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Luxury goods: Handbags but no gladrags

Rising affluence in Asia has seen demand for luxury goods soar in the East over the last decade, but growth is now starting to slow.

Garry white employee

by
Garry White

in Features

05.12.2013

Demand in China for luxury handbags, clothes and other products is expected to moderate this year, partly because of a government crackdown on corruption and gift-giving by officials.

For the past three years, sector revenues have grown at an average of 11% a year, according to research from market watcher Bain & Co. China has been at the forefront of this growth, with luxury goods spending rising 19% in 2012. However, growth this year is expected to be a mere 2.5%, a significant slowdown in the country that has driven profits for many years.     

The UK has two main listed luxury goods companies: Mid-cap player Mulberry and blue-chip Burberry.

Mulberry, famous for its Alexa handbag, posted its first-half results this morning, which were a very much mixed bag. However, the market chose to focus on the positive.

Revenues rose 2%, but profits fell by a quarter due to the “cost of continued investment in international expansion and increased seasonality”. However, the strategy of international expansion appears to be paying off, also sales outside the UK rose 29%, but this only made up 8% of total sales. 

Mulberry also said that wholesale revenue had fallen 5% to £28.6m, which it said reflected more cautious ordering by European wholesale customers. Chief executive Bruno Guillon also said that it faced fierce competition and rising leather prices.

However, this is perhaps not the biggest issue for Mr Guillon. Mulberry shares plunged earlier this year after creative director Emma Hill shocked the market by announcing her departure from the group. A replacement has not been found and the search continues.

The shares price of larger peer Burberry has fared better this year, with sales crossing the £1bn barrier in the first half of this year. Burberry is a more international brand than Mulberry, with more than 60% of sales generated in Asia Pacific and the Americas. This exposure to the US is beneficial, as a recovery in its economic fortunes means that sales growth for the luxury goods industry as a whole is expected to outpace China.

Profits were held back by transition of the Beauty franchise from being operated under license to being operated in-house. There was a wobble in the shares when Angela Ahrendts, the current chief executive, said she would leave the group to take up a position at technology group Apple. She will be replaced by current creative director Christopher Bailey.

This appointment has led to some investor concern about Mr Bailey’s lack of executive experience, however, others note that he has been in charge of all consumer facing activities at the group and has been integral in building up the company since he joined in 2001.

The luxury market can be volatile and players such as Burberry and Mulberry are both employing the correct strategy of expanding their international reach. 
However, as the market becomes more challenging, Burberry is much further ahead with this strategy than Mulberry. This fact is demonstrated in the two group’s share price performance this year – Burberry is up 20% and Mulberry is down 26%.

The sector also trade on very high earnings multiples – 27.8 for Mulberry and 19 for Burberry. This means the shares are priced for rapid growth in the next few years, at a time when the industry is in flux.

The era of yearly double-digit growth for luxury goods companies in China may have come to an end. But the main question for the sector is can the US pick up the slack next year? If not, these troubled times for the sector may get worse before they get better.

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