Wednesday, April 4, 2012

ZARA's Supply Chain Performance

Zara is a fashion forward company based off a business strategy that is very unique within the industry.  Fashion lines and trends are created similarly with other companies about six months away from being in store.  However, it’s the process and strategic plan that separates Zara from the rest.  The company’s innovative idea to keep up to 40% of manufacturing operations in-house allowed for in-season manufacturing, which creates a flexible inventory system.  For example, if an item is selling well executives make a decision to stop manufacturing the product to create an unsatisfied demand on purpose.  This creates a culture that the customer better get it today because they might not find it tomorrow.  The company’s ability to respond to in-season demand is what gives Zara a different fashion risk profile from other apparel retailers.  By having such a flexible inventory system and responsive manufacturing capability, Zara is able to operate with a very high close-to-sale-time manufacturing system.  This system creates short lead times that are incomparable when considering other apparel providers.  The innovative idea to create a product line based on its manufacturability has created the ability to provide the customers with trending items that are more in demand than any other product offered by competitors. 
The European textile industry is one of the first victims of globalization and discrimination based on price.  The most important textile markets are located in Europe, the United States, China and Japan.  In this extensively competitive environment, brands like Zara saw the need to undertake major changes in order to survive in this global competitive market. Fashion companies share some characteristics; however, Zara is unique because it distributes fashion and luxury products to a wide audience.
Companies in the textile industry, therefore evolve in a chaotic environment.  Fashion is, by nature, in constant motion: it embodies the tastes of the moment.  In addition to the uncertainty of time, there are many other variables to consider when Zara was developing its business strategy.  To attract a large number of customers in a very competitive industry Zara needed to be creative and unique in its business modeling, business management, design of collections, and marketing and communications strategies.  Zara chose a strategy that contrasts with that of its main competitors.  They chose the vertical integration to implement their different strategies.  The vertical strategy is achieved through a thorough organization and logistics.  It allows Zara to implement its management of scarcity as mentioned in the previous answer.
The vertical integration also allows Zara to cut cost and time by choosing not to outsource any of its channels.  The company is therefore faster in production, more effective and more efficient.  Vertical integration also prevents conflicts that can potentially arise from having different channels.  As mentioned, Zara manufactures and distributes its collections in small batches, which makes it more efficient to manage the design, logistics, and distribution of its products in house instead of outsourcing.  It gives Zara more flexibility in following the market trends and customers tastes and adjusting to them in a short period of time.  Zara’s vertical integration is one of the main sources of success and competitiveness in the market of textile and fashion because it allows the company to not only be efficient and cut cost and time, but to develop a competitive merchandising strategy, hence the establishment of the environment of scarcity, opportunity and fast-fashion model.
            Supply chain performance can be determined by many financial metrics such as Return on Asset (ROA), SG&A / Sales, Days of Total Inventory, Working Capital/Sales, and Days of Account Payable.  As in earlier discussion, inventory incurs total supply chain cost and also increase total asset in the company’s Balance Sheet.  Thus, top supply chain management (SCM) companies such as Zara, which better utilize their inventory to generate net income, will have the higher ROA than their competitors.  Second, Sales, General and Administration (SG&A) expense also incurs cost.  Top SCM companies with better integration with upstream and downstream partners will incur less of this transaction cost and result in lower expense than other companies providing the same level of sales.  Third, Days of Total Inventory fortop SCM companies is expected to be low.  Since companies may each have same level of sitting inventory, but if one can sell it all faster than the other, it will handle less demand uncertainty as well as face smaller loss of price marking down at the end of seasons.  Forth, working capital/ sales fortop SCM companies is expected to be low as well.  Since top SCM companies better manage their working capital, the companies will have the capability to use less working capital to provide the same level of sales as competitors or use the same level of working capital but provide more sales volume than their competitors.  Lastly, Days of Account Payable for top SCM companies is oftenlow.  Unlike traditional firms, purchasing managers in top SCM companies are making a trade-off by giving favorable payment terms to their suppliers in return for excellent performance and closer relationships.  Considering market capitalization, the research shows that top SCM companies higher attract investors since the companies provide both higher and less variable returns on share (ROS) by generating significantly higher average monthly stock returns when compared with rival options.
Given the expansion plans and the strategies pursue by Zara in its supply chain processes, several positive aspects can be marked as effective models for different firms in the operations level.  Zara choose markets that are not only can expand in it but also that are compatible with its strategic plans; for example Inditex excluded the United States markets despite the fact it is active market, which is achieve its plans by entering new markets even if it is limited but still give the minimum margins financially on one hand and a shape the structure of the production on the other hand.  In this context, Zara launches limited amount of products into the market to spread a unique culture among its customers to buy at the beginning of the seasons and to pursue a precautions policy to keep inventory relatively little to reduce the holding costs, however; there is a distinctive ability to meet the demands in a maximum period of a week.  Another method to reduce the holding costs is to move the items that have not been sold in certain store to other stores or locations to be sold and to avoid the markdown policy.  In this context, Zara uses a pricing strategy that is compatible with different target markets or countries Finally, the most prominent strategies in Zara is its ability to create a competitive advantage in the in house-production versus outsourcing whether for one stage or for the all stages in production besides shifting some of the productive sector to other countries in order to take advantage of skilled labor and low wages such as China and the Asian countries in general. 

Authors: Sara Amiri, Matthew Radke, Dalia Alsaleem, and NuntidaWatcharanurak

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