‘Even wealthy consumers may reach a tipping point where prices are too high’

Luxury retail companies are often considered to be relatively sheltered from economic slowdowns as many high-end brands manage to maintain stable performance in comparison to their mass-market peers during recessions.

Following an initial shock at the outset of the 2008 crisis, luxury retailers quickly recovered and some of the biggest players – such as Gucci and LVMH – achieved flat and even positive growth that year.

The target audiences for personal luxury goods retailers are often the last to feel the effects of a downturn because of the cushion their wealth provides. 

In the current context, it is expected that inflation will be felt more strongly among lower income brackets, compared with the top 5% of earners. 

However, economists are now forecasting a recession that is longer and deeper than initially predicted.

While we have been through economic disruption before, in 2008 and during the pandemic, luxury retailers will no doubt face new and different challenges.

This time, weak growth is paired with soaring inflation, forcing companies to increase the price of their goods to cope with higher input costs and protect margins.

The industry is also faced with a new market reality brought about by the pandemic, such as disrupted supply chains and new buying behaviours, including customers’ demands for a seamless digital experience and strong sustainability credentials.

“Some consumers have the perception that companies are taking advantage of the higher interest rate environment to raise prices above what is required”

Recent indicators show luxury demand is holding steady so far. In fact, the S&P Global Luxury index rallied in September, with companies including LVMH and Ermenegildo Zegna Group reporting higher revenues in the first half of 2022, despite lockdown restrictions in China and rampant inflation. Subsectors such as luxury hospitality also remain resilient.

But the industry might not come out unscathed from the coming recession. A recent survey by the Luxury Institute found that 41% of top-level luxury goods executives expect the sector to face a full recession, while 59% anticipate a slowdown.

Among the recession predictors, many say a higher interest rate environment will create unemployment, forcing consumers across all income levels to tighten their budgets.

Stock market losses may also affect the consumption attitudes of affluent consumers across all segments, except perhaps for centimillionaires and billionaires, according to the survey’s respondents.

That said, there might be polarisation in the upcoming downturn, with some geographic markets likely to fare better than others.

In the past, luxury goods businesses with a global footprint were insulated from major declines due to their exposure to various countries and regions.

Handle price increases with care to avoid eroding trust

Luxury retailers should consider this increasingly complex marketplace as they prepare for the troubling months and years ahead.

Price increases, for example, while unavoidable to offset inflation in input and labour costs, will have to be handled with extreme care. So far this year, luxury goods brands including Gucci and Hermès have been raising their prices with little impact on sales, benefiting from the segment’s increased pricing power compared with generic products.

But even wealthy consumers may reach a tipping point where the price tag becomes too high. Some may also have the perception that companies are taking advantage of the situation to raise prices above what is required, leading to an erosion in consumer trust and weaker purchasing intentions. 

We have seen recent criticism of Louis Vuitton for increasing the prices of its signature styles more than three times in the past year, though resilient resale values have offset any serious discontent. 

For a sector that relies on the most discretionary of discretionary spending, the consequences could prove severe.

Focus on the most affluent to withstand headwinds

Luxury retail players may also want to increase their focus on specific customer groups to better ride out the economic headwinds. For example, they might choose to grow sales of top-end, expensive items rather than focusing on products that cater to new entrants.

Targeting the wealthiest makes sense because these buyers are more inflation- and recession-resistant, and are likely to be the last to be impacted by a slowdown. 

“It could be argued that higher prices and scarcity of supply only make these goods more desirable. Brands with weaker propositions may fight to survive”

Big brands such as Chanel, which recently announced stores dedicated to VIP consumers, might be already moving in that direction.

It could be argued that higher prices and scarcity of supply – the Hermès model – only make these goods more desirable. In contrast, brands with weaker propositions when it comes to quality and service may fight to survive.

There may also be opportunities for specific categories within luxury retail. The Luxury Institute survey found consumer technology, beauty, health, wellness, travel and leisure to be the segments more likely to thrive during a recession.

This reflects a significant shift in consumer values triggered by the pandemic, with health and mental wellbeing becoming a priority for many shoppers – especially among Generation Z and millennials – and the preference for experiences over material goods reshaping buying decisions.

In the beauty arena, the lipstick effect will likely be broadened to include products such as fragrances and skincare items – another legacy of the Covid crisis.

Pandemic has taught management teams reacting fast is critical

The good news is that many high-end retail and consumer brands are better prepared to respond to the new headwinds.

The tumultuous years of the pandemic forced companies to react quickly by adapting their business models, brand engagement strategies and sales approaches. Many have developed improved control over their supply chains and a more direct connection with consumers. 

As more turbulence approaches, they should continue to pivot promptly.