WWD.com/fashion-news/fashion-features/sizing-up-sars-8217-impact-873371/
government-trade
government-trade

Sizing Up SARS’ Impact

Analysts are debating the impact of SARS on the luxury sector, and await clues as firms start reporting sales and earnings this week.

PARIS — Will the luxury goods business recover quickly from the impact of SARS? Or will the deadly epidemic, which has already claimed some 550 lives and infected more than 7,400 people, afflict the sector for months to come?

Investors will be looking for fresh clues this week. Hermès and Bulgari are slated to report first-quarter sales today, and Bulgari has already warned that the SARS outbreak would cause it to miss its financial targets this year.

LVMH Moët Hennessy Louis Vuitton, slated to hold its annual shareholders’ meeting Thursday, is also expected to give an update on recent sales trends. In reporting first-quarter sales last month, LVMH said only DFS was impacted by SARS and that sales of Louis Vuitton products were advancing at a double-digit rate in early April in Hong Kong, one of the cities hardest hit by the disease.

Luxury analysts are divided on the medium-term impact of the health scare, but acknowledge that non-Japan Asia has been hit hard in recent weeks. Sources said sales have been down by as much as 50 percent for some high-end brands.

“In general, we expect sales in non-Japan Asia to be down 25 to 30 percent in [the second quarter], but this also incorporates a negative exchange rate impact,” according to Claire Kent, chief luxury goods analyst at Morgan Stanley in London. “With non-Japan Asia hit by SARS and Europe hit by lower tourism, probably the more resilient parts of the world for luxury are Japan and the U.S.”

Kent noted that in general, watch and jewelry firms “have a higher exposure to non-Japan Asia than leather goods companies.”

In a report last week, Goldman Sachs analyst Jacques-Franck Dossin said 2003 earnings could be down by as much as 23 percent in his worst-case scenario because of reduced travel flows caused by SARS, war, terrorism risks and a dim economic outlook. The investment firm estimates that travel purchases account for 33 percent of luxury sales, with Gucci and LVMH being most dependent on travel purchases. The “travel spend” in Asia accounts for 7 percent of total luxury sales worldwide.

Goldman Sachs retains a cautious view on the sector despite the end of the war in Iraq and promising signs that SARS could be contained. But Dossin warned that “SARS could once again become a serious problem in the influenza season later this year, and luxury goods news flow is likely to worsen, particularly given retailers’ large inventories.”

Also, “any further spread of SARS, particularly to Japan, could seriously jeopardize luxury goods sales, in our view.”

To be sure, travel flows within Asia are down sharply, by as much as 35 to 40 percent in April, according to Goldman Sachs estimates. A 50 percent drop is forecast for May.

Goldman Sachs acknowledged the difficulty in estimating the duration of all the risk factors, but concluded that if all factors were to have an impact for three months, it would result in a 10 percent swing in earnings. Under that analysis, SARS contributes roughly 4.2 percent of the swing, terrorism fears 3.3 percent, with sensitivity to war and the economy impacting about 1 percent each.

But Antoine Colonna, analyst at Merrill Lynch in Paris, argues that SARS concerns are “overdone,” damaging sentiment more than earnings.

“Assuming two-thirds of non-Japan Asia is a danger zone…then about 75 percent of total sales registered in non-Japan Asia could give us downside,” Colonna wrote in a recent report. “Our calculation also factors in a 40 percent drop in sales where SARS is active. Were it to last until 2004, sector EPS would be cut on average by 3 percent.

“This does not take into account the potential positive impact of SARS on Japanese domestic consumption, and is thus very conservative.”

He added, however, that the main risk to price targets for stocks, including Hermès and LVMH, is if SARS spreads to Japan.

LVMH has said Hong Kong and Singapore, hit hard by the crisis, represent only 6 percent of its total business. A Burberry spokeswoman said Tuesday that Hong Kong, China and Singapore generate less than 5 percent of its total group revenues.

A spokeswoman for Swatch acknowledged SARS is affecting sales in the countries hit by the killer virus, as well as “tourist centers visited by people from these countries.” But she added that Swatch would be “able to compensate to some extent” for lost sales in other regions and stressed that the strength of the Swiss franc was more of a concern than SARS.

Antoine Belge, luxury analyst at HSBC in Paris, said he’s assuming that SARS will be contained by the end of the second quarter, meaning the crucial holiday sales period would not be affected. He estimates the September to December period generates about 40 to 45 percent of annual profits for luxury goods firms.

“The management of all the companies are all working on the assumption that by the summer, things should be back to normal,” Belge said in an interview.

Nevertheless, some luxury firms said they are taking measures to drum up local business in affected areas.

“We are really pushing our VIP clients to come into the store for private showings,” said a Prada spokesman. He declined to say how much SARS has dented its business.

A Gucci spokesman, acknowledging that sales are down in non-Japan Asia because of SARS, said its salespeople are working the phones. “We are doing whatever we can to stay close to the customers,” he said. He also added that Gucci is disinfecting and cleaning its stores a lot to make sure customers know that “they are safe places.”

Françoise Montenay, president of Chanel SA, said the company was taking “no specific local initiatives” in the wake of SARS. She allowed that the travel business has been affected, but not local sales.

“Areas affected by SARS are changing every week,” she said. “However, China is a very small market for us, thus we do not suffer that much.”

Montenay acknowledged that Asian tourists would be missing in Europe if SARS is not held in check.

“The impact of SARS is significant on all retail sectors in the affected areas, and it’s particularly challenging in Hong Kong, Shanghai and Taiwan,” said Stephen Lussier, executive marketing director at Diamond Trading Co. “For us, it’s only about 10 percent of business, which doesn’t sound like much, but it can certainly make a difference to overall figures.”