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MARCH 2011 A forward-looking primer on the Watches & Jewelry luxury categories and their main players
Watches have grown at c.+3% p.a. for 15 years; luxury has outpaced electronic segment by 700bps on (1) premiumization, (2) shift to EMs (higher HNWI growth), and (3) demographics; luxury watches should grow at +10-16% p.a. in 2010-15E on broader EM middle-class purchases For watches, premiumization and value-added features have been key marketing mix trends for 10 years; distribution remains wholesale-dependent, leading to EBIT% volatility and potential brand equity damage; however, leading names are investing in channel quality, notably in EMs Jewelry has grown at +2.5% p.a. for 10 years, with luxury outpacing mass market by 250bps; luxury segment acceleration to +7-10% p.a. expected in '10-'15E (lower than for watches) on (1) wave of aspirational demand in EMs, (2) shift towards branded, (3) commodity price inflation We expect CFR to continue thriving in the high-end; UHR should "bridge the gap" by capturing lion's share of middle class "wave" in EMs, while also riding on premiumization; difficult even for multi-category groups (LVMH, PPR) to mount a challenge without "game changing" M&A
SEE DISCLOSURE APPENDIX OF THIS REPORT FOR IMPORTANT DISCLOSURES AND ANALYST CERTIFICATIONS
Table of Contents
Significant Research Conclusions Understanding Watches Demand Marketing Dynamics in Watches Product Innovation and Pricing Watches Distribution Watches Manufacturing How Jewelry Is Different Swatch Movements Champion Richemont High-End Champion M&A Scenarios in the Watches Competitive Landscape LVMH Buys Bulgari Index of Exhibits 5 15 33 53 65 83 101 137 153 165 167
Exhibit 1
Financial Overview
Swatch UHR.VX (CHF) 365.90 485.00 M 434.80 279.70 12.0% 13.4% 20,084 Richemont CFR.VX (CHF/) 47.95 64.00 M 57.75 35.50 16.7% 18.1% 28,839 LVMH MC.FP () 103.65 127.00 M 129.05 78.26 21.4% 22.7% 52,232 PPR PP.FP () 100.00 135.00 M 128.30 89.37 4.6% 6.0% 13,684 Burberry BRBY.LN (/p) 1,108.00 1,200.00 M 1,235.00 611.50 59.4% 60.8% 5,079
Recent Price (17-Mar-11) Target Price Rating 52-Week High 52-Week Low TTM Performance TTM Relative Performance Market Cap (million) Earnings per Share FY2008 FY2009 (2) FY2010E (1), (2) FY2011E (3) FY2012E (3) FY2013E (3) P/E Ratio FY2008 FY2009 FY2010E FY2011E FY2012E FY2013E
Notes: (1) EPS 2010E refers to reported actual figures for Swatch, LVMH and PPR; (2) PPR EPS figures adjusted for disposal of Castorama in 2009 and 2010 (not in 2008); and (3) LVMH forecasts not accounting for consolidation of Bulgari (acquired Mar-11). Source: Corporate reports and Bernstein estimates and analysis.
Exhibit 2
In Value Terms, Switzerland Is the Leading Exporter of Watches (Hong Kong Likely Overstated Given Re-Exporting)
9
10
WatchExportsByKeyCountries ( billion, '09)
600
ExportsofFinishedWatches (UnitsinMillions, '09)=Bars
9 8 7 6 5 4 3 2 1 0
500 400 300 200 100 0 22 HK $11 Switz. $528 11 Germany 344
2 1 1
6 France
Switz.
HongKong*
China
Germany
France
* Export figures include re-exports of products in transit; Hong Kong is a major re-export market and could be overstated. Source: FHS and Bernstein analysis.
Note: Bars = exports of finished watches; Price = Average US$ price of wristwatch exports by respective country. Source: FHS and Bernstein analysis.
Total CH watch exports encompass "mechanical" (67% of total value in 2009), "electronic" (27%), and "other" (6%) watches. "Wristwatches" account for c.98% of value and c.80% of volume in both the mechanical and electronic categories, with "movements" accounting for the balance. CH mechanical watches exports can be considered a fair proxy for the luxury watches market, which Altagamma values at 20 billion in 2009. Luxury watches are traditionally the realm of the rich, with about three-quarters of category demand coming from HNWIs (high-net-worth individuals). The Watches Category Has Benefited From Secular, Male-Driven EM Demand Growth in the Last 15 Years While the global watches market has grown at +4.5% p.a. over the last 25 years (+3% over the last 15 years), mechanical/luxury watches have outpaced electronic watches by +600-700bps (over both periods) see Exhibit 4. The category has benefited from three key trends: (1) a strong drive toward "premiumization," with average wristwatch prices growing by +7% in the last decade and the CHF3,000+ segment increasing its share of total export value by more than 25 percentage points; (2) a shift in the geographic mix toward highergrowth EMs in Asia-Pacific and MEA, which also have outpaced developed markets in Europe and North America in terms of growth in the number of HNWIs; and (3) favorable shifts in consumer demographics, through a combination of
population aging in more developed markets and prevalent male consumption in large EMs (e.g., China). We Anticipate Faster Watches Growth in the Next Five Years, Supported by Broader EM Middle-Class Participation We anticipate faster demand growth for watches over the next five years with annualized growth of +7-11% overall and +10-16% for the luxury segment in 2010-15E (see Exhibit 4). In our view: (1) the key trends driving growth in the past decade are expected to continue, e.g., real GDP growth for key EMs is expected to keep outpacing developed economies by c.200-400bps through 2020E, with growth differentials in the number of HNWIs following a similar path; (2) additionally, we expect broader EM middle class participation in the luxury goods market e.g., BCG (Boston Consulting Group) foresees a c.3x increase in the size of China's MAC (middle and affluent classes) by 2020E, from 148 million to 415 million. The Global Watches Market Has Grown at an Annualized Rate of +4.5% During the Last c.25 Years); We Would Anticipate an Acceleration in the Next Five Years
16% 14% 12% 10% 8% 6% 4% 2% 0% 2% '85'09 Total Mechanical 0% '94'09 Electronic '10'15E 5% 2% 3% 10% 8% 7% 4% 14%
Exhibit 4
Note: CAGRs for "Other" category not shown; these were/are forecast as follows: 1985-2009: 2%; 1994-2009: 2%; 2010-15E: 2%. Source: FHS and Bernstein estimates and analysis.
We can break down the luxury watches industry into six broad macro-segments (see Exhibit 5). Among specialists, we include: (1) high-end players (e.g., Breguet, Piaget, Patek Philippe and Vacheron Constantin); (2) mega-brands playing the middle ground (e.g., Cartier with the highest prices; Rolex with mid-range prices; and TAG Heuer and Omega with lower prices); (3) premium names (e.g., B&M and Longines); and (4) technical new entrants (e.g., Urwerk, MB&F and Lionel Ladoire), positioned at high-end price points, albeit with less-known brands. Among non-specialists are: (5) luxury goods outsiders (e.g., jewelers Bulgari and Harry Winston; writing instrument specialist Montblanc; and fashion and leather goods companies Herms, Dior and Chanel) operating in this sector directly; and (6) licensing outsiders (e.g., Armani), purely focused on royalties. Two complementary marketing mix trends seem to have shaped the luxury watch industry in the past 10 years and through the recession years across price segments: premiumization in terms of pricing and a greater emphasis on value-add features in terms of product.
Two Complementary Marketing Mix Forces in Luxury Watches: Premiumization and Emphasis on Value-Add Features
Richemont and Swatch have consistently increased median prices for newly introduced models for both their high-end brands (Piaget and Breguet) and their middle-ground mega brands (Omega and Cartier), while maintaining stable prices for their lower-positioned premium brands (Baume & Mercier and Longines). Starting from a lower price point, LVMH's TAG Heuer has also increased the median price of its new catalogue additions, while remaining the cheapest of the mega brands. PPR's Gucci Timepieces still seems in a state of transition, as it has stepped back from its license (in 1997), but its product range and price list seem to be geared to the accessible/mid-level market (see Exhibit 5). Exhibit 5 Different Segments of the Market Have Adjusted Pricing and Product Feature Priorities Differently in the Last Years of Economic Downturn
Pricing Established High End High-end / Niche Raised prices by +35%-100% Mega Brands Stable prices (Rolex) or Premiumization (+100% at Cartier) Premium Stable prices Outsiders / Entrants Technical New Entrants Set high-end prices (e.g. $150k) for innovative products Luxury Goods Outsiders Pronounced price increases as 'niche' approach is pursued Licensing Outsiders Low absolute price points maintained Established High-end / Niche Adding complexity Mega Brands Adding complexity, at times ultra-technical traits (tourbillon) Premium Adding complexity Product Features Outsiders / Entrants Technical New Entrants Focus on technical excellence with unique models Luxury Goods Outsiders Utilizing innovative design and limited-series exclusivity Licensing Outsiders Little innovation, focus on royalties
Middle Ground
Premium
Luxury Watches Distribution Is Still Wholesale-Dependent, Though Leading Brands Are Investing in Channel Quality
Watches are still largely dependent on wholesale distribution, with independent multi-brand retailers dominating the market (see Exhibit 6). Heavy dependence on the wholesale channels has clear disadvantages for watches brands, notably (1) increased EBIT% volatility (as de- and re-stocking by third-party retailers occurs in a cyclical fashion but watches manufacturing is fixed-cost heavy); and (2) potential damage to brand equity (as, for instance, selling into wholesale customers opens the door to "grey markets," such as unauthorized discount online distribution, which is common when compared to other luxury categories, e.g., leather). Luxury Watches Distribution Is Still Wholesale-Dependent, With Independent Multi-Brand Retailers Dominating the Market
Exhibit 6
100% 90% 80% 70%
Channel Mix
5% 25% 40%
15% Shoes
Retail
Leather Goods
Leading watches brands (with Swatch and Richemont at the forefront) are investing to improve the quality of their distribution by (1) building fewer and deeper partnerships with wholesale customers (e.g., Richemont is taking steps to rationalize accounts globally); (2) carrying out smooth partial transitions to monobrand stores (often involving the same wholesale partners); (3) opting for "big bang" transitions to mono-brand distribution (e.g., Omega in the United States); or
(4) expanding same-group multi-brand store concepts (e.g., as Swatch has done since 2001 with its pioneering concept Tourbillon). EMs in most cases offer watch brands a "clean sheet of paper" context, where channel conflict is less of an issue and where direct distribution investments meet with strong consumer demand and the opportunity to build brand equity for the long term. For Richemont, EMs account for c.70% of watch-brand boutique openings in the last c.5 years (about one-quarter in Mainland China and c.40% in Greater China). Similarly, Swatch's Omega and high-end brands (Blancpain, Breguet and Glashutte) focused on Asia ex-Japan, Russia and MEA for the bulk of their 2009 DOS (directly operated store) openings. Swiss Watch Manufacturing Is Dominated by Swatch Through ETA's Basic Movements Exhibit 7 The chokepoint in Swiss watch manufacturing seems to be the production of basic mechanical movements (or "tractors") where Swatch maintains a dominant market position through ETA. Swatch produces c.70% of CH mechanical movements and c.80% of CH quartz movements (see Exhibit 7 and Exhibit 8). Exhibit 8 Market for Watch Movements By Volume
VMF, Seiko, Citizen, BNB, Indtec, etc. Swatch third
6% 19%
80% 70%
% of Total Market
60% 50% 40% 30% 20% 10% 0% Value 29% In-house movement 36% Swatch in-house
% of Total Market
60% 50% 40% 30% 20% 10% 0% Volume 19% In-house movement market Swatch internal 56%
Developing and producing reliable basic movements is paradoxically more difficult than upstream integration in high-end movements, as: (1) reliability depends on decades of cumulated volumes experience; (2) producing basic movements requires very high levels of automation in order to achieve competitive unit costs, which equals very high levels of capital investment, which in turn means that scale is of the essence; (3) Swatch continues to push ahead and invests (hundreds of) millions of CHF in its facilities (CHF600 million in the last five years); and (4) using standard basic movements guarantees that watches can be repaired in the long term, as any watchmaker globally can service a basic ETA movement. High-end movements manufacturing, in contrast, is much easier as the proportion of manual labor is much higher, and the need for volumes and automated process is unimportant. It is therefore a common industry practice to use Swatch basic mechanical movements (with different levels of disclosure, ranging from serious brands that freely admit using Swatch's tractors to some brands simply stamping "blanks" with their names). Swatch's recent decision to limit and qualify the supply of movements to third parties opens new strategic scenarios. We would expect brand consolidation as a likely consequence in this "new world" especially in the entry and medium-end price points. Competing brands in the "Swiss Made" entry and mid-price point segments seem to be between a rock and a hard place. They can choose: (1) to
make their dependence from Swatch more visible (in a sort of "Intel inside" environment); (2) invest large amounts of money, time and resources in making their own movements if they have scale (which in most cases they don't); (3) rely on more expensive/older concept movements from smaller alternative players; or (4) give up "Swiss Made" and rely on Chinese movements. The Jewelry Market A Broad Category With Unique Demand Nuances Jewelry has strong potential for deeper brand penetration. Jewelry is a broad category, much broader than the size of the branded high-end would suggest. The broader category is estimated at 136 billion in 2009 (including all price points mass market, aspirational luxury, and high-end and both branded and nonbranded products). Luxury jewelry represents c.30% of this market, while the very high-end (e.g., Cartier, Bulgari, Van Cleef & Arpels, Graff, etc.) accounts for only 5% of the total at 7 billion. The high-end appears underpenetrated by brands brands' percentage weight (12%) is much lower than for high-end watches (50%) and perfumes (80%) see Exhibit 9 and Exhibit 10. Exhibit 10 High-End Jewelry Appears Underpenetrated by Brands The Percentage Weight of Brands (12%) Is Much Lower Than for High-End Watches (50%) and Perfumes (80%)
20%
Unbranded
Exhibit 9
Only Circa 5% of Global Jewelry Is Estimated to Be Branded; The Proportion Is Only Slightly Higher (Circa 12%) in the High-End Segment (Which Accounts for Circa 5% of Total Sales)
5% HighEnd
Accs. 18% Luxury
50%
Unbranded
95%
Unbranded
77%
Mass Market
88%
Unbranded
88%
Unbranded
80%
Branded
12% 0%
Branded
OverallJewelry ByPricePoint
HighendJewelry ByBranding
Note: Price point split based on 2009 estimates by Verdict; branding split from WWD interview with Richemont Italia's Giacomo Bozzi (as of 2002). Source: Verdict, Women's Wear Daily (Jewels Evolve from Craft to Brand, 06-Dec-02) and Bernstein estimates and analysis.
Note: All branding splits from WWD interview with Giacomo Bozzi (as of 2002). Source: Women's Wear Daily (Jewels Evolve from Craft to Brand, 06-Dec-02) and Bernstein estimates and analysis.
Gold and diamonds are key inputs in the global jewelry market, with gold and diamond jewelry accounting for more than three-quarters of global value in 2008. The category is more skewed toward female consumption (self-purchased and gifted) than others across price points: 90% for the broader market and c.95% for the high-end jewelry. Moreover, it encompasses a certain amount of "necessary consumption" despite being a discretionary space (e.g., 35% of jewelry spend in the United States goes to bridal merchandise). Overall, Jewelry Has Grown at +2.5% CAGR in the Last Decade; the Luxury Segment Has Outpaced Mass Market Broader jewelry has grown at a CAGR of c.+2.5% in the past decade (currencyneutral). Luxury segment growth has outpaced mass market (by +250bps in 200509), and branded high-end outgrown overall luxury (by +200-500bps in 2004-08) see Exhibit 11.
10
EMs have grown joint share of overall jewelry spend by c.10% since 2005 (+700bps Asia, +300bps Middle East), with Asia ex-Japan moving from 27% to 34% of total. We Expect an Acceleration in Category Growth to 3-5% Due to (1) EMs, (2) Branded, and (3) Commodity Price Inflation We expect acceleration in jewelry category growth to +3-5% p.a. overall and +710% p.a. for the luxury segment in 2010-15E (lower than for watches) see Exhibit 11. Future growth in luxury jewelry will come from three different converging drivers: (1) continuing geographic expansion into EMs, which is common to watches and other luxury categories; (2) a continuing mix shift from non-branded to branded, which is very category-specific; and (3) commodity price inflation, potentially, as increases in gold and diamond prices tend to be immediately reflected in consumer prices. The commodity price inflation driver could be a factor lifting the growth rate of the broader jewelry market, including the massmarket portion. After a high-end wave brought by EM millionaires, we would expect a new secular wave of aspirational and accessible demand to support luxury segment demand as (1) these are the price points for which the switch from non-branded to branded will occur at the fastest pace (mostly in more developed markets) and (2) there is deeper penetration into lower income quintiles of key EMs. The high-end portion of luxury jewelry, nevertheless, should be supported by continuing growth in HNWIs and by aging populations in developed markets. The "Luxury" Segment of the Market Has Outpaced "Mass Market" Price Points in 2005-09 by Circa 250bps and Is Expected to Grow at a Circa 500bps Delta in 2009-15E (Both in Currency-Neutral Terms)
10% 9% 8% 7% 6% 5% 4% 3% 2% 1% 0% 8.9% 6.8% 5.0% 3.7% 2.2% 1.7%
Exhibit 11
'05'09
'09'15e(@3%)
'09'15e(@5%)
Luxury
Mass
Note: Includes jewelry made of precious metals, diamonds and other precious stones (including mass and luxury, branded and unbranded; ex-costume). Source: Verdict (including estimates) and Bernstein analysis.
On the Supply Side, Global Jewelry Is Very Fragmented; Channel Mix Varies Greatly Across Geographies
On the supply side, global jewelry is very fragmented, with channel mix varying dramatically across key markets. On the one hand, there is India with only 5% of sales generated via organized retail, with the balance from independents. On the other hand, we find the United States with branded retailers (domestic and foreign), widespread wholesale (e.g., department stores), and sizable discounters (e.g., mass merchants, led by Wal-Mart; telemarketing, e.g., JTV; and online purists, e.g., Blue Nile). We see developed European markets (e.g., Italy) as similar to the United States overall, but with online and mass merchants playing a much less sizable role.
11
We prefer mega-brands with the ability to span broad price points. We see mega-brands like Cartier and Tiffany best equipped to navigate future luxury jewelry trends. The combination of strong brands capable to attract aspirational consumers and proven retail capabilities should compound the ability to grow above the market average. The trade-off with Cartier is that it is more credible in the high-end while it carries a perception of higher price in aspirational consumers' minds, not necessarily supported by fact. Branded retail chains at accessible price points (e.g., Pandora) have a chance to grow fast, riding the non-branded transition. They clearly have the upper hand in taking share from traditional independent retailers, on the back of greater scale and leaner costs. However, vertical integration into retail is no guarantee for better EBIT% (as we have seen in other luxury categories), and we note that barriers to entry in this area would be low, unless retailers were able to meaningfully establish their brands in consumers' minds which is not obvious. Besides, entry or further inroads from discounters (mass merchants and online players) would be a significant strategic threat longer term. Swatch Movements Champion With a Watches Portfolio Spanning a Wide Range of Price Points Swatch Group produces and distributes watches and (some) jewelry under brands such as Omega, Swatch and Breguet (Watches & Jewelry division). The company also produces watch movements for its own brands as well as for third-party watchmakers (Production division). In addition, the group encompasses an electronic systems division (SGES), which develops low-complexity/low-power miniaturized products mostly for the telecom, automotive, and medical devices industries. Swatch's watches portfolio is balanced, spanning a wide variety of price points, though more focused on the low-to-mid segments versus Richemont's. Omega (average price of 2,000-4,000) is the division's largest brand and should soon be able to pass CHF3 billion in sales. Breguet (average price of more than 10,000) is the most sizable name in the high-end of the portfolio and measures about one-fifth of the aggregate of the Omega, Longines, Tissot and Swatch brands (all priced at less than or equal to 6,000) in revenue terms see Exhibit 12. As mentioned, through ETA, the world's largest movement manufacturer, the Swatch Group accounts for 70-80% of total market share in the watch movements market by volume. This dominant position creates a situation where many of its largest rivals must buy their movements from Swatch. From 2011 onwards, the company has expressed its intentions to only sell finished movements, which has prompted other watchmakers such as Richemont, LVMH and Bulgari, to build up their own movement manufacturing facilities. Swatch stands to gain from a triple "opportunity" going forward. (1) Swatch's high exposure to Asia (44% of sales come from Asia including Japan, with 28% from Greater China) and extensive ties with key Chinese wholesale and retail player Xinyu Hengdeli (via a 50/50 retail JV as well as direct share ownership) place it at the epicenter of hard luxury's growth engine. (2) Moreover, Swatch can play with a broader array of price points, as its portfolio spans from Breguet to Flik Flak (see Exhibit 12). This should give the group a better opportunity to capture the massive aspirational and accessible luxury demand wave that we expect to come from China. (3) The group displays the highest operating leverage versus all companies in our luxury goods coverage. Higher capacity utilization should lead to higher GM% on the back of lower personnel costs and depreciation in percent of sales.
Swatch Stands to Gain from (1) High Asian Exposure, (2) Broader Array of Price Points, and (3) Operating Leverage
12
Exhibit 12
Market Share Segment Elitist Luxury Segment > 10k
Brands Breguet
Exclusive Luxury Jaquet Droz Lon Hatot Segment Blancpain 6k - 10k Glashtte Original
Zenith Hublot
Luxury Segment 4k to 6k
Louis Vuitton Jaeger LeCoultre IWC Cartier Van Cleef & Arpels
Daniel Roth Patek Philippe Gerald Genta F.P. Journe Franck Muller Girard-Perregaux (PPR) Audemars Piguet Ulysee Nardin Parmigiani Dubey & Schaldenbrad Harry Winston Richard Mille Greubel Forsey Rolex Chopard Corum
Bulgari
Tiffany Ebel Breitling Movado Raymond Weil Maurice Lacroix Herms Sector Festina Citizen Seiko Gucci Mondaine Eterna Victorinox
Longines Rado Union Glashtte Tissot cK Watch Pierre Balmain Certina Mido Hamilton Swatch Flik Flak
Source: Koncept Analytics, corporate reports and websites, and Bernstein estimates and analysis.
As a result of several rounds of restructuring and M&A over the last two decades, Richemont comprises four reporting divisions: Jewellery Maisons (Cartier, Van Cleef & Arpels), Specialist Watchmakers Maisons (A. Lange & Shne, Piaget, Vacheron, Jaeger LeCoultre, IWC, B&M and Panerai), Writing Instruments Maisons (e.g., Montblanc), and Other Businesses (encompassing leather goods and apparel brands, e.g., Dunhill, Lancel, Chloe and Shanghai Tang; premium firearms maker Purdey, and, starting in Apr-10, online luxury distributor Net-a-Porter). As of 2009, the Jewellery and Specialist Watchmakers Maisons jointly represented more than 75% of sales; the Writing Instruments Maisons for more than 10%; and Leather Goods (reported within Other Businesses) for just c.5%. Watches were the main product category across Maisons, accounting for c.50% of group revenues. Richemont is the largest jewelry player in terms of euro sales among coverage companies; this holds true even when compared to noncoverage comparables, Tiffany and Bulgari. Richemont mostly operates in the high end of the W&J market (see Exhibit 12). This is no form of insurance in fact, we do not expect high-end-focused players to fare any better against an adverse macro cycle than those focused on the low-to-middle ground such as Swatch, as group and divisional sales growth correlates tightly with economic activity.
13
In the long term, we see the watches industry consolidating, through M&A and growing upstream investments in manufacturing and R&D. Richemont has the resources to play a key consolidator role in this context. Watches Are Highly Consolidated; LVMH and PPR Would Need "Game Changing" M&A to Challenge Leaders Watches are one of the most consolidated categories in luxury goods. We estimate that the top four watches groups Swatch, Richemont, Rolex and Patek Philippe command a combined c.37% market share. This compares to top-four combined shares of c.37% in leather goods, c.17% in shoes and c.10% in fashion. Swatch and Richemont have been able to leverage their scale and industry leadership to maintain higher operating profit margins and return on net assets (RONA) metrics versus smaller challengers (e.g., LVMH's Watches & Jewelry segment). Leaders have taken top positions in key EMs too, positioning themselves at the top of Chinese consumer's minds (according to Hurun). It is difficult to imagine that even large multi-category groups like LVMH and PPR could mount a credible challenge to category leaders, without "game changing" M&A. We have carried a broad "radar sweep" of independent watches brands and have found that most of the independent brands have very limited size. With the exclusion of Patek Philippe and Rolex and possibly medium-size players such as Audemars Piguet, Chopard and Breitling opportunities to build scale through bolt-on acquisitions seem limited. A 60% premium for Bulgari is substantial. If the deal were any larger, we would not deem this a net positive for LVMH. The deal makes strategic sense, in our view. Bulgari is one of the best known jewelry brands in the world with plenty of potential to grow on the back of LVMH's global distribution reach and financial muscle. For instance, media buying and retail development would benefit directly from the deal. Bulgari brings a potential mega-brand to its line-up albeit stronger in jewelry than in watches. Moreover, the appointment of Francesco Trapani (hailed by Bernard Arnault as "the driving force behind Bulgari's development over the last 20 years") as divisional head is also a positive for the future of the enlarged Watches & Jewelry portfolio. We establish price targets for companies in our coverage by applying a target relative P/FE multiple (versus MSCI index) to our forecast estimates, assuming a constant market P/FE multiple. We use 2010E, 2011E and 2012E EPS estimates and MSCI P/FE multiples. We rate Richemont, Swatch, Burberry, LVMH and PPR market-perform, with price targets of CHF64, CHF485, 12.00, 127 and 135, respectively. For Richemont, Swatch, LVMH and Burberry, we target a relative P/FE multiple of 1.8x; for PPR, we use a relative P/FE multiple of 1.4x. Risks to achieving our operating forecasts could prevent the stocks from achieving our price targets. In the case of European luxury goods, sales would be negatively impacted by the occurrence of a double-dip slowdown in global economic growth. Though the Asia-Pacific region remains strong, a rebound in other large markets such as the United States has begun to emerge; a loss of momentum on this front could mitigate the overall picture of a global uptick. On the other hand, faster-than-expected growth in the most hard-hit regions could present upside risk, as positive worldwide GDP growth tends to benefit luxury goods stocks as a whole.
Bulgari Is an Important Step Forward for LVMH in Hard Luxury, for Quite a Price
Valuation Methodology
Risks
14
Any unforeseen event significantly disrupting travel patterns terrorism, epidemics, war, etc. would act as a sharp negative on the stocks and the luxury sector (as we saw very clearly in 2003), plunging luxury stocks' relative PEF below the historical long-term correlation to luxury growth demand. Moreover, an extension of the EU's "trademark exhaustion" principle (embedded in EU regulation 40/94) to non-EEA developed markets where our coverage companies engage in active price differentiation could still erode luxury margins significantly. Investment Conclusion In the last five years, both Richemont and Swatch have performed well ahead of relevant market proxies reflecting the strength of their brands and distribution. In absolute growth terms, Richemont has been ahead, benefiting from its stronger and almost exclusive exposure to the high-end. We would expect Richemont to continue thriving on the back of ongoing premiumization and superior HNWI growth rates in EMs. Nonetheless, we would also expect Swatch to be able to "bridge the gap" by capturing a disproportionate share of new middle class purchases at aspirational price points, e.g., through more capillary retail penetration in lower-tiered Chinese cities, while also riding premiumization. It is difficult to imagine that even large multi-category groups like LVMH and PPR could mount a credible challenge to category leaders, without "game changing" M&A. Bulgari is an important step forward for LVMH in hard luxury, but for quite a price. We think that the luxury goods investment case, at present, is dominated by broader "scenario" factors. The most important of these is the strength of the macro-economic recovery in the United States and core EUR area, prompting continuing sector rotation and a lower premium for EM exposure. More recently, the uprisings in the Middle East have opened a whole new set of questions. The broader macroeconomic recovery and the luxury goods market could be materially impacted, depending on the outcome of these uprisings and their spreading to other countries and regions: from a worst-case scenario, with adverse developments translating into more political instability, higher energy price inflation, more conflict and lower growth to a best case, whereby freer and more democratic regimes are initiated, to the benefit of the populations involved and global trade. The outcome at this point hangs in the balance. Fundamentals at luxury goods groups under coverage remain strong with EM exposure, mega-brands and ever-improving distribution patterns acting as clear attractions in the medium term. After protracted relative underperformance in 1Q:11 to date, the valuation levels are materially more interesting. Our preference is for stocks with lower exposure to Japan like Swatch and lower M&A unknowns. We would remain more cautious about Burberry (as it recently rose on M&A speculation and is exposed to Japanese royalties) and LVMH (which could carry M&A/dilution risk, if it was to proceed on Herms on the back of acquisition premiums like that recently seen for Bulgari). We rate Richemont, Swatch, Burberry, LVMH, and PPR market-perform with price targets of CHF64, CHF485, 12.00, 127 and 135, respectively.
15
Exhibit 13
In Value Terms, Switzerland Is the Leading Exporter of Watches (Hong Kong Likely Overstated Given Re-Exporting)
9
10
WatchExportsByKeyCountries ( billion, '09)
600
ExportsofFinishedWatches (UnitsinMillions, '09)=Bars
9 8 7 6 5 4 3 2 1 0
500 400 300 200 100 0 22 HK $11 Switz. $528 11 Germany 344
2 1 1
6 France
Switz.
HongKong*
China
Germany
France
* Export figures include re-exports of products in transit; Hong Kong is a major re-export market and could be overstated. Source: FHS and Bernstein analysis.
Note: Bars = exports of finished watches; Price = Average US$ price of wristwatch exports by respective country. Source: FHS and Bernstein analysis.
16
Exhibit 15
Total CH Watch Exports Including Mechanical (About Two-Thirds) and Electronic (Less Than One-Third) Wristwatches and Movements Are Valued at Circa 9 Billion (CHF13.1 Billion) in 2009; These Have Grown at CAGRs of +5% During Roughly the Last 25 Years and +3% Over the Last 15 Years
18,000 16,000 25% 20% 10% 5% 0% (5%) (10%) (15%) (20%) (25%) (30%)
1985 1986 1987 1988 1989 1990 1991 1992 1993 1994 1995 1996 1997 1998 1999 2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 TotalSwissWatchExports, Value(YoYgrowth,%)
TotalSwissWatchExports, Value(CHFmillion)
15%
TotalSwissWatchExports
YoYGrowth
Note: Total value sales include: (a) mechanical (wristwatches and movements); (b) electronic (wristwatches and movements); and (c) other. Source: FHS and Bernstein estimates and analysis.
Exhibit 16
Altagamma Estimates the Global Luxury Watches Industry at 20 Billion in 2009, Resulting from 15-Year CAGR of Circa 7.5%
11% 7% 15% 10% 9% 10% 24 0% 20 5% 0% 5% 10% 15% 17% 20%
Exhibit 17
Swiss Mechanical Watches Exports Growth Is a Good Proxy for Luxury Watches Market Growth
12% 10% 8% 6% 4% 2% 0% GlobalLuxury WatchMarket (Altagamma) CHExports Mechanical (FHS)
7.5% 6.6%
40
LuxuryWatchMarket( billion)
35 30 25 20 15 10 5 0 '94'02: 7 +12% 17 1% 17
18
20
22
1994
2002
2003
2004
2005
2006
2007
2008
Note: Bottom-up estimate of the market by Altagamma/Bain, focused on luxury goods brands and most likely considering mostly mechanical watches. Source: Altagamma and Bernstein estimates and analysis. Source: Altagamma, FHS and Bernstein estimates and analysis.
2009
YoyGrowth(%)
24
LuxuryWatches,Altagammavs.FHS 15YearCAGR,valueterms(%)
17
Exhibit 18
CH Mechanical Watches Exports Are Valued at Circa 6 Billion (CHF8.9 Billion) in 2009, About Two-Thirds of the Total, and Have Outgrown Total Watch Exports Expanding at a CAGRs of Circa+8% During Roughly the Last 25 Years and Circa+7% in the Last 15 Years
12,000
Mechanical SwissWatchExports, Value(CHFmillion)
25%
Mechanical SwissWatchExports, Value(YoYgrowth,%)
MechanicalSwissWatchExports
YoYGrowth
Note: Mechanical watch exports include both wristwatches and movements. Source: FHS and Bernstein estimates and analysis.
Exhibit 19
In 2007-09, Sales at "Important Watch" Auctions Held Worldwide by Major Houses Moved Directionally in Line With CH Mechanical Exports For Example, Sotheby's
25 20 15 10 5 0 1H07 2H07 1H08 2H08 1H09 2H09 1H10 Sotheby's
Exhibit 20
In 2007-09, Sales at "Important Watch" Auctions Held Worldwide by Major Houses Moved Directionally in Line With CH Mechanical Exports For Example, Christie's
80 70 60 50 40 30 20 10 0 1H07 2H07 1H08 2H08 1H09 2H09 1H10 Christie's
Note: Auctions held in Hong Kong, Geneva, New York, London and Doha; sales converted at spot US$ rates (as at auction date) and aggregated by half-year period across geographies. Source: Sotheby's website and Bernstein estimates and analysis.
Note: Auctions held in Hong Kong, Geneva, New York, London, Dubai, Amsterdam and Milan; sales converted at spot US$ rates (as at auction date) and aggregated by half-year period across geographies. Source: Christie's website and Bernstein estimates and analysis.
The Category Has Experienced Annualized Growth of +4.5% in the Last 25 Years and More Than +3% in the Last 15 Years
The global watches market has benefited from secular, male-driven EM demand growth. The global watches market has grown at an annualized rate of c.+4.5% over the last c.25 years, with mechanical/luxury watches (+8.0%) outpacing electronic watches (c.+2.5%). In the last 15 years, the market has grown faster than 3%, with mechanical watches growth of c.+6.5% and electronic watches growth being roughly flat. Mechanical/luxury watches have outpaced electronic watches by +600-700bps (over both periods) (see Exhibit 21).
18
Exhibit 21
The Global Watches Market Has Grown at an Annualized Rate of +4.5% During Roughly the Last 25 Years, With Mechanical/Luxury Watches (+8%) Outpacing Electronic Watches (+2%); We Would Anticipate an Acceleration During the Next Five Years
16% 14% 12% 10% 8% 6% 4% 2% 0% 2% '85'09 Total Mechanical 0% '94'09 Electronic '10'15E 5% 2% 3% 10% 8% 7% 4% 14%
Note: CAGRs for "Other" category not shown; these were/are forecast as follows: 1985-2009: 2%; 1994-2009: 2%; 2010-15E: 2%. Source: FHS and Bernstein estimates and analysis.
A strong drive toward "premiumization" has characterized category development. Average wristwatch prices have grown by +7% in the last decade. Wristwatches priced at more than CHF3,000 have seen their share of total export value increase by more than 25 percentage points in 2000-09 (from 32% to 58% of total wristwatches sales), with their volume share doubling from 2% to 4%. Mechanical share of total exports has experienced similar uplifts, growing to 72% (from 48%) of value and 18% (from 8%) of volume (see Exhibit 22 to Exhibit 27). CH Wristwatch Exports Higher-End Wristwatches (Priced CHF3,000+) Have Experienced the Fastest Volume and Value CAGR Among Price Brackets in the Last Decade, More Than 15 Percentage Points Above Lower-End Pieces Priced CHF500 or Below
Value(CHFm) Volume(mpieces) 0007 1% 3% 3% 15% 7% 2000 22.8 3.1 3.3 0.4 29.7 2007 18.6 2.6 3.6 1.0 25.9 Volume(mpieces) 0009 3% 3% 2% 10% 3% 2000 22.8 3.1 3.3 0.4 29.7 2009 15.1 2.5 2.6 0.9 21.0 0009 5% 3% 3% 8% 4% 2000 54 329 1,230 6,696 313 0007 3% 3% 2% 13% 2% 2000 54 329 1,230 6,696 313 Avg.Price(CHF) 2007 63 328 1,356 7,662 571 Avg.Price(CHF) 2009 64 324 1,359 8,328 596 0009 2% 0% 1% 2% 7% 0007 2% 0% 1% 2% 9%
Exhibit 22
2000 0200 200500 5003,000 3,000et+ Total 1,231 1,036 4,023 2,986 9,276
Note: Value refers to ex-factory levels in CHF million; average prices are implied; 2008 (volume) and 2009 (volume and value) data points not available from FHS; estimated using average monthly year-over-year changes for each price bracket. Source: FHS and Bernstein estimates and analysis.
19
Exhibit 23
Wristwatches Priced at More Than CHF3,000 Have Seen Their Share of Total Export Value Increase by More Than 25 Percentage Points in 2000-09 (from 32% to 58%)
13% 8% 6% 28%
Exhibit 24
The Volume Share of Watches Priced at More Than CHF3,000 Has Doubled from 2% to 4% During the Same Period
100%
CHWristwatchExports, %Value,byPricePoint
100%
CHWristwatchExports, %Volume,byPricePoint
80% 60%
11%
80% 60% 40% 20% 0% 11% 11% 2% 2009 5003'000 0200 12% 12% 4% 77% 72%
43% 40% 58% 20% 0% 2000 3'000et+ 200500 2009 5003'000 0200 32%
Note: Value refers to ex-factory levels in CHFm. Source: FHS and Bernstein estimates and analysis. Source: FHS and Bernstein estimates and analysis.
Exhibit 25
Mechanical Wristwatches' Share of Total CH Wristwatch Exports Has Experienced Similar Uplifts in 2000-09, Growing Circa 25 Percentage Points from 48% to 72% of the Total
Exhibit 26
Mechanical Share Has Also Increased in Volume Terms Moving from 8% to 18% in the Last Decade
100%
CHWristwatchExports, %Value,byType
100%
CHWristwatchExports, %Volume,byType
28%
80% 60% 40% 20% 0% 8% 2000 Mechanical 18% 2009 Electronic 82%
92%
72%
2009 Electronic
Note: Value refers to ex-factory levels in CHFm. Source: FHS and Bernstein estimates and analysis. Source: FHS and Bernstein estimates and analysis.
20
Exhibit 27
In Value Terms, the Weight of Mechanical CH Watch Exports Has Increased by More Than 20 Percentage Points Over the Last Decade, Pointing to a Strong Premiumization Trend
100%
%TotalCHWatch(Wristwatches+ Movements)Exports,Value
10%
6% 27%
Note: Value refers to ex-factory levels in CHFm. Source: FHS and Bernstein estimates and analysis.
(2) a Shift in the Geographic Mix Toward Higher-Growth EMs in Asia-Pacific and MEA
A shift in the geographic mix toward higher-growth EMs, notably in Asia-Pacific and the Middle East, has been the main force behind the premiumization trend. Watches are traditionally the realm of the rich, with about three-quarters of category demand coming from HNWIs (high-net-worth individuals) see Exhibit 30 to Exhibit 32. Over the last decade, key Asian EMs have gained more than 10 percentage points of share in total CH watch export value (see Exhibit 28), as they outpaced developed markets in Europe and North America both in terms of real GDP and in terms of growth in the number of HNWIs (see Exhibit 29, Exhibit 33, and Exhibit 34). Exhibit 29 This Development Has Gone Hand-in-Hand With a Positive Delta in Real GDP Growth Rates, Which Is Expected to Continue Into the Next Decade
Real GDP Growth Rate (YoY - %) Geography / Aggregate Mature: United States Japan Western Europe OECD Historic ('85-09) Forecast ('10-20) 2.8% 1.9% 2.2% 2.5% 2.8% 1.4% 1.8% 2.4%
Exhibit 28
CH Watch Exports (Value Terms) to EMs in Asia/ME Have Significantly Increased (More Than 10 Percentage Points) Over the Last 10 Years, as Developed Markets of Europe and North America Declined
4% 5% 33% 2% 4% 9% 3%
100%
Regionsas%TotalCHWatchExports (inCHFvalueterms)
80% 60% 19% 40% 20% 0% 2000 Europe Asia(incl.Japan) LatAm 2009 NAmerica MiddleEast RoW 12% 40%
38%
34%
Emerging: Greater China Asia-Pacific Ex-Japan Eastern Europe Middle East & North Africa South America Non-OECD World
Note: Real GDP growth rates reflect YoY average over stated period. Source: FHS and Bernstein estimates and analysis. Source: Global Insight Estimates (Nov-10) and Bernstein estimates and analysis.
21
Exhibit 30
100%
90% 30 80%
25
20
5 15
SpendperCategory(%)
35
Home& Furniture
35
Watches& Jewelry
AspirationalMasses(28%)
RisingMiddleClass(25%) LuxurySpend
NewMoney(37%)
Exhibit 31
High-Net Worth Individuals Account for 75% of Hard Luxury, Compared to Circa 40% for Luxury Leather Goods
Exhibit 32
Within the Combined "Watches and Jewelry" Market, Watches Constitute the Bulk (About Three-Quarters) of the Value
100% 90% 26%
100% 90%
%ofCategorySpendby IncomeBracket
80% 70% 60% 50% 40% 30% 20% 10% 0% Jewelry&Watches MiddleClass 25% 75%
41%
CategoryDetail (Watchesvs.Jewelry)
59%
LeatherGoods HNWI
Note: "High-net worth individuals" refers to "new money" + "old money" + "beyond money"
Note: In this instance, "jewelry" refers to high-end jewelry only (7 billion), excluding the accessible luxury segment (24 billion); "watches" refers primarily to luxury brands and is mostly comprised of mechanical watches per Exhibit 16. Source: Altagamma and Bernstein analysis.
22
We note that, in a period of economic expansion (2001-07), growth in the number of HNWIs and growth in total CH watch exports progressed hand-in-hand across most regions (see Exhibit 33). This relationship seems to have broken down during the severe economic correction of 2007-09: Global CH watch exports experienced negative progression of c.-9.5% p.a., while the total number of HNWIs stayed about flat globally. In fact, the HNWI growth was positive in Asia-Pacific, at +3.5% p.a. The disparity is most likely due to the fact that double-digit declines in CH watch exports could be attributed to third-party retailers' de-stocking, not necessarily reflective of HNWIs' underlying demand in 2007-09 (see Exhibit 34). Exhibit 33 In a Period of Economic Expansion (2001-07), Growth in the Number of HNWIs and CH Total Watch Exports Progressed Hand-in-Hand in Most Regions Exhibit 34 During the Severe Economic Correction of 2007-09, the Link Between the Two Trends Seems to Have Broken Down As De-Stocking Dragged Down CH Watch Exports, Despite Continued HNWI Growth in EMs
'01'07CAGRinCHWatchExportsvs. NumberofHNWIs,byRegion(%)
'07'09CAGRinCHWatchExportsvs. NumberofHNWIs,byRegion(%)
10% 8%
9.1% 8.6%
20% 11.8% 10% 3.5% 0.0% 0% 4.4% 5.3% 3.1% 9.4% 17.4% 22.6% Middle East LatAm AsiaPac. North America Total Europe 0.0% 1.6% 9.1%
Total
Europe
Note: Per Capgemini, HNWIs have at least $1 million in investable assets, excluding primary residence, collectibles, consumables, and consumer durables. Source: FHS, Capgemini and Bernstein estimates and analysis.
Note: Per Capgemini, HNWIs have at least $1 million in investable assets, excluding primary residence, collectibles, consumables, and consumer durables. Source: FHS, Capgemini and Bernstein estimates and analysis.
During the expansionary period of 2001-07, HNWI growth in Asia-Pacific and the Middle East outpaced HNWI growth in Europe by 250-600bps and North America by 50-400bps. Asian HNWI total continued outpacing Europe (c.500bps) and North America (c.650bps) even during the recessionary period of 2007-09 (see Exhibit 33 and Exhibit 34). Superior HNWI growth rates versus developed markets suggest that CH watch/capita penetration for EMs underestimates the importance of these markets for the watches category. In fact, when analyzing CH watches penetration for nine of the top 15 export markets, we find that key EMs, notably China, are significantly more penetrated on an HNWI basis than on a total population basis so that their relative gap versus the most penetrated market is much less pronounced in HNWI terms (see Exhibit 35 to Exhibit 38).
23
Exhibit 35
France and Italy Lead Export Markets for CH Watches in Terms of Penetration Over General Population
Exhibit 36
Italy Also Leads CH Watch Export HNWI Penetration; However, Key EMs China and Russia Appear on More Equal Footing vs. Top Developed Markets Under This Metric
5030
20 15 15 10 15
10
9 7 6 5 1 1
Russia
0
France Germany Japan China (PR) UK Spain Italy US
2007
2009
2007
2009
Note: China = CH exports to Mainland + one-third exports to Hong Kong, divided by Mainland population (SCB estimate). Source: FHS, Haver, Global Insight, Capgemini and Bernstein estimates and analysis.
Note: China = CH exports to Mainland + one-third exports to Hong Kong, divided by Mainland HNWI population (SCB estimate). Source: FHS, Haver, Global Insight, Capgemini and Bernstein estimates and analysis.
Exhibit 37
The Spread of CH Watch Export Penetration Over Total Population Across Key Markets
1.00 0.99
Exhibit 38
Is Greater Than the Spread for CH Watches Penetration Among HNWIs in the Same Markets
1.00
1.00
CHExport/PopulationPenetration (RelativeIndexvs.TopCountry)
1.00
CHExport/PopulationPenetration (RelativeIndexvs.TopCountry)
st.dev. =0.34
0.75 0.64 0.58 0.47 0.40 0.32 0.25 0.07 0.00
China (PR) France Russia UK Germany Spain US Japan Italy
st.dev. =0.29
0.75 0.59 0.50 0.50 0.45 0.24 0.24
0.50
0.25
0.07
0.00
China (PR) France Russia UK Germany Spain US Japan Italy
Index'07
Index'09
Index'07
Index'09
Note: China = CH exports to Mainland + one-third exports to Hong Kong, divided by Mainland population (SCB estimate). Source: FHS, Haver, Global Insight, Capgemini and Bernstein estimates and analysis.
Note: China = CH exports to Mainland + one-third exports to Hong Kong, divided by Mainland HNWI population (SCB estimate). Source: FHS, Haver, Global Insight, Capgemini and Bernstein estimates and analysis.
24
Consumer demographics shifts have also supported growth. There are two notable trends. First is the prevalence of male consumption in increasingly relevant China: Mechanical watches have become a status symbol for successful business people in the country (see Exhibit 39 and Exhibit 40). Exhibit 40 China In This Market, Luxury Is Materially More Dependent on Men's Demand, With an Estimated 70/30 Mix
0.3 0.3 0.3 0.3 0.3 0.5 0.3 1.7 10% 30% 80% 60% 60% 100% 40% 90% 90% 90%
`
Exhibit 39
Global Only Two Product Categories Are Skewed Toward Male Consumers Luxury Watches and Menswear
20 7 20 17 18 8 8 20 19 0% 17% 153
2.0 0%
6.6
80% 67% 67% 67% 67% 60% 100% 40% 95% 90% 83%
`
60%
60%
50%
50%
100%
100% 70%
20% 0%
Womenswear
40%
20% 0%
Womenswear
40% 10%
Jewelry
40%
50%
50%
0%
10%
Cosmetics Leather Shoes Menswear Watches Eyewear Fragrances Market
0%
10%
Cosmetics Fragrances Eyewear Leather Shoes Watches Menswear Market
CAGR (4) 2.7% 0.9% 0.9%
Male (Global)
Female (Global)
Male (China)
Female (China)
Note: Male versus female split calculated excluding 11 billion of "Other" luxury (e.g., Art de la Table); market size of 153 billion includes "Other" category in addition to "silk" and "underwear." Source: Altagamma (Worldwide Monitor 2004) and Bernstein estimates and analysis.
Note: Male versus female split calculated excluding 0.7 billion of "Other" luxury (e.g., Art de la Table). Market size of 6.6 billion includes "Other" category in addition to "silk" and "underwear." Source: Altagamma (Worldwide Monitor 2004) and Bernstein estimates and analysis.
Second, a favorable support to watches demand has also probably come from the population aging, as older consumers tend to have higher available income and the shift from soft to hard luxury in terms of category preferences (see Exhibit 41). For instance, in Japan, elderly citizens aged 60+ have grown almost two times in relative weight in the total population over 20 years, from c.15% in 1988 to c.30% in 2008. As the weight of 60+ consumers almost doubled, hard luxury categories have exhibited relatively more robust growth compared to other categories, as analyzed through import statistics (see Exhibit 42 and Exhibit 43). Exhibit 41 The World Is Getting Older Bad News for Luxury? Not Really, as Older People Have Higher Disposable Income, and Luxury and Disposable Income Seem to Grow in Lockstep; Hard Luxury Seems to Gain in the Category Shift
Japan 1990 Median Age (1) Disp. Personal Income / Capita Luxury Growth (proxy ) (2) A&F Leather Watches Jewelry 37.4 2008 43.9 CAGR 0.5% (0.2%) 0.7% (5.2%) (3.1%) 1.2% 1990 32.8 $17,042 USA 2008 36.9 $35,540 CAGR 5.3% 3.3% 0.7% 4.7% 4.7% 1990 36.9 10,713 France 2008 39.9 20,613 CAGR (3) 3.7% 2.8% 2.3% 4.6% 3.6% 3.6% 1990 37.1 11,361 Italy 2008 42.5 17,481
2,124,279 2,263,880
Notes: (1) 2008 median age of Japan and Italy calculated as the average of 2005 and United Nations estimate for 2010E; (2) luxury growth aggregate figure reflects non-weighted, arithmetic average of respective CAGRs; (3) CAGR reflects 1995 to 2008 retail sales categories; and (4) CAGR reflects 1996 to 2008 retail sales categories. Source: Bernstein estimates and analysis.
25
Exhibit 42
Japan: Elderly Citizens Aged 60+ Have Grown Almost Two Times in Relative Weight in 20 Years, from Circa 15% in 1988 to Circa 30% in 2008
100% 90% 16% 17% 17% 18% 19% 19% 20% 20% 21% 22% 22% 23% 23% 24% 25% 25% 26% 27% 27% 28%
29%
80% 70% 60% 50% 40% 30% 20% 10% 0% 1988 1989 1990 1991 1992 1993 1994 1995 1996 1997 1998 1999 2000 2001 2002 2003 2004 2005 2006 2007 2008 0-19 20-39 40-59 60+ 28% 27% 27% 26% 25% 24% 24% 23% 22% 22% 21% 21% 21% 20% 20% 20% 19% 19% 19% 19% 18% 28% 28% 27% 27% 27% 27% 27% 28% 28% 28% 28% 28% 29% 29% 29% 29%
29%
29%
29%
29%
29%
28%
28%
28%
28%
27%
27%
27%
27%
27%
27%
28%
28%
28%
28%
28%
28%
27%
27%
27%
27%
26%
Source: Ministry of Internal Affairs and Communications (Japan) and Bernstein analysis.
Exhibit 43
Japan: As the Weight of 60+ Consumers Almost Doubled, Hard Luxury Categories Have Exhibited Relatively More Robust Growth Compared to Other Categories, as Analyzed Through Import Statistics
1990-95 1995-2000 (1.9%) 0.5% (0.2%) 2.7% CAGR Over Period: 2000-05 2005-08 (1.5%) (0.4%) (0.6%) 3.0% (1.1%) (1.1%) (0.8%) 2.6% 1990-2008 (1.8%) (0.1%) (0.2%) 3.1%
Imports fell more steeply in 1992 than most other categories. CAGR from 1993-2008 = +2.8%
Notes: (1) Traffic light coloring denotes growth rates: Green (medium shade in black and white printout) = X > +1%; yellow (lightest) = 1% > X > 1%; and red (darkest) = X < 1%; (2) Women's cotton dresses, not knitted, not including fur skin (Italy + France). Source: Japan Ministry of Internal Affairs and Communications, Japan Ministry of Finance and Bernstein estimates and analysis.
26
Both Richemont and Swatch Have Performed Well Ahead of Relevant Market Proxies
Both Richemont and Swatch have performed well ahead of relevant market proxies over the last five years reflecting the strength of their brands and distribution. In absolute growth terms, Richemont has been ahead, benefiting from its stronger and almost exclusive exposure to the high-end. Richemont's Specialist Watchmakers, being more focused on the high-end, is therefore contrasted with CH mechanical watch exports. The division (which excludes Cartier) outgrew the market proxy by c.200bps in 2004-09, growing at +9.9% versus +7.8%. Swatch's Watches & Jewellery division is best compared to total CH watch exports, as its brand portfolio reaches a broader set of aspirational and lower price points versus Richemont. It outperformed the market proxy by more than 300bps in 2004-09, experiencing top-line growth of +6.8% versus +3.3% (see Exhibit 44 to Exhibit 46). Over the Last Five Years, Both Hard Luxury Names That We Cover Have Performed Well Ahead of Relevant Market Proxy Swatch by More Than 300bps (Versus Total Exports, Due to Diversity of Price Points); Richemont by Circa 200bps (Versus Mechanical, Due to High-End "Skew")
Exhibit 44
7.3%
4.5%
7.8%
2.6%
3.3%
Note: Richemont Specialist Watchmakers sales translated at Richemont's euro average exchange rates for relevant years; excludes Cartier and VC&A watches (consolidated within Richemont's Jewelry Maison). Source: FHS, corporate reports and Bernstein analysis.
27
Exhibit 45
Richemont Is More Focused on the Very High End (Albeit With Some Lower-Priced Alternatives), Making "CH Mechanical Watch Exports" a More Relevant Market Proxy With Which to Compare Sales Progression
200,000 190,000 180,000 170,000 160,000 150,000 140,000 130,000 120,000
Price ($)
Roger Dubuis, A. Lange, Piaget, Vacheron, JLC all have watches >$200k
110,000 100,000 90,000 80,000 70,000 60,000 50,000 40,000 30,000 20,000 10,000 0
Vacheron Constantin Roger Dubuis A. Lange & Sohne Jaeger-LeCoultre Greubel Forsey Montblanc Panerai Piaget Cartier IWC Baume & Mercier
28
Exhibit 46
Swatch Sales Progression Should Be Contrasted With "CH Total Watch Exports" In Fact, the Group Spans from Breguet to Flik Flak, Reaching a Broader Set of Aspirational and Lower-Price Point Consumers Than Richemont
200,000 190,000 180,000 170,000 160,000 150,000 140,000 130,000 120,000
Price ($)
110,000 100,000 90,000 80,000 70,000 60,000 50,000 40,000 30,000 20,000 10,000 0
Hamilton Longines Glashutte Original Jaquet Droz Certina Tissot Swatch / Flik Flak Blancpain Breguet Omega Rado
Swatch's brands reach a broader set of aspirational and lower-price point consumers vs. Richemont
Source: Wristwatch Annual 2010, www.Swatch.com and Bernstein estimates and analysis.
We Anticipate Faster Watches Demand Growth Over the Next Five Years, With a Boost from a Rising Chinese Middle Class
We would anticipate faster watches demand growth over the next five years. This should come from persisting trends from the previous decade and a significant additional boost from the rise of the Chinese middle class. We expect annualized growth of +7-11% for the overall category and +10-16% for the luxury segment in 2010-15E (see Exhibit 21). The key trends driving growth in the past decade are expected to continue. Notably, real GDP growth for key EMs is expected to keep outpacing developed economies by c.200-400bps through 2020E (see Exhibit 29), with HNWI growth differentials following a similar path (see Exhibit 33 and Exhibit 34). Additionally, we expect broader EM middle class participation in the luxury goods market. BCG foresees a c.3x increase in the size of China's MAC (middle and affluent classes) by 2020E, from 148 million to 415 million (see Exhibit 47 and Exhibit 48). BCG's recent survey of more than 7,000 consumers in 28 cities anticipates that three-quarters of the additional MAC consumers will come from cities with fewer than 1 million inhabitants, thus reducing the weight of big-city MACs from c.45% to c.30% by 2020E. Despite lower average income, Chinese smaller-city MAC consumers face significantly lower living costs, hence displaying higher purchasing power, as well as a higher propensity to spend and to trade up (see Exhibit 49 to Exhibit 52).
29
In other words, China is the prime example of an EM at a "tipping-point" set to experience the rise of an aspirational clientele over the next decade (see Exhibit 53). As the accessible and aspirational price points of the category become more reachable for a greater number of consumers, we expect demand to become more multi-faceted, with different motivations driving purchase decisions, much as in developed markets. Over the next decade, tapping into these new customers' core and extended motivations and purchase criteria will be crucial for capturing share and driving profits (see Exhibit 54 and Exhibit 55). Exhibit 47 The Growth of New Luxury Markets Will Bring New Vast Populations of Aspirational and Accessible Luxury Consumers: We Assume That Only 5% of Chinese Consumers Purchase Luxury Goods Today Versus 40% in Developed Markets
US Luxury Goods Demand (domestic, bn, 2009) Luxury Goods Demand (domestic, million, 2009) Addressed HH Tiers Addressed HH Tiers - Pop. (mm persons, 2008) Addressed HH Tiers - Luxury spend / person () Addressed HH Tiers - Avg. HH Income (US$, 2008) Addressed HH Tiers - "Luxury Purchasing Power" Adj. 39.6 39,600 UK 10.1 10,108 Japan 19.0 19,000 China 6.6 6,600 Top 5% 26 252 19,306 57,919
Top 2 Quintiles Top 2 Quintiles Top 2 Quintiles 121.8 24.6 65 325 412 292 125,409 125,409 73,084 73,084 85,263 85,263
Notes: (1) We multiply Chinese HH income 3x, based on our discovery in our Blackbook "European Luxury Goods: Long-Term Attractiveness & Structural Demand Drivers," Sep-2010 DOS penetration sweet spot of GDP/capita of US$15,000 in China, versus US$45,000 in the United States; and (2) Assumes persons/household ratio is neutral in the United States and United Kingdom calculations (i.e., assumed 40% of total population in top two quintiles). Source: Bernstein estimates and analysis.
Exhibit 48
Based on Its Recent Survey of More Than 7,000 Consumers in 28 Chinese Cities, BCG Expects MAC (Middle-Income and Affluent) Consumers to Approximately Triple in 10 Years
450 400 350 300 250 200 150 100 50 0 2010 2020 10yrIncrease :267m 10yrCAGR:+11% 148
Exhibit 49
Three-Quarters of New MAC Consumers Will Come from Cities Labeled Tier 3 or Below (Fewer Than 1 Million Inhabitants), Reducing the Weight of Tier 1 and 2 City MAC Consumers from Circa 45% to Circa 30% by 2020
450 400 350 300 250 200 150 100 50 0 2010 Tier3&Below 2020 Tier12 65 83 148 288 127 415
Source: BCG (Boston Consulting Group, China City Income Database), Bloomberg.
Source: BCG (Boston Consulting Group, China City Income Database), Bernstein analysis.
415
30
Exhibit 50
Big-City MACs in China Enjoy Much Higher Average Incomes, But Smaller-City MACs Face Significantly Lower Cost of Living and Consequently Greater Purchasing Power For Example, Shanghai (Tier 1) vs. Xuzhou (Tier 3)
ChineseMAC(MiddleClass/Affluent)Consumers IllustrativeMonthlyLivingCostofFamilyofThree Shanghai (Tier1) Income/Expense TotalHHincome Necessities(1) As%totalHHincome AvailableforDiscretionarySpending As%totalHHincome Ifpayingamortgage(2) As%totalHHincome DisposableIncome(mortgage) As%totalHHincome Ifpayingrent(2) As%totalHHincome DisposableIncome(renting) As%totalHHincome CNY 6,500 3,860 59% 2,640 41% 4,000 62% 1,360 21% 2,000 31% 640 10% Xuzhou (Tier3) CNY 5,600 1,800 32% 3,800 68% 1,300 23% 2,500 45% 600 11% 3,200 57%
Exhibit 51
Exhibit 52
And to Trade Up
50% 45% 40% 35% 30% 25% 20% 15% 10% 5% 0% Tier1 Tier2 Tier3 Tier4 37% 36% 45% 46%
"Intendtoincreasespending" (%respondents)
29%
"Intendtotradeup" (%respondents)
40%
31
Exhibit 53
Fine Watch Adoption Progression Moves Through Several Phases, Beginning With Limited High-End Pieces and the Entry of Luxury and Premium Lines and Ending With the Rise of Technically Advanced Products; China Is the Prime Example of an EM at "Tipping-Point" Set to Experience the Rise of an Aspirational Clientele Over the Next Decade
1 Few High End & Haute Items Limited # of wealthy individuals 2 Entry of Luxury & Premium 'Get in' and raise awareness of brand 3 Premium Diffusion 4 High Watchmaking Gains Momentum Rise of entry level & aspirational clientele; wealthy focus on differentiated products Growing Martkets 5 Watchmaking Masters Era Understand haute horlogerie; conspicuous consumption Mature Martkets
Description
Markets
Emerging Markets
Emerging Markets
Source: "Time to Change: Contemporary Challenges for Haute Horlogerie" (Carcano and Ceppi) and Bernstein analysis.
Exhibit 54
Watch Customers Range from Collectors Who Highly Value Fine Craftsmanship to the Newly Enriched Who Place Significant Emphasis of the Value of the Brand's Reputation
Customer Value Creation Drivers Mtier d-art (Craftsmanship) Collectors Aesthetics Brand & Reputation Heritage
Watch Lovers
Cosmopolitan Elites
Affluent Young
Newly Enriched
=MostValue Creation
=LeastValue Creation
Source: "Time to Change: Contemporary Challenges for Haute Horlogerie" (Carcano and Ceppi) and Bernstein analysis.
Exhibit 55
Customer Collectors Watch Lovers Core
Watchmakers Can Tap Into These Customers' Core and Extended Motivations and Purchase Criteria to Drive Profits
Extended Retail lists After-sales service Information Sales assistance expertise Retail service Assortment Retail environment Branding Retail location Enlarged Exclusive events (e.g. at corporate headquarters) Being part of the 'world of the brand' Product contents Production processes Limited edition Production processes Product contents Signs, symbols Special series Style, fashion Signs, symbols
Political & Business Elites Cosmopolitan Elites Affluent Young Newly Enriched
Source: "Time to Change: Contemporary Challenges for Haute Horlogerie" (Carcano and Ceppi) and Bernstein analysis.
33
Exhibit 56
High End
Specialists
Middle Ground
Premium
Hard luxury groups in our coverage (Richemont and Swatch) own longer "tails" of large- and medium-size watches brands than non-specialist groups under coverage (LVMH, PPR and Burberry). Exhibit 57 provides an overview of the relative size of "Google hits" of these brands. Mega brands in each brand portfolio typically command more Google hits than high-end/niche names and lowerpositioned premium names e.g., Cartier (versus Piaget and Baume & Mercier) at Richemont, and Omega (versus Breguet and Longines) at Swatch.
34
Exhibit 57
Relative "Google Hits" Size of Coverage Companies' Brands: Mega Brands in Each Brand Portfolio Typically Command More Google Hits Than High-End/Niche Names and Lower-Positioned Premium Names For Example, Cartier (Versus Piaget and Baume & Mercier) at Richemont and Omega (Versus Breguet and Longines) at Swatch
11,000,000 10,000,000
Google Hits (Brand Name + Geography)
Reflects large- and medium-sized brands in portfolio Large = > 150m Medium = 100 to 150m
Blancpain
Breguet
Jaeger LeCoultre
Girard-Perregaux
Piaget
Tissot
Glashutte
Vacheron Constantin
Roger Dubuis
Montblanc
Longines
Baume et Mercier
Tiffany Watches
Richemont
Swatch
TAG Heuer
LVMH
PPR
BRBY
Note: Google search was conducted by typing in the brand name plus watches e.g., "Rolex watches." Source: Google and Bernstein estimates and analysis.
Two complementary marketing mix trends seem to have shaped the watches industry in the past 10 years and through the recession years across price segments: "premiumization" in terms of pricing and a greater emphasis on value-add features in terms of product (see Exhibit 58). Both specialists and outsider players seem to have raised median prices of new products substantially through the recession (sometimes by as much as 2x), or at least kept prices stable. In terms of product features, all specialists seem to have focused on complexity (i.e., total number of complications and movement parts), while those luxury goods outsiders that do not license their brand for timepieces have mostly focused on alternative value-add traits (e.g., design or diamond/precious stone emphasis for jewelers). Exhibit 58 Different Segments of the Market Have Adjusted Pricing and Product Feature Priorities Differently in the Last Years of Economic Downturn
Pricing Established High End High-end / Niche Raised prices by +35%-100% Mega Brands Stable prices (Rolex) or Premiumization (+100% at Cartier) Premium Stable prices Outsiders / Entrants Technical New Entrants Set high-end prices (e.g. $150k) for innovative products Luxury Goods Outsiders Pronounced price increases as 'niche' approach is pursued Licensing Outsiders Low absolute price points maintained Established High-end / Niche Adding complexity Mega Brands Adding complexity, at times ultra-technical traits (tourbillon) Premium Adding complexity Product Features Outsiders / Entrants Technical New Entrants Focus on technical excellence with unique models Luxury Goods Outsiders Utilizing innovative design and limited-series exclusivity Licensing Outsiders Little innovation, focus on royalties
Middle Ground
Premium
Burberry
Panerai
Omega
Cartier
Certina
Hublot
Rado
Dior
Zenith
Gucci
IWC
Mido
35
Premiumization has been a key theme in the watches industry over the last decade: Swiss watches constructed of precious metals (a proxy for higher-end products) outgrew base-metal watches by c.350bps in 1998-2009. Despite the recent severe correction in 2009, the Swiss watches industry overall (as gauged from UN Comtrade's Swiss export data to the rest of the world) experienced steady growth over the last decade, expanding at a CAGR of more than 10% in the 1998-2008 period (see Exhibit 59). In the last decade (1998-2009), precious-metal watches experienced annualized growth of +9.7% in value terms compared to +6.2% for base-metal watches. This trend is a reversal of what took place in the previous decade, when base-metal watches grew more than two times faster than preciousmetal models (see Exhibit 60). Despite the Recent Severe Correction in 2009, the Swiss Watches Industry (as Gauged from UN Comtrade's Swiss Export Data to the Rest of the World) Experienced Steady Growth Over the Last Decade, Expanding at a CAGR of More Than 10% in 1998-2008
Exhibit 59
Note: Value data by UN Comtrade expressed in U.S. dollars for the entire data series. Source: UN Comtrade (86411 series, using SITC rev. 1; 9101 and 9102 series, using HS92) and Bernstein analysis.
Exhibit 60
Swiss Watches Constructed of Precious Metals (a Proxy for Higher-End Products) Have Outgrown Base-Metal Watches by Circa 350bps During the Last Decade (1998-2009)
12% 9.7% 7.8% 6.9% 6.7% 7.0% 6.4%
10%
8%
CAGR - %
7.3% 6.2%
6% 3.5%
4%
2%
0% CAGR ('88-'09)
Overall
CAGR ('88-'98)
Watches (Precious Metal, 9101)
CAGR ('98-'09)
Watches (Base Metal, 9102)
Note: Value data by UN Comtrade expressed in U.S. dollars for the entire data series. Source: UN Comtrade (9101 and 9102 series, using HS92) and Bernstein analysis.
36
The recent severe market downturn does not seem to have disrupted the general trend towards premiumization, as most key brands maintained or raised median prices for newly introduced models. The following sections provide specifics in the high-end/niche, mega-brands and premium segments. High-end/niche At the high-end, median prices for newly introduced watch models seem to have increased across the board despite the recession. Selected high-end watch brands have seen the median prices of their 2010 newly introduced models exceed that of 2006's additions. The median price of new catalogue additions in 2010 was c.2x versus 2006 for Patek Philippe (moving from $17,925 to $35,100) and c.+35%55% higher for Vacheron Constantin, Piaget and Breguet (see Exhibit 61). At the high end, minimum-maximum price ranges of newly introduced watch models can vary dramatically (see Exhibit 62). Volatile price ranges were common for highend brands in 2010, as they continue to introduce ultra-complicated limited edition models despite the recent recession (see Exhibit 63). Exhibit 61 Selected High-End Watch Brands Have All Seen the Median Price of Their 2010 Newly Introduced Models Exceed That of 2006's Additions
40,000 35,000 35,100 31,875 31,500 28,000 20,450 21,200 20,700
17,925
Vacheron Constantin
2010
Piaget
Source: Wristwatch Annual 2006 and 2010 and Bernstein estimates and analysis.
Exhibit 62
At the High End, Minimum-Maximum Price Ranges of Newly Introduced Watch Models Can Vary Dramatically For Example, 2006 Catalogue Additions by Three Key Brands in the Segment
2006 380,000
Exhibit 63
Similarly Stretched and Volatile Price Ranges Were Common for High-End Brands in 2010, as They Continue to Introduce Ultra-Complicated Limited -Edition Models
2010 286,650 237,500
400,000 350,000
Price Range in 2006 ($)
300,000 250,000
Price Range in 2010 ($)
300,000 250,000 200,000 150,000 100,000 50,000 0 8,750 Breguet 12,500 Piaget 115,800
200,000 150,000 100,000 54,000 50,000 0 9,450 Breguet 15,200 Piaget 16,850 Patek Philippe
173,000
Note: Range determined by taking the median value of the bottom three and top three prices for each brand. Source: Wristwatch Annual 2006 and Bernstein estimates and analysis.
Note: Range determined by taking the median value of the bottom three and top three prices for each brand. Source: Wristwatch Annual 2010 and Bernstein estimates and analysis.
37
Mega-brands In the middle ground, mega brands have taken a more diverse approach. Some midrange household names (e.g., Rolex) have kept median prices of new models stable. Other brands positioned at higher (e.g., Cartier) and lower (e.g., TAG Heuer and Omega) price points versus Rolex have chosen to raise prices (see Exhibit 64). In the case of Cartier, premiumization has been pursued systematically in order to further reinforce its watch credentials (also see changes in pricing range for Cartier in 2010 versus 2006 in Exhibit 65 and Exhibit 66). In the case of TAG and Omega, higher prices for new catalogue additions have likely been an attempt to further distinguish themselves from lower-positioned premium brands. This has been achieved through a more consistent use of case materials and watch complications that would not be normally found in premiumsegment models (e.g., Grand Carrera Calibre 17 RS2 at TAG Heuer and Seamaster Professional 1200m Ploprof at Omega). Exhibit 64 The Evolution of Median Prices of Newly Introduced Models by Higher-Volume Mega Brands Has Been More Diverse as Different Names Have Pursued Different Priorities
30,000 25,000
Median Price ($)
24,000
Omega
2010
TAG Heuer
Source: Wristwatch Annual 2006 and 2010 and Bernstein estimates and analysis.
Exhibit 65
In 2006, Cartier and Rolex Had a Similar Price Range for Newly Introduced Products
2006
Exhibit 66
But in 2010, Cartier Had Begun to Introduce Extremely High-Priced Watches With Advanced Complications
2010
140,000 30,150 126,000 120,000 100,000 80,000 60,000 42,850 40,000 20,000 0 7,000 Cartier 4,400 Rolex 18,700 7,900 4,500 Omega 2,700 TAG Heuer
25,000 20,000 15,000 10,000 5,000 3,900 0 Cartier Rolex 3,750 3,095 Omega 3,095 995 TAG Heuer
12,195
Note: Range determined by taking the median value of the bottom three and top three prices for each brand. Source: Wristwatch Annual 2006 and Bernstein estimates and analysis.
Note: Range determined by taking the median value of the bottom three and top three prices for each brand. Source: Wristwatch Annual 2010 and Bernstein estimates and analysis.
38
Premium For premium brands, the median prices of newly introduced models were not materially changed over the course of the recession especially when compared to trends in other market segments. For instance, the new catalogue additions' median price at Baume & Mercier moved up less than 4% from $2,395 to $2,490 (in 2010 versus 2006); at Longines, the median moved up by c.10% from $2,250 to $2,500 (see Exhibit 67). Price ranges of new watch models in the premium segment were not very broad to start with (see Exhibit 68). Similar to median prices for these players, pricing ranges for catalogue additions in the premium segment did not change materially during the downturn (see Exhibit 69). Exhibit 67 The Median Prices of Newly Introduced Models for Players in the Premium Segment Were Not Materially Different Over the Course of the Recession Especially When Compared to Trends in Other Market Segments
3,000 2,500
Median Price ($)
2,395
2,490 2,250
2,500
Longines
Source: Wristwatch Annual 2006 and 2010 and Bernstein estimates and analysis.
Exhibit 68
Price Ranges of New Watch Models in the Premium Segment Were Not Very Broad to Start With in 2006
2006
Exhibit 69
Similar to Median Prices for These Players, Pricing Ranges for Catalogue Additions in the Premium Segment Did Not Change Materially During the Downturn
2010
6,000
5,850
6,000
5,000
Price Range in 2006 ($)
Price Range in 2010 ($)
5,000 3,990
4,500
4,000
3,495
4,000
3,000
3,000
1,000
Source: Wristwatch Annual 2006, Wristwatch Annual 2006 and Bernstein estimates and analysis.
Source: Wristwatch Annual 2010, Wristwatch Annual 2006 and Bernstein estimates and analysis.
39
Emphasis on Mechanical Complications Drives Higher Prices at the Top and Bottom of the "Pyramid"
Product features have a strong direct relationship with watch retail prices, although key price determinants vary depending on the market segment complications are key at the extremes of the pyramid (high-end and premium), while case material is more important for the middle ground. At the high-end, gold and precious metals (e.g., platinum and palladium) seem to be the norm for watch case construction. Ultra-technical complications therefore become key price differentiators for example, explaining about two-thirds of pricing decisions at Patek Philippe and Vacheron Constantin (see Exhibit 70 and Exhibit 71). Vacheron's $1.5+ million Tour de L'Ile model, comprising an 834-part movement and an unusually high total number of mechanical complications (16), illustrates this point (see Exhibit 72 to Exhibit 73). Most watches at the opposite end of the spectrum (premium brands) are made of steel, ceramic and base metals. Thus, complications play an important role in determining prices for example, explaining about one-half of prices at Longines (see Exhibit 74). The Number of Complications Seems to Be a Key Determinant of Retail Price for Specific Watch Models at the High End For Example, for Gold-Case Watches at Vacheron Constantin and Patek Philippe, This Relationship Appears to Be Exponential and Watch Complexity Would Seem to Explain About Two-Thirds of Pricing Decisions
Exhibit 70
Note: (1) Based on a sample of two specialist high-end brands (Vacheron Constantin and Patek Philippe); (2) only includes models with gold cases (white, yellow, rose); excludes other precious metals (platinum and palladium) and base materials (steel and ceramic), etc.; (3) excludes two outliers, namely Patrimony Traditionelle Calibre 2755 by Vacheron Constantin and 10 Jours Tourbillon by Patek Philippe; (4) hours and minutes only considered as complications when retrograde; sweeping seconds not a complication; and (5) Tourbillons always counted as a separate complication. Source: Wristwatch Annual 2010 and Bernstein estimates and analysis.
40
Exhibit 71
Watch Brands Across Market Segments Utilize Complications as a Means to Add Value to Their Models; Specialist High-End Niche Typically Opts for the Most Complex and Labor-Intensive Complications (For Example, Tourbillon) to Distinguish the Artisanship of Their Products
Function
Displays date (sometimes day & month) Displays date, day, month (usually moon phases) Follows progression of moon phases (new, full, etc.) Convey info related to 'heavenly bodies' (e.g. star positions) Shows difference between 'True' Solor time and 'Mean'
Type of Complication
Astronomical Indications Simple Calendar Perpetual Calendar Moon Phase Astronomical Watches Equation of Time Sounding Watches Striking Repeater Alarm Short Time Intervals Dead / Independent Seconds Chronograph Rattrapante (split-second) Chrono w/ Flyback hand Professional Multiple Time Zones Diving Watches Tide Guage Other Tourbillon Power Reserve Jumping Hours Retrograde Hours
Notes
Does not account for variance of month length (requires manual correction 5 times / year) Very advanced - Takes into account # of days in month & leap year cycle Complements the perpetual calendar; more advanced versions need be corrected once in 122 years Information displayed can vary widely, but mostly incorporated on ultra-complicated watches Classic feature on ultra-complicated watches
Sounds indicate the hour and quarter-hour Stikes the hour on demand using a pushpiece Makes sound at specified time
Hammers hit bells or gongs that are tuned to specified pitches ('Petite' and 'Grande' Sonnerie) Related to striking watches, but viewed as more challenging and exclusive Alarm usually set using a second crown mechanism
Measure short intervals (seconds & fractions of seconds) Measure short intervals of elapsed time Add'l seconds hand that measures multiple events at same time Center second hand can be controlled w/o stopping chrono
Preceded the chronograph and does not have a return-to-zero function Advanced versions use a column wheel, which can be further distinguished (integrated, separate) Very difficult to make - some chronographs have two or more rattrapante hands Can stop the second hand, return it to zero and immediately start again by pushing one button.
Shows time in different time zones Designed for professional divers and deap-sea operations Indicates high and low tides
Range from watches with 2 hour hands to World Time Watches (rotating disc with 24 cities) Water resistant to great depths, helium release valve, fluorescent markings, extra-strong crystal, etc. Watch sets the tide gauge for a specific latitude - useful to fishermen, etc.
Compensates effects of gravity; spring & escapement rotating cage Displays how long watch will continue to function w/o winding Jumping Display' using numerals instead of hands Hands sweep segment of a circle & spring back to initial position
Highly complicated & requires high expertise - can come in form of flying tourbillon Enables wearer of a hand-wound or self-winding watch to know when 'power' runs out Time viewed through an aperture which changes on the hour or minute Often combined with jumping indications and visually impressive 'endless choreography'
Note: Highlighted complications are particularly difficult techniques and usually appear on more complicated watches. Source: Fondation De La Haute Horlogerie and Bernstein analysis.
41
Exhibit 72
Vacheron Costantin's Limited Edition Tour De L'ile Cost More Than $1.5 Million and Comprises an 834-Part Movement
Exhibit 73
Tour de L'Ile - Summary of 16 Complications Minute Repeater Tourbillon Power Reserve Indication 2nd Time Zone Moonphase Age of the Moon Sonnerie Level Indication Perpetual Calendar Day Date Month Leap Year Equation of Time Sunrise Sunset Celestial Chart
Source: Fondation De La Haute Horlogerie, Wristwatch Annual 2010, corporate website and Bernstein analysis.
Source: Fondation De La Haute Horlogerie, Wristwatch Annual 2010, corporate website and Bernstein analysis.
Exhibit 74
In the Premium Segment of the Market, the Number of Complications of Specific Models Also Seems to Be a Key Determinant of Price For Example, Having an R-Squared of 50% at Longines; Yet, the Types of Complications Utilized Are Much Less Advanced Than for High-End Brands (For Example, Chronographs vs. Tourbillons and Retrograde Hands)
6 5 4 3 2 1 0 0 1 2 Number of Complications (#) 3 4 R = 51%
Note: (1) Based on Longines, an example of specialist premium brand; (2) only includes models with stainless steel cases (no new models in other materials available in 2010). Source: Wristwatch Annual 2010 and Bernstein estimates and analysis.
42
In the middle ground, for mega brands (e.g., Rolex) and similarly priced outsider In the Middle Ground, Construction Material Seems a brands hailing from other luxury sectors (e.g., Herms), construction material More Important Pricing Driver... seems a more important driver of pricing, with a correlation to price c.2x larger than that of complications. On average, gold watches by selected brands in these market segments are c.5x more expensive than steel watches, while platinum/palladium models are c.3x more expensive than gold ones (see Exhibit 75 to Exhibit 77). Exhibit 75 For Names in the Middle of the Pyramid, Such as Mega Brands (Rolex and Cartier) and Similarly-Priced Luxury Goods Outsider Brands (Bulgari, Herms and Chanel), Watch Complications Do Not Seem to Be a Key Price Determinant (R-Squared Less Than 20%)
250 R = 18%
200
Retail Price (US$)
150
100
50
Note: (1) Based on a sample of two specialist mega brands (Rolex and Cartier) and three outsider luxury goods brands (Bulgari, Herms and Chanel); (2) only includes models with gold cases (white, yellow, rose); excludes other precious metals (platinum and palladium) and base materials (steel, ceramic), etc. Source: Wristwatch Annual 2010 and Bernstein estimates and analysis.
Exhibit 76
For These Brands, Watch Cases' Material Would Seem a Much More Important Driver for Pricing Decisions (R-Squared Greater Than 40%, or Two Times That of Complications)
300 R = 41% 250
Exhibit 77
On Average, Gold Watches by These Brands Are Circa 5x More Expensive Than Steel Watches, While Platinum/Palladium Models Are About 3x More Expensive Than Gold Ones
150
Median Retail Price (US$)
100
50
Note: Based on a sample of two specialist mega brands (Rolex and Cartier) and three outsider luxury brands (Bulgari, Herms and Chanel). Source: Wristwatch Annual 2010 and Bernstein estimates and analysis.
Note: Based on a sample of two specialist mega brands (Rolex and Cartier) and three outsider luxury brands (Bulgari, Herms and Chanel). Source: Wristwatch Annual 2010 and Bernstein estimates and analysis.
43
...Although the Addition of Even a Single Ultra-Complex Mechanical Feature Can Justify Upward Reach in Pricing
Nonetheless, the addition of even a single ultra-complex mechanical feature typically utilized by high-end brands (e.g., tourbillon) can justify an upward reach in pricing by middle-ground players. This has been the case for the Cartier megabrand through the downturn years (see Exhibit 78 and Exhibit 66), as it adopted a strong premiumization drive to establish its reputation in the space and started launching tourbillon-enhanced models such as the Ballon Bleu Tourbillon (see Exhibit 79). This contrasts with the approach adopted by other players in the same segment (e.g., Rolex) which are developing more complex models (e.g., the Yacht Master II) to send a signal of engineering prowess while keeping a consistent pricing policy and opting not to introduce ultra-complex features (e.g., countdown function versus tourbillon) (see Exhibit 78 and Exhibit 80). The Cartier Mega Brand's Premiumization Drive Through the Recent Recession Has Been Achieved Mostly Due to the Inclusion of Highly Advanced Complications (For Example, Tourbillon) Which Have Pushed Prices of Selected Models Above $100,000 (Note: Table Reflects 2010 Catalogue Additions by the Two Brands)
Cartier
Exhibit 78
Rolex Model Day-Date II Datejust Yacht Master II Cosmograph Daytona Cosmograph Daytona Day-Date II Submariner Datejust Prince Datejust Submariner GMT Master II Day-Date II Sea-Dweller DeepSea Datejust Datejust Day-Date II Date Turn-O-Graph Milgauss Datejust Datejust Oyster Perpetual Air King Case Material Platinum Gold & Diamonds Yellow Gold White Gold Rose Gold White Gold White Gold Rose Gold White Gold S. Steel, Diamonds S. Steel & Yellow Gold S. Steel & Yellow Gold S. Steel & Yellow Gold S. Steel & Titanium S. Steel & Rose Gold S. Steel & Rose Gold S. Steel & White Gold S. Steel S. Steel S. Steel S. Steel S. Steel S. Steel S. Steel Price ($) 51,050 42,850 33,650 30,700 30,700 30,200 29,850 23,300 15,450 11,575 10,400 10,400 9,525 9,250 8,625 7,750 7,525 7,000 6,775 6,200 5,450 5,250 4,400 4,200
Model Tortue XL Grande Complication Rotonde de Cartier Tourbillon Santos Triple 100 Santos 100 Flying Tourbillon Tank Americaine Flying Tourbillon Ballon Bleu Tourbillon Santos 100 Skelett Ballon Bleu Chronograph Rotonde de Cartier Chronographe Tank Americaine XL Chronograph Ballon Bleu Chronograph Santos 100 LM Rotonde de Cartier MM Santos 100 Carbon Chrono Pasha 42 Chrono Pasha Seatimer Chrono Santos 100 Carbon Ballon Bleu Steel LM
Case Material Platinum Platinum Palladium Rose Gold Rose Gold Rose Gold Palladium Gold & Diamonds White Gold Rose Gold Yellow Gold Rose Gold Rose Gold Titanium & Gold S. Steel S. Steel S. Steel Yellow Gold
Price ($) 240,000 126,000 100,800 97,600 96,500 58,000 49,200 37,500 24,000 22,325 21,000 17,850 14,350 11,300 9,950 7,000 5,750 Tourbillon complication corresponds to material price increase
44
Exhibit 79
Cartier's Ballon Bleu Tourbillon Includes a Subsidiary Second Complication on a Tourbillon Cage
Exhibit 80
Rolex's Yacht Master II Regatta Chronograph Does Not Include Tourbillons, But Does Add Complexity (For Example, Programmable Countdown Function) to the Rolex Range
Source: Wristwatch Annual 2006 and 2010 and Bernstein estimates and analysis.
During the recent period of economic malaise, outsider luxury brands with less tradition in watches have preferred design enhancements and limited-series exclusivity to traditional measures of value (e.g., complications and precious materials) to put their names on the map. Some luxury brands have focused on models with innovative design elements (e.g., Montblanc and Dior) or extensive use of jewelry as the primary value-add attribute (e.g., Bulgari); others (e.g., Herms and Zegna) have opted for more standard pieces with limited-series exclusivity. Writing instruments champion Montblanc, for example, has introduced the Metamorphosis model, with a dual-face "transformation" feature (from classic to chronograph) (see Exhibit 81). Jewelers Bulgari and Harry Winston have launched the Octo Bi-Retro (which uses two retrograde complications for hours and minutes and takes inspiration from previous Gerald Genta models; see Exhibit 82) and the Opus 9 (which shows hours and minutes through two unusual "vertical line" dials; see Exhibit 83), respectively. Jewelers also have started using diamonds and precious stones as dominant watch features, possibly as a signature or tribute to their core brand heritage (e.g., Astrale by Bulgari shown in Exhibit 84, and Opus 9 by Harry Winston shown in Exhibit 83, which comes adorned with two parallel lines of 33 diamonds each). Fashion and leather goods specialists also have pursued new approaches to the watch space. Dior is responsible for the Christal 8, which uses an Art Deco overlapping-circle design for the dial and comes in two limited editions (see Exhibit 85). Chanel has launched its limited-edition J12 Retrograde Mystrieuse, which celebrates the anniversary of Chanel's J12 watch collection and features open-worked dial, a retractable vertical crown as well as a tourbillon (see Exhibit 86). Herms and Zegna though through more standard luxury timepieces (the Carre H, Arceu Chrono and Cape Cod Tonneau models for Herms; the Centennial model for Zegna in collaboration with Girard-Perregaux) have also chosen limited-series for their forays in watches (see Exhibit 87 to Exhibit 89).
45
Exhibit 81
Exhibit 82
Exhibit 83
Exhibit 84
Jewelers Such as Bulgari Have Also Started to Use Diamonds and Precious Stones as Dominant Watch Features as a Signature (For Example, Bulgari Astrale)
Exhibit 85
Exhibit 86
46
Exhibit 87
Exhibit 88
Herms: Carre H
Exhibit 89
Herms Has Crafted More Standard Luxury Timepieces, and Aims to Place an Emphasis on the Quality of Its Brand by Emphasizing Its Leather Credentials and Parisian/Equestrian Roots (2010 Advertising Campaign)
Source: Magazine De La Haute Horlogerie website, corporate website and Bernstein analysis.
47
A Licensing-Focused Approach Seems Less Promising for Non-Specialists' Long Term Brand Development
A licensing-focused approach seems a more promising brand-building endeavor by outsiders than the royalty-focused licensing efforts of the past, which is still being pursued by most non-specialist names in the premium segment. Italian designer brands (e.g., Armani), for instance, have continued with their licensing approach seemingly preferring royalty inflows to long-term brand building (see Exhibit 90). Models developed on behalf of these brands remain fairly uncomplicated and tend to utilize base materials (e.g., ceramic and steel), thereby keeping prices at a relatively accessible level (an example is shown in Exhibit 91). Exhibit 91 Emporio Armani: Classic Round Watch (179)
Exhibit 90
Armani Generates Circa 8% of Its Total Revenues from Royalties Related to Licensed Products Such as Cosmetics, Fragrances and Watches
Other, 1% Licensed Products, 50% Costmetics, Fragrances, Watches, Eyewear, etc. Royalties, 8%
100% 90% 80% 70% 60% 50% 40% 30% Clothing, 50% 20% 10% 0% Armani Label Sales (Incl. 3rd Party)
48
Gucci Watches Stands Somewhere in the Middle No Longer Licensed But Geared to the Accessible Segment
Gucci seems to be in between, as it has stepped back from its license but its product range and price list seem to be geared to the accessible/mid-level market. Gucci acquired Severin Montres group, its former watches licensees, in November 1997 for $150 million and renamed the division Gucci Timepieces (according to Women's Wear Daily). Watches (4.6% of sales in 2009) remain an area of weakness for the brand. Softer results in this area were mentioned numerous times in quarterly and half yearly reports throughout 2008 and 2009 (see Exhibit 94). Our analysis indicates that Gucci time pieces vary in price from c.$650 to c.$4,600 (as per the company's U.S. e-commerce website; see Exhibit 92 and Exhibit 93). Exhibit 93 Gucci: G-Frame (Circa $700) and G-Chrono (Circa $4,000)
Exhibit 92
0
0
G Chrono
G Class
Twirl
G-Frame ($695)
G Chrono ($4,095)
49
Exhibit 94
Watches at the Gucci Brand (Particularly Those Sold via the Wholesale Channel) Were a Drag on Top-Line Performance Throughout 2008 and 2009 Initial Signs in 2010 Seemed to Point to a Recovery
50
New Entrants With High Technical Expertise Have Chosen the Path of Extreme Engineering Innovation
In contrast, new entrants with high technical expertise have chosen the path of extreme engineering innovation, to leap forward in technical credibility and achieve collectors' appeal with limited editions in the high end. These players have been unabashed about asking customers for high-end prices as a reward for generating new ideas and bringing novel trends to the industry. Urwerk, for example, has introduced the UR-202, a turbine regulated watch that communicates time through three rotating hands (see Exhibit 95). MB&F's latest creation, the HM4 Thunderbolt, features a three-dimensional horological engine and separate crowns for time setting and winding (see Exhibit 96). Cabestan manufactures the Winch Tourbillon Vertical, made of 1,352 separate components (see Exhibit 97). Lionel Ladoire sells limited-series pieces such as the RGT White Gold (88 pieces), which is set on micro ball bearings and features three revolving discs indicating hours, minutes and seconds (see Exhibit 99). Devon Works's Tread 1, to be priced at more than $15,000, is among the "cheapest" pieces in this category (see Exhibit 98). Exhibit 96 MB&F: HM4 Thunderbolt (More Than $150,000)
Exhibit 95
51
Exhibit 97
Exhibit 98
Devon Works: Tread 1, to Be Priced More Than $15,000 Is the "Cheapest" of the "Technical Outsiders"
Exhibit 99
53
Watches Distribution
Watches Are Still Largely Dependent on Wholesale Distribution Watches are still largely dependent on wholesale distribution, with independent multi-brand retailers dominating the market (see Exhibit 100 to Exhibit 101). This is due to historical reasons, in keeping with other luxury goods categories. However, unlike other luxury categories, consumer behavior and purchase criteria play a key role in watches. In fact, consumers tend to value range more than with other product categories and seem to be intent on shopping the watches category, rather than a specific watch brand at least in the entry and mid-price points. In this light, watches seem closer to fragrances and eyewear than to leather goods with a significant portion of consumers deciding what brand to buy at the point of sale. Luxury Goods Distribution Largely Depends on the Product Category, With Hard Luxury Mostly Dependent on Third-Party Retail and Multi-Brand Retail Largely Absent in Leather Goods...
100% 90% 80% 70%
Channel Mix
Exhibit 100
5% 25% 40%
15% Shoes
Retail
Leather Goods
Exhibit 101
Not Surprisingly, the Channel Mix Among the Major Luxury Watch Players in Our Coverage Looks Similar to the Channel Distribution Dynamics of Their Main Product Offerings (Company and Group Level)
Swatch Watches Richemont 100%
Specialist Watchmakers: 26% of Sales Jewellery Maisons: 50% of Sales
100%
50%
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Heavy Dependence on the Wholesale Channel Has Clear Disadvantages for Brands
Heavy dependence on the wholesale channel has clear disadvantages for watches brands. We cite two key reasons why. It magnifies consumer demand changes and creates EBIT% volatility as wholesale customers de-stock and re-stock, as we have seen in the recent slowdown and rebound (see Exhibit 102 and Exhibit 103). This strains watches manufacturers' operations as they experience violent swings in demand, challenging their ability to maintain capacity utilization steady. This, in turn, translates into high GM% and EBIT% swings as watches manufacturing is fixed costs heavy: depreciation and workforce being the two most important cost items (see Exhibit 104 to Exhibit 107). Dependence on Wholesale Magnifies Consumer Demand Changes, as Wholesale Customers De-Stock and Re-Stock, as We Have Seen in the Recent Slowdown and Rebound Volume of Swiss Mechanical Wrist Watch Exports (000 Units)
30% 20% 10% 0% -10% -20% -30%
Exhibit 102
Exhibit 103
Jan06 Feb06 Mar06 Apr06 May 06 Jun06 Jul06 Aug06 Sep06 Oct06 Nov 06 Dec06 Jan07 Feb07 Mar07 Apr07 May 07 Jun07 Jul07 Aug07 Sep07 Oct07 Nov 07 Dec07 Jan08 Feb08 Mar08 Apr08 May 08 Jun08 Jul08 Aug08 Sep08 Oct08 Nov 08 Dec08 Jan09 Feb09 Mar09 Apr09 May 09 Jun09 Jul09 Aug09 Sep09 Oct09 Nov 09 Dec09 Jan10 Feb10 Mar10 Apr10 May 10 Jun10 Jul10 Aug10 Sep10 Oct10 Nov 10 Dec10 Jan11
Export Value
Growth
1,400
Jun06 Jul06 Aug06 Sep06 Oct06 Nov 06 Dec06 Jan07 Feb07 Mar07 Apr07 May 07 Jun07 Jul07 Aug07 Sep07 Oct07 Nov 07 Dec07 Jan08 Feb08 Mar08 Apr08 May 08 Jun08 Jul08 Aug08 Sep08 Oct08 Nov 08 Dec08 Jan09 Feb09 Mar09 Apr09 May 09 Jun09 Jul09 Aug09 Sep09 Oct09 Nov 09 Dec09 Jan10 Feb10 Mar10 Apr10 May 10 Jun10 Jul10 Aug10 Sep10 Oct10 Nov 10 Dec10 Jan11
Export Volume
Growth
Dependence on Wholesale Magnifies Consumer Demand Changes, as Wholesale Customers De-Stock and Re-Stock as We Have Seen in the Recent Slowdown and Rebound Value of Swiss Mechanical Wrist Watch Exports (CHF million)
30%
600
40%
55
Exhibit 104
65.0% 62.5% 60.0% 57.5% 55.0% 52.5% 50.0%
Exhibit 105
65.0% 62.5% 60.0% 57.5% 55.0% 52.5% 50.0%
And Richemont
Exhibit 106
22.0% 20.0% 18.0% 16.0% 14.0% 12.0%
Exhibit 107
22.0% 20.0% 18.0% 16.0% 14.0% 12.0%
And Richemont
A dependence on wholesale damages brand equity which becomes particularly apparent during a slowdown, as wholesale customers discount their inventory while they are trying to de-stock. But this materializes more subtly, in terms of brand marketers having a looser grip on where their products are actually sold. Selling into wholesale customers opens the risk of a "grey market" where non-desirable retailers end up having stock bought from approved wholesale customers. Online distribution by unauthorized discounters is a case in point. In order to draw a comparison between watches and leather goods, we examined the online availability and prices of key models offered by leading brands in both product categories (see Exhibit 108 and Exhibit 109). For our analysis of watch brands, we selected three models per brand and sampled brands from across the price-point spectrum (i.e., from Swatch to Breguet) and across brand owners (Swatch, Richemont, LVMH and other independents). For leather goods brands, we selected three models for both Gucci and LV, including the two models recently used in our latest Luxury Price "Pulse Check" (please refer to Luxury Price "Pulse Check" Points to the Positive, published on 05-Oct-10).
56
Our analysis suggests that online distribution by unauthorized discounter websites is widespread for watches. However, this would seem not to be occurring for the sampled handbag brands. Exhibit 108 Watches Are Widely Available Online Through Third-Party Retailers at Substantial Discounts
Official e-commerce channel No No No No No No No No No No No No No No No No No No No No No Yes (US only) Yes (US only) Yes (US only) No No No Yes (US only) Yes (US only) Yes (US only) Yes Yes Yes Yes Yes Yes Yes Yes Yes Yes Yes Yes Yes Yes Yes Yes Yes Yes Yes Yes 2,380 2,310 2,150 995 2,650 570 690 3,820 1,475 1,550 7,895 295 195 895 135 71 30 Yes Yes Yes 2,800 8,900 153,000 Authorized online distributors (AOD) RRP (per AOD) Online price 12,265 81,807 11,995 4,078 9,529 587,910 2,900 2,395 5,850 1,960 5,709 97,996 8,320 17,945 67,510 2,020 2,079 21,600 1,670 633 2,095 485 607 2,990 1,239 1,240 4,769 242 172 850 129 58 27 Saving on RRP (%) Non-AOD site 25% 20% 20% 28% 30% 10% 12% 18% n.a. 30% 32% 30% 20% 25% 34% 15% 10% 25% 22% 26% 21% 15% 12% 22% 16% 20% 44% 18% 12% 5% 5% 18% 8% www.luxurybazaar.com www.prestigetime.com www.iconicwatches.co.uk www.prestigetime.com www.authenticwatches.com www.thefinestwatches.com www.dialawatch.co.uk www.watches.co.uk www.finetimepieces.com www.prestigetime.com www.steindiamonds.com www.luxurybazaar.com www.thewatchsource.co.uk www.certifiedwatchstore.com www.luxurywatch.ch www.swisswatchesdirect.co.uk www.precisiontime.co.uk www.prestigetime.com www.watch33.com www.watchesonnet.com www.swisswatchesdirect.co.uk www.thewatchsource.co.uk www.precisiontime.co.uk www.deliciousgiftware.co.uk www.thewatchsource.co.uk www.dialawatch.co.uk www.authenticwatches.com www.bablas.co.uk www.b2bwatches.co.uk www.watchesshop.com www.watchshop.com
Brand Breguet Breguet Breguet Blancpain Blancpain Blancpain Rolex Rolex Rolex Zenith Zenith Zenith Jaeger LeCoultre Jaeger LeCoultre Jaeger LeCoultre Omega Omega Omega Tag Heuer Tag Heuer Tag Heuer Longines Longines Longines Baume & Mercier Baume & Mercier Baume & Mercier Tissot Tissot Tissot Swatch / Flik Flak Swatch / Flik Flak Swatch / Flik Flak
Group Swatch Swatch Swatch Swatch Swatch Swatch n.a. n.a. n.a. LVMH LVMH LVMH
Model Tradition Classique Complication Heritage Villeret Leman Le Brassus The Explorer Oyster Perpetual The Submariner Captain Central Second El Primero Rattrapante Tourbillon Quantieme
Non-AOD Yes Yes Yes Yes Yes Yes Yes Yes Yes Yes Yes Yes Yes Yes Yes Yes Yes Yes Yes Yes Yes Yes Yes Yes Yes Yes Yes Yes Yes Yes Yes Yes Yes
Richemont Reverso Duo Richemont Duometre Richemont Master Grande Tradition Swatch Swatch Swatch LVMH LVMH LVMH Swatch Swatch Swatch Seamaster Planet Ocean Speedmaster Professional Constellation Chronometer Carrera Chronograph F1 Chronograph Link Calibre La Grande Classique DolceVita Master Collection
Richemont Hampton Classic Richemont Riviera Richemont William Baume Swatch Swatch Swatch Swatch Swatch Swatch T-Classic T-Trend T-Sport Chronograph Irony Chronograph Skin Classic Once Again
Note: All watch models checked were classified as "available in brand new condition and in their original box," although their provenance was not always made clear. Source: Corporate websites and Bernstein analysis.
Exhibit 109
Brand Louis Vuitton Louis Vuitton Louis Vuitton Gucci Gucci Gucci Group LVMH LVMH LVMH PPR PPR PPR Model Speedy 30 Tivoli GM Alma
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Leading watches brands are investing to improve the quality of their distribution. This is proceeding along a number of directions, depending on current business context, market constraints, and risk of channel conflict. Fewer and deeper partnerships with wholesale customers. There seems to be a concerted effort to select higher-quality wholesale "partners," that can guarantee a combination of material business volumes, quality of brand execution, channel discipline and reliability. Richemont, for example, has recently stated its intention to rationalize the number of wholesale accounts and to exercise greater control over them (see Exhibit 110). Richemont Outlook Commentary on Wholesale Network
Richemont Interim Results Conference, 12-Nov-10 "Despite closing the wholesale doors last year, the wholesale business grew, and grew strongly. We will exercise greater control over the wholesale network. We will have less partners, but we want more successful partners because there will be more partnership and greater business for them." "...It is not our goal to be 100% vertically integrated at the retail level. But we need to exert control over our wholesale partners a little more." Gary Saage, Richemont CFO
Exhibit 110
Tighter wholesale partnerships can involve a smooth (partial) transition to mono-brand distribution. As brands concentrate a larger business on fewer wholesale partners, they often demand a commitment from them to establish monobrand stores for the brand. This has the advantage of avoiding channel conflict, but is a far cry from downstream retail integration. For example, Patek Philippe's Asian distribution strategy seems a precursor to this trend (see Exhibit 111). It has maintained an import relationship (across several Asian markets) with Melchers for c.20 years, and recently the partner has helped Patek Philippe set up and manage two mono-brand boutiques in Mainland China. As Patek Philippe continues to consolidate its worldwide POS (point of sale) from a total of c.600 POS in 2007 to 550 in 2008, and heading towards its target of c.500 (according to Asiaone.com's Philippe Stern interview, Sept-08) the brand seems set to employ a similar approach alongside wholesale partners elsewhere (e.g., its upcoming Zurich opening).
58
Exhibit 111
Patek Philippe's Asian Distribution Strategy Seems a Precursor of a Trend Tighter Wholesale (or Indeed Import) Partnerships Involving a Smooth (Partial) Transition to Mono-Brand Distribution
PatekPhilippeAsianDistributors(Melchers,Libertas)asDOSJVPartners PatekPhillipeactsasadirectagentinseveralmarketse.g.Italy,Scandinavia,LatAm InAsia,thebrandstimepiecesareinsteadoftenimportedbythirdpartydistributors Keyrelationships:MelchersGroup(severalcountries);Libertas (HK/Macau) Increasingly,thesepartnersarealsoaiding PatekPhilippeinopeningmonobrandboutiques Thepartnerfirsthelpssecureprimelocations andthentakeschargeofmanaging thestores ThismodelhasbeenusedinSingaporeand,morerecently,forhighprofileopeningsinChina MelchersGroup MelchersGrouphandlesdistributionofPatekPhilippetimepiecesinanumberofAsiancountries DistributionoccursviaGenevaMasterTime,aSing.basedsubsidiarysetupin1987 Covers:Singapore,Malaysia,Thailand,Indonesia,andthePhilippines MelchershasalsomaintainedcommercialactivitiesinChinaforc.140years MelchershashelpedPatekPhilippeopen2boutiquesinMainlandChina overthelast5yrs In2005,itsecuredaprimelocationonShanghaisBund(atno.18,ahistoricbuilding) In2008,itprocuredtwofloorretailpremisesinaprivatesquareinBeijingscenter ManagementoftheseboutiquesisunderthedirectcontroloftheMelchersGroup
In some cases, brands opt for a "big bang" transition to direct mono-brand distribution. We understand that this is typically the case when brands are set to invest heavily in a specific market, while starting from a modest wholesale business platform. This seems to fit the example of Omega in the United States, where the brand recently announced plans to open more than 20 additional directly owned mono-brand boutiques by the end of 2011 (see Exhibit 112 and Exhibit 113). Exhibit 112 Omega Plans Rapid U.S. DOS Expansion in the Next Year
Omega: US Directly Operated Stores 35 30 25 20 15 10 5 0 Jun-10 Dec-10 Jun-11 Dec-11
Source: Corporate press release and Bernstein analysis.
Exhibit 113
31 25
Omega Press Conference, 19-Nov-10 "This is a big, big move in terms of investment.We realized the only way to get a foothold [in the US] was to do it ourselves. A third party won't commit financially or emotionally." Stephen Urquart, President, Omega
10 1
Same-group multi-brand store concepts are another interesting development for brands to transition to greater retail exposure. Tourbillon is a case in point: Since 2001, Swatch has pioneered the multi-brand boutique concept via Tourbillon, which brings together some of its key portfolio brands under one roof (see Exhibit 114 to Exhibit 116). To date, neither Richemont nor LVMH have adopted similar retail formats, and multi-brand mostly remains the preserve of wholesalers.
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Exhibit 114
Owner Founded Description
Exhibit 115
Locations
Note: Leon Hatot exclusively available at Tourbillon. Source: Corporate website and Bernstein analysis. Source: Corporate website and Bernstein analysis.
Exhibit 116
EMs in most cases offer watch brands a "clean sheet of paper" context, where channel conflict is less of an issue and where direct distribution investments meet with strong consumer demand and the opportunity to build brand equity for the long term. Unsurprisingly, we are seeing important DOS (directly operated store) forays. For Richemont, EMs account for c.70% of the group's watch-brand boutique openings that occurred in about the last five years (including renovations and relocations) about one-quarter of total openings have taken place in Mainland China and c.40% in Greater China (see Exhibit 117). Similarly, Swatch's Omega and higher-end brands (Blancpain, Breguet and Glashutte) focused on Asia ex-Japan, Russia, and the Middle East for the bulk of their 2009 direct store openings (see Exhibit 118).
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Exhibit 117
Richemont EMs Account for Circa 70% of the Group's Watch-Brand Boutique Openings in Roughly the Last Five Years (Including Renovations and Relocations) About One-Quarter of Total Openings Has Taken Place in Mainland China and Circa 40% in Greater China
Emerging(EM) ME Russia/EE 2 2 3 4 6 7 5 2 7 0 0 38 14% 0 0 4 2 3 2 2 0 1 1 1 16 6% Developed Japan W.Europe 0 1 3 0 0 4 4 0 1 1 0 14 5% 1 3 10 2 1 13 8 1 0 3 0 42 15%
RichemontDOSOpenings,RenovationsandRelocations
Since2006 Baume&M Panerai Montblanc IWC JaegerLC Cartier VanCleef VacheronC Piaget A.Lange&S R.Dubuis WatchesTot. %Total Gr.China OtherAsia 1 6 15 11 8 17 8 19 15 4 0 104 38% 0 0 4 5 5 7 5 1 6 0 1 34 12% LatAm 0 0 1 0 1 0 0 0 0 0 0 2 1% Africa 0 0 0 0 0 1 0 0 0 0 0 1 0% US 1 2 6 2 1 4 4 0 4 0 0 24 9% EMs 3 8 27 22 23 34 20 22 29 5 2 195 71% Developed 2 6 19 4 2 21 16 1 5 4 0 80 29% Total 5 14 46 26 25 55 36 23 34 9 2 275 100%
Note: Includes openings, renovations and relocations; last 4.5 fiscal years (FY06-09 + 1H:10). Source: Corporate reports and presentations and Bernstein estimates and analysis.
Exhibit 118
Swatch Omega and Other Higher-End Portfolio Brands (Blancpain, Breguet and Glashutte) Focused on Asia Ex-Japan, Russia, and the Middle East for the Bulk of Their 2009 Direct Store Openings
We carried out an analysis of watch distribution in Mainland China across a wide sample of Swatch and Richemont portfolio watch brands. This seems particularly relevant due to the country's prominence among EMs in terms of store openings by key brands in the last few years. We used brand websites' store locator tools and recorded all available locations distinguishing between boutiques (i.e., retail) and authorized third-party (i.e., wholesale) points of sale. Finally, we laid out the results of our POS count along a watch pricing pyramid to detect significant differences among brands' distributive strategies.
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Our city-level analysis suggests that in China: (1) the total absolute number of POS decreases as we move up the pricing ladder, and (2) directly operated stores are used most heavily by "middle-ground" players (i.e., high-priced premium, such as Omega, and luxury names priced at c.5,000, such as Cartier), with the important exception of Swatch in the accessible range (at less than 1,000). See Exhibit 119. We note that Richemont's Roger Dubuis and A.Lange&Sonhe elite brands are only available at seven and three total Chinese POS, respectively. Similarly, independent Patek Philippe is only available via two POS (both retail boutiques managed by a partner). At the opposite end of the spectrum, Swatch's Rado and Longines brands are distributed via 285 and 347 total POS in the country, respectively. Interestingly, both extremes of the pricing pyramid do not display a high absolute number of directly operated stores Roger Dubuis and A.Lange&Sonhe each operate one flagship boutique in Shanghai; Longines operates five DOS, only across the three major cities of Beijing, Shanghai, and Shenyang (all with more than 4 million inhabitants and greater than $10,000 p.c. income). Conversely, the absolute number of directly operated doors for "middleground" players such as Swatch's Omega and Richemont's Cartier seems much higher, despite a lower total POS count than less expensive brands. Omega operates 77 DOS in China, while Cartier has 34 this represents c.40% of total POS for both. These players' mega-brand nature and, indeed, the extent of their retail footprint make their approach to the Chinese market most similar to that of leading leather goods names, such as LV (34 DOS as of Dec-10) and Gucci (30). A notable exception to this continuum would seem to be the Swatch brand, which operates a total of 64 boutiques in China despite residing at the lower extreme of the luxury watch spectrum. As mentioned, the retail presence of "middle-ground" watch names, such as Omega and Cartier, can be compared with that of leather goods mega-brands LV and Gucci. Omega has a higher absolute number of retail doors than Cartier, LV and Gucci, but our analysis shows that the number (and the names) of cities covered by its network are relatively similar. Omega's network only captures six more cities than LV's, despite comprising about 2x doors. Therefore, the difference in the absolute number of doors would seem more related to average store size deltas and deeper penetration in major cities (e.g., greater than three times LV's number of doors in both Beijing and Shanghai) than to a radically different level of retail reach on the national territory (see Exhibit 120 and Exhibit 121). However, Omega manages to achieve much more capillary distribution (versus LV and versus Cartier) when authorized third-party retailers are taken into account. The brand is present in 73 Chinese cities versus 40 for Cartier and versus 27 for LV (which only distributes via own retail) see Exhibit 122.
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Exhibit 119
Watches Distribution in Mainland China: Our City-Level Analysis Suggests That (1) the Total Absolute Number of POS Decreases as We Move Up the Pricing Ladder and (2) Directly Operated Stores Are Used Most Heavily by "Middle-Ground" Players (That Is, High-Priced Premium [For Example, Omega] and Luxury Names Priced at Circa 5,000 [For Example, Cartier), With the Important Exception of Swatch in the Accessible Range (at Less Than 1,000)
<1k LowPrcd Boutique(Retail) Thirdparty(WS) TotalPOS Boutique(Retail) Thirdparty(WS) TotalPOS Boutique(Retail) Thirdparty(WS) TotalPOS Boutique(Retail) Thirdparty(WS) TotalPOS Swatch 64 0 64 100% 0% 100% Rado 11 274 285 4% 96% 100% Longines 5 342 347 1% 99% 100% 1k2k MidPriced 2k4k HighPrcd Panerai 3 17 20 15% 85% 100% Omega 77 126 203 38% 62% 100% IWC 5 41 46 11% 89% 100% 4k6k Luxury Cartier 34 48 82 41% 59% 100% JaegerLC VacheronC 4 14 51 12 55 26 7% 93% 100% 54% 46% 100% Glashutte 12 15 27 44% 56% 100% Blancpain LeonHatot JaquetDroz 1 0 0 35 2 10 36 2 10 3% 97% 100% 0% 100% 100% 0% 100% 100% 6k10k ExclusiveLuxury Piaget 12 35 47 26% 74% 100% Breguet 1 26 27 4% 96% 100% >10k EliteLuxury A.Lange&S 1 6 7 14% 86% 100% R.Dubuis 1 2 3 33% 67% 100%
Richemont
Swatch
Note: (1) Richemont: Excludes non-specialist watch brands (Dunhill, Van Cleef and Montblanc) and Baume & Mercier; (2) Swatch: Excludes Flik Flak, Tissot, Hamilton, Mido, Certina and Pierre Balmain; (3) Tourbillon boutiques (three in total) treated as wholesale POS for both Swatch and Richemont for comparability (technically, this is retail for Swatch; i.e., Leon Hatot could be 100% multi-brand retail). Source: Corporate websites and Bernstein estimates and analysis.
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Exhibit 120
Omega Has a Higher Absolute Number of Retail Doors Than Cartier, LV and Gucci, But Our Analysis Shows That the Number (and the Names) of Cities Covered by Its Network Are Relatively Similar
LeatherGoods Region NorthEast Harbin Daqing Changchun Anshan Dalian Shenyang North Hohhot Beijing Tianjin Shijiazhuang Taiyuan East Jinan Qingdao Changzhou Nanjing Suzhou Wuxi Shanghai Hefei Hangzhou Ningbo Wenzhou Fuzhou Xiamen South Zhengzhou Wuhan Changsha Nanning Guangzhou Shenzhen Sanya SouthWest Chongqing Guiyang Chengdu Kunming NorthWest Xian Urumqi TotalRetailPOS TotalRetailCities Shaanxi Xinjiang Chongqing Guizhou Sichuan Yunnan 1 1 2 1 1 34 27 30 24 1 1 1 1 1 1 34 22 1 1 1 Henan Hubei Hunan Guangxi Guangdong Guangdong Hainan 1 2 1 2 3 3 1 1 1 2 1 1 Shandong Shandong Jiangsu Jiangsu Jiangsu Jiangsu Shanghai Anhui Zhejiang Zhejiang Zhejiang Fujian Fujian 2 1 1 1 1 6 1 1 1 4 1 1 1 1 1 5 1 1 1 1 1 1 3 1 1 4 1 InnerMongolia Beijing Tianjin Hebei Shanxi 1 13 13 1 1 1 1 1 1 4 2 Heilongjiang Heilongjiang Jilin Liaoning Liaoning Liaoning 1 2 6 1 3 1 4 1 1 1 11 7 1 1 1 6 1 2 9 1 1 City Province LV 5 1 Gucci 3 1 Watches Cartier 5 1 Omega 10 2 1 1 1 2 3 13 10 2 1 29 1 1 1 3 1 10 1 4 2 2 1 2 12 2 2 2 2 4 10 2 4 4 3 2 1 77 33
Note: (1) LV and Gucci retail POS footprints updated as at Dec-10; (2) shaded numbers in the Omega column indicate cities where only it (among these four brands) currently has a retail POS. Source: Corporate websites and Bernstein estimates and analysis.
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Exhibit 121
China's Macro-Regions Account for a Similar Percentage of DOS for LV/Gucci (Leather) and Omega/Cartier (Watches) East Plus South Account for Circa 50-55% Across Brands
LeatherGoods LV Gucci Watches Cartier Omega 15% 26% 32% 15% 9% 3% 47% 13% 17% 38% 16% 13% 4% 53%
Exhibit 122
However, Much More Capillary Presence Is Achieved by Omega When Authorized Third-Party Retailers Are Taken Into Account, Both vs. LV and vs. Cartier
80
73
70 60 50 40 30 20 10 0
68
40 33 32 22
Swatch and Richemont Are at the Forefront of the Transition Toward Higher-Quality Distribution
Swatch and Richemont are at the forefront of a transition to higher quality watch distribution. Richemont (similarly to independent high-end peer Patek Philippe) has formally started taking steps towards rationalizing the total number of its global wholesale accounts, aiming at improved brand execution and channel discipline. The group has stepped up investment in directly operated retail doors for its watches brands, mostly focusing on high-growth EMs. Swatch has been the only major player to successfully launch a multi-brand retail concept (Tourbillon, in 2001). It has also been heavily involved in DOS development both in EMs, notably in China through its 50/50 retail development JV with leading retailer Xinyu Hengdeli (in which it also maintains a minority equity stake), and in developed markets, notably with Omega's planned "big-bang" of U.S. boutique openings for 2011.
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Watches Manufacturing
CH Watch Manufacturing Collapsed in the Early 1980s But Has Seen Solid Growth in the Last 25 Years After a near-death experience during the "quartz revolution" of the mid-1970s and early 1980s, the Swiss (CH) watch industry has experienced solid growth for 25 years (see Exhibit 123 to Exhibit 125). EM-driven demand is pushing it to new highs, as growth prospects for the next five to 10 years look bright, in our view. The quartz revolution brought a collapse in the Swiss watch manufacturing industry, as FTEs (full-time employees equivalent) declined by two-thirds (from 90,000 in 1970 to 30,000 in 1984), as shown in Exhibit 128 and Exhibit 129. The revival of mechanical watches and premiumization has brought c.5% CAGR in CH watches exports by value in the past 25 years (see Exhibit 126 and Exhibit 127). Productivity in the meantime has experienced a c.3x increase from 1985 (see Exhibit 130), as FTEs and the number of companies have leveled off at c.40,000 and c.600, respectively, in the past 10 years. Going forward, we expect CH watches growth to stay above historical average levels, and proceed at 10-16% in the next five to 10 years driven by expanding EM markets demand (see Exhibit 131). Following a Tenuous Period in the 1970s Amid the "Quartz Revolution," the Swiss Watch Industry Has Rebounded; Total CH Watch Exports Including Mechanical (About Two-Thirds) and Electronic (Less Than One-Third) Wristwatches and Movements Have Grown at CAGRs of +5% in the Last 25 Years and +3% Over the Last 15 Years
CHWatch Exports Value
CHWatch Exports(Value,CHFm)
Exhibit 123
CHWatch Exports(Volume,unitsmil.)
60 50 40 30 20 10 0
1960 1965 1970 1975 1980 1985 1990 1991 1992 1993 1994 1995 1996 1997 1998 1999 2000 2001 2002 2003 2004 2005 2006 2007 2008 2009
1960 1965 1970 1975 1980 1985 1990 1991 1992 1993 1994 1995 1996 1997 1998 1999 2000 2001 2002 2003 2004 2005 2006 2007 2008 2009
66
Exhibit 124
CH Watch Exports Mechanical Watches Experienced a Material Decline (Value) Amid the "Quartz Revolution"
Exhibit 125
CH Watch Exports Electronic Watch Exports (Value) Rapidly Expanded as the Category Developed
26%
28% 24% 20% 16% 12% 8% 4% 0% (4)% (8)% 6% '75'85 '85'95 Totaldecline ofc.45%
28%
ElectronicWatches&Movements, (Value,CAGR%)
8%
Exhibit 126
Wristwatches Priced at More Than CHF3,000 Have Seen Their Share of Total Export Value Increase by More Than 25 Percentage Points in 2000-09 (From 32% to 58%)
13% 8% 6% 28%
Exhibit 127
The Volume Share of Watches Priced at More Than CHF3,000 Has Doubled from 2% to 4% During the Same Period
100%
CHWristwatchExports, %Value,byPricePoint
100%
CHWristwatchExports, %Volume,byPricePoint
80% 60%
11%
80% 60% 40% 20% 0% 11% 11% 2% 2009 5003,000 0200 12% 12% 4% 77% 72%
43% 40% 58% 20% 0% 2000 3,000et+ 200500 2009 5003,000 0200 32%
Note: Value refers to ex-factory levels in CHFm. Source: FHS and Bernstein estimates and analysis. Source: FHS and Bernstein estimates and analysis.
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Exhibit 128
Since the Mid-1980s, the CH Watch Industry's Employment Figures Have Been Relatively Stable
90,000
Exhibit 129
Similarly, Following the Dramatic Decline in the 1970s, the Number of Watchmaking Companies Has Leveled
1,600 80 75 70 65 587 600 60 55 50 1970 2003 2010 Avg.Size
100,000 90,000
CHWatch IndustryEmployees
60,000 50,000 40,000 30,000 20,000 10,000 0 1970 2003 2010 40,538 42,000
No.ofCompanies
Note: Employees include suppliers and craftsmen across all aspects of the CH watch value chain. Source: FHS and Bernstein estimates and analysis. Source: FHS and Bernstein estimates and analysis.
Exhibit 130
Though FTE Growth Has Been Moderate, Productivity as Measured by Export Value/FTE Has Experienced a Massive Increase
400
Productivity(CHF000s/FTE)
361
350 300 251 250 200 150 100 50 0 1970 1984 2003 2010 31 132
Avg.Size
70,000
No.ofCompanies
80,000
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Exhibit 131
We Would Anticipate the Global Watches Market to Accelerate Its Growth Over the Next Five Years Driven by Expanding EM Markets Demand
SwissWatchExports Last24yr&15yrCAGRs,N4YrCAGR
16% 14% 12% 10% 8% 6% 4% 2% 0% 2% '85'09 Total Mechanical 0% '94'09 Electronic 5% 2% 3% 10% 8% 7%
14%
4%
'10'15E
Note: CAGRs for "Other" category not shown; these were/are forecast as follows: 1985-2009: 2%; 1994-09: 2%; 2010-15E: 2%. Source: FHS and Bernstein estimates and analysis.
CH Watch Manufacturing Has Materially Consolidated, With Swatch Maintaining a Dominant Position in Basic Movements
Swiss watch manufacturing has materially consolidated. The chokepoint seems to be the manufacturing of basic mechanical movements (or "tractors") where Swatch maintains a dominant market position through ETA. Swatch produces c.70% of CH mechanical movements and c.80% of CH quartz movements (see Exhibit 132 to Exhibit 134). The Valjoux 7750 manufactured by ETA was introduced in 1974 and has become commonplace in "modestly priced" chronographs for Swatch in-house and third-party brands (see Exhibit 135). Exhibit 136 to Exhibit 141 provide a brief overview of the degree of consolidation on the supply side. In fact, the vast majority of employees are located in a small region in CH (Jura Mountains), while a large portion work for ETA and a handful of other large players. Exhibit 133 Including Both In-House and Third-Party Sales, Swatch Constitutes About 70% of CH Mechanical Movements (Volume)
20% 12%
Exhibit 132
Swatch Is the Dominant Producer of CH Mechanical Movements (For Example, Those Incorporated Into Luxury Watches)
3.5
%ofCHMechanical MovementMarket('09,Volume)
4.0 3.5 3.0 2.5 2.0 1.5 1 1.0 0.5 0.0 SwatchGroup Other Rolex 0.6
100% 90% 80% 70% 60% 50% 40% 30% 20% 10% 0% CHMovementMarket('09) SwatchGroup Rolex Other 69%
Note: The total movement pool includes both movements integrated into watches as well as finished movements that are exported. Source: Europa Star and Bernstein estimates and analysis.
Note: The total movement pool includes both movements integrated into watches as well as finished movements that are exported. Source: Europa Star and Bernstein estimates and analysis.
69
Exhibit 134
Swatch Controls an Even Greater Portion (Circa 80%) of the Quartz Movement Market (In-House Plus Third-Party Using Swatch Movements)
20%
Exhibit 135
The Valjoux 7750 (ETA) Was Introduced in 1974 and Has Become Commonplace in "Modestly Priced" Chronographs for Swatch In-House and Third-Party Brands
%ofCHElectronicWatchMarket(vol.)
100% 90% 80% 70% 60% 50% 40% 30% 20% 10% 0%
80%
Note: Movement pool includes estimated values for complete electronic watches plus separate movements; assumes Swatch Brand watches account for c.33% of total CH quartz/electronic market (including finished watches and electronic movements); also assumes that about two-thirds of the non-Swatch brand market uses Swatch Group Movements. Source: Dow Jones Newswires, Factiva, FHS and Bernstein estimates and analysis. Source: breitlingsource.com, timezone.com.
Exhibit 136
70
Exhibit 137
Exhibit 138
%ofWatchmaking Employees /FirmsinCHbyRegion 100% 80% 60% 40% 20% 0%
With Circa 95% of All Employees Located in the Jura Mountains ("Watch Valley")
6%
Region JuraMountains JuraMountains JuraMountains JuraMountains JuraMountains JuraMountains JuraMountains SouthCH SouthCH NortheastCH EastCenrtralCH
94%
100%
Employees JuraMountains
Firms Other
Exhibit 139
Since 1999 the Concentration of Employees in the Jura Mountain Region Has Increased by Circa 400bps
Exhibit 140
We Estimate That About One-Third of Total Swiss Watchmaking Employees Either Work for the Swatch Group or for the Roughly 10 of the Other Largest Manufactures in CH
17% 19%
100% 10% 90% 80% 70% 60% 50% 1999 JuraMountains Other 90%
c.2,000FTE
6%
100% 90% 80% 70% 60% 50% 40% 30% 20% 10% 0% 65%
94%
2007
OtherSmallCHManuf. Swatch OtherLargeCHManuf.
Note: CP census indicated nine manufactures with more than 500 employees. We assume Swatch Group is the largest (c.9,000, estimated by aggregating all production subsidiaries) and estimate Rolex (1,700), Patek (1,300), Cartier (1,200) and the remaining five (@ 800 employees). Source: FHS, Convention Patronale Census 2007 and Bernstein analysis. Source: FHS, Convention Patronale Census 2007 and Bernstein analysis.
71
Exhibit 141
Swatch Has the Most Extensive Network of Production Facilities in Switzerland, Across Various Manufacturing Districts
ETA (Saint-Imier): Components ETA (Fontainemelon): Components Swatch Group Assembly (Saint-Imier): Assembling Mom Le Prelet and Indexor (La Chaux-de-Fonds): Index Component Rubattel & Weyemann (La Chaux-de-Fonds): Dials Universo (La Chaux-deFonds): Dials Manufacture Ruedin (Bassecourt): Watch Cases
Basel
Movements ETA (Moutier): Components Components ETA (Bettlach): Movements ETA (Grenchen): Movements Nivarox (Villeret and Fontaines in Spring 2009): Balance Springs, Gold Diamond-Polished Appliques for Dials Other Assembly
Fredic Piguet (Le Sentier): High-End Movements Francois Golay (Le Brassus): Wheels Valdar (Le Brassus): Assembling & Finishing
Bern
Comadur (Col-des-Roches): Ceramic and Sapphire Crystal Swatch Group Assembly (Genestrerio): Assembling
Geneve
Valdar (LOrient): Micromechanical Products ETA (Les Bioux): Movements ETA (Sion): Movements
Note: Swatch maintains a smaller number of production facilities outside of Switzerland. Source: Corporate reports and Bernstein analysis.
Producing Reliable Basic Movements Is More Difficult Than Integrating Upstream in High-End Movements
Developing and producing reliable basic movements (or "tractors") is particularly difficult: (1) Reliability depends on decades of cumulated volumes experience; (2) producing basic movements requires very high levels of automation in order to achieve competitive unit costs, which equals very high levels of capital investment, which in turn means that scale is of the essence; (3) Swatch continues to push ahead and invests (hundreds of) millions of CHF in its production facilities every year; and (4) using standard basic movements guarantees that watches can be repaired in the long term, as any watch maker around the world can service a basic ETA movement. Integrating upstream in high-end movements manufacturing is paradoxically much easier, as the proportion of manual labor is much higher, and the need for volumes and automated process is unimportant (Exhibit 148 details selected examples of the trend towards vertical integration over the past decade). Significant investment at Swatch Group has enabled the company to maintain its top position in production. Yet this has not come cheap: In the past five years alone, Swatch Group has spent c.CHF600 million in capex on its production division (c.8% of production net sales p.a.) see Exhibit 142 and Exhibit 143. As part of Cartier's push to produce its own movements, it set about building a massive facility around the year 2000. Hundreds of millions of CHF are estimated to have been invested; however, now the brand has a highly productive and flexible manufacturing platform, allowing it to be very reactive to changes in consumer demands (see Exhibit 144).
72
Exhibit 142
Swatch's CH-Based Production Assets Combined With Strict "Swiss Made" Requirements Create a Competitive Advantage Significant Time and Costs Are Required to Be a Successful Stage C and D Player
Switzerland or Overseas ('Swiss Made': 50% of total component value) Switzerland ('Swiss Made') Watch Assembly Movements Assembly and Inspection Watch Assembly and Inspection Retailers Overseas
Processes
Parts Production Raw Material Suppliers Dials, Hands, Cases, Straps Production
Stage
Note: The "Swiss Made" label requires that (1) assembly work on the movement, (2) final test timing of the movement and (3) assembly of the watch itself be carried out in Switzerland. Moreover, the label also requires at least 50% of the components of the movement be manufactured in Switzerland. Source: FHS, interviews and Bernstein analysis.
Exhibit 143
To Maintain Its Leading Position in Watch Production, Swatch Group Spends Circa 8% of the Division's Sales on Further Investment (Cumulative Circa CHF600 Million in the Last Five Years)
Overpast5years, UHRhasspentc.CHF 600monproductioncapex
Exhibit 144
Cartier's Integrated Production Facility Required Significant Investment (in the 2000s), Yet Provides the Company With a Highly Productive and Flexible Manufacturing Platform
10% 9% 8% 7% 6% 5% 4% 3% 2% 1% 0% 2005 2006 2007 2.7% 3.6% 4.0% 8.2% 8.2% 8.5%
8.7% 7.1%
Investment/Cost Functions
KeyFeature
2.2%
2.0%
2008
2009
Production
Watches&Jewelry
Source: Europa Star, The Swiss Watch Planet in Movement - Part 2 and Bernstein estimates and analysis.
Cartier's foray into own-manufacturing encompasses a variety of higher-end price points the company is not trying to compete at the very low end. In fact, if competitors wanted to compete at the lower end anew, potential ROIC would likely not be particularly attractive. Using the Asian movement market as an example (given the high volumes of low-priced movements generated in the region), we observe that low-cost movements are a scale game, which yields only minimal profits (see Exhibit 145 and Exhibit 146). A key component to the profitability of the Swatch brand is not only its relatively low production cost given high levels of industrialization, but also its ability to charge a relative premium to other electronic products (see Exhibit 147).
73
Exhibit 145
Low Cost Movements Are a Scale Game For Example, Order Flow for Cheap Movements in the Asian Market Is Massive and Only Yields Minimal Profits
100
Exhibit 146
Even at Relatively Higher Price Points in the CH Mechanical Market, Movement Manufacture Is a Semi-Industrialized Process
1,100 1,000 900 800 700 600 500 400 300 200 100 0
MillionsofMovements,#
"[Inhousemovementsare]asemiindustrializedprocess.That meansyouhavetohavethecriticalmassthatwillreallypayoff, otherwisedon'teventry.Ifyoutrytomakeawatchbetween $1,000and$5,000usinganinhousemovement,youareanidiot." ThomasMorf,CEO,CarlF.Bucherer Theproblemisthatthemovementhastobeirreproachablein termsoffunctionsandfinishing.Therearecustomersthatpreferan inhousemovement,buttheyapproachthiswithalotofsuspicion, becausepeoplearenotreadytohaveabadexperience.Generally, theywaitawhiletobesurethemarketacceptsandvalidatesthe qualityofanewhomemademovement. LaurentPiccioto,Chronopassion(Paris)
900
Note: Based on estimated values as of 2005. Source: Europa Star, Market Focus China: What the Swatch Group Produces in China and Bernstein estimates and analysis. Source: Europa Star Market Focus China: What the Swatch Group Produces in China and Bernstein estimates and analysis.
Exhibit 147
High Volumes and "Swiss Made" Positioning Help Drive Swatch Brand Profitability An Industrialized Production Scheme With Low Costs Is Necessary
RetailPriceandComponents(CHF)
80 70 60 50 40 30 20 10 0
Retail=CHF10 Retail=CHF75
57
7 3 PrivateLabel(Asia) MovementCost
18 SwatchinChina OtherCosts/Markup
Note: Based on estimated values as of 2005. Source: Europa Star Market Focus China: What the Swatch Group Produces in China and Bernstein estimates and analysis.
74
Exhibit 148
Year 2010 2009 2009 2009 2009 2008 2008 2008 2008 2008 2007 2007 2007 2007 2007 2007 2007 2007 2007 2006 2006 2006 2006 2006 2006 2005 2005 2005 2002 2001 2001 2001 2001 2000 2000 2000 2000 2000 2000 1999 1999 1998 Company Tanzarella MomLePrelet ETA Rouages Hublot FrancoisGolay MoebiusH.&Sohn Burri Piaget Chopard Indexor RogerDubuis DonzeBaume FrancoisPaulJourne Bucherer AudemarsPiguet Finger Leschot VaucherManufactureFleurier LePrelet NivarosFAR Fabriqued'HorlogerieMinerva MauriceLacroix Hermes Rolex CadranDesign Prestiged'Or Rolex Rubattel&Weyermann HGTPetitjean PatekPhilippe PatekPhilippe Boninchi Universo Cartier FranckMuller DanielRotheGraldGenta Rolex Beyeler&Cie Favre&Perret Hermes GayFreres
Over the Last Decade, Vertical Integration Has Been Particularly Common at the High-End Price Segments
Group Swatch Swatch Swatch Richemont LVMH Swatch Swatch Swatch Richemont Private Swatch Richemont Richemont Private Private Private Bulgari Bulgari Hermes Swatch Swatch Richemont Private Hermes Private Bulgari Bulgari Private Swatch Richemont Private Private Rolex Swatch Richemont Private Bulgari Private Rolex Swatch Hermes Rolex Notes Acquiredassemblerofwatchmovements(c.240employees) Expansionprojectinitiatedtoincreasecapacityforhighqualitydials Modernizedproductionsurfacestosmoothproductiontransitionfromebauchestomovements Acquiredwheelsandpinions Openedmanufacturingplant Acquiredwatchwheelsandprofileturningofcomplicatedpieces Acquiredlubricantsandcoatings Acquiredcomponentsdivision Manufacturingfacilityextensionby10% PurchaseofnewsitesinMeyrinandFleurier Acquireddialindexes Acquiredcomponentmanufacturing;enabledCartiertoproducelimitededitionPoinondeGenve Acquiredwatchcasesandbracelets Verticalintegrationbyacquiring50%ofElinor(preciousmetalcases) AcquiredTechniquesHorlogeresAppliquees(THA),amanuf.InSainteCroix Investmentinnewfacility Acquiredsophisticatedwatchcases PurchasedIPandmachineriesfromprivatecompany,Leschot Acquired21%stakeinmakerofpremium&prestigewatchmovements Acquireddialproducer InvestmentinnewfacilityinFontaines(3,000m2ofspace) Acquiredcompanentsandwatches InvestmentinamovementproductionunitinMontfaucon LeatherwatchbandproductionunitaddedtoBielfacility CompletedexpansionandrenovationofHQinLesAcacias(Adminandfinalwatchassembly) Acquireddialmakerforhighendwatches Acquiredsteelandpreciousmetalwatchstraps BuiltproductionplaninPlanlesOuates,Switzerland Acquireddialproducer Acquiredspecialistinmechanicalmovementsassembly AcquiredErgasSarlhighprecisionmicromechanicalcomponentmanuf. AcquiredCalame&Ciewatchcasemaker Acquiredcomponents Acquiredwatchhands SetoutoncreatingflagshipmanufacturingfacilitynearLaChauxdeFonds AcquiredLinderandOignonsJuraciebothcomponentsmanufacturers AcquiredproductionofhighandSwisswatches(ManufacturedeHauteHorlogerieSA) BuiltproductionplaninCheneBourg,Switzerland(dialproductionandgemsetting) Acquiredmanufacturerofwatchbraceletsandcasings Acquiredwatchcases BuilttheBielproductionfacilityforwatchassembly Acquiredmanufacturerofbraceletsandgoldchains
Note: Highlighted rows indicated acquisitions. Source: FHS, Factiva, corporate reports and Bernstein estimates and analysis.
It Is Common Industry Practice to Use Swatch "Tractors," With Transparency Levels Varying Across Third-Party Brands
It is a common industry practice to use Swatch basic mechanical movements this practice takes different shades of transparency. We have at least three stages: (1) A number of serious brands freely admit that they use Swatch movements for the entry price points in their lines, as it would not be economic for them to develop their own e.g., Baume Mercier, Panerai (see Exhibit 149), TAG Heuer (see Exhibit 150), Cartier (see Exhibit 151); (2) others rely on adapting the Swatch movements to call them their own the extent of these adaptations vary from significant to minor; and (3) it is understood (see for example Europa Star articles on this topic as well as press interviews by Mr. Hayek), that some brands buy Swatch movement blanks, simply stamp them with their name and call them their own.
75
Exhibit 149
Some Companies Are Pursuing a Hybrid Strategy Within the Last Five Years, Panerai Has Introduced Complicated In-House Movements for Its High-End Timepieces While Utilizing an ETA Base Caliber for Its Lower-End Models; Most Recently, It Has Introduced a "Simpler" In-House Caliber for Its Higher-Volume Luminor 1950 Series
Movement P.2005(InHouse) P.2006/3(InHouse) P.2004(InHouse) P.2003(InHouse) P.2002(InHouse) P.9001(InHouse) P.9000(InHouse) PaneraiCaliberOPXIII,ETAValjoux7753(Base) P.9002(InHouse) PaneraiCalibreOPXII,ETAValjoux7753(Base) P.9000(InHouse) PaneraiCaliberOPIII,ETAValjoux7750(Base) PaneraiCaliberOPIII,ETAValjoux7750(Base) Price($) 122,700 43,000 21,100 17,300 14,700 9,950 9,600 9,300 8,900 8,600 7,400 6,300 6,200 InHouse Movementsfortop pricesegment technically advancedw/tourbillon,10 daypowerreserve,etc.
Model RadiomirTourbillonGMT Luminor19508DaysGMTRattrapante Luminor19508DaysChronoMonopulsanteGMT Luminor195010DaysGMT Luminor19508DaysGMT Luminor19503DaysGMTAutomatic Luminor1950Submersible3Days LuminorChronoDaylight Luminor19503DaysGMTPowerReserve LuminorChronograph Luminor19503Days LuminorMarinaAutomatic RadiomirBlackSealAutomatic
Note: P.9000 Calibres introduced in 2009 for higher volume models in the Luminor 1950 range. Source: Wristwatch Annual 2009 and 2010, Europa Star, Market Focus China: What the Swatch Group Produces in China, corporate website and Bernstein analysis.
Exhibit 150
Brand: TAG Heuer Aquaracer 500M Calibre 5, $2,450; Movement: TAG Heuer Caliber 5 (Base ETA 2824-2)
Exhibit 151
Brand: Cartier Santos 100 Carbon Chrono, $14,350; Movement: Cartier 8630 MC (Base ETA Valjoux 7753)
Companies That "Go at It Alone" Often Use Established Alternatives, Without Risking In-House Development
Companies that have gone alone have often decided to use other established alternatives, without risking in-house development from scratch. Bulgari, for example, has bought the intellectual property, production tools and machines for its Calibre 168 tractor in 2007. Zenith resuscitated its "El Primero" automatic chronograph movement in a novel like twist of events, just because one of its watchmakers Charles Vermot decided to store (rather than scrap) its production line. Production of "El Primero" was re-started in 1984. In 2000 LVMH decided to stop third party sales (to Rolex) of "El Primero" and keep it as an exclusive to Zenith and TAG Heuer time pieces. TAG Heuer also used a Seiko design for its Chronograph 1887 movement. Despite using established alternatives to cut development costs, increasing volume capacity has required in all cases material investments.
76
Swatch's Recent Decision to Limit Movements Supply Opens New Strategic Scenarios
Recent decisions by Swatch to limit and qualify movements supply to third parties open a new strategic scenario. Swatch has announced that it will discontinue the offer of movement blanks from 2011, and will reserve the right to refuse selling movements and components to third parties, conditional on an investigation from the CH Competition Commission (COMCO), which was announced in Sep-09. No further news has yet been released, though at the time of the announcement Swatch Group felt "confident that the results of this investigation will again be positive for ETA." Exhibit 153 Swatch's Actions Could Potentially Help Stabilize Margins Going Forward and Make Order Cancelations and Swings in Capacity Utilization Less Volatile
16.1% 14.5% 11.0%
Exhibit 152
Swatch Has Steadily Reduced the Percentage of Movements (Value) That It Sells to Third Parties; Moreover, Swatch Has Stated It Intends to Halt External Sales of "Blanks" in 2011
100% 80% 70% 60% 50% 40% 30% 20% 10% 0% 2003 2004 2005 2006 2007 2008 2009 1H10 Internal 3rdParty
55% 59% 59% 60% 63% 64% 59% 66% 45% 41% 41% 40% 37% 36% 41% 34%
18%
SwatchGroupProductionEBIT%
90%
6.6%6.1%
4.2%3.8% 2.8%
0.6%
2006 2007 2008 2009 LTM1H10
The decision from Swatch opens an opportunity for competitors offering ETA clones and alternatives (see Exhibit 152 to Exhibit 154). Sellita seems the only one with material volume capabilities at c.1 million/year. Its core focus, nevertheless, seems to be ETA movements for which patents have expired hence suffering a potential technologic and functional delay. Soprod, Technotime, Fleurier and La Joux-Perret seem either too small or too high-end to credibly act as an alternative. Exhibit 155 to Exhibit 159 provide an overview of some of these players and their efforts to enhance productivity to meet the potential demands of third-party watch brands. Exhibit 154 Industrial Production Companies Have Become More Prominent Over the Past 10 Years and Could Potentially Offer a Partial Alternative to ETA-Type Movements, Particularly at the Mid-to-Lower End Range
Name Sellita Soprod Technotime LaJouxPerret DuboisDepraz Chopard Capacity(Movements) 1million 300kLTGoal c.70k Notes LargestproducerofbasicETAtypemovements SomeETAcompatiblemovements Quartzandautomaticmovements Highendmovementcapabilities Alreadyhaslargeclientbase,highend Expandedinhouseops,couldsellexternally
77
Exhibit 155
Sellita Founded: Location:
Exhibit 156
Soprod Founded: Location:
Recent Developments:
Recent Developments:
Source: Wristwatch Annual 2010, Capital IQ and Bernstein estimates and analysis.
Source: Wristwatch Annual 2010, Capital IQ and Bernstein estimates and analysis.
Exhibit 157
Exhibit 158
Description:
Description:
Chopardisalreadywellversedin productionofveryhighendin housemovements;Fleurier isan attempttoproduceitsown bauchesonanindustriallevel:aim for15,000movementsp.a. Recentlycompleted5,100m2 facilitywithseriesofhighcapacity productionmachinesandroomfor 60employees.Stillinprocessof developingmoreadvanced capabilities
Recent Developments:
Recent Developments:
Source: Wristwatch Annual 2010, Capital IQ and Bernstein estimates and analysis.
Source: Wristwatch Annual 2010, Capital IQ and Bernstein estimates and analysis.
78
Exhibit 159
The MTR 312 Represents the Type of Automated Machinery Chopard's Fleurier bauches Currently Employs in Its New Production Facility, Which Aims to Further Industrialize the Process of Manufacturing bauches
PrecitrameMachinesSA(JuraRegioninCH) MTR312 Description: Upto31simultaneousaxesand36tools.The referencetransfermachinethroughoutthe watchmakingindustry. The2ndgenerationPRECITRAMEMTR312isa CNCrotarytransfermachinedesignedforthe manufactureofsmallandmediumsized precision mechanical components. Itisusedforvolumeproductionofseveral millioncomponentsandhasaproduction capacityofaround10,000parts/day.
Chinese movements manufacturers exist, but they still operate at lower quality levels and are not really an alternative for CH brands even as some of them have very important volume capacity. Entry-price-point players like Fossil a leader in designer brand watches licenses have recently resorted to Chinese suppliers. But we would expect skipping the "Swiss Made" recognition would be out of the question for higher priced brands and products. We note that some Chinese manufacturers are moving up-market with mechanical movements though anecdotal evidence points to lower quality levels versus CH manufactures (see Exhibit 160). In fact, we believe luxury competition from Asia still has a ways to go despite selected players (e.g., Shanghai) attempting to span a broad price offering (see Exhibit 161). Exhibit 160 Some Chinese Manufacturers Are Moving Up-Market With Mechanical Movements Though Anecdotal Evidence Points to Lower Quality Levels vs. CH Manufacturers
2,253
Exhibit 161
Luxury Competition from Asia Still Has a Ways to Go Despite Selected Players (For Example, Shanghai) Attempting to Span a Broad Price Offering
2,250 22,530
Mechanical WatchPrice/Unit(CHF)
2,500 2,000
3,000 2,500
PriceRange (CHF)
1,500 1,000 500 500 0 CH Chinese CHElectronic Chinese Mechanical Mechanical Mechanical (lowrange) (highrange) 199 150
2,000 1,500 1,000 500 75 150 0 CoreRange (Automatic) Chronographs Complications 225 375
Note: "Chinese mechanical" refers to foreign watch brands using Chinese mechanical movements from companies such as Shanghai and Sea-Gull. Source: Europa Star and Bernstein estimates and analysis. Source: Europa Star and Bernstein estimates and analysis.
79
While the competitive outcome in this "new world" is still open, we would expect brand consolidation as a likely consequence especially in the entry and medium-end price points. Competing brands in the "Swiss Made" entry and midprice point segments seem to be between a rock and a hard place. They can either choose: (1) to make their dependence from Swatch more visible (in a sort of "Intel inside" environment); (2) invest large amounts of money, time and resources in making their own movements if they have scale (which in most cases they don't); (3) rely on more expensive/older concept movements from smaller alternative players; (4) give up "Swiss Made" and rely on Chinese movements. The stage seems set for Swatch to secure a more solid competitive position in the face of a strong aspirational consumer wave in Asia.
80
AllStages
Development
AllStages
Development
AllStages
Assembly
AllStages
Aftersales
Educationinengineering
R&D
Development
Designer(/Stylist Designsandcreatesofmodels /Artist) PrototypeMaker Createsprototype,implementsany adjustmentsnecessaryformass production Buyspreciousstonesandcheckstheir quality,takesinventoryduringthe manufacturingphase. Programsandmonitorsthemachiningof rawmetalintowatchcomponents MonitorsandcontrolsCNCmachines thatcutmetalinordertoproducewatch components. Shapesroughmovementcomponentsto specifications
R&D
Development
RawMaterialSupplies
OtherParts
Gemologist
PartsProduction
Components
Micromechanic
PartsProduction
Components
PartsProduction
Components
PartsProduction
OtherParts
Engineturner
Components
Engraver
Decoratespiecesusingalatheequipped withchiselsthatisoperatedentirelyby hand. Engravescomponentsofamovementor EngraverCFC(SwissFederalCertificate case ofCapacity),4years Overseasthecreationofthewatchcase anditsaccompanyingbracelet/strap fromdesigntoproduction Placesthevariouselements(numerals, Qualificationindialmaking,2years minutecircle,brandname,etc.)onto thedial Reproducesimages,patternsor miniaturesonthedialwithenamel
OtherParts
Dials,Hands,CasesStrapsProduction
OtherParts
Dials,Hands,CasesStrapsProduction
OtherParts
Enameller
Dials,Hands,CasesStrapsProduction
OtherParts
Dials,Hands,CasesStrapsProduction
OtherParts
Dials,Hands,CasesStrapsProduction
OtherParts
Designsandenhancespreciousstones sittingonmetal.Oftenworkswith limitededitions. JewelerTechnical Outlinesneedsintermsofcomponents BusinessemployeeCFC,3yearin Coordinator andthenecessarytoolsforjeweler houseapprenticeshipwithlessons repair takeninparallel LeatherStrap Designsandworkswithleathertocreate Maker straps MetalBracelet Maker GemSetter Designsandcreatesmetalstraps MicromechanicCFCandJewelerCFC
Jeweler
Dials,Hands,CasesStrapsProduction
OtherParts
Dials,Hands,CasesStrapsProduction
OtherParts
GemsetterCFCinjeweler,4years
Dials,Hands,CasesStrapsProduction
OtherParts
Dials,Hands,CasesStrapsProduction
OtherParts
Assembly
Assembly
WatchAssembler Assemblesmovements
WatchmakingCFC,3or4years
Assembly
WatchAssemblyandInspection
Assembly
Retailers
Aftersales
Aftersales Watchmaker
Diagnoses,disassembles,repairs,cleans andinspectspieces
WatchmakingCFC,3or4years
81
Exhibit 163
Engineer
University(3/4Yrs)
Watchmaker
CFC(SwissFederal CapacityCertificate)
Technician
Apprenticeship Programme(3/4Yrs)
PreUniversity Studies(3/4Yrs)
Apprenticeship Programme(2Yrs)
LowerSecondary School
83
Exhibit 164
31 Luxury
136 105
Mass Market
105
Mass Market
Global
Global, byPricePoint
Global, byPricePoint(Detail)
Note: Assumed total and luxury/mass market split in line with Verdict (as of 2009); high-end estimate from Altagamma. Source: Verdict, A&M Mindpower, Altagamma, Women's Wear Daily and Bernstein estimates and analysis.
84
Exhibit 165
Only Circa 5% of Global Jewelry Is Estimated to Be Branded; The Proportion Is Only Slightly Higher (Circa 12%) in the High-End Segment (Which Accounts for Circa 5% of Total Sales)
5% HighEnd
Accs. 18% Luxury
Exhibit 166
High-End Jewelry Appears Underpenetrated by Brands The Percentage Weight of Brands (12%) Is Much Lower Than for High-End Watches (50%) and Perfumes (80%)
20%
50%
Unbranded
95%
Unbranded
77%
Mass Market
88%
Unbranded
88%
Unbranded
80%
Branded
12% 0%
Branded
OverallJewelry ByPricePoint
HighendJewelry ByBranding
Note: Price point split based on 2009 estimates by Verdict; branding split from WWD interview with Richemont Italia's Giacomo Bozzi (as of 2002). Source: Verdict, Women's Wear Daily ("Jewels Evolve from Craft to Brand," 06-Dec-02) and Bernstein estimates and analysis.
Note: All branding splits from WWD interview with Giacomo Bozzi (as of 2002). . Source: Women's Wear Daily ("Jewels Evolve from Craft to Brand," 06-Dec-02) and Bernstein estimates and analysis.
Exhibit 167
EMs Account for About One-Half of Global Jewelry Expenditure Across Price Points, With About One-Third Generated in Asia Ex-Japan and Circa 14% in Middle East/Africa
100% 5% 14% 17% 60% 31% 40%
Americas Europe Japan
TotalJewelryExpenditure byRegion(%)
80%
ME&Africa
20% 0%
34%
Asia(exJapan)
2009
Source: Verdict and Bernstein estimates and analysis.
85
Exhibit 168
India, Greater China, the Middle East, and Russia Jointly Account for Circa 65% of Overall Gold Demand for the Jewelry Industry In Volume and Value Terms
Exhibit 169
The Americas Represented (as of 2007) the Largest End Market for Diamonds, Accounting for About One-Half of Global Diamond Sales, Followed by Japan and Europe
100% 8% 6% 7% 13% 16%
GeographicMixofGoldDemand forJewelry(2009,%Total)
2% 2% 3%
2% 2% 3%
GeographicMixof DiamondSales(2007,%Total)
22%
22%
50%
Gold and diamonds are key inputs in the global jewelry market. In fact, gold and diamond jewelry accounted for more than three-quarters of global value-terms sales in 2008, while other precious metals e.g., silver, platinum and palladium and gemstones accounted for less than one-quarter (see Exhibit 170). In the United States, the mix would seem similar, with gold and diamond jewelry accounting for c.60% of total (see Exhibit 171). Exhibit 170 Gold and Diamond Jewelry Accounted for More Than Three-Quarters of Global ValueTerms Sales in 2008; Other Precious Metals e.g., Silver, Platinum and Palladium and Gemstones for Less Than One-Quarter
Other PMG & Gemstones
Exhibit 171
In the United States, the Mix Would Seem Similar, With Gold and Diamond Jewelry Accounting for Circa 60% of Total
100% 23% 80% 60% 40% 20% 0% %GlobalJewelrySales(Value) Gold&Diamonds OtherPMG(incl.Silver,Platinum, Palladium)
Gold & Diamonds
100% 80% 31% 9% 11% 40% 20% 0% US %Total JewelryMarket Diamonds(Jewelry&Loose) GoldJewelry ColoredGemstoneJewelry Other
Note: Based on segmentation of U.S. jewelry market; excl. watches.
77%
%ofTotal
60%
48%
86
Within the jewelry market, there are several demographic nuances that stand out. First, the category is more skewed toward female consumption (self-purchased and gifted) than others across price points: 90% for the broader market and c.95% for the high-end (see Exhibit 172). Second, jewelry encompasses a certain amount of "necessary consumption" despite being a discretionary space; for example, in the United States, 35% of jewelry spend depends on bridal merchandise (see Exhibit 173). Exhibit 172 Women Are the Key Consumers in the Global Jewelry Market Representing 90% of Demand (Self and Gifted) Exhibit 173 U.S. Market Details on "Occasion of Use" Provide a Glimpse of the Percentage Weight of Bridal Merchandise in Overall Jewelry This Represents More Than One-Third of Total Sales
10%
%ofTotal
%ofTotal
60% 90%
Note: (1) Based on segmentation of U.S. jewelry market; (2) bridal merchandise includes: engagement, bridal & anniversary rings; (3) fashion jewelry includes: bracelets, rings, earrings, pins, gold chains, etc. Source: A&M Mindpower and Bernstein estimates and analysis.
In the luxury segment, after a high-end wave caused by EM millionaires, we would expect a new secular wave of aspirational and accessible demand. Luxury jewelry is the realm of richer consumers: High-net-worth individuals account for 75% of luxury purchases, compared to c.40% for luxury leather goods (see Exhibit 174 and Exhibit 175). A wave of aspirational/accessible demand could unfold for two reasons: (1) These are the price points where the transition from non-branded to branded is happening at the fastest pace particularly relevant in developed markets; and (2) there could be deeper penetration into lower-income quintiles of key EMs (please see our report, "European Luxury Goods: Drill Down of LongTerm Demand Drivers - Part 8: A New Wave of Luxury Democratization?," published 10-Aug-10). The high-end luxury segment, nevertheless, should be supported by continuing growth in high-net-worth individuals and by aging populations. In fact, we expect that a category shift to hard luxury should go hand in hand with the growth of an older customer base across mature markets (please see our report, "European Luxury Goods: Drill Down of Long-Term Demand Drivers - Part 1: The Impact of Ageing Populations," published 22-Jan-10).
87
Exhibit 174
100%
90% 30 80%
25
20
5 15
SpendperCategory(%)
35
Home& Furniture
35
Watches& Jewelry
AspirationalMasses(28%)
RisingMiddleClass(25%) LuxurySpend
NewMoney(37%)
Exhibit 175
As High-Net-Worth Individuals Account for 75% of Luxury Jewelry, Compared to Circa 40% for Luxury Leather Goods
100% 90%
%ofCategorySpendby IncomeBracket
80% 70% 60% 50% 40% 30% 20% 10% 0% Jewelry&Watches MiddleClass 25% 75%
41%
59%
LeatherGoods HNWI
Note: "High-net worth individuals" refers to "new money" + "old money" + "beyond money." Source: BCG (Boston Consulting Group) and Bernstein analysis.
We Expect Acceleration in Category Growth to 3-5% Due to (1) EMs, (2) Branded, and (3) Commodity Price Inflation
Broader jewelry has grown at a CAGR of c.2.5% in the past decade (currencyneutral see Exhibit 176). Luxury segment growth has outpaced mass market, and branded high-end has outgrown overall luxury. Luxury jewelry outpaced massmarket jewelry by c.+250bps in 2005-09; high-end jewelry grew at a +200-500bps delta versus luxury overall in 2004-08. EMs have grown joint share of overall jewelry spend by c.10% since 2005 (+700bps Asia, +300bps Middle East). Asia exJapan has moved from 27% to 34% of total (see Exhibit 184 later in the chapter).
88
Exhibit 176
The Broader Jewelry Market Has Grown at a (Currency-Neutral Terms) CAGR of +2.6% in the 2000-09 Period and We Would Expect It to Grow by a CAGR of +3-5% Over the Next Five Years
200 10% 7.8% 180 160 145 140 0.7% 120 (1.4%) 100 2000 2001 2002 (2.5%) 2003 2004 2005 2006 2007 2008 2009 2015e 126 125 181 6.1% 147 2.9% 146 131 5.1% 3.9% 140 8%
TotalJewelryExpenditure(bn)
163
4% 2% 0% 2% 4%
137 130
136 1.2%
GlobalJewelrySales(bn)
%FXNeutralGrowth
Note: Includes jewelry made of precious metals, diamonds and other precious stones (including mass market and luxury, branded and unbranded, ex-costume). Source: Verdict, A&M Mindpower, Oanda and Bernstein estimates and analysis.
We expect acceleration in jewelry category growth to +3-5% p.a. overall and +7-10% p.a. for the luxury segment in 2010-15E (lower than for watches). Future growth in luxury jewelry will come from three different converging drivers (see Exhibit 176). Specifically: (1) Continuing geographic expansion into EMs, which is common to other luxury categories, as we have seen in our recently published research (please refer to our Blackbooks, European Luxury Goods: Long-Term Attractiveness & Structural Demand Drivers, published 09-Sep-10 and, European Luxury Goods: The Anatomy of Overseas Luxury Markets, published 19-Jul-10). (2) A continuing mix shift from non-branded to branded, which is very category-specific, with high-end jewelry expenditure still c.90% non-branded, while the situation is virtually reversed in other categories (non-branded at 50% for watches and 20% for perfumes see Exhibit 165 and Exhibit 166). (3) Commodity price inflation, potentially, as increases in gold and diamond prices tend to be immediately reflected into retail prices (see commodity prices and CPI/retail price trends in Exhibit 177 and Exhibit 178). This could be a factor lifting the growth rate of the broader jewelry market, including the mass-market portion. We note in Exhibit 179 that higher input costs can support value progression despite falling volumes, even for a decade, as exemplified by trends in the demand for gold by jewelry. Nonetheless, sustained price increases could potentially trigger partial substitution effects with cheaper materials (or relatively cheaper based on historic premiums) e.g., palladium. In fact, rising commodity prices have triggered (1) renewed focus on input costs among jewelry manufacturers and (2) a degree of substitution of gold, platinum and diamonds with palladium and titanium, where possible (see Exhibit 180).
YoYGrowth %
CAGRrange: +35%
6%
89
Exhibit 177
Commodity Input Prices (Key Precious Metals) Rebounded from 2008 Lows, Especially Gold and Silver Palladium Is Cheaper by Default and Has Risen Less in the Last Two Years
Exhibit 178
Consumer Prices for Jewelry in the EU27 and China Have Experienced Robust YoY Growth as Input Prices Rose
600
IndexofSpotCommodity Price(Jan02=100)
30% 25%
MonthlyYoYChange(%)
Gold
Platinum
Palladium
Silver
Source: Haver, China National Bureau of Statistics, Eurostat and Bernstein analysis.
Exhibit 179
The Growth Rates We Describe in Value Terms Should Be Qualified Higher Input Costs Can Support Value Progression Despite Falling Volumes, Even for a Decade, as Exemplified by Trends in the Demand for Gold by Jewelry
GlobalGoldDemandforJewelry (ValueandVolumeGrowth,YoY%)
25% 20.9% 20% 18.7% 15% 14.7% 13.8% 12.5% 10% 9.5% 3.6% 2.3% 5% 5.1% (1.0%) 2.5% 5.4% 1.0% 0% 5% (6.1%) (6.2%) (8.8%) (6.7%) 10% (9.8%) (9.1%) 15% (11.6%) (15.6%) 20% (20.1%) 25%
1999
2000
2001
2002
2003
2004
2005
2006
2007
2008
Volume(YoY%)
Source: GFMS, WGC (World Gold Council) and Bernstein analysis.
Value(YoY%)
2009
Jan05 May05 Sep05 Jan06 May06 Sep06 Jan07 May07 Sep07 Jan08 May08 Sep08 Jan09 May09 Sep09 Jan10 May10
EU27:Jewelry,Clocks&WatchesCPI China:Gold/SilverJewelryRetailPrices
90
Exhibit 180
Rising Commodity Prices Have Triggered (1) Renewed Focus on Input Costs Among Jewelry Manufacturers and (2) a Degree of Substitution of Gold, Platinum and Diamonds With Palladium and Titanium, Where Possible
20%
15.0% 15% 10% 5% 0% (5)% (10)% Palladium Silver Platinum (2.5)% (6.5)% (7.0)% Gold
The "luxury" segment of the market has outpaced "mass market" price points in 2005-09 by c.250bps, and we expected to grow at a c.500bps delta in 2009-15E (both in currency-neutral terms), as shown in Exhibit 181. Exhibit 181 The "Luxury" Segment of the Market Has Outpaced "Mass Market" Price Points in 2005-09 by Circa 250bps and Is Expected to Grow at a Circa 500bps Delta in 2009-15E (Both in Currency-Neutral Terms)
10% 9% 8% 7% 6% 5% 4% 3% 2% 1% 0% 8.9% 6.8% 5.0% 3.7% 2.2% 1.7%
'05'09
'09'15e(@3%)
'09'15e(@5%)
Luxury
Mass
Note: Includes jewelry made of precious metals, diamonds and other precious stones (including mass and luxury, branded and unbranded; ex-costume). Source: Verdict (including estimates) and Bernstein analysis.
The more narrowly defined high-end segment (estimated 5% of total jewelry sales, at 7 billion in 2009) has grown at a CAGR (euro terms) of c.+3% in the 2005-09 period. We observe that year-over-year growth in high-end jewelry seems to magnify swings in overall global luxury demand, as it outpaced the overall sector (also in euro terms) in the 2004-08 period (+200-500bps delta versus luxury overall) but underperformed in the 2009 trough year (see Exhibit 182 and Exhibit 183).
91
Exhibit 182
The More Narrowly Defined High-End Segment (Estimated 5% of Total Jewelry Sales, at 7 billion in 2009) Has Grown at a CAGR (Euro Terms) of Circa +3% in the 2005-09 Period
10
7.7
7.7
15% 10% 5%
2004
2005
2006
2007
2008
2009
Jewelry(bn)
Jewelry(YoY%Growth)
Note: Not currency-neutral; includes impact of basket currency versus euro reporting per Altagamma. Source: Altagamma (including 2010 estimate) and Bernstein analysis.
Exhibit 183
YoY Growth in High-End Jewelry Seems to Magnify Swings in Overall Global Luxury Demand: It Outpaced the Overall Sector in the 2004-08 Period But Underperformed in the 2009 Trough Year
20% 15%
Jewelryvs.AllLuxury YoYGrowth(%)
16% 13% 9% 5% (3%) (2%) (4%) (8%) (11%) 2003 2004 2005 2006 2007 2008 2009 2010 8% 13% 9% 8% 7% 0% 10%
Jewelry
TotalLuxury
Note: Not currency-neutral, includes impact of basket currency versus euro reporting per Altagamma. Source: Altagamma (including 2010 estimate) and Bernstein analysis.
Also, as noted, continuing geographic expansion into EMs should be a key driver of growth for the broader jewelry category over roughly the next five years. This is expected to further lift Asia ex-Japan's weight in the global mix to 37% (a c.+200bps gain) by 2015E (see Exhibit 184).
HighEndJewelry,%YoYGrowth
HighEndJewelry,Global (bn)
9.0 16.0%
20%
92
Exhibit 184
EMs in Asia-Pacific and the Middle East Have Grown Their Joint Share of Overall Jewelry Spend by Circa 10% Since 2005 (+7% Asia, +3% MEA); We Expect Asia to Continue Capturing Share Over the Next Five Years
100% 90% 7% 11% 20% 7% 12% 19% 6% 13% 18% 5% 13% 17% 5% 14% 17% 4% 14% 17% 5% 14% 15%
Jewelry(Luxury+Mass) ExpenditurebyRegion(%)
80% 70% 60% 50% 40% 30% 20% 10% 0% 2005 2006 Asia(exJapan) 2007 Americas 2008 Europe 2009 ME&Africa 2010e Japan 2015e 27% 29% 30% 32% 34% 34% 37% 34% 34% 33% 32% 31% 31% 28%
On the Supply Side, Global Jewelry Is Very Fragmented; Channel Mix Varies Greatly Across Geographies
On the supply side, global jewelry is very fragmented, with channel mix varying dramatically across key markets. On the one hand, there is India with only 5% of sales generated via organized retail, with the balance from independents. Nonetheless, credible branded retailers are beginning to rise from India and other EMs Gitanjali along with Brazil's H.Stern are notable examples (these two EM players are profiled in Exhibit 192 and Exhibit 193 later in this chapter). On the other hand, we find the United States with branded retailers (domestic and foreign), widespread wholesale (e.g., department stores), and sizable discounters (e.g., mass merchants, led by Wal-Mart; telemarketing, e.g., JTV; and online purists, e.g., Blue Nile profiled in Exhibit 191 later in this chapter). We see developed European markets (e.g., Italy) as similar to the United States overall, but with online and mass merchants playing a much less sizable role. Exhibit 185 broadly outlines the channel mix, using India, Europe/Italy and the United States as examples. Zooming in on the United States in particular, we note that specialists account for about one-half of total jewelry sales while general merchandisers make up around one-quarter (see Exhibit 186). The online channel was estimated to account for c.7.5% of total US jewelry sales in 2007 (growing at c.+20% year-over-year on 2006) a relatively large foray for the channel as a whole when compared to other markets (see Exhibit 187). In terms of major players in the U.S. market, Wal-Mart is the largest; it commands a market share of 4.6% (2006), ahead of specialist retailers Sterling (Signet at 4.2% share), Zale and Tiffany's (see Exhibit 188). There is some degree of concentration, as the top two players (Wal-Mart and Signet) jointly captured c.9% of U.S. jewelry sales (in 2006), with the c.90% balance including several large specialists (see Exhibit 189). This reality contrasts with India, where 96% of distribution is carried out by family shops in a heavily fragmented marketplace (see Exhibit 190).
93
Exhibit 185
Jewelry Channel Mix Overview: Independent Retail Is Most Prominent in India; the United States Is at the Opposite Extreme With Extensive Inroads by Discounters, Such as Generalists, Television Channels and Online Purists
Gitanjali Bulgari Cartier Boucheron Buccellati Pandora Tiffanys Cartier,VanCleef Signet,Kay,Jared Zale Macys(dept.store) Mostlyindependent familybusinesses Damiani StroliliOro WalMart QVC,Costco JCPenny,Sears,Target Buddingonlineand discountoffer Italy (inbetweenproxy) =BrandedRetailers(e.g.,Graff,Bulgari,Cartier) =Independents,Wholesale(e.g.,Macys),MultibrandRetail =Discounters(e.g.,WalMart,Costco),Online(e.g.,BlueNile) =ModernizationTrend BlueNile JTV,ShopNBC,HSN NeimanMarcus
India
US
Note: Players distributing via mix of own retail/third-party wholesale allocated to either green or orange category (please refer to the online version), depending on percentage weight (e.g., Damiani 25%/75%). Source: Verdict, A&M Mindpower, Altagamma, corporate reports and websites, and Bernstein estimates and analysis.
Exhibit 186
In the United States, Specialists Account for About One-Half of Total Jewelry Sales; General Merchandisers Make Up About One-Quarter
Exhibit 187
Online Was Estimated to Account for Circa 7.5% of Total US Jewelry Sales in 2007 (Growing at Circa +20% YoY on 2006)
US JewelleryOutletsbyStoreCount andValue(2008,%Total)
ChannelMixofUSJewelrySales (200607,%Total)
60% 50% 40% 30% 20% 10% 0% Specialty Apparel/ General Accessories Merch. Retailers %Stores %Sales Others 7% 22% 23% 25% 18% 48% 37%
100% 90% 80% 70% 60% 50% 40% 30% 20% 10% 0% 6.0% %2006Total Online 7.4% %2007Total Offline 94.0% 92.6%
20%
Note: Blue Nile online share = c.7%, i.e. $0.32 billion sales of $4.8 billion online market. Source: A&M Mindpower and Bernstein analysis. Source: A&M Mindpower and Bernstein analysis.
94
Exhibit 188
Wal-Mart Is the Largest Player in U.S. Jewelry (4.6% Share in 2006), Ahead of Specialist Retailers Sterling (Signet at 4.2% Share), Zale and Tiffany's
Category Discount SpecialistJeweler SpecialistJeweler NonStore SpecialistJeweler MassMerchant MassMerchant SpecialistJeweler SpecialistJeweler NonStore(Specialist) WholesaleClub DeptStore Discount DeptStore NonStore NonStore Multichannel(Specialist) SpecialistJeweler SpecialistJeweler
Exhibit 189
Top Two Players Jointly Captured Circa 9% of U.S. Jewelry Sales (in 2006), With the Circa 90% Balance Including Several Large Specialists This Points to a Degree of Concentration
RetailerName WalMart Sterling Zale QVC Tiffany JCPenny Sears Helzberg FredMeyer JTV Costco Macys(East) Target NeimanMarcus ShopNBC HSN RossSimons Tourneau Cartier
4.6% 4.2%
Note: (1) Excludes bankrupt names (Friedman's and Whitehall); (2) Sterling Jewelers Inc. includes specialist banners: Signet, Jared, Kay. Source: A&M Mindpower and Bernstein estimates and analysis. Source: A&M Mindpower and Bernstein analysis.
Exhibit 190
But Organized Retail Is Not Always the Norm For Example, in India, 96% of Distribution Is Carried Out by Family Shops in a Heavily Fragmented Marketplace
100%
India OutletCategory (%Share,2005)
4%
Exhibit 191
Blue Nile
Profile of Blue Nile A Prominent Example of an Online Purist Operating as a Specialist Jeweler
Local (US$) ('000) Category Focus Region Country Exchange Ticker Hard Luxury Jewelry Americas United States Nasdaq GS NILE 09 Net Sales % growth 09 EBITDA % margin 09 EBIT % margin 3-Jan-10 302,134 2.3% 21,940 7.3% 19,347 6.4%
Timeline
1999: Founded by Mark C. Vadon in Mar-99 in Seattle, WA as Internet Diamonds, Inc. 1999: Changed its name to Blue Nile in Nov-99 2004: IPO on 19-May-04. 4.04m shares at $20.50 (3.74m + 54% of 0.56m greenshoe) 2008: Expanded website capabilities to >40 countries and territories 2009: Available purchase currencies increased from 2 to 24 2009: New version of website launched - enhanced graphics and shopping tools 2010: Launced iPhone and iPad app
Key Financials
(USD '000) 2005 Jan-06 203,169 2006 Dec-06 251,587 23.8% 50,853 20.2% 16,557 6.6% 13,064 5.2% 2007 Dec-07 319,264 26.9% 65,204 20.4% 22,412 7.0% 17,459 5.5% 2008 Jan-09 295,329 (7.5%) 59,996 20.3% 15,991 5.4% 11,630 3.9% 2009 Jan-10 302,134 2.3% 65,344 21.6% 19,347 6.4% 12,800 4.2% CAGR
Total Revenue Growth Gross Profit Gross Margin EBIT EBIT Margin Net Income Net Income %
10.4%
9.7%
1.8%
(0.7%)
96
Exhibit 192
Gitanjali
Local (INR) (millions) Category Focus Region Country Exchange Ticker Hard Luxury Jewelry Asia Pacific India BSE 532715 09 Net Sales % growth 09 EBITDA % margin 09 EBIT % margin 31-Mar-10 65,297 14.7% 3,810 5.8% 3,603 5.5%
M. Choksi
(Chairman)
Vertical Integration
On the De Beers list of 79 Diamond Trading Company sightholders In '07 purchased 70% stake in diamond distributor/processor (Tri-Star) Maintains 3 rough diamond processing facilities Operates 6 jewelry factories (large export business for jewelry / diamonds) Own 2 diamond cutting factories in China (opex = 30-40% lower vs. India)
Key Brands
Nakshatra - Aspirational diamond brand (c.$50m annual sales) Gili - High-end and marketed to older an older, female demographic (c.$75m annual sales) Asmi - Contemporary diamond brand D-damas - Product sold via JV with Damas Group Vivaaahi - Gold and diamond jewelry
Gitanjali - Rel. SP Perf. vs. MSCI India Index (since 2006 IPO)
160 140 120 100 80 60 40 20 0
3/10/2006 5/02/2006 6/22/2006 8/14/2006 10/04/2006 11/24/2006 1/16/2007 3/08/2007 4/30/2007 6/20/2007 8/10/2007 10/02/2007 11/22/2007 1/14/2008 3/05/2008 4/25/2008 6/17/2008 8/07/2008 9/29/2008 11/19/2008 1/09/2009 3/03/2009 4/23/2009 6/15/2009 8/05/2009 9/25/2009 11/17/2009 1/07/2010 3/01/2010 4/21/2010 6/11/2010 8/03/2010 9/23/2010
Total Revenue Growth Gross Profit Gross Margin EBIT EBIT Margin Net Income Net Income %
28.4%
60.8%
36.2%
40.5%
Exhibit 193
H Stern Category Focus Region Country
BRL127 million (per Capital IQ) Privately held H.Stern Comercio e Industria, SA H.Stern Jewelry Inc.
Distribution
Presence throughout LatAm; also in the US, Europe, and the Middle East Stores include both store-in-stores at dept /multi-brand stores & owned flagships In-store boutiques at 3rd party stores with branded displays so as to safeguard brand Own flagships: 5th Av. In New York; Theatiner St., Munich; soon in Cannes, Fr; Mexico c.120 total stores listed on own website, covering 15 countries & selected cruise ships 46 stores in Brazil (including 15 in Sao Paolo, 11 in Rio de Janeiro) Additionally, third-party retail partner POS in c.30 countries
Company History
1945: Founded as a minor gem trading operation by German migr, Hans Stern 1949: First H.Stern store opens in Rio de Janeiro Aimed at attracting tourist interest since early years, with openings at RdJ airport & Petropolis 1959: Organizes first jewelry fashion show ever held in Brazil 1964: International expansion begins on the other side of the Atlantic 1983: Ipanema HQ set up; now one of the most famous sights in RdJ (10,000 visitors/month) 1980s: Collection signed by actress Catherine Deneuve achieves great success 1995: Roberto Stern, Hans's eldest son, takes creative control of the firm (with his brothers) 2003: Participates in the Basel Jewelry and Watch Fair, in Switz., for the first time
97
98
We prefer mega-brands with the ability to span broad price points. We see megabrands like Cartier and Tiffany best equipped to navigate future luxury jewelry trends. The combination of strong brands capable to attract aspirational consumers and proven retail capabilities should compound the ability to grow above market average. The trade-off with Cartier is that it is more credible in the high-end while it carries a perception of higher price in aspirational consumers' minds, not necessarily supported by fact. Within our direct coverage, Richemont (with the Cartier and Van Cleef & Arpels brands) generates by far the highest percentage of total revenues from jewelry, and also is the largest jewelry player in terms of euro sales. Richemont's large presence holds true even when compared to two key non-coverage comparables, Tiffany and Bulgari (see Exhibit 194 to Exhibit 196). In the past, M&A of high-end jewelry brands has occurred, though acquisitions by LVMH (Chaumet, De Beers 50/50 JV) and PPR (Boucheron) did not close the size gap to Richemont's Jewelry Maison (see Exhibit 197). Exhibit 195 In Terms of Euro Sales, Richemont Is Also the Largest Jewelry Player in Our Coverage, Even When Compared to Other Key Non-Coverage Comps, Namely Bulgari and Tiffany's
2,692
Exhibit 194
Within Our Direct Coverage, Richemont Generates by Far the Highest Percentage of Total Revenues from Jewelry
100%
2009RevenueMix(%Total)
10%
Est.2009JewelrySales(m)
80% 60%
48%
1,729
90%
43% 5% 3% 2% MC BRBY
173
102
280 0 TIF
398
TIF
BUL
%Jewelry
%NonJewelry
BUL
Source: Corporate reports and presentations and Bernstein estimates and analysis.
Exhibit 196
Key Jewelry Brands at Coverage Companies (and Key Comps Bulgari and Tiffany's)
Richemont GucciGrp. Cartier VanCleef Boucheron Gucci Bott.Ven. YSL Coverage Swatch FlikFlak Swatch Omega Breguet LVMH Chaumet DeBeers* Burberry KeyComps Tiffanys Bulgari Tiffanys Bulgari
Notes: Bold italicized brands are jewelry specialists for the most part and/or have jewelry as their core heritage. *De Beers Jewellers is LVMH's 50/50 JV with De Beers Group (set up in 2001), operating 40 retail stores across five continents. Source: Corporate reports and Bernstein analysis.
99
Exhibit 197
Year Acquired 1999
2008
Gili
Gitanjali
2008
Bulgari
2009
Diamlink
Gitanjali
Source: Capital IQ, FactSet, corporate reports and Bernstein estimates and analysis.
Branded retail chains at accessible price points have a chance to grow fast, riding the non-branded transition. They clearly have the upper hand in taking share from traditional independent retailers, on the back of greater scale and leaner costs. In fact, we find branded retailers maintaining a higher GM% and EBIT% versus selected wholesale and value players. Vertical integration into retail is no guarantee for better EBIT%, though, as we have seen in other luxury categories (see Exhibit 198). We nevertheless see that barriers to entry in this area would be low, unless retailers were able to meaningfully establish their brands in consumers' minds which is not obvious. Besides, entry or further inroads from discounters (mass merchants and online players) would be a significant strategic threat longer term. Exhibit 198 Branded Retailers Operate With the Highest GM% As Expected With Value Players at the Opposite Extreme; Vertical Integration Into Retail Is No Guarantee for Better EBIT%, Though, as We Have Seen in Other Luxury Categories
Bulgari 2009 2008 EUR million % % % 915 59.8% 1.9% 43% 100% (1) 0% 1,061 64.2% 10.5% BRANDED RETAILERS Tiffany 2009 2008 USD 2,709 56.5% 16.3% c.90% c.99% 1% 2,848 57.8% 17.3% Pandora 2009 2008 DKK 3,461 69.0% 38.2% 100% 100% 0% 1,658 61.0% 41.3% WHOLESALERS Damiani 09-10 08-09 EUR 145 41.0% -13.2% 100% 24% 76% 149 48.8% -2.1% VALUE PLAYERS Blue Nile 2009 2008 USD 302 21.6% 6.4% 100% 100% (2) 0% 295 20.3% 5.4%
Example of: Player: Period: Currency: Sales GM EBIT Jewelry Sales Retail Wholesale
Notes: (1) Jewelry only. (2) Online. Source: Capital IQ, corporate reports and Bernstein analysis.
101
Exhibit 199
Electronic Systems
O r ig in a l B ra n d s
1982, Combination of ASUAG and SSIH to form SHM 1982, Combination of ASUAG and SSIH to form SHM 1984, Hayek & investors took over SHM 1984, Hayek & investors took over SHM SHM: Omega, Longines, Rado, Tissot, Certina, Hamilton, Mido, Swatch
N e w B ra n d s / R e ta il A llia n c e s
1992, Blancpain 1992, Blancpain 1999, Breguet 1999, Jaquet Droz 2000, Glashutte 2007, Increased participation in largest Chinese watch retailer: Xinyu 2007, Increased participation in largest Chinese watch retailer: Xinyu 2008, Strategic Alliance with Tiffany 2008, strategic stake in UAE-based Rivoli (retailer) 1999, Favre & Perret (watch case) 2000, Universo (watch hands) 2000, Construction of Spring Balance Factory 2002, Rubattel & Weyermann (Dial Producer) 2002, Rubattel & Weyermann (Dial Producer) 2006, Le Prelet (Dial Producer) 2006, Le Prelet (Dial Producer) 2006, Zifferblatt Manufaktur (Dial Producer) 2007, Indexor (Dial Indexes) 2007, Indexor (Dial Indexes) 2008, Burri Component Division 2004, Invested in a new Japanese HQ Building (Asian Expansion) 2004, Invested in a new Japanese HQ Building (Asian Expansion) 2008, Sokymat Automotive (Disposal) 2008, Sokymat Automotive (Disposal) 2008, Michel Prazisionstechnik (Disposal)
1982 1982
1984 1984
1992 1992
1999 2000 2001 2002 2003 2004 2005 2006 2007 2008 1999 2000 2001 2002 2003 2004 2005 2006 2007 2008
Present Present
102
Exhibit 200
E le c tr o n ic S y s t e m s / O th e r
The Swatch Group's main focus is the production and distribution of watches and jewelry under brands such as Omega, Swatch, Breguet, etc. via the wholesale and to a lesser extent retail channels. The company also produces watch movements for its own brands as well as for third-party watchmakers. In addition, the company has an electronic systems division, which develops lowcomplexity/low-power miniaturized products for the telecom, automotive, medical device and watch industries (see Exhibit 199).
103
Swatch experienced strong sales growth leading up to 2001, at which point sales declined through 2003. The company rebounded following this slowdown and once again reached double-digit growth in 2006 and 2007. However, 2008 saw a dramatic drop-off in growth as the global economic environment stifled demand for Swiss watches (see Exhibit 201). Among the three divisions, Watches & Jewelry has experienced relatively higher growth, growing at a CAGR of 5.2% in 2000-08. In contrast, Electronic Systems division grew the slowest at a CAGR of 1.9% over the same period (see Exhibit 202). Exhibit 201
6,000
Net Sales (CHF million)
Exhibit 202
Net Sales (CHF million)
8,000 7,000 6,000 5,000 4,000 3,000 2,000 1,000 0 1997 1998 1999 2000 2001 2002 Production 2003 2004 2005 2006 2007 2008
Electronic Systems
Note: Division sales as of 1998 annual report the year the company was renamed Swatch Group. Source: Corporate reports and Bernstein analysis.
The Watches & Jewelry division contributes the greatest proportion of EBIT and has historically maintained the highest margins (at 18.2% in 2008). Although its margins have traditionally been in the single digits, the Production division over the past few years has improved margins, reaching 16.1% in 2008 prior to 2005, the average margin for this division was 3.8%. Following the severe drop in telecom demand in 2000-01, the Electronic Systems division has steadily recovered a portion of its previous margin levels, reaching 19.8% margins in 2008, in line with the Watches & Jewelry division (see Exhibit 203).
104
Exhibit 203
CHF 1,000 CHF 900 CHF 800 CHF 700
30.0%
CHF 600 CHF 500 CHF 400 CHF 300 CHF 200 Increased Volume Demand
15.0%
10.0%
1997
1998
1999
2000
2001
2002
2003
2004
2005
2006
2007
2008
1997
1998
1999
2000
2001
2002
2003
2004
2005
2006
2007
2008
1997
1998
1999
2000
2001
2002
2003
2004
2005
2006
2007
Production
Electronic Systems
The Watches & Jewelry division also displays the highest return on net assets and has maintained this level of return over the past few years. Only recently has the Production division approached the Watches & Jewelry division on this metric, as it lagged far behind as recently as 2004. The Electronic Systems division has not improved on this metric since 2004 and exhibited a return on net assets in line with the overall group in 2008 (see Exhibit 204 to Exhibit 207). Exhibit 204 Return on Net Assets: Watches & Jewelry Division
Group 06 05
NOPAT / Sales (%)
07 08
04 06
04
5%
0.7
1.5
2008
EBIT %
20.0%
105
Exhibit 205
Group 06 05
NOPAT / Sales (%)
07 08 07
Production
04 06
08
20% 15% 10%
04 05
5%
0.7
1.5
Exhibit 206
Group
07 06 05 08 08 04 07
Electronic Systems 06 04 05
20% 15% 10% ISO RONA 30%
5%
0.7
1.5
The Swatch Group generates a healthy cash flow, particularly the Watches & Jewelry division, which produced c.80% of the total group cash flow in 2008. At the beginning of the recent recession, decreases in cash flow attributable to unfavorable swings in working capital were of particular note. Although 2007 began to show accelerated cash declines from this situation, the declines in cash flow due to working capital in 2008 were markedly worse, creating a cash outflow of CHF528 million (see Exhibit 207).
106
Exhibit 207
The Majority of the Total FCF Is Generated by the Watches & Jewelry Division; FCF Generation Was Hampered at the Beginning of the Recent Recession Due to Unfavorable Working Capital Swings
2005 CHF 626 37 (44) (136) 483 (87) 396 63% 2006 CHF 738 44 (100) (206) 476 (133) 343 46% 2007 CHF 920 54 (224) (189) 560 (179) 381 41% 2008 CHF 828 64 (360) (115) 417 (101) 316 38% 80.0% % of 2008 Total: 68.9%
(CHF in millions) Watches and Jewelry: Operating Profit Depreciation & Amortization Decrease in CF Due to Working Capital Corporate Income Tax Cash Flow From Operations Capital Expenditures Free Cash Flow Free Cash Flow Conversion Production: Operating Profit Depreciation & Amortization Decrease in CF Due to Working Capital Corporate Income Tax Cash Flow From Operations Capital Expenditures Free Cash Flow Free Cash Flow Conversion Electronic Systems: Operating Profit Depreciation & Amortization Decrease in CF Due to Working Capital Corporate Income Tax Cash Flow From Operations Capital Expenditures Free Cash Flow Free Cash Flow Conversion TOTAL Group (Includes Effects of Corporate Below): Operating Profit Depreciation & Amortization Decrease in CF Due to Working Capital Corporate Income Tax Cash Flow From Operations Capital Expenditures Free Cash Flow Free Cash Flow Conversion Corporate: Operating Profit Depreciation & Amortization Capital Expenditures CHF 735 199 (53) (163) 718 (221) 497 68% CHF 973 195 (134) (277) 757 (290) 467 48% CHF 1,236 204 (306) (258) 876 (403) 473 38% CHF 1,202 220 (528) (168) 726 (331) 395 33% 100.0% 100.0% CHF 80 37 (6) (17) 94 (28) 66 83% CHF 106 42 (14) (30) 104 (40) 64 60% CHF 99 38 (24) (20) 92 (70) 22 23% CHF 104 40 (45) (14) 84 (59) 25 24% 6.4% 8.7% CHF 47 109 (3) (10) 143 (101) 42 88% CHF 147 103 (20) (41) 189 (109) 80 54% CHF 235 106 (57) (48) 235 (138) 97 41% CHF 281 110 (122) (39) 230 (152) 78 28% 19.7% 23.4%
(18) 16 (5)
(18) 6 (8)
(18) 6 (16)
(11) 6 (19)
-0.9%
Note: (1) Cash flow attributable to working capital and taxes allocated based on percentage of Sales and percentage of EBIT, respectively; (2) Total cash flow excludes cash impact of asset disposals, changes in fair value of marketable securities, and selected other items. Source: Corporate reports and Bernstein analysis.
107
Swatch's watches portfolio is balanced, spanning a wide variety of price points, though more focused on the low-to-mid segments versus Richemont's (see Exhibit 208). Sales from high-end brands such as Breguet and Jacquet Droz only account for an estimated 20-25% of total watches & jewelry sales at Swatch, while we estimate Richemont generates c.85% of sales from its high-end brands. The relative size of key Swatch Group brands, recently disclosed by management at the FY10 earnings call, helps us gauge this point quantitatively. Omega (average price of 2,000-4,000) is the division's largest brand and should soon be able to pass the CHF3 billion turnover mark. Longines (average price of 1,000-2,000) is expected to pass the CHF1 billion mark in 2011E. Tissot and Swatch, further down the pyramid (both priced at less than 1,000, on average), are also close to reaching CHF1 billion in sales each. However, Breguet (average price of more than 10,000) is the most sizable name in the high-end of the portfolio and measures c.CHF1 billion in revenues which is about one-fifth of the aggregate of the aforementioned brands priced at less than or equal to 6,000. Swatch Generates a Greater Proportion of Its Sales From Mid-To-Low-Priced Brands
Swatch 14.1% Richemont 13.8% LVMH 4.5% Bulgari 1.8% Others 65.8% o/w Rolex = 13.3% o/w Patek Philippe = 2.5%
Exhibit 208
Market Share Segment Elitist Luxury Segment > 10k
Brands Breguet
Exclusive Luxury Jaquet Droz Lon Hatot Segment Blancpain 6k - 10k Glashtte Original
Zenith Hublot
Luxury Segment 4k to 6k
Jaeger LeCoultre Louis Vuitton IWC Cartier Van Cleef & Arpels
Daniel Roth Patek Philippe Gerald Genta F.P. Journe Franck Muller Girard-Perregaux (PPR) Audemars Piguet Ulysee Nardin Parmigiani Dubey & Schaldenbrad Harry Winston Richard Mille Greubel Forsey Rolex Chopard Corum
Bulgari
Tiffany Ebel Breitling Movado Raymond Weil Maurice Lacroix Herms Sector Festina Citizen Seiko Gucci Mondaine Eterna Victorinox
Longines Rado Union Glashtte Tissot cK Watch Pierre Balmain Certina Mido Hamilton Swatch Flik Flak
Swatch's overall price segment positioning skewed to entry price points and medium price points should be a positive, as we expect entry price points to enjoy material expansion in their consumer base, especially in EMs such as China.
108
Macroeconomic factors have a clear impact on the profitability of the Watches & Jewelry division. The division is highly exposed to changes in such factors as GDP growth, Swiss watch exports and luxury market growth (see Exhibit 209 to Exhibit 215). Exhibit 209
18 16 14 12
Underlying Luxury Market Growth (yoy %)
10 8 6 4 2 0 -2 -4 -6 -8 -10 -12 -14 -3.0 -2.0 -1.0 0.0 1.0 2.0 2009 2008 2001 2002 2003
1998
3.0
4.0
5.0
Source: OECD, Altagamma, Global Insight and Bernstein estimates and analysis.
Exhibit 210
Exhibit 211
30% R = 2.8% 25% 20% 15% 10% 0% 1% 2% 3% OECD GDP Growth, YoY 4%
25%
R = 45.4%
20%
109
Exhibit 212
Exhibit 213
Watches & Jewelry EBIT Margin vs. Swiss Watch Export Growth
21% 20% 19% 18% 17% R = 61.3%
-10%
20%
20%
Exhibit 214
Exhibit 215
-5%
15%
-5%
15%
Swatch has pursued a range of retail distribution strategies for each of its brands, opening exclusive boutique destinations for its prestigious brands as well as undertaking significant retail expansion via unique and innovative formats for its Swatch brand. The company has taken different approaches to product distribution depending on the specific brand. It not only diversifies the store format (e.g., boutique versus kiosk versus airport, etc.), but it also looks to strategically franchise certain operations depending on both the market and the capital requirements. With regards to the future of its retail strategy, Swatch plans to increase its retail exposure from c.10% to 15% in the next few years, while remaining strong in the wholesale channel (see Exhibit 216 and Exhibit 217).
110
Exhibit 216
100%
50%
Exhibit 217
Though the Mix Varies Among the Swatch Brands Most Exposed to the Retail Channel
90% 90% 65%
Overall Group
Retail
Omega
Wholesale
Swatch
The Swatch and Omega brands constitute the majority of the company's retail footprint as of Apr-09, Swatch brand had more than 4x as many monobrand stores globally compared to Omega (see Exhibit 218 to Exhibit 220). The majority of both brands' stores are concentrated in Europe and Asia, with China playing a material role in each case. In contrast, higher-end brands in Swatch's portfolio have a more limited number of monobrand boutiques in selected "premier" locations, while also taking advantage of another distribution channel Swatch's own multibrand retailer, Tourbillon.
111
Exhibit 218
Retail Footprint by Brand (as of Apr-09): The Swatch and Omega Brands Are Primarily Concentrated in Europe and Asia With Approximately 15% of All Swatch Stores Based in Italy and China Playing a Material Role in Each Case
Omega Boutique Tourbillon Total 180 23% 2 52 20 20 14 22 1 2 1 2 2 2 5 1 10 2 9 3 10 12 2 2 2 48 23 31% 1 3 3 1 5 5 1 3 5 1 1 1 2 3 2 180 342 45% 117 46 17 27 13 16 8 24 1 1 1 1 23 0% 12 13 5 55 342 87 11% 7 8 55 3 3 11 4 5% 2 87 159 21% 42 6 25 1 1 34 1 51 4 159 20 75 768 12 22 7 7 1 42 4 23 34 1 27 10 13 2 1 1 2 1 7 8 55 3 3 11 1 2 17% 2 4 1 5% 1 1 0% 0% 1 3 1 4 114 43 13 27 5 15 8 8 1 12 4 44 1 1 11 6 1 8% 1 12 8 4 18% 3 12 1 1 14% 1 12 13 4 0% 12 1 1 1 1 1 1 1 1 1 1 1 16 1 6 2 1 1 1 5 1 1 2 5 1 5 1 5 1 1 1 5 1 2 2 1 1 5 9 3 10 6 2 2 2 114 51 10 3 6 50% 2 3 1 1 1 1 1 1 1 1 1 3 9 8 36% 2 3 5 1 14% 2 2 3 1 1 3 3 3 4 57% 2 3 6 1 2 1 5 42 13 2 14 1 8 21 2 4 6 18 1 1 1 1 1 1 1 1 1 1 1 1 Flagship Swatch "Store" Shop-in-shop Kiosk Breguet Blancpain Glashutte Jaquet Droz Leon Hatot Boutique Tourbillon Boutique Tourbillon Artelier Tourbillon Boutique Tourbillon Boutique Tourbillon 3 25% 2 9 41% 2 2 1 1 1 1 2 2 5 71% 3 2 n.a. 2 3 43% 2
Asia Pacific % of Total (By Brand) China (inc. Macau) Hong Kong Taiwan Japan South Korea Singapore Malaysia Vietnam Thailand Philippines Indonesia India Australia Mongolia Other Subtotal Europe % of Total (By Brand) Italy France Germany Spain UK Switzerland Greece Russia Belgium Austria Netherlands Other Subtotal Middle East % of Total (By Brand) UAE Israel Saudi Arabia Kuwait Lebanon Other Subtotal Americas % of Total (By Brand) United States Canada Brazil Mexico Panama Other Subtotal RoW TOTAL
48 64% 12 8 7 3 1
112
Exhibit 219
The Omega Brand Has Leveraged Both the DOS and the Franchise Model to Grow Its Retail Footprint Over Time
Exhibit 220
Swatch's Overall Retail Footprint Is Large and Has Grown More Rapidly in Recent History
Swatch Monobrand Retail Store Footprint 1,000 850 750 750 595 620
190 50
44
100
Stores
120 140 2007 DOS 2008
100 24
30
500
50 76 0 2005
90
250
2006 Franchised
113
Production Division
Compared to other watch manufactures, Swatch's Production division provides the company with a unique competitive advantage. Specifically, its dominant position on a value and volume basis in the production of basic watch movements creates a situation where many of its largest rivals must buy their movements from Swatch. Through ETA, the world's largest movement manufacturer, the Swatch Group accounts for 70-80% of total market share in the watch movement market (by volume). Its major customers (besides Swatch itself) include watchmakers such as Rolex, Bulgari, LVMH (TAG Heuer) and Frank Muller, and movement manufacturers such as Sellita. Typically, Swatch sells movements in their unfinished form (ebauche), which consists of a set of loose parts consisting of the main plate, the bridges, the train, the winding and setting mechanism and the regulator. However, Swatch has recently announced that it will gradually eliminate its supply of unfinished movements to third parties. From 2011 onwards, the company has expressed its intentions to sell only finished movements, which include assembled movements with parts such as the balance, hairspring, escape wheel, anchor lever, etc. This has prompted other watchmakers, such as Richemont, LVMH and Bulgari, to expand their own movement manufacturing facilities. On a value basis, Swatch currently controls 55% of the total market, of which 36% is attributable to in-house Swatch brands and the other 19% is sold to third parties. We assumed that Swatch had the same market share (55%) for each of the respective sub-markets (third-party and in-house), in order to arrive at the percentage of total market for other third-party manufacturers (16%) and other inhouse movements (29%) see Exhibit 221. Using the same methodology, we arrive at the breakdown of the watch movement market by volume (see Exhibit 222). Due to Swatch's large production of mid-/low-priced watch movements, the company had a higher market share at 75% of the total market. Exhibit 222 Market for Watch Movements By Volume
VMF, Seiko, Citizen, BNB, Indtec, etc. Swatch third
Exhibit 221
6% 19%
80% 70%
% of Total Market
60% 50% 40% 30% 20% 10% 0% Value 29% In-house movement 36% Swatch in-house
% of Total Market
60% 50% 40% 30% 20% 10% 0% Volume 19% In-house movement market Swatch internal 56%
Swatch has some factories outside of Switzerland; however, the majority of its production facilities is located within the country particularly in the western region (see Exhibit 223). ETA is Swatch's largest production company, producing components and movements. Additionally, Swatch has individual production companies that are focused on producing specialized pieces such as wheels (Francois Golay) or watch cases (Favre et Perret).
The Majority of Swatch's Production Facilities Are Located in Switzerland, Especially in the Western Region
ETA (Saint-Imier): Components ETA (Fontainemelon): Components Swatch Group Assembly (Saint-Imier): Assembling Mom Le Prelet and Indexor (La Chaux-de-Fonds): Index Component Manufacture Ruedin (Bassecourt): Watch Cases Manufacture Ruedin (Bassecourt): Watch Cases Rubattel & Weyemann (La Chaux-de-Fonds): Dials
Basel
Movements Movements ETA (Moutier): Components Components ETA (Bettlach): Movements ETA (Bettlach): Movements ETA (Grenchen): Movements Nivarox (Villeret and Fontaines in Nivarox (Villeret and Fontaines in Spring 2009): Balance Springs, Gold Spring 2009): Balance Springs, Gold Diamond-Polished Appliques for Dials Diamond-Polished Appliques for Dials Other Assembly Assembly
Fredic Piguet (Le Sentier): High-End Movements Francois Golay (Le Brassus): Wheels Valdar (Le Brassus): Assembling & Finishing Assembling & Finishing
Bern Bern
Comadur (Col-des-Roches): Comadur (Col-des-Roches): Ceramic and Sapphire Crystal Ceramic and Sapphire Crystal Swatch Group Assembly (Genestrerio): Assembling Swatch Group Assembly (Genestrerio): Assembling
Geneve Geneve
Valdar (LOrient): Valdar (LOrient): Micromechanical Products Micromechanical Products ETA (Les Bioux): ETA (Les Bioux): Movements Movements ETA (Sion): ETA (Sion): Movements Movements
114
Exhibit 223
115
Similar to the case with the Watches & Jewelry division, macroeconomic factors such as GDP and luxury market growth are highly correlated with the profitability of the Production division (see Exhibit 224 to Exhibit 230). Exhibit 224 Production EBIT Margin vs. GDP Growth Exhibit 225 Production EBIT Margin vs. Swiss Watch Export Growth
Production EBIT margin
30% 25% 20% 15% 10% 5% 0% 0% 1% 2% 3% OECD GDP Growth, YoY 4% R = 0.8%
R = 24.7%
20%
Exhibit 226
R = 12.0%
15%
Exhibit 227
Production EBIT Margin vs. Swiss Watch Export Growth (High-End Luxury: More Than CHF3,000)
Production EBIT margin
Exhibit 228
Production EBIT Margin vs. Swiss Watch Export Growth (Exclusive Luxury: CHF500-3,000)
18% 16% 14% 12% 10% 8% 6% 4% 2% 0% R = 13.4%
R = 33.1%
20%
30%
-10% -5% 0% 5% Swiss watch export growth, YoY (Exclusive Luxury: CHF 500-3,000)
10%
116
Exhibit 229
Production EBIT Margin vs. Swiss Watch Export Growth (Affordable Luxury: CHF200-500)
Production EBIT margin
Exhibit 230
Production EBIT Margin vs. Swiss Watch Export Growth (Mass Market: CHF0-200)
R = 38.7% 18% 16% 14% 12% 10% 8% 6% 4% 2% 0% -20% -10% 0% 10% Swiss watch export growth, YoY (Mass Market: CHF 0-200)
18% 16% 14% 12% 10% 8% 6% 4% 2% 0% -20% -10% 0% 10% Swiss watch export growth, YoY (Accessible Luxury: CHF 200-500) 20%
A noticeable trend as of late has been the Production division's increasing margins, as volume demand increased for mechanical watches and for movements. When compared to 2000, the EBIT margin in 2008 is 10.7% higher an improvement evident starting in 2006 (see Exhibit 231). Exhibit 231
5,000
Since 2006, Swatch Has Been Able to Significantly Boost Production Division Margins as Demand for Mechanical Watches and Movements Increased
18.0% 16.0%
4,000
R = 5.6%
3,000
2,000 6.0% 4.0% 2.0% 0 2000 2001 2002 2003 2004 2005 2006 2007 2008 0.0%
1,000
A negative trend with regards to inventory is the increases in both semifinished goods and finished goods (see Exhibit 232 and Exhibit 233). The rise in the former indicates that there are unfinished movements and watches lying around the factories though it is unclear precisely how many of these unfinished products are due to component shortages in high demand, or a more troublesome scenario in which there is no incentive to quickly push the products out the door due to falling demand. The rise in finished goods seems to support the latter notion the company is holding onto inventory market due to demand factors.
117
Exhibit 232
The Company has Experienced a Rise in Levels of Semi-Finished Goods (Including Components)
Inventory Analysis: Adjusted Semi-Finished Goods 1,200 60% 50% 900 37% 600 12% 18% 300 0% 0% 0 2003 2004 2005 2006 2007 2008 -10% 20% 8% 10%
Annual Growth Annual Growth
40% 30%
Note: In 2008 annual report, the company modified historical disclosure and began to include Components in Semi-Finished Goods We estimated historical levels of Semi-Finished Goods assuming 2007 percentage mix between the original line item: Raw Materials & Components. Source: Corporate reports and Bernstein estimates and analysis.
Exhibit 233
52%
60% 50%
900
40% 30%
600 8% 300 18% 11% 5% 20% 10% 0% 0 2003 2004 2005 2006 2007 2008 -10%
118
The Electronic Systems division was initially part of the Production division approximately 10-15 years ago, where it was responsible for producing quartz movements, miniaturized batteries and miniaturized circuits for Swatch brands (no third party/100% captive). As the division's technology developed, other industries began to demand the miniaturized low-complexity and low-power products. Eventually, the division was separated and is now primarily serving customers in the telecom, automotive, medical device and watch industries (see Exhibit 234). SGES Is Composed of Seven Separate Companies That Cater Mainly to Industries Other Than Watch Manufacturing
Exhibit 234
Swatch Group Electronic Systems (SGES) Companies EM Microelectronic Base of Production Marin - CH Product(s) Circuits for Battery-operated and Fieldpowered Applications Industrial Lasers for Precision Cutting, Drillling, etc. Micro Batteries for Electronic Applications Vehicle Instrumentation (analogue car clock) Low Power Crystals and Small Oscillators Market / Industry Industrial Electronics, Automotive, Telecom, Computer Peripherals Watch, Electronics, Medical Devices, Automotive, Aerospace Watch, Medical Devices Automotive Watch, Telecom, Medical Devices, Automotive, Industrial Devices Telecom - Fix Line and Mobile Athletic Events (i.e. 2008 Beijing Olympics)
Lasag
Thun - CH
Neuchatel - CH Corgemont - CH
The Electronic Systems division's sales growth is not highly correlated with luxury market growth or Swiss watch export growth. This result is not surprising given the division's customer base. In fact, the division has a higher correlation to mobile handset growth and automotive growth (see Exhibit 235 to Exhibit 243). Exhibit 235 Electronics EBIT Margin vs. GDP Growth Exhibit 236 Electronics EBIT Margin vs. Swiss Watch Export Growth
Electronics EBIT margin
25% 20% 15% 10% 5% 0% -10% 0% 10% Swiss watch export growth, YoY 20% R = 12.9%
30% 25% 20% 15% 10% 0% 1% 2% 3% OECD GDP Growth, YoY 4% R = 6.4%
119
Exhibit 237
R = 6.4%
15%
Exhibit 238
Exhibit 239
-10% -20% -10% 0% 10% 20% 30% 40% Western Europe Mobile Handset Volume Growth (YoY)
-20%
0% 20% 40% 60% 80% Global Mobile Handset Volume Growth (YoY)
Exhibit 240
SGES Sales Growth Has Followed a Similar Pattern as Global Handset Volume Growth (Further Detail)
SGES Sales Growth
30% 20% 10% 0% -10% -20% 1998 1999 2000 2001 2002 2003 2004 2005 2006 2007 2008
SGES Sales
120
Exhibit 241
SGES Sales Growth Has Been More Volatile Than Total Passenger Car Volume Growth, Though the General Pattern Is Relatively Similar
30.0% 15.0% 0.0% -15.0% -30.0% 2000 2001 2002 2003 2004 2005 2006 2007 2008 SGES Sales Growth
10% 5% 0% -5%
-10%
Exhibit 242
Global Passenger Car Volume Growth vs. SGES Sales Growth (2000-08)
30% R = 17%
20% 10% 0% -10% -20% -3% -2% -1% 0% 1% 2% Global Car Volume Growth (YoY) 3% 4% 5% 6%
Exhibit 243
Global Light Commercial Vehicle (LCV) Volume Growth vs. SGES Sales Growth (2000-08)
30% R = 43%
20% 10% 0% -10% -20% -12% -10% -8% -6% -4% -2% 0% 2% Global LCV Volume Growth (YoY) 4% 6% 8% 10%
121
Swatch Stands to Gain from High Exposure to Asia and Extensive Ties to Xinyu Hengdeli in Greater China
Swatch stands to gain from high exposure to Asia: 44% of its sales come from all Asia (including Japan), with 28% from Greater China. This compares with 46% in Asia (22% in Greater China) for Richemont, 35% in Asia for LVMH, 43% in Asia for Gucci Group (see Exhibit 244 and Exhibit 246). Asian luxury demand is growing faster than everywhere else in the world, particularly in Greater China, as we highlight in Exhibit 245. Hard Luxury Players, Swatch and Richemont, Have the Highest Exposure to Asia
Exhibit 244
100% 90% 80%
% of FY09 Revenues
2% 6% 18% 26%
5% 27%
1% 14%
2% 8%
70% 60% 50% 40% 30% 20% 10% 0% LVMH PPR Luxury Soft Luxury
Europe Asia Americas ROW
43% 35%
46% 30%
44%
33%
37%
38%
39%
45%
BRBY
UHR
Exhibit 245
Swiss Watch Export Growth in Asia Has Continued to Outpace Other Countries in 2010
Exhibit 246
Among the Hard Luxury Players, Greater China Constitutes a Larger Proportion of Sales for Swatch
70%
Apr 10
May 10
Aug 10
Feb 10
Mar 10
Jan 10
Jun 10
Jul 10
100% 90% 80% 70% 60% 50% 40% 30% 20% 10% 0%
37%
52%
63%
48%
Swatch
Greater China
Richemont
Other Asia (Incl. Japan)
We expect 2009-11E retail store growth of c.20% for hard luxury names (versus low-single digit percentage store expansion in global ex-China) and c.15% for soft luxury (versus c.5-10% in global ex-China) see Exhibit 247 to Exhibit 248. We note that hard luxury as a category remains much more skewed toward the wholesale channel which represents c.90% for Swatch's W&J division and c.60% for Richemont as a whole versus 10-30% for leading soft luxury brands (see Exhibit 249). Nonetheless, the delta detected between China and the rest of the world in terms of retail expansion can be seen as a valid gauge of the direction and relative pace of wholesale space trends across geographies. We also note that, in the case of Swatch, we choose to use Xinyu Hengdeli, its JV-partner and main distributor in the Greater China region, as a proxy. Hengdeli
122
grows retail surface for Swatch's brands through openings of both monobrand stores and allocation of dedicated floor space in directly operated multi-brand concepts, such as Xinyu Prime Time (see Exhibit 247, Exhibit 248 and Exhibit 256). Exhibit 247 We Expect 2009-11E Retail Store Growth of Circa 20% for Hard Luxury Names (vs. Low-Single-Digit Percentage Store Expansion in Global Ex-China) and Circa 15% for Soft Luxury (vs. Circa 5-10% in Global Ex-China)
'10E '11E Total China Non-China Growth Total China Non-China Growth Mainland China - Store # Store g % Store g % Store g % Multiple (x) Store g % Store g % Store g % Multiple (x) '09A '10E '11E 7% 9% 7% 6% 21% 19% 20% 20% 17% 2% 7% 6% 5% 11.7x n.m. 2.7x 3.6x 3.5x 7% 9% 5% 6% 20% 19% 18% 11% 14% 1% 7% 4% 5% 15.4x n.m. 2.6x 2.7x 2.7x 81 224 50 30 30 98 266 60 36 35 118 316 71 40 40
Brand Richemont W&J * Xinyu Hengdeli ** Burberry (4) Gucci (5) Louis Vuitton (6)
Note: (1) * Richemont "watches & jewelry" and excludes "fashion & leather" brands (Dunhill, Chloe, Lancel, Shanghai Tang) and writing instruments (Montblanc); (2) * All Mainland China locations assumed to be Internal, as per company definition in 1H:09 interim and FY09 full-year presentation materials; (3) ** Xinyu Hengdeli used as a proxy for Swatch Group's store growth in Mainland China, as ownership, distribution and 50/50 retail development JV ties exist; (4) Burberry's 50 Mainland China stores acquired in Jul-10; 2010E growth rate based on notional re-stated 2009A total including China, excluding Spain; (5) Gucci has disclosed 1H:10A Mainland China store count of 35 (versus 36 China total estimated for 2010; (6) LV disclosed 30 Mainland China stores as of Sept-09 investor call; assumed unchanged as of Dec-09 year end; guided to less than double-digit store increases going forward, at least five in 2010 (three new cities, two in Shanghai). Source: Corporate reports and transcripts and Bernstein estimates and analysis.
Exhibit 248
We Expect 2009-11E Retail Store Growth of Circa 20% for Hard Luxury Names (vs. Low Single Digit Percentage Store Expansion in Global Ex-China) and Circa 15% for Soft Luxury (vs. Circa 5-10% in Global Ex-China)
Retail Space - Estim ated Store Growth 2-Yr CAGR ('09-11E, %)
25% 21% 20% 15% 10% 5% 0% Richemont W&J* Xinyu Hengdeli ** Burberry (4) Gucci (5) Louis Vuitton (6) 19% 19% 15% 15%
7% 5% 2% n.m. 5%
Mainland China
Global Ex-China
Note: (1) * Richemont "watches & jewelry" and excludes "fashion & leather" brands (Dunhill, Chloe, Lancel, Shanghai Tang) and writing instruments (Montblanc); (2) * All Mainland China locations assumed to be Internal, as per company definition in 1H:09 interim and FY09 full-year presentation materials; (3) ** Xinyu Hengdeli used as a proxy for Swatch Group's store growth in Mainland China, as ownership, distribution and 50/50 retail development JV ties exist; (4) Burberry's 50 Mainland China stores acquired in Jul-10; 2010E growth rate based on notional re-stated 2009A total including China, excluding Spain; (5) Gucci has disclosed 1H:10A Mainland China store count of 35 (versus 36 China total estimated for 2010); (6) LV disclosed 30 Mainland China stores as of Sept-09 investor call; assumed unchanged as of Dec-09 year end; guided to less than double-digit store increases going forward, at least five in 2010 (three new cities, two in Shanghai). Source: Corporate reports and transcripts and Bernstein estimates and analysis.
123
Exhibit 249
Hard Luxury Remains Much More Skewed Toward the Wholesale Channel This Channel Represents Circa 90% for Swatch's W&J Division and Circa 60% for Richemont as a Whole vs. 10-30% for Leading Soft Luxury Brands
100%
Est. Channel Mix (%)
10% 40%
8%
58%
70% 92%
Burberry (Group)*
Retail
Gucci (Brand)
Licenses
LV (Brand)
* Burberry mix less retail-skewed than current; as per FY09 annual report, pre-conversion of Spanish wholesale and pre-acquisition of Chinese franchisee. Source: Factiva, corporate reports and Bernstein estimates and analysis.
When it comes to watch distribution in China, Xinyu Hengdeli is a key player. In fact, it is the largest watch retailer and distributor of internationally renowned brands in Mainland China (see Exhibit 251 and Exhibit 252). Xinyu Hengdeli's recent years have been marked by increasingly closer ties with the Swatch Group, both in terms of equity ownership and in terms of retail development via their 50:50 JV. LVMH has also grown closer to the leading Chinese distributor over the past few years (see Exhibit 250 and Exhibit 257). Xinyu Hengdeli operates both retail and wholesale divisions. In retail, it has a footprint of 270 retail outlets (of which 224 are located in Mainland China), and operates these locations from the multi- and monobrand platforms (see Exhibit 253). Within Mainland China, the company distributes c.50 watch brands through its retail network, including some of the leading international names (see Exhibit 254). In wholesale, Xinyu Hengdeli acts as a distributor and has more than 300 wholesale customers in more than 40 cities across China, distributing 20 watch brands in total (18 on an exclusive basis) see Exhibit 255. Since 2004, the company has progressively moved away from the wholesale portion of its business. The retail/wholesale mix in 2004 versus 2009 was 36%/64% and 78%/22%, respectively (see Exhibit 256). Xinyu Hengdeli's multi-brand retail outlets cater to a range of customers: Temptation (mid-high fashionable), Hengdeli/Prime Time (mid-high full range) and Elegant (highest). Aspirational demand in Mainland China is still the order of the day. We observe that more than 75% of Xinyu Hengdeli's retail outlets in Mainland China are Hengdeli/Prime Time the company cites the reason being relatively lower demand for high-end watches versus the Hong Kong market (see Exhibit 258 and Exhibit 259).
124
Exhibit 250
Xinyu Hengdeli's Recent Years Have Been Marked by Increasingly Closer Ties With the Swatch Group, Both in Terms of Equity Ownership and in Terms of Retail Development via Their 50:50 JV; LVMH Has Also Grown Closer to the Leading Chinese Distributor Over the Past Few Years
Pre-IPO 2002-05: Reorganization of group companies (Shanghai Xinyu, Beijing Hengdeli, Shanghai Watch Shop) Beijing Hengdeli established in 1957 (Zhang family invested since 1997); Shanghai Xinyu in 1999 2003: Established initial joint venture with Swatch, SMH Swiss Watch Trading (Shanghai) 2005: After completing reorganization, IPO completed on 26-Sept-05 on HKSE 2006 In Jun-06, Issued 148.5 million new shares, partly to finance the Elegant acquisition Swatch subscribed 12.5m shares; participation in Xinyu Hengdeli increased from 6.27% to 7.25% Acquired Elegant International for HK$360m ($47.4m) from To increase retail footprint in Hong Kong (4 high-end boutiques in HK at this time) In Oct-06, LVMH announced it had accumulated a 7.24% stake through open market purchases Aimed at further enhancing the co-operative relationship with Xinyu Hengdeli 2007 Signed cooperation memorandum of understanding with Swatch Group Establishing 50:50 retail JV, based in Shanghai, PRC JV mostly operates boutiques of watches, jewelry, and other related accessories of Swatch Group In 2007, opened 1 Omega flagship (Huaihai Rd, Shanghai); 2 Swatch boutiques (Harbin, Qingdao) Swatch participation in Xinyu Hengdeli increased from 7.25% to 8.09% (Dec-07) Aquired 90% stake in OMAS for 2m, an Italian writing instruments brand, from LVMH 2009 Acquired 80% stake in Taiwan Jing Guang Timepiece for HK$48m, buying out Lee family (retailers) To enhance footprint in Taiwan and overall Greater China Operated 31 retail outlets covering Taipei, Taichung, Kaohsiug, Hsinchu, and Chiayi Renewed strategic cooperation agreement with LVMH's Watches & Jewelry Division Both parties undertook to strengthen cooperation in the Greater China region Granted exclusive distribution rights for Mido brand in Mainland China by Swatch Group Swatch participation in Xinyu Hengdeli increased again, from 8.11% to 8.92% (during '09)
Shading Legend: Blue (lighter shade in black and white printout) = Swatch news flow; red (darker one) = LVMH news flow. Source: Factiva, Capital IQ, corporate reports and websites and Bernstein analysis.
125
Exhibit 251
Exhibit 252
Moreover, Hengdeli's EBIT Has Expanded from HK$50 Million in 2002 to HK$660 Million in 2009
16% 14% 12% 10% 8%
9,000 8,000
Sales (HKD millions)
900 800
Sales Growth Yoy - % EBIT (HKD millions)
60%
20%
6% 4% 2% 0%
LTM-1H 2002 2003 2004 2005 2006 2007 2008 2009
-20%
Sales
% Growth
EBIT
% Margin
Exhibit 253
Xinyu Hengdeli's Retail Footprint of 270 Stores in Greater China (224 Mainland China) Stretches Across the Country via Multi- and Monobrand Stores
- 270 Retail Locations - c.50 Brand Names - Monobrand Boutiques - Xinyu Elegant - Xinyu Prime Time - Xinyu Temptation
Note: Xinyu branded retail chains are multi-brand shops. Source: Corporate website and Bernstein analysis.
EBIT Margin - %
126
Exhibit 254
Xinyu Hengdeli Distributes About 50 Watch Brands Through Its Retail Network in China (Ex-Hong Kong)
Exhibit 255
The Company Also Has More Than 300 Wholesale Customers in More Than 40 Cities Across China and Distributes 20 Watch Brands (18 on an Exclusive Basis)
Hamilton Tissot OMAS TAG Heuer Jaeger-LeCoultre Zenith
Swatch Certina Calvin Klein Hamilton Tissot LVMH Christian Dior Fendi Richemont Alfred Dunhill Baume & Mercier Rolex Rolex Independent Audemars Piguet Carl F. Bucherer Carven Claude Bernard Cyma
Swatch Certina Calvin Klein LVMH Christian Dior Fendi Richemont Alfred Dunhill Baume & Mercier Independent Audemars Piguet Carl F. Bucherer Carven
OMAS TAG Heuer Jaeger-LeCoultre Cartier Tudor EDOX Enicar Maurice Lacroix Ball
Zenith
Vacheron IWC
Exhibit 256
Xinyu Hengdeli Has Rapidly Expanded Its Retail Operations Relative to Wholesale Since 2004
Exhibit 257
Swatch and LVMH Both Have Circa 10% Equity Stakes in Hengdeli
40%
38%
30%
22%
18%
70%
78%
11%
10% 7% 5% 5% 4% 1% 1% 1%
2004
2005
2006
Retail
2007
Wholesale
2008
2009
127
Exhibit 258
Xinyu Hengdeli's Outlets Cater to a Range of Customers: Temptation (Mid-High Fashionable), Hengdeli/Prime Time (Mid-High Full Range), Elegant (Highest)
Exhibit 259
More Than 75% of Xinyu Hengdeli's Retail Outlets in Mainland China Are Hengdeli/ Prime Time, Positioned at the Mid-to-High Range The Company Cites Relatively Lower Demand for High-End Watches vs. Hong Kong
4% 18% Elegant Single-Brand
Positioning Highest
69%
Prime Time
Lowest
Temptation
Single-Brand Boutiques
Elegant
Swatch can play with a broader array of price points (see Exhibit 260 and Exhibit 261). Swatch brands span from Breguet to Flik Flak. This should give Swatch a better opportunity to capture a massive aspirational and accessible luxury demand wave that we expect to come from China (as outlined in our Blackbook, European Luxury Goods: Long-Term Attractiveness & Structural Demand Drivers, published in Sept-10). An analysis of distribution in Mainland China, mostly focusing on the retail network of major player Xinyu Hengdeli, confirms that stores with a material aspirational price point offer or at least span a wide range of price points, as opposed to high-end-only stores, make up the bulk (about three-quarters) of the footprint (see Exhibit 259). The company cites relatively "lower demand for highend watches vis--vis the Hong Kong market."
128
Exhibit 260
Swatch Brands Span from Breguet to Flik Flak This Should Give Swatch a Better Opportunity to Capture a Massive Aspirational and Accessible Luxury Demand Wave That We Expect to Come from China
200,000 190,000 180,000 170,000 160,000 150,000 140,000 130,000 120,000
Breguet 2 Watches >$200k
Price ($)
110,000 100,000 90,000 80,000 70,000 60,000 50,000 40,000 30,000 20,000 10,000 0
Swatch's brands reach a broader set of aspirational and lower-price point consumers vs. Richemont
Hamilton
Longines
Glashutte Original
Jaquet Droz
Certina
Tissot
Source: Wristwatch Annual 2010, www.Swatch.com and Bernstein estimates and analysis.
Blancpain
Breguet
Omega
Rado
129
Exhibit 261
Richemont Does Have Lower-Priced Alternatives, Though Are More Focused on the Very High End
200,000 190,000 180,000 170,000 160,000 150,000 140,000 130,000 120,000
Greubel Forsey >$300k Roger Dubuis, A. Lange, Piaget, Vacheron, JLC all have watches >$200k
Price ($)
110,000 100,000 90,000 80,000 70,000 60,000 50,000 40,000 30,000 20,000 10,000 0
Vacheron Constantin
Roger Dubuis
Jaeger-LeCoultre
Greubel Forsey
Montblanc
Panerai
Piaget
Cartier
IWC
Swatch displays strong upstream integration in manufacturing. This should be a positive in the medium term all the more so with the new "Made in Switzerland" regime coming online and dictating a higher portion of value added has to be created in Switzerland. Swatch, in fact, is the dominant player in mid-priced mechanical movements manufacturing with more than 50% share. However, it stands approximately on equal ground with Richemont when it comes to watches market share at c.15%, and materially behind Richemont in the high-end segment.
130
With regards to margins, both hard luxury players are expected to be disproportionately affected by demand slowdowns, as these headwinds are compounded by channel de-stocking and direct engagement in manufacturing (as was the case in the recent downturn). Swatch is even more upstream-integrated than rival Richemont, as its manufacturing activity serves third-party mechanical watches brands too 23.4% of Swatch's EBIT (as of 2008) comes from the Production division, which sells 35.8% of its output to third parties. Upstream integration squeezes Swatch GM% during demand contractions, as its COGS tend to behave as fixed rather than variable costs. Unsurprisingly, the Production division's profitability is highest as the industry booms and capacity utilization is highest. Top-line headwinds also have a marked impact on inventory levels, net working capital, and hence cash flow measures. Exhibit 262 illustrates changes in inventory balances at Swatch at the beginning of the recent recession. Inventory increases pushed up net working capital. In 2007 and 2008, Swatch experienced year-over-year growth in inventory of +21.1% and +20.5%, respectively. Furthermore, inventory days jumped from 359 in 2007 to 439 in 2008 indicating how much more time is required to clear inventory at the onset of demand headwinds. Exhibit 263 shows a similar analysis of Richemont's working capital details, pointing to a similar inventory build-up. Growth in inventory was +19.9% in 2007 and +27.5% in 1H:08 versus 1H:07. Exhibit 262
Swatch - Working Capital Analysis
(CHF millions)
Increasing Inventories at the Beginning of the Recent Recession Were to Blame for Increases in Net Working Capital at Swatch and Subsequent Effect on Cash Flow
2003 2004 2005 2006 2007 2008
Non-Cash Current Assets: Inventory Trade Receivables Other Current Assets Total Non-Cash Current Assets Non-Debt Current Liabilities: Trade Payables Other Current Liabilities Total Non-Debt Current Liabilities Net Working Capital (Decline) in Cash Flow Year over Year Growth: Inventory Trade Receivables Other Current Assets Trade Payables Other Current Liabilities Ratios: Inventory Days Trade Receivable Days Trade Payable Days
CHF 2,738 733 290 3,761 Inventory tied up cash given its high growth rate and large absolute value at the outset of the recent demand slowdown
371 60 48
371 58 50
359 55 48
359 53 47
439 52 48
Note: (1) Other Current Assets includes: Current Income Tax Assets, Other Current Receivables (VAT & Other), Prepayments and Accrued Income; (2) Other Current Liabilities includes: Current Income Tax Liabilities, Provisions, and Other Payables (VAT Due & Other). Source: Corporate reports and Bernstein analysis.
131
Exhibit 263
An Analysis of Richemont's Working Capital Details Points to a Similar Inventory Build-Up in 2007 and 1H:08
Richemont - Working Capital Analysis
(CHF millions)
Non-Cash Current Assets: Inventory Trade Receivables Other Receivables Total Non-Cash Current Assets Non-Debt Current Liabilities: Trade Payables Accrued Expenses Other Total Non-Debt Current Liabilities Net Working Capital (Decline) in Cash Flow Year over Year Growth: Inventory Trade Receivables Other Receivables Trade Payables Accrued Expenses Other Ratios: Inventory Days Trade Receivable Days Trade Payable Days
377 40 45
361 37 48
349 37 52
366 35 55
Note: YoY growth for 1H:08 reflects growth over 1H:07 balance. Source: Corporate reports and Bernstein estimates and analysis.
Swatch should benefit from high operating leverage. Higher capacity utilization should give Swatch a double positive whammy, as its business hinges on movements manufacturing both for its own watches division and for third parties (see Exhibit 264). Higher capacity utilization will give Swatch higher GM% on the back of lower personnel costs and depreciation in percent of sales. Historically, Swatch has been able to realize operating leverage on wages & salaries, though to a lesser extent on SG&A (see Exhibit 265 and Exhibit 266). We reckon that Swatch has the highest operating leverage versus all companies in our luxury goods coverage (see Exhibit 267).
132
Exhibit 264
Swatch Has Exhibited Operating Leverage of More Than 2x Since 2003 Luxury Players Seem to Have a Higher Degree of Operating Leverage vs. Mass Fashion Competitors
UHR 2.3x 2.1x 1.8x 2.6x 1.6x -5.0x 2.6x 2.2x 2.2x CFR -1.9x 10.2x 1.8x 2.0x 2.1x -5.2x 3.5x 3.9x 2.1x LVMH -1.5x 0.0x 1.4x 2.1x 1.6x 0.4x 11.4x 2.8x 1.5x PPR Luxury -29.3x 6.2x 2.8x 2.9x 2.5x 0.5x -16.7x 3.0x 2.8x ITX -0.3x 2.0x 1.0x 1.1x 1.4x -0.2x 1.2x 1.3x 1.2x HMB 2.0x 1.4x 1.7x 1.4x 1.4x 0.7x 0.5x 1.3x 1.4x
Degree of Operating Leverage (% Change in EBIT / % Change in Sales) 2003 2004 2005 2006 2007 2008 2009 Average Median
Note: Averages and medians exclude negative values. Source: Corporate reports and Bernstein analysis.
Exhibit 265
Swatch Has Not Managed to Capture Material SG&A Leverage Over the Past Five Years
R = 91% 2007 2006 2008 2005
Exhibit 266
Though the Company Has Been Able to Realize Operating Leverage on Wages and Salaries (Circa 25% Sales)
R = 83% 2007 2006
25% 20%
20%
15% 10% 5% 0% (5)% (10)% (15)% (20)% (20)% (15)% (10)% (5)% 0% 5% 10% 2009
15%
20%
25%
(15)%
(10)%
(5)%
0%
5%
10%
15%
20%
*Assumes SG&A contributes 100% of other costs besides raw materials and personnel expenses as disclosed by company; other operating expenses are marketing, sales & admin, and maintenance & rents. Source: Corporate reports and Bernstein analysis.
133
Exhibit 267
700 600 500 400 300 200 100 0 0%
LVMH
PPR
5%
UHR
10%
CFR
15%
LVMH (Total Group)
20%
PPR Luxury
25%
Note: (1) "Base Level" off of which EBIT change is calculated assumes 0% volume growth and +5% price growth; (2) at each level of assumed volume growth, a +5% price growth is assumed. Source: Corporate reports and Bernstein estimates and analysis.
Costs as a percentage of total sales were on the decline from 2003 to 2007 as capacity utilization increased, though since 2007 the trend has reversed (see Exhibit 268). Looking at the specific costs in the P&L, we note that material purchases had been rising rapidly (almost doubling from 2003 to 2008), but fell materially in 2009 (see Exhibit 269). In terms of personnel expense, during the recession these costs were kept in check and actually declined from 2008 to 2009 (see Exhibit 270). Strong cost discipline combined with a sustained rebound in demand throughout 2010 should provide an opportunity for Swatch to follow a V-shaped EBIT rebound (please see our report, "European Luxury Goods: Taking Stock of a VShaped EBIT Rebound," published 11-Feb-10) see Exhibit 271. Exhibit 268
88%
Costs as a % of Total Swatch Sales
At Swatch, Costs as a Percentage of Total Sales Have Been Increasing Since 2007
86% 84% 82% 80% 78% 76% 74% 72% 70% 2003 2004 2005 2006 2007 2008 2009
84%
84%
82%
134
Exhibit 269
Material Purchases Rose as a Percentage of Total Swatch Costs, But in 2009 They Fell Materially
40% 38%
Exhibit 270
During the Recession, Personnel Expenses Were Kept in Check and Actually Declined from 2008 to 2009
40% 38%
2,000 1,800
2,000 1,800
1,400 1,200 1,000 800 600 400 200 0 2003 2004 2005 2006 2007 2008 2009
1,400 1,200 1,000 800 600 400 200 0 2003 2004 2005 2006 2007 2008 2009
Material Purchases
As a % of Total Costs
Personnel Expense
As a % of Total Costs
Note: Personnel expenses include wages & salaries plus other personnel expenses (former constitutes the majority). Source: Corporate reports and Bernstein analysis. Source: Corporate reports and Bernstein analysis.
Exhibit 271
Strong Swiss Watch Export Growth Across Watch Price Points in 2010 Provide an Opportunity for Swatch to Follow a V-Shaped EBIT Rebound
80% 60%
Value Growth, YoY %
0-200
200-500
500-3000
3000+
Total
Digging further into Swatch's cost structure we observe that in 2009, the largest proportion of Swatch's costs (37%) were personnel expenses (itself consisting primarily of wages and salaries) see Exhibit 272. Nonetheless, raw material and other operating expenses (e.g., marketing, admin, rent, etc.) have both made up c.25-35% of total swatch costs in recent history. Gold and platinum both constitute a large part of the cost of a precious metal watch (this of course also highly depends on the movement and the corresponding complexity) see Exhibit 273. We note that gold price volatility could in theory move the dial on Swatch's EPS given the c.CHF400 spent on the commodity each year (see Exhibit 274). However, gold price movements do not appear to have been a material force behind GM% contraction historically (see Exhibit 275).
1,600
36%
1,600
36%
135
Exhibit 272
In 2009, the Largest Proportion of Swatch's Costs Were Personnel Expenses Other Operating Expenses* and Material Purchases Also Represent Significant Costs
100% 90% 80% 24% 25% 27% 27% 30% 30% 25% 6% 6% 5% 5% 4% 4% 5%
32%
33%
32%
34%
33%
34%
33%
38%
35%
35%
34%
33%
31%
37%
2005
2006
2007
Material Purchases
2008
2009
Note: (1)* "Other operating expenses" includes: marketing, sales & admin, maintenance & rents; (2) excludes other operating income items. Source: Corporate reports and Bernstein analysis.
Exhibit 273
For Precious Metal Watches (Illustrative Example), Movements and Raw Materials Constitute the Bulk of Costs
Steel % Retail Price 100% 50% 50% 13% 17% 21% 2% 0% Gold 12,000 7,200 4,800 1,200 1,584 1,200 121 805 2.5x 25% 33% 25% 25% $1,345 $1.38 3.3 % Retail Price 100% 60% 40% 10% 13% 10% 1% 7% Platinum 13,434 8,060 5,373 1,343 1,773 1,200 152 1,014 2.5x 25% 33% 25% 25% $1,695 $1.38 3.3 % Retail Price 100% 60% 40% 10% 13% 9% 1% 8%
Retail Price Retailer Margin Wholesale Price Brand EBIT Brand SG&A Movement Case (Work) Case (Raw Materials) Assumptions Retailer Mark-up EBIT Margin (% of Wholesale) SG&A (% of Wholesale) Movement (% of Wholesale) Case Weight (% of Wristwatch) Price of Raw Material ($/oz.) Exchange Rate (EUR/USD) Avg. Wristwatch Weight (oz.)
5,768 2,884 2,884 721 952 1,200 121 0.07 2.0x 25% 33% 25% 25% $0.13 $1.38 3.3
Note: All prices net of VAT; assumes similar quality movement in each watch for illustrative purposes. Source: Industry interviews, corporate websites and Bernstein estimates and analysis.
136
Exhibit 274
Exhibit 275
However, Over the Last Five Years, Gold Spot Price Appreciation Has Not Necessarily Meant GM% Contraction
500 bps
Market Data $ / oz USD / CHF CHF / oz Swatch Gold Consumption p.a. Cost of Gold p.a. (CHF m) Incremental EPS Impact % of Avg. Raw Material Purchases ('08,'09) % of Avg. Sales ('08, '09)
400 bps 300 bps 200 bps 100 bps 0 bps -100 bps -200 bps -300 bps 0% 5% 10% 2005
2009
2006
2004 2007
2008
15%
20%
25%
30%
35%
40%
Note: Gross margin not disclosed by Swatch; we assume in this analysis that COGS equal raw material purchases + personnel expenses. Source: Corporate reports, Bloomberg L.P. and Bernstein estimates and analysis. Source: Corporate reports and Bernstein estimates and analysis.
137
Exhibit 276
Richemont SA
66.7%
50.0%
50.0%
69.9%
Rothmans International
(Tobacco)
NetHold
(Electronic Media)
NAR Group
(Direct Retailing)
Home Fashion and Gift Catalogues Apparel Catalogues Sears Joint Venture
Since 1996, the group has disposed of its interests in electronic media, direct retailing and tobacco, and has made further acquisitions notably, Vacheron Constantin in FY97; Panerai and Lancel in FY98; Van Cleef & Arpels in FY00; and Jaeger-LeCoultre, IWC and A. Lange & Shne in FY01. In 2010, it completed the acquisition of online luxury distributor Net-a-Porter (reported as part of "Other"). The current structure of the group was formed in FY04 with Jewellery Maisons, Specialist Watchmakers, Writing Instrument Maisons, Leather and Accessories Maisons, and Other Businesses becoming the separate reporting divisions of Richemont group. The latter two have recently been re-aggregated into a single reporting division. Exhibit 277 shows the current brand portfolio by division. Exhibit 277
Jewellery Maisons Cartier Van Cleef & Arpels
138
M&A activities by Richemont clouded the performance during the early periods of trading (FY95 to FY01), but the consolidated group structure has been more stable in recent years, with the exceptions of the Hackett and Old England disposals (relatively immaterial) and the acquisition of Net-a-Porter in Apr-10 (also relatively small, at an estimated 135 million revenues in 2009) see Exhibit 278. The group consistently expanded operating margins to historical peak levels (c.24%) in the period between the trough in FY03 and FY08. Exhibit 278
8 Revenues and Operating Profits, bn 7 6 5 4 3
(3) (4) (5)
(1) Acquisition of Vacheron Constantin
30%
(4) Acquisition of Van Cleef & Arpels (6) Disposal of Hackett (7) Disposal of Old England
(1)
(2)
25%
(7) (6)
20%
15% 10%
2 1 0 FY95 FY96 FY97 FY98 FY99 FY00 FY01 FY02 FY03 FY04 FY05 FY06 FY07 FY08 Revenues Operating profits Operating margin 5%
0%
Revenue growth has come from Europe and the Americas with an average growth rate of +9.7% and +9.0% over FY99 and FY08. In recent years, growth has come from Asia, with a CAGR of +8.9% in FY01-FY08 (see Exhibit 279). Exhibit 279
6,000
5,000
Japan Americas
4,000 Revenues, m
3,000
5.6%
8.9%
1,000
FY99 FY00 FY01 FY02 FY03 FY04 FY05 FY06 FY07 FY08
Operating Margin, %
139
Exhibit 280 outlines notable M&A activities for the 1996-2006 decade. The group strengthened its presence in watches substantially with the acquisitions of Jaeger Le-Coultre, IWC and A Lange & Shne in Dec-00. Exhibit 280
Date Jun-96 Mar-97 1997 1997 Mar-98 May-99 Jun-99 Jul-00 Aug-00 Dec-00 Apr-01 Jan-03 May-03 Jun-05 Apr-06
349.4
US$40m US$13.5m
With sales of 5.3 billion and operating profit of 1.2 billion in FY08 (2007), and an almost exclusive focus in top-end jewelry and watches, Richemont is the largest high-end "hard luxury" player. Jewellery Maisons and Specialist Watchmakers contribute to the majority of group's revenues and operating profits, and as well as growth (see Exhibit 281 for the FY03-FY07 period, as an example). As of FY10 (2009), Jewellery Maisons (Cartier, Van Cleef and Arpels, etc.) and Specialist Watchmakers (Lange & Shne, Piaget, Vacheron Constantin, Jeager Le Coutre, IWC, etc.) represented more than three-quarters of sales; Writing Instruments (Montblanc) for more than 10%; and Leather Goods (reported within Other) for just 5%. Exhibit 281
Million Jewellery Maisons Specialist Watchmakers Writing Instrument Maisons Leather and Accessories Other Businesses Corporate and Other Group % of FY07 revenue 50% 25% 12% 6% 6% 100%
The analysis of trading results by division is complicated by the presence of multiple product categories in each division and brand with the exception of Specialist Watchmakers. For example, Cartier, a Jewellery Maison, spans watches, jewelry, leather goods and accessories. Looking at sales by product category, the biggest contributors are jewelry and watches, accounting for c.25% and c.50% of group revenues respectively in FY07 (see Exhibit 282).
140
Exhibit 282
100% 90%
Product Mix by Division, %
Writing Instruments
Jewellery Maisons has produced consistently higher operating profit and margins at c.27%, followed by Specialist Watchmakers and Writing Instruments (see Exhibit 283). Other divisions are yet to be material profit contributors. Exhibit 283
2,000 1,800
Jewellery Maisons
We constructed a pseudo BCG matrix by plotting revenue growth for the last five periods before the onset of the recession in 2008 versus relative market share, which is calculated by dividing Richemont product category sales by the largest player in the respective industries, or second largest if Richemont is the industry leader in that category (see Exhibit 284). Richemont (2.2 billion sales in FY07) and Swatch (c.2.4 billion sales in 2006) are clear leaders in the watches product category. Richemont's watches are focused in the high-end of the spectrum (with sales growing at a CAGR of 8% in the then latest five periods), making it the star product category of the group. Jewelry is another high-growth category for Richemont, growing at c.8% CAGR over the last five years. Richemont sales in this area lag in scale behind industry leader Tiffany & Co, which is nevertheless positioned on lower average price points. Writing instruments seem to be another "star" of the group (with high
1,600
141
sales growth of over 8% p.a. in the last few years before the downturn), supported by aggressive distribution development by Montblanc. This product area seems materially less important for the group in terms of size, and destined to remain behind watches and jewelry in medium-term growth. Despite the high growth at c.14% p.a. due to product expansions by Richemont's brands, leather goods and clothing still lack critical mass and should be seen as an ancillary (in BCG parlance, they would be described as "question marks" and "dogs," respectively). These categories are far from reaching critical mass. As scale means profitability in leather goods and fashion, we do not expect this division to be a meaningful profit contributor to the group going forward, while efforts are under way to bring them to breakeven point. Exhibit 284
16%
Watches
Jewellery
0%
0.5
0.05
Richemont had also improved return of net assets across all divisions during the last three reporting periods prior to the recent recession. Jewellery Maisons, being the largest division in the group, led with a RONA c.34% in FY07 (see Exhibit 285). Specialist Watchmakers and Writing Instrument Maisons also generated attractive RONA at c.28%. Leather and Accessories Maisons had been loss-making and were therefore excluded from this analysis. Exhibit 285
25%
Jewellery Maisons 06 07 Group 07 06 05 05 07 06 Writing Instrument Maisons ISO RONA 30% 07
20%
Specialist Watches
05 06
15%
05
10%
06 Other Businesses
20%
10%
15% 07
1.5
2.5
142
For the purpose of analyzing divisional cash generation, we have assumed constant working capital, as divisional data are not disclosed in the annual accounts. Jewellery Maisons and Specialist Watchmakers generate/account for c.90% of total net cash with a net cash conversion ratio of more than 75% (see Exhibit 286). Exhibit 286
Divisions
Jewellery Maisons Specialist Watchmakers Writing Instrument Maisons Leather and Accessories Maisons Other Businesses Corporate Group
Note: Cash flow from each division excludes working capital movements. Source: Corporate reports and Bernstein estimates and analysis.
Considering Richemont's relative scale and SG&A cost position, we would consider that tight SG&A cost control has been an area of excellence and an important contributor to NOPAT growth (see Exhibit 287). Luxury players are predominantly fixed-cost businesses. As sales increase, the vast portion of SG&A costs can be leveraged; that is, SG&A costs become less significant as a percentage of sales, providing room for operating margin expansion. With luxury sales of 5.2 billion in FY10 (2009) in the same ballpark as Swatch and PPR's Gucci Group Richemont is far cry from LVMH's scale. Exhibit 287
70% 60% SG&A as % of Revenue 50% 40% 30% 20% 10% 0% 100 1,000 FY07 Revenue -Log Scale - m 10,000 100,000 Burberry
Major Players
Swatch PPR - Luxury Richemont
2
LVMH R = 60%
R2 = 65%
143
Richemont mostly operates in the high end of the W&J market. Watches are the main product category at Richemont, accounting for c.50% of the group revenue. Richemont distributes watches through seven specialist brands as well as through brands in other divisions, for example Cartier and Montblanc. The specialist watchmakers are A. Lange & Shne, Piaget, Vacheron Constantin, Jaeger Le Coultre, IWC, Baume & Mercier and Officine Panerai. Our analysis of brands by recommended retail prices shows that one of Richemont's brands Piaget leads the pack, ahead of Swatch brands and other independent brands. The average list price of the 135 Piaget watches that we researched was c.57,000 compared to c.25,000 for the runner-up, Breguet. For limited-edition watches, Patek Philippe retailed by far the most expensive items: The average price of the eight Patek Philippe watches we included in our data set was little short of 900,000 versus c.300,000 for A. Lange & Shne (see Exhibit 288 and Exhibit 289). Average List/Recommended Retail Prices by Brand
Exhibit 288
70 Average List Price, 000s 60 50 40 30 20 10 -
135
119
53
23 64
Blue: LVMH
236 162
Zenith
13
Officine Panerai
66
IWC
19
Breitling
409
Omega
8
Wempe
39
Raymond Weil
5
Baume & Mercier
191
TAG Heuer
Rolex
Ulysse Nardin
Vacheron Constantin
Cartier
Patek Philippe
Glashutte
Source: thewatchsource.co.uk, armstrongrockwell.com, swissluxury.com, philippeswatches.com, corporate reports and Bernstein estimates and analysis.
Exhibit 289
Average List Price - Limited Editions, 000s 1,000 900 800 700 600 500 400 300 200 100 Patek Philippe
Red: Richemont
1 19
Green: Swatch
26
JaegerLeCoultre
1
Wempe
Jaeger-LeCoultre
Piaget
Breguet
Roger Dubuis
7
Vacheron Constantin
1
Raymond Weil
26
Roger Dubuis
18
Ulysse Nardin
Source: thewatchsource.co.uk, armstrongrockwell.com, swissluxury.com, philippeswatches.com, corporate reports and Bernstein estimates and analysis.
Breguet
144
The watch industry is relatively fragmented, with Richemont and Swatch being the key players (see Exhibit 290). We would expect further industry consolidation going forward as large players seek to strengthen their positions, both in terms of brand portfolio and in terms of R&D and high-end manufacturing capacity. Exhibit 290
Market Share Segment Elitist Luxury Segment > 10k Exclusive Luxury Segment 6k - 10k Richemont 13.8%
Breguet
Jaeger LeCoultre IWC Cartier Van Cleef & Arpels Officine Panerai Montblanc Baume & Mercier Dunhill Omega
Louis Vuitton
Patek Philippe F.P. Journe Franck Muller Girard-Perregaux Audemars Piguet Ulysee Nardin Roger Dubuis Parmigiani Dubey & Schaldenbrad Harry Winston Richard Mille Greubel Forsey Rolex Chopard Corum Tiffany Ebel Breitling Movado Raymond Weil Maurice Lacroix Herms Sector Festina Citizen Seiko Gucci Mondaine Eterna Victorinox
Bulgari
Longines Rado Tissot cK Watch Pierre Balmain Certina Mido Hamilton Swatch Flik Flak
Source: Koncept Analytics, corporate reports and Bernstein estimates and analysis.
We do not expect high-end-focused players to fare better during an adverse macro cycle than others focused on the low-to-middle ground. Richemont group revenue growth (adjusted for acquisitions during FY01), correlates tightly to OECD GDP growth (see Exhibit 291). This is in line with what happens at competitors Swatch and LVMH (see Exhibit 292 and Exhibit 293). The cyclicality is also reflected in the group operating profit line (see Exhibit 294). A similar susceptibility to the macro environment is also apparent in watches, which account for more than 50% of Richemont's revenues (see Exhibit 296 and Exhibit 297).
145
Exhibit 291
FY00
FY02
FY03
FY04
2.5%
3.0%
3.5%
4.0%
Source: Global Insight, corporate reports and Bernstein estimates and analysis.
Exhibit 292
Exhibit 293
20%
20%
R = 45.3%
1999
Revenue growth
R2 = 58.9% 15%
10%
2000
2005 1998
5%
2004
0%
2001
-5% 0.0%
4%
5%
Source: Global Insight, corporate reports and Bernstein estimates and analysis.
Source: Global Insight, corporate reports and Bernstein estimates and analysis.
146
Exhibit 294
FY05
FY00 FY01
FY07
3.5%
4.0%
Source: Global Insight, corporate reports and Bernstein estimates and analysis.
Exhibit 295
Exhibit 296
FY06
Adjusted Revenues growth
FY07
FY02
FY03 FY04
4%
0.5%
1.0%
1.5%
2.0%
2.5%
3.0%
3.5%
4.0%
Source: Global Insight, corporate reports and Bernstein estimates and analysis.
Source: Global Insight, corporate reports and Bernstein estimates and analysis.
147
The cyclicality can also be found in Jewellery Maisons (Cartier and Van Cleef & Arpels) and the jewelry category (see Exhibit 297 and Exhibit 298). Similar correlations can be found in Swatch, Richemont's main competitor in watches, and LVMH's growing W&J business (see Exhibit 299 and Exhibit 300). Exhibit 297 Jewellery Maisons Revenue Growth vs. GDP Growth in OECD
Richemont - Jewellery Maisons
Jewellery - YoY Revenue Growth, %
Exhibit 298
30% YoY Revenue Growth, % 20% 10% 0% -10% -20% -30% -40% 0%
40% 35% 30% 25% 20% 15% 10% 5% 0% -5% -10% -15% 0% FY02
FY03
FY04
FY07 FY05
FY03
FY04
1%
2%
3%
4%
1%
2%
3%
4%
Source: Global Insight, corporate reports and Bernstein estimates and analysis.
Source: Global Insight, corporate reports and Bernstein estimates and analysis.
Exhibit 299
Swatch Watches and Jewelry Revenue Growth vs. OECD GDP Growth
Swatch - W&J
Exhibit 300
LVMH Watches and Jewelry Revenue Growth vs. OECD GDP Growth
LVMH - W&J
30%
1999
20022003 2001
1.0% 2.0% 3.0% 4.0% 5.0%
2003
2.0% 3.0% 4.0% 5.0%
-15% 0.0%
Source: Global Insight, corporate reports and Bernstein estimates and analysis.
Source: Global Insight, corporate reports and Bernstein estimates and analysis.
148
Operating profit performance in watches and jewelry is very susceptible to macro slowdowns, given the strong correlation found (see Exhibit 301 to Exhibit 303). Exhibit 301 Specialist Watchmakers Operating Profit Growth vs. OECD GDP Growth Exhibit 302 Operating Margin Comparison: Specialist Watchmakers vs. Swatch W&J and LVMH W&J FY02 to FY07
Swatch - W&J
Source: Global Insight, corporate reports and Bernstein estimates and analysis.
Exhibit 303
Source: Global Insight, corporate reports and Bernstein estimates and analysis.
In the long term, we see the watches industry consolidating, through M&A and growing upstream investments in manufacturing and R&D. Richemont has the resources to play a key role in this context. Richemont's biggest competitor, Swatch, has been leading the run-up in capital expenditures in the watches and jewelry area. Richemont has been following suit and seems to have even stronger financial muscle to lead in this area (see Exhibit 304 and Exhibit 305). LVMH would seem the only non-specialist player that could over time build a meaningful presence in this area by M&A (shown by the recent acquisitions of Hublot and Bulgari), leveraging the material operating cash flow of its other luxury businesses.
149
Exhibit 304
Capital Expenditure in Watches and Jewellery, m 250
Exhibit 305
3,000 2,500 2,000 1,500 1,000 500 -
200
150
100
50
0 2003 Swatch LVMH - W&J 2004 2005 2006 2007 Richemont - W&J Linear (Richemont - W&J)
2003 Swatch
2004 Richemont
2005 LVMH
2006
Note: 2007 = FY08 (ending Mar-08) for Richemont. Source: Corporate reports and Bernstein estimates and analysis.
Note: 2007 = FY08 (ending Mar-08) for Richemont. Source: Corporate reports and Bernstein estimates and analysis.
Before the onset of the recent recession, manufacturing facility expansion and M&A had been key themes in the watches industry (see Exhibit 306 and Exhibit 307). Exhibit 306
Date Jan-08 Apr-07 Mar-07 Date Apr-08 Feb-08 Jan-08 Jan-08 Jan-08 Nov-07 Aug-07 Jun-07 Nov-06 Nov-06 Nov-06 Nov-05 Oct-05 Oct-01 Jun-01 May-01 Nov-00 Jul-00 Brand Swatch Franck Muller Richemont Company Cartier Jaeger-LeCoultre Harry Winston Piaget Chopard Franois-Paul Journe Bucherer Audemars Piguet Nivaros-FAR DYB Maurice Lacroix Hermes Prestige d'Or HGT Petitjean Patek Philippe Patek Philippe Franck Muller Swatch Group Swatch Private Richemont Group Richemont Richemont Harry Winston Diamond Richemont Private Private Private Private Swatch Swatch Private Hermes Bulgari Richemont Private Private Private Swatch
Exhibit 307
Date Apr-08 Nov-06 Jan-04 Jan-01 Dec-00 Jul-00 Jul-00 Jun-00 Jun-97 Date Nov-07 Mar-01 Brand Hublot Richemont Ebel Festina Richemont Bulgari Richemont Gucci Richemont Company Richemont Bertolucci Group
150
The Writing Instruments Maisons division consists of two brands, Montblanc and Montegrappa, which have been traditionally known as manufacturers of luxury writing instruments. Montblanc was founded in 1906, and Montegrappa (acquired by Richemont in 2000) was founded in Italy in 1912. More recently, these brands have expanded into the watches, accessories and jewelry categories; these are the areas driving the vast majority of growth at Montblanc, for instance. The division accounts for more than 10% of the group's revenue and operating profits (see Exhibit 308 and Exhibit 309). Exhibit 309
Writing Instrument Maisons Operating Profits, m 140 120 100 80 60 40 20 0 FY02 FY03 FY04 FY05 FY06 FY07 FY08 As % of Group
Exhibit 308
700 Writing Instrument Maisons Revenues, m 600 500 400 300 200 100 0
As % of Group
10%
11%
12%
12%
12%
12%
12%
11%
FY02
FY03
FY04
FY05
FY06
FY07
FY08
Product category expansion and distribution development have fuelled operating margin expansion in recent periods, leaving operating margin at c.19% in FY08 (see Exhibit 310). Operating margins in Writing Instrument Maisons have reached historical peaks at c.20%. As product lifecycle matures, we expect further operating margin expansion to be limited in the medium term. Exhibit 310 Operating Margins FY02 to FY08
Writing Instrument Maisons 20% 18% 16% 14% 12% 10% 8% 6% 4% 2% 0% FY02 FY03 FY04 FY05 FY06 FY07 FY08
Operating Margin, %
151
The two brands in this former division (now reported as part of the Other Businesses segment), Dunhill and Lancel, were loss-making despite experiencing mid-single-digit top-line growth, even before the onset of the recent recession (see Exhibit 311 and Exhibit 312). Exhibit 312
0
Exhibit 311
320 Leather & Accessories Maisons Revenues, m 310 300 290 280 270 260 250 240 230
8% 7% 8%
FY03 FY04
6% 7%
FY05 FY06 FY07
6%
FY08
Richemont's leather and accessories brands are below par in terms of operating margin performance (see Exhibit 313), lagging in both scale and brand power. Despite improving margins pre-recession, we hardly expect this area to become a meaningful contributor to Richemont business in the future (see Exhibit 314). We anticipate SG&A costs will continue to absorb large portions of profits in these relative small brands. Exhibit 313
60% 40% Operating Margin, % 20% 0% -20% -40% -60% -80% 2001 2002 2003 2004 2005 2006 2007
Richmont L&AM LVMH - F&LG Gucci Bottega Veneta
Exhibit 314
Revenues Estimated Gross Profits Estimated SG&A Costs Operating Profits/ (Losses) As % of Revenues Estimated Gross Profits Estimated SG&A Costs Operating Profits
YSL
60% -60% 0%
Note: 2007 = FY08 (ended Mar-08) for Richemont. Source: Corporate reports and Bernstein estimates and analysis. Source: Corporate reports and Bernstein estimates and analysis.
152
Richemont also owns Purdey, a sporting shotguns and rifles manufacturer and distributor based in London, and other fashion brands, including Chlo, Shanghai Tang and Azzedine Alaia. These businesses bear an immaterial profit impact. The reporting division also includes online luxury distributor Net-a-Porter. In Apr-10, Richemont acquired the 67% stake it did not already own in this business. Revenues in calendar 2009 were estimated at 135 million (see Exhibit 315). Net-a-Porter Is Regarded as a High-Profile Success Story Among Pure-Play Internet Ventures in the Luxury Goods; as of Apr-10, It Is Part of Richemont Group
Exhibit 315
Net--Porter.com Description
Online retailer (exclusively to women) for designers' collections, clothing, handbags, shoes & accessories Its webpages (views: 2.5 million women/month) feature a magazine with editorial content, updated weekly Positions itself as a luxury brand too (e.g., by offering high-standard packaging and customer care) 2 main online portals: International and United States International : ships from London to Europe, Africa, Middle East, Asia, Oceania; billing in or U.S. : product shipped from New York to U.S., Canada, LatAm markets; billing in US$ Offers 8% commission (excl. shipping, taxes, returns) for purchases made by visitors of "affiliated websites" Websites can apply to become an "affiliated website" for free Key Figures FY09 sales (year ended Jan-10) of 120 mil. (vs. 37 mil. in FY06, implying c.50% sales CAGR in last 3 years ) Total headcount of c.850 across its London and New York offices in 2009 (vs. c.300 in FY06) Reported +234% rise in PBT in FY08 (to Jan-09) from 10.1 mil. to 81.5 mil., largely defying the recession Websites record an avarage of 18,500 unique visitors/day Net-a-Porter has an average order value of 500, according to The Telegraph Timeline 2000: Launched in June 2000 by Natalie Massenet and based in London, U.K. as Net-a-Porter Ltd. N. Massanet is a former Tatler journalist; she set up the business with initial investment of 850,000 2010: Acquired by Compagnie Financiere Richemont in Apr-2010 Equity valued at 350 million by the offer CFR offered to acquire remaining 67% stake in the business; owned c.33% stake prior to transaction Net-a-Porter founder stayed on as Executive Chair, making a 15 mil. re-investment into the business Internet retailer to operate as an independent entity alongside other CFR maisons Sellers included: Massanet (18% stake), the Busquets family (30%) and employees (16%)
Source: Factiva, Times Online, The Telegraph, Capital IQ, corporate reports and websites and Bernstein analysis.
153
Exhibit 316
37%
37%
20% 10%
Watches
Leather Goods
Shoes
Fashion
Notes: (1) Top four players' share based on Altagamma 2008 market categories: Leather Goods (LVMH, Gucci, Hermes and Prada); Watches (Swatch, Richemont, Rolex and Patek Philippe); Shoes (Prada, Tod's, Gucci and Ferregamo); and Fashion (Calvin Klein, Ralph Lauren, Armani and Versace). (2) Sales for each player reflects total group sales attributable to category (e.g., LVMH = Leather goods from Louis Vuitton, Fendi, etc.) (3) Market shares for Fashion players calculated based on a "retail equivalent" basis, multiplying retail, wholesale and royalty revenues by 1.0x, 2.5x and 22.5x, respectively. Within Fashion, we assumed one-third of Calvin Klein as "luxury" and 90% as apparel; for Ralph Lauren we assumed 75% apparel and one-third luxury. Source: Factiva, Altagamma, Verdict, corporate reports and presentations, and Bernstein estimates and analysis.
Scale Provides Leaders With Significant Competitive Advantage, More So Than in Soft Luxury Categories
Scale provides significant competitive advantage to leaders more so than in the case of soft luxury. Benefits from scale include: (1) better ability to absorb manufacturing and R&D investments; (2) more efficient capacity utilization; (3) lower physical distribution costs; (4) stronger media-buying muscle; (5) greater clout with multi-brand distributors/retailers higher margins; and (6) more efficient after sales operations. Richemont and Swatch have been able to leverage their scale and industry leadership to maintain higher operating profit margins and return on net assets (RONA) metrics versus smaller challengers (e.g., LVMH's Watches & Jewelry segment). Exhibit 317 provides a general sketch of the watches value chain. It highlights how segments such as R&D, manufacturing, wholesale and after-sales are particularly relevant for hard luxury.
154
Exhibit 317
Scale and Multi-Brand Presence Can Help Boost Specific Aspects of the Watch Value Chain R&D, Manufacturing, Wholesale and After-Sales Are Areas That Are Particularly Relevant for Hard Luxury
Sourcing Manufacturing Logistics Warehousing Transportation Marketing Media buying Wholesale Distributor negotiations Salesforce optimization Retail Landlord negotiations DOS services After-Sales Local presence response time
Legend
Most relevant for hard luxury Equally relevant for hard and soft luxury
Richemont and Swatch lead the industry, with watches sales of 2.6 billion (2008) and CHF4.5 billion (2008; 2.9 billion), respectively. Their focus is at the opposite ends of the price spectrum (see Exhibit 318), although both span almost the whole length of the price pyramid. Rolex and Patek Philippe follow in rank at No. 3 and No. 4, respectively. The hard luxury business of LVMH is in No. 5, with a relative scale of c.0.3x versus the leader (see Exhibit 319). Exhibit 318
Market Share Segment Elitist Luxury Segment > 10k Brands Breguet Brands A. Lange & Shne Piaget
Exclusive Luxury Jaquet Droz Lon Hatot Segment Blancpain 6k - 10k Glashtte Original
Zenith Hublot
Luxury Segment 4k to 6k
Jaeger LeCoultre Louis Vuitton IWC Cartier Van Cleef & Arpels
Daniel Roth Patek Philippe Gerald Genta F.P. Journe Franck Muller Girard-Perregaux (PPR) Audemars Piguet Ulysee Nardin Parmigiani Dubey & Schaldenbrad Harry Winston Richard Mille Greubel Forsey Rolex Chopard Corum
Bulgari
Tiffany Ebel Breitling Movado Raymond Weil Maurice Lacroix Herms Sector Festina Citizen Seiko Gucci Mondaine Eterna Victorinox
Longines Rado Union Glashtte Tissot cK Watch Pierre Balmain Certina Mido Hamilton Swatch Flik Flak
Source: Koncept Analytics, corporate reports and websites, and Bernstein estimates and analysis.
155
Exhibit 319
1.0x
1.0x 0.92x
0.9x 0.8x 0.7x 0.6x 0.5x 0.4x 0.3x 0.2x 0.1x 0.0x 2001
0.28x
0.28x
0.27x
0.26x
0.28x
0.31x
0.31x
0.31x
0.28x
2002
2003
2004
2005
2006
2007
2008
2009
Sw atch - W&J
Richemont - Watches
LVMH - W&J
Note: Richemont reflects sales of all watches sold by group (e.g., Cartier + Specialist Watchmakers + Others); 2009 is an estimate as of Jul-10. Source: Corporate reports and Bernstein analysis.
Industry leadership and scale put Richemont and Swatch ahead of smaller competitors on operating profit and RONA (see Exhibit 320 and Exhibit 321). LVMH's Watches & Jewelry operating margin has historically lagged those of Richemont and Swatch, despite its leading position in the broader luxury goods market. While this lag has recently been reduced, it still extends to between 500 bps and 1,000 bps. Exhibit 320 LVMH's Watches & Jewelry Operating Margin Has Historically Lagged Richemont's and Swatch's; While This Lag Has Recently Reduced, It Still Extends to Between 500 bps and 1,000 bps
30% 25% 20%
EBIT Margin - %
15% 10% 5% 0% (5)% (10)% (15)% 1999 2000 2001 2002 2003 2004 2005 2006 2007 2008 2009
Swatch - W&J
LVMH - W&J
Note: Margin for Richemont reflects Specialist Watchmakers segment and not the entire Watches product category. Source: Corporate reports and Bernstein analysis.
156
Exhibit 321
Return on Net Assets at LVMH's Watches & Jewelry Division Lags Richemont's (Specialist Watchmakers) and Swatch's (Watches and Jewelry) by Circa 15% and 20%, Respectively
07 Richemont
17%
09 07
10%
08 04
06 05 07 04 06 0905 08 Swatch
08 06
20% 15%
6%
09
LVMH
10%
05
5%
0.5
0.7
1.5
Note: Margin for Richemont reflects Specialist Watchmakers segment and not the entire Watches product category. Source: Corporate reports and Bernstein estimates and analysis.
Leaders have taken top positions in key emerging markets too. We note that both Richemont and Swatch have positioned themselves at the top of Chinese consumer's minds as indicated by the trend in the Hurun survey. In fact, as a result of the multi-brand nature of their portfolios, these two companies hold six of the top eight watch brands in the 2009 survey (see Exhibit 322). Exhibit 322 In Key Growth Markets Such as China, LVMH W&J Brands Appear to Trail Richemont and Swatch in Top-of-Mind
Hurun's Best of Best 2006 to 2010 Survey in China
Brands Patek Philippe Vacheron Constantine Blancpain Breguet Audemars Piguet IWC Jaeger-Le Coultre Glashutte Franck Muller Juvenia Bulgari
2010 Partial 1
2009 Rank 1 2 3 4 5 6 7 8 9
2008 Rank 1 2 3 4 9 7 5 8 6
2007 Rank 1 2 4 7 6 5 8 3
2006 Rank 2 1 3 5 4
Note: Yellow (lighter shade when printed in black and white) = Richemont; blue (darker) = Swatch. Source: Hurun and Bernstein analysis.
157
LVMH and PPR Likely Could Not Challenge Leaders Without "Game Changing" M&A
It is difficult to imagine that even large multi-category groups like LVMH and PPR could mount a credible challenge to category leaders, without "game changing" M&A. We have carried a broad "radar sweep" of independent watches brands (primarily via the Swiss Watch Export Statistics portal FHS), and have found that most of the independent brands have very limited size. With the exclusion of Patek Philippe and Rolex and possibly medium-size players such as Audemars Piguet, Chopard and Breitling opportunities to build scale through bolt-on acquisitions seem limited. See Exhibit 324 to Exhibit 326. Moreover, as we have recently pointed out in our Blackbook, European Luxury Goods: What M&A? published in May-10, adding value in luxury through M&A is all but easy. Watches seems no exception: Even a leading player like Richemont has struggled and is struggling with its latest addition, Roger Dubuis (see Exhibit 330 for further acquisition details). Moreover, the two hard luxury champions, Richemont and Swatch, have not participated in major watch-related M&A in recent history (see Exhibit 329). As watch brand-specific sales figures for the majority of names is undisclosed, we created a high-level model that would help us hone in on the general size of a particular brand. Specifically, we utilized sales data points for which we had the most confidence and regressed these figures against the number of Google hits. We found that the brands with the highest level of sales had a correspondingly high level of hits (R-squared of 80%). Using this analytical exercise, combined with various sources of public disclosure, we were able to broadly place companies in size buckets and into their respective groups (A through D). The regression is shown in Exhibit 323, and in Exhibit 327 and Exhibit 328 we categorize the company sizes based on the number of Google hits. We Have Observed a Satisfying Relationship Between Brand Sales and Google Hits We Have Used This High-Level Relationship to Estimate the Relative Size of Independent Watches Brands for Which No Public Data Are Available
Exhibit 323
2,000
1,000
Blancpain Jaquet Droz Movado Pierre Balmain Hermes Rado 0 Lon Hatot 0.0 0.5 1.0 1.5
Longines
Breguet
2.0
2.5
3.0
3.5
4.0
4.5
5.0
Note: Google search was conducted by typing in brand name watches e.g., "Rolex watches." Source: Bloomberg L.P., Koncept Analytics, Factiva, Google, corporate reports and Bernstein estimates and analysis.
158
Exhibit 324
Richemont and Swatch Brands (Group A) Along With Large Private Brands Such as Rolex and Patek Philippe (Group B) Are the Dominant Forces in the Watches Market Aspiring Challengers Such as LVMH (Group C) Do Have Some Scale, Though Most Companies in This Subset Are Relatively Small in Comparison to Group A and B
A Richemont and Swatch Brands Richemont A. Lange & Sohne Baume et Mercier Cartier Dunhill Greubel Forsey IWC Jaeger LeCoultre Montblanc Panerai B Large Private Brands Rolex Patek Philippe Audemars Piguet Breitling Chopard Ulysse Nardin Piaget Ralph Lauren (JV) Roger Dubuis Vacheron Constantin Van Cleef & Arpels Swatch Balmain Blancpain Breguet ck Watch Certina Flik Flak Glashutte Hamilton Jaquet-Droz C Aspiring Challengers LVMH: TAG Heuer Hublot Zenith LV Watches Dior Watches Chaumet Watches PPR: Girard-Perregaux Gucci Watches YSL Watches Leon Hatot Longines Mido Omega Rado Swatch Tiffany Watches Tissot Union Glashutte
Other: Bulgari (Bulgari, Daniel Roth) Chanel Watches Armani Watches Hermes Watches Versace Watches
Note: We determined relative company size based on implied regression value and independent judgment in selected cases. Source: FHS website, Bloomberg L.P., Koncept Analytics, Factiva, Google, corporate reports, and Bernstein estimates and analysis.
Exhibit 325
In Aggregate (of Groups A, B and C), the Swatch and Richemont Watch Portfolios Generate Circa 50% of Google Hits With Patek Philippe and Rolex Generating Circa 10%
22 20 18 16 Sw atch
Brands in Portfolio
14 12 10 8 6 4 2 0 -2 -4 0 5 10 15 Google Hits (Sum of Brands, m n) 20 Chanel Bulgari Hermes Armani Versace Rolex PPR Patek Philippe LVMH Significant Google hits for: Louis Vuitton Watches Significant Google hits for: Yves Saint Laurent Watches
Richemont
25
30
Note: Percentages in title refer to sample of Group A, Group B and Group C from Exhibit 324. Source: Google, corporate reports and Bernstein estimates and analysis.
159
Exhibit 326
D Small / Medium Independents 121Time Adriatica Aerowatch Alain Sauser Alfex Andersen Antima Antoine Preziuso Aquanautic Armin Strom Arsa Azzaro, Badollet Bedat Berney-Blondeau Bertolucci Boegli Borel Boucheron Bovet Fleurier Bulova Bunz Candino Carl F. Bucherer Carven Catena Catorex Cattin
Notes: (1) We determined relative company size based on implied regression value and independent judgment in selected cases; (2) brands primarily identified per FHS industry website. Source: FHS website, Bloomberg, Koncept Analytics, Factiva, Google, corporate reports and Bernstein estimates and analysis.
160
Exhibit 327
We Have Categorized Watch Brands Into Relative Sizes Based on a Combination of Google Hits and Public Disclosures A Cutoff of Circa 1 Million Google Hits Distinguished a "Large" Brand from a "Medium' Brand," Though We Placed Several Names With More Than 1 Million Hits Into the "Medium" Category Based on Our Best Estimates
Google Hits 9,940,000 7,040,000 5,970,000 4,560,000 4,560,000 4,500,000 3,700,000 3,130,000 2,980,000 2,950,000 2,930,000 2,860,000 2,600,000 2,430,000 2,400,000 2,210,000 2,200,000 2,040,000 1,730,000 1,610,000 1,480,000 1,380,000 1,200,000 1,150,000 1,110,000 1,050,000 838,000 Size Large Large Large Large Large Large Large Large Large Large Large Large Large Large Large Large Large Large Large Large Large Large Large Large Large Large Large Notable Parent LVMH Richemont Brand Medium Louis Vuitton Watches Chronoswiss Ralph Lauren (JV) Yves Saint Laurent Calvin Klein Versace Gucci Maurice Lacroix Bulova Daniel Roth Victorinox Dior Montblanc Glashutte Movado Corum Roger Dubuis Longines Hermes Richard Mille Noa Oris Hublot Zenith Wenger Piaget Eterna Rado Ebel Parmigiani Fleurier Gc Epos Concord Damas Sarcar Mido Swiss Timer Gerard Genta West End Watch Co Certina Louis Moinet TechnoMarine 8,570,000 7,190,000 4,660,000 4,200,000 3,510,000 3,200,000 2,320,000 1,910,000 1,470,000 1,390,000 1,390,000 1,340,000 1,270,000 1,270,000 1,090,000 1,060,000 1,050,000 1,040,000 1,030,000 1,000,000 957,000 941,000 907,000 907,000 907,000 881,000 881,000 868,000 845,000 828,000 805,000 774,000 761,000 760,000 752,000 745,000 644,000 608,000 592,000 579,000 579,000 558,000 Medium Medium Medium Medium Medium Medium Medium Medium Medium Medium Medium Medium Medium Medium Medium Medium Medium Medium Medium Medium Medium Medium Medium Medium Medium Medium Medium Medium Medium Medium Medium Medium Medium Medium Medium Medium Medium Medium Medium Medium Medium Medium LVMH Richemont PPR Swatch Versace PPR Google Hits Size Notable Parent
Brand Large TAG Heuer Van Cleef & Arpels Breitling Patek Philippe Rolex Audemars Piguet Franck Muller Vacheron Constantin Raymond Weil Tiffany Watches Omega Jaeger LeCoultre Cartier Tissot IWC Girard-Perregaux Chanel Breguet Armani Ulysse Nardin Panerai Chopard Baume et Mercier A. Lange & Sohne Bulgari Blancpain Swatch
Richemont Swatch Swatch Richemont Richemont Swatch Richemont PPR Chanel Swatch Armani Richemont Richemont Richemont Bulgari Swatch Swatch
Categories - Est. Sales Buckets: Very Small = < 50m Small = 50 to 100m Medium = 100 to 150m Large = > 150m
Swatch
Swatch
Notes: (1) Companies in italics have been moved into separate categories due to high hit rate as a result of common word in brand name; (2) Google search was conducted by typing in brand name watches e.g., "Rolex watches." Source: FHS website, corporate reports, Bloomberg L.P., Koncept Analytics, Factiva, Google and Bernstein estimates and analysis.
161
Exhibit 328
We Considered Brands "Small" and "Very Small" If the Number of Google Hits Was Less Than 530,000 or Less Than 100,000, Respectively
Google Hits Size Notable Parent Brand Small (continued) 5,370,000 526,000 525,000 525,000 519,000 518,000 509,000 508,000 505,000 505,000 502,000 492,000 477,000 465,000 453,000 430,000 428,000 422,000 420,000 420,000 390,000 383,000 378,000 377,000 373,000 361,000 350,000 342,000 331,000 326,000 317,000 312,000 301,000 268,000 257,000 251,000 249,000 244,000 243,000 235,000 230,000 226,000 226,000 223,000 223,000 218,000 216,000 213,000 206,000 201,000 198,000 195,000 189,000 175,000 173,000 173,000 165,000 Small Small Small Small Small Small Small Small Small Small Small Small Small Small Small Small Small Small Small Small Small Small Small Small Small Small Small Small Small Small Small Small Small Small Small Small Small Small Small Small Small Small Small Small Small Small Small Small Small Small Small Small Small Small Small Small Small Swatch Charmex Rodania Formex Alfex Saint Honore Paris Nubeo Romain Gauthier Aquanautic Milleret RSW Grenacher Louis Chevrolet Union Glashutte Badollet Carven Schwarz Etienne MB&F Adriatica Cuervo y Sobrinos Revue Thommen Candino Zeno-Watch Basel Arsa Graff Very Small Catorex Delma Juvenia Greubel Forsey Delance Le Castel H3 Tactical Aerowatch Grovana Alain Sauser Cimier Davosa 121Time Pamp Reuge Cattin Antoine Preziuso Bovet Fleurier Cyril Ratel Roberge Armin Strom Justex Gianmaria Buccellati Le Marquand Leon Hatot Delbana Seculus Roventa Henex Zitura Leschot Berney-Blondeau Boegli Furrer-Jacot Swiza Claude Meylan Antima Mellerio dits Meller ChronArte D'Aguet 97,700 97,200 94,600 86,500 85,400 82,800 82,200 81,800 79,000 76,500 69,700 62,300 58,700 54,100 51,200 48,200 46,000 45,200 45,200 44,500 39,600 38,800 37,300 36,300 35,300 34,800 31,500 29,200 27,500 25,700 23,700 23,100 21,000 18,700 18,000 15,400 14,600 10,100 4,960 Very Small Very Small Very Small Very Small Very Small Very Small Very Small Very Small Very Small Very Small Very Small Very Small Very Small Very Small Very Small Very Small Very Small Very Small Very Small Very Small Very Small Very Small Very Small Very Small Very Small Very Small Very Small Very Small Very Small Very Small Very Small Very Small Very Small Very Small Very Small Very Small Very Small Very Small Very Small 163,000 162,000 156,000 155,000 153,000 150,000 144,000 142,000 141,000 128,000 127,000 122,000 121,000 121,000 120,000 120,000 114,000 111,000 108,000 107,000 104,000 103,000 102,000 102,000 Small Small Small Small Small Small Small Small Small Small Small Small Small Small Small Small Small Small Small Small Small Small Small Small Google Hits Size Notable Parent
Brand Small Hamilton Jean d'Eve Bedat Eberhard Hoga Hebe Watch Tudor Jovial Jaquet-Droz Frederique Constant Rotary Vincent Berard Zodiac Paul Picot Jeanrichard Titoni Borel Doxa Balmain Maurice de Mauriac Festina DeWitt Dunhill Swiss Alarm Clock Glycine Perrelet Waltham Emile Chouriet Boucheron Chaumet Traser Bertolucci Phillippe Du Bois H. Moser Charriol Azzaro, Cyma Carl F. Bucherer Louis Erard Roamer Clerc Andersen Vulcain De Grisogono Rodolphe Universal Geneve Endura Milus Catena Fortis Flik Flak F.P.Journe Ellicott Damiani Bunz Delaneau Consul
Swatch
Swatch
Swatch
Richemont
LVMH
Richemont
Swatch
Swatch
Categories - Est. Sales Buckets: Very Small = < 50m Small = 50 to 100m Medium = 100 to 150m Large = > 150m
Note: Google search was conducted by typing in brand name watches e.g., "Rolex watches." Source: FHS website, Bloomberg L.P., Koncept Analytics, Factiva, Google, corporate reports and Bernstein estimates and analysis.
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Exhibit 329
The Two Hard Luxury Champions, Richemont and Swatch, Have Not Participated in Major Watch-Related M&A in Recent History For These Players, M&A Has Been Primarily Utilized in Recent Years to Bolster Production Capabilities
Swatch Year 1992 1999 2000 2002 2006 2007 2008 Target Blancpain Breguet Jaquet Droz Favre & Perret Glashutte Universo Rubattel & Weyermann Le Prelet Tiffany (Alliance ) Indexor Burri Moebius H. & Sohn Francois Gloay Brands / Production Brand Brand Brand Production Brand Production Production Production Brand Production Production Production Production Description High-end Watches High-end Watches High-end Watches Watch Cases Watch Hands Dial Producer Dial Producer Dial Indexes Components Division Lubricants, Coatings Wheels, Components
Richemont Year 2000 2001 2006 2007 2008 2009 Target Jaeger-LeCoultre Van Cleef & Arpels Fabrique d'Horlogerie Minerva Greubel Forsey Donze-Baume Roger Dubuis Rouages Brands / Production Brand Brand Production Brand Production Brand Production Description High-end Watches Remaining (40%) Components & Watches High-end Watches (20% Stake) Watches Cases & Bracelets High-end Watches Wheels & Pinions
LVMH Year Target Tag Heuer Zenith Chaumet Hublot Brands / Production Brand Brand Brand Brand Description High-end Watches High-end Watches High-end Watches High-end Watches
1999 2008
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Exhibit 330
Brand: Founded: HQ: Product:
Roger Dubuis Continues to Generate Losses Following Its Acquisition by Richemont in Aug-08
Roger Dubuis 1995 Geneva Watches
Brand Description High-end positioning (10,000 entry price point) Bold and significant design content Complicated movements & know-how and high-end components All watches produced in limited series - have Poincon de Geneve (Geneva Seal) 6 Boutiques (Geneva, Singapore, Hong Kong (2), Shanghai, Kiev) Brand Strategy Extending the brand globally (utilize the Richemont distribution platform) Further develop network of boutiques Control wholesale distribution (less than 200 doors) Key forcus on growth markets such as: Greater China, M.East, South America Supply high-end escapements to the wider group Richemont Acquisition / Integration Details Sep-2007: Richemont acquired the component production facility of Roger Dubuis Aug-2008: Richemont acquired 60% controlling interest in Roger Dubuis Apr-2009: Richemont acquired Asian distribution rights Acquisition generated 93 million in goodwill From Aug-08 to Mar-09, Roger Dubuis contributed 8m in revenues and 18m in losses As of fiscal year end Mar-10, Roger Dubuis still generates 'significant' losses Losses partly attributable to post acquisition restructuring
Source: Corporate reports and presentations and Bernstein analysis.
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Exhibit 331
Bulgari - Shares Outstanding Float (m shares) Non-Float (m shares) o/w Bulgari Family (m shares) o/w Others (m shares) Total outstanding (m shares)
LVMH - Shares Outstanding Float (m shares) Non-Float (m shares) o/w Bulgari Family (m shares) Total outstanding (m shares)
Exhibit 333
Majority control: All-stock transaction Sold by Bulgari family 152.5 Issued by LVMH 16.5 Premium (implied) Tender Offer Bulgari Minorities Tender Offer for Bulgari Min. Premium (implied) Total Equity Value Bulgari Implied Eq. Value Bulgari Net Debt (Sept-10) Bulgari Implied EV 149.8 149.8 -
Source: Bloomberg L.P., corporate reports and press releases, and Bernstein analysis and estimates.
Exhibit 334
Source: Bloomberg L.P., Capital IQ, corporate reports and press releases, and Bernstein analysis and estimates.
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Both the announced shares exchange for majority control and the tender offer imply a hefty c.60% premium to Bulgari's Friday, 04-Mar-11 close. Bulgari shares closed at 7.59 in Friday's session, while LVMH stocks finished at 111.5. This would imply an equity value for LVMH's 16.5 million share issue of 1.8 billion, c.60% above the 1.2 billion worth of the Bulgari exchange stake. Similarly, the 12.25 tender offer price is c.60% above the Friday, 04-Mar-11 close. The transaction values Bulgari's equity at 3.7 billion. The Bulgari family will thus become LVMH's second-largest family shareholder (at c.3%) and be entitled to appoint two representatives to the group's Board. Family members and sellers, Paolo (Chair) and Nicola (Vice-Chairman) Bulgari, will remain on the Bulgari SpA board in their current roles. Their holdings in LVMH, resulting from the stock transaction, will be subject to an 18-month "lock-up" period. Moreover, in 2H:11, Francesco Trapani, Bulgari CEO at present, will replace Philippe Pascal as divisional head of LVMH's Watches & Jewelry. Mr. Pascal will remain with the group and be given new responsibilities. But the Price Achieves a Strategic Coup for LVMH A 60% premium for Bulgari is substantial. If the deal were any larger, we would not deem this a net positive for LVMH (according to the logic that we develop in our Blackbook, European Luxury Goods: What M&A? published in May-10). Yet given the size of the transaction, this deal should be only mildly dilutive for LVMH and the resulting marginal loss of control to the Bulgari family (c.3% position post-deal with right to appoint two seats on the Board) would seem balanced and "worthwhile." The fact that about one-half of the consideration is being paid for in paper is also encouraging, as it indicates that LVMH could have the opportunity to do more, given its FCF. The deal makes strategic sense, in our view. Bulgari is one of the best known jewelry brands in the world with plenty of potential to grow on the back of LVMH's global distribution reach and financial muscle. For instance, media buying and retail development would benefit directly from the deal. Also, Watches & Jewelry is one of the weakest product areas at LVMH. Highprofile additions to its brand portfolio (Bulgari) and management pool (Mr. Trapani) should be beneficial. LVMH's Watches & Jewelry is trailing larger and better-known competitors, mostly controlled by Swatch, Richemont, or large independents (e.g., Rolex and Patek Philippe). Bulgari brings a potential megabrand to its line-up albeit stronger in jewelry than in watches. Moreover, the appointment of Mr. Trapani (hailed by Bernard Arnault as "the driving force behind Bulgari's development over the last 20 years") as divisional head is also a positive for the future of the enlarged Watches & Jewelry portfolio.
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Index of Exhibits
1 2 3 4 Financial Overview In Value Terms, Switzerland Is the Leading Exporter of Watches (Hong Kong Likely Overstated Given Re-Exporting) China and Hong Kong Export Much Larger Volumes of Watches Than Switzerland But at Materially Lower Average Prices The Global Watches Market Has Grown at an Annualized Rate of +4.5% During the Last c.25 Years); We Would Anticipate an Acceleration in the Next Five Years Different Segments of the Market Have Adjusted Pricing and Product Feature Priorities Differently in the Last Years of Economic Downturn Luxury Watches Distribution Is Still Wholesale-Dependent, With Independent Multi-Brand Retailers Dominating the Market Market for Watch Movements By Value Market for Watch Movements By Volume Only Circa 5% of Global Jewelry Is Estimated to Be Branded; The Proportion Is Only Slightly Higher (Circa 12%) in the High-End Segment (Which Accounts for Circa 5% of Total Sales) High-End Jewelry Appears Underpenetrated by Brands The Percentage Weight of Brands (12%) Is Much Lower Than for High-End Watches (50%) and Perfumes (80%) The "Luxury" Segment of the Market Has Outpaced "Mass Market" Price Points in 2005-09 by Circa 250bps and Is Expected to Grow at a Circa 500bps Delta in 2009-15E (Both in Currency-Neutral Terms) Watch Brands Market Share and Positioning by Price Category In Value Terms, Switzerland Is the Leading Exporter of Watches (Hong Kong Likely Overstated Given Re-Exporting) China and Hong Kong Export Much Larger Volumes of Watches Than Switzerland But at Materially Lower Average Prices Total CH Watch Exports Including Mechanical (About TwoThirds) and Electronic (Less Than One-Third) Wristwatches and Movements Are Valued at Circa 9 Billion (CHF13.1 Billion) in 2009; These Have Grown at CAGRs of +5% During Roughly the Last 25 Years and +3% Over the Last 15 Years Altagamma Estimates the Global Luxury Watches Industry at 20 Billion in 2009, Resulting from 15-Year CAGR of Circa 7.5% Swiss Mechanical Watches Exports Growth Is a Good Proxy for Luxury Watches Market Growth CH Mechanical Watches Exports Are Valued at Circa 6 Billion (CHF8.9 Billion) in 2009, About Two-Thirds of the Total, and Have Outgrown Total Watch Exports Expanding at a CAGRs of Circa+8% During Roughly the Last 25 Years and Circa+7% in the Last 15 Years 2 5 5
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In 2007-09, Sales at "Important Watch" Auctions Held Worldwide by Major Houses Moved Directionally in Line With CH Mechanical Exports For Example, Sotheby's In 2007-09, Sales at "Important Watch" Auctions Held Worldwide by Major Houses Moved Directionally in Line With CH Mechanical Exports For Example, Christie's The Global Watches Market Has Grown at an Annualized Rate of +4.5% During Roughly the Last 25 Years, With Mechanical/Luxury Watches (+8%) Outpacing Electronic Watches (+2%); We Would Anticipate an Acceleration During the Next Five Years CH Wristwatch Exports Higher-End Wristwatches (Priced CHF3,000+) Have Experienced the Fastest Volume and Value CAGR Among Price Brackets in the Last Decade, More Than 15 Percentage Points Above Lower-End Pieces Priced CHF500 or Below Wristwatches Priced at More Than CHF3,000 Have Seen Their Share of Total Export Value Increase by More Than 25 Percentage Points in 2000-09 (from 32% to 58%) The Volume Share of Watches Priced at More Than CHF3,000 Has Doubled from 2% to 4% During the Same Period Mechanical Wristwatches' Share of Total CH Wristwatch Exports Has Experienced Similar Uplifts in 2000-09, Growing Circa 25 Percentage Points from 48% to 72% of the Total Mechanical Share Has Also Increased in Volume Terms Moving from 8% to 18% in the Last Decade In Value Terms, the Weight of Mechanical CH Watch Exports Has Increased by More Than 20 Percentage Points Over the Last Decade, Pointing to a Strong Premiumization Trend CH Watch Exports (Value Terms) to EMs in Asia/ME Have Significantly Increased (More Than 10 Percentage Points) Over the Last 10 Years, as Developed Markets of Europe and North America Declined This Development Has Gone Hand-in-Hand With a Positive Delta in Real GDP Growth Rates, Which Is Expected to Continue Into the Next Decade Hard Luxury (Watches and Jewelry) Is the Realm of Richer Consumers High-Net Worth Individuals Account for 75% of Hard Luxury, Compared to Circa 40% for Luxury Leather Goods Within the Combined "Watches and Jewelry" Market, Watches Constitute the Bulk (About Three-Quarters) of the Value In a Period of Economic Expansion (2001-07), Growth in the Number of HNWIs and CH Total Watch Exports Progressed Hand-in-Hand in Most Regions During the Severe Economic Correction of 2007-09, the Link Between the Two Trends Seems to Have Broken Down As DeStocking Dragged Down CH Watch Exports, Despite Continued HNWI Growth in EMs France and Italy Lead Export Markets for CH Watches in Terms of Penetration Over General Population
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Italy Also Leads CH Watch Export HNWI Penetration; However, Key EMs China and Russia Appear on More Equal Footing vs. Top Developed Markets Under This Metric The Spread of CH Watch Export Penetration Over Total Population Across Key Markets Is Greater Than the Spread for CH Watches Penetration Among HNWIs in the Same Markets Global Only Two Product Categories Are Skewed Toward Male Consumers Luxury Watches and Menswear China In This Market, Luxury Is Materially More Dependent on Men's Demand, With an Estimated 70/30 Mix The World Is Getting Older Bad News for Luxury? Not Really, as Older People Have Higher Disposable Income, and Luxury and Disposable Income Seem to Grow in Lockstep; Hard Luxury Seems to Gain in the Category Shift Japan: Elderly Citizens Aged 60+ Have Grown Almost Two Times in Relative Weight in 20 Years, from Circa 15% in 1988 to Circa 30% in 2008 Japan: As the Weight of 60+ Consumers Almost Doubled, Hard Luxury Categories Have Exhibited Relatively More Robust Growth Compared to Other Categories, as Analyzed Through Import Statistics Over the Last Five Years, Both Hard Luxury Names That We Cover Have Performed Well Ahead of Relevant Market Proxy Swatch by More Than 300bps (Versus Total Exports, Due to Diversity of Price Points); Richemont by Circa 200bps (Versus Mechanical, Due to High-End "Skew") Richemont Is More Focused on the Very High End (Albeit With Some Lower-Priced Alternatives), Making "CH Mechanical Watch Exports" a More Relevant Market Proxy With Which to Compare Sales Progression Swatch Sales Progression Should Be Contrasted With "CH Total Watch Exports" In Fact, the Group Spans from Breguet to Flik Flak, Reaching a Broader Set of Aspirational and Lower-Price Point Consumers Than Richemont The Growth of New Luxury Markets Will Bring New Vast Populations of Aspirational and Accessible Luxury Consumers: We Assume That Only 5% of Chinese Consumers Purchase Luxury Goods Today Versus 40% in Developed Markets Based on Its Recent Survey of More Than 7,000 Consumers in 28 Chinese Cities, BCG Expects MAC (Middle-Income and Affluent) Consumers to Approximately Triple in 10 Years Three-Quarters of New MAC Consumers Will Come from Cities Labeled Tier 3 or Below (Fewer Than 1 Million Inhabitants), Reducing the Weight of Tier 1 and 2 City MAC Consumers from Circa 45% to Circa 30% by 2020 Big-City MACs in China Enjoy Much Higher Average Incomes, But Smaller-City MACs Face Significantly Lower Cost of Living and Consequently Greater Purchasing Power For Example, Shanghai (Tier 1) vs. Xuzhou (Tier 3) Moreover, Small-City MACs Display the Highest Intention to Increase Spending And to Trade Up
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Fine Watch Adoption Progression Moves Through Several Phases, Beginning With Limited High-End Pieces and the Entry of Luxury and Premium Lines and Ending With the Rise of Technically Advanced Products; China Is the Prime Example of an EM at "Tipping-Point" Set to Experience the Rise of an Aspirational Clientele Over the Next Decade Watch Customers Range from Collectors Who Highly Value Fine Craftsmanship to the Newly Enriched Who Place Significant Emphasis of the Value of the Brand's Reputation Watchmakers Can Tap Into These Customers' Core and Extended Motivations and Purchase Criteria to Drive Profits The Watches Industry Structure We Break This Down Into Six Broad Macro-Segments Relative "Google Hits" Size of Coverage Companies' Brands: Mega Brands in Each Brand Portfolio Typically Command More Google Hits Than High-End/Niche Names and Lower-Positioned Premium Names For Example, Cartier (Versus Piaget and Baume & Mercier) at Richemont and Omega (Versus Breguet and Longines) at Swatch Different Segments of the Market Have Adjusted Pricing and Product Feature Priorities Differently in the Last Years of Economic Downturn Despite the Recent Severe Correction in 2009, the Swiss Watches Industry (as Gauged from UN Comtrade's Swiss Export Data to the Rest of the World) Experienced Steady Growth Over the Last Decade, Expanding at a CAGR of More Than 10% in 1998-2008 Swiss Watches Constructed of Precious Metals (a Proxy for HigherEnd Products) Have Outgrown Base-Metal Watches by Circa 350bps During the Last Decade (1998-2009) Selected High-End Watch Brands Have All Seen the Median Price of Their 2010 Newly Introduced Models Exceed That of 2006's Additions At the High End, Minimum-Maximum Price Ranges of Newly Introduced Watch Models Can Vary Dramatically For Example, 2006 Catalogue Additions by Three Key Brands in the Segment Similarly Stretched and Volatile Price Ranges Were Common for High-End Brands in 2010, as They Continue to Introduce UltraComplicated Limited -Edition Models The Evolution of Median Prices of Newly Introduced Models by Higher-Volume Mega Brands Has Been More Diverse as Different Names Have Pursued Different Priorities In 2006, Cartier and Rolex Had a Similar Price Range for Newly Introduced Products But in 2010, Cartier Had Begun to Introduce Extremely High-Priced Watches With Advanced Complications The Median Prices of Newly Introduced Models for Players in the Premium Segment Were Not Materially Different Over the Course of the Recession Especially When Compared to Trends in Other Market Segments Price Ranges of New Watch Models in the Premium Segment Were Not Very Broad to Start With in 2006
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Similar to Median Prices for These Players, Pricing Ranges for Catalogue Additions in the Premium Segment Did Not Change Materially During the Downturn The Number of Complications Seems to Be a Key Determinant of Retail Price for Specific Watch Models at the High End For Example, for Gold-Case Watches at Vacheron Constantin and Patek Philippe, This Relationship Appears to Be Exponential and Watch Complexity Would Seem to Explain About Two-Thirds of Pricing Decisions Watch Brands Across Market Segments Utilize Complications as a Means to Add Value to Their Models; Specialist High-End Niche Typically Opts for the Most Complex and Labor-Intensive Complications (For Example, Tourbillon) to Distinguish the Artisanship of Their Products Vacheron Costantin's Limited Edition Tour De L'ile Cost More Than $1.5 Million and Comprises an 834-Part Movement This $1.5+ Million Watch Has 16 Mechanical Complications In the Premium Segment of the Market, the Number of Complications of Specific Models Also Seems to Be a Key Determinant of Price For Example, Having an R-Squared of 50% at Longines; Yet, the Types of Complications Utilized Are Much Less Advanced Than for High-End Brands (For Example, Chronographs vs. Tourbillons and Retrograde Hands) For Names in the Middle of the Pyramid, Such as Mega Brands (Rolex and Cartier) and Similarly-Priced Luxury Goods Outsider Brands (Bulgari, Herms and Chanel), Watch Complications Do Not Seem to Be a Key Price Determinant (R-Squared Less Than 20%) For These Brands, Watch Cases' Material Would Seem a Much More Important Driver for Pricing Decisions (R-Squared Greater Than 40%, or Two Times That of Complications) On Average, Gold Watches by These Brands Are Circa 5x More Expensive Than Steel Watches, While Platinum/Palladium Models Are About 3x More Expensive Than Gold Ones The Cartier Mega Brand's Premiumization Drive Through the Recent Recession Has Been Achieved Mostly Due to the Inclusion of Highly Advanced Complications (For Example, Tourbillon) Which Have Pushed Prices of Selected Models Above $100,000 (Note: Table Reflects 2010 Catalogue Additions by the Two Brands) Cartier's Ballon Bleu Tourbillon Includes a Subsidiary Second Complication on a Tourbillon Cage Rolex's Yacht Master II Regatta Chronograph Does Not Include Tourbillons, But Does Add Complexity (For Example, Programmable Countdown Function) to the Rolex Range Montblanc: Metamorphosis (With Dual Face) Bulgari: Octo Bi-Retro Harry Winston: Opus 9 Jewelers Such as Bulgari Have Also Started to Use Diamonds and Precious Stones as Dominant Watch Features as a Signature (For Example, Bulgari Astrale) Christian Dior: Christal 8 Chanel: J12 Retrograde Mystrieuse
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Zegna: Centennial (Girard-Perregaux Collaboration) Herms: Carre H Herms Has Crafted More Standard Luxury Timepieces, and Aims to Place an Emphasis on the Quality of Its Brand by Emphasizing Its Leather Credentials and Parisian/Equestrian Roots (2010 Advertising Campaign) Armani Generates Circa 8% of Its Total Revenues from Royalties Related to Licensed Products Such as Cosmetics, Fragrances and Watches Emporio Armani: Classic Round Watch (179) Gucci Timepieces Website Price Range Gucci: G-Frame (Circa $700) and G-Chrono (Circa $4,000) Watches at the Gucci Brand (Particularly Those Sold via the Wholesale Channel) Were a Drag on Top-Line Performance Throughout 2008 and 2009 Initial Signs in 2010 Seemed to Point to a Recovery Urwerk: UR-202 Turbine Regulated Watch ($129,000) MB&F: HM4 Thunderbolt (More Than $150,000) Cabestan: Winch Tourbillon Vertical, Made of 1,352 Separate Components ($275,000-$400,000) Devon Works: Tread 1, to Be Priced More Than $15,000 Is the "Cheapest" of the "Technical Outsiders" Lionel Ladoire: RGT White Gold (Limited Series, 88 Piece) Luxury Goods Distribution Largely Depends on the Product Category, With Hard Luxury Mostly Dependent on Third-Party Retail and Multi-Brand Retail Largely Absent in Leather Goods... Not Surprisingly, the Channel Mix Among the Major Luxury Watch Players in Our Coverage Looks Similar to the Channel Distribution Dynamics of Their Main Product Offerings (Company and Group Level) Dependence on Wholesale Magnifies Consumer Demand Changes, as Wholesale Customers De-Stock and Re-Stock, as We Have Seen in the Recent Slowdown and Rebound Volume of Swiss Mechanical Wrist Watch Exports (000 Units) Dependence on Wholesale Magnifies Consumer Demand Changes, as Wholesale Customers De-Stock and Re-Stock as We Have Seen in the Recent Slowdown and Rebound Value of Swiss Mechanical Wrist Watch Exports (CHF million) This, in Turn, Translates Into High GM% Swings for Swatch And Richemont It Also Translates Into High EBIT% Swings for Swatch And Richemont Watches Are Widely Available Online Through Third-Party Retailers at Substantial Discounts Whereas Handbags Are Only Available Through Official eCommerce Channels Richemont Outlook Commentary on Wholesale Network Patek Philippe's Asian Distribution Strategy Seems a Precursor of a Trend Tighter Wholesale (or Indeed Import) Partnerships Involving a Smooth (Partial) Transition to Mono-Brand Distribution
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Omega Plans Rapid U.S. DOS Expansion in the Next Year Omega Rationale for U.S. DOS Expansion Tourbillon Boutiques: Profile Swatch Brands Available at Tourbillon Boutiques Tourbillon Boutique Store-Front (e.g., Shanghai) Richemont EMs Account for Circa 70% of the Group's WatchBrand Boutique Openings in Roughly the Last Five Years (Including Renovations and Relocations) About One-Quarter of Total Openings Has Taken Place in Mainland China and Circa 40% in Greater China Swatch Omega and Other Higher-End Portfolio Brands (Blancpain, Breguet and Glashutte) Focused on Asia Ex-Japan, Russia, and the Middle East for the Bulk of Their 2009 Direct Store Openings Watches Distribution in Mainland China: Our City-Level Analysis Suggests That (1) the Total Absolute Number of POS Decreases as We Move Up the Pricing Ladder and (2) Directly Operated Stores Are Used Most Heavily by "Middle-Ground" Players (That Is, High-Priced Premium [For Example, Omega] and Luxury Names Priced at Circa 5,000 [For Example, Cartier), With the Important Exception of Swatch in the Accessible Range (at Less Than 1,000) Omega Has a Higher Absolute Number of Retail Doors Than Cartier, LV and Gucci, But Our Analysis Shows That the Number (and the Names) of Cities Covered by Its Network Are Relatively Similar China's Macro-Regions Account for a Similar Percentage of DOS for LV/Gucci (Leather) and Omega/Cartier (Watches) East Plus South Account for Circa 50-55% Across Brands However, Much More Capillary Presence Is Achieved by Omega When Authorized Third-Party Retailers Are Taken Into Account, Both vs. LV and vs. Cartier Following a Tenuous Period in the 1970s Amid the "Quartz Revolution," the Swiss Watch Industry Has Rebounded; Total CH Watch Exports Including Mechanical (About Two-Thirds) and Electronic (Less Than One-Third) Wristwatches and Movements Have Grown at CAGRs of +5% in the Last 25 Years and +3% Over the Last 15 Years CH Watch Exports Mechanical Watches Experienced a Material Decline (Value) Amid the "Quartz Revolution" CH Watch Exports Electronic Watch Exports (Value) Rapidly Expanded as the Category Developed Wristwatches Priced at More Than CHF3,000 Have Seen Their Share of Total Export Value Increase by More Than 25 Percentage Points in 2000-09 (From 32% to 58%) The Volume Share of Watches Priced at More Than CHF3,000 Has Doubled from 2% to 4% During the Same Period Since the Mid-1980s, the CH Watch Industry's Employment Figures Have Been Relatively Stable Similarly, Following the Dramatic Decline in the 1970s, the Number of Watchmaking Companies Has Leveled
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Though FTE Growth Has Been Moderate, Productivity as Measured by Export Value/FTE Has Experienced a Massive Increase We Would Anticipate the Global Watches Market to Accelerate Its Growth Over the Next Five Years Driven by Expanding EM Markets Demand Swatch Is the Dominant Producer of CH Mechanical Movements (For Example, Those Incorporated Into Luxury Watches) Including Both In-House and Third-Party Sales, Swatch Constitutes About 70% of CH Mechanical Movements (Volume) Swatch Controls an Even Greater Portion (Circa 80%) of the Quartz Movement Market (In-House Plus Third-Party Using Swatch Movements) The Valjoux 7750 (ETA) Was Introduced in 1974 and Has Become Commonplace in "Modestly Priced" Chronographs for Swatch InHouse and Third-Party Brands The Swiss Watch Industry Is Primarily Located in the Western Cantons Swiss Watchmaking Is Geographically Concentrated With Circa 95% of All Employees Located in the Jura Mountains ("Watch Valley") Since 1999 the Concentration of Employees in the Jura Mountain Region Has Increased by Circa 400bps We Estimate That About One-Third of Total Swiss Watchmaking Employees Either Work for the Swatch Group or for the Roughly 10 of the Other Largest Manufactures in CH Swatch Has the Most Extensive Network of Production Facilities in Switzerland, Across Various Manufacturing Districts Swatch's CH-Based Production Assets Combined With Strict "Swiss Made" Requirements Create a Competitive Advantage Significant Time and Costs Are Required to Be a Successful Stage C and D Player To Maintain Its Leading Position in Watch Production, Swatch Group Spends Circa 8% of the Division's Sales on Further Investment (Cumulative Circa CHF600 Million in the Last Five Years) Cartier's Integrated Production Facility Required Significant Investment (in the 2000s), Yet Provides the Company With a Highly Productive and Flexible Manufacturing Platform Low Cost Movements Are a Scale Game For Example, Order Flow for Cheap Movements in the Asian Market Is Massive and Only Yields Minimal Profits Even at Relatively Higher Price Points in the CH Mechanical Market, Movement Manufacture Is a Semi-Industrialized Process High Volumes and "Swiss Made" Positioning Help Drive Swatch Brand Profitability An Industrialized Production Scheme With Low Costs Is Necessary Over the Last Decade, Vertical Integration Has Been Particularly Common at the High-End Price Segments
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Some Companies Are Pursuing a Hybrid Strategy Within the Last Five Years, Panerai Has Introduced Complicated In-House Movements for Its High-End Timepieces While Utilizing an ETA Base Caliber for Its Lower-End Models; Most Recently, It Has Introduced a "Simpler" In-House Caliber for Its Higher-Volume Luminor 1950 Series Brand: TAG Heuer Aquaracer 500M Calibre 5, $2,450; Movement: TAG Heuer Caliber 5 (Base ETA 2824-2) Brand: Cartier Santos 100 Carbon Chrono, $14,350; Movement: Cartier 8630 MC (Base ETA Valjoux 7753) Swatch Has Steadily Reduced the Percentage of Movements (Value) That It Sells to Third Parties; Moreover, Swatch Has Stated It Intends to Halt External Sales of "Blanks" in 2011 Swatch's Actions Could Potentially Help Stabilize Margins Going Forward and Make Order Cancelations and Swings in Capacity Utilization Less Volatile Industrial Production Companies Have Become More Prominent Over the Past 10 Years and Could Potentially Offer a Partial Alternative to ETA-Type Movements, Particularly at the Mid-toLower End Range Alternatives to ETA Supply Concerns Sellita Alternatives to ETA Supply Concerns Soprod Alternatives to ETA Supply Concerns Technotime Alternatives to ETA Supply Concerns Fleurier Ebauches The MTR 312 Represents the Type of Automated Machinery Chopard's Fleurier bauches Currently Employs in Its New Production Facility, Which Aims to Further Industrialize the Process of Manufacturing bauches Some Chinese Manufacturers Are Moving Up-Market With Mechanical Movements Though Anecdotal Evidence Points to Lower Quality Levels vs. CH Manufacturers Luxury Competition from Asia Still Has a Ways to Go Despite Selected Players (For Example, Shanghai) Attempting to Span a Broad Price Offering Watches Jobs and Typical Qualification Required by Stage of Manufacturing Swiss Watchmakers Require Levels of Qualification That Necessitate Meaningful Lead-Time We Estimate the Global Jewelry Market at 136 Billion as of 2009, Subdivided Into a Circa 105 Billion Mass Market and a Circa 31 Billion Luxury Segment; High-End Luxury Jewelry Likely Represents Less Than One-Third of Luxury Sales, Worth Circa 7 Billion Only Circa 5% of Global Jewelry Is Estimated to Be Branded; The Proportion Is Only Slightly Higher (Circa 12%) in the High-End Segment (Which Accounts for Circa 5% of Total Sales) High-End Jewelry Appears Underpenetrated by Brands The Percentage Weight of Brands (12%) Is Much Lower Than for High-End Watches (50%) and Perfumes (80%) EMs Account for About One-Half of Global Jewelry Expenditure Across Price Points, With About One-Third Generated in Asia Ex-Japan and Circa 14% in Middle East/Africa
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India, Greater China, the Middle East, and Russia Jointly Account for Circa 65% of Overall Gold Demand for the Jewelry Industry In Volume and Value Terms The Americas Represented (as of 2007) the Largest End Market for Diamonds, Accounting for About One-Half of Global Diamond Sales, Followed by Japan and Europe Gold and Diamond Jewelry Accounted for More Than ThreeQuarters of Global Value-Terms Sales in 2008; Other Precious Metals e.g., Silver, Platinum and Palladium and Gemstones for Less Than One-Quarter In the United States, the Mix Would Seem Similar, With Gold and Diamond Jewelry Accounting for Circa 60% of Total Women Are the Key Consumers in the Global Jewelry Market Representing 90% of Demand (Self and Gifted) U.S. Market Details on "Occasion of Use" Provide a Glimpse of the Percentage Weight of Bridal Merchandise in Overall Jewelry This Represents More Than One-Third of Total Sales Luxury Jewelry Is the Realm of Richer Consumers As High-Net-Worth Individuals Account for 75% of Luxury Jewelry, Compared to Circa 40% for Luxury Leather Goods The Broader Jewelry Market Has Grown at a (Currency-Neutral Terms) CAGR of +2.6% in the 2000-09 Period and We Would Expect It to Grow by a CAGR of +3-5% Over the Next Five Years Commodity Input Prices (Key Precious Metals) Rebounded from 2008 Lows, Especially Gold and Silver Palladium Is Cheaper by Default and Has Risen Less in the Last Two Years Consumer Prices for Jewelry in the EU27 and China Have Experienced Robust YoY Growth as Input Prices Rose The Growth Rates We Describe in Value Terms Should Be Qualified Higher Input Costs Can Support Value Progression Despite Falling Volumes, Even for a Decade, as Exemplified by Trends in the Demand for Gold by Jewelry Rising Commodity Prices Have Triggered (1) Renewed Focus on Input Costs Among Jewelry Manufacturers and (2) a Degree of Substitution of Gold, Platinum and Diamonds With Palladium and Titanium, Where Possible The "Luxury" Segment of the Market Has Outpaced "Mass Market" Price Points in 2005-09 by Circa 250bps and Is Expected to Grow at a Circa 500bps Delta in 2009-15E (Both in Currency-Neutral Terms) The More Narrowly Defined High-End Segment (Estimated 5% of Total Jewelry Sales, at 7 billion in 2009) Has Grown at a CAGR (Euro Terms) of Circa +3% in the 2005-09 Period YoY Growth in High-End Jewelry Seems to Magnify Swings in Overall Global Luxury Demand: It Outpaced the Overall Sector in the 2004-08 Period But Underperformed in the 2009 Trough Year EMs in Asia-Pacific and the Middle East Have Grown Their Joint Share of Overall Jewelry Spend by Circa 10% Since 2005 (+7% Asia, +3% MEA); We Expect Asia to Continue Capturing Share Over the Next Five Years
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Jewelry Channel Mix Overview: Independent Retail Is Most Prominent in India; the United States Is at the Opposite Extreme With Extensive Inroads by Discounters, Such as Generalists, Television Channels and Online Purists In the United States, Specialists Account for About One-Half of Total Jewelry Sales; General Merchandisers Make Up About One-Quarter Online Was Estimated to Account for Circa 7.5% of Total US Jewelry Sales in 2007 (Growing at Circa +20% YoY on 2006) Wal-Mart Is the Largest Player in U.S. Jewelry (4.6% Share in 2006), Ahead of Specialist Retailers Sterling (Signet at 4.2% Share), Zale and Tiffany's Top Two Players Jointly Captured Circa 9% of U.S. Jewelry Sales (in 2006), With the Circa 90% Balance Including Several Large Specialists This Points to a Degree of Concentration But Organized Retail Is Not Always the Norm For Example, in India, 96% of Distribution Is Carried Out by Family Shops in a Heavily Fragmented Marketplace Profile of Blue Nile A Prominent Example of an Online Purist Operating as a Specialist Jeweler Profile of Gitanjali (India) Profile of H.Stern (Brazil) Within Our Direct Coverage, Richemont Generates by Far the Highest Percentage of Total Revenues from Jewelry In Terms of Euro Sales, Richemont Is Also the Largest Jewelry Player in Our Coverage, Even When Compared to Other Key Non-Coverage Comps, Namely Bulgari and Tiffany's Key Jewelry Brands at Coverage Companies (and Key Comps Bulgari and Tiffany's) Selected Jewelry M&A Transactions Branded Retailers Operate With the Highest GM% As Expected With Value Players at the Opposite Extreme; Vertical Integration Into Retail Is No Guarantee for Better EBIT%, Though, as We Have Seen in Other Luxury Categories Swatch Group Activities Swatch Selected Acquisition, Investment and Disposal History Historical Total Group Swatch Net Sales (Including Eliminations) Historical Net Sales by Division (Before Eliminations) Historical Profitability by Division (Since 1997) Return on Net Assets: Watches & Jewelry Division Return on Net Assets: Production Division Return on Net Assets: Electronics Systems Division The Majority of the Total FCF Is Generated by the Watches & Jewelry Division; FCF Generation Was Hampered at the Beginning of the Recent Recession Due to Unfavorable Working Capital Swings Swatch Generates a Greater Proportion of Its Sales From Mid-ToLow-Priced Brands Luxury Market Growth Correlates Strongly With World GDP Growth Group EBIT Margin vs. GDP Growth
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Watches & Jewelry EBIT Margin vs. GDP Growth Group EBIT Margin vs. Swiss Watch Export Growth Watches & Jewelry EBIT Margin vs. Swiss Watch Export Growth Group EBIT Margin vs. Luxury Market Growth Watches & Jewelry EBIT Margin vs. Luxury Market Growth Swatch Is More Exposed to the Watch Retail Channel than Richemont Though the Mix Varies Among the Swatch Brands Most Exposed to the Retail Channel Retail Footprint by Brand (as of Apr-09): The Swatch and Omega Brands Are Primarily Concentrated in Europe and Asia With Approximately 15% of All Swatch Stores Based in Italy and China Playing a Material Role in Each Case The Omega Brand Has Leveraged Both the DOS and the Franchise Model to Grow Its Retail Footprint Over Time Swatch's Overall Retail Footprint Is Large and Has Grown More Rapidly in Recent History Market for Watch Movements By Value Market for Watch Movements By Volume The Majority of Swatch's Production Facilities Are Located in Switzerland, Especially in the Western Region Production EBIT Margin vs. GDP Growth Production EBIT Margin vs. Swiss Watch Export Growth Production EBIT Margin vs. Luxury Market Growth Production EBIT Margin vs. Swiss Watch Export Growth (HighEnd Luxury: More Than CHF3,000) Production EBIT Margin vs. Swiss Watch Export Growth (Exclusive Luxury: CHF500-3,000) Production EBIT Margin vs. Swiss Watch Export Growth (Affordable Luxury: CHF200-500) Production EBIT Margin vs. Swiss Watch Export Growth (Mass Market: CHF0-200) Since 2006, Swatch Has Been Able to Significantly Boost Production Division Margins as Demand for Mechanical Watches and Movements Increased The Company has Experienced a Rise in Levels of Semi-Finished Goods (Including Components) As Well as a Large Increase in Finished Goods by the End of 2008 SGES Is Composed of Seven Separate Companies That Cater Mainly to Industries Other Than Watch Manufacturing Electronics EBIT Margin vs. GDP Growth Electronics EBIT Margin vs. Swiss Watch Export Growth Electronics EBIT Margin vs. Luxury Market Growth Global Handset Volume Growth vs. SGES Sales Growth Western Europe Handset Volume Growth vs. SGES Sales Growth SGES Sales Growth Has Followed a Similar Pattern as Global Handset Volume Growth (Further Detail)
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SGES Sales Growth Has Been More Volatile Than Total Passenger Car Volume Growth, Though the General Pattern Is Relatively Similar Global Passenger Car Volume Growth vs. SGES Sales Growth (2000-08) Global Light Commercial Vehicle (LCV) Volume Growth vs. SGES Sales Growth (2000-08) Hard Luxury Players, Swatch and Richemont, Have the Highest Exposure to Asia Swiss Watch Export Growth in Asia Has Continued to Outpace Other Countries in 2010 Among the Hard Luxury Players, Greater China Constitutes a Larger Proportion of Sales for Swatch We Expect 2009-11E Retail Store Growth of Circa 20% for Hard Luxury Names (vs. Low-Single-Digit Percentage Store Expansion in Global Ex-China) and Circa 15% for Soft Luxury (vs. Circa 510% in Global Ex-China) We Expect 2009-11E Retail Store Growth of Circa 20% for Hard Luxury Names (vs. Low Single Digit Percentage Store Expansion in Global Ex-China) and Circa 15% for Soft Luxury (vs. Circa 510% in Global Ex-China) Hard Luxury Remains Much More Skewed Toward the Wholesale Channel This Channel Represents Circa 90% for Swatch's W&J Division and Circa 60% for Richemont as a Whole vs. 1030% for Leading Soft Luxury Brands Xinyu Hengdeli's Recent Years Have Been Marked by Increasingly Closer Ties With the Swatch Group, Both in Terms of Equity Ownership and in Terms of Retail Development via Their 50:50 JV; LVMH Has Also Grown Closer to the Leading Chinese Distributor Over the Past Few Years Hengdeli's Top-Line Growth Has Averaged Circa 23% Since 2002 Moreover, Hengdeli's EBIT Has Expanded from HK$50 Million in 2002 to HK$660 Million in 2009 Xinyu Hengdeli's Retail Footprint of 270 Stores in Greater China (224 Mainland China) Stretches Across the Country via Multiand Monobrand Stores Xinyu Hengdeli Distributes About 50 Watch Brands Through Its Retail Network in China (Ex-Hong Kong) The Company Also Has More Than 300 Wholesale Customers in More Than 40 Cities Across China and Distributes 20 Watch Brands (18 on an Exclusive Basis) Xinyu Hengdeli Has Rapidly Expanded Its Retail Operations Relative to Wholesale Since 2004 Swatch and LVMH Both Have Circa 10% Equity Stakes in Hengdeli Xinyu Hengdeli's Outlets Cater to a Range of Customers: Temptation (Mid-High Fashionable), Hengdeli/Prime Time (MidHigh Full Range), Elegant (Highest) More Than 75% of Xinyu Hengdeli's Retail Outlets in Mainland China Are Hengdeli/ Prime Time, Positioned at the Mid-to-High Range The Company Cites Relatively Lower Demand for High-End Watches vs. Hong Kong
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Swatch Brands Span from Breguet to Flik Flak This Should Give Swatch a Better Opportunity to Capture a Massive Aspirational and Accessible Luxury Demand Wave That We Expect to Come from China Richemont Does Have Lower-Priced Alternatives, Though Are More Focused on the Very High End Increasing Inventories at the Beginning of the Recent Recession Were to Blame for Increases in Net Working Capital at Swatch and Subsequent Effect on Cash Flow An Analysis of Richemont's Working Capital Details Points to a Similar Inventory Build-Up in 2007 and 1H:08 Swatch Has Exhibited Operating Leverage of More Than 2x Since 2003 Luxury Players Seem to Have a Higher Degree of Operating Leverage vs. Mass Fashion Competitors Swatch Has Not Managed to Capture Material SG&A Leverage Over the Past Five Years Though the Company Has Been Able to Realize Operating Leverage on Wages and Salaries (Circa 25% Sales) EBIT Sensitivity to Volume Growth at +5% Price Growth At Swatch, Costs as a Percentage of Total Sales Have Been Increasing Since 2007 Material Purchases Rose as a Percentage of Total Swatch Costs, But in 2009 They Fell Materially During the Recession, Personnel Expenses Were Kept in Check and Actually Declined from 2008 to 2009 Strong Swiss Watch Export Growth Across Watch Price Points in 2010 Provide an Opportunity for Swatch to Follow a V-Shaped EBIT Rebound In 2009, the Largest Proportion of Swatch's Costs Were Personnel Expenses Other Operating Expenses* and Material Purchases Also Represent Significant Costs For Precious Metal Watches (Illustrative Example), Movements and Raw Materials Constitute the Bulk of Costs Theoretical Impact of Gold Price Volatility on Swatch EPS However, Over the Last Five Years, Gold Spot Price Appreciation Has Not Necessarily Meant GM% Contraction Richemont Group Structure, March 1996 Brands by Division, 2010 Richemont Group Operating Results FY95-FY08 Revenues by Geography Richemont Group, 1998-2008 Overview of Significant M&A Activities Divisional Revenues and Operating Profits FY03 and FY07 Product Mix by Division FY07 Operating Profit and Margin by Division. FY02-FY08 BCG Matrix Richemont by Product Category Return on Net Assets by Division Cash Generation by Division, FY05-FY07 SG&A as a Percentage of Revenue by Luxury Company Average List/Recommended Retail Prices by Brand Average List/Recommended Retail Prices Limited Edition
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Watch Market Positioning by Price Category by Brand Richemont Adjusted Revenue Growth vs. OECD GDP Growth LVMH Revenue Growth vs. OECD GDP Growth Swatch Adjusted Revenue Growth vs. OECD GDP Growth Richemont Group Operating Profit Growth vs. OECD GDP Growth Specialist Watchmakers Revenue Growth vs. OECD GDP Growth Richemont Watches Adjusted Revenue Growth vs. OECD GDP Growth Jewellery Maisons Revenue Growth vs. GDP Growth in OECD Richemont Jewelry Revenue Growth vs. OECD GDP Growth Swatch Watches and Jewelry Revenue Growth vs. OECD GDP Growth LVMH Watches and Jewelry Revenue Growth vs. OECD GDP Growth Specialist Watchmakers Operating Profit Growth vs. OECD GDP Growth Operating Margin Comparison: Specialist Watchmakers vs. Swatch W&J and LVMH W&J FY02 to FY07 Jewellery Maisons Operating Profit Growth vs. GDP Growth in OECD Capital Expenditure in Watches and Jewelry Operating Cash Flow by Group News Search Shows Expansion in Manufacturing Capacity and Downward Integration And M&A of Brands (Before the Onset of the Recent Recession) Revenue as a Percentage of Group FY02 to FY08 Operating Profit as Percentage of Group FY02 to FY08 Operating Margins FY02 to FY08 Revenue as a Percentage of Group FY03 to FY08 Revenue as a Percentage of Group FY03 to FY08 Operating Margin by Luxury Brand FY02 to FY08 Operating Profit Forecasts: Leather and Accessories Maisons FY05 to FY08 Net-a-Porter Is Regarded as a High-Profile Success Story Among Pure-Play Internet Ventures in the Luxury Goods; as of Apr-10, It Is Part of Richemont Group Watches and Leather Goods Are More Consolidated Than Categories Such as Shoes and Fashion Scale and Multi-Brand Presence Can Help Boost Specific Aspects of the Watch Value Chain R&D, Manufacturing, Wholesale and After-Sales Are Areas That Are Particularly Relevant for Hard Luxury Watch Brands Positioning by Price Category Relative Size of Watch Divisions Swatch, Richemont and LVMH
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LVMH's Watches & Jewelry Operating Margin Has Historically Lagged Richemont's and Swatch's; While This Lag Has Recently Reduced, It Still Extends to Between 500 bps and 1,000 bps Return on Net Assets at LVMH's Watches & Jewelry Division Lags Richemont's (Specialist Watchmakers) and Swatch's (Watches and Jewelry) by Circa 15% and 20%, Respectively In Key Growth Markets Such as China, LVMH W&J Brands Appear to Trail Richemont and Swatch in Top-of-Mind We Have Observed a Satisfying Relationship Between Brand Sales and Google Hits We Have Used This High-Level Relationship to Estimate the Relative Size of Independent Watches Brands for Which No Public Data Are Available Richemont and Swatch Brands (Group A) Along With Large Private Brands Such as Rolex and Patek Philippe (Group B) Are the Dominant Forces in the Watches Market Aspiring Challengers Such as LVMH (Group C) Do Have Some Scale, Though Most Companies in This Subset Are Relatively Small in Comparison to Group A and B In Aggregate (of Groups A, B and C), the Swatch and Richemont Watch Portfolios Generate Circa 50% of Google Hits With Patek Philippe and Rolex Generating Circa 10% Group D Small and Medium-Size Independent Watch Players We Have Categorized Watch Brands Into Relative Sizes Based on a Combination of Google Hits and Public Disclosures A Cutoff of Circa 1 Million Google Hits Distinguished a "Large" Brand from a "Medium' Brand," Though We Placed Several Names With More Than 1 Million Hits Into the "Medium" Category Based on Our Best Estimates We Considered Brands "Small" and "Very Small" If the Number of Google Hits Was Less Than 530,000 or Less Than 100,000, Respectively The Two Hard Luxury Champions, Richemont and Swatch, Have Not Participated in Major Watch-Related M&A in Recent History For These Players, M&A Has Been Primarily Utilized in Recent Years to Bolster Production Capabilities Roger Dubuis Continues to Generate Losses Following Its Acquisition by Richemont in Aug-08 Bulgari: Share Outstanding Pre-Transaction LVMH: Share Outstanding Post-Transaction LVMH/Bulgari Overall Transaction Structure LVMH/Bulgari Implied EV-to-LTM Multiples
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RISKS
Risks to achieving our operating forecasts could prevent the stocks from achieving our price targets. In the case of European luxury goods, sales would be negatively impacted by the occurrence of a double-dip slowdown in global economic growth. Though the Asia-Pacific region remains strong, a rebound in other large markets such as the United States has begun to emerge; a loss of momentum on this front could mitigate the overall picture of a global uptick. On the other hand, faster-than-expected growth in the most hard-hit regions could present upside risk, as positive worldwide GDP growth tends to benefit luxury goods stocks as a whole. Any unforeseen event significantly disrupting travel patterns terrorism, epidemics, war, etc. would act as a sharp negative on the stocks and the luxury sector (as we saw very clearly in 2003), plunging luxury stocks' relative PEF below the historical long-term correlation to luxury growth demand. Moreover, an extension of the EU's "trademark exhaustion" principle (embedded in EU regulation 40/94) to non-EEA developed markets where our coverage companies engage in active price differentiation could still erode luxury margins significantly.
M (IC) 04/24/09
Rating Guide: O - Outperform, M - Market-Perform, U - Underperform, N - Not Rated Rating Actions: IC - Initiated Coverage, DC - Dropped Coverage, RC - Rating Change
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CERTIFICATIONS
I/(we), Luca Solca, Senior Analyst(s)/Analyst(s), certify that all of the views expressed in this publication accurately reflect my/(our) personal views about any and all of the subject securities or issuers and that no part of my/(our) compensation was, is, or will be, directly or indirectly, related to the specific recommendations or views in this publication.
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