Shenzhou is the largest apparel manufacturer for Nike, Adidas, Puma (Kering), and Uniqlo, where it contributes about 17%, 20%, 40%, and 15% respectively to apparel giants’ total apparel lines.We expect revenue for Nike, Adidas, Puma, and Uniqlo to grow at between 5% and 10% CAGRs over the next five years. At the same time, the number
of suppliers serving Nike and Adidas continues to contract. We believe Shenzhou will achieve strong revenue growth owing to retailers’ solid revenue growth and increasing procurement share against the backdrop.
Despite rising production costs, Shenzhou still increased its bottom line at net profit CAGR of 20% over the past three years. The company boosted the sportswear category’s contribution to overall revenue from 56% in 2012 to 72% in 2019. Given that sportswear
is a high-margin category, the strategic shift to taking more sportswear orders has contributed to the firm’s rising gross margin in the past. We believe this trend is poised to continue as apparel giants consolidate their supply chains and place a larger percentage of orders with the best and largest suppliers like Shenzhou.
We have a strong conviction in Shenzhou’s ability to continue serving as the dominant supplier for apparel giants globally and the company is well-positioned for growth in future. Shenzhou’s revenue and earnings growth over the next five years will benefit
from the growth of the its key clients and the consolidation of their supplier bases. Growing efficiency and capacity in Shenzhou’s current manufacturing plants, along with the intention to add other plants in Southeast Asia, will enable the company to start taking
orders from other apparel retailers.
Our bull- and bear-case scenarios are built on the possibility of changes in macroeconomic conditions that may boost or impede apparel sales and the cumulative effect of consumer appetite for more expensive technical sportswear products. We have established a bull-case fair value estimate of HKD 140 and a bear-case fair value estimate of HKD 70.
In the bull-case scenario, we assume the economies in major markets such as China, Japan, the European Union, and the U.S. see higher-than-expected growth. In this scenario, consumers’ spending power strengthens, and apparel brands are more aggressive when selling innovative and functional products that command higher prices to increase profitability. Faster efficiency gains lead to higher output volume and hence higher revenue, and lower fixed costs (such as depreciation and overhead expenses) are spread over more output, leading to higher profitability. Five-year revenue CAGR is 19%, driven by a 12% CAGR in production volume and a 5% CAGR in the average selling price. The gross margin is 200 basis points higher than the base case because the mix of premium-priced products increases, raw material costs decline, and the rise in labor costs is slower than expected. Net profit CAGR in the period is 20%.
In the bear-case scenario, we assume economies in major markets see weaker-than-expected growth. In this scenario, consumers have a weaker appetite for higher-priced
products. Apparel brands see a lower research and development budget, and increase their mix of lower-price-point products with fewer new functional features. Slower efficiency gains lead to lower production volume and lower revenue, higher fixed costs and overhead expenses per output and reduced profitability. The five-year revenue CAGR is 8%, almost all driven by production volume. Gross margin is 200 basis points lower than the base case, as the mix of premium-priced products decreases, raw material costs run higher, and labor costs increase more quickly. Net profit CAGR in the period is 7%.