China remains high on retailers’ expansion agendas but few have cracked the country. Caroline Parry finds out
what strategies are likely to lead to Chinese success.
There is a Chinese proverb that sums up the challenge facing retailers trying to break into the country: “To open a shop is easy, to keep it open is an art.”
Its origin pre-dates the arrival of Walmart, Tesco and their ilk and, most recently, home shopping specialist Argos, which has launched an online business in partnership with a Chinese company. But for those who have attempted to navigate China’s bureaucratic and cultural idiosyncrasies to win a slice of its retail market, the proverb could have been written any time in the past 20 years. Retailers including Kingfisher, Marks & Spencer, Mothercare and Zara have moved in but few would claim to have mastered the art of Chinese retailing just yet.
The Chinese economy has slowed in the past year. Growth was below 8% in 2012 - the lowest for more than a decade. But it remains a significant long-term opportunity.
According to PwC, China’s retail market will grow by 10% a year over the next three years and will surpass the US in 2016. It is already the world’s biggest grocery market.
Joel Stephen, head of retailer representation at property firm CBRE China, which advised fashion retailer Ted Baker on its recent expansion into the country, says even China’s slowing growth rate is better than rates in Europe or the US. He explains: “A slowdown in China could be retailers seeing flat or single-digit growth, which in other parts of the world would be regarded as a success.”
For that reason, he maintains, it is impossible for “a retailer to regard itself as truly global without a presence in the world’s second-largest economy and most populous country”.
Ted Baker opened a store in Beijing in October last year and James Miller, development director for the Middle East and Asia Pacific, echoes Stephen’s sentiment. “As a Plc, it was something we would be expected to approach. It was a case of which development model was most appropriate,” he says.
China tops many retailers’ expansion wish lists but the barriers to entry remain as high as they have always been.
However, as more retailers decide to enter the market, a number of potential strategies have evolved that offer some insight into how to lay the groundwork in such a complex market.
“You need very deep pockets,” says PwC chief retailer adviser Christine Cross. “And time. It takes a long time to get to any kind of scale.
“A lot of retailers have gone into China thinking ‘how hard can it be?’ Some think because they take goods from China, they know the market. But that’s not the same as retail. Few are prepared for the vastness of the country.
All of the cities are very different in terms of spending power and taste.”
Finding a partner
Boris Planer, chief economist at Planet Retail, is similarly pragmatic in his view of the challenges. “It is a difficult emerging market, not least because spending levels are much lower. There is talk of the emerging middle class but in China the term is usually defined as annual household income of e2,000 (£1,633) compared with perhaps e30,000 (£24,500) in Western Europe. Consumers in China live in smaller dwellings and car ownership is much lower.”
He says retailers going into China need to be well established in their home market to back them up and fuel the expansion, because China is a medium-term investment. “One of the challenges is to establish relationships with national and regional authorities as well as suppliers, while getting the supply chain right,” Planer says. “You have to be able to afford to try in China. There is a potential for start-up losses, especially in grocery retailing.”
Miller also warns of the need to be respectful of the Chinese market. “You can’t cheat your way into China. If you dare to try, the system will chew you up and spit you out. Second impressions are rare enough in today’s retail world and China wouldn’t entertain the option.”
Historically, retailers entering China have been required to have a local partner, although this law was abolished in 2004. But for some, including Cross, a local partner remains the best strategy for breaking China.
She says: “You need a partner to understand the local market as it varies from region to region, although most retailers are looking for ‘looser’ partnerships now.”
Stephen also says a local partner is a good idea, especially in terms of forming relationships on the ground and local operating know-how. An experienced local partner will also have insight into basic differences between China and the rest of the world - different clothing sizes, for instance, and the fact, that for the most part, China does not have strongly differentiated seasons.
Retailers looking to find a Chinese partner need to do their homework, warns Planer. The Chinese political landscape can be difficult to navigate, and retailers need to make sure their partner has no history of conflict with the authorities. “That is the last thing you need in China,” Planer says.
“You can do business in China as long as you have the acceptance of the local authorities and nationalgovernment. If that breaks down, life can be difficult.”
Going it alone
To date, luxury brands such as Burberry, Cartier and Prada have led the way in China and, until the recent slowdown, have experienced steep growth curves. Stephen says: “Many of the luxury brands have been present in China for 20 years and where they might have 10 to 20 European stores, they have 50 or so in China.”
Prada, Burberry and Italian fashion house Ermenegildo Zegna are among the many brands that took the franchise route. And, while both Burberry and Ermenegildo Zegna have since bought back all or some of their stores, it remains the preferred strategy for entry for many.
In December, Arcadia announced that it had formed a partnership with Lab Concept, a retail subsidiary of luxury shopping mall Lane Crawford, to open its first Topshop store in Hong Kong. One of the drawbacks of franchising, however, is control over standards. Stephen says: “Chinese consumers will not accept second best - they want to see the best shopfit, merchandise and selection. A retailer operating their own business will generally execute their market entry to a high standard.”
Franchising can lead to dilution of a brand, agrees Miller. “Where we can operate directly, and we have expanded into Hong Kong, Japan and South Korea, we like to do it.”
With such issues in mind, the trend in the past five or six years has been for retailers to enter the market solo, or for those that started off with a partner to buy their portfolios back. M&S, Ted Baker, Tesco and Walmart are among those going it alone. However, both Walmart, which has 378 stores, and Tesco, which has 120 shops, acquired majority stakes in local operators to gain a foothold.
While direct investment is more attractive to retailers in terms of control, it is not without its challenges. Stephen says the legal set-up alone takes nine months, and the competition for prime real estate is intense.
It is crucial to make sure the offer is tailored to the market. “Retailers looking to replicate their western models are going to run into problems. Certain components of a business have to localise,” Stephen says.
For many retailers this requires rethinking the business model completely. Miller says: “We’ve had to re-imagine our business for the Chinese market. We’re Ted Baker, but optimised to efficiency ‘China Style’.”
This year, all eyes will be on Asos when it launches its Chinese site in October, as it could open up online as an entry strategy for others. Until now, it has been considered too complex for a retailer that does not have stores to operate online in China because of difficulties transporting product into the country and the notorious Great Firewall of China, which blocks access to certain sites. Debbie Bond, director of insight services at ecommerce consultancy eCommera, says starting an online operation in China is as complex as opening stores and can take up to two years to achieve. “It is expensive and there are operational complexities,” she says.
To operate a local .cn URL, a retailer needs to secure a Chinese business licence, which can take up to a year and requires money to be transferred into a local account. It also needs a retail licence, which can only be obtained after the first licence, a wholesale licence and registration as a wholly foreign-owned enterprise.
Because of the bureaucracy involved, Bond recommends testing whether there is demand for your product before starting the process.
She says: “Using popular Chinese online marketplaces to test the local demand is often a good first step in the learning curve.”
Such research will also help retailers to understand the differences between European and Chinese consumers. “Brand advocacy is incredibly important in China and shoppers are twice as likely to seek advice before buying.
They also expect about three or four times more detail about product design,” Bond says.
Regardless of whether retailers go into China with a partner or alone, or attempt to crack it online, few dispute the absolute necessity of having a team based in China. “You need a good team on the ground,” says Cross. “Both native Chinese and Europeans who have lived most of their lives in China.”
A local marketing team is also considered a necessity, particularly for digital operations. Chinese consumers prefer local search engines, such as Baidu.com, which requires understanding of its algorithms. Social networks are also popular but Facebook and Twitter barely get a look in.
A local logistics operation is likely to be necessary for multichannel retailers, Bond says, plus a local warehouse and a delivery partner. The latter needs to be chosen not just according to its level of coverage, but for its ability to meet local standards. A key requirement, for example, is Chinese shoppers often pay in cash on delivery and, in some cases, want couriers to wait around while they see if they like a product.
The obstacles to breaking into China are varied and, as Planer points out, the reality of operating there brings another set of challenges. He says: “Logistics is the biggest challenge as it is a vast country with many poor quality roads.”
While development has been limited to the top-tier cities to date, a pipeline of new real-estate in the second and third-tier urban centres means the opportunities to break into China will continue to grow.
The rewards for those who are prepared to invest can be high, but it requires a commitment. Miller says: “You can’t rest on your laurels - today’s right answer is wrong tomorrow.”
And as another Chinese proverb teaches: “Patience is a virtue.”