Is the honeypot still as sweet as hoped?
With the markets in Europe and the US still trying to recover since the financial crisis of 2008, China has been the main beacon of hope for retailers looking to deliver strong growth to offset lackluster sales elsewhere. In stark contrast to the prevailing gloom in the west, the macro-economic indicators of China have presented a compelling picture for retailers who have responded in kind with ambitious roll-out programs. However, recent retail sales in China have shown signs of slowing.
In the hypermarket sector, for example, Home Depot intends to close its big box stores in China and Tesco is cutting four of its underperforming stores. The malaise has even spread to the luxury sector, with Hugo Boss recently reporting a slowdown in sales and Burberry announcing ten weeks of flat sales during 3Q 2012. However, other retailers like Hermès and Prada are still recording strong growth. So the question is whether the problems are inherent to individual companies in a specific trade category or whether there is a widespread cooling throughout the retail market.
Knight Frank recently issued a paper which looks at some of the recent developer and retailer activity and highlights some key issues facing the industry going forward. Building shopping centers that are aligned to end users’ needs remains an issue and finding enough good quality space continues to frustrate many retailers’ expansion plans. The paper also examines the rise of internet shopping in China and how clicks and e-retailing are increasingly merging with more traditional bricks-and-mortar operations.
On the developer side, we analyzed the amount of new supply between 2Q 2011 and 2Q 2012 in 11 major cities. A total of 50 shopping centers over 50,000 square meters (sq m) opened in these cities during this period, including 27 centers over 100,000 sq m. Most of the development occurred in the Tier 2 cities, particularly Tianjin, Shenyang and Chengdu. Many domestic developers are still building very large shopping centers. Of the 27 new centers larger than 100,000 sq m, 21 were built by domestic developers. Our data shows major domestic operators build centres on average around twice the size of Hong Kong developers. We are concerned that many of these shopping centers are oversized.
On the retailer side, many international retailers announced ambitious expansion plans for China in the earlier part of this year. As economic growth in Europe and the US has continued to stall, retailers have focused on increasing their presence in Asia, and China in particular, to make up for falling profits elsewhere. Asia as a region is now expected to generate a greater share of many retailers’ total global sales, and as a result, is very much in the spotlight from shareholder interest.
Many luxury retailers are continuing to expand, particularly adding new Tier 2 cities to [PS1] their network of store locations. While plans vary from one luxury retailer to another, the typical annual store growth rate for those already well-established in China is approximately 15–20%. The most aggressive growth rates are found in the mass market sector, particularly fast-fashion and F&B, with retailers aiming to take advantage of the expanding middle class. Some of the plans are eye watering in their growth rates. We are of the view that these expansion plans could be stifled. Supply of retail floor area is not in question, but there may not be enough well-planned and well-located shopping centers to allow these retailers to achieve their store network aspirations.
Turning to internet shopping, it is clear that online shopping platforms in China are proving very popular and represent a growing influence on consumer behavior. The transaction value of online shopping as a proportion of total retail sales in China rose from just 0.6% in 2007 to 4.4% in 2011 and is projected to reach 5.4% for 2012. It is predicted that the Chinese online shopping market may exceed the American online market by transaction size as early as 2013.
It appears that Chinese are embracing online retailing with even greater relish than many western countries. In a consumer shopping survey covering a range of international markets, it was found that Chinese consumers were shopping online around two to three times as much as their European counterparts. Moreover, many products are researched online and then followed up by a purchase in-store. Rather than two different business silos, online and in-store operations are increasingly merging.
The key issue is what this means for a retailer's real estate portfolio. As yet, the two streams have generally operated separately, but new formats of retailing may emerge. One of China's biggest online retailers, Yihaodian, recently announced plans to open 1,000 virtual supermarkets in China which contain no real products, but allow shoppers to see pictures of items available to buy using their smartphone.
Despite concerns on overbuilding of retail centers and the uncertainties associated with the growth of online sales, prime retail rents continue to perform well. In the first half of 2012, average prime rents in Tier 2 cities rose 10% to RMB865 per sq m from 2011, while Tier 1 cities saw an 8% growth in the same period. This tells us that well-placed retail is still very much in demand.
Thomas Lam is Director of Research for Knight Frank Greater China