Fashion: Luxury’s new look

When, after years of record revenues, Burberry issued a profit warning in September, it rocked the luxury world. “They basically said – and I’m paraphrasing – luxury is going sour and so are we,” says Thomas Tochtermann of McKinsey & Company, the consultancy.

It looked as though they were right. In rapid succession, Britain’s Mulbalso issued a profit warning; Tiffany of the US announced a 30 per cent drop in third-quarter earnings compared with the same time last year and Louis Vuitton reported “the softest growth …in the past 12 years”, Melanie Flouquet, an analyst at JPMorgan, wrote in a note.

At the same time, however, Hermès raised its sales and profitability targets; and the Prada Group’s earnings were up 50 per cent in the nine months to September, compared with a year earlier.

It was as though there were two different luxury realities. “My clients were trying to make sense of it,” says Antoine Belge, an analyst at HSBC.

After two decades of seeing luxury as a monolithic and highly profitable sector, investors are beginning to realise that they need to start taking a brand-by-brand approach.

“For a long time, whatever was luxury was successful,” says Mr Tochtermann. “Now that has changed. Burberry was a real ‘Aha!’ moment.”

The market is still predicted by Altagamma, the Italian luxury consortium, and Bain & Co, the consultancy, to grow between 4 and 6 per cent in the next two years, and Burberry and Mulberry stock has rebounded. Yet there is little consensus on how such growth will be achieved.

Traditionally the sector has been divided into “accessible” and “high” luxury. In the former, focused on the pyramid model developed by American brands such as Ralph Lauren and Michael Kors, a luxury collection at the “pinnacle” rests on a base of less expensive diffusion lines that provide the bulk of a company’s profits. These in turn are powered by the high-end image. In high luxury, the European model of Louis Vuitton and Hermès eschews the use of any kind of discounting to ensure pricing power and market position are maintained.

Yet increasingly other characteristics appear equally significant, specifically ubiquity and rarity – how easy it is to obtain a product, and the visibility of a brand or particular style. Indeed, last week HSBC issued an analyst’s note calling ubiquity “the new buzzword for luxury” and “a major concern”.

Fashion for a new look

To look at the fragmenting nature of the luxury market, see interactive slideshow here

The sector is looking to emerging markets to drive its global growth. It is focused particularly on China, where the market has expanded approximately 20 per cent a year for the past four years, according to a recent McKinsey report (though it is currently slowing) and where many brands now can derive up to half their revenues. But the need to reach new consumers is beginning to conflict with the perception among those consumers of what constitutes luxury.

This is especially true in the area of “soft luxury” – leather goods, silks and ready-to-wear – which has been at the vanguard of the globalisation of the industry. HSBC calls this “the first mover disadvantage”. The traditional evolution of the luxury consumer – from bling to connoisseurship – has happened exponentially faster in China than in any other market.

As the bank’s recent report on Chinese shoppers states: “What we thought was set in stone three years ago – the dominance of mainstream megabrands and their tireless store expansion – can no longer be taken for granted.”

Ubiquity is judged by both retail availability and the number of diffusion lines; exclusivity by cost and product assortment. Prada, for example, is more accessible than Louis Vuitton by price. But the company has adopted a strategy of “flash sales” wherein styles are available for a very limited time, creating an aura of rarity, says Mr Belge, which led to HSBC upgrading its stock rating. He also notes that Louis Vuitton has slowed its rate of expansion in China in favour of investment in the luxury content of existing flagships: VIP rooms and an increasingly personalised product range. Both Céline and Christian Dior of France are in the midst of winding down their wholesale distribution to become wholly retail operations.

Mr Tochtermann, however, says there are risks with this approach: “You need entry-level products in order to allow the new generation to grow into the brand. If you cut that off, you may cut off your lifeline.”

For his part, François-Henri Pinault, chief executive of Paris-based luxury goods company PPR, dismisses charges that its Gucci label is over-exposed (it has more stores in China than any other luxury brand), saying the issue is not how many stores you have but the product. “You need the very unique pieces, not just logo,” he says. He notes that Bottega Veneta, PPR’s high-luxury leather goods brand, is “twice as big” as he predicted it would become – and it is growing. “Luxury is an entirely different business now than it was a decade ago. You cannot use the past to understand its future.”

Luca Solca of Exane BNP Paribas, agrees. In the past, he says, “investors have bundled this space together and typically made a ‘sector call’ to invest (or not), without looking too closely at what to buy. When we look forward at growth prospects for the major luxury players we instead see more diverging perspectives.”

To illustrate the disparate nature of the market, we have created a representative sampling of 16 globally recognisable soft luxury brands. All are public, part of a publicly listed group or willing to disclose the relevant information. (Brands such as Chanel, which is global but private, would not disclose their numbers.) Hard luxury (watches and jewellery) – which is on the verge of the global explosion soft luxury has undergone – is not included.

The picture, says Mr Solca, “should suggest a more discerning approach from the market, and could eventually lead to ‘fracturing’ in this sector”.

Additional reporting by Elizabeth Paton

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Christian Dior Couture (France)

The haute couture brand is in the process of winding down is thirdparty retail business, bringing power back into the company fold by focusing on its 200 directly owned stores. Handbag prices start at $850.

Louis Vuitton (France)

The ‘LV’ logo of French conglomerate LVMH’s flagship label can be found emblazoned on handbags in the brand’s 450 stores. Yet the absence of discount sales, outlets or a wholesale business maintains crucial exclusivity for the £7bn Louis Vuitton brand, the powerhouse of LVMH.

Burberry (UK)

Despite the panic that followed the luxury behemoth’s Asia-related profit warning in September, the share price has since rallied by more than a third. The group, whose lines include Prorsum, Burberry London, and Burberry Brit, has 462 stores and 49 outlets, with a rapidly expanding retail operation continuing into 2012.

Hermes (France)

This £2.8bn soft-leather luxury specialist has lengthy waiting lists for its scarves and bags, which start retailing at about $1,125. There are no outlets, though the brand has a small wholesale presence and some duty-free shops.

Michael Kors (US)

Sells the aesthetic of the Manhattan-Aspen nexus to the aspiring masses in 349 stores, 89 outlets and thousands of third-party and wholesale concessions wolrdwide. The company’s initial public offering last year was the most successful in the US between 2008-2011, and the stock price has doubled since the start of 2012.

Prada (Italy)

This month the Prada Group (Prada, Miu Miu, UK shoe brand Church’s, and Italy’s Car Shoe) reported an 18 per cent rise in like-for-like sales, in part due to a surge in Chinese tourists making Prada brand purchases. Seventeen per cent of the business is wholesale, considerably less than that of some counterparts.

Bottega Veneta (Italy)

The highest-end brand in the luxury portfolio of PPR of France. Of the leather maker’s profits, 84 per cent comes from accessories sales in its 189 stores. Bags are priced from about $1,300, though Bottega Veneta does have a few low-key outlet stores.

Ralph Lauren (US)

Has 873 stores in its Group (which includes Polo and Club Monaco,as well asnumerous outlets), a 47 per cent wholesale business and more than 20 lines spwning accessories, ready-to-wear, watches, fragrances, and homeware. The upper-end Ralph Lauren line, however, accounts for only 107 stores vs 206 Polo factory outlets.

Dolce & Gabbana (Italy)

The closure of the D&G diffusion line in September 2011 underscored the company’s decision to reinforce its luxe credentials, as did its unveiling of both watch and couture lines this year. The brand has 216 stores and 13 outlets.

Gucci (Italy)

Reported sales worth £4.9bn last year in its 411 stores, and continues to generate about two-thirds of French group PPR’s annual revenue. Since 2009, the brand has been moving upscale, though this is balanced bby more accessible seasonal sales and a handful of outlet stores.