Analyzing China’s Controversial Luxury Pricing
With the growing economic power of urban Chinese consumers and the increasing popularity of luxury goods throughout mainland China, the issue of the discrepancy in prices between China and overseas markets like Europe has come to the forefront. A recent survey by the Chinese Ministry of Commerce found that 20 luxury brands from five categories, including watches, handbags, apparel, wine and electronics, display a yawning price gap in domestic and international markets. According to the study, prices for these luxury goods in mainland China are 45 percent higher than in Hong Kong, 51 percent higher than the U.S., and 72 percent higher than France.
After nearly 10 years of market development, China has become the battleground for the world’s luxury giants. Since 2005, the French luxury empire Louis Vuitton has branched out from China’s first tier cities into increasingly lucrative second- and third-tier cities like Chengdu, Kunming, Nanning, Tianjin, Dalian, Xi’an and Sanya.
However, Chinese media reports often note a sense of embarrassment or frustration in the China luxury industry, since more than half of the country’s wealthy luxury shoppers buy their high-end prizes in Hong Kong, Macau, or overseas. Despite the best efforts of major brands, which (as we saw in the case of Burberry this week) often entail building multimillion-dollar, state-of-the-art flagships, the fact of the matter is that Chinese consumers are often less than willing to pony up the additional 30 percent of the price tacked on in taxes alone. According to the official LVMH website, in terms of global markets, the same handbag will cost the most in mainland China, somewhat less in Hong Kong, and the least in France. This goes for categories like cosmetics, jewelry and clothing as well.
So why are prices in the Chinese domestic luxury market so high? According to the director of Chinese operations for the French luxury group A&H, the most important factor in luxury pricing is brand values, which rely on sustainable operations and investment. Many consumers, according to the director, believe that products with extremely high prices will necessarily possess unique brand values. As the Italian luxury house Gucci recently pointed out:
[V]alue and quality is based on a series of internal properties, and this goes beyond the selection of materials. Every luxury brand emphasizes high quality, original design and the pursuit of perfection.
From the point of view of consumers, in order to set pricing strategies, every brand has its own research department dedicated to market pricing based on different consumer segments. This department collects sales data broken down by region and analyzes the psychological effect of the purchase price on consumers. At the moment, affluent Chinese consumers are in what Radha Chadha and Paul Husband referred to as the “show-off” phase in their indispensable book on the Asian luxury market, The Cult Of The Luxury Brand. In this stage, consumers pay more attention to price, in contrast to consumers in more mature markets, where quality is the main concern. In a market still in the “show-off stage,” many products will actually sell better at a much higher price-point.
In the early stage of the development of China’s luxury market, agents played a critical role. Usually, in the early days, foreign luxury brands owners would completely cede a given market to an agent when first entering the Chinese market. These agents, in order to push higher profits, would then commonly set prices for these luxury goods at 4.2 times cost. This “4.2 times rule” also took tariffs, marketing, labor and public relations fees into consideration. However, it appears that the era of the luxury agent is in steady decline, as many major luxury brands, including Burberry, Coach, Chloe and Mont Blanc have bought back control of their brands in recent years, abandoning the brand owner-agent model and going it alone. As a result, these brands have seen profits increase solidly, if not dramatically.
However, price discrepancy remains an issue constraining sales. In response, some luxury brands have begun to absorb the tariff fees in order to increase market share and boost domestic shopping by Chinese consumers. Bottega Veneta, for example, has introduced flat pricing between mainland China and Hong Kong.
Recently, in response to consumer frustration and pressure from high-profile businesspeople like Dalian Wanda chief Wang Jianlin, China has put a comprehensive tax reform effort on the agenda, which may initially boost sales in segments like apparel, skincare and consumer products. As Jing Daily previously noted, Chinese Minister of Commerce Chen Deming promised at last month’s China Development Forum that China will soon resolve the issue of luxury pricing. At the same event, Chinese Minister of Finance Xie Xuren said China will work to reform its consumption tax system, and some luxury goods (mainly yachts and private jets) will see new consumption taxes levied.
Now we’ll have to wait and see whether these reforms actually lessen the price discrepancy between luxury goods in China and overseas.