McKinsey&Company

September 2010

McKinsey Consumer and Retail

Whats next: Rebirth of Luxury

Brent Hooper Marco Mazz Demetra Pinsent Nathalie Remy

Whats next: Rebirth of Luxury

As the global markets slowly regain their footing, the business world is left wondering what kind of consumer will emerge from this most recent recession. Looking back over the past two years, it is clear that the difference between the 2008 downturn and its predecessors was that this downturn hit all elements of consumer finances. Unemployment and inflation damaged consumers incomes, while declining equity and plummeting home values attacked their balance sheet. As a consequence, consumers reined in their spending, resulting in a reduction in consumer demand that affected all sectors and industries. For example, quarterly sales of luxury houses rose 13% on average in the years leading up to the recession (2006-2008), but fell by 5% during 2009.1 So, how can companies best respond to the new luxury environment? Recently, Luxury has been signaling a rebound, as shown by the quarterly results of major companies such as LVMH and Burberry, but given these turbulent forces and the consequent changes in spending behavior, the luxury industry needs to ask itself who the post-recession luxury consumer is, how he or she will (re)engage with luxury goods and what all this means for industry growth opportunities. As part of a global effort to understand emerging luxury consumer attitudes and behaviors, McKinsey recently surveyed more than 5,000 luxury consumers in Europe.2 Our findings point to four fundamental shifts in luxury consumer behavior that may last beyond the crisis.

As with non-luxury consumption,

luxury consumers are both trading down and reining in their spending. In part, this is driven by reduced foreign travel: business travel is down 30% and hotels in such popular shopping destinations as Paris, New York, London, Madrid, Hong Kong and Dubai saw their revenues per available room fall by 25-40% in 2009.

Increasing social pressure is creating

a backlash in society against conspicuous consumption.

Consumers are redefining value,

showing a renewed preference for timeless luxury over trendy fashion.

Luxury consumers are increasingly

buying their products of choice online and via other non-traditional channels. The impact of these trends is particularly noticeable in developed luxury markets. More than 50% of European luxury consumers traded down by purchasing less during the past 12 months; in developing markets such as China, this figure was just 8%. Far from a temporary behavioral change, this reduced spending may turn into a longer-term industry trend. Looking forward, sales could potentially decrease even further: some 67% of consumers stated that they are either postponing or no longer considering specific luxury purchases. In this article we take a detailed look at each of these four trends and their potential impact on the industry. Subsequently, we describe a set of opportunities for luxury manufacturers and retailers to pursue going forward.

1 Includes Bulgari, Burberry, Herms, LVMH, Gucci Group and Tods. Richemonts 2010 annual growth was similarly 4%. 2 McKinsey primary consumer research of luxury consumers in the UK, France and Italy (March 2010).

European luxury consumer trends

Value: Careful consumption extends into luxury To compensate for declining financial health, todays consumers are imposing their own domestic austerity measures. Luxury consumption is not immune to these. As with broader, non-luxury consumption, luxury consumers increasingly seek value for their purchases. This translates into both renewed price sensitivity and a re-thinking of each individual spend decision. Consumers are trading down to lower-priced items and using the internet to compare prices. At the same time, they are controlling their spending by limiting purchases to special occasions. The resulting discount dynamic can be observed in all the European markets we surveyed. Nearly one-third of European consumers indicate that they intend to seek discounts on future luxury purchases. This figure ranges from 28% in France and 30% in Italy up to 34% in the UK. In practice, this trend is both shifting purchases towards discounted items and driving consumers towards discount outlets. Todays luxury consumers readily admit that they are as likely to shop in discount stores and outlet malls as in more traditional luxury outlets (Figure 1). In addition to the discount dynamic, value-seeking has also altered the typical justification for a luxury purchase. Consumers in our survey no longer describe themselves as consciously looking for the latest trends, but rationalize their luxury purchases by referring to exceptional splurges. Thus, for instance, 38% of consumers said they would make a luxury purchase as a special splurge, while only 24% would do so to regularly reward themselves. This figure drops to just 6% of consumers who would purchase a luxury good to augment their existing wardrobe.
Figure 1

Discount dynamic
Where do you purchase luxury items? Percent of respondents multiple choices allowed

36

45 16 14

35

37

42 13 17

49 20 27

62 34
n/a Upscale department store (e.g. Harrods) Department store chain Brand boutiques Specialty store Off-price store (e.g. TJ Maxx) Outlet store

28

31 18

SOURCE: McKinsey primary consumer research

The shift to value varies depending on the category in question. This is particularly noticeable in Italy, where 85% of apparel and accessory consumers have changed either how much or where they shop. Least affected are fragrances and watches (Figure 2).
Figure 2

Trading down across categories

For items purchased in the past 12 months, which of the following is true? Percent of respondents multiple choices allowed

Buying at stores with lower prices Buying only when on sale Buying less often than in the past Switching to less expensive brands Delaying purchases Have not really changed how much or where I buy

34

41

32

28

19

21

12

25

23

29

30

14

15

22

21

27

23

27

34

30

22

13

18

19

14

16

12

19

15

15

19

19

27

31

24

SOURCE: McKinsey primary consumer research

Values: Responsible consumption Amidst the recessions bank bailouts and swelling unemployment lines, we saw the emergence of anti-luxury social pressure. This resulted in a backlash against the conspicuous consumption of recent years. One notable sign of this is the plain paper bags offered to luxury consumers during the 2008 sale season in Europe. Even among those consumers still buying luxury items, few feel it appropriate to broadcast their purchase to the world. This is most pronounced in the UK, where 34% of consumers consider such conspicuous consumption to be in bad taste, and UK Vogue has recently reintroduced its hallowed More Dash Than Cash section. But the sentiment is shared in other markets, including 20% of French consumers and 25% of Italian consumers. One straw in the wind: the FTs How To Spend It recently noted a trend towards smaller, flatter, less conspicuous mens watches, down from their 44mm heyday to a more discreet 40 or 38mm. As well as inconspicuousness, there are some signs that consumers seek to practice a more responsible consumption aligned with popular social concerns. Common causes include environmental sustainability, personal health and wellness and fair/ethical trade. While these values are top-of-mind for consumers, however, they have yet to truly shift consumption patterns. Only around 15-20% of consumers are sufficiently proactive or committed to these causes to let them affect their purchasing behavior or the amount they are willing to pay.3

Respect me: Personalization, statement, investment The third trend we observed was a changing definition of personal luxury, as more and more consumers describe their luxury purchases as investments. They told us that they are more likely to pay full price for items they perceive as classic, core or traditional rather than for those they found beautifully designed (Figure 3). This reflects a desire for timeless, everlasting style and authentic heritage: it benefits brands who can demonstrate these qualities. Buying a luxury item as an investment and potentially as a family heirloom for future generations does not mean that the buyer wants to forego personalization. On the contrary, consumers see their luxury purchases as opportunities to express their individual tastes. Examples of this are already all around us and we can expect to see more.

Personalization can come in the form of custom products, such as bespoke suiting or fragrances. It can also be provided through individualized service. Hotels, for example, have made effective use of their CRM systems to capitalize on this and drive loyalty by catering to individual needs. Many now pre-identify guests to provide them with preferred services upon arrival, including preferred pillow service and pet pampering. In the mind of the consumer, these individual benefits can, in turn, justify the premium pricing of luxury goods and services. The price corresponds with the perceived personal value to the consumer. In a potential paradox, consumers are now willing to pay even higher prices for a personalized, authentic luxury than they were for the must-have handbag of a few seasons back.

Figure 3

Seeking authenticity
When shopping for luxury brands, how likely are you to pay full price? Percent of respondents multiple choices allowed

If the item is a classic that I can wear/ use for many years For a special occasion or event When the item is something that I can wear/ use often When the item is a gift for someone else When the item is a beautiful design When the item can be used to update my existing outfits/ wardrobe When the item is exclusive/very limited supply When I really like the store experience and service
SOURCE: McKinsey primary consumer research

25 22 19 18 16 11 5 5 7 10 9 19 17 23

29

34 29 28 19 21 11 10 12

25

3 McKinsey Global Institute Perspectives on Green; UBS; Company websites.

Implications and opportunities for luxury players in Europe

I want it now: Multi-channel retail A final trend addresses the move of luxury consumers to online channels for information, browsing and even purchasing. Roughly half of all consumers now browse luxury goods online before shopping in-store. Conversely, many browse in-store only to compare prices and purchase online. This has led most fashion houses to post runway images of each new collection and, most recently, to Burberrys digital streaming of live catwalk footage. It has also created new sales models, such as the Gilt Groupes invitation-only flash sales. It is clear that consumers are increasingly looking for more than information on the internet and are actually purchasing luxury goods online. Roughly 3% of all global luxury purchases are already made via the internet, and this figure is expected to climb to 4.7% by 2011.4 In Europe, 9% of consumers say they shop on brand websites, while 23% shop on multi-brand sites. Our work with clients has shown that multichannel consumers are worth two times as much as single-channel consumers. What is more, there is limited cannibalization of in-store purchases due to online sales. Our findings indicated that sales from consumers who research online to buy in-store was offset by online sales resulting from consumers viewing the items in-store. Its all in the delivery though, as different brands follow different strategies. Herms, for example, has differentiated the roles of its online and in-store retail activities. The former provides brand education and product replenishment, while the latter provides deep engagement and immersion for consumers. Prada, in contrast, offers a multi-media introduction to the brand and a limited selection of bags and accessories for sale via its online store.
4 Precepta; company reports.

So how should companies respond to these trends? The winners will be those who can identify and capture the pockets of growth that remain. Following are four tactics that we believe luxury players should adopt.

Invest granularly The key success factor to postrecession growth will be not only excellent execution, but also thoughtful selection of those industry segments, customers and micromarkets in which luxury brands compete. Given the increasing wealth and emergence of a more sophisticated consumer in developing markets such as China, international expansion opportunities have long been a pillar of luxury growth. Cartier, for example, recently introduced limited-edition and Chinese-inspired designs in China to address specific consumer needs and desires. Our work in China has shown that excellent local execution often requires a granular view, even down to the micro-regional level of specific cities. For European luxury houses, investing in foreign consumers does not only require capital-intensive foreign expansion. As developing markets grow, their wealthy individuals will increasingly travel abroad as Europeans long have. Retailers must ensure they offer the right assortment and display the frontline cultural sensitivities to meet the specific needs of these foreign consumers. But companies need to be realistic in terms of identifying and targeting a few specific segments. It will not be possible, for example, to provide native-language sales assistance to all potential foreign consumers.

Another specific opportunity for the industry is using CRM technologies to identify and serve loyal and lapsed consumer segments. True luxury consumers, for example, never left during the recession and currently form the foundation of the recovery. In the UK, 8% of consumers said they were willing to pay full price for luxury items. This group was slightly smaller in Italy and France, at 5% and 4% respectively. Complementing the foundation created by true luxury consumers, lapsed consumers have the potential to become the engine of growth as they return to the fold. During the past year, roughly one-fourth of previous luxury consumers did not purchase a single item. Many of these consumers did consider a luxury purchase, but then postponed the decision. Direct-to-consumer communication and CRM initiatives are indispensable to prevent these lapsed consumers from becoming lost. Finally, a granular investment approach should also take into account those categories likely to recover first as the recession fades. Our research showed, for example, that fragrance consumers weathered the storm of the recession most resiliently. Thus, for instance, 38% of fragrance consumers stated that they have not really changed how much or where [they] buy. By contrast, when it came to apparel and accessory consumers, only 20% and 21% respectively agreed with this statement (Figure 4).

Figure 4

Some categories will rebound quicker than others

For items purchased in the past 12 months, I have not really changed how much or where I buy Percent of respondents

Cosmetics Fragrances Handbags Watches Shoes Accessories Apparel

41 38 35 34 29 26 26 24 26

39 46 34 34 33 19 15 15 19

27 31

24

SOURCE: McKinsey primary consumer research

Increase operational flexibility Increased operational flexibility will indeed be crucial to executing through the recovery, but companies must ensure their way of working is aligned with their strategy. For example, many companies reduced inventory during the recession, which may have extended lead times for production, leaving them now unable to meet demand. It is increasingly necessary to create a flexible supply chain and to define merchandising processes to shorten these lead times. Second, reductions in the workforce drastically reduced consumer-facing time. This is the moment to reconfigure store operations, to ensure meaningful moments of truth with both loyal and lapsed customers. Finally, reductions in marketing and advertising spend have reduced share of voice and consumer awareness. Reactivating lapsed consumers will require a careful shift in spend towards marketing and advertising initiatives with higher ROI.

Harness new sales and marketing channels New sales and marketing channels hold the potential for luxury companies to broaden their reach, often in a cost-efficient manner. At the forefront of this are a host of internet and multi-channel initiatives employed by different sectors of the luxury industry. An online web presence is increasingly the first place that luxury brands interact with consumers. Viktor & Rolf have created a virtual brand atmosphere to spread their avant-garde personality online. Vuitton offers an extensive online shop across a large section of its assortment. These sites serve both to interact with consumers, and to understand consumer shopping trends. The CRM-opportunity is enormous and particularly relevant for luxury, but brands must move beyond merely interacting with consumers to actually building a relationship and two-way dialogue with them.

However, luxury houses should not limit themselves to the internet when seeking channel innovation. There are also examples in the physical sphere, such as new store outlet concepts, and the social sphere, such as viral marketing campaigns. In a more bricks-and-mortar sense, pop-up stores are one means of accessing consumers closer to where they physically find themselves. Both Michael Kors and Diane von Furstenberg operated such outlets during Summer 2009 in the Hamptons. Additionally, viral marketing campaigns through SMS, MMS images of recommended items sent by personal shoppers to regular clients, word-of-mouth and blogs are also growing in popularity and impact. Similarly, Givenchys Play campaign with Justin Timberlake is one recent example of social marketing. The challenge for luxury brands remains the need to balance visibility with exclusivity, in order to protect its positioning in these new channels. Connect differently In order to connect with consumers pursuit of a more personalized, authentic luxury experience, luxury companies will need to revisit their brand story and the shopping experience they provide. Those brand stories that celebrate heritage, timeless quality and a personalized touch are more likely to resonate with postrecession consumers. Vuittons recent craftsmanship ad campaign shows a brand tapping into these sentiments. Similarly, retailers should seek to provide a more personalized shopping experience that conveys value beyond price. Again, this is where CRM can be a critical part of a retailers armory by enabling the collection and analysis of purchase data over time for a readily identifiable customer. This helps luxury retailers do what they have done so well for so long predict what we will love even before we do!

Conclusions
In conclusion, the recent recession obviously impacted the luxury goods industry, shaking consumer confidence and spending behaviors. Consumers told us that they are now trading down and avoiding inappropriate luxury purchases. At the same time, they said they seek personalization, authentic value and multi-channel interactions in their luxury purchases. Although the 2010 quarterly results contain some early signs pointing towards a recovery, particularly among more established luxury houses, competition in the luxury business will remain intense. Our consumer research tells us that successful players must invest granularly, increase their operational flexibility, innovate in their consumer interactions including their online presence and provide a brand story that connects more deeply with consumer wants and needs. In the end, the winners will be those who are best able to quickly identify and capture pockets of growth in the market, and thus position themselves as the next generation of luxury leaders.

Contacts
Marco Mazz Partner, Rome Phone: +39 06 42087 389 E-mail: Marco_Mazzu@mckinsey.com Demetra Pinsent Partner, London Phone: +44 (20) 7961 5492 E-mail: Demetra_Pinsent@mckinsey.com Nathalie Remy Partner, Paris Phone: +33 (1) 4076 7180 E-mail: Nathalie_Remy@mckinsey.com Brent Hooper Manager, Brussels Phone: +32 (2) 645 40 85 E-mail: Brent_Hooper@mckinsey.com

Consumer & Retail/Marketing & Sales September 2010 Copyright McKinsey & Company, Inc.