BEIJING - Li Rucheng, Chairman of Ningbo-based Youngor (SH.600177), known as "the Warren Buffet of China", is a big investor in the garment industry. He announced in late January 2008 that Youngor had finished its acquisition of Xin Ma Apparel International Limited (Xin Ma), held by the US apparel giant Kellwood Company, and Smart Apparel Group Limited (Smart), held by Kellwood Asia Limited. 

With tens of billions of Renminbi in hand, Youngor has made a remarkable move-it made a US$120 million transaction, the largest investment to date made by a Chinese garment maker on an overseas acquisition. 30% came from Youngor's pocket, while the remaining 70% came from the Export-Import Bank of China at an annual interest rate of 6%.

The acquisitions have given Youngor confidence that it will become "one of the most powerful clothing enterprises in the world". Li wants to enter the European and US markets with the aim of shortening its journey to become a world-class brand.

The Birth of the World's Largest Menswear Maker

Youngor has become the No.1 menswear maker in the world though its acquisitions. The company now has 430,000 employees, and is able to produce 80 million pieces of clothing each year.

The acquisition of Smart, a top shirt producer in Far East, moved the company into retail and distribution as well as three new areas of business. One is producing men's shirts, T-shirts, pants and other clothing for global brands as an OEM and ODM. Another arm obtains licenses to design, produce, and sell men's shirts for well-known brands. And the third aspect is to design, produce, and sell its own clothing (C.E.O.). Smart's biggest source of revenue is currently from North America. Xin Ma, meanwhile, runs a highly efficient logistics and distribution system for Smart.

The acquisitions have pushed Kellwood to integrate all related business with Xin Ma. This has given Youngor Xin Ma's 14 production bases in Sri Lanka, the Philippines, and some regions in China; the ODM business for 20-plus global brands like Polo and Calvin Klein; the licenses for five brands including Nautica and PerryEllis; an excellent team with decades of experience in management and design of international brands; a complete distribution network that covers hundreds of department stores in the US; and a powerful logistic system that guarantees products going to those sales points smoothly, delivering goods to stores in real time to allow zero-stock retailing.

Youngor's acquisitions differ slightly from other high profile dealings like the TCL takeover of Thomson and Lenovo's buyout of IBM's PC business. The company, for one, bought a strong, profitable company with cash-as one of the top 3 garment manufacturers in Hong Kong, Xin Ma has an annual sales income of US$500 million. Youngor expects immediate net earnings of US$12 million. The profit is based on the OEM backlog held by Xin Ma, because order prices are 20%-30% higher than the orders received by Youngor itself.

"The net return on assets in the first year would be more than 10% in this view," says Zhang Bin, a garment industry analyst with Sinolink Securities Co., Ltd. The acquisition of Xin Ma was an unusually good deal, especially when considering recent overseas purchases made by Chinese companies.

Youngor's care in investigating its acquisition targets informed the company's decision to buy. The company established a joint venture with Smart as early as in 2004 to produce shirts as an OEM; its products were exported to the US through Hong Kong. In 2006, Youngor collected 7% of its sales income from Xin Ma Group for selling raw materials and products.

In 2005, women's clothing specialist Kellwood wanted to sell its men's wear segment, Xin Ma. Li Rucheng bid for it with US$160 million, roughly the same value as its net assets. But the estimate USB gave for Xin Ma hit US$320 million, which Youngor thought was too high, stalling the deal midflight.

Xin Ma's profit began to fall in 2006 because the competition became fiercer in the American middle and upper-end clothing markets. Xin Ma wasn't getting the support it needed from Kellwood, the looming US recession triggered by the subprime mortgage crisis discouraged consumption. Kellwood wanted to sell its men's clothing business again. This time Youngor was satisfied with the low acquisition price.

But industry insiders doubted that the acquisition was a step in the right direction. Adding to the skepticism was slight rise in Youngor's share prices experienced after the acquisition.

The Inevitability of Going Global

Zhang Bin says the acquisition has added a paltry RMB0.05 (US$0.007) to each Youngor share. This is no stunning increase, to say the least. Most of the company's gains have been accomplished through the investments it has made.

This has been matched by a fall in revenues for both Smart and Xin Ma over the last few years. Some analysts hold their business volume in 2006 dropped to half of what it had been in 2004. And both OEMs have become less competitive after their US headquarters started cutting down their quota. Kellwood was also held a negative view of US consumer confidence. Kellwood wanted to sell Xin Ma as a result, which couldn't match Kellwood's women's clothing business in either sales volume or profit. Then fluctuations in the US market brought big risks to the operation of Xin Ma after the Youngor acquisition.

There's no doubt the industry will measure Youngor's success by eyeing how the company turns the struggling business around. That is to say the industry is more concerned about Youngor's ability to digest its purchases as well as the return from the new acquisition. There is, after all, no precedent for acquiring overseas companies in China's clothing industry, so the risks of absorbing the acquisitions cannot be ignored. A poignant example is how Youngor will apply its own successful business model in Xin Ma to cut down the cost for operation and management, and therefore make it more profitable.

But the industry approves of Li Rucheng's role as a strategic thinker for the acquisition. According to Youngor's management, after the acquisition, Youngor became the world's first clothing company to operate with a complete value chain, encompassing cotton plantations, weaving, logistics, and marketing. Xin Ma will significantly improve Youngor's value chain and the company's presence on the world market. Smart's annual production capacity of shirts is 30 million, 2.5 times that of Youngor current capacity. This big increase greatly improves the consumption of its weaving business, and builds a firm foundation for the ongoing expansion of its weaving business.

But for Li, the acquisition took the advantage of Xin Ma's design team and its logistic system in the US. This created a shortcut for Youngor to become a world-class brand. Understanding the design culture and style of world-class brands, Xin Ma's design team has done an excellent job fusing eastern and western cultures. If Youngor is able to effectively absorb design facilities, it would save a lot of time and trouble groping in the dark to become a world brand and improve its original creativity as well as understanding of the market. Xu Qi, a senior executive at Youngor, also emphasizes that Xin Ma's design team would gradually change the situation and allow the company to deliver first-class quality at mid-range prices. In addition, China's corporate image would also gain credibility.

With the help from Xin Ma, Youngor has successfully gained access to the exclusive supply chain of world's leading clothing brands. Reports suggest as much. Orders from Polo, for example, give Xin Ma as much as US$100 million each year. "Many companies want to enter the exclusive supply chain of top clothing brands such as Polo and Boss, both of which place big orders every year. But the chain is relatively exclusive, and is not easy to access. The companies that do gain access are tested for stamina," says Zhang Bin. Xin Ma's ODM business from world famous brands is actually a licensed production, which allows complete self-design and marketing as long as products gain recognition from the brands.

Another benefit of the Xin Ma purchase is that Youngor can greatly improve the profit structure of its clothing-making business. For incoming orders from world-class brands, Xin Ma charges 30% more than the domestic average. Being in a superior position internationally, Xin Ma mainly engages in ODM that is highly profitable, while China's homegrown clothing export companies are seeing their profits shrink due to lower export rebates, the appreciating renminbi, the rising cost of labour and other concerns. So Youngor has to change from OEM to ODM to change its portfolio and become more profitable. After years of study, Li found a huge gap existed between Chinese and world-class clothing brands. Part of this is a difference between cultures, and cultural gaps can't exactly be filled within a short time. The natural choice thus is taking advantage of a team that embraces a more global outlook.

Shi Hongmei, a senior analyst on weaving and clothing industry at Orient Securities says that as the leader of China's home market for suits and shirts, Youngor has stayed on track in terms of both organic and inorganic growth. Continuing its improvement in the clothing business, Youngor has integrated its interior structure and improved its brand image. Youngor says its sales income increased more than 20% in 2007 because of the interior structure adjustment. Yet Youngor has also expanded overseas, and the acquisition of Xin Ma was the first step. Signs show that acquisitions like this will grow increasingly robust as clothing grows more integrated. The only question is whether a good target could be found.

Xin Ma's marketing and logistic systems provide a way for Youngor's brands to enter the European and US markets. But industry insiders believe other benefits are more practical and immediate-Youngor is able to receive more orders from world-class brands because of the acquisition; it has to continue polishing its own products. But talking of its own brand going international, it still needs a good five years at least.

There are indeed other Chinese clothing brands trying to break into the European and US market, all in vain thus far. Li Ning, for example, hasn't gained any profit from its Brand Shop in Spain. "It's not easy to develop overseas," an industry insider says. Take a simple example-the logistic cost alone crushes a company if it doesn't have dozens or hundreds of points of presence.

Youngor understands this. "With capital strength, it's not a problem for Youngor to open a shop on Fifth Avenue in New York. But it can't open a shop just for the sake of opening a shop. What matters is how it performs," says Yu Cheng, head of the company's General Office. Youngor believes work needs to be done before success is assured.

This article is from China Business Feature.  You can view more of their coverage at CBFeature.com.