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Birth of a Hidden Champion: ABC-Mart and Masahiro Miki

Dear Clients and Partners,

Birth of a Hidden Champion (Issue 2): ABC-Mart and Masahiro Miki

Welcome to the second issue of the “Birth of a Hidden Champion” tribute series where we highlight inspirational stories on the listing birth of Hidden Champions creating and compounding value in the Asian capital markets.

Last week on 19 October 2000, a Hidden Champion was born. ABC-Mart (TSE: 2670) was born as a listed company in Japan and, led by billionaire founder Masahiro Miki, she went on to compound 530% to a market value of over US$4.1 billion.

Below is an excerpt from an article “Making Right Buffett’s Biggest Mistake in Asian Wide-Moat Innovators” written back in May 2015 which is still relevant today in understanding why ABC-Mart has succeeded in compounding value.

PS: An update on the 2nd anniversary of our Hidden Champions Fund – our YTD (January to September) 2017 returns (net after fees) is over 20%, with our Fund benefiting from the flight-to-quality effect as the overall market retreats while we see a 7.9% gain in the month of September, bringing our total absolute returns to over 37% since our inception in September 2015. We like our clients to ask us tough questions to make intelligent decisions. Our first HNW client who invested $1 million with the Fund in June 2017 after asking tough questions, and in the process appreciated the high-conviction investing approach to achieve investment resilience, is up over 18% in returns since our initial launch offering event that we held four months ago in June. We also have had existing clients subscribing additional capital into the Fund. We will be extending our Founding Partnership Cash Bonus till the end of October for both existing and prospective clients before our Fund soft closed. For investors who like to participate in the long-term non-linear growth of the underappreciated emerging Hidden Champions, please drop us an email at invest@hiddenchampionsfund.com to find out about the subscription process.

Warm regards,

KEE Koon Boon | Chief Investment Officer & CEO

Hidden Champions Fund

www.hiddenchampionsfund.com

Making Right Buffett’s Biggest Mistake in Asian Wide-Moat Innovators (Excerpts)

Masahiro Miki is the low-profile secretive billionaire founder of ABC-Mart who worked alongside employees in stores during weekends. Miki owns around 30% of ABC-Mart and is ranked #11 on Forbes richest Japanese list with a net worth of $3.5bn. Not many people know that Miki-san is Korean-Japanese with a Korean name of Kang Jeong-ho, as he seldom shows himself in public. Like Dexter’s Harold Alfond who was an outstanding athlete and developed his passion for sports, Miki was an amateur boxer and sports lover. Miki, who had been interested in import clothing retail, switched to selling shoes when he realized that the Japanese shoe industry was not particularly competitive. Kokusai Boeki Shoji (International Trading Corp) was established in 1985 in Tokyo’s Shinjuku ward. Miki pursued brand businesses early on by securing domestic general-distributor rights to Hawkins in 1986 (it acquired trademark rights in 1995) and Vans in 1991 (it concluded a domestic trademark usage contract in 1994). This brand-management know-how has contributed greatly to ABC-Mart’s private brand-driven growth strategy. Miki entered the retail market in 1990 with the launch of ABC-Mart and opened four stores in central Tokyo that sold sneakers and work boots, riding the casual fashion trend at that time. In the late 90s, ABC-Mart accelerated the rollout of self-branded products utilizing the trademarks it had acquired, and broadened coverage by adding business and walking shoes.

ABC-Mart compounded its market value nearly 10-fold since 2000 to $4.4bn by streamlining the procurement structure and removing the middlemen from Japan’s multi-tiered shoe retailing structure and built a high-margin format. This was made possible with two innovations.

First, ABC-Mart sold private brand products directly procured from manufacturers that account for half of its total sales. ABC-Mart has earned a reputation for purchasing low-priced foreign product lines and then repositioning them as a major private-label brand through well-targeted product development and promotion. Hawkins is a prime example. ABC-Mart founder Masahiro Miki spotted the brand’s potential during a trip to London. It ultimately won the trademark to manufacture the Hawkins brand as its own private label. It targets younger women and now generates 20% of ABC’s sales. In addition to becoming a sales engine, the Hawkins experience has given ABC-Mart knowledge about shoe production costs that has helped the company negotiate better deals with other shoe manufacturers.

Another example: ABC-Mart carries two types of New Balance-brand shoes: the national lineup available at numerous retailers and an exclusive line produced in collaboration with the U.S. manufacturer. The latter, planned and designed by ABC-Mart, features limited-edition colors and prices that are slightly lower than the national line. The arrangement works for both ABC-Mart and the manufacturer. With the exclusive line, New Balance only has to tweak small design details, materials and color, making the partnership an easy way to drum up sales and recoup costs. Those exclusive products are also less susceptible to discounts, since they do not face price competition in the same way as products sold at multiple retailers. Shoppers often look at a shoe in a brick-and-mortar store, but ultimately purchase the same item for less online. But ABC-Mart’s exclusive products are available only at its stores, allowing it to secure profit even if the retail price is set lower. Gross margins on private-brand products are fatter at around 70% as compared to around 40-45% for non-PB products. Thus, the real wide-moat innovator knows how to redefine a product’s quality, cost and price to better meet consumer needs.

But a potential downside to the private brand strategy is ABC-Mart’s responsibility for the entire stock. If it misreads trends, the retailer can be left saddled with leftover inventory that cannot be returned to the manufacturer.

Thus, the second innovation is the ability to gauge consumer trends and demand. ABC-Mart was an early pioneer in installing POS systems when it first entered the retail market in 1990 and manages product flow on a single-item basis. Industry leader Chiyoda introduced the POS system only in 2008. It effectively controls inventory risk by keeping close tabs on popular and fading items, adjusting store product policies based on this information and capitalizing on a procurement structure with direct upstream links. Product management is via POS, giving the head office and each store a view of sales and inventories. Front-end consumer intelligence data was also harnessed. Acting on feedback from customers who wanted to wear sneakers but were more comfortable wearing heels, ABC-Mart developed a full line of sneakers with hidden wedge heels. These shoes flew off the shelves to become a major contributor to sales.

ABC-Mart also sought to solve the inventory challenge with an innovative in-store service that allows customers to directly place orders for shoes that are not in stock at its brick-and-mortar stores to the shoe retailer’s web outlet. Customers can place orders for shoes of any desired model or size from the in-store terminal when they are out of stock at the outlet they visit. They pay for the shoes there and then, and can choose to arrange home delivery or pick up the goods the next time they visit. The number of outlets that provide such services is around 600, roughly 80% of all ABC-Mart stores in Japan. The iPhone-based service, called “iChock,” minimize missed business opportunities due to items being out of stock as well as to reduce inventory at each store and improve capital efficiency.

With its extensive name-brand lineup and exclusive private-brand products, sales has been brisk despite the April 1 2015 sales price hike, posting a 12th year record high profits. While ABC-Mart has been the poster child of deflation-era retailing, with stores advertising shoes for as little as ¥2,900 ($28) and ¥3,900, along with clearance sales, it has found success in rolling out products that appeal to fashionistas who do not mind paying a little extra for style. ABC-Mart stores are also hot spots for many Chinese tourists who buy four or five pairs at once. ABC Mart found overseas success with over 180 stores, with over 150 stores in South Korea and the rest in Taiwan.

In Aug 2012, ABC-Mart also completed the $138m purchase of LaCrosse Footwear, a rival to Berkshire’s HH Brown and Justin Brands. Workwear consumers of the LaCrosse and Danner brands in America include people in law enforcement, transportation, mining, oil and gas exploration and extraction, construction, government services and other occupations that require high-performance and protection footwear as a critical tool for the job. Outdoor consumers include people active in hunting, hiking, outdoor cross-training. LaCrosse purchased storied bootmaker Whites Boots in 2014. Both these brands also sell well in Japan.

We have emphasized in earlier articles our observation that most Asian companies are “one-man-shop” operations with the founder making all the decisions. The willingness to build a culture of decentralization/ empowerment and invest in a system to cascade decision rights throughout the organization is an important signal that the founder desires and cares to scale up the company in a sustainable manner by not hoarding knowledge. Technology is an important tool in empowering the employees and in giving them an informational advantage in their respective roles and responsibilities at work.

Sam Walton himself solved the major problem of inventory and working capital to scale up the business by having a continual commitment in the intangible IT investments. Sam Walton’s penchant for a reliable and speedy information system is grounded in pragmatism: “Once we had those scanners in the stores, we had all this data pouring into Bentonville over phone lines. I like my numbers as quickly as I can get them. The quicker we get that information, the quicker we can act on it. What I like about it is the kind of information we can pull out of it on a moment’s notice.”

Both Sam Walton and Masahiro Miki faced a lot of resistance and doubts when they spent heavily on IT system – the money could have been spent on tangible assets like property. In the end, the scale and constancy of the investments involved in building the indestructible intangibles discourage imitators and disrupts complacent incumbents. They “stick to their guns” and that made all the difference to understanding the wide-moat advantage that they have built up. The Heart of entrepreneurship is summed up best by Sam Walton in his inspiring autobiography Made in America:

“It is a story about entrepreneurship, and risk, and hard work, and knowing where you want to go and being willing to do what it takes to get there. It’s a story about believing in your idea even when maybe some other folks don’t, and sticking to your guns.”

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About bambooinnovator
KB Kee is the Managing Editor of the Moat Report Asia (www.moatreport.com), a research service focused exclusively on highlighting undervalued wide-moat businesses in Asia; subscribers from North America, Europe, the Oceania and Asia include professional value investors with over $20 billion in asset under management in equities, some of the world’s biggest secretive global hedge fund giants, and savvy private individual investors who are lifelong learners in the art of value investing. KB has been rooted in the principles of value investing for over a decade as an analyst in Asian capital markets. He was head of research and fund manager at a Singapore-based value investment firm. As a member of the investment committee, he helped the firm’s Asia-focused equity funds significantly outperform the benchmark index. He was previously the portfolio manager for Asia-Pacific equities at Korea’s largest mutual fund company. KB has trained CEOs, entrepreneurs, CFOs, management executives in business strategy, value investing, macroeconomic and industry trends, and detecting accounting frauds in Singapore, HK and China. KB was a faculty (accounting) at SMU teaching accounting courses. KB is currently the Chief Investment Officer at an ASX-listed investment holdings company since September 2015, helping to manage the listed Asian equities investments in the Hidden Champions Fund. Disclaimer: This article is for discussion purposes only and does not constitute an offer, recommendation or solicitation to buy or sell any investments, securities, futures or options. All articles in the website reflect the personal opinions of the writer.

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