Tag Archives: Japan

Bain Luxury Goods Worldwide Market Study: Spring 2011 update

May 9, 2011 By in Asian economic development, China, Current Market Thoughts, economics, emerging markets, Hong Kong, Industry Analysis, Luxury goods, Retail, Strategy Tags: , , , , , , , , Leave a comment

Note:  you can also get my analysis of the October 2011 Bain Luxury Goods Worldwide Market Study.

Last week Bain released an update of its annual Luxury Goods Worldwide Market Study, created by the head of its luxury goods practice, Claudia D’Arpizio (thanks to Bain for providing me with a copy of the presentation materials).

While the buying habits of the affluent may have some interest in themselves, studies like Bain’s (which is the best I’ve seen) are particularly significant for investors. Publicly traded global luxury companies are an excellent way of participating in the superior growth of emerging countries without having to take the risk of owning consumer-oriented stocks in local markets.

The main conclusions from the April update:

1.  The 2010 holiday season was surprisingly strong.  To some extent, we already knew this from earnings reports, but–

–in addition to Greater China (the mainland, Hong Kong, Macau, Taiwan), the US was notably robust

–the high end did the best

–internet sales, although still small, are growing more quickly than the overall industry

–when the final reports are in (not for another month or two for some companies), 2010 will likely show global luxury sales surpassed the 2007 peak of €170 billion.

2.  2011 is following in the same vein. 

–retail continues to show double-digit same store sales growth, resulting both from higher traffic and from higher average purchase

–Chinese tourists are boosting business in Europe (over half of Chinese luxury spending is done abroad)

–wholesalers are restocking, after a couple of lean years.  Highly cyclical categories, like watches and menswear, are enjoying a rebound.  More stable areas, like leather goods and women’s shoes, are also showing strong growth.

3.  Greater China will pass Japan as the #2 luxury goods market this year, likely posting sales of €22 billion (up 25% year on year) vs. Japanese revenue of €17 billion or so (-5%).  The US will remain the #1 market at about €52 billion (+8%)–although, if we counted tourist purchases, China may already be #1.   According to Bain:

–the Chinese consumer is younger and more open to e-commerce than the typical Western luxury goods buyer

–the market is more skewed toward male consumers

–demand for luxury goods is spreading from the biggest cities on the east coast to second- and third-tier cities inland, following the development of the overall Chinese economy

–global luxury brands are increasingly shifting from distributing in China through wholesalers to opening company-owned stores there.  This move raises the capital intensity of their Chinese businesses.  But it also allows the firms to capture the lucrative wholesale to retail markup, as well as to better control their inventories and their brand message.  Perhaps most important, it signals the brands’ higher level of comfort in selling to consumers on the mainland.

4.  Japan will likely begin to recover from the March 11th earthquake in 3Q11.  Still, full-year luxury sales will probably fall by 5% from last year’s level.  Two Japanese luxury goods issues:

earthquake

–luxury goods stores were closed for ten days after the Fukushima earthquake/tsunamis on March 11th, due to lack of electric power.  Business was good after the stores reopened.  But (to me, anyway) it’s not clear how much, or for how long (six months?) luxury goods spending will be affected by feelings of jishiku –the idea that one should refrain from excessive consumption to show solidarity with those who suffered earthquake losses.

–business in Japan’s second city, Osaka, hasn’t been affected

secular

For many years, Japan was a premier market for Western luxury goods, driven by the strong preference of perhaps half the population (a much bigger proportion than elsewhere) for these products, and a willingness to pay much higher prices than prevailed in the rest of the world.   In my opinion, two developments of the late 1990s began to change this favorable picture:

–younger Japanese began shifting to local brands, partly as a rejection of their parents’ values, partly because Japanese brands were more affordable

–older Japanese began to retire (the working age population peaked in 1996).

I’m not quite sure why, but as Bain notes, these factors only impacted the Japanese luxury goods market in a significant way in 2007, when sales were flat, year on year.  In the two years since, revenues have dropped by about 15%.  Pre-earthquake, industry estimates for 2011 were for revenues to stabilize–but not increase.

Sales may get a temporary boost as Japanese GDP gains from spending to rebuild holes and factories destroyed by the earthquake/tsunamis, but my guess is that this is only a temporary reprieve.  Bain expects only 1%-2% annual growth in Japanese luxury goods purchases over the next several years from the depressed levels currently.

my thoughts

Ex Japan, the global luxury goods market looks to be in excellent health, driven by explosive growth in Asia ex Japan and expansion at a better-than-GDP rate in the US and EU.  Bain also highlights the increasing importance of developing markets like Brazil, Russia, India and the Middle East.  Today they amount to only about 7% of the world luxury goods market, but they are growing very quickly.  Companies able to manage their Japanese exposure effectively appear to me to be very well situated for superior growth.

—

crude oil production contracts: a simple overview

April 26, 2011 By in Current Market Thoughts, economics, Energy, Industry Analysis, Recent Market Action Tags: , , , , , , , , , , 2 Comments

Financial commentators have been pointing out recently that neither the large international integrated oil companies’ profits nor their stock prices are rising in line with the upwardly spiking price of oil.  This has to do with the changing nature of production-sharing agreements in the development of sovereign oil deposits.

There’s a ton of jargon in the oil business used to describe the often complex process of deciding how revenues and costs from a project are split up among the parties involved.  This is a highly simplified outline (but still good enough, I think, for a stock market investor) of how it works:

Generally speaking, an oil company (or group of companies) leases oil and gas rights to a specified block of acreage owned by a government through a competitive auction (in the past, colonial-style political or military coercion could easily have been the real key, however) .  In some cases, the winner will pay a large up-front fee.  In all cases, he is obliged to pay for and drill a specified number of exploratory wells over a specified time period, or else forfeit the lease.

If economically viable quantities of hydrocarbons are found, the oil firm must begin commercial development, again within a certain period of time.  The company “carries” the government, that is, it pays all development expenses.  Typically it can gradually recover these costs once production begins by being allocated an extra share of output until it has been recompensed.

Sometimes, the oil company takes physical possession of some or all of the oil and can do what it wants with it, sometimes not.  This can be a big deal in times of shortage.  For companies designated as “national champions” in nations like China or Japan, and asked to find supplies that can be sent back home in a pinch, it’s always a big deal.

three frameworks

I’ve seen three major contract frameworks, one following after the other, since I began watching the international oil industry in 1978:

1.  When I became an oil analyst, the typical arrangement called for the ol company to pay a fixed fee, say, $.50 or $1 a barrel, to the government that leased the mineral rights to a major international oil firm.  The oil company owned the oil, and might resell the crude immediately or refine and market it.  Such a firm made a good profit even when oil sold for under $2 a barrel.  But when prices rose in the early Seventies and again later in that decade, reaching as high as $35, the oil companies enjoyed the entire windfall.

This was a mixed blessing.  The contracts were seen as so unfair and one-sided that many oil-producing countries nationalized their oilfields and threw the majors out.

2.  In the 1980s, new contracts retained the general form of their predecessors but were renames production sharing agreements.  They called for a sharing of production revenues in specified percentages, say 70/30, with the oil company receiving the smaller portion.  That worked for a while.  But as prices rose from $12-$15 a barrel to $25-$30, and the majors began to make huge profits relative to their invested capital once more, the same problem of perceived onesidedness arose again.  Producing nations reacted in a somewhat similar vein as earlier, but either levying new taxes or simply unilaterally mandating more favorable terms to contracts.

3.  During the past decade or so, a new type of contract has emerged.  Again, the general form of the original contract has been retained.  But the production sharing arrangements call now for the oil producing country to receive an escalating percentage of revenues as the oil price rises.  While the contract terms tend to be expressed in this manner, the intention, I think, is to cap the returns to the oil major from a given project at, say, 25%-30% yearly.  The producing country basically retains everything above that.

Are the oil companies okay with this latest development?  Well, they continue to drill.  Of course, a lot depends on the riskiness of a specific project, but I think the oil company investment conclusion is that getting a 25% annual return for the life of a twenty- or thirty-year project is better than getting a 100% return for two years and then losing the project entirely.

stock market implications

For individual stock market investors, though, it’s important to realize that professional portfolio managers, or at least the oil analysts who work for them, understand the rules of the new order.  So they won’t chase after the stocks of companies that they know have large proportions of newer contracts.

AAPL’s 2Q11: more records, another big positive earnings surprise

April 22, 2011 By in Current Market Thoughts, e-readers, earnings conference calls, emerging markets, Industry Analysis, Stock ideas, Technology, Wireless Tags: , , , , , , , , 4 Comments

the results

After the market close on April 19th, AAPL announced earnings results for its 2Q11 (AAPL’s fiscal year ends in September).  The company made $5.99 billion, or $6.40 per share, over the three months, on revenue of $24.7 billion.  These figures were up 95% and 83% year on year, respectively.   Wall Street analysts had expected eps of $5.37.

the details

AAPL sold an eye-popping 18.6 million iPhones, 113% more than in the comparable period of 2010.

It sold 3.76 million Macs during the quarter, up 28% year on year.

In a transition quarter, the company sold 4.7 million iPads. There’s no year-ago comparison, but sales were down by about a third from the December period’s 7.3 million.

The iPod, which in its heyday was around half the company, sold 9.0 million units, down 17% year on year.  iPod now represents only 6.5% of APPL’s revenue.  I see this as less a comment about MP3 players than one about how incredibly the rest of APPL has been growing.

Geographically, Asia-Pacific, up 151% year on year, was the star; Europe, “only” up 49%, was the caboose on the AAPL train.

items to note

Greater China (the mainland + Hong Kong and Taiwan) are now accounting for 10% of AAPL’s sales, up from less than 2% a few years ago.

AAPL is now guiding to a lower full-year tax rate, meaning it’s expectations for the share of revenues coming from lower-tax foreign areas have risen.

Of the 18.6 million iPhones sold, 1.7 million went to build telecom carriers’ inventories rather than into the hands of consumers.  Part of this probably represents the rollout of the iPhone to VZ in the US.  But I think it also likely indicates that carriers sense strong demand for AAPL phones and want extra insurance they won’t be out of stock.  …more problems for Nokia?

Although AAPL made around 7 million iPad1s in 1Q11, it produced only two-thirds of that number of iPad1s + iPad2s during 2Q11.  This comes despite AAPL’s assertions that it has had no supply problems from the earthquake/tsunamis in Japan, and its comments about “staggering” demand for iPad2 and the “mother of all” backlogs for the device.  This may simply be the way that the inventory rundown of the older model and the rampup of the new are playing out.  It may also be that AAPL isn’t able to get all the resins or components or other raw materials it needs company-wide and is allocating them to higher-margin smartphones.  Or it may be that AAPL wants to cultivate an it’s-hard-to-get mentality to heighten interest in the device, since consumers have as yet no effective alternative.  This isn’t a bad thing, just something to note–and watch.

the stock

Investors bid the stock up–but not by a lot–in trading on Wednesday and Thursday.

There may be a technical reason for the tepid response.  Early this month, NASDAQ announced that it is rebalancing its NASDAQ 100 index.  The weighting of AAPL, the largest index constituent, is being reduced from about 20% of the index to around 12%.  This has generated short-term selling pressure from index-tracking investment pools.

Why do this?  When NASDAQ 100 ETFs were launched a decade or so ago, these vehicles had difficulty meeting SEC-mandated rules on maintaining a diversified portfolio, since then-giants like MSFT or CSCO were so large a part of the index.   In order to be sure of adhering to SEC guidelines, NASDAQ slashed the relative weights of MSFT et al  and beefed up those of then-minnows like AAPL.  Now it has the same problem again, only with different names.  So it’s applying the same process to today’s titans.

Yes, AAPL is scarcely an undiscovered gem.  And, yes, reversion to the mean does happen.  But at 14x fiscal 2011 earnings, AAPL’s stock is trading at right around the market multiple.  That looks way too low to me.

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more news from Japan on post-earthquake shortages

April 11, 2011 By in Japanese development Tags: , , , , , , 1 Comment

post-earthquake recovery

Industrial life in Japan is slowly recovering from the effects of last month’s earthquake and tsunamis.  The Financial Times, for example, is reporting that the Big Three automakers of Japan, Toyota, Nissan and Honda, plan to have all their factories back in operation by a week from today.  Output will only be about half the normal rate, as the industry continues to deal with component shortages.

autos and technology

We’ll begin to learn more about the effect of the disaster on the technology industry as March quarter 2011 earnings reporting season opens up in the US this week.

Everything I’ve heard/read about the auto and IT industries, however, is generally in accord with my initial thoughts.  That is, that the auto industry would be more severely affected than IT, that initial reports would overestimate damage, that the main shortage items would likely be less well-known and lower tech parts.

Electric power is proving to be the most important shortage commodity, as well as the one least able to be alleviated by field-expedient workarounds.

new shortage areas

A number of items that I hadn’t thought about are also proving to be in shortage, namely:

–according to the Asahi Shimbun (newspaper), two of the six plants manufacturing cigarettes owned by Japan Tobacco, the dominant maker in Japan, suffered heavy damage in the earthquake.  One of the two cigarette filter plants the company runs was flooded by a tsunami.  Production at the other is being interrupted by rolling electric power blackouts.  JT is hoping to reopen its earthquake-damaged plants today at 25% of capacity.

I don’t own tobacco stocks and I don’t particularly care for the industry.  But the shortage of cigarettes is a serious issue in Japan, a country where half the adult males and 10% of the adult females smoke (maybe I should write “are addicted” instead of “smoke”).  AS suggests that smokers are significantly increasing their usage as a means of coping with post-earthquake stress.

Therefore, the earthquake is providing an unusually favorable chance for foreign manufacturers, BAT and Phillip Morris, to get distribution.  Both are airlifting large quantities of cigarettes into the country.

–the Yomuiri Shimbun reports that distribution of bottled water, in great demand because of fears of water contamination, is being slowed by earthquake damage done to key bottle caps manufacturing plants run by Japan Crown Cork and by Nihon Yamamura Glass.  Nationwide output, coming from factories in western Japan, is only at about 60% of pre-earthquake levels.

–an ink shortage is causing postponement of scheduled comic book production.  The plant responsible for 100% of Japan’s production of diisobutylene, a key ingredient in making ink has stopped production due to earthquake damage.

For investors who are willing to hold tobacco stocks, Japan is a big enough market that market share shifts there might be enough to affect the stocks of industry participants.  The main significance of the other recently reported shortage items is likely that everyday life is unlikely to return to normal in Japan for a long time to come.  The fact that these difficulties are surfacing predominantly in consumer goods suggests to me that my assumption that the Japanese government will give capital goods and export-oriented industries priority over consumer businesses in use of scarce resources.

post-earthquake stock performance patterns

April 4, 2011 By in Analyzing performance, Current Market Thoughts, Portfolio management, Recent Market Action Tags: , , , , , , , , , , , , , Leave a comment

checking out a change in market direction

When the market makes a decisive change in direction, it’s always good to step back and analyze the composition of the advance.

Why?

When the market changes direction, market leadership often changes as well.  In addition, when the cause of the change is a readily identifiable event like the earthquake/tsunamis in Japan, it’s important to check what you think the market should be doing in response to the development vs. how the market actually is performing.  If you don’t, you may only acknowledge data that’s in line with your presuppositions.  If so, you risk losing performance by sticking too long with yesterday’s winning ideas in tomorrow’s market.

In this case in particular, my impression–before looking at the facts–is that the reaction of the S&P 500 to the earthquake has been too emotional and rather superficial.  In other words, I think that some stocks may be being unduly punished and others irrationally bid up in price in expectation of rewards that are unlikely to materialize.

begin with sectors

Let’s start with S&P sector performance from March 14th, the first day the US market was open after the full impact of the earthquake in Japan was known, through last Friday, April 1st.

Performance ran as follows:

Telecom          +7.2%

Materials          +6.7%

Energy          +5.3%

Industrials           +4.2%

Finance          +2.5%

S&P 500          +2.2%

Staples          +2.1%

Consumer discretionary          +1.9%

Utilities          +1.3%

Healthcare          +1.2%

IT          +.3%.

Full-month sectoral results for March and for the first quarter of 2011 can be found on the Keeping Score page.

post-earthquake differences

The main changes I see are these:

Telecom, Materials and Finance join Energy and Industrials as outperformers.

Healthcare, on the other hand, drops like a stone.  It, Consumer Discretionary and IT join Staples and Utilities as significant laggards.

It makes sense to me that investors would bid up the Materials sector on the idea that reconstruction, whether in Japan or elsewhere, will use lots of extra building materials.  Similarly, uncertainty about component supply might depress IT stocks.

On the other hand, I have no idea why Healthcare should suddenly become less attractive.  How does the Telecom sector benefit from the problems in Japan?  …I think the outperformance there is the result of the consolidation in the wireless arena and has nothing to do with Japan.  After all, the S&P sector only has 9 constituent companies, so changes in one or two names can make a big difference to sector performance.

a closer look:  individual stocks

Some investors, even professionals, try to stay on the level of the “big picture” and shape their portfolios based chiefly on what they consider overarching trends.  Known as “thematic” investors (calling someone that is an insult, though slightly veiled), they may have short-term success, but usually flame out in spectacular fashion.  The only people who can make money while remaining at this low level of sophistication are the talking heads on cable TV. 

Looking a little deeper, then:

currencies, since the earthquake

Korean won/¥          +5.4%

€/¥          +3.7%

$/¥          +2%.

Yen weakness may partly be the result of intervention.  There may be more to it than that, however.

I’ve been thinking that the earthquake may change multinationals’ ideas about where a second source of production should be located.  No manufacturing company wants to rely on a single supplier for key components.  Firms always want a second source.  I think that firms are being forced to the realization that having two Japanese component makers, one two miles down the road from the other, as sources gives you some protection against price gouging.  But it’s no help in a natural disaster.  In fact, the possibility that electricity will be rationed across Japan for some time to come suggests that even having a second source in the same country isn’t good enough.

I suspect multinationals will be trying to develop alternate sources of supply in Korea or Greater China–meaning a long-term net loss of economic activity in Japan.  The weak yen may be telling us this.

Looking at stocks (all percentage changes are calculated in US$):

indices

S&P 500     +2.2%

Topix (the Japanese equivalent of the S&P)     -6%

Japanese utilities

Tokyo Electric Power          -79%

Tokyo Gas          +6%

Tokyo Gas has outperformed the Japanese market by 12%, as investors look for alternate suppliers of utility services.  I no longer know Tokyo Gas well, but the move seems logical to me.

construction machinery

CAT          +13.1%

Hitachi Construction Machinery          +4%

Kubota          -4%

I don’t get it (I say this even though I own CAT).  All three companies do basically the same thing, and 100% of the reconstruction business is going to go to the Japanese firms.  There could be some subtle thinking at work here–maybe that Japanese public opinion or government action will force HCM and Kubota to provide machinery on concessionary terms, using up their productive capacity and leaving higher-margin business elsewhere for CAT.  My guess, although (again) I don’t know the Japanese firms well anymore, is that HCM and Kubota have upside that is generally unappreciated.  CAT has gone up because it’s easier for US investors to buy, even though it’s probably the worst positioned of the three to participate in Japanese rebuilding.

autos

BMW          +8.7%

F          +5.5%

GM          +1.5%

Honda          -3.5%

Toyota         -6%

The luxury brands of Toyota and Honda are the ones whose models have the greatest Japanese content.  The two automakers also have by far the biggest exposure to the Japanese car market.  So I understand why there should be a wide spread between them and luxury car maker, BMW.  If BMW sources its car electronics from European semiconductor companies, then the absolute price performance makes sense to me as well.

semiconductors

Samsung Electronics          +12.5%

MU         +10.5%

ARMH          +8.4%

WFR          +6%

TXN          -.5%

MIPS          -4.5%

INTC          -5.5%

Shinetsu Chemical          -6.5%

Renesas          -20%

Renesas is the product of the merger of semiconductor operations formerly run by NEC, Hitachi and Mitsubishi Electric.  It makes DRAM, and other commodity semiconductors used in cellphones and autos.  Its plants have suffered extensive damage.

Shinetsu is the leader in another commodity semiconductor business, making silicon wafers.  These are the main raw material chips are built on.  It too has had a lot of plant damage.  So it makes sense that the stocks of these two companies have gone down (although Shinetsu is an outperformer vs. TOPIX)–and that the shares of rivals Samsung (a world leader in commodity semiconductors), MU and WFR (two middling firms that happen to be in the right place) have gone up.

One anomaly I see is in the relative performance of TXN vs. INTC (I own it) and ARMH vs. MIPS:

TXN is roughly flat, despite having had considerable plant damage in Japan.  INTC is down, despite having had none.

MIPS and ARMH are both intellectual property companies.  They sell their chip blueprints to a wide swath of fabless chip firms who incorporate them in their designs.  The profits of  both are vulnerable to any earthquake-induced materials or components disruptions that slow component manufacture; that slows the flow of royalties customers pay them.  I don’t think there’s any sure way to figure out how their businesses are likely to be affected.  The most reasonable assumption is that the same thing is likely to happen to both.  Yet MIPS (trading on 23x historical earnings) is down and ARMH (trading on 90x) is up strongly.

consumer electronics

Panasonic          -.3%

AAPL          -2%

Sony          -5%.

Two thoughts:

–AAPL is down;  ARMH, which powers AAPL cellphones and tablets, is up a lot.  ???

–Panasonic, a strong company, is flat;  Sony, a bad one with high exposure to Renesas, is only down 5%.  ??

luxury goods

LVMH          +4%

Hermes          +1.3%

TIF          -1%.

The oddity that I see is that, despite all three having significant exposure to Japan, their stock prices have been relatively unaffected by the earthquake and loss of electricity (hard to buy stuff in a store where the lights are out) in this important market. (By the way, I own TIF.)

summary

There has been a market reaction to the Japanese earthquake.  It can be seen in the S&P 500 through relatively good performance by the Materials sector, and though an accelerated underperformance of the IT sector.   Hard to argue with that, though I personally think supply chain disruptions will be far fewer than the market now thinks.

The investor response within sectors is a bit more uneven, though not the crazy level I had anticipated finding.  The company performance relationships seem ok to me in the Japanese utility, auto, consumer electronics and luxury goods industries.

In construction machinery, on the other hand, the Japanese firms that will presumably receive all the rebuilding orders have substantially underperformed CAT, which probably won’t receive anything.

Investor behavior in the semiconductor sector is the most eccentric, in my view.  My guess is that professional portfolio managers have examined their IT holdings with an eye to : 1) reduce weightings, and 2) eliminate holdings that are exposed to plant damage in Japan.  But they’ve ended up doing something different.  In my experience, this often happens.

They’ve ended up selling weaker, or poorer performing, names in a sub-sector, and using part of the money to build up their positions in companies that have shown positive price momentum.  They may also have trimmed huge positions, like AAPL, which just about every professional portfolio manager owns.

Whatever the reason may be, companies whose fortunes are closely linked, like ARMH and AAPL, have performed differently, for no good reason that I can see.  So too have TXN and INTC, and ARMH and MIPS.  My guess is that the relative performance of these pairs will soon reverse themselves.

One other point:  with the punch of a few buttons, a professional can almost instantaneously have a printout of the absolute and relative performance of all of his positions over any time frame–including from March 11-April 1.  If he wants, he can have the report show his portfolio constituents–broken out by individual stocks, industries and sectors–compared with the performance of the corresponding portions of his benchmark index.  He can not only see his performance at a glance, but also what stocks outside the portfolio are doing better or worse than his.

Try getting this info as an individual from your broker.

Why aren’t these data available?  For one thing, you might need some instruction to be able to read a report intelligently.  For another, it would show whether your trading activity is profitable or not.  Your brokerage firm makes most of its money based on the amount of trading you do, not on your success.  So there’s no upside to letting you know you’d be better off trading less, or not at all.