A consumer dynasty

Continuing our look at the newly emerging global marketplace, DDI's second installation of its Tale of Two Cities series takes a close look at Shanghai, the epicenter of explosive growth in China. The first article in this series focused on Dubai, an exotic, rapidly expanding hub in the Middle East, which appeared in the March issue.



With a sixth of the world's population—more than 1 billion people—China is poised to have the largest consumer economy on the planet by 2021. Its influence on the global economy cannot be ignored. In 2002, China became the world's leading recipient of foreign direct investment (FDI) with $52 billion, a position formerly held by the United States, according to a report from Deloitte & Touche LLP, New York. By 2008, China's FDI is expected to top $80 billion. Measured on a purchasing power parity (PPP) basis in 2006, China stood as the second-largest economy in the world after the United States, according to the CIA. With a burgeoning middle class with increasing purchasing power, an expanding urban landscape ripe for retail and commercial growth, and increased importation and exportation, this developing country is indeed changing the global economy as we know it.

At the helm of China's economic boom is Shanghai, often referred to as the "City on the sea" and "Paris of the Orient," which claimed 23 percent of China's total FDI last year. While it once lingered behind the shadows of Beijing and Hong Kong, Shanghai has re-emerged to reclaim its reputation as the country's Renaissance capital and a major economic center in China, as it was known prior to its fall in the early 20th century. Shanghai is the most populated coastal city in China with about 18 million residents. A rebirth of sorts began in Shanghai more than 20 years ago when Chinese President Deng Xiaoping encouraged economic growth by approving several provisions that have paved the road for foreign investment, increased urban land development, privatized housing, and have led to the gradual liberalization of prices and the development of stock markets.

"China sees itself needing to compete with the likes of major retailing centers like Manila, Singapore, Bangkok and Tokyo as it matures its global brand image," says Brian Dyches, vice president, consumer and market strategy, Watt International, Toronto. "Shanghai will continue to be a true center of commerce due to its port and geographic location between some of Asia's major capitals. It's a true front door into the heart of Asia."

Known for its blend of Asian and European architectural influences, Shanghai is a cosmopolitan city that is home to more than 500 international corporations. While Beijing amps up to host the 2008 Summer Olympics, Shanghai will host the Expo Shanghai in 2010, where countries around the world will unite to exchange ideas about world economy, culture, science and technology. Looking into the future, a forecast from New York-based ACNielsen indicates that "over the next decade, China is set to become the second-largest travel and tourism industry in the world, after the United States."

Shanghai will soon boast one of the world's tallest buildings with the construction of the 101-story Shanghai World Financial Center, due for completion next year. Designed by New York's Kohn Pederson Fox Architects, the mixed-use building tops that of the 88-story Jin Mao tower and has a square prism shape, which the ancient Chinese used to represent the Earth.

While Shanghai is one of the best-known Chinese municipalities, it brings a sense of mysticism with it, suggests Dyches. Many are familiar with the European architecture in the historic Bund district, which has become an upscale shopping destination. However, other expanding areas within the city core that incorporate a modernist architecture with bright neon lights have become retail and hospitality destinations as well, vying for consumer attention on different levels. And all this has happened within the last 20 years.

"Shanghai has a relative short explosion of development in the scheme of things. When we were there 15 years ago, they were still wearing blue Mao jackets," says Bill Gartz, principal who leads Seattle-based Callison's international practice. "Now you see no such thing; they're wearing Prada shoes and Armani suits, and they have Starbucks on the corner. There is no imagery of Mao's China—they have closed that 15-year gap very quickly."



Imperial retail

With a retail sector comprising almost 40 percent of China's GDP, according to a report from Ernst & Young, it seems retail will only continue to flourish in the nation. China claims two of the largest shopping malls in the world—the South China Mall in Dongguan with 7.1 million sq. ft., and Golden Resources Mall in Beijing at 6 million sq. ft. These new malls cater to the country's ballooning consumerism and dwarf the once-grandiose retail palaces in the United States, including the King of Prussia Mall in Pennsylvania with 2.8 million sq. ft. As malls and other retail developments continue to go up at an astounding rate in China's urban and suburban areas, international retail companies are frantically moving in.

Retail in Shanghai goes beyond the luxury districts such as the Bund and Xintiandi, for which it is well known. "In the '90s, most of the investment was made by hypermarket retailers," says Ira Kalish, director of consumer business at Deloitte Research, Deloitte & Touche USA LLP, New York. "In this decade we've seen more non-food retail investment. As the market has become more affluent and there is a critical mass of consumers who have discretionary purchasing power, we've seen more investment by apparel retailers and especially retailers that sell home-related products."

Kalish attributes the proliferation of home improvement and home furnishings stores to the nearly complete privatization of housing in Shanghai. "New homeowners tend to be mainly middle-class consumers who have decent-paying jobs," Kalish says. "When you buy an apartment in Shanghai, you're getting a box—there's no flooring, no appliances, no electrical wiring, pipes—it's literally an empty box." Atlanta-based The Home Depot Inc. has recently headed to China, not far behind Sweden's IKEA and the United Kingdom's B&Q (a U.K. home improvement chain much like Home Depot).

As the middle-class sector gains ground, so do specialty apparel retailers moving into Shanghai. Consumer preferences are becoming more fast-paced, discerning and brand-hungry. One such case study is that of Nike, a U.S. retail icon, which did its homework before setting up camp in Asia.

Targeting teen consumers between the ages of 15 and 19, Nike sent over Columbus, Ohio-based Big Red Rooster to study the Asian consumer prior to opening stores. The design team visited three cities—Hong Kong, Tokyo and Shanghai—to build a profile of this target consumer. "I think one of the important things for anyone going in there with retail to think about is not to only understand how the consumer shops or what is important to them as a brand—but they (Nike) wanted to understand how they lived," says Big Red Rooster's Marcie Merriman, vice president, retail strategy. "What Nike learned from our research was understanding the size of their closets."

In their research, the team learned that individuality was very important to this consumer, and that there was even a black market for exclusive Nike limited editions, where people were paying well over the original price. Nike also had to take a step back when merchandising its stores in Shanghai, as different rules apply when it comes to fashion. Shoes are not a fashion driver, as they typically take them off at the door of a residence, says Diane Perduk Rambo, executive vice president, creative director, Big Red Rooster. "This consumer packs in the morning, eats breakfast out, goes to school all day, goes to a comic book café or to visit friends—they never go home, so they take changes of clothes with them," she adds, emphasizing that fashion-oriented Nike bags are a driver in the Shanghai store.

Advising others staking their claim in the Chinese retail landscape, Merriman says, "Don't just go in assuming everyone's going to love what you have."

Minneapolis-based Best Buy Co. Inc. first announced that it would enter the Chinese retail market in 2005. Last May, the retailer acquired a majority interest in Jiangsu Five Star, China's fourth-largest appliance and consumer electronics retailer, for $180 million. The acquisition gave Best Buy 136 stores in eight provinces, and the company opened its first Chinese flagship store in Shanghai this past January.

Hoping to be as successful as other hypermarkets in China, Bentonville, Ark.-based Wal-Mart Stores Inc. paid $1 billion in February to acquire Taiwan-based Bounteous Co. Ltd., which operates 101 Trust-Mart hypermarkets in 34 Chinese cities. "Wal-Mart has very ambitious plans in China; they're doing well there," Kalish says. "They've figured out that market." With a current portfolio of 73 stores in China, Wal-Mart's 101-store acquisition could make it the No. 1 retailer in the country. Presently, Paris-based Carrefour, the world's No. 2 retailer, is the largest foreign operator in China. Last year, Carrefour opened 20 stores in China, bringing its total in the country to 90. Kalish says Wal-Mart was turned down in the '90s when local governments decided who could invest—the reason being too much competition. "That was the idea then—they didn't want too much competition, they just wanted modern retailing," Kalish explains. However, now there is plenty competition from other major hypermarket retailers including Germany's Metro AG, Britain's Tesco PLC, Lotus Supercenters and Wumart.

Retailers ranging from Zara to Toys "R" Us have established stores in Shanghai as well. According to a KPMG October 2005 report on retailing in China, 70 percent of the 50 leading retailers in the world have opened outlets in China.

But making the move to the East is not always easy, says Akka Ma, executive vice president and principal for New York-based GRID2 International, which designed the City Shop Supermarket and HuaShi Pharmacy in Shanghai. "Since China is more labor-force oriented, they are lacking the infrastructure for everything—meaning they have limited resources to work with and more obstacles to overcome," Ma points out. Still, the challenges have not stopped many. "Everyone is going to Shanghai because of the economic boom, and there are more opportunities," Ma explains.



New "urban" in the Old World

Where farmland dominated the "city" landscape some 20 years ago, skyscrapers and high rises with bright neon lights are a common occurrence in present-day Shanghai. New developments, popping up in the city proper and now on the outskirts, come equipped with retail, commercial and residential components. Today, Shanghai has more skyscrapers than Manhattan.

The massive urbanization taking place in China is probably most evident in Shanghai. While older buildings along the Bund still retain their historic, European architecture, the new mixed-use developments in other areas are redefining Shanghai's personality, many times mixing new and existing elements.

"China is beginning to realize they have a legacy of historic buildings, and they're beginning their efforts of historic preservation," says Callison's Gartz, who has done extensive work in China. However, he also points out that new architecture with modern qualities is very popular. "I think there's a misnomer that office towers should look like pagodas; they want to create their own sense of modern architecture—not strictly copying from the West, but borrowing from the West."

Located in the center of the city, Shanghai's Xintiandi is a property that incorporates the old and new, sustainability and a mix of retail, entertainment and residential. The $200 million project, created by American architect Ben Wood (based in Shanghai) in 2003, involves the restoration, renovation and new construction of two city blocks. The property is based around the First Congress Building and features lush landscaping, outdoor cafés and social areas. The first of its kind in China, the development has garnered international attention and has won many design innovation awards. Divided into North and South blocks, restored "Shikumen" (an old form of building architecture unique to Shanghai) houses mingle with new constructions.

"Xintiandi is new earth (new buildings, places) and new sky (new spirit, energy) in an old place. It is the kiss of life, this old and new. It is the magic and power of modern Shanghai, its people, its culture," Wood states. Xintiandi has become a tourist attraction as well as a prime destination for city residents, with an impressive retail presence—from Fornarina to Tourneau.

Hong Yi Plaza, a new mixed-use development that includes approximately 667,000 sq. ft. of retail and office property, opened last fall at the gateway of Shanghai's renowned Nanjing Road shopping district. The building consists of a 21-story office tower that sits atop seven levels of retail (including Adidas, French Connection and Swarovski stores) and entertainment. A 72-ft.-tall media wall adorns the exterior. "Historically, all retail centers like this have been inwardly focused, with display windows on the ground floor," Gartz explains. "Our approach is to make these environments much more civic-oriented and pedestrian-friendly."

Callison is no stranger to mixed-use design and development in China. Its portfolio features more than 70 urban projects throughout the country, including the landmark Grand Gateway, a 3.3-million-sq.-ft. retail, residential and commercial property. In his experience, Gartz says, "They're (China) going through their own maturation and learning curve to find out how much of the international expertise they need to work with the expertise of the local architect in knowledge of construction methods and finding the right balance in there to make sure that the quality of the building they anticipated is what they receive."

For the pitfalls of mixed-use construction in China, Robert F. Welantez, CEO of real estate susidiary Shanghai Kinghill Ltd. and an ICSC board member and trustee, cautions against going in too quickly without the right plan. "The biggest mistakes in emerging market developments are overly aggressive scale, unrealistic leasing and merchandising plans (not every shopping center can sustain Gucci, Louis Vuitton, etc.)," he says. "Additionally, inexperienced developers tend to spend money in the wrong parts of a development scheme where it will have no impact on customer traffic, retail sales or revenue generation."



Luxury empire

Shanghai's "Paris of the Orient" moniker brings with it plenty of luxury retail. The city's historic waterfront Bund district is equivalent to that of Paris' Champs Élysées. "There's plenty of money in Shanghai right now, so luxury makes sense," Kalish says. "For most luxury brands, Asia has been the primary growth vehicle because Asian consumers tend to be very brand conscious."

Luxury brands such as Louis Vuitton, Dior, Gucci, Dolce & Gabbana, Armani, Juicy Couture, Burberry, Cartier, Tiffany & Co., Cavalli, Chanel and Prada are just some of the names that populate Shanghai's luxury market. Many of the brands' stores are located in shopping malls, including Plaza 66, CITIC, Westgate and Sogo, as well as on the Bund. The Bund, which was mainly constructed during the '20s and '30s by Western banks and trading companies, features neoclassical structures along the Huangpu River. In 2004, the Armani Group opened its China flagship for Giorgio Armani and Emporio Armani at Three on the Bund, which was part of a Princeton, N.J.-based Michael Graves & Associates project that involved the restoration of the early 20th-century Beaux-Arts building.

When catering to the Chinese consumer, New York-based Tiffany & Co., which has two stores in Shanghai, has been known to informally consider select feng shui design guidelines during the store layout process, says Peter-Tolin Baker, vice president, visual merchandising for Tiffany. Tiffany & Co.'s business is directed primarily to Chinese residents, and less so to foreign tourists, says Darren Chen, group vice president, international, at Tiffany. "Shanghai is an important gateway to the rest of China, and is the most Westernized and open of Chinese cities," he says. And since Shanghai is often considered the fashion capital of China, Baker says opening a store in Shanghai provides the greatest amount of media coverage for luxury retail.

It's no wonder luxury brands are expanding to Shanghai and the Chinese market—according to a 2006 report from Goldman Sachs, China is the third-biggest consumer of luxury goods, accounting for 12 percent of sales worldwide. By 2015, China could take Japan's No. 2 spot as the second-largest purchaser of luxury goods in the world, with more than a 29 percent stake in sales.



Eastern hospitality

China constitutes almost 34 percent of Asia's total tourist arrivals, according to a report by ACNielsen, and Shanghai is poised to absorb the influx of travelers. The rapidly growing metropolitan city has seen a steady stream of new hotels and restaurants pop up in recent years. Foreign hoteliers have flocked to the city, setting up outposts in popular districts such as Pudong, Nanjing Xi Road and the Bund. The Portman Ritz-Carlton, Astor House Hotel, Grand Hyatt, Pudong Shangri-La, Le Royal Méridien and St. Regis Hotel are just some of the namesakes dotting the streets, soon to be joined by a wave of new boutique hotels.

One of the architectural firms responsible for some of the enticing dining environments in Shanghai is Michael Graves & Associates, which designed the interiors of Jean Georges, New Heights and Laris Restaurant within Three on the Bund. "We established the sense of luxury through the use of custom-designed furniture and high-end natural materials, such as marble, copper and brass leaf, and silk," said Thomas Rowe, principal-in-charge. "It was relatively rare at the time to see historic restorations of buildings of this scale, and we felt that the use of natural materials reinforced the authenticity of the original building."

And it's not just designer restaurants that are spreading to Shanghai. Fast-food chains and other casual dining establishments have permeated the market. Burger King, which currently operates only seven restaurants in China—all in Shanghai—has plans to open more outlets this year. All of its stores in China are company owned, but Burger King has announced plans to start franchising this year in order to compete against chains with more dominant presence in China, such as McDonald's and KFC. Even chains like Starbucks and Dunkin' Donuts have plans to ramp up expansion efforts in China, offering more tailored menu items to appeal to the Chinese consumer.

With a burgeoning hospitality market, explosive retail scene and eager consumers, the Shanghai metropolis is hardly slowing down. Says Dyches, "This centuries-old city is not simply growing into a destination like Dubai, but is re-emerging into its former glory as one of the globe's premier marketplaces."