Rise Of Affluent Chinese Consumers

THE RISE OF THE AFFLUENT CHINESE CONSUMER AND ITS IMPACT ON CHINA’S CONSUMER MARKET Changing demographics and spending power 1. In tandem with rapid economic growth, real average disposable income in China has grown 3.2 times over the past 20 years to about RMB 25,300 today. Income distribution within China has changed significantly and a structure of distinct income classes has developed. These comprise: • Poor: less than RMB 25,000 • Lower aspirants: RMB 25,000 – 40,000 • Upper aspirants: RMB 40,000 – 100,000 • Affluent: RMB 100,000 – 200,000 • Global: Greater than RMB 200,000 2. Over the next 20 years, the combination of rising GDP, demographics, education gains and continued labor market development will help the mass of China’s population move from the working poor and the bottom end of the lower-aspirant bracket, up into the solid middle class of the upper-aspirant bracket. •

According to a McKinsey Global Institute study, by 2015, about 44% of China’s urban households will have annual income of more than RMB 40,000. This comprises 41% of households in the upper aspirants income class, 2% in the affluent class and 1% in the global class.

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By 2025, 68% of China’s urban households will have annual income of more than RMB 40,000. The majority of 61% of households will be in the upper aspirant class, 5% in the affluent class and 2% in the global class. In absolute numbers, these translate to 215 million, 18 million and 7 million households in the upper aspirant class, affluent class and global class respectively.

3. The upper-income brackets are expected to command a large and growing amount of spending power. The most affluent subset of the upper-income class - the global class – will

be among the global rich, earning incomes that put them at levels of middle class or above in the developed economies of the world. They are expected to wield considerable spending power, accounting for 16% (RMB 3.6 trillion) of real disposable income in China in 2025. Together with the affluent class, which itself will account for another 11% (RMB 2.5 trillion) of real disposable income in China in 2025, this higher income segment of the population will account for 27% (RMB 6.1 trillion) of China’s real disposable income in 2025.

4. China’s growth into one of the largest consumer markets in the world will be powered by the spending of its new urban middle and upper class. • Upper aspirants’ consumption expenditure is expected to grow from RMB 0.4 trillion in 2005 to RMB 4.9 trillion in 2015 and RMB 12.2 trillion in 2025. • The combined consumption expenditure of the affluent and global class is expected to grow from RMB 0.3 trillion in 2005 to RMB 1.4 trillion in 2015 and RMB 4.5 trillion in 2025.

Changing consumption patterns 5. As income rises in China, consumers are expected to spend proportionately less on basic necessities such as food and clothing and more on discretionary items and relative luxuries (e.g. cars, plasma TV, branded goods). 6. A number product categories are expected to grow significantly by 8% p.a. or more between 2005 and 2025 – personal items (8.1%), transport and communication (10%), health care (12%), recreation and education (9.7%) and housing and utilities (11.7%).

7. The upper aspirants, affluent and global classes are expected to be the main drivers for the demand for personal items, transportation and communication, health care, recreation and education and housing and utilities. •

In 2015, these income classes are expected to account for 77% of China’s total spending on personal items, 74% of spending on communication and transport, 66% of spending on health care, 69% of spending on recreation, and 63% of spending on housing and utilities.

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A number of products will likely see a sharp rise in demand over the medium to longer term:

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Consumption in personal items like watches, jewellery, cosmetics will grow significantly. A rising proportion of spending will be steered towards luxury brands (see next section) with the rising affluence of the population.

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According to monthly figures from the Chinese state media, China has leapfrogged the US to become the world's largest auto market in Jan 2009. Priced at RMB 100,000, and with increasing availability of auto loans, private cars have become increasingly affordable to the upper-aspirant, affluent and global income classes. Further growth in the market can be expected over the next 10-20 years.

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China’s mobile-phone market, which currently already is the largest in the world in terms of the number of subscribers, will continue to grow. Mobile phones have become prestige items to Chinese consumers, with young consumers typically replacing their mobile phones every 6 to 12 months.

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Leisure travel and vacationing will become more widespread as air tickets become more affordable to the rapidly growing higher income classes. An increasingly large segment of the high net worth consumer group will prefer to spend their money on niche traveling experience rather than run of the mill tours. To cater to such demand, companies like China Adventure Travel has been formed, offering tailor-made hunting trips across the world, costing up to 1 million yuan ($146,400).

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Electronic products like DVD players, game consoles, home karaoke systems, as well as services like satellite television, concerts and nightlife options will see an increase in demand among the more affluent. Innovative recreation markets will continue to grow as well. Online gaming, for instance, is a significant new growth area, having grown from US$100 million in 2002 to more than US$1 billion in 2008.

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Driven by demographics and increasing life expectancy, spending on health care will grow exponentially. Many leading multinational pharmaceutical companies have shifted some of their R&D to China. At the same time, they are targeting the Chinese consumer market, increasing the availability of their products, and ensuring that most of their price points are within reach of Chinese’s mass market consumers.

Increasing Popularity of Luxury Brands in China 8. Luxury items and branded goods have started to and will continue to benefit from China’s income growth and the rise of the middle and upper classes. Indeed, luxury brands are making in-roads into the Chinese market. For example, in late 2008, Italian design house Versace brushed off global economic woes to hold its first ever fashion show in China, saying it expected Asia to become its second-largest market in 2009 after Europe, helped in part by China. 9. According to a HSBC / MasterCard study in 2007, more than 75% of the middle class, modern women and DINK (double income with no kids) have purchased luxury goods, with modern women showing the highest propensity to do so. According to the study, the most popular watch brands are Omega and Rolex, while Louis Vuitton is the most preferred fashion brand.

10. Some luxury brands operating in China are seeking a local relevance, creating products that are specifically tailored towards or centered around Chinese consumers. For example, Louis Vuitton offered a range of Lantern Charm accessories based on the traditinonal Chinese lanterns to celebrate the opening of the new Beijing store 1 . 11. Companies such as Coach, Paul Smith and Armani have shifted some of their manufacturing to China in recent years 2 . In addition to its retailing operations, Zegna bought a 50% stake in SharMoon in 2003, a Wenzhou-based company that produces men’s suits. French luxury house Hermes has planned for investment into local production facilities to double sales in China over the next few years. Dior opened a landmark boutique “Dior Cosmetic” in Shanghai in 2003, which was designated the most luxurious Dior boutique, and made China the third country to have such a boutique. Louis Vuitton set up a 3-storey China World store in Shanghai, with an overall area of almost 18,000 square feet. This is the largest of the brand’s stores in China. 12. Many luxury brands are finding local or regional partners to help them enter the Chinese market. For example, US watch retailer Tourneau has formed a partnership with Hong Kong’s Peace Market Limited and International Watch Group to open stores in China. Another large company that acts as an agent for brands in China is Hong Kong’s Dickson Concepts. It represents such brands as Polo Ralph Lauren, Brooks Brothers and ST DuPont. 13. Increasingly, home grown brands in China are establishing themselves as a source of pride and a badge of the country’s emerging self confidence. While very few local luxury brands have emerged, there are some which are perceived as luxury on a local scale and have portrayed themselves as being international although their main market is a domestic one. Such brands include Goldlion as well as jewellery brands Chow Tai Fook and Tse Sui Luen. 14. Two home grown fashion brands – LaVie and Shanghai Tang – have emerged on the global scale and have been touted as being “luxury”. These brands have made in-roads into foreign markets and have gained global recognition and success.

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“Luxury cars target China’s new rich”, Peoples Daily, June 2004. “Luxury’s new empire”, The Economist, Vol 371 (8380) 2004.