International companie:‘Leave’adds uncertainties to salescurrency volatility in Europe

　　Esprit (80%+ in Europe) more vulnerable; L'Occitane some positives

　　We expect limited negative impact from the UK decision to ‘leave’ the EU asnone of these companies has big exposure there. However, there will begreater uncertainty for companies with high exposure to Europe should EuroGDP go lower. A higher risk premium should be expected. We see limitedimpact on our international companies with exposure to the UK. Of the fourinternational companies under the Deutsche Bank Greater China team'scoverage, l’Occitane is one of our top picks as we expect OPM to recover fromFY17. We have Sells on LF and Esprit.

　　When the UK finally leaves the EU

　　Based on Mark Wall’s report titled Navigating in post-referendum Europepublished on 23 June 2016, he expects 2017 UK GDP growth to be 0.9%,1.2pp below the ‘remain’ scenario. The euro area will be negatively affected(-0.4pp at 1.1% in 2017E). Sterling trade-weighted may fall 5-6% on the day.

　　Post vote, George Saravelos, our strategist, has turned bearish on EUR/USDbut is not yet changing the forecast (Brexit shock – Our first market thoughts,published on 24 June 2016). ‘Leave’ opens a period of lasting uncertainty.

　　…limited impact from the UK but more uncertainty for European operations

　　Should Euro GDP go lower, companies with high exposure to Europe will beaffected by a potentially weaker desire to consume. Esprit has the highestexposure to Europe – a 10% decline in the Euro would have a three-digitimpact on NP. Also, while L’Occitane benefits from a weaker Euro (40% of itscosts in Euro and 20% of its sales in Europe ex-UK), weaker Euro/GDP wouldcast uncertainty on the operational outlook. In addition, it is quoted in HKD.

　　If the UK ends up ‘remaining’ in the EU…

　　Our economist believes that this outcome would allow the UK to enjoy a briefrecovery while Europe will still face economic headwinds. He also expects amoderate rally in sterling, although he remains bearish on GBP medium term.

　　… limited negative/positive impact on our international companies

　　As none of the four international companies under our coverage has highexposure to the UK (the highest being LF at ~8% of sales), we believe thepositive impact of a recovery in the UK would be limited to NP. On the otherhand, Europe’s weak macro headwinds have been our base-case scenario.

　　Although Esprit has 80%-plus exposure to Europe, our Sell call on the stock isbased on our company-specific concern as to whether the brand can return toprofitability in the next 18 months with its new strategy.

　　Valuation and risks – of the four companies, L’Occitane is our top pick

　　Of the four companies, l’Occitane is one of our top picks within our GreaterChina consumer/media space as we expect OPM to recover from FY17. Wehave Sell on Li & Fung (LF; weak US order outlook) and Esprit (impact fromrestructuring). We use DCF, P/E-to-growth, and relative P/E as the tools tovalue the sector. DCF captures the future cash flow of consumer companies,while PE/G and relative P/E show a company’s relative value vs. peers.

　　Downside risks: higher-than-expected raw material prices, SSSG failing to pickup, and intense competition. Upside risks: a greater-than-expected rise inoverall SSSG or sales volume, higher operating leverage, and weaker-thanexpectedinput costs.