|Chow Tai Fook, Hong Kong.
After 83 years in business as a privately held enterprise,
Chow Tai Fook sold off 10.5 percent of its company in the closing days of 2011
to raise expansion capital that will assure its continued dominance of the
jewelry industry in China. With the Initial Public Offering (IPO) completed on
December 15, 2011, in Hong Kong, the jewelry giant cast the ultimate vote of
confidence in the potential for continued growth of the Chinese economy and in the Chinese consumer’s appetite for luxury goods. The
move also signified the company’s confidence in its own ability to accurately
assess the mind-set of the Chinese consumer and to design and market jewelry
that will appeal to new customers and further increase market share.
Family-owned Chow Tai Fook was built by Cheng Yu-Tung, now
86 and ranked by Forbes magazine as Hong Kong’s fourth-richest individual in 2011.
Although his gold and jewelry stores were the source of his earliest wealth and
have been a great source of profits in recent years, some of Cheng’s estimated
fortune of $16 billion is from property and real estate investments held by New
World Development Co., a holding company he founded in 1970. In addition, Cheng
holds a share of and is a nonexecutive director of Stanley Ho’s Macau gambling
conglomerate SJM. Cheng’s son, Henry, and grandchildren, Adrian and Conroy,
hold executive positions in Chow Tai Fook.
With this recent public offering in the jewelry group, the
family enterprise issued 1.05 billion shares at $1.93 each, the low end of the
pre-offering estimate of $1.93 to $2.70 per share. The $1.93 price was seen by
investment analysts less as a reflection of the appeal of the company — which
is an established, respected brand in China — and more as a sign of the overall
negative impact of the volatile global economy on investor appetite for risk.
Other companies’ IPO share prices also came in at the low end of estimates in
Hong Kong in 2011 and some companies even pulled their offerings due to lack of
A sale at the high end of the estimate would have netted
Chow Tai Fook $2.83 billion in proceeds, compared to the $2 billion raised. The
offering established an overall value of the company of around $19 billion on
the IPO date, more than twice the market capitalization of Tiffany & Co. at
that time. It is trading on the Hong Kong Stock Exchange under the symbol 1929,
the year the company was founded. In the weeks following the IPO, the stock’s
price traded from a high of $1.95 on January 26 to a low of $1.52 on April 5.
CAPITAL TO EXPAND
In wooing potential investors prior to the IPO, the company
announced that approximately 50 percent of the proceeds would be used to
finance a rapid expansion of the already-dominant Chinese jeweler that would
increase its number of retail outlets by 200 annually to reach 2,000 stores by
2016. Chow Tai Fook currently has approximately 1,600 retail outlets in over
320 of China’s 712 cities.
Approximately 5 percent of the capital raised by the IPO
will renovate existing sales outlets and acquire other wholly owned points of
sale (POS) locations, 2.5 percent will be spent on production and research and
development equipment and another 2.5 percent for construction of a new office
building in Shenzhen, scheduled for completion by the end of 2013. An
additional 36.5 percent will be used to pay down outstanding loans related to
working capital and the IPO expenses.
A HIGH PROFILE AT HOME
Sometimes referred to as Asia’s Tiffany & Co., Chow Tai
Fook is a household name in China but relatively unknown in the global market.
It is the leading jeweler by market share, with a 12.6 percent share in the
People’s Republic of China (PRC) and a 20.1 percent share in Hong Kong, Macau and
other Asian cities, according to Frost & Sullivan, a global market research
firm, in a report commissioned by Chow Tai Fook in advance of the offering.
Initially, the company capitalized on the allure of gold in
the Chinese culture, where it is not only a show of wealth but also a
traditional gift to mark special events. Today, the company manufactures and
sells mass-market and high-end luxury products, including jewelry set with diamonds
and gemstones, gold jewelry and gift items and watches. Its largest market is
the PRC, accounting for approximately 55.6 percent of its $4.5 billion in
annual sales, followed by Hong Kong, Macau and other Asian markets, with a 44.4
percent share. The mass luxury segment accounted for 56.7 percent of the PRC’s
overall jewelry market in 2010, with retail sales of $22 billion. And it is
expected to grow at a compound annual growth rate (CAGR) of 39.1 percent from
2010 to 2015 to reach $114 billion by 2015.
GROWING IN TANDEM
China and Chow Tai Fook are closely connected by the fact
that the country and the company have traveled parallel growth paths — almost
in lockstep — in recent decades. China’s gross domestic product (GDP) is
expected to rise by 13.5 percent CAGR between 2010 and 2015 and its retail
spending on consumer goods by 20.5 percent CAGR to reach $6 trillion by 2015.
Likewise, Chow Tai Fook has seen high single-digit and low double-digit
increases in its own CAGR in recent years. The fact is that everything that has
been good for the Chinese economy and Chinese consumers has been very, very
good for Chow Tai Fook.
James Roy, senior analyst, China Market Research Group
(CMRG), a market intelligence firm headquartered in Shanghai, said “We are very
positive about Chow Tai Fook’s growth prospects in China for the next few
years. More than any other jewelry retailer, they have been very successful at
gaining widespread retail penetration in China and they have a very prominent
place in consumers’ minds. That is due to the coverage of their physical retail
locations and their prominent signage in practically every Mainland Chinese
city. They’ve used a franchising model to expand, which means that they have
been able to open a large number of stores very quickly. And they’ve been able
to secure not just any location but the key areas in each city where people
really go to buy jewelry. Other Hong Kong chains haven’t had quite the level of
success in expanding as widely or getting as many key locations as Chow Tai
Against the recent backdrop of global economic turmoil and
retailer retrenchment, the Chinese government and Cheng have successfully
ridden a wave of GDP gains, a rising middle class and a voracious appetite by Chinese
consumers for luxury goods. Far outpacing any other country on growth, China’s
GDP has ranged from 9.1 percent in 2002 to a projected 7.5 percent in 2012.
During six of those years, the gains were in double digits.
Even though world financial markets panicked a bit in April
2012 with the news that the country’s growth eased to 8.1 percent year to year
in 2012’s first quarter — down from 8.9 percent the previous quarter and the
slowest growth since the second quarter of 2009 — most analysts were optimistic
that the pace of growth would resume once the government fine-tuned its
monetary policies. In fact, some of the slowed growth was attributed to recent
government moves to control inflation.
What is almost revolutionary about Chow Tai Fook’s current
expansion plans is that it appears to have no intention of locating its new
stores or fueling its future growth outside the geographic boundaries of the
Great China Region, which includes the PRC, Hong Kong and Macau. But then, why
should it? The forces that have fueled past growth appear to have put the
company on a trajectory for continued success going forward.
FACTORS FUELING GROWTH
A variety of factors have fueled Chow Tai Fook’s rapid
expansion and continued profitability.
Urbanization. The Chinese government, in its most recent
five-year plan for the years 2010 to 2015, is emphasizing decreased reliance on
exports and increased consumer consumption in the country’s smaller cities
toward its goal of what it terms “more sustainable growth.” Although they are
not official definitions, China market analysts generally divide its cities
into four tiers. Tier I consists of the well-developed Shanghai, Beijing,
Shenzhen and Guangzhou. The 59 cities in Tier II, the 92 cities in Tier III and
the 105 cities in Tier IV represent, progressively, cities with less
infrastructure, fewer amenities, less wealth and fewer resources. It is these
cities that the government says have the greatest growth potential and into
which it is pouring the most development money.
It is no coincidence that it is these same cities Chow Tai
Fook is targeting for its growth. The company began moving into Tier III cities
in 2000 and Tier IV cities in 2002 (see chart below) and most of the new IPO
money will be spent opening new retail outlets in those locations.
Recent social and economic reforms already have transformed
and reshaped the industrial, commercial and regulatory landscapes of China’s
developing Tier II cities, according to The China Business Review. “As living
standards and the business environment improve, these cities have enormous
potential to grow even faster than Tier I cities. Consumer spending is an
important factor in Tier II cities’ growth.”
Changing middle class. China’s middle class is emerging
rapidly and is expected to increase from the current 235 million to 330 million
by 2025. At that point, this
population segment, with increased discretionary, disposable income, will
represent 25 percent of the country’s 1.3 billion consumers.
Women’s position. In the 1950s, women in China contributed
just 20 percent of household income. By 2009, they were contributing 50
percent, according to Shaun Rein, managing director of CMRG. According to Georgette Tan, MasterCard
vice president, three-quarters of Chinese women say they are the ones who control
the family purse strings.
The New York City–based Center for Work-Life Policy reports
that two-thirds of college-educated Chinese women describe themselves as “very
ambitious,” compared to about one-third in the U.S. In addition, more than 75
percent of women in China aspire to hold a top corporate job, compared with
just over half in the U.S. Grant Thorntown International, a global tax
consultancy, reports that approximately eight out of ten companies in China
have women in senior management roles, compared with half in the European Union
(EU) and two-thirds in the U.S. In China, 31 percent of top executives are
female, compared with 20 percent in the U.S., the company says.
This female executive and career woman is the key
demographic for self-purchasing in luxury goods because she buys luxury goods
to reward herself for her achievements and hard work and as a symbol of her
Gift-giving culture. Chinese consumers love to give gifts
for ceremonial and festive events — and jewelry is a favorite choice. “The
Chinese love affair with gift giving is one of the key drivers for luxury
brands,” Rupert Hoogewerf, chairman of the Hurun Report, which tracks China’s wealthiest consumers, told USA Today in
January 2012. “The money spent on gifting, especially at Chinese New Year, is
staggering compared to the West.” International consulting firm Bain & Co. estimates
that personal and business gifts account for 25 percent of luxury goods sales
in Mainland China. Global public relations firm Ruder Finn said a survey of
1,057 Chinese buyers in 2011 showed three-quarters of the country’s luxury
consumers buy gifts for their significant others, half for family members and one-third
for business partners.
Appetite for luxury goods. The World Luxury Association’s
2012 report ranks China as the world’s largest consumer of luxury goods. Others
put China in second place behind Japan. Reuters reported that CLSA Asia-Pacific
Markets estimates Greater China demand is expected to account for 44 percent of
the global luxury goods market by 2020. Analysts say Chinese consumers spend an
average of 10 percent to 12 percent of total household income on luxury items.
Luxury spending is not limited to the wealthy, according to
Peter Snell, Hong Kong–based chief executive of business consulting for market
research firm Synovate, which was acquired by Ipsos in late 2011. “People want
to get into the luxury market on a scale that they wouldn’t want to in other
countries,” he told USA Today, noting that the middle class in China will save
for months to be able to buy a luxury item.
Westernization. Increasingly, Chinese consumers are buying
gifts to celebrate such traditionally Western holidays as Valentine’s Day and
Christmas. But the greatest impact of Western tradition is on the country’s
wedding market. Before De Beers began promoting its diamond engagement rings to
the Chinese market in 1993, there was no such thing as a diamond engagement
ring, and wedding rings tended to be made of gold or jade. Today, with 13
million couples marrying in China each year, a diamond solitaire engagement
ring is part of more than half of the ceremonies.
“Diamond engagement and wedding rings continue to become not
only more popular but they have become an expected part of getting married,
much like owning an apartment and a car are part of getting married in many
cities in China,” said CMRG’s Roy.
It is true that the diamonds are smaller by Western
standards, with many in the 15-pointer to 30-pointer range. At the same time,
consumer interest in diamonds has extended to other jewelry. Engagement rings
represent 20 percent to 30 percent of the diamond jewelry market in China; the
rest are anniversary and fashion pieces.
Wealth diversification. The Chinese have had a long love
affair with gold, not only in the form of jewelry to mark life’s milestones,
but also as an investment. As the economic crisis has roiled more traditional
financial markets, gold has regained status as an investment.
DOING IT RIGHT
Chow Tai Fook is known for blanketing the market with
products that reflect a wide range of designs at an equally wide range of price
points. There are more traditional gold objects, such as Buddha statues and
dragons to commemorate the Year of the Dragon, along with jade items, as well
as high-end custom designs, such as the recently introduced Danseuse de Ballet
collection that features pink diamonds. The custom-designed jewelry offerings
include bejeweled rings, bracelets and necklaces, decorated in rare pink and
yellow diamonds. Mass luxury jewelry is priced at $250 to $13,000, and high-end
luxury begins at $13,000.
“In addition to
their strong brand visibility and the trust they’ve gained in the market, the
main thing we see that will continue to drive growth for Chow Tai Fook in the
future is continued rising demand for jewelry as consumer incomes continue to
rise,” explains CMRG’s Roy. “Gold jewelry is an ‘aspiration buy’ for many
Chinese women, who are buying it not just for themselves, but also as gifts for
friends of theirs, and this is an area where Chow Tai Fook is especially
strong. As a Hong Kong company, they have long experience selling jewelry
styles that appeal to Chinese consumers’ tastes, including pieces that
incorporate Chinese zodiac animals and other symbols for things like good
fortune, which make good gifts. International jewelers tend to stick to the
styles they make and sell all over the world and they haven’t customized their
product lines as much.”
The company also benefits from its vertical integration.
From design through manufacturing to retail, the company produces 80 percent of
its product line in its
12 factories, making for streamlined inventory control and quick adaptation to
changing tastes and trends.
Loyal, repeat customers also cite Chow Tai Fook’s shopping
experience to explain their return visits. “In addition to being the most
prominent jewelry retail brand, Chow Tai Fook has done a very good job of
supporting its middle-high-end positioning with very nice store environments
and strong training of sales staff, who have good awareness of what local
customers are looking for,” said CMRG’s Roy. “Jewelry buyers we interview tell
us the staff is very helpful and well-trained, and in their minds, the brand
stands for strong quality and good service. The products they have aren’t too
high-end. They’re in the price range that is affordable for the consumers who
are not going overseas to buy jewelry, like the wealthier people are doing.”
The company’s brand is reinforced by extensive, colorful
marketing, with its slogan — sincerity and eternity — plastered on 1,900 city
buses in Hong Kong, as well as in subway stations and on billboards.
“The major international jewelry brands like De Beers,
Tiffany & Co., Cartier and Van Cleef & Arpels are present but they have
only a handful of locations in the larger cities and do not have nearly the
scale that Chow Tai Fook has, or even other Hong Kong jewelry chains like Luk
Fook, which has about 700 locations in the Greater China region, and Chow Sang
Sang, with approximately 240 locations,”continues Roy. “So you don’t usually
see a Cartier side-by-side with a Chow Tai Fook or a Luk Fook counter. They are
also positioned at the higher end of the market, which means the consumers most
likely to buy from them may buy on the Mainland but are just as likely to buy
from them in Hong Kong, elsewhere in Asia, or in Europe, where they have the
opportunity to travel frequently and where prices are lower.”
WHAT COULD GO WRONG?
With Chow Tai Fook’s public offering comes increased public
scrutiny of its operations. The question is raised: What could stop their
continued growth and profitability?
First, and most obvious, is the fact that the company has
all its eggs — and the $2 billion in new capital — invested in one basket: the
Greater China market. Just as it has prospered by riding China’s economic
growth, it could also be devastated by changes in the country’s political
stability, economic prosperity or consumer confidence. Also a consideration:
the considerable control the PRC government exerts over domestic economic
growth through allocating resources, setting monetary policy and preferential
treatment of particular industries and companies.
There is a challenge in managing growth in a fast-moving
expansion. And it is a multifaceted challenge, including selecting prime
locations, hiring and training new employees, finding knowledgeable local
partners, identifying the right merchandise and price point mix in stocking
new, more remote retail outlets and maintaining quality standards.
Any decline in tourism would impact sales, and tourist
traffic could be adversely affected by a number of events, including natural
disasters, health hazards or political turmoil. The number of Mainland visitors to Hong Kong in 2011 was 28 million,
up 23.9 percent from 2010, according to the Honk Kong Tourism Commission. Visitors
from the Mainland represented 67 percent of all 2011 visitors to Hong Kong, the
commission said, and the usual purpose of their visit is to shop, especially
for luxury goods, because of the tax savings in buying in Hong Kong. Further
evidence of the strength of the Mainland customer can be seen in the fact that
45 percent of Chow Tai Fook’s Hong Kong sales are in renminbi, the official
currency of the PRC.
Foreign companies could make serious inroads into the
Chinese market. So far, that hasn’t happened. The fact is that foreign
companies, including luxury goods retailers, have long found it difficult to do
business in China, a fact that has worked to the advantage of Chinese-born and
-bred companies like Chow Tai Fook. Domestic companies have the experience and
insight to create a buying experience tailor-made for the Chinese consumer.
Some market analysts suggest that foreign companies are held back in China
because of their reluctance to modify or adapt their products to local tastes
and preferences out of fear such change will erode the integrity of the global
Those are the risk factors, the downside, the cautions, the
potential storm clouds in Chow Tai Fook’s future. But the upside is the
company’s proven ability to read its customers, to have something for all ages
who stop in to shop, including a welcoming cup of tea. The company has taken
the lessons of personalized, local retailing to a massive audience. That is
something that a homegrown retailer does best.
Article from the Rapaport Magazine - May 2012. To subscribe click here.