GIM 2006 -
POSTED ON: 01 Apr 2007
RESEARCHERS: Mark Bruning, Keri Hattich, Gary Jackson, Susan Ryan, Mara Sovey
If the phrase “Chinese retail market” brings to mind plastic toys made for pennies and cut-rate electronics, think again. Long before China’s surge of buying power and openness to Western retail brands and channels since the 1990s, the country was creating high demand for luxury goods, with Shanghai known as the “Paris of the East” in the 1920s. For more than a decade now Louis Vuitton, Bally, Gucci, and other luxury stalwarts have maintained retail outlets in China and, especially since the country joined the World Trade Association (WTO) in 2001, luxury retailers have been among the many firms increasing investment in China dramatically. Today Asia in general represents over half of the over $80 billion USD global luxury industry.
These trends bring to mind several questions: How large is China’s luxury market? What is its landscape? Who are the new Chinese consumers? How are companies marketing luxury brands to them?
To answer these questions and others, published reports (e.g., from the McKinsey Quarterly and AC Nielsen) and in-person and phone-based interviews with luxury-industry experts in the United States and China were used, along with observations from visits to luxury retail outlets in Hong Kong, Shanghai, and Beijing.
China’s Luxury Market
While the United States was in the throes of the Great Depression, Shanghai’s citizens sported fine French suits, graceful cheongsams (stylish dresses with Mandarin collars), and Swiss watches. But after World War II and the Communist revolution, a strict dress code and the confiscation of most material possessions by the Red Guard made imported luxury goods a thing of the past. Soon, elsewhere in Asia, newly independent countries including Malaysia and Singapore instituted protectionist policies complete with high tariffs on imports, furthering this trend.
But in the 1970s Japan’s Western luxury market took off, followed in the next decade by Hong Kong’s—the city remains today a major retail destination, with more Armani and Louis Vuitton outlets than Paris. Following Mao’s death in 1976, Deng Xiaoping instituted economic reforms—built upon his belief that “to get rich is glorious”—that have transformed China into a fast-growing economic powerhouse.
With a population of 1.3 billion and 34 cities with more than 1 million residents, China represents major market potential, despite the per capita GDP of under $7,600. With regard to luxury purchases, 2.3 percent of the population—or 33 million people, which matches the entire population of Canada—can afford these, while 0.3 percent, or 5 million people (many of them recently wealthy entrepreneurs), enjoy the benefits of household incomes over the equivalent of $140,000; only half that number of Americans have such purchasing power.
Conspicuous consumption is the norm in China. “Chinese luxury consumers . . . care less about the quality and heritage of the brand than ‘having’ the brand,” says Madison Chang, Young & Rubicam’s VP of Strategic Brand Planning for Greater China. Merrill Lynch reports that China luxury spending could rival that of the United States soon, with a projected 22 percent of the global market in 2009, up from 11 percent in 2005.
To capture a portion of this market, luxury retailers generally set up flagship stores in China’s two largest cities: Shanghai and Beijing. But second tier cities such as Hangzhou are also popular outlet sites. In response to claims that store traffic in China may be suboptimal, Maxime Elgue, managing director of Cartier’s Far East operations says, “We’re not losing money in China, but every dollar we make is being reinvested right away.” Cartier is not alone: in 2005 Armani planned to add twenty new stores to its existing thirty-three by the end of 2008, with an emphasis on diffusion brands (i.e., those with broader appeal and lower price tags) such as Emporio Armani.
Luxury retailers also expect a strong “offshore effect,” such that mainland Chinese tourists account for a large portion of their Hong Kong sales due to lower prices, and even an increasing portion of their U.S., Europe, and Australia sales due to the absence of tariffs and relaxed travel restrictions. As an article in The Economist put it, “The Chinese go to Paris, stay at two-star hotels, eat cheap Chinese food, and spend all their time shopping.”
Unfortunately, many Chinese tourists and their domestic counterparts buy counterfeit luxury goods, many of which were manufactured in their homeland. Merrill Lynch states that 60 percent of the 92 million knock-offs seized by European customs officials originated in China. Another study suggests that annual revenues associated with counterfeit goods total over $27 billion USD. Many luxury retailers believe the best defense for this ongoing issue is constant innovation.
Luxury retailers hope to ride China’s projected growth—by 2050 the nation’s GDP is expected to exceed that of the United States. Combined with China’s more open class structure and pressure to conform to social norms, the luxury market has great potential.
According to the book The Cult of the Luxury Brand, the luxury market in general as divided into five stages: Subjugation, Start of Money, Show Off, Fit In, and Way of Life. In this context, China, now in the Show Off stage (especially in Tier 1 cities such as Shanghai and Beijing), is following Japan’s lead, toward luxury possessions as part of its citizens’ Way of Life. In fact, Merrill Lynch estimates that China will rival Japan in luxury sales as soon as 2011, with Tier 1 cities leading the way, but other tiers close behind. For example, even regions with lower levels of disposable income spend a disproportionate amount on clothing, and consumer surveys show significant intent to purchase a variety of luxury goods across Tier 1 and Tier 2 cities.
Other studies have shown that 15 percent of Chinese luxury goods buyers were willing to borrow money for their purchases, and MasterCard and Visa estimate up to 100 million credit card users in China by 2010. This is a clear departure from China’s previous savings-focused mentality.
Consumer Attitudes and Behaviors
Chinese women and businessmen over thirty-five are the primary target segments for luxury products; they tend to believe that Western luxury goods elevate their social status and facilitate business dealings. In fact, the more Western the item, the more it is equated with luxury—hence the failure of Louis Vuitton’s experiment in adding Chinese features to products. Further, nearly 70 percent of Tier 1 and Tier 2 city consumers believe that people who own luxury brands are successful. Consumers even leave price tags on their luxury items to prove they are not counterfeit. These trends clearly relate to the “sudden wealth” effect, whereby many Chinese citizens became rich in less than ten to twenty years. Surveys suggest that many such individuals own luxury goods “to reward” themselves.
Chinese women drive a large percentage of luxury purchases. This demographic falls into several sub-segments, including middle class women who earn the equivalent of $4,000 USD annually and live at home until they are married—endowing them with significant disposable income—and those from the “little empress” generation, teens and early-twenty-somethings, the products of the country’s one-child policy. A third segment is the large group of Chinese “second wives,” or “er nais,” who typically have a generous spending allowance to help them look their best. As one writer put it, “They have nothing to do but go out and keep luxury stores in business.” Other segments include female entrepreneurs, well-traveled “gold collar” workers, and “Tai-Tais,” the wives of wealthy businessmen.
Market Entry Strategies
There are numerous approaches to marketing luxury goods to Chinese consumers. A key insight is that Chinese consumers are generally far behind their Western peers in differentiating among luxury brands. Thus generating brand awareness is paramount. In this context, four key luxury product attributes are highlighted (based on a conversation with Young and Rubicam’s Madison Chang): (1) Chinese consumers reliably equate expensive products with greater value. (2) As in developed countries, the rarity and exclusivity of a product helps drive demand for it. (3) Media and word of mouth advertising are critical to a product’s success. (4) Highly visible brands (e.g., with prominent logos) will tend to fare better in symbol-driven China.
Putting these lessons into practice, Louis Vuitton and Gucci spend 11 percent and 12 percent of sales, respectively, on advertising, facilitated by the availability of Chinese versions of magazines like Elle and Vogue. In line with China’s fascination with Western culture—which often seems at odds with the country’s strong nationalism—models featured in such ads are almost exclusively Western.
Word of mouth is another tried and tested formula for promoting luxury brands. The authors of The Cult of the Luxury Brand call the Far East’s version of this phenomenon Asia “luxeplosion,” whereby “cult tools” and “cult catalysts” drive rapidly growing demand. Cult tools include the social networker at the center of a city’s A-list (who can spread the word about a particular brand/product) and the availability to the press of both the latest luxury items and “sticky” stories about them. Next, luxury brands reliably employ cult catalysts such as glitzy, celebrity-dense parties to preview forthcoming products, inviting wealthy consumers from Tier 1, 2, and 3 cities, to reach both “dedicated” and “aspirational” luxury purchasers. This buzz and media activity tip demand from the realm of socialites to the mass market, a true luxeplosion. According to Sean Rein of the Chinese Customer Market Research Group, increasing retailer effort, often through creative advertising, is going toward educating Chinese consumers about their brands, “especially in second tier cities where advertising can be more cost-effective and where consumers know less about luxury brands.”
Marketing strategies must also include choice of store format: branded store versus outlet versus department store versus other. For typical luxury products—clothes, bags, jewelry—branded stores have generally been favored in China, followed closely by department stores and malls. Note that Chinese consumers often use branded stores to familiarize themselves with luxury products before buying them abroad, to avoid tariff-elevated prices.
Merrill Lynch identifies “Ten Mistakes to Avoid in Emerging Markets,” including insufficient investment in brand awareness, loss of financial discipline, and failure to monitor local demand patterns. Louis Vuitton, perhaps more than any other brand, has learned from its over fifteen years of experience in China, with an estimated share of over a third of the luxury accessories market and 120 boutiques in the country. But as the earlier content suggests, there are multiple routes to success—and failure—in this market.
It is no stretch to imagine China as a world leading luxury market; the country is already well-positioned to be the “next Japan” for luxury retailers, driven largely by growing, luxury-seeking waves of little emperors and empresses, er nais, and Tai Tais. The luxury brands that use creative, comprehensive market entry, advertising, and sales strategies to reach these segments and others will ride these Far Eastern waves to major returns.