Ubiquity Destroys Luxury
At the inception of the Montaka Global Fund on July 1 we invested, on behalf of our clients, against the business models of some very high-profile, luxury brands, like Prada, Michael Kors and Coach.
An examination of the true nature of luxury reveals that, unfortunately, as luxury brands expand their storefronts to convenience-store-like ubiquity, they lose their prestige and become masstige. We described this phenomena a week ago in The Australian here. The destruction of luxury through ubiquity might just be what the declining same-store-sales numbers is picking up for some of the world’s luxury brands.
Prada’s 594 stores are now growing revenue by an average negative 13 per cent per store. Over at Coach same store sales across its 973 stores are falling at 23 per cent and Michael Kors – minus six per cent.
Cyclical or Structural?
When revenue on a same-stores-sales basis turns negative, operating leverage becomes a noose, pressuring EBITDA (Earnings Before Interest Tax Depreciation and Amortization) margins. When same-stores-sales declines can be attributed to the economy, you might argue that the situation is cyclical. But when the decline is because of a change in consumer sentiment towards true luxury and a Chinese crackdown on corruption, you might more accurately describe the situation as structural and therefore more permanent.
Our friends over at the Australian Financial Review (AFR) have, this weekend, also articulated the theme we took advantage of at the inception of the Montaka Global Fund, last month.
We quote from the AFR as follows, “Sun Duofei, who owns an online shopping website called The Fifth Avenue, says…[between 2010 and 2012] it was not uncommon for people to buy 10 Swiss watches or Chanel bags and…around that time, there were lots of new rich created from the coal and iron ore boom and property speculation.”
This “underpinned the expansion plans and business strategies of the biggest names in luxury retail…Casinos, luxury goods retailers, hotels and restaurants are all shaping their business strategies around a new type of consumer, the “premium mass-market”.
Convenience and luxury don’t mix.
But “premium mass market” is an oxy-moron. The definition of ‘luxury’ is; An inessential, desirable item which is expensive or difficult to obtain. Another definition suggests luxury is ‘A pleasure obtained only rarely’.
If everyone has access to luxury, it simply isn’t luxury.
It should come to our investors in Montaka as no surprise then that “Chanel surprised the Chinese market, reducing prices by more than 20 per cent on three of its most popular bags…The Chanel move was quickly followed by Gucci and watchmakers Patek Philippe and Tag Heuer. None of them used the word “discount”.”
Just five days ago we observed in the Bejing News that Prada was also pulling down its prices; “A Prada salesperson confirmed that 80 per cent of the brand’s products will be reduced by 11 per cent, mostly bags. The price of bags such as the BN224 will be reduced from 18,300 yuan (US$3,000) to 16,300 yuan (US$2,600).”
Discounting is a business necessity when slumping same-store-sales are hammering operating margins, but discounting by luxury brands is a signal to the market that the brands are no longer luxury, they can no longer command premium prices or premium perceptions.
TISM: This Is Structural Mum.
In addition to this change in the perceived value of these branded goods by consumers, Chinese officials have been ‘cracking down on corruption’.
As the AFR reports; “I can remember the exact day it changed,” one luxury store manager, who prefers to remain unnamed, says. “It was December 19, the day Xi Jinping arrived in Macau. Business was great during the first two weeks of December but in the last two weeks we should not have bothered opening.”
“Official figures back up this claim of a sudden change. From annualised growth of 28 per cent in November 2014, tourism to Macau from mainland China turned negative in January 2015, dropping 1 per cent. Gaming revenue fell 17 per cent and 49 per cent respectively for the first two months of the year, compared with the same period in 2014, and luxury goods retailers say sales went into freefall. Managers of three luxury stores told the AFR Magazine sales were down about 40 per cent so far in 2015.”
Classic…ly Slow to Respond
And finally, in addition to the second structural change in the outlook for luxury brands, the analysts around the world who cover these stocks have been, as is typical, slow to adjust down their numbers and outlooks.
This final element is what we refer to as ‘divergent expectations’ – a divergence between the forecasts and reality. And as we have seen time and time again, reality always beats forecasts.
This brief post provides an insight into how we think about investing in opportunities that benefit from declining share prices and deteriorating business models and industries. To find out more about investing $500,000 or more in the Montaka Global Fund, which seeks to benefit from both the rising prices of high quality business and the declining prices of deteriorating businesses visit: http://www.montaka.com
Roger Montgomery is the founder and Chief Investment Officer of Montgomery Investment Management. To invest with Montgomery domestically and globally, find out more.
Roger Montgomery is the Founder and Chairman of Montgomery Investment Management. Roger has over three decades of experience in funds management and related activities, including equities analysis, equity and derivatives strategy, trading and stockbroking. Prior to establishing Montgomery, Roger held positions at Ord Minnett Jardine Fleming, BT (Australia) Limited and Merrill Lynch.
This post was contributed by a representative of Montgomery Investment Management Pty Limited (AFSL No. 354564). The principal purpose of this post is to provide factual information and not provide financial product advice. Additionally, the information provided is not intended to provide any recommendation or opinion about any financial product. Any commentary and statements of opinion however may contain general advice only that is prepared without taking into account your personal objectives, financial circumstances or needs. Because of this, before acting on any of the information provided, you should always consider its appropriateness in light of your personal objectives, financial circumstances and needs and should consider seeking independent advice from a financial advisor if necessary before making any decisions. This post specifically excludes personal advice.
Lucas Hainsworth
:
There’s an ad, I think maybe 2007-2008 before all this CDS and CDO stuff went bang. Gorbachev sitting in what I assume to be a ZiL Limousine, driving alongside the Berlin Wall with a Louis Vuitton bag.
If you google “Gorbachev Louis Vuitton”, there’s the image there. It’s an interesting one. I mean there’s the obvious irony of a Communist leader sitting next to a luxury good that the majority of people in his country would never be able to buy.
And I think that’s part of the appeal. In these countries where there is some crazy wealth, the target markets are the oligarchs, and the ones who bought State Owned Enterprises at knock down prices.
There’s really only two outcomes – you can be a super cool, super expensive 1% brand, or you can be as Alfred Dunhill said –
“My experience …. has convinced me that, if one can exactly meet the desires of a good class of public, time alone is necessary to make it profitable. Compared with quality, price is relatively important.”
Maybe they’re more ubiquitous, but I can tell you we are buying more of these items than ever before.
Roger Montgomery
:
Thanks Lucas, interesting insights – I will look up that photo. Note that for Prada and several others, same stores sales are in decline.