INDUSTRY SERIES: COSMETICS

INDUSTRY SERIES: COSMETICS

1 IN THIS ISSUE : I. “Cosmetics market” definition 1 II. Huge market potential 1 III. A “Brand” new era 2 IV. Principal market drivers 4 V. The emerging markets 6 VI. Supply of cosmetics 7 VII. Market entry considerations and expansion strategies 8 VIII. Market players 12 IX. Distribution channels 16 X. Performance by product sector 18 1. Hair care 18 2. Skin care 21 3. Color cosmetics 23 XI. Future outlook 26 INDUSTRY SERIES: COSMETICS July 2005 Issue 1 CHINA NATIONAL COMMERCIAL INFORMATION CENTRE Statistics Department, Room 2440, Building 2, No. 25, North Yuetan Street, Beijing, China. Postcode: 100834 Tel & Fax: (8610) 6839 2440, (8610) 6839 2441 E-mail: nmb2000@263.net Contact person: Ms Mu Xuan & Ms Liang Chi Xin The Booming Cosmetics Market in China Backed by the robust economic growth, China’s cosmetics sector is turning to a huge money-maker evidenced by the rapid development in recent decades. The China Association of Fragrance Flavor and Cosmetic Industries ( ) estimated China’s total sales of cosmetics1 to be nearly 85 billion yuan in 2004, up by 13% from 75 billion yuan in the previous year, ranking number two in Asia after Japan and number eight in the world in terms of sales value. This paper presents the general background of the booming cosmetics market in China, addressing the following aspects: the market size and structure, market entry considerations and the existing market players. Finally, a market analysis by product sector will be provided to give more specific information.

I. “Cosmetics market” definition For the purposes of the study, “cosmetics market” in the following analysis is confined to the most prominent sectors, namely, hair care, skin care and color cosmetics, excluding the oral hygiene, deodorant, fragrance, sun care and depilatory sectors. II. Huge market potential China is currently the second largest cosmetics market in Asia, with market size estimated to be more than 85 billion yuan in 2004. Mainland people’s average annual spending on cosmetics, in the early 1980s, was just about 1 yuan (12 US cents); the figure rose to 5 yuan (60 US cents) in the early 1990s, and jumped to 25 yuan (US$3) at the end of 2000. In big cities like Beijing and Shanghai, the annual average spending on cosmetics has reached 150-180 yuan (US$18-22.7). Cosmetics has now become the fifth-largest consumption hotspots on the Mainland only after real estate, automobile, telecommunication products, and education and tourism. The market is expected to expand at an annual rate of about 13% with sales reaching 100 billion yuan by 2010.

1 This figure excludes the cosmetics sales in beauty salons. LI & FUNG RESEARCH CENTRE LI & FUNG GROUP 13/F, LiFung Centre, 2 On Ping Street, Shatin, Hong Kong. Tel: (852) 2635 5563 Fax: (852) 2635 1598 E-mail: lfdc@lf1937.com http://www.lifunggroup.com/ Contact person: Ms Freda Tong & Ms JennyAnn Chan LI & FUNG RESEARCH CENTRE CHINA NATIONAL COMMERCIAL INFORMATION CENTRE

2 INDUSTRY SERIES July 2005 Issue 1 CHINA NATIONAL COMMERCIAL INFORMATION CENTRE LI & FUNG RESEARCH CENTRE LI & FUNG GROUP Despite the huge advances witnessed over the past two decades, China’s cosmetics market is still at a very low level of development and is far from saturation. First of all, with a population of 1.3 billion, China has the largest number of potential cosmetics consumers in the world. Besides, the current per capita annual spending on cosmetics is well below the average of developed countries (US$35-70). The potential of China’s cosmetics market is yet to be fully unleashed. Along the rapid economic growth, living conditions will continue to improve and spending on cosmetics is likely to increase exponentially. There is plenty of room for future development and the sector as a whole shows enormous business opportunities.

III. A “Brand” new era After decades of robust economic development and market opening, cosmetics market in China has undergone tremendous changes. It has evolved from an underdeveloped market to a market in which consumers have strong brand preference. 1. The pre-reform era - an underdeveloped cosmetics market In the pre-reform era before 1978, cosmetic products were scarce on the Mainland. The living standard of the Mainland people was low and they paid little attention to appearances and styles. On the other hand, cosmetics available in the country were poor in quality, of limited choice and loosely packaged, owing to the underdeveloped domestic cosmetics production and the lack of imported goods.

2. Early stage of economic reform – a booming cosmetics market with surging disposable income and the entry of foreign enterprises In the early stage of economic reform, rapid economic growth was registered. The rising disposable income of Mainland people had led to the upgrading of consumption structure. People demanded higher quality and wider choice of cosmetic products. Meanwhile, multinational cosmetics enterprises offering quality cosmetics, such as L’Oréal, Olay, Johnson & Johnson and Shiseido, gradually entered the market and served as an important external stimulus triggering Mainland consumers’ demand for better cosmetics.

The entry of foreign cosmetics enterprises also helped boost the market development. Facing the intense competition with the foreign players, domestic cosmetics enterprises began to upgrade their production technology, management skills, product quality, and to expand their scale of production. 3. The present situation - increasing brand awareness Nowadays, decades after the reform program was first implemented, Mainland consumers, with increasing product knowledge and surging purchasing power, are more sophisticated and value-oriented. Instead of looking solely for low prices, they place strong emphasis on product quality, functions and branding. Branded products, having an up-market image in terms of style, product quality and safety, have become priority choices for consumers. Statistics of IMI Consumer Behaviors & Life Style Yearbook 2004-2005, a market research surveying over 34,000 Mainland consumers, provide good illustrations of this trend. From Exhibit 1-3, it can be seen that, apart from prices, branding and product functions have become key factors affecting consumers’ choice of cosmetics.

3 The Booming Cosmetics Market in China CHINA NATIONAL COMMERCIAL INFORMATION CENTRE LI & FUNG RESEARCH CENTRE LI & FUNG GROUP Exhibit 1: Factors affecting consumers’ choice of shampoos, 2004 (% of respondents that regard the factor as important) Others’ Sample Product Buying recommen- City size Prices Brands functions convenience Advertising dations Packaging Others Beijing 5,862 51.8 45.2 35.4 27.5 14.8 4.3 5.7 14.6 Shanghai 6,638 49.5 51.7 49.6 20.4 25.2 4.7 2.7 13.4 Guangzhou 2,971 42.8 49.7 35.7 26.0 15.2 8.7 11.0 14.3 Shenzhen 3,787 31.1 53.8 48.9 21.1 20.2 7.7 7.8 9.3 Chengdu 1,992 47.1 52.8 42.2 23.6 18.7 8.2 10.7 9.7 Chongqing 2,275 42.4 28.8 41.4 36.0 13.1 4.0 2.3 6.3 Wuhan 2,985 49.3 51.8 41.1 17.6 17.0 3.7 3.6 13.3 Xi’an 1,970 48.3 46.8 44.6 19.5 16.9 9.2 2.3 9.4 Shenyang 2,757 52.2 46.8 35.9 23.2 14.2 5.6 5.8 8.5 Nanjing 2,314 38.8 47.3 36.7 18.3 14.6 2.4 3.0 9.2 Total 33,551 46.0 48.2 41.7 23.2 17.9 5.6 5.3 11.6 Source: IMI Consumer Behaviors & Life Styles Yearbook 2004-2005 Exhibit 2: Factors affecting consumers’ choice of face moisturizers, 2004 (% of respondents that regard the factor as important) Others’ Sample Product Buying recommen- City size Prices Brands functions convenience Advertising dations Packaging Others Beijing 3,691 54.9 45.5 34.0 26.3 10.2 7.3 4.9 9.3 Shanghai 4,077 46.9 52.4 48.6 18.4 17.8 10.6 2.9 9.4 Guangzhou 816 42.3 46.6 43.2 20.3 15.6 13.8 8.0 8.4 Shenzhen 1,416 37.0 51.9 49.2 16.1 13.3 16.4 3.5 4.0 Chengdu 972 47.0 40.1 45.4 21.5 18.1 11.5 11.2 6.5 Chongqing 757 34.7 26.4 48.9 17.8 12.4 6.7 2.0 5.9 Wuhan 1,664 50.1 44.4 45.3 9.3 18.4 11.9 4.0 9.5 Xi’an 1,179 52.9 41.2 43.3 15.2 10.6 14.9 4.7 8.3 Shenyang 1,524 50.0 43.0 36.7 19.4 12.4 12.6 6.2 7.4 Nanjing 1,217 45.1 42.3 38.0 14.1 9.5 5.0 1.4 7.9 Total 17,313 47.9 45.7 42.6 18.8 14.0 10.6 4.5 8.2 Source: IMI Consumer Behaviors & Life Styles Yearbook 2004-2005

4 INDUSTRY SERIES July 2005 Issue 1 CHINA NATIONAL COMMERCIAL INFORMATION CENTRE LI & FUNG RESEARCH CENTRE LI & FUNG GROUP Exhibit 3: Factors affecting consumers’ choice of lipsticks, 2004 (% of respondents that regard the factor as important) Others’ Sample Product Buying recommen- City size Prices Brands functions convenience Advertising dations Packaging Others Beijing 1,162 48.2 55.2 22.0 8.4 16.2 17.5 7.7 6.8 Shanghai 1,648 43.8 61.9 31.2 20.3 17.0 15.6 5.2 9.5 Guangzhou 287 40.0 57.1 38.9 23.0 18.6 15.2 6.6 12.4 Shenzhen 621 30.4 56.8 39.6 15.3 10.4 19.5 5.9 8.2 Chengdu 435 51.5 55.4 27.1 14.7 20.6 19.0 6.9 7.1 Chongqing 361 32.4 44.7 26.0 14.7 19.4 14.0 0.7 2.9 Wuhan 545 49.8 49.1 33.4 29.3 16.0 9.1 6.4 15.2 Xi’an 337 52.4 53.9 24.1 16.7 15.9 13.6 3.0 6.3 Shenyang 633 49.9 45.2 27.1 15.4 14.3 15.8 7.0 9.2 Nanjing 245 33.8 46.6 27.6 8.6 7.7 13.4 2.1 6.6 Total 6,274 44.2 54.7 29.4 16.7 15.9 15.7 5.7 8.6 Source: IMI Consumer Behaviors & Life Styles Yearbook 2004-2005 In a competitive market like China, where a vast variety of products catering to different consumers’ needs are available, there is a pressing need for enterprises to put more efforts in brand building so as to distinguish their products from the others. Cosmetics enterprises now devote a lot of resources in advertising and research and development to shape their brand images and to provide customized products for their target consumers. A survey released by CTR Market Research shows that cosmetics and toiletries sector ranked first in advertising spending in China in 2004 with US$4.8 billion plunked down, an increase of 34%. Olay, a famous brand of Procter & Gamble (P & G), spent US$565.8 million on advertising, a 160% increase over 2003. The promotion and advertising activities for cosmetics take various forms, such as placing advertisements in press, Internet, high-traffic roads, buildings, metro stations and buses; organizing on- site displays and demonstration shows; and employing celebrities as spokesmen to increase brand reputation. Enterprises are also actively utilizing the comprehensive coverage of CCTV to improve their reach across the country, especially in second- and third-tier cities and the rural area. In November 2004, CCTV auctioned its prime time advertisement slots for a record sum of 5.3 billion yuan (US$634 million). P & G became the new bid champion spending more than 385 million yuan (US$46.5 million) on the auction.

IV. Principal market drivers 1. Strong economic growth and growing awareness of personal well-being The strong growth of the cosmetics market has been underpinned by the vigorous economic growth of China and the increasing disposable income of Mainland residents (see Exhibit 4). In 2004, China’s GDP hit 13,651.5 billion yuan (US$1,648.7 billion), rising 9.5% year-on-year (y-o-y) compared with the previous year.

5 The Booming Cosmetics Market in China CHINA NATIONAL COMMERCIAL INFORMATION CENTRE LI & FUNG RESEARCH CENTRE LI & FUNG GROUP Exhibit 4: GDP, urban and rural income and total retail sales (both absolute amounts and annual growth rates), 1980-2004 Total amount (yuan) Average annual growth rate (%) 1980 1990 2000 2001 2002 2003 2004 1980-90 90-2000 2001 2002 2003 2004 GDP (billion yuan) 451.8 1,854.8 8,946.8 9,731.5 10,479.1 11,669.4 13,651.5 15.2 17.0 7.3 8.0 9.1 9.5 Per capita annual disposable income of urban households (yuan) 477.6 1,510.2 6,280.0 6,859.6 7,702.8 8,472 9,422 12.2 15.3 9.2 12.3 9.0 7.7 Per capita annual net income of rural households (yuan) 191.3 686.3 2,253.4 2,366.4 2,475.6 2,622 2936 13.6 12.6 5.0 4.6 4.3 6.8 Total retail sales of consumer goods (billion yuan) 214.0 830.0 3,415.3 3,759.5 4,091.1 4,584.2 5,395.0 14.5 15.2 10.1 8.8 9.1 13.3 Source: National Bureau of Statistics of PRC (NBS) Mainland people are now better-educated, better-paid and they attach more attention to fashion and their personal image. They not only focus on improving basic living conditions, but are also keen to enhance their overall quality of life. Their increasing awareness of health, hygiene and appearance has made cosmetics one of the consumption hotspots. In fact, the pursuit of beauty and health is no longer confined to young women only. Cosmetic products are gaining popularity among men, children and the elder people. The cosmetics market is getting bigger and bigger embracing consumers from all ages and from all walks of life.

2. The fast expanding rural market Currently, rural income remains low and the cosmetics market growth is mainly led by urban consumption. With 62% of the national population, the rural residents made up only 34.1% of the total retail sales of consumer goods in 2004. Boosting rural economic development and consumption have always been the Central government’s main concerns. To raise farmers’ income and to accelerate agricultural development, several measures and polices, such as reducing or abolishing agricultural tax and granting more subsidies to farmers for crop production, have been implemented in recent years. To improve the efficiency of rural distribution network, in February 2005, the PRC government announced its plan to build a national rural retail network covering 70% of all villages within three years, by developing chained retail stores such as supermarkets and convenience stores2 in counties and major towns.

It is expected that, in the coming future, significant improvements will be made in respect of farmers’ income and distribution efficiency, which will encourage rural consumption and unleash the huge potential of the vast rural market. 2 The operation modes of these stores may be different from those in the urban areas to cater to the specific needs of rural residents.

6 INDUSTRY SERIES July 2005 Issue 1 CHINA NATIONAL COMMERCIAL INFORMATION CENTRE LI & FUNG RESEARCH CENTRE LI & FUNG GROUP 3. The rise of the middle-class Sandwiched between China’s most affluent people and the hundreds of millions of farmers and factory workers, a rapidly growing middle class has emerged. According to the National Bureau of Statistics of PRC (NBS), middle class refers to those with annual household income of 60,000 yuan (US$7,230) to 500,000 yuan (US$60,240). This group of people has stable income, can afford private-owned houses and cars, and have extra money to spend on beauty goods, holiday and education. They have higher expectations than other consumer groups and pursue a life with “style and taste”. Generally speaking, they demand a better shopping environment and higher product quality. They are also brand-conscious and less price-sensitive. Many of them are employees of multinational firms. The NBS predicted that by 2020, middle class would increase from the current 5% of total households to 45%. They will expand exponentially in major cities such as Beijing, Shanghai, Guangzhou and Shenzhen, and will become an influential group in the society. This rising middle class is becoming one of the most active consumer groups for cosmetics in the next 10-20 years.

4. Women fueling the market growth Mainland women, especially those office ladies, are now increasingly appearance- and image-conscious. The proportion of cosmetics spending in their total expenditure has been increasing. The growing number of young females in white- collar jobs will further drive the cosmetics sales. Being more financially independent, their demand for cosmetics will be greater than ever. V. The emerging markets 1. Babies and children The market for babies and children offers huge business opportunities with market potential exceeding 400 million yuan, according to official statistics. Every year, around 20 million babies are born on the Mainland. The total number of children aged between 0 and 14 is estimated to be 300 million. Under the one child policy, Chinese parents are willing to spend as much as they can on baby and children care products. Currently, only few brand owners offer such products, with some famous ones being Johnson & Johnson, Yu Mei Jin and Frogprince. The lucrative market potential is likely to attract more brands to enter and bring in new technology. Thus, a rapid sector growth is anticipated. 2. Men Men’s cosmetics market is growing in China with market growth rate forecasted to surge to around 6% or much higher by 2008. To get a share of this newly emerging market, many cosmetics enterprises have been introducing men’s product lines, such as JC of Aupres, Glf of Shanghai Jahwa, Nivea men, Biore Men, etc. Men’s cosmetic products are, presently, far more diversified and are no longer limited to shaving tools. Other products including cleansing products, moisturizers, essences, hair treatment products and fragrance etc. are now available. However, compared with the market for women, men’s market is relatively small and the growth rate is much slower. Currently, men’s cosmetics are only popular among the more affluent and fashion-conscious young men in big cities, while most of the men on the Mainland are still reluctant and do not feel the need to use cosmetics. More time and product education are needed for the perception to change and for the market to grow.

7 The Booming Cosmetics Market in China CHINA NATIONAL COMMERCIAL INFORMATION CENTRE LI & FUNG RESEARCH CENTRE LI & FUNG GROUP VI. Supply of cosmetics 1. Production In the early 80s, there were less than 200 cosmetics manufacturers on the Mainland. However, this number has been increasing dramatically since the 90s. The cosmetics industry grew exponentially with annual growth rate outpacing that of the whole light industry. Official statistics reveal that around 3,200 cosmetics manufacturers are operating on the Mainland at present. This figure is calculated based on the number of renewal production licenses granted in 2003. However, the actual number of manufacturers should be far more than 3,200, given the fact that numerous small cosmetics factories are in operation without formally applying production license. Of the 3,200 factories, some are set up by brand owners to produce their own products, while some others are Original Equipment Manufacture (OEM) factories performing processing functions only.

The huge potential of the Mainland market has been attracting many multinational cosmetics manufactures to invest in China and to exploit this new source of profits. However, before joining the World Trade Organization (WTO), China imposed high tariff rate on imported cosmetics. Foreign exchange control, product standard and quality control requirements are also barriers to export to the Mainland. As a result, many foreign brands, in cooperation with their domestic counterparts, set up their manufacturing base on the Mainland to take advantage of the low production costs and to be free from the trade barriers. Currently, there are around 600-700 foreign-invested cosmetics manufacturers in China, with total investment exceeding US$1.5 billion. Examples of these enterprises include P & G, Johnson & Johnson, Avon, Revlon and Amway from the U.S.; Unilever from the U.K.; Henkel and Weina from Germany, L’Oréal from France; and Shiseido and Kao from Japan.

While the foreign-invested manufacturing enterprises account for the lion’s shares of the premium market, several domestic manufacturers maintain strong positions in certain products. Numerous small domestic manufacturers produce regional or generic brands and distribute their products within their own province or neighboring provinces, but their share of the overall market is very limited. Nearly 90% of the domestic manufacturers are small in scale having annual sales less than 50 million yuan. Besides, they focus on the lower market segment and offer cosmetics at extremely low prices. As at 2003 year-end, only around 50 domestic manufacturers realized annual sales of over 100 million yuan. Of which, only Shanghai Jahwa, Beijing San Lu, Raystar Cosmetics (Shenzhen), C-bons Group, Arche Group and a few could achieve annual sales exceeding 500 million yuan.

2. Imports of cosmetic products Though China’s cosmetics imports surged by 39.2% to US$100 million in 2003, imported cosmetics still constitute a limited share in its cosmetics consumption. Perfume, body spray and eye care were the major items of imports. Due to mad cow disease, imports of cosmetic products from certain countries were regulated in 2003, which dampened the year’s import. From 2005 onwards, the tariffs are reduced to around 10% on average, which creates a more favorable environment for foreign enterprises wishing to export to the Mainland. The tariff reduction will push down the retail price of cosmetics but the impact is not likely to be as significant as expected, given the fact that many foreign brand owners have already set up manufacturing base in China and imported cosmetic goods only accounted for 1% of the total cosmetics sales in China.

8 INDUSTRY SERIES July 2005 Issue 1 CHINA NATIONAL COMMERCIAL INFORMATION CENTRE LI & FUNG RESEARCH CENTRE LI & FUNG GROUP VII. Market entry considerations and expansion strategies 1. A fragmented market characterized by rural-urban and regional income disparity As players prepare to enter the Mainland market, it is important to keep in mind that China is not a single unified market; instead, it is composed of many fragmented and localized market characterized by its two-tier market structure (urban and rural) and regional diversity.

Dualism in consumption patterns: The two-tier consumer market One should note that there exists a wide income gap between the urban and rural households. In 2004, of the 1.3 billion people in China, 543 million were urban residents while 757 million were resided in rural areas. Income growth in the rural areas has been lagging behind that in the urban areas, as shown by the rising ‘urban-rural’ income ratio from 2.5 in 1980 to 3.21 in 2004. With 41% of the country’s population, the urban residents made up 65.9% of the national retail sales in 2004. Restrained by low income, rural residents tend to opt for cheaper anonymous branded products and some even regarded cosmetics as luxuries that they cannot afford. By contrast, cosmetics are widely used in urban areas, particularly in large coastal cities. The urban residents are much more affluent and they demand more sophisticated products.

The market segments The Mainland consumers can be broadly divided into four segments – the high-, mid- and low-income groups and the rural residents. The upper income group consumers mainly concentrate in the first-tier cities, where purchasing power is relatively strong. They demand high quality cosmetic products and prefer premium-imported cosmetics from the U.S., Europe and Japan, such as Estée Lauder, Christian Dior, Chanel, Clinique, SK II, Lancôme and Shiseido. Purchasers of cosmetics in this segment are mainly affluent and appearance-conscious young and middle-aged females with monthly salary exceeding 3,000 yuan.

Consumers in the middle-income group are usually mid-income city dwellers and residents in second- and third-tier cities. They tend to purchase well-known domestic brands or high-end mass products, for example Olay, Aupres, L’Oréal, Relvon, Maybelline and Herborist. For the less affluent city dwellers or the more affluent rural residents, products with prices ranging from 10 to 300 yuan are their priority choices. These include brands such as Biore, Clean & Clear, Dabao, Maxam, Yu Mei Jing, Mininurse, Longliqi and TJOY.

For the vast majority of the Mainland people, premium products remain far beyond reach. Rural residents, who account for 59% of the total population, spend far less on cosmetics and they tend to opt for low-end anonymous branded products. Regional Performance – sales concentrate in the East Regional income disparities in China provide significant implications for enterprises wishing to enter the market. Important differences in development level and living standards are evident among regions.

9 The Booming Cosmetics Market in China CHINA NATIONAL COMMERCIAL INFORMATION CENTRE LI & FUNG RESEARCH CENTRE LI & FUNG GROUP The eastern coastal regions are the wealthiest part of China. People there are comparatively well off and are more exposed to the outside world. They are more likely and better able to afford cosmetic products to improve personal hygiene and image. In 2003, the retail sales of cosmetics of enterprises above designated size3 in the eastern region amounted to 14.3 billion yuan, making up 69.1% of the national total (see Exhibit 5). Shanghai and Beijing ranked first and second in cosmetics retail sales respectively for 5 consecutive years. Their per capita retail sales of cosmetics in 20034 were far higher than that of the other cities (see Exhibit 6). However, after the rapid growth in the early years, their sales growth rates have been slowing down in recent years (see Exhibit 7). On the other hand, other eastern cities are gathering pace and have experienced strong growth in cosmetics sales. In 2003, Fujian, Zhejing, Guangdong and Shangdong recorded y-o-y cosmetics sales growth of 42.6%, 41.2%, 33.3% and 24.2% respectively, much higher than the national average of 17.9%.

By comparison, cosmetics sales in the less developed region of the central and western part of China are relatively low. The central and western regions constituted only 18.7% and 12.2% of the national retail sales of cosmetics of enterprises above designated size in 2003, respectively (see Exhibit 5). Per capita annual retail sales of cosmetics in certain cities, such as Jiangxi, Guizhou, Tibet and Gansu, were as low as 2-4 yuan in 2003 (see Exhibit 6). The main factors hindering their development include low disposable income, limited product awareness and less established distribution network. However, accompanying the acceleration of the “Go West” policy and the Central government’s policies of boosting the economic development of the central region, cosmetics markets in these regions are taking off and some cities have recorded significant growth in cosmetics sales (see Exhibit 7).

Exhibit 5: Cosmetics retail sales of enterprises above designated size by region, 2003 Source: National Bureau of Statistics of PRC 3 Above designated size: with annual sales of over 5 million yuan and an employment of or over 60 at year-end. 4 Due to the constraint of data availability, retail sales of enterprises above designated size has been used as a proxy to calculate the per capita retail sales of cosmetics.

10 INDUSTRY SERIES July 2005 Issue 1 CHINA NATIONAL COMMERCIAL INFORMATION CENTRE LI & FUNG RESEARCH CENTRE LI & FUNG GROUP Exhibit 6: Per capita annual retail sales of cosmetics by region, 2003 Source: National Bureau of Statistics of PRC Exhibit 7: Growth rates of cosmetics retail sales of enterprises above designated size, 2000- 2003 Provinces/ Municipalities y-o-y growth rate 2000 2001 2002 2003 Eastern region Fujian -7.1% 37.0% 20.5% 42.6% Zhejiang 30.2% 6.9% 19.0% 41.2% Guangdong 14.5% 19.2% 22.5% 33.3% Shandong 17.8% 12.2% 19.5% 24.2% Jiangsu 5.0% 10.6% 18.2% 19.4% Liaoning 19.1% 33.7% 19.4% 18.0% Hebei 2.2% 7.9% 21.6% 11.6% Beijing 15.9% 32.7% 2.3% 9.0% Tianjin 63.9% 17.9% -6.4% 7.8% Shanghai 42.0% 27.3% 10.2% -0.2% Central region Hubei 60.2% -3.8% 2.5% 38.0% Jiangxi 11.1% -10.9% 0.2% 35.1% Henan 5.1% 3.3% 20.0% 30.6% Jilin 30.3% 32.0% 21.3% 16.6% Heilongjiang -0.6% 8.7% 15.4% 13.1% Hunan 12.4% 8.9% 37.7% 12.6% Inner Mongolia 1.0% 29.2% 10.5% 11.2% Hainan -7.4% 68.4% 40.2% 10.3% Anhui 4.2% 16.2% 27.6% 9.1% Shanxi 41.3% -13.6% 21.6% 7.8%

11 The Booming Cosmetics Market in China CHINA NATIONAL COMMERCIAL INFORMATION CENTRE LI & FUNG RESEARCH CENTRE LI & FUNG GROUP Provinces/ Municipalities y-o-y growth rate 2000 2001 2002 2003 Western region Yunnan -4.7% -6.6% -7.4% 77.2% Tibet – -4.8% 58.8% 28.4% Chongqing 1.3% 24.5% 32.7% 25.2% Sichuan 30.1% 12.5% 14.8% 24.0% Xinjiang 5.9% 14.4% 10.9% 23.0% Ningxia 6.6% 10.3% 17.4% 21.9% Shaanxi 7.6% 27.0% 30.6% 11.9% Qinghai -5.8% 14.5% 40.1% 6.6% Guizhou 28.9% 24.3% 12.5% 2.7% Gansu 35.3% -13.2% 8.6% -5.8% Guangxi 10.2% 0.7% 37.0% -12.1% National average 20.8% 16.5% 14.1% 17.9% Source: National Bureau of Statistics of PRC 2. Acquiring domestic brands as a way to penetrate into the second- and third-tier cities and the mass market Experts predicted that China would become the world’s second largest market for luxury goods in ten years’ time and its demand for luxury and premium goods would surge exponentially once its per capita disposable income reached US$2,500. Albeit the huge potential that the premium market shows, it takes time for the market to grow. Given that 60% of the Chinese population are living in rural areas and have low disposable incomes at present, the Chinese market is actually geared towards low-priced mass products.

On the other hand, the developed cities along the coastal areas are currently packed with both multinational and domestic players and show signs of growing market saturation. The second- and third-tier cities, and the inland cities, by comparison, are relatively untapped and show great development potential. Therefore, some foreign players, apart from consolidating their position in the high-end segments, are striving to extend their reach to the mid- and low-end segments and to the less developed cities. However, the complexity of China’s distribution system, the relatively high-pricing of foreign products, and the lack of local knowledge and network all make it hard for foreign players to penetrate into the mass market.

In this respect, acquiring well-known domestic brands with heritage to take over their existing distribution network, established reputation and local network is regarded as a fast and effective way for multinational players to break into the mass market. Some multinational players have already put forward their acquisition plan. One recent case in place is the acquisition of Mininurse and Yue-Sai, two well-known mass brands in China, by L’Oréal in the late 2003 and the early 2004 respectively. Both Mininurse and Yue-Sai possessed extensive sales network: Yue-Sai has 800 cosmetics counters in 250 cities; Mininurse has over 280,000 sales points across the country. So far, L’Oréal has built up its sales networks in most large Mainland cities, but not in the less developed ones. This strategic move enables L’Oréal to extend its reach to many second- and third-tier cities and penetrate deeper into China’s vast southern and central market in addition to the highly competitive eastern coastal areas. It will also provide a far wider and deeper distribution coverage for all product lines of L’Oréal.

12 INDUSTRY SERIES July 2005 Issue 1 CHINA NATIONAL COMMERCIAL INFORMATION CENTRE LI & FUNG RESEARCH CENTRE LI & FUNG GROUP 3. Increasing investment in research and development (R & D) In response to the increasing sophistication of Mainland consumers and the stiffer market competition, new product development plays a major role in attracting consumers. In this regard, investment in research and development (R & D) is crucial, especially to foreign players who are not familiar with the local preferences. The existing foreign players on the Mainland have been putting much effort in R & D work so as to localize their product offerings to meet the demands of Mainland consumers. Many of them are planning to enlarge the scale in the near future, for example, by setting up new research centres in collaboration with local academic institutions or conducting large-scaled market research. Domestic players, who placed less emphasis on R & D in the past, have now changed their mindsets and have been allocating more resources to R & D in recent years. Enterprises such as L’Oréal China, P & G (Guangzhou), Shiseidso, Dabao, Yu Mei Jing and Unilever China have already set up their own R & D centres to enhance their design capabilities. 4. Localization strategies There exists significant cultural, language and institutional differences between foreign countries and China. For foreign cosmetics enterprises to win market share in China, localization is a must. Actually, many foreign cosmetics players have been making increasing efforts to localize their products and operations.

As mentioned previously, R & D centres and comprehensive marketing teams have been set up by foreign enterprises to develop products that cater to Mainland consumers’ skin types, preferences and living habits. It is reported that, to deepen its understanding of Mainland consumers, P & G made contact with more than 3 million local consumers every year for up-to-date market information and feedback. Localization of employees is another major steps taken by many foreign cosmetics enterprises. For example, Unilever recruited and trained over 90% of its managers locally and is working to minimize the number of expatriates in the company; P & G has been recruiting from campus in China for 16 years and more Chinese managers have taken up important positions replacing expatriates.

Apart from that, many foreign players have localized their raw material sourcing and manufacturing to reduce production costs and time. Many of them have set up factories in China and they procure a significant amount of raw materials locally. For instance, for its domestically sold products, Unilever sources 90% of the raw materials used from the Mainland. Another example is P & G (China), which purchases 80% of the raw materials from the local market every year. Other localization strategies are also widely adopted by the foreign cosmetics enterprises, such as localizing marketing mix, developing relationship with local government, actively participating in local charity work and customizing the operation system.

VIII.Market players 1. Foreign players Multinational enterprise cashing in and dominating premium market The lucrative cosmetics market in China has been attracting many multinational enterprises. At present, most major multinational brands are available in major cities. These enterprises mainly target at the most developed cities and have been dominating the premium market. Owing to the relatively high pricing, higher operation costs, and lack of local knowledge of the highly fragmented Mainland market, foreign players have yet established significant presence in the mass market and in second- and third-tier cities.

13 The Booming Cosmetics Market in China CHINA NATIONAL COMMERCIAL INFORMATION CENTRE LI & FUNG RESEARCH CENTRE LI & FUNG GROUP Sources of products Foreign cosmetic products sold on the Mainland can be basically classified into three types: imported, self-manufactured by foreign brand owners and produced by local OEM factories. The imported goods are mostly premium products of famous international brand owners. They are usually sold at much higher prices. The production and the formula of such products are strictly controlled and protected by the brand owners. On the other hand, many big cosmetics enterprises that wish to have long-term businesses in China, have established production base on the Mainland to supply part of their domestically sold products. While a significant amount of raw materials used are sourced locally to reduce production cost, the most important and special ones remain imported from overseas.

A number of foreign cosmetics enterprises choose to outsource the production process to the local OEM factories. Some big enterprises let theses factories produce some of their mass or more developed product lines, so that they can concentrate their efforts in developing and producing new or higher-valued items. The smaller foreign brand owners, who do not have production base on the Mainland, are also actively cooperating with these factories. Strengths of multinational players Multinational cosmetics enterprises have considerable advantages over their local counterparts in the aspects of scale of operation, financial strength, technological level, management know-how and experiences in brand building. Consistent product quality, together with substantial advertising and promotion, helps them establish impressive brand images. Most of the foreign players adopt localization strategies to win market share in China. They employ many local staff, and are trying to replace the expatriate staff with local Chinese people. Some of the big ones even set up R & D centres and comprehensive market research teams in China to get instant market data and to develop products that are tailored for Mainland consumers.

Exhibit 8: Major foreign players Cosmetics company & its major brands in China Development in China Procter & Gamble (Guangzhou) Ltd • Olay • SK-II • Max Factor • Covergirl • Rejoice • Pantee Pro-V • Head & Shoulders • Vidal Sassoon • Clairol Herbal Essences • Ascend • Wella • Crest • Zest • Established subsidiaries and factories in Guangzhou, Beijing, Chengdu and Tianjin with a total investment in excess of US$1 billion since entering the country in 1988 • Vast product variety comprising skin care, hair care, bath and shower products, color cosmetics, women’s health products, oral hygiene, baby products, food and drinks, catering for all sorts of people: both young and old, and low and high income consumers • Employing over 4,000 people • Having 5 distribution centres in Beijing, Shanghai, Xi’an, Chengdu and Guangzhou • Taken back the remaining 20% shares from its joint venture partner, Hutchison Whampoa in 2004 • Going to introduce the color cosmetics brands to China in May 2005 • The first manufacturing enterprise to set up an Efficient Consumer Response (ECR) system in China • Set up R & D centre in collaboration with Tsing Hua University in Beijing in 1998 with total investment reaching US$27.5 million by the end of 2003 • Yearly spending on R & D accounted for 3.8% of the annual sales

14 INDUSTRY SERIES July 2005 Issue 1 CHINA NATIONAL COMMERCIAL INFORMATION CENTRE LI & FUNG RESEARCH CENTRE LI & FUNG GROUP Cosmetics company & its major brands in China Development in China Unilever China Ltd • Hazeline • Pond’s • Vaseline • Pears • Zhong Hua • Signal • Lux • Dove L’Oréal China • L’Oréal • Lancôme • Biotherm • Vichy • Shu uemura • Maybelline • Matrix • Helena Rubinstein • La Roche-Posay • Kerastase • Elsève • Garnier • Yue-Sai • Mininurse Source: respective companies’ homepage, media and research agencies 2. Domestic players Domestic players playing major roles in mass market and gathering pace to develop brands As the income level of the majority of Mainland consumers are still quite low, domestic products which are relatively cheap are highly welcome in the mass market, especially in second- and third-tier cities. The majority of the domestic cosmetics enterprises are small in scale and are not as well-operated as their foreign counterparts. Compared with foreign cosmetics rivals, the domestic players lack competitive advantages and are markedly overshadowed in such aspects as scale, management, talent, technology and brands. A report released recently by Sinomonitor International reveals that Chinese brands are losing ground to foreign rivals in the domestic cosmetics • Joint venture of Unilever set up in Shanghai in 1986 • Product range comprising skin care, hair care, deodorant, detergent, soap, toothpaste and fragrance • Suffered setbacks in mid 80s and 90s with many of its joint ventures failing to earn profits, and thus entered into large scale consolidation and integrated its various units under one holding company • Actively acquiring local brands, most notably, Zhong Hua • Massive spending in advertising, for example, spent 100 million yuan on promoting the brand, Pond’s • Established R & D centre in Shanghai in 2001 with initial investment amounted to US$166 million • Working on building a low cost and competitive production base by relocating and consolidating its production and logistics facilities, and R & D capabilities to Hefei in Anhui in an attempt to lower the overall production costs and the product prices • Entered China in 1997 • Retail sales in China doubled to almost 3 billion yuan (US$361 million) in 2004 • Opened over 400 cosmetics counters in nearly 100 cities across the country • Employing over 7,000 people in China • Having 3 plants on the Mainland, 1 in Shanghai and the others in Jiangsu and Hubei, exporting goods to Japan, South Korea, Southeast Asia and Taiwan.

• Offering products ranging from hair care, color cosmetics, skin care, fragrances • Acquired two famous local brands, Yue-Sai and Mininurse in 2003 and 2004 respectively as a step to tap the mass market • Placing strong emphasis on R & D with yearly spending taking up over 3% of the annual sales; setting to open its fourth R & D centre in Shanghai in June 2005, following Paris, New York and Tokyo; publishing a report on the skin types of Mainland women in 2002 by surveying 2,000 women aged between 25 and 60 in 6 years’ time • Moving its Asian training centre to China from Singapore in April 2005

15 The Booming Cosmetics Market in China CHINA NATIONAL COMMERCIAL INFORMATION CENTRE LI & FUNG RESEARCH CENTRE LI & FUNG GROUP market. The report ranked the top competitive brands in 27 consumer product sectors for the year 2004. Comparing the ranking lists for 2003 and 2004, the report for 2004 saw several domestic brands on the outs. This report reveals two prominent features: foreign products enjoy much greater brand loyalty than their domestic rivals; and consumption patterns are moving upscale.

Though domestic players show strength in local knowledge and network, lower labor and management costs, and higher flexibility, they are losing competitive edge amid the severe competition with the foreign counterparts. Therefore, in recent years, domestic cosmetics enterprises have been striving to improve their production efficiencies and product standard by developing technology, streamlining the supply chain and intensifying their efforts in brand building as well as in research and development. Some new domestic brands are now prevalent in the market, including Dabao, Yu Mei Jing, Chinfié, Skek, Arche etc.

Exhibit 9: Major domestic players Cosmetics company & its major brands in China Development in China Beijing San Lu Factory • Dabao Shanghai Jahwa Co Ltd • Maxam • Chinfié • Herborist • Soft Sense • Gf (for men) • Cocool • Liushen C-Bons Group • Slek • S-Dew • Maestro Source: respective companies’ homepage, media and research agencies • A state-owned enterprise set up in 1985 • “King” of mass products and famous for good quality but fair price • Launching the well-known Dabao herbal series of cosmetics offering more than 100 products including skin care, hair care, color cosmetics, perfume and clinical products • Possessing extensive sales network with 157 counters in major department stores in 27 provinces and municipalities • Exporting to about 30 countries or regions, including Japan, the U.S. and other European countries, with export volume increasing consistently at a rate of 40% annually • Selling in some specialty stores in Switzerland, Sweden, Greece, Tunisia and Cyprus • Built the largest cosmetics factory in Bangladesh in 1992 • Established in 1992 • Offering skin care, hair care, baby care, bath and shower, and household cleaning products • Total sales in China reaching 2.2 billion yuan in 2004, with 1/6 of the sales coming from premium products • Launched a popular premium traditional Chinese herb-based skin care product line called Herborist in 1998 emphasizing on “Chinese Concept” • Actively setting up joint ventures with multinationals as an important strategy to upgrade management know-how and production capabilities • Set up joint venture with Sephora from France recently, planning to open cosmetics professional stores for Herborist • Orlane approaching Jahwa to seek cooperation opportunity • Investing 3% of its annual turnover in R & D • Starting operation in Wuhan in the late 1980s • Focusing on hair care products and targeting at low-income earners • Brand owner of the most popular domestic hair care brand, Slek • Enjoying a broad distribution network penetrating into both urban and rural areas

16 INDUSTRY SERIES July 2005 Issue 1 CHINA NATIONAL COMMERCIAL INFORMATION CENTRE LI & FUNG RESEARCH CENTRE LI & FUNG GROUP IX. Distribution channels China’s retail sector has undergone tremendous changes in the few past years. Different types of modern retail formats flourish in the market. Cosmetic products are now sold in diverse channels, of which department stores and supermarkets are the most popular. 1. Department stores – centre of reliable, genuine and safe products Department store, which is generally perceived as the centre of reliable, genuine and safe products by the Mainland consumers, is the main distribution channel for branded cosmetic products. To set up beauty counters, the cosmetics enterprises should have a wide array of products and distinctive brand images. The requirements on capital and brand image are also much higher.

Beauty counters of various famous brands have been opened in numerous department stores across the country. For example, Aupres of Shiseido Liyuan Cosmetics Co Ltd has already opened over 230 cosmetics counters since 1991. Maybelline of L’Oréal China also has over 500 cosmetics counters in the country. In general, department stores in China can be divided into three classes – the high-, mid- and low-end – based on the products they sold, store environment and management. The top cosmetics brands (such as Estée Lauder, Christian Dior, Clinique, Lancôme, Chanel, Orlane, Shiseido and SK II) are usually distributed in high-end department stores - the popular shopping venue of affluent consumers. It is not easy to set up a beauty counter in these stores as they impose strict entrance requirements in the aspects of market standing and sales record of the brands. Sources reveal that the sales of such beauty counter in the high-end department stores such as Beijing Lufthansa Shopping Centre can exceed 10 million yuan per year.

2. Supermarkets, hypermarkets and grocery stores – major distribution channels for mass products Supermarket, hypermarket and grocery store, by contrast, are the major distribution channels for lower-priced mass products — the “basic” cosmetic products such as hair care items, and brands targeting at the mid- to low-end market, such as Pond’s, Clean & Clear, Biore, Maxam, TJOY, Mininurse and Caisy. Prices of these products are usually around 5 to 150 yuan. Some international brands, such as Olay, are selling in both department stores, and supermarkets and hypermarkets. They distribute the premium product lines in the former while offering mass product lines in the latter. 3. Pharmacy chains – an emerging channel for medicated cosmetics A bright spot in the cosmetics market is the emergence of pharmacy chain as a popular distribution channel for multi- function, medicated and natural cosmetic products. Pharmacy chains, where pharmacists and doctors are usually hired to introduce products and explain product functions to consumers, present a more credible and professional image. These chains, therefore, have attracted many consumers who wish to buy cosmetic products that emphasize specific functions (such as wrinkle-free, whitening, anti-acne and slimming), medical use and natural ingredients. Vichy entered the Mainland market in 1998. Only after two years’ operation, it had already set up beauty counters in more than 200 large pharmacy chain stores. Uriage from France, Cortry and Longliqi from China have also achieved success by selling in this channel.

4. Specialty stores – providing professional services and full range of merchandises of a specific brand Specialty store for cosmetics is taking off on the Mainland. The professional services and the full range of goods provided by the stores appeal to many Mainland consumers.

17 The Booming Cosmetics Market in China CHINA NATIONAL COMMERCIAL INFORMATION CENTRE LI & FUNG RESEARCH CENTRE LI & FUNG GROUP In fact, most of the specialty stores operating on the Mainland are owned by the former direct selling companies. The PRC government banned all direct selling operations in 1998, which forced all the direct selling companies to adjust their business models. These companies, including Avon and Amway, then set to establish their own specialty stores. Avon has achieved great success with over 5,500 specialty stores and 1,000 cosmetics counters in 74 Chinese cities at present. Its total sales reached 2.4 billion yuan in 2003, up by 24% y-o-y. Amway, on the other hand, adopted the “salesmen plus stores” operation model to fit for the Chinese market in 1998. In six years’ time, Amway has set up over 110 specialty stores on the Mainland employing more than 70,000 salesmen. Its cosmetics sales in China accounted for 1/5 of its global sales, hitting 10 billion yuan in 2003 with 66% y-o-y growth rate. Specialty stores are not only favored by the former direct selling companies, but also by premium brands. For instance, Shiseido opened its first specialty stores in September 2003, offering 233 products from eight Shiseido brands. Sources reveal that Shiseido is going to open 5,000 more by 2008.

5. Professional stores – dominated by numerous small players but some big ones targeting at mid- to high-end segment emerging Professional store, selling a wide variety of cosmetic products and brands, is particularly popular in small cities, where large department store does not exist and limited distribution channels for cosmetics are available. At present, most of the professional stores on the Mainland are standalone stores and are small in scale. They offer a wide variety of products, from anonymous branded products to some famous foreign brands, at lower prices. Big discount can also be obtained through bargaining.

Recently, some chained professional stores positioning themselves at the mid- to high-end segments are emerging in China. They are larger in scale and they put more emphasize in shaping store and brand images. Sa Sa, a Hong Kong cosmetics enterprise operating chained professional stores opened its first store in Shanghai in March 2005 and plans to open 3-5 more in half a year’s time with a total investment of around HK$30 million. The new store in Shanghai is Sa Sa’s biggest store in Asia, which offers products of over 100 brands - 70% foreign and 30% local brands. Most of the products are house or salon labels like Swiss Program or mass brands like Up2U (by Avon), Neutrogena, Pond’s and Color Zone. Sa Sa is still in talks with local agents to get more popular brands to the store. Another company, Shanghai Jahwa, joining hands with Sephora, is also in the process of setting up professional stores under the name of “sifulanyijiahua . It targets on high-end products with Chinese characteristics. 6. Direct selling – awaiting market liberalization Direct selling is currently prohibited on the Mainland. However, it is reported that the long-awaited Rules of Direct Selling, legalizing direct selling and setting up a comprehensive legal framework for such operation, will be promulgated this year. This rule, lifting the ban on direct selling, will offer an alternative distribution channel to cosmetics enterprises. In preparation for the legislation, in April 2005, the Ministry of Commerce of PRC and the State Administration for Industry and Commerce approved Avon as the first trial direct-selling company in Beijing, Tianjin and Guangdong. 7. Online sales – in initial stage of development Online shopping is increasingly popular among young people. Currently, there are many online stores selling different kinds of branded cosmetic products. Premium and imported products are usually sold at lower prices in this channel. However, almost all of them are smuggled or bootleg products.

So far, few well-known brands offer online sales services. DHC of Japan has recently entered the Mainland market and uses online and telephone ordering as its main distribution channels.

18 INDUSTRY SERIES July 2005 Issue 1 CHINA NATIONAL COMMERCIAL INFORMATION CENTRE LI & FUNG RESEARCH CENTRE LI & FUNG GROUP 8. Cosmeceutical stores – selling pharmaceutical products with cosmetic benefits Cosmeceutical store ( ) is a brand new idea in China. In March 2005, China’s first foreign-invested cosmeceutical store, Cosmed, was opened in a southern Shenzhen city. This kind of store sells pharmaceutical products that provide cosmetic benefits, such as anti-aging, wrinkle-free, anti-acne and slimming. In addition, they also offer simple therapeutic cosmetic services.

X. Performance by product sector China National Commercial Information Centre (CNCIC) conducts monthly survey to over 250 major department stores and supermarkets across China to study the performance of different cosmetics brands. The brand analysis in this section is largely based on the data collected and compiled by CNCIC. As average disposable income of the Mainland residents are still comparatively low, daily use products such as hair care and skin care are the largest contributors to the cosmetics sales.

1. Hair care (1) Growth expected to be modest with market saturation in urban cities According to Euromonitor, sales of hair care products in 2003 reached 12.4 billion yuan, increasing by 47% from 1998. Robust growth was recorded in the early years when people became more appearance- and hygiene-conscious and washed their hair more frequently. However, in recent years, the market has started to get saturated in urban areas. The annual growth rate slowed down from 10.5% in 2000 to 7.4% in 2003. Product penetration rate in cities is already very high. Competition is intense due to the wide variety of brands that are available. Given the present market saturation, the sector growth is expected to be modest.

Among the sales of hair care products, shampoos and conditioners are the dominant items, while styling agents and colorants still constitute minor proportion. Mass products play a major role in the sector while premium hair care products comprise a negligible proportion in the total sales. (2) Players adjusting expansion strategies Shifting to rural market The penetration rate of hair care products in urban areas is high, leaving little room for further expansion. By contrast, the rural areas offer plentiful business opportunities as some people there are still using soap or soap powder to wash their hair. It is anticipated that players will start to plot their expansion plans in the rural market in order to exploit a new source of revenue. However, getting a share in the rural market is not easy. Meanwhile, the purchasing power of the rural residents is low and they can only afford low-priced products. The prevalence of fake and low-quality products in the rural market also makes rural consumers hesitate to buy higher-priced branded products. It will also take a long time for the rural consumers to be accustomed to using conditioners, styling agents or colorants. Increasing promotional efforts Famous brands, especially those foreign brands, have been devoting a lot of resources to promotion and marketing activities in an attempt to strengthen their market position and to set themselves apart from the counterparts.

19 The Booming Cosmetics Market in China CHINA NATIONAL COMMERCIAL INFORMATION CENTRE LI & FUNG RESEARCH CENTRE LI & FUNG GROUP Price cutting Many players have resorted to price cutting to secure market share. The retail price of Rejoice of P & G, for instance, has been reduced by 20-30%. In the late 2003, when P & G re-launched Rejoice, it set the price at only 9.9 yuan for the 200ml pack-sized product as a major selling point. New product launch: function-specific and natural products Players have been launching new products in order to stay competitive. Function-specific hair care products have emerged in the market and are increasingly popular. These products serve to meet consumers’ specific needs, such as shampoos with revitalizing function, shampoos and conditioners for black or dyed hair etc. Besides, hair care products made from natural ingredients (such as wheat and fruit essence) are believed to have less detrimental effects, thus have become consumers’ priority choice.

(3) Fashion-conscious youngsters driving up sales Facing the increasing market saturation, market players are likely to find new business opportunities in the market of fashion-conscious young people, aged between 18 and 34 in particular. According to Cosmopolitan’s (a popular magazine for women) survey to the young readers, for respondents aged below 20, 97% used shampoos regularly; 85% used conditioners; 33% used hair gel; 31% used mousse and 39% used colorant products. (4) Brand owners in the marketplace In large cities, where living standard is relatively high, domestic brands are losing share. Foreign brands are usually of higher quality and present better image, thus attract many city dwellers. However, as the average income level of the Mainland consumers is still very low, foreign brands only take the lion’s share in more developed cities. Looking at the sales of shampoos and conditioners, products of P & G, Unilever and C-Bons Group are most popular. P & G, in particular, is the big winner, with its brand Rejoice, Pantene Pro-V, and Head & Shoulders being the top three sellers (see Exhibit 10 & 12).

While foreign players play a dominant role in the sales of shampoos and conditioners, the market for other hair care products including colorants, hair masks and styling agents presents an opposite picture. This market is highly fragmented and so far, foreign cosmetics enterprises fail to capture a significant share (see Exhibit 11). Exhibit 10:Brand performance of shampoos & conditioners: share of total sales and market coverage ratio, 2004 * Share of total # National market Brand Company name sales (%) coverage ratio (%) Rejoice ( ) Procter & Gamble (Guangzhou) Ltd 39.93 11.41 Head & Shoulders ( ) Procter & Gamble (Guangzhou) Ltd 16.42 11.55 Pantene Pro-V ( ) Procter & Gamble (Guangzhou) Ltd 16.06 10.12 Slek ( ) C-Bons Group 11.12 8.27 Vidal Sassoon ( ) Procter & Gamble (Guangzhou) Ltd 3.99 4.44 Hazeline ( ) Unilever China Ltd 3.83 5.19 Lux ( ) Unilever China Ltd 1.76 5.13 Bee & Flower ( ) Shanghai Soap Co Ltd 1.54 2.39 Clairol Herbal Essences ( ) Procter & Gamble (Guangzhou) Ltd 0.72 3.08 S-Dew ( ) C-Bons Group 0.44 1.98 Others 4.19 36.44 Total 100.00 100.00 Source: China National Commercial Information Centre (CNCIC)

20 INDUSTRY SERIES July 2005 Issue 1 CHINA NATIONAL COMMERCIAL INFORMATION CENTRE LI & FUNG RESEARCH CENTRE LI & FUNG GROUP * Share of total sales : Sales volume of the brand/ total sales volume (sales volume refers to the total quantity sold of the product category by the surveyed retailers) # National market coverage ratio : Since China is not a single market but a highly fragmented market composing of many localized market, CNCIC has compiled this ratio to measure the market coverage of a particular brand in the national market. For example, a brand with a low market coverage ratio tends to be a regional brand instead of a national one.

Exhibit 11: Brand performance of other hair care products (colorants, hair mask & styling agents): share of total sales and market coverage ratio, 2004 Share of total National market Brand Company name sales (%) coverage ratio (%) Decolor ( ) 15.52 1.55 Youngrace ( ) Youngrace Cosmetics Group 13.93 8.34 Maestro ( ) C-Bons Group 11.82 7.36 “feng cai ) 4.66 1.47 L’Oréal ( ) L’Oréal China 4.35 4.17 Houdy ( ) Guangzhou Houdy Cosmetics Co Ltd 3.80 3.68 Xian Dai ( ) 3.69 5.81 Arche ( ) Arche Group Co Ltd 2.42 4.42 Flossie ( ) Xiamen Flossie Cosmetics Factory 2.01 3.43 Guang Ming ( ) Henkel China Ltd 1.11 3.68 Others 36.69 56.09 Total 100.00 100.00 Source: China National Commercial Information Centre (CNCIC) Exhibit 12:Most frequently used brands for shampoos (Top 5) in major cities, 2004 (% of respondents) City Beijing Shanghai Guangzhou Shenzhen Chengdu Chongqing Wuhan Xi’an Shenyang Nanjing Sample size 6,015 6,991 3,022 3,808 2,017 2,437 3,150 2,084 2,819 2,433 1 Rejoice Rejoice Rejoice Rejoice Rejoice Rejoice Head & Rejoice Rejoice Rejoice Shoulders 34.6 25.7 47.4 38.3 36.3 33.2 26.8 23.2 24.8 32 2 Head & Head & Pantene Head & Head & Head & Rejoice Head & Head & Head & Shoulders Shoulders Shoulders Shoulders Shoulders Shoulders Shoulders Shoulders 13.9 17.2 11.6 22.3 16.6 20.3 19.6 20.5 22.1 21.9 3 Pantene Pantene Head & Pantene Pantene Pantene Pantene Pantene Pantene Pantene Shoulders 11.1 10.6 10.8 10.7 16.3 8 13.1 11.9 10.7 9.9 4 Lux Lux Vidal Vidal Hazeline Lux Slek Hazeline Hazeline Hazeline Sassoon Sassoon 6.1 9.1 4.8 5.5 4.5 5.2 7.9 8.7 6.1 5.2 5 Hazeline Pantene Hazeline Slek Lux Triatop Hazeline Lux Triatop Lux 6.1 7.3 3 2.6 4 4.6 5.8 5.8 5.9 4.6 Source: IMI Consumer Behaviours & Life Styles Yearbook 2004-2005

21 The Booming Cosmetics Market in China CHINA NATIONAL COMMERCIAL INFORMATION CENTRE LI & FUNG RESEARCH CENTRE LI & FUNG GROUP (5) Colorants gaining popularity In China, dyeing hair is increasingly popular among people of all ages as a way to express one’s individuality. Different colors are now available on the Mainland. Among all, red, blonde and brown are the most popular. Not only the young people, senior consumers have also begun to use more fashionable colors to improve their appearances, instead of using black colorants only to cover their grey hair.

Albeit the rapid growth of sales of colorants, the growth rate is not as great as expected since most young people prefer to have their hair dyed in hair salons, and students are not allowed to have colored hair. (6) 2-in-1 shampoo losing shares 2-in-1 shampoo has been leading the sales of hair care products, especially in rural areas where purchasing power is low and people there prefer cheap and convenience products. However, in certain large cities, 2-in-1 products have been giving way to separate shampoo and conditioner, as consumers believe that separate products are better for hair care. All in all, given the vast rural population, 2-in-1 shampoo will remain dominant in the hair care sector. (7) Styling agents becoming less popular Industry sources revealed that the sales of styling agents dropped by 20-30% in 2003. This reflects the trend that Mainland consumers have changed their preference and they prefer a more natural look now. 2. Skin care (1) Maintaining strong growth Increasing appearance consciousness, backed by surging disposable incomes, has led to the strong growth in the sales of skin care products. Euromonitor estimated China’s total retail sales of skin care products in 2003 to be 14.2 billion yuan, almost doubled the 1998 figure. The annual growth rate maintained to be around 13% over the period from 1998 to 2003.

Facial moisturizers take the lion’s share, making up almost 71% of the total sales. According to IMI Consumer Behaviours & Life Style Yearbook, in most major cities, over 40% of the respondents used facial moisturizers once or twice a day (see Exhibit 13). Moisturizer is particularly popular in North and Northeast China, such as Beijing, Shanghai and Shenyang, where the weather is very dry and the chilly winters are usually longer then elsewhere in China. Exhibit 13:Frequencies of using facial moisturizers in major cities, 2004 (% of respondents) 3 times or Once or Once 2 or Once or twice Twice a month City (Sample size) more a day twice a day 3 days a week or below Never use Beijing (6,013) 3.4 55.8 1.1 0.5 0.4 38.8 Shanghai (6,987) 3.1 50.5 2.5 1.1 1.1 41.7 Guangzhou (3,021) 0.9 19.8 3 2.3 1 73 ShenZhen (3,810) 1.6 31.6 1.9 0.9 1.2 62.8 Chengdu (2,019) 0.8 40.7 5.5 0.7 0.5 51.8 Changing (2,437) 0.7 28.4 1.1 0.6 0.2 69 Xi’an (2,081) 3.1 48 2.6 1.6 1.3 43.4 Wuhan (3,151) 3.2 44.7 2.7 1.2 1 47.2 Nanjing (2,435) 5.3 42.3 1.2 0.9 0.3 50 Shenyang (2,822) 2.2 48.8 1.8 0.4 0.8 46 Source: IMI Consumer Behaviors & Life Styles Yearbook 2004-2005

22 INDUSTRY SERIES July 2005 Issue 1 CHINA NATIONAL COMMERCIAL INFORMATION CENTRE LI & FUNG RESEARCH CENTRE LI & FUNG GROUP (2) Promotional activities as the major way to drive sales Price cutting or offering discount is not a major way of promotion in the sales of skin care products, especially for premium products. Instead, to attract consumers and build brand names, a huge amount of money and resources have been put into advertising and other promotion activities, such as on-site displays, demonstration shows and sponsoring celebrities. Statistics from CNCIC reveal that cosmetics are sold best in periods where promotion activities concentrate, such as January, December and the “Golden Week” in May and October.

(3) Players eyeing the mass market The market for premium skin care products is still small, given the fact that around 60% of the Chinese population is living in rural areas and a large number of city dwellers cannot afford premium products. Therefore, besides offering premium products, many brand owners are making increasing efforts to tap the mass market. (4) Brands in the marketplace The skin care market is shared among local, foreign-invested joint venture and foreign brands. Multinational players dominate the sales of mid- to high-end products while local brand owners take the major share of the low-end market. At present, local brand owners, though made up around 40% of the total quantity sold, only constituted 16-20% of the total sales value.

Many famous global brands have already entered the Mainland market and established their market presence. Among all, Olay, one of P & G’s brands, ranked first in the total retail sales of skin care products (see Exhibit 14). According to IMI’s survey, for facial moisturizers, Olay is the most frequently used brand in Shanghai, Guangzhou, Shenzhen, as well as Chengdu in 2003 (see Exhibit 15). Olay, with a low-end brand image in the past, has been marketed heavily with a new brand-positioning recently. The advertising expenditure of Olay increased by 160% y-o-y in 2004. Intensive advertising campaigns and new store image have been redesigned to enhance Olay’s identity in the hearts of Mainland consumers. Olay’s strategy is, on the one hand, shaping an up-market image and extending its reach to the market’s upper segments, while on the other hand boosting the sales of its mass products with the upgraded brand image. Apart from opening beauty counters offering higher-priced products and professional services to tap the mid- to high-end market, Olay is going to distribute its mass products in over 4,000 small to medium-sized supermarkets in more than 100 Mainland cities.

Daboa, owned by Beijing San Lu Factory, on the other hand, is the most popular skin care brand among all domestic players with yearly sales volume hitting 20 million units. IMI’s survey shows that in Beijing, Wuhan, Xi’an, Shenyang and Nanjing, Daboa was the most frequently used facial moisturizers among the respondents in 2004 (see Exhibit 15). Exhibit 14:Skin care brands: share of total sales and market coverage ratio, 2004 Share of total National market Brand Company name sales (%) coverage ratio (%) Olay ( ) Procter & Gamble (Guangzhou) Ltd 32.51 10.46 Aupres ( ) Shiseido Liyuan Cosmetics Co Ltd 14.11 4.96 L’Oréal ( ) L’Oréal China 7.52 5.26 Dabao ( ) Beijing San Lu Factory 5.33 5.02 Caisy ( ) 5.02 0.76 Longliqi ( ) Jiangsu Longliqi Group Co Ltd 3.79 1.81 Yue-Sai ( ) Yue-Sai Kan-Coty Cosmetics Ltd 2.73 6.60 Mininurse ( ) Raystar Cosmetics (Shenzhen) Co Ltd 2.36 3.80 TJOY ( ) 1.87 2.80 Avon ( ) Avon (China) Co Ltd 0.89 3.21 Others 23.87 55.32 Total 100.00 100.00 Source: China National Commercial Information Centre (CNCIC)

23 The Booming Cosmetics Market in China CHINA NATIONAL COMMERCIAL INFORMATION CENTRE LI & FUNG RESEARCH CENTRE LI & FUNG GROUP Exhibit 15:Most frequently used brands for facial moisturizers (Top 5) in major cities, 2004 (% of consuming respondents) City Beijing Shanghai Guangzhou Shenzhen Chengdu Chongqing Wuhan Xi’an Shenyang Nanjing Sample Size 6,013 6,987 3,021 3,810 2,019 2,437 3,151 2,081 2,822 2,435 1 Dabao Olay Olay Olay Olay Olay Dabao Dabao Dabao Dabao 35.7 15.7 26.4 25.4 17 17.2 24 23.3 23.2 18.4 2 Olay Dabao Mininurse Dabao Dabao Dabao Olay Olay Olay Olay 11.1 13.5 8.3 11.9 16.7 11.8 15.5 10 10 13.8 3 Mininurse Pond’s Johnson & Mininurse Mininurse Yu Mei Jing Mininurse Mininurse Mininurse Yu Mei Jing Johnson 5.7 8.6 8 7.4 9 9.1 8.7 8.9 6.5 8 4 Yu Mei Jing Mininurse Caisy Caisy Baby Avon Avon Maxam You Yi Balei Cream 5.4 7.4 7.7 6.3 7.7 7.2 4.5 5.2 6.2 7.4 5 Aupres Vaseline Avon TJOY TJOY Baby Cream Maxam Clean & Longliqi Mininurse Clear 5 5.4 7.1 4.7 4.5 6.9 4.2 5.1 5.7 4.5 Source: IMI Consumer Behaviors & Life Styles Yearbook 2004-2005 (5) Whitening, anti-ageing, multi-function and natural products on great demand Mainland people usually prefer a fair complexion, thus whitening products prevail in the market with brand owners launching new whitening product lines frequently.

As the mid-aged consumers are more affluent now, they are willing to pay high prices for anti-ageing products to stay young looking. They look for products that combine cosmetics with vitamins, herbs, and sometimes pharmaceuticals. New technologies, such as biochemical technology, have led to the advancement of the whole cosmetics sector. They allowed for the creation of multi-function products, which perform more than their basic roles. Vitamins A and C, and other new ingredients are widely used in production to provide special functions such as UV protection. Multi-function products are well received by the consumers because they place strong emphasis on value for money in skin care product purchases.

Being more health-conscious and more aware of the side effects that synthetic products may bring, Mainland consumers favor skin care products made by natural ingredients, which are believed to have less detrimental effects. Natural ingredients such as herbal essences and fruit extracts are popular ingredients used in skin care production. 3. Color cosmetics (1) Moderate growth at present but huge potential expected in the long run Compared with hair care and skin care products, color cosmetics is less prevalent on the Mainland. According to Euromonitor, the total retail sales of color cosmetics in 2003 was about 3.8 billion yuan, up by 9.57% y-o-y. Though, color cosmetics sector has recorded considerable sales growth in the previous years demonstrated by the 60% increase in sales over the period from 1998 to 2003, China’s per capita expenditure on color cosmetics remains very low compared with the developed countries.

24 INDUSTRY SERIES July 2005 Issue 1 CHINA NATIONAL COMMERCIAL INFORMATION CENTRE LI & FUNG RESEARCH CENTRE LI & FUNG GROUP The main factors driving the growth in this sector were rising living standards, increased product awareness and changing habits of young women. Official statistics showed that young women between 18 and 30 years old were most active in using color cosmetics. In recent years, more young women on the Mainland are joining the workforce and need to wear make-up. Becoming more financially independent, these women are expected to spend more on color cosmetics. While working women are the traditional main consumers of color cosmetics, young women aged around 20 have gradually become an important consumer group. Heavily influenced by the fashions from Hong Kong, Japan and Korea, many young women, especially those living in the southern region, have become more appearance-conscious and begun to use make-up such as lipsticks, nail varnishes and foundations. Many brands have already launched lower priced product lines to cater for this less financially independent group, for example, Up2U from Avon and Za from Shiseido.

Nonetheless, the majority of young women reside in rural areas. Most of them are not working in office and are less exposed to Western culture. They are still not used to wearing heavy make-up yet. In daily life, they use color cosmetic products no more than lipsticks. Therefore, it is anticipated that the growth of the color cosmetics sector, led by the urban market, will tend to be moderate in the coming few years. Looking at the other side of the coin, huge market potential exists in the long run. It is only a matter of time for its market potential to be fully unleashed. China’s color cosmetics market is still far from mature due to its short history. Many consumers have not yet exposed themselves to use color cosmetic products to date. With rising income and growing public awareness of how to use these products through education and advertising, there should be an increasing number of consumers using color cosmetics.

(2) Sales of lip products taking the lead Lip products hold the largest share in China’s color cosmetics sector. As one of the cheapest and most visible tools to enhance appearance, lipsticks are regarded by Mainland women as an essential element in facial make-up. The typical consumers of lipsticks in China are women aged between 25 and 45, who live in large cities and work in service industry, earning modest pay but enjoying relatively high level of disposable income. In Exhibit 16 and 17, the IMI survey illustrated that lipsticks were widely used among Mainland women and were far more popular than foundations. Exhibit 16:Frequencies of using lipsticks in major cities, 2004 (% of consuming respondents) Once 2 or Once or Once half a Once a month City (Sample size) Daily 3 days twice a week month or below Never use Beijing (2,809) 24.6 6.5 5.9 2 2.3 58.7 Shanghai (3,285) 26.8 8.3 8.4 3.8 2.8 49.9 Guangzhou (1,501) 7.5 3 4.6 2.4 1.7 80.8 ShenZhen (1,892) 13.4 6.1 6.7 3.8 2.9 67.1 Chengdu (955) 17.9 9.7 11.4 2.8 3.7 54.5 Chongqing (1,153) 18.6 5.7 2 1.6 3.5 68.6 Xi’an (987) 18.5 5.3 7.3 1.7 1.3 65.9 Wuhan (1,510) 20.1 3.4 4 5 3.4 64.1 Nanjing (1,110) 15.9 5 5.9 1.6 3.4 68.2 Shenyang (1,383) 31 6.5 5.6 1.9 0.8 54.2 Source: IMI Consumer Behaviors & Life Styles Yearbook 2004-2005

25 The Booming Cosmetics Market in China CHINA NATIONAL COMMERCIAL INFORMATION CENTRE LI & FUNG RESEARCH CENTRE LI & FUNG GROUP Exhibit 17:Frequencies of using foundations in major cities, 2004 (% of respondents) Once 2 or Once or Once half a Once a month City (Sample size) Daily 3 days twice a week month or below Never use Beijing (2,806) 8.9 3.4 4 1.4 2.4 79.9 Shanghai (3,286) 9.2 5.9 4.1 1.4 1.8 77.6 Guangzhou (1,499) 1.5 1.3 1.5 0.8 0.9 94 ShenZhen (1,892) 3.6 2.4 2.4 1.9 2.2 87.5 Chengdu (953) 5.4 2.2 2.7 0.8 1.5 87.4 Changing (1,149) 4.8 4.8 1.4 0.9 0.6 87.5 Xi’an (987) 8.7 3.1 1.6 2 0.6 84 Wuhan (1,512) 7.4 2.6 5.5 1.6 4.3 78.6 Nanjing (1,113) 7.2 4.1 3.5 1 1.2 83 Shenyang (1,382) 20.2 3.1 2.5 0.7 1.8 71.7 Source: IMI Consumer Behaviors & Life Styles Yearbook 2004-2005 (3) Brand owners in the marketplace Multinational enterprises are the major players in this sector despite the fact that there are numerous generic brands sold regionally. Multinational brands with an established reputation are perceived to be of better quality; they are, however, also more expensive.

L’Oréal China is the biggest player in color cosmetics sector (see Exhibit 18). One of its brands, Maybelline, has achieved overwhelming success and has become the master brand of cosmetics in China. Exhibit 19 shows that Maybelline, accounting for significant market share, was the most frequently used brands in all major cities. Maybelline’s success is largely attributable to its extensive distribution network, impressive brand image, massive advertising, reasonable pricing and wide range of product offerings. Maybelline’s lipsticks can be found not only in department stores but also in supermarkets, enabling it to attain high market penetration.

Yue-Sai, targeting at the mass market, is also a very popular brand in this sector. This brand, originally belonged to Yue-Sai Kan-Coty Cosmetics Ltd, was taken over by L’Oréal in early 2004 as a strategic step to enhance its distribution network. Exhibit 18:Color cosmetics brands: share of total sales and market coverage ratio, 2004 Share of total National market Brand Company name sales (%) coverage ratio (%) Maybelline ( ) L’Oréal China 53.96 12.28 L’Oréal ( ) L’Oréal China 6.61 6.02 Mentholatum ( ) Mentholatum China 5.74 2.52 Aupres ( ) Shiseido Liyuan Cosmetics Co Ltd 4.23 4.47 Avon ( ) Avon (China) Co Ltd 3.27 3.82 Yue-Sai ( ) Yue-Sai Kan-Coty Cosmetics Ltd 3.07 7.24 Revlon ( ) Revlon (China) Co Ltd 1.91 3.25 Opera ( ) Opera 0.99 1.95 Cheng Ming Ming ( ) Cheng Ming Ming Cosmetics Co Ltd 0.95 3.50 DeBon ( ) LG Household & Health Care Ltd 0.87 2.44 Others 18.4 52.51 Total 100.00 100.00 Source: China National Commercial Information Centre (CNCIC)

26 INDUSTRY SERIES July 2005 Issue 1 CHINA NATIONAL COMMERCIAL INFORMATION CENTRE LI & FUNG RESEARCH CENTRE LI & FUNG GROUP Exhibit 19:Most frequently used brands for lipsticks (Top 5) in major cities, 2004 (% of consuming respondents) City Beijing Shanghai Guangzhou Shenzhen Chengdu Chongqing Wuhan Xi’an Shenyang Nanjing Sample Size 2,809 3,285 1,501 1,892 955 1,153 1,510 987 1,383 1,110 1 Maybelline Maybelline Maybelline Maybelline Maybelline Maybelline Maybelline Maybelline Maybelline Maybelline 37.9 23.8 36.7 33.2 40.6 42.6 41.9 49 30.4 23.1 2 Avon Yue-Sai Avon Mentholatum Yue-Sai Avon Avon Avon Avon TJOY 7.5 7.6 17.4 9 5.6 9.2 11.1 8.8 6.3 9.7 3 Yue-Sai Mentholatum Amway Caisy Lan gui ren Mentholatum Caisy Yue-Sai TJOY Cheng Aritistry Ming Ming 7.2 6.8 7 7.3 4 5.5 4.4 6.7 4.6 9 4 Aupres Red Earth Olay Avon Avon L’Oréal Kose L’Oréal Dabao Mentholatum 5.2 6.5 6.1 6.1 3.5 3.9 4.3 4.9 3.7 8.5 5 L’Oréal L’Oréal L’Oréal Yue-Sai Elegbacae Aupres Amway Kose Kiss Me De Bon Aritistry 4.9 5.4 5.7 5.1 3.3 3.8 4.1 2.9 3.6 4.4 Source: IMI Consumer Behaviors & Life Styles Yearbook 2004-2005 (4) More value-added functions of color cosmetics Apart from some basic functions, Mainland consumers now look for added value when purchasing color cosmetics. For example, they use foundation not only for covering blemishes or facial imperfections, but also for illuminating and moisturizing face. They look for lip products that are able to create lumping effect; nail products which can strengthen the growth of nails; and mascara that can be removed simply by using warm water.

XI. Future outlook 1. Robust growth continue in 2005 China’s cosmetics market will continue to witness rapid development in 2005, underpinned by the strong economic growth, the surging disposable income of both the urban and rural residents, and the rising living standards. The further opening up of the Chinese market and the advancement of technology will also fuel the growth of the cosmetics market. 2. A more orderly market environment The PRC government has devoted great efforts in establishing a more orderly market environment. First, the production license renewal exercise helps remove the substandard and fake products from the market. In 2003, more than 1,000 cosmetics manufacturers out of the 3,035 in China were not allowed to renew their product licenses due to quality problems. The renewed licenses were only granted to those complying with the national standards in terms of product quality, management model, human resources and infrastructure etc. This shows the government’s determination to weed out unqualified operators and to establish better control over cosmetics manufacturers. Besides, a number of measures have been carried out to combat the production and sales of counterfeit and substandard products. Modest success has been achieved up to now and the PRC government is expected to take further steps to improve the situation.

27 The Booming Cosmetics Market in China CHINA NATIONAL COMMERCIAL INFORMATION CENTRE LI & FUNG RESEARCH CENTRE LI & FUNG GROUP 3. The vast rural market - the next battlefield Though the cosmetics market growth is currently led by urban consumption, the vast rural market, which offers enormous business opportunities, is likely to become the next battlefield. At present, the premium market is packed with multinational and domestic players. The competition is intense and the market is showing signs of saturation. By contrast, the vast rural market, constituting 59% of the Chinese population, is relatively untapped. Besides, in recent years, the Central government has highlighted its policies to raise farmers’ income. Rural income is expected to surge significantly, which makes the rural market even more attractive. In fact, many multinational players have already switched their focus to the mass market and have been actively seeking merger and acquisition opportunities with domestic players to deepen their market penetration.

4. Adding value to products and services To stay competitive, cosmetics enterprises will strive to add value to their products and services. Realizing the importance of responding to the ever-changing consumer demand, enterprises begin to put more resources in obtaining instant and accurate market data. Apart from that, sales staff training has been strengthened to enhance management and to offer better sales services. 5. Demanding for multi-functional and natural products Cosmetic products with special functions will continue to prevail in the market. In addition to the basic functions, Chinese consumers now demand added functions, such as UV-protection, skin re-vitalization and anti-aging. Anti-aging products are expected to be on great demand. According to Avon, the market for anti-aging products in China is worth 3 billion yuan and is experiencing a double-digit growth. The huge market potential has attracted Avon to allocate half of its total R&D expenditure (US$200 million) on developing anti-aging products.

Products made of natural extracts will also be on great demand. As a result of press reports on a rising number of harmful cosmetics combined with the sudden outbreak of mad cow disease, Mainland consumers have been more alert to the safety of cosmetic products. Hence, they are paying more attention to health-friendly, safe and effective cosmetics. Those products processed from natural and green ingredients containing no preservatives, and no or least harmful chemicals are getting more popular in China. Since Chinese consumers tend to believe in traditional Chinese herbal medicine, cosmetics using natural herbs appear to be appealing to many users. Experts predict that in the next 5 to 10 years, Chinese herbal medicines may play a bigger role if researchers can solve such problems as purification techniques and conduct more scientific analyses on the nature and quantity of the effective elements of Chinese herbal medicine.

28 INDUSTRY SERIES July 2005 Issue 1 CHINA NATIONAL COMMERCIAL INFORMATION CENTRE LI & FUNG RESEARCH CENTRE LI & FUNG GROUP © Copyright 2005 Li & Fung Research Centre and China National Commercial Information Centre (CNCIC). All rights reserved. Though Li & Fung Research Centre and China National Commercial Information Centre (CNCIC) endeavour to ensure the information discussed in this material is accurate and updated, no legal liability can be attached as to the contents hereof. Reproduction or redistribution of this material without Li & Fung Research Centre’s or China National Commercial Information Centre’s (CNCIC) prior written consent is prohibited. China National Commercial Information Centre (CNCIC) China National Commercial Information Centre, formerly under the Ministry of Internal Trade of PRC, is a reputable national statistics centre in commercial area. Authorized by the State, CNCIC is responsible for collecting, compiling, analyzing and releasing market data; and producing magazines, reports and numerous publications. One of the important functions of CNCIC is to provide support for the government officials and bodies in formulating macro-control policies in the commercial area.

CNCIC possesses a powerful database and data tracking system. Over 300 large-scale retail enterprises report their sales data and other detailed information to CNCIC every month. Apart from that, CNCIC also has special access to more than 5,000 commercial enterprises’ yearly statistical and financial data. With a wealth of market data, comprehensive coverage and well-developed information system, CNCIC is known for excellence in providing information-based solutions for enterprises, such as formulating strategic expansion plan and conducting marketing research on the Mainland.

Li & Fung Research Centre Li & Fung Group The Li & Fung Group is a Hong Kong-based multinational company consisting of three distinct core businesses: export trading, distribution and retailing. Founded in Guangzhou in 1906, Li & Fung Group, with an annual turnover exceeding US$7 billion, operates in some 40 countries and regions and employs over 13,000 people worldwide. Its core competency is Supply Chain Management (SCM). Li & Fung Research Centre (“the Centre”) researches and publishes reports on wide-ranging topics: Chinese economy, consumer market, retail sector, trade-related issues, and FMCG industries etc. Apart from providing consultancy services for the Group and its clients, the Centre also participates in formulating business strategies in the Mainland market.

The Centre also helps to establish Li & Fung’s thought- leadership in SCM and has been promoting the application of SCM. In 2003, the Centre published the book “The Orchestrator of Global Supply Chain Management”, which is regarded as a very useful reference among businessmen and academics on the Mainland, Taiwan and Hong Kong. * Special thanks to China Association of Fragrance Flavour and Cosmetic Industries, China Cosmetics Review, and Beijing Lufthansa Shopping Centre for their valuable inputs.

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