Hong Kong Retail Pre-Protest Look

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The report was published on the same day that student protests began in the city, with investors sure to take this into account.

Hong Kong continues to attract huge numbers of visitors from mainland China, keen to take advantage of the 35-40% discount that the lack of VAT and duty costs gives on like products. Higher-end retailers reported to Sterne Agee that up to 90% of their business comes from visitors from the mainland. Outbound tourism from mainland China totaled 97 million visits last year, with Hong Kong representing the top destination with 65% of total visits.

The city boasts the highest retail rents in the world, thanks to the huge increase in regional shopping patterns of the past ten years. According to the report, mall rents average $500 per-square-foot, reaching $1000 per-square-foot for ground level high-traffic locations, and “prime” retail rents can reach $4300. Although rents have reached historic highs, year on year price increases have slowed from 100%+ to 20-25% this year, with single digit increases predicted for 2015.

Hong Kong retail: Increasing input costs

The report goes on to detail its understanding of expected input costs for 2015, predicting that China’s market share of global sourcing activities is set to decline from its current level of 50%. This is due to the fact that manufacturing continues to move away from the region because of inflationary pressures.

Wage inflation in China (5-10%), Vietnam (15-20%) and Bangladesh is expected to outweigh a 20% decrease in cotton costs, resulting in higher all-in product cost inflation in 2015 than 2014. The trend of increasing Chinese wages being balanced out by improvements in efficiency is likely coming to an end, resulting in an overall increase in average unit cost of 4-5% next year, compared to 2-3% in 2014. Increases will depend on product category because labor costs as a percentage of cost of goods sold can vary from 20-50%.

Luxury sector suffering due to anti-corruption measures

The final section of the report is concerned with the impact of President Xi’s anti-corruption campaign on the high-end luxury sector. Continued weakening of the high-end watch business has been noted, with some retailers predicting that the sector will never recover because gifting represents close to 40% of luxury sector sales.

Since the report was published the so-called “Umbrella Revolution” has led to decreased expectations of Hong Kong retail performance, with unrest disrupting one of the busiest seasons for shopping visits from the mainland. In fact, analysts fear that Hong Kong could technically enter recession if protests continue. Watch this space.

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