"Innovative Approaches to Opportunities in Fashion and Food Industries"
Leading companies in the fashion and catering industries often struggle to maintain a stable market position over the long term, making it challenging for investors to assess the long-term value of businesses within these sectors. It is prudent to avoid overpaying for valuations, conduct frequent research, and seek out the next big trend or "picks and shovels" type of companies.
In the realm of securities investment, fashion and catering are two common industries. Although these industries are closely related to our daily lives and may seem like anyone can offer an opinion, it is actually very difficult to judge the long-term value of the companies within them.
As of 2024, many dining and fashion companies, along with their stock prices, are working hard to "struggle" upwards. This includes companies like Jiu Mao Jiu, Cha Bai Dao, La Chapelle, Haidilao, Li Ning, Heilan Home, Metersbonwe, Goldlion Group, Xi'an Catering, and Quanjude, among others.
In the fashion and catering sectors, the aforementioned publicly-listed companies can be considered among the top brands. Many of their operational teams are also very dedicated. However, unlike some industries where leading companies can comfortably enjoy their market position, the quarterly earnings releases that capture public attention and the volatile stock price trends of these companies confirm the challenges and difficulties inherent in the fashion and catering industries.
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If we take a closer look at these two industries, we can identify some common difficulties that lead to such intense competition, making it hard for even leading companies to secure a long-term stable market position. What are the common challenges in the fashion and catering industries, and what business principles have destined these industries for fierce competition?
Low barriers to entry and weak economies of scale
The first common challenge in the fashion and catering industries is the low barriers to entry and weak economies of scale, which result in intense competition among businesses.
In terms of fashion, designing, processing, and producing a new piece of clothing does not require a high capital investment. In traditional Chinese society, many female workers could even make their own clothes. In today's industrial era, producing a new piece of clothing is not too difficult, and some people with a手工情结 may even sew a couple of pieces of traditional Chinese-style clothing themselves.
Catering is even more straightforward. As an ancient culinary powerhouse, Chinese cooking skills can be said to be among the best in the world, and many restaurants even advertise with slogans like "home-cooked meals" and "mom's taste." The business principle hidden behind these slogans is that the catering industry has an extremely low barrier to entry, and home kitchens can produce products that are very competitive.
Conversely, in other industries, we would never see similar promotions: When was the last time you saw an advertisement that said "products like the computers your dad used to build in his early years"?Along with the low entry barriers, the fashion and catering industries lack strong economies of scale. A chain clothing store does not have many cost advantages over a small clothing brand. Even for many women, "not wearing the same clothes as others" is a fundamental criterion for choosing clothes. Similarly, a chain restaurant does not have many cost advantages over a small restaurant. In the eyes of discerning diners, small restaurants that have survived independently for decades or even longer with excellent reputations are the favorites of food connoisseurs.
The common low industry barriers and lack of scale effects in the fashion and catering industries lead to continuous strong competition from rivals for businesses in these sectors, and this competition does not significantly decrease as the scale of the business grows.
Low switching costs and high switching rewards
In addition to the numerous competitors and weak scale effects, the fashion and catering industries also face pressure from consumers. For these two industries, their customers are fickle: consumers essentially have no switching costs and often even receive switching rewards.
Let's first look at the fashion industry. There is an ancient Chinese poem that says, "Alone and white, the rabbit runs east and looks west. Clothes are not as good as new, people are not as good as old" (from the Han Dynasty's "Ancient Beautiful Song"), where "Clothes are not as good as new" points out the consumption trend in the fashion industry where customers have no switching costs and even receive switching rewards.
It is important to understand that a new piece of clothing can always bring different experiences to consumers, and even if the current set of clothes is from Adidas or Nike, it never prevents them from buying Li-Ning or 361 degrees for their next set. Changing clothing brands not only does not cause any trouble for consumers but can even be very pleasing.
In the catering industry, the switching costs for customers are also very low. What was eaten in the previous meal, such as dumplings, has no impact on the next meal of noodles. Similarly, customers may even find pleasure in the act of changing suppliers: "I've eaten at this place too much recently, I almost have the menu memorized. There's a new place next door, let's try it out!"
Therefore, in the fashion and catering industries, the absence of switching costs and the existence of switching rewards mean that existing brands have no ability to prevent customers from trying and accommodating new brands. As a result, existing businesses in the fashion and catering industries are constantly facing competition from new entrants. And an industry filled with competition is destined to be very hard work.
Difficult-to-tolerate error industry characteristics
In addition to facing fierce competition, the fashion and catering industries also have a bad commonality: both industries are relatively difficult to tolerate errors, and their industry characteristics are not friendly to businesses that make mistakes.The so-called fault tolerance in an industry refers to whether a business can accumulate strength and make a comeback after a period of dormancy when it temporarily fails. In other words, it's about how easily a company can withstand the low point during a downturn in its industry cycle.
For instance, the real estate industry has a high degree of fault tolerance when financial leverage is not considered. When property sales in a market hit a low, developers only need to maintain their existing properties and land, spending a little on property maintenance costs, to weather the downturn until the real estate market heats up again: even if it takes many years. When the real estate market heats up again, old properties built years ago, if well-maintained, are not much harder to sell than new ones, and land from years ago is no different from newly acquired land.
Of course, many mainland real estate companies suffered severe damage during the real estate downturn that began in 2020 to 2022, essentially because they had leveraged too much. The ratio of total assets to equity attributable to the parent company for mainland real estate developers is often as high as 10 times or even around 20 times (although there are some very cautious companies, but after the real estate industry has been developing rapidly for more than a decade, the scale of these companies is often not large). The high fault tolerance of the real estate industry itself could not withstand the pressure brought by such a huge leverage.
Conversely, many real estate developers in Hong Kong often have a financial ratio of 2 times or even lower, such as Sun Hung Kai Properties, Cheung Kong Holdings, Henderson Land Development, Swire Properties, and so on. At the same time, Hong Kong real estate companies often hold a large amount of self-owned properties, which can provide a certain cash flow during the low period of property sales. Therefore, during the real estate downturn, thanks to the very low financial leverage ratio, these real estate developers are more likely to enjoy the advantages brought by the high fault tolerance of the real estate industry.
For example, the liquor industry is also an industry with a relatively high degree of fault tolerance. When the sales volume of liquor is low, distilleries can directly store the produced liquor. Storing liquor not only incurs little cost, as long as it is stored at room temperature, but it can also bring benefits: after the company gets through the low period, the older the liquor, the more money it can sell for.
Similar to the liquor industry is the nursery industry. When a company falls into a low period, seedlings and trees continue to grow. When the company emerges from the low period, larger seedlings often sell for higher prices: a seedling that is 50 centimeters tall and one that is 3 meters tall are definitely not the same price.
However, for the clothing and catering industries, their industry fault tolerance is very poor. Companies in these industries, when in trouble, on the one hand, have very high maintenance costs, and on the other hand, even if they spend a lot of money on maintenance, it is difficult to maintain their competitiveness.
Looking at the clothing industry first, the main costs of this industry are store rent, employee costs, and clothing costs. The first two are difficult to save when the company is in a low period, and the store rent and employee costs spent during this period are pure expenses, which cannot form effective inventory at all. Unsold clothes do have some residual value, but on the one hand, clothes that have been stored for several years are almost waste cloth, and on the other hand, the cost of clothes is only a very small part of the cost of clothing companies. Therefore, for clothing companies in a low period, the cruel industry characteristics leave them with few opportunities to turn over.
The catering industry is the same, the main costs of this industry are store rent, employee wages, and food costs, and these three are difficult to reduce after the company falls into a low period, and the cost expenditure during the low period is also all in vain, it is impossible to generate value like liquor and land when the company recovers in the future.
Therefore, the high maintenance costs during the low period of the clothing and catering industries, and the characteristics that these maintenance costs cannot form effective fixed assets, lead to the poor fault tolerance of these two industries. Once companies in these industries fall into a low period for some reason, it is very difficult to make a comeback.The ever-changing business landscape with economic development
For industries that are doing well, it is ideal if customer needs remain constant. For instance, the customer demand for hydropower and wind power is a stable current; for banks, it is capital; for baijiu, it is a specific taste; for ports, it is stable and efficient loading and unloading services; and for crude oil companies, it is crude oil, and so on.
However, the apparel and catering industries clearly do not have this advantage, as customer demands are constantly changing in small increments. Observing the evolution of popular clothing over each decade and the changes in mainstream dining trends every ten years will illustrate this transformation.
Moreover, the industry changes in apparel and catering are even more pronounced in the Chinese market. For the apparel industry, the tremendous economic growth brought about by reform and opening up has led to more drastic changes in people's clothing and dressing habits. These changes are not only reflected in the cyclical fashion trends that occur over several years but also in the different popular clothing styles each season. Even the trend of comfortable home office wear brought about by the COVID-19 pandemic has introduced new changes to the apparel industry.
For the catering industry, the change in tastes due to economic growth is just one aspect. As a country with a rich tradition of cuisine, China's continuous emergence of new dining categories adds endless variability to this market. Over the years, the changes in catering formats, such as buffets, chain restaurants, Western fast food, Chinese fast food, hot pot, and takeout, have been like a stage where "one act ends and another begins." In comparison, mature Western markets have slower economic changes and a more uniform dietary structure, resulting in less significant fluctuations in their catering markets than in China.
In the face of endless industry changes, it is difficult for any apparel or catering business to "remain unchanged in the face of constant change" and must continuously keep up with trends. However, grasping trends is not easy, and who can guarantee that they will always bet correctly on trends?
How to invest in apparel and catering companies
Understanding the common challenges of the apparel and catering industries, what should we do when investing in stocks of these two industries? I believe the following considerations will be helpful for investing in the apparel and catering industries.
Be cautious about overpaying for high valuations. First, considering the many difficulties in the apparel and catering industries, including low entry barriers, lack of economies of scale, lack of customer switching costs and even incentives for switching, as well as the significant long-term industry changes in these two sectors, investors should not pay too high a valuation for stocks in these industries.
Interestingly, due to the significant changes in the apparel and catering industries, while some companies suffer during these changes, winning companies often gain extremely high valuations from the capital market due to their short-term explosive performance (sometimes reaching tens of times book value or hundreds of times price-to-earnings ratios). Buying high at these valuations is undoubtedly a very risky move.Not suitable for distressed turnaround investments. On the one hand, clothing and catering companies are not suitable for buying high; on the other hand, they are also not suitable for distressed turnaround investments, which means buying at a lower valuation when the company is in trouble and waiting for the company's performance to reverse.
The reason, as analyzed above, is due to the low fault tolerance of these two industries. Once a company falls into trouble, it requires a lot of capital to maintain turnover, and the struggle in trouble will not bring much help for getting out of trouble in the future. Therefore, investing in distressed turnaround investments in these two industries can easily fall into the "value trap", which means that the low valuation seems to be bought, but in fact, the company's operations may become worse and worse, making the low valuation at the time of purchase meaningless.
Frequent research is very important. Due to the low threshold, high competition, and long-term changing industry characteristics inherent in clothing and catering companies, even the leading companies in the industry find it difficult to maintain a leading competitive advantage. Therefore, investors need to frequently research companies in these two industries, visit their stores more, observe the degree of customers' love for the company, and observe the changes of their competitors, so as to always have a clear understanding. Fortunately, this kind of research is not very troublesome, just need to walk around the street to eat and pay attention to observation.
Looking for the next opportunity. Due to the frequent changes in the industry and strong competition in clothing and catering companies, the best opportunity to invest in this industry is often not in the successful companies, but in the companies that have not yet succeeded and will succeed in the future. In other words, investors need to find the next opportunity company in the industry, and then buy before the company is widely known by the market, and sell when the company becomes the top flow in the market.
Choose the company that sells shovels. If looking for the next opportunity company requires too high a demand for investors' research and judgment ability, we can also change our thinking and look for companies that "provide shovels" for clothing and catering companies. That is to say, when we understand clothing and catering companies as gold miners, no matter who digs up the gold mine, this group of gold miners always needs shovels, and those companies that provide shovels are more likely to produce stable competitive advantages.
For the clothing and catering industry, the companies they rely on, such as textile fabrics, printing and dyeing, clothing processing, food supply, cold chain, and chef training, all belong to this kind of "shovel-selling company" and are worth investors' attention. Of course, appropriate or low valuation is also very important for investing in these companies. If the market has already realized that "shovel-selling companies are more stable" and the stock trading valuation is already high, then even the stable "shovel-selling companies" may not bring good returns to investors.