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Behind the sparkling glass counters of Beijing’s Shanghai Pacific Department Store on an early November day, a battalion of young women in crisp blue uniforms stands ready. Each woman nervously checks that the bottles of “Intuition” perfume in front of her are perfectly lined up. Carefully reviewing the troops is the jet-lagged top brass of The Est�e Lauder Companies Inc., just arrived from the company’s headquarters in New York City. Obsessing about the launch of a new perfume is not what Mao Tse Tung had in mind for the torchbearers of the Communist Revolution. But for Est�e Lauder executives the scene captures the kind of revolutionary spirit that they’ve been waiting for in the People’s Republic of China. For more than a decade the giant skin care and cosmetics company advertised in the country. The marketing made its products wildly popular among the Chinese: A jar of Est�e Lauder face cream is as coveted a gift for the Chinese New Year as ginseng roots, dried shark fins and pulverized antlers. But that prestige didn’t turn into profits. The problem: Est�e Lauder refused to manufacture in China. As a result, it forfeited benefits, such as access to more retail outlets where its products can be sold. The Chinese government bestowed that privilege only on multinational companies that built factories in China and employed indigenous workers. Heavy tariffs and trade restrictions compounded the American company’s problems. But all this is supposed to change now. After 15 years of intense negotiations, China joined the World Trade Organization in November, with a promise to dramatically reduce barriers to trade. Western expectations are high that greater access to a population of almost 1.3 billion will translate into revenues streaming from a consumer market hungry for multinationals’ products. This may be especially true for cosmetics companies. For while a Mercedes-Benz is out of reach for most members of China’s budding bourgeoisie, they can afford to splurge on perfume or lipstick. And they do. Cosmetics and toiletries sales in China, while paltry compared to the United States’ yearly $42 billion, are expected almost to double, to $8.78 billion by 2005, according to the London-based market research firm Euromonitor International. The future for cosmetics in China is “very bright,” agrees Bernd Schmitt, a professor of international marketing at Columbia Business School. Which cosmetics companies will get the biggest slice of this market? The race began years ago. Some multinational beauty businesses have manufactured in the country for years. A number built factories there or partnered with local Chinese businesses. Others use well-known Chinese personalities to hawk their beauty and skin care products. Est�e Lauder took a different road into China. Like other purveyors of high-end beauty products (including Shiseido Company, Limited, and L’Or�al SA’s Lancome), it manufactures its goods around the world and imports them into the PRC. For Est�e Lauder, one of the two biggest high-end cosmetic companies in the world (along with L’Or�al), the priority has always been cachet, not cash. And in China importing is seen as key to creating a mystique. “In no [foreign] country we’ve operated in,” explains vice chairman Jeannette Wagner, “have people wanted to buy products that are made there.” An elitist image makes sense, says Columbia’s Schmitt, because “young, urban Chinese are very brand-conscious.” But the price of that strategy has been steep. Pre-WTO tariffs ran as high as 33 percent, helping to push the cost of a tube of Est�e Lauder lipstick up to $28 in the People’s Republic. (It is $16 in the United States.) These high prices dramatically affected sales. The company won’t divulge how much revenue it earned in China. But it reports sales in 2001 for the entire Asia-Pacific region (including Japan and Australia) of $591 million. Not much of that could have come from the mainland, as Est�e Lauder has only 25 retail outlets in six cities in China, excluding Hong Kong. A FOOT IN THE DOOR Many of the company’s rivals took an alternate route and manufactured their goods in China. “Those who got their feet in the door early on would seem to have the advantage [now],” says Lawrence White, a professor at the Stern School of Business at New York University. These front-runners include Avon Products Inc., The Procter & Gamble Company, Mary Kay Inc., and Coty Inc. But Est�e Lauder faces a particularly tough competitor in New York-based Avon. The Avon Lady staked out the Chinese cosmetics territory early on, says analyst William Steele, a managing director at Banc of America Securities LLC in San Francisco who follows the cosmetics industry. Known for its ability to adapt to local market conditions, Avon started cultivating business on the mainland in the early 1980s, when China’s leader Deng Xiaoping first opened the door a crack to capitalism. In 1998 Avon invested in a $40 million facility near Guangzhou. “China has a history of favoring ‘friends of China,’ ” says Avon’s Paul Mandry, vice president of legal and government affairs of the Asia-Pacific region. A U.S. company wins local officials’ trust when it demonstrates long-term commitment by investing in China, he says. Avon’s reward? It now sells goods at more than 1,000 beauty counters in department stores, 3,000 Avon-designed boutiques and 9,000 independent stores in China. That’s not counting another 23,000 salespeople who work on commission. Says Mandry: “We’re in all the provinces.” The company is profitable in China today, says Banc of America Securities’ Steele. Avon says its sales there rose 44 percent in 2000, to $71 million, and it expects to double that figure by 2003. New York-based Coty went even farther to cater to the Chinese. In 1996 the privately held company bought a majority interest in Yue-Sai Kan Cosmetics Ltd. This locally based business aims its products exclusively at consumers in the People’s Republic and manufactures in a factory in Pudong, an economic development zone near Shanghai. Coty’s payoff: Yue-Sai Kan today sells in 900 stores and claims a 24 percent share of China’s cosmetics market. The company declines to say just how much that means in annual sales. Yue-Sai Kan Cosmetics is named after the Chinese-American woman who started the company in 1992. Kan gained fame in China during the 1980s with a television show introducing Western glamour to the Chinese. Named “the most famous woman in China” by Peoplemagazine in 1987, she is an icon in the country today. Her line of cosmetics is now part of Coty’s high-end Lancaster Group AG. “We popularized the use of cosmetics … we broke that taboo,” says Kan. The Coty brand name is barely mentioned in China because, she says, her fame is what counts in selling makeup there. Her ads also only feature Asian models. Serving women with “black hair, black eyes and yellow skin,” Kan explains, is what her business is all about. Going native is not Est�e Lauder’s style — either in manufacturing or advertising. For years the company’s marketing around the world featured the fair-skinned, blue-eyed British actress Elizabeth Hurley; a new porcelain-skinned beauty, model Carolyn Murphy, takes over this year. TORTOISE VS. HARE While Avon and Coty may have a head start, Est�e Lauder is hoping that its emphasis on brand-building and prestige will pay off in the long run. And China’s membership in the WTO is the company’s big break, because it will create a more favorable climate for imports, says Est�e Lauder’s general counsel, Paul Konney. Tariffs are expected to shrink to about 10 percent by 2005 for most cosmetics. WTO membership should also mean that China eliminates some costly and unnecessary bureaucratic steps. Before China’s WTO admittance, Konney explains, foreign companies had to send their products first to Hong Kong businesses known as “converters.” They, in turn, would ship the goods to the mainland. Under the WTO, Konney hopes, Est�e Lauder will be able to have a wholly owned subsidiary near Shanghai to handle its imports. The changes that will make this possible should come quickly, he predicts. Others are not so sanguine. “The WTO is not an overnight solution,” warns Louis Santucci, international trade vice president of the Cosmetic, Toiletry & Fragrance Association, a Washington, D.C.-based organization that advocates free trade. China, he notes, has a long tradition of protectionism. While trade barriers “might change on paper” because of the WTO, says Santucci, “practice is another matter.” Judith Lee, a partner at the Washington, D.C., office of Gibson, Dunn & Crutcher, shares this skepticism. She predicts that China “will hold … [imported goods] for health and sanitary reasons and use other nontariff barriers.” What’s more, she says, China’s provinces and cities might weigh in with their own set of arcane rules. “There are significant domestic anti-WTO pressures … [and] some disputes could drag on in litigation for decades.” Est�e Lauder faces another important stumbling block: its prices. Even without the added burden of tariffs and middlemen, the company’s “price points are too high” for China now, says analyst Steele. “There’s a disconnect between the fact that the average person is making $1.50 a day and the fact that some products in [Est�e Lauder's] skin line cost more than $80 a pop.” (Avon’s leading face cream retails for under $25.) China’s per capita income still hovers around $800, notes NYU’s White. There are only 20-30 million people with substantially higher incomes, he says. “That’s probably the size of Poland. So is that market worth it? Sure. But that’s not 1.3 billion [the total Chinese population].” In fact, only a few cities have a sizable middle class that might afford any luxuries. According to the Chicago-based news service China Online Inc., Beijing and Shanghai alone accounted for nearly 30 percent of the country’s total cosmetic sales in 2000. Because of this economic geography, Est�e Lauder today sells in only six cities: Beijing, Shanghai, Chengdu, Hangzhou, Shenzhen and Tianjin. “When you build strategy for China, you build city by city,” explains Wagner. “This is not,” she says, a “strategy for Colgate toothpaste or Dial soap.” Est�e Lauder will experience slow growth in the PRC, says analyst Steele. But eventually, he says, the company will find its market niche in China. The company’s execs are keenly aware that they have a long march to great profits in the People’s Republic. “China is not a significant market for us in the short run,” admits Wagner, adding that it “probably won’t be in my lifetime.” But Est�e Lauder may have enough status — and just enough of the market — to stay in the game until the profits come in. After all, glossing the lips of even a fraction of China’s 1.3 billion people still adds up to a lot of sticks of colored grease and wax.
Est�e Lauder in Brief
The Est�e Lauder Companies Inc. Headquarters: New York, N.Y. Chairman: Leonard Lauder President and CEO: Fred Langhammer Vice-Chairman: Jeanette Wagner General Counsel: Paul Konney Net Sales FY 2001: $4.6 billion Net Earnings FY 2001: $347.7 million Net Sales by Region FY 2001: The Americas: 61 percent Europe, Middle East and Africa: 26 percent Asia Pacific: 13 percent Counsel in China: the Shanghai office of O’Melveny & Myers

Let a Million Imports Bloom
Historically, Chinese exports have surpassed imports. But now that China is a member of the World Trade Organization, will the balance tip in the other direction? Population (July 2001 est.): 1,273,111,290 GDP (2000): $1.065 trillion Exports (2000): $232 billion Exports, trading partners (2000): U.S. — 21 percent* Japan — 17 percent* Imports (2000): $197 billion Imports, trading partners (2000): Japan — 18 percent* U.S. — 10 percent* South Korea — 10 percent*
* percentage of China’s total imports/exports Sources: “The CIA World Factbook 2001,” The World Bank

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