Q2 2020: COVID-19’s global pattern of disruption across luxury brands

With China having been the first to impose and lift a nationwide lockdown, a rebound in luxury spending started to emerge in the country as doors were closing in Europe and the US. Demand in Mainland China is therefore expected to recover faster than in Europe or the US — not just owing to the timeline of global outbreaks, but also because China is considered the greatest growth opportunity for luxury brands. Depending on the brand, up to 40% of global customer bases are domiciled in China. 

In terms of how companies are faring since China reopened, “Dior has been one of the top performers together with Hermès, Louis Vuitton, and Chanel”, said a VP at Guccio Gucci SpA. Dior reported a 35% increase in turnover despite 20% fewer visitors in April, compared with a global turnover of -58%. A store conversion rate of 80%, a 20% increase in average ticket size and exceptional online performance — with sales up by 550% — were highlighted in the Interview as the drivers of success. Revenge buying, a term to describe a pent-up desire to spend, has also been strong in the region, as those who would typically shop internationally have been spending their money in domestic stores. 

However, recovery in Europe, where up to 60% of revenue can come from international tourism, is expected to be more subdued due to the decline in visitors. Another Interview, also with the Gucci VP, revealed that international travel declines of 72% are expected across the region in Q3, with -89% and -92% in France and the UK respectively. A former director at Prada SpA noted that local consumption is driven by CRM activity, which is expected to remain largely on hold through year-end. For example, Chanel would typically invite around 300 clients to fashion shows, for which those clients would spend EUR 10,000-50,000 on two or three outfits. “Now, if we are talking about digital fashion shows, there is absolutely no reason to purchase these outfits,” he added. The consensus is that Europe will end 2020 in negative territory, with a similar — albeit less severe — outlook for the US. As the US is heavily dominated by department stores, luxury brands are more reliant on this channel in the region and less so on D2C, which is gaining traction in other regions as brands seek greater control over pricing and product position. This means recovery in the US will hinge to a greater extent on the wholesale outlook and brands’ ability to grow a D2C network. Domestic spending is also more prevalent in the US than in Europe, making it more resilient to broader declines in international tourism. 

Meanwhile, as companies attempt to prepare for an unpredictable future, many are ramping up their digital capabilities as they grapple with changing conditions. COVID-19 is expected to catalyse a “radical shift” in how consumers buy luxury goods, particularly fashion. The overall market for online luxury has been growing at a steady rate of 15-20% YoY, which one expert predicts will accelerate by 5-10%. By 2025, 30% of the global fashion business is predicted to be online, up from previous expectations of 25%, a former managing director at Valentino SpA said. 

There are two main factors behind this, namely changing consumer mindsets and behaviour. “People will be, for a while, less inclined to go to stores, but will be, for a much longer period, prepared to buy online,” the former YOOX NET-A-PORTER executive said. Second, as brands gravitate more towards omnichannel, COVID-19 may be the digital transformation tipping point for many companies. Despite widespread CAPEX freezes, “now is the moment to invest in technology”. The luxury market has hitherto been relatively slow to embrace the power of online, based on the assumption that customers prefer the in-store shopping experience, through which they can learn about the heritage of the brand and its quality. “What will make the difference in H2 will be really to provide to the store the best technology… to sustain the growth with… physical constraints from a health and safety standpoint,” the expert said. 

The gap between secondary brands and megabrands could also widen if the former fail to keep up with the changing demands of an increasingly competitive environment. Indeed, experts predict M&A will be on the cards if weaker companies or monobrands struggle to stand out amid the brand power of larger players. The industry has already gone through a significant period of consolidation in recent years, with a handful of groups, including LVMH and Kering, now dominating the industry. However, the industry is unlikely to see an uptick in deal activity until the dust settles and valuations are easier to discern. 

One specialist is “definitely expecting M&A [activity] from LVMH”, which entered into an agreement in November 2019 to acquire Tiffany & Co, bolstering its jewellery offering and US presence. Another predicts that at least 10% of Italian boutiques will go out of business in the next 12 months. Italy, where many brands are headquartered and have suppliers, represents 40% of the luxury personal goods market in terms of supply, depending on the brand, and has been one of the countries hardest hit by COVID-19. McKinsey reported that, even before the pandemic, growth among luxury brands globally ranged from 40% to negative territory, with earnings spanning 50% to single-digit percentages. The consultancy expects further polarisation, which it said will depend on the health of balance sheets, operating model resilience and brands’ overall response to COVID-19.¹https://www.mckinsey.com/industries/retail/our-insights/a-perspective-for-the-luxury-goods-industry-during-and-after-coronavirus   

Although the full impact of the pandemic on the luxury market is still unravelling, the consensus is that demand will drop by 25-30%, wiping tens of billions of dollars off the total market value. A full recovery isn’t expected until 2021 at the earliest, and potentially not until 2022-23. Levels of pent-up demand, how quickly regions bounce back, consumer confidence and tourist flows are among the factors that will shape the sector post-coronavirus. There are also significant challenges around pricing and how brands deal with the inevitable issue of excess inventory, which will require careful consideration as discounting can erode luxury brand integrity and have longer-term consequences. 

Before COVID-19, the global luxury personal goods sector was growing at a CAGR of around 5%. The pandemic will undoubtedly derail this to some degree and the intense promotional environment could threaten historically high gross margins. However, there will be pockets of opportunity for those brands that are willing and ready to embrace a new normal — at least in the short to medium term. Digital innovation, health and safety considerations, and a deeper understanding of consumer mindsets will be crucial for all luxury brands to flourish in 2020 and beyond.