The to-do list?

Aug 01, 2011
<p>Is there a financial case to be made for luxury brands&rsquo; secondary IPOs in Hong Kong? <i>Ian Williams</i> investigates</p>

In the wake of the Prada IPO, Coach is about to get a secondary listing in Hong Kong, with shoe manufacturer Jimmy Choo considering the same. They will be joining other luxury brands, most recently Samsonite and L’Occitane, which chose the city state for their IPOs.

Coach is sending mixed signals. Although it is now in a quiet period and so is not commenting, Lew Frankfort, Coach’s chairman and CEO, recently told the Wall Street Journal: ‘This listing, if approved, will raise awareness of the Coach brand among investors and consumers in the Chinese market, as well as throughout Asia.’

Some analysts are not convinced, however, seeing it rather as a means of raising capital for expansion. Jack Plunkett of Houston, Texas-based Plunkett Research points to the main reason for the mass hand-bagging of Hong Kong investors. ‘If you walk through any major shopping mall in Beijing, Hong Kong or Bangkok, you’re surrounded by Louis Vuitton, Coach, Prada, Hermes and all the others,’ he says. ‘Leading luxury goods firm LVMH already gets about one third of its revenues from Asia, where it is establishing a constant stream of new stores. This trend will accelerate as the number of affluent households in Asia continues to rise.

‘To a large extent, therefore, revenue growth for luxury companies is going to come from emerging nations, China in particular. Listing their stocks on the Hong Kong Stock Exchange (HKEx) gives them a chance to build name recognition and raise funds close to their most promising consumer markets. The fact that mainland Chinese citizens are now allowed to own Hong Kong-listed stocks encourages this.’

Clearly convinced of the logic underpinning this analysis, Prada sold 16.5 percent of its equity at HK$39.50 ($5.08) per share, indicating a global valuation for the company of some $13 bn. ‘Prada tried to go public five times. But each time there were problems,’ not always of the firm’s own making, notes Patricia Pao, a consultant for luxury brands breaking into the Asian market. Prada hoped to raise more money and get a higher valuation in Hong Kong than in Milan – which it almost certainly did if the near simultaneous IPO of Ferragamo in Italy is any guide.

The strategy is based on the hope that affluent Chinese, who buy the products, would want to buy the shares through Hong Kong. ‘More than anything, all those luxury houses are looking to Asia and China for future growth and they want to be close to the market,’ comments Pao. ‘Meanwhile, Chinese investors are looking to diversify their holdings and capture western knowledge of building a luxury brand.’

Retail therapy
Prada’s shares were sold at the lower end of expectations. Although those expectations had perhaps been overhyped – it was even reported that some retail investors sought the certificates to frame and hang on their walls – while institutions oversubscribed by three times, the 10 percent tranche for retail investors was undersold by half. Hong Kong’s hyperactive retail investors usually put a lot of dynamism into the market, which would have raised valuations. Their failure to call their brokers on this occasion may well have contributed to the lower-than-expected valuations. Many investors were also dissuaded by Italian dividend taxes taken at source.

While some analysts may have seen the offer as disappointing for not meeting wilder expectations, however, the IPO still gave a more than satisfactory valuation of 23 times Prada’s estimated earnings this year, higher than most of its listed rivals. And Pao suggests the institutions were also representing large-scale Chinese investors with bundled stakes.

Nevertheless, the failure to sell the full retail allotment still raises some questions about aspects of the rationale for the listing. On a macro level, listing in Hong Kong makes eminently good sense for any company that can interest Asian investors: in 2010, HKEx raised $57 bn, around a fifth of the global IPO total. But the retail reticence in this case seems to counter arguments that the listings would provide a solid base for brand building.

For the luxury sector, Hong Kong is, of course, the gateway to China, where high-end brand companies are making nearly a third of their turnover. China’s growing middle classes have an inexhaustible appetite for chic brands, and this is one of the few sectors in which Europe and the US still have an edge. ‘Chinese investors do not want their money 12,000 miles away,’ stresses Pao. ‘That means a Hong Kong listing makes sense.’

From the listing companies’ point of view, buoyant Asian financial markets and the growing urge for Chinese investors to diversify while remaining close to home suggests another rationale. Local investors are getting their money out of China’s whimsical clutches and, in the case of the luxury brands, buying into familiar successful companies with a large stake in Chinese prosperity.

Mystery branding
The assorted shoes, handbags, perfumes and even high-end cars are, uniquely, from foreign firms with no domestic competition. Branding is a fascinating mystery to Chinese business. It takes decades to build a brand that has the indefinable patina of chic luxury, and part of the attraction is that the luxury brand commodities, whether a limousine, handbag or pair of designer shoes, are made in their traditional and long-established locations.

Chinese business people understand this. ‘There are lots of newly minted billionaires and even more millionaires, and they talk to me about this,’ says Pao. ‘They understand they don’t know how to create brands and they blame the rigid Chinese education system.’ Tellingly, she is consulting for a Chinese firm that wants to develop a luxury skincare line, ‘and it insists it has to be made in the US, because [my client] doesn’t know how,’ she says. More tellingly, Chinese consumers associate quality, in this sector at least, with foreign imports.  

But not all companies are convinced. Asked for comment on why Richemont, for example, was not trying for a Hong Kong listing, its IR department replied with almost audible Gallic disdain: ‘It is not for Richemont to comment on the decisions of our competitors.’ From New York, Tiffany & Co’s vice president of IR Mark Aaron was more forthcoming. He says Tiffany won’t be stampeded into following the rush to Hong Kong.

‘We are taking a wait-and-see attitude to a Hong Kong listing,’ he explains. ‘We’re not really believers so I won’t criticize but I reserve the right to be skeptical until proven wrong. I’ve always felt that investors anywhere in the world have access to the NYSE and can buy Tiffany shares there.

‘I understand the argument that a local listing might enhance the brand. And it well might, if management members can go to the local exchange, ring the bell and get their picture taken. They wouldn’t do it if they did not think it would boost share price or bring greater brand visibility, which brings more customers to their stores.’

Capital ideas
Aaron has no doubt that Asian consumers have what he calls ‘a reverence for our brand. A third of Tiffany’s business is in Asia-Pacific so we certainly want to maintain high brand visibility. But we support our brand with substantial marketing and advertising in all 22 of the markets we are in.’

About 2 mn Tiffany shares are traded a day on the NYSE and Aaron says adding a few thousand to that total wouldn’t be worth it. ‘Ultimately the financial results will determine the value,’ he adds. ‘We are not ready to list now; additional listings generate extra fees, extra filings.’

Beyond Tiffany’s comfortable position, however, other companies might need the capital. For example, luxury cars are enjoying a sales boom in the People’s Republic, where industry insiders delight in the fact that they are sold at their sticker prices with none of the haggling and discounting customary in the US, which may point to possible future issues. China is already the second or third-biggest market for BMW, Rolls-Royce, Jaguar and Land Rover. So Indian car maker Tata, for example, which is investing heavily in the latter two British brands, might well want to draw on capital from their growing Chinese customer base.

Hong Kong wins over the Bombay Stock Exchange, both on capital reserves and brand recognition. Recent IPOs may not have delivered the stellar valuations managements had persuaded themselves were possible, but they met any reasonable expectations. Just as US bank robber Will Sutton kept robbing banks ‘because that’s where the money is’, capital-hungry companies with a globally recognized brand will keep beating a path to Hong Kong.

This article appeared in the August print edition of IR magazine.

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