The Long View by Vogue Business: Can China bounce back as luxury’s growth driver?

This article is part of our Advanced Membership package. To enjoy unlimited access to The Long View from Vogue Business and bi-monthly Market Insights Reports and webinars, sign up for Advanced Membership here. After a 30 per cent drop in sales in the second quarter and a flattish third quarter for the luxury industry in China, is a solid recovery on the way for Q4? “It's tricky,” says Luca Solca, senior analyst for luxury at consultancy Bernstein. “It depends on whether we have more lockdowns or not. If not, we should see further improvements.” Much hangs on this. China represents around 25 per cent of luxury sales, according to HSBC estimates. It ranks second in ultra-high-net-worth individuals (those with wealth above $50 million) behind the US, according to the Credit Suisse Global Wealth 2022 report. The number of millionaires (USD) in China is expected to almost double by 2026, from 6.2 million millionaires in 2021 to 12.2 million in 2026 — despite the Chinese government’s emphasis on “common prosperity”, suggesting possible action on wealth disparity. “Concrete regulatory actions beyond a handful of ticket cases have been thin on the ground,” says Adam Knight, co-founder of consulting firm Tong, which has offices in London and Shanghai. Hopes for a relaxation of China’s zero-Covid policy after the 20th Chinese Party Congress (16 to 22 October) have not been realised. “The Congress’s key takeaway is that the leadership is even more committed to a policy that’s skewed towards the strict party line,” says Knight. “Expect more of the same,” says Erwan Rambourg, HSBC global head of consumer and retail research. “The existing policies are basically confirmed. You had a lot of people hoping that there would be more flexibility around Covid management. My understanding is zero-Covid policy is here to stay and brands should probably consider that the mainland China market is going to remain closed for an extended period of time. People who were hoping that Chinese citizens would start to travel back to Japan, Korea, Singapore and eventually Europe will have to be a lot more patient.” An exodus of talent is another challenge: “Although we haven’t seen large city-wide lockdowns for a few weeks, constant lockdowns are rolling on around the country,” says Knight. “The inability to plan anything and the fear of lockdowns have a knockdown effect on spending. Anxiety and disillusion are a growing trend among young Chinese professionals — what we call the “runnology”, meaning not only foreign expats but also Chinese professionals are fleeing overseas.” An immediate recovery seems far-fetched. “Chinese luxury demand is expected to recover gradually, but far from the V-shape recovery seen in 2020 and in the summer of 2021, says Citi analyst and head of luxury goods equity research Thomas Chauvet. “We still have lockdowns here and there. The supply chain is heavily disrupted,” said LVMH chief financial officer Jean-Jacques Guiony during an LVMH Q3 earnings call. “The level of traffic in stores across the country is nowhere near what it was in 2019. So, we are not operating in normal conditions. So, are we satisfied or not? Obviously, we are not. I mean, we would want this market to be as strong as it could be and we expect it to recover soon.” Kering CFO Jean-Marc Duplaix echoed the sentiment during the Kering call: “Clearly, despite an improvement, we don't believe that we are back to a totally normal situation considering the disruption we still have in the country.” Not every brand is in the same boat. “Growth in China was uneven among luxury brands in the third quarter, depending on the brand momentum and positioning in the luxury pyramid,” says Mario Ortelli, managing director of luxury advisory firm Ortelli & Co. The restrictions imposed in the runup to the 20th Chinese Party Congress in October crushed hopes of a speedy return to international travel. China’s economic slowdown, high youth unemployment rate and talent exodus are also casting a shadow over the market. On the upside, Hong Kong’s reopening presents grounds for optimism, as does the number of ultra-high-net-worth individuals in China. Mixed fortunes The unevenness of recovery is noted by analysts. “Very high-end brands are doing a lot better than the more aspirational brands — and brands that are coming from a much lower level in terms of awareness and development in the market are doing well,” says Rambourg. He places Moncler, Saint Laurent and Celine in this latter category. (Moncler reported “positive growth” in China in the third quarter, and a “strong double-digit growth” during Golden Week in early October.) The most encouraging news was delivered by Hermès, which said Q3 sales “picked up strongly in Greater China, despite temporary closures due to sanitary measures mainly in Macau, Chengdu and Dalian in July and August”. The French luxury house said its leather goods and saddlery division benefited from “the strong rebound in Greater China”. According to estimates from brokerage BNP Paribas Exane, Hermès sales were up approximately 30 per cent in the quarter; meanwhile, Gucci sales were down by double-digits. Louis Vuitton was flat, according to LVMH’s Guiony. Saint Laurent, says Duplaix, has been historically a little less established in APAC and particularly mainland China. Now, he notes, it’s performing “extremely well in mainland China, and not only since this quarter… Clearly, the sophistication of the product offer and the high desirability of the brand participate in getting traction in China.” Saint Laurent sales rose 30 per cent in the third quarter globally. Solca attributes Gucci’s slower growth to “brand fatigue”. The Chinese were the first to embrace the new Gucci, he observes, referencing the brand’s turnaround under creative director Alessandro Michele in 2016. “They are also the first consumers to get tired of it,” he says. Alessandro Michele's Gucci enjoyed significant success in China in 2017 and 2018 among the younger generation, but this cohort has shown to be less loyal compared to predecessors. In recent years, their interests have shifted to other trending luxury brands such as Celine, Maison Margiela and Saint Laurent. Additionally, the younger generation's purchasing power has reduced as China's economic growth continues to slow. The Chinese economy is struggling. China’s gross domestic product is expected to grow 3.2 per cent in 2022, according to the International Monetary Fund, a sharp drop on the 8.1 per cent growth reported in 2021. The unemployment rate for young people aged 16 to 24 reached nearly 20 per cent in July. A shift in luxury spending towards the premium luxury brands is reflected in product categories as well. High-ticket items have fared better. Kering’s Duplaix identifies a hint of slowdown in small leather accessories, while “high jewellery, which is not big in terms of contribution but very important in the strategy of Gucci, did extremely well.” Gucci, under the new leadership of Laurent Cathala in China, continues to implement its “elevation” strategy. “Typically the Blondie bag, which is, when you look at the design and the quality, quite a timeless product and a more elevated one, has been very successfully received in China,” says Duplaix. “It’s where we had great success… We are very confident that we have the team in place, the products and the offer to be successful in the country in the long run.” Glimmer of hope The situation in Hong Kong, at least, is improving. Quarantine for inbound travellers has been lifted and Covid restrictions relaxed. Tong’s Knight says Hong Kong is a pilot for what may come next in mainland China. “Hong Kong has always held special status as a test bed for policies to be considered for wider rollout on the mainland. Potentially; the signs are encouraging, though it will depend on approval and then rollout of a new mRNA vaccine,” he observes. The return of the Beijing marathon in November, after a two-year Covid hiatus, is another small sign of optimism. Overall, the Chinese luxury sector is expected to grow 14 per cent in 2023 (against an easy comparison basis in 2022), well ahead of luxury’s global growth of 7.5 per cent, according to HSBC estimates. Patience is required. Kering’s Duplaix told analysts: “I think that we should keep calm and carry on in the country to continue to implement our strategy and our action plans.” “The third quarter was as good as it gets,” concludes Rambourg of HSBC, reflecting on the global outlook for luxury. “Now, we think the sector is entering a phase of muted growth — three, six, nine months, we don’t know. With a slowdown in local European consumption; a clear landing in the US, Korea and Japan; and with China picking up — although in a muted manner versus what most observers or brand managers would've hoped for — there will be what British people would call pedestrian growth, after exuberant growth.” “2023 will be a complex year because real inflation will be felt next year. Are we scared? No, but we are serious, we must be aware that it is a year that we must talk to the market in a different way” said Moncler chairman and CEO Remo Ruffini at the Milano Fashion Global Summit 2022 symposium on 25 October. Speaking of the 2023 outlook, Citi’s Chauvet said: “We favour companies with strong, established brands, pricing power, high control of direct retail distribution, high exposure to the reopening of China and high exposure to leather goods and jewellery.” Yiling Pan contributed reporting. To receive the Vogue Business newsletter, sign up here. Comments, questions or feedback? Email us at feedback@voguebusiness.com.

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