When it comes to profit, an elite few in the apparel and footwear space will be raking in the dollars in 2020.
Despite the malaise that settled over much of the sector this year, McKinsey & Company said in its recently released State of Fashion 2020 report that economic profit has grown for the second consecutive year, following declines from 2012-2016.
But revenue growth in recent years had little to do with it.
“The 16 percent rise came largely from improved operating margins driven by successful cost cutting,” according to the McKinsey Global Fashion Index (MGFI) released within the report.
Though many in the industry spent much of 2019 focused on pruning expenses to maintain margins in an ever-threatened climate, few saw sizable success—particularly those in the “middle” as fashion’s polarization furthered.
“The polarization of the market has progressed, with both luxury and value and discount players gaining share with an increasing number of consumers choosing to make major ‘investment’ purchases while otherwise opting for value,” McKinsey said. Both categories outperformed in terms of total return to shareholders in the past three years, with luxury delivering 22 percent and value 14 percent.
“Considering premium/bridge’s 1 percent and mid-market’s -2 percent during the same time frame, the bifurcation across price segments is evident,” McKinsey added.
Mid-market players, according to McKinsey, drove a nearly 80 percent decline in the industry’s economic profit between 2010 and 2016, whereas luxury sectors accounted for almost 80 percent of the growth.
While value and discount players have seen some market share gain, it hasn’t quite been a bed of roses for the category.
“Value and discount players have seen their absolute profits shrink as increasing costs of goods sold (COGS) has outpaced their rapid revenue growth,” McKinsey said. “Reacting to rising sourcing costs and increased markdowns, some of these players have upgraded their assortment planning capabilities by revising their end-to-end product development and sourcing processes to increase efficiency.”
So who’s really winning? According to McKinsey, it’s a select handful, and those so-called “Super Winners” accounted for 138 percent of the industry’s economic profit in 2018.
“Among this year’s Super Winners are players that stand apart thanks to their continuous innovation of both products and customer experience, their development of strong brand equity through community connections on issues that matter, and a notable focus on digital (apart from predominantly off-price retailers,” the MGFI found.
By economic profit, the top three companies on the list of the industry’s leading 20 players, are Nike, Inditex and LVMH. Nike raked in $2.98 billion in economic profit in 2018, followed by Inditex with $2.91 billion and LVMH with $2.32 billion.
TJX companies, Kering, Hermes, Fast Retailing, Adidas, Ross and VF Corp. rounded out the top 10.
But few players—save for newly minted Super Winners Anta Sports, Heilan Home and Lululemon—have seen any sweeping changes in their economic profits.
“It is apparent that there is low mobility across performance clusters. It is a challenge to join players ranked in the top quintile,” McKinsey said. “These top performers have strong staying power as two-thirds of the top quintile class of 2013 maintained their position in 2018.”
Again, the middle market is faring the worst.
“Seventy-five percent of this middle range remain where they are and close to 15 percent even slip into the bottom quintile,” McKinsey said.
And it’s capital efficiency that will prevent significant movement where economic profit is concerned, as many are investing in growth while top performers have been able to reduce invested capital as a percentage of sales.
“These top climbers have strengthened their value propositions and made efforts to align strategically both on the consumer-facing side with brand-building, pricing, product-design and experience as well as operationally to boost efficiency along the value chain,” McKinsey explained. “Financially, these efforts improve both revenue growth and bottom-line efficiency.”
The outlook for 2020
Following a strong year for profit growth, McKinsey expects 2020 to see the fashion industry’s revenue growth down half a percentage point to between 3 percent and 4 percent.
“The global outlook for consumer spending is being depressed by rising trade tensions, political uncertainty and economic concerns as central banks take action,” the consultancy noted.
Globally, North America’s trade wars, plus an upcoming election year, will pose an ongoing concern. Emerging markets in Asia-Pacific will be “relatively strong,” though McKinsey said retail sales in China are already falling short of expectations. Europe will still be facing economic malaise, exacerbated by Brexit uncertainty, while Latin America, the Middle East and Africa will remain stable, with bright spots in Brazil and Nigeria.
“Stronger price point polarization is seen in consumer purchasing behavior in mature Asia-Pacific and China,” according to McKinsey. “This will lead to continued resilience in both the luxury and the value discount segments, while further squeezing the middle market.”
By segment, sportswear will see the highest growth rate, at 6 percent to 7 percent, despite clothing’s overall downturn in light of emerging market models, like rentals.
“The success of sportswear powerhouse brands such as Nike, Adidas and Lululemon will be supported by the emergence of a range of smaller niche players and the rise of outdoor and active brands,” McKinsey said.
Big picture, 2020 will be marked by “apprehension amid uncertainty.”
“Although this growth forecast shows only an incremental slowdown in overall industry growth in 2020,” McKinsey noted, “geopolitical and trade tensions alongside intrinsic industry challenges are leading to heightened anxiety and wariness in fashion for the year ahead.”