Вы находитесь на странице: 1из 43
MGMT 223: Final Paper Project Group 01 Bollani, Lorenzo Ekinde, Mark Fuli, Iris Jakab, Tamas

MGMT 223: Final Paper

Project Group 01 Bollani, Lorenzo

Ekinde, Mark

Fuli, Iris

Jakab, Tamas

Schut, Martijn

History

Foundation

Luxottica Group, originally named “Luxottica di Del Vecchio e C. S.a.S”, was founded by Leonardo

del Vecchio in 1961 as a contract producer of dyes, metal components and semi-finished goods for the

optical industry.

Leonardo del Vecchio, owner and chairman of the company, at the end of the ‘60s led the transition

from contract manufacturer to independent producer through the widening of the range of Luxottica’s

manufacturing processes. Such shift culminated in Luxottica’s first collection of prescription eyewear

presented at Milan’s MIDO (an international optics trade fair) in 1971.

Distribution

In the early ’70s, Luxottica sold its frames exclusively through wholesale dealers. However, after five

years of development of its manufacturing capacity, initiated with the acquisition of Scarrone S.p.A., a

Turin-based distributor with profound knowledge of the Italian market, Luxottica started to distribute

frames directly and pursued a strategy of vertical integration.

In the ‘80s, through the acquisition of independent distributors and the formation of subsidiaries and

joint-ventures, Luxottica started its international expansion that culminated in the acquisition of Avant

Garde Optics Inc., a wholesale distributor in the United States market.

In 1995, through the acquisition of the United States Shoe Corporation, owner of LensCrafters, one of

North America’s largest optical retail chains, Luxottica entered the retail market. Subsequently,

Luxottica strengthened its retail position through numerous acquisitions including Sunglass Hut

(2001), OPSM Group (2003) and Cole National (2004).

Luxottica’s strategy and industry evolution

Luxottica’s development strategy was based on heavy investments in products and R&D, together

with acquisitions. Worth mentioning is the purchase of La Meccanoptica Leonardo, owner of the

Sferoflex brand and an important flexible hinge patent that enabled the Company to enhance the image

and quality of its products while increasing its market share.

Luxottica’s considerable investments in marketing and advertisements contributed to the evolution of

the

industry.

Indeed,

from the

late

’80s,

what were

first

perceived

as mere

sight-correcting

instruments, began to evolve into “eyewear” and accessories to define people’s personal style.

Accordingly, continuous aesthetic focus on everyday objects and designers’ interest in the accessories

segment led Luxottica to embark on its first collaboration with the fashion industry, in 1988, by

entering into a licensing agreement with Giorgio Armani.

The Company followed up that initial collaboration with numerous others and with the acquisition of

new brands, gradually building the current world-class brand portfolio and thereby increasing its

commitment to research, innovation, product quality and manufacturing excellence.

Starting in 2005, Luxottica began its penetration into key emerging markets such as China, the Middle

East, South Africa, Thailand, India, the Philippines, Mexico, Brazil and Mediterranean Europe (see

Exhibit 1 for a the history timeline).

Financial markets

In 1990, Luxottica was publicly listed on the New York Stock Exchange under the name of Luxottica

S.p.A (ticker LUX). Moreover, in 2000 Luxottica’s stocks were also listed on Borsa Italiana and

admitted to Italy’s top 30 equities index

Luxottica today

As of 2013, Luxottica is the undisputed leader of the eyewear industry with a market share of 48%. 1

Moreover, it operates on a perfectly integrated scale, benefiting from economies of scale and cost-

efficiency. Luxottica also has the largest brand portfolio of the industry, controlling more than 80% 2 of

major eyewear brands such as Ray-Ban, Oakley and Persol (Exhibit 2).

1 Source: Marketline

2 http://www.forbes.com/sites/deancrutchfield/2012/11/27/luxottica-sees-itself-as-king-raising-questions-about-brand-authenticity/

In recent years, Luxottica has enhanced its position both in the high-end niche, opening new stores in

New York, London and Miami, and in the internet segment, launching the “Ray-Ban Remix” project,

an online platform allowing customers to personalize their Ray-Ban eyewear.

Approximately 60% of the company’s sales volume comes from the sales of sunglasses, while the rest

from general eyewear and eye impairment’s glasses. North America is by far the biggest market and it

accounts for 58% of total sales. On the other hand, the Euro Area accounts Asia-Pacific accounts for

19% and 13% of total sales, respectively 3 .

Luxottica has recently increased its focus on emerging markets, especially China and Latin America

whose sales are expected to account for 20% of total revenues by 2016 4 .

3 2013 Merrill Lynch report on Luxottica Group Research Analyst Flavio Cereda 4 2013 Merrill Lynch report on Luxottica Group Research Analyst Flavio Cereda

Value Drivers

Enhanced production and distribution performance

As of today, Luxottica operates six plants in Italy, two in China, two in North America, and one each

in India and Brazil.

In the near future, production is expected to increase and distribution is expected to accelerate.

Specifically, the bulk of Luxottica’s production is projected to shift from Italy to the emerging markets

such China, Brazil and India. As a result, Luxottica will likely benefit from an increase in capacity,

decrease in production cost as a result of cheaper workforce and less strict regulation. Moreover, the

increase in the production will be accompanied by ongoing improvement in the distribution platform,

and greater efficiency (Exhibit 3 & 4).

Emerging markets

A key point of Luxottica’s growth strategy is increasing the company’s exposure towards emerging

markets. Indeed, the eyewear industry in such markets is still in the early stages of development, and a

rise in the upper middle class consumers and consumer brand awareness is expected.

More in specific, Brazil is expected to rank second in Luxottica’s wholesale segment, in terms of

revenues by 2015, as a more than double increase in sales. Luxottica is also focusing on India for the

first time and it is increasing its exposure to China with a 40% CAGR planned for 2015 5 .

In conclusion, a further benefit of the emerging markets’ penetration is the reduction of Luxottica’s

excessive reliance on North American trends (Exhibit 5).

Business model: wholesale vs. retail

One of the competitive advantages underpinning the Group’s past and future successes is the vertically

integrated structure that Luxottica has built over decades. The Group’s present structure, covering the

entire value chain is the result of a far sighted and gradual process.

5 2013 Merrill Lynch report on Luxottica Group Research Analyst Flavio Cereda

Vertical integration of manufacturing was gradually accompanied by the expansion of distribution,

first wholesale and from 1995, retail, and by the creation of a key presence in the high value added

business of lens finishing. Direct distribution allows the company to offer its products directly to final

users and better understand customerstaste (Exhibit 6).

Analysts 6 expect an increase in sales for both retail (NAM 4%, EM +10-15%, Australia +7%, YOY)

and wholesale (Western Europe +4-7%, NAM +10-15%, EM 20-30%). In particular, for wholesale the

expected sales’ CAGR to 2015 is 12%. Moreover, the strategy of the company is to decrease the share

of wholesale revenues deriving from licensed brands through acquisitions.

Finally, benefits are

expected from the Armani license launched in 2013, which will further strengthen Luxottica’s

strategic position towards the wholesale.

As opposed to the increase in the wholesale business in the emerging markets, the focus of retail

segment

remains

on

developed

economies

such

as

North

America

where

Sunglass

Hut

and

LensCrafters are expected to account for most of the profits.

Demographics and macro-world trends

The macro-world trends seem to paint a bright future for the industry’s long term prospect. Indeed,

being part of the so-called “soft luxury” sub-industry, Luxottica will benefit from the recovery of the

global economy and from the wealth effect associated with general changes in expectations. As far as

the demography is concerned, Luxottica will benefit from a growing and ageing population with

increased need for eye-correction due to behavioral changes. In specific, 500 million vision correction

wearers are projected by 2020 7 (Exhibit 7 & 8).

6 2013 Merrill Lynch report on Luxottica Group Research Analyst Flavio Cereda 7 2013 Merrill Lynch report on Luxottica Group Reasearch Analyst Flavio Cereda

The Eyewear Industry

Industry analysis

In order to analyze the industry in terms of revenues, profitability, and structure, a definition of the

industry in which Luxottica operates is needed. After defining the industry, the revenues and

profitability will be discussed, followed by a discussion on the industry structure using Porter’s five

forces analysis.

Luxottica’s industry can be defined as the eyewear industry, which can be divided in the following

segments:

contact lenses, and spectacles. 8 Each of these segments can be further broken down, with

the subsegments daily disposable, weekly/monthly disposable, traditional, and extended wear for

contact lenses, and spectacle frames, spectacle lenses, sunglasses, and readymade reading glasses for

the spectacles segment. Exhibit 14 shows the segment breakdown of the industry.

Of the two segments, spectacles has been historically the largest in terms of revenue with, on average,

87% of total revenues being earned in this segment (see Exhibit 15). Over the past 15 years, the

eyewear industry has shown an attractive compounded annual growth rate of 4.1%, seeing total

revenues grow from $66.9bn in 1999 to $122.9bn in 2013. To estimate industry profitability, the net

income of four companies 9 was used to calculate an industry average profitability. As can be seen, at

the beginning of the century the average industry profitability rose to around 10%, before falling down

to 6%. After a short increase to 8%, profitability fell again due to the economic crisis to around the 6%

level.

In terms of growth and profit margin the market seems attractive, although this has to be further

investigated by looking at the industry structure. It is, however, also important to compare this

industry to other industries and national averages in terms of profitability. As Porter (2008) argued, the

return on invested capital (ROIC) is an adequate measure to compare profitability across industries, as

it looks at how much return every dollar invested in capital generates. This measure is not distorted by

8 Source: Passport (2012)

9 The four companies are: Luxottica, Safilo, Marcolin, De Rigo

differences in capital structures or tax rates across industries. In order to determine the industry’s

average ROIC, it is important to consider what companies should be included to calculate this average.

Exhibit 16 shows the industry ROIC based on three different peer groups over a period of 15 years.

The first includes companies that are mainly active in the spectacles segment (which are Luxottica,

Safilo, De Rigo and Marcolin), which have a 15-year average ROIC of 7.6%. The second group adds

companies

that

are

(also)

active

in

the

contact

lenses

segment

(Fielmann

AG

and

Essilor

International). This group has an average ROIC of 11.1%. The third group adds companies that

produce, in addition to spectacles and/or contact lenses, also other (unrelated) products, such as

medical equipment (Carl Zeiss and Hoya Corp). Including these companies results in an average

ROIC of 11.5%.

Independent of which composition of companies is used to determine the industry’s return on invested

capital, the eyewear industry has a below-average ROIC. Porter (2008) found that the average industry

ROIC in the US over the period 1996-2002 was 14.9%, compared to a maximal ROIC of 11.5% in the

eyewear industry. This puts the eyewear industry amongst the 5 lowest performing industries that

Porter (2008) discussed.

To investigate where these low returns on invested capital come from, despite reasonably attractive

growth and profit rates, we now turn to analyzing the industry structure using Porter’s five forces

analysis.

Porter’s five forces

Buyer power

The eyewear industry is characterized by a large number of individual consumers the players in the

industry can sell their products to. 10 These consumers buy on an irregular basis, causing them to have

low bargaining power. As eyewear is a product that is highly sensitive to fashion trends, determined

by designers and buyers, the demand for the eyewear is subject to very sudden and sharp changes in

these fashion trends, increasing buyer power. Another issue from the viewpoint of the producers is that

10 Source: Marketline (2012)

brand loyalty is mainly focused on the designer behind the brand and not the producer 11 . Even if brand

loyalty is high, this will not be a guaranteed benefit to the producers and retailers of the spectacles, as

after a contract period the designer can enter an agreement with another producer. Combined with the

low switching costs faced by consumers (once a pair of glasses from a certain brand is bought there is

nothing stopping the consumer from buying a pair from another brand) this increases buyer power. As

mentioned before, however, consumers buy very infrequently. On average, consumers replace their

spectacles every 3 years. 12 This lowers the bargaining power buyers have and this frequency of

replacement is expected to decrease. Most contact lens wearers replace their spectacles every 3-4

years, whereas non-contact lens wearers replace their spectacles every 2-3 years. As the contact lenses

segment is on the rise and growing at a higher rate than the spectacles segment, consumers will most

likely replace their spectacles less often. 13 This will most likely increase pressure on the sellers of

spectacles, as they are faced with a lower demand. Consumers are still willing to pay a decent amount

for branded designer spectacles though, with average unit sales prices around $200 in the US in

2013. 14 As contact lenses are gaining in popularity, they are increasingly becoming a substitute for

spectacles. Another possible substitute is laser vision correction surgery (LASIK). Spectacles are thus

facing increasing resistance from substitutes, thus increasing buyer power. A final factor that decreases

buyer power is that consumers experience a sense of choice when buying spectacles, whereas in reality

the market is dominated by just a few large players. This lack of buyer information and transparency

in the market has assisted companies to keep prices high, indicating low buyer power.

Given all the factors and issues discussed above, it can be concluded that buyer power in the eyewear

industry is medium.

Supplier power

In analyzing supplier power it is helpful to make a distinction between the suppliers of raw materials

and the designer brand many companies sign agreements with. Starting with the suppliers of raw

materials, it can be said that their power is relatively low. The inputs used to produce spectacles are

11 Source: Marketline (2012)

12 Source: Marketline (2012)

13 Source: Euromonitor (2012)

14 Source: Euromonitor (2013)

fairly common and can mostly be bought from a wide range of suppliers. Using Bloomberg’s supply

chain analysis function for Luxottica reveals that the company has a lot of suppliers of which each

makes up just a small part of Luxottica’s cost of goods sold, implying that there is no critical

dependency on major suppliers. Because of the standard inputs switching costs are low. Given this, the

threat of forward integration is negligible, as manufacturing and distributing spectacles lies far away

from suppliers’ core businesses. The power of raw material suppliers is thus low.

Turning to analyzing the designer brands, it can be said that their power is medium to high. A

licensing agreement with one of the larger designer fashion houses in the world results in an important

supplier dependency for producers, as these agreements can account for a large part of revenues. In

2011, Safilo lost the licensing agreement with Armani Group which was picked up afterwards by

Luxottica. 15 The licensing agreement was estimated to make up 15% of Safilo’s revenues, indicating

the importance of these agreements. For designer brands, it does not really make a difference who

produces their products, so switching costs for these suppliers are low. Another factor that increases

their bargaining power is the fact that there is only a limited number of these design brands, making

them relatively scarce suppliers. Setting up a new, world-wide recognized designer brand is not easy,

increasing the dependency on these players due to their low substitutability. As with raw material

suppliers, the threat of forward integration is low, as these designer brands focus on the design of all

the products that make up the brand, as opposed to (also) manufacturing the products. This

dependency is, however, mutual to some extent. There are not many manufacturers that can produce

and distribute on the scale and with the quality that is required for these well-known brands to be sold

globally, increasing the dependency of these brands on the manufacturers. One final important notice

is that these designer brands are produced partially through licensing agreements, whereas another

portion of these brands is owned by the producing company itself (e.g., Ray-Ban is owned by

Luxottica). Although important, the relative importance of these suppliers that are contracted under

licensing agreements should not be overstated. In conclusion it can be said that supplier power is

medium.

15 Source: Euromonitor (2012)

Threat of new entrants

The eyewear market is expected to grow over the coming years, with growth coming to a large extent

from the contact lenses segment. 16 This makes the market more attractive for new entrants as they do

not have to steal away existing business from incumbent firms. The scale of incumbents, however,

makes it difficult to enter the industry. These large firms have signed important contracts with

designer brands, which are to a large extent responsible for the brand loyalty in the industry. Due to

the low switching costs faced by customers, the license agreements become even more important to tie

customers to a company. For new entrants it will be very difficult, if not impossible, to obtain these

licensing agreements, which therefore form a huge barrier to entry. Even if a new company achieves

successful entry, incumbent firms are likely to retaliate. The market is divided between a small amount

of players, making it easier for these players to assess what is happening in the market and thus

making retaliation more likely. Also, these players charge high prices (as discussed above), which

indicates that they can cut prices if needed to exclude a new entrant from the market.

Another difficulty for new entrants has to do with the distribution channels used to sell products to the

consumer. Retail stores still remain the most important distribution channel, with 76% of distribution

going through these stores 17 and internet distribution expected to remain around 3% of the total market

in terms of revenues. 18 Given that some of the incumbents (e.g., Luxottica) are forwardly integrated

companies that also own retail stores makes entering the market even more difficult. This can,

however, be countered by new entrants by introducing new business models. One new entrant that has

successfully introduced a new business model is Warby Parker, which almost exclusively sells its

products online at a fraction of the costs compared to its competitors. 19 The introduction of such an

internet-based business model is not without its disadvantages though, as physical retail stores remain

an important channel for consumers to get professional advice regarding their (prescription) eyewear

and consumers continue to get more aware of this. 20

16 Source: Euromonitor (2012)

17 Source: Euromonitor (2013)

18 Source: Euromonitor (2012)

19 Source: Marketline (2013)

20 Source: Euromonitor (2013)

It remains a difficult task for new entrants to successfully enter the eyewear industry, therefore the

threat of new entrants is characterized as low.

Threat of substitutes

The threat of substitutes can be seen as low. There are only a few possible substitutes for eyewear

products, depending on what purpose the products are used for. Spectacles used as fashion accessories

do not have a real substitute. Prescription spectacles can be substituted by contact lenses and vice

versa, although these are substitutes produced within the same industry. Another substitute is laser

vision correction surgery. Contact lenses and spectacles are, however, not mutually exclusive

substitutes. As said before, contact lens wearers replace their spectacles more often than non-contact

lenses wearers, implying that consumers use these products in addition to each other. 21 The switching

costs between these substitutes is low, although this does not really increase the threat of substitutes as

the most common substitutes are produced within the same industry.

Degree of rivalry

The eyewear market is characterized by a large amount of players, although there are just a few

players that have actually significant market share 22 . In the eyewear market there are only 7 companies

that have a market share of 1% or higher. The smaller companies are niche players who do not have

real market power. In the different sub segments the market can be even more concentrated. In the

sunglasses sub segment, for example, Luxottica is estimated to have around 34% market share 23 and

Luxottica’s overall market share in the segments it is active in is estimated to be as high as 48%. 24 The

fact that just a few players control the market decreases rivalry. The market offers an attractive growth

rate, also decreasing rivalry, as competitors do not have to fight over the same piece of the pie. 25 The

growth in the industry is mostly fueled by contact lenses and emerging markets.

Although the products sold are perceived different by consumers, especially spectacles and sunglasses,

this product differentiation only benefits the designer brands in terms of brand loyalty. The producers

21 Source: Euromonitor (2012)

22 Source: Euromonitor (2014)

23 Source: Euromonitor (2013)

24 Source: Marketline (2013)

25 Source: Euromonitor (2012 and 2013)

of these products do not enjoy any loyal customer base, which makes the licensing agreements with

these designer brands very important. Given that there are only a limited amount of designer brands

and these licensing agreements are signed for longer periods, the rivalry increases in the industry.

Another important factor increasing rivalry is the introduction of new business models and strategic

partnerships. As mentioned earlier, Warby Parker successfully introduced a new business model,

which entails selling low cost spectacles directly to the customer through internet channels. Luxottica

recently signed a contract with Google to help the company design and build future versions of Google

Glass. 26 Expanding the industry to these new arenas will increase rivalry as incumbents will try to

compete in additional segments.

Given the abovementioned factors, the degree of rivalry in the eyewear industry can be characterized

as medium, higher in terms of rivalry for designer brands, yet low when prices are considered.

Conclusion

Given the five forces described above, it can be concluded that players in this industry are able to

create and capture value. According to Brandenburger (2002) potential for profit arises when

customers’ willingness to pay exceeds the minimum suppliers will accept. Given the profitability in

this industry, this is certainly true. As the threat of substitutes is low, the willingness to pay for

spectacles has been consistently high. Who captures the value is determined by the relative strength of

each of the other forces. Given that buyer and supplier power is medium, the players in the industry

are able to capture some, although not all, value. The low threat of new entrants keeps profits at a

reasonable level, although the existing competition between incumbents puts downward pressure on

profit margins. Considering the medium to high strength of the forces that mainly determine the value

captured, it is not surprising that the eyewear industry’s profitability is low compared to the average

industry profitability (as discussed at the beginning).

26 Source: Etherington (2014)

Financial Analysis

Luxottica’s financial performance appears very solid throughout the years. In specific, except for the

years of the crisis, i.e. 2008 & 2009, the Company has benefited from positive growth along all major

indicators of profitability.

According to the company annual report the success of Ray-Ban and Oakley are among the main

factors behind the company’s positive results over the past years. Another element that has played an

important role has been the incredible growth of Sunglass Hut, one of Luxottica’s retail businesses.

With an average revenues’ growth of 9.5% for the past 10 years (Exhibit 9), the company is constantly

expanding its business and consolidating its position through acquisitions and expansions in new

markets 27 (Exhibit 10). The revenues split between the retail and wholesale segment has been stable

throughout the past 10 years, with an average split of 37% (wholesale) and 63% (retail) (Exhibit 11).

As for the regional split, Luxottica, whose revenues are mainly concentrated in North America, has

been increasing its exposure to both Europe and key emerging markets (see Value drivers-emerging

markets for more details; see Exhibit 12 for 2013 revenues split of revenues).

Also under the standpoint of operating profitability and net income, both with a 10-year growth

average of 10%, Luxottica appears extremely solid (Exhibit 13). To better assess the Company’s

performance, we also compared Luxottica’s results against the average of its closest competitors 28

along several key dimensions 29 . Across all such dimensions, the difference between Luxottica and its

competitors appears to be quite evident, with Luxottica consistently outperforming the industry

(Exhibit 14).

Finally, of interest is looking at the years of the recent financial crisis. Quite evident is the severe

impact of such crisis on the optical industry (Exhibit 14), but even more striking is the narrow time

frame within which Luxottica managed to recover, further proof of the financial solidity of the

company. Indeed, as Luxottica’s CEO Andrea Guerra stated, the financial crisis was in fact over in

27 See “History section” for details about the company development

28 Safilo, Marcolin, De Rigo

29 Revenues, gross profit, opeartin profit, net income, operating margin

2010 for Luxottica, with its revenues growth turning positive once again. On the other hand,

Luxottica’s key competitors 30 only recently showed signs of recovery with results similar to the pre-

crisis years.

30 Safilo, De Rigo, Marcolin

Competitive Positioning

Introduction

Many people believe that the difference in price between a 50$ and a 250$ pair of sunglasses is

motivated by the difference in quality of materials and labor costs incurred in the manufacturing

process. Moreover, it is also believed that a 500$ BVLGARI frame is more valuable than a 200$

Dolce & Gabbana one, as they are thought to be produced by two different companies.

Nonetheless, this is only partially true, because it turns out that Luxottica produces both D&G and

Bvlgari spectacles, and their production cost is very similar. Hence, you may be asking yourself

whether these expensive brands are worth the price retailers charge.

Cost

A study by Lois Olson, professor at San Diego University, estimated that the manufacturing cost of a

pair of spectacles in one of Luxottica’s Chinese factories is in the range of $3 to $4, and that the

difference between the production cost of different Luxottica’s brands is negligible 31 . Moreover,

adding all possible upgrades, the overall cost does not exceed $5. For example, it has been estimated

that the cost of polarizing lenses is approximately 17¢. For this reason, it is evident that the retail price

is very different from the costs manufacturers incur (Exhibit 17).

Given that both Safilo and Marcolin have progressively transferred their facilities to developing

countries, we can expect them to be facing a similar manufacturing cost structure with respect to.

Hence, we do not expect Luxottica to be benefiting from cost advantage in the manufacturing process.

Nonetheless, looking at the portfolio’s composition of the three companies, we can identify a

difference in their cost structures, which stems from the royalty fees. Proprietary brands generate 70%

of Luxottica’s revenues, with Ray-Ban and Oakley making up nearly 45% of the total 32 , while Safilo

31 Doug Myrland: Why Do We Pay Hundreds for Shades that Cost $3 to Make?

32 Halah Touryalai: Ray-Ban, Oakley, Chanel Or Prada Sunglasses? They're All Made By This Obscure $9B Company

and Marcolin’s proprietary brands account for only 25% and 5% respectively. This gives a cost

advantage to Luxottica, as a higher reliance on proprietary brands results in lower royalty costs as a

percentage of sales. In particular, royalty costs approximately represent 2.0% of Luxottica’s total

revenues 33 , while for Safilo and Marcolin they account for 7.7% 34 and 15.0% 35 respectively. If we

control for the differences in the mix of licensed versus proprietary brands, royalty fees respectively

account for 9.6% and 15.8% 36 of Safilo and Marcolin’s licensed sales. On the other hand, royalty fees

represent only 6.7% of the Luxottica sales of licensed brands.

Price

Dr. Jay Duker, chair of ophthalmology at Tufts Medical Center, has argued that “you can get a pair of

sunglasses for about $40 that offers 100% protection against ultra-violet rays”, and that “with $70 you

should be able to get a pair with decent quality polarizing lenses that cut out glare”. “Beyond that

[price], the medical benefits tail off pretty fast” 37 .

However, if we look at a sample of glasses that are produced by Luxottica and by its main

competitors, it is evident that the spectacle prices differ to a large extent, as they span from $55 of a

Polaroid pair produced by Safilo, to $550 for a pair Bvlgari glasses manufactured by Luxottica.

Moreover, there is a big variety of prices even within the brands produced by the same company. For

example, Luxottica manufactures both $90 Vogue sunglasses and the aforementioned $550 Bvlgari

ones.

It is therefore clear that spectacle prices both incorporate a huge markup and do not depend on which

company produces the brand. The most important factor that affects their prices is ultimately the

licensor brand. By securing license agreements with companies operating in different segments of the

apparel industry, eyewear producers indirectly position their glasses in different market sectors

according to the underlying licensor’s reputation. Besides, given that most of the brands under

http://www.forbes.com/sites/halahtouryalai/2013/07/02/ray-ban-oakley-chanel-or-prada-sunglasses-theyre-all-made-by-this-obscure-9b-

company/

33 2013 Luxottica Annual Report, pg 92

34 Source: Safilo website

35 2012 Marcolin Annual Report, pg 52

36 Calculated by dividing the actual share of revenues which is lost in terms of royalty fees by the share of the revenues which are attributed to licensed brands

37 High End Sunglasses and “Knock Off” Shades May Have No Difference in Quality http://www.gwob.com/high-end-sunglasses-knock-shades-may-difference-quality/

Luxottica’s umbrella are positioned in the high-end segment of the clothing industry, Luxottica is

charging average final prices greater than $100 on almost all of its glasses, reaching prices of even

$600 for specific brands.

The high markup that Luxottica applies to its products is reflected in the margins the company is

capturing. By looking at Luxottica’s 2013 annual report, it is visible that the company earns a gross

profit of approximately 66¢ on each dollar of sales and, even after deducting sales, advertising,

overhead and brand licensing costs, the company is still earning 52¢ on every dollar of sales 38 .

Moreover, we can conclude that Luxottica benefits from an additional advantage over its main

competitors due to its vertical integration. With its strong presence in the retail business 39 Luxottica is

capable of capturing the total value created in the value chain from the manufacturing stage to the final

customer. On the other hand, both Marcolin and Safilo have to rely on third parties as they have

historically operated through wholesale distributors, thus, giving up part of their margin.

Nonetheless, it is still difficult to conclude whether Luxottica has a price advantage over its

competitors because, as already mentioned, the final price charged on consumers is not dependent on

the producer’s brand (i.e., Luxottica, Safilo or Marcolin), but rather on the licensor’s one. The frequent

and numerous portfolio restructurings in the licensed brands market may give temporary price

advantages to different manufacturers. An example of this is Armani’s decision to switch from Safilo

at the end of 2013, which resulted in a decrease in sales for Safilo by 15%. Additionally, the similarity

between

manufacturers’ gross

margins

is

a

second

factor

that

demonstrates

the

difficulty

in

determining whether a producer has a price advantage, as both Luxottica and its competitors report

gross margins in the range of 61% to 66% 40 .

38 2013 Luxottica Annual Report, pg. 11

39 See Financial performance analysis for a detailed breakdown

40 2013 Safilo Annual Report, pg. 55, and 2012 Marcolin Annual Report, pg. 12

Willingness-to-pay

Over the last five years, Luxottica has been experiencing an increase in its market share to

approximately 48% in 2012 41 . This positive trend can be attributed to a number of factors, including

its capacity to offer more value than its competitors to customers, measured as the spread between the

unobservable willingness-to-pay for its spectacles and their final price.

Nonetheless, this effect is mitigated by a number of factors. As already mentioned, the consumers are

willing to pay a premium for a pair of glasses with the brand name on the glasses rather than the

manufacturer’s name. Moreover, Luxottica finalized several acquisitions (e.g. Oakley in 2007 and

Alain Mikli in 2010) and underwent a number of portfolio restructurings in its licensed brands (e.g.

Luxottica lost Salvatore Ferragamo, but gained Armani in 2013). Hence, it could be argued that such

portfolio changes, rather than the difference in “consumer surplus”, caused Luxottica’s growing

market share.

Therefore, we cannot conclude with certainty whether Luxottica is offering a better willingness-to-

pay/price trade-off than its competitors.

Sources of competitive advantage

As already mentioned, competitors are in line with Luxottica’s manufacturing performance regardless

of their smaller size, as Safilo and Marcolin respectively earned gross margins of 62% and 61% in

2013.

Nonetheless, it is clear that Luxottica benefits from a competitive advantage over its competitors that

stands at the base of its success. We have identified three main factors which stand at the origin of its

profitability.

Vertical integration

Looking at the value chain of the eyewear industry, it is immediately clear that Luxottica’s retail

distribution, consisting of more than 7,000 retail locations worldwide 42 , allowed the company to place

41 Passport Data, Euromonitor International

42 2013 Luxottica Annual report, pg. 99

itself in a dominant position relative to its competitors. This allows Luxottica to capture a greater share

of the overall value created in the production process and puts competition in a “chokehold” 43 .

Licensed portfolio

Secondly, over the last years, Luxottica was capable of adding to its portfolio a number of licensed

agreements with some of the most attractive brands in the industry, including Armani (2013) 44 and

Michael Kors (2014) 45 , which will enable the company to further increase its market share.

Proprietary portfolio

Lastly, through a number of successful acquisitions and reevaluation of underperforming brands over

the last twenty-five years, Luxottica has built up a portfolio of lucrative proprietary brands, including

Vogue (1990), Persol (1995), Ray-Ban (1999), and Oakley (2007). This portfolio is of extreme

importance for Luxottica, as it accounts for approximately 70% of net sales 46 . On the other hand,

competitors have to rely more on licensed brands, which eventually results in less stable revenues over

the long run.

43 This concept is explained in more detail in the section on scope decisions.

44 Sulabh Madwal: Luxottica Winning Licence War as Safilo Tries to Repair Damage

45 Luxottica signs license deal with Michael Kors

Vertical and Horizontal Scope

Summary

We proceed with the analysis of Luxottica’s vertical and horizontal scope, attempting to explain the

economic logic underlying the apparent success of this company. We attempt to highlight why

Luxottica is in a position where competing retailers want to sell Luxottica’s products, while competing

brands want to retail in Luxottica’s shops.

First of all, a historical overview puts our analysis in context. Detailed analysis of scope decisions

follows. We analyze the company’s horizontal scope, covering in detail the two most important layers

of Luxottica’s business: brands and complementary businesses. We continue with vertical integration,

decomposed into two parts: downward integration and upward integration. Moreover, we also analyze

the scope decisions of Luxottica’s most important competitors. Considering the extensive analysis, we

judge the answers that Luxottica gives to the Better Off Test and the Ownership Test. Finally, we

finish the analysis by evaluating the results of the company strategy.

Short historical overview from a scope perspective

Founded in 1961, as a contract supplier for the optical industry, Luxottica started gradual integration

in the 1960s by building up its capability to produce complete pairs of glasses. Arguably, we can

identify a conscious direction towards vertical integration, confirmed by Leonardo Del Vecchio’s

strategy. He decided to vertically integrate the company both upwards and downwards, while

expanding both geographically and in terms of brands and services. The ultimate goal was to establish

a company that is able to design, produce and market the glasses.

As a first-mover, Luxottica started to distribute frames directly to the market in 1974 by acquiring

Scarrone, thus gaining access to vast expertise about the Italian market and a powerful distribution

channel. After consolidating the Italian market, the horizontal expansion continued in the 1980s, by

establishing subsidiaries and acquiring other distributors. Moreover, Luxottica entered the eye care

insurance business in 1988 with the launch of EyeMed Vision Care.

In the 1990s, Luxottica continued its expansion on both the horizontal and vertical platforms. By

acquiring prestige brands, such as Vogue (1990), Persol (1995) or the biggest hit, Ray-Ban (1999) and

entering into licensing agreements with luxury powerhouses such as Bvlgari (1997) and Chanel

(1999), Luxottica significantly increased its reach.

On the other hand, integration of retail channels has also accelerated: Luxottica acquired numerous

retail companies; an exhaustive list can be found in Exhibit 18.

With subsequent development in the 2000s, nowadays Luxottica is a clear eyewear powerhouse,

possessing a market share of almost 50%. Although it cannot be called a monopoly according to the

legal jargon, it dictates trends, effectively sets prices, designs and retails 80% of the world’s major

eyewear brands. It is estimated that if you enter an eyewear retailer, the chances of buying a Luxottica

product is 70%. 47

Turning to the technical part, at the end of 2013, Luxottica’s wholesale distribution network covers

more than 130 countries across the globe, it has 20 distribution channels and over 40 commercial

subsidiaries. It also operates more than 7000 retail stores worldwide. Its brand portfolio is clearly the

strongest in the whole industry.

Scope

Luxottica’s highly integrated business model complicates the analysis of its scope decisions. Namely,

given that the company is not only an eyewear manufacturer, but a retailer as well, the line between

horizontal and vertical integration becomes blurred. For example, how shall the company’s acquisition

of Sunglass Hut be treated? Is it a market consolidation, such that one competitor acquires another or

rather vertical integration, thereby a manufacturer engaging in forward integration? In the following

analysis

we

assume

that

Luxottica’s

main

profile

is

manufacturing,

therefore

we

treat

retail

acquisitions as vertical integration. On the other hand, complementary services are treated as

horizontal diversification.

47 Source: Eric Coppola: The Eyewear Market: Luxottica’s Leadership, Strategy and Acquisitions (2012)

Horizontal

Luxottica has been active in penetrating new markets and geographies by actively acquiring

competitors and complementary businesses. At the same time, the company has not diversified into

segments unrelated to eyewear. In order to fully understand the scope decision, we describe two levels

of horizontal expansion, realizing that they are crucial for establishing Luxottica’s leading position.

First, the company has been actively acquiring new brands, at the same time entering into licensing

agreements with other companies, thus producing (and also designing) on behalf of them. Second, it

has also reached out to complementary services by launching EyeMed Vision Care, now the second

largest vision benefits company in the United States, thus gaining control over the buyers’ side of the

market.

A. Global leader in eyewear brands

The overwhelming majority of renowned brands are associated with Luxottica. However, clear

distinction should be made between two lines of brands: Luxottica has a portfolio of brands

that are owned by the company and another portfolio that are licensed. However, control of

Luxottica is evident in both groups: it is not only a sole producer of the licensed brands, but it

also designs these products, with inspiration from the current collection of the respective

licensed brand. Luxottica contracts with names like Chanel, Polo Ralph Lauren, Versace, or

Tiffany. It virtually controls its own brand portfolio that includes names like Ray-Ban, Persol,

Oakley, and Alain Mikli. Exhibit 2 contains an exhaustive list of its portfolio of brands.

We believe that the underlying economic logic is twofold. On the one hand, Luxottica’s gains

are larger the larger its market share. On the other, it can successfully differentiate its products

by using different brands, while the cost of production is not materially different. As a result,

it can maximize its revenue from customers.

B. Complementary services

Luxottica launched EyeMed Vision Care, the second largest vision benefits company in the

United States, as of 2012. The company has an extensive network of doctors nationwide,

together with retail locations. Serving more than 35 million customers, it provides Luxottica

with a great opportunity to orientate more customers towards buying a Luxottica product. It

also provides an online information portal for eye care and eye health related topics. 48

Vertical

Leonardo Del Vecchio realized early on that two factors are key in the luxury industry: quality and

deep understanding of customer base. Therefore, he strived to implant it in his company. Leveraging

on the extremely integrated structure, 50 years after its foundation, the company has a deep

understanding of its customer base, while also having a comparative advantage in product quality.

It is indeed crucial when you contract with brands like Burberry, Donna Karan or Bvlgari, and

especially when you charge a markup as high as Luxottica. In fact, their ambitious aim is to “deliver

the same «Made by Luxottica» quality everywhere in the world.” 49 The benefit of staying in direct

contact with the customers is twofold. On the one hand, you can identify upcoming trends in customer

tastes, shifts in their needs and their willingness to pay, thus you can serve them better. On the other,

you can directly influence the above mentioned trends, given that you do not have to rely on a third

party retailer. Also, this type of integration makes Luxottica able to fine

segmentation.

tune its customer

We analyze the company’s vertical integration by decomposing it in two parts: upward integration and

downward integration. Upward integration means mainly manufacturing, while downward integration

mainly deals with retailing. For a representative graphic, see Exhibit 19.

A. Downward integration: Manufacturing efficiency

In order to successfully position itself as a market leader, Luxottica has to achieve two

fundamental goals at the same time: i) high level of efficiency in order to produce cheaply and

ii) industry champion quality. It has therefore integrated the whole value chain backwards: it

designs processes and assembles the frames and lenses. The logic underlying is mainly

49 Luxottica Annual Report 2012

efficiency: the company should ensure that introduction of new operating methods is quick,

utilize as much synergy as possible, and introduce innovations quickly, thus optimizing

production time and costs. The company made significant progress with this. It is able to

better cater consumer needs, thus allowing the company to focus on customer segmentation

with a wide range of products, extracting the most from every segment.

In particular, Luxottica operates manufacturing facilities in Italy, China, Brazil and the United

States. Over the years, the company put in place a consistent production system in its Italian

facilities; three plants focus on plastic frames 50 , while another two on metal frames. 51 Also,

Luxottica utilizes one single quality management system throughout product development to

procurement, operational analysis and performance management. In every Luxottica facility,

“quality and process control teams regularly inspect semi-finished products, verifying the

feasibility of prototypes in the design phase, controlling standards in both the product

development and production phases, subsequently checking for resistance to wear and tear and

reviewing optical properties in relation to type of use.” 52

On the other hand, this level of integration facilitates faster and more detailed information

flow, resulting in reduced transaction costs. Transaction costs are also lowered by integrated

logistics services: Luxottica uses a globally integrated distribution system, which is supplied

by

a

centralized

manufacturing

programming

platform.

worldwide and four main hubs in strategic locations:

Sedico (Italy)

Atlanta (US)

Ontario (US)

Dongguan (China)

50 Agordo, Sedico, Pederobba and Lauriano.

51 Agordo and Rovereto.

52 Annual Report 2012

It

has

20

distribution

centers

These hubs “operate as centralized facilities, offering customers a highly automated order

management system that reduces delivery times and keeps stock levels low.” 53

B. Upward integration: World class retail chain

Luxottica’s distribution channels enable the company to reach the extraordinary financial

performance described above. It has established this presence through acquiring competitors

and

covering

new

geographies.

Today,

Luxottica

is

a

leader

in

the

North

American

prescription market through its LensCrafters and Pearl Vision brands; it sells licensed brands

using Sears Optical and Target Optical stores. The OPSM and Laubman & Pank brands serve

the Asian market, with LensCrafters also present in China. The company has global presence

in the sun and luxury eyewear industry, marketing the following brands:

Sunglass Hut

ILORI

The Optical Shop of Aspen

Bright Eyes brands

Adding to this the O-stores retailing Oakley products (not limited to eyewear; Luxottica

outsources production of Oakley accessories), and the e-commerce business, we can conclude

that Luxottica covers the global market.

The competition

As described above, Luxottica’s closest competitor is Safilo Group. This company has a very similar

business model as Luxottica: it owns some of its brands, while licenses others. Also, it operates with

an integrated structure, owning manufacturing facilities together with distribution channels, thus

effectively controlling the entire business value chain. Safilo Group states that it has a competitive

advantage in product design, especially for the high-end brands. 54 Looking at the value chain, there is

one

significant

difference:

Safilo,

53 Source: Luxottica website

54 Source: Safilo website

together

with

its

in-house

manufacturing,

outsources

some

production to third-parties in Italy, China, and the United States. In addition, Safilo’s products are

mainly sold through wholesale channels, which is another clear difference. 55

In sum, we can conclude that Safilo, although following the footsteps of Luxottica, is not as highly

integrated. Comparing the operating results, it is apparent that Luxottica is more efficient, given that

its operating margin was 14.4% in 2013, which is significantly higher than Safilo’s 10.9%. In terms of

net margin, Luxottica has a more than twofold advantage. 56 These results indicate that the highly

integrated business model is superior in the eyewear industry. In fact, with its manufacturing

efficiency and extensive retail channel, Luxottica is able to outperform the competition. Also, major

part of Luxottica’s revenue is created by the retail sector.

The Better Off Test and the Best Alternative Test

Applying the theoretical concepts learned in class, we examine Luxottica’s integration strategy from

the point of view of the Better Off Test and The Best Alternative Test.

First, we ask whether Luxottica is better off with the diversification strategy described above. We

believe that indeed, there is overwhelming evidence for the diversification Luxottica is pursuing. Its

strategy is extremely consistent, since it acquires businesses that are either complementary brands, or

are significantly related to eye care. In fact, three major arguments support this decision.

1. Luxottica is able to benefit from economies of scale as it sources more brands. Nevertheless,

the cost of manufacturing and design is identical in the industry, independently from the

brand. Therefore, it does not require considerable effort from Luxottica to add an additional

brand to its portfolio, while the increased production numbers reduce marginal cost.

2. On the retailing side, stores can serve as one-stop shops for Luxottica products, selling solely

its products. This cannot be achieved with third-party stores. Moreover, Luxottica can

effectively block other firms from reaching the market, as it was made clear with Oakley in

2007-2008. Another, maybe unfair, advantage is that Luxottica is (theoretically) able to sell

55 In fact, 93% of distribution goes through the wholesale channel. as opposed to approximately 40% for Luxottica.

56 Net margin of Luxottica in 2013 was 7.5%, while only 3.5% of Safilo.

only their brands, and consumers still feel that they can choose from a variety of different

producers.

3. EyeMed

Vision

Care,

on

the

other

hand,

perfectly

fits

into

the

strategy

of

offering

complementary products and thus incentivizing the consumer to purchase Luxottica products.

Second, we determine whether the firm should own the abovementioned channels. On this front, three

trends are apparent:

1. In the luxury business, brands and customer relationships are of key importance. Therefore, it

is advised to own the selling outlets and Luxottica has made the right decision.

2. As described above, its high operating margins justify that Luxottica is able to attain a higher

manufacturing efficiency than the competition. Therefore, it makes the right decision when it

comes to owning the production facilities.

3. Related to what has already been mentioned, by owning stores Luxottica is able to keep

competitors from being able to access customers.

All in all, we believe that Luxottica gives good answers to both tests and recommend that they do not

alter the strategy. Nevertheless, we also think that it might be a smart decision to establish a higher

presence in the e-commerce market (following a more detailed discussion).

The result

We believe that Luxottica has succeeded remarkably with establishing this extreme form of

integration, on both the horizontal and vertical side. It covers all main markets, controlling the

majority of eyewear retail distributors and also an eye care benefits company. It also possesses the best

brand portfolio, both concerning proprietary and licensed brands. Thus, it oversees a big portion of the

eyewear market. In fact, some critics argue that Luxottica has too much power in the marketplace.

They address that this strategy effectively eliminates serious competition, since “if you make glasses,

you want to be in their store, and if you have stores, you want to sell Ray-Bans” 57 , Therefore

Luxottica effectively puts the competition in a chokehold. At the vertical integration front, Luxottica

57 Luxottica was featured in CBS 60 minutes, arguing that Luxottica products are overpriced due to its extensive market power.

mastered efficient production, kept design in-house, and ensured high quality. Also, it succeeded with

getting close to customers by keeping retail channels in-house.

An apparent indicator of Luxottica’s success is the enormous difference between the production cost

of Luxottica and the price it charges its customers: it is essentially a price maker. The majority of

Luxottica products are assembled in Italy, thus allowing Luxottica to label them with “Made in Italy”

labels, as a clear indicator of quality. However, the parts themselves are mostly produced in China,

bearing really low production costs. The manufacturing cost of one pair of Luxottica glasses varies

between $3 and $7, while the retail price of the same pair of glasses depends on the exact brand, but is

often in the range of $200 - $850. Although this is also enabled by marketing efforts, brand image, and

consumers’ misconception of choice, it is evident that Luxottica is very successful pursuing the

strategy of extreme integration.

Analysis

of

Forthcoming

Change

in

the

Company’s

Industry

In this section trends that can have a profound influence on the industry’s profitability will be

discussed. Although the industry is faced with a multitude of different trends, not all of these are

expected to create major changes. The most important trends and their implications are therefore

discussed.

The first important trend is the strong growth that emerging markets will see over the next five years 58

with Luxottica having the top 1 or 2 position in all of these regions. 59 Especially Brazil, India, and

China will fuel the growth of the industry. These countries are amongst the fastest growing countries

in the world, with strong GDP growth rates, and a middle class that is getting larger and more

affluent. 60 As these demand in these markets expand, the players in the industry can increase their

revenues and profitability by catering to the demands in these countries. Not all players are evenly

well-situated to take advantage of these changes, as the growth in Asia Pacific for example is due to

increasing demand in contact lenses. 61 These trends provide important opportunities for Luxottica,

which has a particularly good position in Brazil and China. 62 Mainly through acquisitions Luxottica

has been able to gain a strong foothold in Brazil, where it currently enjoys double-digit growth and has

a growing network of retail stores to push its products. In China Luxottica has a similar position,

although here the potential has not been fully utilized yet. China does not rank in Luxottica’s top 10

countries in terms of revenues, whereas China is already the seventh largest market with a very

attractive expected growth rate.

Another important trend that will fuel growth is the increasing demand for contact lenses. 63 Disposable

contact lenses are getting more popular than traditional permanent lenses. Daily disposables are

expected to face the largest growth over the coming five years, despite the premium consumers have to

58 Source: Euromonitor (2013)

59 Source: Euromonitor (2013)

60 Source: Euromonitor (2013)

61 Source: Euromonitor (2012)

62 Source: Euromonitor (2012)

63 Source: Euromonitor (2013)

pay for these products. These products are gaining in popularity due to the elimination of the

associated cleaning procedures. Given that consumers are willing to pay a premium for these lenses,

the industry is likely to enjoy higher profitability as a consequence of this increased demand.

Luxottica, however, has no presence in this segment of the market, and will therefore not experience a

change in its profitability.

A third trend that will increase the demand for eyewear products is the rising rates of myopia and the

ageing population. 64 Myopia, being nearsighted, is the most common visual impairment problem in the

world, with around a quarter of the adult population suffering from it. With the rapid increases in

myopia rates and children being diagnosed at earlier ages with myopia, the demand for eyewear

products will increase. The rising ageing population will also increase the number of people

potentially in need of eyewear products. By 2020 the population aged 65 and above is expected to be

41% higher than in 2010. 65 These two factors will increase demand for eyewear products over the next

ten years and provide opportunities to increase profitability throughout the industry. These trends will

not impact Luxottica in any different way than its competitors, but will definitely provide growth

opportunities for the company.

Another important trend is the increased use of eyewear products as fashion accessories. 66 Clear and

over-sized spectacle frames and sporty looks, and disposable and colored lenses are currently gaining

popularity. Consumers are willing to pay a premium for these products that are deemed more

fashionable than standard eyewear products, which are purely aimed at vision correction. This

increased willingness to pay will impact the profitability of the industry, although these fashionable

products are subject to trends and fads, and will therefore impact the industry at different and

unpredictable moments. Luxottica is not positioned properly to take advantage of the rising demand

for any type of lenses, as they do not produce these. With their luxury eyewear and sunglass brands,

however, such as Ray Ban, the company has a fair chance of profiting from this increasing willingness

to pay.

64 Source: Euromonitor (2012)

65 Source: Euromonitor (2012)

66 Source: Euromonitor (2013)

The final trend is the introduction of new business models, such as Warby Parker introducing a pure

online retailing model. 67 Although physical retail stores remain important for consumer to get advice,

the significant lower prices of these new competitors may decrease the willingness to pay of

consumers, and thus ultimately cause lower prices. The profitability of the industry will then come

under pressure. These new business models have the potential to change the industry rapidly, as

exemplified by Warby Parker, which grew dramatically since it was founded in 2010. 68

67 Source: Euromonitor (2013)

68 Source: Marketline (2013)

Threats to Profitability and Recommendations

Growing alternatives

From a more long-term perspective, the firm’s profitability may be hurt by the growing acceptance of

vision correction alternatives to prescription eyeglasses, such as laser eye surgery. There are three

main

procedures

which

Keratomileusis (Lasik),

are

commonly

used

for

vision

correction:

Photo-Refractive Keratectomy (PRK) and Laser

Laser-Assisted

in

Situ

Assisted

Subepithelial

Keratectomy (Lasek). With technological advancements, the cost of refractive optical surgery has

decreased to a considerable extent. Since 1992 when the LASIK procedure was first introduced under

FDA supervision 69 , more than 11 million interventions have been performed in the US and more than

28 million were performed worldwide 70 .

Proprietary vs. licensed brands

Luxottica retails both proprietary and licensed brands. The licensed brands are usually associated with

top names in the fashion industry (e.g. Chanel, Prada, Miu Miu, Dolce & Gabbana, Bvlgari, Burberry,

Armani etc.) while the proprietary brands include Luxottica’s main brands: Oakley, Ray-Ban and

Persol.

Luxottica enters into licensing agreements to retail non-proprietary brands. These contracts have terms

of three to ten years and usually require Luxottica to make advance and royalty payments. Such

advance payments can go up to hundreds of millions of dollars (e.g. advance payments for the FY2012

totaled $73.8m) 71 . However, the profitability of licensed brands largely depends on the terms of the

licensing agreement and on the renewal of such agreements.

Luxottica has constantly reduced the dependence of its topline growth on licensed brands. As Exhibit

20 shows, the ratio of proprietary brands (as a % of overall revenues) has increased from 57.2% in

2008 to 70.3% in 2012. However, a substantial portion of the revenues (approx. 30%) is still generated

69 http://www.fda.gov/MedicalDevices/ProductsandMedicalProcedures/SurgeryandLifeSupport/LASIK/ucm192109.htm

70 http://bmctoday.net/crstodayeurope/2013/02/article.asp?f=ndyag-treatment-of-epithelial-ingrowth

71 Source: Annual Report 2012

from licensed brands. We think this may expose Luxottica to vulnerabilities from the non-renewal or

the renewal with unfavorable terms of these contracts. For example, in 2013, Safilo failed to renew its

license with Armani. This led to an estimated loss in revenues of approximately 15%.

Even though for the FY2013, no single licensed brand provided more than 5% of sales 72 , we think that

unfavorable terms or non-renewal can harm Luxottica’s performance. In this view Luxottica should

continue to expand the share of revenues generated through proprietary brands in order to reduce its

exposure to non-proprietary brands.

Exposure to the US market

Currently, approximately 60% of Luxottica’s revenues are generated in the North American market.

This exposure is usually considered to be a point of vulnerability that may pose a threat to its

profitability. Weakened general economic activity in North America or the entering of further

competition in the market exposes Luxottica’s financial performance.

Counterfeit products

In recent years there has been rampant growth in counterfeit products. Only last year the number of

wearing apparel and accessories seized by the US Customs and Border authority amounted to $116

million 73 . This was up 27% from the previous year and the seized materials were usually related to

high-end fashion apparels (including eyewear). This excessive growth in counterfeit products hurts

both short-term and long-term profitability. In the short-term, customers reduce spending on luxurious

products, fearing that they are buying counterfeit products. In the long-term, brand reputation is hurt

by the easily imitable design.

Warby Parker business model

We covered in depth the rising trend of online stores which reduce retail stores’ costs in the industry

trends paragraph.

72 Source: Annual Report 2013

73 http://www.usatoday.com/story/money/business/2014/03/29/24-7-wall-st-counterfeited-products/7023233/

Appendix

Exhibit 1. Luxottica’s company history

1971 1990 1999 • Foundation • Entry in • Acquisition of wholesale Persol • First
1971
1990
1999
• Foundation
• Entry in
• Acquisition of
wholesale
Persol
• First collection
Listing in NYSE
• Acquisition of
distribustion
• Entry in retail
Acquisition of
Vogue
Ray-Ban
distribution
1961
1974
1995
2001 2007 •Lisiting on •Retail •Retail Borsa •Entry into expansion in •Acquisition expansion in
2001
2007
•Lisiting on
•Retail
•Retail
Borsa
•Entry into
expansion in
•Acquisition
expansion in
Italiana
sun retail
China
of Oakley
LATAM
2000
2005
2009

Exhibit 2. Proprietary brands and licensed brands

in Italiana sun retail China of Oakley LATAM 2000 2005 2009 Exhibit 2. Proprietary brands and

Exhibit 3 & 4. Production mix and volume

Exhibit 3 & 4. Production mix and volume Exhibit 5. Geographic distribution of the wholesale unit
Exhibit 3 & 4. Production mix and volume Exhibit 5. Geographic distribution of the wholesale unit

Exhibit 5. Geographic distribution of the wholesale unit

4. Production mix and volume Exhibit 5. Geographic distribution of the wholesale unit Exhibit 6. Revenue

Exhibit 6. Revenue mix by brand type

4. Production mix and volume Exhibit 5. Geographic distribution of the wholesale unit Exhibit 6. Revenue

Exhibit 7 & 8. Demographic trends 74

Exhibit 7 & 8. Demographic trends 7 4 Exhibit 9 . Luxottica’s operating performance 12 000

Exhibit 9. Luxottica’s operating performance

12 000 000 10 000 000 8 000 000 6 000 000 4 000 000
12
000 000
10
000 000
8
000 000
6
000 000
4
000 000
2
000 000
0
2004
2005
2006
2007
2008
2009
2010
2011
2012
2013

Revenues8 000 000 6 000 000 4 000 000 2 000 000 0 2004 2005 2006

Gross Profit8 000 000 6 000 000 4 000 000 2 000 000 0 2004 2005 2006

Exhibit 10. Eyewear market forecast

2008 2009 2010 2011 2012 2013 Revenues Gross Profit Exhibit 10. Eyewear market forecast 7 4

74 Source: IMF

Exhibit 11. Revenue distribution

73% 80% 70% 66% 66% 60% 61% 61% 61% 59% 56% 60% 44% 41% Wholesale
73%
80%
70%
66%
66%
60%
61%
61%
61%
59%
56%
60%
44%
41%
Wholesale
40%
39%
39%
39%
34%
34%
40%
30%
Retail
27%
20%
0%
2004
2005
2006
2007
2008
2009
2010
2011
2012
2013

Exhibit 12. Revenue growth

2009 2010 2011 2012 2013 Exhibit 12. Revenue growth Exhibit 13. Performance comparison 10 000 000

Exhibit 13. Performance comparison

10 000 000

8

000 000

6

000 000

4

000 000

2

000 000

0

Revenues

2004 2005 2006 2007 2008 2009 2010 2011 2012
2004
2005
2006
2007
2008
2009
2010
2011
2012

Luxottica

Competitors Avg

 

Gross profit

8

000 000

Luxottica Competitors Avg

LuxotticaCompetitors Avg

Competitors AvgLuxottica

6

000 000

4

000 000

2

000 000

 

0

 

2004

2005

2006

2007

2008

2009

2010

2011

2012

1 500 000

1 000 000

500 000

0

-500 000

Operating Income

Operating Income 2004 2005 2006 2007 2008 2009 2010 2011 2012 Luxottica Competitors Avg
2004 2005 2006 2007 2008 2009 2010 2011 2012
2004
2005
2006
2007
2008
2009
2010
2011
2012

Luxottica

Competitors Avg

 

Net income

800

000

2004 2005 2006 2007 2008 2009 2010 2011 2012
2004
2005
2006
2007
2008
2009
2010
2011
2012

Luxottica

Competitors Avg

600

000

 

400

000

200

000

0

-200 000

 

Operating Margin

20,00%

15,00%

10,00%

5,00%

0,00%

-5,00%

-10,00%

2004 2005 2006 2007 2008 2009 2010 2011 2012
2004
2005
2006
2007
2008
2009
2010
2011
2012

Luxottica

Competitors Avg

Exhibit 14. Industry structure 75

Eyewear Contact lenses Spectacles Daily disposable Spectacle frames Weekly/monthly Spectacle lenses disposable
Eyewear
Contact lenses
Spectacles
Daily disposable
Spectacle frames
Weekly/monthly
Spectacle lenses
disposable
Traditional
Sunglasses
Readymade reading
Extended wear
glasses

Exhibit 15. Industry profitability 76

130 000 120 000 110 000 100 000 90 000 80 000 70 000 60
130
000
120
000
110 000
100
000
90
000
80
000
70
000
60 000
50
000
40
000
30
000
20
000
10
000
0

Contact Lenses000 60 000 50 000 40 000 30 000 20 000 10 000 0 Spectacles Profit

Spectacles
Spectacles
Profit margin
Profit margin

12,0%

10,0%

8,0%

6,0%

4,0%

2,0%

0,0%

75 Source: Euromonitor (2012)

76 Source: Euromonitor (2014)

Exhibit 16. Industry ROIC 77 20 15 10 5 0 1999 2000 2001 2002 2003
Exhibit 16. Industry ROIC 77
20
15
10
5
0
1999 2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 2012 2013
Spectacles only
Eyewear
Eyewear & other

Exhibit 17. Price structure of designer eyewear

& other Exhibit 17. Price structure of designer eyewear Exhibit 18 . Luxottica’s key retail acquisitions

Exhibit 18. Luxottica’s key retail acquisitions

US Shoe Corp.

1995

SunglassHut

2001

OPSM

2003

Cole National

2004

Multiopticas Internacional

2009

Stanza

2011

77 Source: Bloomberg (2014)

High Tech

2011

Erroca

2012

Tecnol

2012

Sun Planet

2012

Salmoiraghi & Vigano

2013

Exhibit 19. The supply chain 78

& Vigano 2013 Exhibit 19. The supply chain 7 8 Exhibit 20 . Luxottica’s brand distribution

Exhibit 20. Luxottica’s brand distribution

80,00%

60,00%

40,00%

20,00%

0,00%

80,00% 60,00% 40,00% 20,00% 0,00% Designer Proprietary

Designer80,00% 60,00% 40,00% 20,00% 0,00% Proprietary

Proprietary80,00% 60,00% 40,00% 20,00% 0,00% Designer

78 Source: Luxottica website

Exhibit 21. Geographic distribution of Luxottica’s revenues

70,00% 60,00% 50,00% 40,00% 30,00% 2010 20,00% 2011 2012 10,00% 2012 0,00% 2011 2010
70,00%
60,00%
50,00%
40,00%
30,00%
2010
20,00%
2011
2012
10,00%
2012
0,00%
2011
2010