Luxury market in China

Luxury market in China Huge growth potential ahead April 2013 Fung Business Intelligence Centre

Table of Contents Executive Summary 4 The Market 6 The Consumers 18 Competitive landscape and strategies of luxury players in China 23 2

Luxury market in China 2013 Despite the weakened global economy and its subsequent impact on the luxury market, China s consumer market continues to demonstrate huge growth potential. The demand for luxury goods in China continues to soar, driven by a number of positive factors such as the growing number of affluent and middle class, rising household disposable income and higher luxury spending, and increasing number of travelling Chinese. The lucrative China market has presented abundant opportunities for global luxury players to further establish their presence across the country. In this report, we will provide a general overview of China s luxury market and take a look at the preferences and behavior of Chinese consumers. We will then assess the competitive landscape and operating strategies adopted by luxury players in China. 3

Executive Summary The Market: Global luxury sales were estimated to reach 212 billion Euro in 2012, up by 10% year-on-year (yoy), of which, luxury goods sales in China were projected to reach 15 billion Euro in 2012. Bain & Company expected a 7% luxury consumption growth in China in 2012, down from 30% in 2011 and 27% in 2010. The slowdown was partly attributable to a weaker economic growth in China, as well as the growing trend of shopping luxury goods abroad. The recent ban on spending public funds on luxury items for gifting might also have a negative impact on luxury sales in China. Acceleration of Chinese consumers buying luxury products overseas is a trend to watch. It is estimated that overseas consumption of luxury goods accounted for around 60% of the total Chinese luxury spending in 2012, with watches, jewelry and leather goods winning the top spots. Online luxury retailing is still testing the waters. Luxury brands that embrace online sales in China will have to contend with several challenges including online fraud, counterfeit products, and transaction security. China s increasingly rich and luxury loving consumers continue to drive the development of the luxury market. The growing number of affluent and middle class, rising household disposable income, ongoing urbanization and rising luxury demand in small cities, and a surge in the number of credit card users are major growth drivers. The Consumers: Chinese luxury consumers are relatively younger than their overseas peers. Chinese women and the post-80s and 90s generation are the major groups driving luxury consumption in China. There are some signs of shifting preferences: with rising level of sophistication, consumers in tier 1 and tier 2 cities now prefer low-key but unique luxury products. However, some consumers in lower-tier cities may still prefer brands with conspicuous logos. 4

Luxury market in China 2013 Brand recognition continues to rise as Chinese consumers become more sophisticated. Many luxury consumers in China are beginning to appreciate the brand s heritage and their purchasing decisions are often based on the rich cultural heritage associated with the brand. Competitive landscape and strategies of luxury players in China Foreign players continue to dominate China s luxury goods market, while domestic brands are yet to establish a strong foothold in the global luxury arena. It is expected that further fragmentation of consumer demand and behavior will open new doors for domestic brands in the near future. Many luxury retailers that have successfully set up retail stores in tier 1 and tier 2 cities have started to make their entry into the lower tier cities in China. After many years of successful operations in China, many luxury brands gradually shift from joint venture and franchising model to self-operated model; at the same time, some successful local brand distributors evolve themselves to become brand owners. Recently, some global luxury retailers are scaling down their expansion in China due to slower growth in the luxury sector. Some of them are shifting from scale expansion to improving existing store productivity. Social media has become an increasingly important marketing tool for luxury players in China. Many of them are making huge digital marketing efforts to increase brand equity. Luxury brands rely a lot on repeat purchase, thus maintaining customer loyalty is crucial. It is common for luxury brands to offer special discounts or exclusive perks for their VIPs. Meanwhile, the trend of launching made-for-china luxury goods continues. 5

The Market 6

Luxury market in China 2013 Luxury market in China recorded lackluster sales growth in 2012, but Chinese consumers remained the major driving force Global luxury goods market has continued to soar in 2012. According to Bain & Company 1, global luxury sales were estimated to reach 212 billion Euro in 2012, up by 10% year-on-year (yoy) (see Exhibit 1), of which, luxury goods sales in China were projected to reach 15 billion Euro in 2012. If taking Greater China area as a whole, which includes Hong Kong, Macau and Taiwan, the total size of the luxury market in China was expected to reach 27.3 billion Euro, surpassing Japan and becoming the world s second largest luxury goods market in 2012. Exhibit 1: Worldwide personal luxury goods market trend, 2009-2012E Source: Bain & Company 2012 World Luxury Good Market Study Having said that, the growth of luxury sales has started to decelerate since the fourth quarter of 2011. Bain & Company expected a 7% luxury consumption growth in China in 2012, down from 30% in 2011 and 27% in 2010. The slowdown was partly attributable to a weaker economic growth in China, as well as the growing trend of shopping luxury goods abroad. Moreover, the recent ban on spending public funds on luxury items for gifting that took effect on 1 October 2012 2 might also have a negative impact on luxury sales in China. 1 Bain & Company - 2012 Luxury Goods Worldwide Market Study, October 2012 2 http://www.gov.cn/zwgk/2012-07/09/content_2179100.html 7

Anti-gifting regulations in China Social gifting is an essential part of Chinese culture. Bain & Company estimated that personal and corporate gifts accounted for 25% of luxury goods sales in China in 2012. However, many people believe that lavish spending on gifting is always associated with corruptions. Indeed, the Chinese top leaders have identified fighting corruption as their top priority. As part of the anti-corruption campaign, in July 2012, the State Council promulgated the Regulations on the Affairs and Administration of the Government Agencies effective 1 October 2012. According to the regulations, government agencies are prohibited from purchasing luxury goods. As the new leadership in China pledged to increase efforts to curb corruption, it is generally expected that the anti-corruption drive will slowdown corporate gift-gifting, thereby weakening the demand for luxury goods. Having said that, some people believe that this would only be a temporary phenomenon as gift-giving is deeply rooted in Chinese culture. Cosmetics and personal care products, womenswear and menswear witnessed resilient growth Among the major product categories, the yoy growth rates of cosmetics and personal care products, womenswear and menswear were more resilient in 2012, up by 15%, 15%, and 12%, yoy respectively. Watches and jewelry, on the other hand, saw a notable growth deceleration in 2012; the former recorded -5% yoy growth, and the latter registered 5% yoy growth in 2012 (see Exhibit 2). 8

Luxury market in China 2013 Exhibit 2: Market share and growth rates of luxury sales in China by selected category, 2009-2012E YoY growth rate by category 2009-2010 2010-2011 2011-2012E Accessories 15% 20% 10% Womenswear 27% 35% 15% Footwear 20% 20% 10% Jewelry 22% 20% 5% Menswear 24% 30% 12% Leather goods 30% 30% 10% Cosmetics, perfume, and personal care products 22% 22% 15% Watches 45% 40% -5% Total 27% 30% 7% Source: Bain & Company 2012 China Luxury Good Market Study 9

The travelling Chinese consumers spend more on luxury overseas Chinese consumers have strong preference for shopping luxury goods overseas. Bain & Company estimated that overseas consumption of luxury goods (including Hong Kong and Macau) accounted for around 60% of the total Chinese luxury spending in 2012, with watches, jewelry and leather goods winning the top spots. According to World Luxury Association 3, during the Chinese New Year period from 20 January 2013 to 20 February 2013, Chinese consumers spent as much as US$8.5 billion on luxury goods abroad, up by 18% yoy. Chinese consumers spent the most on luxury watches, followed by leather goods, apparel, and cosmetics and perfume. The rising tendency for Chinese consumers to buy luxury goods overseas is due in part to the growing ease of travelling abroad 4, as well as the price difference of luxury goods sold in China and abroad. The easing of visa requirements for Chinese tourists travelling abroad has led to a huge jump in the number of Chinese outbound tourists in recent years (see Exhibit 3). China National Tourism Administration indicated that the total number of Chinese outbound tourists exceeded 80 million in 2012, increased by 15% yoy. According to a report by KPMG 5, a majority (72%) of travelling Chinese consumers would purchase luxury items during their overseas trips. 3 World Luxuary Association - Chinese overseas luxuary goods consumption during the Spring Festival, January 2013 4 Several countries have simplified their visa procedure for Chinese tourists, for example, Japan has not only relaxed the financial requirements for Chinese individual tourist visa applicants, but also extended the number of days that Chinese tourists can stay in the country from 15 to 30 days. South Korea has increased the maximum length of stay for Chinese multiple-entry visas holders from three years to five years. Canada has extended the validity period for multiple-entry visas up to 10 years since July 2011. 5 KPMG - Global Reach of China Luxuary, January 2013 10

Luxury market in China 2013 Exhibit 3: Number of Chinese outbound tourists, 2008-2012 Source: China National Tourism Administration The huge price gap between luxury goods sold in China and abroad has also led to massive luxury consumption outflow. High import duties and consumption tax levied on luxury goods imports have pushed up the prices of luxury goods in China (see Exhibit 4); and a weak Euro against RMB has further deepened the price gap. Further, increasing rental and labor costs and a relatively inefficient distribution and logistics systems are some of the other factors that are attributable to the high prices of luxury goods in China. Exhibit 4: Consumption tax and import tariff on selected luxury products in China Category Consumption tax Import tariff Cosmetics 30% 6.5%-150% Jewelry and precious stones 5%-10% 0%-130% Luxury watches 20% 11%-100% Automobile 1%-40% 25%-270% Yachts 10% 8%-30% Golf equipment 10% 12%-50% Source: China Customs, compiled by the Fung Business Intelligence Centre 11

Price savings is the main reason that Chinese consumers prefer shopping overseas. The Fung Business Intelligence Centre has compared the prices of selected luxury goods sold in Shenzhen and Hong Kong, we found that there is a substantial price difference between luxury products sold in the two places; the price difference varies across different brands and types of products, ranging from 11% to 40% (see Exhibit 5). Exhibit 5: Price comparison of selected luxury products sold in Hong Kong and Shenzhen* Price Price in Price in difference Brand Product Hong Kong Shenzhen (% change (RMB) (RMB) in RMB) Burberry 100% cashmere scarf, 3,205 4,500 40.4% size 30cm x 168cm Dior Lady Dior handbag, median 24,439 29,000 18.7% Dior Lady Dior handbag, large 27,243 32,500 19.3% Hermès 100% silk scarf, 3,045 3,750 23.2% 90cm x 90cm Cartier Tank watch, median 26,763 36,400 36.0% Cartier Love bracelet 34,855 47,300 35.7% Louis Vuitton Wallet, Sarah Monogram 4,127 4,850 17.5% Louis Vuitton Wallet, Alexandra 4,808 5,350 11.3% Monogram Bottega Veneta Handbag, Maxi Veneta Hobo 20,392 25,480 24.9% Chanel Handbag, classic, median 32,211 41,000 27.3% Source: Fung Business Intelligence Centre *Note: (1) as of 14 March 2013 (2) Exchange rate: 1 HKD = 0.801273 RMB 12

Luxury market in China 2013 Online luxury retailing is still testing the waters As China s online retail market is getting more mature, Chinese consumers have more confidence and greater interests to purchase luxury goods online. According to the aforesaid KPMG report, 40% of the survey respondents showed interests in online shopping for luxury goods, compared with 22% in 2011. McKinsey & Company s study 6 also indicated that a small but growing number of Chinese shoppers are purchasing luxury goods online. The survey indicated that among the surveyed respondents who made purchases of luxury items at least once online in the past year rose from 2% in 2010 to 8% in 2012, and the amount they spent online increased from 1% to 3% of the total expenditure. Selling online: self-operated platforms vs. third-party B2C platforms Currently, there are two major ways for luxury retailers to sell online: Self-operated online platforms. Under this model, luxury brand owners sell their own merchandise online through self-operated online platforms or websites. Brand owners own the title to the goods. They manage the websites themselves and responsible for marketing activities, logistics, after-sales services, etc. The online platform of Coach 7 is one such example. Third-parties B2C online luxury platforms. Many of these online luxury platforms hire their own buyers to purchase luxury products overseas and resell them on the online platforms; website operators generate profits from the price difference between Mainland China and overseas. Some products sold on these platforms are authorized by luxury brands. Ferragamo, for instance, has partnered with xiu. com 8 to sell selected authorized products online. However, not all online platforms in China are authorized by the brands. Unauthorized products may not be able to have the official warranty or enjoy the after-sales services provided by the brands. There are risks that consumers may buy counterfeit products online. 6 McKinsey & Company - Luxury Without Borders: China s New Class of Shoppers Take on the World. The McKinsey Chinese Luxury Consumer Survey, December 2012 7 http://china.coach.com/index.htm 8 http://ferragamo.xiu.com/?s_id=xiu-shopinshop-1-1 13

Eyeing the enormous potential of China s online luxury market, a growing number of foreign luxury online platform operators such as yoox.com and Neiman Marcus have started to tap the China market, some of them offer free international shipping to China. Despite the huge growth potential of the online luxury market, selling luxury products online is not easy. China s online retailing market is still not very well-regulated. Problems such as online fraud, counterfeited luxury products, and transaction security remain some major concerns. Supportive government policies to establish a fair and secure business environment for online retailing are crucial. Meanwhile, brands and online luxury retailers have to put more effort into building the reputation of their online platforms. For example, secoo.com, a B2C platform selling luxury products, not only provides luxury products appraisal and evaluation services to ensure the products sold via its online platform are authentic, but also provides other value-added services such as handbag cleaning and product repair services for their customers. Positive drivers of China s luxury market Rapid increase in household disposable income Household disposable income in China has grown consistently over the years. According to the National Bureau of Statistics of China (NBS), growth of household disposable income has been most prominent in the highest income segment, followed by the high income and upper middle income segment, all registering double-digit compound annual growth rates of 14.5%, 12.8% and 12.1%, respectively (see Exhibit 6). These groups of individuals often have a voracious appetite for luxury goods and are the biggest spender on luxury goods. 14

Luxury market in China 2013 Exhibit 6: Compound annual growth rates of household disposable income by income group, 2000-2011 Source: National Bureau of Statistics of China It is expected that household income will continue to rise as the Chinese government strives to double the per capita household income by 2020 to stimulate domestic consumption. Number of wealthy individuals grows at a rapid pace; the fast growing affluent and middle class drives luxury sales According to Hurun Wealthy Report 2012, there were 1,020,000 wealthy individuals in China with personal wealth of 10 million yuan or over by the end of 2011, up by 6.25% yoy. The number of individuals with personal wealth more than 100 million yuan reached 63,500 in 2011, increased by 5.8% yoy. In 2011, Beijing has the highest number of wealthy individuals in China, followed by Guangdong, Shanghai, Zhejiang, Jiangsu and Fujian. 84% of the wealthy individuals live in the coastal areas in China, while less than 20% of the wealthy individuals live in the Northeast, Southwest, Central and Northwest China. 15

A joint report published by Knight Frank and CITI 9 indicated that the world s high net worth individuals (HNWIs) 10 have been gradually shifting towards the east. In 2011, there were 18,000 HNWIs in Southeast Asia, while the number of HNWIs in America and Western Europe were 17,000 and 14,000, respectively. The report also predicted that, by 2016, the number of HNWIs in China will double from its current level to 14,000. On the other hand, the burgeoning middle class is one of the major forces driving luxury consumption in China. The middle class, which is more sophisticated and westernized, has higher income to support their international and sophisticated life style. They are willing to pay a premium for convenience and high quality goods. McKinsey & Company 11 projected that the number of middle- and high-income urban households in China will increase from 181 million in 2012 to 366 million in 2030. Ongoing urbanization and rising luxury demand in smaller cities According to the NBS, at the end of 2012, China s urban population stood at 712 million, with urbanization rate reaching 52.6%. The government is making efforts to further push forward urbanization. It is expected that the urbanization rate will be above 60% by 2020. The Chinese government has been focusing on promoting the development of smalland medium-sized cities and towns in recent years. McKinsey & Company predicted that smaller cities with population less than 1.5 million will be the major force driving China s economy growth in the next two decades and they can form strong clusters with huge economic potential. The rising consumption in these cities will create huge demand for luxury goods. In fact, many luxury companies have already stepped into those cities. For example, fashion luxury companies, Gucci, Burberry, Ermenegildo Zegna and Prada have opened stores in Taiyuan; Gucci and Burberry have stepped into Zhengzhou in Central China. 9 Knight Frank and CITI - The Wealthy Report 2012, March 2012 10 According to a joint report published by Knight Frank and CITI, The Wealthy Report 2012, HNWIs are defined as someone having over US$25 million of investable assets. 11 McKinsey & Company - What s Next For China?, November 2012 16

Luxury market in China 2013 A surge in the number of credit card users is likely to stimulate immediate consumption of luxury goods China is witnessing a surge in the number of credit card users. According to China Banking Association 12, in 2011, China's credit card transactions totaled 7.75 trillion yuan, up 48% yoy; the number of credit cards issued was 285 million, up by 24.3% yoy. MasterCard forecasted the number of credit cards in China to reach 900 million by 2020 13. The rapid expansion of the credit card market will help drive luxury sales in the country. 12 http://www.china-cba.net/bencandy.php?fid=67&id=9350 13 MasterCard 2010 Forum - Seizing Vast Business Opportunities from China's Rapid Urbanization http://www.bloomberg.com/news/2010-09-10/china-to-pass-u-s-as-largest-credit-card-market-by-2020- mastercard-says.html 17

The Consumers 18

Luxury market in China 2013 Wealthy individuals in China are relatively younger than their foreign counterparts In general, Chinese luxury consumers are younger than their overseas peers. According to Roland Berger 14, 60% of the Chinese luxury consumers are aged between 20 and 39, while only 38% of the western European consumers belong to that age group (see Exhibit 7). In western European countries, 21% of the luxury consumers are 60 years of age or above, while only 7% of the Chinese luxury goods buyers are over 60 years of age. Hurun Wealthy Report 2012 also showed that the average age of individuals who possess assets of more than 10 million yuan in China is 39, and the average age of individuals with assets more than 100 million yuan is 41. Exhibit 7: Age distribution of Chinese luxury consumers, 2011 Source: Roland Berger - Chinese Consumer Report - Luxury 14 Roland Berger - Chinese consumers report Luxury; A brand awareness upgrade. Welcoming a new era in the Chinese luxury market, October 2012 19

Increase luxury spending by women and the youth Nowadays, women in China are more independent and have higher spending power than before. Many of them have a strong appetite for luxury and are keen to reward themselves with luxury products. They represent a core segment of the luxury market. According to Hurun, in 2011, among the 1.02 million people with personal wealth above 10 million yuan, 40% of them were women. The Boston Consulting Group s report 15 also pointed out that affluent women s spending on personal luxury goods has increased from 25% in 2010 to 46% in 2012. Apart from the rise of female consumerism, the youth population, particularly the post- 80s and 90s generation and the second generation of the country's wealthy elite, is another major population driving luxury consumption in China. This group possesses a distinctive set of values and buying preferences. They are ready to splurge on luxury products. Although they may not be able to afford luxury goods themselves, they receive substantial financial support from their parents and grandparents. 15 The Boston Consulting - The Age of the Affluent Group, November 2012 20

Luxury market in China 2013 Signs of shifting preferences: consumers in tier 1 and tier 2 cities now prefer low-key but unique luxury products With rising level of sophistication, wealthy Chinese consumers in tier 1 and 2 cities are becoming more discerning. They concern more about the history and culture of the brands, and are generally less logo-oriented. Many of them prefer unique designs to reflect their individual tastes. According to the aforementioned study by McKinsey & Company, 51% of the respondents agreed or strongly agreed that showing off luxury goods is in bad taste, the percentage was the same as that in Japan. However, some consumers in lower-tier cities may still prefer brands with conspicuous and easily recognized logos. These consumers may have just reached the income level where they can afford luxury goods and would like show off their newly found social status (see Exhibit 8). Exhibit 8: Chinese consumers attitude toward purchasing luxury goods with conspicuous logo Are you going to buy luxury goods with conspicuous logo in the future?" Source: McKinsey & Company - Chinese Luxury Consumer Survey, December 2012 21

Brand recognition continues to rise as consumers become more sophisticated; brands with heritage have clear advantage With increasing exposure to luxury brands, Chinese consumers have started to develop a good knowledge of brands. The previously mentioned KPMG survey indicated that their respondents recognized 59 luxury brands in 2012, up from 57 in 2010 and 43 in 2008, and more than half of the respondents preferred to purchase well-known luxury brands, and almost 70% of the respondents would pay a premium for well-known brands. Moreover, many luxury consumers in China are beginning to appreciate the brand s heritage and their purchasing decisions are often based on the rich cultural heritage associated with the brand. For instance, Gieves & Hawkes, a British menswear brand owned by Trinity Group, is popular with Chinese consumers due to its history of being the supplier of ceremonial uniforms to the British Royal family, British Army, and Royal Navy. Chinese consumers greatly appreciate the royal association and are more inclined to view the brand as being high class and high quality. 22

Luxury market in China 2013 Competitive landscape and strategies of luxury players in China 23

Foreign players continue to dominate China s luxury goods market China s luxury goods market is largely dominated by foreign players. Most Chinese luxury consumers tend to favor foreign brands that have long history and unique brand heritage. They also like to choose foreign luxury goods for social gifting. According to Hurun s list of Preferred Brands for Gifting by Men and Preferred Brands for Gifting by Women 16, Maotai is the only Chinese brand that is able to make a spot on the list. Currently, only a few homegrown luxury brands such as the menswear brand, Trands, the luxury fashion brands, NE-TIGER and Shanghai Tang, as well as the fine jewelry brand, Qeelin have gained international recognition. While domestic brands are yet to establish a strong foothold in the global luxury arena, it is expected that further fragmentation of consumer demand and behavior will open new doors for domestic brands in the near future. Some foreign luxury retailers are eyeing the emerging local luxury brands To further expand their brand portfolio and increase their presence in the China market, some foreign luxury retailers are looking for opportunities to invest in local luxury companies that have strong identity and growth potential. For instance, in December 2012, French luxury group, PPR acquired a majority stake in Qeelin, a Chinese fine jewelry brand. And earlier in February 2012, L Capital Asia, a private equity fund financed by the French luxury giant LVMH, acquired a 10% stake in Ochirly, one of the top fashion brands in China. L Capital Asia also co-invested with the Chinese apparel company Xin Hee Co., Ltd. in a mid-priced apparel brand QDA, and its first store was opened in Beijing in March 2013 17. 16 Hurun - http://img.hurun.net/hmec/2013-01-15/201301151541117114.doc 17 http://www.morningwhistle.com/html/2013/company_industry_0307/217439.html 24

Luxury market in China 2013 The retail footprints: Luxury retailers have started to make inroads into lower-tier cities Exhibit 9 shows the sales locations of selected luxury retailers in China. The cities are ranked in the order of their respective competitiveness in the Annual Report on Urban Competitiveness. Cities higher on the list are often perceived as those with greater development potential and stronger economics influence. Indeed, the top four cities on the list are the prominent tier 1 cities in China, namely Shanghai, Beijing, Shenzhen, and Guangzhou. Most luxury retailers have set up retail stores in tier 1 and tier 2 cities. However, the ongoing urbanization, increasing income level and the rapid development of new transportation network in China have made lower tier cities more competitive and appealing to luxury retailers. Many luxury retailers have made their entry into the lower-tier cities. It is expected that tier 3 and tier 4 cities will be important growth drivers in coming years. Among the selected luxury brands, menswear brands have the widest footprints. Most of them have already expanded their presence in lower-tier cities. Cities such as Huizhou, Ordos, Taizhou, Shanyu, and Yantian are popular destinations for luxury menswear brands. 25

Exhibit 9: The retail footprints: sales locations of selected luxury retailers in China (As of March 2013) Louis Tiffany Ermenegildo Vuitton Hermès Chanel Gucci & Co Dior Burberry Armani Prada Zegna 1 Shanghai 3 3 5 8 5 5 6 11 3 8 2 Beijing 4 2 2 7 3 4 7 8 3 12 3 Shenzhen 1 1 1 1 2 2 1 1 2 4 Guangzhou 2 2 1 2 1 1 2 3 1 2 5 Tianjin 1 2 2 3 1 1 1 3 6 Dalian 1 1 1 1 2 2 1 1 2 7 Changsha 1 1 2 2 8 Hangzhou 2 2 1 2 1 1 3 2 2 5 9 Qingdao 1 1 1 1 1 2 1 1 10 Foshan 11 Dongguan 12 Suzhou 1 1 2 3 1 1 13 Shenyang 3 1 1 3 2 2 2 2 2 5 14 Wuxi 1 1 1 1 1 1 15 Nanjing 1 1 1 1 1 2 2 1 2 16 Wuhan 1 1 1 1 2 1 3 17 Ningbo 1 1 2 1 1 1 18 Xiamen 1 1 1 2 19 Jinan 1 2 1 1 2 20 Chengdu 1 1 2 1 2 3 4 1 5 21 Hefei 1 1 1 1 2 22 Dongying 23 Baotou 24 Ordos 25 Changzhou 1 1 26 Huhhot 1 1 1 1 27 Yantai 28 Zhongshan 29 Fuzhou 1 1 1 2 30 Chongqing 1 2 1 1 1 1 31 Xi'an 1 2 1 1 1 4 32 Changchun 1 1 1 1 3 33 Zhuhai 34 Harbin 1 1 2 1 2 3 1 1 2 35 Daqing 36 Zhengzhou 1 1 1 1 37 Yangzhou 38 Nantong 39 Shijiazhuang 1 1 1 1 40 Wenzhou 1 1 2 1 1 1 41 Xuzhou 42 Nanning 1 1 1 1 1 2 43 Zibo 44 Nanchang 45 Zhenjiang 46 Tangshan 47 Quanzhou 48 Taizhou 49 Kunming 2 1 2 1 2 1 2 50 Wuhu 51 Zhoushan 52 Huizhou 53 Maanshan 54 Weihai 55 Shaoxing 26

Luxury market in China 2013 1 Shanghai 2 Beijing 3 Shenzhen 4 Guangzhou 5 Tianjin 6 Dalian 7 Changsha 8 Hangzhou 9 Qingdao 10 Foshan 11 Dongguan 12 Suzhou 13 Shenyang 14 Wuxi 15 Nanjing 16 Wuhan 17 Ningbo 18 Xiamen 19 Jinan 20 Chengdu 21 Hefei 22 Dongying 23 Baotou 24 Ordos 25 Changzhou 26 Huhhot 27 Yantai 28 Zhongshan 29 Fuzhou 30 Chongqing 31 Xi'an 32 Changchun 33 Zhuhai 34 Harbin 35 Daqing 36 Zhengzhou 37 Yangzhou 38 Nantong 39 Shijiazhuang 40 Wenzhou 41 Xuzhou 42 Nanning 43 Zibo 44 Nanchang 45 Zhenjiang 46 Tangshan 47 Quanzhou 48 Taizhou 49 Kunming 50 Wuhu 51 Zhoushan 52 Huizhou 53 Maanshan 54 Weihai 55 Shaoxing Hugo Kent & Cerruti Gieves & Fendi Ferragamo Boss Dunhill Curwen 1881 Hawkes D URBAN 1 5 9 11 5 9 9 6 3 7 13 14 8 11 10 4 1 1 5 2 7 5 3 2 2 4 4 3 4 4 3 2 1 3 3 4 4 5 1 1 2 2 1 1 1 2 3 1 2 2 5 3 3 2 2 1 1 1 1 1 1 1 1 3 1 3 3 2 1 2 6 4 6 7 7 2 1 1 1 1 1 1 1 2 2 3 1 1 1 2 3 4 3 2 2 1 3 2 2 1 1 1 2 2 2 2 2 2 3 1 2 3 1 1 1 3 6 6 7 5 4 3 2 3 1 1 1 1 1 1 1 1 1 1 1 1 1 1 1 1 1 1 1 1 1 1 1 1 1 1 1 1 1 1 1 1 1 2 2 2 2 2 2 3 3 2 3 2 2 1 3 2 8 4 6 1 1 1 1 1 2 1 4 2 2 3 2 2 2 3 1 1 1 1 1 1 1 1 1 2 2 1 1 1 1 3 1 1 1 1 1 2 1 2 2 1 1 1 1 1 1 1 1 1 1 1 1 1 1 1 1 1 2 2 3 3 1 1 1 1 1 1 1 1 1 1 1 1 1 1 1 1 27

Louis Tiffany Ermenegildo Vuitton Hermès Chanel Gucci & Co Dior Burberry Armani Prada Zegna 56 Taizhou 57 Taiyuan 1 1 1 1 3 69 Urumqi 1 1 1 1 73 Huzhou 76 Haikou 87 Jinhua 88 Yancheng 89 Yingkou 90 Jilin 92 Guiyang 1 1 1 93 Lanzhou 1 1 1 99 Handan 100 Panjin Baoding Bengbu Dandong Haining Huainan Inner Mogolia Jinjiang Kunshan Ninghai Leqing Sanya 1 1 1 1 Shangyu Xining Yichang Yiwu Zhangjiagang Source: Respective company websites, compiled by the Fung Business Intelligence Centre Note: Only self-operated stores are included. Luxury brands gradually shift to self-operated model, and some distributors strive to become brand owners For many luxury retailers, when they first entered the China market, they either sold their brand licenses to local distributors, or set up joint ventures with local partners. Many of them also engaged in brand franchising. After many years of successful operations in China, some of the early starters began to take back their brand licenses and run their own self-operated stores. By running their own operation, luxury retailers can better control their business and brand image, and enjoy better profits. Take Salvatore 28

Luxury market in China 2013 56 Taizhou 57 Taiyuan 69 Urumqi 73 Huzhou 76 Haikou 87 Jinhua 88 Yancheng 89 Yingkou 90 Jilin 92 Guiyang 93 Lanzhou 99 Handan 100 Panjin Baoding Bengbu Dandong Haining Huainan Inner Mogolia Jinjiang Kunshan Ninghai Leqing Sanya Shangyu Xining Yichang Yiwu Zhangjiagang Hugo Kent & Cerruti Gieves & Fendi Ferragamo Boss Dunhill Curwen 1881 Hawkes D URBAN 3 2 2 2 2 1 1 1 1 1 1 1 1 1 1 1 1 1 1 1 1 1 1 1 1 1 1 1 1 1 1 1 2 2 2 2 1 1 1 2 2 1 1 2 1 1 1 1 1 1 1 1 1 1 1 1 1 1 1 1 1 1 1 1 1 1 1 1 1 1 1 1 2 1 1 1 1 1 1 1 1 1 1 1 1 1 1 1 1 Ferragamo as an example; it is reported that the company has been working on a plan to take back some sub-franchisees in China to maintain their image 18. Meanwhile, some successful domestic brand distributors have tried hard to evolve themselves and become brand owners. Trinity Limited, a high-end to luxury menswear retailer in China, is a good example of how a brand licensee evolves itself and turn into a brand owner. The company has subsequently in 2008, 2010, and 2012 acquired the brand ownership rights of Kent & Curwen, Cerruti 1881, and Gieves & Hawkes, converting the three licensed brands into self-owned brands. 18 http://www.ft.com/intl/cms/s/0/52e412b2-5593-11e2-bdd2-00144feab49a.html#axzz2nimzrlvw 29

From aggressive stores expansion to improving store productivity Recently, some global luxury retailers are scaling down their expansion in China due to slower growth in the luxury sector. Some of them are shifting from scale expansion to improving existing store productivity. For instance, Louis Vuitton recently announced that it would slow down new store opening in China and focus on revamping and upgrading existing stores. PPR Group also announced that it would cease Gucci s new store expansion in China in 2013. Burberry and Richemont also indicated plans to slow down their expansion in the country. Striking the right balance between store numbers and store productivity is not easy; many luxury brands are working hard towards achieving it. Social media becomes an increasingly important marketing tool Riding the boom of the e-commerce sector in China, many luxury retailers in China are making huge digital marketing efforts to increase brand equity. Social media has become an increasingly common marketing tool. Chinese consumers are becoming more technology savvy and are increasingly getting used to using social media to interact with brands, provide comments on products, and find new brands. According to a report by PricewaterhouseCoopers 19, consumers in China are more actively engaged with social media: 57% of Chinese shoppers followed the brands on social media, while the global figure was 38%. Indeed, some local social networking platforms such as the Twitter-like microblogging service Sina Weibo and Renren, the Chinese equivalent of Facebook are very popular in China. For instance, the total number of registered Sino Weibo users totaled 368 million as of June 2012. Given the large number of Sina Weibo users in China and a strong engagement of Chinese consumers with social media, many luxury retailers have been actively using it as a tool to promote their latest products and interact with their consumers. Exhibit 10 shows the number of followers of selected brands on Sina Weibo as of 18 March 2013. 19 PricewaterhouseCoopers - Demystifying the shopper: 10 myths of multichannel retailing, January 2013 30

Luxury market in China 2013 Exhibit 10: Number of Sina Weibo followers for selected luxury brands (As of 18 March 2013)* Note: Only brands with active corporate Sina Weibo accounts are included Source: Sina Weibo, compiled by the Fung Business Intelligence Centre Maintaining customer loyalty is the key to success Luxury brands rely a lot on repeat purchase, thus maintaining customer loyalty is crucial. It is common for luxury brands to offer special discounts or exclusive perks for their VIPs. For instance, Louis Vuitton reportedly treated 10 of its most valuable Chinese customers to a helicopter tour to Mongolia to watch a camel polo match; while Burberry has also conducted special events for its VIPs, it is reported that the company had invited its top Chinese spender from Shanghai to attend a famous fashion photography exhibition held in Beijing 20. To strengthen the brand s appeal and highlight the skill of its craftsmen, Hermès had invited some of its Italian professional handbag makers to their stores in China to show customers the process of making leather handbags and shoes, from choosing leather to sewing, to the final joining of the pieces of leather together. Meanwhile, to win the hearts of China s increasingly rich and luxury-loving consumers, many brands have launched specific products tailored for the China market. For instance, 2013 is the Year of the Snake in China, several luxury brands have launched specially designed products bearing the image of the snake. Exhibit 11 shows some of the snakethemed products of selected luxury brands. 20 http://online.wsj.com/article/sb10000872396390444772804577618682194946736.html 31

Exhibit 11: Selected luxury brands and their snake-themed products or services Brand Dunhill Louis Vuitton Burberry Vacheron Constantin Piaget Bulgari Cross Davidoff Mercedes-Benz Products or service Snake-themed cufflinks Help customers to monogram a snake imprint on their luggage or baggage Chinese New Year handbag collection with snakeskin pattern Year of the Snake watch Altiplano Chinese zodiac snake watch Snake-shaped necklace; light-up snake is installed across the facades of the flagships in New York, Rome and Tokyo Year of the Snake Collection pen Year of the Snake edition cigars Year of the Snake-Inspired Mercedes-Benz G-Class Source: Various news reports; Fung Business Intelligence Centre Copyright 2013 The Fung Business Intelligence Centre. All rights reserved. Though the Fung Business Intelligence Centre endeavours to ensure the information provided in this publication is accurate and updated, no legal liability can be attached as to the contents hereof. Reproduction or redistribution of this material without prior written consent of the Fung Business Intelligence Centre is prohibited. 32