Quantifying the share price downside for luxury stocks from the PBoC decision
* The impact of RMB devaluation depends on eight major variables:
1) The extent of RMB devaluation. We develop here several RMB devaluation scenarios: -2%, -5%, -10% and -20%;
2) Exposure to sales in China. The companies in our coverage differ dramatically in terms of sales exposure to Mainland China (from 2% to 15%);
3) Luxury consumers’ price elasticity. We have assumed price elasticity from 0.5 (at the high-end and the accessible extremes) to 1.0 (mid-price);
4) Chinese spend repatriation. We have assumed that a third of lost Chinese luxury spend abroad resurfaces in China;
5) Translation impact. We have obviously factored in lower FX support in reported sales and quantified cost RMB
exposure;
6) RMB cost exposure. RMB devaluation is a net positive for companies exposed to RMB COGS, as well as for those who have material RMB SG&A exposure;
7) Price cuts in China during 1H15. All else being equal, companies that have not cut prices in China should be at an advantage;
8) Remedial actions. We have not factored in remedial actions, so investors may appreciate the "raw" impacts of RMB devaluation.
* We draw three major conclusions from our quantification exercise
1) RMB devaluation is a net negative for most luxury players, but share price moves on the back of it seem overdone. When fully factored in, moderate RMB devaluation has a very low single-digit negative impact on luxury players’ profits;
2) Consumer luxury spend price elasticity is a key assumption in our model. Chinese consumers spend less because products in Europe appear more expensive, without luxury players getting any benefit in volume terms;
3) Not having made price cuts in China is a net plus. At first sight, LVMH and Swatch look better off. By contrast,
companies that have cut prices, like Burberry and CFR, have a higher hurdle to clear.