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LVMH, Kering, & Luxury Gray Market Distribution

The gray market, also referred to as the parallel market, can be defined as products sold to end-customers through unauthorized or unofficial channels.

The product flow through the value chain would be as follows: a luxury brand sells products to an Italian multi-brand boutique wholesaler intended to be sold into the Italian market. As the season progress, the stock isn't moving. The boutique eventually sells the overstock to a wholesaler, dealer or consumer outside Italy through platforms such as Farfetch and Cettire. Therefore, products legally and reportedly sold by brands in Italy end up in China or the US, for example.

After various conversations with executives, we estimate the luxury gray market could account for 8-10% of the global luxury market and 15-20% of China luxury sales. 

Brands like LVMH, Richemont and Kering report their sales as Asia ex Japan, with Japan its own segment. It's well understood that Chinese tourists contribute to revenue reported in other geographies, however, our work suggests Asia consumer spend contributes a significantly higher amount than reported. Increased gray market sales potentially comes at the expense of brand margins and brand equity.

Over the last decade, brands have been shifting distribution from wholesale to direct channels to take ownership of brand equity and limit supply into the gray market. But this hasn’t stopped the demand and overall sales growth through the gray market. 

Kering brands such as Bottega Veneta are known to directly engage in the gray market to release overstock. On the other hand, LVMH and Hermès aim to eliminate any product moving through gray channels. 

For example, in Bottega Veneta, it's crazy but true. When I worked in wholesale, they worked with big partners, not small ones that manage the parallel. Big brands like Kering don't work with small partners for parallel markets. They work with four or five major stakeholders, usually based in Switzerland or Hong Kong. With Bottega Veneta, we used to close the showroom. We would show the collection to these partners and make a proper order for them. The quantities depended on the moment. I don't know if Bottega Veneta still works with the gray market, but at that time, they needed more money, and Kering needed to meet targets, so they opened the parallel market. - Senior Executive at a Large Italian Wholesaler

This IP research breaks down how luxury goods move from Italian multi-brand boutiques to Chinese gray market platforms. We explore how this impacts brand equity, which brands are using the gray market most, and the drivers of gray market supply that prove critical for platforms such as Cettire and Farfetch. Here is a breakdown of what we cover:

Lifco vs Halma: M&A Team Structure & Incentives

Most investors believe M&A destroys value. There are numerous studies that support this sentiment. However, the historical studies refer to companies that engage in irregular, larger deals. Companies that deploy ‘programmatic acquisition’, create excess returns, according to a recent study by McKinsey. 

This is how McKinsey defines programmatic acquisition and each M&A strategy type:

We’ve been studying programmatic acquirers across various industries for years. This includes industrial acquirers like Lifco, Halma, Danaher, to Constellation Software and accounting practice acquirers. We have hundreds of interviews in our library on these companies exploring topics including how to design an acquirer org structure, the power of decentralisation, and effective incentivise plans for M&A teams. 

This free IP Fieldwork podcast shares the history of our work on programmatic M&A and explores our recent research comparing Lifco and Halma’s M&A team structure and compensation. For two companies that are similar in EBITA, multiple, and revenue, they have a very different operating structure and M&A philosophy. For example, Lifco has 3 people at HQ overseeing over 200 subsidiaries. Halma has a HQ over 20x as big with ~50 companies. We are yet to find a leaner HQ than Lifco.

How Lifco compensates M&A staff is also unique relative to other acquirers we’ve studied. Understanding M&A compensation provides a glimpse into how the company thinks about capital allocation and value creation. It’s a way to peek into the soul of an acquirer. This free IP Fieldwork podcast also provides context to our research process and how we’ve structured our studies of programmatic acquirers over the last 5 years. 

Old Dominion, XPO, & US Less-Than-Truckload Industry

Old Dominion, the leading US Less-Than-Truckload (LTL) provider, has achieved an 18% CAGR shareholder return for the past 34 years. On the surface, what might seem a simple, commoditized trucking company has beaten the market considerably over decades. ODFL earns 25%+ ROEs compared to 15-16% at small parcel companies such as Fedex. The incremental returns on capital and durability of the business has fascinated us. 

ODFL’s high historical returns, the LTL long-term structural drivers in e-commerce, and a more fragmented supply chain led us to explore the North American LTL market over the last two years.

This IP Research Roundup curates the last two years of our work on LTL and explores the different business models, different approaches to drive network density, and how customers choose LTL providers. 

Carriers that have their own assets and only their own assets have more control over their network and territory. For instance, they are not going to have embargoes. In the LTL world, carriers sometimes issue embargoes due to freight volume. If a large volume of freight is flowing into the Chicago, Illinois market, and certain carriers are using Chicago-based carriers or owner-operators to make their deliveries, that local company might issue an embargo to their partner carriers on the LTL side. They might say, don't bring any more freight to us, we need to service our own clients first. In such cases, the asset-based company that already has a large network of their own trucks is more likely able to handle the volume of freight for their own customers. This is something I've definitely experienced” - Former Solutions Specialist at Old Dominion Freight Line

Fairfax Financial: Brit Insurance

This interview with a Former Brit Insurance, a company acquired and owned by FairFax, explores the challenges at the company and potential long-term growth opportunity:

Brit created a new Lloyd's Syndicate called Ki back in 2019 or 2020, in partnership with Blackstone. You might want to look at what's available in the public domain about this, as it could be quite interesting to you. I don't have the latest information, and even if I did, I might prefer not to share it. However, the key point, which is public, is that Ki is spinning away from Brit, and the ownership will be with Fairfax and Blackstone. This business, given its growth towards a billion dollars in premium, should be quite exciting, both intellectually and financially. It could create a nice payday for them, whether through a liquidity event or by adding a new asset to their balance sheet as it spins out of Brit. This could compensate for any challenges Brit faces. If it's not financially exciting, it was one of the distractions we mentioned earlier when Brit was trying to do too many things. The new CEO was instructed to focus, and Ki was one of those big distractions. However, it's a distraction that should generate significant revenue. It's worth spending five or 10 minutes looking at the latest news on this, especially since they are spinning out Brit, which should be interesting as they begin to define its value. - Former Senior Executive at Brit Insurance

Raspberry Pi Holdings: Pi Connect & Industrial Stickiness

Raspberry Pi manufactures high-performance, low-cost, general-purpose computers for hobbyists and to bring intelligence to industrial products and processes. Its processors and computers are used in elevators, smart sensors and build products, signage, and various industrial control and automation systems. 

This interview with a CEO of a Raspberry Pi Reseller, which is a channel that accounts for over 53% of total revenue, explores the sales process and company’s strategic positioning. This is the first interview in a series on Raspberry Pi.