Li & Fung’s Stock Plunges on Operating Profit Drop

Li & Fung Ltd. (494), the world’s largest supplier of clothes and toys to retailers, plunged in Hong Kong trading by the most since listing in 1992 after slowdowns in U.S. and Europe caused a slump in first half operating profit.

The supplier to Wal-Mart Stores Inc. (WMT) and Target Corp. (TGT) fell 19 percent to HK$12.90 at the 4 p.m. close in Hong Kong after saying yesterday that core operating profit dropped 22 percent to $221 million. The benchmark Hang Seng Index declined 0.7 percent.

Brokerages including HSBC Holdings Plc and Credit Suisse Group AG cut their ratings on the stock as Chief Executive Officer Bruce Rockowitz said the macroeconomic environment is “very difficult.” Sales growth in the U.S. trailed the company’s expectations as waning job growth prompted consumers to curb spending, while Europe’s deepening debt crisis also weighed on demand.

“It continues to be a slow recovery” in the U.S., Rockowitz said in an interview today. “The macro environment is very difficult, driven by a slowdown in Europe.”

Core operating profit margin decreased to 2.4 percent from 3.2 percent in the first half. The company, which traces its beginnings to 1906 when parent Li & Fung Group was founded, has supplied U.S., European and Asian retailers with increasing amounts of Asia-made clothes, toys and furniture to boost business.

Margins Sustainable?

“I question the long-term sustainability of Li & Fung’s distribution margins,” said Gabriel Chan, a Hong Kong-based analyst at Credit Suisse, who cut his rating on the stock to underperform from neutral after the results. “I think they will have to sacrifice margins in order to defend against customers from sourcing directly.”

Net income rose to $312 million, from $236 million a year ago, Li & Fung said in a statement to Hong Kong’s stock exchange yesterday. The earnings reflected a writeback of $198 million in the first half on estimated payouts for prior acquisitions.

The global outsourcer has relied on acquisitions to boost growth, spending about $3 billion on deals from 2006 to 2011, driving up both sales and profit in the five-year period, according to data compiled by Bloomberg. The company now has the “firepower” to spend as much as $1 billion on acquisitions, Rockowitz said yesterday. First-half profit rose 33 percent amid writebacks on acquisition payments.

During the first half of 2012, the group signed four acquisitions to boost its trading business. Revenue and profit before tax from the newly acquired companies were about $110 million and $24 million respectively for 2011, the company said. Li & Fung said average cost of goods will drop in the second half.

Li & Fung, whose customers include U.S. retailer Kohl’s Corp. (KSS), in March raised HK$3.9 billion in its biggest share sale since listing in 1992.

To contact the reporters on this story: Vinicy Chan in Hong Kong at vchan91@bloomberg.net; Kelvin Wong in Hong Kong at kwong40@bloomberg.net

To contact the editor responsible for this story: Anjali Cordeiro at acordeiro2@bloomberg.net

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