China's Luxury Sector: Is the Open Door About to Get Wider?
Chinese authorities may soon make another significant step in China’s shift
from being the global manufacturing hub to becoming the world’s biggest
consumers market. During a press conference held in Beijing last 15 June, Yao Jian, the
spokesperson of China’s
Ministry of Commerce (MOFCOM) announced the upcoming reduction of import duties
on luxury goods. If implemented, this reduction is likely to further boost
sales of luxury goods in China
and accelerate the achievement by the Middle Kingdom of the title of biggest
luxury market in the world.
1. China’s luxury market
The potential for further
growth in China’s luxury sector is
immense: the combination of China’s 1.3 billion
population (of which more than 250 million can be qualified as middle class)
with rapidly rising income and disparity in wealth distribution make China the El Dorado of luxury brands. A report released by
consulting firm McKinsey &
Company[1] last May contained stunning figures on
the current status of China’s luxury market and showed a bright future becoming
reality at an increasing speed. The main points of such report can be
summarised as follows:
¡¤ China luxury market is expected to
reach an annual turnover of more than Euro 20 billion by 2015, accounting for
over 20% of the global market, overtaking Japan as the world’s largest luxury
market;
¡¤ The three categories of products
representing the biggest share of China’s luxury sector and its
future growth are watches, jewels and leather products;
¡¤ Western luxury brands are expanding
their presence, both in number of retail points and cities/provinces covered,
at an increasing speed;
¡¤ Luxury consumers in China are
significantly younger that their Western peers, with 45% of them having an age
comprised between 18 and 34 years.
2. The regulatory and
tax framework of China’s luxury
sector
The retail sector has been
subject to a rapid and substantial liberalization, with foreign investors
currently enjoying an almost boundless freedom to structure their China operations, in terms of geographical
locations, number of retail points and legal structures of the operations.
We provide a summary of the
three most common legal structures used by foreign investors in their retail
operations in China,
with the relevant pros and cons:
|
STRUCTURE
|
+
|
-
|
|
Wholly foreign owned enterprise
|
Rapid set up procedure (in most cases local
authorities are in charge of the approval, which approval can be obtained in
less than 8 weeks)
Wider freedom in managing the Chinese
operations
|
Necessity to build a retail/sale network and
client base from scratch
|
|
Franchise
|
Lower costs and business risk
|
Material risks of IP infringements or frauds
by the franchisee
|
|
Joint Venture
|
Possibility to leverage the experience and
connections of the local partners (e.g., lower rent costs, smoother
relationships with local authorities)
|
Higher risks of IP infringements
Lower degree of freedom in managing the
Chinese operations
|
The second biggest obstacle,
after IP infringements, encountered by Western luxury brands operating or
interested in operating on the Chinese market is represented by the heavy
taxation of luxury products.
In line with the socialist
spirit maintained throughout the thirty years of Chinese reforms, the ban on
the import of luxury products has been replaced over the time by high tariffs
on the imports of such goods, with rates adjusted (increased or decreased),
depending on the attitude of the rule makers in Beijing. Products such as
French cosmetics, Italian leather handbags or Swiss watches are subject not
only to VAT and consumption tax (similarly to the same products manufactured in China)
but also import duties with rates ranging between 5% and 50%.
In order to provide a rough
idea of the taxation imported luxury goods are subject to under Chinese tax
regulations, we provided in the chart below some examples summary of the three
most common[2]:
|
PRODUCT
|
Vat[3]
|
Consumption
tax
|
Import
duty
|
Total[4]
|
|
Luxury cars
(cylinder capacity ¡Ã4L)
|
17%
|
40%
|
25%
|
82%
|
|
Cosmetics
|
17%
|
30%
|
25 ¡ 50%
|
72% ¡ 97%
|
|
Yachts
|
17%
|
10%
|
10%
|
37%
|
|
Golf equipment
|
17%
|
10%
|
10% ¡ 14%
|
37% ¡ 41%
|
|
Leather bag
|
17%
|
0%
|
17%
|
34%
|
|
Jewellery and precious stones (other than gold, silver, platinum
and diamond)
|
17%
|
10%
|
8% ¡ 24%
|
25% ¡ 41%
|
|
Gold, silver, platinum and diamond
jewellery
|
17%
|
5%
|
10% ¡ 35%
|
31% ¡ 56%
|
3. MOFCOM’s
announced measures
During a press conference held
in Beijing last 15 June, MOFCOM announced some
significant changes, in the direction of a general reduction of import duties
on luxury goods. In the same conference, MOFCOM released the results of a
survey on 20 luxury brands of different products (e.g., watches, suitcases,
clothes, wine and electronics) showing that prices of such products in China
are 45% higher than in Hong Kong, 51% higher than in the United States, and 72%
higher than in France. These figures have attracted the attention of Chinese
officials as an increasing number of Chinese travels to Hong Kong or Europe solely or mainly in order to buy luxury goods such
as jewels cosmetics or high-end fashion brands. The overall amount of renminbi leaving the country each year to be
spent in upscale shops and boutiques Hong Kong, Paris, Milan or New York is
reaching astonishing figures: in Europe alone, Chinese tourist are reported to
have spent more than Euro 150 million shopping in 2010. Also in order to drain
such outflow of money and boost internal consumption, Chinese authorities now
decided to lower the consumption tax rates.
Based on the information
released by MOFCOM, in the coming months import duties will be lowered so as to
have all rates comprised between a minimum of 2% and a maximum of 15%.
4. Conclusions
Few doubts seem to exist on
the fact that China will soon become the most important
market in the world for luxury goods. This should occur in 2015,
a few years
before overtaking the United
States as biggest economy in the world by
GDP. However, the combination of economic (increasing number of Chinese able to
afford luxury goods) and regulatory factors (such as higher compliance and
enforcement in the field of IP rights and a reduction of taxes and duties
targeting luxury goods) may further accelerate this trend and making inevitable
for luxury brands to put China at the centre of their business strategies.