Fluent Essays

read files 9 - 6 1 0 - 0 2 2 N O V E M B E R 5 , 2 0 0 9 ________________________________________________________________________________________________________________ Professors Gary Pisano (Harvard Business School) and Pamela Adams (Franklin College) prepared this case. HBS cases are developed solely as the basis for class discussion. Cases are not intended to serve as endorsements, sources of primary data, or illustrations of effective or ineffective management. Copyright © 2009 President and Fellows of Harvard College. To order copies or request permission to reproduce materials, call 1-800-545-7685, write Harvard Business School Publishing, Boston, MA 02163, or go to www.hbsp.harvard.edu/educators. This publication may not be digitized, photocopied, or otherwise reproduced, posted, or transmitted, without the permission of Harvard Business School. G A R Y P I S A N O P A M E L A A D A M S VF Brands: Global Supply Chain Strategy It was August 2009. Chris Fraser, President, Supply Chain International for VF Brands, was driving to his office just outside of Milan near Lake Como. On this sunny morning, the sparkling lake was a picture of tranquility, a striking contrast to the turbulence of the global apparel industry. In the shorter term, the economic crisis of 2008-09 was taking its toll on the entire business from the largest marketing companies to the smallest sub-contractors. But beyond the crisis, Fraser also foresaw long-term structural changes in the apparel business that could call for profound changes in the way VF, the world’s largest publicly owned apparel company, managed its supply chain. Fraser noted “For the past few decades, supply chain strategy in apparel was focused on chasing low cost labor from one country to the next. Today, apparel is produced just about everywhere on Earth, and we have basically run out of new “low cost” places to source production – until, of course, penguins learn to sew. We have to start finding cost saving by how we manage our supply chain.” For some time, Fraser had been advocating that VF shift its supply chain strategy. VF currently procured apparel both from its own plants and from a large network of suppliers. Like its competitors, VF’s outsourcing strategy emphasized flexibility. Most suppliers in the garment industry received short-term contracts (typically a few months) to produce a specific garment in specific volumes. This strategy allowed garment marketers like VF to shift production among suppliers in different locations in order to optimize costs and to respond to changes in exchange rates, tariffs, and other cost factors. Many believed that this approach also provided strong incentives for suppliers to reduce costs in order to compete for future contracts. Fraser admitted that while this approach had worked well for many years, it had its drawbacks. The lack of coordination and trust between suppliers and apparel companies led to higher inventory and long lead times. In addition, Fraser felt that a company like VF, with its strong internal manufacturing capabilities, had expertise that it could share with suppliers in order to improve processes and reduce costs. He noted, “For products coming from our own manufacturing plants, we can move things through the supply chain in days instead of weeks. That allows us to respond very quickly to the market. That’s the value of having our own plants. But from a capital point of view, it may not make sense for VF to continue to build its own plants. What I would like to see is that we create supplier relationships that work as closely with us as our internal plants do.” Fraser called this approach the “Third Way” sourcing strategy because it represented an alternative to both in-house manufacturing and traditional sourcing. Fraser had first pitched the “Third Way” strategy five years ago, but encountered skepticism from some groups within the 610-022 VF Brands: Global Supply Chain Strategy 2 organization. To date, VF had experimented with a limited number of “Third Way” supplier relationships. Fraser now felt VF had the data and the experience to reflect on this experiment and to decide, once and for all, whether the “Third Way” should be implemented more extensively. VF Brands and the Apparel Industry In 2008, VF Corporation had total revenues of just over $7.6 billion. The company’s roots could be traced back to 1899 as the Reading Glove and Mitten Company based in Pennsylvania. In 1914, the company expanded into lingerie and in 1917 changed its name to Vanity Fair. In 1969, Vanity Fair entered the jeans business through the acquisition of the Lee Company. By 1983, jeans accounted for 75\% of the company’s $1 billion in sales. In 1984, the company embarked on a series of acquisitions aimed at expanding the jeans product line and diversifying into new areas. It acquired Blue Bell (owner of the Wrangler, Rustler, and Girbaud jeans brands), Jantzen (sportswear and backpacks) and RedKap (occupational apparel and uniforms). Through much of its history, Vanity Fair pursued a vertically integrated manufacturing strategy in jeans, with many of its factories located in the United States. In 2004, the company made a significant shift in strategy. Its new “Growth Plan” called for the transformation of Vanity Fair (now VF) from a company focused on basic apparel (like jeans) into a global lifestyle apparel company with strong brands. Fraser noted, “We used to be a company that sold what we could manufacture. With the Growth Plan, we decided to focus on marketing, and source products from the outside.” While continuing to invest in growing “heritage brands” like Wrangler and Lee, the company acquired new brands with global appeal through a series of acquisitions. These included The North Face®, Vans®, Nautica®, Reef®, Kipling®, Eastpak®, Majestic®, Napapijri®, Eagle Creek®, John Varvatos®, 7 For All Mankind® and lucy®. In 2000, heritage brands accounted for 90\% of sales. By 2008, heritage brands represented only 56\% of sales revenue with lifestyle brands making up the remaining 44\%. The company’s goal was to have 40\% of sales from heritage brands and 60\% from lifestyle brands. There were two other critical elements of the company’s strategic growth plan. One was to expand sales outside the US, particularly in rapidly developing countries like Russian, India, and China. In 2001, international sales constituted only 19\% of revenues. By 2008, this figure had grown to 30\%. Further growth in international sales was targeted. The final element of the company’s strategic growth plan was to expand its direct to consumer business. VF, like other apparel companies, had historically sold its products through independent stores. However, following a recent trend in the apparel business, VF was creating its own, single brand stores as well as expanding its web-based retailing. By 2009, the company had over 700 single brand stores (mostly The North Face, Napapirji, Lucy, John Varvatos, and 7 For All Mankind). These stores acted as showcases for the brand, but also drove significant revenue growth. VF planned on opening 75 to 100 single brand stores annually, with a target of 1300 stores globally by 2012. In keeping with its international expansion strategy, the company was emphasizing the Asian markets for the location of new stores. The company’s distribution strategy balanced different types of channels: specialty stores (16\%), domestic and international retailers (16\%), department stores (2\%), chains (7\%), upscale department stores (3\%), mass retailers (15\%), royalty income (13\%), and international wholesale (28\%). VF organized its businesses into five major “coalitions.” Each coalition was responsible for the product lines, marketing, and sales of a set of related brands globally. Two of these coalitions were heritage businesses: jeanswear and imagewear. Jeanswear, consisting of the Lee, Wrangler, and Rustler brands, was the largest coalition with $2.8 billion in revenue (2008). On its own, the VF VF Brands: Global Supply Chain Strategy 610-022 3 Jeanswear coalition sold more pairs of jeans than any other company in the world. The Imagewear coalition provided uniforms for commercial or industrial use (e.g. Federal Express employee uniforms) as well as for sports franchises (the NBA, the NFL, and collegiate sports). The Imagewear coalition had sales of $1 billion. Three additional coalitions were associated with the lifestyle brands. The Outdoor and Action Sports coalition contained the Eastpak, Vans, Reef, The North Face, Napapirji, and Eagle Creek brands and had $2.8 billion in 2008 revenues. The Sportswear coalition housed the Nautica, Kipling, and John Varvatos brands, and had 2008 revenues of $625 million. Contemporary Brands, the newest coalition (established in 2007), included 7 For All Mankind and lucy and had 2008 sales of approximately $350 million. Exhibit 3 provides an overview of the financial performance of each coalition. VF took great pains to preserve the organizational cultures and unique brand identities of the companies it acquired. A critical part of this strategy was to allow acquired companies to keep their design groups intact and in their original locations. As a result, design at VF was highly decentralized. For instance, Vans’ (clothing and shoes for skating, surfing, and snowboarding) design was done at the organization’s southern California home. Napapirji design continued to be based near Milan. The North Face had design studios in the US (San Francisco Bay Area) and Italy (Treviso). Chris Fraser noted, “We try not to monkey around with brand heritage. We keep the design and culture the way it was.” The Apparel Industry The apparel industry encompassed the design, manufacture, and marketing of clothing, accessories, and personal luxury goods. Global sales in 2008 (at retail prices) of apparel were approximately $1.3 trillion.1 The sector included an extremely broad range of products and price points, from basic garments likes socks and underwear to casual clothing and sportswear to super- premium “haute couture” suits and dresses. Most garment companies were associated with a product segment that represented their traditional “base.” VF, for instance, was known for many years as a “jeans” company. Van Heusen was a “shirts” company. But over time, the larger companies (like VF, Liz Claiborne, Phillips-Van Heusen, and Sara Lee) had branched out into a growing number of product lines. In addition, companies which had traditionally competed in shoes and footwear, like Nike and Adidas, had entered the apparel business and had become major players in certain segments (such as sportswear). Similarly, many apparel companies (including VF) had acquired shoe lines. Given the sheer size and breadth of the industry, competition was highly fragmented and even the largest players typically had only single digit market shares. Even within specific segments of the market, rivalry was generally intense, with dozens of brands competing directly. Jeanswear was a good example. While VF was the largest seller of jeans globally, its $2.8 billion in annual jeans sales constituted only about 5\% of the total market (approximately $50 billion in sales). In such competitive environments, substantial and continuous investments in brand building were essential to maintaining margins. Most major apparel companies (VF, Christian Dior, Nike, Adidas, Ralph Lauren, Liz Claiborne) invested 7-12\% of their revenues in advertising. Another major trend in the apparel industry was the growing power of large mass retailing chains in the distribution of clothing. Walmart, for instance, had become the largest jeans retailer in the US. Volume gave merchants like Walmart significant bargaining leverage with respect to raw materials and logistics costs along with supplier contracts. In addition, large retailers were developing and marketing their own “private label” store brands. Walmart had introduced its own brand of jeans (Faded Glory) that it sold for $9/pair (compared to its $16 price for Wranglers). It had also recently 1 Datamonitor, Global Apparel and Textiles: Industry Profile, March 2009. 610-022 VF Brands: Global Supply Chain Strategy 4 launched a line of jeans made exclusively for them by Jones Apparel, called L.e.i., specifically targeted at teenage girls. Most apparel companies typically concentrated on design and marketing, and generally performed little or none of their own production, much of which had been transferred to low cost countries around the world. In fact, while 49\% of retail apparel sold in the United States was made domestically in 1992, by 1999 this figure had dropped to only 12\%. Extensive outsourcing had become the norm for a number of reasons. The production of garments was generally a labor intensive process offering few scale advantages. Barriers to entry into production were relatively low. As a result, there were hundreds of thousands of small contract garment manufacturers scattered around the globe. Moreover, the skills required to produce garments (cutting and stitching fabric) were relatively generic. This enabled garment companies to source production of their design on highly competitive terms. In addition, garment production was subject to complex and ever changing tariffs and quotas. Bilateral trade deals generally dictated from which countries garments were imported. Further complicating matters was the fact that there were separately negotiated duties and quotas for fabrics and textiles. These could dramatically change the economics of production in one country versus another. Historically, garment companies “chased quota”; that is, they sought out low-cost producers from countries that had not yet hit their quotas for importing into a certain country. While tariffs and quotas on textiles and garments were being reduced under the auspices of the 2005 World Trade Organization accord, it was still far from an open market. The largest apparel companies that sold products in all major global markets thus found it advantageous and less risky to have an extremely broad geographic base of suppliers so that they could shift production in response to changes in tariffs and quotas. Fraser noted that while tariffs and quotas had come down over the past two decades, those barriers had left the industry with a highly fragmented and often illogical supply chain. For instance, for a sweater sold in the US market, the raw wool might be sourced in Australia. That wool would then be sent to China for spinning into yarn. The yarn might then be sent back to Australia for dying and knitting into fabric panels. Those panels would then be sent to China again where the sweater would be assembled. From there, it would be shipped to the US. Fraser noted, “Ideally, we are trying to line up all the vertical steps in a region or a country. Thailand, for instance, is an ideal place to assemble backpacks. We can shorten lead times significantly if we can procure fabric, components, and other raw materials there as well. If we do a similar thing with other products in China where our stores are located, and we can move the goods right out of the packing area directly into the stores, all the better!” As supply chains globalized, the challenges of finding suppliers, managing sourcing relationships, and coordinating product flows had been steadily increasing. In the 1990s, many American and European based apparel companies found that they lacked both the skills and relationships for effective sourcing in Asia. To fill this need, some Asian manufacturers shifted their business models to provide fully-integrated supply chain services to apparel companies. Hong Kong based Li & Fung was a good example of this breed of supply chain service company. Founded in 1906 as a trading company, Li & Fung now managed the supply chains and sourcing for many of the world’s largest brands (in apparel, footwear, and other consumer products). In essence, Li & Fung acted as an intermediary between the brand companies and a network of sub-contractors scattered around the globe. In recent years, Li & Fung, like other supply chain intermediaries, had begun to integrate forward into their own brands and retail chains. Over the past ten years, the upstream segment of the supply chain--garment production--had been undergoing dramatic changes. Since 2001 (the first year garment quotas were eliminated), fabric producers in the CAFTA region (which included Central America, the US, and Dominican Republic) VF Brands: Global Supply Chain Strategy 610-022 5 had been steadily losing market share to imports from China (who had increased their share of the US market from 7\% in 2001 to 45\% in 2009). In the past decade alone, the US had lost 50\% of its fabric production capacity. Fraser reflected “It is getting harder to maintain apparel production in places where we cannot get cheap and speedy supply of fabric.” In 2008-09, the world economy was gripped with the worst recession since the Great Depression of the 1930s. Falling gross domestic products and plummeting consumer demand in the US, Europe, and many developing economies did not spare the global apparel industry. Total industry revenues fell by 10\%. VF was weathering the storm relatively well compared to its competitors. While it had seen sales decline by 9\% (and significantly less when exchange rates were taken into account) in the first half of 2009 (compared to first half of 2008) and earnings decline by 30\% over the same period, the company’s financial position was strong. It had a cash position, relatively low debt, an A- bond rating, and ample untapped lines of credit. The bigger concern among some senior managers was the long-term effect of the crisis on the supply base. Many garment contractors were small shops, operating on razor thin margins, and with virtually no financial cushion. As volumes fell, many were forced to shut down. In China alone, it was reported that over 60,000 small production shops had closed their doors in 2008-2009. Sudden closures of suppliers could be very disruptive. For instance, one of VF’s suppliers of jeans (supplying over 15 million pairs of jeans per year to VF) had given VF less than 3 months notice that it was closing down its plants in Nicaragua and moving production to Vietnam, a location much less favorable to VF due to quota, tariffs, and logistics. VF had to scramble to find an alternative supplier. VF Operations Strategy VF used a mixture of both internal manufacturing and outsourcing, a relatively unique operations strategy in the apparel industry. Beginning in the 1980s, many major apparel companies began to sell off their internal manufacturing operations and source their products from specialized suppliers. Many of VF’s major competitors, like Liz Claiborne, Ralph Lauren, Levi Strauss, and Sarah Lee, no longer had any internal manufacturing and relied completely on outsourcing. At the other extreme, companies like Benetton and Zara were completely vertically integrated from garment production through retail, and did limited outsourcing. As noted earlier, VF had historically been an apparel manufacturer. At one point, it owned approximately 100 factories. With the acquisition of The North Face, in the late 1990s, this began to change. The North Face, like many of the organizations VF would subsequently acquire, had no internal manufacturing. VF’s existing manufacturing infrastructure was not well suited to these lifestyle brands for two reasons. First, VF’s plants were largely focused on jeans and denim products, while many of the lifestyle brand products were not. Second, VF plants were located in Mexico and the Caribbean in order to optimize the logistic costs and tariffs to serve the US market, VF’s traditional focus. With the strategy of expanding into lifestyle brands and international markets, the company needed to expand its outsourcing in Asia. This was a significant shift in the company’s philosophy. A painful part of this new strategy included the closing of many of VF’s internal manufacturing plants. By 2009, VF produced about 30\% of its products in-house (in its 40 remaining plants), and sourced the rest from independent suppliers. Of course, there was significant variance across product lines in sourcing. For instance, VF produced about 60\% of its jeans in-house. Imagewear, which was largely targeted at the US market, and which required very quick response times, also sourced the vast majority of its products internally. On the other hand, VF used outsourcing for 100\% of its lifestyle apparel, footwear, and backpacks. 610-022 VF Brands: Global Supply Chain Strategy 6 Still, VF was proud of the internal manufacturing capabilities the company had accumulated over 125 years, and believed those capabilities provided it a significant competitive advantage. A recent benchmarking study by a consulting firm indicated that VF’s internal manufacturing plants were among the very best in the world in terms of quality, efficiency, and reliability. The time needed to produce a garment in VF-owned factories was much shorter than the industry average. VF’s factories also had defect rates well below industry averages. On production lead times, VF-owned factories required 10 days from “cut to ship” compared to 30 to 50 days for external suppliers. VF also believed it had built up technical and engineering capabilities for apparel manufacturing that few companies could match. For instance, its Mexican and Nicaraguan plants employed about fifty engineers focused on improving processes. The company had developed novel techniques and even proprietary equipment for manufacturing jeans. Mike Green, Managing Director of VF Asia, a member of Fraser’s international sourcing team, had spent 26 years at VF in engineering, plant management, and sourcing roles. He commented “There is no doubt that VF plants set the standard in the industry.” On the sourcing side, building up a reliable and high-quality supplier network required an enormous investment in time. Prospective suppliers needed to be visited and their manufacturing capabilities carefully assessed. In addition, VF had a strict policy of only doing business with suppliers who followed internationally established standards for worker safety and protection. It also took time to establish good working relationships with suppliers, and only experience could really tell which ones were reliable. By 2009, VF had relationships with more than 1600 contractors and 30 distribution centers around the world. The top 20 suppliers accounted for about 45\% of the outsourced volume procured by VF on an annual basis. To manage this, the company hired Chris Fraser in 2000. He came from another sourcing position in a large apparel company located in Asia. When he arrived, sourcing represented only a small portion of total sales. Between 2000 and 2009, with the acquisition of many new lifestyle brands, the company’s sourcing volume in Asia alone increased 15 fold to reach a total value of $1.8 billion. As VF gained experience with sourcing, the management team also began to understand that its supply chain network provided a significant platform for growth. Chris Fraser provided an example: “When we acquired Napapirji, they had a very strong brand, but they would have had to invest years and millions of dollars to grow to $300 million in sales. By being part of VF, they now had access to our supply chain network. We could just plug them in to our system.” One of biggest challenges of running such a large apparel supply chain was the sheer complexity of the product line. VF, for instance, currently had over 600,000 SKUs, where an SKU was defined by only style and color (and not article size). Jeanswear alone had approximately 100,000 SKUs. Moreover, while some “classic” product lines change little from year to year, the lifestyle brand product typically had very short product life cycles, and required nearly constant replenishment of new designs. On average, about half of VF’s SKUs were essentially new product designs every year. A second complexity was the widely differing needs and priorities of the brand coalitions. For instance, in more fashion oriented products where VF competed with companies like Liz Claiborne and Tommy Hilfiger, product design was considered “king.” Product designers in those lines focused almost solely on creating an exciting menu of products that would hit the fashion “sweet spot” in the coming season. In these product lines, cost was not such a critical issue. Products sold in VF’s brands stores typically fit into this category. In other products lines, the name of the game was low cost and rapid replenishment. For instance, large retailers in the US demanded that VF be able to replenish store inventories within 8 days in order to minimize inventory costs. For product lines competing with Zara, a chain well known for being able replenish inventories continuously throughout a season, the supply chain had to be extremely responsive. There were also significant differences in product requirements across regions, even for seemingly very similar products. VF Brands: Global Supply Chain Strategy 610-022 7 Consider jeans. In the American market, jeans were by and large a non-fashion clothing item (Fraser, an American, pointed out, “Americans wear jeans as an ‘anti-fashion’ statement”). A good quality pair of Wranglers could be bought for $16-$30 depending on the retailer. But in Europe, jeans were worn as a fashion item. They had different cuts, design, and fit, and were often made of different denim than jeans sold in the US market. They also sold at smaller retailers and at much higher prices than in the US (e.g. a pair of Wranglers could sell for $60-$80/pair). Floyd Perkins, a 26 year VF veteran, was Corporate Vice President for Supply Chain which included all aspects of procurement, manufacturing, sourcing, and distribution. Procurement, manufacturing, and distribution were managed from the US, while international sourcing was based in Europe and Asia (Hong Kong), with local offices in China, Pakistan, India, and Bangladesh. Perkins’ organization supported all of the coalitions. While the coalitions were responsible for the designs, volume decisions, pricing, and margin goals for their product lines, the supply chain organization planned capacity (internally or externally), managed inventory, and coordinated all the processes required to go from fabric to a finished product on the store shelf. The Apparel Supply Chain: From Design to Store Shelf It is August 2009 and the The North Face store on Newbury Street in Boston is bustling. The summer heat grips Boston, but the shoppers are browsing the Autumn collection, contemplating the cool days ahead. Few are aware that the fleece vests, rain jackets, t-shirts, pants, shirts, and backpacks they see on the store shelves are the culmination of a process that began a slightly more than a year ago. It all began in June 2008 when VF designers began to sketch their preliminary ideas for the Fall 2009 collection, and made commitments to broad design themes and colors. Over the next few months, designers would create literally hundreds of preliminary designs encompassing the entire product line. It was a highly iterative process. Design concepts were dropped and others were added, hues and shades were tweaked, new patterns created (and discarded), pockets moved a centimeter higher (or lower), and trims adjusted. Ultimately, the design and marketing teams would have to make judgments about what would appeal to customers more than a year hence. At some point, even the most detailed drawing was not enough to judge a design, and physical prototypes had to be sewn. These would be used internally by management to evaluate the design as well as to show to prospective customers (e.g. large retailers). For the sake of speed and secrecy, VF made prototypes in their own or partnered development centers. This process typically took 4 weeks. More iterations might follow, and in some cases, additional prototypes might be fabricated. While the designs were taking shape, the marketing groups were forecasting prices, volumes, and margins for each item. These forecasts would have a critical impact on the supply chain strategy. By September of 2008, the design and marketing management would have to make a final decision on the entire 2009 Autumn collection. Design decisions were reviewed at both the brand and coalition levels. Once design commitments had been made and volume orders placed, Floyd Perkins’ operations … Case questions How important is sourcing to VF? Is this a strategic issue or a tactical decision? Which criteria would you use to evaluate the sourcing strategy? Compare the various sourcing strategies utilized by VF. What are the advantages and disadvantages of each? Is it obvious that one of these dominates the others? If not, what factors would you use to choose the appropriate sourcing strategy? Use the framework of product type and supply chain type to analyze the supply chain opportunities facing VF. Build on this to answer the key question in the case. Should VF increase its existing manufacturing capacity, emphasize traditional sourcing, or expand its use of the “Third Way”? You can also make additional or alternative suggestions. The intent here is to use the framework of functional and innovative products to examine the alternatives faced by the company. Formatting: Font: Times New York, font size 12, Length: 1.5-line space, 3-4 pages, excluding the cover page and exhibits