Luxury’s Shrinking Purse

She’s got a closet full of luxury handbags, a jewelry box overflowing with gemstones and dresser drawers stuffed to the gills with designer togs. But even luxury consumers can fall prey to fears of recession and the roiling financial markets.

The first signs that luxury shoppers were beginning to tighten the reins on their spending emerged late last summer. By the end of the year, there was no denying that affluent consumers — the top 25 percent of U.S. households — were pulling back, and their confidence was slipping, too. Unable to escape the barrage of economic bad news, roller coaster stock market fluctuations and declining home values, this once avid-spending consumer put the brakes on free spending.

And retailers that cater to these well-to-do shoppers got whiplash. At Coach, domestic same-store sales slipped 1.1 percent during its second fiscal quarter. Tiffany reported a 2 percent decline in U.S. same-store sales during the eight-week holiday selling season, and Nordstrom said that December comp-store sales fell 4 percent. Saks Fifth Avenue squeezed out a 0.8 percent sales lift at stores open for a year or more, and Neiman Marcus posted a 2.9 percent sales increase, but those figures were a long way from the steady gains they’d posted in previous months.

Even brands that cater to the super rich were not insulated from economic pressures. Both PPR, which owns Yves Saint Laurent, Stella McCartney and Balenciaga, and Compagnie Financiere Richemont, the Swiss parent of Cartier and Baume & Mercier, reports that the pace of growth has slowed.

Pam Danziger, president of Stevens, Pa.-based Unity Marketing, saw the writing on the wall in early fall. Unity’s Luxury Consumption Index slipped 8.8 points between June and September; in December, it dropped 23.8 points to 63.6 — the greatest decline recorded since the marketing and consulting firm began its quarterly tracking study in January 2004.

The survey, based on the responses of 1,281 luxury consumers (average income $155,700 and age 46.6) suggests that affluent consumers are feeling the pain of the financial crisis, according to Danziger.

“There are a number of factors that have dragged down luxury consumer confidence, but foremost is a lack of confidence in the country’s executive and legislative branches — and particularly in their ability to lead the nation out of its economic malaise,” Danziger says. Other factors include the mortgage banking crisis, increases in the price of oil and the decline of the dollar’s value against nearly all major currencies.

Luxury consumers’ spending declined 21 percent between the second and third quarters of 2007 and remained flat in the fourth quarter, and near-term expectations aren’t any rosier, Danziger says. Thirty-nine percent of the respondents surveyed by Unity Marketing plan to spend less on luxury in 2008; only 16 percent expect to spend more.

Those figures mesh with monthly consumer data compiled by BIGresearch. Dianne Collins, market analyst for the Worthington, Ohio-based company, reports consumer spending intentions are tracking downward for every major product category and consumer confidence is now at a five year low, with only 26 percent of adults 18 and older indicating they’re confident or very confident in the economy.

“Generally speaking, consumers are delaying purchases,” Collins says. “They may want to buy a car but they’re anxious about signing on the dotted line. In the back of their heads is a nagging voice wondering, ‘what if I need the money a few months from now.’”

End game
The question on luxury retailers’ minds is: “How long will this last?” Economists and industry watchers don’t expect the current climate to change much until after the elections in November. Most say that regardless of who ends up in the White House in 2009, the prospect of change will likely boost affluent shoppers’ spirits, and thus their appetite for spending.

“We’re going to stay in this current environment for another nine months to a year,” says Michael Niemira, chief economist at the International Council of Shopping Centers. “By and large, I think the luxury retailer is in a better position to weather economic weakness, but they’re certainly not immune.

“Luxury shoppers have a more direct relationship to the stock market than other consumers, and the gyrations they’re experiencing are worrisome,” Niemira says. “Worry is not good for the psychology of spending.” In other words, luxury shoppers can still afford to spend $400 for a handbag, but they’re feeling “less wealthy” — and many don’t feel good about spending knowing that their neighbor is struggling to pay the mortgage.

C. Britt Beemer, chairman of America’s Research Group, agrees that luxury shoppers’ spending is emotionally linked to the stock market. “There are a lot of affluent people that have 401(k)s tied to stock market performance, but well-heeled consumers have 60 to 70 percent of their wealth linked to stocks, he says. Even if they don’t have any intentions of taking money out of the market in the near future, seeing big losses on paper has a negative effect on spending.”

Caution reigns
Luxury retailers remain cautiously optimistic about the upcoming spring season and the remainder of 2008. It’s clear, however, that the double-digit sales growth to which many had become accustomed is likely out of reach. Still, if they can keep inventories in check, resist the urge to append promotions and ride the wave of foreign shoppers flocking to stateside stores, they’re betting same-store sales will grow — even if by smaller margins.

A silver lining will be international business. Several retailers will open new stores outside the United States, and they are hopeful that global sales will give corporate balance sheets a much needed shot in the arm.

Last month, Tiffany outlined plans for a high single-digit increase in U.S. retail sales for 2008, and a mid-teens gain in international retail sales for the same period. “Generally speaking, we are planning our U.S. businesses cautiously for the first half of 2008,” says CEO Michael Kowalski, “while planning for continued healthy international sales growth throughout the year.”

Coach CEO Lew Frankfort acknowledges that some of the brand’s customers traded down to lower-priced items during the final weeks of 2007, noting that the company was “not immune to a slowing consumer environment.” Still, a bright spot for Coach was a 13 percent increase in sales of their $400-plus handbags.

“It’s the middle class that is being hit,” Frankfort said during a call with investors. “The truly upper-income consumer does not seem to be affected.” He told investors that in light of “continued uncertainty,” Coach would not provide comparable-store sales guidance for the balance of the fiscal year. Still, he underscored the brand’s commitment to innovation.

“This challenging climate has only served to reinforce our long-standing practice of evolution and continuous improvement,” Frankfort said.

Similarly, it’s business as usual at Dallas-based Neiman Marcus. “We have experience with this,” CEO Burton Tansky told investors on a recent call. “We’ve gone through it before. This customer does not trade down, she does not change venues . . . she does not leave us. What she does, if in fact this continues to be challenging . . . she’ll buy a little less.”

Bright spots
The luxury shopper’s mood is more sober than it has been in years, but there are bright spots for retailers. Chief among them are emerging international markets, led by the Asia Pacific region. Experts are predicting that in three to five years, China will be the world’s leading luxury market.

Last October, Verdict Research (part of the Datamonitor Group) published a Global Luxury Retailing report predicting that the Asia Pacific region will overtake the United States as the second-largest market (after Europe) by 2012.

For retailers that operate shops globally, the opportunity to ride this wave should lift spirits and sales. Meanwhile, chic shopping districts in New York, Los Angeles and other gateway luxury markets will continue to benefit from the influx of foreign tourists — particularly Europeans, who are spending lavishly as they take advantage of the weak dollar. (A handful of New York merchants are now accepting Euros — a clear sign of the desire to invite foreign shoppers to spend.)

The news may be encouraging for U.S. luxury brands buoyed by tourists’ spending, but it’s proving to be a mixed bag for European brands that have set up shop stateside. Case in point: Louis Vuitton. The Paris-based luxury brand recently announced it was increasing prices in its U.S. stores by 5 percent to offset the weakness of the dollar – a factor that has resulted in the brand’s products being cheaper to buy in the U.S. than in Europe. Other brands, including Gucci, have also raised prices in the U.S. to counteract the steady rise of the Euro against the dollar.

Deborah Weinswig, managing director and senior analyst for Citi Investment Research, doesn’t expect luxury retailers to see a true rebound in sales for least nine months, but she insists some categories will weather the downturn better than others.

“Handbags will continue to sell,” Weinswig says, and “an up-tick in jewelry sales is also likely. Again, consumers think of an expensive piece of jewelry as an investment; it also generally holds its value – especially gold — which makes it stand out from many other luxury purchases.” In addition, she expects high-end fashion apparel to perform stronger than opening-price-point luxury clothing.

A big believer in the role of retail technology, Weinswig asserts that those who invest in IT will have an edge when it comes to navigating economic highs and lows. Those who have recently installed new applications like clienteling software “will generally be more successful at weathering the twists and turns because they’ve got the ability to do a better job of reaching out and connecting with shoppers,” she says. “Once a retailer has a better understanding of who’s shopping in their stores and why, they start to realize the payback.”

Sustaining sales
Christine Chen, senior research analyst at Needham & Co., insists luxury retailers such as Bergdorf Goodman and Barney’s will manage to sustain sales despite a challenging climate. “The biggest and best-known luxury brands are better positioned than smaller, lesser-known luxury items because people generally revert to what’s known during times when they’re purchasing more cautiously,” she says.

Chen, who follows Coach, expects items priced at the high end of the collection to be the bestsellers in 2008. Might economic indicators impact fashion indicators at Coach? “It could happen,” she says. “Women have been buying oversized handbags for a while now. By necessity, they may have to start buying smaller bags.”

Chen expects luxury retailers to control inventory and resist the urge to reach for a red pencil. “Retailers are more likely to make adjustments to the merchandise mix rather than lean on the promotions crutch.”

While sales of some luxury items will stagnate in 2008, Danziger is betting that affluent consumers will opportunistically buy imported and higher-priced items in an effort to get out in front of inflationary trends, as well as invest in their homes. For instance, some will buy real estate at a low price with the expectation of selling at a higher price in a year or two. Likewise, they’re likely to take capital and invest it in strategic home improvements.

Finally, Danziger believes 2008 may prove an excellent time for American designers to move ahead. “With the dollar weak against foreign currency, this is the time for American designers to take their luxury fashions on the road and into foreign markets,” she says. “U.S. prices will be very attractive to foreigners in the coming year. … On the home front, this may be an excellent year for American fashion designers to pick up the pace in marketing and brand building.”