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Edited Transcript of 2331.HK earnings conference call or presentation 14-Aug-19 1:00am GMT

Half Year 2019 Li Ning Co Ltd Earnings Presentation (Chinese, English)

Kowloon Aug 14, 2019 (Thomson StreetEvents) -- Edited Transcript of Li Ning Co Ltd earnings conference call or presentation Wednesday, August 14, 2019 at 1:00:00am GMT

TEXT version of Transcript

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Corporate Participants

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* Ning Li

Li Ning Company Limited - Founder, Exec. Chairman, Interim CEO & Head of Business Development, Corporate Strategies & Planning

* Wah-Fung Tsang

Li Ning Company Limited - CFO

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Conference Call Participants

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* Dustin Wei

Morgan Stanley, Research Division - Equity Analyst

* Xiaopo Wei

Citigroup Inc, Research Division - Director & Head of Asia-Pacific Consumer Research

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Presentation

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Operator [1]

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Good morning, ladies and gentlemen. Welcome to the investor presentation of Li Ning Company Limited. Li Ning has just announced its 2019 interim result this morning. And we are happy to have the management to present the company's financial and operational updates as well as the future plans with us. So first, let me introduce the company representatives on the panel today. Mr. Li Ning, Executive Chairman and Interim CEO; Mr. Terence Tsang, CFO of the company. Now let me pass the time to Terence to help you walk through the financial figures first.

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Wah-Fung Tsang, Li Ning Company Limited - CFO [2]

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Good morning. Thank you, and welcome, everyone. During first half of 2019, we have a one-off nonoperating income in the amount of CNY 234 million, mainly attributable to our share of gain on real estate sale from our associate, Double Happiness, partially offset by provision of goodwill impairment. Now all discussions in this presentation exclude the net effect on the above.

Financially, we start to capitalize on the improvement we made to our brand, product and channel. We successfully achieved substantial financial improvement as we saw a 33% revenue growth with net profit margin increased by 330 basis points to 9%. Such improvement was mainly driven by 1 percentage point expansion in gross margin and almost 4 point in expense ratio reduction.

We are able to continue our improvement in operating cash flow, which increased by 107% to reach CNY 1.37 billion. In addition, we continued to accomplish significant improvement in our working capital. Our gross working capital was down 16% while revenues went up by 33%. Our cash conversion cycle further improved by 13 days to 32 days.

Operationally, we achieved low 20s growth for total platform retail sales, including both online and offline channels for the LI-NING core brand. Our channel inventory continued to improve. Overall, same-store sales accelerated to mid-teens in the first half of 2019.

Our new product performance continued to improve with new product sellout rate improved by over 2 points as compared to the same period in 2018. In addition, discount rate improved by over 1 percentage point. As a result, we could see our improvement in retail capability.

Now let's take a look at revenues. During the first half of 2019, our revenues climbed 33% driven by 33% growth in both footwear and apparel, reflecting that our balanced product initiatives start showing results.

Our balanced channel strategy continued working well for LI-NING core brand as all 3 channels achieved double-digit growth. The electronic commerce channel continued its growing trend over the past few years with sale revenue rose 39%. Contribution from the e-commerce channel rose to 23% of the total from the previous 22%. The direct retail grew 12% driven by high single-digit same-store sales growth. Our wholesale rose 45%.

Now during the first half of 2019, we have executed our channel realignment through moving certain fragmented markets from our direct retail to distributor, which we believe will allow us to further develop those markets more efficiently and effectively. Hence, the revenue mix contributed from the wholesale has increased from 44% to 48%. The key here, again, is the DTC, the direct-to-consumer segment accounted for over 50% of the LI-NING core brand revenues, giving us a balanced penetration between wholesale and DTC channel.

On the right-hand side of the slide, you can see that our sales from new product category aged 6 months or less declined by 2 points. However, the discount improved on both new and old products, leading to over 100 basis point improvement in overall discounts. Now both new and old products saw double-digit growth with higher increase from old products as we accelerated the inventory clearance on products of the first half of 2018 due to a lower sellout rate experienced last year in the first half products as discussed before.

Coming to the same-store sales performance. Our overall same-store sales growth increased to mid-teens during the year. Our offline SSSGs stood at low teens driven by low teens growth in our wholesale and high single-digit growth in direct retail. Meanwhile, our online SSSG ran at a steady mid-30s for the period.

As far as our channel strategy is concerned, the number of stores for total platform increased by 396 as compared to June 2018, of which, 155 new stores were for the LI-NING core brand. LI-NING YOUNG store count has reached 872, adding 241 stores during the last 12 months. With our e-commerce expansion strategy driving a mid-30s growth, total online and offline sell-through grew by 22% continue to break new high.

Our offline channel recorded a growth of 20% driven by a high single-digit increase in average selling price as well as low teens growth in unit volume. Wholesales of LI-NING brand, excluding international and LI-NING YOUNG, saw a 45% increase with the number of store up 278 over same period last year. Now our store counts went up due to the launching of China LI-NING stores and 126 stores transferred from direct retail platform as discussed earlier.

As you can see from the right-hand side of the slide, excluding the specialty wholesalers for badminton and soccer, our sell-in was up by low 20s -- low 40s compared with a mid-20s increase in wholesaler retail sell-through. Now we saw most of our wholesale partners continued their improvement nicely with better gross margin.

The higher increase in sell-in against increase in sell-through was contributed by 2 main reasons: first is the improved delivery discount in the sell-in to distributor, coupled with lower tax rates; secondly, as the distributor are opening larger-sized stores and the China LI-NING stores, which have much higher store productivity as well as taking over the direct retail markets as discussed before, initial fulfillment on the new stores also generate a much higher increase in sell-in versus retail sell-through. We will keep striving to maintain the balance between sell-in and sell-through to ensure channel inventory is in a healthy state.

As far as trade fair order concern, order for the first quarter of 2020, excluding LI-NING YOUNG and China LI-NING stores, reached a high teens growth, reflecting the continued improvement in business health and confidence of our distributors.

Now moving on to retail channel. The revenues of directly managed stores went up by 12% with 123 stores less in ending store count compared with the first half of 2018. The sales growth was greatly attributable to the 300 new store opened in 2018 and '19 while the high single-digit growth in SSSG contributed a sales increase of CNY 115 million.

However, the sales growth was partially offset by negative sales impact from the closure of 349 stores in the same period, and the transfer of stores discussed before also impacted negatively on the direct retail revenues by CNY 44 million. Due to high single-digit SSSG and improvement in new store productivity, our store -- 4-wall store contribution improved to high teens compared to -- with mid-teens in the first half of 2018.

We are encouraged with continued improvement in our retail direction -- retail operations as a result of all the investment and focus we made over the last few years. Still, we believe that there are still potentials for improvement in our store productivity and profitability.

Turning to gross margin. Our gross margin improved 1 percentage point during the period driven by improvement in wholesale gross margin that was attributable to the improvement in delivery discount for both new and old products sell-in, contributing 2 percentage points to the overall company gross margin; improvement in product gross margin in direct retail due primarily to discount improvement on both new and old products sell-through, contributing 0.4 percentage points; dilution in channel mix due to higher increase in wholesale as well as additions of LI-NING YOUNG, which is also a wholesale business, deducting 0.8 percentage point; additions in inventory provision and increased investment in R&D, deducting 0.6 percentage point.

Now let me walk you through the profitability analysis. We could see an improvement in net profit margin driven by 33% top line growth, coupled with improved gross margin rates, adding CNY 814 million in gross profit.

As far as expenses are concerned, we carry our disciplined cost control and variable cost to ensure better leverage, which is the main thing in the first half of this year. As you can see from the slide, the total sales-related variable costs such as commissions, direct store expenses, logistics as well as new business buildup expenses, increased a total of CNY 219 million, representing 14.2% of incremental revenues, which is way lower than the 29.8% for same period in 2018. This efficiency is contributed by solid increase in our DTC same-store sales growth as well as the larger increase in wholesale revenues, which carry a much lower variable cost than the DTC. We have rationalized our fixed cost structure in order to fund the investment in our retail operations and product organization.

As you can see, our other platform expenses increased CNY 145 million driven by staff cost increase. This increase was resulted from accrual of additional bonuses due to over-target performance as well as increased headcount in sales, product and supply chain organization that we have planned.

Our advertising and promotion expense increased CNY 64 million or 13%, but from a percentage of revenue standpoint, that reduced from 10.5% of revenues in 2018 to 8.9% in 2019. As a result, our operating margin improved from 6.2% in 2018 to 11.4% in 2019 after adjusted for the one-off nonoperating goodwill provision we talked about earlier. The negative impact on this accounting change has added CNY 20 million in the interest expenses, causing our net interest a negative CNY 8 million.

Now I just want to point out on this slide, this CNY 20 million is included in the sales-related variable costs as part of the store expenses for analytical purposes. Consequently, our net margin improved by 3.3 percentage points to 9% from 5.7% a year ago.

Moving on to channel inventory. Our channel inventory increased low single digit to support a low 20s increase in retail sell-through. Our inventory turnover cycle exhibited continuous improvement and further shortened to 4.8 months compared with 5.6 months in the first half of 2018.

Counting on pure store inventory only, the inventory turnover months stood at 3.7 months. This result validated the positive impact of the improved inventory management and sales executions. The proportion of inventory aged over 6 months improved to 26% from 28% in the same period last year. At the company level, our gross inventory rose 14%, which is much lower than the 33% revenues growth.

The proportion of inventory aged over 6 months improved 3 percentage points to 28% from 31% a year ago. With that, we digested majority of the negative impact due to low sellout rate of product in the first half of 2018, validating the success of our inventory control.

The over 12-month mix increased 3 points is mainly a result of our strategy, having our direct retail division handle most of the inventory clearance of old products through our own outlet and factory discount stores. This is why you see a healthy mix under this category in the channel inventory slide before. We maintain a good balance between current inventory level and aging structure in supporting a healthy business growth.

As far as trade receivables are concerned, our gross trade receivables dropped by 28% on the back of a 33% increase in revenue, leading to a significant improvement in days sales outstanding. Our current mix stabilized at 31%, and we are very pleased with our receivables management. With continuous improvement in sell-through with better discount, we believe that our channel is very healthy, and the majority of our distributors are profitable.

As far as working capital efficiency is concerned, our working capital has further improved to a very, very healthy level. Gross average working capital was down by 16% to support a 33% growth in revenue. Working capital as a percentage of our revenue declined by another 6 points to 11%, giving us plenty of room to further support our business expansion.

We substantially improved our balance sheet and cash flow. Our operating cash flow increased 107% to CNY 1.37 billion. Even excluding this accounting change impact, it was still up 87% at CNY 1.23 billion.

Consequently, our net cash improved by CNY 1.67 billion to CNY 4.7 billion. We are planning to use this cash for investing in our business expansion with channel and categories as well as LI-NING YOUNG. In addition, we will make further appropriate investment in our brand elevation and operations to support a consistent, sustainable, healthy business growth.

Looking back on the first half of 2019, we are pleased with our solid performance. We delivered a very healthy top line growth driven by solid same-store sales growth in all categories.

We achieved in -- our operations expectation with improved gross margin and disciplined cost control even with significant investment in expanding our product and sales merchandising organization as planned. Throughout the period, we grew the LI-NING YOUNG business as planned and built the foundation for sustainable revenues and profit growth in the next few years.

Also, we greatly improved our working capital and cash flow for a healthy business growth, particularly in our inventory month-to-sales ratio and receivable days sales outstanding in addition to a solid cash position, allowing us to invest in brand and business expansion. For the full year of 2019, we revised up our target with top line growth at low to mid-20s with net profit margin at 8.5% to 9%.

And now Chairman will walk you through the details of our business operations and plans. Thank you.

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Ning Li, Li Ning Company Limited - Founder, Exec. Chairman, Interim CEO & Head of Business Development, Corporate Strategies & Planning [3]

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[Interpreted] Thank you, Terence. Good morning to you. This year, because of the sports industry trend and also with the country's policy which had been very positive and encouraging for the sector, therefore, this sector had been growing significantly. And at the same time, there had been some new models of operation, including the gaming, electronic gaming entry into the market, so that the industry had been growing.

And we expect by 2020 for electronic gaming in China, the market may be as high as RMB 37.5 billion in terms of market size. This is a new trend among the young people, and this will contribute to the way that our sector will be operating.

And we continue with our policy and strategy of one single brand and multiple categories, diversified channels (sic) [Single Brand, Multi-categories, Diversified Channels], and we would be continuously promoting and expanding on our Li Ning experience and also promoting our brand name to achieve even better competitiveness.

In this period, product channel and retail operation as well as supply chain are the main points of our business. Around these 3 pillars, we continue to work deeply and increase our competitive edge. At the same time, we will be closely following the young people's consumer trends and also trends in the -- why the social cultural developments, so as to optimize our channel structure and also achieve online/offline synergistic achievement so as to increase our productivity as well as our sales.

And at the same time, we have invested into technology and product R&D as well as promotion and marketing so as to enhance our competitiveness in our products and also in our brand name. In terms of numbers in the first half of the year, we had increased 22% in terms of our core products' retail sell-through. And also, you can see from the numbers that for sports casual and basketball, they have increased by 54% and 44%, respectively, in terms of sales. And this is exactly the market trend. People's consumption and people's consumption demand are changing, and they are more going towards sports casual in their preference.

In running products, we have continue to accumulate our experience, and we are transforming. In the first half of the year for running products, our retail sell-through had been dropping as a result.

Now let us look at the different categories and the results for this period. First of all, in terms of basketball, which had always been strong for us, we have been following even closer the young and the vibrant consumer groups. Because basketball -- this is the idiosyncrasy of this particular sport. The people that have the demand for consumption in basketball products are relatively young. We focus on them, and we focus on the current trends so that the products really speak to the consumers, in particular, the young consumers.

In terms of sales, our CBA league and also with our professional basketball matches, we have together come up with a 3 plus 1 street basketball competition and also the Li Ning Basketball Academy. Through these efforts and others, we have been able to build up a word of mouth for the basketball products of our brand. And at the same time, we have flexibly used online/offline integration and also diversified resources so as to serve our sales and also to create new product types for basketball.

And for our functional products, there are -- in the first half of the year, we have the Sonic and also 2 new shoe types, which had been very good in terms of performance. Altogether, the sales had been 160,000 pairs. And in the 3 months, these new products, the sellout rate had been over 45%. That is very encouraging.

And for NBA stars, C.J., we have signed the -- C.J. as our spokesperson, and the theme would be to bring up a new wave of hot topic and trendy attention among the consumers.

In terms of apparel, we have a number of apparel series, including WADE and BAD FIVE apparel series. And in the first half of the year, it had been very well received. In particular, we have sold over 2.1 million pieces of apparel.

And in particular, it is an attitude thing for BAD FIVE and WADE, and it had been widely accepted, in particular, by the young. And in the first half of the year for the city trend and also for under BAD FIVE, we have come up with new products, in particular, targeting the even younger ages and the teenagers.

So we continue to come up with new products corresponding to the new trends. So BAD FIVE for the first half of the year, we had sold over 3.2 million pieces. And also in the 3 months, the new product sellout rate had been very encouraging at 55%.

As for running, in this category, we have come up with the mass market running consumption because we do see a -- more people wanting to run. And in this area, we have come up with new products and including the Super Light 16th generation running shoes. And in the first half of the year, it had sold over 500,000 pairs. And at the same time, we have come up with a V8 trendy running shoes, and this is very trendy in terms of design. And it had been exposed and promoted in various platforms. So this is to increase our brand image of sports plus trendiness.

And at the same time, we focus on the core products for running and also the professional running products. And we have to accumulate experience, and the team will have to continually explore and research and develop so that we can come up with professional running products, running shoes. And there will have to be certain breakthroughs in this area, and our team is continually doing so, so as to come up with the relevant products that are not only in keeping with our image but also really speak to the consumer groups and also to open up a new window for our business.

And so starting from last year or even early -- earlier, we have been accumulating technology and know-how in this area in R&D. At present, we look into the real actual needs of the runners, and we have been continually testing and accumulating experience. And as I have mentioned earlier, there is the LI-NING bèng technology platform, which is a very important platform for us, and it comes with certain very encouraging results. In the first half of the year, this had been one of the major areas of our efforts.

For LI-NING bèng development and exploration, we have, in the first half of the year, come up with a platform, which is the LI-NING bèng light and bouncy technology platform. And this is -- this technology is used in professional running.

And in the first half of the year through 11 marathon races, we have continued to test and to improve the technology and the products. And we have accumulated very good experience, and the LI-NING bèng running shoes had attracted a lot of attention among the professional running circles.

And in the Qingdao Marathon in May of this year, we have come up with a bèng go, and the fast runners will win kind of theme so as to shine a spotlight on our products. And it has become a very hot topic among the runners in the Qingdao Marathon.

And then I want to say that we will continue to come up with new products under LI-NING bèng, and we'll continue to tap into this market. And would you, please, pay more attention to it?

And as I've mentioned, we adopt a strategy of Single Brand, Multi-categories and Diversified Channels. This also goes for our training products as well. And we very finely separate the market into fitness training, active training, essentials and refined women's fitness training needs. And in the first half of the year in Beijing, Shanghai, Guangzhou and Xian and Hangzhou, we have simultaneously launched the 45 seamless No Boundaries Fitness Challenge competitions in these 5 major cities to create a professional reputation for our products. So we focus on these functional spots. Would you, please, take a look at the video?

(presentation)

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Ning Li, Li Ning Company Limited - Founder, Exec. Chairman, Interim CEO & Head of Business Development, Corporate Strategies & Planning [4]

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For this series, our activities participation had been over 2,000. And also we have been promoting among the media so as to create hot topics and also attention, high level of attention for our series.

At the same time, for training apparel, our performance had been good. For the sales for new products in the first half, it had been 4.4 million units for sales volume, and the celebrate had been 54% for new products. And this is rather encouraging in terms of performance.

As for sports casual category, we have been continuing with a very good word of mouth as well as attention in the market. And in the first half of the year, this had been one of our highlights. In terms of the products launched, we have been focusing on young and also trendy, and we have been following very closely the trendy elements. The team had been very closely looking at the elite spot and also the young sports and trendy feel. And this would include a number of brand crossover and also in digital marketing so as to increase our competitiveness in sports casual.

In the first half of the year, for sports casual, our apparel series sell -- sold 5.2 million units. And also we came up with 2 new products that is Sports DNA and Li-Ning Culture. And these products in the first half of the year, for these new products, the sellout had been encouraging, and we have sold 40,000 pairs of these shoes in the first half. And we will continue to develop our new products. This is the major trend in the market. So we will proactively look into brand crossover, cooperation and different marketing channels, including entertainment marketing so as to reach our consumption groups and also to reach our sectors and raise our core brand and products within these sectors of the consumers.

Now -- just now, we talked about crossover series. This is something that we have been focused on in the past 2 years. Not only will this allow our brand to be younger in outlook and providing more room for our further development as well as developing bigger consumption circles or sectors and also to increase the productivity of our brand.

In the first half of the year, we have come up with Li Ning plus Disney, a crossover with Disney, providing a fun and vibrant feel to our brand and also our products. We also work together with characters of Disney such as Mickey, et cetera.

And also we have worked with RNG and Newbee e-sports team, and e-sports is very trendy among our consumption or consumer groups. So we have cheer for Chinese Players, and we also assisted a battle of glory. So these are some of the crossovers that we have done.

And also in the movie industry, we have also been working with them, and we have been working with XLARGE or XLARGE and X-girl of Japan and also in Los Angeles, People's Daily. We have worked with them as well, and we have come up with this new attitude image. And also with David Flores, we have worked with them as well.

As for the products, we have been looking into special product designs so as to really be able to come up with different feels, for example, the reminiscence feel and also the young feel. So on the one hand, we have been able to access our consumer sectors, and at the same time, we have been able to build that rapport with them. And we have also added some new sports DNA with trendy design with them, for example, fluorescent and other design features, which, I would say, would be attracting and had been attracting eyeballs.

Apart from crossover, we have been making breakthrough continuously. We would like to capitalize on the product innovation to continue to lead the culture and trend. On 22nd June this year, well, the 2020 spring and summer Paris Fashion Week ended successfully. And you may be aware that we had exhibited 2 sets of apparel during the week. So by means of this theme of reaching Paris, we are able to make use of table tennis in the apparel series as an entry point. So in this way, we are showcasing the imagination and creativity of the LI-NING brand.

At the same time, there is also the element of paying tribute to the 32nd Summer Olympic Games. So during the Fashion Week, there is the related China LI-NING (foreign language) theme being read up to 270 million times. So there was widespread coverage on media to LI-NING brand. The Fashion Week is an important platform for us to convey our brand's unique characteristics and value.

So if you look at all the details and the theme and so on, they represent the continuous attempts and ingenious efforts of our team. We have attracted a lot of attention during the Fashion Week, and also buyers from New York, London, Milan, Paris also like our products. So they are coming to make procurements, and they want to cooperate with us as well.

At present, the 2020 spring/summer show items are already online in our e-commerce platform. And in the second half of this year, they will be sold in 25 overseas buyers' stores, online shopping platform and 2 Hong Kong boutiques.

In the past few years, we have been enhancing ourselves and transforming ourselves. So in terms of channel retail operation, we have been working to diversify our channels and to achieve reform in terms of the way of selling and retail operation.

We have been searching new channels in order to improve the efficiency of the channels. So by means of offline or by means of building offline digital stores, we are able to better understand consumers' needs. And then we have been more accurate in relation to the display of merchandise and also in our understanding of consumers, in our investment in shop front and so on.

Big data gives support to precise marketing so that we are able to seize consumption needs, which is getting more and more diversified. And online/offline integration has given better consumer experience to get more recognition from consumers. And eventually, this will generate more business opportunities for us and enhance channel efficiency.

For e-commerce business in the first half of the year, you can say that we have been working very hard. In terms of revenue and profitability, we performed well. In the first half of the year, in terms of product creation and innovation, we have put in a lot more assets. For example, on e-commerce platform, we focused on creating an independent product line Counterflow series. So by crossover and very rich themes, we are showcasing our new products.

And today, 2 very representative products are displayed here. So here, you can see these products under the counterflow series. At the same time, big data helps us see better user or customer group positioning. And then there are also many programs on WeChat and video live broadcast as well.

So I think now we should not stick to traditional means. We have to go for more diversified customers. We need to know where to find them and achieve a better connection between them and our products so as to enhance our efficiency. So in the future, on e-commerce, we will dig deeper into the demand in order to expand our business.

During this period, we continue to focus more on high-performance stores and also specialty or professional sport stores and so on and experience stores. And there are also factory stores for the purpose of clearing inventory.

So on different channels, we make use of very diversified methods to improve channel efficiency. We focus a lot on shopping malls and outlet channels. We improved channel structure and strengthened the strong points and we improved coverage of the weaker markets. At the same time, we look at merchandise plan for more channel differentiation in order to enhance our visual image. By means of digitalization, we want to improve our way of contact with customers in order to upgrade consumption experience.

In first half of this year, for stores with high productivity, this strategy is being expedited in the whole country. I would like to illustrate with a few examples of stores with high productivity. So if you look at the average monthly sell-through or same-store sales growth, they performed very well. So this shows that our channel strategy is very effective and it is in line with our brand development strategy. Store with high productivity delivers excellent consumer experience and also good products and services. At the same time, by means of a diversified theme display, we're able to better showcase Li Ning's products, so consumers can better feel the fashion trends. There is very experienced interaction within the stores. As a result, consumers can have more understanding and recognition of Li Ning brand culture.

During this stage, for sports casual, including China Li Ning, it is our important growth driver of our results. Here you can see some representative China Li Ning stores. In terms of the number of stores, it is at a satisfactory level. For these stores, they are in the core business circle in Tier 1 cities in China. On average, the monthly productivity is above $1 million. As of the end of June this year, there are altogether 70 China Li Ning stores. At the end of this year, we hope that it will increase to 100 to 120 stores, so that there will be better market layout for China Li Ning stores.

We want to achieve a business model with retail mentality as the foundation. So from merchandise planning, development, sales mix, store retail, inventory handling, cash flow management and so on, all these have to be further perfected. So the goal is that by enhancing the efficiency of one single element, the next elements can also be further enhanced. So with this cycle, we are able to improve our overall retail operation efficiency. If you refer to data on this slide, you can see the gradual realization of our improvement. Some data had already been mentioned in our financial presentation part, so I will not repeat the details.

In relation to supply chain, we continue to step up the speed of reaction and elasticity of our supply chain. So we want to rationalize the resource allocation in a multi-dimensional way, so that we can be more precise and fast in supply chain system. Besides in building our own supply chain, well, our shoes factory in Guangxi in Nanning had already started production. In the future, we'll continue to enhance our own core competency within our self-owned system.

We want to improve our supply chain management and R&D technology and application. This is our long-term strategy, which is in line with our strategic goal.

For LN YOUNG, in the first half of this year, in relation to product development, supply chain building, channel developments, brand image building, all these have been developing in an orderly way, and we have achieved some achievements. As of 30th June, there are altogether 872 LN YOUNG stores. We continue to accumulate experience, and we are confident that we can do a better job in kidswear. Now the trend of development is quite good in relation to products and store efficiencies. In co-store efficiency, these are yet to further improve. Our team will continue to work hard to enhance our own capability in each business areas.

So that's all in our results presentation for the first half. Thank you very much for your continuous support for our company. We'll continue to adhere to our single brand, multiple categories and multichannel development strategy in order to build our long-term core competitiveness. We will continue to optimize our product, channel and retail operation and also supply chain in order to further improve our efficiency. We'll continue to improve our product experience, shopping experience and sports experience to deepen the experience value of Li Ning brand. In the second half of this year, we will be oriented around our business needs, we'll focus on enhancing our product and brand capabilities. The goal is to make Li Ning Company the most competitive sports enterprise in China. Thank you.

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Questions and Answers

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Operator [1]

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(Operator Instructions) So this gentleman on the first row, please.

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Xiaopo Wei, Citigroup Inc, Research Division - Director & Head of Asia-Pacific Consumer Research [2]

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[Interpreted] Citibank, Wei, Xiaopo. A couple of detailed financial questions. First of all, congratulation on strong result and also high-quality result. So if we take a deep dive analysis on your Page 13, we -- if we look at -- there's a sales mix shifted this year, so there's a lot of implications on the financials. But if we look at the GP margin, the like-for-like wholesale GP margin analysis print here, yes, exactly, so for the like-for-like GP margin was amazingly strong, like, 200 bps year-on-year. So Terence shared that is due to the improvement of the delivery rebate, et cetera. Will this continue or not? And shall we see that is -- it will continue? And also if we look at like-for-like direct retail GP margin was up 40 bps. In my analyst's humble view, the VAT benefit -- reform should benefit you better than other company with a lot of wholesale because you guys are running 50% of sales of direct-to-consumer. Shall we expect better GP margin expansion in the direct retail looking forward? And also in this slide, you are very, very good and explained that negative impact of GP margin due to the mix. However, you understate the benefit of the operating cost because, if you remember that if you franchise out of store, you're -- you will give this -- you receive as rentals and staff and retail inventory provision, et cetera. Shall we say that the shift on a net basis, on EBIT level should be benefit? And lastly, having covered Li Ning for more than 10 years, I still remember that years the company taking back a lot of franchise store at direct retail. We're happy to see that you're franchising out more to wholesale stores. With the uptrend eyesight, shall we say this trend will continue with the wholesale outperform retail in term of sales for accounting reasons?

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Wah-Fung Tsang, Li Ning Company Limited - CFO [3]

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Okay. You're absolutely right. I mean first half, it's interesting because the number is actually much better, but I slept less the past 2 weeks preparing this thing because the business do change. So a lot of the number you see there, there's a lot more complications that I really want to take time to explain, right? First of all, you're absolutely correct. The wholesale business, the distributor business, our gross margin is up over 400 basis points. That's why in the company standpoint, it's 200 basis points, and that's due to the delivery discount improvement over 200 basis point. Now the reason I don't talk about rebate, rebate also come down lower, but those that I talked to in the past 2 years, I always said, this year, we're not going to isolate rebate by itself because how we do the distributor is a package deal. There are 3 reasons going on. Number one, the discount -- the rebate, we can lower it because we've been giving high rebate. But now distributors are making more money for a few years. So that's not a problem. But at the same time, we're driving our different policy with the distributors. Okay, listen, we're not going to reduce your rebate that we already plan as much, but in return, increase the delivery discount, right? Because our brand has elevated, that's the main thing. I mean the reason why I'm so confident even 2 years back saying our wholesale gross margin is going to be the driver in the next 2, 3 years. Why? Because the top part is done. The performance, the discount, the retail sell-through, SSSG has been up, that's where the driver is, right? You look at our receivable, I mean, the wholesale receivable is really amazing that part of it, right? And that tells you the health. And also part of it, last year, the brand elevated. So all these things drive the ability for us to work with the distributor in terms of increasing delivery discount and also reduce a little bit, depending on account by account because every one of them has a different dynamics, right? But at the same time, in the first half, there's another issue. A good thing, it's the tax reduction, that's 3 points. So literally, that helps our revenue, right? But distributor knows that, too. So some of them ask for rebate. So it's hard to say, "Okay. Well, is that 3% due to us?" That's why I give you a compound package because you have to look at the whole delivery discount as a net effect, right? And that's 400 basis point in wholesale business itself, but to the company. So whether it's going to continue, as long as the wholesale business continue to be healthy.

And with that, I'll give you a little update through quarter-to-date, third quarter. In the first half, wholesale business is up, sell-through up in the mid-20s, right, as you see in one of the wholesale slide. So fast, third quarter to date, they are sounding at low 30s, increase in retail sell-through, right? So the wholesale page I talked about, increasing the wholesale platform, which drive a little bit positive impact on the revenue, but that's wholesale dynamic, but that's a healthy aspect of the wholesale dynamic, not the negative. There are a couple of negative aspects, as you know. But what I -- mostly it's, okay, yes, people would say, "Okay. You're driving more revenue than your sell-through, so your channel inventory." So 3 things I look at really hard. Number one, the distributor paying on time after they're paying ahead of time. That's why our receivable can be improved so much. Second is the sell-through because of the expanded platform drive improved sell-through. So far, we've been going on with better discount. So with that, I'm -- I mean, I'm quite confident this can continue at least for the next 6 months. But again, retail is retail, right? You never know. I mean it can change overnight. But so far, with all the trend that's going on, I'm still quite positive with what's going on in the wholesale. So yes, possible, you can continue at least from 6 to 9 months.

The other part of it, talk about the retail aspect. Retail is right -- retail right now is already [at mid-60] on gross margin. And again, that number, you have to look beyond the business strategy behind it. As I said earlier, our direct retail is moving into bipolar. On the top end, all the flagship stores, all the high-level store, we're going to open mainly by direct retail. But of course, the wholesaler, they won't do that if they could, but that's -- those are big store, 700 meter plus, right?

On the other pole -- extreme is the outlet stores, right? We're expanding the outlet division. So gross margin, that's -- it can depend on the mix, right? So I can't really answer, but I think mid-60. Based on where we are now, it's a pretty reasonable number. I mean our forward contribution, up almost 300-some basis point. So even with that shift, right? So I would say that's reasonable, whether it'll improve, depending on the mix and the bipolar, right?

The last part about the franchisee, and I do want to talk about because I expect that's going to be a question because I asked the question myself, too, right? Because if you guys think about, a couple years ago, we can't find distributors, and the distributor are suffering, so we have to do it ourselves. And also at that time, we want develop, expand the retail platform, so we can at least have a balance. I always say it's a balance. I never said we want to go 100% in direct retail. It's too difficult in China. China is too fragmented. So I think this direction is good, but it's also because the wholesaler are having a lot more confidence. We can get better wholesalers to do this. Now if that trend continue, it's going to be market-by-market. We're not going to do it for the sake of doing it because the financial benefit is not what I'm concerned. I look at the channel more than the P&L, right? So hope I answer your questions.

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Operator [4]

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That gentleman, please?

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Unidentified Analyst, [5]

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[Interpreted] I'm from CLSA. Congratulations on your very good results, especially about cash flow. I want to ask Terence 3 questions. And then after that, one question for Chairman. Revenue guidance, so your revenue guidance implies some kind of slowdown in the second half. But I presume there's a level of conservatism in it. But just by channel if there would be any slowdown, which channel would you expect to have a level of risk in the second half? And in particular, I wanted to understand your wholesale channel growth would be better because there was indeed a gap between sell-through and sell-in. And I estimate, majority of that was related to initial fulfillment for the stores. So in the second half, how many wholesale stores do you expect to open? And how much impact do you think initial fulfillment will be? And just to double check, that's not in the 3 that I've ordered. That's first the question. Second question is on your admin expenses. So first half, we have seen very strong leverage of sell-in on the distribution side, but then admin continued to deleverage because you invested essentially in people. So could you please elaborate a bit more in terms of what kind of experts you've been hiring in what kind of areas? And what kind of incentives and bonuses you provided to them? Assuming revenue growth at sort of 20% rate, would you expect to see any leverage on admin side anytime soon or this is going to be an area you'll continue to invest? Thirdly, just in terms of working capital and cash flow. Still very strong, but would you potentially worried about driving too much efficiency from working capital and underfund your growth? Would you consider funding more growth with working capital in the second half? In other words, would investors -- or should investors expect cash flow to converge a bit more towards your earnings? I personally think it's entirely reasonable, but just wanted to get your thoughts around that?

Interpreted Finally, a question for the Chairman about channels, that is retail versus wholesale. Now on one hand, 160 stores have been transferred to wholesale and franchisees. Now if we're talking about CNY 44 million, then they are smaller stores. So I want to know the background of this transfer. In the future, which regions, which stores will you consider to hand them -- hand over to distributors for better development? As Terence just said, the store profit margin is quite high, and quite good profits are being made. Now you are more focused on wholesale for mid- to long term. What do you think of the new stores? Are they mainly wholesale or resell in nature? How will management make such a decision?

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Wah-Fung Tsang, Li Ning Company Limited - CFO [6]

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So first -- I see. So the guidance, I would say, as why I'm prudently conservative, right? I mean there's so many risks and uncertainties in the macro level that I have to, right, otherwise, I will be responsible. But you're right. I mean based on the guidance, you can tell, second half between the low end -- the low plan and high plan, it's going to be mid-teens growth and high teens growth for second half. Now one of the reason, though, and you touched upon on wholesale because first half not majority of the factor, but the half of the factor is because of the in-store fulfillment. I didn't plan that in because, in fact, I'm going to reverse that trend a little bit. So it really depends on what wholesale is driving on retail sell-through, right? But I definitely do not want to continue having higher sell-in than sell-through, even though it's the right thing, but I will try to maybe maintain a little bit cartel and OTB a little bit. But -- with so far, the quality days are still running so strong, so it's hard to say. So I'll admit, I mean, the wholesale is very -- quite conservative. But then again, it has to look at the sell-through.

So in terms of the store opening, I think second half, the trend will continue. The Guangxi, Nanning, I mean, we're still going to open. In the first half, the wholesale opened about 47. Second half, they are planning another 50, which absolute locations select. I mean, (inaudible) is doing very well. So -- but still that -- as Chairman talked about, there's a lot of fashion behind it. So we look at it like a hawk. I mean if you see a major downslide in the productivity, then we'll cut if off. I mean even though, right now, the plan is there, the location is selected, we still have to be careful. So yes, the trend will continue, but not as much on the big store, right? The big store, I think, in the first half, we opened quite a bit. The transfer, we always talk about it. It's market-by-market. Right now, it's not that many in the second half that we have. So I would say the trend will not be as happy as first half. But even with that, I mean, I'll give you detail. The first half, when I talked about the store fulfillment, it had an impact the revenue by about 1.5 -- CNY 150 million right? So it's not the big factor. It means half of the factor why that gap between sell-through and sell-in. The other half is pure price variance, right? That has nothing do with unit. It goes straight to the channel, but there's a price variance. So that continue, right? The tax rate difference continue there. Delivery discount continue there.

Okay. So the staffing, you're absolutely right. Now but, again, as I said, the reason why the staff cost increased so much, the -- another big reason was because in the first half, we so exceeded the bottom line. So we put all the excess bonus accrual into it, I mean, just to be very safe, right? I mean that's responsible. But anyway, so the other half, you're right. We also increased about 200 people on the platform side. Now where are the people? We have at least, I mean, 40 designers and product -- fewer on the product side because we're expanding in categories and channel, right? So as the Chairman talked about, all these crossover, all these thing, that's why we've been able to generate different -- this topic, right, and that's important.

So on the sales side, we increased almost 100 people between the platform with a lot DI, the distributor sales representative, I mean, because as the sales expanding the platform wholesale, you've got to have representative to stay on top of the business. And on the regional side, we have talked about continuing that direction in district manager. So we're adding another 15 district manager. And then in the district, we also have product salespeople that we're adding. So the platform is a lot. But we're gearing for much higher expansion in sales. So I will say, second half, while we continue to hire people, but I don't think it's going to be another 250, right? I mean the 50 is on the new business too, I mean, so between the kids, LI-NING YOUNG and also new channel that we're expanding to. So I would say, we'll be adding another 100 in the platform side. That trend will continue, but that's 1/3 of the staff cost increase. So I think the leverage, we'll continue to see. And if wholesale continue driving a higher revenue increase then, I mean, that's just the dynamic. We hurt -- we got hurt hit in the gross margin because of that, but we got the leverage. So first half is a very clear indication, the result of that direction.

Cash flow, yes, I mean, I don't -- we're a little bit -- it's just because receivable is so healthy, right? That part, I think, we can really get to where it is. But in terms of supporting the business, I mean, we're supporting the business. It depends who you talk to. You talk to a sales guy, yes, they don't. But our inventory up 14%. I mean some more -- not a small number. Yes, sales drive up a lot. But I think we should -- in terms of inventory level, I don't think we are beating everybody. We're just right there. And honestly, we still have them. I mean, some of the new business that we are in, I'm not happy with the inventory level to be honest, but I also need to be giving them time to adjust to that discipline, right?

So the other part, why? Actually, on the payables, we're actually decreased -- I mean, decreasing the days because we don't really need it. So we're trying to get better relationship with the suppliers and keep paying them more timely and -- but using that to drive better cost. So that's a direction we'll be moving next, using that working capital structure. So we will continue to support the new business, but I think where we are now is actually very healthy. I mean as I'd always say, 15% of the revenue on working capital is a pretty healthy number, so we'll monitor that. I mean -- but it's a nice problem to have.

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Ning Li, Li Ning Company Limited - Founder, Exec. Chairman, Interim CEO & Head of Business Development, Corporate Strategies & Planning [7]

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[Interpreted] Regarding wholesale and retail, this channel strategy, our view is that there should be a balance because we are not a retail company. We are a brand company. So in terms of self operation, we will continue to enhance our retail support and operation capability. So wholesale distributors are our important channel as well.

So which channels are suitable for self operation, which channels are suitable for wholesale? We have to go according to which tier of city and also the actual circumstances in the cities in making the selection. The goal is to enhance efficiency. I think efficiency is the most important.

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Operator [8]

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That gentleman, please?

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Unidentified Analyst, [9]

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[Interpreted] Congratulations on the excellent performance in the first half. (inaudible), HSBC. I have 2 questions. Now in terms of sales, we see 2 major overseas brands, and we see there is a lowering of the sales trend. I would like to know what are some of the reasons behind and how. Is it because of the domestic China market and the response to these brands? And then another question about finance, and I will be asking this question to Terence. And that is the operating profit margins, I think, expect your previous guidance or expectation. So how do you think it's going to trend, obviously, in the near-term future? And say, can you also share a little bit about the [manitou] that's driving this gross profit margin scale effect? Any other things to that?

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Ning Li, Li Ning Company Limited - Founder, Exec. Chairman, Interim CEO & Head of Business Development, Corporate Strategies & Planning [10]

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[Interpreted] For sales, every company will look at its own strategy and market situation to make adjustments. I feel, for ourselves, we have not slowed down in the China market. It is because we have been improving our operating capabilities. And this would also include improving our products, which have driven our competitiveness and our revenue. But how long will it last? Well, we have to be prudent about the market. We have to be rational to look at our own capabilities as well. We, of course, want ourselves to be improving steadily, enhancing and growing steadily. But at the same time, we cannot say that the market does not affect us. So overall speaking, I would say, I'm still confident about the market. Each company, with their strategies and their strategy at a particular phase of development, of course, will be unique to that company.

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Wah-Fung Tsang, Li Ning Company Limited - CFO [11]

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I think, second half, I do plan a little bit more conservative because first half because with wholesale revenue up 40-some percent, and they don't have much variable costs. That's why (inaudible) reached the -- I really put a lot time into it, the next slide. I mean, because a normal -- the next one, the next one. You see the variable costs, because a normal, healthy retailer, if you're driving a healthy DTC SSSG, your variable cost should be increasing. And that's not a black and white number up, but that is pretty much in the direction. It should be at about 15% to 20%. 15% is really, really healthy. But first half, our DTC is very healthy. SSSG, the e-commerce is mid-30s. And direct retail is high single. Combined, they are running almost a high teens to low 20s. So with that kind of SSSG, very helpful, right? I can't expect, even though, so far, it runs that way, I have to be conservative going to second half. I can't continue to assume that's the SSSG number.

Now also in second half, as I've said earlier, I -- and we even want to see that gap between wholesale, sell-through and revenue and doing this trend. I mean, either way, maybe I'll do a little manipulation to just push it back, but all depends on the channel. If the channels continue to be healthy, then I can cut down inventory supply, right? So it all depends on the macro. But I -- but you're right. I mean I do plan a little bit more tighter operating margin improvement. But still, if you look at the low and high plan, low plan is 100 basis point, which is really low improvement in the operating margin in the second half. But the high plan is still 300, right? So as you said, I always said, 200 basis point improvement in operating margin is where our longer-term planning per year, right? That has been going on in the past couple of years. Just first half, there's a lot of shift in business dynamic and a couple of things that allow us to increase almost 500 basis points, right? But normally, I'll run the financial plan with 200 to 300 at most.

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Ning Li, Li Ning Company Limited - Founder, Exec. Chairman, Interim CEO & Head of Business Development, Corporate Strategies & Planning [12]

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[Interpreted] Concerning sales growth, I would like to supplement. Efficiency is most important. And on the other hand, if we can effectively control our inventory and also increase our sales, this kind of growth, I think, would be reliable and health -- healthy. If we cannot sustain this kind of sales growth, then it would not be sustainable. That is to say, in operation, we have to really put in the efforts to control the inventory, increase the efficiency. This is core to us.

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Operator [13]

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That gentleman upfront.

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Dustin Wei, Morgan Stanley, Research Division - Equity Analyst [14]

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[Interpreted] I'm Dustin from Morgan Stanley. To Terence on financials, so just to verify, the guidance, that 8.5% to 9% in margin, that's on a recurring basis, excluding the one-off gain. And then in terms of sales growth guidance, is that excluding YOUNG and the China Li Ning, similar to the methodology that the company guided before? And then you talked about, this year, the OP margin expansion is way far than 200 basis points. But is that looking -- into 2020 or 2021, would you just still expect sort of the 20 -- 200 basis points improvement as usual? Or do you think some of the margin expansion kind of front-end loaded? So maybe we should start to get a slightly lower operating margin expansion, but in total, it's sort of similar. And then you mentioned that the wholesale sell-through will be the key to decide the high point or low point of your sales guidance, but could you share some colors for e-commerce and the retail for the second half? I think that's sort of as more companies target or control. And is it possible for -- to quantify the factors that drive the 45% wholesale growth for the first half? You mentioned various drivers. There is the tax VAT. There's a delivery discount and there's ASP. I guess the ASP increase at the retail product. So is it possible to quantify the gap between, like, low 20% and the 45%?

And Interpreted If we look back the past 2 years in the market, people said the Li Ning products are more trendy and a lot better. So concerning this change, is this a top-down management decision? Or is it because you have hired more young designers and so they have driven this change? Or is it a top-down or bottom-up approach?

Now looking at the products or other more functional products, how are you going to achieve this change as well? Now in March, FIFA China had done a rights issue. So is it because of your own personal wealth planning or other reasons behind? Based on public information, so you have been holding around 18% shareholding of the company. Is this a reasonable level? Or do you have other thoughts regarding the new CEO on different locations? The Chairman said that you would like to find an official CEO. So what is the progress now? After recruiting the new CEO, how can he be integrated with the existing team? What will be the division of labor?

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Wah-Fung Tsang, Li Ning Company Limited - CFO [15]

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Yes. It's mainly driven by wholesaling between whether the low plan or high plan. Again, in the LI-NING YOUNG, we're really conservative. I mean our focus this year on LI-NING YOUNG is just let them work on the channel, get the sell-through up, get the product and every -- the adaptation right because we don't really need that to drive the revenue. So we've been very conservative. I mean first half, they up. And from a revenue standpoint, they are up about 50-some percent, which is really a lot, right? The business actually has all the ability with the channel expansion we put in. But again, that's -- we don't need it, don't force it. Let them have a clear healthy channel buildup rather than trying to squeeze a couple million -- a couple hundred million of revenue and then you dampen the channel. So yes, in the second half, we're not planning any particular major increase on top of the original plan, right? So the second half, we were just using the original budget. So in many ways, it is conservative.

And then the China Li Ning, we didn't replan all the 50 additional stores that they open in. Again, China Li Ning fashion was -- we have to look at what happened in channel before we factor in, but there is a positive upside. Sure. So -- and if you talk about the Yeezy, Yeezy because second half is the major driver, it's Double 11. That can change anytime, right? So we are using basically mid-30s that we're running in our plan. So I mean, who knows whether it's aggressive or conservative. And direct retail, we are budgeting high single digits. Now it's lower than what brand in the first half. But remember, last year, second half has been directly to actually shoot up, right? All the brand picking up and everything start building up. So we've been a little bit more conservative on that, okay?

Now so that relate to operating margin, your second question. Again, we always think 200 basis point is very reasonable for us because, again, we're still the lowest in net margin, right? We have upside. There are things that we haven't done right. And Chairman always remind me, don't be too positive. And that's a no, no. With the salary we experience, we have no right to be positive, right? We improved a lot of things on the back end, but those are low-hanging fruit. The key thing is that is where put us to not world-class, but at least to the upper end of the management. Well, we haven't achieved that. So -- but 200 basis points is just getting the low-hanging but. Yes, we got a lot of them, but we still have the right thing, right? The first half is because the wholesale just driving a little bit too much. But even without the wholesale, the direct retail improvement is the story to be told. Well, there's things that we're just getting more efficient. I mean, Chairman always mentioned, we have to get efficient. Don't worry about top line as much. Efficient, and that's what we're doing. And with the working capital cash flow, I think we can use that to really get us to be -- the 200 basis points. I really don't think it's the big problem.

Now there's another big factor as Chairman touched a point, as we go into the supply chain development, right? First half, we have our own shoe factory. Of course, there's a lot. First half, we lost about, total, it's about CNY 80 million, which is in the financial in the first half. But we planned for that. There's no reason. You can breakeven in the first 6 months because we all start opening really in late February, so there's definitely an efficiency. But if that start working, we have better control. That's why we can get the other big piece. And the 200 basis point doesn't even include that, right? So I'm still confident with 200 basis point, at least, for the next 3 years on an annual basis.

And then your third question is the wholesale gap. So now we talked about mid-20s sell-through and then the low 40s increase. So the difference is about high teens, right? It's about 17, 18 point. The price variance, that account for almost 10%, right? The store fulfillment actually account for, like I said, it's about CNY 150 million on revenue. So that's about 7%, 8%. That was -- so those are the 2 factors, right?

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Ning Li, Li Ning Company Limited - Founder, Exec. Chairman, Interim CEO & Head of Business Development, Corporate Strategies & Planning [16]

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[Interpreted] Concerning the trend, a few years ago, we started to make this adjustment. At that time, I said that our company develops a brand in terms of product positioning and development. We hope that there can be better integration between sports and fashion trends and for our products, functions and fashion trends and design elements, use of materials should be more closely connected. When we produce China Li Ning products, if you look at basketball, running series, there are elements from them in creating the China Li Ning products, so they are not from outside. They are from our bulk product. So we will go back to our bulk core products, R&D and design. That's our company strategy. Each of our designers and each of our product developers, product managers has enough room. I said that we have to allow each designer and product development team enough room to realize their imagination, so that they can be better connected with the market. A lot of our products are created by our designers.

In terms of product management, well, our product development head is himself an athlete. And he himself has a lot of experience and aspiration concerning the design elements and fashion trends. So our products can have a better manifestation. This is not only about top-down or bottom up approach. It is a common goal among ourselves. So that is our understanding of our brand.

Concerning FIFA, well, they have their own considerations, but I would like to say that we will give full support to Li Ning's development. That is my dream. I hope that it will become a top-notch Chinese sports brand to realize the capability of China manufacturing. So even though FIFA has its own business, development strategy and goals, it will also give full support to Li Ning. That is the top goal of FIFA.

Now for CEO, definitely, we have to find a CEO, and this is under progress. So we will follow the stock exchange rules to make announcement in due course.

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Operator [17]

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Our result announcement is concluded in here, so thank you all for your participation.

[Interpreted] Thank you, management.

[Portions of this transcript that are marked Interpreted were spoken by an interpreter present on the live call.]