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EVK > SEC Filings for EVK > Form 10-Q on 13-Nov-2012All Recent SEC Filings

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Form 10-Q for EVER-GLORY INTERNATIONAL GROUP, INC.


13-Nov-2012

Quarterly Report


ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF
OPERATIONS

The following discussion and analysis of our financial condition and results of operations for the three and nine months ended September 30, 2012 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 leading apparel supply-chain manager and retailer in China. We are listed on NYSE MKT (previously NYSE Amex) under the symbol of "EVK".

We classify our businesses into two segments: Wholesale and Retail. Our wholesale business consists of wholesale-channel sales made principally to famous brands, and department stores located throughout Europe, the U.S., Japan and the People's Republic of China ("PRC"). We focus on well-known, middle-to-high grade casual wear, sportswear, and outerwear brands. Our retail business consists of retail-channel sales directly to consumers through retail stores located throughout the PRC.

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 low 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.

Wholesale Business

We conduct our original design manufacturing ("ODM") operations through five wholly-owned subsidiaries which are located in the Nanjing Jiangning Economic and Technological Development Zone and Shang Fang Town in the Jiangning District in Nanjing, China: 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") and Nanjing Tai Xin Garments Trading Company Limited ("Tai Xin"). One wholly-owned subsidiary is located in Samoa: Ever-Glory International Group (HK) Ltd.("Ever-Glory HK").

Retail Business

We conduct our retail operations through Shanghai LA GO GO Fashion Company Limited ("LA GO GO"), a wholly-owned subsidiary of Ever-Glory Apparel.

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.


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:

Expand our global sourcing network

Expand our overseas low-cost manufacturing base (outside of mainland China);

Focus on high value-added products and continue our strategy to produce mid to high end apparel;

Continue to emphasize product design and technology utilization;

Seek strategic acquisitions of international distributors that could enhance global sales and our distribution network; and

Maintain stable revenue increases in the markets while shifting focus to higher margin wholesale markets such as mainland China.

Retail Business

The business objective for our retail segment is to establish a leading brand of women's apparel and to build a nationwide retail network in China. As of September 30, 2012, we have 644 stores (including store-in-stores) which include 218 stores that were opened and 41 stores that were closed during the nine months ended September 30, 2012.

We believe that our growth opportunities and continued investment initiatives include:

Build the LA GO GO brand to be recognized as a major player in the mid-end women's apparel market in China;

Expand the LA GO GO retail network throughout China;

Improve the LA GO GO retail stores' efficiency and increase same-store sales;

Continue to launch LA GO GO flagship stores in Tier-1 Cities and increase penetration and coverage in Tier-2 and Tier-3 Cities; and

Become a multi-brand operator by seeking opportunities for long-term cooperation with reputable international brands and by facilitating international brands entry into the Chinese market.

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.

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 a good payment track record, we generally provide payment terms between 30 to 120 days following delivery of finished goods.

Retail business

For store-in-store shops, we generally receive payments from the stores between 60 and 90 days following the date of the register receipt. For our own flagship stores, we receive payments at the time 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 a slowdown in the United States and European economies 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 or should it weaken, these economic conditions could have a negative impact on our sales growth and operating margins in our wholesale segment in 2012.

In addition, economic conditions in the United States and other foreign markets in which we operate could substantially affect our sales, and profitability, and our 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 reserve for doubtful accounts receivable may need to be taken or such receivable written off in the coming quarters.

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 provided that (i) there are no uncertainties regarding customer acceptance (ii) persuasive evidence of an arrangement exists (iii) the sales price is fixed and determinable, and (iv) collectability is deemed probable. 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, provided that (i)there are no uncertainties regarding customer acceptance (ii) persuasive evidence of an arrangement exists
(iii) the sales price is fixed and determinable, and (iv) collectability is deemed probable. Retail sales are recorded at the time of register receipt.

Estimates and Assumptions

In preparing our consolidated financial statements, we use estimates and assumptions that affect the reported amounts and disclosures. Our estimates are often based on 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 in 2012 and 2011 include the assumptions used to value warrants and the estimates of the allowance for deferred tax assets.

Results of Operations for the three months ended September 30, 2012 and 2011

The following table summarizes our results of operations for the three months ended September 30, 2012 and 2011. The table and the discussion below should be read in conjunction with our condensed consolidated financial statements and the notes thereto appearing elsewhere in this report.

                                      Three Months Ended September 30,
                                      2012                          2011
                                  (in U.S. Dollars, except for percentages)
Sales                     $  69,269,905        100.0 %   $ 53,673,933       100.0 %
Gross Profit              $  15,328,169         22.1 %   $ 11,195,724        20.9 %
Operating Expense         $  12,760,857         18.4 %   $  7,701,114        14.3 %
Income From Operations    $   2,567,312          3.7 %   $  3,494,610         6.5 %
Other Expenses (Income)   $     128,771          0.2 %   $    144,834         0.3 %
Income tax expense        $     164,609          0.2 %   $    646,793         1.2 %
Net Income                $   2,273,932          3.3 %   $  2,702,983         5.0 %


Revenue

The following table sets forth a breakdown of our total sales, by region, for
the three months ended September 30, 2012 and 2011.

                                                                                                       Change in 2012
                                                    % of total                        % of total       Compared with
                                      2012            sales             2011            sales               2011
Wholesale business
The People's Republic of China    $ 14,814,519             21.4 %   $ 14,055,869             26.2 %                5.4 %
Germany                              6,358,446              9.2        5,480,075             10.2                 16.0
United States                        1,816,857              2.6        8,143,230             15.2                (77.7 )
United Kingdom                       9,948,373             14.4        6,785,148             12.6                 46.6
Japan                                8,764,281             12.7        3,655,819              6.8                139.7
Europe-Other                         3,198,985              4.6        3,922,109              7.3                (18.4 )
Total wholesale business            44,901,461             64.8       42,042,250             78.3                  6.8
Retail business                     24,368,444             35.2       11,631,683             21.7                109.5
Total                             $ 69,269,905            100.0 %   $ 53,673,933            100.0 %               29.1 %

Sales for the three months ended September 30, 2012 were $69.3 million, an increase of 29.1% from the three months ended September 30, 2011. This increase was primarily attributable to increased sales in our retail business as well as our wholesale business.

Sales generated from our wholesale business contributed 64.8% or $44.9 million of our total sales for the three months ended September 30, 2012, an increase of 6.8% compared to $42.0 million in the three months ended September 30, 2011. This increase was primarily attributable to increased sales in the United Kingdom and Japan.

Sales generated from our retail business contributed 35.2% or $24.4 million of our total sales for the three months ended September 30, 2012, an increase of 109.5% compared to 21.7% or $11.6 million in the three months ended September 30, 2011. This increase was primarily due to the increase in new stores opened and same store sales. We had 644 LA GO GO stores as of September 30, 2012, compared to 421 LA GO GO stores at September 30, 2011.

Costs and Expenses

Cost of Sales and Gross Margin

Cost of sales includes the direct raw material cost, direct labor cost, outsourced production cost and manufacturing overhead including depreciation of production equipment and rent, consistent with the revenue earned. Cost of sales excludes warehousing costs, which historically have not been significant.


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 September 30, 2012 and 2011.

                                        Three months ended September 30,              Growth
                                       2012                          2011             In 2012
                                   (in U.S. dollars, except for percentages)
Net Sales for Wholesale
Sales                        $  44,901,461       100.0 %   $ 42,042,250       100.0 %     6.8 %
Raw Materials                   22,372,864        49.8       21,183,921        50.4       5.6
Labor                            1,240,727         2.8        1,097,522         2.6      13.0
Outsourced Production
Costs                           14,339,488        31.9       12,491,707        29.7      14.8
Other and Overhead                 167,160         0.4          149,404         0.4      11.9
Total Cost of Sales for
Wholesale                       38,120,239        84.9       34,922,554        83.1       9.2
Gross Profit for Wholesale       6,781,222        15.1        7,119,696        16.9      (4.8 )
Net Sales for Retail            24,368,444       100.0       11,631,683       100.0     109.5
Production Costs                 7,610,338        31.2        3,920,469        33.7      94.1
Rent                             8,211,159        33.7        3,635,186        31.3     125.9
Total Cost of Sales for
Retail                          15,821,497        64.9        7,555,655        65.0     109.4
Gross Profit for Retail          8,546,947        35.1        4,076,028        35.0     109.7
Total Cost of Sales             53,941,736        77.9       42,478,209        79.1      27.0
Gross Profit                 $  15,328,169        22.1 %   $ 11,195,724        20.9 %    36.9 %

Raw material costs for our wholesale business were 49.8% of our total wholesale business sales in the three months ended September 30, 2012, compared to 50.4% in the three months ended September 30, 2011. The decrease was mainly due to decreased raw materials prices.

Labor costs for our wholesale business were 2.8% of our total wholesale business sales in the three months ended September 30, 2012, compared to 2.6% in the three months ended September 30, 2011. The increase was mainly due to the increased average salaries of employees.

Outsourced manufacturing costs for our wholesale business were 31.9% of our total wholesale business sales in the three months ended September 30, 2012, compared to 29.7% in the three months ended September 30, 2011. The increase was mainly due to more orders and the limited production capacity this quarter in China.

Overhead and other expenses for our wholesale business accounted for 0.4% of our total wholesale business sales for the three months ended September 30, 2012 and 2011.

For our wholesale business gross profit for the three months ended September 30, 2012 was $6.8 million, a decrease of 4.8% compared to the three months ended September 30, 2011. As a percentage of wholesale sales, gross profit accounted for 15.1% of our total wholesale sales for the three months ended September 30, 2012, a decrease of 1.8% compared to 16.9% for the three months ended September 30, 2011. The decrease was mainly due to the higher outsourced manufacturing costs .

Production costs for our retail business were $7.6 million during the three months ended September 30, 2012 compared to $3.9 million during the three months ended September 30, 2011. As a percentage of retail sales, retail production costs accounted for 31.2% of our total retail sales in the three months ended September 30, 2012, compared to 33.7% of total retail sales in the three months ended September 30, 2011. This decrease was primarily due to reduced retail prices in various promotions in exchange for increased sales volume during the three months ended September 30, 2011.

Rent costs for our retail business were $8.2 million for the three months ended September 30, 2012 compared to $3.6 million for the three months ended September 30, 2011. As a percentage of sales, rent costs accounted for 33.7% of our total retail sales for the three months ended September 30, 2012, compared to 31.3% of total retail sales for the three months ended September 30, 2011. Total rent costs increased as a result of the increase in the number of our stores. The increase in rent costs as a percentage of total retail sales was due to the increase in the number of new stores opened in the third quarter of 2012; there were 97 and 61 new stores opened in the three months ended September 30, 2012 and 2011, respectively.

Gross profit in our retail business for the three months ended September 30, 2012 was $8.5 million and gross margin was 35.1%. Gross profit in our retail business for the three months ended September 30, 2011 was $4.1 million and gross margin was 35.0%.


Total cost of sales for the three months ended September 30, 2012 was $53.9 million, compared to $42.5 million for the three months ended September 30, 2011, an increase of 27%. As a percentage of total sales, cost of sales decreased to 77.9% of total sales for the three months ended September 30, 2012, compared to 79.1% of total sales for the three months ended September 30, 2011. Consequently, gross margin increased to 22.1% for the three months ended September 30, 2012 from 20.9% for the three months ended September 30, 2011.

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 September 30,
                                                                                                      Increase
                                                  2012                            2011               (decrease)
                                               (in U.S. Dollars, except for percentages)
Gross Profit                          $   15,328,169          22.1 %   $  11,195,724          20.9 %       36.9 %
Operating Expenses:
Selling Expenses                           8,608,695          12.4 %       4,257,401           7.9        102.2
General and Administrative Expenses        4,152,162           6.0 %       3,443,713           6.4         20.6
Total                                     12,760,857          18.4 %       7,701,114          14.3         65.7
Income from Operations                $    2,567,312           3.7 %   $   3,494,610           6.5 %      (26.5 )%

Selling expenses increased 102.2% to $8.6 million for the three months ended September 30, 2012 from $4.3 million for the three months ended September 30, 2011. The increase was attributable to the increased number of retail employees and increased average salaries, as well as increased store decoration and marketing expenses associated with the promotion of the LA GO GO brand.

General and administrative expenses increased 20.6% to $4.2 million the three months ended September 30, 2012 from $3.4 million for the three months ended September 30, 2011. As a percentage of total sales, general and administrative expenses decreased to 6.0% of total sales for the three months ended September 30, 2012, compared to 6.4% of total sales for the three months ended September 30, 2011. This percentage decrease was due to the increase in sales.

Income from Operations

Income from operations decreased 26.5% to $2.6 million for the three months ended September 30, 2012 from $3.5 million for the three months ended September 30, 2011. As a percentage of sales, income from operations accounted for 3.7% of our total sales for the three months ended September 30, 2012, a decrease of 2.8% compared to the three months ended September 30, 2011 as a result of increased selling expenses for our retail business.

Interest Expense

Interest expense was $0.45 million for the three months ended September 30, 2012, an increase of 9.3% compared to the same period in 2011. The increase was due to the increased bank loans as a result of our business expansion.

Change in fair value of derivative liability

Change in fair value of derivative liability was a gain of $0.1 million and $0.02 million, based on the Binnomial Lattice model, for the three months ended September 30, 2012 and 2011, respectively.


Income Tax Expenses

Income tax expense for the three months ended September 30, 2012 was $0.2 million, a decrease of 74.5% compared to the same period of 2011. The decrease was primarily due to decreased profits of Goldenway and Ever-Glory Apparel and increased profits of Ever-Glory Hong Kong.

Our PRC subsidiaries are governed by the Income Tax Law of the PRC concerning Foreign Investment Enterprises and Foreign Enterprises and various local income tax laws. Each of our consolidated entities files its own separate income tax return.

All PRC subsidiaries are subject to the 25% income tax rate.

Perfect Dream Limited was incorporated in the British Virgin Islands on July 1, 2004, and has no income tax.

Ever-Glory International Group (HK) Ltd was incorporated in Samoa on September 15, 2009, and has no liabilities for income tax.

Ever-Glory International Group Inc. was incorporated in the United States and has incurred net operating losses for income tax purposes through 2011. The net operating loss carry forwards for United States income taxes may be available to reduce future years' taxable income. These carry forwards will expire, if not utilized, through 2031. Management believes that the realization of the benefits from these losses is uncertain due to our limited operating history and continuing losses for United States income tax purposes. Accordingly, we provided a 100% valuation allowance on the deferred tax asset to reduce the asset to zero.

Net Income

Net income for the three months ended September 30, 2012 was $2.3 million, a decrease of 15.9% compared to the same period in 2011. Our basic and diluted earnings per share were $0.15 and $0.18 for the three months ended September 30, 2012 and 2011, respectively.

Results of Operations for the nine months ended September 30, 2012 and 2011

The following table summarizes our results of operations for the nine months ended September 30, 2012 and 2011. The table and the discussion below should be read in conjunction with the consolidated financial statements and the notes thereto appearing elsewhere in this report.

                                       Nine Months Ended September 30,
                                      2012                          2011
                                  (in U.S. Dollars, except for percentages)
Sales                     $ 169,691,109        100.0 %   $ 149,805,810       100.0 %
Gross Profit              $  40,517,738         23.9 %   $  30,664,483        20.5 %
Operating Expense         $  32,764,790         19.3 %   $  21,386,144        14.3 %
Income From Operations    $   7,752,948          4.6 %   $   9,278,339         6.2 %
Other Expenses (Income)   $      (3,818 )        0.0 %   $     164,701         0.1 %
Income tax expense        $   1,010,475          0.6 %   $   1,539,790         1.0 %
Net Income                $   6,746,291          4.0 %   $   7,573,848         5.1 %


Revenue

The following table sets forth a breakdown of our total sales, by region, for
the nine months ended September 30, 2012 and 2011.

                                                    % of total                         % of total        Change
                                      2012             sales             2011             sales          In 2012
Wholesale business
The People's Republic of China    $  33,690,321            19.9 %    $  33,890,950            22.6 %         (0.6 )%
Germany                              15,216,552             9.0         22,890,796            15.3          (33.5 )
United States                         9,320,440             5.5         18,797,505            12.5          (50.4 )
United Kingdom                       17,901,763            10.5         14,526,418             9.7           23.2
Japan                                17,287,863            10.2         14,668,238             9.8           17.9
Europe-Other                         10,952,973             6.5         11,540,852             7.7           (5.1 )
. . .
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