As its customers around the world - largely consumer goods retailers - slashed prices to spur sales and combat the economic downturn, Li & Fung was forced to lower merchandise pricing by an average of 9 per cent.

This in turn pushed the operating profit margin lower to 2.5 per cent from 2.8 per cent previously.

Another big impact was the delay in goods delivery as customers were more cautious in ordering.

Li & Fung is among a number of Hong Kong companies facing testing times as the US economic slowdown continues to bite.

The blue chip escaped unscathed during the Asian financial crisis of 1997 as it sources consumer goods such as clothes, toys and shoes from cheaper cost regions such as the mainland and Southeast Asia and sells to advanced markets such as the US and Europe.

Reviewing the interim results, managing director William Fung Kwok-lun said: 'They were not as pretty as we would like them to be.'

Analysts were also disappointed, largely by the steep decline in merchandise pricing and a mere 5 per cent turnover growth on the group's trading business excluding newly acquired sourcing firms Colby International, Swire & Maclaine and Camberley.

'The organic growth was much worst than I estimated at 11 per cent,' an analyst at a European brokerage said.

Colby was a key engine propelling turnover in the half, with a growth rate of 27 per cent.

However, the Colby profit margin was lower at about 2 per cent. Colby, together with other low-margin businesses of a US$300 million contract to supply Disney products, and Swire & Maclaine helped drag down the group's profitability.

'Colby will be the main driver of turnover growth,' Mr Fung said, based on the number of orders on hand.

He played down tougher times ahead, saying traditional back-to-school sales were concentrating on this month and at the same time shipments for Christmas sales gathered pace.

In addition, Li & Fung's clients had seen mixed performance in the US, with some of them adding new stores in the past couple of years. This meant clients consumed a larger volume of goods, but at lower prices.

'Customers will remain cautious in the rest of the year,' he said.

Sales in North America soared a combined 40 per cent to HK$10.05 billion, contributing 74 per cent of the group's sales.

Sales growth in Europe was stagnant at 1 per cent to HK$2.8 billion due to the weak euro. Europe accounted for 21 per cent of the group's turnover, with the rest from the southern hemisphere and East Asia.

To boost profitability, Li & Fung will take steps to rescue its profit margins in a three-year plan through to 2004.

It hopes to achieve an annual compound growth of operating profit margin of 4.25 per cent.

The company plans to diversify into a higher-margin virtual manufacturing business. This means Li & Fung will act as a manufacturer for its customers by out-sourcing manufacturing processes.

The profit margin of this business reached 6 per cent, Mr Fung said.

Li & Fung also planned to focus more on merchandise with its customers' labels, which was experiencing rising demand.

With a 'safety net' of HK$2 billion cash on hand, the group was searching for acquisitions which would help reduce its reliance on the US market and expand product variety.

'We'll also keep costs down and enhance efficiency,' Mr Fung said.