Brands, luxury, fast fashion, accessories and athletic wear are showing strength and offer great opportunity for significant growth, said Omar Saad, senior managing director and partner at ISI Group, speaking last month at Apparel's Business & Technology Leadership Conference in New York City. He also noted that apparel companies that are technologically savvy and can execute decisions quickly based on good information will have a built-in advantage.
Content vs. distribution: Retailers take back seat to brands
One of the most important business issues today deals with the rise in importance of content over distribution, said Saad. "You're seeing a lot of disintermediation of the traditional modes of distribution," he said.
While in the early '90s investors made their money in retail rather than brands, that tide started to shift in the early '00s, with market value coming from the brand side of the equation.
A number of factors contributed to this power shift: The growing global digital environment enabled a broad dissemination of brands, while over the same period the real-estate bubble burst, deflating retail chains whose strengths were based largely on physical location vs. the content (brands) they were offering. "People don't care where they get the brand, and the brands are what hold the value," added Saad.
Saad cited France-based PPR as a perfect example of a retailer that saw the writing on the wall and shifted its model to content from distribution. In the past decade PPR divested almost all of its retail nameplates while loading up on brand names including Balenciaga, Stella McCartney, Puma and Alexander McQueen.
Today, designers — content producers — have a keen advantage if they can make the leap from designer to brand, says Saad, citing Michael Kors as the ultimate example of someone who made that leap quickly. For others in the category, think Kenneth Cole, Ralph Lauren, Chanel, Salvatore Ferragamo, Jimmy Choo and Kate Spade.
Luxury never goes out of style
Although the luxury market has experienced small dips, it remains one of the best-performing, highest-growth sectors. ISI's luxury index outperformed the S&P 500 by 21 times since 1984, says Saad.
He attributes luxury's success in part to the authenticity of long-time brands as well as the barriers to entry. "It's very hard to create a luxury brand. It takes decades, if not centuries. I think that's why it's so powerful. It's hard to replicate." It also does not suffer from an expiration of patents. Brands continue forever.
Calling the market an "ageopoly," he says luxury is "the one place where the older you are, the better you are." Generally speaking, the older the luxury brand, the higher its gross margins. Louis Vuitton and Cartier, for example, both past the century-and-a-half mark, show gross margins above 80 percent, while some of the "younger" luxury brands, such as Ralph Lauren and Yves St. Laurent, closer to the half-century mark, show gross margins between 55 percent and 60 percent.
Relatively speaking, the luxury market is tiny in both dollar volume and units sold, well short of markets such as autos, apparel and consumer electronics, but also significantly smaller than sectors including tobacco, air travel, furniture and cosmetics. "The world spends three times more on tobacco than on luxury!" Saad notes. On a unit basis, the market looks even smaller, with Nike alone selling approximately three times as many units as the entire luxury market (525 million vs. 191 million annually).
With new millionaires entering the market at a rapid pace, particularly in developing countries, the luxury market is well poised for huge growth, says Saad.
Market is rewarding growth
Many investors are timid when it comes to buying luxury and other consumer growth stocks because they're expensive, says Saad, but "they hold their value well. … Consumer growth stocks can generate great returns when they're expensive. … If you wait until they're cheap it's too late," he said, pointing to Carrefour and Home Depot as two examples of stocks that produced high average annual returns (30 percent and 26 percent, respectively) over a period of six years from 1994-2000 before starting to decline.
Today, the market is starting to reward growth, says Saad. Some of the highest flyers are expected to produce phenomenal growth over the next three years, with Under Armour projected to grow by 37x, lululemon by 33x and Michael Kors by 28x.
In today's low-rate environment, high-growth stocks deserve a bigger premium, says Saad, as one of the few opportunities for significant growth. A mature company will not grow as quickly as a fast-growth company in a high-rate environment (12x vs. 24x, respectively) but in a low-rate environment, high-growth stocks deserve an even bigger premium than mature stocks because of their growth rates (47x vs. 19x, respectively).
China's future hard to read
China is a very important market, both for its consumers and for its sourcing capabilities, but it's also a big question mark, says Saad, leaving uncertainty about whether or not the "30 percent, 40 percent, 50 percent growth is going to slow down," he says. "You hear of people buying 20 Rolexes at a time for political favors. What's going to happen? Is it too much money supply too fast? There is a lot of fear about China as an end market and if it is sustainable."
Still, China offers up a massive opportunity for growth in luxury, with a culture that reflects a deeply ingrained appreciation for brands, status and American goods, all part of the consumer psyche in a country that flocks to the likes of Louis Vuitton, Nike, Apple, Cartier, Starbucks and Prada. From a cultural perspective, China is a good fit for U.S. brands.
While concerns about intellectual property prevail, IP protection, he says, is actually more of a must-have for Chinese brands, if they are to gain a foothold in their own country.
"There are no Chinese brands having success outside China, let alone inside China. There is a lack of incentive for China to brand build. It takes a lot of money and resources, but there's no IP protection for them, nothing to protect their investment," explains Saad.
"The reality is that the China consumer wants the real thing, not the knockoffs — also you're losing face if you're caught wearing a fake Prada bag that you're trying to pass off as real," continues Saad. "There's a real incentive for China to develop a strong protection program to protect its own designers. U.S. brands don't need it."
Per capita, China is an underpenetrated market relative to luxury spending, at $13 per person vs. $142 in Japan, $154 in the United States and $157 in Europe, but Greater China, which today in total dollars spent on luxury still falls short of U.S. spend (€27 billion vs. €59 billion, respectively), is expected to be the largest luxury market in eight years' time, hitting €60 billion by 2020.
Luxury surge in U.S. … and men are in the driver's seat
As the wealthiest country in the world, the United States offers a huge opportunity for luxury brands. North America claims 32 percent of the world's high-net-worth individuals (those with more than $1 million in investable assets), but comprises just 16 percent of the luxury business of Europe.
Companies including LVMH, Gucci, Richemont, Michael Kors, Hugo Boss and Prada are all bullish on the prospects for growth here, especially as U.S. luxury spending has begun to shift to personal luxury goods vs. "McMansions" and other big ticket items that have historically captured more of the luxury market share.
The change is being driven in part by a shift in thinking by the wealthy, of late questioning the value of investment in purchases such as racehorses and boats, sports cars and massive homes. "They are asking themselves, 'Are we getting investment returns? Are we getting personal satisfaction out of the 27 empty rooms in our McMansion?'" Now, says Saad, more of these same people are acting more like Europeans, focused on dressing well, engaging socially and trying to get true pleasure from their purchases.
Surprisingly, it is men who are driving a resurgence in personal luxury items, perhaps as a result of trends in health and fitness. "Men are trying to look nice … especially young men; the joke is that it's the metrosexual revolution in the U.S." Brands including Coach, Louis Vuitton, lululemon, Ralph Lauren, Burberry and Prada are all seeing an uptick in men's sales.
U.S. men are just starting to buy "murses" (luxury handbags), which their counterparts in Asia have been doing for some time now. The typical male in Asia has three times to four times the number of accessories of the average U.S. male, with Chinese men representing 45 percent of the men's luxury handbag market, followed by men in the rest of Asia (25 percent), men as a global average (15 percent) and U.S. men (7 percent).
Europe poses a challenge for brands, but tourism will keep luxury afloat
While China is a question mark and the U.S. looks exceedingly good, Europe is "the shakiest leg of the stool," says Saad.
"Europe makes our unemployment rate look great," says Saad, adding that austerity measures being put in place to help fix sovereign balance sheets will put a crimp on spending, which is troublesome, as Europeans love fashion and represent a huge market for it. "Apparel and footwear spending — they take it more seriously over there. Italians spend 7.5 percent of their income on how they look vs. 3.5 percent for Americans."
How Italy and other Euro countries allocate dwindling incomes will play a major role in the market, but luxury brands stand to fare much better than mass market brands, which will take a "much bigger nose dive than what they've experienced in China and the U.S.," said Saad.
Luxury brands, by contrast, are benefitting from global tourism, with non-Europeans representing 50 percent of Europe's luxury purchases. Emerging market outbound tourism is booming, with Chinese tourists leading the trend.
Chinese citizens took just 10 million trips outside the country in 2000, vs. an estimated 77 million by the end of this year. What's more, Chinese spend more on luxury abroad than at home, buying up €16 billion of personal luxury goods outside the country vs. €15 billion in mainland China. (For further comparison, mainland Chinese tourists spend €20 billion in New York, ditto in Japan. They spend €18 billion in Italy, €15 billion in France, €12 billion in the U.K. and €7 billion in Hong Kong.)
Take a turn through (French retailers) Printemps or Galleries Lafayette and you'll find Chinese tourists buying $20,000, $30,000 worth of product each, says Saad, purchases that are critical for the luxury goods companies in Europe, making up for the drop in growth of sales to Europeans.
Trading places: Apparel now accessorizing accessories
Yes, you read that right. Spend is shifting from apparel to accessories, and apparel is becoming an accessory to accessories, as accessories steal the limelight — and wallet share. Accessories sales have surpassed apparel sales for the past decade, but the past three years have seen the gap widen significantly.
One of the interesting drivers of this phenomenon is the rise of fast-fashion companies, said Saad, who identifies this shift toward viewing clothes as disposable as reflective of significant societal and sociological trends. "For decades you had to invest hundreds for a new outfit. Now you're seeing these H&M, Zara, unique, cheap fashion items, and it's okay they're [also] cheaply made because you're only going to wear them once or twice. Then you can use the savings to buy a nice purse, watch, shoes."
The shift looks something like this.
Here's a sampling of how a $500 budget might have been spent B.F.F. (Before Fast Fashion):
J. Crew dress: $300; 9 West shoes: $100; Guess handbag: $100.
Today, A.F.F., it's more like this:
H&M dress: $50; KORS shoes: $200; Coach handbag: $250.
If you're a number-cruncher, you'll see that luxury accessories also are far more cost-effective than cheap apparel. If you consider that an H&M dress at $40 might be worn twice per year, that's a $20 cost per wear, vs. a $10 cost per wear for a $2,000 luxury watch that is worn 200 times annually.
High-priced apparel may have its work cut out, but for fast fashion, the opportunity is enormous, and the sector is growing rapidly (up 130 percent over the past decade). Fast/affordable fashion currently represents just 10 percent of the $328 billion North American apparel market.
One other interesting shift in this sector: While aspirational luxury historically has been huge in accessories and fashion, it never existed in watches — until now. "The middle of the market is evolving as watches are being viewed as an accessory. [That means] you don't just need one watch, but different ones to accessorize your wardrobe," says Saad.
It's a win for the athletic market
"People love sports everywhere," says Saad, and the global athletic market is the beneficiary.
Unfortunately for aspiring entrants, the market is a virtual oligopoly (have you ever seen a private-label sneaker?), with Nike, adidas, Puma, Converse, Reebok, The North Face, New Balance, Champion, Columbia Sportswear and lululemon together comprising 65 percent of global athletic brand retail equivalent sales in the €120 billion market.
We're in a strong global athletic cycle, says Saad, with growth in sales of athletic apparel outpacing sales growth of non-athletic apparel by more than 10 percent, and the Athletic Brands Index outperforming the S&P 500 by 350 percent.
This market is being driven by a global trend in health and fitness, he notes, with gym memberships booming, up from 50 million members worldwide in 1999 to 128 million in 2010.
The market is also being driven by new performance products. Just about every athletic footwear brand has gotten in on the trend toward lightweight running shoes that started with the Nike Free in 2004 and Vibram FiveFingers in 2005. In the past year Nike's new colorful Flyknit has sent the trend on an upward trajectory that has potential to push annual sales of lightweight running shoes from around 5 million units in 2012 to more than 15 million next year.
(Nike's Flyknit is also notable for its supply chain and production processes. Employing automated manufacturing in factories close to its four biggest end markets (the U.S., South America, Europe and Asia), Nike is cutting out time and money from the production process, and reversing, at least slightly, the trend it began when it led the sourcing exodus offshore years ago.)
Saad also called out lululemon as having a particularly massive opportunity, as a small company with a great growth rate and sales that today represent only a tiny fraction of the total North American athletic apparel market. To put it in more specific terms: in North America, lululemon pulled in revenues of $1.0 billion on just 13 million units. By contrast, Nike pulled in $2.5 billion on 143 units, and Under Armour sold $1.3 billion on 62 million units.
Jordan K. Speer is editor in chief of Apparel. She can be reached at firstname.lastname@example.org.