I was interviewed last month by FinanceAsia’s Deputy Editor Sameera Anand for an article on the subject of Milan Station’s IPO in Hong Kong. This was published in the June 2011 issue of FinanceAsia Magazine.

A transcript of the article is set out below:

Cashing in on the lure of designer handbags
By Sameera Anand
Copyright 2011. Haymarket Media Limited. All rights reserved.

Retail investors are gung ho on Milan Station’s equity offering but will second-hand designer handbags sell in China?

Milan Station set a record last month when the retail portion of its initial public offering was over-subscribed 2,179 times, making it one of Hong Kong’s most sought-after share sales ever.

The company was aiming to raise HK$270 million ($35 million), of which only 10%, representing 16 million shares, was offered to retail investors. Even for such a small offering, the over-subscription number is mind-boggling.

“We had been awaiting the right time to launch the Milan Station IPO and following the success of the Tang Palace IPO in April, we felt investors would be receptive to buying into the story,” said a representative from China Merchants Securities, the sole sponsor and bookrunner of the IPO.

Tang Palace is a restaurant chain in China that serves Chinese and Japanese food across 22 restaurants, the majority of them in Beijing and Shanghai. The company’s HK$165 million IPO in April was subscribed more than 600 times.

Milan Station and its adviser obviously read the market right. Given the huge demand, the lead managers fixed the price at the top of the HK$1.17 to HK$1.67 per share range indicated in the prospectus and also decided to increase the public portion of the IPO fivefold to 81 million shares. And the company set another record on May 23 when it listed, soaring 66% to HK$2.77, the best performance this year for a Hong Kong listing.

“The timing for the launch was clever and Milan Station has clearly benefited from all the hype and coverage for proposed deals for the likes of Prada, Jimmy Choo and others,” said Philippe Espinasse, a former head of Asia equity capital markets and author of IPO: A Global Guide. Prada started pre-marketing its own $2.5 billion Hong Kong IPO on the same day that Milan Station made its trading debut in Hong Kong.

The founders of Milan Station realised more than 10 years ago that the lure of designer handbags in Hong Kong was so high that even second-hand bags could command a market. But that is also true in many other cities. The company’s success also depended on the other side of the equation: women willing to sell their marginally used designer handbags. Hong Kong, it turns out, has plenty of both. Milan Station opened its first store in Tsim Sha Tsui in 2000 and the chain has since then expanded to 10 stores in Hong Kong, two in Beijing and one in Macau.

The company describes itself as a retailer of “unused and second-hand luxury branded handbags in Hong Kong, China and Macau”. It has no tie-ups with designer brands and no affiliations with any large stores.

Milan Station focused on used handbags at first. The stores became the go-to destination for socialites who wanted to cash out of last season’s bags. The company adopted processes to ensure the stores stocked only “gently used” bags and that no knock-offs entered the system. Buyers started flocking to the stores to buy the wares, which were still in good condition but more affordable than the original would have been.

Recently, Milan Station has also managed to secure a steady supply of limited-edition handbags, such as the iconic Hermes Birkin bag, giving it the ability to attract different clientele at premium pricing. Hermes makes only a limited number of Birkins annually because they say only a certain number of their artisans are skilled in the art of making the much sought-after handbag. Cynics counter that if supply remains fixed Hermes can keep increasing prices. Whatever the case, the demand for handbags like Birkins is rising.

At a press conference before the IPO, Byron Yiu Kwan-tat, Milan Station founder and chairman, gave an example of the kind of prices limited-edition handbags command. “For a bag with an original price of around HK$70,000, [Milan Station] may purchase such bag at around HK$90,000 and then sell it at around HK$110,000 to HK$120,000,” he said.

Sales of the limited-edition handbags helped Milan Station to evolve, in its home market of Hong Kong, which accounts for almost 90% of revenues, from a seller of second-hand bags into a reseller of unused handbags. In 2010, Milan Station earned almost half of its revenue from selling unused products, up from just 22% two years earlier in 2008.

Milan Station gets its unused handbags from two primary sources: some are unwanted gifts sold by people who would rather have the cash, and the rest are sourced from traders. The prospectus explains that the traders directly purchase the products from either overseas or local boutiques or retail shops of international fashion houses or other dealers and then sell such unused products to Milan Station in Hong Kong.

“If major fashion houses such as Hermes are devising waiting lists to create a sense of scarcity for certain items, Milan Station readily offering the same in large numbers, and only a few streets away, might be, in the long run, detrimental to efforts to position the [Hermes] brand, and to its appeal,” said Espinasse. “Especially if this is done on a systematic (and growing) basis and through an established (and publicly listed) chain of retail outlets – also in one of the world’s most active markets for luxury, branded goods.”

Espinasse therefore questions the sustainability of offering so many unused handbags that are otherwise in short supply. “Recycling Birkin bags bought from tai tais is one thing; selling an increasingly growing proportion of unused, luxury goods through a parallel distribution channel is another thing altogether,” he added.

However, a China Merchants representative dismissed any concerns about Milan Station’s supply model. “Milan Station has built a sustainable business based on strong connections with overseas and local traders plus an established brand name, enabling it to source unused and second-hand products directly from branded fashion shops or public consumers,” he said. “Brand Off in Japan has been successfully building up its name using a similar model since 1993.”

More to the point, Milan Station’s projected growth in China is based on the sale of second-hand bags rather than unused ones – because the value-added tax on second-hand goods in China is only 2%, while new goods attract a rate of 17%. The company’s Beijing stores contributed around 6.3% of revenues during the last calendar year, up from just half a percent in 2008, indicating the potential for the business model in the country. Milan Station is keen to cash in on the opportunity in the much-larger mainland market and its IPO proceeds are largely being used towards opening 11 stores in major Chinese cities such as Beijing, Shanghai, Guangzhou and Hangzhou.

Research by CLSA suggests Milan Station’s China expansion plans could be well timed. A recent report by the brokerage firm suggests that luxury goods will be the fastest-growing consumer category in China during the next five years, with a 25% compound annual growth rate. Further, CLSA estimates that customers from Greater China will account for 44% of global luxury sales by 2020 and writes that “not surprisingly they largely have the same tastes in brands as the rest of the world” and names Louis Vuitton, Hermes, Chanel, Gucci and Prada among the brands Chinese find most desirable.

As for Hong Kong buyers of Milan Station’s wares, they seem undeterred by issues of supply. A recent lunchtime visit to Milan Station’s Lan Kwai Fong outlet, for the purposes of research (of course), demonstrated the strength of its proposition. The small corner shop was bustling with women trying handbags on their arm or over their shoulder, or just running their hands over the leather. Indeed, there were more women admiring a particularly fetching Louis Vuitton bag in Milan Station than there were customers in the much-bigger LV store in the Landmark Building nearby.

The Lan Kwai Fong outlet is one of three Hong Kong stores (the other two are in Causeway Bay), which contribute almost half of Milan Station’s revenues.

Perhaps part of the allure for customers lies in shopping in an environment that is less intimidating than an upscale handbag showroom. At Milan Station the bags are conveniently displayed on shelves rather than hidden away in cupboards and can be handled rather than just eyed from afar.

Copyright (c) 2011, Haymarket Media Ltd.