Notes From the Road: First-hand Insight into Consumer Cyclicals

At Zeal, we practice value investing through buying shares of companies with strong business models and competent management teams at attractive valuations and we perform original bottom-up fundamental research. Every year, our investment team conducts about 1,000 regular and intensive management interviews.

Here we share some first-hand insight into Consumer Cyclicals gathered from a recent research trip in China.

Consumer Durables Demand Outlook hit by Housing Market Slowdown

China tech unicorns’ mass layoffs hit the headlines in recent months and traditional sectors are no exception. We talked to a leading furniture manufacturer and learned that they’ve been laying off a few hundred salespersons to cut costs as the company is faced with liquidity pressure amid lukewarm market demand. Historically, many factory workers don’t return to work after Chinese New Year(CNY) in that the CNY holiday is a good timing for them to switch jobs. A well-known kitchen solution provider told us that most of their immigrant workers came back to work in time this year, indicating that staff are concerned about the weak labor market and keen to keep their jobs.

Though some companies’ stocks rebounded significantly in recent two months,  in the short-to-medium-term, we don’t see structural growth in consumer durables, such as Furniture & Furnishing and Home Appliance industry, mainly due to the property market slowdown. Overall industry participants remain cautious on 2019 demand outlook and earnings forecasts have been broadly trending downward.

Foreign Investors Favor Premium Baijiu

Baijiu, the fiery Chinese spirit, is rarely found on the drink menus in western world. On the contrary, it’s topping foreign investors’ shopping list, with nearly 19 billion yuan flowing to the Top 2 Baijiu stocks in the first two months of 20191. We came across a few international long only fund and hedge fund managers on our way to a Baijiu distillery. We saw them show great interest in China Consumer stocks, and it’s not because they only want to do an arbitrage trade before MSCI announce its further inclusion of A-shares. Instead, they are convinced by the appealing valuations and structural growth story of the China Consumer stocks, which are more attractive compared to other markets, e.g. Japan and India.

(Local staff and visitors/research teams at the Baijiu distillery)

Key trends such as consumption upgrading and industry consolidation are still ongoing. Despite concerns over weakening domestic consumption, the demand for premium Baijiu remains strong. The wholesale price and retail price of Baijiu brands used to fluctuate largely due to supply shortage or poor inventory management. We’ve seen high-end Baijiu manufacturers adopt innovative methods to improve their sales channel and inventory management. When we visited a distillery in Sichuan, the company staff showed us their new anti-counterfeit package to be launched in mid-year. Every new package has an unique QR code – not only for counterfeit deterrence, but also for sales channel management. The Baijiu brand offers rebates to encourage distributors to scan QR code when they ship products to retailers so that they can collect data of product shipment, which will help manage channel inventory more effectively and get more consumer insights.

Improved Transportation Infrastructure to Boost Casino Businesses

The Hong Kong-Zhuhai-Macau bridge, the world’s longest cross-sea bridge, opened to public traffic on Oct. 24, 2018. China mainland visitors to Macau reached almost 900,000 during the CNY holiday from February 4 to 10, 2019, up +25.6% YoY2. Meanwhile, nearly 11% of the mainland visitors entered into the gaming hub through the checkpoint of the Hong Kong-Zhuhai-Macau Bridge2. We tried out the bridge and met some of the key casino operators that we’ve been closely tracking for many years during our research trip to Macau after CNY.

Casinos in Macau saw a substantial increase in Gross Gaming Revenue (GGR) last year, an increase of 14% YoY, with the mass market driving the growth3. As there’s a close correlation between Macau Gaming performance and macro economy, the Sino-US trade conflicts weighted heavily on Macau Gaming last year. Some worried that the VIP sector growth slowing down too much would hurt revenue as a large part of Macau GGR was still from VIP, thus the valuations of some quality names had gotten significantly compressed. A luxury casino resort we like is trading at an EV/EBITDA multiple of  1 SD below the 5-year-average 4. From our estimates, VIP represents nearly 50% of total GGR in 20185. On earnings outlook, we think the operator’s GGR growth will stay solid in 2019, with slower VIP growth, but mass and premium-mass market growth potential will offer sufficient downside protection. Macau Light Rail Transit (LRT) System is on track to open in 2H19, which is likely to bring more mass-market customers to major Cotai casino properties. We expect the improved transportation infrastructure to boost casino businesses and the undervalued quality names to play out this year.

[1] Source: Wind, as of Feb 2019

[2] Source: Macao Tourism Data Plus, as of Feb 2019; Public Security Police Force

[3] Source: The Gaming Inspection and Coordination Bureau, as of March 2019

[4] Source: Bloomberg, as of Feb 2019

[5] Source: Zeal Asset Management Limited, as of Feb 2019


This document is based on management forecasts and reflects prevailing conditions and our views as of this date, all of which are accordingly subject to change. In preparing this document, we have relied upon and assumed without independent verification, the accuracy and completeness of all information available from public sources. All opinions or estimates contained in this document are entirely Zeal Asset Management Limited’s judgment as of the date of this document and are subject to change without notice.

Investments involve risks. Past performance is not indicative of future performance. You may lose part or all of your investment. You should not make an investment decision solely based on this information. Each Fund may have different underlying investments and be exposed to a number of different risk, prior to investing, please read the offering documents of the respective funds for details, including risk factors. If you have any queries, please contact your financial advisor and seek professional advice. This material is issued by Zeal Asset Management Limited and has not been reviewed by the Securities and Futures Commission in Hong Kong.

There can be no assurance that any estimates of future performance of any industry discussed in this presentation can be achieved. The portfolio may or may not have current investments in the industry discussed. Any reference or inference to a specific industry listed herein does not constitute a recommendation to buy, sell, or hold securities of such industry. Please be advised that any estimates of future performance of any industry discussed are subject to change at any time and are current as of the date of this presentation only. Targets are objectives only and should not be construed as providing any assurance or guarantee as to the results that may be realized in the future from investments in the industry described herein.