Christian Dior’s $57 Handbags Have a Hidden Cost: Reputational Risk

Christian Dior struck gold when it found a supplier willing to assemble a €2,600 handbag, equivalent to around $2,816, for just €53 a piece—or did it? Cleaning up the reputational damage may not come cheap.

A Milan court named LVMH -owned Dior and Giorgio Armani as two brands whose products were made in sweatshop-like conditions in Italy. Images of an unkempt facility where designer handbags were produced, which was raided as part of an investigation into Italy’s fashion supply chain, are worlds apart from those the luxury industry likes to show its customers.

To keep up with the strong demand for their goods, some high-end brands rely on independent workshops to supplement their in-house factories. Sales at LVMH’s leather goods division have almost doubled since 2019.

While more outsourced manufacturing is understandable in a boom, brands may also have taken cost-saving measures too far in a push to juice profits. Some of Dior’s production was contracted out directly to a Chinese-run factory in Italy, where workers assembled the bags in unsafe conditions, according to a translated court order. In other instances, Dior’s suppliers subcontracted work out to low-cost factories that also used irregular labour.

Nipping the problem in the bud would require hundreds of millions of dollars worth of investment in new facilities to bring more manufacturing in-house. The alternative is for Dior to pay its suppliers more and keep them on a tighter leash. Either way, the result seems likely to be lower profits than shareholders have grown accustomed to.

Top luxury brands such as Christian Dior can have very high margins because consumers are willing to pay steep prices for goods they see as status symbols. They also can spread high fixed costs, such as expensive advertising campaigns over a large volume of sales.

For the LVMH group overall, the cost of making the products it sells—everything from Champagne to watches to cosmetics—amounted to 31% of sales in 2023. But the margins on big-brand handbags are probably at the high end of the spectrum.

Bernstein analyst Luca Solca estimates that a €10 billion luxury fashion label, roughly Dior’s size, may spend just 23% of its sales on the raw materials and labour that go into its products. This implies a €2,600 Dior purse would cost €598 to make, equivalent to $US647 for a roughly $US2,800 product at current exchange rates.

In reality, the cost may be even lower, based on the results of the Italian investigation. The €53-a-piece assembly price it cited, equivalent to around $US57, didn’t include the cost of the leather and hardware, but that would add only another €150 or so, according to one Italian supplier.

Advertising fees are a further €156 per handbag, according to Bernstein’s analysis, and depreciation of the company’s assets is €156. Running the brand’s stores—including paying the rent on some of the most exclusive shopping streets in the world—and head-office costs come to an additional €390. This leaves €1,300 of pure operating profit for Dior, or a 50% margin.

“This is the reality of the business,” says Solca. “The retail price for the goods of major luxury brands is typically between eight and 12 times the cost of making the product.”

LVMH hasn’t commented on the investigation, which first made headlines nearly a month ago. Meanwhile, a public-relations storm is brewing. Luxury influencers on social media are asking what exactly people are paying for when they shell out for a fancy purse. Recent price increases also make the cheap manufacturing costs hard to stomach. A mini Lady Dior bag that cost $3,500 in 2019 will set shoppers back $5,500 today, a 57% increase.

A dozen other luxury labels that remain unnamed are under investigation for similar issues in their Italian supply chains, so this may be a much wider problem.

Profits will take a hit if the industry decides to clean up its act. But the cost of doing nothing might be higher. Luxury brands that charge customers thousands of dollars and rely on a reputation for quality can’t afford to be cheap.

Berkshire began liquidating its big stake in the banking company in mid-July—and has already unloaded about 15% of its interest. The selling has been fairly aggressive and has totaled about $6 billion. (Berkshire still holds 883 million shares, an 11.3% interest worth $35 billion based on its most recent filing on Aug. 30.)

The selling has prompted speculation about when CEO Warren Buffett, who oversees Berkshire’s $300 billion equity portfolio, will stop. The sales have depressed Bank of America stock, which has underperformed peers since Berkshire began its sell program. The stock closed down 0.9% Thursday at $40.14.

It’s possible that Berkshire will stop selling when the stake drops to 700 million shares. Taxes and history would be the reasons why.

Berkshire accumulated its Bank of America stake in two stages—and at vastly different prices. Berkshire’s initial stake came in 2017 , when it swapped $5 billion of Bank of America preferred stock for 700 million shares of common stock via warrants it received as part of the original preferred investment in 2011.

Berkshire got a sweet deal in that 2011 transaction. At the time, Bank of America was looking for a Buffett imprimatur—and the bank’s stock price was weak and under $10 a share.

Berkshire paid about $7 a share for that initial stake of 700 million common shares. The rest of the Berkshire stake, more than 300 million shares, was mostly purchased in 2018 at around $30 a share.

With Bank of America stock currently trading around $40, Berkshire faces a high tax burden from selling shares from the original stake of 700 million shares, given the low cost basis, and a much lighter tax hit from unloading the rest. Berkshire is subject to corporate taxes—an estimated 25% including local taxes—on gains on any sales of stock. The tax bite is stark.

Berkshire might own $2 to $3 a share in taxes on sales of high-cost stock and $8 a share on low-cost stock purchased for $7 a share.

New York tax expert Robert Willens says corporations, like individuals, can specify the particular lots when they sell stock with multiple cost levels.

“If stock is held in the custody of a broker, an adequate identification is made if the taxpayer specifies to the broker having custody of the stock the particular stock to be sold and, within a reasonable time thereafter, confirmation of such specification is set forth in a written document from the broker,” Willens told Barron’s in an email.

He assumes that Berkshire will identify the high-cost Bank of America stock for the recent sales to minimize its tax liability.

If sellers don’t specify, they generally are subject to “first in, first out,” or FIFO, accounting, meaning that the stock bought first would be subject to any tax on gains.

Buffett tends to be tax-averse—and that may prompt him to keep the original stake of 700 million shares. He could also mull any loyalty he may feel toward Bank of America CEO Brian Moynihan , whom Buffett has praised in the past.

Another reason for Berkshire to hold Bank of America is that it’s the company’s only big equity holding among traditional banks after selling shares of U.S. Bancorp , Bank of New York Mellon , JPMorgan Chase , and Wells Fargo in recent years.

Buffett, however, often eliminates stock holdings after he begins selling them down, as he did with the other bank stocks. Berkshire does retain a smaller stake of about $3 billion in Citigroup.

There could be a new filing on sales of Bank of America stock by Berkshire on Thursday evening. It has been three business days since the last one.

Berkshire must file within two business days of any sales of Bank of America stock since it owns more than 10%. The conglomerate will need to get its stake under about 777 million shares, about 100 million below the current level, before it can avoid the two-day filing rule.

It should be said that taxes haven’t deterred Buffett from selling over half of Berkshire’s stake in Apple this year—an estimated $85 billion or more of stock. Barron’s has estimated that Berkshire may owe $15 billion on the bulk of the sales that occurred in the second quarter.

Berkshire now holds 400 million shares of Apple and Barron’s has argued that Buffett may be finished reducing the Apple stake at that round number, which is the same number of shares that Berkshire has held in Coca-Cola for more than two decades.

Buffett may like round numbers—and 700 million could be just the right figure for Bank of America.

Christian Dior’s $57 Handbags Have a Hidden Cost: Reputational Risk

An Italian investigation is shining a harsh light on the supply chain of luxury brands

When will Berkshire Hathaway stop selling Bank of America stock?