Results in the first half of 2018 were lower than expected

International sales and net profit of good kids rose 34.3 per cent and 6.6 per cent to HK $4.426 billion and HK $133 million respectively in the first half from a year earlier. Earnings per share are HK $0.08. Due to the bankruptcy of the main customer Toys R us and the slowdown in the growth of domestic durable goods sales, the company's performance was lower than we expected.

Excluding the impact of mergers and acquisitions: assuming that the Oasis Dragon acquisition is completed in January 2017, exam preparation income in the first half of 2018 increased by 6.1% compared with the same period last year, while operating profit decreased by 19.3%.

Excluding non-recurring accounting items: excluding costs related to stock options, amortization of intangible assets and inventory appreciation, as well as one-time bad debt provisions and other losses, non-general standards operating profit and net profit increased by 46% and 35.1% respectively compared with the same period last year.

Sales of private brands increased by 39.5% over the same period last year, and blue-chip sales increased by 8.8%, accounting for 86% and 14% of total sales, respectively. Sales in China and Europe, the Middle East and Africa grew 5.4 per cent and 26.5 per cent year-on-year, respectively, while US sales fell 6.6 per cent. In terms of brands, Cypress and good Boys increased by 24.9% and 8.8% respectively compared with the same period last year, while Yinfele fell 6.6% from the same period last year. The decline in sales in the United States and the infant Fuller brand was mainly due to the liquidation of Toys R us.

Gross profit margin rose 5.7 percentage points year-on-year to 42%, mainly due to an increase in the sales share of core strategic brands and the acquisition of new business (higher gross margin and increased operating expenses), while increasing the rate of sales management expenses by 7.1 percentage points.

Trend of development

We expect the company's non-durable goods business to continue to grow, while domestic durable goods sales will resume growth. With the channel adjustment, the impact of Toys R us bankruptcy liquidation in the second half of the year may gradually weaken.

Profit forecast

Considering the lower-than-expected interim results, we cut our earnings per share forecasts for 2018 and 2019 by 12% and 14% to HK $0.26 and HK $0.3, respectively, corresponding to growth rates of 141.5% and 15.2%, respectively.

Valuation and suggestion

The current share price corresponds to 13.4 times 2018 earnings and 11.7 times 2019 earnings. Maintain a neutral rating, lowering the target price by 14% to HK $3.89 (corresponding to 13 times 2019 price-to-earnings ratio; 11.5% upside from the current share price). The growth certainty and profitability of the non-durable goods business are expected to improve, but the recovery of sales in the United States remains to be seen.

Risk.

Online brand competition; growth trend slows down.