Key Takeaways
- Covid-19 dealt a serious blow to the luxury goods industry, which had been experiencing steady growth for more than two decades, driven in part by rapid consumer market development in China.
- While the large multi-brand conglomerates that dominate the sales of personal luxury goods were not immune to the pandemic's effects, we think such companies are likely to withstand the pandemic's dislocations and emerge on the other side in even stronger competitive positions.
- We believe global incomes and wealth should resume their upward trajectory once the impacts of the pandemic recede. This includes emerging markets, where China is not the only country with an expanding middle class.
- Consumer trends—particularly among millennials— suggest the issue of sustainability may be increasingly important for the makers and sellers of luxury goods.
Traditional retail businesses had struggled for a decade to overcome the competitive challenge of online sales and were already weakened before the impact of Covid-19 began to be felt in 2020. Within months of the pandemic's arrival, some long-established department store chains slipped into bankruptcy.
By contrast, luxury goods stood out as a thriving and growing subset of retailing that prior to the virus had benefitted from a distinctive set of conditions—the remarkable pace of China's economic development not least among them. Online competition was less of a threat in this corner of the retail market, likely because shoppers for luxury products enjoyed the full experience of being welcomed into an "exclusive" boutique and having a chance to see and touch the goods before buying. The pandemic made this model unworkable in the short run, and the industry had to quickly adapt to conducting sales online. The multi-brand conglomerates already dominating the luxury market had the resources to make this transition—something that small designer-led firms did not necessarily have.
Looking beyond the pandemic, future industry leadership may well go to firms that take an omni-channel approach— one combining striking boutiques in worldwide cities with well-conceived online strategies to bring buyers to the brand. Here, too, resource-rich conglomerates are likely to prevail.
Luxury Has Taken a Hit from COVID-19, but the Long-Term Outlook Seems Attractive
Ask consumers what luxury means and you will hear myriad answers: a specific product, a preferred brand, a hospitality experience, a recent gourmet dinner, or even fine art or a luxury automobile. All would necessarily share the characteristics of artisan quality and correspondingly high prices.
We are specifically interested in the €281 billion1 personal goods segment of luxury that includes apparel, beauty, leather goods, shoes, watches and jewelry—a segment facing serious near-term challenges due to Covid-19 and its associated economic pressures. These challenges include the outright closure of retail stores and a steep decline in travel—especially air travel. Duty-free shopping has long been an important sales channel for beauty products. Purchasing luxury goods is a common holiday activity among many consumers, particularly the important Chinese consumer base, which accounted for 35% of global luxury sales in 2019.2 Italian factory closures early in the pandemic also hurt. By forcing virtual cancellation of the spring/summer fashion season, these closures resulted in a glut of inventory that added to the industry's woes. While third quarter company results showed that Chinese consumers are repatriating their spending to the mainland, other parts of the world look increasingly likely to tip back into pandemic-induced restrictions, which could return to haunt the industry again.
Nevertheless, we at First Eagle focus on each industry's long-term trajectory, and here the news seems more promising. The personal luxury goods segment reached its current size after 23 years of growth at an annualized rate of nearly 5%.3 We believe this growth may continue on the back of rising levels of income and wealth globally, including the expansion of the middle class (especially in emerging economies)— trends that could persist for years, although not without fits and starts along the way. China, for example, is considered only an "upper-middle-income" country in terms of per-capita gross national income despite being the world's second-largest economy. Only the top quintile of earners in China meet the World Bank's "high-income" threshold ($12,536 as of 2020), and that occurred only recently; there are more than 80 countries and territories worldwide that fall into the high-income category.4 China has been a major contributor to the luxury industry's recent growth, and it is likely to become an even larger market for luxury goods if incomes continue to rise there.
The Power of Conglomerates
Large multi-brand conglomerates are already a major factor in the personal luxury goods space, and we believe current conditions are generally favorable for their continued advance. Conglomerates aggregating a large collection of luxury brands are among the largest, best-capitalized and most-profitable global businesses, and almost all of them are domiciled outside the United States.
Prominent among these companies is LVMH (XPAR:MC, Financial), with 75 "houses"—i.e., distinct brands—that generated €53.7 billion of sales in 2019 per company reports. Its houses include the eponymous Louis Vuitton, one of the world's most recognized and desired accessories and apparel brands. Other notable brands under its roof include Christian Dior (fashion), Dom Perignon (Champagne), Tag Heuer and Bulgari (watches and jewelry), and Sephora (cosmetics). We also cite Compagnie Financière Richemont (XSWX:CFR, Financial) as a strong player in this space. Its portfolio consists of 20 distinct brands—including such high-end watch and jewelry brands as Cartier, Van Cleef & Arpels, Vacheron Constantin, Jaeger-LeCoultre and IWC Schaffhausen—that in aggregate generated €14.2 billion of sales in its fiscal 2019 year.5
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