The Underdog in the Smartphone Market

Article Written last Fall…

Smartphone manufacturers like Samsung, Apple and Nokia has been the hot topics recently. Nokia was and still is facing significant financial difficulties. Apple was suing Samsung for violating Apple’s patents. On the other hand, Motorola, which is owned by Google, is also suing Apple for violating their copyrights. Besides, with iPhone 5, Notes 2, and Lumia 920 all coming out in the fourth quarter of 2012 to boost the annual sales, smartphone seems to be at its peak. While the whole world expects the smartphone business to excel to a whole different level, market trends,data and events are showing that the smartphone industry has hit the bottleneck and saturated.

According to the Moore’s law, the speed of computer processors should to double its speed every 18 months. The same law has been applied to the development of other high-tech products, for instance, smartphone. Under such law, people generally upgrade their high tech products after approximately every 18-24 months. But from the frequency of the different generations of iPhones, we can see that the competition in the industry has intensified over the years. The first iPhone came out in June 2007. Apple has kept the tradition of putting out a new iPhone on a yearly basis.  Even though the 12 months period is faster than the Moore’s law, market was more than willing to change to smartphone, with touch screen, email, and web browser all in their palms. However, after Apple and Samsung flooded the world with their smartphone products, the customer appetite has changed. They are not rushing to switch phones anymore. From recent research, there is a smartphone owner in every two person in developed countries. The good news is that there are still a huge market in developing countries, but the profit margin is small as smartphone still receive stiff competition from low tech and cheaper phones.

Because of little barriers of entry, the competition in the smartphone industry has been intensified due to increase of market participants. When Symbian, Nokia’s OS, was the market leader up to 2007. Soon after, smartphone market turned into a monopolistic market. There were no more significant technical or functional difference among different brands. As of today, it has turned into a pure marketing and brand identity competition, and Apple has already done a marvelous job on this end of competition. Moreover, the rise of Samsung has threatened the leadership of Apple, that could be one of the main reasons Apple suing Samsung for patent violation.

Figure 1. 2007 Global Smartphone Quarterly and Geographic Sales

(Source: Mobile Phone Development, December 4th 2012)


Figure 2. 2012 Q1 Smartphone Global Market Shares by Manufacturers

Figure 3. 2010-2012 Smartphone Shipment Growth by Major OS

Source: Android to widen smartphone lead in second half despite iPhone 5 launch,, Zach Epstein, August 24th 2012

From Figure 3, we can find that since the rise of IOS (Apple iPhone) in 2007, its super-natural growth has significantly slowed down to 34.9% in 2012. As for its strongest competitor, Android (Google), also has slowed about extreme growth in 2010 and 2011. Because of the intense market competition and high bargaining power of buyers, the smartphone market profit margin is experiencing downward pressure; hence, the potential growth is limited. However, I have my eyes on Nokia as it is undervalued as much as 16.3%.

IDC Smartphone Growth

Figure 4. Top Five Worldwide Smartphone Vendors, 1Q 2012, Five Quarter Market Share Changes (Units)

Source: IDS Worldwide Mobile Phone Tracker, July 2012

Nokia’s market share has been declining since 2007, started from 23.8% in 2011 to 8.2% in 1Q 2012. Apple and Samsung were the ones that are eating up Nokia’s shares. Besides the loss of competitiveness in the market, Nokia has been facing financial difficulties and huge losses that led to risk of bankruptcy. Its stock price has dropped to the lowest point since 1995. General market have a dim future for Nokia. Although Nokia has unsure future, the number shows that it is undervalued by the market. Nokia has 11.6 billion book value in 2Q 2012, market shares outstanding of 370 millions. The book value per share (BVPS) is 3.14 USD and market price of 2.7 USD. This means even if Nokia has gone bankrupt, each share should receive 0.44 USD more than the market price. Figure 3 has shown that Nokia and Microsoft flagship OS – Windows 8 Mobile is expecting a shipment growth of 107.8% in 2012. I believe that will bring Nokia out of its misery. Its flagship phone – Lumia 920 has demonstrated solid performance, and online discussions have shown that many current IOS users and Nokia fans have intended to upgrade to Lumia 920. Also, another product line of Nokia, Asha, has targeted customers of lower technological level requirement in order to expand its market in the developing countries. With a huge customer base in the developing countries and a slow come back in the smartphone market, I believe that Nokia still has a strong influence in the cellular market and has the ability to have strong come back.


Investment that People Fondle Admiringly – Part 2

From the last entry, we have discussed and concluded that the China jewelry market still have a sustainable growth potential. When we see a potential investment opportunity, people would generally look at equity investment, meaning stocks, indexes or derivatives from them. They would also put their attention solely on the market leaders. However, from another perspective, market leader does not exactly mean they are the companies or stocks that worth investing. Maturity, from another point of view, means that there are limited growth in either the industry or the company; that also means that there is limited potential growth in the stock price, as stock price and driven by growth. Therefore, investors can perform a thorough and detail analysis on the industry to find the stock that has the highest potential. This time we would use a simpler approach to find stocks that have higher potential than the others in the jewelry industry in China. We have picked a few market leaders in the Hong Kong sales channel and compare the companies on a few different ratios, including the PEG ratio, gross margin, return on equity.

When the stock price rise, the PE ratio would rise with it. To judge if the stock is overvalued or undervalued, one quick way to know is weather the PE is supported by growth. In general, when the PEG ratio is higher than 1, the stock can be classified as overvalue; when the PEG is 1, it means the stock is correct priced; when PEG is lower than 1, it means the market price has not fully reflected the intrinsic value, a sign of buy.

From the PEG comparison table, we can find that, generally, the PEG for the jewelry industry in Hong Kong are significantly lower than 1, the average is 0.29. It means that the industry as a whole is experiencing a relatively high growth. Luk Fook Holdings (International) Ltd. (HKG: 0590) and Emperor Watch and Jewellery Limited (HKG: 0887) are found to have a below average PEG ratio of 0.13 and 0.22, respectively. It means that the two companies is undervalued, basing on their growth.

Besides growth analysis, we must also analyze to check if  the companies price reflects the operation and profitability. Gross profit margin represents the weight of the product cost to sales. Operating margin can tell if the management has been successful with control the cost on administration and operation. Last but not least, net profit margin can help us to see the ultimate profitability of the company.

According to the gross margin, operating margin, and net profit margin, we can find that Luk Fook (HKG: 0590), Emperor (HKG: 0887) and Chow Tai Fuk (HKG: 1929) have both outperformed their peers. From the gross margin, the industry average is 24.21%, with Chow Tai Fuk leading with 29.13%, Emperor following with 28.75%. The result shows that the weight on the product cost for these two companies are relatively lower than the industry. It also represents a possibility that both companies are capable to charge their customers at a premium on their products. However, investors need to beware of the different business models of the different companies, for example, the distribution of the retail stores and the franchise stores in the company.

For operating margin, the industry average is at 10.9% and there are three companies that are found to have an above average operating margin: Chow Tai Fuk (14.44%), Luk Fook (13.37%), and Emperor (13.07%). This says that these three companies are better at controlling their operating expenses, but it could be because these companies are larger corporations. It gives them a lift on utilizing their resources and expenditures better than those that are smaller in size, and turns efficiency into profitability.Under the test of net profit margin (industry average – 8.95%), Chow Tai Fook (11.62%), Luk Fook (11.31%), and Emperor (11.17%) have proved that the very reason for their above average profitability is their better management of the companies. High net profit margin also proves that companies are better at utilizing their financial income and expenses. Due to the low interest environment till 2015, it is expected that the industry as a whole will maintain a relatively high net profit margin in the next few years.

Strategic multiples is another tool to analyze if the stocks price and the target price are supported by the performance of the business model. With the case for the jewelry industry, I proposed to use the gross profit per outlet, operating profit per outlet, and net profit per outlet for the analysis. The industry average for the different multiples are $10,298,000 gross profit per outlet, $4,500,000 operating profit per outlet, and $3,701,000 net profit per outlet. From the earlier analysis, we found Chow Tai Fook, Luk Fook, and Emperor were companies that seem worth the attention. However, after the multiple analysis, we found that Luk Fook has a lower then average in all three areas, but the numbers may not full represent the potential in this company. Luk Fook relies heavily on a franchise model, and it can be the reason why Luk Fook seems less profitability compare with others. Solely basing on the multiple analysis, Emperor and Chow Tai Fook would be the two that worth investing.

At the end of the day, investors care about returns more than any other indicators. The average ROE in the industry is 18.15%, there are 3 companies that has a ROE that is higher: Chow Tai Fook (22.68%), Luk Fook (24.08%), Emperor (18.63%), which shows that they are better at generating returns for their investors. Divided yield averages 2.97% in the industry. Luk Fook lead the industry with 4.66% and Emperor follows its lead with 3.64%. With the using the PE multiple, the target price for Luk Fook is 42.91 with a period of 12-18 months and the total return is 102.9%. The underlying risk of the return would be the expected growth in the jewelry industry in China. Due to the uncertain future in the economy and slow down of economic growth in China, it can be a sign that the industry has passed its super normal growth period. Further research on the macro economy research would be essential for a thorough evaluation on the stocks.

Investment that People Fondle Admiringly – Part 1

Ever since the ancient time, jewelry and precious metal have been used by different people and culture as a tool to show off their wealth and social status. Despite pulling different countries together, globalization also helped to bring down the production cost of jewelry and precious metal through different business strategies, for instance, outsourcing. Being a normal good in nature, demand of jewelry grows with the income of the general public. Therefore, in general, the demand of jewelry products should have downward pressure under this economy.In stead of react to its economic nature, the growth in the jewelry industry has been incredible for the past few years. The major reasons for the growth were due to the uncertainty in economic recovery, which leads investors to go after defensive investments.

Jewelry are normally used for adornment and come in gems embedded in different kinds of precious metal, with gold, silver, and platinum being the most popular three. Gems can be divided into two major categories: natural gemstones and artificial gems. Natural gems can be separated into natural gems, natural jade, and natural organic gems; artificial gems can be separated into synthetic gemstones, mosaic stones, and reconstructed stones. Common gems would include ruby, sapphire, crystal, jade, pearl, amber, and topaz. Besides the distribution, jewelry also includes other procedures like processing and mining; therefore, there are more than one parties will be affected by the fluctuation of demand and sales of jewelry.

Additional to the demand from general users, the current economic environment has driven a high popularity of jewelry among investors. In America, the average monthly inflation rate for 2011 was 3.2%, mostly driven by the QE2 happened in fourth quarter of 2010. The unemployment rate of America remains high, above 8%, meaning that economy in the United States has not made any significant improvement yet.

The United States has imposed a loose monetary policy since the recession, which directly cause the devaluation of dollars. Even though the US Dollar Index remains strong, the US dollar has lost its purchasing power, which drives the market to value protection, hence lead to the rise of jewelry and precious metal.



After understanding the driving forces of the price and demand of the jewelry industry, we would go further into the current market environment in China, and I will discuss further on some ideas of investments basing on the current trend. The demand for jewelry in China, because  of the stable local economic growth, has remained comparatively high. From 2003-2008, the above quota wholesale and distribution sales has grown at an average annual rate of 30.4%, the number has declined in 2009 to 15.9%; due to sustainable fast growth in China’s economy after 2010, jewelry sales grew by 46% in 2010, and 42% in 2011.

Source: The World Bank and Hong Kong Trading Development Council

As for products, gold and diamond are the most popular in the China market. Because of the breakthrough in design on gold jewelry, including mix and match with other materials, it has drawn more attention from the younger generation. In 2011, the expenditure on gold experienced a increase of 33.2%, and the expenditure on gold adornment was up by 27.9%. As for import data, the increase on precious metal, clad metal, and parts was 121.9%. Even though there has been talks on the decline in demand for gold in China, the decline is predicted to be small and there will still have sustainable demand for gold in China.

Aside from gold, demand for diamond in China has increased over 10% on an annual basis, which helps China to suppress America as the highest diamond demanding country. The Shanghai Diamond Exchange had a 63% growth in trading volume, reaching 47 billions in US dollar. Diamond import data also recorded two digit growth; non-mounted diamond grew by 53.8% and non-industrial used grew by 62.6%. There data show that the demand in diamond still remain high. The 172.7% growth in other gems also worth watching.

The sales and market share trend show that branding has been a key factor in the business model. According to the estimate from Euromonitor in 2009, the top 10 market leaders in the China jewelry market is Chow Tai Fok, Chow Sang Sang, Diamend, Luk Fook, Laofengxiang, TSL Jewelry, Chow Tai Sang, Fu Hui, and 3D-Gold Jewelry. These top 10 market leaders hold 63.1% of the total market in the China jewelry industry. Because brands from Hong Kong have been famous for their unique and trending designs, customers from mainland China are willing pay for that product at a premium. However, due to the incoming of foreign brands, competition is expected to intensify in the future.

The jewelry retail and wholesale in China are carried through a few different channels, including jewelry counter, franchise stores, supermarket, corporate stores, and professional market. According to the research from the Hong Kong Trade Bureau, the sales counters at the department stores found to be the most popular, second to that would be independent and franchise stores. Other than the stores popularity, the 2nd,3rd,and 4th tier cities are looking to be the next expanding target, because of the saturation and intensive competition in the 1st tier cities. After learning about the industry background and current trend with the jewelry market in China, we will discussed further on some of the stocks that we can invest in.

Data Source: Hong Kong Trading Development Council