In April this year, the ground floor of the Yaohan, the newest and shiniest of Beijing's department stores, was dominated by a mix of couture brand cosmetics and hi-fi equipment. The Hitachi TVs and Kenwood music centres have now been banished to the basement, along with the other household goods, while the Christian Dior and Shiseido cosmetic counters are surrounded by stands selling Guy Laroche and Pierre Cardin clothes and accessories. While PRC consumers clearly have increasingly sophisticated tastes, marketers here are also developing the management of shop floors. Customers are less and less likely to come across the surprising juxtaposition of products (irons displayed with rubber gloves, socks nestling next to electric shavers) that might have amused casual browsers but was the bane of the consumer in search of a specific item. This reflects not only a tightening of the demand for retail space, but also a more competitive market as inflation and government austerity measures attempt to deter consumers from shopping.
Retailing nevertheless continues to be one of the more accessible and exciting areas open to foreign investors in China. A recent report by McKinsey & Co suggested that there currently exists a market of around 60 million consumers.
Based on current rates of growth, that consumer base could expand to 200 million by 2000. These estimates take into account the annual per capita incomes of inhabitants of the area designated Special Economic Zones, such as Shenzhen, Shantou and Xiamen and the fact that while official salaries in China are low, public transport, housing, energy, healthcare and education are provided free or are heavily subsidised, considerably increasing the proportion of disposable income available to the average Chinese citizen.
That disposable income is further increased by cash earned from undeclared activities. There are no official statistics identifying the extent of the black economy ? some observers have put it at half of GDP, while others have suggested that it is equivalent to GDP. It is virtually impossible to assess its effect on the retail industry, but if the anti-corruption drive announced by the government in August succeeds in taking effect, it may depress consumer activity in the short term. On the other hand, it is thought that most cash siphoned out of the official economy is also deposited abroad. The long-term effect of curtailing such activity should be to increase the money supply in the official economy, benefiting retailers and manufacturers of consumer goods alike.
There are pressures on consumer spending power. While working for a private enterprise offers far greater rewards to employees, leaving the work units which customarily supply housing and other benefits means that income now has to meet demands such as rent and schooling. There are not many houses or flats available either for rental or purchase and those that are available are often prohibitively expensive. Inflation is eroding disposable income, but it has also been eroding the value of saving deposits. The government has raised interest rates in an attempt to encourage saving, but with confidence dwindling in the country's banking system, this measure may not succeed.
China is currently committed to a tight fiscal policy and maintaining its high level of tariffs and import restrictions on a wide range of products. In the longer term, the government is planning major reforms of its trade policy with regard to both exports and imports that are linked with its application for membership of GATT. The government has announced its intention to cut import tariffs to 15 per cent overall during the next five years, although whether implementation over this timescale is realistic remains unclear. Tariff reductions may well coincide with the imposition of some form of sales tax applied across the board which would certainly affect consumer spending power.
Existing import restrictions have markedly distorted consumer markets, particularly where those products which are considered "non-essential" are concerned. Such products include tobacco, both alcoholic and soft drinks, and prepared foods, the mainstays of the FMCG (fast-moving consumer goods) industry. Clothes, consumer durables, toys, sports equipment, cosmetics and perfumes and other manufactured goods are also subject to tariff restrictions with rates ranging from 80 to 100 per cent on imports. The aim of existing tariffs on these products has been firstly to protect domestic production and secondly, to penalise consumption, thereby discouraging imports.
The effect of high tariffs on many consumer goods has been to encourage companies to enter into joint ventures within China a to produce their goods locally. This has been the strategy pursued by such varied companies as Benetton, Unilever, Gillette, Pierre Cardin and Nike. China's initial attraction as a manufacturing base for goods to export has developed into a market in its own right. All of these companies have constructed factories with output dedicated to the local market. Part of the success of such ventures lies, in the case of Benetton, for example, in the ability to produce clothes specifically aimed at the local market in terms of cost as well as design. Another key aspect of their success depends upon establishing a secure distribution network.
Traditionally, four regional companies in Beijing, Shanghai, Guangzhou and Wuhan have acted as central distributors to provincial wholesalers throughout China, who in turn supplied municipal wholesalers responsible for supplying shops. This system is extremely unwieldy, to the extent that it can take 45 days or more to get a product from the factory gate to the shopfloor. While one or two foreign-owned department stores have installed computerised inventory systems, it must be borne in mind that stock-taking is generally rudimentary. There are usually other products available to fill shelves, but they may not be the ones that consumers wish to buy.
In response to this sort of difficulty, Unilever established its own sales force in 1988, consisting then of five sales staff. That sales force has expanded to the point where Shanghai Lever now has 60 dedicated staff working in provincial wholesalers and additionally pays around 800 sales staff in shops and department stores throughout China. It also has its own fleet of trucks and is planning the construction of warehouses in three areas close to major markets such as Beijing. With a network of this scale in place, Unilever is well placed to develop markets for products such as OMO detergents, Lux soap and cosmetic creams such as Ponds and Vaseline.
All companies involved in retailing ventures in China face considerable difficulties, whether their approach is to establish a manufacturing and distribution base in the country, or to import stock through Hong Kong agents. Foreign exchange is more accessible with the development of Foreign Exchange Adjustment Centres, also known as swap centres, but the differential between the renminbi and FEC continues to cause problems. The gap between the original and swap market exchange rates at the end of the first quarter of this year was over 45 per cent. fn some areas, notably around Guangzhou, the preferred currency for even minor transactions is the Hong Kong dollar. Foreign partners in joint ventures have experienced problems in operating, particularly where management styles and structures fail to mesh. Consequently, there has been considerable pressure on Chinese authorities to smooth the way of wholly owned foreign enterprises. Currently, major retailers, such as the Japanese company Yaohan and Hong Kong based Dickson Concepts International are developing projects with Chinese partners, but companies such as JC Penney and Marks & Spencer continue to hold off from the Chinese market.
Retail sales continue to expand in SEZs and around the major cities with increases in the purchase of clothes and electronic equipment from portable phones to cameras. Unfortunately, the discrepancies are becoming more marked between the economically buoyant areas and interior provinces, where incomes are shrinking and the opportunities for private enterprises are limited. If the government succeeds in slowing down the rate of growth overall, regional variations are also expected to even out, though this is unlikely to make the poorer provinces any more attractive to retailers in the short term.
The focus of retail activity over the next three to seven years will continue to be the expansion of shop space in established centres such as Shanghai and Beijing, where multi million dollar construction projects for shopping centres are underway. In the short term, shop floor availability is limited, and unless a retail company is a partner in a construction project, rental of commercial property is costly, particularly for foreign companies. Once commercial centres such as Xidan Avenue in Beijing are developed, there should be many more opportunities for foreign companies to set up shop. At present, Stefanel, Benetton and Mexx, the Dutch casual clothing outfit, lead the way in securing space in government stores such as Shanghai No 1 Department Store and the Lufthansa Centre's Yansha (Friendship) Store. They have also succeeded in securing a major advantage in terms of establishing strong brand identities and a consumer following that is certain to expand. *