Take a stroll down Huaihai Road in downtown Shanghai and you’ll walk by some of the grandest shrines to luxury the world has ever seen.

But then walk into one of these stores, and get ready to be surprised: Except for a few browsers and the occasional customer who pulls out her credit card to buy something, many of these stores are empty for most of the day.

Most customers walk in, look around, and leave without buying anything.

This is because luxury consumption by Chinese consumers happens outside of China, and not inside one of the opulent stores lining Huaihai Road and other gathering places for luxury brands in China’s cities.

For watches and handbags, overseas spend is as high as domestic spend. Total overseas spend on luxury categories reached $50 billion last year.

What started as one big party has fairly quickly turned into a luxury hangover for luxury brands that have plunked down millions on their gleaming flagship stores in China’s priciest neighborhoods.

And this hangover has created a number of headaches for them:

Headache #1: Profitability of the China operations

China has seen a massive build-up in luxury retail infrastructure. Yet, thanks to low store traffic and low productivity, these multi-million-dollar flagship stores often don’t yield the same levels of profitability seen in other markets.

That’s because Chinese consumers prefer to travel overseas to buy luxury goods because of perceived higher quality, lower prices, and wider variety.

What’s driving higher prices of luxury in China? Income tariffs, consumption tax, and VAT. For cosmetics, in particular, a lengthy registration process for imported goods (some products require animal testing, for example) limits both the variety of products and the speed at which they reach consumers.

Headache #2: Lack of follow-up with customers

Luxury companies have long been at the forefront of using CRM to build long-term relationships with wealthy customers. But such efforts are usually led by individual stores, and are generally confined to a single geographic territory.

Unsurprisingly, few if any luxury marketers anticipated their customers would end up spending more outside of their country, than inside. Today, when a Chinese consumer buys luxury overseas, stores don’t always capture information on them. Even when they do collect information such as mobile phone numbers or WeChat IDs, they often don’t know how to use it to reach out to their customers.

Of the few luxury marketers that regularly capture customer information, only a handful share it with their stores in China, missing a valuable opportunity to stay in touch with their Chinese customers after they’ve returned home.

Headache #3: Brand confusion

As Chinese luxury consumers travel abroad more frequently and in greater numbers, they are exposed to a greater variety of new brands and products that may not have reached stores back in China.

The time lag between the launch of a new product overseas and the time it hits the shelves in China can confuse luxury consumers, especially in the absence of a campaign to educate them about the products. The problem is even more acute if the company decides to position its products differently for the Chinese market.

Delays further fuel Chinese consumers’ perception that the products they buy overseas are of higher quality than what they can find at home.

So what’s the cure?

Luxury brands need to free themselves from traditional organizational structures and KPIs, which are often driven by the P&Ls of the local markets. This means rewarding their managers and salespeople in China regardless of where sales take place: In China, at duty-free shops, or overseas.

Luxury makers will also need to engage with Chinese customers globally, by reaching out through direct marketing channels – usually via smartphones – and by tapping into rapidly growing cross-border e-commerce channels.

Chinese consumers still love to shop for luxury. They just like to do it somewhere else. So while luxury marketers may still be suffering from a hangover within China, the party is not over yet.

You can download our new report on Chinese consumers here.

 

About the Author

Daniel Zipser is a Partner based in Shanghai. He leads the Greater China Consumer & Retail Practice. You can connect with him on LinkedIn here.