EVER-GLORY INTERNATIONAL GROUP, INC. The following discussion and analysis of our financial condition and results of operations for the three months endedMarch 31, 2020 should be read in conjunction with the Financial Statements and corresponding notes included in this Quarterly Report on Form 10-Q. Our discussion includes forward-looking statements based upon current expectations that involve risks and uncertainties, such as our plans, objectives, expectations, and intentions. Actual results and the timing of events could differ materially from those anticipated in these forward-looking statements as a result of a number of factors, including those set forth under the Risk Factors and Special Note Regarding Forward-Looking Statements in this report. We use words such as "anticipate," "estimate," "plan," "project," "continuing," "ongoing," "expect," "believe," "intend," "may," "will," "should," "could," "target", "forecast" and similar expressions to identify forward-looking statements. Overview Our Business
We are a retailer of branded fashion apparel and leading global apparel supply
chain solution provider based in
We classify our businesses into two segments: Wholesale and Retail. Our wholesale business consists of wholesale-channel sales made principally to domestically and international recognized brands, and department stores located throughoutEurope , theU.S. ,Japan andthe People's Republic of China ("PRC"). We focus on well-known, middle-to-high end casual wear, sportswear, and outerwear brands. Our retail business consists of retail-channel sales directly to consumers through retail stores located throughout the PRC as well as sales via online stores at Tmall, Dangdang mall,JD.com , VIP.com and etc. Although we have our own manufacturing facilities, we currently outsource most of the manufacturing to our long-term contractors as part of our overall business strategy. We believe outsourcing allows us to maximize our production capacity and maintain flexibility while reducing capital expenditures and the costs of keeping skilled workers on production lines during slow seasons. We oversee our long-term contractors with our advanced management solutions and inspect products manufactured by them to ensure that they meet our high-quality control standards and timely delivery requirement. Wholesale Business We conduct our original design manufacturing ("ODM") operations through seven wholly owned subsidiaries which are located in theNanjing Jiangning Economic and Technological Development Zone andShang Fang Town in theJiangning District inNanjing ,Jiangsu province,China , Chuzhou,Anhui province,China andSamoa :Ever-Glory International Group Apparel Inc. ("Ever-Glory Apparel"),Goldenway Nanjing Garments Company Limited ("Goldenway"),Nanjing New-Tailun Garments Company Limited ("New Tailun"),Nanjing Catch-Luck Garments Co., Ltd. ("Catch-Luck"),Chuzhou Huirui Garments Co., Ltd. ("Huirui),Nanjing Tai Xin Garments Trading Company Limited ("Tai Xin"),Haian Tai Xin Garments Trading Company Limited ("Haian Tai Xin"),Nanjing Rui Lian Technology Company Limited ("Nanjing Rui Lian"),Ever-Glory Supply Chain Service Co., Limited ("Ever-Glory Supply Chain") andEver-Glory International Group (HK) Ltd. ("Ever-Glory HK"). Retail Business
We conduct our retail operations throughShanghai LA GO GO Fashion Company Limited ("LA GO GO"),Jiangsu LA GO GO Fashion Company Limited ("Jiangsu LA GO GO"),Tianjin LA GO GO Fashion Company Limited ("Tianjin LA GO GO"),Shanghai Ya Lan Fashion Company Limited ("Ya Lan"),Shanghai Yiduo Fashion Company Limited ("Shanghai Yiduo") andXizang He Meida Trading Company Limited ("He Meida"). 18 Business Objectives Wholesale Business
We believe the enduring strength of our wholesale business is mainly due to our consistent emphasis on innovative and distinctive product designs that stand for exceptional styling and quality. We maintain long-term, satisfactory relationships with a portfolio of well-known and mid-class global brands.
The primary business objective for our wholesale segment is to expand our portfolio into higher-class brands, expand our customer base and improve our profit. We believe that our growth opportunities and continued investment initiatives include:
? Expanding our global sourcing network;
? Expanding our overseas low-cost manufacturing base (outside of mainland
China );
? Focusing on high value-added products and continuing our strategy to produce
mid-to-high end apparel;
? Continuing to emphasize product design and technology utilization;
? Seeking strategic acquisitions of international distributors that could
enhance global sales and our distribution network; and
? Maintaining stable revenue increase in the markets while shifting focus to
higher margin wholesale markets such as mainland China .
Retail Business
The business objectives for our retail segment are to establish leading brands
of women's apparel and to build a nationwide retail network in China . As of
March 31, 2020 , we had 1,038 stores (including store-in-stores), which includes
4 stores that were opened and 67 stores that were closed in the first quarter of
2020. We expect to open an additional 100 to 150 stores in 2020.
We believe that our growth opportunities and continued investment initiatives include:
? Building our retail brand to be recognized as a major player in the
mid-to-high end women's apparel market in China ;
? Expanding our retail network throughout China ;
? Improving our retail stores' efficiency and increasing same-store sales;
? Continuing to launch retail flagship stores in Tier-1 cities and increasing
our penetration and coverage in Tier-2 and Tier-3 cities; and
? Becoming a multi-brand operator.
Seasonality of Business
Our business is affected by seasonal trends, with higher levels of wholesale
sales in our third and fourth quarters and higher retail sales in our first and
fourth quarters. These trends primarily result from the timing of seasonal
wholesale shipments and holiday periods in the retail segment.
19
Collection Policy
Wholesale business
For our new customers, we generally require orders placed to be backed by letters of credit. For our long-term and established customers with good payment track records, we generally provide payment terms between 30 to 180 days following the delivery of finished goods.
Retail business For store-in-store shops, we generally receive payments from the stores between 60 to 90 days following the date of the register receipt. For our own flagship stores, we receive payments on the same day of the register receipt. For sales from e-commerce platforms such as Tmall, Dangdang mall,JD.com , VIP.com and etc., we generally receive payments between 5 to 15 days following the date
of the register receipt. Global Economic Uncertainty Our business is dependent on consumer demand for our products. We believe that the significant uncertainty in the global economy and the slowdown of economies inthe United States andEurope have increased our clients' sensitivity to the cost of our products. We have experienced continued pricing pressure. If the global economic environment continues to be weak, these worsening economic conditions could have a negative impact on our sales growth and operating margins in our wholesale segment in 2020. In addition, economic conditions inthe United States and other foreign markets in which we operate could substantially affect our sales profitability, cash position and collection of accounts receivable. Global credit and capital markets have experienced unprecedented volatility and disruption. Business credit and liquidity have tightened in much of the world. Some of our suppliers and customers may face credit issues and could experience cash flow problems and other financial hardships. These factors currently have not had an impact on the timeliness of receivable collections from our customers. We cannot predict at this time how this situation will develop and whether accounts receivable may need to be allowed for or written off in the coming quarters. Our results of operations could be adversely affected by general conditions in the global economy, including conditions that are outside of our control, such as the impact of health and safety concerns from the outbreak of COVID-19. The outbreak inChina has resulted in the reduction of customer traffic and temporary closures of shopping malls as mandated by the provincial governments in various provinces ofChina from late January to March, which has adversely affected our retail business with a decline in sales sinceFebruary 2020 . Our wholesale business is also significantly affected as we are facing a sharp decline in our order quantities. Some of our wholesale clients have also cancelled or postponed existing orders. Due to the Chinese factories' shutdowns and traffic restrictions during the outbreak inChina and potential shutdowns and traffic restrictions in the countries where our suppliers are located, our supply chain and business operations of our suppliers may be affected. Disruptions from the closure of supplier and manufacturer facilities, interruptions in the supply of raw materials and components, personnel absences, or restrictions on the shipment of our or our suppliers' or customers' products, could have adverse ripple effects on our manufacturing output and delivery schedule. We also face difficulties in collecting our accounts receivables due to the effects of COVID-19 on our customers and risk gaining a large amount of bad debt. Global health concerns, such as COVID-19, could also result in social, economic, and labor instability in the countries and localities in which we or our suppliers and customers operate. AlthoughChina has already begun to recover from the outbreak of COVID-19, the epidemic continues to spread on a global scale and there is the risk of the epidemic returning toChina in the future, thereby causing further business interruption. While the potential economic impact brought by and the duration of COVID-19 may be difficult to assess or predict, a widespread pandemic could result in significant disruption of global financial markets, reducing our ability to access capital, which could in the future negatively affect our liquidity. In addition, a recession or market correction resulting from the spread of COVID-19 could materially affect our business and the value of our common stock. If our future sales continue to decline significantly, we may risk facing bankruptcy due to our recurring fixed expenses. The extent to which COVID-19 impacts our results will depend on many factors and future developments, including new information about COVID-19 and any new government regulations which may emerge to contain the virus, among others. 20 Despite the various risks and uncertainties associated with the current global economy, we believe our core strengths will continue to allow us to execute our strategy for long-term sustainable growth in revenue, net income and operating cash flow.
Summary of Critical Accounting Policies
We have identified critical accounting policies that, as a result of judgments, uncertainties, uniqueness and complexities of the underlying accounting standards and operation involved could result in material changes to our financial position or results of operations under different conditions or using different assumptions. Revenue Recognition We recognize wholesale revenue from product sales, net of value-added taxes, upon delivery for local sales and upon shipment of the products for export sales, at such time title passes to the customer. We recognize wholesale revenue from manufacturing fees charged to buyers for the assembly of garments from materials provided by the buyers upon completion of the manufacturing process and shipment of the products for export sales. Retail sales are recorded net of promotional discounts, rebates, and return allowances. Retail store sales are recognized at the time of the register receipt. Retail online sales are recognized when products are shipped and customers receive the products because we retain a portion of the risk of loss on these sales during transit. Our revenue recognition policy is in compliance with ASC 606, Revenue from Contracts with Customers that revenue is recognized when a customer obtains control of promised goods and is recognized in an amount that reflects the consideration that we expect to receive in exchange for those goods. In addition, the standard requires disclosure of the nature, amount, timing, and uncertainty of revenue and cash flows arising from contracts with customers. The amount of revenue that is recorded reflects the consideration that we expect to receive in exchange for those goods. We apply the following five-step model in order to determine this amount: (i) identification of the promised goods and services in the contract;
(ii) determination of whether the promised goods and services are performance
obligations, including whether they are distinct in the context of the
contract;
(iii) measurement of the transaction price, including the constraint on variable
consideration;
(iv) allocation of the transaction price to the performance obligations; and
(v) recognition of revenue when (or as) the Company satisfies each performance
obligation.
We only apply the five-step model to contracts when it is probable that we will collect the consideration it is entitled to in exchange for the goods or services it transfers to the customer. Once a contract is determined to be within the scope of ASC 606 at contract inception, we review the contract to determine which performance obligations we must deliver and which of these performance obligations are distinct. We recognize as revenues the amount of the transaction price that is allocated to the respective performance obligation when the performance obligation is satisfied or as it is satisfied. Generally, our performance obligations are transferred to customers at a point in time, typically upon delivery for local sales and upon shipment of the products for export sale.
For all reporting periods, we have not disclosed the value of unsatisfied performance obligations for all product revenue contracts with an original expected length of one year or less, which is an optional exemption that is permitted under the adopted rules.
Estimates and Assumptions
In preparing our condensed consolidated financial statements, we use estimates
and assumptions that affect the reported amounts and disclosures. Our estimates
are often based on complex judgments, probabilities and assumptions that we
believe to be reasonable, but that are inherently uncertain and unpredictable.
We are also subject to other risks and uncertainties that may cause actual
results to differ from estimated amounts. Significant estimates include the
assumptions used to value tax liabilities, derivative financial instruments, the
estimates of the allowance for deferred tax assets, and the accounts receivable
allowance, and impairment of long-lived assets and inventory write-downs and
write-offs.
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Recently Issued Accounting Pronouncements
InJune 2016 , the FASB issued ASU No. 2016-13 "Financial Instruments - Credit Losses (Topic 326): Measurement of Credit Losses on Financial Instruments"; InNovember 2019 , the FASB issued ASU No. 2019-10 "Financial Instruments-Credit Losses (Topic 326), Derivatives and Hedging (Topic 815), and Leases (Topic 842): Effective Dates"; InMarch 2020 , the FASB issued ASU No. 2020-03 "Codification Improvements to Financial Instruments"; which modifies the measurement of expected credit losses of certain financial instruments. This ASU is effective for fiscal years and interim periods within those years beginning afterDecember 15, 2022 . The Company is currently assessing the impact of this ASU on its consolidated financial statements. Results of Operations The following table summarizes our results of operations for the three months endedMarch 31, 2020 and 2019. The table and the discussion below should be read in conjunction with the condensed consolidated financial statements and the notes thereto appearing elsewhere in this report. Three Months Ended March 31, 2020 2019 (In thousands of U.S. dollars, except for percentages) Sales$ 58,355 100.0 %$ 87,956 100.0 % Gross Profit 16,038 27.5 29,358 33.4 Operating Expenses 19,263 33.0 28,537 32.4
(Loss) Income From Operations (3,225 ) (5.5
) 821 0.9 Other Income (Expenses) 754 1.3 (451 ) (0.5 ) Income Tax Expense 227 0.4 825 0.9 Net Loss$ (2,698 ) (4.6 )%$ (455 ) (0.5 )% Revenue
The following table sets forth a breakdown of our total sales, by region, for
the three months ended
Growth in
2020
% of total % of total compared
2020 sales 2019 sales with 2019
(In thousands of (In thousands of
Wholesale business U.S. dollars) U.S. dollars)
Mainland China $ 4,653 8.0 % $ 10,754 12.2 % (56.7 )%
Hong Kong 2,992 5.1 1,253 1.4 138.7
Germany 195 0.3 850 1.0 (77.1 )
United Kingdom 837 1.4 800 0.9 4.7
Europe-Other 3,898 6.7 5,229 5.9 (25.5 )
Japan 4,385 7.5 4,938 5.7 (11.2 )
United States 5,328 9.1 4,278 4.9 24.5Total Wholesale business 22,288 38.2
28,102 32.0 (20.7 )
Retail business 36,067 61.8 59,854 68.0 (39.7 )
Total sales $ 58,355 100.0 % $ 87,956 100.0 % (33.7 )%
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Total sales for the three months endedMarch 31, 2020 were$58.4 million , a decrease of 33.7% from the three months endedMarch 31, 2019 . This decrease was primarily attributable to a 20.7% decrease in our wholesale business and a 39.7% decrease in our retail business. Sales generated from our wholesale business contributed 38.2% or$22.3 million of our total sales for the three months endedMarch 31, 2020 , a decrease of 20.7% compared to$28.1 million in the three months endedMarch 31, 2019 . This decrease was primarily attributable to decreased sales in Mainland China,Germany , other European markets andJapan partially offset for increased sales inHong Kong ,the United States and theUnited Kingdom . Sales generated from our retail business contributed 61.8% or$36.1 million of our total sales for the three months endedMarch 31, 2020 , a decrease of 39.7% compared to 68.0% or$59.9 million in the three months endedMarch 31, 2019 . This decrease was primarily due to the decrease in same-store sales.
Total retail store square footage and sales per square foot for the three months
ended
2020 2019
Total store square footage 1,088,007 1,340,174
Number of stores 1,038 1,315
Average store size, square feet 1,048 1,019
Total store sales (in thousands of
$ 33 $ 45
Same-store sales and newly opened store sales for the three months ended
2020 2019
(In thousands of U.S. dollars)
Sales from stores opened for a full year $ 24,813 $ 45,955
Sales from newly opened store sales $ 3,900 $ 6,310
Sales from e-commerce platform $ 4,217 $ 3,701 Other* $ 3,137 $ 3,888 Total$ 36,067 $ 59,854
* Primarily sales from stores that were closed in the current reporting period.
We remodeled or relocated 117 stores in year 2019, and 2 stores during the three months endedMarch 31, 2020 . We plan to relocate or remodel 50-100 stores in 2020. Remodels and relocations typically drive incremental same-store sales growth. A relocation typically results in an improved, more visible and accessible location, and usually includes increased square footage. We believe we will continue to have opportunities for additional remodels and relocations beyond 2020. Same-store sales are calculated based upon stores that were open at least 12 full fiscal months in each reporting period and remain open at the
end of each reporting period. Costs and Expenses
Cost of Sales and Gross Margin
Cost of goods sold includes the direct raw material cost, direct labor cost, and
manufacturing overhead including depreciation of production equipment and rent,
consistent with the revenue earned. Cost of goods sold excludes warehousing
costs, which historically have not been significant.
23
The following table sets forth the components of our cost of sales and gross
profit both in amounts and as a percentage of total sales for the three months
ended March 31, 2020 and 2019.
Growth
(Decrease)
Three Months Ended March 31, in 2020
2020 2019 compared
(In thousands of U.S. dollars, except for percentages) with 2019
Wholesale Sales $ 22,288 100.0 % $ 28,102 100.0 % (20.7 )%
Raw Materials 10,090 45.3 11,308 40.2 (10.8 )
Labor 245 1.1 307 1.1 (20.2 )
Outsourced Production Costs 8,370 37.6 9,871 35.1 (15.2 )
Other and Overhead 86 0.4 58 0.3 46.4
Total Cost of Sales for Wholesale 18,791 84.3 21,544 76.7 (12.8 )
Gross Profit for Wholesale 3,497 15.7
6,558 23.3 (46.7 )
Net Sales for Retail 36,067 100.0 59,854 100.0 (39.7 )
Production Costs 15,847 43.9 24,203 40.4 (34.5 )
Rent 7,679 21.3 12,851 21.5 (40.2 )Total Cost of Sales for Retail 23,526 65.2 37,054 61.9 (36.5 ) Gross Profit for Retail 12,541 34.8
22,800 38.1 (45.0 )
Total Cost of Sales 42,317 72.5 58,598 66.6 (27.8 )
Gross Profit $ 16,038 27.5 % $ 29,358 33.4 % (45.4 )%
Raw material costs for our wholesale business were 45.3% of our total wholesale
business sales in the three months ended March 31, 2020 , a decrease of 10.8%
compared to 40.2% in the three months ended March 31, 2019 . The cost percentage
to total sale increase was mainly due to the higher raw material prices.
Labor costs for our wholesale business were 1.1% of our total wholesale business
sales in the three months ended March 31, 2020 , a decrease of 20.2% compared to
1.1% in the three months ended March 31, 2019 . The marginal decrease was mainly
due to the fact that we outsourced most of the new orders in 2020.
Outsourced production costs for our wholesale business decreased by 15.2% to
$8.4 million in the three months ended March 31, 2020 from $9.9 million in the
three months ended March 31, 2019 . As a percentage of total wholesale sales,
outsourced production costs were 37.6% of our total wholesale sales in the three
months ended March 31, 2020 , a decrease of 15.2% from the three months ended
March 31, 2019 . This decrease was primarily attributable to increased outsourced
orders to our related entities in Vietnam , which have lower labor costs compared
to orders outsourced to Chinese factories.
Overhead and other expenses for our wholesale business accounted for 0.4% and
0.3% of our total wholesale business sales for the three months ended March31, 2020 and 2019, respectively. Gross profit for our wholesale business for the three months endedMarch 31, 2020 was$3.5 million , a decrease of 46.7% compared to the three months endedMarch 31, 2019 . Gross margin was 15.7% for the three months endedMarch 31, 2020 , a decrease of 46.7% compared to 23.3% for the three months endedMarch 31, 2019 . The decrease in gross margin was mainly due to the higher raw material prices. Production costs for our retail business were$15.8 million during the three months endedMarch 31, 2020 compared to$24.2 million during the three months endedMarch 31, 2019 . As a percentage of retail sales, retail production costs accounted for 43.9% of our total retail sales in the three months endedMarch 31, 2020 , compared to 40.4% of total retail sales in the three months endedMarch 31, 2019 . The decrease was due to higher discounts on our out-of-season products endedMarch 31, 2020 compared with the same period of the prior year. Rent costs for our retail business were$7.7 million for the three months endedMarch 31, 2020 compared to$12.9 million for the three months endedMarch 31, 2019 . As a percentage of retail sales, rent costs accounted for 21.3% of our total retail sales for the three months endedMarch 31, 2020 , compared to 21.5% of total retail sales for the three months endedMarch 31, 2019 . The decrease was primarily attributable to lower rent at certain locations. 24 Gross profit in our retail business for the three months endedMarch 31, 2020 was$12.5 million and gross margin was 34.8%. Gross profit in our retail business for the three months endedMarch 31, 2018 was$22.8 million and gross margin was 38.1%. The decrease in gross margin was attributable to decreased rent costs and decrease in production costs. Total cost of sales for the three months endedMarch 31, 2020 was$42.3 million , compared to$58.6 million for the three months endedMarch 31, 2019 , a decrease of 27.8%. As a percentage of total sales, cost of sales increased to 72.5% of total sales for the three months endedMarch 31, 2020 , compared to 66.6% of total sales for the three months endedMarch 31, 2019 . Consequently, gross margin decreased to 27.5% for the three months endedMarch 31, 2020 from 33.4% for the three months endedMarch 31, 2019 .
Selling, General and Administrative Expenses
Our selling expenses consist primarily of local transportation, unloading charges, product inspection charges, salaries for retail staff and decoration and marketing expenses associated with our retail business.
Our general and administrative expenses include administrative salaries, office
expense, certain depreciation and amortization charges, repairs and maintenance,
legal and professional fees, warehousing costs and other expenses that are not
directly attributable to our revenues.
Costs of our distribution network that are excluded from cost of sales consist
of local transportation and unloading charges, and product inspection charges.
Accordingly our gross profit amounts may not be comparable to those of other
companies who include these amounts in cost of sales.
Three Months Ended March 31,
2020 2019 Increase
(In thousands of U.S. dollars, except for percentages)
Gross Profit $ 16,038 27.5 % $ 29,358 33.4 % (45.4 )%
Operating Expenses
Selling Expenses 13,478 23.1 21,008 23.9 (35.8 )General and Administrative Expenses 5,785 9.9 7,529 8.6 (23.2 ) Total Operating Expenses 19,263 33.0 28,537 32.4 (32.5 ) (Loss)Income from Operations$ (3,225 ) (5.5 )%
$ 821 0.9 % (493.0 )% Selling expenses decreased 35.8% to$13.5 million for the three months endedMarch 31, 2020 from$21.0 million for the three months endedMarch 31, 2019 . The decrease was attributable to the decreased sales. General and administrative expenses decreased 23.2% to$5.8 million for the three months endedMarch 31, 2020 from$7.5 million for the three months endedMarch 31, 2019 . As a percentage of total sales, general and administrative expenses increased to 9.9% of total sales for the three months endedMarch 31, 2020 , compared to 8.6% of total sales for the three months endedMarch 31, 2019 . The decrease was mainly attributable to the decreased office expenses.
(Loss) Income from Operations
Loss from operations was$3.2 million for the three months endedMarch 31, 2020 , compared to$0.8 million of income from operations for the three months endedMarch 31, 2019 . As a percentage of sales, loss from operations accounted for 5.5% of our total sales for the three months endedMarch 31, 2020 , a decrease of 493.0% compared to 0.9% the three months endedMarch 31, 2019 as a result of decreased gross profit. 25 Interest Expense Interest expense was$0.3 million for the three months endedMarch 31, 2020 , a decrease of 6.1% compared to the same period in 2019. The decrease was due to the decreased bank loans borrowed. Income Tax Expenses
Income tax expense was
The Company's operating subsidiaries are governed by the Income Tax Law of the
PRC concerning
All PRC subsidiaries, except for He Meida, are subject to income tax at the 25% statutory rate.
He Meida incorporated inXizang (Tibet) Autonomous Region is subject to income tax at 15% statutory rate. The local government has implemented an income tax reduction from 15% to 9% valid throughDecember 31, 2020 .
Perfect Dream was incorporated in the
Ever-Glory HK was incorporated in
Ever-Glory Supply Chain Service Co., Limited was incorporated in Hongkong, and under the current laws of Hongkong, its income tax rate is 8.25% when its profit is underHKD 2.0 million and its income tax rate is 16.5% when its profit is overHKD 2.0 million . The PRC's Enterprise Income Tax Law imposes a 10% withholding income tax for dividends distributed by a foreign invested enterprise in PRC to its immediate holding company outsideChina ; such distributions were exempted under the previous income tax law and regulations. A lower withholding tax rate will be applied if there is a tax treaty arrangement between mainlandChina and the jurisdiction of the foreign holding company. The foreign invested enterprise became subject to the withholding tax starting fromJanuary 1, 2008 . Given that the undistributed profits of the Company's subsidiaries inChina are intended to be retained inChina for business development and expansion purposes, no withholding tax accrual has been made. Net Income (Loss) Net loss for the three months endedMarch 31, 2020 and 2019 was$2.7 million and$0.5 million , respectively. Our basic and diluted loss per share were$0.18 and$0.04 for the three months endedMarch 31, 2020 and 2019, respectively.
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