Mark Ritson: Luxury brands should take a stand against the grey market

Richemont, owner of luxury watch brands such as Cartier, is boldly forfeiting hundreds of millions of pounds to keep stock out of the grey market, but it is a crucial step in preserving long-term brand equity.

Richemont Cartier watch grey market

At first sight it looks very close to insanity: Richemont, the Swiss luxury goods group which owns some of the most prestigious watch brands on the planet, has ‘destroyed’ €481m-worth (£421m) of its own watches. The company, which owns a stable of luxury brands including Cartier, IWC, Jaeger-LeCoultre and Panerai, admitted it has been buying back its watches across Europe and Asia.

What on earth is going on? Well, it’s a complication built from the strange mix of a Chinese bus crash, American tech companies and the colour grey. And while the apparent destruction of millions of pounds’ worth of beautiful timepieces might seem the height of commercial folly, it’s actually just about the smartest and bravest move in branding.

First up, let’s be clear that this is neither a ‘destruction’ nor anywhere near £400m-worth of destruction. It’s not £400m because that is merely the retail value of these watches. Luxury watch mark-up is around 50% so the actual amount that Richemont has probably paid to get them back from wholesalers and retailers is likely to be closer to £200m. And this still significant sum is not actually being destroyed. Once the watches get back to Geneva, some will be stored and eventually redistributed while others will be recycled for jewels and movements that could represent a 30% to 50% redemption. All in all, Richemont is going to be out of pocket for probably a quarter of the quoted figure.

READ MORE: The changing nature of luxury: How brands are evolving to meet consumers’ demands

That’s still not loose change, given it represents around 5% of Richemont’s current operating income for 2017, the second of two years over which the buy-back has been occurring. So why make this move, which even Richemont acknowledges is an “exceptional measure”.

The ‘triple threat’ to Swiss watches

The answer lies in three separate events that have coincided to create – forgive the cliché – a perfect storm in watchmaking. Not since the dreaded arrival of the digital watches of Japan 40 years ago have the great Swiss watch brands been in such turmoil.

The first threat is the obvious one posed by the new generation of digital watches from Apple, Samsung and a host of other entrants. A proper high-end luxury watch should cost you a minimum of £4,000. For a quarter of that price a new Apple Watch can be yours, and the threat of a new watch buying generation shifting their desires away from Switzerland and towards California is a potent one. Smarter, more serious thinkers have predicted that persuading a new generation of watch buyers to spend close to four figures on an Apple Watch might ultimately lead to some of them continuing up the ladder to Swiss luxury. But even if that prediction is correct, it’s a decade away. For now the Swiss oligopoly has a set of huge and hungry tech companies to suddenly cope with.

Digital disruption also contributes to threat number two – time itself is becoming a commodity. A century ago the idea that you had a wristwatch on your person that told you the time was the highest of high tech. Today the time is all around us. We each carry multiple devices on our person that keep the time perfectly, without ever needing to resort to a watch. The time is visible everywhere around us too, and an increasing number of us can literally ask the ether for the time and have the exact answer relayed back to us from our smart home device.

“It’s the first time we have young people not buying watches,” says Jean-Claude Biver, the legendary head of LVMH’s watch division. “Time is everywhere. Why should these kids buy something for the wrists that tells them the same thing they get everywhere?”

In the past decade any downturn in Western consumption has been more than alleviated by our friends from the East. Chinese consumption of soft and hard luxury has outstripped even the most bullish of predictions. Here again, however, there has been a softening in the market and we can blame Yang Dacai for most of it. The name might not be familiar to you but, trust me, its infamous all along the valleys of Switzerland.

In August 2012, a double-decker bus crashed into a tanker in the northern city of Yan’an. Tragically, 41 people lost their lives and the incident made headlines across China. The next day the media coverage caught local government official Yang grinning at the accident scene. Incensed by the smile, local people began to compile a collection of photos of Yang wearing a variety of very high-end luxury watches – products he simply could not afford on his basic civil servant’s salary.

Sensing a public uproar over graft among local Chinese public servants, Beijing stepped in. Yang – or Brother Wristwatch as he became known – was sentenced to 14 years in prison for corruption and a national edict was put in place banning any and all luxury watch gifts. When the British government tells its citizens not to do something, we do it more. When the Chinese government issues a proclamation it is followed without exception from that moment on. Overnight the main Chinese market for luxury watches – their gifting among professionals – disappeared.

The ‘grey market’

Multiply a surge of new digital watches by the mass availability of time keeping everywhere and then subtract Chinese demand and you have a formula for Swiss watch decline. Swiss watch exports have been dropping like a stone since 2014. But while demand might have tanked, the production and distribution of luxury watches has continued apace. As most marketers know, once supply outstrips demand – especially for luxury goods – trouble is not far away.

In the case of Swiss watches, despite the slowing demand, the big companies have continued to sell in stock to their wholesalers who, in turn, have pushed retailers to buy more watches. Retail partners are “being force-fed like geese producing foie gras” to borrow one especially unpleasant but appropriate metaphor from Richemont’s chairman Johann Rupert.

Over time the grey market pisses off full-price customers, unhappy retailers and disgusted wholesalers, who all find themselves overpaying in the approved market.

The specific problem for luxury watches is what happens when you keep pushing stock into an overstocked market. In other industries, prices might fall as the appropriate elasticities kick in, but with well managed luxury distribution no retailer dares to drop their prices or run a sales promotion. Such actions would see them breaching their selective distribution contracts and being thrown out of the circle of trust and luxury watch supply forever.

Instead, watch retailers – especially those with less scruples and more self-interest – turn to the ‘grey market’. Sometimes also known as the parallel market, because of the sideways route it occupies versus approved channels, the grey market is the distribution chain for genuine goods being sold through non-approved channels. Black-market products are fake or stolen and a law must have been broken at some point to earn the colour. Grey markets are legal, but at least one distributor agreement must have been broken for it to qualify. You know those drinks cans with the ingredients in Arabic? The weird perfume shops that spring up with really good offers on high-end fragrances? Those big discount clothing stores in city centres with row after row of big brand fashion at 50% off? It’s all grey. Genuine, legal but grey.

In the case of luxury watches it is particularly easy to see the attraction of grey market trading. A retailer buys in a luxury watch for £10,000 from the supplier. The watch has a recommended retail price of £20,000. But if no-one is buying, the retailer can either sit on dead stock or sell it to a third party for £12,500. The retailer makes a small margin and recovers their investment. The buyer can now sell the watch for £15,000 and recoup a significant profit while undercutting the RRP. The luxury watch industry is particularly vulnerable to grey market sales because its products are non-perishable, easily transportable, very high-margin and incredibly valuable per square kilo. The opposite of bananas basically.

In the olden days of the 20th century it was usually a secret wholesaler from Italy or America who would swoop in, buy your stock with an untraceable payment and disappear. Sudden fluctuations in currencies in the days before the euro meant that a smart wholesaler could easily generate margins of 30% or 40% by simply buying in a country where the currency had dropped and selling it in to a country where it had peaked via the grey market. Today, the digital revolution has taken grey market selling to a new level. As reported by the Financial Times, online dealers like Chrono24 and Jomashop offer discounts of up to 40% on new, high-end watches, operating legally but outside of brands’ authorised retail networks.

Online marketplace Jomashop sells heavily discounted luxury watches

So what is the problem with the grey market? Irrespective of the method by which it is distributed and ultimately sold, the watchmaker’s supply price is always met. Why should they care? Markets are efficient, even grey ones.

The answer comes if you keep oversupplying the market with product and turning a blind eye to the grey market operation you are ultimately supporting. Over time the grey market pisses off full-price customers, unhappy retailers and disgusted wholesalers, who all find themselves overpaying in the approved market. They vacate the brand and, as they do so, more and more stock finds it more and more difficult to find a buyer via legitimate channels. As the approved market dries up, the brand depends more on more on grey market channels. Gradually, exclusivity and brand appeal disintegrate and you are in deep trouble.

So Richemont is taking a stand now, rather than paying the price later. By reducing manufacturing and buying back watches that would otherwise turn grey the company may be losing millions in the short term. But in the longer term it will ensure a more exclusive brand, a more attracted customer base and a more supportive retail network. To again quote Rupert, it had to be done in the name of “long-term brand equity”. Yet another way luxury watches are clearly not bananas.

Hide Comments3 Show Comments
Comments
  • John Bell 22 May 2018 at 11:54 pm

    conventional watches perform circus tricks – Apple Watch delivers ‘real’ magic

  • Julian Pratt 23 May 2018 at 12:01 pm

    Millennials are turning their backs on diamonds too – another parallel with a shift in attitudes towards the artificial value of luxury and showing off.

    I got a jaeger perpetual as a graduation present in the 90s. Never worn it.
    Gave up on watches when i got into new media in 2001 . Only just got back into wearing one as the apple watch is literally saving my life as a health app.

    Its the same with Gibson. When your glory years is the 1950s and your product is less perishable than its owner – you either need to downsize production or get used to dwindling demand.

  • Marlene Greenhalgh 27 May 2018 at 2:07 pm

    Wearing one’s wealth on one’s wrist is passe and rather vulgar – inconspicuous consumption is both discrete and discreet…

  • Post a comment

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