A recession-proof proposition

The emergence of members-only, online flash-sale discounters in the early 2000’s leveraged the traditional need for luxury and premium brands to discretely dispose of excess stock, by capitalising on the opportunities presented by a fledgling e-commerce landscape. The business model was based on a simple proposition: to make high-end goods available at rock-bottom prices online, in an innovative digital declension of the traditional designer end-of-season sample sale. Sale events, characterised by a short duration (typically, under 72 hours) and deep discounts (up to 70-80% off retail prices) and targeting a gated, members-only community, replicated the exclusivity and sense of urgency of traditional sample sales while allowing discounters to scale up to achieve considerable volume.

The 2008 financial sector crisis brewed the right conditions for online discounters to really thrive, as the sharp decline in consumer confidence caused by the banking crisis meant that luxury and premium brands found themselves with considerable product surplus and unable to shift inventory. Flash-sale sites were uniquely positioned to help brands out of these dire straits, enabling brands to liquidate stock quickly and discretely – the latter a particular plus for luxury brands wishing to avoid tarnishing their brand equity. The business model that was introduced by Vente-Privée, the French company widely regarded to be pioneer in the sector launching back in 2001, required little working capital on the basis that stock purchase did not occur until the wrap-up of the sale event and only after receiving payment from final customers. This meant generating positive cash flow and achieving almost zero inventory risk.

Following the rapid growth of Vente-Privée (the company reached $1 billion turnover in only 6 years), numerous players entered this space, keen to reap the unique opportunities presented by this model during this economic climate. All across the globe a large number of thriving, localised players emerged, ready to target their offer to local demographics. Between 2007-2009 inEurope, new entrants appeared including Buy VIP, Cocosa, Brand Alley and Brands4Friends. Meanwhile, in theUS, Gilt Groupe, Hautelook, Ideeli and Rue La La moved in, quickly establishing themselves as volume players in this key market. In most cases, while sites started out by concentrating on selling ready-to-wear and accessories, in time they expanded by gradually introducing new verticals such as homeware, sports equipment, technology, toys and wine.

Traditional e-commerce and brick-and-mortar players also soon stepped into the flash-sale segment. In September 2010 Amazon bought into the Madrid-based Buy VIP, while online auctioneer eBay moved into the sector with a stake in the German Brands4Friends and shortly thereafter in early 2011 acquired Rue La La through its purchase of the parent company GSI Commerce. In 2011 Nordstrom acquired Hautelook for $270 million, while the same year erstwhile department store owner Mohammed al-Fayed purchased London-based Cocosa through the al-Fayed family trust for an undisclosed sum.

…But is the model still relevant? 

While the recession certainly whetted consumer appetite for a good bargain, the competitive landscape quickly started looking more and more saturated, resulting first and foremost in downward pressure on existing discounters to secure true luxury designer merchandise. At the same time luxury brands, cautioned by the recession from being caught unawares with over-stocked warehouses, began to adopt a leaner approach. Soon, there was simply less distressed luxury product to go around and, as a result, many players have had to dramatically rethink both their format and their offer in order to survive.

To a large extent, the shift from a luxury to a premium product, or the expansion from fashion to lifestyle offer, was inevitable; ultimately, the flash-sale model was designed to move volumes that the luxury fashion sector alone cannot supply. Indeed, UK-based Brand Alley is one such player that has recast its offer to exclusively premium and high-street brands that better cater to the volumes required. Meanwhile, 30-40% of Gilt Groupe’s womenswear offer now consists of non-distressed merchandise which is produced exclusively for the site, a move that ultimately undermines the discounter’s unique selling proposition as a curated and high-end flash-sale purveyor.

What’s surprising however, is that the very features that defined the model – the temporal sale, deep discounts and a gated, members-only community – have slowly been eroded also. Both Brand Alley and Cocosa have revisited the temporary element of the original model and introduced permanent categories, for example permanent sale categories (such as jeans or candles) or full price permanent product, and in 2011 Gilt launched a full-price men’s site, Park & Bond, thus altering the company’s remit considerably. Indeed, speaking of the future of Gilt Groupe, founder and CEO Kevin Ryan admitted he “would not be surprised if in the future 50% of our revenue will come from full priced [because] when you think about it, the full price market is bigger.” [1]

Customer acquisition driving investment

Part of the problem for flash-sale sites is that as the business grows, companies are faced with a high customer acquisition cost that only increases as more users join the platform and the overall market becomes more and more saturated. For those players that have chosen to retain the members-only gated access, this challenge is ever more acute. Ultimately, being market leader is the only way to assure organic customer acquisition and this has resulted in a number of high-profile strategic acquisitions and investments taking place within the flash-sale segment.

To date Gilt Groupe, the biggestUSplayer, has raised $240 million in investment, led chiefly by Matrix Partners, General Atlantic and Softbank Group, with the most recent valuation placing the company at roughly $1 billion. Since its founding in 2007, Gilt has gone on to launch a number of new verticals and establish Gilt GroupeJapan, Gilt Cities (a localised, daily-deal site) as well as Park & Bond. Interestingly in October 2010 it acquired San Francisco-based Bergine, and only last November it acquired BuyWithMe, decisions which Ryan acknowledged as largely motivated by the desire to acquire the daily-deal sites’ considerable databases, which Gilt could leverage across its verticals, but in particular with Gilt Cities.

Interestingly, Cities places Gilt in direct competition with flash-sale coupon giant Groupon. It is worth noting that Groupon has been engaged in an aggressive (and expensive) customer acquisition campaign – including three strategic corporate acquisitions within the month of February alone – at the expense of developing customer loyalty. This underlines a key point about customer acquisition, that it that it requires a parallell customer retention strategy, particularly when conversion rates in the sector are still relatively low (8-10%).

Meanwhile Vente-Privée, having originally established a strong, localised presence across Europe thanks to an early €160 million investment by Summit Partners in 2007 (who acquired a 20% stake in the business at a time when revenue was €240 million and equity valued at €800 million), unveiled Vente-Privée USA as a joint venture with American Express, in a move widely construed as a bid to directly take on Gilt Groupe.

New platforms looking in new directions

Despite a flurry of strategic financing activity, questions remain about the future of the flash-sale model, particularly as it pertains to its past-season luxury fashion incarnation. Certainly change is necessary for any business to evolve and stay relevant, a sentiment echoed by Ideeli’s CEO Paul Hurley, who recently commented on the company’s $30 million round of investment as enabling the company to “continue to grow [...] beyond the flash-sale model and into the new generation of e-commerce.”

Indeed, the future of luxury flash-sale sites may well be in adapting the model into new directions. Launched in 2011, Moda Operandi provides an excellent example of a flash-sale site that has emerged with a strong point of difference and which holds considerable potential. Like other flash-sale models, Moda Operandi offers limited time sales. However, unlike Gilt and their ilk, Moda flips the premise of past-season discounting and instead offers its customers access to pre-season, luxury fashion, allowing the site to cater to a sophisticated, fashion-forward consumer. This model is a lot more brand-friendly as not only does it offer instant cash-flow (from the 50% down payment that customers place to secure their orders), it also helps increase efficiency by contributing to better product forecasting and minimising inventory risk and, crucially, avoids the dreaded discount word.  Moda Operandi announced at the beginning of June 2012 that it had raised a further $36 million from venture capital firm RRE Ventures as well as several high-profile strategic investors, including IMG, Condé Nast and LVMH-Moët Hennessy Louis Vuitton, indicating strong industry and market support.

What’s next for fashion flash-sale sites? 
With contributions from Ceci Guicciardi, Brand & Commercial

A recession-proof proposition

The emergence of members-only, online flash-sale discounters in the early 2000’s leveraged the traditional need for luxury and premium brands to discretely dispose of excess stock, by capitalising on the opportunities presented by a fledgling e-commerce landscape. The business model was based on a simple proposition: to make high-end goods available at rock-bottom prices online, in an innovative digital declension of the traditional designer end-of-season sample sale. Sale events, characterised by a short duration (typically, under 72 hours) and deep discounts (up to 70-80% off retail prices) and targeting a gated, members-only community, replicated the exclusivity and sense of urgency of traditional sample sales while allowing discounters to scale up to achieve considerable volume.

The 2008 financial sector crisis brewed the right conditions for online discounters to really thrive, as the sharp decline in consumer confidence caused by the banking crisis meant that luxury and premium brands found themselves with considerable product surplus and unable to shift inventory. Flash-sale sites were uniquely positioned to help brands out of these dire straits, enabling brands to liquidate stock quickly and discretely – the latter a particular plus for luxury brands wishing to avoid tarnishing their brand equity. The business model that was introduced by Vente-Privée, the French company widely regarded to be pioneer in the sector launching back in 2001, required little working capital on the basis that stock purchase did not occur until the wrap-up of the sale event and only after receiving payment from final customers. This meant generating positive cash flow and achieving almost zero inventory risk.

Following the rapid growth of Vente-Privée (the company reached $1 billion turnover in only 6 years), numerous players entered this space, keen to reap the unique opportunities presented by this model during this economic climate. All across the globe a large number of thriving, localised players emerged, ready to target their offer to local demographics. Between 2007-2009 inEurope, new entrants appeared including Buy VIP, Cocosa, Brand Alley and Brands4Friends. Meanwhile, in theUS, Gilt Groupe, Hautelook, Ideeli and Rue La La moved in, quickly establishing themselves as volume players in this key market. In most cases, while sites started out by concentrating on selling ready-to-wear and accessories, in time they expanded by gradually introducing new verticals such as homeware, sports equipment, technology, toys and wine.

Traditional e-commerce and brick-and-mortar players also soon stepped into the flash-sale segment. In September 2010 Amazon bought into the Madrid-based Buy VIP, while online auctioneer eBay moved into the sector with a stake in the German Brands4Friends and shortly thereafter in early 2011 acquired Rue La La through its purchase of the parent company GSI Commerce. In 2011 Nordstrom acquired Hautelook for $270 million, while the same year erstwhile department store owner Mohammed al-Fayed purchased London-based Cocosa through the al-Fayed family trust for an undisclosed sum.

…But is the model still relevant? 

While the recession certainly whetted consumer appetite for a good bargain, the competitive landscape quickly started looking more and more saturated, resulting first and foremost in downward pressure on existing discounters to secure true luxury designer merchandise. At the same time luxury brands, cautioned by the recession from being caught unawares with over-stocked warehouses, began to adopt a leaner approach. Soon, there was simply less distressed luxury product to go around and, as a result, many players have had to dramatically rethink both their format and their offer in order to survive.

To a large extent, the shift from a luxury to a premium product, or the expansion from fashion to lifestyle offer, was inevitable; ultimately, the flash-sale model was designed to move volumes that the luxury fashion sector alone cannot supply. Indeed, UK-based Brand Alley is one such player that has recast its offer to exclusively premium and high-street brands that better cater to the volumes required. Meanwhile, 30-40% of Gilt Groupe’s womenswear offer now consists of non-distressed merchandise which is produced exclusively for the site, a move that ultimately undermines the discounter’s unique selling proposition as a curated and high-end flash-sale purveyor.

What’s surprising however, is that the very features that defined the model – the temporal sale, deep discounts and a gated, members-only community – have slowly been eroded also. Both Brand Alley and Cocosa have revisited the temporary element of the original model and introduced permanent categories, for example permanent sale categories (such as jeans or candles) or full price permanent product, and in 2011 Gilt launched a full-price men’s site, Park & Bond, thus altering the company’s remit considerably. Indeed, speaking of the future of Gilt Groupe, founder and CEO Kevin Ryan admitted he “would not be surprised if in the future 50% of our revenue will come from full priced [because] when you think about it, the full price market is bigger.” [1]

Customer acquisition driving investment

Part of the problem for flash-sale sites is that as the business grows, companies are faced with a high customer acquisition cost that only increases as more users join the platform and the overall market becomes more and more saturated. For those players that have chosen to retain the members-only gated access, this challenge is ever more acute. Ultimately, being market leader is the only way to assure organic customer acquisition and this has resulted in a number of high-profile strategic acquisitions and investments taking place within the flash-sale segment.

To date Gilt Groupe, the biggestUSplayer, has raised $240 million in investment, led chiefly by Matrix Partners, General Atlantic and Softbank Group, with the most recent valuation placing the company at roughly $1 billion. Since its founding in 2007, Gilt has gone on to launch a number of new verticals and establish Gilt GroupeJapan, Gilt Cities (a localised, daily-deal site) as well as Park & Bond. Interestingly in October 2010 it acquired San Francisco-based Bergine, and only last November it acquired BuyWithMe, decisions which Ryan acknowledged as largely motivated by the desire to acquire the daily-deal sites’ considerable databases, which Gilt could leverage across its verticals, but in particular with Gilt Cities.

Interestingly, Cities places Gilt in direct competition with flash-sale coupon giant Groupon. It is worth noting that Groupon has been engaged in an aggressive (and expensive) customer acquisition campaign – including three strategic corporate acquisitions within the month of February alone – at the expense of developing customer loyalty. This underlines a key point about customer acquisition, that it that it requires a parallell customer retention strategy, particularly when conversion rates in the sector are still relatively low (8-10%).

Meanwhile Vente-Privée, having originally established a strong, localised presence across Europe thanks to an early €160 million investment by Summit Partners in 2007 (who acquired a 20% stake in the business at a time when revenue was €240 million and equity valued at €800 million), unveiled Vente-Privée USA as a joint venture with American Express, in a move widely construed as a bid to directly take on Gilt Groupe.

New platforms looking in new directions

Despite a flurry of strategic financing activity, questions remain about the future of the flash-sale model, particularly as it pertains to its past-season luxury fashion incarnation. Certainly change is necessary for any business to evolve and stay relevant, a sentiment echoed by Ideeli’s CEO Paul Hurley, who recently commented on the company’s $30 million round of investment as enabling the company to “continue to grow [...] beyond the flash-sale model and into the new generation of e-commerce.”

Indeed, the future of luxury flash-sale sites may well be in adapting the model into new directions. Launched in 2011, Moda Operandi provides an excellent example of a flash-sale site that has emerged with a strong point of difference and which holds considerable potential. Like other flash-sale models, Moda Operandi offers limited time sales. However, unlike Gilt and their ilk, Moda flips the premise of past-season discounting and instead offers its customers access to pre-season, luxury fashion, allowing the site to cater to a sophisticated, fashion-forward consumer. This model is a lot more brand-friendly as not only does it offer instant cash-flow (from the 50% down payment that customers place to secure their orders), it also helps increase efficiency by contributing to better product forecasting and minimising inventory risk and, crucially, avoids the dreaded discount word.  Moda Operandi announced at the beginning of June 2012 that it had raised a further $36 million from venture capital firm RRE Ventures as well as several high-profile strategic investors, including IMG, Condé Nast and LVMH-Moët Hennessy Louis Vuitton, indicating strong industry and market support.

A tale of two halves

The Savigny Luxury Index (‘SLI’) outperformed the MSCI World Index (‘MSCI’) by 16 percentage points despite a string of severe beatings over the year.  It gained close to 8% over the year, relative to a decline of almost 8% for the MSCI.  Stripping out the effects of the Prada IPO in June, which mechanically boosted our index through the introduction of a large number of new shares, the SLI still ended the year up 3%.  The past year has been a game of two halves for the SLI.  The first half, with the exception of the Japan earthquake, was a period of relative stability and growth with our index significantly outperforming the overall market.  In the second half however all hell broke loose in a period of uncertainty and strong volatility.

Savigny Luxury Index performance January 2011 to date

Chinese voracity for luxury fuels growth in first half

Driven down at first by profit-taking in January, the SLI evolved in line with the MSCI during the first quarter of 2011.  The Japan earthquake in March pulled it down only momentarily before it overtook the global MSCI index mid–April, spurred on by reports of double digit sales growth across the sector.  The SLI, perceived as a safe haven for investors amid the gloomy economic outlook, embarked on a steep ascent, gaining over 22% from the beginning of the year to its peak on the 25^th of July (albeit including a 5-point Prada IPO effect).  This compares to a decline of nearly 4% for the MSCI over the same period.

A very volatile second half despite largely positive sector newsflow

Successive serious concerns hit the equity markets during the second half of 2011.  In August, markets fell sharply when the US lost its AAA credit rating and euro-zone debt issues started to materialise.  In September, luxury stocks suffered a steep sell-off from hedge funds due to growing concerns over the Chinese economy slowing down.  Global markets once again reacted to developments in the euro-zone debt crisis in September, November and again December, with Greece and then Italy taking centre stage.

Despite a string of fairly sharp drops both the SLI and the MSCI managed to finish the end of the year more or less at the level where they stood at the beginning of June, down a few percentage points for the second half of the year.  However the graph paints quite a different picture for the two indices, with much greater volatility for our SLI.  For example, during the September sell-off, the SLI tumbled down by 12% over five days but then gained back 14% six days later, whereas the MSCI lost 3% and recovered 5%.  The same pattern occurred again later.  In November, our SLI was down 10% over eight days and then 7% in the next five days, compared to a same-period fall and recovery of 6% down and 6% up for the MSCI.  In December, the SLI dropped by over 8% over a week and then up 5% the following week, whilst at the same time the MSCI fell 2% and climbed back 3%.

This took place whilst the luxury sector continued to produce both good news and M&A activity, running counter to the general doom and gloom prevalent in global markets:  LVMH reporting nine-month Asian revenues up 27%; the USA luxury market coming back to life (Burberry’s first half US sales and Tiffany’s third quarter revenues up 25% and 17% respectively, record Thanksgiving weekend retail sales); Richemont announcing a 36% increase in sales for the first half of its fiscal year; Bulgari, Brioni, Moncler and Delvaux changing hands, amongst others.

The uncertainty paradox

Overall, the luxury sector has proven resilient despite the difficult economic environment.  The luxury groups have rarely been so profitable and well-managed, benefitting from worldwide platforms, efficient supply chains and global advertising campaigns.  Analysts’ forecasts are bullish.  Yet rarely have we felt so much uncertainty.  Sector growth continues to be highly dependent on China, both on its domestic market and on Chinese buying abroad.  Retailers are scared of taking up inventory across Western markets, where the sector as whole has an enormous accumulated investment in people, infrastructure, and stores.  Other emerging markets (Brazil, some Southeast Asian countries and Russia) show enormous promise but don’t yet quite really add up to a significant share of the pie.  The expected slowdown has not quite arrived yet, and nobody really knows how significant such a slowdown would be.  Industry CEOs are keeping fingers crossed, and quietly playing with contingency plans and what-if scenarios they hope to never see.

This is reflected in valuation multiples for the sector, which trade at a 25% discount compared to the end of the last year despite similar performance indicators (expected profitability and growth) as evidenced by the table overleaf.

Source: Reuters

(1) Share prices as at 30 December 2011

(2) Year-on-year price growth reported in local currency whereas the SLI and MSCI are expressed in Euro

(3) Sales growth: year-on-year change using latest annuals and consensus estimates for current year (either Dec. 11 or Mar. 12 depending on company year-end)

(4) P/E multiples: historical based on either Dec. 10 or Mar. 11 EPS; current based on Dec. 11 or Mar. 12 EPS depending on company year-end

(5) The SLI growth percentages and multiples are computed on average weighted basis

M&A activity in the sector

Companies that have changed ownership or received investment in 2011

• The management of Hobbs, the UK-based fashion retailer, acquired the company backed by 3i, the UK-based private equity firm in January
• Rive Gauche, the Russia-based perfumery and cosmetics retail chain, acquired Douglas Rivoli, the Russian retail operations from listed German perfume retailer Douglas Holding in January
• Accessory Network Group, the US-based manufacturer of handbags, acquired the American leathergoods brand Kooba in February
• TowerBrook Group Capital Partners, the US-based private equity firm, acquired the British fashion retailer Phase Eight in February
• Paris Fashion Group, the UAE-based retail group, acquired the fashion house Gianfranco Ferré in February
• LVMH acquired Nude Brands, the UK-based skincare brand in February
• Nordstrom, the US-based specialty retailer, acquired HauteLook, the American online retailer in February
• Paris Fashion Group acquired the French fashion house Louis Féraud in February
• LVMH acquired Bulgari in March
• Fung Brands, the Hong Kong-based investment vehicle funded by the Fung family and the Government of Singapore, acquired Robert Clergerie, the French footwear brand, in April
• Labelux, the Austria-based luxury group, acquired Belstaff, the heritage outerwear brand in April
• BC Partners, a UK-based private equity firm, acquired Italian department store chain Gruppo Coin in May
• PPR acquired Volcom, the Californian apparel brand in May
• Puig, the Spain-based fragrance and cosmetics group, acquired a 45% stake in the French fashion house Jean-Paul Gaultier in May
• The management of the British fashion retail chain All Saints acquired the company in an MBO in May, backed by Lion Capital, the UK-based private equity firm, and Goode Partners, the US-based private equity firm
• Qatar Luxury Group, the investment fund owned by the Emir of Qatar’s spouse, acquired Le Tanneur, the listed French leathergoods manufacturer, in May
• Labelux acquired Jimmy Choo in May
• Mubadala, the UAE-based sovereign fund, acquired cashmere brand Ballantyne in May
• EPI, the France-based luxury investment group, acquired Champagne producer Piper-Heidsieck in May
• Chantelle, the France-based lingerie company, acquired 66% of the French lingerie brand Chantal Thomass in May
• The Jones Group, the US-listed fashion group, acquired Kurt Geiger, the British footwear retailer, in June
• Eurazeo, the listed France-based private equity firm, acquired a 45% stake in Moncler, the fashion and sportswear brand in June
• A consortium of investors led by Exea Corporation (the Puig family investment vehicle), Aurica (the Spain-based private equity firm) and cosmetics veteran Hervé Lesieur, acquired French dermatological skincare company Laboratoires Dermatologiques d’Uriage in June
• China Haidan Holdings, the listed Hong Kong-based watch manufacturer and retailer, acquired Eterna, the Swiss manufacturer of watches and watch components in June
• DKSH, the Swiss-based provider of market expansion services in Asia, acquired the Swiss watchmaker Maurice Lacroix in July
• Better Capital, the listed UK private equity firm, and Royal Bank of Scotland, the listed financial services group, acquired the UK manufacturer of luxury yachts Fairline Boats in July
• Change Capital Partners, the UK-based private equity firm, acquired a majority stake in French fashion house Paule Ka in July
• E-Land Co, the South Korean fashion retailer, acquired the Italian leathergoods and accessories brand Mandarina Duck in July
• The founding family of Braccialini, the Italian leathergoods brand, and a consortium of financial investors, acquired the eponymous company in July
• AmorePacific Co, the listed South Korean personal care group, acquired the fragrance brand Annick Goutal in August
• Fung Brands acquired Delvaux, the Belgian leathergoods brand in September
• South Korean sportswear group EXR acquired the French fashion brand Jean-Charles de Castelbajac in September
• Brightwork Brand Holdings, the newly formed US-based private equity firm, acquired American leathergoods brand Ghurka in September
• Ming Fung Jewellery Group, the listed Hong Kong-based jewellery manufacturer, acquired Omas, the Italian writing instruments company in September
• Elie Tahari and Arthur Levine acquired the US-based womenswear brand Catherine Malandrino in October
• JSB International, a family-controlled investment vehicle, acquired French fashion Jean-Louis Scherrer in November
• PPR acquired Brioni in November
• Simest, the Italy-based venture capital firm, acquired 49% of Buccellati, the Italian jewellery brand in November, from one of the family shareholders.  51% of the company is still in family hands
• E-Land Co acquired the Italian leathergoods brand Coccinelle in December

Important Notice

This newsletter is distributed from time to time to clients and contacts of Savigny Partners LLP (“Savigny”) who are interested and professionally experienced in the luxury goods sector.  The views and opinions expressed in this newsletter pertain to themes that are topical to the luxury goods sector as at the date of this newsletter, and are meant to stimulate open discussion between Savigny and its clients and contacts.  The information in this newsletter has been compiled from sources believed to be reliable but neither Savigny, nor any of its partners, officers or employees makes any representations as to its completeness or accuracy.  This newsletter is not intended to help its addressees or readers make investment decisions, nor does it purport to make recommendations regarding potential investment decisions.  Savigny shall not be liable or responsible for any loss or damage caused by or arising from any reader’s reliance on information contained in this newsletter.  Please note that some or all of the brands, and the companies which own brands, mentioned in this newsletter may have been and may continue to be clients of Savigny or may have a professional relationship with Savigny.

Burberry: from plough horse to thoroughbred?

14 years ago, Burberry was all but put out to pasture, suffering from a dusty image and its logo being pasted on cake tins, doilies and aprons.  Rose-Marie Bravo was put in the saddle and took Burberry for a ride down Chav lane to the gates of the luxury racecourse.  Despite doing a great job in fixing Burberry over her 9-year tenure, setting the foundations for her successor and consistently beating market expectations, the jury was still out as to whether Burberry could ever become a thoroughbred luxury brand.

The next phase of growth was spearheaded by Angela Ahrendts, who joined Burberry in 2006.  Since her arrival Burberry has galloped to the top of the luxury valuation leaderboard, more than doubling in turnover and market capitalisation to £1.5 billion and £5.8 billion respectively, twice the rate of growth of LVMH’s turnover and market value over the same period.

The recent results announcement was very strong with revenue growth of 27% and operating profit increasing 37%.  However, initial market reaction was muted by the company’s warning that more investment was required in its flagships and that margin growth would suffer in the short term as a result.

In this article we will examine how far the brand has come, where the potential for growth lies and what pitfalls it may encounter along the way.

Brand architecture – Prorsum leads, London and Brit reap

A clearly defined brand architecture is the foundation on which a brand’s business is built.  As is the case with houses, the foundations of a brand are sometimes added to over the years in order to adapt to new markets or demands.  The end result is a mixed bag of brands and sub-brands that have no common thread and which, by trying to appeal to all, end up appealing to no-one.  This was the case with Burberry 14 years ago.  The cleaning up task was gargantuan, consisting of termination of licenses (32 product licenses in 1998 to 3 product licenses in 2011), closure of wholesale accounts, re-branding/positioning of retail outlets, and the phasing out of inconsistent (albeit profitable) sub-brands often in the company’s most strategic markets such as Japan and Spain.

Burberry now has three main sub-brands:  Prorsum, London and Brit (which includes Burberry Sport).  Prorsum took a good decade to earn its stripes: Anna Wintour attended the Prorsum fashion show for the first time in 2009, when the show relocated to London from Milan.  London and Brit are reaping the benefits of this investment and have been the main engines of sales and profit growth.  The potential for Brit to outgrow London in size is there to be seized.  One only has to look at Armani Jeans to see how far this label can potentially go.

Communication – engaging with today’s customer

Burberry rightly believes that, outside its stores, the best way to reach its customers is through digital media.  The company’s digital strategy covers more than the main bases: with 5 million fans, it is the most liked luxury brand on Facebook, it has had 4 million channel views on Youtube last year, its social networking site “artofthetrench” is engaging and it has built a presence on a number of international and local social networking sites such as Twitter, Sina Weibo, Kaixin001, Douban and YouKu.  The company has also invested a lot into its website, which is live in 6 languages and transactional in 45 countries.  Off to a shaky start (slow and difficult to navigate), the website is improving and has great imagery.

The group’s new store formats are also filled with digital features, such as digital walls/screens and Ipads for sales staff providing access to the full collection.  This all serves to make the brand a lot more relevant to today and tomorrow’s luxury consumer.

Product mix – trapped in an outerwear straightjacket?

Burberry’s outerwear image has proved a solid foundation, but the brand is not finding it easy to establish itself as a fully-fledged ready-to-wear brand.  Outerwear still accounts for more than half of the mainline apparel sales and is over-represented in womenswear.  We believe there is immediate potential for growth in menswear, which has only recently been brought fully in-house and in sportswear, both categories allowing for an easier transition from outerwear.  The more “fashion” offering, led by Prorsum credibility, will find it harder to grow but will undoubtedly find its customer base over time, particularly in the very promising emerging markets.

Burberry has made some solid gains in the non-apparel category (mainly in leather goods), which has grown at an average annual rate of almost 20% since 2001 and now accounts for 44% of wholesale and retail revenues.  The company is now looking to focus on small leather goods and shoes for further growth.  Other areas the company is looking to develop include childrenswear, colour cosmetics and home accessories.  There will be customers indeed for such products due to the strength of the brand, but the obvious categories have already been tackled and the company is now venturing further outside its comfort zone.

Distribution – reinventing itself as a retailer

Burberry’s retail operations have been the key driver of the company’s phenomenal growth over the last decade.  In 2001 the company had 54 Directly Operated Stores (“DOS”), consisting of 1 flagship, 30 mainline stores, 6 concessions and 17 outlet stores.  In 2011 that number has risen to a staggering 417 DOS, consisting of 174 mainline stores (including flagships), 199 concessions and 44 outlets.  This outstanding transformation was achieved partly through the conversion of franchise/wholesale operations to direct retail, notably in Spain, Korea, Taiwan and most recently China, as well as through investment in new retail locations, mainly in the USA and in European fashion destinations.  Own retail is now the company’s principal distribution channel, in line with other leading luxury brands.

In addition to growing its retail operations, Burberry has become a better retailer: sales densities have improved from a paltry £597/sq.ft. in 2001 to close to £1,000 in 2011.  This has been driven by improvements in product mix/merchandising and in replenishment.  Nevertheless this is still a relatively modest performance for a luxury retailer; the company admits that work needs to be done to improve the retail experience and has announced a major flagship refurbishment programme for the current financial year.

Geographic reach – getting the balance right

Burberry has evolved from being a predominantly Japanese and Spanish business with operations in the UK to a truly global brand with a balanced geographic portfolio.  One of its key strategic initiatives has been to invest in under-penetrated markets, which included developed markets such as the USA and emerging markets such as China, India and the Middle East.  The company’s store presence in China (50 stores as at July 2010) now matches its luxury peers and it plans to double its presence in this key market over the next 10 years.  The USA still represents a great opportunity for Burberry as does the Middle East and India, where the brand still has an embryonic presence.

Operations – an engine room that is best-in-class

Burberry has invested considerable amounts of money and time in overhauling its operations, supply chain and IT systems.  Measures ranged from consolidating its headquarters into one user-friendly building in

London, bringing all the corporate teams under the same roof for the first time; streamlining its numerous IT networks to a single global network, rolling out SAP worldwide (China still to come), and consolidating its suppliers and logistics centres.  The impact of this investment can be felt in all business areas: live sales data from the stores allows the company to react quickly by replenishing stock that sells well; housing the merchandising and design teams under the same roof allows for a more collaborative process between the two functions; streamlined supply chain allows both for cost savings and faster time to market.  As a result, Burberry is second to none in modern retail practices, with the introduction of flash collections and a synchronised monthly flow of new products and floorsets across its store portfolio and website.

Value creation from transformation

Burberry’s transformation from a licensed brand to a vertically integrated luxury goods company did not come cheap.  A lot of investment was required: in overheads, to create the right infrastructure, and in capital expenditure to either gain control of retail assets, licenses (although most licenses were allowed to lapse rather than were bought out) or roll out DOS.  This is not unlike coming off drugs: licensing income is often ultimately bad for a luxury brand but weaning off it is both difficult and painful, as one has to shut off a steady stream of effortless income.  According to publicly available information, we have identified nearly £830 million spent by Burberry to turn its business around in the period 2001-2011, excluding a goodwill write-off of £116 million in 2009 for the closure of the Spanish business (the total amount is probably closer to £1 billion, taking into account unidentified overhead costs).  This has proved to be a worthwhile investment: over this period Burberry’s revenue has increased by £1 billion, its operating profit has more than quadrupled and its market capitalisation has increased by £4.7 billion.  Unlike other celebrated transformation stories, such as Gucci, this was done under the scrutiny of public ownership, was managed almost entirely out of the company’s annual cash flow and, with the exception of 2009, whilst still growing profits.

Is the current valuation justified?

Burberry’s management team deserve praise for having got the brand so far.  Operations, brand architecture and communication are best-in-class.  Major improvements have been made in the product mix, and the company now has a balanced geographic and retail/wholesale portfolio.  The company is undoubtedly a luxury goods business.  At 16.5x EBITDA, its current rating is only slightly above the industry average of 14.9x but significantly above LVMH’s EV/EBITDA multiple of 12.6x.  Undoubtedly Burberry’s growth has well outpaced that of the sector as a whole over the last decade, as the company was getting back licenses and developing retail.  This took considerable skill, effort and investment, but in our opinion the low hanging fruit have already been picked. Today there is less justification to Burberry trading at such a premium to industry benchmark LVMH (which is currently firing on all cylinders), unless one factors in a takeover premium.  As the recent Bulgari acquisition shows, large luxury assets are sufficiently rare to justify paying over the odds…

Sector Review

The SLI comes out stronger despite a good rattling

The Savigny Luxury Index gained 6.2% since the beginning of the year, in large part attributable to the addition of Prada to our index.  Excluding the impact of Prada’s IPO on the SLI, our index gained a modest 1.3%; however this was against a backdrop of a decline of 6.2% in the MSCI global index.

Savigny Luxury Index performance January 2011 to date

Investors get the shakes

The SLI took a beating in the first three months of the year.  It was driven down initially by profit-taking in January, dropping over 8% in the first half of the month.  This was offset by good news filtering through of strong Christmas trading and good overall performance for 2010 as whole, before easing again in the second half of February due to concerns over the resilience of China as the sector’s growth engine.  The earthquake in Japan on 11 March caused a knee jerk reaction, with the SLI tumbling nearly 9% in three days, resulting in a net decrease of almost 13% since the beginning of the year, nearly double the fall of the MSCI.

Yet everyone seems to be shopping again

It soon climbed back up at pace, with the second half of March, April and then May recording strong increases, the SLI overtaking the MSCI during the second half of April, spurred on by double-digit sales growth across the board: China powering on, continued recovery in Europe and the USA and even the Japanese customer coming back to luxury shops.

This very strong recovery (+18% from its trough in mid-March to its peak in early June) was also accompanied by a robust revival of M&A activity in the sector: Bulgari, Moncler, Jimmy Choo, Ballantyne, Kurt Geiger, Le Tanneur, Jean-Paul Gaultier, Belstaff, Robert Clergerie, Nude Brands, Gianfranco Ferré, Kooba and Chantal Thomass were all snapped up in the first half of this year.

 Prada pulls it off, others pull out

The timing of Prada’s fifth IPO attempt in June was yet again marred by more difficult market conditions both globally and in Asia, driven mainly by concerns over higher interest rates in China.  A record $58 billion, or thirty-six IPOs were said to be withdrawn in the first six months of 2011, and the Hang Seng Index was increasingly volatile during the month of June.  However the brand’s attractiveness provided a strong pull and Prada was able to launch, eventually pricing its IPO at the bottom of the pre-valuation range at 17.6x EBITDA, a healthy premium to the SLI average.  The visionary luxury brand now represents 5% of the SLI with a market capitalisation of close to Eur10 billion.

Ferragamo also made it to market, pricing its IPO at Eur9 per share; this valued the company at Eur1.8 billion.  The stock jumped almost 8% on its first day of trading.

Sector Valuation

Source: Reuters

(1) Share prices as at 30 June 2011

(2) Sales growth: year-on-year change using latest annuals and consensus estimates for current year

(3) P/E multiples: historical based on either Dec. 10 or Mar. 11 EPS; current based on Dec. 11 or Mar. 12 EPS depending on company year-end

(4) The SLI average EBITDA multiple is calculated on a weighted average basis taking into account each component company’s market capitalisation

(5) Year-on-year price growth reported in local currency whereas the SLI is expressed in Euro

Important Notice

This newsletter is distributed from time to time to clients and contacts of Savigny Partners LLP (“Savigny”) who are interested and professionally experienced in the luxury goods sector.  The views and opinions expressed in this newsletter pertain to themes that are topical to the luxury goods sector as at the date of this newsletter, and are meant to stimulate open discussion between Savigny and its clients and contacts.  The information in this newsletter has been compiled from sources believed to be reliable but neither Savigny, nor any of its partners, officers or employees makes any representations as to its completeness or accuracy.  This newsletter is not intended to help its addressees or readers make investment decisions, nor does it purport to make recommendations regarding potential investment decisions.  Savigny shall not be liable or responsible for any loss or damage caused by or arising from any reader’s reliance on information contained in this newsletter.  Please note that some or all of the brands, and the companies which own brands, mentioned in this newsletter may have been and may continue to be clients of Savigny or may have a professional relationship with Savigny.

The next phase of growth was spearheaded by Angela Ahrendts, who joined Burberry in 2006.  Since her arrival Burberry has galloped to the top of the luxury valuation leaderboard, more than doubling in turnover and market capitalisation to £1.5 billion and £5.8 billion respectively, twice the rate of growth of LVMH’s turnover and market value over the same period.

The recent results announcement was very strong with revenue growth of 27% and operating profit increasing 37%.  However, initial market reaction was muted by the company’s warning that more investment was required in its flagships and that margin growth would suffer in the short term as a result.

In this article we will examine how far the brand has come, where the potential for growth lies and what pitfalls it may encounter along the way.

Brand architecture – Prorsum leads, London and Brit reap

A clearly defined brand architecture is the foundation on which a brand’s business is built.  As is the case with houses, the foundations of a brand are sometimes added to over the years in order to adapt to new markets or demands.  The end result is a mixed bag of brands and sub-brands that have no common thread and which, by trying to appeal to all, end up appealing to no-one.  This was the case with Burberry 14 years ago.  The cleaning up task was gargantuan, consisting of termination of licenses (32 product licenses in 1998 to 3 product licenses in 2011), closure of wholesale accounts, re-branding/positioning of retail outlets, and the phasing out of inconsistent (albeit profitable) sub-brands often in the company’s most strategic markets such as Japan and Spain.

Burberry now has three main sub-brands:  Prorsum, London and Brit (which includes Burberry Sport).  Prorsum took a good decade to earn its stripes: Anna Wintour attended the Prorsum fashion show for the first time in 2009, when the show relocated to London from Milan.  London and Brit are reaping the benefits of this investment and have been the main engines of sales and profit growth.  The potential for Brit to outgrow London in size is there to be seized.  One only has to look at Armani Jeans to see how far this label can potentially go.

Communication – engaging with today’s customer

Burberry rightly believes that, outside its stores, the best way to reach its customers is through digital media.  The company’s digital strategy covers more than the main bases: with 5 million fans, it is the most liked luxury brand on Facebook, it has had 4 million channel views on Youtube last year, its social networking site “artofthetrench” is engaging and it has built a presence on a number of international and local social networking sites such as Twitter, Sina Weibo, Kaixin001, Douban and YouKu.  The company has also invested a lot into its website, which is live in 6 languages and transactional in 45 countries.  Off to a shaky start (slow and difficult to navigate), the website is improving and has great imagery.

The group’s new store formats are also filled with digital features, such as digital walls/screens and Ipads for sales staff providing access to the full collection.  This all serves to make the brand a lot more relevant to today and tomorrow’s luxury consumer.

Product mix – trapped in an outerwear straightjacket?

Burberry’s outerwear image has proved a solid foundation, but the brand is not finding it easy to establish itself as a fully-fledged ready-to-wear brand.  Outerwear still accounts for more than half of the mainline apparel sales and is over-represented in womenswear.  We believe there is immediate potential for growth in menswear, which has only recently been brought fully in-house and in sportswear, both categories allowing for an easier transition from outerwear.  The more “fashion” offering, led by Prorsum credibility, will find it harder to grow but will undoubtedly find its customer base over time, particularly in the very promising emerging markets.

Burberry has made some solid gains in the non-apparel category (mainly in leather goods), which has grown at an average annual rate of almost 20% since 2001 and now accounts for 44% of wholesale and retail revenues.  The company is now looking to focus on small leather goods and shoes for further growth.  Other areas the company is looking to develop include childrenswear, colour cosmetics and home accessories.  There will be customers indeed for such products due to the strength of the brand, but the obvious categories have already been tackled and the company is now venturing further outside its comfort zone.

Distribution – reinventing itself as a retailer

Burberry’s retail operations have been the key driver of the company’s phenomenal growth over the last decade.  In 2001 the company had 54 Directly Operated Stores (“DOS”), consisting of 1 flagship, 30 mainline stores, 6 concessions and 17 outlet stores.  In 2011 that number has risen to a staggering 417 DOS, consisting of 174 mainline stores (including flagships), 199 concessions and 44 outlets.  This outstanding transformation was achieved partly through the conversion of franchise/wholesale operations to direct retail, notably in Spain, Korea, Taiwan and most recently China, as well as through investment in new retail locations, mainly in the USA and in European fashion destinations.  Own retail is now the company’s principal distribution channel, in line with other leading luxury brands.

In addition to growing its retail operations, Burberry has become a better retailer: sales densities have improved from a paltry £597/sq.ft. in 2001 to close to £1,000 in 2011.  This has been driven by improvements in product mix/merchandising and in replenishment.  Nevertheless this is still a relatively modest performance for a luxury retailer; the company admits that work needs to be done to improve the retail experience and has announced a major flagship refurbishment programme for the current financial year.

Geographic reach – getting the balance right

Burberry has evolved from being a predominantly Japanese and Spanish business with operations in the UK to a truly global brand with a balanced geographic portfolio.  One of its key strategic initiatives has been to invest in under-penetrated markets, which included developed markets such as the USA and emerging markets such as China, India and the Middle East.  The company’s store presence in China (50 stores as at July 2010) now matches its luxury peers and it plans to double its presence in this key market over the next 10 years.  The USA still represents a great opportunity for Burberry as does the Middle East and India, where the brand still has an embryonic presence.

Operations – an engine room that is best-in-class

Burberry has invested considerable amounts of money and time in overhauling its operations, supply chain and IT systems.  Measures ranged from consolidating its headquarters into one user-friendly building in

London, bringing all the corporate teams under the same roof for the first time; streamlining its numerous IT networks to a single global network, rolling out SAP worldwide (China still to come), and consolidating its suppliers and logistics centres.  The impact of this investment can be felt in all business areas: live sales data from the stores allows the company to react quickly by replenishing stock that sells well; housing the merchandising and design teams under the same roof allows for a more collaborative process between the two functions; streamlined supply chain allows both for cost savings and faster time to market.  As a result, Burberry is second to none in modern retail practices, with the introduction of flash collections and a synchronised monthly flow of new products and floorsets across its store portfolio and website.

Value creation from transformation

Burberry’s transformation from a licensed brand to a vertically integrated luxury goods company did not come cheap.  A lot of investment was required: in overheads, to create the right infrastructure, and in capital expenditure to either gain control of retail assets, licenses (although most licenses were allowed to lapse rather than were bought out) or roll out DOS.  This is not unlike coming off drugs: licensing income is often ultimately bad for a luxury brand but weaning off it is both difficult and painful, as one has to shut off a steady stream of effortless income.  According to publicly available information, we have identified nearly £830 million spent by Burberry to turn its business around in the period 2001-2011, excluding a goodwill write-off of £116 million in 2009 for the closure of the Spanish business (the total amount is probably closer to £1 billion, taking into account unidentified overhead costs).  This has proved to be a worthwhile investment: over this period Burberry’s revenue has increased by £1 billion, its operating profit has more than quadrupled and its market capitalisation has increased by £4.7 billion.  Unlike other celebrated transformation stories, such as Gucci, this was done under the scrutiny of public ownership, was managed almost entirely out of the company’s annual cash flow and, with the exception of 2009, whilst still growing profits.

Is the current valuation justified?

Burberry’s management team deserve praise for having got the brand so far.  Operations, brand architecture and communication are best-in-class.  Major improvements have been made in the product mix, and the company now has a balanced geographic and retail/wholesale portfolio.  The company is undoubtedly a luxury goods business.  At 16.5x EBITDA, its current rating is only slightly above the industry average of 14.9x but significantly above LVMH’s EV/EBITDA multiple of 12.6x.  Undoubtedly Burberry’s growth has well outpaced that of the sector as a whole over the last decade, as the company was getting back licenses and developing retail.  This took considerable skill, effort and investment, but in our opinion the low hanging fruit have already been picked. Today there is less justification to Burberry trading at such a premium to industry benchmark LVMH (which is currently firing on all cylinders), unless one factors in a takeover premium.  As the recent Bulgari acquisition shows, large luxury assets are sufficiently rare to justify paying over the odds…

A large and growing market
The search for the fountain of youth continues unabated in the 21st century, best evidenced by the boom in the spa business in the past decade. Industry experts calculate annual global spa revenues north of $40 billion, inclusive of services and products. The International Spa Association recently reported that there are 150 million active spa goers world- wide. The sheer size of the market makes it one of the largest leisure industry segments, but with no clear leader at the helm. A broadening understanding and appreciation of alternative healing and wellness regimes by consumers coupled with the burgeoning invest- ment in and supply of spas (mostly in hotels and resorts) has resulted in an industry growing by double digits annually over the last decade.

Hotel spas grab the lion’s share
Many of these consumers are checking into hotels on their quest for their next spa experience. While hotel spas consist of only 14% of the market in terms of units, they register about 41% of total industry revenue (ISPA, 2005). Travel agents concur: in a survey by SpaFinder 65% of travel agents said spa bookings were up in 2006 and stated that spa facilities / access to a spa are the most important considerations when making vacation plans.

Most relevant to the hotel companies is the impact on average daily rates, which some studies put at a 50% uplift for destination resorts with spas. As a result, hotel groups are investing heavily. A recent article reported that the top hotel groups (and related developers) are spending close to a half-billion dollars in the next few years on their spa facilities. Top of the list is Hilton Hotels, which has recently announced a deal with spa operator Spa Chakra, using LVMH’s Guerlain and Acqua di Parma brands within various luxury properties (Waldorf, Conrad and selected Hilton hotels). Hilton further commented that it and its property partners would invest $200 million to develop 70 new spas across its global hotel portfolio, more than doubling its current count of 65.

Day spa model has been a challenge
The largest investment to date in day spas has been by US-based private equity firm Northcastle Partners. When Northcastle acquired Red Door and the Mario Tricocci Sa- lons, they inherited a typical day spa model with its own locations—both freestanding and in department stores. The company owned the full p&l and in turn covered capital expenditures and funded working capital. While Northcastle is not commenting on its invest- ment, Red Door has not seen growth in the number of its freestanding locations to match that of the sector as a whole. In fact, Red Door has had to adapt its business model and now operates a significant number of its locations from within hotels under management contract.

Now consider another leading spa group, cruise ships specialist Steiner Leisure. Its 2001 acquisition of the land-based Greenhouse and related day spas probably seemed attractive as a way to quickly build a proprietary distribution platform for its Elemis product line and leverage its longstanding expertise in cruise ship spa operations. However a ship business, with a captive audience and relatively little off-peak times, is vastly different to a day spa business, requiring substantial customer acquisition and retention costs. The acquisition proved disastrous and Steiner was quick enough to exit the day spa business at a significant loss. Steiner has since seen record double-digit growth, fuelled both by services as well as the spectacular success of the Elemis product line, which is now a $100 million plus global spa brand also distributed wholesale in non-spa channels.

Renewed interest in spa distribution channel by beauty manufacturers
Along with interest by hotels, there seems to be renewed interest in spas from leading beauty manufacturers, after an unsuccessful foray in the 1980s and 1990s. Estée Lauder opened and subsequently closed Lauder spas in the late 1990s: opened mostly as concessions in department stores, the spas never fully realised their potential. L’Oréal opened and closed Helena Rubenstein spas within a couple of years but has remained in the spa business via product lines. LVMH acquired and sold Bliss over the course of five years, although their heart was probably more in the brand potential than in the spa business itself. Shiseido owns one of the largest spa skincare brands globally, Decléor, but has focused on purely being a supplier to the industry.

Recent announcements by various hotels on future investments in the spa sector bode well for beauty manufacturers as a distribution channel. Historically, the biggest drawback for such companies to service the spa sector has been low volume opportunities as a result of a fragmented customer base. As global hotel companies take a more strategic and centralised view towards the business, more significant and “deliverable” opportunities for cosmetic brands are arising.

Not all spas are equal
Amongst the challenges facing the business lies a classic identity crisis. The use of the word “spa” has come to mean everything from three-room day spas to 40-room megaspas to doctor-led medispas. The differences between the various formats are considerable. Successful day spas require private-label brands (70%+ margins) and a strong local, repeat business to survive. Hotel spas require strong links to hotel reservations and marketing programs to ensure consistent guest usage.

Geographical differences further complicate matters. Western market spas derive value from product and benefit greatly from hosted environments (hotels, retailers, etc) to subsidise upfront capital expenditures. Developing market spas – where there are real growth opportunities – derive value from service due to low labour costs and benefit from captive affluent audiences accustomed to paying a significant premium for spa services.

All told, the industry’s basic classification system and available statistics have failed to capture the true picture of the market. Interested participants need to look at the business with a far more detailed eye. Restaurants serve as an interesting comparison. The highly fragmented restaurant business is quite similar in cost structure to spas. The restaurant industry does not however classify itself along location (cruise ship, hotel, etc.). Rather, the industry has defined itself along a matrix of price and volume. High price and low volume food establishments generally equal fine dining establishments. Low price and high volume equals fast food. The same can be applied to spas. Some spas focus on quick treatments and focus on volume. Others are five-star service, low volume and high prices. Mixing the two together to draw conclusions is the equivalent of lumping McDonald’s and Ducasse into one category.

Similarly, the industry has given little thought to yield management. A key lesson from the airline industry is that the value of a product (i.e. airline seat) changes as a function of time and day. The same holds true for spas: a treatment on a weekend or after work is more valuable than a treatment mid-morning on a weekday. Spa owners need to develop effective pricing strategies to ensure revenue optimisation.

The spa market will likely remain at the forefront of discussion as opportunistic investors seek to bring some order to this growing industry. No clear leader has emerged with the right formula for success. Until then, our money will be on “bundled” groups, where good locations meet good operators meet good brands, as with the recently announced Hilton / Spa Chakra / LVMH deal.

Founded in 2005, Savigny Partners employs three professionals who bring to bear extensive industry knowledge and transaction experience. Assignments have spanned the fashion and retail, leather goods and watch & jewellery sectors, where Savigny Partners has worked with some of the world’s most iconic brands such as Lanvin, Céline, Christian Lacroix, Gianfranco Ferré, Sigerson Morrison and Courrèges.

Prior to founding Savigny Partners, Pierre worked as Director of Acquisitions for LVMH, where he was responsible for originating and implementing acquisitions and divestitures across all group divisions. Working directly with Chairman and CEO Bernard Arnault, he led or played a significant part in most of LVMH’s mergers and acquisitions activity over the 1998-2004 period.

Pierre began his career in investment banking in 1987, when he joined Bankers Trust. During his ten-year career at Bankers Trust and further two years at NatWest Markets, he was promoted to Head of French M&A and pioneered several ground-breaking sector privatisations in Eastern Europe.

After graduating from the leading French business school ESSEC, Pierre served for two and a half years at the French Industrial Development Agency in New York, a body of the French Government dedicated to the promotion of foreign investment in France.

Pierre currently sits on the Boards of Lanvin, Acne and Tom Dixon.

During his three years as head of luxury goods investment banking William was involved in a number of mandates, notably:

• The sale of Jaeger-Lecoultre, IWC Schaffhausen and Lange & Söehne to Richemont for CHF3.2bn in 2000
• Advising Gucci on the corporate governance and valuation issues surrounding its 1999 capital increase to PPR in the context of its litigation with LVMH in 2001
• The sale of Dorotheum, the world’s 6th largest auction house, to a consortium of investors in 2001
• The IPO of Burberry in 2002
• The placing of Goldman Sachs equity stake in Ralph Lauren in 2002
• Advising Selfridges on the market-related aspects of the redevelopment of their Oxford Street site in 2000

In addition to leading the luxury goods investment banking team, William was a Director in UBS Warburg’s global retail sector team and was involved in a number of mandates spanning the retail sector, namely advising Sainsbury’s on its strategic options including the sale of Homebase in 2000 and the sale of GB Supermarkets (Belgium’s #2 food retailer) to Carrefour in 2000.

After leaving UBS Warburg, William set up his own consultancy in 2004, focusing on emerging luxury and specialty retail brands, and worked on strategic advice and capital raising mandates for a number of brands, including fashion houses Fake London and Hardy Amies, and wellbeing brand and spa operator Calmia.

William holds a First Class Honours degree in Business Studies and Law from the University of Edinburgh.

Prior to taking up her position at Savigny Partners, Sidika was an Associate in the Financial Services Authority’s Investment Firms division.

In this capacity, she was responsible for monitoring major financial institutions across all sectors of the financial services industry including investment banks, private equity funds, hedge funds, institutional investors, custodians and settlements agents. She also managed high profile cases of financial fraud and led the supervisory team in the FSA’s first major case of market abuse.

Prior to the FSA, Sidika was an analyst in Lazard’s Mergers and Acquisitions department in London. She was involved in a number of multi billion pound transactions covering a broad range of industries, including specialty retail, food retail, telecoms and building materials.

Sidika spent the first part of her career at Sema Group Telecom, a JV between BNP Paribas Bank and British Telecom, where she worked with the General Manager to establish a regional office in India.

Sidika holds a Bachelor of Sciences Honours degree in Management Sciences from the London School of Economics and Political Science. She speaks English, French, Italian and Turkish.

Luxury fashion – getting the business model right

Luxury fashion is a very exciting business which can generate substantial returns if you get the formula right. Not only is there the ability to charge up to ten times the cost of manufacturing a garment and the potential to build a global business; apparel can be the beginning of a page-turning blockbuster, accessories and leather goods are the next chapter, fragrances and eyewear licenses the well-oiled plot. The story can have a happy ending with the promise of many sequels to come.

Success stories in this field are mouth-watering: Burberry’s share price climbed from 175p in November 2008 to 1,116p at the beginning of this year as the brand went from strength to strength and reportedly attracted the attention of a number of acquirers. Lanvin has embarked on a stellar growth trajectory with plenty of potential yet to come. However, not all blockbusters have a happy ending. The latest crisis has claimed a number of victims: Christian Lacroix, Gianfranco Ferré, Yohji Yamamoto, Luella Bartley to name a few.

In this article we will examine how the traditional designer business model has come under threat and what key factors we believe are necessary to ensure the success of a luxury fashion label today. Finally we will take a look at what lies ahead for the luxury fashion sector.

Is the designer brand becoming redundant?

The traditional designer brand business model is not for the faint-hearted. Typically, a design-rich but loss-making main line is invested in with the aim of capitalising on its cachet through a cash-generative diffusion line and, eventually through lucrative licensing deals. This model not only takes years to generate returns, but the ride is also a bumpy one with no guarantee of success. Christian Lacroix is a prime example of a label which, despite heavy investment in its main line/couture business, never saw the more commercial side of its activities take off sufficiently.
Life has also been made more difficult for designer brands, initially by the proliferation of fast fashion brands with a credible fashion offering. Zara, Mango and H&M have been extremely successful at attracting the fashion conscious consumer by interpreting catwalk trends with a time to market that would make Philip Green’s head spin. H&M took this one step further by pioneering designer collaborations, which created veritable stampedes in its stores and brought new customers to the brand. Top Shop has also been a trailblazer in this category: the brand showcases its Unique collection at London Fashion Week, its collaboration with Kate Moss has given it an edge and its recent opening of a flagship opposite Harrods demonstrates that it is looking beyond its traditional high street pasture.

And finally, traditional designer labels have been challenged by – and sometimes losing ground to, contemporary brands which offer a more accessibly-priced, less fussy fashion product. In this category both a Phillip Lim, who designs his eponymous line to a price point whilst still being able to fully express himself, and a Tory Burch, with a very-well merchandised line sourced mainly out of China, have found their audience in a relatively short time and have created thriving, financially successful businesses.

It is telling that Narciso Rodriguez and Hussein Chalayan both saw their brand being returned to them by their investors, and that such a star designer as Hedi Slimane is still without a major job in the industry. What lies ahead for top designers?

Below we examine some of the strategies that are allowing some known fashion brands to not only survive but to prosper.

Revisiting the fashion business model

Managing seasonality

Designer labels have taken major steps to reduce seasonality risk by complementing their Spring/Summer and Autumn/Winter collections with pre-collections, cruise and pre-fall collections, thus increasing the number of collections from two to up to six per year. These inter-seasonal collections tend to contain more commercial pieces than the main collections, often have more accessible price points and now account for the bulk of sales of a fashion brand. This is also music to retailers’ ears whose aim it is to get fresh stock into stores, so as to give customers a reason to come back, and shift the stock as quickly as possible. Some luxury brands have taken a leaf out of the book of leading fast fashion players such as Inditex, introducing flash collections in their stores.

Harnessing creative talent – the increasing importance of the merchandiser

The well-publicised demise of the Gianfranco Ferré fashion house exemplifies the need for a strong merchandising function: during the early noughties development costs for its main line collection escalated to Eur5m per season, and the number of pieces produced for market stretched as far as the eye could see. The first actions of the newly-appointed CEO upon taking over the troubled company was to control collection development costs by significantly reducing the number of SKUs, the number of styles produced and of prints ordered, and to make sure that each style was able to generate profits on relatively small sales volumes.

There the model was clearly in need of an urgent fix, but on an ongoing basis the role of the merchandising team, working with the design and product teams on one hand and the marketing and sales teams on the other, harnessing the creative talent and editing down the creative output to what will work or generally help the band, is absolutely critical. This helps to ensure that the market reception of the collection will be as good as possible, but is also true – and increasingly importantly so – in a world where the number of deliveries has increased and where efficient re-ordering and replenishment is where the real money is made.

Create a bestseller but know when to let go

Whilst every management team in the industry dreams about creating that iconic product or series of products which will become a cash cow, over-dependency can prove a curse if you push this too far and the market turns on you. This famously happened to French Connection, which rode the FCUK bike from 2001 until the wheels came off, resulting in the company dipping into loss for the first time in fourteen years in the first half of 2007 (the group is now rapidly recovering under the watchful eye of its Chairman & CEO, Stephen Marks).

A good example of what to do is Mulberry, for which its iconic Bayswater bag is surely a large part of its turnover but which has been very careful to broaden its appeal by successfully working on its brand image and presenting a fairly broad RTW offering.

Another interesting path is that of Burberry, which initially had to rely too much on the dual deities of trench and check but made a considerable effort to diversify its product portfolio so as to avoid being branded as a one-horse pony, and on top of that successfully fended off the chav issue (to be reviewed in detail in a forthcoming issue of our newsletter).

Invest in retail but focus on the detail!

The last crisis claimed a lot of casualties as a result of over-dependence on the wholesale channel. Pain was felt in two areas: small boutiques not paying up on their orders, or proving to be too much of a credit risk going forward, and department stores panicking and batting down the hatches. Many fashion wholesale businesses were thus caught with their pants down and had nowhere to shift their rapidly devaluing stock. At the other end, whilst the experience for retail-led fashion brands was not by any means pleasant, the effects of the crisis were less hard felt. In this respect wholesale activities played for the fashion industry the same role as leverage did relative to the financial world: it can significantly enhance returns and offers easy growth, but when the market turns, the ground is taken away from under your feet.

Beyond this point, retail presence offers a number of advantages. First and foremost the ability to capture the retail margin – a fully-integrated fashion retail business can generate gross margins up to 80% (and sometimes more!), as compared with a wholesale business margin of 40 to 50%. Retail presence also allows for more control of the brand image and presentation. This is particularly important as a brand evolves as it can often get stuck in a time warp, with retail buyers ordering variations on what sold well in the last season instead of following with new products/designs, often seen as more risky.

Whilst location is key, store size is also vital to driving store economics. The late 1990’s saw the proliferation of mega-stores as shrines to brands. Many of these were loss-making: those of you who spend time in London will remember the monolithic Jil Sander store on Burlington Gardens, intimidating by its emptiness. When Change Capital Partners took over the company, its losses were well into double-digit millions. One of the first steps the new owners took was to close a few of its most unprofitable stores – the infamous London flagship for instance was relocated to a smaller premise on Bond Street. Losses were drastically reduced, and within a year the company was profitable.

White elephants such as this previous Jil Sander store never made good retail propositions, but you could understand why some management teams were keen on them: retail really helps drive wholesale. Department store managers will never own up to it, and we are sure Barneys and Bergdorf top brass were horrified when Lanvin announced the opening of its Madison Avenue store in the summer last year, but over time (and more quickly than people think), whatever turnover is temporarily lost for the neighbouring department stores will be made up and more, as the brand benefits from increased awareness, more prestige and a stronger, more complete image as a result of its own retail presentation.

So, own retail is most definitely good – as long as you can properly evaluate its cost / reward assumptions and avoid the white elephant trap.

A dynamic supply chain can drive profitable growth

Fashion is a uniquely complex business. The supplier base is increasingly global and increasingly specialised: there is therefore no guarantee a brand will be sourcing its product from the same country, let alone the same supplier, season after season. Distribution can be equally complex, the challenge of a global distribution network being compounded by an often fragmented customer base. The fashion business model is also very sensitive to production volumes; thus the supply chain has to be continually revisited during the growth phase of a brand.

One of the cornerstones of Burberry’s success has been the investment in its supply chain. Project Atlas, an overhaul of the company’s supply chain and IT systems, was launched in 2006, culminating in the rollout of global SAP systems in 2010. This has given it a much improved granular understanding of every phase from design to the consumer, allowing the company to react rapidly to sales trends and capitalise on bestsellers. Burberry completely re-engineered its supply chain, cutting the number of distribution centres, freight carriers and suppliers and, through improved production planning, significantly reduced the use of air freight in favour of cheaper sea freight. These measures were estimated to deliver approximately £25m in annual savings, or 14% of operating profit. As a result of these measures the company can now also give fast fashion a run for its money through dramatically shortened times to market.

A future dominated by men and computers?

Besides the well-documented potential in China and other emerging markets, two areas of growth merit our attention: menswear and the internet.

Despite continuing success stories such as Lanvin’s, womenswear is pretty much a saturated segment in developed markets and therefore very competitive. On the other hand the men’s market accounts for a relatively much bigger slice of the luxury pie in emerging markets. Men are notoriously difficult to attract to a brand, but as a result also tend to be very brand loyal. There are also less cultural/sartorial differences across borders in menswear than there are in womenswear. All of these characteristics make this segment worth the chase, even if traditional menswear players have to alter their offering to give more room to sportswear and casual styles, away from suiting (suits are simply worn less in emerging markets). The potential of the internet has yet to be fully harnessed by luxury fashion players.

Richemont’s recent investment in Net-à-Porter (and the valuation the investment commanded) confirms the perceived potential of this medium. Burberry is ahead of the curve in this category – its Facebook page has the largest following of any luxury brand, its social media website www.artofthetrench.com is streets ahead of competition and it was the first brand to sell runway items from its Autumn/Winter 2010 show direct from the webcast to consumers. The potential for volume and margin in this area is huge – the only cloud on the horizon being the high level of returns (around 40%) creating a working capital headache.

Let fashion do what fashion does best….re-invent itself

The designer brand model in its purest sense has probably had its heyday. However, just as we thought we’d never see shoulder pads again when Joan Collins’ flamboyant character Alexis Colby left our screens, with a few alterations here and there they are back with vengeance. We should expect no less from the designer fashion business.

Leaving 2007 in the dust!

The SLI has had a stellar 2010, smashing through the 2007 ceiling and finishing 32% above its then all-time historical high. A good start in the first half, with gains of 22%, evolved into a year-long rally with the SLI gaining an overall 60% since January 2010. Underpinning this outperformance of 33% vs. the MSCI has been a heady combination of strong top line growth across the sector, continued benefits of cost control measures introduced during the crisis and a fair amount of bid speculation.

Savigny Luxury Index performance January 2010 to date

The world is shopping again and this time it’s not for a bargain
Customers are back in the shops

Luxury groups were almost as surprised at the quick turnaround of fortunes as they were with the rapid downturn in 2008/9. Whilst Asia has always remained robust and is now the principal engine of growth for many groups, Europe and especially America are faring well. Consumption of high ticket items in the developed markets is being fuelled by a surge in corporate profits, bonuses and growth in business travel, all of which benefit the higher echelons of society. Nevertheless, the recent economic crisis has resulted in a profound shift in global dynamics. China is now the second largest luxury goods market in the world and new luxury hubs are opening up in South East Asia.

Department stores are back in business

Having battened down the hatches in 2009, department stores (especially in the US) went on a shopping spree in the first half of 2010 to replenish depleted shelves. Wholesale orders have continued to come in during the second half, relegating concerns that the surge in income from this channel at the beginning of the year was a one-off.

Luxury groups are looking to buy prized assets

Bid speculation has returned to the sector with a vengeance this year. In the case of Hermès, there was no smoke without fire, with LVMH disclosing a 17.1% stake in the legendary saddlemaker on 25 October. Burberry has also been the subject of bid speculation, initially associated to PPR and more recently to a consortium of Chinese investors as well as Richemont. This has contributed to the meteoric rise of the company’s share price from 175p in November 2008 to £11.50 in early December.

The scars of the last crisis are still apparent

The developed market recovery is a one-legged race
Bankers are getting bonuses and businessmen are flocking to airport lounges again; however in most of the developed world unemployment is rising and inflation combined with further public sector cuts are going to put even more pressure on people’s wallets. The situation is worsened by the scarcity of available credit and a glum property market, raising the question as to how sustainable this one-legged recovery is.

Currencies may be an issue
One of the strongest recovery stories in 2010 has been the Swiss watch sector. This recovery may get hurt if the current surge of the Swiss Franc continues. Swatch for instance generates 50% of its sales in Dollars and estimates that a 1 centime appreciation of the Swiss Franc to the Dollar rate wipes CHF28m off group sales. More of concern is the fragility of the Euro. Whilst a weak Euro may benefit European luxury goods players in the short term, the currency has received some real knocks this year, initially from Greece and most recently from Ireland. With its credibility almost at stake, 2011 may prove to be a rocky ride for the adolescent currency.

Measured optimism for 2011
2010 will undoubtedly have been an exceptional growth year for the luxury goods industry. Luxury players have held back from pronouncing themselves for 2011 until recently: the overall view is that 2011 will be a good year, but not as strong as 2010.

This seems to be echoed by recent stock market valuations, with the share price of leading component companies of the SLI having eased off in January. Some analysts we spoke to talked of profit-taking by professional investors in light of uncertainty over the pace of continued growth in China.

On the face of it, the SLI EBITDA multiple appears to be well above the peaks reached in 2007. However, several stocks have abnormal multiples: obviously Safilo, due to its negative earnings, but also Bulgari which has had to clean up its act, notably after an unsuccessful foray into accessories retail, and has seen recent earnings severely depressed.

At the other end of the spectrum, Hermès’ EBITDA multiple continues to be inflated by bid speculation at nearly 25x. Stripping out these three component companies, the current SLI EBITDA average (computed on a weighted average basis, taking into account the relative market capitalisation of each company) stands at 14.3x. This is still 10% ahead of the 13x EBITDA multiple which prevailed in the sector in July 2007.

Important Notice
This newsletter is distributed from time to time to clients and contacts of Savigny Partners LLP (“Savigny”) who are interested and professionally experienced in the luxury goods sector. The views and opinions expressed in this newsletter pertain to themes that are topical to the luxury goods sector as at the date of this newsletter, and are meant to stimulate open discussion between Savigny and its clients and contacts. The information in this newsletter has been compiled from sources believed to be reliable but neither Savigny, nor any of its partners, officers or employees makes any representations as to its completeness or accuracy. This newsletter is not intended to help its addressees or readers make investment decisions, nor does it purport to make recommendations regarding potential investment decisions. Savigny shall not be liable or responsible for any loss or damage caused by or arising from any reader’s reliance on information contained in this newsletter. Please note that some or all of the brands, and the companies which own brands, mentioned in this newsletter may have been and may continue to be clients of Savigny or may have a professional relationship with Savigny.

M&A activity in the sector
Companies that have changed ownership or received investment in 2010

• Lion Capital, the UK-based private equity firm, acquired the UK-based lingerie retailer La Senza in January
• Irving Place Capital, the US-based private equity firm, and CAA, the US-based sports and entertainment talent agency, acquired the US-based denim manufacturer J Brand in February
• Phillips-Van Heusen acquired Tommy Hilfiger in March
• Richemont acquired the remaining 60% stake in Net-à-Porter, the UK-based online luxury fashion retailer in April
• L’Oréal acquired the US-based nail polish brand Essie Cosmetics in April
• The management of Odlo, the Swiss sportswear brand, acquired the company in a secondary MBO backed by Herkules, a Norway-based private equity firm, in April
• TA Associates, the US-based private equity firm, acquired the UK-based homeware brand Cath Kidston in April
• Jones Apparel Group, the listed US-based apparel and footwear group, acquired footwear brand Stuart Weitzman in May
• BlueGem Capital Partners, a UK-based private equity firm, acquired the UK-based department store group Liberty in June
• Aydinli, the Turkey-based textile company, acquired Cacharel Homme in July
• Private equity firm Gores Group acquired J. Mendel, the US-based fashion company in August
• Evante, the Italy-based builder of luxury goods outlets, acquired the Italian cashmere knitwear manufacturer Malo in August
• The management of Sandro Maje Claudie Pierlot, the French ready-to-wear group, acquired the company in a MBO backed by L Capital, the private equity arm of LVMH, in September
• LVMH acquired a 17.1% stake in Hermès in October. LVMH increased its stake to 20.2% in December
• IC Companys, the Danish fashion retailer, acquired 49% of the Danish fashion brand Malene Birger in October
• A France-based private equity firm called 123Ventures acquired Carel, the French footwear brand, in October
• Prada acquired the remaining 45% stake in Italian footwear brand Car Shoe Italia in October
• Coty, the US-based cosmetics group, acquired the US-based cosmetics brand Philosophy in November
• Private equity group TPG acquired J.Crew, a US-based retailer of apparel, shoes and accessories, in November
• Trinity, a Hong Kong-based retailer of menswear, acquired the France-based apparel, fragrances and accessories brand Cerruti in December

Success stories in this field are mouth-watering: Burberry’s share price climbed from 175p in November 2008 to 1,116p at the beginning of this year as the brand went from strength to strength and reportedly attracted the attention of a number of acquirers. Lanvin has embarked on a stellar growth trajectory with plenty of potential yet to come. However, not all blockbusters have a happy ending. The latest crisis has claimed a number of victims: Christian Lacroix, Gianfranco Ferré, Yohji Yamamoto, Luella Bartley to name a few.
In this article we will examine how the traditional designer business model has come under threat and what key factors we believe are necessary to ensure the success of a luxury fashion label today. Finally we will take a look at what lies ahead for the luxury fashion sector.

Is the designer brand becoming redundant?
The traditional designer brand business model is not for the faint-hearted. Typically, a design-rich but loss -making main line is invested in with the aim of capitalising on its cachet through a cash-generative diffusion line and, eventually through lucrative licensing deals. This model not only takes years to generate returns, but the ride is also a bumpy one with no guarantee of success. Christian Lacroix is a prime example of a label which, despite heavy investment in its main line/couture business, never saw the more commercial side of its activities take off sufficiently.

Life has also been made more difficult for designer brands, initially by the proliferation of fast fashion brands with a credible fashion offering. Zara, Mango and H&M have been extremely successful at attracting the fashion conscious consumer by interpreting catwalk trends with a time to market that would make Philip Green’s head spin. H&M took this one step further by pioneering designer collaborations, which created veritable stampedes in its stores and brought new customers to the brand. Top Shop has also been a trailblazer in this category: the brand showcases its Unique collection at London Fashion Week, its collaboration with Kate Moss has given it an edge and its recent opening of a flagship opposite Harrods demonstrates that it is looking beyond its traditional high street pasture.

And finally, traditional designer labels have been challenged by – and sometimes losing ground to, contemporary brands which offer a more accessibly-priced, less fussy fashion product. In this category both a Phillip Lim, who designs his eponymous line to a price point whilst still being able to fully express himself, and a Tory Burch, with a very-well merchandised line sourced mainly out of China, have found their audience in a relatively short time and have created thriving, financially successful businesses.

It is telling that Narciso Rodriguez and Hussein Chalayan both saw their brand being returned to them by their investors, and that such a star designer as Hedi Slimane is still without a major job in the industry. What lies ahead for top designers?

Below we examine some of the strategies that are allowing some known fashion brands to not only survive but to prosper.

Revisiting the fashion business model
Managing seasonality

Designer labels have taken major steps to reduce seasonality risk by complementing their Spring/Summer and Autumn/Winter collections with pre-collections, cruise and pre-fall collections, thus increasing the number of collections from two to up to six per year. These inter-seasonal collections tend to contain more commercial pieces than the main collections, often have more accessible price points and now account for the bulk of sales of a fashion brand. This is also music to retailers’ ears whose aim it is to get fresh stock into stores, so as to give customers a reason to come back, and shift the stock as quickly as possible. Some luxury brands have taken a leaf out of the book of leading fast fashion players such as Inditex, introducing flash collections in their stores.

Harnessing creative talent – the increasing importance of the merchandiser
The well-publicised demise of the Gianfranco Ferré fashion house exemplifies the need for a strong merchandising function: during the early noughties development costs for its main line collection escalated to Eur5m per season, and the number of pieces produced for market stretched as far as the eye could see. The first actions of the newly-appointed CEO upon taking over the troubled company was to control collection development costs by significantly reducing the number of SKUs, the number of styles produced and of prints ordered, and to make sure that each style was able to generate profits on relatively small sales volumes.
There the model was clearly in need of an urgent fix, but on an ongoing basis the role of the merchandising team, working with the design and product teams on one hand and the marketing and sales teams on the other, harnessing the creative talent and editing down the creative output to what will work or generally help the band, is absolutely critical. This helps to ensure that the market reception of the collection will be as good as possible, but is also true – and increasingly importantly so – in a world where the number of deliveries has increased and where efficient re-ordering and replenishment is where the real money is made.

Create a bestseller but know when to let go Whilst every management team in the industry dreams about creating that iconic product or series of products which will become a cash cow, over-dependency can prove a curse if you push this too far and the market turns on you. This famously happened to French Connection, which rode the FCUK bike from 2001 until the wheels came off, resulting in the company dipping into loss for the first time in fourteen years in the first half of 2007 (the group is now rapidly recovering under the watchful eye of its Chairman & CEO, Stephen Marks).

A good example of what to do is Mulberry, for which its iconic Bayswater bag is surely a large part of its turnover but which has been very careful to broaden its appeal by successfully working on its brand image and presenting a fairly broad RTW offering.

Another interesting path is that of Burberry, which initially had to rely too much on the dual deities of trench and check but made a considerable effort to diversify its product portfolio so as to avoid being branded as a one-horse pony, and on top of that successfully fended off the chav issue (to be reviewed in detail in a forthcoming issue of our newsletter).

Invest in retail but focus on the detail! The last crisis claimed a lot of casualties as a result of over-dependence on the wholesale channel. Pain was felt in two areas: small boutiques not paying up on their orders, or proving to be too much of a credit

risk going forward, and department stores panicking and batting down the hatches. Many fashion wholesale businesses were thus caught with their pants down and had nowhere to shift their rapidly devaluing stock. At the other end, whilst the experience for retail-led fashion brands was not by any means pleasant, the effects of the crisis were less hard felt. In this respect wholesale activities played for the fashion industry the same role as leverage did relative to the financial world: it can significantly enhance returns and offers easy growth, but when the market turns, the ground is taken away from under your feet.

Beyond this point, retail presence offers a number of advantages. First and foremost the ability to capture the retail margin – a fully-integrated fashion retail business can generate gross margins up to 80% (and sometimes more!), as compared with a wholesale business margin of 40 to 50%. Retail presence also allows for more control of the brand image and presentation. This is particularly important as a brand evolves as it can often get stuck in a time warp, with retail buyers ordering variations on what sold well in the last season instead of following with new products/designs, often seen as more risky.

Whilst location is key, store size is also vital to driving store economics. The late 1990’s saw the proliferation of mega-stores as shrines to brands. Many of these were loss-making: those of you who spend time in London will remember the monolithic Jil Sander store on Burlington Gardens, intimidating by its emptiness. When Change Capital Partners took over the company, its losses were well into double-digit millions. One of the first steps the new owners took was to close a few of its most unprofitable stores – the infamous London flagship for instance was relocated to a smaller premise on Bond Street. Losses were drastically reduced, and within a year the company was profitable.

White elephants such as this previous Jil Sander store never made good retail propositions, but you could understand why some management teams were keen on them: retail really helps drive wholesale. Department store managers will never own up to it, and we are sure Barneys and Bergdorf top brass were horrified when Lanvin announced the opening of its Madison Avenue store in the summer last year, but over time (and more quickly than people think), whatever turnover is temporarily lost for the neighbouring department stores will be made up and more, as the brand benefits from increased awareness, more prestige and a stronger, more complete image as a result of its own retail presentation.

So, own retail is most definitely good as long as you can properly evaluate its cost / reward assumptions and avoid the white elephant trap.

A dynamic supply chain can drive profitable growth Fashion is a uniquely complex business. The supplier base is increasingly global and increasingly specialised: there is therefore no guarantee a brand will be sourcing its product from the same country, let alone the same supplier, season after season. Distribution can be equally complex, the challenge of a global distribution network being compounded by an often fragmented customer base. The fashion business model is also very sensitive to production volumes; thus the supply chain has to be continually revisited during the growth phase of a brand.

One of the cornerstones of Burberry’s success has been the investment in its supply chain. Project Atlas, an overhaul of the company’s supply chain and IT systems, was launched in 2006, culminating in the rollout of global SAP systems in 2010. This has given it a much improved granular understanding of every phase from design to the consumer, allowing the company to react rapidly to sales trends and capitalise on bestsellers. Burberry completely re-engineered its supply chain, cutting the number of distribution centres, freight carriers and suppliers and, through improved production planning, significantly reduced the use of air freight in favour of cheaper sea freight. These measures were estimated to deliver approximately £25m in annual savings, or 14% of operating profit. As a result of these measures the company can now also give fast fashion a run for its money through dramatically shortened times to market.

A future dominated by men and computers?

Besides the well-documented potential in China and other emerging markets, two areas of growth merit our attention: menswear and the internet.
Despite continuing success stories such as Lanvin’s, womenswear is pretty much a saturated segment in developed markets and therefore very competitive. On the other hand the men’s market accounts for a relatively much bigger slice of the luxury pie in emerging markets. Men are notoriously difficult to attract to a brand, but as a result also tend to be very brand loyal. There are also less cultural/sartorial differences across borders in menswear than there are in womenswear. All of these characteristics make this segment worth the chase, even if traditional menswear players have to alter their offering to give more room to sportswear and casual styles, away from suiting (suits are simply worn less in emerging markets). The potential of the internet has yet to be fully harnessed by luxury fashion players.

Richemont’s recent investment in Net-à-Porter (and the valuation the investment commanded) confirms the perceived potential of this medium. Burberry is ahead of the curve in this category – its Facebook page has the largest following of any luxury brand, its social media website www.artofthetrench.com is streets ahead of competition and it was the first brand to sell runway items from its Autumn/Winter 2010 show direct from the webcast to consumers. The potential for volume and margin in this area is huge – the only cloud on the horizon being the high level of returns (around 40%) creating a working capital headache.

Let fashion do what fashion does best….re-invent itself
The designer brand model in its purest sense has probably had its heyday. However, just as we thought we’d never see shoulder pads again when Joan Collins’ flamboyant character Alexis Colby left our screens, with a few alterations here and there they are back with vengeance. We should expect no less from the designer fashion business.

A mood of cautious optimism in Q1…
The Savigny Luxury Index posted a solid overall gain of 22.4% since the beginning of the year, outperforming the MSCI World index by 19 percentage points. The overall sentiment was that the sector is on the rebound, with Bain forecasting a four percent rise in sales for the sector for 2010. Q1 results posted by our universe of companies showed both strong sales and profit growth. Nevertheless the overriding message was one of cautious optimism with some of the sales growth in Q1 being attributed to retailers restocking depleted inventories. Some concerns were raised as to whether LVMH powerful Q1 growth, which sent its share to a 10-year high, would be sustainable for the whole year.

… consolidated into very strong prospects for the sector
Signs of improved prospects for the sector continued to come out of company and sector announcements. Swiss watch exports posted a healthy increase in June, and Hermès lifted its full year sales growth target on the back of surprisingly strong Q2 figures released on 20 July (27% growth for the quarter or 20% at constant exchange rates). The overall view is that more good news is to come, underpinned by strong demand in emerging markets, especially China, and by the recovery of demand in the USA, which should continue to prop up wholesale channels. LVMH recently released half year results confirmed the trend, beating estimates with a 16% growth for the first semester.

Has the Aegean brew poisoned the equity well?
The Greek sovereign debt crisis which unfolded at the end of April sent global markets into turmoil. The SLI was not immune and went into a tumble, losing eight percent of its value from end-April to mid-May. The respite of the rescue package announced at the beginning of May was short-lived, with the fear of Aegean contagion to other markets such as Spain and Portugal resulting in another dip in early June. Whilst July saw both a strong recovery in the MSCI World index (+4.8%) and the SLI (+9.6%), there are lots of frayed nerves as a result of this macro-economic uncertainty. The luxury sector is setting sail again but the Aegean tidal wave continues to rock the fragile boat of recovery – the sails have been hoisted but will the boat capsize?

Sector Valuation

Important Notice
This newsletter is distributed from time to time to clients and contacts of Savigny Partners LLP (“Savigny”) who are interested and professionally experienced in the luxury goods sector. The views and opinions expressed in this newsletter pertain to themes that are topical to the luxury goods sector as at the date of this newsletter, and are meant to stimulate open discussion between Savigny and its clients and contacts.
The information in this newsletter has been compiled from sources believed to be reliable but neither Savigny, nor any of its partners, officers or employees makes any representations as to its completeness or accuracy. This newsletter is not intended to help its addressees or readers make investment decisions, nor does it purport to make recommendations regarding potential investment decisions. Savigny shall not be liable or responsible for any loss or damage caused by or arising from any reader’s reliance on information contained in this newsletter. Please note that some or all of the brands, and the companies which own brands, mentioned in this newsletter may have been and may continue to be clients of Savigny or may have a professional relationship with Savigny.

Luca Solca, a senior strategist at Bernstein Research, says experience shows that creating value in European luxury goods through mergers and acquisitions is anything but straightforward.

Two illusory beliefs have damaged M&A investors in the past 15 years, he argues.
The conviction that the international success of groups of brands such as LVMH and PPR could be easily replicated, and that luxury is an easy industry for new entrants such as private equity.

That said, Mr Solca still sees possibilities for M&A in Europe, the crucible of the luxury goods industry. They centre on small, niche companies, mid-tier groups and most controversially, even conglomerates such as Richemont.
“There are M&A opportunities out there,” he affirms.

Mr Solca’s suggestion that there is still value to find in European deals is well timed.

Luxury goods companies that have experienced their worst ever slump in sales during the past two years, are nervously awaiting the impact of austerity measures by European governments on an as yet fragile recovery.

Since the start of the year luxury goods sales in Europe have grown by about 10 per cent, but some dealmakers now fear that the industry’s recovery may be shortlived, as scything government cuts affect what disposable income there is still available to Europeans and Americans, the world’s biggest consumers of luxury.
Federico Aliboni, global co-head of consumer and retail corporate and investment banking at Bank of America Merrill Lynch believes the impact on the luxury goods market could be profound.

He says: “You are going to take out the two largest markets [the US and Europe], so everyone is going to rely on China, south-east Asia and Korea.

“While these are growing markets, it is going to be a long time before they can properly make up for the slowdown that the western world will be experiencing.”
That impact is already being felt.

While industry leaders such as LVMH and PPR, with extensive Asian distribution markets, continue to grow and take market share, the bankruptcies of fashion houses Christian Lacroix in France and Mariella Burani in Italy have cast long shadows.

Many groups are weakened, having shed staff, closed shops and cut production.

Yet, Claudia D’Arpizio, a consultant with Bain & Co, believes “that polarisation may well create fertile conditions for market concentration”.

As the largest luxury companies take advantage of the weakness of smaller ones in order to increase their market share, the search for capital triggers M&A and IPOs. Continued challenging conditions for lagging brands also create the risk of failures and bankruptcies, she argues.

Dealmakers agree that the opportunities for M&A in Europe, home to the world’s largest concentration of luxury goods companies, fall into at least two broad categories.

Firstly, the acquisition of high-quality niche brands, that mirror PPR’s purchase of Bottega Veneta, a high-cost, high-class house built on a manufacturer of woven leather bags, which is one of the great success stories of the luxury industry in recent years.

Pierre Mallevays, founder and managing partner of Savigny Partners, a boutique luxury goods advisory firm, says that his deal pipeline for companies worth from €30m ($36m) to €50m is booming after a hiatus during the crisis. Brands that are focused geographically are especially attractive to the private investor.

Mr Mallevays, who sold French high fashion house Lanvin to such an investor last year, says the new type of investor is a European who has made money elsewhere but is someone who has an “emotional response” to brands and is comfortable with the long-term appreciation of the luxury sector.
“This new universe of private investors looks at luxury as an alternative asset class in the €10m to €50m bracket,” he says.

The second area of opportunity is mid-tier fashion houses that have the potential to become international groups. Italy remains the best European country for deals of this size, say senior bankers.

Many high profile Italian fashion and luxury brands are still privately owned: Armani, Dolce & Gabbana, Versace and Cavalli, or Prada and Ferragamo are yet to relaunch market listings pulled during the crisis. Bulgari, a sometime target of the biggest luxury goods groups, is majority family-owned.

Still, finding a meeting point with Italy’s fashion entrepreneurs on price remains difficult, dealmakers say. With LVMH and Richemont still trading on relatively high multiples of 17 to 18 times earnings in 2010, price expectations for mid-sized deals remain high.

Bankers say more accessible targets may be those groups still in the hands of private equity, such as Valentino Fashion Group, which was bought by Permira in 2007 for an estimated 14 times Ebitda.

Although Stefano Sassi, Valentino chief executive, said this month that he did not think Permira was looking for a buyer, on a usual private equity timeframe, it will be seeking an exit soon enough.

Signs that things had gone too far emerged in 2007, when industry buyers effectively withdrew from the M&A game, stating that they could not compete with the multiples paid by the private equity world. The credit crunch robbed the private equity market of its financial muscle and the bigger players’ interest in luxury goods deflated faster than a bodybuilder coming off steroids. Smaller, specialist players are still active in the sector although more on the hunt for bargains or financial distress situations. A less crowded market is also making room for family-backed investment vehicles, generally with longer term investment horizons and an appetite for luxury and brand assets.

Watchmania: consolidation and roller-coaster ride
The beginning of the Noughties witnessed a goldrush for watch brands by the larger players in the sector. LVMH started the trend at the end of 1999 with the quasi-simultaneous acquisitions of Tag Heuer, Ebel, Chaumet and Zenith and the creation of a Watch & Jewellery division. Prowling from the sidelines, Swatch Group snatched Breguet and its famed manufacture, Lémania. Gucci Group also invested in the sector, buying back its watch license and investing successively in Boucheron and Bedat in 2000. Sector consolidation hit fever pitch that same year when LMH (the Mannesman-owned holding company of Jaeger -leCoultre, IWC and Lange & Soehne) was sold for a reported 9x sales to Richemont, who attributed the record-breaking multiple to LMH’s manufacturing capabilities and the potential of its brands, but who in reality was paying for the leadership of the premium segment in the industry.

Most of these brands received significant investment in the lean couple of years after 9/11, and when optimism returned to the luxury goods market the watch sector benefitted disproportionately relative to other product categories. It embarked on its wildest bull run in recent history, fuelled by the boom in the financial services industry and the rise of emerging markets such as China and Russia. Watches grew in size and started to showcase ever more numerous complications. This made for a particularly harsh landing when the sub-prime crisis unfolded. Retailers, petrified at being caught with too much inventory, stopped buying altogether and the watch market went into a painful eighteen-month apnea. There are however signs of life at the turn of the decade with trade inventories being reconstituted, a sure sign of market confidence.

Turn of fortune for designers?
The Noughties started out with Tom Ford embodying the star designer, the all-powerful sun king of the luxury sector, whose creative talents had propelled Gucci from an also-ran to the hottest and sexiest brand in the world. Throughout the sector, designers shared in the limelight, their exploits having outgrown specialist trade magazines and now being played out by mainstream media. Their compensation packages started to outshine even Wall Street, as industry bosses, having taken on board the need to empower the creative forces in their businesses, competed to attract and retain talent. Every top designer demanded their own brand, and the investment to go with it, alongside their role as the creative director of a large established luxury brand.
Then something gradually happened that changed the mood of the market. Tom Ford left Gucci, his absolute requests for control, power and money having proven too much for his PPR bosses. Star designers’ own brands, backed by considerable investment with the promise of great things to come, somehow failed to deliver.

Alexander McQueen and Stella McCartney’s eponymous businesses were the last two to receive significant investment before the industry started to question the model. The list is impressive. Liz Claiborne gave back to Narcisco Rodriguez the business it had bought from him a few years earlier. Hedin Sliming, having walked out of Dior Homme with a view to launch his own brand, failed to find a backer. Phoebe Philo joined LVMH-owned Céline despite having initially set her sights on building her own brand. Even Puma recently “sold” back Hussein Chalayan his own business.

The rise of the contemporary designer
Whilst the traditional high fashion main line business was getting the equivalent of the industry cold shoulder – with the remarkable exception of Lanvin, where the creative and commercial talents of Alber Elbaz were performing miracles – some new designers turned up who were happy to design to a price point and to a margin while still fully expressing themselves. What had happened in bags earlier in the decade with the rise of the contemporary category (Isabella Fiore, Kooba, Botkier) was now taking place in fashion with the likes of Philip Lim and Alexander Wang. The size of contemporary floors grew along with the offering and became more mainstream, offering customers new and interesting “designer-feel” brands which were significantly cheaper than established designer brands. This was also reflected at retail level with the successful development, at price points below traditional designer level, of brands with a broad enough offering to justify their own retail, often across several categories, like Tory Burch. This in turn lead top designers to focus on the category; none more successfully so than Marc Jacobs with his Marc by Marc line.

The blurring of boundaries between luxury and lifestyle through design
One of the defining stories of the decade was the transformation of PPR from a builders merchant and retail group to a luxury and lifestyle group. First came the contentious battle for Gucci Group, which saw PPR commit to launch a fully-priced takeover offer on the eve of the 9/11 attacks. A few years later, having not been able – or willing – to buy a large enough target in luxury goods to challenge the leadership of LVMH and Richemont, it surprised the market by announcing the acquisition of sports and lifestyle group Puma, having spent the best part of €10 billion between the two deals.

The notion that the boundaries between luxury and lifestyle were starting to blur was further augmented by the multitude of collaborations between designers and high street chains over the decade (H&M collaborations with Lagerfeld, Victor & Rolf, Stella McCartney & Matthew Williamson; Target with an endless list of American designers, and more recently Jil Sander for Uniqlo).

We think that this blurring of boundaries between luxury and lifestyle has occurred through, simply put, the growing importance of design in every consumer business, across price points and categories.

The same importance of design is now prevalent at the volume end of the market. If speciality chains were a product of the 80’s and 90’s, there is no doubt that the Noughties saw an astonishing rise in the development and success of accessibly-priced models: Zara, H&M, Uniqlo or, in a different category, Coach. Be they different concepts, they all offer fun and interesting products at a very accessible price point, some with their own design ethos and some by riding the mood and ideas of the moment and bringing constant newness.

Death of a marketing manager
Whereas marketing had traditionally been the favoured career track for consumer businesses, the growing importance of design and creativity changed things there too. Luxury goods companies began to cultivate and reward those of their employees and associates who were able to bridge the gap and work intelligently with the design and production teams on the one hand, and the commercial people on the other hand. Such associates had to be nimble and sensitive enough to understand and harness creative emotions and to work with products. Budgets and market forecasts, while necessary, started to take a back seat in the discussions. Marketing became lumped in together with sales. No more “designing to a brief from the marketing team”, but in its place successful brands have a more collaborative process, with a merchandising type interfacing with a tripod consisting of the design, production and marketing sales functions. The marketing king is dead, long live the merchandising king!

What lies ahead
The luxury sector is embarking on a new decade with an assured yet uneasy footing. It has cut costs and restructured, but while there are rich pickings in the East, traditional developed markets are flattish. The need to offer real value to customers, either in the form of reduced pricing or outstanding quality, is a driving force.
Yet traditional models of doing business are cracking up. The high-end fashion designers model has been left by the side of the road. Once offering the promise of rapid, capital-free wholesale growth, department stores are moribund and make no-one happy: not the customers who are bored, not the brands who now find it very hard to make money in such an environment. New ways of doing business for luxury brands, new business models, will be formed in the next decade.

What will they entail? Creativity, for sure. Some vertical integration for the brands who want to protect the integrity of their supply chain. We have already witnessed this trend in watches, specialist skills for couture and high fashion, and the sourcing of exotic skins. Some will go local (like Hermès with Shang Xia). But we think fortunes will be built on rethinking distribution in the sector. It has to happen – current models don’t really work anymore. The web hasn’t played to its full strength in the sector. That will be one key. The search is on for the others.

Key themes of the Noughties

Private equity muscles its way in
The Noughties saw an unprecedented level of interest by private equity players in the sector. Size definitely mattered: Tommy Hilfiger ($1.5 billion), Barneys, ($942 million), Neiman Marcus ($2.6 billion), Valentino Fashion Group (€2.6 billion) were amongst the biggest deals of the decade and all ended up in private equity portfolios. One of the most talked about success stories of the period, Jimmy Choo, changed private equity hands three times. The record multiples paid on some of these transactions were underpinned by the willingness of private equity owners to leverage their investments to the hilt, driven by benign debt market conditions and the expectation of endless growth potential.

Signs that things had gone too far emerged in 2007, when industry buyers effectively withdrew from the M&A game, stating that they could not compete with the multiples paid by the private equity world. The credit crunch robbed the private equity market of its financial muscle and the bigger players’ interest in luxury goods deflated faster than a bodybuilder coming off steroids. Smaller, specialist players are still active in the sector although more on the hunt for bargains or financial distress situations. A less crowded market is also making room for family-backed investment vehicles, generally with longer term investment horizons and an appetite for luxury and brand assets.

Watchmania: consolidation and roller-coaster ride
The beginning of the Noughties witnessed a goldrush for watch brands by the larger players in the sector.
LVMH started the trend at the end of 1999 with the quasi-simultaneous acquisitions of Tag Heuer, Ebel, Chaumet and Zenith and the creation of a Watch & Jewellery division. Prowling from the sidelines, Swatch Group snatched Breguet and its famed manufacture, Lémania. Gucci Group also invested in the sector, buying back its watch license and investing successively in Boucheron and Bedat in 2000. Sector consolidation hit fever pitch that same year when LMH (the Mannesman-owned holding company of Jaeger-leCoultre, IWC and Lange & Soehne) was sold for a reported 9x sales to Richemont, who attributed the record-breaking multiple to LMH’s manufacturing capabilities and the potential of its brands, but who in reality was paying for the leadership of the premium segment in the industry.

Most of these brands received significant investment in the lean couple of years after 9/11, and when optimism returned to the luxury goods market the watch sector benefitted disproportionately relative to other product categories. It embarked on its wildest bull run in recent history, fuelled by the boom in the financial services industry and the rise of emerging markets such as China and Russia. Watches grew in size and started to showcase ever more numerous complications. This made for a particularly harsh landing when the sub-prime crisis unfolded. Retailers, petrified at being caught with too much inventory, stopped buying altogether and the watch market went into a painful eighteen-month apnea. There are however signs of life at the turn of the decade with trade inventories being reconstituted, a sure sign of market confidence.

Turn of fortune for designers?
The Noughties started out with Tom Ford embodying the star designer, the all-powerful sun king of the luxury sector, whose creative talents had propelled Gucci from an also-ran to the hottest and sexiest brand in the world. Throughout the sector, designers shared in the limelight, their exploits having outgrown specialist trade magazines and now being played out by mainstream media. Their compensation packages started to outshine even Wall Street, as industry bosses, having taken on board the need to empower the creative forces in their businesses, competed to attract and retain talent. Every top designer demanded their own brand, and the investment to go with it, alongside their role as the creative director of a large established luxury brand.

Then something gradually happened that changed the mood of the market. Tom Ford left Gucci, his absolute requests for control, power and money having proven too much for his PPR bosses. Star designers’ own brands, backed by considerable investment with the promise of great things to come, somehow failed to deliver. Alexander McQueen and Stella McCartney’s eponymous businesses were the last two to receive significant investment before the industry started to question the model. The list is impressive.

Liz Claiborne gave back to Narcisco Rodriguez the business it had bought from him a few
years earlier. Hedin Sliming, having walked out of Dior Homme with a view to launch his own brand, failed to find a backer. Phoebe Philo joined LVMH-owned Céline despite having initially set her sights on building her own brand. Even Puma recently “sold” back Hussein Chalayan his own business.

The rise of the contemporary designer
Whilst the traditional high fashion main line business was getting the equivalent of the industry cold shoulder – with the remarkable exception of Lanvin, where the creative and commercial talents of Alber Elbaz were performing miracles – some new designers turned up who were happy to design to a price point and to a margin while still fully expressing themselves. What had happened in bags earlier in the decade with the rise of the contemporary category (Isabella Fiore, Kooba, Botkier) was now taking place in fashion with the likes of Philip Lim and Alexander Wang. The size of contemporary floors grew along with the offering and became more mainstream, offering customers new and interesting “designer-feel” brands which were significantly cheaper than established designer brands. This was also reflected at retail level with the successful development, at price points below traditional designer level, of brands with a broad enough offering to justify their own retail, often across several categories, like Tory Burch.

This in turn lead top designers to focus on the category; none more successfully so than Marc Jacobs with his Marc by Marc line.

The blurring of boundaries between luxury and lifestyle through design
One of the defining stories of the decade was the transformation of PPR from a builders merchant and retail group to a luxury and lifestyle group. First came the contentious battle for Gucci Group, which saw PPR commit to launch a fully-priced takeover offer on the eve of the 9/11 attacks. A few years later, having not been able – or willing – to buy a large enough target in luxury goods to challenge the leadership of LVMH and Richemont, it surprised the market by announcing the acquisition of sports and lifestyle group Puma, having spent the best part of €10 billion between the two deals.

The notion that the boundaries between luxury and lifestyle were starting to blur was further augmented by the multitude of collaborations between designers and high street chains over the decade (H&M collaborations with Lagerfeld, Victor & Rolf, Stella McCartney & Matthew Williamson; Target with an endless list of American designers, and more recently Jil Sander for Uniqlo).
We think that this blurring of boundaries between luxury and lifestyle has occurred through, simply put, the growing importance of design in every consumer business, across price points and categories.

The same importance of design is now prevalent at the volume end of the market. If speciality chains were a product of the 80’s and 90’s, there is no doubt that the Noughties saw an astonishing rise in the development and success of accessibly-priced models: Zara, H&M, Uniqlo or, in a different category, Coach. Be they different concepts, they all offer fun and interesting products at a very accessible price point, some with their own design ethos and some by riding the mood and ideas of the moment and bringing constant newness.

Death of a marketing manager
Whereas marketing had traditionally been the favoured career track for consumer businesses, the growing importance of design and creativity changed things there too. Luxury goods companies began to cultivate and reward those of their employees and associates who were able to bridge the gap and work intelligently with the design and production teams on the one hand, and the commercial people on the other hand.

Such associates had to be nimble and sensitive enough to understand and harness creative emotions and to work with products. Budgets and market forecasts, while necessary, started to take a back seat in the discussions. Marketing became lumped in together with sales. No more “designing to a brief from the marketing team”, but in its place successful brands have a more collaborative process, with a merchandising type interfacing with a tripod consisting of the design, production and marketing sales functions. The marketing king is dead, long live the merchandising king!

What lies ahead
The luxury sector is embarking on a new decade with an assured yet uneasy footing. It has cut costs and restructured, but while there are rich pickings in the East, traditional developed markets are flattish. The need to offer real value to customers, either in the form of reduced pricing or outstanding quality, is a driving force.

Yet traditional models of doing business are cracking up. The high-end fashion designers model has been left by the side of the road. Once offering the promise of rapid, capital-free wholesale growth, department stores are moribund and make no-one happy: not the customers who are bored, not the brands who now find it very hard to make money in such an environment. New ways of doing business for luxury brands,new business models, will be formed in the next decade.

What will they entail? Creativity, for sure. Some vertical integration for the brands who want to protect the integrity of their supply chain. We have already witnessed this trend in watches, specialist skills for couture and high fashion, and the sourcing of exotic skins. Some will go local (like Hermès with Shang Xia). But we think fortunes will be built on rethinking distribution in the sector. It has to happen – current models don’t really work anymore. The web hasn’t played to its full strength in the sector. That will be one key. The search is on for the others…

The SLI began 2010 pretty much at the same level as it started 2000. This is a lot more than can be said for the general market index (we have moved to the Morgan Stanley Country Index for the World or MSCI World), which experienced a 43% decline over the same period. The Noughties have been a tumultuous decade during which we have witnessed two substantial market corrections, the worst terrorist act in history as well as both a period of unprecedented consumption and deep recession. All in all not an easy market environment to operate in!

2001 – 2003: we thought it was all over then…
The beginning of the Noughties saw the first big market correction, following the longest stock market bull run in history. The correction began with the bursting of the internet bubble, but took a turn for the worse following the September 11 attacks on the World Trade Center and ensuing global political instability. The threat of SARS added insult to injury causing a further drop in international tourism, a key driver of luxury goods sales. The SLI tumbled 55% from its peak in August 2000 to a low for the decade just a few days before the launch of the invasion of Iraq in March 2003. The main issue that emerged in this period was the sector’s dependence on tourist dollars, particularly Japanese, prompting many groups to strengthen their retail footprint in Japan.

2003 – 2007: the golden age of Richistan
The second leg of the Noughties saw a return to the golden age of luxury goods, driven by an improving global economy, favourable exchange rate movements, the emergence of new markets as well as a substantial increase in the number of high net worth individuals. The SLI shot up 195% from its low in 2003 to its peak in mid-2007: it rose sharply in 2003 following the invasion of Iraq and end of the SARS scare and again in the second half of 2005 and 2006, backed by strong economic data from emerging luxury markets. This was the era of bling when the world seemed to be composed of haves and have yachts: luxury brands couldn’t produce “exclusive” statement pieces fast enough, and they started a race to open distribution in newly wealthy markets across the globe.

2007 – 2009: a house of cards
Signs of trouble emerged in 2006 when the US sub-prime mortgage market began to falter. Things
definitely took a turn for the worse in the second half of the year and the term “credit crunch” became a household name. By mid 2007 there were rising concerns that the global economy was going to take a turn for the worse and that stock markets were overheating. The SLI peaked during this period and the multiples of its constituents became hard to justify on the basis of their fundamentals. Nevertheless, few foretold the severity of the impending financial crisis. The first really big tumble took place in the run-up to the crucial Christmas trading period, reflecting uncertainty as to the sector’s resilience, causing the SLI to fall 31% between October 2007 and January 2008. What followed was a period of increasing volatility, marked by sharp upturns and even steeper falls as the world went into financial meltdown. The SLI fell off a cliff in two stages: first to fall in the first half of 2008 were stocks exposed to affordable luxury and/or with a weak presence in emerging markets, resulting in a drop of 23% in the SLI from May to July; in the autumn virtually no stock was spared as the true scale of the financial crisis came to light and the SLI tumbled a further 42% between September and November. All suffered, but the watch sector in particular was exposed for its quasi exclusive reliance on wholesale distribution channels, which led to apocalyptic inventory destocking during the downturn. The overall response of the luxury goods industry to this downturn was swift and decisive: costs were controlled, capex was cut across the board and conglomerates focused on their strongest brands.

2009: the year the SLI earned its stripes
2008 Christmas trading was a bloodbath for retailers but a shopper’s paradise for consumers willing to part with their precious dollars. Heavy discounting was the name of the game as all players tried to shift excess inventory. The rest of the year felt generally miserable, with the only good news coming from China where growth resumed after a hesitant first quarter. On the stockmarket front, both the SLI and the general market index benefitted from market perception that corporates had taken the appropriate cost-cutting measures. The upward trend of the SLI accelerated in the second half as a result of the restart of the Chinese growth tractor and the general feeling that the bottom of the crisis was behind, resulting in a gain of 21% for the year.

Outlook: measured optimism
2010 will be an interesting year for the luxury goods sector. Consumer sentiment has shifted away from ostentatious consumption. “Value” has been redefined, benefitting both accessibly-priced business models and those focusing on expensive, timeless classics. The nimble and light-footed survived, while industry leaders reinforced their positions and gained market share.

The good news is that the sector as a whole will continue to grow and is likely to outperform the global economy on a long term basis. But a new world order remains to be found. Traditional luxury markets have been turned upside down, with new geographies taking over. Traditional distribution models have been mortally wounded, with department stores taking a direct hit. Creative strength, differentiation, customer relationship will be key. Finding the right distribution strategy will be essential. Watch this space….

A tighter range of multiples
Two things happened to sector valuations during 2009.
Unsurprisingly, valuation multiples went up substantially, rising 48% for the SLI as a whole to an average of 12.6x EBITDA as at January 2010. This compares to a peak of 15.0x in mid-2007.

Secondly, the range of multiples narrowed quite significantly. Most individual stocks are now trading in a tight range, between 11x and 12x, in contrast to a year ago, when multiples ranged from 4x to 8x. The reason for this narrowing of the range of EBITDA multiples is not obvious. With some notable exceptions (Hermès, Bulgari), it seems that the market is still looking for the tools to determine the appropriate value of each individual stock, and is applying a “default” valuation multiple of 11-12x for the sector as a whole.
Surely this should enable the savvy, well-informed investor to take advantage of this cloud effect and pick the winners of the pack. You read it first here!

Important Notice
This newsletter is distributed from time to time to clients and contacts of Savigny Partners LLP (“Savigny”) who are interested and professionally experienced in the luxury goods sector. The views and opinions expressed in this newsletter pertain to themes that are topical to the luxury goods sector as at the date of this newsletter, and are meant to stimulate open discussion between Savigny and its clients and contacts. The information in this newsletter has been compiled from sources believed to be reliable but neither Savigny, nor any of its partners, officers or employees makes any representations as to its completeness or accuracy. This newsletter is not intended to help its addressees or readers make investment decisions, nor does it purport to make recommendations regarding potential investment decisions. Savigny shall not be liable or responsible for any loss or damage caused by or arising from any reader’s reliance on information contained in this newsletter. Please note that some or all of the brands, and the companies
which own brands, mentioned in this newsletter may have been and may continue to be clients of Savigny or may have a professional relationship with Savigny.

M&A activity in the sector
Companies that have changed ownership or received investment in 2009

• Father and son private investors Hans-Jochem and Hannes Steim acquired Junghans Uhren, the
  German watch and clock maker, for an undisclosed consideration in January
• KPS Capital Partners acquired the substantially all of the business of crystal and tableware group Waterford Wedgwood in an asset transaction in March
• Private equity firm Castanea Partners acquired niche cosmetics brand Urban Decay in March
• Private equity firm Patriarch Partners LLC acquired Stila Corp, the American make-up brand in April
• LVMH acquired a minority stake in the ethical clothing company Edun in May
• The management team of Cruise, the UK-based luxury retailer, acquired the company in May
• NEO Capital backed a management buyout transaction of Alain Mikli International, the luxury optical frame designer, for an undisclosed consideration in May
• Emerisque Brands, together with S. Kumars Nationwide, acquired Hartmarx Corporation, the US-based producer and marketer of casual apparel for a consideration of $119 million in August
• Broadwick Group, owner of Jaeger, acquired English Apparel brand Aquascutum, for an undisclosed consideration in September
• The Hong Kong-based company Sincere Holdings acquired Sincere Watch, the Singapore-based
  company engaged in the business of watch and clock retailing, for $80 million in September
• The Gaydoul Group, the Swiss family holding company, announced the acquisition of stockings and lingerie company Fogal in October
• Steiner Leisure announced the acquisition of the spa and skincare company Bliss World Holdings for a cash consideration of $100 million in November
• Endurance Capital acquired Primera, the women’s apparel manufacturer and retailer (Apriori, Cavita, and Laurel), from Escada for an undisclosed consideration in November
• A private family trust acquired a 12.5% stake in French fashion house Lanvin for an undisclosed amount in November
• Kwiat Enterprises, Triton Equity Partners and Och-Ziff Capital Management Group acquired Fred Leighton, the American jewellery maker in November
• Greenwill, the holding company of Italian leather goods company Tivoli, acquired British luxury leather goods and stationery retailer Smythson for a total consideration of £18 million in December
• The Mittal family acquired German fashion group Escada for an undisclosed consideration in December
• The Edmond de Rothschild LBO Fund acquired a majority stake in the French interior design company Christian Liaigre for an undisclosed consideration in December
• The Aquila family acquired 90% of Montegrappa 1912, the Italian pen manufacturer from Richemont for an undisclosed consideration in December
• Alain Mikli International acquired a 75% stake in Sporoptic Pouilloux, the manufacturer of Vuarnet sunglasses, for approximately €4 million in December
• Dutch investment company HAL Holding waived all remaining acceptance conditions and started its full restructuring of Safilo Group in December, which is expected to be completed by the first quarter of 2010

Even as luxury goods executives grow more optimistic the worst is over, the recession will leave behind a sector with fewer players and a new set of rules and dynamics. “Value” and “meaningful consumption” are among the new buzzwords and “accessible luxury” possibly on the endangered species list.

“We live in a world of competition. Maybe there was too much,” mused Karl Lagerfeld, among major industry figures WWD surveyed to divine how the luxury landscape might look once the dust from the downturn has cleared.

The designer of Chanel, Fendi and Karl Lagerfeld collections also said an “obsession” with extreme fashion statements is also likely to ebb and “ commercial,” long a disdainful term used to describe a boring fashion show, will lose its sting. “ Clothes are made to be worn,” Lagerfeld stressed.

While a range of opinions emerged, designers, chief executives, analysts and other observers agreed that, in luxury’s next wave, consumer expectations are likely to be higher than ever, with craftsmanship, service, heritage and longevity among new priorities.
“They want it all: the quality, the creativity, the exclusivity and the service. You tend to forget that in good years because in good years, it’s easier,” said Pierre-Yves Roussel, chief executive officer of the fashion division at LVMH Moët Hennessy Louis Vuitton. “ Being in luxury, we have to be perfect in everything we do.”

Meanwhile, on the business front, emerging markets for luxury goods, the growth of e-commerce and social networking and eco concerns are also likely to shape the industry in years to come.

Harsh market conditions will certainly separate the wheat from the chaff, some observers noted, even as there have been recent predictions the sector might see a rebound in the second half of 2010.

“Many brands have appeared that may not be perceived as ‘true’ luxury,” noted Gilbert Harrison, chairman of Financo Inc. “The changes occurring will bring a much sounder definition of what is luxury and the iconic brands will survive and continue to have demand and luster that they have had in the past.”

Below, here’ s what the exp erts had to say.

A SMALLER SECTOR, SLOWER GROWTH
Robert Polet, president and ceo, Gucci Group: “I believe the era of ‘accessible luxury’ is over. The current crisis has been particularly difficult for these ‘affordable luxury’ brands as their customers have been most affected by it. It has also been tough on brands without a strong financial base or global profile… so I think the industry will also emerge from the crisis a bit leaner — with fewer, stronger brands offering products of superior quality and value. There is a noticeable trend away from conspicuous consumption to conscious consumption. People are returning to a consciousness of heritage, quality, craftsmanship and long-lasting value. Luxury remains about experience: the experience of heritage, quality, authenticity and artisanship . The other trend being witnessed in the industry is the ongoing importance of China and other emerging markets, which now represent a third of the luxury business.”

Michael Burke, ceo, Fendi: “There will be a lot fewer players. This is the first recession that luxury goods has entered with leverage. It shows that you can’t use the same financial tools. This recession has proved that trying to be too much to too many people is not the right way. If you want to go global, you have to be very focused. Your brand strategy can’t rely on too much diversification.

Since we’re not supposed to go after all customers, we have the luxury of being focused, the duty to be focused. Also, this is the first recession where the Internet is a major medium. People have as much information as professional investors. Your mistakes are much more visible: your expansion mistakes, your design mistakes.”

Gilbert Harrison, chairman, Financo Inc., New York: “ When the economy rebounds, luxury purchases are not expected to return to the same level as experienced over the past 20 years. Consumers will have been trained to get comparable levels of satisfaction from secondary lines or private label lines. Tougher credit will limit the ability of high-value purchases [and] residual economic worries of the recession will mitigate purchasing power.… These trends have highlighted the overbranding, overstoring and overpricing of the U .S., which is leading to a major shakeout of brands and retailers. Luxury brands can use scarcity to enhance the desirability of their products. Emerging markets are widely viewed to be helpful, but not fully dependable, in serving as an offset to the sales declines and margin erosion in develop ed markets.”

Matteo Marzotto, co-owner, Vionnet: “The decade between 1997 and 2008 wasn’t sustainable anymore because it was too financially driven. The multiples used for the valuation of a company were mesmerizing. Already, after 9/11 there were warning signals that excess was starting to waver, but then the whole industry became too centered on finance and it fell to the floor. Now, it will take years for the consumer to go back to the pre-crisis buying approach — and even when things pick up , we must come to terms with the fact that it won’t be like 2007 anymore. More than ever, it’s important to excel in the quality-price-craftsmanship ratio because even those consumers with money and a lighthearted and whimsical shopping approach are knowledgeable and attentive to this aspect.”

Concetta Lanciaux, founder, Strategic Luxury Advisors: “Universal aspiration to luxury has never dwindled and never will. It can only increase in the years to come as all basic needs are being met worldwide. In some countries, consumers will continue to be willing to even lower their food budget in order to buy status objects. The big change is only in the level of income that people will have available to spend on luxury goods. The lasting values of luxury brands such as quality and design identity, in a market with less spending capacity, are reinforced and gain an even more central place. But the luxury market will have fewer global contenders and the offer will become clearer. Luxury brands that will be able to… offer collections with identity and relevance, but with a wider range of prices, will win the large base of the customers they need.”

Luca Solca, senior retail and luxury analyst, Sanford Bernstein: “ The recession will likely usher in an era of more subdued growth, on the back of less buoyant economic growth in the medium term. Smaller players will be even more marginalized than today, while larger and stronger leading players will emerge. Consumers will avoid excesses and maintain a more considerate shopping behavior. This is showing today with major brands being preferred for their iconic products, with consumers clearly looking for ‘investment- grade’ purchases rather than newly invented fads. Similarly, consumers will question value and price more. Brands that were not seen to discount so aggressively will be preferred. Designers and apparel products, I would expect, will face the highest scrutiny and skepticism, considering that lower-p riced design alternatives abound.”

Anne Chapelle, ceo, BVBA32 , the holding company of Ann Demeulemeester and Haider Ackermann: “ Priorities in spending patterns have been rearranged, and consumers have experienced the feasibility of this change in their everyday lives. To bring them back to their previous spending [habits] will definitely take time, care and investment from our side. Secondly, the players in the luxury business have changed as well. The economic downturn forced some, sometimes smaller and younger fashion houses, to close down or to get reorganized in a dramatic way. Consumers are [repositioning] their attitudes toward luxury….They are even more focused on the quality of materials and craftsmanship , and the choice of sustainable and truly valuable goods.”
Cristiana Ruella, group managing director, Dolce & Gabbana: “Recession aside, the economic-social system worldwide has been hit by structural change due to the shift in the way both companies and consumers think. We will face the upcoming months with even more rationalized collections for customers oriented toward distinction and quality. We will continue to invest in a focused manner and obviously with more attention when evaluating each project to further reduce the margin of risk compared to what was tolerable in the past.”

Lew Frankfort, chairman and ceo of Coach Inc.: “Luxury is changing and it will be much less about price and more about great product and exclusivity. Price will no longer be a positive factor in making a purchase decision. Consumers will want products that are extremely well made, scarce and at a good value.” Frankfort believes that accessible luxury will thrive given some “ compelling price points out there, and that you will see less conspicuous consumption in the high-tick et area. There will be exceptions. Hermès will continue to thrive. Growth, however, will be in areas that are more in reach of a more discerning consumer. The consumer will be careful when she emerges regarding how she buys and where she buys. Diamond rings over $50,000 will be trending to a lower level.”

Pierre Mallevays, managing partner, Savigny Partners, London, a boutique investment bank specializing in luxury goods: “The crisis has changed the definition of ‘value.’ That was a dirty word in the luxury goods circle before the downturn, just like ‘mass.’ Now the luxury customer wants value as in investment value. In luxury goods, value will come from the perception of a high degree of craftsmanship and quality combined with durability, with a good sprinkle of functionality. The customer now wants to spend right: not to accumulate or to have, but for the right reason. The investment proposal has to be right. Brands will rediscover they have a soul, and will have to engage the soul of their customers to be really successful. This will require a multichannel, interactive dialogue, where the customer will feel a sense of ownership of the brand or sharing in its set of values.”

Stefano Pilati, designer, Yves Saint Laurent: “What happens after this kind of a cycle is that consumers become more aware of value, with a heightened attention to the exclusivity and quality of a product. They will recognize and expect expertise in design and craftsmanship, and a strong, coherent aesthetic identity from the brands they patronize. My approach to design has always given primacy to pure aesthetics without losing an orientation toward the needs of the market. At Yves Saint Laurent, we anticipated the crisis, in a sense, through the creation of the various ‘Edition’ capsule collections, which operate and respond vertically to diverse mark et needs and requests.”

Ralph Toledano, chairman and ceo, Chloé: “Customers have gotten used to discounting in ready-to-wear, and that is very bad for us. I really believe people look at price, but they also want to have quality. The expression ‘value for price’ is absolutely valid. We see in our stores the customers really want the best quality. We also see the buy-now, wear-now phenomenon. We used to deliver coats first for fall. This might change. It’ s clear we also have to look at our retail networks and our service in particular. We will be looking more at CRM [customer relations management], viral marketing, in-store events and service, service, service.”

Patrizio di Marco, ceo, Gucci: “Even prior to the financial crisis…the consumer [was] placing higher emphasis on individuality, personalization and less ostentation. The crisis has increased the focus on discrete consumption and the price-to-value relationship. The crisis has lowered substantially the disposable income of entry-level, aspirational consumers with a resultant drop in traffic from this segment. For the foreseeable future, [consumers] will be more prudent, pragmatic and discerning. When buying luxury products, they will evaluate more true quality, heritage, craftsmanship, exclusivity and expect outstanding levels of service. I also believe that social responsibility is increasingly important in the minds of consumers. A concern for the environment, appropriate labor practices and a policy of giving back are all factors that can play a part in purchasing decisions today.”

Jean Cassegrain, managing director, Longchamp: “We have been less affected by the crisis than most of our competitors. Our first half of 2009 has been difficult, but we have still ended up versus last year, which was a record year. In July and August, even the markets that have been most affected by the crisis — the U .S. and Japan — were up again. I believe that this success is related to the positioning of our brand. We are a European luxury brand, but we have never been overpriced.… The customer still wants a sexy, desirable product but is no longer ready to pay $1,500 or $2,000 for a bag that is obviously not worth it.”

Ilaria Alber-Glanstaetten, ceo of Provenance, the London-based strategic and creative marketing agency: “Consumers will be looking for a greater price-value ratio. I think companies will very quietly follow the lead of Dolce & Gabbana, for example, who have lowered their prices. I also think there will be a return to service. It’s no longer going to be about a power dynamic between shop assistant and customers, but more peer-to-peer selling. I was recently invited to a YSL store event in London, and the chief executive of the company was there helping the customers with the clothes. I think there may be more user-generated products similar to what you see in the mass market: more interchange between consumers and companies. Nowadays, you can design your own T-shirts, sneakers.”

Patrick Thomas, ceo, Hermès International: “One phenomenon will accelerate: There will be a segmentation between brands with high quality, craftsmanship and quality materials — and masstige. Consumers are quite discriminating, and within luxury goods there are high-quality players and the rest is mass luxury goods. In Japan, for instance, consumers are extremely aware of the quality of products and give a premium to products of high quality. There’s also the growing importance of Chinese customers everywhere. There’s a big surge, including in Paris. It’s a long-term phenomenon. For the moment, we have fewer Russian customers, but that’s not going to last.”

Sebastian Suhl, chief operating officer, Prada Group: “The current macroeconomic context clearly provides opportunities to leading brands. Those brands, which are able to develop and drive a strong retail network and support it with a solid communications platform, will ultimately come out on top. Balance is key: A leading luxury brand must maintain its appeal, offering innovative, top-quality products across all product lines and providing customers an exceptional retail experience.”

Massimo Ferretti, chairman, Aeffe Sp A: “The current downturn has certainly changed the industry environment, particularly the attitude of the clientele: more selective and more sensitive to the value-price ratio. The true challenge we face is to be in the perfect condition to catch the opportunities of the up coming economic recovery, with an efficient and flexible organization, with appealing and well-balanced collections, with a selective presence on the key markets.”

Maria Grazia Chiuri, co-creative director, Valentino: “ The product remains king because that’s how we transmit our point of view.
More than ever, there has to be coherence between store windows, the ad campaigns and the relationship s with the celebrities, all for a unique vision.”

Francesco Minoli, ceo, Pomellato: “ The companies that will survive the downturn are the ones that in the past years coherently carried forth an authentic message. Conversely, those that overexposed and overdistributed the brand in the name of growth will suffer, as they will inevitably be repositioned. This crisis has taught everyone that growth isn’t infinite, so there will be major attention to production, stock and distribution. Shopping will be a moment of self-gratification, but a more pondered one.”

Consuelo Castiglioni, creative director, Marni: “We consider the difficult economic situation as an opportunity of growth for the future, leading to the expansion of the niche market. The customer pays more attention to the value of the items. We are concentrating on our core strengths: craftsmanship and creativity. We consider the Internet to be an important means to reach a broad clientele, even in countries that have no distribution or boutique yet.”

Donatella Versace, designer: “ We designers absolutely have to re-edit our approach. It’s all about going back to your roots. The only way to entice customers to buy is to give fashion a more emotional excitement. It’s also about thinking of new ways to get your collections out there — social media, Internet, virtual runway shows — that are more cost-effective, global and creative.”

Pierre-Yves Roussel, ceo, fashion division, LVMH Moët Hennessy Louis Vuitton: “I don’t think the luxury industry will fundamentally change. The crisis itself is just putting us back into being better in tune with what luxury and fashion are about. The reality is consumers are and will be more demanding. People are looking for meaningful consumption. They are not just consuming for the sake of buying. People want to be reassured. Discounting is something we have to get away from. We have to get back to the true value of things. Meaningful could mean environmental issues, but there are different meanings: what it takes behind the scenes to make a product. It’s about seduction, beauty and happiness. People should feel good about buying. We don’t have to find gimmicks. We just have to be true to what fashion and luxury are really about.”

Anya Hindmarch, designer: “I think there’s going to be a shift to being really aware of buying things that give you years of pleasure. The power has gone back to the customer. I’ve always hated the idea of the ‘It’ bag. Being on a waiting list for something everybody else has is not luxury. There are two very different moods. Yes, people are absolutely buying fewer pieces, but you also want something that really makes you feel amazing. I recently bought a jacket in fluorescent yellow, which says change; it says new. There’s been a huge surge in the bag market, and analysts are saying it’s going to move to jewelry, but I’m not sure. A bag is very tribal; it shows who you are.”

Fabrizio Malverdi, ceo, Givenchy: “For consumers, the biggest change in the luxury business post-downturn will be raising the consciousness of a new way of spending: not necessarily less, but more focused on authentic values, on brands that are able to tell a real and coherent story. The service and shop p ing experience we are able to supply will influence consumers’ attitudes and habits. More and more, customers and their needs will be a core art of our business activities. They k now that they are able to influence the destiny of a brand, and they will be more and more demanding.”

Graeme Black, designer: “Recycling has become the new cool. People are thinking of it like vintage — it has that sort of cachet. In terms of buying, they are pulling back — buying two pieces instead of five. People are also starting to think of luxury as time spent at home with the children, with the concept of creating a home.”

Allegra Hicks, designer: “I think luxury is becoming much more of an internal thing. It’ s no longer about looking at the next person to see what they have — all that has been destroyed by the recent crisis. My vision for my customers is to come into the store to buy something that will make them feel good, something that won’t be dead in three months’ time. I think the new luxury is about no longer running after the latest trend, but understanding your personal style.”

Carlo Giordanetti, creative director, Montblanc: “The reemerging of true, solid, inspirational brand values will be real criteria for customers to show their interest in a brand. Customers have become more demanding in their selection criteria; they have rediscovered the power of saying ‘no,’ and they are not ashamed to express their need for confidence and expertise. They have also learned to favor those brands that show ethical behavior in a proven and solid way.”

Elisabeth Ponsolle des Portes, president and ceo of the Comité Colbert, an association of 70 French luxury brands: “We see consumers make purchases guided by a desire to make a real investment, to acquire a product that has a history and that can be p assed to their children. They are more and more attracted to quality products, but also to the concept of sustainability, which is set to become key for the luxury industry.”

Sergio Loro Piana, ceo, Loro Piana: “ There will be a return to content rather than form, to values and tradition rather than excess, quality rather than flashiness and show-off. Customers will have a wider awareness of the environment and will be willing to buy products that fulfill a promise of quality and durability, that are sustainable and here to last. Luxury consumers will look for value and only go for the best.”

Donna Karan, designer: “There is a new way of look ing at luxury. Cashmere is cashmere. What feels good feels good, and you are not going to change that. There is a new luxury out there. I t’s not only about, ‘Oh, I am going to buy the most expensive something.’” Luxury, she added, will encompass a multitude of lifestyle issues, from finding the time to enjoy a sunset to “being able to eat well and take care of yourself and being able to have a lifestyle.

Fragrances – the essence of a good brand?
Luxury brands have long appreciated the potential to capitalise on their brand cachet by marketing fragrances under their name to a wider public than their core customers, thus providing a healthy stream of cash flows and providing a “window into the brand” for new customers. The rewards of hitting a winning formula are substantial, as witnessed by the perennial success of Chanel no.5 (launched in 1921) and Eau Sauvage (launched in 1966), to name a few. The problems began when every Tom, Dick and Britney wanted to join the party, resulting in an overcrowded market with upwards of four hundred new fragrance launches per year, compared to fifty a couple of decades ago. Brands have had to shout louder in order to get their fragrances noticed, investing in high profile advertising campaigns, celebrity endorsements and lavish launch parties, all of this for a one-in-four chance of their fragrance surviving more than two years and where a fragrance is now deemed successful if it manages to capture 2% of the market. There also has been considerable pricing pressure in the overall designer scent segment resulting in a wider distribution of perfumes in order to achieve sufficient volumes at the expense of the brand holder’s image and positioning. Can investing considerable amounts into a product that is more likely to fail than succeed and that, if it were to succeed, may only generate measly returns, be justified? Does the sector need to change its approach?

Making sense of what is going on in this sector is a challenge and every strategy under the sun has been tried with varying success. Over the past decade a number of trends have begun to emerge, which we propose to review below.

Product – ditching the face in favour of the nose
The perfumer (or “nose”) as opposed to the celebrity is beginning to take centre-stage. Niche brands, such as Frederic Malle, which names the nose behind each of its scents, have emerged as a strong category by tapping into consumers’ demands for quality inside the bottle and a story behind the fragrance. A number of luxury houses have also brought noses in-house to re-invigorate their fragrance business and develop a more coherent fragrance offering. Whilst noses have always been behind the creation of a fragrance, the brief they are given seems to have changed dramatically from one that is quite specific and developed with the help of consumer focus groups to one where free rein is given to the nose’s experience and creativity. A number of fragrance houses have also placed more emphasis on the raw materials used in their perfumes; Le Labo has named each of its fragrances by the primary note used in the fragrance followed by the number of ingredients used to make up that fragrance.

Price – breaking through the glass ceiling
There has been a move to break away from the “one price fits all” paradigm that has been blighting the sector, which has both enabled and been a result of increased focus on the ingredients of a perfume. One segment in particular that has benefited from this trend is the prestige segment, which also includes niche brands; anecdotal evidence suggests that sales in this segment have been going strong even in the current recession (Harvey Nichols fine fragrance sales were up 40 % in 2008, Tom Ford’s Private blend (£250/bottle) sales have doubled at Selfridges). For those that can get away with it, this much higher pricing structure also allows brands to generate sufficient returns on their fragrance portfolio without having to resort to a high volume sales approach.

Place – making the customer feel special
Distribution has always been a thorn in the side of the fragrance industry, notably with the influence of “pile them high and sell them cheap” chains such as Beauty Base or The Perfume Shop. A lot of work has been done to redress this issue by both brands and retailers. Luxury brands have focused on reining in distribution; notably prestige fragrances are typically distributed only in the brand’s own stores and in select department stores: Chanel has gone even one step further by launching its own fragrance room on the ground floor of Selfridges Oxford Street. A number of niche brands only distribute their fragrance through their own stores or dedicated concessions (staffed by their own employees) in department stores. Le Labo takes this one step further and actually mixes its fragrances for the customer on the spot in its stores and concessions. A number of department stores have also upped the stakes in their fragrance department, improving merchandising (notably by dedicating more space to prestige and niche fragrances) and staff training, and as a result are agreeing a larger number of exclusive distribution deals for longer periods.

Promotion – turning the volume down from a shout to an interactive murmur
Whilst it still plays an important role, advertising has lost its prominence as THE tool to launch a fragrance. Prestige fragrances and niche brands have eschewed this form of communication in favour of word of mouth and interactive web-based vehicles. Notably they are tapping into the proliferation of blogs on perfumes (NowSmellThis for instance has 10,000 hits per day) inviting bloggers to fragrance launches and, in some cases have even set up their own blog. Whilst this alternative form of communication is not free, it is cheaper than advertising and very effective in garnering long term support for a brand.

Hermès – letting the genie out of the bottle
In early 2000 Hermès made public its concerns over the relevance of its fragrance business; the company opted for a thorough review of the division and implemented a number of changes as follows. It hired a nose, Jean Claude Ellena, in 2003 giving him a high degree of creative freedom. The fragrance collection was segmented into three tiers, with a new prestige range (Hermessences) being launched in 2004 and distributed exclusively in Hermès stores, a fine fragrance range (Jardin – tied in with the annual themes of the brand) being distributed in Hermès stores as well as selected department stores and specialist retailers, and “window” fragrances based on the heritage of the brand (eg: “Kelly Calèche”) and designed to provide an access point to the brand by distributed more widely. The first two categories are not supported by advertising campaigns, whilst the third is. The division has emerged into being one of the fastest growing business areas of the company in 2007/8 with sales of Eur119 million.

The product should sell the brand just as the brand should sell the product
We cannot profess to give guidance as to how to develop and launch a successful fragrance: this is an increasingly challenging sector which should be approached with great caution. What we have seen is that the temptation to make quick money on the back of a brand can often come back and haunt a brand owner. For a fragrance to work in the long term, it needs to make sense and be able to stand alone as a product in its own right within a brand’ s universe. This requires developing a product that is truly in keeping with the underlying brand both in terms of scent and quality of ingredients. It is also critical to engage the consumer on all levels, especially at the point of purchase, and to create an on-going rapport between the actual product and the consumer.

Japan falls from grace as brands turn to China
Over the last year or two a barrage of articles have been flooding publications all over the world about the state of the luxury goods market in Japan. In June this year, the Financial Times went as far as to declare, ‘Japanese fall out of love with luxury’. The conjecture vis-à-vis Japan’s ‘mysterious’ turn away from excessive consumer expenditure culminated with the recent news that Versace are to pull out of the country that was ‘once the world’s most reliable buyer of all things foreign and expensive’ . LVMH also added fuel to the fire by announcing that they were calling a halt to their planned store opening in the country’s capital after having witnessed sales in the region drop by 20 percent in the first half of 2009. All eyes are now firmly fixed on China. Admittedly this is hardly a new and note-worthy topic; Savigny Partners investigated the downturn in luxury spending and change in consumer attitudes in Japan three years ago, at a time when China was starting to appear on the map for most luxury brands. Since then the road to China has become frenzied, and it seems appropriate to draw some parallels between the Japanese experience of a maturing market and the new darling of the luxury sector.

China’s little emperors are more individualistic than their Japanese counterparts
While individualism isn’t necessarily a concept that one automatically equates with the Chinese people – who have traditionally stood by the collectivist spirit promoted since the rise of communist rule, it now appears that the rapid pace of change within the country has also fostered a new generation that is empathically opposed to the ideas that their parents still hold so dear. The little emperor syndrome that was born out of the one-child policy can certainly be held, at least in part, accountable for this transformation in attitudes, with a generation of youth all believing that they hold a special place in the world. A KPMG survey in 2007 reported that on average over 60% of people used luxury goods as a demonstration of status and success compared to less than 20% who consumed them in order to fit in. This contrasts starkly with the more group-orientated Japanese culture where decisions are traditionally made by consensus, and one’s peer group is looked to for feedback and acceptance. With an urban population that are looking to express themselves as individuals it is possible that China’s spending patterns will change more quickly than they have done in Japan, to one similar to the ‘Prada Primark phenomenon’ that is commonplace in mature luxury markets where consumers are happy to mix and match brands and price points.

Brand loyalty is in Japan’s DNA
Japan is a culture that is uniquely loyal; it is one of the few countries in the world where one expects to keep a job for life. This loyalty extends also to the brands that they buy into and is unlikely to be replicated in China, a country of people who are ethnologically very different in this regard: brand-hopping in their mission to seek out of the next product or collection. So, could it be that the cult of the LV bag, that is still to this day a compulsory item in Japan, will not have the same longevity in a China whose population is already proving to be less brand loyal? While Japan’ s reliable devotion is almost certainly inimitable, the fact that 80% of Chinese luxury goods consumers fall under the age of 45 (a figure that contrasts dramatically with the demographics of consumers in this sector throughout the Western world) does give brands hope that they will have the opportunity to shape consumers tastes and spending habits and to build loyalty.
In spite of the Chinese insatiable desire for the latest fashions, big luxury brands are currently having a ball in China catering to a hungry, unsophisticated customer base. The market will mature and this will not always be so. While enriching the client relationship with a view to create a sense of ownership and to foster customer loyalty is the conundrum luxury brands now have to solve everywhere, nowhere it is as important as in China, the Eldorado of luxury goods, where the stakes are so high and brand loyalty is, well… to be tested.

From cultural revolution to cultural promotion
The ‘tsunami of Westernisation’ in the decade-long build-up to the 2008 Olympic games certainly helped the campaign of luxury goods companies, bringing with it not only a new awareness and interest in Western culture as well as the inevitable desire to own anything logo-ified, but also Western style shopping malls. However, the Olympics were also an opportunity for the Chinese government to parade both to its own people as well as to the rest of the world not only what China had to offer, but that it had arrived and was here to stay. This resurgence in national spirit meant that the tide of westernisation has been somewhat curbed in favour of a rediscovery of Chinese culture. So in terms of national confidence China is in a completely different situation to that of post-war Japan, who emerged from the period of occupation inexorably linked to the United States and its cultural influences. Looking at the early collections of Japanese designers Issey Miyake, Kenzo and Yohji Yamamoto where much of their work imitated the work of Western designers, this lack of cultural confidence is evident. Furthermore as Chadha and Husband explain in their book The Cult of the Luxury Brand, none of these designers were to gain a following at home before they were accepted by the rest of the world. In contrast, the recent, well-publicised huge military parade on Tiananmen Square to celebrate sixty years of communist rule was certainly not short of self-confidence!
It has often been stated that luxury goods transcend the notion of cultural nationalism, and it is easy to perceive the current Chinese admiration for Western brands and specifically for brands that are successful on a world stage. However, the growing interest in their own culture might very well lead the Chinese consumer to look for something that is more uniquely Chinese, and in our view this will happen more quickly than it has in Japan, where a similar phenomenon is still relatively new.

The land of the rising brands
When we travelled to China at the end of 2006, we were surprised to find out that Chinese businessmen and entrepreneurs were actually more focused on developing Chinese brands than buying Western brands. This has the backing of central government, which is championing Chinese creativity and has invested heavily in fashion design education at university level. There is definitely a wind of sinicization in the luxury sector, much as it blew through the contemporary art market over the last few years. It is compelling that Christian Bédat, the Swiss entrepreneur and founder of the eponymous watch brand, chose to name his latest web-based watch venture Red8!

Chadha and H usband assert that ‘with the economic ascendancy of Asia… its cultural impact will increase too’, and indeed, the Chinese are extremely zealous about the export of their culture. The number of Chinese Studies courses and centres rapidly increasing year-on-year at universities around the world, and with an estimated five hundred schools in the UK offering Chinese as part of their curriculum to pupils aged eleven and upwards, the next generation of potential luxury consumers are already being immersed in the culture of the Middle Kingdom.

As Savigny Partners prepares to invite Ports Design Ltd into the SLI , we look forward with excitement to further developments in China, not just as a consumer of luxury goods but also as a growing influence over the luxury sector as a whole.

Ports Design to join the SLI!
We are very impressed with the success that the Chan family, originally contract manufacturers in Canada, has achieved in building Ports, a Canadian apparel brand, into one of the leading luxury brands in China. The Ports brand, originally founded in 1961 in Toronto, has been successfully transitioned from a largely North American retailer to an international fashion company with one of the leading positions in the luxury segment in mainland China, supported by an extensive retail network in the country.
Ports was acquired by the Chan family in 1989. In 1993, the brand was introduced to China with two initial stores opened in Xiamen and Shanghai. In the first five years of operations, the company opened over a hundred stores in most of the larger cities in China. Today Ports is sold in over three hundred and seventy shops, ranging from concessions to flagship stores, in over sixty cities.
Beyond the numbers, here is a fact to be reckoned with: Ports was voted in 2007 by Vogue readers in China the second most desirable luxury brand after Chanel, and was placed again as one of the top five international luxury brands desired by young mainland consumers in a survey conducted in 2008 by AC Nielsen. It is consistently recognised by Chinese consumers as being one of the top three or five most desirable international brands, despite price points being lower than those of imported Western luxury brands.
This has been achieved on the basis of a vertically-integrated model, with in-house design, manufacturing, marketing, distribution and retail functions. In a nutshell, the current ownership team has achieved production of international quality (for both tangible and intangible products) on a Chinese cost base, with the reward that the group’ s PBT margin is now above thirty percent. Other businesses include the license to design, manufacture and distribute fashion products and accessories under the BMW Lifestyle name in China (the company operates over forty BMW Lifestyle retail outlets) , a recent joint venture with Vivienne Tam, and distribution agreements with Ferrari and Giorgio Armani. In addition, the group has a small OEM business which exports merchandise to major retailers in North America and a wholesale business for BMW Lifestyle and Ports branded clothing.

The group also launched a new upscale line, Ports 1961, in 2003 in New York, with a separate design team and higher price points than its sister brand, Ports International (Ports Design Limited, the listed company, controls the rights to distribute and market the Ports brand, including Ports 1961, throughout Asia whereas the private parent company of Ports Design owns the rights to distribute and market the brand in Europe and the Americas). Ports 1961 now has over eighty points of sale globally, and is available in the United States, Canada, Japan, Dubai, Hong Kong as well as China. The group also operates five directly-owned stores in North America, with a flagship location in the heart of the Meatpacking District in New York. After the close of the Ports boutique on London’s New B ond Street in early 1990’s, the group will re-launch Ports in Europe next spring with the opening of a store on the designer floor of Harvey Nichols.

The Chan family currently owns approximately 40% of Ports Design Limited, which has a market capitalisation of over a billion euros and is listed in Hong Kong. The family also owns and operates PCD, the leading high-end department store chain in China with seventeen stores spread over nine cities, including Beijing.

All in all, our conversations with management and our understanding of their business strategy and growth prospects have convinced us that Ports Design is a good proxy for the Chinese luxury goods market, and thus merits inclusion in our SLI. This is the first time that the SLI departs from strictly European or American stock. The stock will be included in our index and valuation table starting in our next issue.

Sustainability and the Luxury Industry

Adapted from an article by Florian Gonzalez to be published in the October issue of Reflets, the magazine of ESSEC’s alumni network.

2009 is the year when the word “sustainability” officially entered the luxury professionals’ lexicon and agenda. The consequences of such a dramatic acknowledgement are far-reaching and entail a revision of every single dimension of the industry, including product development, marketing, finance, distribution or human resources. This revolution is currently taking place and will obviously slowly redefine the very notion of “luxury” together with brand identities and brand perceptions.

Luxury group shave made their “coming-out” about sustainability:
In November 2007, when the International Herald Tribune dedicated its luxury conference to “Supreme Luxury” with every brand rushing into Russia and Dubai, it was hardly predictable that, in March 2009, the same international newspaper would host a “Sustainable Luxury” conference, urging luxury brands to embrace sustainability. Now that the myth of the recession-proof luxury industry has been exposed, brand owners are revisiting their beliefs and value system as they relate to growth, profit targets and corporate culture.

At the IHT conference, Francois-Henri Pinault made a long speech which can be considered as a very encouraging and symbolic step towards sustainability. Noting that the expression “sustainable luxury” could sound like a contradiction, he considered that it was necessary to go beyond this contradiction as “growing concern for the planet and greater respect for the people all come together. Luxury and sustainable development share the same values and can support each other. There is no time for reflection or pessimism but for action. Let’s be ambitious and effective before it is too late. Luxury can and should raise awareness. ”
A few months later, at the Financial Times Summit in Monte Carlo, Bernard Arnault acknowledged the importance of sustainability in a keynote speech. In noting that the ‘luxury as usual’ momentum was over, Mr. Arnault expressed the opinion that the desire for exceptional products would survive the crisis as long as innovation and creativity lead the way. In this regard, he intends to view the growing environmental issue in the world not as a constraint but as an opportunity, and he referred to LVMH’s recent investment in Edun, a fashion company founded in 2005 “with a mission to drive sustainable employment in developing economies”. According to Mr. Arnault, a socially responsible, more demanding luxury customer is appearing to which companies will have to adapt, while preserving profitability for their shareholders.

Actions speak louder than words and sustainability experts are very cautious when it comes to corporate promises. The definition of sustainability was first minted by the Brundtland Commission in 1987. An updated definition could be: “Physical development that achieves net positive impacts during its life cycle… by increasing economic, social and ecological capital.” (J. Birkland, 2008). Unfortunately, the lack of a universal definition of sustainability leaves space for all kinds of questionable marketing practices and deceiving propaganda. Indeed, the “green-washing” temptation is strong and a company’s financial strength, together with the stability of its ownership, are probably the best guarantees for a long term commitment to such a culture shift.

Tentative guidelines to help make the luxury industry more sustainable:
Florian Gonzalez is suggesting the following guidelines to the luxury industry:

1 . Sustainability requires to revise business models and particularly to give sustainability a role in companies’ financial valuation and targets. This is part of the so-called “triple bottom line” (people, planet, profit), expanding the traditional reporting framework to take into account ecological and social performance in addition to financial performance.

2. Sustainability requires the interest alignment of all stakeholders from ownership and top management down to staff and supply chain partners.

3. Training is key and employees shall be given incentives in order to learn and achieve concrete results in terms of sustainability.

4. A sustainable business puts sustainability into its core mission, hence luxury companies shall make their products’ sustainability a priority (vs. charity work).

5. Design can be eCo-driven and not eGo-driven (Eco-design vs. Ego-design). Sustainability shall inspire new co-design and co-creative processes in the name of ‘design activism’ (Design Activism, Alastair Fuad-Luke, 2009).

6. Fast fashion should be seen for what it is most of the time: throw-away products, waste of resources and low prices obtained thanks to poor social conditions in Asian factories. Slow fashion instead means selecting, enjoying and caring products we buy: “Consume less, live more” (The 11th Hour, a documentary by Leo-nardo DiCaprio).

7. Being carbon neutral is only a first step: actually reducing carbon emissions and making a positive impact (vs. just “neutral” ) is the real name of the game.

8. Brands which consistently and constantly improve their sustainability credentials will reinforce customer loyalty and increase their customer base over time.

9. Profits made out of unsustainable businesses are nothing less than “ecological evasion”.

10. Sustainability requires a permanent learning process made of humility, generosity, kindness and sharing of knowledge. Companies should not be afraid of sharing best practices and creating positive externalities.

Finally, following philosopher Alain de Botton, it may be time to revisit our very notion of wealth: “The current economic crisis is forcing all of us to rethink nothing less than the meaning of life. In particular, it is prompting us to re-examine a key idea in our society: the connection between making money and being happy.”

Sector Review

Pushing the 52 week-high higher
The SLI has rallied 22% since the publication of our last newsletter in July, partly fuelled by a general recovery in global stock markets. This was evidenced by the 14% increase in the FTSE AW over the same period, but sentiment towards the luxury goods sector has also improved resulting in the index outperforming the FTSEAW. A number of luxury stocks have hit and exceeded their 52-week highs on several occasions over the last three months, whilst the SLI hit its 52-week high twice in September. A notable riser was PPR, which hit a new 52-week high eight times in September alone.

Less un certainty and less bad news (we hope!)
The bulk of the companies in the SLI have reported half year results in the last couple of months and these have come in line or ahead of expectations. The general theme is that although we are not out of the woods yet, things are not as bad as expected. The overall feeling is that of the sector having bottomed out; some companies are even starting to see a recovery in demand, thus improving their outlook for the second half of 2009. Swatch was the first to come out with a slightly more optimistic outlook for the second half of the year; it did so in mid-July and set the ball rolling for an upward re-rating of the sector. This was followed by similarly improved, albeit cautious, messages from Tiffany, Hermès and LVMH. As a result, industry observers revised their sector sales growth estimates upwards for 2009 to a decline of 10%, relative to the forecasts of a 20% decline being bandied around at the beginning of the year. This relative optimism should however be tempered by negative reports from retail floors in August and September. Let’s hang on!

Making sense of what is going on in this sector is a challenge and every strategy under the sun has been tried with varying success. Over the past decade a number of trends have begun to emerge, which we propose to review below.

Product – ditching the face in favour of the nose
The perfumer (or “nose”) as opposed to the celebrity is beginning to take centre-stage. Niche brands, such as Frederic Malle, which names the nose behind each of its scents, have emerged as a strong category by tapping into consumers’ demands for quality inside the bottle and a story behind the fragrance. A number of luxury houses have also brought noses in-house to re-invigorate their fragrance business and develop a more coherent fragrance offering. Whilst noses have always been behind the creation of a fragrance, the brief they are given seems to have changed dramatically from one that is quite specific and developed with the help of consumer focus groups to one where free rein is given to the nose’s experience and creativity. A number of fragrance houses have also placed more emphasis on the raw materials used in their perfumes; Le Labo has named each of its fragrances by the primary note used in the fragrance followed by the number of ingredients used to make up that fragrance.

Price – breaking through the glass ceiling
There has been a move to break away from the “one price fits all” paradigm that has been blighting the sector, which has both enabled and been a result of increased focus on the ingredients of a perfume. One segment in particular that has benefited from this trend is the prestige segment, which also includes niche brands; anecdotal evidence suggests that sales in this segment have been going strong even in the current recession (Harvey Nichols fine fragrance sales were up 40% in 2008, Tom Ford’s Private blend (£250/bottle) sales have doubled at Selfridges). For those that can get away with it, this much higher pricing structure also allows brands to generate sufficient returns on their fragrance portfolio without having to resort to a high volume sales approach.

Place – making the customer feel special
Distribution has always been a thorn in the side of the fragrance industry, notably with the influence of “pile them high and sell them cheap” chains such as Beauty Base or The Perfume Shop. A lot of work has been done to redress this issue by both brands and retailers. Luxury brands have focused on reining in distribution; notably prestige fragrances are typically distributed only in the brand’s own stores and in select department stores: Chanel has gone even one step further by launching its own fragrance room on the ground floor of Selfridges Oxford Street. A number of niche brands only distribute their fragrance through their own stores or dedicated concessions (staffed by their own employees) in department stores. Le Labo takes this one step further and actually mixes its fragrances for the customer on the spot in its stores and concessions. A number of department stores have also upped the stakes in their fragrance department, improving merchandising (notably by dedicating more space to prestige and niche fragrances) and staff training, and as a result are agreeing a larger number of exclusive distribution deals for longer periods.

Promotion – turning the volume down from a shout to an interactive murmur
Whilst it still plays an important role, advertising has lost its prominence as THE tool to launch a fragrance. Prestige fragrances and niche brands have eschewed this form of communication in favour of word of mouth and interactive web-based vehicles. Notably they are tapping into the proliferation of blogs on perfumes (NowSmellThis for instance has 10,000 hits per day) inviting bloggers to fragrance launches and, in some cases have even set up their own blog. Whilst this alternative form of communication is not free, it is cheaper than advertising and very effective in garnering long term support for a brand.

Hermès – letting the genie out of the bottle
In early 2000 Hermès made public its concerns over the relevance of its fragrance business; the company opted for a thorough review of the division and implemented a number of changes as follows. It hired a nose, Jean Claude Ellena, in 2003 giving him a high degree of creative freedom. The fragrance collection was segmented into three tiers, with a new prestige range (Hermessences) being launched in 2004 and distributed exclusively in Hermès stores, a fine fragrance range (Jardin – tied in with the annual themes of the brand) being distributed in Hermès stores as well as selected department stores and specialist retailers, and “window” fragrances based on the heritage of the brand (eg: “Kelly Calèche”) and designed to provide an access point to the brand by distributed more widely. The first two categories are not supported by advertising campaigns, whilst the third is. The division has emerged into being one of the fastest growing business areas of the company in 2007/8 with sales of Eur119 million.

The product should sell the brand just as the brand should sell the product
We cannot profess to give guidance as to how to develop and launch a successful fragrance: this is an increasingly challenging sector which should be approached with great caution. What we have seen is that the temptation to make quick money on the back of a brand can often come back and haunt a brand owner. For a fragrance to work in the long term, it needs to make sense and be able to stand alone as a product in its own right within a brand’s universe. This requires developing a product that is truly in keeping with the underlying brand both in terms of scent and quality of ingredients. It is also critical to engage the consumer on all levels, especially at the point of purchase, and to create an on-going rapport between the actual product and the consumer.

China’s little emperors are more individualistic than their Japanese counterparts
While individualism isn’t necessarily a concept that one automatically equates with the Chinese people who have traditionally stood by the collectivist spirit promoted since the rise of communist rule, it now appears that the rapid pace of change within the country has also fostered a new generation that is empathically opposed to the ideas that their parents still hold so dear. The little emperor syndrome that was born out of the one-child policy can certainly be held, at least in part, accountable for this transformation in attitudes, with a generation of youth all believing that they hold a special place in the world. A KPMG survey in 2007 reported that on average over 60% of people used luxury goods as a demonstration of status and success compared to less than 20% who consumed them in order to fit in. This contrasts starkly with the more group-orientated Japanese culture where decisions are traditionally made by consensus, and one’s peer group is looked to for feedback and acceptance. With an urban population that are looking to express themselves as individuals it is possible that China’s spending patterns will change more quickly than they have done in Japan, to one similar to the ‘Prada Primark phenomenon’ that is commonplace in mature luxury markets where consumers are happy to mix and match brands and price points.

Brand loyalty is in Japan’s DNA
Japan is a culture that is uniquely loyal; it is one of the few countries in the world where one expects to keep a job for life. This loyalty extends also to the brands that they buy into and is unlikely to be replicated in China, a country of people who are ethnologically very different in this regard: brand-hopping in their mission to seek out of the next product or collection. So, could it be that the cult of the LV bag, that is still to this day a compulsory item in Japan, will not have the same longevity in a China whose population is already proving to be less brand loyal? While Japan’s reliable devotion is almost certainly inimitable, the fact that 80% of Chinese luxury goods consumers fall under the age of 45 (a figure that contrasts dramatically with the demographics of consumers in this sector throughout the Western world) does give brands hope that they will have the opportunity to shape consumers tastes and spending habits and to build loyalty.

In spite of the Chinese insatiable desire for the latest fashions, big luxury brands are currently having a ball in China catering to a hungry, unsophisticated customer base. The market will mature and this will not always be so. While enriching the client relationship with a view to create a sense of ownership and to foster customer loyalty is the conundrum luxury brands now have to solve everywhere, nowhere it is as important as in China, the Eldorado of luxury goods, where the stakes are so high and brand loyalty is, well… to be tested.

From cultural revolution to cultural promotion
The ‘tsunami of Westernisation’ in the decade-long build-up to the 2008 Olympic games certainly helped the campaign of luxury goods companies, bringing with it not only a new awareness and interest in Western culture as well as the inevitable desire to own anything logo-ified, but also Western style shopping malls. However, the Olympics were also an opportunity for the Chinese government to parade both to its own people as well as to the rest of the world not only what China had to offer, but that it had arrived and was here to stay. This resurgence in national spirit meant that the tide of westernisation has been somewhat curbed in favour of a rediscovery of Chinese culture. So in terms of national confidence China is in a completely different situation to that of post-war Japan, who emerged from the period of occupation inexorably linked to the United States and its cultural influences. Looking at the early collections of Japanese designers Issey Miyake, Kenzo and Yohji Yamamoto where much of their work imitated the work of Western designers, this lack of cultural confidence is evident. Furthermore as Chadha and Husband explain in their book The Cult of the Luxury Brand, none of these designers were to gain a following at home before they were accepted by the rest of the world. In contrast, the recent, wellpublicised huge military parade on Tiananmen Square to celebrate sixty years of communist rule was certainly not short of self-confidence!

It has often been stated that luxury goods transcend the notion of cultural nationalism, and it is easy to perceive the current Chinese admiration for Western brands and specifically for brands that are successful on a world stage. However, the growing interest in their own culture might very well lead the Chinese consumer to look for something that is more uniquely Chinese, and in our view this will happen more quickly than it has in Japan, where a similar phenomenon is still relatively new.

The land of the rising brands
When we travelled to China at the end of 2006, we were surprised to find out that Chinese businessmen and entrepreneurs were actually more focused on developing Chinese brands than buying Western brands. This has the backing of central government, which is championing Chinese creativity and has invested heavily in fashion design education at university level. There is definitely a wind of sinicization in the luxury sector, much as it blew through the contemporary art market over the last few years. It is compelling that Christian Bédat, the Swiss entrepreneur and founder of the eponymous watch brand, chose to name his latest web-based watch venture Red8!

Chadha and Husband assert that ‘with the economic ascendancy of Asia… its cultural impact will increase too’, and indeed, the Chinese are extremely zealous about the export of their culture. The number of Chinese Studies courses and centres rapidly increasing year-on-year at universities around the world, and with an estimated five hundred schools in the UK offering Chinese as part of their curriculum to pupils aged eleven and upwards, the next generation of potential luxury consumers are already being immersed in the culture of the Middle Kingdom.

As Savigny Partners prepares to invite Ports Design Ltd into the SLI, we look forward with excitement to further developments in China, not just as a consumer of luxury goods but also as a growing influence over the luxury sector as a whole.

PARIS, 3. September Im Laden stehen dumeinen Preisnachlass zu bitten ist eine Sache. Eine andere ist, im Internet anonym nach Schnäppchen zu suchen. In der Welt des Luxus ist das nicht anders. Die französische Internetverkaufsplattform vente-privee.com hat vor einem Jahr die Website VP Lounge aufgemacht und verkauft dort exklusive Marken wie Yves Saint-Laurent, Dunhill, Sergio Rossi oder ChristofIe.

„Wir wachsen zweistellig. Die Mentalitäten der Leute haben sich geändert; sie haben keine Bedenken, im Internet zu kaufen”, berichtet Geschäftsführer Jacques-Antoine Granjon.

Snobismus war gestern. „Beispielsweise ein T-Shirt von Fruit of the Loom mit einer Handtasche von Chanel kombinieren – da sagen sich die Leute, warum nicht”, berichtet der Chef des weltgrößten Veranstalters zeitlich begrenzter Verkaufsaktionen im Internet, der in diesem Jahr einen Umsatz von 750 Millionen Euro erwartet.

Preisnachlässe von 60 bis 70 Prozent gibt es bei seinen Waren, die meistens Restbestände sind. Der Verkauf etwa eines edlen Rings für 3,000 anstatt 10,000 Euro sei keine Ausnahme.

„Die Internetplattformen sind die großen Nutznießer der Krise”, sagt Karine Ohana, die zusammen mit ihrem Bruder in Paris eine kleine Investmentbank- Boutique zur Beratung von Luxusgüterherstellern führt. „Die Leute empfinden es nicht als Schande, im Internet zukaufen. Ja, es gilt sogar als clever.”

Da mögen die großen Produzenten noch so schöne Konsumtempel errichten, in denen ihre „Erlebniswelten” zum Kauf verführen sollen – in der Krise widerstehen die Men schen öfter un d kaufen woan ders oder garnicht.

Nach einem Jahr Wirtschaftskrise hat die Luxusgüterbranche viel von ihrem Glanz verloren. In Deutschland ist das der Öffentlichkeit mit dem Niedergang von Escada vor Augen geführt worden. Seit der Pleite von Lehman Brothers fallen nicht nur viele Investmentbanker aIs Kunden aus. Wohlhabende überlegen sich zweimal die Anschaffung teurer Produkte, deren Name oft mehr zählt, aIs die Ware hergibt. Die Altkunden begnügen sich mit dem, was sie haben, und die Neureichen verschieben Anschaffungen.

Besonders Männer, die in den vergangenen Jahren dem Uhrenmarkt zu einem Aufschwung verhaIfen, finden jetzt häufig, dass ein edler Zeitmesser eigentlich auch reicht. Manche Dame denkt bei den teuren Handtaschen anders, wie die recht stabilen Verkäufe der zeitlosen Lederwarenanbieter Louis Vuitton oder Hermès zeigen. Doch auch dort ist man von den Wachstumsraten der Vergangenheit weit entfernt. „Uhren und Schmuck sind von der Krise besonders stark betroffen, während sich die Lederwaren ganz gut halten”, sagt Claudia Lenz, Analystin beim Schweizer Bankhaus Vontobel.

Die jüngsten Exportzahlen Schweizer Uhren wiesen abermals nach unten. Zwischen Januar und Ende Juli sind die Ausfuhren gegenüber dem Vorjahr um mehr als ein Viertel gesunken. Uhren zwischen 200 unci 500 Franken hielten sich am besten, während das Preissegment über 3,000 Franken am stärksten litt.

In der Krise trennt sich unter den Anbietern die Spreu vom Weizen. „AIle haben zu kämpfen, am meisten aber jene, die sich auf modische Produkte konzentrieren. Was dagegen als zeitlos und kIassisch gilt, zieht sich besser aus der Affäre”, sagt Pierre Mallevays, der mi t seiner Londoner Gesellschaft Savigny Partners Luxusunternehmen berät. Als Klassiker gelten für die meisten Branchenbeobachter Hermès und Louis Vuitton, während die Meinungen bei Gucci geteilt sind. In Schwierigkeiten stecken nach MalIevays’ Auskunft jetzt vor allem italienische Anbieter mit finanzschwachen Familien im Hintergrund, die sich deutlich verschuldet haben. Versace, Prada und etwa der Brillen hersteller Safilo gehören in diese Kategorie.

Prada musste vor wenigen Tagen Gerüchte dementieren, dass das Unternehmen über den Verkauf einer Minderheitsbeteiligung verhandele, angeblich mit Richemont aus der Schweiz. Auch das Emirat Qatar soll Interesse gezeigt, als Finanzinvestor aber eine Abfuhr erhalten haben. Der Teufel trägt nicht Prada, sondem hält als ungeduldiger Gläubiger SchuldtiteI des Unternehmens: Bei einem Nettogewinn von knapp 100 Millionen Euro soil es mit 1,1 Milliarden Euro verschuldet sein. Immerhin verschoben die Banken offenbar die Tilgung von 450 Millionen Euro auf 2012. Von den französischen Branchengurus LVMH und Hermès sind die Italiener derzeit weit entfernt. Beide Unternehmen fuhren im ersten Halbjahr trotz Krise noch Gewinne ein ; LVMH ist an der Pariser Börse mehr als 33 Milliarden Euro wert, der viel kleinere Konzern Hermès fast 11 Milliarden Euro, wobei Letzterer als überbewertet gilt. Sie profitieren in immer mehr wachsenden Metropolen von einem Netz eigener Geschäfte. Das macht sie unabhängig von den Kaufhäusern, die ihre eigene Preisund Lagerpolitik ohne Rücksicht auf die Hersteller verfolgen.

Die Italiener dagegen müssen nach neuen Wegen suchen. Der Hersteller edler Anzüge, Brioni, versucht es jetzt mit T-Shirts. Die Ausweitung einer starken Marke auf neue Produkte ist län gst kein Geheimnis mehr, muss aber immer wieder gelingen. Man kann es zu weit treiben, wie etwa Pierre Cardin, der aufgrund seiner Zerfledderung in alle Himmels – und Produktrichtungen nicht mehr als Luxusanbieter gilt. Oder man scheitert wie Christian Lacroix, dessen Parfums nicht beim Publikum ankamen. Das kleine französische Modehaus, das zum Verkauf steht, ist eine Haute-Couture-Werkstatt geblieben, der anders als der Konkurrenz das Massengeschäft fehlt.

Kommt es in der Luxusgüterbranche nach etlichen Wachstumsjahren bald zu einer Bereinigung unter den Anbietern? Viele Private-Equity-Häuser sind verschwunden, weil der Zugang zurn Fremdkapital versperrt ist. Geblieben sind einige wenige industrielle Käufer wie LVMH oder etwa die Holding Labelux der Familie Benckiser, die, ausgehend vom Besitz des Parfum – und Kosmetikhersteller Coty, in neue Segmente strebt. So übernahm Labelux den Schweizer Schuhhersteller Bally und beteiligte sich mehrheitlich am amerikanischen Designer Derek Lam. Das war noch vor der Krise. „Die Transaktionen sind in der Zahl schätzungsweise um rund ein Drittel gesunken, im Wert um noch mehr”, sagt der Pariser Investment banker Ariel Ohana. Damit fallen auch die Preise.

Wann geht es wieder aufwärts? Berater Mallevays ist vorsichtig: „Der chinesische Markt wächst stark. Doch Europa und Amerika bleiben schwach. Während zwei bis drei Jahren geht es vielleicht leicht auf und ab, doch einen starken Aufschwung erwarte ich in diesem Zeitraum nicht.”

Pleiten strah len auf alle aus
Trotz Krise will Manfred Mroz von Krisenstimmung nichts wissen. „Wir steigern unsere Studentenzahlen seit geraumer Zeit um 10 bis 12 Prozent im Jahr. Und die Abgänger bekommen immer noch gute Jobs”, sagt der Schwabe, der einer von zwei Geschäftsführern der Fachakademie für Textil & Schuhe in Nagold (LDT) ist. „Auch von un seren Trainees hören wir, dass die Unternehmen die Ausbildung nicht einstellen.

Wir haben kein einziges Partnerunternehmen verloren. “Bald erreieht die über Studiengebühren finanzierte Privatakademie die Zahl von 600 Studenten und denkt über eine Deckelung nach, um nicht ein Massenbetrieb zu werden. Zum Markt der gehobenen Markenanbieter sagt Mroz: „Es geht etwas langsamer im oberen Genre, aber langfristig ist ein Markt da.”

Dennoch kann nicht abgestritten werden, dass Krisenphänomene wie die Insolvenz des deutschen Modehauses Escada ihre Spuren hinterlassen. Dort stehen 2,300 Beschäftigte, davon 600 in Deutschland, vor einem ungewissen Schicksal. Abgegrenzte Zahlen für die Luxusgüterbranche zu bekommen ist schwierig, weil die weitgefächerte Branche ungenau definiert ist.

Die Lage des Einzelhandels strahlt indes auf alle ab. Wenn große Häuser wie Karstadt schließen, dann ist dagegen niemand immun.

The latest chapter in fashion’ s topsy-turvy acquisitions story could be titled “ Minority Report.”

With valuations heading south — and bank financing scarce — minority stakes are becoming newly derigueur with private equity and family-controlled funds, which are still sitting on cash piles and hunting for deals.

“Minority investments will be a bigger part of the deals we’ ll be seeing in 2009,” said Ariel Ohana, partner at Paris-based investment banking firm Ohana & Co. “Most of the funds we’ re working with tell us that’s what they’re looking for.”

There seems to be no shortage of willing sellers these days, either, with Brioni, IT Holding, de Grisogono, Mariella Burani Fashion Group and Lanvin among the high- profile firms said to be seeking minority partners. Tory Burch also revealed plans earlier this fall to seek a minority investor, but in recent weeks the designer has soft-pedaled the plan.
Fashion companies are either looking to take out burdensome debt, fund expansion of their retail networks or provide liquidity to a part of their investor base that needs cash, said Pierre Mallevays, founder and managing partner of Savigny Partners, a luxury goods advisory and mergers and acquisitions firm in London.

He noted that the economic crisis is having an indirect, albeit potent, impact in cases where “this is to repay debt where lenders are keen to get their money back and cash flow is suffering from the current environment, creating a double wham my effect.”

However, observers agreed that investors are keen to consider minority stakes in growing and healthy companies, rather than distressed ones without hope of a turnaround.

Mallevays also noted that “family office-type investors” — which act like professional funds, but with a family fortune — are likely to be key victors in getting minority stak es since they “can take a long-term view and are not necessarily constrained with an exit strategy.”

Given the financial crisis, most observers don’t expect many deals to be consummated in the near term, especially given the poor state of the M&A market currently. A Thomson Reuters study earlier this month found that the value of canceled M&A deals in the fourth quarter was greater than the completed ones. Furthermore, the survey found that announced M&A activity up to early December was 27 percent below that of last year.

That trend is expected to continue into next year, with the overall number of transactions likely to shrink, but with a bigger proportion of minority stakes, Ohana predicted. This contrasts with the past two years, when private equity players were behind a flurry of leveraged buyouts of majority stakes.

“We’ll be seeing less majority deals backed by financial investors because there’s a shortage of acquisition financing from the bank,” Ohana explained. “Those funds still have the equity, but they no longer have access to debt, so either they do nothing or they start doing other deals that are not leveraged.”

“I think you’ll see more minority investments until the economic conditions stabilize,” agreed R. Adam Smith, founder and chief executive officer at Circle Peak Capital LLC. The New York-based fund recently made a minority investment in luxury stationery and accessories firm Mrs. John L. Strong.

Jean Caillaud, partner at Paris-based fund N. I. Partners, said selling a minority stake is one of the few ways for companies to get financing today, with some positive upside.

From the seller’s point of view, there is no need to change the management, and there’s the added benefit of having “evolved professions” available to give input, he noted.

As for the buyer, “it can be very attractive because there’s less risk,” said Kim Vernon, president and ceo of Vernon Co. , a New York-based brand consultancy that interfaces with investors. “They’re not necessarily responsible for having an operational position.”

On the sellers’ side, taking on a minority partner is an avenue to funding retail expansion, sharing risk with another party and cashing out without giving up control, executives agreed.

Investment professionals said strategic buyers, who recently have been getting back into the acquisitions game, are likely to take a pass on this trend, however.

Strategic players rarely take minority stakes, with some notable exceptions being Hermès International’s 45 percent stake in Jean Paul Gaultier and Compagnie Financière Richemont’s minority stake in online retailer Net-a-porter. Ohana noted that there are other reasons firms might agree to buy a minority rather than full control: because the company wishes to try out a new activity with no plans to integrate, or because it invests in a company where there’s a “conflict situation” that might put it in a position to obtain control at some point in the future.

But Caillaud asserted that minority investments by strategic buyers are less likely than in the past because multibrand conglomerates are apt to “keep their available financing for things they control.”
For investors, the fact that earnings multiples are deflated — down by as much as half, in some cases — in comparison with a few years ago means the market is ripe with cut price opportunities.

Caillaud said valuations are coming down, but it’s difficult to know by how much, since “there’s been few transactions recent enough to have been negotiated pre-summer,” ahead of the financial crisis.

Ohana said firms contemplating a majority deal before the crisis now might downscale to a minority sale, given lower valuations.

For companies, which are being squeezed by diminishing revenues and increasingly disproportionate debt, selling a minority stake makes a lot of sense.

“[In this situation] you have to sell some of your assets to cure your debt or find a new partner that can balance the situation,” Intesa Sanpaolo analyst Gian Luca Pacini told WWD.

Antichi Pellettieri SpA, part of Mariella Burani Fashion Group SpA, sold 49 percent of its bags division to private equity firm 3i in June to raise 118 million euros, or $150.3 million, in cash. The company is in line to be debt free this year and cash positive next year, after net debts of approximately 65 million euros, or $89.1 million, in 2007.

Mariella Burani also has been in contact with investors from the Middle East regarding the sale of a minority holding. The Italian company’s ceo, Giovanni Burani, said he had received “ many proposals, but it is still early.”

As reported, IT Holding SpA chairman and ceo Tonino Perna is in discussions to sell a minority interest in the fashion company’s parent company, PA Investments SA, to an investor fronted by Hong Kong businessman Billy Ngok. Perna is hoping to ease the group’s net indebtedness and open up the Asian market.

Last week, Moody’s Investors Service and Standard & Poor’s downgraded IT Holding’s credit rating for the second time in as many months after the group, which owns the Gianfranco Ferré, Malo and Extè brands and operates under license the Just Cavalli, Costume National C’N’C and Galliano labels, asked lender Intesa Sanpaolo to again postpone, to April 1 8 from Dec. 22, a 9.4 million euro, or $13.2 million, tranche payment on its bank loan originally due Oct. 30.

Despite the negative outlook the pressure is expected to force IT Holding to find an investor, mainly due to the development potential of the brands in its portfolio. At what price, though, remains to be seen.

Debt-ridden Safilo Group SpA also might attract a white knight.

Former Valentino Fashion Group SpA chairman Antonio Favrin, who sits on Safilo’s board, bought 4.8 million shares in Safilo, or 2 percent of its capital, in October, prompting speculation that he could begin building a minority stake. At the time, Favrin told an Italian newspaper he had no interest in upping his stake, nor did he have hostile intentions. However, privately, he is believed to think otherwise.

The Tabacchi family, which owns Safilo, controls around 40 percent of the eyewear company, via Only 3T Holding.

Safilo’s balance sheet is under severe pressure following a 63 percent drop in earnings in the first nine months of this year and hefty net debts, which Deutsche Bank has forecast could reach 580 million euros, or $731.2 million, come year end — nearly 4.6 times earnings before interest, taxes, depreciation and amortization. Only 3T is also burdened with around 300 million euros in debt.

After issuing its second profit warning in as many quarters this month, Safilo, which has licenses with Giorgio Armani, Dior, Gucci and Valentino, among others, has forecast a 2 percent drop in revenues from 4 percent growth and a net income target of 1 percent of sales, from 3 to 3.5 percent.

Italy’s Brioni said last month that it was looking for a partner to take a 20 to 25 percent holding and had tapped B N P Paribas as its adviser. Sources said it was easy to understand why Brioni would want to sell the stake — to unload the cost of buying out former ceo Umberto Angeloni in 2006 and finance expansion — but it was more difficult to understand from an investor standpoint.

“Two years ago there was a big appetite to invest in luxury. Now it is completely different,” sources said.
The downturn in luxury creates a major hurdle for fashion firms aiming to sell a minority shareholding. Talks between Lanvin and a fund linked to the ruling family of Qatar regarding the sale of a 40 percent stake, valued at around 80 million euros, or $101 million, have stalled, according to market sources.

Lanvin-owner Shaw-Lan Wang, who bought Lanvin from L’Oréal in 2003, has been seeking a capital increase in return for a minority stake to speed growth of the French fashion house, which is underdeveloped versus its competitors in terms of product categories and retail expansion. She since has lost her appetite to sell, though, according to sources.

Sources said Lanvin was “a very attractive target,” despite not being very profitable, largely because of its acclaimed designer, Alber E lbaz. However, until Wang changes her mind, the French label is “unavailable” because it is “ solidly held,” they said.

Of course, the major question facing possible sellers and potential buyers is the recession. As European and U.S. retailers come off one of the worst holiday selling periods in decades and even luxury firms begin to feel the economy’s bite, the downturn could force more firms to look for investors. It also could further dry up credit, however, making it even more difficult to complete deals.

PricewaterhouseCoopers recently issued an M&A outlook for next year that stated the market will be “fuelled by necessity. ” Robert Filek, a partner in the firm’s Transaction Services group, said more and more troubled firms, especially in the U.S. , will look to align themselves with stronger partners to survive.

The report highlighted sectors that presented opportunities next year, which include financial services, energy, consumer products, automotive, health care, technology and retail, which might present opportunities for distressed investors. “Retail companies looking to grow may find opportunities in discounted lease rates on prime real estate,” the study said.

In the end, though, Transaction Services group partner Greg Peterson stressed: “Private equity players will be challenged to find new and innovative ways to put their money to work and to find deal mechanisms that can drive the kinds of returns their limited partners expect. Historically, it has been during a downturn when strategic buyers and private equity firms have their best buying opportunities, yielding the best returns. The key will be the availability of financing. ”

Luxury for Hire
Rental is the latest development in temporary ownership of luxury items. Previous temporary ownership models include fractional ownership/timeshare, mainly in connection with property assets although more recently with private jets, yachts and classic cars, and by reselling on the second hand market. Whilst the concept of renting is age old, ecommerce sites like Avelle.com (formerly Bagborroworsteal.com) and from-bagstoriches.com, both founded in 2004, have led the expansion of this segment. It is no coincidence that this phenomenon has emerged during the second wave of dotcom expansion: its success stems directly from the success of internet sites such as Ebay and Portero in highlighting the secondary market value of small luxury items and in changing consumer attitudes towards ownership. The internet has also crucially provided scale necessary for these capital intensive sites to work b y allowing them to operate on a national and potentially international platform. Other elements which have fuelled the growth of luxury item rentals include the shortening of fashion cycles, resulting in consumers wanting more churn in their wardrobes.

A segment still finding its feet (but will it have legs?)
The segment is in its infancy and the key players are still exploring their business models. Avelle started off b y renting handbag s with unit values of between $200-400 but its users kept on ask ing for higher value items. Now the site has a much higher proportion of couture and high fashion items. Both Avelle and frombagstoriches have expanded their offerings; the former to jewellery, sunglasses, luggage and most recently to watches, whilst the latter expanded the services it offers to include refurbishment of customers’ own bags as well as the possibility to rent customers’ bags on their behalf.
We do believe there is potential for this market to grow further in bags, accessories, watches, jewellery and to a certain extent sunglasses. These products fit the bill in terms of ease of transport and fashion content and are also more durable than, say clothing or shoes. Companies operating in this segment are taking a significant stock risk, therefore getting the product right will be crucial to their survival. Another key issue in the case of watches and jewellery would be whether insurance costs would cripple the economics of renting higher value items.

Treading on the toes of luxury brands?
According to sector players, the luxury industry’s response has been at best muted, if not negative. “Many manufacturers view this as a bastardisation of the values of luxury” says Dan Nissanoff, author of Future-Shop: How to Trade up to a Luxury Lifestyle Today. Issues such as lack of control over distribution, con- cerns over product quality and authenticity as well as the bypassing of the brand’s own carefully designed store environment echo the industry’s initial reticence towards third party ecommerce sites in the late 1990’s/early 00’s. Added to this the fact that luxury manufacturers benefit in no way from the secondary trading of their products, one can see why the industry is reluctant to embrace this phenomenon.

As has been the case with ecommerce of luxury goods (see Savigny Newsletter Issue 4, June 2007), brands’ potential concerns that this channel would focus on low value items and the less affluent customer are proving to be unfounded. “I was surprised at our customer profile… I thought this would be an entry point” says Karen Richter, founder of frombagstoriches.com. Mike Smith, CEO of Avelle, agrees: “Our typical user is a college graduate in a managerial position… who owns 20-25 bags… and keeps on buying bags” adding “the demographic of the typical Avelle customer is higher than the demographic of the typical customer when I was at Nordstrom”. Affluent consumers also appear to have less of an issue about owning as opposed to renting and are therefore more likely candidates for this segment. Whilst it is impossible to replicate the shopping experience, rental companies have invested in high quality packaging for their products. They also have quite stringent quality control procedures in place and extensive refurbishment programmes for returned rental items so as to ensure utmost product quality.

Another major concern for brands is that the rental of luxury items will eat into their sales. Mike Smith argues that “this will be a third leg to the consuming stool: buy new, buy used and borrow” and that “this allows customers to be more adventurous”. Frombagstoriches offers the possibility to purchase any item hired b ut has very little uptake on this option. Both Avelle and frombagstoriches claim that their customers have full wardrobes and use rental as a means to rotate other items without using up too much additional wardrobe space. Dan Nissanoff argues that rental is a more efficient use of capital and allows consumers to benefit from the use of several items in the place of owning one. It is clear that the customers who use these sites can afford to buy instead of renting and that they actually are continuing to buy luxury goods; so we would argue that so far there is no evidence cannibalisation of full ownership. However the current economic crisis might lead us to a different conclusion.

In times of crisis, rent
Business across the luxury rental sites remains brisk although this may be partly attributed to the relative youth of the segment. There are however a number of factors that bode well for it. The key difference between rental and other forms of temporary ownership is that there is no tie-in, much more flexibility in terms of product available and time span of possession, and the risk of ownership remains with the provider. Consumers may therefore feel that they are taking less of a risk in renting these items as opposed to investing in a piece that may g o out of fashion faster than expected. The option of renting may also b e a more appealing alternative to trading down the luxury value scale as a means of saving money: “Rental companies might actually thrive in this environment. People that might have not looked at this before as a way to maintain this lifestyle may actually do this [rent]” says Dan Nissanoff. The luxury for hire business model might indeed allow luxury consumers who have fallen on hard times to continue sporting that oh so desirable item of the season. Will luxury rental prove to be one of the few businesses to benefit from the current crisis?

Sector Review
Falling down in steps
Looking back at the past couple of years, we see a case of two steps and two falls, as evidenced by the graph below. Our SLI, which performed broadly in line with the FTSE All World Index over the period, happily spent all of 2007 in a well-defined tunnel above its point of origin. At the turn of the year, it preceded the world index into a 25% tumble before settling into a second, significantly lower tunnel – albeit with greater volatility.

The bottom fell out after the summer
The SLI took its worst dive coming into Fall, falling by 42% from early September to mid November in response to the unravelling of the banking crisis which started with the Lehman Brothers bankruptcy on 15 September.

A roller coaster market
Daily share price fluctuations have increased markedly during the year, with stocks recording daily percentage point changes in the high single digits to mid-teens (e.g.: LVMH +12.9% on 13 October, -11.2% on 11 November). There seems to be little correlation between news flow and share prices which leaves investors with a total lack of visibility as to the outlook of the sector.

Entering a new tunnel?
In spite of the frightening volatility, the market seems to have recently stabilised and some observers believe it could have bottomed out. We certainly hope so but are also aware that more bad news might be on its way after what looks to be a very tough Christmas at retail.

Valuation multiples have continued to drop

Since peaking in June 2007, the average EV/EBITDA multiple for the sector has dropped by 35% from 13x to 8.5x. Excluding Hermès whose rating seems abnormally high, the average EV/EBITDA multiple is currently 6.2 x, well below the historical lows of 7-8x reached during the economic slowdown of 2001-2003.

We believe two waves of de-rating took place. The first wave, described in our last newsletter (Issue 6, July 2008), resulted in a polarisation of valuations across the sector. It hit companies with an exposure to affordable luxury through either brand positioning (Burberry and Tod’s) or product focus (eyewear sector) and those lacking presence in the emerging markets (Bulgari and Tod’s). Stocks with a strong bias to-wards the US also took a beating (Coach and Tiffany).

The second wave, which happened after the summer, left practically no stock untouched, although arguably some had already bottomed out in the first wave, such as the eyewear companies. The affordable luxury category was particularly hard hit again. Burberry lost another 54% in its EV/EBITDA rating. The watch sector also took a serious beating, as we had predicted it would in our last newsletter, Richemont and Swatch showing a decline in their EV/EBITDA multiple rating of 39% and 32% respectively. Finally, companies which had until then appeared to be recession-resilient owing to a wide product offering and exposure to emerging markets were not spared; for example LVMH lost almost 37% in its rating since June 2008. Emerging markets which were viewed to a certain extent to be the last saving grace for the sector have lost their shine. China’s growth is slowing; Russia’s oligarchs are worth $250 billion less than a few months ago; India’s top 40 bollygarchs have lost $212 billion, or 60 % of their combined wealth, over the past year.

One stock continues to defy gravity, abnormally so in our eyes. Owing to its super luxury brand positioning and ongoing bid speculation, Hermès’ rating increased by 32% since the peak of the market in early June 2007. Could a small float, a peculiar legal structure, rules pertaining to the company monitoring of family held shares and the retail versus institutional make-up of the shareholder base provide keys to under- standing such a situation?

Could currencies bring respite?
The only real piece of good news recently has been the currency movements. The US Dollar and the Japanese Yen have appreciated against the Euro in the past few months (and obviously the British Pound, which is seemingly in free fall). This has brought much needed oxygen to two very large markets which had been comatose in the last eighteen months. Could it last? Nothing is less sure, and we do not see any structural reason to support the continued strength in the Dollar.

The world has definitely changed since June 2007, with the mighty stocks of the luxury world losing approximately half of their market capitalisation. Some did even worse: Burberry was left with a quarter of its value of eighteen months ago, and Safilo’ s capitalisation was almost wiped out. The most stunning development however lies in Hermès’ market value now being over twice that of PPR, when almost the reverse was true in the summer of 2007.

PARIS: In fashion, cut is vital, but Marie Dupuis has found that it can also apply to price. Thanks to a little bargaining, she recently bought a Jean-Paul Gaultier dress at a 40 percent discount for New Year’s Eve.
Dupuis, 32-year-old Parisian, expressed surprise at paying €310, or about $400.
“I have never seen that,” she said. “It must be because of the crisis everybody is talking about.”

The high-fashion bargain is usually reserved for the superrich or celebrities who obtain designer clothing free from fashion houses seeking the publicity. But in the current economic downturn, less-expensive luxury items are becoming attainable to more ordinary, though still relatively well-off, shoppers.

With margins at mainstream retailers under pressure as they fight for a share of smaller customer budgets, the couture house created by Jean-Paul Gaultier is among the high- end brands that are jumping on the promotional bandwagon.

From Paris to Milan and New York to London, a strong increase in promotional sales in recent weeks has come to include luxury brands. In retail generally, the year-end holiday season can account for about 40 percent of annual sales, so the stakes are high.

But the high-end sales offerings are subtle. Instead of advertising discounts in shop windows — which can damage the brand by undermining the notion that quality comes at a price — they lure buyers with discreet “private sales,” some of them earlier this year than last.

For example, Sonia Rykiel, Jean-Paul Gaultier, Jimmy Choo, Prada, Armani, Gucci, Tod’s, Dolce & Gabbana, Alexander McQueen, Gianfranco Ferré and Alberta Ferretti have been offering discounts or holding private sales, but not at every store or in every country.

Tolerated by European regulators outside the traditional January and July discount seasons, private sales are usually exclusively reserved for loyal customers who receive an invitation by mail. The discounts typically apply to small selection of items.

This year, Reuters reporters found that one could buy a wide range of discounted products without an invitation at Jean-Paul Gaultier and Jimmy Choo in Paris and Prada in Milan.

“Some may say they don’t hold them, but they do,” said an assistant at a top designer boutique in Milan. “They just don’t want everyone to know about them. “A spokeswoman for Jean-Paul Gaultier said: “We do not have any comment to make about private sales. It’s down to individual shops to decide them.”

Other representatives for brands including Gucci and Armani declined to comment. A spokesman for Prada said private sales were usually held at this time of year but declined to provide further details.
A spokeswoman for Gucci Group, which also includes Bottega Veneta and Yves Saint Laurent, said, “Our policy is that we do not give information about our commercial activities.”

Altagamma, the Italian fashion industry association, said that it had noted an increase in the number of private sales this year because of the financial crisis but that they were a long standing tradition for many fashion houses.

On Old Bond Street in London, Avenue Montaigne in Paris and in the Quadrilatero d’Oro in Milan, not many customers could be seen at. the end of November and early December.

“I am more careful this year with my money,” said Jean-Michel Fouquet, 55, a French aerospace executive buying a €290 Hermes leather bracelet as a gift in Paris. “We are all worried about the economy and our job.”

In this downturn, when bonuses are expected to disappear for many highly paid executives, and fortunes are shrinking among the superwealthy from Russia to India, luxury customers’ behavior has changed.

The ostentatious, ephemeral or frivolous has been replaced by an urge for quality and strong brands, according to industry specialists.

As the collapse of financial markets has narrowed investment options, this is not all about consumption. Demand persists for custom-made goods, from tailored suits to specially commissioned fine jewels.

“There is a drive towards timeless, very high-end brands,” said Pierre Mallevays, a partner at Savigny Partners, an investment banking boutique in London. “If you buy a Louis Vuitton bag, you know that it will not lose much value. But if you buy a weaker brand, you are not so sure.”

Louis Vuitton and Hermes said they never conducted private sales, and business looked brisk on recent visits to their shops.
Analysts predict that luxury-goods revenue will drop in 2009 for the first time in over a decade at constant exchange rates.

Consultants at Bain say global luxury sales could drop as much as 7 percent in next year, while analysts at Bernstein are projecting a decline of 5 percent.

“Channel checks and industry interviews highlight an increasingly promotional environment,” Bernstein said in a note, “a clear sign of soft consumer demand.”

Analysts said independent shops were being more severely squeezed by the spending contraction than department stores. The French haute couture house of Jean-Louis Scherrer, for example, extended a 60 percent promotional sale this month on evening dresses that it started in mid-November. The fashion house even advertised the fact in the window of its shop off the Champs-Elysees.

“This is the first time I’ve seen such a sale,” a clerk said.

A segment still finding its feet (but will it have legs?)
The segment is in its infancy and the key players are still exploring their business models. Avelle started off by renting handbags with unit values of between $200-400 but its users kept on asking for higher value items. Now the site has a much higher proportion of couture and high fashion items. Both Avelle and frombagstoriches have expanded their offerings; the former to jewellery, sunglasses, luggage and most recently to watches, whilst the latter expanded the services it offers to include refurbishment of customers’ own bags as well as the possibility to rent customers’ bags on their behalf.

We do believe there is potential for this market to grow further in bags, accessories, watches, jewellery and to a certain extent sunglasses. These products fit the bill in terms of ease of transport and fashion content and are also more durable than, say clothing or shoes. Companies operating in this segment are taking a significant stock risk, therefore getting the product right will be crucial to their survival. Another key issue in the case of watches and jewellery would be whether insurance costs would cripple the economics of renting higher value items.

Treading on the toes of luxury brands?
According to sector players, the luxury industry’s response has been at best muted, if not negative. “Many manufacturers view this as a bastardisation of the values of luxury” says Dan Nissanoff, author of FutureShop: How to Trade up to a Luxury Lifestyle Today. Issues such as lack of control over distribution, concerns over product quality and authenticity as well as the bypassing of the brand’s own carefully designed store environment echo the industry’s initial reticence towards third party ecommerce sites in the late 1990’s/early 00’s. Added to this the fact that luxury manufacturers benefit in no way from the secondary trading of their products, one can see why the industry is reluctant to embrace this phenomenon.

As has been the case with ecommerce of luxury goods (see Savigny Newsletter Issue 4, June 2007), brands’ potential concerns that this channel would focus on low value items and the less affluent customer are proving to be unfounded. “I was surprised at our customer profile … I thought this would be an entry point” says Karen Richter, founder of frombagstoriches.com. Mike Smith, CEO of Avelle, agrees: “Our typical user is a college graduate in a managerial position … who owns 20-25 bags … and keeps on buying bags” adding “the demographic of the typical Avelle customer is higher than the demographic of the typical customer when I was at Nordstrom”. Affluent consumers also appear to have less of an issue about owning as opposed to renting and are therefore more likely candidates for this segment. Whilst it is impossible to replicate the shopping experience, rental companies have invested in high quality packaging for their products. They also have quite stringent quality control procedures in place and extensive refurbishment programmes for returned rental items so as to ensure utmost product quality.

Another major concern for brands is that the rental of luxury items will eat into their sales. Mike Smith argues that “this will be a third leg to the consuming stool: buy new, buy used and borrow” and that “this allows customers to be more adventurous”. Frombagstoriches offers the possibility to purchase any item hired but has very little uptake on this option. Both Avelle and frombagstoriches claim that their customers have full wardrobes and use rental as a means to rotate other items without using up too much additional wardrobe space. Dan Nissanoff argues that rental is a more efficient use of capital and allows consumers to benefit from the use of several items in the place of owning one. It is clear that the customers who use these sites can afford to buy instead of renting and that they actually are continuing to buy luxury goods; so we would argue that so far there is no evidence cannibalisation of full ownership. However the current economic crisis might lead us to a different conclusion.

In times of crisis, rent
Business across the luxury rental sites remains brisk although this may be partly attributed to the relative youth of the segment. There are however a number of factors that bode well for it. The key difference between rental and other forms of temporary ownership is that there is no tie-in, much more flexibility in terms of product available and time span of possession, and the risk of ownership remains with the provider. Consumers may therefore feel that they are taking less of a risk in renting these items as opposed to investing in a piece that may go out of fashion faster than expected. The option of renting may also be a more appealing alternative to trading down the luxury value scale as a means of saving money: “Rental companies might actually thrive in this environment …. people that might have not looked at this before as a way to maintain this lifestyle may actually do this [rent]” says Dan Nissanoff. The luxury for hire business model might indeed allow luxury consumers who have fallen on hard times to continue sporting that oh so desirable item of the season. Will luxury rental prove to be one of the few businesses to benefit from the current crisis?

* Gitanjali in talks to buy Milan-based jewellery group
* MD says Gitanjali looking to become No. 1 jeweller * Aiming to triple annual sales within 3 years to $3 billion

PARIS: Indian jewellery giant Gitanjaliis on the hunt for foreign rivals weakened by the credit crunch as it aims to become the world’s biggest jeweller, Managing Director Mehul Choksi told Reuters.

Gitanjali is in talks to buy an unlisted Milan-based jewellery group and hopes to complete the deal within four months, he said in an interview.
The Indian company is one of several cash-rich, emerging markets luxury goods groups that industry executives and bankers predict could profit from the current credit squeeze to snap up prestigious brands.

These groups will have a freer hand to make strategic acquisitions since they face less competition from leveraged Western luxury companies and private equity firms that will struggle to raise debt to fund purchases.

The crisis “will help in the sense that there will be more opportunities … and valuations will go down,” Choksi said.

“Next year, the luxury market will be very slow as many people will have lost their jobs.

“We are receiving many offers to buy companies, particularly in the United States and Britain,” he added. The group is also looking at possible purchases in China.

Choksi’s comments echoed those from a division head of one of the world’s biggest luxury goods groups who told Reuters this week he expected several high-profile brands to end up in Russian, Chinese and Indian hands over the next few months.
That executive declined to be identified because the group was in its quiet period and not allowed to make public statements about mergers and acquisitions.

“With this crisis, certain established Western luxury groups are going to need cash … and emerging markets groups are going to accelerate their shopping,” the executive said.

The financial crisis will end sellers’ hopes of a return to valuations of a year ago, said Pierre Mallevays, managing partner at luxury investment bank boutique Savigny Partners.

He said some emerging market luxury groups could be looking to make acquisitions now to take advantage of growing retail space at home as luxury malls and multi- branded shops were mushrooming in cities across China, India and Russia.

NUMBER ONE
“Now they are starting to be able to take advantage of their growing retail infrastructure,” Mallevays said. “So they can immediately leverage a brand when they acquire it.”

Choksi said he expected Gitanjali’s annual sales to grow to more than $3 billion within three years from over $1 billion currently and the company become bigger than world leaders Signetof Britain and U.S. group Tiffanyin terms of annual sales.

“We are striving to become the number one in the world and we will make it,” he said. Choksi said the targeted Italian company was not joint-venture partner Morellato & Sector Group. He added his company supplied leading branded Italian jewellery groups.

Gitanjali has already snapped up several jewellers in India over the past few years and this year completed the acquisition of Rogers Jewellers, one of the oldest U.S. family- run chains.

He said the group had more than $200 million in cash and would get Indian financial institution support to fund buys if needed.

He aimed to lift its operating margin to 10-12 percent in the current financial year from about 8-9 percent last year.

Despite a grim economic climate, don’t expect mergers and acquisitions in fashion and luxury to come grinding to a halt.

The empires are poised to strike back — if the price is right.

With valuations heading south, and private equity funds stinging from the credit crisis, some of the industry’s usual suspects — strategic buyers — are returning to the fore, along with a host of new family-based funds and international buyers from China, India and beyond.

“If financial buyers have more difficulty structuring a deal, strategic buyers have enough cash on hand to finance their shopping,” said Michel Dyens, principal of Paris-based investment banking firm Michel Dyens & Co.

“Luxury groups see acquisitions as part of their business. They constantly monitor the market in search of the right target.”

A host of serial acquirers have bolstered their brand portfolios this year and are on the lookout for more deals, observers said.

Key transactions so far this year include: LVMH Moët Hennessy Louis Vuitton’s controlling stake in watch firm Hublot and yacht-maker Feadship; Compagnie Financière Richemont’s purchase of watchmaker Robert Dubuis; PPR’s acquisition of Sowind Group, the Swiss holding company that owns luxury timepiece manufacturers Girard-Perregaux and JeanRichard; Mariella Burani’s purchase of Italy’s Finduck Srl, the parent company of bag specialist Mandarina Duck, and Onward Holdings Co. Ltd.’s acquisition of Jil Sander.

More realistic valuations and the relative resilience of the high-end segment are driving acquisitions, despite the glut of grim financial news, observers said.

“The overall M&A market is depressed. But in the fashion and luxury business, it’s still pretty active,” said Ariel Ohana, partner at investment firm Ohana & Co. in Paris. “Luxury goods are less affected [by the slowdown in spending], so they’re still a prime target for strategic buyers.”
To be sure, the number of deals in 2008 is not expected to be spectacular, especially compared with the flurry of transactions in 2006 and early 2007, when private equity funds made a splash in the fashion milieu, observers agreed.

“We know the economic situation is bad and will stay bad for a while. But those who do deals strategically take a longer view, knowing things will improve,” said Andrea Ciccoli, a Milan-based partner at consultancy firm Bain & Co. He added, though, that “2008 is not a great year for private equity or strategic buyers. But then we believe that we are going to see a significant pickup in the number of deals.”

“I think it’s going to be a more active market than ever, especially with the foreign money,” said consultant Robert Burke of New York-based Robert Burke Associates, which advises sellers and buyers. “It’s more an investors’ market now.”

Burke predicted toughening market conditions would spur more firms to seek capital injections to survive and grow. Companies are under pressure to invest more in their retail operations as a cushion in increasingly turbulent economic conditions.

“It’s very frightening for medium-size entrepreneurs, particularly now,” Ciccoli noted. “Extreme market volatility coupled with the need to invest…is a challenging combination. It’s not unheard of in other industries, but fashion and luxury goods entrepreneurs are less used to dealing with it. Therefore, there is greater discomfort.”

For example, the billionaire Bamford family, whose holdings include luxury goods labels Bamford, Bamford & Sons, and the Daylesford Organic food business, said this week they have hired Blackstone Group to help explore strategic options, including potential partners for the business. The family said they were seeking new partnerships in order to help their brands expand on an international level and into new markets.

Cross-border transactions are also picking up any slack, with private equity funds and private investors now operating on a global scale, Burke added.
Pierre Mallevays, managing partner at London-based Savigny Partners, said the credit crunch has finally pushed potential sellers to have realistic expectations. “It will do a lot of good to the M&A market in luxury and branded goods,” he said. “[Luxury groups] need the deals to make sense from a strategic and valuation standpoint.”

Less competition among private equity players and a deflated stock market have also led to more conservative bidding — much to the consternation of Roberto Cavalli, for example, who called off the auction of his company in July after valuations fell short of his 1.4 billion euro, or $2.06 billion, asking price.

Rewind the clock about a year or so ago and private equity players were dominating the fashion landscape, paying top dollar in deals financed with 70 to 80 percent of debt.

“They wanted to go out and buy everything,” Ciccoli said. Among companies snapped up by private equity in recent years were Neiman Marcus Inc., Asprey Holdings Ltd., House of Fraser Ltd., La Perla Fashions Inc., Samsonite Corp., Lord & Taylor LLC and beauty brands Philosophy, Stila and Burt’s Bees.

Today, however, financial institutions are less prepared to take that kind of risk: The cost of debt is higher, which makes leveraging deals more difficult.

“The private equity debt-fueled bubble has burst,” Ciccoli said. “It marks a big change.”

Ohana noted prices have come down since mid-2007, when multiples of 10 times EBITDA or more were common. Single-digit multiples are now the norm, observers agreed.

Strategic buyers, particularly smaller players, are also more comfortable operating in a less-heated acquisitions climate, when the sale process is slower, Ohana noted. “Strategic buyers find it more comfortable to get back in the game.”

“Lots of groups have money, less debt and they’re trying to take advantage of the lower prices in this period,” said Paris-based luxury consultant Concetta Lanciaux, who advises investors and fashion houses. “It’s going to be an easier period.…Things are not inflated anymore.”
New capital operators like private investors and family funds are also changing the landscape.

“Rich individuals or families from cash-rich countries were not a factor in the past, but they are now part of the future. They will pick up some of the opportunities. We see them as a new component,” said Ciccoli.

With ready access to funds, aspiring empire builders like Labelux Group, for example, the holding company of the Benckiser family, have been able to out-maneuver their private equity peers. Labelux outbid the competition to buy Swiss fashion company Bally International AG in May.

Other examples include Reig Capital Group, which bought Azzaro; the Herz brothers investing in Escada, and the French holding company EPI, which owns children’s brand Bonpoint and the labels J.M. Weston, Michel Perry and Alain Figaret.

Mallevays said such “family office” operators “have more appetite, they understand brands, and they have a long-term view,” he said. “Another advantage is [sellers] are more comfortable with this profile than private equity. They’re altogether a more palatable investor than the sharp suits from London and Wall Street.”

The dire economic environment could also create openings for opportunistic investors, according to Milan-based M&A consultant Alessio Candi of Pambianco.

Saks Inc., Coach Inc. and Tiffany & Co., for example, have very low price-earnings ratios and are trading on multiples down by as much as half in some cases by comparison with a few years ago, Candi said.

The world’s second richest man, Carlos Slim Helú, took advantage of Saks’ low stock price in July, snapping up another 2 million shares and building his stake in the luxe retailer to 15.4 million shares, or 10.9 percent, according to a filing with the Securities and Exchange Commission.
“So, there’s definitely an opportunity entering their capital,” Candi said. “But there’s also a risk, even if these are fundamentally solid companies with strong EBITDA and net assets.”

Candi predicted that following the recent job losses in the financial sector, “in all likelihood, there will be a slowdown in the coming holiday season and this could impact companies’ ability to hit full-year forecasts,” meaning that share prices could fall further.

“There’s also the euro-dollar rate,” he added, explaining the U.S. government’s $700 billion market bailout plan might not be enough to stabilize the dollar, which could return to the lows against the euro seen earlier this year.

Observers also cite increased interest from investors from China, Russia, India, and the Middle East who are eyeing the potential of strong brands and high-margin business following the uptick in luxury and branded consumption in those so-called emerging markets.

The parent company of Italian fashion group IT Holding SpA, for example, is in negotiations to sell a minority stake to a firm represented by Chinese businessman Billy Ngok to open up the Asian market.

“They are doing due diligence,” an IT Holding spokesman said, referring to the unnamed suitor, which is not Ngok’s Hong Kong-based supply chain and retailing group Hembly International Holdings Ltd.

“[IT Holding parent company PA Investments SA has] been courted by private equity funds since April or May, but they would come in only with financial capital.…We want someone who has industrial and distributive know-how because we have plans for Asia,” the spokesman said.
Dyens said Asian-based investors had ambitions to be more than just industrial partners.

“[They] want to change their image and stop being considered as production logistics facilities only,” said Dyens. “They have the ambition and the financial means to play among the big international players…through acquisitions of European and American brands.”

Besides the Onward-Sander deal, key transactions involving Asian buyers listed by Dyens include Li & Fung Ltd.’s acquisitions of Peter Black and Van Zeeland; Bombay Rayon Fashions buying Italian denim brand Guru; and Hembly International Holdings acquiring sportswear brand Sergio Tacchini. And Asian buyers aren’t looking only at the luxury sector: On Tuesday, China sourcing specialist Everbright Development Overseas Ltd., founded by Guangying Wang, invested $30 million in troubled U.S. retailer Gottschalks Inc. and will help it with its sourcing.

Alessandro Pirani of M&A deal origination firm 7A Business Co., which has offices in London and Dubai, noted the advent of Middle Eastern players is tied to a desire to ensure the survival of ruling families and the wealth of the region once the oil runs out.

On Monday, the Dubai government revealed it had taken a majority stake in Kuwait- based retailer Villa Moda, with a view to global expansion. It follows last year’s acquisition of Barneys New York by Dubai-based Istithmar. Also, as reported, an investment vehicle tied to Qatar’s ruling family is said to be in negotiations to take a stake in Paris fashion house Lanvin.

“The value of a deal is tied to status,” Pirani said, citing the purchase of 5 percent of Ferrari in 2005 by a fund in Abu Dhabi as the tipping point for Arab investment in luxury. “[That] was a signal regarding making investments in Europe from [the United Arab Emirates],” he said.

Ciccoli agreed, saying investors from these markets are often prepared to pay a premium to secure acquisitions. “It’s not just about economic value for them.”

Pirani cited strong interest from Dubai investors to buy Italian gold and jewelry companies that have production facilities and distribution chains, as well as also second-tier fashion brands.

Given the staggering pace of high-end retail development across the Middle East, Pirani predicted such operators would ultimately seek to become brand owners. “The project is tied to the desire to acquire fashion brands and take them to Dubai and concentrate them there,” he said, adding that $60 billion had been earmarked for investment. “They want to internalize as much as possible the potential of production and consumption they generate in order to keep the money in circulation in the region.”

Not that experts are counting private equity out. Instead, they foresee a shift in which funds are more acclimated to fashion and its longer investment horizons, evidenced by the fact that some are becoming serial buyers.

“The shift in private equity funds is that now they’re asking the companies that they acquired to make acquisitions in the sector,” Ohana said.

He also pointed to the advent of new hybrid players — part private equity, part strategic — such as Dutch fund FR 2 Capital, managed by former Mexx executives, which last year acquired French swimwear maker Vilebrequin.
“It’s structured as a fund, but operationally, fashion people are active within it,” he said, listing as another example Phoenix Equity Partners, which bought L.K. Bennett.

“That’s a recent trend. Private equity funds tend to be very generally-oriented and not sector-oriented,” Ohana said.

“Private equity funds continue to be very keen to invest in luxury, and they seem quite good at brand hunting,” said Dyens. Among firms recently snapped up by funds include Moncler (Carlyle), Gerard Darel and Technogym (Candover) and Kellwood Co. (Sun Capital Partners). “Private equity funds are very much on the watch — even for big deals.”
TPG, for example, has recently raised less than $20 billion and is on the acquisition trail, according to sources.

Ciccoli noted that given the low overall odds of success in creating value through M&As, one might assume the most persistent buyers would be the worst performers.

However, in an analysis by Bain of 1,700 public firms and more than 11,000 acquisitions in six industrialized countries from 1986 to 2001, the consultancy found that U.S. frequent acquirers outperformed occasional buyers by a factor of 1.7 and nonbuyers by almost 2 to 1, with similar results in Europe and Japan.

“Frequent acquirers succeed because they tend to be expert acquirers,” Ciccoli said. “Deal makers at these companies…prepare carefully to create opportunities. The deal team — and typically there is a permanent, well-supported team of experts — works from an established playbook built on years of deal learning, so the company can efficiently recognize deals that fit strategically, evaluate them, seal the contract and then successfully integrate the acquired business. Winners also tend to have a series of checks and balances in place to kill deal fever and maintain a rational, dispassionate approach.”

Observers cited heightened interest in certain categories of business, particularly jewelry — which has outperformed other fashion categories — along with cosmetics, spa brands and luxury yachts.

“During the last few months, private equity funds have been eager to add shipyards to their portfolios,” noted Dyens, mentioning L Capital’s acquisition of Princess Yachts and other deals for Numarine and Tencomar.
Lanciaux also mentioned “hyper” luxury as a hot category, including haute horology and luxury leather goods.

Sector Review

Sell in May and go away?
The City adage of “sell in May and go away; don’t come back ‘till St. Leger’s Day [October]” may have particular resonance this year; the SLI has fallen 12.7% since the end of May, wiping out all gains made since its low in March, thus ending with a net decrease of 31 % since its peak last June. Although the SLI has pretty much tracked the FTSE All World Index since the beginning of March, it has been increasingly volatile, outperforming the index on the updside and underperforming on the downside, with stocks continuing to post daily fluctuations in the high single digits to low teens.

Our message is the same
Our message is the same as in our last newsletter published in March. If anything results announcements and market valuations since March have somewhat confirmed our view. Exposure to affordable luxury, be it through product focus or brand positioning, and exposure to the mature markets, in particular the U S and Japan spell doom and gloom as evidenced by the performance of Safilo, Lu xottica, Coach and Tod’s, which have all shown a decline in rating (EV/EBI TDA) of around the 50% mark since June 2007. Luxottica and Safilo have been particularly hard hit, given their exposure to eyewear and that the USA is the world’s largest market for eyewear, with ratings falling by 52 % and 54% respectively since June 2007.

The only U S-heavy stock to have bucked this trend has been Ralph Lauren, which announced full year results significantly higher than market expectations, resulting in a 21% uplift in EBI TDA multiple since March; nevertheless the stock’s rating has still fallen by 22% since June 2007.

Companies with strong brands, premium positioning, diversified geographic and product portfolios, notably exposure to BRIC countries (Brazil, Russia, India, China) have performed better. LVMH has maintained its rating since March, announcing strong Q1 sales figures, and Hermes has seen a 27% increase in its rating since March, buoyed in large part by bid speculation on the stock.

Life is unfair for some, but even more unfair for others
Whilst we believe there is still a mismatch between fundamentals and current valuations across the sector, the watch sector stands out as being particularly hard hit, despite mainly positive newsflow. Swatch posted results in line with expectations, yet saw its EBITDA multiple decline by 26% since March. Richemont, which announced results ahead of expectations and confirmed its commitment to separate its BAT holding, witnessed a decline, albeit more modest, of 8% in its EBI TDA multiple since March. Both stocks now trade at around a 30% discount to their rating one year ago. Although there may have been concern over the sector outlook when the Swiss watch export statistics for March were released, these should have been appeased with the April statistics which underscored the sector’s resilience, underpinned in part by strong demand from high-end consumers in Asia, Russia and the Middle East. Nevertheless, the watch sector remains under a cloud, with no hard evidence to back a pessimist view; however a few of our contacts in the watch industry seem to be waiting for the other shoe to drop.

The major French luxury goods companies are defying gloomy economic forecasts by exploiting fast-growing Eastern markets. Acquisitions are back on the agenda too. Christopher Spink reports.

In times of economic stress, luxury goods makers should be vulnerable. After all, luxury items would surely be some of the first things straitened consumers would forgo. However, the current credit crunch appears to have separated economies that dance to the tune of the US from those that have their own independent financial beat.

The latter are principally based further east, across the Middle East and Asia. Here, notably in India and China, a wave of middle-class consumers are emerging, eager to spend their new-found disposable income on goods branded with such iconic names as Gucci, Louis Vuitton and others.
Makers of such luxury goods can look forward to strong growth from these areas, more than offsetting any weakness in Europe and the US.

The Chinese practice of big four accountant KPMG recently published a report on “China’s Luxury Consumers”. This found that retail sales rose by 17% last year and have doubled over the past six.

And another recent report on the sector by retail consultant Verdict Research predicted that sales in Asia would nearly treble by 2012, allowing the region to overtake the Americas as the second largest market after Europe.

However, taking advantage of that growth is not clear-cut, as the market is already quite crowded. Nick Debnam, partner responsible for consumer markets at KPMG China, notes that Chinese consumers, while still heavily conscious of status, are now becoming increasingly sophisticated and choosing between different brands.

“The challenges facing new entrants to China’s luxury market are intensifying,” he says. “The market has become more crowded, as evidenced by the rising number of luxury brands recognised by consumers in China.” Two years ago, a representative sample of such consumers aged 20 to 44 recognised 52 such brands. This year, 64 were recognised.

Nevertheless, there still remains a strong desire to enter these markets. Larger groups, with their greater marketing and distribution clout, are well placed to snap up smaller family-owned brands, keen to take advantage of this predicted growth by piggy backing on the larger companies.

As such, the prices paid to acquire particular brands across the luxury universe in its widest sense have remained remarkably resilient. Opportunities in Asia were part of the reason for the biggest deal so far this year, the €5.65bn (US$8.87bn) acquisition at the end of March of Vin & Sprit by French drinks maker Pernod Ricard.

That represented more than 20 times the €270m that the Swedish state-owned spirits company made in earnings before interest, tax, depreciation and amortisation (Ebitda) last year. Pernod managing director Pierre Pringuet was comfortable splashing out, since it gave him control of Absolut Vodka, the fourth biggest selling premium spirits brand globally.

At the moment, the Chinese market is very small for Absolut, but it is likely to grow significantly in the next five to 10 years.

Absolut also fits perfectly with Pernod Ricard’s strategy of focusing on “premium” brands, defined as the upper half of the total spirits markets, retailing above US$26 a bottle. Absolut, as the biggest selling premium vodka, means more than 70% of Pernod Ricard’s sales will now come from these higher margin premium brands.

Pernod Ricard says this “premiumisation strategy” of providing “luxury in a bottle” meets the expectations of consumers “who want to drink less, but consume higher quality products”. It also helps accelerate sales growth and increase margins for the overall business.

French panache
With their glorious wines and fabulous cheeses, the French have long known how to enjoy the best things in life. As well as these gourmet creations, France has also given other items of luxury to the world, notably Paris haute couture and other wearable accessories such as bags, watches, perfumes and jewellery.

Not surprisingly, therefore, the country boasts two of the biggest producers of luxury goods in Louis Vuitton Moet Hennessy (LVMH) and Pinault Printemps Redoute – Gucci (PPR). Both have in the past been highly acquisitive. However, in recent years, despite being linked with many iconic brands, Pernod Ricard has led the way in terms of acquisitive growth.
LVMH and PPR both engaged in a flurry of acquisition activity before the turn of the century. Since then, their focus has been on consolidating their positions, reducing borrowings and managing their balance sheets more conservatively. Most deals have been smaller acquisitions to fill gaps in their portfolios.

In the meantime, Pernod Ricard has made several transformational deals to become the second largest spirits group globally after Diageo. This was achieved through the purchase of Seagram of the US in 2001 and Beefeater gin maker Allied Domecq, bought for an enterprise value of US$17.7bn in July 2005.

LVMH, with its unrivalled range of cognacs and champagnes, was rumoured to be considering a bid for Absolut at one stage last year. However, an adviser to LVMH notes that this was never likely, as LVMH did not want to expand its drinks division beyond “the cognac and champagne markets, which it already has stitched up”.

If the luxury goods sector is defined in a very loose way to include upmarket alcoholic drinks brands, then the Absolut deal, at €5.65bn (US$8.87bn), looks like being the largest transaction this year by some distance in this area. Pernod Ricard looks satisfied for the moment. After the deal is complete, the company’s debt will stand at six times Ebitda.

Managing director Pierre Pringuet’s prime focus will be to reduce borrowings before bulking up other under represented parts of the Pernod portfolio, such as tequila and wine. LVMH and PPR might be more interested in smaller acquisitions in other more obvious areas of luxury.

Maureen Hinton, analyst at Verdict Research, believes the most likely areas are watches and jewellery, where LVMH in particular is under-represented. She says being part of LVMH is useful for a smaller company.

“For any brand, coming under the LVMH umbrella is very useful because of the scale of such a large company,” she says. “Luxury goods are a lot do with marketing. LVMH does understand the value of a brand and has been seen to be quite good at building up underdeveloped brands. And when you are part of a group, you have the benefit of using the superior buying and supply arrangements.”

In April, LVMH bought Swiss watchmaker Hublot for an estimated SFr300m (US$284m), or 12 times Ebitda. One analyst says LVMH was prepared to pay a relatively high price as it “really wanted” the business. This was chairman Bernard Arnault’s first significant deal for some time.

Some commentators maintain that the current financial conditions are discouraging similarly bold deals from being proposed at present.
Pierre Mallevays, managing partner at Savigny Partners, a boutique that specialises in luxury goods M&A, believes that while the current economic uncertainty may or may not be affecting demand for luxury goods, depending on the particular product and its markets, major French acquirers are certainly being more circumspect.

“The reality is that valuations are lower than six months ago,” he says. “Companies are keen to buy but are not keen to pay the same price as last year.” Vendors have yet to catch up with this though. “Sellers don’t want to sell, if they believe the current uncertainty is temporary and they can ride it out and wait for prices to recover,” Mallevays says.

This means a deal will only be struck if it makes strong strategic sense for the purchaser, he says. Bolder deals are currently on ice and he does not expect a revival until the end of the year.

“If it’s a clear strategic deal it will get done but more opportunistic ones will have to wait. We will get a much clearer idea of future developments during the second half of the year,” Mallevays says.

For these reasons, he does not think that any of the larger possible acquisitions with which LVMH has been periodically linked are likely to come to fruition anytime soon. Rumoured targets include fellow French companies Hermes, the leather goods group, and Clarins, the cosmetics producer, as well as US jeweller Tiffany.

Mallevays says Hermes’ family dominated shareholder base is typical in the luxury goods sector. “Structurally, it is like a pressure cooker. One day it will explode but I have no idea when,” he says.

Hermes is more highly valued than many of its peers, at more than 30 times expected earnings, as many believe the family might be willing to sell their stake to a predator. “A lot of the value in Hermes stock is down to takeover speculation,” says Mallevays.

Tiffany might be more affected by a US slowdown and would not necessarily fit with LVMH’s strategic goals either, he says.

Other analysts have pointed out that Tiffany focuses on more middle range goods than LVMH. However, activist investor Nelson Peltz, through his Trian fund, owns 8.4% of Tiffany and could provoke further action.

In terms of cosmetics, earlier this year PPR sold YSL Beaute to L’Oreal for €1.15bn (US$1.75bn). Many thought the business would go to Clarins. While this makes the latter company a more likely target for a third party, again nothing is foreseen in the immediate future.

Allegra Perry, an analyst at Lehman Brothers, agrees that the perennial speculation has become somewhat stale for one obvious reason. “There aren’t that many large deals left in the industry,” Perry says. “Most standalone luxury goods brands of a certain size have already been acquired or are not for sale.”

Italian deals
One area where rival broker Merrill Lynch expects activity is in Italy, where a lot of family owned businesses are facing succession issues. Prada and smaller fashion business Ferragamo are both planning to float in Milan, depending on demand, by the end of the year.

JPMorgan, Mediobanca and UBS are advising Ferragamo, with Banca IMI, Goldman Sachs and UniCredit acting for Prada. A sale to one of the major French trade players could be an alternative exit route.

LVMH again has been linked with Bulgari, which is already partly listed but remains majority controlled by the family, and other smaller brands. Versace’s fate has hung in the balance for most of this decade as well.

Bulgari, which has a strong presence in watches and jewellery, set up alongside others a €300m private equity fund called Opera to take part in the expected consolidation of smaller Italian luxury goods makers.
One striking development last year saw Permira buy Valentino Fashion Group for €2.6bn (US$4bn), beating stiff competition from Carlyle. Opinion is divided about whether this was a one-off deal or that it might herald further activity from financial investors in the luxury goods space.

Certainly, some analysts have subsequently criticised the timing of the deal, which was agreed just before the credit crunch took effect last summer.

Others have pointed out that the main motivation for Permira was the acquisition of German group Hugo Boss, in which Valentino has a 51% stake.

Savigny Partners’ Mallevays says: “There should be huge growth in emerging markets for Hugo Boss.”

Permira itself is keen to use Valentino as a platform from which to make further investments in the fragmented fashion sector. The firm reckons Valentino and Hugo Boss combined make it the fourth largest luxury goods company globally after LVMH, PPR and Polo Ralph Lauren.

“Valentino is already one of the largest groups in the luxury space. We are ready to implement an add-on strategy for the group,” says Gianluca Andena, joint chief executive of Permira in Italy. “Given the large size of the business, we think we are like a natural magnet that can attract other companies with the idea of further expanding the group.”

Permira has experience of executing such a buy-and-build strategy in this area, having built up yacht maker Ferretti by this method. “Group building is in line with our way of looking at private equity, where we act with an industrial approach,” says Andena.

“Accordingly, notwithstanding the current focus, which is more on Valentino and Hugo Boss, we remain interested in both large deals, which could add to the group another important brand, and in smaller transactions, which could complement and further strengthen our product offering of the existing brands,” he adds.

However, he warns that “with the deterioration of the credit environment experienced since the first half of 2007, large transactions like Valentino are not yet possible”.

What are possible in these conditions are deals to restructure the portfolios of existing luxury goods companies. Permira’s Andena says: “Uncertainty may also create unstable situations, triggering sales processes or revisions of portfolios, creating interesting M&A opportunities for the most entrepreneurial players.”

Of the major French groups, PPR is most likely to be involved in such manoeuvres. The group increased its stake in Puma to 64.4% last year, valuing the German sportswear brand at €5.3bn (US$8.2bn). At the time, Merrill Lynch said this meant PPR had “the most stretched balance sheet of all its luxury goods competitors”.

Since then, the company has sold YSL Beaute to L’Oreal for €1.15bn (US$1.68bn), helping efforts to shore up its finances. Other possible candidates for sale include books and music retailer FNAC. One analyst said such a retail restructuring was “highly probable”. The group also has mail order interests, which seem to be non-core.

Luxury goods currently account for just over half of PPR’s revenues. But with its main brand Gucci reporting slower growth than its peers, an acquisition of “a second super- luxury brand to the portfolio is very tempting from a strategic standpoint”, says Merrill Lynch.

Savigny’s Mallevays expects PPR to expand its sporting interests following the Puma deal, saying: “PPR can’t catch up LVMH in luxury goods as the gap is too great. Therefore, it needs a different angle and has bought Puma.”

Overall, the outlook for luxury goods providers remains optimistic. As one adviser says: “This sector is proving to be more inelastic than traditionally thought; when good times are good, consumers want to indulge in luxury goods and when good times go bad, consumers are tending to seek comfort in luxury goods.”

Experiential luxury – life beyond bling

The last few years have witnessed a veritable boom in expenditure on experiential luxury: whether hiring a personal trainer, learning how to cook with Michelin-rated chefs such as Jean-Christophe Novelli or going on a life-changing adventure trip, the concept of spend- ing on self-enrichment has become a widely accepted feature of our lifestyles. Increased demand for experience, as opposed to hard luxury goods, has benefited the luxury travel and spa sectors enormously. For instance, the US spa sector has grown from being a cottage industry to one with annual sales of US$9.4 billion; there are more spa outlets in the USA than there are Starbucks outlets worldwide. Luxury tailor-made travel operator Abercrombie and Kent has seen its turnover almost double from £17 million in 2002 to £30 million in 2007. What has driven this expansion and what, if any, are the implications for traditional luxury goods marketers?

(Quality) time is of the essence
A survey recently published by the Henley Centre found that most consumers in developed markets believe that they already have everything material they need, and that time and energy are more important to them than money. Consumers in these markets are there- fore looking beyond the tangible benefits of consumption to the intangible, such as im- proved wellbeing, self worth, education or novelty in experience. Furthermore, a big proportion of luxury expenditure in developed markets is accounted for by the baby boomer generation, which has never been healthier, wealthier or had more free time to explore new pastimes. This is in stark contrast to developing markets where the main trend is still towards “keeping up with the Chengs”, favouring displays of material wealth over shared experiences.

Knowledge/shared experience is the new status symbol
As luxury goods have become increasingly available to wider audiences, experienced luxury consumers have looked to other means to differentiate themselves from merely affluent consumers. Shared experiences, such as holidaying in remote fashionable destinations, or knowledge of fine wines or complicated watches, have become status symbols, allowing people to identify themselves as connoisseurs as opposed to simple consumers.

An opportunity or a threat to traditional luxury goods?
Certain sector observers argue that growth in experiential luxury expenditure has been at the expense of more traditional luxury segments. We would argue that the two trends are separate. The risk of a slowdown in traditional luxury expenditure growth in developed markets is driven by wider macro-economic factors: the sector may have become more cyclical as a result of its increased exposure to affordable luxury items. The growth in experiential luxury to date has been fuelled mainly by demand from the more affluent segments of the population, who are largely immune to cyclical downturns and continue to consume traditional luxury goods as well as spend on luxury experiences. This argument seems to be supported by a number of leading luxury retailers, namely the former CEO of Barneys, who stated in a recent interview that: “they are not replacing luxury products with luxury services. The trend isn’t about replacing one thing with another. It is not a zero-sum game.” The key for traditional luxury marketers is therefore how to bring elements of experiential luxury into the traditional luxury purchasing process or how to extend their brands into this new segment.

Capturing the experiential luxury customer
Certain sectors, such as the travel, spa and wellbeing sectors, lend themselves naturally to experiential luxury. Some traditional luxury brands have decided to extend into these categories. For example: Bulgari, Versace and Armani have all launched hotel formats, either in partnership with an operator or alone; Hilton Hotels signed a deal in 2007 with luxury spa operator Spa Chakra to roll out luxury spas at its flagship locations; Sonia Rykiel launched a yoga range, Rykiel Karma. This is the first obvious step but it carries the risk of overextending the brand into areas where it may not have much legitimacy.
Perhaps more fundamentally, luxury brands also have invested in enhancing the experience of purchasing their products and continue to do so. This had traditionally come through creating an “owners club” such as the Sotheby’s New Collectors Club or the Ferrari Owners’ Site, or through the offering of bespoke services. Now it can be in the form of novel and stimulating shopping environments, such as Prada’s epicentres which not only feature innovations such as time-delayed mirrors, but also host cultural events such as concerts and art exhibitions. The key here is to enrich the brand-client relationship, creating a sense of ownership and fostering customer loyalty.
Luxury brands will increasingly seek to strengthen the brand-client relationship by making it closer and more intimate, involving top-tier customers in the production process, promoting factory and brand museum visits with one clear goal: getting customers to share in the myth behind any true luxury brand, and in doing so, to own a piece of it.

Sector Review
SLI – a nervous environment
The SLI has dropped by 29% since its peak in early June 2007, and has underperformed the FTSE All World by 5% over the period. Historically, luxury stock have tended to overreact to signs of economic downturn. According to UBS, the sector derated (in terms of valuation multiples) by 35% following the 1998 slow- down and by 60% in the period from 2001 to 2003, reaching low EV/EBITDA multiples of 7-8x. This time round, the sector has been downgraded by 27% since July 2007 to an average EV/EBITDA multiple of 9.5x. Whilst it is trading above its historical lows, the jury is still out as to whether multiples have bottomed out or worse is yet to come.
Market uncertainty as to the outlook of the sector has been reflected in increased volatility in share prices. Daily share price fluctuations have increased markedly in the first quarter of 2008 relative to the first quarter of 2007, with stocks recording daily percentage point changes in the high single digits to mid-teens (e. g.: Burberry +7.1% on 29 January 2008, -15.4% on 15 January 2008).

Currency remains an issue
The strength of the Euro continues to be a thorn in the side of luxury goods companies, with sales growth being reduced by 3 to 5 percentage points over the course of 2007. This is driven principally by the deteriorating performance of the US dollar, whilst the Japanese Yen has remained at the same level, albeit fluctuating throughout the year.

This has not prevented the sector’s leaders to produce all-round strong results for the whole of 2007, driven by margin improvements and emerging markets. The underlying sales growth of the SLI constituents averaged 1 3%, with most groups reporting profit growth well into the double digits.

An uncertain outlook
We do not claim to have a crystal ball, and it is becoming increasingly difficult to predict the outlook for the SLI given the prevailing uncertainty in g lobal stock markets today.
There are, however, a few things in which we believe in the current circumstances:

• the luxury goods pyramid continuing to g row at its top and bottom, driven by an ever increasing number of über-luxury customers and the development of a middle class in emerg ing markets;
• diverse geographic and category exposure is good;
• emerging markets presence is good;
• US focus is bad; and
• being mono-category is risky (e.g. watch market later this year or in 2009? )

Valuation multiples have widened considerably
The spread between the high and low valuation multiples has widened considerably from 11.2-17.2x in June 2007 to 6.4-17.2x in March 2008, implying that the market perceives certain stocks to be more resilient than others. Those stocks that have been worst hit tend to share the common characteristics: exposure to affordable luxury either through brand positioning, such as Burberry and Tod’s, or through product focus, such as Safilo and Luxottica; and significant presence in mature markets, notably the US and Japan, such as Coach and Tiffany. In contrast, the more resilient stocks tend to be those with a premium luxury positioning , such as Hermes; with a portfolio of strong brands, such as LVMH ; and with a diversified brand, product and geographic exposure.

M&A activity in the sector
Companies that have changed ownership or received investment in 2007

• Ace Co Ltd, the Japanese bag manufacturer, acquired Zero Halliburton, the US aluminium luggage manufacturer in January
• Caisse des Dépôts, the French investment firm, acquired a 17% stake in the French fashion brand Paule Ka in January
• Fortelus Capital Management, the UK based private equity, firm which is 50% owned by Bulgari, the listed luxury goods group, acquired Bruno Magli, the Italian luxury footwear brand in January
• Towerbrook, the US private equity firm and Gala Capital, the Spanish private equity firm, acquired Jimmy Choo for £1 85 million in February
• Christie’s, the UK auction house acquired Haunch of Venison, the London art gallery in March
• Européenne Participations Industrielles (EPI), a French retail group acquired Bonpoint, the French luxury childrenswear brand in March
• PPR acquired Puma, the Germany based sport and lifestyle brand for €5.3 billion in April
• Clarion Capital Partners, the US private equity firm, acquired Hartmann, the US leather goods brand in April
• Socié té du Louvre (SDL), the listed French hotel chain, acquired a 34% stake in Baccarat the listed French manufacturer of crystal for €68 million in May. SDL already owned 52% of the company
• Istithmar, the Dubai based private equity firm, and Citigroup acquired Barneys New York for $825 million in June
• Yucaipa Companies, the US private equity fund, acquired a 50% stake in Stephen Webster, the UK jewellery company in June
• Luxottica, the Italian listed eyewear company, acquired the US brand Oakley for $2 billion in June
• JH Partners, the US based private equity firm, acquired a 70% stake in La Perla, the Italian lingerie and fashion group in July
• CVC Capital Partners, the UK based private equity firm, acquired Samsonite Corporation, the listed US luggage brand for $1.5 billion in July
• Permira, the UK private equity firm, acquired Valentino Fashion Group for €2.6 billion in September
• Richemont acquired Azzedine Alaia in October, after the designer had bought his house back from the Prada group in July
• TSM, the US private equity firm headed by former Blooming dale CEO Marvin Traub, acquired a 22% stake in Matthew Williamson in August
• Castanea Partners, the US private equity firm, acquired Betsey Johnson, the US fashion brand in September
• Swander Pace Capital, the US private equity firm, acquired a majority stake in Kooba, the US contemporary leather goods brand in October
• Camelot, the Italian private equity firm, acquired Tanino Crisci, the family-owned Italian luxury footwear brand in November
• Richemont acquired Donze-Baume, the Swiss manufacturer of watch cases and bracelets in November
• 3i Group, the listed UK based private equity, acquired the British lingerie brand Agent Provocateur for £60 million in November
• The management of Radley, backed by Exponent Private Equity, acquired the company for £130 million in December
• LuxAdvor, the holding company of Russian businessman Sergei Pugachev, acquired Hediard, the French fine foods company in December
• Fashion Fund One, the Dutch private equity fund, acquired the men’s swimwear brand Vilebrequin in December

(Quality) time is of the essence
A survey recently published by the Henley Centre found that most consumers in developed markets believe that they already have everything material they need, and that time and energy are more important to them than money. Consumers in these markets are therefore looking beyond the tangible benefits of consumption to the intangible, such as improved wellbeing, self worth, education or novelty in experience. Furthermore, a big proportion of luxury expenditure in developed markets is accounted for by the baby boomer generation, which has never been healthier, wealthier or had more free time to explore new passtimes. This is in stark contrast to developing markets where the main trend is still towards “keeping up with the Chengs”, favouring displays of material wealth over shared experiences.

Knowledge/shared experience is the new status symbol
As luxury goods have become increasingly available to wider audiences, experienced luxury consumers have looked to other means to differentiate themselves from merely affluent consumers. Shared experiences, such as holidaying in remote fashionable destinations, or knowledge of fine wines or complicated watches, have become status symbols, allowing people to identify themselves as connoisseurs as opposed to simple consumers.

An opportunity or a threat to traditional luxury goods?
Certain sector observers argue that growth in experiential luxury expenditure has been at the expense of more traditional luxury segments. We would argue that the two trends are separate. The risk of a slowdown in traditional luxury expenditure growth in developed markets is driven by wider macro-economic factors: the sector may have become more cyclical as a result of its increased exposure to affordable luxury items. The growth in experiential luxury to date has been fuelled mainly by demand from the more affluent segments of the population, who are largely immune to cyclical downturns and continue to consume traditional luxury goods as well as spend on luxury experiences. This argument seems to be supported by a number of leading luxury retailers, namely the former CEO of Barneys, who stated in a recent interview that: “they are not replacing luxury products with luxury services. The trend isn’t about replacing one thing with another. It is not a zero-sum game.” The key for traditional luxury marketers is therefore how to bring elements of experiential luxury into the traditional luxury purchasing process or how to extend their brands into this new segment.

Capturing the experiential luxury customer
Certain sectors, such as the travel, spa and wellbeing sectors, lend themselves naturally to experiential luxury. Some traditional luxury brands have decided to extend into these categories. For example: Bulgari, Versace and Armani have all launched hotel formats, either in partnership with an operator or alone; Hilton Hotels signed a deal in 2007 with luxury spa operator Spa Chakra to roll out luxury spas at its flagship locations; Sonia Rykiel launched a yoga range, Rykiel Karma. This is the first obvious step but it carries the risk of overextending the brand into areas where it may not have much legitimacy.

Perhaps more fundamentally, luxury brands also have invested in enhancing the experience of purchasing their products and continue to do so. This had traditionally come through creating an “owners club” such as the Sotheby’s New Collectors Club or the Ferrari Owners’ Site, or through the offering of bespoke services. Now it can be in the form of novel and stimulating shopping environments, such as Prada’s epicentres which not only feature innovations such as time-delayed mirrors, but also host cultural events such as concerts and art exhibitions. The key here is to enrich the brand-client relationship, creating a sense of ownership and fostering customer loyalty.

Luxury brands will increasingly seek to strengthen the brand-client relationship by making it closer and more intimate, involving top-tier customers in the production process, promoting factory and brand museum visits with one clear goal: getting customers to share in the myth behind any true luxury brand, and in doing so, to own a piece of it.

PARIS – For years, fashion houses had one of two kinds of owners: designers who founded their eponymous fashion houses, or big conglomerates with a bouquet of brands.

Taiwanese publishing magnate Shaw-Lan Chu-Wang represents a new breed of fashion patron — deep-pocketed entrepreneurs who enter the industry after making their fortunes elsewhere. Some are finding that the learning curve can be steep.

After she took a stake in the venerable Parisian fashion house Lanvin in 2001, the label became one of the most watched-for names on the Paris catwalk.

But Lanvin needs management focus and funds to grow, and Ms. Wang is finding it hard to divide her time – and money – between publishing Taiwan’s United Daily News Group and managing the fashion business. Barely profitable, Lanvin still hasn’t opened a store in the U.S., for example
“I’ve invested plenty. Now we need to develop,” Ms. Wang said in an interview in Paris, days before the Lanvin fashion show this Sunday.

Ms. Wang is among the many entrepreneurs from outside the fashion business who have bought into one of the world’s most high-margin industries and are trying to adjust to a business whose success lies in the careful balance between finance and creativity.

Though she is chairwoman of Lanvin, Ms. Wang spends only 20% of her time on the fashion house, with the rest focused on her publishing businesses.

“I don’t bother people” at Lanvin, she said. In particular, she noted that she tries to leave all creative decisions to Alber Elbaz, Lanvin’s highly acclaimed designer.

But Ms. Wang, who declines to give her precise age but says she was born in the “Year of the Snake,” or 1941-42, says her love of fashion dates to a sewing class taken when she was 17 years old. She says she sometimes can’t resist reminding Mr. Elbaz to look beyond the lanky models who wear his designs on the runway.

“Any woman over 40 has extra flesh here and here. I never hesitate to say to Alber, ‘Think of older women!’” she exclaimed, grabbing her upper arm and her midsection.

Recently, Ms. Wang convinced Mr. Elbaz to put the Lanvin logo — a mother-and- daughter in dresses shaped like a sail, on handbags. Ms. Wang thought the purses with the company’s insignia would appeal to customers in Asia and in the U.S., where goods with logos are more popular than in Europe.

Other newcomers to fashion also are struggling to find their way. The Florida-based Falic Group, a family-run investment company that bought Christian Lacroix from LVMH Moët Hennessy Louis Vuitton in 2005, is primarily an operator of duty-free chains around the U.S. It has yet to make the French fashion house profitable. Now that Lacroix needs to open more stores to drive sales, the Falic family is looking for another investor to help share the burden.

Silicon Valley entrepreneur Asim Abdullah, who built his fortune on developing business-to-business software, purchased the unprofitable Emanuel Ungaro business from Italian luxury-goods company Salvatore Ferragamo SpA in 2005. To run the business, Mr. Abdullah hired veteran luxury-goods executive Mounir Moufarrige, who also took a minority stake in the house.

“I know nothing of Silicon Valley, and Asim knows very little about fashion,” Mr. Moufarrige said in a recent interview, tapping the ash from his Dunhill cigarette into a wooden box. “But it’s fun for him and exciting.”

Owning a fashion house, says Pierre Mallevays, managing partner of Savigny Partners advisory firm in London, “is like owning a piece of art. There is clearly a glamour factor.” But Mr. Mallevays, who is helping Christian Lacroix’s owners look for a new investor, warns that a label can quickly become an “orphan” under inexperienced owners.

Ms. Wang bought a stake in Lanvin from French cosmetics group L’Oreal SA in 2001 and then bought the rest of the company two years later. “I found it difficult to work with other people,” recalls the businesswoman, who wears Chinese collars under her Lanvin dresses.

Under its new owner, the French label’s finances at first suffered. In 2002, for example, Ms. Wang launched a new Lanvin-branded perfume. Instead of entrusting the business to a licensee, as most fashion houses do, Lanvin decided to go solo.

To help finance the launch, Ms. Wang forged a deal with the textile division of Japanese conglomerate Itochu Corp. Itochu paid Lanvin $9 million in exchange for the rights to sell clothes under the Lanvin name in Japan. In exchange, Itochu got a 5% stake in Lanvin from Ms. Wang and also lent the fashion house more than €6 million ($9 million).

The problem with the perfume launch was that Lanvin didn’t have the know-how or a distribution network, so it ended up with millions of euros worth of unsold perfume bottles between 2002 and 2004, according to Lanvin’s 2004 financial records.

Moreover, while the Itochu deal gave Lanvin funds, many in the industry said it was a fashion faux pas. In addition to the main Japanese Lanvin line, Itochu produces and sells a second, less-expensive, line, Lanvin Collection, that analysts say could end up diluting the French brand in one of the world’s most important luxury-goods markets. Itochu reaped $282 million in sales from Lanvin-branded clothes last year, according to an Itochu spokeswoman.

Lanvin’s finances still wobbled, however. In 2004, Lanvin closed four of its subsidiaries and laid off 48 people. Lanvin again banked on its perfume business. In 2004, Interparfums SA, a French perfume manufacturer, paid Lanvin €16 million in addition to royalties for the right to make its fragrances. Two years later, Lanvin was still losing money. In 2006, the company posted a net loss of €14.5 million on €74 million in sales.

Still strapped for cash, Lanvin last year sold its perfume business outright to Interparfums for €22 million. That helped Lanvin make a small profit in 2007 on some €100 million in sales, the company says.

Ms. Wang began her career in Taiwan as a reporter for a newspaper owned by her father. “I always got the most scoops, because I knew everybody,” she says. Ms. Wang hopes to make Lanvin a family business, too. She envisions eventually handing off the label to her now-seven-year-old granddaughter.

As Mr. Elbaz’s designs have earned world-wide critical acclaim, several investors have offered to help out the brand financially. A number of them — including Aronsson Group LLC, the private-equity fund created by former Donna Karan chief executive Jeffry Aronsson — approached Lanvin about buying a minority stake.

Some offered as much as €30 million for a minority stake. But Ms. Wang turned them all down.

“I don’t like people who come to speculate on Lanvin,” she said.

LONDON: As the fashion show cycle continues through Milan and Paris, industry executives here are debating whether Britain’s efforts to grow its own Gucci or Louis Vuitton will require a new industrial revolution.

A decades-long decline in British manufacturing is back in the limelight with the beginning of government-funded research to find out if, despite their acclaim, young designers like Marios Schwab are at a serious disadvantage to French and Italian rivals because they don’t have factories on their doorsteps.

So far one thing is clear: However hot the talent, it is impossible to get ahead if you cannot get your clothes made.

“British designers are not progressing season-on-season because of the manufacturing,” said Wendy Malem, director of the nonprofit Center for Fashion Enterprise, who is leading the £100,000, or $194,000, government-sponsored project. “They cannot overcome the manufacturing glass ceiling.”

In the past 40 years, many British factories owned by some of the oldest brand names from Burberry to Barbour have closed as retailers shunned the high cost of “Made in Britain” and shifted manufacturing to cheaper places like China and Turkey. Burberry has kept two factories in Yorkshire but shut one in Wales last year because of expense.

In Manchester, once the center of global coat making, one of the last surviving premium outerwear manufacturers offers a snapshot of British manufacturing’s decline.

Cooper & Stollbrand employs 60 workers, stitching and cutting trench coats, overcoats and bomber jackets often in signature hunting-and-shooting fabrics like tweed and gabardine.

Their staff rosters have fallen sharply – from 200 in 1995 from 450 in 1971, the year when the pound strengthened sharply against the dollar, increasing costs for British exporters and starting retailers’ exit to cheaper sites.
Now, with a renaissance of British luxury under way – thanks to a crop of new talents and booming demand for luxury goods from Chinese and Russian consumers – this manufacturing gap is gaining attention.

Pierre Mallevays, a former LVMH Moët Hennessy Louis Vuitton executive who is now managing partner of Savigny Partners, a corporate finance and marketing boutique specializing in luxury goods, said British luxury’s renaissance might have come just in time.

“British brands simply cannot emulate the French and Italians – they need to reach back and find their history, but in many cases that history in no longer there,” he said.
“Where the British were very good traditionally was in their own production and their own manufacturing. Once you start dismantling that by selling factories you sell your soul.”

Of course, Britain is not alone in shifting manufacturing offshore. The best-known French and Italian brands can start making a handbag or shoe in China or Turkey and bring it home to be finished and still gain the “Made in France” or “Made in Italy” tag.

But designers in Paris and Milan have the benefit of commercial networks in the luxury goods trade developed over centuries and still-thriving local artisanship that is often protected by the biggest conglomerates. PPR’s Gucci Group, for example, trains the artisans making its Bottega Veneta signature woven-leather bags.

In contrast, designers and luxury industry executives say Britain is jeopardizing its talent because it has taken its manufacturing decline too far.

Among Britain’s most acclaimed young designers, Christopher Kane is one who says he is suffering from the lack of nearby manufacturing capacity. Even with his credentials – he was partially sponsored by Donatella Versace through his master’s degree – Kane said he had difficulty finding anyone willing to make his clothes.

“Especially being a young designer, it’s actually quite hard to source outside Britain because people really don’t want to touch you, you don’t have a brand as such, like Gucci, or huge amount of money behind you,” he said.

In Britain, the few factories left find it inefficient to turn out the small runs that Kane requires or they lack the skill.
Complaints about lack of skill, in a country where a century ago artisans were valued more highly than in Italy, aren’t restricted to fashion newcomers.

Geoffroy de La Bourdonnaye, the new French chief executive of the luxury store Liberty, founded in 1875, told a recent industry meeting how difficult it was to find someone in Britain who can still operate the traditional block printers used for Liberty’s signature fabrics.

The owner of Cooper & Stollbrand, Michael Stoll, said the British had been too short- sighted. “In Britain, loyalty has been to short-term profit, rather than long-term gain,” he said.

At the Center for Fashion Enterprise, Malem, working jointly with the government- sponsored endowment Nestor, plans interviews with 30 designers to provide a snapshot of the £800 million British design industry. Her aim is to lobby the European Union for assistance in providing British designers with access to manufacturers equal to that of their Italian and French rivals.

But not all Britain’s luxury designers believe a lack of factories should curb their international ambitions. Anya Hindmarch, creator of the “I’m Not a Plastic Bag” tote and a line of upscale handbags, will have 55 shops by May after openings in Las Vegas, Moscow, Beijing and Japan.

Having started her business at age 19, Hindmarch said that being British was in her products’ DNA but that she would manufacture “all over, wherever we think it is the right thing for that particular bag.”

“It is about being tenacious and getting on with these problems,” she said. “You have to wake up and smell the coffee and get through the tough times.”

PARIS — Christian Lacroix is embarking on a new growth phase — and looking for a strategic partner.

WWD has learned that Lacroix, owned by Florida-based Falic Group,has engaged London-based Savigny Partners LLP to explore the possibility of a minority investor to accelerate the fashion company’s expansion.

“I want to make sure we know what our options are, and if there’s an interesting proposal out there, we might consider it. If not, we’ll just continue,” said Nicolas Topiol, Lacroix’s chief executive officer.

Growing Lacroix Seeking Investment
Topiol said he could not rule out an outright sale of the company, but stressed the goal is to seek “intelligent money” to help Lacroix realize its sales and profitability targets. It is understood Lacroix has already made overtures to several potential investors.

Topiol declined to identify them, but suggested initial reaction has been positive.“It’s a name that definitely triggers interest,” he said. “And it’s now a company that has a very, very solid foundation.”

In a telephone interview, Simon Falic, chairman of Falic Group and Duty Free Americas, stressed his family’s commitment to the Lacroix business, noting the company has been “fully financed by us. We don’t have any outside lenders involved.”

Skeptics initially questioned whether the travel retail specialists might take the Lacroix brand down- market and cash in on its recognition. Instead, the Falics have continued to invest in couture, almost doubling that business, while deflecting all manner of licensing proposals in a drive to bolster Lacroix’s luxury positioning. “If we weren’t committed to the business, we would have taken the easy routes,” Falic said.

He reiterated the goal is to sell a minority stake to fund expansion, but also mentioned that an initial public offering “could be done down the road.”

Since Falic Group acquired Lacroix from LVMH Moët Hennessy Louis Vuitton three years ago, Topiol has engineered an extensive reorganization of the company, disentangling it from the world’s largest luxury conglomerate.

Such diverse functions as accounting, information systems, product management, logistics, customer service and warehousing were all brought in-house, a process that was only recently completed. Topiol said spring deliveries would be the first with the firm’s new teams, including a network of factories and ateliers in France and Italy.

The company — which has estimated wholesale volume of about 40 million euros, or $58 million at current exchange — is still seeing losses, Topiol acknowledged. However, he asserted that “the business today is in a much healthier state than it was three years ago in terms of strategy and brand positioning.

Our operations continue to improve.” The executive declined to give precise figures, but said Lacroix’s sales last year slipped by about 5 percent. The decline stems primarily from a 2006 decision to phase out the Bazaar and Christian Lacroix Jeans diffusion lines and concentrate on the signature line of ready-to-wear — which was brought more upscale in line with the house’s high-fashion image. “It’s been a work of transformation: closing a lot of accounts, opening new accounts and getting people to embrace the new concept,” he explained. Elsewhere, the brand has shown plenty of vigor.

In reporting fourth-quarter sales earlier this month, Avon credited its new Lacroix scents for about half of the 23 percent growth the beauty firm logged in its fragrance business.

Topiol cited “nice growth” and “good sell-through” with select licensed products, including men’s wear, wedding dresses and lingerie, and strong results from recent partnerships: with La Redoute for a line of fashions and home decor items, and with Evian for a baroque, limited edition bottle commanding impressive prices at sites like eBay.

In December, Lacroix opened a Manhattan flagship at 36 East 57th Street. “It’s starting really well,” Topiol said. “We had a good month in January and we’re preparing for an event there in March. It shows our commitment to the brand and the U.S. market.”

Looking ahead, Topiol spies the potential to grow Lacroix’s RTW business in markets like the U.S. and Middle East. At present, Lacroix operates two company-owned boutiques in Paris, one clearance outlet at La Vallée outside of Paris, and a Las Vegas location, in addition to New York.

There are also 23 freestanding franchise boutiques: seven in the Middle East, six in Argentina and five each in France and Japan. Among openings scheduled for 2008 are boutiques in Bahrain and Kuwait, and the brand’s flagship on the Faubourg Saint-Honoré here is slated for an overhaul toward the end of the year.

France remains Lacroix’s biggest market, with Japan, America and the Middle East each holding roughly equal weight, Topiol noted. Accessories are also considered another key expansion area, and the company is recruiting a senior product manager and designer for handbags and shoes to boost its profile in the category.

The designer, who has been emphatic about having good chemistry with his new owners, has been informed of the Falics’ plan to seek a potential partner. “The financial success of this company is something that’s very important to him,” Topiol said. “I have a three-year plan to take the company to a profitable stance,” he continued. “I think we have the foundation in place to grow the business. We’re finished with one chapter and now we’re opening the chapter of growth. We feel 2008 will be a very good year for us.”

Belinda Earl, chief executive of British fashion brand Jaeger, knows the value of trading up.

Three years ago, the former chief of mid-range British department store group Debenhams joined Jaeger, a 124-year old apparel chain that had tumbled into the red after losing its way as British women marched towards discount fashions.

Fast-forward, and having swapped Jaeger’s dowdy suiting for cashmere studded with Swarovski crystals and faux snakeskin trousers, Earl is marking the brand’s shift in fashion status: from has-been to a trendsetting label worn by Kate Moss.

Top-line sales are up 15 percent this financial year ending February, and Earl on Sunday took a front row seat at London Fashion Week for Jaeger’s first catwalk show for its younger, trendier Jaeger London line.

“It takes us up another notch and that’s where we want to be,” said Earl, 46, who swapped her business suit for Jaeger’s top-selling tuxedo jacket and skinny pants to mingle with the fashion set on the front row.

The revival of privately owned Jaeger comes at a time when trying to spot the next turnaround story among Britain’s faded high-end brands has become an even trickier business.

Since Burberry proved a global luxury goods group can be built out of a First World War trench coat maker, London’s catwalks are full of once-storied names – Asprey, Aquascutum, Biba, Ossie Clark – whose backers are hoping to build fortunes by exploiting their heritage.

While seasoned luxury industry executives believe many of these to be doomed to failure, Jaeger is considered to have potential not least because of Earl’s steady hand.

For Richard Hyman, managing director of Verdict Consulting, Jaeger now has a more secure position in its market than it has had for decades.

“For a long time it was one of those heritage brands that didn’t know what it stood for. What Belinda’s done is given it a sense of identity,” he said.

Pierre Mallevays, a former LVMH executive who is now managing partner of luxury goods corporate finance and M&A consultancy Savigny Partners LLP, said management was “doing a great job” on products, but that some improvement was needed in the design and ambience of Jaeger stores.

“Products and image keep getting better,” he said.

NO BURBERRY
Earl, for her part, maintains the comparison with Burberry underestimates her ambitions for Jaeger: “I actually think Jaeger has a lot more potential because we are not hampered by a trench coat or a house check,” she told Reuters in an interview at her offices close by Regent Street, where advertising campaigns from Jaeger’s 1950s and 1960s heyday line the walls.

The growth of Burberry, Britain’s biggest fashion house with 850 million pounds ($1.66 billion) of sales last year, is strongly linked to its signature trench coat and red, camel and black check.

Jaeger is much smaller, with sales standing at 70.6 million pounds for the 52 weeks to February 28, 2007, the latest figure made public.

Earl, who owns 20 percent of the chain, has sought to expand the appeal of its 144 UK and European stores by extending the ranges to three from one. Besides the original Jaeger line and the younger “Jaeger London” range, is high-end “Jaeger Black,” where floor-skimming cashmere coats costing 450 pounds set out to rival Max Mara and Gucci in price as well as finish.

“It’s only a couple of years old, but it’s really moving the brand upwards in the luxury stakes – I could see it having a show in its own right, ultimately a couture show,” Earl said.

Higher margin accessories also now account for a far greater proportion of sales, rising to 20 percent of turnover during Christmas, Earl said, from less than 10 percent two years ago.
But the focus for 2008 is on international expansion with Jaeger’s overseas stores set to double to 80 as it enters eight new markets, including the United States, South Asia and Australia.

A franchise deal announced last week with Speciality Fashion, part of the Kuwait- based Sultan Center Group, will see it open at least eight shops across the Middle East by 2013. Earl expects international markets to account for half of turnover eventually.

Chairman Harold Tillman acquired Jaeger in 2003 for an undisclosed price that included 10 million pounds in working capital and the cost of the 25 million pound lease for its Regent Street store.

The entrepreneur, who says the option to buy Jaeger was so irresistible it stopped him from retiring, told Reuters he sees Germany’s Hugo Boss, which has 266 directly operated stores worldwide and many more franchised, as a model for Jaeger.
Ruling out a stock market listing while financial markets remain buffetted by fears of a global economic slowdown, Tillman also scotched talk he is looking to exit.

“Absolutely not,” he said. “We decided we are having too much fun.”

Earl, who earned favorable reviews for Jaeger London’s Sunday show of shaggy Mongolian bomber jackets and fringed dresses, agreed the job was nowhere near done: “I’d say we’re 30 percent of the way along the journey.”

LONDON – Despite a sagging stock market and a slowdown at retail on both sides of the Atlantic, 2008 is shaping up to be the year of the fashion initial public offering.

Tommy Hilfiger Group may well be the first to take the plunge, with industry sources saying its planned IPO is on track for the first half of the year. Hilfiger is expected to be followed by Prada, which, if it goes ahead this time, will likely wait until the second half. Ferragamo also has unveiled plans to go public this year, and is expected to elaborate on them later this month.

Industry sources here said Hilfiger’s IPO is on track to take place on Euronext, the pan-European stock exchange that counts LVMH Moët Hennessy Louis Vuitton, PPR, Hermès, Christian Dior and Clarins among its listed companies. The flotation is expected to value the American sportswear company at $3 billion to $4 billion.

And Hilfiger, which is owned by the U.K.-based equity fund Apax Partners, has been rapidly getting its house in order in advance of going public. First, last October, it inked a major deal with Macy’s Inc., which will be the exclusive retailer of Tommy Hilfiger sportswear in the U.S. beginning this fall.
In another major move, the company today is expected to reveal plans to purchase a majority stake in its Japanese licensee, Tommy Hilfiger Japan Corp., according to industry sources. A source here said the buyback was in line with the company’s overall strategy of purchasing licensees, and tightening its hold on brand management and image.

A Hilfiger spokesman declined to comment both on the deal and its potential impact on the company’s planned IPO.

Tommy Hilfiger Japan Corp., established in 1996, is currently owned by Itochu Corp., which will continue to hold a minority share. The terms of the deal could not be learned. The company currently has more than 100 freestanding stores in Japan and 60 department store concessions. It has net annual sales of about $130 million.

Although the Tommy Hilfiger brand has been working to reposition itself in the U.S., its image and positioning both in Europe and Asia are at a higher end of the retail scale.

“There is a big difference, and disconnect, between how Tommy Hilfiger is perceived in the U.S. versus Europe,” said Pierre Mallevays, the founder and managing partner of Savigny Partners LLP, a luxury goods advisory and mergers and acquisitions firm in London. “Europeans talk about Tommy Hilfiger in the same breath as they do Gant, which also has a higher positioning than in the U.S. They are both seen as medium- to high-end sportswear and lifestyle labels.”
(Ironically, Gant also could see a change in its ownership this year: Maus Frères SA, the Swiss retail group that owns Lacoste, continues to consolidate its stake in Gant after last month launching a 5.2 billion kronor, or $809.3 million at current exchange, hostile bid for the Swedish sportswear firm, which was promptly rejected by a majority of Gant shareholders. Maus now owns 23.7 percent of Gant.).

Mallevays added that Hilfiger’s brand penetration is not high in Europe, and that the brand has “room to grow in Europe and eastward into Asia.”

Outside the U.S., the brand is behaving like a high-end fashion label. Its Paris unit is located on the Rue Saint-Honoré, while its London flagship stands on a newly refurbished strip of Regent Street, near Brooks Brothers, Aquascutum and Burberry.

In an interview in late 2006, Hilfiger told WWD he considered his competition in London to be Burberry, Brooks Bros. and Ralph Lauren. In Europe, the brand has wholesale accounts at department stores including Galeries Lafayette in France, El Corte Ingles in Spain, La Rinascente in Italy and Bijnekorf in the Netherlands.

Financial analysts say a valuation of Hilfiger of $3 billion to $4 billion would be a reasonable price range, depending on the company’s current earnings before interest, taxes, depreciation and amortization.

The sources also said that Euronext, a pan-European exchange, is a logical place for the company to list, since Tommy Hilfiger Europe B.V. is registered in Amsterdam.

Euronext has bases in Amsterdam, Brussels, Lisbon, Paris and London. It was created in September 2000, when the exchanges in Amsterdam, Paris and Brussels merged to form Euronext NV, which is headed by a Dutch holding company, to create a cross-Europe exchange. Last April, the New York Stock Exchange Group acquired Euronext for about $10 billion, and the group is now known as NYSE Euronext.

According to NYSE Euronext, the combined exchanges represent a value of $30.3 trillion in total market capitalization of their listed companies, and have an average daily trading value of about $139 billion.

A statement released by Euronext earlier this week said the exchange had a banner year in 2007. Its European markets saw a 47.6 percent rise in equity transactions in 2007 to 309 million, compared with the previous year, representing a turnover of nearly $5 billion. The company added that 140 new companies were listed on Euronext’s European markets in 2007, and that $14 billion was raised in connection with these new listings.

Left brain-right brain. In the world of fashion and luxury goods these days, one needs both sides to beat the competition.
But is analytical ability more important than the creative side? Are talents in business more key than being able to cut, sew and tailor? In short, is the designer more important than the chief executive officer, or vice versa?

It’s a $64 million — or, these days, given the size of fashion conglomerates, $6.4 billion — question. Unquestionably, there have been a handful of successful partnerships between designer and ceo. They include Calvin Klein and Barry Schwartz; Tom Ford and Domenico De Sole; Yves Saint Laurent and Pierre Bergé; Valentino and Giancarlo Giammetti; Liz Claiborne and Art Ortenberg; Reed Krakoff and Lew Frankfort; Miuccia Prada and Patrizio Bertelli, and Marc Jacobs and Robert Duffy, just to name a few.

Their respective companies often are seen as among the epitomes of success in fashion and luxury goods. Without each others’ talents and a strong partnership, their businesses never would have flourished the way they did.

Then there are those rare companies where a designer is really in charge, such as Giorgio Armani and Ralph Lauren, who is both chairman and ceo of Polo, although he has had strong partners in Peter Strom and, now, Roger Farah.

However, in some companies, the designer has the upper hand — think Oscar de la Renta or Dolce & Gabbana — while in others, it’s the ceo. Ceo’s are increasingly coming to the fore as private equity firms and other outside investors come into the fashion world, often with a focus more on the bottom line than on the creative talent.

So which model is the best? Here’s how the industry weighed in on the topic:

Donna Karan
“It’s the ‘we,’ not the ‘me.’ It’s not ‘either-or,’ it’s ‘and.’ Unless they’re in sync with one another, neither one could do their job. Neither one could be successful.”Robert Polet, president and ceo, Gucci Group

“It’s a real marriage of equals. It is when you combine long-term business sense with independent but guided creativity at the service of a particular brand. It’s this combination that makes it very, very fruitful. I would estimate that in all very successful brands, there would have been this seamless cooperation with a business sense, a merchandising sense, a customer service sense and a creative point of view.”

Polet said it’s that combination of creativity, merchandising and product development that makes a brand tick and ensures an outcome of “relevant, desirable products.” He said respect between all the players is essential, especially since there is “a field of natural tension” between creative and business types. “The thing to do then is to let them be entrepreneurial in those roles. It’s so different if you really feel you have the trust of someone else to let you do your job.”

Alber Elbaz, designer of Lanvin
“This is like asking a child, ‘Who do you love more? Daddy or mommy?’ You need them both and love them both in a different way. The role of the ceo and the designer is like a mother and a father; only when parents love and support each other will their child be strong and healthy and wealthy.

“Some of the best ceo’s whom I’ve met through my career were the ones who think like artists and true innovators. And some of the best designers are the ones who think like ceo’s. It’s not about territorial power play, but more about collaborating and respecting each other’s responsibilities.”

In Elbaz’s view, it’s impossible for a brand to be great, without strong fashion and business leaders. “You need both a great designer and a great ceo to dream together in order to make this dream come true.”

Oscar de la Renta
“[It's] the perfect combination of the two: the designer for his creativity and the ceo for his vision.”

Ralph Toledano, chairman and ceo, Chloé
“I always say the most important thing is finding the right couple. The secret of success is the quality of the relationship. You cannot grow without a good designer and you cannot grow without a good ceo. When I hire people, I always say I’m looking for a partner. Credit is often given to management, but formula is very dangerous because it kills creativity. Management has to understand that they have to stimulate newness. A brand needs a talented designer. It needs constant change. Opportunism and formula kills a brand.”

To be sure, there have been periods in the industry when designers were perhaps given too much power and elevated to star status. “For me, the star is not the designer; the star is not the ceo; the star is the brand,” Toledano said. “I think people confuse the idea of the star designer and dependency on designers.”

Mario Grauso, president, Puig Fashion Group
“The most important issue at a fashion house is the relationship between the ceo and the designer. They must communicate well, trust one another and have mutual respect. This is the key to a great brand.”

Elizabeth Pearce, a New York attorney who specializes in the fashion and luxury goods industries
The balance of power “depends on the nature of the organization,” but Pearce said it has tilted in favor of management as the “ceo is more linked with the board and the powers that be.” And despite the fact that consumers are fascinated by designer personas, large companies are wary of “putting too much emphasis on the public image of a particular designer. It’s like a rock band: Once the lead singer’s gone, what’s left?

“The premise of a brand is that it’s a collection of concepts, ideas and imagery,” she continued. “A brand can only be powerful and sustainable if there’s something that goes beyond one person’s point of view.” That said, Pearce stressed that, “Each side has to have a voice and that voice has to be respected by the other party.”

Christian Lacroix
“The most important thing is the alchemy needed between designers and ceo’s. Without that, nothing is possible since a fashion house, like a boat, cannot have several skippers at the helm. In a race — and fashion is kind of a race — you need to go straight ahead and not navigate two opposite strategies at the same time, as we did for too long with [previous owner] LVMH. After a decade of struggling with many opposite strategies, star ceo’s-versus-star designers and the poverty of the result, wisdom is back again and we all understood that this balance is needed with the same language, the same target and, at the end, the same interests.

“A fashion house cannot afford schizophrenia. Creativity is not only the reserve of the style and designing team, but that we need creativity everywhere, from the accountant to the ceo. Good designing without the right management is as negative as powerful businesspeople without the right products.”

Valerie Hermann, ceo, Yves Saint Laurent
“Defining the limits and territories for both designers and ceo’s is important. Each should have his or her priorities. For me, a designer is never more creative than when you give him a framework in which to work….A good product is not only a fantasy of the designer; it has to have a defined purpose.”
Hermann also stressed designers and ceo’s must work in tandem, not in competition with each other. “It has to be about winning the competition together. I don’t think it’s a hierarchical relationship in the traditional sense of a boss and an employee: it’s a partnership relationship.

“There is always a creative solution to any challenge, whether you are a designer or a ceo.”

Bryan Bradley, designer of Tuleh
“The designer is the heart of the house and the president [or ceo] is like the brain. At its best, it’s a symbiotic relationship without strict borders…and even if the heart can survive without the brain, I don’t recommend it.”

William L. McComb, ceo, Liz Claiborne Inc.
“I do believe in the design-merchant king. That far supersedes any role I would play, though there are ceo’s who are merchant kings like Mickey Drexler.”

McComb said one of the reasons he hired Tim Gunn as chief creative director was to have a design-merchant advocate on the executive floor at Claiborne, while letting brand designers remain decentralized. “The center of gravity needs to be design and merchandising, and our company had lost our way in that respect. Now we are putting the companies back together as independent brand-driven teams. It was always that way with Juicy, though our corporate structure impaired that. Now we are bringing it to Mexx, Liz Claiborne and Monet.”

Didier Grumbach, president, French Fashion Federation
“At the beginning, the designer is key and later it’s the contrary,” said Grumbach, who was previously ceo of Thierry Mugler. Given the couture tradition, most houses in France were founded on designers who became the stars of their companies, whereas today, a partnership is necessary between the designer and the ceo. “If one of them wins, the company is lost,” he said. “There should be respect, but there should be tension.”

Mark Lee, ceo, Gucci
Lee attributed success to “a combination of the brand’s depth and history. “Creativity is the engine of our business. I have to give tribute to Frida [Giannini], for her clarity, strength and innovation, building the brand and moving forward, but we work in sync. There must be an executive with a strategic vision, upgrading and protecting, and maintaining the exclusivity of the brand.”

Franco Pené, chairman of Gibò
Pené said it is a 50-50 deal. “Both designers and executives are instrumental, although it’s very difficult to have the right balance with both.” In particular, Pené said there is not a large pool of top-quality candidates who can become successful fashion executives. “Few really emerge.”

Arnold Cohen, founder, Mahoney Cohen & Co. accounting firm
“I’m going to have to take the middle of the road and say both. I can’t think of an industry where the two have to work more closely. My biggest argument in the industry is that designers aren’t business-oriented enough. Very few of them take the time to acclimate into the business segment. They don’t have the time or the inclination. To me, the partnership is best. Look at Calvin Klein and Barry Schwartz, or Peter Strom and Ralph Lauren at that time, and subsequently, Roger Farah and Ralph Lauren today. Even Oscar de la Renta and Jeffry Aronsson.”

Karen H arvey, presi d ent, Karen Harvey Consulting Group
“It depends on where the brand is. If you are a small designer brand that has an amazing product, the most important element you need is a ceo to grow the business. If you are a brand that has evolved but is sliding in relevancy, then the most important thing is the designer to get the brand back on track. In the end the best situation is a partnership and synergy between the two: a ceo who can help a designer be better by forming a strategy and pathway to the consumer in ways that help them expand without sacrificing their vision.”

Dana Telsey, founder, Telsey Advisory Group
“The blend of the financial and the creative is essential to grow the business. We have seen that as businesses have gotten bigger. Take a look at Coach [with Lew Frankfort and Reed Krakoff], and what Domenico De Sole and Tom Ford did to build Gucci. You need to have the right brain and left brain coming together to drive the business as a whole.”

Robert Burke, founder of consulting firm Robert Burke Associates
“I don’t think one can survive without the other and be truly successful. I think you need someone who can position the business and also communicate with the designers. I think that you don’t want either one to have the advantage, but if they do, the name and the designer image is more impactful on a departure because of the visibility of the designer. But it seems to be a trend right now that ceo’s are being recognized and written about on a much more regular basis. The role is no longer about just being a numbers person, but also about having a vision for the business and making sure that vision is communicated and realized. The role of the ceo is becoming more creative and the best ceo’s are ones who understand the design process and know how to support the designers, but also push the business.”

Joseph Velosa, co-founder of the Matthew Williamson business
“I can only really speak from our experience, but I don’t think one can exist without the other. It’s a 50-50 relationship. We each do our separate jobs, but there is a huge amount of gray area and crossover, and there has to be a mutual respect and understanding. At the end of the day, though, you can’t have a design business without a designer, and without the product, you have nothing. The ceo has to respect that.”

Velosa said, however, that when a brand name becomes bigger than the designer’s personality, that’s a different scenario. “There comes a tipping point when the brand is established and entrenched and can carry on, like with YSL, which dipped and then had a revival, or Valentino, where the passing of the reins was straightforward.”

M atthew Williamson
“If you were to caricature us, it would be me throwing pink chiffon in the air all day, and Joseph [Velosa] presiding over piles of money. I’m business-minded. I’m a commercial designer making a product that I want women to pay hard cash for and to wear. And Joseph is incredibly creative. He’ll come to me with a business strategy, and I’ll go to him with a dress design.”

Pierre Mallevays, founder and managing partner of Savigny Partners, a luxury goods advisory and mergers and acquisitions firm in London
“Both are equally important, but I also think it depends on the stage the company is at. Sometimes, a company needs a creative spurt, and other times it needs to get organized under good management. And I do think that, in the case of truly successful brands, behind every successful designer, there is a successful ceo.”

On more mature luxury companies, he said, “I think that once the brand DNA is established, then the designer can disappear, as long as the new designer or design team respects the DNA. But the brand has to pass that tipping point for the transition to happen smoothly.

Lanvin, for example, is not at that tipping point yet because the brand is still too dependent upon Alber Elbaz and women’s wear. That company needs another few years to build success in men’s wear and derive the benefits of a symbiotic relationship between designer and ceo, so the jury is still out.

“A designer can be commercially successful, but if there are no checks and balances from the business side, there’s the risk they can end up in sublime isolation, geniuses left out in the cold with no real business.”

Mallevays pointed to Phoebe Philo and Hedi Slimane as two examples. Both fell out with their business partners: In the case of Philo, she left because she didn’t see eye-to-eye with Ralph Toledano, and Slimane made certain demands that his partner, LVMH, was not willing to fulfill. He said the two could now find it more difficult than anticipated to secure a backer because they are essentially working alone — and come with very high expectations of future partnerships. “There is no alter-ego ceo who can temper them.”

Bud Konheim, ceo, Nicole Miller
“The bottom line is this business is a commercial art, not a fine art. If you have a designer without a ceo, you have a fine art. If you have a ceo without a designer, you just have a commodity, and you won’t thrive for long.

“Without great design, you can be the biggest ceo in the world and everything can be a joke,” Konheim said. “If the designer is able to make all this great product without a ceo, then you don’t need a ceo. But the really good designers are prolific and creative, and they all need an alter ego they can throw ideas against. Someone has to boil it down to what we are going to make a living on.”

Konheim has been that person at Nicole Miller for more than two decades.
“Nicole and my partnership is based on a couple of philosophical tenants I laid down at the beginning: The business is going to be called Nicole Miller, the muse you are going to design things for is you and I am confident there are enough people who share your aesthetic to make a business. I’ve tried to manage her best design efforts, without wrecking it by saying we are having such a great season with all this stuff, don’t make any new things. New innovations aren’t big sellers out of the box, but you have to get them out there.”

Elaine Hughes, president, executive search firm E.A. Hughes & Co.
“In hiring for any company when the designer is an active participant in the business, you have to understand how the designer thinks and then you look for complementary skill sets. In a designer-driven company, designers need to be partnered with someone to hold them accountable, and you look for someone financially sound with a success record. Some designers like [Lauren] think like a businessperson, and he directly recruited Roger Farah, who had the retail experience and was an excellent complement.”

Allan Ellinger, senior managing director, Marketing Management Group
He argues that a third person is equally important: the head of merchandising. “A classically organized apparel company is like a seesaw with the ceo on one side and the designer on the other — and you need the merchant in the middle to create the balance. That person really has to marry the commerciality of the product to the design through helping plan what the collections will look like, edit the line and make sure the collection meets the price points required by the company.”
For Ellinger, the question is whether the ceo is a merchant or an operations guy.

“If you have a ceo who is not a product- or marketing-driven person, that ceo will be totally reliant on someone else to develop and market the product, because the product is the most important part of our business. If you have a very large company that can afford to have a ceo who is financially oriented, like [Phillips-Van Heusen] and Jones [Apparel Group], and is smart enough to hire a product guy, then it’s ideal to have all three.

For example, Bill McComb does not come from this background, and he hired Tim Gunn, which I think was a really smart move, because Tim is really product-centric.”

Bill D’Arienzo, ceo, WDA Marketing
D’Arienzo recently made a presentation to Liz Claiborne Inc. on whether the ceo or designer is more important in resuscitating slumping brands. From case studies on Lacoste, Coach, Burberry, J.C. Penney and J. Crew, he determined it was the ceo. “In every single instance, the ceo did three things instantly: first, he understood and embraced the brand heritage; second, he researched the consumers’ past and current perception of the brand, and third, he brought in a design director to orchestrate the findings and stayed in close communication,” D’Arienzo said. “So it all begins at the top and then is driven by the design director in terms of execution — but these aren’t absentee ceo’s.”

Catherine Sadler, president of New York marketing firm Catherine Sadler Group
“What the designer brings is the heart, and the designer often embodies the brand and its vision. When the product isn’t right, the best ceo in the world is going to fail.

“But designers are artists, and they do their best work when they are unfettered by financial concerns. Design in itself isn’t enough, and many young designers are overcome by unanticipated demands: Brands need to be differentiated and have the right retail relationships. In that sense, the ceo holds the key. Ceo’s need to encourage innovation and support it with the right business acumen, but carefully, because rules and data can kill creativity.”

To see signs of the increasing spending power of India’s affluent classes, a visitor need only drive along the main western road into Mumbai.

After passing the “Auto Hangar” selling Mercedes cars, the visitor will see the Rolls- Royce dealership and then, further on, a showroom that is still under construction but above which the word “Porsche” is already clearly visible.

The sudden emergence in India of Porsche, the ultimate symbol of brazen consumption, is raising eyebrows in a country in which, not so long ago, the elite drove the indigenous Hindustan Ambassador.

“People have had the money for a very long time but it is only now that they are starting to feel more comfortable spending it locally rather than abroad,” says Ashish Chordia, chief executive of Porsche Centre India.

The showroom, part of a push by Porsche into India’s four biggest cities, is one example of the invasion of the country by high-end carmakers and luxury retailers.

Leather goods maker Louis Vuitton and a variety of other LVMH brands are already present in India and a flood of others, such as elite Italian suit maker Brioni, are setting up shop in the country.

Capgemini and Merrill Lynch estimated in their annual World Wealth Report that the number of people with net assets of $1m or more in India reached 100,000 last year, up 20.5 per cent from a year earlier. It was the second-fastest rate of growth in the world, after Singapore’s 21.5 per cent.

As long as India’s economy grows at rates of more than 9 per cent a year, the country is expected to continue generating wealth on this scale, analysts say.

Alex Kuruvilla, managing director of Condé Nast India, which is launching a domestic edition of its flagship magazine Vogue in September, says that during market research, the magazine discovered two types of luxury consumer.

There is the “old money”, the people who for decades have shopped and holidayed overseas. They tend to be as discerning as their counterparts anywhere.

Then there are the nouveau riche – the new industrialists, professionals, entrepreneurs and others – who are not as familiar with luxury goods but have the cash to experiment.
Describing the average, nouveau riche consumer, Mr Kuruvilla says: “She’s got the money. She can come into Delhi and pick up half a dozen of those $2,000 bags and that makes her a very important person as far as the market’s concerned.”

He envisages introducing more niche magazines as the market develops, such as Brides. India’s wedding market is worth $1 0bn and is growing at a rate of 25 per cent a year.

The industry faces a number of challenges, however. Duties on luxury products, such as watches, can be as high as 60 per cent plus state taxes and value-added tax, making them uncompetitive against overseas prices, according to research by retail advisory firm Savigny Partners.

There is also a paucity of quality retail space outside the luxury hotels. Ermenegildo Zegna, the luxury menswear retailer, discovered this when it opened its first store in India in 2000 in one of Mumbai’s leading malls.

It was later forced to close because of the “deteriorating brand environment”, which included a McDonald’s opening next door, according to Savigny. It reopened this year in Mumbai’s Taj Mahal Hotel.

New luxury developments are on the way. DLF, India’s largest property developer, is building the Emporio luxury shopping mall in New Delhi. Meanwhile, the Wadia Group is planning to create a 25-acre development in Mumbai aimed at high-end retailing.

But life for the conspicuous consumer remains challenging in India. Mumbai, for instance, lacks the necessary infrastructure for sports cars.

While Mr Chordia says the company’s sales have increased from about 40 units a year after it opened in 2004 to nearly 200 today, about 60 per cent of these are of the Cayenne sports utility vehicle.

Selling for up to Rs11m ($275,000), this is more practical than the Porsche sports cars, which cost up to Rs14m and are more vulnerable to abuse on Mumbai’s potholed streets, where traffic often moves at walking pace and cars bump each other jostling for space.

In addition, the lack of parking often forces car owners to have their driver follow behind in a back-up vehicle to take care of the Porsche when it is not being driven. “There is always the worry a valet will not handle the car properly,” says Mr Chordia.

Challenges of the Spa Market
With contributions from Cindy Palusamy, CP Strategy Inc.

A large and growing market
The search for the fountain of youth continues unabated in the 21 st century, best evidenced by the boom in the spa business in the past decade. Industry experts calculate annual global spa revenues north of $40 billion, inclusive of services and products. The International Spa Association recently reported that there are 1 50 million active spa goers world-wide. The sheer size of the market makes it one of the largest leisure industry segments, but with no clear leader at the helm. A broadening understanding and appreciation of alternative healing and wellness regimes by consumers coupled with the burgeoning investment in and supply of spas (mostly in hotels and resorts) has resulted in an industry growing by double digits annually over the last decade.

Hotel spas grab the lion’s share

Many of these consumers are checking into hotels on their quest for their next spa experience. While hotel spas consist of only 14% of the market in terms of units, they register about 41 % of total industry revenue (ISPA, 2005). Travel agents concur: in a survey by SpaFinder 65% of travel agents said spa bookings were up in 2006 and stated that spa facilities / access to a spa are the most important considerations when making vacation plans. Most relevant to the hotel companies is the impact on average daily rates, which some studies put at a 50% uplift for destination resorts with spas. As a result, hotel groups are investing heavily. A recent article reported that the top hotel groups (and related developers) are spending close to a half-billion dollars in the next few years on their spa facilities. Top of the list is Hilton Hotels, which has recently announced a deal with spa operator Spa Chakra, using LVMH’s Guerlain and Acqua di Parma brands within various luxury properties (Waldorf, Conrad and selected Hilton hotels). Hilton further commented that it and its property partners would invest $200 million to develop 70 new spas across its global hotel portfolio, more than doubling its current count of 65.

Day spa model has been a challenge
The largest investment to date in day spas has been by US-based private equity firm Northcastle Partners. When Northcastle acquired Red Door and the Mario Tricocci Salons, they inherited a typical day spa model with its own locations—both freestanding and in department stores. The company owned the full p&l and in turn covered capital expenditures and funded working capital. While Northcastle is not commenting on its invest- ment, Red Door has not seen growth in the number of its freestanding locations to match that of the sector as a whole. In fact, Red Door has had to adapt its business model and now operates a significant number of its locations from within hotels under management contract.

Now consider another leading spa group, cruise ships specialist Steiner Leisure. Its 2001 acquisition of the land-based Greenhouse and related day spas probably seemed attractive as a way to quickly build a proprietary distribution platform for its Elemis product line and leverage its longstanding expertise in cruise ship spa operations. However a ship business, with a captive audience and relatively little off-peak times, is vastly different to a day spa business, requiring substantial customer acquisition and retention costs. The acquisition proved disastrous and Steiner was quick enough to exit the day spa business at a significant loss. Steiner has since seen record double-digit growth, fuelled both by services as well as the spectacular success of the Elemis product line, which is now a $100 million plus global spa brand also distributed wholesale in non-spa channels.

Renewed interest in spa distribution channel by beauty manufacturers
Along with interest by hotels, there seems to be renewed interest in spas from leading beauty manufacturers, after an unsuccessful foray in the 1980s and 1990s. Estée Lauder opened and subsequently closed Lauder spas in the late 1990s: opened mostly as concessions in department stores, the spas never fully realised their potential. L’Oréal opened and closed Helena Rubenstein spas within a couple of years but has remained in the spa business via product lines.
LVMH acquired and sold Bliss over the course of five years, although their heart was probably more in the brand potential than in the spa business itself. Shiseido owns one of the largest spa skincare brands globally, Decléor, but has focused on purely being a supplier to the industry.

Recent announcements by various hotels on future investments in the spa sector bode well for beauty manufacturers as a distribution channel. Historically, the biggest drawback for such companies to service the spa sector has been low volume opportunities as a result of a fragmented customer base. As global hotel companies take a more strategic and centralised view towards the business, more significant and “deliverable” opportunities for cosmetic brands are arising.

Not all spas are equal
Amongst the challenges facing the business lies a classic identity crisis. The use of the word “spa” has come to mean everything from three-room day spas to 40-room megaspas to doctor-led medispas. The differences between the various formats are considerable. Successful day spas require private-label brands (70%+ margins) and a strong local, repeat business to survive. Hotel spas require strong links to hotel reservations and marketing programs to ensure consistent guest usage.

Geographical differences further complicate matters. Western market spas derive value from product and benefit greatly from hosted environments (hotels, retailers, etc) to subsidise upfront capital expenditures. Developing market spas – where there are real growth opportunities – derive value from service due to low labour costs and benefit from captive affluent audiences accustomed to paying a significant premium for spa services.

All told, the industry’s basic classification system and available statistics have failed to capture the true picture of the market. Interested participants need to look at the business with a far more detailed eye. Restaurants serve as an interesting comparison. The highly fragmented restaurant business is quite similar in cost structure to spas. The restaurant industry does not however classify itself along location (cruise ship, hotel, etc.). Rather, the industry has defined itself along a matrix of price and volume. High price and low volume food establishments generally equal fine dining establishments. Low price and high volume equals fast food. The same can be applied to spas. Some spas focus on quick treatments and focus on volume. Others are five-star service, low volume and high prices. Mixing the two together to draw conclusions is the equivalent of lumping McDonald’s and Ducasse into one category.

Similarly, the industry has given little thought to yield management. A key lesson from the airline industry is that the value of a product (i.e. airline seat) changes as a function of time and day. The same holds true for spas: a treatment on a weekend or after work is more valuable than a treatment mid-morning on a weekday. Spa owners need to develop effective pricing strategies to ensure revenue optimisation.

The spa market will likely remain at the forefront of discussion as opportunistic investors seek to bring some order to this growing industry. No clear leader has emerged with the right formula for success. Until then, our money will be on “bundled” groups, where good locations meet good operators meet good brands, as with the recently announced Hilton / Spa Chakra / LVMH deal.

Gold rush or long term investment?
From the press commentary and the increasing frequency of launch parties in Mumbai and Delhi, it would seem that India cannot get enough of luxury brands. Latest to stake its interest, Hermès has just announced it established a joint venture company to open stores in India, with a first unit expected in New Delhi. Many analysts indeed view India as the next untapped big market opportunity after Russia and China.

The India consumer growth story is well established: forecast GDP growth of 8% p.a. for the next ten years, with projected growth rates in the “sheer rich” to “super rich” category (annual income above $100,000) set to average at 25% p.a. over the next five years to over 500,000 households. The organised retail market is set to explode, from less than 5% of the current estimated $12 billion value of total retail spending to an estimated $25 billion in five years according to some surveys, driven by an unprecedented construction boom for in-town and out-of-town malls led by India’s most successful industrial groups including Reliance Industries, Bharti, Tata Group, ITC and Birla. Amongst many projections, Deutsche Bank estimates that, over the next three years, 600 new shopping centres will be developed in India.

Our concern is that much of the hype about organised retail sales growth is based on a number of self-reinforcing “chicken and egg” assumptions, and that the reality will be somewhat less than anticipated. Retailers often cite the rate of mall construction to support their total sales projections, and developers cite the projections of retailers to justify the investment being made in mall construction. A simple walk around Mumbai’s leading modern format mall, called Inorbit, suggests that the supply of sophisticated retail facilities does not automatically translate into product demand and strong retail sales (with the exception of the food court, which is packed). This is all the more telling as Inorbit continues to enjoy ‘novelty’ appeal and no meaningful competition.

The implications of similar assumptions being made in the luxury end of the market are potentially far more serious. Projections of growth in disposable incomes and the absolute number of ‘super-rich’ appear to have facilitated a simplistic approach to corporate decision making. When it comes to market entry decisions being taken by some luxury brands, it seems to be more ‘Field of Dreams’ (if you build it they will come), than decisions based on a clear understanding of the nature and challenges of the market.

Barriers to entry remain
A restrictive regulatory environment, the cost and availability of appropriate infrastructure, the lack of brand awareness and the very limited media outlets for marketing make establishing a successful luxury brand business model in India considerably more challenging than might first appear. Added to this, the potentially underestimated price consciousness of an emerging consumer class brings into question the widely held assumption that India is about to embark on a branded luxury goods spending spree from Armani to Zegna and a little bit of La Perla and Mont Blanc in between.

India remains a largely protected market with respect to foreign entrants, partly in order to afford Indian businesses time to establish a competitive platform before the market is opened to global powerhouses. Multi-brand retailers have to operate through franchisees and license agreements whilst mono-brand retailers can own up to 51% of their businesses in India.

Aggregate duties on imported luxury products are prohibitive: up to 35% on apparel, 45% on accessories, 60% on watches, shoes and perfume, all augmented by interstate duties (in some cases 8%) and VAT of 12.5%. Given that the wealthy Indian elite targeted at pre-sent by luxury brands is likely to be well travelled, the incentive to buy locally is not only diminished by the significant price premium but, arguably, also by the diminished cachet of buying a $3,000 bag at the local mall instead of, say, Bond Street.

Last but not least, the infrastructure necessary to support a commercially viable luxury brand development strategy in India is largely lacking. In spite of isolated examples of investment such as DLF’s Emporio in Delhi, the reality is that there is no retail infrastructure in India that can be compared to developments in other fast emerging markets in Asia, the Middle East or Russia, let alone Europe and the US. With the possible exception of LVMH which has the critical mass to drive a largely independent positional strategy should it wish, most luxury brands are opting for India’s premier hotels as a location solution out of necessity rather than choice. The problem with this is two-fold: firstly, the strategy in India mostly international business clientele of those hotels does little to enhance sales to wealthy locals and, secondly, the cost of such retail space is usually prohibitive, both in absolute terms and as a percentage of sales.

The belief in the benefits of local partnership can be misplaced
The numerous challenges facing new market entrants have limited the preferred route of many international luxury brands and forced the alternative of either a joint venture with a passive or active partner or, as in most cases to date, a licensing or distribution agreement. Such joint ventures and license agreements will face substantial challenges. At the heart of those challenges will be the misalignment of economic expectations between the local partner and the luxury brand as well as the lack of genuine brand experience of the majority of potential partners in India.

International luxury brands may well view their entry into India as a long term strategy with a justification based more on brand building and the wallet of the international Indian, rather than expectations of meaningful returns from the local operation. However, large Indian retailers and local business promoters, who are striving to be the local partner to international luxury brands are arming themselves with inevitably optimistic sales projections and building substantial businesses out of nothing, with very significant license acquisition, real estate, fit-out, inventory, duties and salary costs, all of which are committed largely in advance. It is unlikely that most local partners or licensees in India will generate a positive return on their investment in the expected timeframe.

Whilst misjudging sales may not be directly meaningful for the brand owner, it can be hugely so for the local partner. The particular concern here is that the local partner might in turn attempt to improve its return by cutting costs where it can; more often than not this means marketing and brand development.

Zegna learnt this lesson the hard way. The company initially opened a licensed outlet at Mumbai’s then leading mall in 2000. In spite of the positioning and expectation at the time the store closed, not so much because of disappointing sales, but because of the adverse impact on the brand positioning due to a deterioration of the brand environment, which included a McDonald’s restaurant opening next door. The company has just reopened as a majority owned business in the Taj Hotel. Whilst Zegna’s near term earnings will be impacted by the cost of space at the Taj, they can control a long term brand building strategy based on appropriate pricing and control of their environment rather than be driven by the shorter term economic requirements of a local partner.

The long term opportunity for luxury brands in India is substantial. However the near term risk of potentially dysfunctional, brand-eroding partnerships and license agreements will compromise more than just near term financial returns. The lesson of Zegna, as for others, is to commit fully both in management time and money to build for the long term and accept that there is no short cut or low cost way to build a high value luxury brand in India. The alternative would be to spend a fraction of the money that it would cost to establish a retail infrastructure in India on an advertising campaign that builds brand awareness amongst a sophisticated and increasingly affluent and cosmopolitan Indian population. With the number of distribution and licensing partnerships which have been announced over the last couple of years, it seems that the majority of international luxury brands are taking a middle ground approach which many might regret.

Luxury Brands and the Internet – From Laggards to Leaders?
Internet sales of luxury products are booming and brands are joining in

Sales of luxury products on the internet are booming. Forrester Research estimated global internet sales of luxury goods to be $3.2 billion in 2005, a 28% increase on 2004.

Pioneers such as multiple brand retailers Neiman Marcus and Nordstrom as well as specialist sites Net-à-Porter, which posted a 75% sales increase in 2006, and eLUXURY.com have paved the way for luxury brands. Over the last couple of years, leading brands such as Louis Vuitton, Hermès, Dior, Gucci, DeBeers and Bottega Veneta have rolled out dedicated transactional websites. Louis Vuitton, based on the success of its online boutique on eLUXURY.com in the USA, opened a transactional website in France in autumn 2005. Dior’s site, launched initially in France in autumn 2005 and now transactional in the UK, Italy, Spain and Germany, already achieves sales comparable to one of its largest boutiques. Hermès’s US site, opened in 2002, is the second largest sales channel for the brand’s silk ties in the USA.

The question is why now and why did it take the luxury sector so long?

A better understanding of the internet audience

Luxury brands were initially reluctant to establish a web presence principally owing to concerns that such widespread distribution, be it in the form of a purely informational site or transactional site, would dilute the brand’s image by making it accessible to a too wide or inappropriate audience. This perception was reinforced by the proliferation of “bargain” websites, such as Lastminute.com and eBay. The internet appeared to be the destination of choice for the ultimate bargain experience, rather than the ultimate shopping experience luxury brands strived to convey.

That negative perception was shattered when luxury goods bosses realised how much business Neiman Marcus, Bergdorf Goodman and Saks were doing online, and saw the success of Net-à-Porter. Recent surveys also help paint a different picture. New York- based Luxury Institute found that 96% of Americans with annual incomes of $150,000+ buy products and services online, and that 99% use the internet to research before they buy. These findings were reflected in a similar study conducted in France, which also found that people in lower income brackets were less likely to buy products online.

Cannibalisation of sales or access to new markets and customers?

Another reason cited for eschewing the internet as a channel of distribution was the fear it would cannibalise sales of luxury brands’ own stores or those of their distribution partners.

The success of transactional luxury websites in the USA has shed a new light on this matter. The internet has enabled luxury brands to cost-effectively reach target audiences in markets unable to support a bricks and mortar retail presence. Information gathered from web sales has also enabled companies to identify regions/states, such as North Carolina, with sufficient demand for luxury products to justify investing in a store. Fur- thermore, customers in luxury goods’ primary markets that are either cash rich/time poor or too intimidated by the exclusive boutique environment are ideally suited to the internet. Nordstrom’s website has emerged as the chain’s “biggest door”, generating $530 million in sales in 2006 and forecast to reach $1 billion within three to five years. The company claims that multi-channel customers shop four times more than the customer who shops one channel, justifying its heavy investment in its website as a complement to its bricks and mortar business.

Missing out on the brand experience?
Having invested heavily in the development of monumental flagships in the 1990’s, luxury brands found initially that the technology behind the internet was insufficient to translate the brand experience from the store to the web.

The advent of broadband, along with flash graphics and audio-visual capability, liberated
the creative potential of the internet, allowing brands to present their collections in an appropriate setting. Better resolution and the possibility to zoom in on product features, examine them from different angles and, in the case of apparel, on different body shapes also facilitated and enhanced the shopping experience. Websites are now working hard to create a special environment, add editorial content and improve customer service.
Bergdorfgoodman.com not only shows the latest Theory collection but has a ”Ways to Wear Theory” page showing how different pieces can be combined into outfits. Neiman-marcus.com has gone one step further, partnering up with In Style magazine to create an “Instant Style” section in which shoppers can put together ensembles. Net-à-Porter’s homepage and its “what’s new” and “magazine” pages read like a high quality fashion glossy.

The WEB2.0 generation: tomorrow’s customer, today’s challenge

The next generation of luxury goods consumers has been brought up on a diet of social networking sites (SNS), such as MySpace and Facebook, blogging and interactive new media sites, such as YouTube and Joost. This generation presents both a challenge and an opportunity for luxury goods brands.

The challenge is to reach this audience, which has largely turned its back on traditional media. The signs are already there in the current generation of luxury consumers. The Luxury Institute found that, whilst 73% of wealthy Americans said that internet presence improved their perception of a company and 30% of those surveyed found ads on internet search engine sites to be an effective marketing technique, only 10% found ads in traditional media effective. Some brands are beginning to pick up on this trend. Fendi launched a “buzz” campaign in Japan to launch its B Mix leather accessories, Armani broadcast its Paris show on MSN online with video excerpts sent to Cingular phones, and Dior launched four pieces of its latest jewellery collection on the virtual digital world of Second Life. Sources in the advertising industry estimate luxury brands will spend c.8% of their communications budget on the web in the near term. This figure is likely to increase as the new media universe matures. The emergence of dedicated new media channels, such as luxe.tv and fashion.tv, will not only allow luxury brands to access their target audiences effectively but also in a more controlled environment than generalist sites.

The opportunity for luxury brands lies in using the web’s SNS features to foster a community spirit around them. A platform where customers and fans of the brand are able to communicate not only with the brand but amongst themselves (in an appropriate, monitored environment) will increase their sense of ownership in the brand and their loyalty. Additionally, by encouraging feedback from customers in this manner, luxury brands will be able to gain valuable insight into perceptions of the brand, its products and services.

Whilst luxury brands’ initial reticence towards the internet has been overcome and significant steps have been taken by some in the right direction, the potential of the internet has yet to be fully realised. The rewards are likely to be significant for those who stay ahead of the game.

Savigny Luxury Index vs. FTSE ALL World

During the first half of the year the Savigny Luxury Index (SLI) continued its strong progression started a year ago, increasing by 12.7% and outperform ing the FTSE All World Index by more than 6 percentage points. Year-on-year the SLI has risen by approximately 40%, or about double the increase of the FTSE All World! However this sterling performance masks some recent uneasiness, which came through in the last couple of months.

The sector had a bull run, but valuation multiples are holding up
No question, it is fair to talk about a bull run on luxury goods stocks since the middle of last year, which actually coincided with the lowest point of the year for equity markets globally. At first glance, this may raise doubts as to inflated valuation in the sector. We recently raised som e concerns about Japan being flat and the worrying effects of currency fluctuation, namely the continued drift of the dollar. A closer look at valuation multiples since our first newsletter show that these have in fact remained relatively stable, reflecting the solid financial performance of key luxury goods companies. We do not see cause for alarm, and believe that stock market values in the sector will hold up.

The music stopped mid-April
Taking aside the China-induced drop which took place in June (caused by a tripling of stamp duties on share transactions) and the subsequent partial recovery, the values of luxury goods stocks have remained relatively flat since mid-April. This contrasts with the steady growth in the FTSE All World Index (also affected in June but to a lesser extent), which clawed back approximately 4 percentage points in the growth differential with the SLI since the beginning of May.

The table below compares today’s valuation multiples of the stocks composing the SLI, with those computed for our first newsletter (Richemont multiples are restated in order to focus on its core luxury component). Multiples have remained substantially unchanged, in spite of the 13% increase in the SLI.

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Pioneers such as multiple brand retailers Neiman Marcus and Nordstrom as well as specialist sites Net-à-Porter, which posted a 75% sales increase in 2006, and eLUXURY.com have paved the way for luxury brands. Over the last couple of years, leading brands such as Louis Vuitton, Hermès, Dior, Gucci, DeBeers and Bottega Veneta have rolled out dedicated transactional websites. Louis Vuitton, based on the success of its online boutique on eLUXURY.com in the USA, opened a transactional website in France in autumn 2005. Dior’s site, launched initially in France in autumn 2005 and now transactional in the UK, Italy, Spain and Germany, already achieves sales comparable to one of its largest boutiques. Hermès’s US site, opened in 2002, is the second largest sales channel for the brand’s silk ties in the USA.
The question is why now and why did it take the luxury sector so long?

A better understanding of the internet audience
Luxury brands were initially reluctant to establish a web presence principally owing to concerns that such widespread distribution, be it in the form of a purely informational site or transactional site, would dilute the brand’s image by making it accessible to a too wide or inappropriate audience. This perception was reinforced by the proliferation of “bargain” websites, such as Lastminute.com and eBay. The internet appeared to be the destination of choice for the ultimate bargain experience, rather than the ultimate shopping experience luxury brands strived to convey.

That negative perception was shattered when luxury goods bosses realised how much business Neiman Marcus, Bergdorf Goodman and Saks were doing online, and saw the success of Net-à-Porter. Recent surveys also help paint a different picture. New Yorkbased Luxury Institute found that 96% of Americans with annual incomes of $150,000+ buy products and services online, and that 99% use the internet to research before they buy. These findings were reflected in a similar study conducted in France, which also found that people in lower income brackets were less likely to buy products online.

Cannibalisation of sales or access to new markets and customers?
Another reason cited for eschewing the internet as a channel of distribution was the fear it would cannibalise sales of luxury brands’ own stores or those of their distribution partners.

The success of transactional luxury websites in the USA has shed a new light on this matter. The internet has enabled luxury brands to cost-effectively reach target audiences in markets unable to support a bricks and mortar retail presence. Information gathered from web sales has also enabled companies to identify regions/states, such as North Carolina, with sufficient demand for luxury products to justify investing in a store. Furthermore, customers in luxury goods’ primary markets that are either cash rich/time poor or too intimidated by the exclusive boutique environment are ideally suited to the internet. Nordstrom’s website has emerged as the chain’s “biggest door”, generating $530 million in sales in 2006 and forecast to reach $1 billion within three to five years. The company claims that multi-channel customers shop four times more than the customer who shops one channel, justifying its heavy investment in its website as a complement to its bricks and mortar business.

Missing out on the brand experience?
Having invested heavily in the development of monumental flagships in the 1990’s, luxury brands found initially that the technology behind the internet was insufficient to translate the brand experience from the store to the web.

The advent of broadband, along with flash graphics and audio-visual capability, liberated the creative potential of the internet, allowing brands to present their collections in an appropriate setting. Better resolution and the possibility to zoom in on product features, examine them from different angles and, in the case of apparel, on different body shapes also facilitated and enhanced the shopping experience. Websites are now working hard to create a special environment, add editorial content and improve customer service.

Bergdorfgoodman.com not only shows the latest Theory collection but has a ”Ways to Wear Theory” page showing how different pieces can be combined into outfits. Neimanmarcus.com has gone one step further, partnering up with In Style magazine to create an “Instant Style” section in which shoppers can put together ensembles. Net-à-Porter’s homepage and its “what’s new” and “magazine” pages read like a high quality fashion glossy.

The Web 2.0 generation: tomorrow’s customer, today’s challenge
The next generation of luxury goods consumers has been brought up on a diet of social networking sites (SNS), such as MySpace and Facebook, blogging and interactive new media sites, such as YouTube and Joost. This generation presents both a challenge and an opportunity for luxury goods brands.

The challenge is to reach this audience, which has largely turned its back on traditional media. The signs are already there in the current generation of luxury consumers. The Luxury Institute found that, whilst 73% of wealthy Americans said that internet presence improved their perception of a company and 30% of those surveyed found ads on internet search engine sites to be an effective marketing technique, only 10% found ads in traditional media effective. Some brands are beginning to pick up on this trend. Fendi launched a “buzz” campaign in Japan to launch its B Mix leather accessories, Armani broadcast its Paris show on MSN online with video excerpts sent to Cingular phones, and Dior launched four pieces of its latest jewellery collection on the virtual digital world of Second Life. Sources in the advertising industry estimate luxury brands will spend c.8% of their communications budget on the web in the near term. This figure is likely to increase as the new media universe matures. The emergence of dedicated new media channels, such as luxe.tv and fashion.tv, will not only allow luxury brands to access their target audiences effectively but also in a more controlled environment than generalist sites.

The opportunity for luxury brands lies in using the web’s SNS features to foster a community spirit around them. A platform where customers and fans of the brand are able to communicate not only with the brand but amongst themselves (in an appropriate, monitored environment) will increase their sense of ownership in the brand and their loyalty. Additionally, by encouraging feedback from customers in this manner, luxury brands will be able to gain valuable insight into perceptions of the brand, its products and services.

Whilst luxury brands’ initial reticence towards the internet has been overcome and significant steps have been taken by some in the right direction, the potential of the internet has yet to be fully realised. The rewards are likely to be significant for those who stay ahead of the game.

Gold rush or long term investment?
From the press commentary and the increasing frequency of launch parties in Mumbai and Delhi, it would seem that India cannot get enough of luxury brands. Latest to stake its interest, Hermès has just announced it established a joint venture company to open stores in India, with a first unit expected in New Delhi. Many analysts indeed view India as the next untapped big market opportunity after Russia and China.

The India consumer growth story is well established: forecast GDP growth of 8% p.a. for the next ten years, with projected growth rates in the “sheer rich” to “super rich” category (annual income above $100,000) set to average at 25% p.a. over the next five years to over 500,000 households. The organised retail market is set to explode, from less than 5% of the current estimated $12 billion value of total retail spending to an estimated $25 billion in five years according to some surveys, driven by an unprecedented construction boom for in-town and out-of-town malls led by India’s most successful industrial groups including Reliance Industries, Bharti, Tata Group, ITC and Birla. Amongst many projections, Deutsche Bank estimates that, over the next three years, 600 new shopping centres will be developed in India.

Our concern is that much of the hype about organised retail sales growth is based on a number of self-reinforcing “chicken and egg” assumptions, and that the reality will be somewhat less than anticipated. Retailers often cite the rate of mall construction to support their total sales projections, and developers cite the projections of retailers to justify the investment being made in mall construction. A simple walk around Mumbai’s leading modern format mall, called Inorbit, suggests that the supply of sophisticated retail facilities does not automatically translate into product demand and strong retail sales (with the exception of the food court, which is packed). This is all the more telling as Inorbit continues to enjoy ‘novelty’ appeal and no meaningful competition.

The implications of similar assumptions being made in the luxury end of the market are potentially far more serious. Projections of growth in disposable incomes and the absolute number of ‘super-rich’ appear to have facilitated a simplistic approach to corporate decision making. When it comes to market entry decisions being taken by some luxury brands, it seems to be more ‘Field of Dreams’ (if you build it they will come), than decisions based on a clear understanding of the nature and challenges of the market.

Barriers to entry remain
A restrictive regulatory environment, the cost and availability of appropriate infrastructure, the lack of brand awareness and the very limited media outlets for marketing make establishing a successful luxury brand business model in India considerably more challenging than might first appear. Added to this, the potentially underestimated price consciousness of an emerging consumer class brings into question the widely held assumption that India is about to embark on a branded luxury goods spending spree from Armani to Zegna and a little bit of La Perla and Mont Blanc in between.

India remains a largely protected market with respect to foreign entrants, partly in order to afford Indian businesses time to establish a competitive platform before the market is opened to global powerhouses. Multi-brand retailers have to operate through franchisees and license agreements whilst mono-brand retailers can own up to 51% of their businesses in India.

Aggregate duties on imported luxury products are prohibitive: up to 35% on apparel, 45% on accessories, 60% on watches, shoes and perfume, all augmented by interstate duties (in some cases 8%) and VAT of 12.5%. Given that the wealthy Indian elite targeted at present by luxury brands is likely to be well travelled, the incentive to buy locally is not only diminished by the significant price premium but, arguably, also by the diminished cachet of buying a $3,000 bag at the local mall instead of, say, Bond Street.

Last but not least, the infrastructure necessary to support a commercially viable luxury brand development strategy in India is largely lacking. In spite of isolated examples of investment such as DLF’s Emporio in Delhi, the reality is that there is no retail infrastructure in India that can be compared to developments in other fast emerging markets in Asia, the Middle East or Russia, let alone Europe and the US. With the possible exception of LVMH which has the critical mass to drive a largely independent positional strategy should it wish, most luxury brands are opting for India’s premier hotels as a location solution out of necessity rather than choice. The problem with this is two-fold: firstly, the mostly international business clientele of those hotels does little to enhance sales to wealthy locals and, secondly, the cost of such retail space is usually prohibitive, both in absolute terms and as a percentage of sales.

The belief in the benefits of local partnership can be misplaced
The numerous challenges facing new market entrants have limited the preferred route of many international luxury brands and forced the alternative of either a joint venture with a passive or active partner or, as in most cases to date, a licensing or distribution agreement. Such joint ventures and license agreements will face substantial challenges. At the heart of those challenges will be the misalignment of economic expectations between the local partner and the luxury brand as well as the lack of genuine brand experience of the majority of potential partners in India.

International luxury brands may well view their entry into India as a long term strategy with a justification based more on brand building and the wallet of the international Indian, rather than expectations of meaningful returns from the local operation. However, large Indian retailers and local business promoters, who are striving to be the local partner to international luxury brands are arming themselves with inevitably optimistic sales projections and building substantial businesses out of nothing, with very significant license acquisition, real estate, fit-out, inventory, duties and salary costs, all of which are committed largely in advance. It is unlikely that most local partners or licensees in India will generate a positive return on their investment in the expected timeframe.

Whilst misjudging sales may not be directly meaningful for the brand owner, it can be hugely so for the local partner. The particular concern here is that the local partner might in turn attempt to improve its return by cutting costs where it can; more often than not this means marketing and brand development.

Zegna learnt this lesson the hard way. The company initially opened a licensed outlet at Mumbai’s then leading mall in 2000. In spite of the positioning and expectation at the time the store closed, not so much because of disappointing sales, but because of the adverse impact on the brand positioning due to a deterioration of the brand environment, which included a McDonald’s restaurant opening next door. The company has just reopened as a majority owned business in the Taj Hotel. Whilst Zegna’s near term earnings will be impacted by the cost of space at the Taj, they can control a long term brand building strategy based on appropriate pricing and control of their environment rather than be driven by the shorter term economic requirements of a local partner.

The long term opportunity for luxury brands in India is substantial. However the near term risk of potentially dysfunctional, brand-eroding partnerships and license agreements will compromise more than just near term financial returns. The lesson of Zegna, as for others, is to commit fully both in management time and money to build for the long term and accept that there is no short cut or low cost way to build a high value luxury brand in India. The alternative would be to spend a fraction of the money that it would cost to establish a retail infrastructure in India on an advertising campaign that builds brand awareness amongst a sophisticated and increasingly affluent and cosmopolitan Indian population. With the number of distribution and licensing partnerships which have been announced over the last couple of years, it seems that the majority of international luxury brands are taking a middle ground approach which many might regret.

Welcome to the third stage of fashion’s romance with celebrity and entertainment.

Designers hiring celebrities as their faces in ad campaigns and on the red carpet was phase one, followed by the celebrity-as-designer (a phenomenon that shows no signs of abating — pick a star and she’s bound to be talking of launching her own fashion collection because, of course, every woman wants to dress like her).

But, observers say, it’s now a new world and entertainment bigwigs are emerging as brand owners, backed by powerful investment funds.

Recent transactions include Harvey Weinstein’s acquisition of Halston, backed by Hilco Consumer Capital, and “American Idol” and “Pop Idol” mogul Simon Fuller’s partnership with Roland Mouret, who plans to unveil his new RM collection during couture week in Paris in July, as well as his deal with Victoria Beckham to launch her own fashion line, DVB.

And a host of other Hollywood-fashion deals are brewing, according to sources, suggesting there’s no business like showroom business.

“Entertainment plays a more critical role in driving brand awareness than ever before,” said David Baram, president of Beverly Hills talent management company The Firm. Previously, Baram served as chief executive officer of Pony after The Firm became one of the first entertainment players to acquire a fashion brand in 2001, flipping Pony less than two years later.

“We took it from zero to $50 million and it became a situation where the company started to grow faster than our infrastructure allowed, so we sold it,” he said in an interview.

Baram is also managing director at VMG Equity Partners, a private equity fund looking to make acquisitions in consumer-product companies. “We are looking at some fashion companies right now,” he said, declining to name them.

Separately, sources indicate a “major celebrity manager” is corralling investors to relaunch several historic fashion brands, similar to what Weinstein plans to do with Halston.

Observers said they’re not surprised Hollywood has deemed fashion ready for its close- up.

“They certainly have an advantage in terms of getting exposure, and we all know the right celebrities help sell fashion. Managed correctly, [fashion] can be a very profitable and successful business. There’s also a certain allure and sexiness to buying fashion that you’re not going to get from buying a cement company,” said Robert Burke of Robert Burke Associates, a luxury consultancy in New York. “It’s a very good sign they’re buying brands. It can help revitalize fashion,” noted Concetta Lanciaux, a luxury and fashion consultant in Paris. “Someone who brings a cinematic eye on a fashion brand — it can be very strong.”

Diesel is a brand that already combines fashion and entertainment elements, and “Tom Ford, I think, has that cinematic eye,” Lanciaux said.

But observers from the worlds of corporate finance, recruitment and luxury goods cautioned that the fashion business is tricky for outsiders to master, and movie moguls — weaned on the short-term buzz of film premieres — are hardly guaranteed long-term success on the selling floor. However, executives applauded the arrival of entertainment figures as a positive development since they hold the promise of invigorating the retail experience and innovating with brand management.

Eric M. Beder, senior vice president of Brean, Murray, Carret & Co., a New York-based investment banking firm, said closer ties between the two industries are inevitable.

“The entertainment and fashion businesses are very similar in that you assemble talent, create product and put it out there,” Beder said. “But a fashion company is probably lower risk than a movie since it has more longevity.”
“I have always believed that the process of managing an artist and a brand are similar,” agreed David Schulte, president and chief executive officer of eyewear firm Oliver Peoples Inc., who was previously with The Firm. “The barriers between the two businesses have been broken down. The world is now about the lifestyle of the consumer: what he or she wears, consumes, listens to, travels to, etc.”

Baram, who manages the likes of singer-actress Mandy Moore and her apparel company, Mblem, said, “We are essentially a marketing branding company working with artists. A lot of those skills can be brought to the table in any business.”

Since the arrival of entertainment figures as executives and brand stewards is still a recent phenomenon, experts could draw on few case studies.

Probably the most famous example was Arnon Milchan’s 1996 acquisition of a stake in Puma AG. Milchan, owner of the production and distribution firm Regency Enterprises, made such films as “L.A. Confidential,” “JFK” and “Pretty Woman.” Last year, Milchan resigned from Puma’s supervisory board after seeing the German activewear giant enjoy a strong growth phase. (French retail and luxury giant PPR recently launched a friendly takeover offer for all of Puma, which would cost it a total of $7.17 billion.)

There are plenty of examples, however, of celebrities out to build and nurture their own brands. Jay-Z sold his Rocawear venture to Iconix Brand Group Inc. in March for $204 million in cash and another $35 million in payments of Iconix shares depending on performance over the next three to five years. In addition, Iconix tapped the music star to be in charge of a new brand management and licensing company that will make further acquisitions.

Mary-Kate and Ashley Olsen, meanwhile, seem determined to expand their fashion empire to reach from Wal-Mart to Bergdorf Goodman and Barneys New York. The acting duo is launching a contemporary line for fall called Elizabeth and James, which will join the mary-kateandashley collection sold at Wal-Mart under a license with Dualstar and the Olsens’ high-end collection, called The Row, which the twins fund themselves. Elizabeth and James is being made under license by L’Koral Industries.
Fashion executives recruited from the entertainment world are relatively few, the most recent being Benetton’s new chief executive officer, Gerolamo Caccia Dominioni, who will join the apparel giant in June from Warner Music International with a mission to put Benetton back in touch with young consumers. But the tenure of another such recruit — Paul Pressler, who was hired from Walt Disney Co. to run Gap Inc. — showed the difficulties of translating management skills from the entertainment to the fashion and retail worlds.

Still, observers suggested entertainment types could offer plenty to the fashion business.

“The fashion industry embraced marketing a while ago and is recruiting good marketers from fast-moving consumer goods, entertainment and elsewhere,” said Pierre Mallevays, founder and managing partner of Savigny Partners, a luxury goods advisory and mergers and acquisitions firm in London. “Entertainment people who are investing in fashion do it with their investment-business hat on, and it definitely helps if they have leverage over the media to increase the visibility of the brand.

“Fashion lends itself extremely well to licensing, and the entertainment industry has been making licensing deals for a number of years,” he added. “That’s a key aspect of the industry.”

Lanciaux argued entertainment specialists “know how to create value by creating new concepts, new ideas. Basically, it’s an industry of intangibles. In the film industry, you don’t make money rationally. You make money by creating something completely out of the blue that inspires consumers.”

Floriane de Saint Pierre, who runs an executive search and consulting firm in Paris, noted that entertainment executives are accustomed to “thinking big” and have valuable experience dealing with creative people with large egos — not unlike many top fashion designers. Also, their approach is one “extremely focused on the final consumer” rather than design expression, which is typically less risky. “It will be more about branding and marketing rather than research and creativity,” de Saint Pierre said. “It will inject a lot of cash in the industry.”

Lanciaux said entertainment experts could contribute greatly to animating the retail experience. As more and more products are being purchased online, brick-and-mortar shopping must become less functional and more engaging and emotional, she said. A simple example is Harrods, which has employed an Italian opera singer in its food halls to attract customers to its restaurants and food services, she noted. On a grander scale are hotel developments, like Frank Gehry’s new Marqués de Riscal in Spain’s wine region, where architecture and art elements “offer another experience.”

“That’s going to happen more and more,” Lanciaux said. “The online revolution, it’s only beginning, and so why would we want to buy something in a boring store if you can buy it online?”

And, as entertainment moves deeper into fashion, designers are delving more into the entertainment world. Dolce & Gabbana recently said it would launch a new store concept next year with devoted space for musical events. Although details are scarce, it’s an example of how designer brands are seeking to animate the store experience. Louis Vuitton, for instance, packed its Paris flagship with art attractions, including a giant video wall abutting the main elevator for rotating exhibitions and a blackout elevator by Danish artist Olafur Eliasson. Many Hermès stores worldwide also have art galleries attached.

Oliver People’s Schulte said the “element of lifestyle and crossover appeal has attracted entertainment executives to fashion.” However, the odds of success still rest on strong management and a vital brand.

“With Puma, Arnon [Milchan] was lucky to have an amazing ceo like Jochen Zeitz, who has a 1 0-year vision for where he wanted to take the brand, and they put the right resources behind this vision to succeed,” he said. “I have to remind entertainment executives sometimes that on the surface it may have seemed like it was getting the sneakers in movies or on celebrities, and, by the way, this helped, but the human and financial capital Arnon put behind Puma is what made it go.”

Schulte also noted management must have a solid plan for ramping up a brand, as The Firm did when it bought Pony, a brand that resonated with certain consumers from the Eighties.

Weinstein and Fuller have yet to fully detail the strategies for their respective brands, but both men have spoken of breaking the fashion mold. “We want to innovate and challenge the norm,” Fuller said when he unveiled the formation of Mouret’s new fashion company, RM1 9, hinting at a variety of fashion-related projects.

For his part, Weinstein said at the time of the Halston deal that he was inspired by Milchan’s success, and “in Halston, we found that brand that relates to the kind of movies that we make.” He tapped Tamara Mellon, founder and president of Jimmy Choo, to assist with Halston’s creative direction and brand structure.

Observers agreed brands like Halston give movie moguls plenty of cachet upon which to build. But important caveats include recognizing there are few quick fixes in fashion, nor overnight successes.

“There’s certainly a learning curve to this industry. It’s a business that is hard to quantify,” noted the consultant Burke. “It can’t be approached like the entertainment industry because it’s not.”

Echoing other observers, de Saint Pierre also noted that entertainment managers are accustomed to working on a “project basis” based on film launches, whereas fashion requires commitment “season after season. You have to be extremely disciplined.” She also noted that production issues are predominant and difficult for outsiders to grasp.
Beder said entertainment types could find the day-to-day operations of running a fashion business dull. “It’s tough to imagine that someone would want to spend five to seven years building a brand,” he said.

“I feel there’s a lack of understanding sometimes for the amount of capital it takes to successfully launch or turn around a fashion business, and that is where many of the newcomers will get seasick in the upcoming years,” said Schulte. “With that said, no one is better at image and mystique than a great entertainment executive….If the cultural vibe is right for more celebrities to promote brands, good executives will know how to leverage this.”

Most leading Europe-based luxury goods groups have reported Q1 sales growth well into double digits (Richemont and Burberry reported full-or half-year results due to different calendar years) . We think the outlook continues to be very positive, thanks to the “virtuous triple play” of a positive overall economic environment, the emergence of new markets and the ever increasing population of high net worth individuals.

However, as evidenced in the table below, an average of 5 points of growth has been eaten away by the effect of currency, namely the downward drift of the dollar and of the yen versus the euro.

With an average sales growth at constant currencies of some 14% for the companies under review, this represents a loss of more than a third of their growth!

The graphs overleaf plot the slide of the dollar and of the yen against the euro over the last 6 months. While the yen seems to have stabilised in the first quarter of 2007, the dollar continues to be on a worrying downward trend. This situation is reminiscent of 2003, when the sustained devaluation of the dollar and the yen since 2002 resulted in annual sales impacts into the double digits, notably 10% for LVMH and 13% for Luxottica. The major luxury goods groups have disclosed little on their currency hedging strategy but equity analysts will undoubtedly press management for details as they review their forecasts for the forthcoming year.

Finally, for those who have become fans of the Savigny Luxury Index, please note the SLI is up 14.8% over the period 1st January to 14th May. This compares to an increase of 4.7% in the FTSE All World Index over the same period.

Ditto for a host of other well-known and accomplished designers, said to be exploring the launch of their own houses, from ex-Chloé designer Phoebe Philo and Lars Nilsson in Europe to Patrick Robinson in the United States. Even the reclusive Jil Sander is said to be itching to get back into the business and is putting out feelers for financing.

But there are few financial entities targeting start-ups, and available money, while plentiful, typically comes with plenty of strings attached, observers said.

“There is no clearly defined investors’ universe for new designer brands,” said Pierre Mallevays, founder and managing partner of Savigny Partners, a luxury goods advisory and mergers and acquisitions firm in London. “Luxury conglomerates need to focus on their big brands, private equity funds want established businesses and most hedge funds want sizeable deals.”

What’s more, strong-willed designers are often very demanding about creative control and can be blasé about secondary lines, accessories and licensing – cash cows upon which many investors insist.

Observers said designers looking to launch a brand typically require a minimum initial investment of $5 million, with a second round of financing in 18 months to two years in the $10 million to $15 million range.

Designers accustomed to working in large organizations with budgets for advertising and lots of creature comforts may need to rein in expectations. Demands for heavily staffed design studios, cars, drivers and other perks are looked upon dimly by investors, who have their eyes firmly on the bottom line.

Slimane, who exited Dior Homme last month and was succeeded by Kris van Assche, had been in talks to renew his contract and launch a signature fashion house, backed by an investment by Dior believed to be in the neighborhood of $50 million.

According to sources, doing a signature brand is only one option Slimane is considering in his post-Dior career, but he is confident in finding ready partners. “Hedi is totally free today to go anywhere he wants,” said one source close to the designer. It is understood Slimane has already been approached by retailers interested in carrying exclusive designs by him, although no deals are imminent.

“They can’t have everything,” said Robert Burke of Robert Burke Associates, a luxury consulting firm in New York, of designers looking for deep-pocketed backers. “[Designers] can’t expect complete control of the company and they have to be open to going into other categories of business: fragrances, accessories and second lines. Doing a collection business alone is a long and slow process.”

Observers noted the outlook for upstart brands is not entirely grim, however.

Financing is plentiful and the market is hungry for brand names at a time when many of the giants of the industry – Giorgio Armani, Valentino, Ralph Lauren and Karl Lagerfeld among them – are over 65. What’s more, designers “have become the new socially acceptable celebrities, combining glamour and desirability with artistic value,” Mallevays noted. “A lot of investors want to bank on that.”

“It’s probably a better time today than in the past,” Burke agreed. “There’s more interest today from investors in this business than ever before. What we do is manage expectations. [Investors] are used to more stable cash flows than fashion businesses generate.”

Designers have a limited choice of dance partners and there are major trepidations about the likelihood of a quick return on their investments.

“There is investor interest, but people are careful because they want a track record and critical mass,” said Richard Morgan, vice president, corporate finance, at BNP Paribas in Paris. “If they’re not doing $5 million to $10 million [at wholesale], it’s very difficult for investors [to be interested].”

“There tends to be very little interest in investing in these kind of start-ups,” agreed Abel Halpern, managing partner at HMD Partners Ltd. in London, which has investments in the likes of Sinn Leffers, the German premium women’s fashion chain, and previously led the successful turnaround of Escada AG, the German luxury fashion label. “Investing in companies that are start-ups already has a high degree of risk, regardless of the business you are investing in. You don’t see that many fashion start-ups that are given $50 million or even $25 million.”

Fashion designers must also compete for dollars from more attractive sectors, Halpern stressed. For example, venture capital often gravitates to sectors with technological elements, such as life sciences, information technology, or semiconductors, where a core technology suggests an “objective” predictor of success. Alternatively, start-up investors often like nontechnological businesses with well-defined, scalable operating concepts, such as restaurants or other value-added services, that seek to “roll out” a proven business model. “Investors all look at risk-adjusted rates of return on any investment,” he explained. And the fashion sector “in general, has not figured out how to create compelling economics, adjusted for the extreme risk, for a new enterprise investor.”

Xavier Mayer, executive director of Morgan Stanley’s investment banking division, said leather goods remains the most favored subsector of the industry because of the healthy margins it can offer to investors. Apparel, by contrast, is considered far more risky because of intense competition, fickle customers, capricious fashion trends and products that can go stale easily.

“Let’s not forget: Investors invest to make money,” he said.
One executive from an investment fund, who requested anonymity, noted that “even people with established businesses are having trouble finding money. There’s no such thing as a sure bet.”

According to market sources, Proenza Schouler, Narciso Rodriguez and Hussein Chalayan are among well-known designers who have been seeking additional financing to grow their businesses.

Mayer highlighted the need for strong execution in the fashion business. No matter how famous or talented a designer may be, if the products are shoddily made, delivered late and poorly distributed, he or she won’t get far. “Having a good product is clearly not enough; the execution makes the real difference,” he said. “To start a business, there’s so many things that can go wrong. The name doesn’t drive you alone. The product and the execution have to be flawless.”

Apparel-based businesses are also capital-intensive and offer a brief window of opportunity to break through. “Investors get nervous [about] a business model that relies on full-price sales of your first, second and third collections,” Halpern noted.
That said, investors often presume that accessories and other easily licensed categories are the answer for making apparel-based businesses immediately more profitable, he continued. The logic is that products like handbags generate higher productivity per square foot and are less seasonal and perishable than clothes.

However, the success of handbags is intricately tied to brand awareness, prestige and signature hardware that only established and large-scale designers enjoy. “If you are a weak brand, you can’t do a fragrance [either],” he said. “How many new brands have developed a signature handbag in the last decade? Not that many.” “Building a brand takes a huge amount of time, especially when the competition is stiff,” Mayer said. “You’re constrained to have a limited marketing profile, unless you have a name like Tom Ford.”
Observers agreed that wealthy individuals, or midsize manufacturing-based conglomerates, are the most likely candidates to consider getting behind new designer brands.

“I would guess that the total amount invested by private equity and hedge funds in private fashion companies – whether start-ups or established players – is so small that it would not even register as a percentage of the total,” Halpern said.

BNP Paribas’ Morgan noted Diesel and Gibò, both Italian companies, have shown some interest in young brands with their investments in Martin Margiela and Viktor & Rolf, respectively. Other midsize manufacturers with designer brands in their stable include Marchpole (Jean-Charles de Castelbajac), Onward Kashiyama (Joseph) and Redwall Group (Alessandro Dell’Acqua), he added.

Echoing other observers, Carine Ohana, partner in Ohana & Co., a boutique mergers and acquisitions firm in Paris, said individuals or small-scale groups are probably the best hope for start-up brands. Small designer companies are typically “inefficient for the structure” of large conglomerates, difficult to integrate and possess a different culture, hierarchy and discipline, she said.

Ohana noted that historically, some “industrial groups” have had trouble integrating smaller designer brands, including Chanel, which shuttered Isaac Mizrahi in 1 998, and LVMH, which sold Christian Lacroix in 2005 to Falic Group.

Still, “backers that have industry knowledge are better,” she stressed.
Mallevays agreed: “A designer’s main line needs to grow and be visible, but you can lose a lot of money if that segment of business is not under adult supervision.”

Noting the emergence of entertainment moguls as fashion investors – consider Harvey Weinstein’s recent equity stake in Halston – Burke predicted a new group of financiers geared to smaller and start-up brands is bound to emerge.

Burke noted that Ford’s approach to launching a signature brand in his post-Gucci career could be a model for others to follow. Ford forged licensing pacts with beauty giant the Estée Lauder Cos. for beauty and Italy’s Marcolin Group for eyewear, which generated brand awareness and royalties ahead of his apparel launch earlier this month with Ermenegildo Zegna. “Licensors are trying to pick the names for the next five years,” Burke noted. Most investors are looking to own at least 50 percent of a designer’s brand, as Gucci Group did in 2001 when it launched the Stella McCartney fashion house, which is slated to reach breakeven this year, aided partly by licensing pacts and partnership deals with the likes of Adidas, LeSportsac and Target Australia.

“Gucci [Group] has been very good at launching new designers, or relaunching old brands,” Ohana noted.

Burke said many young designers get fixated on having majority control. “For an investor, that’s not easy,” he said.

Most agreed a partnership is the best route, as many of fashion’s biggest success stories involve a striking rapport between a designer and a businessperson, with one of the earliest examples being Yves Saint Laurent and Pierre Bergé, who built a landmark French couture house.

“I don’t think an investor can afford for a designer not to be implicated,” Morgan stressed.
Mallevays cautioned that each brand has to be handled differently. “The most successful and durable partnerships are when brand and operating control are shared, not wholly ceded nor entirely kept by the designer,” he explained. “This is not the same as artistic control, which should remain firmly within the designer’s camp.”

Observers noted start-ups are done at higher risks and higher costs — with flagships and big marketing — or with less working capital by outsourcing production and doing purely wholesale distribution. “That’s how a lot of great businesses got started,” Halpern said, adding the latter strategy can take a long time.
In Halpern’s estimation, it is probably harder for designers to find backers today than in the Eighties or Nineties, despite a market flush with investment capital.

“The market is bigger, but on the other hand, it’s far more competitive, and the large luxury conglomerates exert more powerful control over distribution,” Halpern noted. “It’s harder to get noticed.”

But the promise of finding the next Bottega Veneta, Dolce & Gabbana or Jimmy Choo is what fuels speculative plays, where the odds of success are low, but the payoff can be massive.

“It’s a little bit like backing a rock star,” Halpern said. “If they’re big, they can get really big.” Mayer noted that he recently spent some time in Brazil and was struck by the number of promising talents in that market. “I would not exclude a top brand in the next 20 years could be a Brazilian brand. Or it could be that the next Giorgio Armani is a Chinese brand,” he said. “Don’t forget, when Bill Gates launched his business, it was so new and innovative that only very few people thought it could work.”

Too intimidated to walk into a Place Vendôme jeweler? No worries: Log on to Secondlife.com, pretend you’re a bee and fly around 3-D computer renderings of Dior’s latest precious baubles.

Initially wary of the cyber world, European designers and luxury goods firms are suddenly buzzing about new media and communication technologies, unveiling six- figure gems online, dispatching fashion shows to cell phones and iPods, and expanding e-commerce to more product lines and regions, from the U.S. to Japan.

To be sure, many brands are still tiptoeing into the fast-moving field, investments remain small and some have yet to come to grips with the dizzying pace of change. But believers contend the high-tech world offers crucial new channels to communicate with current and future customers, enrich their brand experience – and capture impressive sales.

“For us, it’s like electricity, trains, cars, planes were for other generations: It hadn’t existed before,” said Karl Lagerfeld, who last year did a live podcast of his signature fashion show from New York. “The world has changed: For some audiences, it will soon be the only way to reach them….Fashion has to be seen.”

“It is the future and it will continue to grow,” echoed Mark Lee, chief executive officer of Gucci, which saw its online sales rocket 65 percent last year, making e-commerce one of the Italian brand’s fastest-growing channels. “I think it’s really just complementary.”

Gucci has also done a live Web cast of its cruise collection, and offered a podcast of a store opening in Tokyo, underlining the role of new technology for brand communication.

“It’s very valid,” said Sidney Toledano, president and ceo of Christian Dior, which broadcast its “Madame Butterfly”-theme couture show last month to an audience in Japan. “It’s about communicating with the customer in new ways.”

Regarding the fine jewelry preview, editors who didn’t log on to Secondlife.com were recently dispatched a DVD containing a film and downloadable images of the online “Belladone Island” — although the disc’s contents were programmed to self-destruct within 24 hours. “I love the fact that this presentation is open to anyone who wants to come and see it. There are three million people on Secondlife.com. You can fly, meet people, sunbathe on a huge rock,” Victoire de Castellane, Dior’s fine jewelry designer, enthused about her online teaser. (The real stuff will be unveiled in Paris next week.)

“It is a necessity for luxury brands to exist within a contemporary context, no matter how accessible, as long as you can deliver real quality,” added de Castellane.
Toledano noted Dior intended to ramp up its use of technologies, especially given the advent of handheld devices.

Lagerfeld said the Internet had become the first point of reference for fashion, rather than written critiques in conventional print media accompanied by few visuals. “People want to make their own opinion by seeing a lot — all, if possible — and in the minute,” he said. “We are 100 percent in tune with all the new media and ways of communication. If you aren’t, you will be dead soon…and in a way it’s not fun NOT to be involved with the use of recent, the most recent, inventions. I love all that!”

In the early days of the Internet boom, luxury brands feared online selling would undermine the exclusivity of a dedicated brand environment, promote the “gray market,” antagonize wholesale clients and generate few profits, said Pierre Mallevays, founder and managing partner of Savigny Partners, a luxury goods advisory and mergers and acquisitions firm in London. “All those fears are pretty much dissipated by now,” he said. “The Internet channel is effectively turning into the best or one of the best stores in each local market.”

What’s more, “having a Web presence and strategy has made luxury goods brands more sensitive and more open to viral marketing and actually opened a whole new way of communicating with customers and potential customers,” Mallevays said.

For example, in November, Fendi tapped into popular online social networking sites in Japan to build hype for a launch in Tokyo for its B. Mix leather goods.

Certain brands are delving deeply into technological devices. Prada recently teamed up with LG Electronics of South Korea to launch a signature phone with an advanced touch screen. The fashion house collaborated on every aspect, from software and graphic interface to the design and packaging. Prada is also venturing further onto the Internet. Besides an interactive site for its perfumes, the brand introduced a new informational site — pradatheleadingskischools.com — that is expected to start selling Prada skiwear this fall, a company spokesman said. He added the brand would sell special ready-to- wear and accessories related to its America’s Cup sailing bid at lunarossachallenge.com.

Observers agreed luxury brands had been late adopters of new media and communication technologies. Robert Triefus, Armani’s executive vice president of worldwide communications, credited informational sites like Style.com and multibrand online retailers like Net-a-porter, Neiman Marcus and Nordstrom for popularizing the Internet as a go-to resource for fashion information and shopping.

Today, “every magazine, every editor, every publisher realizes they have to have a live and interactive presence to complete the magazine.”

Ditto for fashion brands. That’s why Armani chose to broadcast his couture show online and on Cingular telephones. More than 1 .4 million people looked at slides of the January event, attended by the likes of Cate Blanchett and Katie Holmes.

“Now we all recognize that our daily habits include a significant amount of time online,” Triefus continued. Armani devotes about 3 to 5 percent of its media spending to new media, the lion’s share for search optimization and much of the balance to online advertising.

“But that is growing rapidly,” Triefus said. “In the next three years, you could see that going up to 10 to 15 percent,” especially to support brands with a big e-commerce piece.

Triefus disclosed that Emporio Armani, which has sold watches online since 2005, intended to expand its offering to include the whole lifestyle. Armani launched e- commerce for A| X Armani Exchange in 2000, and layered on Emporio Armani watches five years later, as well as its cosmetics the same year.

Armani’s online A| X store in the U.S. is its most productive unit in the world, representing between 7 and 10 percent of revenues for that brand, Triefus noted.
Alexander McQueen does not yet have his own online boutique, but has made Web- based marketing the chief vehicle for his second line, McQ, which is targeted at the 18 to 25 crowd.

He’s mulling mobile technology and podcasting, too. “We believe that it is the future of communication and may be the only way for McQ,” said McQueen ceo Jonathan Akeroyd. “We will keep developing our Web site, encouraging a community to grow and become more involved in what we do. It will become our most vital marketing tool.”

The designer recently plastered key cities with posters to drive traffic to the m-c- q.com Web site and a MySpace.com initiative in which the brand cast talent online to create the visuals.

“The advertising and Web activity create the opportunity to keep people interacting with the brand and ultimately become part of our online community,” Akeroyd said, noting the street posters had boosted online traffic tenfold.

Many European brands are ramping up online sales.

The Internet channel “is effectively turning into the best, or one of the best, stores in each local market for the luxury goods brands,” said Mallevays, adding he considered the Web “wide open” in terms of product categories.

Louis Vuitton, which already sells its products in France, the U.K. and Germany, plans to launch an online shop in Japan in April, and in the U.S. later this year. Recent bestsellers include its iconic Speedy and Alma handbags, along with small leather goods, a Vuitton spokeswoman said.

Gucci noted that online sales closely mirror what it sells in stores, notably leather goods and women’s footwear.

Toledano said Dior had already had success selling at the LVMH-owned Web site eluxury.com, and at its own site in a growing number of markets, most recently the U.K. and soon Spain and Germany.

“We’re approaching new customers,” he said, mentioning clients in secondary cities like Bordeaux in France. “I see a lot of development. I see my own daughter: She doesn’t buy from the store; she wants to buy from the Internet.”

Gucci has been selling its products, except rtw, online in the U.S. since 2002, and recently expanded to the U.K., France and Germany. Lee said he was considering expanding the service to other markets, and added, “It’s inevitable that at some point we will contemplate ready-to-wear. I don’t think there’s anything people won’t buy online. This is definitely a channel we believe in.” Gucci recently updated its Web sites to reflect its brighter, warmer packaging and updated store concept — and it quickly uploads fashion show videos and other features. “It should be a seamless brand experience,” Lee said.

Brands accustomed to exerting considerable control over their image — from the retouching and quality of print ads to their exact placement in magazines — are entering unfamiliar territory in the cyber world.

Executives agreed the new media posed numerous challenges, starting with developing creative, visual materials for unfamiliar formats like Web sites and handheld devices. “The challenge is to communicate the essence of your brand and to make the brand as exciting in the new media,” said Gucci’s Lee. “The biggest challenge in all of this is that it is so fast-moving.”

Lagerfeld noted the new media did change the need for outstanding creativity. “One has to make a show to have a good video, used for six months in the shops and on the Internet,” he said. “You cannot imitate a real diamond or a couture dress.”

Looking ahead, brand executives said they expected to be able to use technology to personalize and customize information for individual consumers, by, say, sending a packet of photos showing outfits deemed suitable based on past purchases.
“I think that’s a very feasible reality,” Triefus said.

Perhaps the biggest challenge — and opportunity — with all the advancements in communications technology lies in its often addictive nature. “It’s part of fashion or lifestyle, even if there is an overuse of cell phones and e-mails very often,” mused Lagerfeld, who is famous for his handwritten notes and faxes. “I don’t use cell phones and the like because I would spend too much time online and on the phone.”

China nevertheless remains a two-tier economy with its wealth and economic development being concentrated in the Yangtze River Delta, the Pearl River Delta in Guandong and the Beijing-Tianjin corridor. Population estimates for these areas range from 250-300 million, of which around 7 million are estimated to be middle class; this compares to Japan’s total population of 130 million. The pace of development, as well as population growth (both organic and from migration) in these key areas are likely to be a more accurate barometer of luxury goods consumption than the development of China as a whole.

Luxury retail presence still limited
The bulk of luxury goods purchases by China are accounted for by Chinese tourists. The mainland market is believed to account for only 2 to 3% of industry revenues. Even though luxury outlets are opening up in key metropolitan areas such as Beijing, Shanghai and Guangzhou, Hong Kong remains the favoured shopping destination for mainlanders as, not only is there more choice, luxury goods are cheaper in Hong Kong than in mainland China, where heavy import duties and value-added taxes can add up to 35% or more to the price of luxury goods.

The retail presence of European luxury brands in mainland China is still relatively limited; for example, Gucci has only 10 stores in mainland China compared to 54 stores in Japan alone and 61 elsewhere in the Asia-Pacific. Currently there are no branded luxury department stores in mainland China. Luxury brands therefore have to rely on own retail expansion for sales growth, either through boutiques in hotels and shopping malls or standalone stores, rather than on developing a wholesale network.

Profitability remains an issue
It is estimated that only one out of ten consumer brands currently present in mainland China is profitable, as the market is not yet large enough to accommodate but the strongest brands. Leading players such as Cartier, which has been present in mainland China for 15 years and is one of the leading luxury jewellery brands there, are supposed to be barely breaking even as they continue to invest in building the brand’s image through heavy advertising (Cartier apparently spends about $9million on advertising) and a growing retail presence.

Manufacturing today, branding tomorrow
China has proven its credentials in terms luxury goods manufacturing. The country is shaking off its reputation as the counterfeit centre of the world and an increasing number of luxury brands are re-locating their production from Europe to China. Signs of homegrown design talent are also emerging – China’s fashion week is an established fixture, having celebrated its tenth anniversary in 2006, and a small number of up-and-coming fashion designers are already catering to China’s affluent.

China’s government is keen to foster young talent. It is estimated that there are more than 100,000 students attending fashion courses. During the last year, we have met a number of Chinese companies whose focus is on developing local talent and domestic brands. Could the pace of China’s evolution from a pure manufacturing concern to a developer of brands catch us by surprise?

Interest for the luxury goods sector
This has led some commentators to herald the advent of private equity investors to the luxury goods sector. Indeed, these last few years the fashion and luxury goods sector has seen some activity from private equity funds. In the last twelve months Change Capital Partners acquired Jil Sander, Sun Capital Partners took on Stila Cosmetics, and Sciens Capital Management and Plainfield Asset Management together bought Asprey. 2005 saw the $5 billion acquisition of Neiman Marcus by Texas Pacific Group, and Tommy Hilfiger being taken private by Apax Partners in a $1.6 billion buyout. Earlier deals included the purchase of a stake in Escada by HMD Partners (2003), the acquisition of Calvin Klein jointly by Apax Partners and PVH and the buy-out of Ferretti by Permira (both in 2002), and the acquisition of Bally by Texas Pacific Group in 1999. However the two deals that really fire people’s imagination are the acquisition in 2004 of Jimmy Choo by HM Capital Partners from Phoenix Equity Partners, another private equity firm, and the grandfather of all private equity deals in the sector: the (now ancient) acquisition of Gucci by Investcorp.

Part of the reason for more active interest from private equity firms lies in their perception that the luxury goods sector has become more “rational”: acquisition multiples have come down from the crazy days of 1999-2000, and the management pool available to be put to work at target companies is deeper, as illustrated by the recruitment of former executives from the detergent industry to senior positions at luxury goods companies. Private equity funds are also attracted by the growth potential in new markets, such as China, Russia, and the Middle East, and by the widespread emergence of affordable luxury. Finally, recent success stories such as Jimmy Choo have demonstrated that private equity ownership can yield high returns.

Pinch of salt
Despite recent activity, purported interest from major private equity participants and the strong growth in the luxury goods sector, we do not believe that private equity funds have been as active as they have been in other sectors.

We think that the term “luxury goods”, as it relates to recent private equity activity is sometimes a bit of a misnomer, and covers a variety of different situations, ranging from turnarounds (Asprey, Bally, Stila) to almost pure retail (Neiman Marcus). We are of the opinion that luxury goods companies remain uneasy targets for the typical private equity fund: while a healthy luxury goods business will have very enjoyable margins, acquisition multiples tend to be higher than in most sectors, the development of own retail for luxury goods companies is very cash-consuming, and true successes are rarely built within the typical investment holding requirement of 3 to 5 years. Add to that the fact that a significant part of a luxury goods company’s success takes its roots in the design and creativity sphere, and you find a series of elements that do not necessarily lend themselves well to rational private equity investment. Let us see what happens in 2007!

As well as getting older, the typical Japanese luxury goods consumer has become wiser, more confident and individualistic. Whilst in the past, luxury fashion and accessory brands were coveted as a symbol of social status and, as such, needed to be instantly recognisable either through prominent logos or trademark styles, Japanese luxury goods consumers are now looking for products to suit their lifestyle and express their individuality.

These two developments have strong implications for luxury goods brands, who have responded by diversifying their offering from being purely fashion and accessories to include other lifestyle products, such as homewares, spas and beauty products, and by tailoring their product offer to an increasingly demanding market.

Development of home-grown fashion brands
As their tastes have matured, so has the Japanese luxury goods consumers’ interpretation of luxury brands and how to wear them. Japanese luxury consumers have effectively pioneered a new and unique style, referred to as luxury streetwear. Not only has this style attracted the attention of a number of Western designers, who regularly visit Japan for inspiration, it has led to the flourishment of a number of home grown brands, such as Evisu, Samantha Thavasa and Bathing Ape. These labels, underpinned in part by a weak Yen, have proven to be strong contenders against overseas luxury labels in Japan and have also achieved scale and notoriety overseas.
The rise of local brands could be a threat for medium to small luxury brands but the major players do not appear to be worried. Even though they have entered a stagnant phase in Japan, they still believe in the Japanese consumer’s propensity to spend.

Increased domestic presence of overseas luxury brands
After the Asian crisis in 1998 and the subsequent devaluation of the Yen, overseas luxury brands sought to reduce their exposure to the declining number of Japanese tourists by capturing their customers at home. A number of brands restructured their portfolio of licenses in Japan and started substantially increasing their own retail network either in partnership with licensees or alone. By 2003, the store penetration of the larger luxury goods companies (store per capita) was the same in Japan as in Italy, despite Italy being heavily reliant on tourist revenue at its luxury shops.

The intensified competition between brands has prompted them to develop a better understanding of the local market and offer products that are better tailored to local needs. Not only did stores multiply, stores also got bigger with monumental flagships opening in the fashionable districts of Tokyo, offering a wide range of products, some of them unique to the Tokyo market. Today, the major luxury players including Louis Vuitton, Gucci, Hermes, Chanel and Ralph Lauren continue to invest in Japan.

NEW YORK – Sigerson Morrison, the footwear firm that grew from making custom-made shoes for private clients to a $30 million business with two lines and a high-end handbag collection, has a new owner.

The 15-year-old company said Friday that as part of an effort to further expand the label, it has sold a majority stake to Marc Fisher LLC, a Greenwich, Conn. -based footwear firm headed by Marc Fisher. Fisher was president of product development and sourcing for Nine West Group from 1999 to June 2003. He is the son of Nine West co-founder Jerome Fisher. The younger Fisher founded his own firm in January 2005.

Following the Sigerson Morrison acquisition, top priorities include building the label’s assortment by possibly adding eyewear and fragrance, among other categories; boosting its retail stores, including opening a new flagship here; strengthening wholesale accounts, and adding more staff, with ambitions to hire Sigerson Morrison’ s first chief executive officer in the next six months.

“It’ s a huge move for us, ” said Kari Sigerson, who founded the firm with Miranda Morrison in 1991. The two will remain co-creative directors at the label. Terms of the deal were not disclosed.

“We’ve always been our own little independent brand, but it was frustrating for us, ” added Sigerson. ” We have this great product, but we haven’ t had the magic stuff to grow it. There’ s always been some aspect we wanted to conquer that we just couldn’t. And now it’ s like we’ re unlocking that secret room . ”

Sigerson Morrison told WWD in May 2005 that it was hoping to attract investors to help grow the label. The firm’s meetings with Fisher date back a year.

“It’s been a long and hard road, ” said Sigerson. ” We worked for a long time just to mentally prep are ourselves for this type of deal and get all the documents together. Then we did a lot of homework and met with a lot of people, including private equity companies and huge fashion conglomerates. It came down to three incredible offers. ”

Morrison added that what ultimately helped them make the decision was their new partner’ s passion for footwear.
“To see them at work with their shoes and hear them talk about their sector of the business made it feel like home, ” said Morrison. ” The firm also shares our entrepreneurial spirit and respects our D N A. ”

Sigerson Morrison has about 32 employees, all of whom are expected to stay on at the firm, which will remain based in New York.

Fisher’s first deal at his new company was signing a licensing agreement to produce and distribute Guess women’s and men’s footwear. In January, Fisher also launched an eponymous collection of contemporary shoes priced between $60 and $90 that is sold exclusively through Macy’s.

“One of our first agendas when we started this company was to get into the better shoe market, ” said Fisher. ” We want a diversified portfolio of businesses. I ‘ve always loved the Sigerson Morrison brand and found Kari and Miranda to have a great eye. ”

Sigerson Morrison established its business by creating updated takes on classic footwear styles like skimmers, kitten heels and motorcycle boots at prices that range from $300 for a sandal to $800 for boots. Sigerson Morrison introduced small leather goods and handbags, utilizing the same luxurious leathers and fine Italian manufacturing as its shoes, at prices averaging around $750 in 2001.

Belle, Sigerson Morrison’s diffusion line of footwear at prices that average around $200, began retailing for spring 2004. Morrison said, among other areas, Belle offers a huge opportunity for the firm, with the introduction of handbags for that label being an obvious step to make.

“Our number-one task is to tighten up the job we do based on the product we have, ” said Morrison. ” Then we want to address the obvious categories for us toexplore, like handbags, eyewear and a fragrance. ”

Retail expansion is also on the agenda. The firm has four boutiques, two in New York’s N oLIta neighborhood, one in Los Angeles on West Third Street and another in Tokyo that is operated in partnership with the Shin-ei Group Ltd.

“We want to open a flagship here, and we would like to look at creating boutiques in key cities, ” said Morrison.

A specific goal for the number of stores is still to be determined, but cities both Stateside and abroad will be on Sigerson Morrison’s radar.

“We have always been an international company,” said Morrison. “But we think it’s time to take our selling more on the road. We see that as a big growth opportunity, so we are thinking globally.”

Sigerson Morrison wholesales to approximately 250 doors worldwide, including Bergdorf Goodman, Bloomingdale’s, Macy’s, Nordstrom, Stanley Korshak in Los Angeles and Harvey Nichols in London.

PARIS – An entrepreneurial spirit, plenty of capital, connections galore and a real sense of urgency.
Those are among the virtues ascribed to private equity funds, which are emerging as key players in fashion and luxury as they continue to snap up brands in the current buoyant acquisitions climate.

Investment executives say brands moldering within conglomerates or cash-starved independents can get a new lease on life under more driven and flexible owners ‹ even as detractors warn there are few quick fixes in fashion.

“One of the key features of private equity is they’re able to apply focus and professional management to their investments,” said Pierre Mallevays, managing director of Savigny Partners LLP, a corporate finance and mergers and acquisitions firm in London. “If you have a large group, there will often be isolated assets that get less attention from senior management.”

“For any brand that needs to be revitalized, new ownership helps,” agreed William Smith, managing partner of Global Reach Capital, a fund that has invested in fashion house Tory Burch and has signed letters of intent to acquire two other “big well-known” brands. “The private equity guys are very sophisticated. They hook up with new operators and merchants. We’re very focused and we can add value from sourcing and brand building.”

To that end, Smith works in collaboration with luxury consultant Robert Burke, who offers his retail and merchandising expertise.

“Our point of view is that we want to buy businesses and build them up, and we have the resources to get there. We have a history of being retail operators on an international scale,” said Gunnar Sigurdsson, managing director of U.K. investments for Icelandic investment firm Baugur Group, which owns a range of British fashion chains, from Karen Millen to Whistles.

“Depending on the brand, the growth potential can be quite significant,” said Sigurdsson, citing Baugur’s Jane Norman young women’s chain as an example, which posted double-digit like-for-like sales last year.

Recent months have seen several headline deals involving private equity players, including Change Capital Partners buying Jil Sander, Sun Capital Partners Inc. taking on Stila Cosmetics and Sciens Capital Management LLC and Plainfield Asset Management LLC teaming up for Asprey. (For more on Asprey, see pages 1 0 and 1 1 .) Then, of course, there was last year’s $5 billion acquisition of Neiman Marcus Group by private equity players led by Texas Pacific Group.

“We will look at luxury investments based on their own merits,” said Roger Holmes, a managing director at the London-based Change Capital who worked with its head, Luc Vandevelde, at Marks & Spencer plc. Change tends to target European businesses with annual revenues of about 75 million euros, or $92.3 million, to 300 million euros, or $369 million, and in which it can take a majority stake and leverage its retail expertise. Holmes acknowledged that “fashion risk” and the cyclical nature of the fashion business can discourage private equity investors from the industry, but he’s confident this won’t be the case with Jil Sander given its high-quality allure.

A bullish market for luxury is paramount among the factors that are attracting a new crop of financial bidders, rather than more familiar strategic buyers.

Mallevays of Savigny Partners said private equity firms have become more interested in luxury goods and fashion as some of the perceived “negative connotations” have disappeared in their estimation. Principal among these are the high multiples luxury brands command, unease with fashion and luxury goods’ reliance on the creative process and a perception that management resources are slim. To the latter point, Mallevays countered: “People have realized there’s a pool of management talent that is very significant.”

Meanwhile, growth has roared ahead for the major luxury conglomerates ‹ LVMH Moët Hennessy Louis Vuitton (which on Thursday reported its first-quarter sales leaped 1 5 percent), Gucci Group and Compagnie Financière Richemont ‹ that have demonstrated impressive resilience through all sorts of economic and sociopolitical gyrations.

“This interest shown by private equity funds to invest in fashion brands … means that the luxury industry is in good shape and is healthy,” said Armando Branchini, vice president of Intercorporate.

What’s more, the funds see more growth potential for luxury and fashion now that “China is open for business and India is opening up for business. These are going to be huge markets,” Mallevays noted.
Burke said he also spies major upside in the fast-growing United States.

“Luxury is absolutely going to continue to grow and aspirational luxury is going to grow even more,” he said, citing such disparate examples as Coach, Juicy Couture, Jet Blue and Starbucks as bright lights in the latter category. “Good taste and good fashion are becoming more democratic than ever.”

To be sure, observers cited a litany of examples where a change of ownership ‹ often to private equity ‹ changed a brand’s fortunes and notoriety.

Perhaps the most frequently cited success is Gucci, which was acquired by Bahrain- based investment fund Investcorp and revitalized in the Nineties in spectacular fashion by Domenico De Sole and Tom Ford.

But plenty of others followed. Karine Ohana, partner in Ohana & Co., lauded Vestar Capital Partners’ “beautiful turnaround” of Polo Jeans Co. and two British brands involving private equity, Jimmy Choo and Molton Brown.
In her view, the entrance of these players is positive for the industry because it increases management motivation and efficiencies, which ultimately benefits consumers. “Most of the time the management is financially involved and is undertaking an entrepreneurial challenge, which they are often deprived of in big luxury groups,” Ohana noted.

Added a luxury goods executive, who requested anonymity, “I think this is only good for fashion and luxury because when private equity companies take over, they look for specialized managers. Right now is a good opportunity for managers to advance. Also, the private equity companies are very, very generous with giving managers equity in the company as part of the pay package, so there is money to be made, too.”

“I think it can be positive, taking these people to work in an entrepreneurial setting rather than a conglomerate setting,” agreed Gilbert Harrison, chairman and chief executive officer of New York-based Financo Inc. “The apparel business is entrepreneurial by nature. … Some of these funds can be much more intuitive and they have much more flexibility.”

Harrison noted, for example, that a takeover by a private equity fund inevitably brings forth lots of cost-saving initiatives.

Smith agreed funds are driven to enact a turnaround “in a reasonable time frame. They are more likely to figure out what are the opportunities and if there’s a fix, do it quickly.”
And like conglomerates, larger funds with multiple holdings are keen to extract synergies and leverage their connections.

For example, when Baugur acquired British fashion retailer Oasis in 2003, it detected an infrastructure capable of taking on more banners. To wit: Baugur helped Oasis acquire Karen Millen and ultimately assemble a multibrand group that “gives an insulation from the fashion cycle,” Sigurdsson said.

Also, Baugur’s Jane Norman chain just made the leap outside of the U.K. with an outlet in the Danish department store Illum, also a Baugur property. “If it works out well, we’ll go some other places,” Sigurdsson noted.

Fendi, Lanvin, Bottega Veneta, the luxury watch brand Officine Panerai and Aéropostale are other examples of brands that benefited from a change of ownership, observers noted, although in the cases of the first three, they were bought by luxury conglomerates.

Mallevays also cited a succession of private equity deals in the Nineties involving Ferretti, a maker of luxury yachts. It signaled the depth of the market for high-end products as Ferretti’s expansion sailed far beyond original expectations. “That was a big eye-opener,” he said. Another brand in the same vein was TPG’s purchase of Ducatti motorcycles, shares of which zoomed when it went public.

Franco Pene, chairman of Gibò, cited L Capital’s minority stake in Mariella Burani Group’s leather goods business, Antichi Pelletieri SpA, as a success story. Antichi Pelletieri, which bought the Coccinelle brand earlier this year, is heading to the stock market this year via an initial public offer.

“The luxury goods industry has two positive characteristics. It can have both very fast growth levels and strong margins,” he said.

Branchini noted that Coraline’s purchase of home linens brand Frette seems to be working well under ceo Enrico Marinelli, but the industry lacks success stories since private equity’s entry to the fashion world is so recent.
“A fund has to provide more than just money. It has to provide strategic marketing, a product identity and a brand identity,” Branchini said.

On the cautionary side, several observers mentioned Bally as an example of a private equity investment that’s had a rocky time on the road to rejuvenation, although TPG has had more luck lately with Bally and another holding, J. Crew, which has become one of the fastest-growing retailers in the U.S. under the reign of Millard “Mickey” Drexler and may go for an IPO later this year.

To be sure, skeptics question whether private equity firms will carve a major and successful path in fashion and luxury in the long run. And the luxury goods executives pointed out that the sector is only one of many private equity players are investing in, given the “huge amount of money in these funds right now; they’re looking everywhere.”
Antoine Colonna, head of the luxury goods research team at Merrill Lynch in Paris, said funds remain “marginal” in the sector, although there is speculation the champagne brand Taittinger, recently put on the block by Starwood Capital, could land in private equity hands. Press reports, citing sources, have said the field of bidders has narrowed to six and include private equity firm CVC Capital Partners and the Taittinger family.

“We’re still missing a big deal,” Colonna said in an interview. “The major issue with luxury goods is it’s not easy to get a quick return. [Funds] may not have the patience required to succeed.”

Mallevays agreed the investment horizon of private equity funds ‹ typically three to five years ‹ is “not necessarily compatible” with the time it takes to turn around fashion brands. That’s why he predicted hedge funds would likely start playing a bigger role in fashion deals, with Asprey being a watershed because they can have a longer horizon for a return.

According to one fund manager who requested anonymity, the key with a fashion or luxury asset is an attractive entry price, which is rare in today’s heated M&A environment.

“You have to be very selective,” the executive said. “This is an industry where you have no certainty of a turnaround of a brand. There’s an element of risk. But people tend to believe in miracles, especially in this industry.”
According to another European source involved in private equity investments, funds are turning to fashion out of desperation.

“All of the conventional private equity deals are getting increasingly competitive, and over the last five years more and more funds have been getting into the game,” the source said. “Today, when potential targets come up there’s an auction for them; the prizes come at a high price and the deals are fewer. Don’t forget that private equity raises money from investors on the basis that investors will get a return on their investment.”
One analyst at a London bank agreed.

“There are no longer a lot of private equity investment opportunities out there in the classic, very stable sectors ‹ like cement companies, for instance ‹ which is why investors have turned to fashion, which they perceive as less obvious,” the analyst said. “But it’s risky for them. I think what you’re going to be seeing is a natural selection of successful companies. The winners will be investors who have actually done their homework, and done a deal that makes sense for them. I think a lot of investors fall in love with the idea of owning a luxury brand, so they pay over the odds. Then reality hits and they see what sort of business they’re dealing with, and the risk is that they kill off the golden goose.”