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FEBRUARY 9, 2009, 12:28 A.M. ET
Saks Upends Luxury Market With Strategy to Slash Prices
By VANESSA O'CONNELL and RACHEL DODES
When Saks Fifth Avenue slashed prices by 70% on designer clothes before the holiday season even began, shoppers stampeded. "It was like the running of the bulls," says Kathryn Finney, who says she was knocked to the floor in New York's flagship store by someone lunging for a pair of $535 Manolo Blahnik shoes going for $160.
Saks' deep, mid-November markdowns were the first tug on a thread that's now unraveling long-established rules of the luxury-goods industry. The changes are bankrupting some firms, toppling longstanding agreements on pricing and distribution, and destroying the very air of exclusivity that designers are trying to sell.
The problem Saks faced last November is one that haunts the U.S. economy as a whole: From car makers to home builders, companies are stuck with inventories that are far too fat. (See related article.)
Saks's risky price-cut strategy was to be one of the first to discount deeply, rather than one of the last. Managing high-fashion inventory is tricky. Clothing can go out of style in just months, so stores don't want to keep it around. But cut prices too soon or too deeply, and shoppers start to expect it.
Stephen I. Sadove, Saks' chief executive, says his action helped his company avoid massive losses, or worse. "These Herculean things," including slashing inventories, were done to "make sure that the company survives," Mr. Sadove said in an interview.
Pressured by Saks, and hit by the worst holiday season in almost 40 years, rivals including Neiman Marcus Group Inc. and Barneys New York, a unit of Istithmar World of Dubai, slashed prices, too. They cut much more deeply and aggressively than usual, starting as early as late November -- with shopping season barely under way.
That, in turn, clobbered smaller boutiques. "It didn't seem logical to continue," says Linda Dresner, owner of a Park Avenue shop that for a quarter-century specialized in procuring unusual items favored by the fashion cognoscenti, like $1,000 dresses by Japanese label Comme des Garcons. She closed her doors in December, unable to keep up with the price-cutting.
Retailers are still feeling pain. Last Thursday, Saks said January sales fell nearly 24%. Neiman Marcus expects its first quarterly loss in a holiday shopping period that anyone at the retailer can remember.
Last year, luxury goods had become especially important to retailers because sales of these so-called "star" brands such as Prada, Gucci and Dolce & Gabbana -- which sell in department stores as well as their own boutiques -- stayed strong into mid-2008, even though retailing overall was sinking by then.
By mid-November, there were already a few signs of trouble. Five days before Saks slashed its prices, Neiman Marcus had cut its own by 40%. And designers themselves were quietly trying to drum up cash by selling current fashions at fire-sale prices (to 90% off) at private "sample sales," often tucked away in industrial buildings in New York.
But Saks' maneuver marked an open abandonment of the longstanding unwritten pact between retailers and designers over when, and to what extent, to cut prices. Those old rules boiled down to this: Leave the goods at full price at least two months, and don't do markdowns until the very end of the season.
That worked fine in the good times. Demand was high, and so were everyone's profit margins.
But Saks' surprise discounting forced companies and brands that have their own retail operations -- including Prada SpA, PPR SA's Bottega Veneta and LVMH Moet Hennessey Louis Vuitton's Marc Jacobs, which had opened hundreds of their own stores in the past decade -- to follow suit or forfeit sales.
Giving designers a heads-up wasn't an option, Saks says, without risking that rival department stores get wind of its strategy. "We live in a competitive environment," says Ron Frasch, Saks' chief merchandising officer. "Also, who do you tell and who don't you tell?"
Perhaps the biggest consequence is that customers are now questioning the entire premise of luxury goods: Why pay top dollar today if big markdowns could be coming tomorrow?
"Shopping has changed as an experience for me" because of all the discounting, says Roz Silbershatz of New York. Over the holidays she bought, among other things, a $1,000 Badgley Mischka gown for $290.
Previously, the 29-year-old communications executive had paid full price for items including a $2,500 Jimmy Choo handbag. "I am so shocked that I ever did pay full price," she says. "I could never do that again."
Designers are starting to fight back. Discounting "is the way of spoiling everything," says Gianni Castiglioni, president of Milan-based designer label Marni SRL, known for $2,000 dresses made from innovative materials such as polyvinyl chloride (the "PVC" in household pipes) that are favored by the art-gallery set.
Some, including Marc Jacobs and Derek Lam LLC, are thinking about splitting their product lines or withholding some top items from department stores in order to feature them in their own stores. And at this month's New York Fashion Week, which starts Friday, some designers might offer retailers only their "pre-fall" collection, but not what they actually show on the runways, which would appear only in their own shops, according to one buyer for a Saks rival. This person declined to name the two brands weighing this strategy.
Saks executives aren't in favor of that. It's the runway collection that's "setting the image and setting the tone" for a designer's look, says Mr. Sadove.
Diane von Furstenberg, the designer and president of the U.S. fashion designers' trade organization, says another solution might involve producers leasing space in department stores.
The idea appeals to brands because it gives them complete control over display and staffing. Department stores, however, have some issues. It diminishes control over their own department-store brand and can also get confusing for shoppers, if say a "store-wide" sale doesn't apply to items bought in various leased-out areas of the shop floor.
Leasing is more common Europe and Asia but relatively rare in the U.S. Saks leases a slice of its space to Louis Vuitton and Fendi, among others.
From his corner office overlooking 49th Street, Mr. Sadove, 57 years old, says he's working on damage control with designers. "If people's feathers got ruffled, we want to unruffle them."
Saks has an incentive. "Almost everything we sell is 'designer' in one form or another," Mr. Sadove says.
Still, he and Mr. Frasch, defend their actions, saying they needed to swiftly fix a big problem that no one saw coming.
When Saks started planning its 2008 holiday season a year ago, there were few clues that the six-year boom in luxury goods was about to flop. Although other retailers were starting to suffer, it appeared that Saks's wealthy clientele -- its typical shopper has a $175,000 annual household income -- might help the chain buck the trend.
The Dow Jones Industrial Average was approaching 13000, and "our customer feels good," Mr. Sadove said in November 2007, as Saks reported higher profits.
So, in February 2008, Mr. Sadove told his merchants to place orders accordingly when they jetted to Milan and Paris to buy for the fall season.
Then, September struck. Mr. Sadove was in Paris on Sept. 29, attending runway shows -- but his eyes were glued to his BlackBerry as he watched the Dow drop nearly 800 points in one day.
Next, he watched big spenders became penny-pinchers. That month, Saks' same-store sales fell 11%. In October, they declined another 17%, the worst monthly drop since the 2001 terror attacks.
The change happened "over as short a period of time as you can possibly imagine," Mr. Sadove says.
The result: a huge disconnect between Saks' inventory and shoppers' appetite. At Saks' annual "private sale nights," early-November events for top customers, the usual 40% discounts got no response.
After lunch on Nov. 10, Messrs. Sadove and Frasch gathered with other executives to strategize. The Thanksgiving kickoff to shopping season was still a few weeks away, and maybe people's billfolds would loosen up by then. But Mr. Sadove was anxious.
So he floated the idea of deep price cuts.
Some colleagues urged drawing the line at 50%. But Mr. Frasch felt strongly that wouldn't be enough.
"I felt, the sooner we react, the better," he recalls. "I said, 'Let's not wait till December 26th'" to do something dramatic.
Their decision: A 70%-off sale would be used, but only in a worst-case scenario, if sales kept declining and shoppers remained bored by less eye-popping 40% rollbacks.
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