How Do Foreign Cosmetics Companies Align Their Supply Chains and Distribution Channels in China

International Journal of Logistics: Research and ApplicationsVol. 11, No. 3, June 2008, 201–228

RESEARCH ARTICLE

How do foreign cosmetics companies align their supply chainsand distribution channels in China?

Tony Wu, Weiwei Wang, Christopher S. Tang*, David Liu, Frances Gao and Cindy Fang

UCLA Anderson School, 110 Westwood Plaza, Los Angeles, CA 90095, USA

(Received 26 May 2006; revised 26 February 2007, 18 April 2007; in final form 15 August 2007 )

Backed by robust economic growth, China’s cosmetics market has grown dramatically in recent years.As foreign cosmetics companies develop strategies for establishing or expanding their presence in China,they need to ensure proper alignment between their supply chain configurations and distribution channels.Because no public data is available, we use a case study approach to investigate the extent these foreigncompanies align their supply chains and distribution channels. In addition, we outline some current andfuture challenges and opportunities that foreign cosmetics companies need to face as they compete forgrowth.

Keywords: supply chain configurations; distribution channels; market entry strategies; alignment; China

1. Introduction

Ever since the 1978 economic reform and the 2001 WTO status, China has experienced aphenomenal economic growth and a steady increase of disposable income.1 According to theNational Bureau of Statistics of PRC (NBS), out of a population of 1.3 billion people, over 500millions reside in urban cities such as Beijing, Shanghai, and Guangzhou. Also, over 65 millionmiddle class people have an annual household income between US$7230 and US$60,240, andmost of them welcome western culture, especially products that offer individualism or status.NBS predicted that the middle class would increase from the current 5% to 45% by 2020. Theseenvironmental factors attracted many multinational corporations (MNCs) to establish their pres-ence through various means. Some corporations outsourced their manufacturing operations toChina to exploit the abundant low-cost labour force, while others established sales channels toexpand their global sales.

In 2006, China is undeniably one of the most important consumer markets that multinationalcorporations would like to enter or expand. According to a survey conducted by the AmericanChamber of Commerce, three out of four US companies reported profitable operations and most

*Corresponding author. Tel.: +1 310 825 4203; Email: [email protected]

ISSN 1367-5567 print/ISSN 1469-848X online© 2008 Taylor & FrancisDOI: 10.1080/13675560701635500http://www.informaworld.com

202 T. Wu et al.

reported their profit margins are higher in China than elsewhere in the world (c.f., Forney 2004).For example, Shanghai GM (http://www.gmchina.com/english/), the flagship joint venture inChina, was the monthly sales leader in 2005 among all passenger car manufacturers. The sharpincrease in sales of Chevrolet and Cadillac in China has helped General Motors to narrow itslosses in the first quarter of 2006 to $323 million, compared with $1.3 billion loss in the samequarter a year ago (c.f., Ellis 2006).

To succeed in a foreign market like China, it is increasingly important for a firm to developcompetitive advantages from coordinating various activities along the value chain (c.f., Arnold2003). These activities include supply chain activities (procurement, in-bound logistics, man-ufacturing operations, and out-bound logistics) and marketing activities (product development,marketing and sales, and service). Unfortunately, since there is an urge to rush to market, mostcompanies may not have the luxury to develop a plan to coordinate various marketing and supplychain activities when they enter a foreign market.

• Entering a new market without a good marketing plan can be detrimental.◦ In 1995, Whirlpool, a world’s leader in home appliances, formed a joint venture with a

well-established refrigerator manufacturer Snowflake Electric Appliance Co. Ltd in Beijing.While the manufacturing operations were running smoothly, only 39,000 of the total outputof 62,000 refrigerators were sold in 1996. The main reason for this dismal performance wasdue to Whirlpool’s marketing strategy. First, unlike other well-known brands in China suchas Haier, LG, Hitachi, Sharp, etc., Whirlpool did not launch a strong advertising or promotioncampaign to create brand awareness and brand image. Second, Whirlpool positioned theirproducts at the high-end of the market and sold their products only at major retail chainsand hypermarkets like Carrefour that concentrated in major cities only. As Whirlpool was arelatively unknown brand, Chinese consumers were reluctant to buy a Whirlpool refrigeratorat high price without any additional perceived value relative to other well-known brands. Eventhough Whirlpool adopted the Chinese brand name, Hui Er Pu, meaning ‘cheap and popular’,the sales continued to be abysmal.After suffering from major losses, Whirlpool terminated itsassociation with Snowflake in 1997. Currently, Whirlpool is focusing on exporting products(microwave ovens, washing machines, and dryers) made in their remaining facilities in China(c.f., Pan 2005).

◦ Over a two-year period (2005–2006), four major Japanese mobile phone companies(Mitsubishi, NEC, Panasonic, and Toshiba) exited the China market, despite the fact thatChina’s mobile phone market is one of the fastest growing in the world. Besides citingpoor sales performance as the key reason for exiting the China market, Myers and Yuan(2006) highlighted two major market entry mistakes that these four Japanese companiesmade. First, the Japanese mobile phone makers focused on the high-end market, which wasa limited market especially when the Japanese phones were priced above a comfortableprice-point for consumers living outside the major cities. Second, they focused on devel-oping superior technology without spending significant effort in branding, marketing, andsales. Inadequate effort in branding and marketing can be detrimental especially becausethese Japanese companies entered the China market after Motorola, Nokia, and Samsungcaptured the mass market in the mid-90s.

• Entering a new market without a good supply chain plan can be problematic.◦ In 1981, due to a high manufacturing cost in Taiwan and Korea, Nike decided to source

their shoes from various contract manufacturers in China. Even though Nike was a well-known brand and had an excellent marketing strategy, the company encountered majorsupply chain problems. These problems include the lack of high quality raw materials(nylon, canvas, rubber and chemical compounds), as well as problems in technology trans-fer, quality, production planning and inventory control, logistics, communication, and human

International Journal of Logistics: Research and Applications 203

resource management. Without a clear supply chain strategy, Nike was in a bind. Instead ofterminating the association with these contract manufacturers, Nike was able to enlist ADICorporation, their former contract manufacturer in Taiwan, to manage their operations to gettheir manufacturing operations back on track (c.f., Austin and Aguila 1985).2

◦ After IKEA entered the market in 1998, they discovered various unanticipated supply chainchallenges. As reported in Miller (2004), IKEA lamented that the cost for managing its sup-ply chain was much higher than expected due to the following reasons. First, it was moredifficult and more costly to import furniture components made of glass, timber or plasticinto China, due to strict import quotas and heavy import taxes. Second, due to regional-ism, Customs clearance for imports and inter-provincial transportation was challenging andcostly.3 Third, as most Chinese customers are not accustomed to the ‘do-it-yourself’assemblyconcept, IKEA had to provide delivery and assembly services. These ‘unanticipated’ aftersales services created another challenge for managing IKEA’s supply chain. Moreover, tomeet the demand of the Chinese customer at the right price-point, IKEA had to offer manylocalised products (hard beds, chopsticks, cleavers, balcony furnishings, etc.) and reducetheir retail price by more than 10% (c.f., Gronlein 2005). As gross margin began to shrink,IKEA planned to source more products directly within China to reduce cost. By doing so,IKEA was concerned about counterfeits and copycats in China.

Recognising the importance of aligning supply chain and marketing activities, we are interested inexamining the underlying supply chain and marketing activities adopted by different companieswhen they entered a foreign market like China.4

This paper is intended to develop a unified framework for describing different supply chainand market entry strategies actually adopted by various multinational companies. To enable usto classify different companies and their chosen strategies, we focus on a particular industry: thecosmetics industry. However, the framework and the underlying approach can be used to analysesupply chain and market entry strategies for other industries, such as fashion and pharmaceuticalproducts. In this paper, we focus our study based on major companies in the cosmetic industryfor the following reasons:

1. Market Potential. The cosmetics market has grown from around US$25 million in 1994 to$7.9 billion in 2004, and is expected to expand at an annual rate of about 12% (c.f., Tao 2005and Fang et al. 2006). Also, the cosmetics industry has become the fifth largest consumptionhotspots on the Mainland China only after real estate, automobile, electronics, and tourism(c.f., Li and Fung Research report, 2005).

2. Market Readiness. In 2004, the per capita annual spending on cosmetics in major cities such asBeijing and Shanghai has reached US$20. As living conditions continue to improve, spendingon cosmetics is likely to increase exponentially. Also, other regions such as Tianjin, Zhejiang,Hubei, Jiangsu, Chongqing, etc., are experiencing double digit growth in cosmetic sales (c.f.,Li and Fung Research report 2005).5

3. Brand Awareness and Consciousness. According to a market research survey of 34,000 peopleconducted by IMI in 2005, Chinese consumers are becoming more sophisticated and valueoriented. The top two factors affecting consumers’ choice of cosmetics are brands and prices,which can be influenced by marketing and supply chain activities.6 This consumer preferenceis revealed as major international brands, such as Olay by Proctor & Gamble (P&G), Aupresby Shiseido, and L’Oréal Paris by L’Oréal captured the top three positions in the market ofskin care products (c.f., Li and Fung Research report, 2005). Moreover, while the local brands,such as Dabao and Yu Mei Jing targeting the low-end market accounted for 60% of the marketshare of the cosmetic market, 80% of the profit is captured by the international brands, suchas L’Oréal targeting the high-end market (c.f., Tao 2005).

204 T. Wu et al.

In addition to presenting a unified framework for describing the supply chain and market entrystrategies of different multinational cosmetics companies, we use a case-study approach to conductour industry analysis for the following reasons:7

1. Data Availability. Based on our search through various databases and publications availablein the public domain, we are unable to find pertinent data describing specific supply chainand market entry strategies adopted by different cosmetics companies. As such, we are unableto use the traditional statistical methods to test certain postulations presented in this paper.However, we managed to supplement the information gathered from our personal interviewswith some sales information provided by Euromonitor International Databases.

2. Confidentiality. The actual supply chain and market entry strategies adopted by different com-panies are usually confidential, especially when competition in the cosmetics market is fierce.We obtained information regarding specific supply chain and market entry strategies adopted bydifferent companies via personal interviews with seven major international cosmetic companies– Avon, Amway, Estée Lauder, L’Oréal, P&G, Revlon, and Shiseido. However, to ensureconfidentiality, we disguise the company identity when presenting our analysis in certainsections.

3. Scope. The case-study approach is rather common in performing strategic analysis, especiallywhen conducting industry analysis in a developing country like China. This approach enablesus to develop a unified framework for describing the actual supply chain and market entrystrategies of various multinational cosmetics companies. Based on our qualitative analysisof the information collected from our interviews, we illustrate how multinational cosmeticcompanies align their supply chain and marketing activities to compete with other local andinternational brands. The analysis presented in this paper can help managers to develop acoordinated marketing and supply chain strategy before they enter a new market such asChina.

We conducted our case study as follows. We selected seven major international cosmeticcompanies (Avon, Amway, Estée Lauder, L’Oréal, P&G, Revlon, and Shiseido) for our study.(The background information about these companies is provided in Appendix 1.) These com-panies were selected for our study because of the following reasons. First, the selection shouldinclude multinational firms that are based in different geographical regions: Asia (Shiseido),Europe (L’Oréal), and North America (Avon, Amway, Estée Lauder, P&G, and Revlon).8 Second,the selection should include firms with major presence in China: P&G is the top player in theskincare market, and L’Oréal is the top player in the colour cosmetics market. Third, our selec-tion should capture a significant share of the cosmetics market: these firms capture 50.4% of theskincare market and 40.1% of colour cosmetic market.

To learn more about supply chain and market entry strategies of different multinational cosmet-ics companies, we developed a common set of questions to be discussed during our interviewsconducted in Chinese. As such, this set of questions was originally written in Chinese (Appendix2). For the reader’s convenience, these questions are translated into English (Appendix 3). Wesent them to the director of Human Resource department of each company requesting their help toidentify individuals who would allow us to interview. These companies provided 18 individualswho were knowledgeable about their company’s supply chain operations and marketing activi-ties in China. The profile of these 18 interviewees is provided in Appendix 4. The face-to-faceinterviews were conducted in Beijing, Shanghai, and Guangzhou, over a period of two monthsin 2005. After our in-depth interviews, we combined the qualitative information gathered fromour interviews with the sales data obtained from the public domain to develop a frameworkfor describing the supply chain and market entry strategies of different multinational cosmeticscompanies.


This paper is organised as follows. We classify different types of cosmetics products, differentsupply chain configurations, and different distribution channel configurations in Sections 2, 3,and 4, respectively. Also, we present qualitative analysis based on the information gathered fromvarious databases and our personal interviews with various executives in China. Furthermore, ourqualitative analysis motivates us to develop various postulations regarding the interaction betweensupply chain configuration and market entry strategy. Section 5 presents a framework illustrat-ing how multinational cosmetic companies align their supply chain and marketing activities tocompete with other local and international brands. In this framework, company identity has beenremoved to comply with our confidentiality agreement. In Sections 6 and 7, we highlight somefuture challenges and opportunities that multinational cosmetics firms should know to succeed ina dynamic market like China. While this paper is based on qualitative analysis, we hope that prac-titioners would find our paper to be informative, practical, and perceptive. At the same time, wehope our postulations will generate interests for researchers to collect data to conduct quantitativeanalysis in the future.

2. Product characteristics

Cosmetic products can be classified into seven major categories according to their functions, whichinclude skin care, body care, make up, sun care, baby care, men’s grooming, and fragrances.9

According to the 2005 Euromonitor’s database on cosmetics and toiletries, skin care categoryrepresents 37% market share of the cosmetic market, which amounts to over US$2 billion insales. Within the skin care category, facial moisturisers take up more than 75% of the total sales;facial cleaning creams, whitening creams, and anti-acne creams make up the rest of the sales.10

Other categories of skin care products capture relatively small market share. The key reason is thatskin care products are accepted culturally especially whitening products and moisturisers, whilemake-up products and fragrances are still in the early adoption stage.11 Skin care products alsoenjoy a higher profit margin than make-up products, because of simpler technology and lowerconsumer taxes.12 As such, skin care products are much more popular because of their intrinsicappeal – higher value at lower cost.

According to a report issued by the Chinese National Commercial Information Centre (CNCIC),the most popular brands of skin care products are provided in Table 1. Notice that the skin careproducts designed specifically for Asian skin, such as Aupres by Shiseido are well received intheir market (c.f., Jones et al. 2005).

To our knowledge, there is no industry-wide segmentation for different brands of cosmeticproducts. However, we developed our segmentation based on the information gathered fromour personal interviews conducted at various multinational cosmetic firms. Essentially, mostcompanies use retail price as a way to classify their brands into three major categories: Premium,

Table 1. Market share of skin care products.

Brand Company 2004

Olay P&G (China) 32.5%Aupres Shiseido 14.1%L’Oréal Paris L’Oréal 7.5%Dabao Beijing Dabao 5.3%Longliqi Longliqi Group 3.8%Yue-Sai L’Oréal 2.8%Mininurse L’Oréal 2.4%Avon Avon (China) 0.9%Others 30.7%

206 T. Wu et al.

Table 2. Brand segmentation.

Brand classification Brand (Company)

Premium: retail price is above US$40 • Shiseido (Shiseido)• SK-II (P&G)• Crème De La Mer (Estée Lauder)

Mass-Premium: retail price is between US$20 and US$40 • MaxFactor (P&G)• Revlon (Revlon)• Aupres (Shiseido)

Mass: retail price is below US$20 • Olay (P&G)• Maybelline (L’Oréal)

Mass-premium, and Mass. Premium brands represent products that are sold at retail price aboveUS$40; Mass-premium brands correspond to products with retail price ranges from US$20 toUS$40; and Mass brands are referred to products with retail price below US$20. Examples ofthese three segments of brands are provided in Table 2.

Besides different retail prices, different classes of brands have different characteristics. Forexample, Premium brands are usually positioned as ‘symbolic’ products that provide a sense ofsocial status or ‘experiential’ products that provide sensory/cognitive stimulation, while Massbrands are usually considered as ‘functional’ products that provide some basic benefits to cus-tomers. To position a brand based on the symbolic and experiential concepts, it is critical for firmsto develop specific distribution channel strategies to enhance the brand’s image. For example,Chanel may locate a specialty store at an international 5-star hotel, such as St. Regis or RitzCarlton in Shanghai. Alternatively, a firm could sell their high-end products at some high-endSalon/Spa, so that the sales representatives can provide personalised counselling services aboutskin care or make-up to high-end customers in a more private environment. For instance, L’Oréaland Estée Lauder started their business ventures at various beauty salons in Paris and New YorkCity in the 1900s and 1930s, respectively (c.f., Jones et al. 2006 and Koehn 2002). Also, PaulMitchell (www.paulmitchell.com) began his US$750 hair-care business venture in the 1980s atthe beauty salons, which has grown into a US$700 million success story in 2004. Besides distri-bution channel strategies, Premium brands are usually promoted as fashionable items. As such,it is very difficult to obtain accurate demand forecast for the Premium brand products. Table 3highlights different characteristics of Premium and Mass brand cosmetic products.

Table 3. Characteristics of premium and mass brands.

Characteristics Premium Mass

Positioning Symbolic or Experiential FunctionalCompetitive Differentiation (High Perceived Cost Leadership (HighStrategy Image) Perceived Value)Selling Format Counselling (High Customer Self Selection (Low Customer

Contact) Contact)Customers Upper Income Consumers Less Affluent City Residents/

(concentrated in major cities such as Affluent Rural ResidentsBeijing and Shanghai) (scattered throughout China)

Profit Margin High LowDemand Low Volume/High Mix (High High Volume/Low Mix (Low

Demand Uncertainties) Demand Uncertainties)Product Development Cost High LowProduct/Process Technology Complex SimpleProduct Life Cycle Short (High Obsolescence) Long (Low Obsolescence)Inventory Cost High LowStock out Cost High Low


3. Supply chain configurations

Based on our data collection and personal interviews, it appears that there are three major supplychain configurations that a multinational company would adopt as a supply chain strategy fortheir cosmetic products. We also noticed that some companies would use a combination of theseconfigurations especially when they offer brands in multiple categories. The three major supplychain configurations are:

• Direct or Indirect Export of Finished Products. The firm produces the products in other regionssuch as Europe or NorthAmerica and exports the finished goods to China directly to the retailersor indirectly through an agent or a distributor with local operating knowledge.

• Outsourced Manufacturing. The actual manufacturing function is outsourced to their Chinesesuppliers under certain licensing or contractual agreements. However, the firm may exportsome or all of the raw materials to their Chinese suppliers including patented active ingredientssuch as Pitera. The basic raw materials such as Propylene glycol and Lanolin Alcohol in handmoisturisers, or packaging materials such as glass bottles and boxes are usually sourced withinChina.

• Offshore Manufacturing. This configuration is the same as outsourced manufacturing exceptthat the manufacturing function is performed within a factory that is either a joint venture witha Chinese partner or a wholly owned subsidiary of the firm. Besides serving the China market,the firm may ship the finished products to other Asian countries, such as Singapore, Malaysia,India, Japan, and beyond. For example, Shiseido manufactures its Aupres JS products for menin Beijing and ships this line of products from China to the US.

Different supply chain configurations have different implications. We shall highlight three majorimplications for illustrative purposes. First, exporting cosmetic products to China can be beneficial.This is because Chinese consumers perceive that the imported cosmetic products are better in termsof brand image and quality. As such, to enhance the brand image, many multinational firms, suchas Estée Lauder continue to export their cosmetic products to China.

Second, outsourced manufacturing of cosmetic products can be risky. Even though the reformof the IP protection law has made some good progress after China’s WTO entry in 2001(http://www.chinaiprlaw.com/english/news/news5.htm), some unfortunate incidents could stilloccur. For example, as reported by Jones et al. (2005), Shiseido products were often counterfeitedand the company is currently working with the local police in Beijing to combat this problem.Also, multinational firms are not necessarily protected legally when their Chinese suppliers startproducing unauthorised products using virtually identical design and materials. To elaborate,when the relationship between New Balance shoes and one of their Chinese suppliers went sour,the Chinese supplier started producing different types of shoes using a logo that resembles theNew Balance’s block ‘N’ saddle design. New Balance filed a lawsuit in China without successand the saga continues. The reader is referred to Chandler and Fung (2006) for more details. Assuch, it is still difficult to protect IP and to eliminate the risk of counterfeits when a multinationalfirm outsources its manufacturing operations to their Chinese suppliers under certain licensing orcontractual agreements.

Third, exporting cosmetics can have other hidden costs. In addition to higher manufacturingand transportation costs, there are other hidden costs associated with tariff and the time to marketas well. For instance, the import tariff for various cosmetic products varies from 10% to 15%in 2004, but the tariff is supposed to reduce to 6% by 2008 under the WTO agreement (seehttp://www.china.org.cn/english/government/51861.htm). Moreover, when exporting cosmeticproducts with certain claims of specific functions, such as SPF, hair growth, blemish removal,etc., it usually takes nine months to obtain a special license from the Ministry of Health. In some

208 T. Wu et al.

Table 4. Characteristics of different supply chain configurations.

Supply chain Direct/indirect Outsourced Offshoreconfiguration export manufacturing manufacturing

Perceived Brand Image High Low MediumQuality Control High Low MediumIntellectual Property Protection High Low MediumCounterfeit Risk Low High MediumLocal Market Information Access Low Medium HighTime to Market Long Short ShortSales Volume Potential13 Low High HighStartup Cost14 Low High HighManufacturing and Transportation Costs High Low MediumResponsiveness to Demand Change Slow Fast FastTariff15 High Low Low

cases, it would require inspection and quarantine, as imposed by the General Administration ofQuality Supervision as well (c.f., Fang et al. 2006). The process for getting proper license coulddelay the launch of certain specialty cosmetic products, which could affect the sales significantly.Table 4 provides a comparison among the three types of supply chain configurations.

By examining the characteristics of different brand categories in Table 3 and the characteristicsof different supply chain configurations in Table 4, we establish the following postulations, whichobserve the alignment between products and supply chain configurations:

• To maintain a higher perceived image, multinational firms should export their premium brands.While the time and cost associated with exporting could be higher, there are compensatingfactors including lower technology transfer risk, lower counterfeiting risk, economies of scalederived from producing the products at one location, better production capacity, and bettercontrol of quality and inventory.16

• To offer a higher perceived value, multinational firms should either outsource or establish off-shore operations for their mass brands. While the financial risk and operational risk associatedwith this strategy are higher, there are compensating factors including lower manufacturingand transportation costs, strong brand awareness due to physical presence, better access tolocal market information, easier product localisation to meet local consumer’s preference, etc.Ultimately, having a stronger physical presence would enable multinational cosmetics firms tocompete with domestic leaders, such as Dabao in Beijing and Jahwa in Shanghai.

To test our postulations, we observe the supply chain configurations of different brands that are soldby gathering some company information available in various research reports and by conductingcompany interviews. Our findings are summarised in Table 5.

Table 5. Supply chain configuration of different multinational brands.

Outsourced OffshoreBrand category Brand (Company) Export manufacturing manufacturing

Premium Lancôme (L’Oréal), Biotherm (L’Oréal),Estée Lauder (Estée Lauder), Clinique(Estée Lauder), Crème De Lar Mer (EstéeLauder), SK-II (P&G), Shiseido (Shiseido)

X

Mass-premium Revlon (Revlon), Aupres (Shiseido), L’OréalParis (L’Oréal)

X X

Mass Maybelline (L’Oréal), Olay (P&G), Dove(Unilever), Pond’s (Unilever), Avon17,Amway

X


Our postulations are supported by the results reported in Table 5, especially for the premiumand mass brands. First, to maintain a consistent global brand image focus, all Estée Lauder brandsare premium products exported directly from Europe. Second, as Unilever produces only massbrand products, they need to compete with domestic leaders, such as Dabao and Jahwa on costand value. To do so, Unilever established joint ventures in Shanghai and Anhui. Also, for theirmass brand products, P&G outsources over 90% of their raw materials for their manufacturingproduction. Third, L’Oréal, P&G, and Shiseido pursued a diversification strategy by offeringdifferent categories of brands. As shown in Table 5, the premium and mass brands adopted theexport model and the offshore manufacturing model, respectively, while the mass-premium brandsadopted a hybrid model that combined outsourced manufacturing and offshore manufacturing.Specifically, in the hybrid model, the production of certain products associated with a brand iscompletely outsourced, while other products are produced under a mixed configuration (i.e., amixture of offshore manufacturing and outsourced manufacturing). When a mixed configurationis adopted, the core operations that affect quality are usually performed at the offshore factories.These operations include the manufacturing of active ingredients, blending of different ingredients,and final assembly operations. Other non-core operations, such as the manufacturing of packagingmaterials and basic ingredients are performed at various outsourced manufacturing sites.

4. Distribution channel configurations

Based on our data collection and personal interviews, China’s retail sector has undergone tremen-dous changes recently. Specifically, most cosmetic products are sold through the following fivemajor distribution channels today:18

• Department Stores. Department stores can be divided into two major classes: high-end stores,such as Scitech in Beijing and low-end stores, such as Beijing Xidan Shopping Centre. Inmost cases, cosmetics establish their own sales counters at the department stores to provideprofessional advice to customers. Since high-end department stores charge their rent based ona percentage of sales revenue (from 20% to 30%, depending on the location and the reputationof the department store), each cosmetics counter must satisfy certain brand image and salesrecord requirements.19

• Hypermarkets/Supermarkets. Major hypermarkets or supermarkets include Wal-Mart andCarrefour. Similar to department stores, cosmetics companies are required to pay certain ‘slot-ting fees’, in order to sell their products at certain well-known hypermarkets or supermarkets.

• Specialty Stores/Professional Stores.20 Specialty stores tend to provide a full range of productsof a specific brand and professional services, such as skin test for skin care products or lightingsimulation for colour cosmetics. Well-known brands, such as Shiseido and Estée Lauder setup their standalone specialty stores. Professional stores, such as Sephora offer many premiumbrands since 2004.21

• Pharmacies and Personal Care Stores. Most pharmacies have pharmacists or medical doctorson site to provide professional advice to customers. These value added services tend to attractcustomers who are seeking cosmetic products that offer specific functions, such as wrinkle-free,whitening, and anti-acne, etc. For example, Vichy by L’Oréal was sold through pharmacies asa pharmacy brand (c.f., Fang et al. 2006). Personal care stores, such as Watson’s have becomeincreasingly popular for selling cosmetic products because of their credible and professionalimage.

• Direct Sales. Avon was the first cosmetic company introducing the direct sales method in1990. Due to the concerns over the ‘pyramid selling’ scheme, the Chinese government bannedthe direct sales method in 1998. The reader is referred to Godes (2004) for a detailed

210 T. Wu et al.

description of Avon’s sales strategy, and Coughlan (2004) for a detailed description of thepyramid selling scheme. To comply with the government regulation that each sales repre-sentative must be affiliated with a retail outlet, Avon had to set up their own standalonespecialty stores and sales counters at department stores and supermarkets to sell their prod-ucts. In April 2005, the Ministry of Commerce of China finally gave the approval to Avonto implement a pilot direct-selling programme in Beijing, Tianjin, and Guangdong. This pilotprogramme was intended to help the Chinese government to develop ways to regulate thedirect-sales channels properly. In 2006, Avon sold their products via standalone specialtystores, cosmetic counters, direct sales representatives, and online via www.263.com, whichcreated some channel conflict issues for Avon to handle.22 The reader is referred to Gaoet al. (2006) and http://english.people.com.cn/200504/11/eng20050411_180456.html formore details regarding the recent development of direct sales models.

Different distribution channels have different implications. First, as the beauty advisors at thedepartment stores or specialty stores have in-depth knowledge about different products of a specificbrand, these beauty advisors can provide professional advice that would enhance the perceivedbrand image as well as brand loyalty. In addition, they have specific customer knowledge, whichis valuable to the company for developing new products, promotion plans, pricing strategies,etc. Second, the direct sales method is quite economical, because the distribution cost is entirelyvariable. As such, it is easy for the company to expand without incurring upfront fixed cost,such as slotting fees. Moreover, the direct sales method is an economical distribution channel forselling products in regions experiencing strong economic growth. These regions include Zhejiang,Shandong, Hubei, Henan, Sichuan, etc. Table 6 compares the key differences among differentdistribution channels.

Notice from Table 6 that the relative market share of cosmetics sold at the department stores hasdeclined recently. For instance, in 1997, department stores accounted for 72% of all cosmeticssales; however, this figure has declined to 48% by 2004, which represents a decline of 33%.There are three major reasons for this trend. First, more channels especially hypermarkets andsupermarkets are opening up more outlets.As such, some of the sales have shifted from departmentstores to other channels. Second, as customers are more familiar with certain brands or products,they are more comfortable to purchase the products at other channels besides department stores.Third, as Chinese government lifted the ban on direct selling, more sales representatives are eagerto sell directly to the consumers. As more direct sales companies enter the China market, retainingexperienced sales representatives is currently a major challenge that Avon and Amway are facing.

Table 6. Characteristics of different distribution channels.

Specialty stores/ PharmaciesDistribution Department professional Hypermarkets/ and personalchannel stores stores supermarkets care stores Direct sales

Perceived brandimage

High High Medium/low Medium/low Medium/low

Sales volumepotential

Medium Medium High Medium High

Distribution cost High High Medium Medium LowProduct assortments Medium Large Medium Small LargeMutual learning High High Low Medium HighReach/convenience Medium Medium Low currently (due to

limited number ofoutlets)

Medium High

Relative change inmarket share23

−33% 600% +69% 100% 50%


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212 T. Wu et al.

By examining the characteristics of different brand categories in Table 3 and the characteristicsof different distribution channels in Table 6, we establish the following postulations that examinethe alignment between products and distribution channels:

• To maintain a higher perceived image, multinational firms should sell their premium brandsvia high-end department stores and specialty stores. While distribution cost associated withdepartment stores and specialty stores are higher, there are compensating factors including brandimage, customer intimacy, and consistent customer purchasing experience. These compensatingfactors could lead to customer loyalty.

• To offer a higher perceived value, multinational firms should sell their mass brands viahypermarkets/supermarkets and direct sales. While mass brands have lower profit margin,the direct sales and the supermarket channels would enable the firm to penetrate the consumermarket in second-tier regions, such as Zhejiang, Shandong, Hubei, Henan, Sichuan, etc. Theadditional sales generated from these second-tier regions could outweigh other negative factors.

To test our postulations, we examined the distribution channels of different brands that sold bygathering company information available in various research reports and by conducting companyinterviews. Our findings are summarised in Table 7.

Our postulations are generally supported by the results reported in Table 7, especially for thepremium and mass brands. For example, All Estée Lauder and L’Oréal’s premium brands aresold through high-end department stores and specialty stores only. However, L’Oréal and P&Gsell their individual mass brands Maybelline and Olay at various supermarkets, pharmacies, andpersonal care stores, respectively. As L’Oréal expands their presence in every brand category andin every distribution channel, it has the opportunity to learn more about the market conditionsfrom the sales of different brand categories in different distribution channels.

5. Aligning supply chains and distribution channels

Combining the information provided in Tables 5 and 7, one can conclude that the multinationalfirms do align their supply chains and distribution channels to a great extent. Figure 1 illustrates

ExportOutsourceOffshore

Department stores

Direct Sales

Pharmacies

Specialty Stores

Hypermarkets/ Supermarkets

Channel

SupplyChain

Premium

Mass-premium

Mass

Figure 1. Supply chain and distribution channel alignment for different brand categories.


how firms align their supply chains and distribution channels for different brand categories. Forinstance, most firms export their premium products to China and distribute them via high-enddepartment stores and specialty stores. In addition, most firms manufacture their mass products atvarious offshore factories and distribute them at supermarkets and pharmacies or through directsales representatives.

6. Future challenges

As the economic growth continues to be strong and as the Chinese consumers are becomingmore brand conscious, the cosmetics market has tremendous growth potential. Besides the supplychain configuration and distribution channel alignment, we would like to highlight some additionalchallenges and opportunities that multinational cosmetics firms would face in the near future:

• Domestic cosmetics companies strike back. As more multinational cosmetics firms introducemore products, major domestic cosmetics companies, such as Dabao and Shanghai Jahwa aredeveloping different strategies to compete. First, Dabao have launched more than 100 productsusing herbal essence, such as Ginseng Bath Lotion, Ginseng Shampoo and Conditioner in1996 and they are continuing to develop new biological active ingredients that are perceivedas natural, good quality, and fair price among the Chinese customers. In addition, Dabao areexpanding their global market by building a new factory in Bangladesh and exporting theirGinseng products that appeal to some European customers in countries such as Switzerlandand Sweden. Second, Shanghai Jahwa set up a joint venture with Sephora (France), whichis intended to open 100 professional cosmetics stores Sephora (China) by 2010. In this jointventure, Shanghai Jahwa held 19% stake in 2005 that can be increased to 49% by 2007.Shanghai Jahwa can exploit this new distribution channel in two major ways: launch privatelabel products at Sephora (China) that can be positioned as mass-premium or premium due tothe association with other brands sold in the Sephora (China) stores, and obtain informationabout market trend and consumer behaviour directly from Sephora (China) (c.f., Tao 2006).

• China’s WTO entry benefits domestic cosmetics companies as well. While it is true that themultinational cosmetics firms can enjoy a lower tariff when they export their premium brands toChina, the domestic companies pay a lower tariff for importing raw materials as well. Therefore,domestic cosmetics companies can lower production cost, which would enable them to maintaintheir cost leadership position.

• R&D Race. To learn more about customer’s preference, product customisation, product local-isation, and developing new herbal based active ingredients, cosmetic firms are opening R&Dcentres. For instance, P&G, Shiseido, and Dabao established their R&D centres in Beijingduring the 1990s, while Shanghai Jahwa, Unilever, L’Oréal, Estée Lauder opened their R&Dcentres in Shanghai over the past few years. As firms learn more about consumer preference,the race to develop new products for China market has just begun.

• Effective Advertising and Promotion may become less effective. Advertising can be an effectivetool to increase sales via brand awareness and association. For example, in order to gain marketshare, P&G increased its advertising and promotion budget by 160% for their Olay brand in2004. The 2004 campaign was based on four famous Chinese actresses endorsing Olay skin careproducts, onsite display at various hypermarkets and supermarkets, and onsite demonstrationshows. The 2004 campaign generated 94 additional 12% market share, and Olay became themost popular skin care product. While this campaign has been a great success, it may be difficultto obtain high return on investment for this kind of campaign in the future, especially whenmore cosmetics firms develop different blockbuster advertising and promotion campaigns tocompete for additional market shares.

214 T. Wu et al.

• The market for premium brands is still small. At this point, the market share of premium bandsis low for two major reasons. First, the market size for the premium brands is relatively smallat this point. Second, due to concern over counterfeits, most elite Chinese customers wouldprefer to purchase the premium brands during their overseas trips to ensure genuine products.For example, Shiseido has encountered situations in which various sales counters in departmentstores were selling counterfeited Shiseido products (c.f., Jones et al. 2005). Until the Chinesegovernment has better control of counterfeits, the market share of premium brands will continueto be small.

• Changing landscape. The political and the economical systems are evolving rapidly. Thereare many unsettling issues that the multinational cosmetics firms need to be aware of. First,the Chinese government in permitting Avon to run a pilot programme associated with thedirect sales method in 2005 in which the actual policies for governing direct sales mechanismsremain unclear. Second, the tariff and quota are subject to change, even though the import tarifffor cosmetic products is supposed to be reduced to 6% by 2008. Third, unless the Chinesegovernment can enforce certain laws against counterfeits and commercial frauds, Chinesecustomers are reluctant to purchase their products online.

7. Future opportunities

Despite various challenges, there are many great opportunities for multinational cosmetics firmsto gain a strong foothold in China. Some major opportunities are:

• Exploit low-cost manufacturing. By and large, the abundant supply of low cost labour enticesmany firms to outsource or offshore their manufacturing operations. Clearly, due to low profitmargin and high transportation cost, it makes perfect sense to manufacture the mass brands.However, while most premium brands are manufactured in Europe or North America and thenexported to China for China market, many premium brands are outsourcing their packagingoperations (gift packs for different sales events, holiday seasons, etc.) to China. Essentially,many premium brands are sold in bundle, say, body lotion with cologne, body lotion withperfume soap, or tie-in gift, say, a Christmas plush bear for purchasing a bottle of toilette.To produce gift bundles without hurting the profit margin, many firms export their premiumproducts to their Chinese suppliers, where they assemble the products with locally sourcedmaterials (holiday tie-in gifts and boxes) into gift packs. These finished gift packs are thenshipped to Europe and North America.

• Exploit local talents. As the education system continues to improve within China and as moreChinese are receiving education overseas, multinational cosmetics firms should exploit localtalents as a way to reduce cost, increase public acceptance of the brand, and ultimately, developproducts that appeal to Chinese customers. This strategy has proven to be effective in the auto-motive industry. For instance, many popular Japanese cars sold in the U.S., such as Acura’s TL,Toyota’s Camry, and Nissan’s Altima, are designed, manufactured, and marketed by Americansfor the American consumers (c.f.,. Sapsford and Shirouzu 2006).

• Export cosmetics products from China.As products designed and manufactured such as Lenovo(contract manufacturer for IBM notebook computers until recently) gained mass appeal, multi-national cosmetic firms can use their factories in China as their ‘lead factories’ whose productsare exported from China to other Asian countries and beyond. For example, L’Oréal exportstheir mass brand products from their factories to Japan, Korea, and other Southeast Asia coun-tries. The reader is referred to Ferdows (1997) for a detailed description of lead factories anda framework for exploiting the value of foreign factories.


• New Product Development. Besides developing new cosmetics products with strong appealto Chinese consumers by using the existing brand names, some companies have developednew products market under different brand names. For example, Shiseido created a new brandAupres in the late 1980s that is designed and manufactured by the Chinese for the Chinamarket.24 By 2004, Aupres had the third highest market share within the skin care category.This success story may motivate other cosmetics companies to develop more new products forthe China market in the near future.

• Brand Acquisitions. Developing new products specifically for a foreign market can be veryrisky in terms of cost and time. To reduce the potential financial risk and gain market sharequickly, many multinational firms have acquire domestic brands with proven brand image andsales record. As part of L’Oréal’s global expansion strategy and as a way to fill the missing gapof mass and mass-premium brands, it acquired two well-known domestic brands Mininurse andYue-Sai in 2003 and 2004, respectively.25 These two acquisitions enable L’Oréal to become thenumber 1 cosmetics company in China (in terms of total sales) and continue to be the largestcosmetics company in the world.

• Channel Expansion. Since the China market is geographically fragmented, it is challenging forcompanies to reach different market segments in different geographical regions. To gain marketshare, many multinational firms, such as Shiseido and Avon are expanding their distributionchannels by opening specialty stores in major cities. For example, Shanghai Jahwa is openingprofessional stores via a joint venture with Sephora.

• Exploit emerging supply chain capabilities. As the information technology becomes moremature, there is a great opportunity for firms to exploit the point of sales data to improve theirsupply chain visibility so as to improve the overall supply chain performance. For example,P&G is the first manufacturing enterprise to set up an efficient consumer response (ECR)system. This ECR system enabled P&G to manage their supply process for meeting customerdemand in a cost effective manner.

• Exploit integrated logistics capabilities. The logistics industry is fragmented due to regionallicense requirements in China. At this point, most supply chains are not integrated due to theneed to use different transportation companies in different regions of China and due to limitedIT capabilities to integrate information from different transportation companies. Currently, nosingle logistics provider commands more than 2% of the China market (c.f., Bolton and Wei2005). However, the logistics industry is growing by more than 50% annually since 2001 dueto China’s WTO entry, and it is changing rapidly due to recent mergers and acquisitions. Forexample, DHL (Germany) acquired Exel Logistics (England) in January 2006. As the logisticsservice operations become more sophisticated, many cosmetics firms can outsource their logis-tics operations to some major logistics providers so that they can focus on their core competence.More importantly, it would enable these companies to improve their supply chain operations, sothat they can offer more products to consumers without facing high operating cost, high inven-tory cost, or high obsolescence cost. Ultimately, it can enable these companies to competeon cost, product variety, and product availability (c.f., Billington et al. 1998, Fisher 1997 andLee 2004).

In summary, most multinational cosmetics firms align their supply chain configurations anddistribution channels to a great extent. However, firms with diversified portfolios in differ-ent brand categories tend to adopt multiple supply chain configurations and distributionschannels. This strategy is consistent with the multiple supply chain concept articulated byByrnes (2005). As the cosmetics market continues to grow, more challenges and opportuni-ties are present for firms to develop aligned strategies to sustain their growth in China andbeyond.

216 T. Wu et al.

Notes

1. NBS PRC reported that China’s GDP was growing at a rate of 9.5% in 2004 and the per capita annual disposableincome of urban households was US $1200 in 2004.

2. After Nike handled this crisis in the late 80s and weathered the storm about sweatshops and child labour issues, Nikehas implemented its supply chain strategy and its marketing strategy in China successfully, and it is now opening,on an average, 1.5 new specialty stores per day in China (c.f., Forney 2004).

3. The reader is referred to Huffman (2003) for an insightful discussion on how WalMart overcame the difficulties ofdistribution and supply chain management in China.

4. While Porter (1986) presented various generic international strategies for firms to compete globally, our paperfocuses on the issue of coordinating supply chain and marketing activities for a firm to succeed in a newmarket.

5. In 2004, Shiseido was pleasantly surprised with the sales of their most expensive skin cream Clé de Peau at US$500per bottle at four high-end department stores in China (c.f., Koehn 2005).

6. Other factors were packaging, advertising, buying convenience, others’ recommendations, etc.7. The reader is referred to Eisenhardt (1989) and the references therein for various justifications of case-study research

methods and Ellram (1996) for a good application of case-study method in logistics research.8. Unilever was unable to provide specific contacts for us to conduct our interviews, even though Unilever was included

in our original selection.9. Some may include bath and shower products, shampoo and conditioner products, deodorant products and oral

hygiene products as cosmetic products (c.f., Fang et al. 2006).10. Anti-wrinkle cream did not perform well due to the negative connotation, and hence, many brands are re-naming

this subcategory as anti-aging cream, currently.11. Among all make-up products, lipsticks are by far the most popular item among the Chinese consumers (c.f., Tao

2005). Chinese consumers are still not accustomed to strong fragrances and still prefer subtler scents based onnatural ingredients such as herbal essence or fruit extract. For more details about market share of each productcategory in different regions of China, the reader is referred to Fang et al. (2006) for details.

12. As of 2004, the consumption taxes associated with skin care and make-up products are 8% and 30%, respectively.13. The sales volume potential is even higher if one includes the potential of shipping the finished cosmetics products

from the Chinese factories to other countries throughout Asia and beyond.14. Start-up cost includes the cost of searching for a reliable contract manufacturer, which could be significant and

time consuming. This is exactly the core value provided by trading companies such as Li and Fung in Hong Kong.Specifically, the company, Li and Fung, provides a one-stop outsourcing solution to multinational firms such asGap and Warner Bros. for the production of garments and toys (c.f., Tang 2006).

15. Besides import tariff, the Chinese government imposes import quotas for certain countries exporting certain products.16. For instance, in early 1980s, due to the lack of sophisticated production technologies, Shiseido insisted that they

could only produce basic toiletries such as shampoo and conditioner. These toiletries were sold under the brandname HuaZi without any association with Shiseido’s name.

17. According to the 1998 regulation established by the Ministry of Commerce of PRC, products sold within Chinaunder the direct sales model must be manufactured within China. Both Avon and Amway offer a few productsin the Mass-premium category as well. To simplify our exposition, those mass-premium products are neglectedhere.

18. Online sales of cosmetic products are still weak for three major reasons. First, most premium products sold onlineare counterfeited, smuggled, or bootleg products. Second, consumers are not fully protected for online frauds, eventhough all online sales websites are subject to the government approval. Third, the logistics service industry isnot well developed to support the pick-up and delivery services for online customers. As such, few known brandsoffer online sales services directly to customers. However, customers can now purchase Avon products via Avon’sauthorized Chinese portal www.263.com; the products are shipped directly fromAvon’s regional distribution centresto the customers via third party logistics providers (c.f., Gao et al. 2006). Moreover, DHC of Japan has recentlyentered China market using their website as their main distribution channel (c.f., Li and Fung Research Report,2005).

19. This practice is common among high-end department stores worldwide. For instance, without a proven brand imageand sales record, Estée Lauder was unable to set up sales counters at Saks Fifth Avenue initially. However, EstéeLauder won Saks Fifth Avenue over, after she devised an innovative scheme in the late 1940s (c.f., Koehn 2005).

20. Although there are no official figures on the sales at the beauty salons and spas, we observe that many high-endbeauty salons and spas are located in virtually all international 5-star hotels such as St. Regis, Four Seasons, RitzCarlton, etc. These beauty salons and spas being a perfect location tend to attract high-end customers to test newproducts or to collect customer information in a more relaxed environment.

21. Sephora (China) is a joint venture between Sephora of France and Shanghai Jahwa. It focuses on premium brandswith Chinese characteristics. Sasa of Hong Kong also opened its first franchised cosmetic superstore in Shanghaiin 2005 with a plan to open 30 stores by the end of 2007.

22. As reported in New York Times on April 29, 2006, Avon’s first-quarter profit fell 67% due to the decline of directsales in America; however, Avon is relying on the China market to sustain growth.


23. Relative change in Market Share for Channel for Channel X = (Market share for Channel X in 2004 – Market Sharefor Channel X in 1997)/(Market Share for Channel X in 1997). See Fang et al. (2006) for more details.

24. Shiseido established a joint venture with Shanghai Zotos CITIC to launch a new mass brand FITIT without anyaffiliation to Shiseido’s name, in 2002. Toyota has adopted a similar concept in the US by developing a new brandScion targeting the young American market.

25. L’Oréal’s strategy focused on creating a strong presence in every brand category and in every distribution channel.This strategy has enable L’Oréal to achieve double digit growth in sales for the last 19 consecutive years (c.f., Joneset al. 2006).

References

Arnold, D., 2003. Strategies for entering and developing international markets. New Jersey: Prentice Hall.Austin, J. and Aguila, F., 1985. Nike in China, Harvard business school case No. 9-386-065.Bolton, J. and Wei, Y., 2005. Supply chain management in China: trends, risks and recommendation, San Francisco:

ASCET, Spring, 66–68.Billington, C., Lee, H. and Tang, C.S., 1998. Product rollover strategies: process, strategies and opportunities. Sloan

management review, 39 (3), 23–30.Byrnes, J., 2005. You only have one supply chain? Harvard business school working knowledge. Available from:

http://hbswk.hbs.edu/tools/ [Accessed 1 August 2005].Chandler, C. and Fung, A., 2006. Not exactly counterfeit. Fortune, 1 May, 108–116.Coughlan, A., 2004. Mary Kay Inc.: Direct selling and the challenge of online channels. Kellogg school of management

case No. KEL 034, Northwestern University.Eisenhardt, K.M., 1989. Building theories from case study research. Academy of management review, 14 (4),

532–550.Ellis, M., 2006. GM’s global vehicle sales rise 4.4%. Detroit Free Press, 20 April.Ellram, L.M., 1996. The use of the case study method in logistics research. Journal of business logistics, 17 (2),

93–138.Euromonitor International Database, 2005. Cosmetics and toiletries in China, September.Fang, C., Gao, X., Liu, C.C., Wang, W.W. and Wu, T., 2006. Analysis of demand, production, and distribution of cosmetics

in mainland China: today and tomorrow. Unpublished report, Los Angeles: UCLA Anderson School.Ferdows, K., 1997. Making the most of foreign factories. Harvard business review, March, 73–88.Forney, M., 2004. How Nike figured out China? Available from: www.time.com [Accessed 17 October 2004].Gao, X., Liu, C.C., Wang, W.W., Wu, T. and Xia, Y., 2006. Analysis of cosmetics direct sales outbound supply chain:

United States and China. Unpublished report, UCLA Anderson.Godes, D., 2004. Avon.com (A). Harvard business school case No. 9-503-016.Gronlein, L., 2005. Understanding the challenges of entering the Chinese market. Working paper, Department of Product

Design, Norwegian University of Science and Technology.Huffman, T., 2003. Wal-Mart in China: challenges facing a foreign retailer’s supply chain. The China business review,

September Issue. Available from: http://www.chinabusinessreview.com/public/0309/wal-mart.html [Accessed 1August 2005].

Jones, G., Kanno, A and Egawa, M., 2005. Making China beautiful: Shiseido and the China market. Harvard businessschool case No. 9-805-003.

Jones, G., Kiron, D., Dessain, V. and Sjoman, A., 2006. L’Oreal and the globalization of American beauty. Harvardbusiness school case No. 9-805-086.

Koehn, N., 2002. Estée Lauder and the market for prestige cosmetics. Harvard business school case No. 9-801-362.Lee, H., 2004. The triple-A supply chain. Harvard business review, 4–14, October.Li and Fung Research Report, 2005. The booming cosmetic market in China. Hong Kong: Li and Fung Group.Miller, P., 2004. IKEA with Chinese characteristics, The china business review, July Issue.Myers, S. andYuan, L., 2006. China’s mobile phone market: market barriers for Japanese vendors. THT Research Report.

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Pan,Y., 2005. Whirlpool’s roadmap in China: 2004, Asia case research center report No. HKU 414, Hong Kong University.Porter, M., 1986.Competition in global industries, Massachusetts: Harvard Business School Press.Sapsford, J. and Shirouzu, N., 2006. Inside Japan’s big car makers, US hires gain new influence. Wall street journal, 27

April.Tang, C.S., 2006. Robust strategies for mitigating supply chain disruptions. International journal of logistics, 9(1), 33–45,

March.Tao, Z., 2005. China cosmetics industry 2005. Asia case research center report No. HKU413, Hong Kong

University.

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Appendix 1: Background information about the selected companies

1. Avon (www.avon.com). Known as California Perfume Company until 1939, Avon is basedon a direct-sales method that depends on three million sales representatives to sell productsin 139 countries, making it one of the largest direct sales companies in the world. In 1990,Avon introduced the direct-selling method and employed local women as independent salesrepresentatives. After the ban of direct sales in 1998, Avon was the first direct sales companyto be re-licensed as a wholesale/retail business, and it quickly opened counters and standalonestores throughout China. In 2004, Avon was selling through its network of 6000 standalonestores and 1800 counters. In the process of lifting the ban on direct sales in 2005, Avonreceived approval to be the first to implement a direct-selling trial programme in selected areas.The company pilot programme will assist the government in developing rules to manage thedirect-sales channel.

2. Amway (www.amway.com). Amway is a privately owned company based in Michigan, andcurrently distributes products in 80 countries and territories, making it one of the world’s largestdirect sales companies. Amway offers more than 450 different products, ranging from cosmet-ics, personal care, nutrition and wellness, home care, home tech, and commercial products. In1992, Amway entered into China by investing US$ 29 million in a joint venture to build a plantin China. The company was impacted by the 1998 ban on direct selling practices. However,after adapting its operation to comply with the new government regulations, the company notonly survived enough to recover lost ground by the time the ban was lifted in 2005, it alsomade China one of its highest earning regions. Amway’s Artistry is the second largest skincarebrand now.

3. Estée Lauder (www.esteelauder.com). The company was founded in 1946 and has become aleading international player in the prestige skincare, colour cosmetics and fragrance products.Estée Lauder focuses exclusively on the prestige segment of the colour cosmetics and skincareand has not followed the trend of other companies in entering into the mass market. Estée Lauderhas achieved business expansion by growing organically in product lines of skincare, colourcosmetics, and fragrance. The company sells its products in over 100 countries worldwide andcontinues to manage each of its brands as a separate business unit. Estée Lauder entered intothe China market in 1993.

4. L’Oréal (www.loreal.com). The company was founded by Eugene Schueller, a twentieth-century French chemist who was famous for inventing the first synthetic hair colouring product.Hair care was the focus of the company until 1936 when L’Oréal began to focus on cosmeticswith a brand portfolio that ranges from colour cosmetics to hair care. The China subsidiary,L’Oréal China, opened its headquarter during 1997 and has rapidly grown to become the secondmost prominent cosmetics and toiletries industry player by the end of 2004. The company hasan extensive product portfolio and strengthened its local presence with the purchase of domesticbrands (Yue-Sai and Mininurse).

5. Proctor and Gamble (www.pg.com). P&G was established in 1837 as a partnership betweenWilliam Procter and James Gamble. The company’s products had expanded from candles andsoap into many other products, ranging from sanitary products, coffee, foods, pharmaceuticals,skincare products and other cosmetics and toiletries products. The company has also expandedits operations internationally and entered China in 1988. P&G established its first joint venturein Guangzhou and has become the company’s sixth largest territory. P&G has developed jointventures and wholly owned subsidiaries located throughout China, and has hired over 4000employees and invested over US$1 billion.

6. Revlon (www.revlon.com). Revlon was founded in 1932 by Charles and Joseph Revson inconjunction with a chemist Charles Lachman. The company began with selling only nail polish.


In only six years the company became a multimillion-dollar organisation, Revlon became oneof the most recognised cosmetics names in the world. Since the 30s, the company has becomea leading mass-market player in cosmetics. The company has rapidly expanded its franchiseto approximately 175 countries and territories. Revlon’s major brands include Revlon, Almay,Ultima II, and Charlie.

7. Shiseido (www.shiseido.com). The company was originally established as a pharmacy in Japanduring 1872. Since then, Shiseido has grown to become one of the world’s top multinationalcompanies in the cosmetics industry. The company has a strong product development strategyaround the Shiseido name, and uses it as the main brand in many of its products. Shiseido beganits operations in 1981. Later in December 1991, a joint venture Shiseido Liyuan CosmeticsCo Ltd was incorporated, focusing on manufacturing Aupres, a brand created specifically forChina market.

Appendix 2: A common set of questions (in Chinese) discussed during our interviews

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Appendix 3: A common set of questions (translated from Chinese) discussed during ourinterviews

Questionnaire for cosmetics company

The purpose of this questionnaire is to gather information about China cosmetics market (includ-ing skin care, colour cosmetic, fragrances). The questionnaire is divided into four sections,including Cosmetic Market, Business Environment, Distribution Channel and Supply ChainStructure.

Part I: Cosmetics market

Segmentation.

1. How does your company segment the cosmetics market in China by?(Circle all the responses that are applicable)a. Product line

i. If yes, by what product lines? (Skincare, Make-up, Fragrance etc.)b. Customer income level

ii. If yes, by what and how many income levels (high-income, low-income)b. Geographical regions

i. If yes, how did you decide on the regions (by purchase pattern, population, income)?c. Others (please specify)

2. Why did you select that method of segmentation?a. What were the driving factors?

i. Incomeii. Consumer buying behaviour

iii. Others (please specify)


b. Was it based on certain capability or strengths?i. If yes, was it geographic reach, product line, etc?

ii. If no, how was the decision made?c. Other reasons?

3. Is this method unique to China?a. If yes, why?b. If no, where is this method used internationally? (please specify)

4. Has your method of segmentation changed since you first entered the China Market?a. If yes, what was the initial method? Why the change?b. If no, go to next section (Targeting).c. If you do not know, do you know someone who would know?

Targeting.

1. What segment do you target now? With what Brands?2. What are the reasons for the target selection?

(Please circle all that applicable)a. Opportunity in the market

i. If yes, what kinds of opportunity?b. Higher profit

i. How does the target contribute to higher profit?c. Company Strength in targeting particular segment

i. What are the strengths?d. Others (please specify)

3. Is the positioning different from those in overseas markets?a. If yes, please specify

i. How it is different?ii. What are the reasons for such a different positioning?

4. How did you target those segments in the China market? Did you do it via any of the followingmethods: (circle all that applicable)a. Acquisition of local brands

i. If yes, what brands and why?b. Introducing own existing brands

i. If yes what kind if existing brand (high-end, low-end) and why?c. Developing localised brands

i. If yes, what kind of localised brands and how was the decision made?d. Others (please specify)

5. Has your target segment changed since your initial entry into China market?a. If yes, how has it changed and why?b. If no, do you see it changing in the future?

Market trend.

1. What do you see in the trends of China’s cosmetic market in 5 years in the following areas?(please check all that are applicable and specify detail)a. Sales growthb. Regional trendc. Product mix break-down changed. Consumer shopping behavior change

i. Need for more localised product

226 T. Wu et al.

ii. Shop at different distribution channelse. Other (please specify)

2. Will the forecasted trend impact your segmentation and targeting? How?

Part II: Business environment

1. Is there any favourable or unfavourable policy for foreign investment in this industry?a. Tax policy, WTO terms, etc (Any others)b. Is there any geographical difference on these policies?

2. What governmental regulations impact your strategy now?a. Is your company required to customise products, participate in joint ventures?

i. If yes, how does that impact your strategy?b. Is the procedure of getting approval from the ministry of health for a new product different

for localised and imported products?iii If yes, how does that impact your strategy?

c. Other (please specify)3. What changes in governmental regulations do you think will impact your future strategy?

(Circle all that applicable, and please specify how that change will impact your strategy)a. WTO: Lowing tariff/consumer tax of imported cosmetic productsb. Direct-sales: Permission for future direct salesc. Others (please specify)

4. Will the impact result in any of the change in Supply Chain Setup? (circle all that applicable,and please specify how your supply chain setup will change due to the impact)a. Entering new distribution channelb. Building of new plantsc. Increasing responsibility for China plants

i. Authority of procurement and production plansii. Product & procedure re-engineering

iii. Establish R&D Centres (where?)iv. Manufacturing more parts (what parts?)v. Product serves local and international markets (what markets?)

d. Others (please specify)5. Are there any other areas of your operations that you can think of that are particularly unique

in China?

Part III: Distribution channel(company level, brand level)

1. What is the geographical coverage of your Brands? And what is the distributor structure foreach Brand?

2. What distribution channels you used for the Brands?(Circle all that are applicable; for each channel, please specify the brands)a. Department store (high-end, low-end)b. Specialty Storec. Duty-free storesd. Direct salese. Supermarket/Hypermarketf. Pharmacy/Drugstoreg. Others (please specify)


3. Are the distribution channels you use in China different from those you use in your overseasmarkets?a. If yes, please specify the difference and the reason for such a strategyb. If no, go to question 4.

4. Why are the distribution channels set up in such ways?a. To project specific image?

i. If yes what kind of image?ii. If no, go to b.

b. Reach of channel to ensure volume?i. If yes, how does the channel ensure volume?

ii. If no, go to c.c. China specific challenges?

i. If yes, what kind of challenges?ii. If no, go to d

d. Others (please specify)5. Did distribution channels have an influence on how you set up logistics and operations? If so,

how?6. Are there unique methods of distribution for the different cosmetic segments? If so, why?

(open-ended)7. How did the geographical coverage and distributor structure change after the Brand’s entry to

China? Why?8. What do you see in the trend of cosmetic products distribution system as well as retail channel?9. What’s the impact you foresee of the entry of Sasa and other cosmetic chain stores (multi-brand)

to China mainland market?

Part IV: Supply Chain Structure

Product flow in the supply chain structure (brand level, product-line level).

1. What point of the Supply Chain flows into China?a. Manufacturing or Packaging (If yes, go to Question 2).b. Distribution (if yes, go to Question 4).a. Others (please specify)

2. What parts of the product are manufactured or assembled in China? Why?3. How is raw material procurement done?

a. Do the manufacturing plants choose the local suppliers?i. If yes, how are the remaining parts of the product imported into China?

ii. If no, go to bb. Others (please specify)

4. Where are the warehouses located?5. Do you outsource warehousing to third-party companies? (please specify reason for such a

setup)6. Logistics

a. How do you deal with the inbound transportation?b. How do you transport the products to distribution channels?c. Outsource distributors or logistic companies

i. Who are the distributors?ii. What are the their responsibilities (e.g. packaging, distribution)?

iii. Why such choices?7. Are those products manufactured/assembled in China for the international market as well?

228 T. Wu et al.

a. If yes how do you distribute the products from China to international market?b. If no, why keep it only in China?

Consolidation (company level). For different brands, if you use different supply-chain setup,please go to question 1; if no, go to question 2.

1. Does any part of the supply-chain setups for different Brands share a common setup at Companylevel?

(a) If yes, where is it the same?(Circle all that applicable; please specify reason for such a setup)

i. Raw material sourcingii. Manufacturing plants

iii. Transportationiv. Warehouses and distribution centresv. Others (please specify)

b. If no go to Question 4.2. What are the reasons for such setups?

Demand forecast (optional).

1. What data were used for demand forecasting?a. Based on historic trendb. Forecast retail out

2. Does the outcomes of the demand forecasting affect Supply Chain setup and manufacturingplan?

Appendix 4: The profile of interviewees

Company Executive Supply(China division)\ officers chain Marketing Public LegalFunction (rank in (CEO/ (Director/ (Director/ relations counselChina division) CFO) VP) VP) (Director/VP) (Director/VP)

Avon 1 1 1Amway 1 1P&G 1 1Estée Lauder 1 1L’Oréal 1 1 1Revlon 1 1 1 1Shiseido 1 1

How Do Foreign Cosmetics Companies Align Their Supply Chains and Distribution Channels in China

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