A simple analysis of Eu Yan Sang (EYS), accompanied by a simpler introduction to the regional Traditional Chinese Medicine TCM industry.
TCM industry – Highly-fragmented Competition
The regional TCM industry is characterized by a highly fragmented and intense competitive landscape with 3 main players – mom-and-pop stores, domestic companies and international companies. The strength of domestic and international companies differs widely across countries while information regarding the mom-and-pop segment remains relatively opaque. Companies also have differing business models and geographical scope.
Introducing Eu Yan Sang
Eu Yan Sang positions itself as a premium wellness and healthcare company which manufactures and distributes its TCM products in Singapore, Malaysia, Hong Kong, Macau and China. Best-selling products include Bottled Bird’s Nest, Bo Ying Compound, Bak Foong Pills, Lingzhi Cracked Spore Capsules and Essence of Chicken. It also owns the Healthy Life Group (HLG) in Australia.
What investors need to know
Eu Yan Sang is a premium brand with its products typically more expensive than regular, domestic brands. Consequently, demand for EYS products is dependent on both consumer non-discretionary income for day-to-day consumption, and consumption discretionary income (such as tourist spending) for gifting purposes. Case in point; approximately 30% of EYS stores in Singapore are in tourists shopping areas like Orchard Road, Marina Bay and they have 4 stores in Changi Airport alone. Investors should recognise this exposure as a double-edged sword. Mainland tourist spending has accounted for the bulk of tourist receipts growth in the region in the recent years and they are indeed an important source of revenue for EYS. In terms of business model and brand positioning, Beijing Tongrentang is arguably the most similar to EYS. While most of the statistics cited above are based on EYS Singapore, we are fairly confident that it is identical across the regions given the one-company-one-brand nature of EYS.
Where does Eu Yan Sang stand in the competitive landscape?
A simple snapshot of the store counts of key competitors in the various regions.
Similarly, we break down our analysis of EYS competitive position by the different regions.
EYS and Hockhua Tonic are the two largest players in Singapore with 50 and 56 stores respectively. EYS is a premium brand while Hockhua targets the masses with its lower prices. EYS has been losing market share from 2011 to present – Hockhua’s store count increased by 8 while EYS remained fixed. Hockhua has a following of 300,000 under its loyalty programme compared to EYS’s 85,000. Revenue contribution for EYS remained flat for the corresponding period with a CAGR of -0.06%.
In 2002, EYS’s largest competitors Hai-O and Beijing Tongrentang (TRT) began a joint venture to offer TCM consultation services and herbal medicines to the public. Against its competitors, EYS has the largest number of stores at 88 versus Tong Ren Tang’s 3 and Hai-O’s 69 (Table 10). Hai-O operates on a different business model compared to EYS, with retail accounting for only 41.5% of revenue (vs EYS 88.9%) while wholesale accounts for the majority.
The TCM market in Hong Kong is dominated by several major players – EYS, Wai Yuen Tong, Beijing TRT, Hin Sang Group and Vita Green – having roughly an equal store count. According to Euromonitor, EYS has been steadily losing market share to Hin Sang Group and Vita Green over the past 5 years due to the more aggressive expansion and better product innovation by competitors. For example, 2 of Hin Sang’s top 5 grossing TCM products were launched in 2013. In addition, percentage of revenue contributed by distributors doubled from 13.6% in FY14 to 27.5% in FY14.
Financial Analysis of EYS
We avoid any crystal-ball gazing and leave the judgement of EYS future business prospects to the more capable. Here, we stick with what we are comfortable with; creating insights from numbers.
Poor ROE and Gearing
It is evident that EYS has one of the worst ROE and debt to equity ratios in the industry. However, numbers alone can be misleading if simply taken at face value. What’s important is the story behind the numbers, and the story for EYS is this. EYS employs an asset-heavy model by purchasing properties which are used for their retail operations. This is obviously capital intensive and in EYS case, this has been extensively funded by debt. In the recent quarter, EYS purchased SGD15.1m of investment properties while current loans increased by about SGD15.2m.
Ignoring the issue of debt levels for a moment, in comparing ROE, perhaps a more appropriate question would be whether an asset-heavy model or an asset-light model is more favourable for your investment palate.
Poor cash flow, heavy CAPEX commitments
EYS is currently expanding its Hong Kong factory and recently entered into a joint venture to construct a new plant in Sichuan, China. Both are expected to be completed in 2017, requiring a total CAPEX of SGD88m. Approximately SGD30.5m of it has been expensed, with the remaining SGD57.5m expected in the next 2 years. To put things in perspective, operating cash flow for the last 5 years averaged SGD18m. EYS also has SGD25.0m and SGD75.0m of bonds due in 2015 and 2017 respectively. The numbers do not look good, and we have not even considered maintenance CAPEX. There are 3 ways in which EYS can raise extra cash – cut dividends, borrow more, raise equity.