China’s retail rethink

By Josh Adams

BEIJING - It’s three o’clock on a sunny Saturday afternoon in December, and Beijing’s Pacific Century Place department store is all but deserted. Bored sales clerks in the cosmetics section give each other makeovers as a few shoppers wander by on their way to the basement supermarket. Despite the glitzy decorations and pre-Christmas sales promotions, it looks as if the store’s hefty prices are just not right for most of the capital’s shoppers.

In the lengthy run-up to 2008 Olympics in August, retail development has become a competitive sport in China’s urban centers, with Chinese consumers acquiring a taste for Western-style superstores and exclusive, big-name brands. Eager to cash in on the perceived spending spree, developers have been rushing to construct outsized shopping emporiums - China now has over 400 malls and large scale retail spaces, with more than 20 currently under construction in Beijing alone.

Unfortunately for some developers, it seems as though the growth in construction may have outpaced growth in disposable income. While many Chinese love to visit luxury local malls with their feel-good finery, fewer are willing to hand over the large sums of cash necessary to keep them in profit. Jillian Chen, a Beijing office worker browsing in Pacific Century Place, comments, "I like to visit malls like this one, but unless there are big sales I usually can’t afford to do more than window shop."

While Prada boutiques and Tissot displays are seemingly de rigueur for many Chinese malls looking to display their stylish credentials, focusing on the wealthy elite may have effectively alienated them from the country’s massed ranks of aspiring middle-income families. Vanity may be their undoing.

David Hand, managing director of the Beijing office of Jones Lang La LaSalle, one of the world’s largest commercial real estate service companies, comments, "In my view only 10% or 20% of China’s malls will realize their true profit potential. Poor management, poor location, poor design, poor choice of tenants and the fact that these places are just too big and too pricey are all contributing factors. As the market becomes increasingly saturated the underperformers will naturally find themselves squeezed out."

Malls built outside the downtown areas of major cities could have trouble surviving, said Steven Beesley, co-founder of the Institute of Shopping Center Management in Hong Kong.

"Many urban residents, especially the older generations, still like to shop locally and simply can’t afford mall prices,'' he said. "Upwardly mobile younger Chinese are visiting these megastores, but it’s doubtful they’re spending enough to support the construction boom."

Despite all the hype about increased spending, on average Chinese consumers still save about half of their income - after deducting basic living expenses, there’s little left to splash out on a Louis Vuitton handbag or French Connection sweater. According to government data reported by Forbes, the per capita disposable income of China’s urban residents jumped 19.5% in the first-quarter of 2007, but is still only 3,935 yuan (US$550). A recent report by Morgan Stanley found that consumption in China is still only 35% of gross domestic product, about half the rate in the US.

Since 1978, the retail sector in China has undergone radical change. Store ownership has diversified considerably, increasing numbers of foreign retailers have been allowed to enter the country, and many retail formats developed in Western economies have been introduced. The total opening up of the Chinese retail sector in January 2005, as agreed with the WTO, gave fresh impetus to the boom, and has driven up demand for properties in both Beijing’s core and non-core shopping areas.

Considering the escalating figures it’s easy to identify the main drivers of China’s great mall frenzy. The growing Chinese middle class now numbers over 100 million, with household incomes in this bracket increasing annually by 12% to 15%. The proportion of urban dwellers in China has grown from less than 20% in 1980 to over 40% today and will reach 60% by 2030. Last year, Chinese consumers spent 8.9 trillion yuan (US$1.2 trillion), a 13.7% year-on-year increase.

In the face of these increases, however, a growing number of analysts are concerned that the ongoing surge in mall building will flood the market and drive down profit to unsustainable levels. Wang Yao, the deputy secretary general of the China Industrial Association, recently told a retail forum in Shanghai that China’s mall development urgently needs better control. "China has too many shopping malls at the development phase," he said in remarks published last autumn. "There will be more and more dead malls if no efforts are made to improve management."

According to a report last summer by McKinsey & Co, many Chinese retailers have a limited understanding of how consumers shop, and as a result many malls are failing to fulfill their potential. Despite record sales in 2007, China’s retailers earn an average profit of around 1%, compared to 3% to 5% in the West.

In the hope of surviving the inevitable squeeze, some market-savvy developers are now constructing so-called "mixed-use centers" - projects that combine retail, dining, entertainment and residential living units, such as the upcoming Yueda Xinyi Time Mall in Shanghai and Sanlitun SOHO in Beijing. They are also restructuring their retail side, focusing more on housing shops that sell affordable products, and less on glamorous high-end brands that still remain out of reach for the majority of Chinese consumers.

Richard Wang is executive general manager at Gulfland Property Development, who is responsible for construction of "The Gate", a 120,000-square-meter mixed development in the so-called "West CBD" area of Zhongguancun, in northwest Beijing, recognised as a technology hub of China. He comments, "We wanted to create a destination attractive to everyone, not just a building for the wealthy minority. All the tenants in our retail space were carefully chosen to reflect the brand-conscious and lifestyle-oriented nature of our target consumers."

After China’s post-Olympic glow fades away and market forces really start to bite, it’s likely that the trend away from high-end store-dominated malls will gather increasing momentum - those developers who continue to ignore China’s middle-class shoppers do so at their own peril.

Josh Adams is a freelance writer and photographer who has lived in Beijing for the last two years.