEM) and original design manufacturing (ODM) of athletic and casual shoes for major brands like Nike, Adidas, Reebok, Asics, New Balance, Puma, Timberland and Rockport.

In a circular to its shareholders, Yue Yuen says the separate listing of Pou Sheng will allow the company to ôestablish a higher profile with the ability to access the debt and equity capital markets in its own right to fund the development and expansion of the retail business.ö At the same time, it will allow Yue Yuen to focus on its OEM and ODM business. The parent company will still own 56% after the IPO, however.

The spin-off should also unlock potential hidden value of Pou Sheng as the listing candidate is expected to trade at a substantially higher valuation than its parent, which is valued in line with industrial stocks. As of yesterday, Yue Yuen was quoted at a fiscal 2008 (to September) P/E of 12.2 times.

In addition to its retail business, Pou Sheng has a licensee business that encompasses three brands û Converse, Hush Puppies and Wolverine û giving it the exclusive rights to the whole value chain, including design, development, manufacturing, marketing and distribution of these products in certain geographical regions for a certain period of time. Sources say this integrated business is something that Pou Sheng will be looking to grow in the future. It also operates a small OEM plant to support this end-to-end business.

The IPO comprises approximately 823.4 million shares, or 23.2% of the company, of which 90% will be sold to institutional accounts and 10% to retail investors. Five percent of the deal will be earmarked for Yue YuenÆs existing shareholders through a preferential offering that will come out of the institutional tranche. In addition, the company will sell 2.7% of its share capital to joint venture partners, resulting in a free-float of 25.9% at the time of listing.

If approved at TuesdayÆs SGM, the Hong Kong public offering will launch on May 26 and the final price is expected to be determined after the US close on May 29. The trading debut is scheduled for June 6.
¬ Haymarket Media Limited. All rights reserved.
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