PP 7767/09/2010(025354)

Malaysia Corporate Highlights RHB Research

Institute Sdn Bhd
A member of the
RHB Banking Group
V is it Note Company No: 233327 -M
MARKET DATELINE

21 July 2010

Zhulian Share Price

Recom
:
:
RM1.94
Not-rated
Expanding Its Presence In South-east Asia

Table 1 : Investment Statistics (Zhulian; Code: 5131) Bloomberg: ZHCB MK

Turnover Net Profit EPS Chg PER P/BV Net gearing ROE Net Div
FYE Nov
(RMm) (RMm) (sen) (%) (x) (x) (x) (%) Yld. (%)
2008 303.6 74.7 16.2 26.8 12.2 3.3 Net cash 26.7 4.2
2009 315.3 82.1 17.8 9.9 11.1 2.8 Net cash 25.6 5.3
2010f^ 345.4 94.2 20.5 14.8 9.7 2.5 Net cash 26.0 6.2
2011f^ 377.7 108.0 23.5 14.6 8.4 2.2 Net cash 25.9 7.1
Main Market Listing / Trustee Stock / Syariah-Approved Stock By The SC ^ Consensus Based On IBES Estimate

♦ Bread and butter in Malaysia. Management expects the local market to

Issued Capital (m shares) 460.0
remain stable in CY2010 and highlighted that the near-term growth for Market Cap (RMm) 892.4
Malaysia may not be as attractive as Thailand or Indonesia, given greater Daily Trading Vol (m shs) 0.5
competition. 52wk Price Range (RM) 1.03-2.21
♦ Indonesia the way to go. While Thailand’s growth is still expected to be
Major Shareholders:
Teoh family
(%)
75.0
attractive (+10% yoy in FY10), management intends to double or triple
Indonesia’s contribution within the next 2-3 years, which we believe is
achievable given: 1) the new equity participation by Zhulian; and 2) the fact FYE Nov FY10 FY11 FY12
that it is coming off from a low base. EPS chg (%) - - -
Var to C.EPS (%) - - -
♦ Further growing its earnings. Zhulian is currently looking to expand its
operations to Philippines and Vietnam. Instead of venturing overseas through PE Band Chart
the “Master Agent” concept, Zhulian now intends to go in as a director
investor, or otherwise, as a joint-venture partnership. Management also PER = 12x
decided to acquire an additional 4-acre of land in Bayan Lepas to set up a PER = 10x
PER = 8x
production facility to produce nutritional and home care products to
accommodate additional demands from Indonesia, Philippines and Vietnam.

♦ Earnings prospects. In FY10, Zhulian is guiding for a conservative revenue

growth of high single-digit supported by an expected growth of +10% yoy in
Thailand and +30% yoy in Indonesia. Meanwhile, FY10 PBT margins are
expected to hold above the 30% level. We believe that management’s growth
target is achievable given that: 1) 1HFY10’s revenue grew by +13.6% yoy Relative Performance To FBM KLCI
and generally, 2HFY10 is a stronger half; and 2) PBT margins for 1HFY10
reached 31.7% (+2.6%-pt yoy). Beyond FY10, growth momentum will be
spurred by both its Thailand and Indonesia operations, coupled with further Zhulian
expansion plans into Philippines and Vietnam. There is room for upside in its
margins, given that Zhulian intends to manufacture the remaining 20% of its
product offering inhouse. FBM KLCI

♦ Dividend policy remains at a payout of 60%. Given Zhulian’s cash

holding of RM127.1m in 2QFY10 and sustainable operating cash flow of RM50-
80m p.a., Zhulian intends to maintain its dividend payout of 60%. Based on
consensus estimates, this implies a attractive net dividend yield of 6-7% p.a.
for FY10-11.

♦ Risks: 1) weaker-than-expected increase in consumer spending in Malaysia,

Thailand, Indonesia and Singapore; and 2) stronger-than-expected weakening
of US$.

♦ Investment case. Zhulian is currently trading at FY11/10 PER of 9.6x and

FY11/11 PER of 8.2x on consensus estimates, with a decent net dividend yield Hoe Lee Leng
of 6-7% p.a.. We value Zhulian at RM2.40/share based on 10x consensus (603) 92802239
hoe.lee.leng@rhb.com.my
estimates FY11/11 EPS, which is the target PER that we have assigned for
Hai-O. This represents a potential upside of >23%.

Please read important disclosures at the end of this report. Page 1 of 5

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 21 July 2010

♦ Background. Established in 1989 by founder and group CEO, Mr. Teoh Beng Seng, Zhulian is engaged in the
business of multi level marketing (MLM) and manufacturing of costume and fine jewelry, consumer products and
printing. Mr. Teoh first started the company by bringing in the concept of gold plated jewelry from Europe, and
incorporating it into its first jewelry factory, while distributing and marketing the jewelry through its agency
force. Zhulian has since diversified its product portfolio to include food and beverages, healthfood, home care,
personal care products etc, to reduce its dependency on a single product. Along the course, Zhulian has
expanded regionally to Thailand, Indonesia and Singapore, and currently has about 510,000 agency forces
(+28.5% from Apr 07 when it was listed on the Main Board (now known as Main Market) of Bursa Malaysia) in
the region. Of its 510,000 agency force, 19% are from Malaysia, 78% Thailand, 3% Indonesia and <1%
Singapore.

♦ Keeping the profits within the company. Currently, about 80% of its products are manufactured by its three
manufacturing plants in Bayan Lepas, while the remaining 20% (personal care, home care, skin care and
cosmetic products) are externally sourced. Management explained that by manufacturing the product inhouse,
not only do they get better margins, but they would also have full control over the quality of their products. We
understand that Zhulian will be looking to takeover all the manufacturing for the remaining 20% of its products
as well in the near term. Zhulian’s manufacturing plants are currently running at 60-80% capacity, and Zhulian
will have to set up new lines when it takes over the remaining manufacturing of its products.

♦ Reducing dependency on non-consumables. In order to reduce its dependency on non-consumables,

Zhulian has grown its home care, personal care, F&B and nutritional products from 47% of sales in FY06 to 55%
in FY09 (see Charts 1 and 2). These products provide a more stable earnings base and help to support its
earnings to a certain extent during economic turbulence when sales of its jewelry, home tech and theraperatic
products could be affected.

Chart 1: Revenue Contribution By Product Type FY06 Chart 2: Revenue Contribution By Product Type FY09
Therapeutic Others Therapeutic Others
products 2% products 1%
8% 10%
Jewelry
22%
Jewelry
Home tech 30%
Home tech
13% 12%

Home care
5%

Nutritional Home care

5% Personal care
18% Nutritional 11%
22%
Personal care
9%
F&B F&B
15% 17%

Source: Company Source: Company

♦ Bread and butter in Malaysia. Having operating in the Malaysian market for more than 20 years,
management expects the local market to remain stable in CY2010. Management highlighted that the near-term
growth for Malaysia may not be as attractive as Thailand or Indonesia, given greater competition from
hypermarkets and mini markets, which are increasingly reaching sub-urban and rural areas, which are Zhulian’s
forte. Furthermore, Zhulian understands that there are foreign MLM operators from Japan, Europe and USA, who
have expressed interest in the domestic market given the relative ease of obtaining the direct selling licence in
Malaysia vs. other countries. Nevertheless, management expects its domestic distributor base to remain stable,
supported by its product quality and loyalty incentives. We believe that Zhulian’s loyalty incentives to be
between Hai-O’s and Amway’s. Currently, its Malaysia operations are contributing about 49% of its total sales.

Page 5 of 5
 21 July 2010

♦ Indonesia the way to go. While Thailand’s growth is still expected to be attractive (+10% yoy in FY10), we
understand from management that it intends to double or triple Indonesia’s contribution within the next 2-3
years, which we believe is achievable given: 1) the new equity participation by Zhulian; and 2) the fact that it is
coming off from a low base. Recall that given the relaxation of equity participation in Indonesia in order to
attract more foreign direct investment, Zhulian acquired a 60% stake in Zhulian Indonesia in May 09. Prior to
that, Zhulian Indonesia was only appointed as a Master Agent, which resulted in loose management control. As
such, we believe that management will be able to better steer the company into the right direction and help
expand more meaningfully in the country going forward. Management guided that it will be on a full-fledged
expansion drive by offering a wide range of cosmetic jewelry as the Indonesian market would be more receptive
to the product (jewelry is the group’s second most profitable item – selling in the price range of RM43 – RM573).
In FY09, Indonesia contributed only 4% of the group’s revenue. Given the equity participation in Indonesia by
Zhulian, it aggressively expanding its current set-up of 28 distribution centres and 18,000 distributors to develop
a full-fledged regional flagship head office with auditorium and warehousing facility within the next 3 years. We
understand that Zhulian Indonesia is currently adding approximately 1,000 new members per month and
management expects this to be sustainable over the next 3 years. We believe the expected growth figure is
conservative given that the Zhulian brand name already has presence in Indonesia since 1996 and has just
started its full force operations. Currently, Zhulian’s Thailand operations contribute approximately 46% of its
total sales while the remaining 5% are mostly from its Indonesia operations.

♦ Further growing its earnings. Zhulian is currently looking to expand its operations to Philippines and Vietnam.
Instead of venturing overseas through the “Master Agent” concept, Zhulian now intends to go in as a direct
investor, or otherwise, as a joint-venture partnership. Management also decided to acquire an additional 4-acre
of land in Bayan Lepas to set up a production facility to produce nutritional and home care products to
accommodate additional demands from Indonesia, Philippines and Vietnam. However, no further details were
available from management as of yet. Zhulian’s manufacturing facilities are currently running at about 60-80%.
Furthermore, Zhulian would continue to introduce 8-10 new products p.a. to entice its consumers and help its
MLM agents to push sales ahead.

♦ Earnings prospects. In FY10, management is guiding for a conservative revenue growth of high single-digit
supported by an expected growth of +10% yoy in Thailand and +30% yoy in Indonesia. Meanwhile, FY10 PBT
margins are expected to hold above the 30% level. We believe that management’s growth target is achievable
given that: 1) 1HFY10’s revenue grew by +13.6% yoy and generally, 2HFY10 is a stronger half; and 2) PBT
margins for 1HFY10 reached 31.7% (+2.6%-pt yoy). Beyond FY10, growth momentum will be spurred by both
its Thailand and Indonesia operations, coupled with further expansion plans into Philippines and Vietnam.
Management targets for its oversea vs. local revenue composition to be 60:40 in the near term. Furthermore,
there is room for upside in its margins, given that Zhulian intends to manufacture the remaining 20% of its
product offering inhouse.

♦ Tightening of MLM regulations a concern? We understand that the Direct Selling Association has recently
gazetted a tighter MLM regulation, which addresses concern on pyramid-related multi level marketing especially
for high value products. While management do not deny that there may be members in the industry who may
abuse the multi level marketing system, we note that Zhulian’s products are lower ticket items, which are mostly
consumables, which we estimate constitute at least 80% of its total revenue.

♦ Dividend policy remains at a payout of 60%. Given Zhulian’s cash holding of RM127.1m in 2QFY10 and
sustainable operating cash flow of RM50-80m p.a., Zhulian intends to maintain its dividend payout of 60%.
Furthermore, excluding any expansion plans, Zhulian’s recurring capex is only RM5m p.a.. Based on consensus
estimates, this implies a attractive net dividend yield of 6-7% p.a. for FY10-11.

Risks

♦ Risks to our view. The risks include: 1) weaker-than-expected increase in consumer spending in Malaysia,
Thailand, Indonesia and Singapore; and 2) stronger-than-expected weakening of US$.

♦ Mitigating factors. Zhulian has more than 50% exposure to consumables and at least 80% are lower ticket
items. As such, we believe that earnings downside would be mitigated to a certain extent.

Page 5 of 5
 21 July 2010

Valuations

♦ Undervalued gem? Zhulian is currently trading at FY11/10 PER of 9.6x and FY11/11 PER of 8.2x on consensus
estimates, with a decent net dividend yield of 6-7% p.a.. We value Zhulian at RM2.40/share based on 10x
consensus estimates FY11/11 EPS, which is the target PER that we have assigned for Hai-O. This represents a
potential upside of >23%. For comparison purposes, we compare Zhulian to domestic MLM players such as
Amway and Hai-O, which are currently trading at an average forward PER of 10-14x FY10 earnings.

FYE Price Mkt FY09 FY10f EPS PER NDY

(RM) cap EPS EPS growth (x) (%)
(RMm) (sen) (sen) FY10f FY10 FY10
(%)
Amway Dec 8.00 1315.2 44.1 54.5 23.6 14.2 6.8
Hai-O * Apr 3.69 746.1 35.0 37.3 6.7 9.9 4.9
Zhulian^ Nov 1.94 892.4 17.8 20.5 14.8 9.7 6.2
Note: Amway and Hai-O are based on RHBRI’s estimates
*FY10-FY11 estimates
^ consensus estimates

Table 2. Earnings Forecasts

FYE Nov (RMm) FY08a FY09a FY10F^ FY11F^

Turnover 303.6 315.3 345.4 377.7

Turnover growth (%) 37.6 3.9 9.6 9.4

Gross Profit 70.6 83.4 98.2 108.8

EBITDA 74.8 89.1 105.1 118.2

EBITDA margin (%) 24.6 28.3 30.4 31.3

Depr&Amor -4.2 -5.7 -6.9 -9.4

Pretax Profit 95.0 102.7 117.8 135.0

Tax -20.3 -20.6 -23.6 -27.0
Net Profit 74.7 82.1 94.2 108.0

Source: Company data

^Consensus estimates

IMPORTANT DISCLOSURES

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The recommendation framework for stocks and sectors are as follows : -

Stock Ratings

Outperform = The stock return is expected to exceed the FBM KLCI benchmark by greater than five percentage points over the next 6-12 months.

Trading Buy = Short-term positive development on the stock that could lead to a re-rating in the share price and translate into an absolute return of 15% or more
over a period of three months, but fundamentals are not strong enough to warrant an Outperform call. It is generally for investors who are willing to take on
higher risks.

Market Perform = The stock return is expected to be in line with the FBM KLCI benchmark (+/- five percentage points) over the next 6-12 months.

Underperform = The stock return is expected to underperform the FBM KLCI benchmark by more than five percentage points over the next 6-12 months.

Industry/Sector Ratings

Overweight = Industry expected to outperform the FBM KLCI benchmark, weighted by market capitalisation, over the next 6-12 months.

Neutral = Industry expected to perform in line with the FBM KLCI benchmark, weighted by market capitalisation, over the next 6-12 months.

Underweight = Industry expected to underperform the FBM KLCI benchmark, weighted by market capitalisation, over the next 6-12 months.

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