Li & Fung reports a mixed 2016
The year under review marked the end of our 2014-2016 Three-Year Plan. Amid a tough operating business environment, we continued to execute our strategic goals of building a sustainable enterprise for the long term, simplifying the business and focusing on organic growth. In June 2016, we divested our Asia consumer and healthcare distribution business to refocus resources on our core trading and logistics businesses
This strategic divestment reinforced the Group’s strong cash flow, strengthened its balance sheet and provided additional flexibility to its capital structure to fund future growth. In November 2016, we issued USD 650 million in perpetual securities to further strengthen our balance sheet and capital structure. As at 31 December 2016, we had USD 985 million of cash on hand as we entered into our new Three-Year Plan (2017-2019).
As part of our efforts to drive organic growth, we continued to reposition our customer base and develop deep expertise in product verticals in our Trading Network, while maintaining a strong customer pipeline. Our product verticals, particularly our furniture business, generated solid growth. Vendor Support Services (VSS) is now well established and embedded in our Trading Network. Our Logistics Network continued to gather strong momentum in organic growth, which was driven by existing and new customer growth, new geographic penetration and expansion of our e-logistics services. To improve productivity and support margin, we continued to control costs strategically. In particular, we were able to extract efficiencies and improve operating leverage with our global sourcing platform while continuing to digitalize our platform in order to help us capitalize on the vast amount of business data across our networks. This will be a crucial part of our next Three-Year Plan (2017-2019) as we focus on speed, innovation and digitalization to continue driving our businesses forward.
In 2016, turnover decreased by 11.0% year on year to US$16.8 billion. Excluding the impact of the strategic divestment of the Asia consumer and healthcare distribution business, our total turnover decreased by 8.3%. Trading turnover continued to be affected by our customers’ conservative buying programmes, soft input prices and relative currency weaknesses against the US dollar. In our Logistics Network, we continued to grow our profits organically through deeper penetration of our existing customers, new customer contracts and expansion in Asia. From a geographical perspective, the US and Europe remained the largest contributors to our total turnover, contributing 64 % and 17 % respectively.
Total margin decreased by 10.4 % to USD 1962 million, primarily due to the decline in total turnover. Excluding our strategic divestment of the Asia consumer and healthcare distribution business, total margin decreased by 6.0 % year on year. However, our total margin percentage increased to 11.7 % in 2016 from 11.6% in 2015, which was driven by the total margin increase in our Logistics Network. During the year and excluding the impact from the strategic divestment, the Trading Network’s total margin percentage held up while the Logistics Network’s total margin increased due to a better customer mix, more efficient freight procurement, and increased sales of value-added services in our global freight management business.
Operating costs decreased by 7.5 % to USD 1550 million as a result of our sustained efforts to improve operating efficiency and productivity through technology and streamlining our cost base. In particular, our Trading Network’s operating costs decreased by USD 150 million, or 10.4 % year on year, due to stringent cost control measures as well as the strategic divestment of the Asia consumer and healthcare distribution business. The Logistics Network’s operating costs rose by 10.4 % year on year as a result of investments to support organic growth through geographical expansion, warehouse operations and enhancements to IT infrastructure.
Core Operating Profit
On a like-for-like basis, and excluding the impact from the strategic divestment of our Asia consumer and healthcare distribution business, core operating profit decreased by 17.7 %. On a reported basis, core operating profit decreased by 19.6 % year on year to USD 412 million. The decline was mainly due to lower turnover and total margin in our Trading Network, as well as the strategic divestment of the Asia consumer and healthcare distribution business. The reduction in Trading core operating profit was partially offset by the 15.5 % increase in core operating profit from our Logistics Network.
Top Sourcing Countries
Our global network covers more than 40 economies, which allows for flexibility when moving orders from one production country to another to handle capacity constraints and satisfy customers’ needs. Within this global network, our top three sourcing countries continue to be China, Vietnam and Bangladesh. While China accounted for more than 50 % of our sourcing unit volume, the remaining 40+ economies all have sizable sourcing operations. We are also among the largest exporters of specific product categories in many of these countries. This comprehensive global network, combined with strong local presence, a long operating history and critical mass, is one of our key competitive strengths. As the sourcing landscape continues to evolve with the decanting of sourcing from China, multiple trade agreements and changing trading policies, such as the new border tax proposed by the new US government, we are well positioned to scale our existing operations in individual countries to meet our customers’ changing sourcing needs.
New Three-Year Plan (2017-2019)
We see the next three years as one of the most exciting periods we have embarked on. We continue to be challenged by increasing uncertainties from geopolitical and macroeconomic events, weak consumer demand, and evolving sourcing and consumption preferences. However, the state of the world and the increasing complexity of the supply chain have created tremendous opportunities. Entering into our new Three-Year Plan, our vision is to build the supply chain of the future, to help our customers navigate the new digital economy and stay competitive. With our vast experience in supply chain management, we are confident that we can help our customers excel in this tumultuous time.
We adopted a zero-based approach in creating this Three-Year Plan and took into consideration the new technologies that are now available to us in the digital economy, including digital devices and platforms and data analytics. In our new plan, we will focus on speed, innovation and digitalization of the supply chain.
In the increasingly digitized world, speed is crucial in meeting the demands of our customers, who are operating on shorter order cycles, placing smaller orders and requiring greater flexibility in inventory replenishment. Speed is one of the most important decisions driving our customers’ global supply chains. Internally, we aspire to be responsive and fast like start-up companies, by maintaining a simplified structure and employing methods such as rapid prototyping to make quick decisions.
Enhanced innovation allows us to deliver higher speed, and to improve our productivity and efficiency by doing things creatively. By innovating business models, we will be able to adapt to the fast-changing environment. We will also increase our efforts in creating new products that help our customers differentiate themselves. We will continue to build upon this with our select product verticals, which allows us to capture new opportunities and enhance margins.
Speed and innovation cannot be fully realized without the digitalization of the entire supply chain. We aim to digitalize all the key aspects of the supply chain, from product development, material costing and sampling to manufacturing. A digital supply chain is essential to service a highly digitalized marketplace. It will allow us to create an effective ecosystem that benefits various stakeholders in the supply chain. In fact, our convening power in bringing together diverse players across the supply chain and analysing their data is a key differentiator. With synchronized data, we can make better decisions on price, quality, working capital, inventory and other efficiencies. By providing end-to-end visibility for our customers and suppliers, Li & Fung will be at the forefront of providing a digital platform. Together with data analytics, it allows us to create value along the entire supply chain.
The digital supply chain, coupled with a better speed-to-market business model, will transform the supply-and-demand dynamics with our customers. As with previous Three-Year Plans, the first year will be the year of investment. In 2017, we will continue to invest in the infrastructure and systems required to achieve our Three-Year Plan goals of speed, innovation and digitalization. As part of our commitment to shareholders, our investments will be funded by our existing cash on hand and operating cash flow, and they will be made prudently and sustainably with a long-term view in mind.
As we enter 2017, we expect the global macroeconomic environment to become increasingly unpredictable and complex. Our brand and retail customers continue to face soft consumer demand and uncertainties in global retail. The highly promotional environment is likely to continue in all markets, and retail destocking will persist. Prevailing retailer and brand bankruptcies and widespread store closures will continue to pressure our business. All of these factors will keep affecting our customers’ sourcing strategies, which in turn will affect our business. The increasing strength of the US dollar will add further deflationary pressure on our non-US dollar-denominated transactions.
Moreover, the global sourcing landscape is anticipated to become more complex in view of recent geopolitical events. While the full impact of these events is yet to be seen, they are likely to result in changes in global trade agreements. In response to these changes, Li & Fung will continue to optimize its supplier portfolios and sourcing strategies to provide effective solutions to its customers. Amid this challenging backdrop, speed will be increasingly important.