Annual Report

Annual reports and statements




Chairman’s Statement


DEAR FELLOW SHAREHOLDERS,

For the financial year ended 31 March 2013, the Group registered a marginal decline in sales of 1% to $601.9 million with profit-after-tax contracting 3% to $54.3 million. After three consecutive years of growth, these results, though flat, required a Herculean effort in its achievement against a market backdrop that can only be characterised as marshlike. Progress was slow, uncomfortably sluggish, but with dogged persistence we eventually got there.

We pride our fostering of a robust balance sheet and this year is no exception with cash and cash equivalents ending at $79.5 million with a net cash balance of $38.3 million. Our free cash flow dipped to $1.5 million, the foreseen consequence of executing our strategic roadmap. During the year, an aggregate $48.0 million was re-invested into the construction of new stores and the renovation of existing ones, the start-up of our Laduree franchise, the acquisition of a warehouse facility in Singapore and the increase in our working capital of which $36.6 million was deployed primarily into inventories to match our planned network expansion. This deliberate scaling of inventories was carried over from the previous financial year. By August 2012 however, we had determined the fundamentals of the luxury watch market was deteriorating and took immediate rightsizing action, reducing the number of inventory days from 236 days to 211 days by the financial year end. This translated into a stock turnover of 1.7 times. With fewer new multi-brand store openings on the horizon and a reversion to a more cautious posture, especially with regard to our inventory pool, we are confident of convalescing our capabilities to generate more free cash in the coming year.

On a consolidated net asset basis, our corporate net worth increased by $35.9 million to $330.6 million or $1.41 per share. This represents a compounded annual growth rate of 12.6% in the Group’s net asset value over the past five years. In view of our resilient though modestly compressed earnings, the Board of Directors is pleased to recommend a first and final dividend of 5.5 cents per ordinary share amounting to $12.9 million.

BUSINESS REVIEW
We bounded into financial year 2013 sanguine and highly ebullient. The reality that we eventually faced was a market environment laced with languor and caution. There was a confluence of sociopolitical and economic factors that created a highly dynamic Asian landscape over the last twelve months. This impacted our Company’s performance alongside the regional watch trade and broader luxury goods sector as well. Critically, the primary reasons that lie behind this period of softness can be attributed to the anxiety it has created amongst two of our major client groups – recalcitrant Singaporeans and mainland Chinese luxury consumers in retreat. A positive spark for the year was the landmark opening of our multiple brand watch, travel retail operation on Phuket Island, Thailand.

Sombre South-East Asians
Rising global financial markets and domestic property prices in 2012 did little in the way of injecting confidence into the shoppers from South- East Asia. Economic deceleration aggravated by regional currencies, runaway real estate values and rising business costs associated with a tight Singaporean labour market have all contributed to luxury retail sales losing momentum. In Singapore, one of The Hour Glass’ core domestic customer segments are owners of small-and-medium sized enterprises, a group who are bearing the load of its present economic restructuring initiative. Since consumer spending is mainly funded by wages and profits of locally owned SMEs, it comes as little surprise that consumers have been paralysed into inaction.

China. China. China?
2012 witnessed a once in a decade transition of power in the middle kingdom. Combined with a synchronous global slowdown, the result of a Eurozone sovereign debt crisis and the stalling of domestic economic growth in China where its factories faced contracting orders and capacity utilisation falling to 60%, discretionary Chinese consumption for luxury automobiles, wine and watches began retracing. By August 2012, the luxury watch market in China witnessed a sharp retrenchment in demand, suffering its severest slowdown since the global recession hit in September 2008. An inventory glut in all channels and sectors began to build. By the end of that year, Swiss watch exports to the mainland only eeked out a 0.6% growth versus a 49.2% increase in 2011. As if to press home the point, the central government introduced tightening measures which included more diligent airport customs checks on returning Chinese travellers and a ban on the advertisement of luxury products on state-owned media. These actions were instituted in an effort to reduce conspicuous consumption by civil servants and state owned enterprises and to clampdown on the practice of gift giving. Recognised as China’s leading luxury retail mall and parlayed as a barometer for luxury retail sales, Plaza 66 in Shanghai only saw a 4% rise in rental revenue for the year. This process of destocking and softer demand in China extended into 2013 where for the first four months to April, watch exports to Hong Kong and China saw a year-on-year decline of 9% and 25% respectively. Nevertheless, these two markets combined still continue to account for over a quarter of global Swiss watch exports.

A recently inked bi-lateral Free Trade Agreement between Switzerland and China will have long term consequences for our business. Three key points were raised and agreed upon. In a soft transfer of knowledge, the Swiss government committed itself to establishing watchmaking schools as well as improving and expanding after-sales service facilities on the mainland whilst in exchange, the Chinese conceded on the reduction of duties levied on Swiss watch imports. All are market development efforts whose impact will be far reaching. More watchmakers and local service centres provide comfort to Chinese watch buyers by reducing service charges and lead times for repairs while lower tariffs should theoretically over time result in reduce retail prices. Presently, import duties levied on Swiss watches range between 11% to 15% on the landed cost of goods. What this agreement entails is an immediate 18% cut in duties and thereafter, a reduction of 5% a year for the next 9 years. By 2023, the tariffs on Swiss watches should be half of what it stands at today. This could potentially result in a reduction in retail prices by an absolute quantum of 2% to 4% when fully effective. However, no changes will be made to a pre-existing 20% consumption tax on duty paid cost of goods as well as a Value Added Tax of 17% on retail prices. In a separate announcement, the national development and reform commission indicated that moving forward, they may be considering implementing a luxury tax as part of their tax reform package. Optically, the Chinese have taken a step forward but have concurrently employed rear guard action to maintain a high threshold on prices of luxury goods in their market. Our view is that as long as the consumption tax remains at 20%, it is sufficient incentive for mainland luxury watch buyers to continue shopping abroad.

Travel Retail
According to a 2012 luxury market study by Bain & Company, tourists now account for 40% of global luxury spending with customers from China superseding all other nationalities contributing as much as half of all luxury purchases in Asia and a third in Europe. It is therefore of strategic and commercial importance for our Group to closely monitor the developments of this recent policy shift on the reduction of import duties on Chinese’ overseas purchasing behaviours because Chinese shoppers account for approximately 20% of our Group sales. This does not include the share of revenues derived from our Thai joint venture which in December 2012, opened its doors to Royal Paragon Watch, an 8,000 square feet, dedicated multiple brand watch travel retail concept in Phuket, Thailand.

Phuket island is a high yield tourism market, and markedly so when compared to Bangkok. Average room rates in this resort town are double that of Bangkok and with no visa restrictions to entry, annual visitorship of both Chinese and Russians are growing at triple digit rates. Inbound tourism to Phuket is expected to hit 5.7 million visitors by 2015. With a new airport underway, an increasing frequency of direct scheduled and chartered flights from key Chinese cities, an average 5-day stay, Phuket is the 3rd most popular destination after Hong Kong and Seoul for the Chinese during their Spring golden week vacation. For the initial six months of operations since inception, Royal Paragon Watch has welcomed over 230,000 visitors, 81% of which hail from the mainland. Already accretive to the bottom line and cash flow positive, we believe our first mover advantage in the bourgeoning tourism market of Phuket will allow us to plant a secure foothold in the market before competition descends. Our most significant moat in this business though is our local partner who owns and controls over a hundred tour buses that operate on Phuket island, ensuring a reliable daily pipeline of visitors to our complex. Fully optimised, we believe Royal Paragon Watch should have the capacity to receive more than 600,000 visitors a year.

OUTLOOK
In our business, there is no full stop. Dealing with the aspirational and the wealthy requires a different management discipline; you are on call, all the time! It is a 24/7 undertaking in sales and service fulfilment. So, after three consecutive years of particularly strong growth, a year that allowed for operations to consolidate is always welcome. It provides us with an opportunity to assess our past actions and determine if correct choices were made when advancing the business and if any alterations to our course are required. Particularly so when the Group is transitioning from a strategy focused mode to an increasingly operationally intensive one. One where the aggregation of marginal gains will have to be our management focus. In this regard, a key area which we will continue scrutinising are our inventory assets.

Trade Inventory Levels
Inventory levels in retail channels remain high with 6 of the leading Asian listed watch retailers reporting in-store inventories increasing by a total of $1.0 billion over the last 24 months. Destocking pressure for the luxury and specialty segment has intensified and inventory rightsizing is underway. Inevitably, this will result in gross margin compression till such time this overhang clears up and demand strengthens once again. Having analysed the inventory position of one of the industry’s leading industrial watch groups, what is evident is that production activity may also be retracing. For their financial year ending 2012, inventory of finished goods had risen by 38%, semifinished goods up by 18% whilst stock of work-inprogress declined 13% from the year before. This I view as positive news because it demonstrates that the manufacturer is cognisant of the inventory build-up and is taking action to alleviate that pressure from escalating in the retail channels.

Mono-brand Boutiques
We have invested heavily in expanding and refreshing our network and will continue to do so this coming year with the opening of two more mono-brand boutiques at The Shoppes at Marina Bay Sands; namely Ulysse Nardin and Parmigiani Fleurier. Both are specialty watch brands distributed and retailed exclusively by The Hour Glass in South East Asia. We have also pushed further into new business lines the likes of Laduree. With the initial success of our two points of sales in Takashimaya shopping centre in Singapore reverberating around the region, we are assessing roll-out opportunities that have been presenting themselves in other South East Asian cities. I would like to highlight that one defining denominator which aligns all these three brands; Ulysse Nardin, Parmigiani Fleurier and Laduree – are that they are all independently owned, family enterprises.

Family Enterprises
The Hour Glass is a publicly listed company with all the attributes of one including high standards of corporate governance but it too can be classified as a family enterprise. We enjoy collaborating with other independently owned businesses because we share similar values, primarily a desire to develop long term partnerships. We are also unwilling to gamble the farm because we prize sustainability over disruption and though it may make us less adventurous than our competitors, during times of drought, we continue harvesting. At times, we engage members of our immediate and extended family in the Company. It is a good thing, especially when stakeholder relationships are generational. But we need competent members of the family who are placed in their position based on merit and I can assure you, the standards that we hold them to are higher than others. The buffet table may be laid out but from where I sit, there are certainly no free lunches.

ACKNOWLEDGEMENTS
It has been said that our lives are measured by the footprints we leave behind, the courses we chart, the example for others to follow. In 1979, we embarked on a journey that has led us from a startup staff count of 8 operating in a single store in Singapore to an organisation of over 430 retail professionals spread across 28 stores and growing. Along the way, we blazed new trails, accomplishing much but also faced our share of tough learning experiences. Through it all, we have relentlessly and implacably forged our way forward by refusing to capitulate to the status quo. We do so because of our desire to improve, to excel and build a great company. Building a great company is not a matter of chance, it is a matter of choice. It is not something we can wait for, it is something we can achieve. And this endless task cannot be achieved alone.

On that note, I wish to extend my humble appreciation and heartfelt gratitude to my fellow board members who have at all times, provided stewardship, raised the appropriate issues and asked the right questions. I also wish to welcome our newest member to join the board, Ms Saw Phaik Hwa, CEO of Auric Pacific Group Limited. Prior to heading the Auric Pacific Group, Phaik Hwa was CEO of SMRT Corporation Limited and President of DFS South East Asia, a member of LVMH’s selective retailing divison. Phaik Hwa brings with her over three decades of retail and operational experience and I am certain her contributions will be felt in the coming years. To our clients, business and brand partners, your continuous encouragement and support is treasured and to my associates and management teams, I am deeply humbled by your industry and commitment towards The Hour Glass.

In closing, I wish to leave you with this. Companies are not judged by what they say but by what they do and how they go about doing it. The Hour Glass extols this belief and our aim is to continue building an even stronger culture of excellence at all levels within the organisation. This is a maxim I live by and one that is also exemplified by hundreds of our employees each and every day. My promise to you fellow shareholders, is that we will work with resolve to accomplish this mission.

Henry Tay Yun Chwan
Executive Chairman
31 May 2013


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