Industry Insight: Luxury State of Play
It is an interesting moment for the luxury goods sector. The industry has recovered remarkably well from the COVID pandemic given its origins in China, its most important market, and the ongoing restrictions on international travel, an avenue through which a significant portion of luxury spending is done. The recovery has been, to some extent, unequal, as the strongest brands in the space, such as Hermès and Louis Vuitton have seen sales recover back above pre-pandemic levels, while others such as Burberry and Salvatore Ferragamo have revenues that remain below those of 2019. However, overall, the sector has performed strongly since its 2020 lows, supported by forced savings from consumers and their propensity to spend on products as the opportunity for spending on experiences has been severely limited by COVID restrictions.
The resilience of the sector has been given another test over the last few weeks partly as signs that the accelerating spread of the delta variant has pushed back expectations of a resumption of normal economic activity, and, perhaps more importantly, as news emerged last week that Chinese Premier Xi Jinping had called for stronger “regulation of high incomes” at a meeting of the Communist Party’s Central Financial and Economic Affairs Commission. The details of what such regulation might look like are currently thin on the ground, but may involve higher personal and corporate taxation to create a more equal Chinese society. On the face of things, this appears a significant risk to the sector. As mentioned, China is the industry’s most important market, with Chinese consumers accounting for 35% of the value of luxury goods sold in 2019 (this includes both domestic and international spend), and 90% of the global market growth, according to consultancy Bain & Co. While this share declined in 2020, as Chinese consumer spend on luxury items declined 35% versus an overall market decline of 23%, the share of total spending on luxury goods within mainland China almost doubled from 11% in 2019 to 20% in 2020.
“China is the industry’s most important market, with Chinese consumers accounting for 35% of the value of luxury goods sold in 2019 .”
Despite this, to the extent that regulation and taxation are largely targeted at the very top-end of Chinese society, the impact on the sector may not be as severe as some of the share price declines seen last week might indicate. While luxury goods, as Jean-Noel Kapferer and Vincent Bastien write in The Luxury Strategy, were born out of social stratification, the growth in democracy over the last several centuries has in turn led to the democratisation of luxury and the more recent emergence of luxury goods as an industry. Such goods are now, in theory at least, available to anybody, and have become an indicator of social standing to many, one of the reasons why the emerging middle class, rather than the super-rich, are a more important demographic for driving industry growth.
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Indeed, while China, according to a study by the IMF, is one of the more economically unequal countries in the world, this inequality has been declining since its peak in 2008, driven by gains for the middle of the income distribution, and this has coincided with the continued emergence of the country as a luxury goods superpower. Therefore, it is not clear that efforts to address economic inequality in the country would have a negative impact on the demand for luxury goods in China, particularly if prioritising a “common prosperity for all”, as has been reported, were to bring greater numbers into the middle class.
Overall, despite the recent challenges to the sector, the luxury goods industry remains, in our opinion, an attractive one, with some extremely strong brands, elevated profit margins, and barriers to entry from the high fixed costs associated with operating stores (still the primary route to market for luxury goods companies), and from the heritage associated with many of the brands, something which is practically impossible for a start-up luxury company to reproduce.
“Luxury brands remain attractive assets for both those already operating within the sector, and for those outside of it.”
It seems that we are not alone in this view, and that luxury brands remain attractive assets for both those already operating within the sector, and for those outside of it, with the level of corporate activity still healthy despite years of empire building from the likes of LVMH, Kering and Richemont. Early this year saw the closure of LVMH’s deal to acquire US jeweller Tiffany & Co., which in turn has prompted speculation around a tie-up between Kering and Richemont in a bid to catch up with Bernard Arnault’s runaway train.
If you would like to discuss anything raised in this article in more detail, please don’t hesitate to get in touch.