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Primark: Next stop USA

By James Davey and Sarah Morris

LONDON/MADRID (Reuters) - Discount fashion chain Primark has made its mark in Europe by offering fast-changing fashion at rock-bottom prices. The secret of its success: placing huge orders for top-selling items like socks, tops and jeans and passing on the savings to shoppers.

That is the formula it hopes will help it crack the $200 billion U.S. market next year. With an initial capital investment of under 200 million pounds ($340 million) Primark plans to open a store in downtown Boston toward the end of 2015, have 10 stores in the north east of the country by Easter 2016 and build out from there.

"We're a volume business. We sell 300 million pairs of socks a year. We sell 150 million T-shirts a year. We don't have major overheads. We have a very efficient supply chain," said Primark's business development director Breege O'Donoghue.

While there have been some successful European exports to the U.S., such as Philip Green's Topshop chain, Spain's Inditex and Sweden's Hennes & Mauritz, there are several costly failures including attempts by Marks & Spencer and most recently Tesco.

If Primark can overcome the challenges of entering the market in America, where it will compete against established discount rivals Target and Forever 21 as well as players like Gap, American Eagle and Aeropostale, it could be a game changer.

"It's a big if, and that's how investors have got to look at this," said John Bason, finance director of Primark's parent Associated British Foods, which is 55 percent owned by the Weston family.

"The bull case is it is absolutely a step change, suddenly the population opportunity for Primark has just doubled – if it works. If it doesn’t work then Primark is a western European brand."

O'Donoghue thinks the move to the United States will be helped by the fact the north east of the country has a similar climate and strong cultural links to Britain and Ireland, but said Primark was also keen to adapt to a new market.

"We are cautious. We take our time to learn. We want a U.S. business, not a Spanish business, not an Irish business," she said at a store opening in Madrid in May.

CHALLENGES

A push into the U.S. presents major challenges for Primark.

It will have to establish warehouses as the country is too far away for stores there to be serviced by its five European warehouses.

It will initially source clothes for the United States from its traditional supplier markets of China, India, Bangladesh, Cambodia, Vietnam and Turkey. But rather than crossing Europe, clothing from Asian markets will come across the Pacific, through the Panama Canal and up the east coast.

"They have to develop another supply chain. That’s going to be a challenge but not necessarily a killer,” said Maureen Hinton, global research director at Conlumino, a retail research agency.

Ultimately Primark believes it will make financial sense to establish suppliers from countries closer to the United States, such as Guatemala, Costa Rica and Mexico.

While many retailers suffered in the economic downturn Primark thrived. Its profit more than doubled from 233 million pounds in 2007-08 to 514 million pounds in 2012-13, driving a fivefold increase in the share price of its parent, which also has major sugar, agriculture, grocery and ingredients arms.

Founded by Arthur Ryan in Dublin in 1969, Primark now turns over more than 4.3 billion pounds a year from 275 stores in nine countries, contributing half the profit of its parent.

If current trends continue, Primark's customer base in the UK will be equal in size to that of Marks & Spencer, currently Britain's biggest clothing retailer, within two years, according to Kantar Worldpanel, the market researcher.

Reflecting optimism for Primark's future, AB Foods trades on 27.7 times forecast earnings, at a premium to that of the world's biggest fashion retailers, Inditex on 24.6 times and H&M on 22.0 times.

That rating was justified, said one institutional investor because of Primark's growth prospects and track record of delivery. “The evidence so far is Primark is proving year after year to be a phenomenal story," said the investor.

The business has taken elements from both Inditex and H&M, which have both been successful in the U.S.. H&M entered the country in 2000 and currently has 318 stores. Inditex entered in 1989 and now trades from 50 stores, 48 of which are Zara stores.

Like H&M, Primark keeps prices low by souring basic garments from Asia. Like Inditex's Zara, it keeps shoppers coming back for more by constantly adding new styles.

Laura Garcia, shopping at the new store in Madrid, is a typical customer: "I probably come to Primark every week on my afternoon off," the 34-year-old said.

Ann Marie Cregan, Primark's head of buying for womenswear, says about 10 percent of the lines in store are brand new each week, with stock turning over six times a season compared with an average of two times for most U.S. retailers.

SHORT LEAD TIMES

Basic garments are produced in Asia with a lead time of about 90 days, while "fast fashion" is manufactured in Turkey or eastern Europe with a lead time of eight weeks, allowing Primark to respond more quickly to demand for popular items.

"H&M forecasts two years in advance. We only do six months, based on fashion trends. Trading in season is where a lot of our upside comes from," Cregan said at a store opening in Berlin this month.

While Primark's target market is 18-35-year-olds, Cregan said the firm gets its biggest sales volumes from items which appeal to all ages, like white camisoles, jeans or flip flops.

"The efficiency of the company at all levels should mean we always have the best price in the market," said Iberia head Jose Luis Martinez de Larramendi, who will lead Primark's push into the United States.

Primark's low prices model came under scrutiny last year after over 1,100 people died in the collapse of the Rana Plaza factory in Bangladesh, where clothes were made for various international brands including Primark. However, Primark was quick to compensate the families of the victims and pledge safety improvements, and the tragedy has not dented sales.

Primark says some 98 percent of the clothing it buys comes from factories that also supply other major retailers. The big difference: Primark charges less for comparable quality.

To demonstrate this point, Bason holds up three similar T-shirts made in the same factory in Bangladesh, by the same workers, paid the same wage.

The one manufactured for Primark retailed for 6 pounds, he said, one made for a mid-market British retailer sold for 35 pounds and one made for a designer label sold for 60 pounds.

Bason said Primark has the same cost of goods as other major retailers but has a much smaller gross margin - the amount it earns from selling products before the deduction of any selling and administrative expenses.

He won't disclose what the gross margin figure is but says it shows through in a net margin, which on a lease adjusted basis (taking account of freehold stores) is a bit below 10 percent - about half the level of many of its competitors.

RECYCLING

Along with large volumes, Primark's success is driven by focusing on a target market of young people, selling a limited range of sizes and keeping all overhead costs down.

That extends to having few, if any, customer toilets in its stores, the recycling of the cardboard cartons used to ship clothing into Primark's trademark brown paper bags and the recycling of 23 million coat hangers a year.

Primark also keeps costs down by doing little advertising and marketing, relying instead on word of mouth and digital and social media.

The prohibitive cost of TV, radio and print advertising in the U.S. as well as the lack of a Kate Moss type figure that helped propel Topshop, means Primark has little choice but to retain this advertising strategy.

In this respect starting in Boston looks like a shrewd move, said Matthew Hook, managing director of Carat UK, part of media planning and buying specialists Dentsu Aegis Network, noting the city's huge community of tech-savvy students.

"To get a decent groundswell of word of mouth, you are talking hundreds of thousands of pounds rather than tens of millions," he said.

“Lots of parts of the U.S. will be disposed against brands and companies that are coming from outside the U.S. but Boston is one of the most cosmopolitan cities."

Bason is well prepared for a steep learning curve.

"There's no problem with that in Primark. There is the expectation that every season you get stuff wrong - just discount it and get it out."

(Additional reporting by Emma Thomasson in Berlin; editing by Anna Willard)

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