Hybrid strategy
Companies operating in the fashion industry with mixed portfolio of products and markets must be aware of the fact that there always will be some products where demand is stable and predictable and some where it is exactly the opposite. H&M for example is using a lean strategy to with a high volume turnover and compare to it, with a low variety of products in a predictable environment using forecasting. Instead, Zara is using a combination of lean and agile for its supply chain – a so called hybrid strategy. Nearly 40% of standard garments with the broadest fashion taste are imported as finished goods from low-cost manufacturing centers in the east. The rest is produced by quick-response in highly automated factories in Spain. Fabric is also held “grey” and unprinted, so local based manufacturers can quickly response to a particular garment demanded. The system is so flexible that it can deal with any changes in demand because the production capacities are always kept below the expected sales what keeps the stock always on the move. Zara decided to be always undersupplied with the intention that it is less non-profitable than holding the stock. Using this hybrid strategy has led Zara to one of the most effective quick-response fashion company in its industry.
- Quick response and IT
The most valuable key competence in the high-fashion apparel business is time to market. Zara is attaching huge importance in IT and is working horizontally with an open communication environment, with a special designed communication system, guarantees the company a constant and quick information flow. Internal communication is working very fast by placing designers, pattern makers and merchandiser on the same floor. Moreover, ZARA´s employees are working in teams in the areas where the certain chain is based, speeding up the whole process of decision making through decentralization. All that support ZARA’s unique quick response system and enables the company to react to the demand better than the competition. The company focuses on the end consumer and uses backward vertical integration (a pull system) to be a quick fashion retailer rather than to gain manufacturing efficiencies.
- Strategic drawbacks (Weakness)
Need to expand
Zara is facing several issues resulting from the need to expand for securing major market shares. With the European markets becoming saturated, Zara has to further its global expansion to staying up the big competition. Although the company has a successful business model there are also disadvantages that can affect its sustainable growth. Vertical integration and centralized distribution system gave Zara more flexibility than its rivals to respond to fashion trends but especially these strengths may become a disadvantage and hinder its expansion.
Limitations of Vertical Integration
ZARA´s vertical integration helped the company to successfully develop a strong merchandising strategy according to a fast-fashion system and the creation of a climate of scarcity. However, Zara´s strategy includes some weaknesses, too. Vertical integration leads sometimes to an inability to win economies of scale. That means Zara cannot take advantage of procuring large quantities of goods for a discounted rate and this leads to higher costs. Furthermore, manufacturing in Europe is lack of flexibility in shifting plant location. Almost 80% of Zara’s merchandise is produced in Europe, with 60% made in Zara controlled facilities in Spain closely based to its headquarters. In comparison, Zara’s main competitors have are outsourcing 100% to lower cost countries in Asian.
Limitations of Centralization
Zara has been successful at improving its distribution system but with the continued growth undertakings especially concerning the international expansion, there are some issues relating ZARA´s centralized logistic system. The company is concerned with diseconomies of scale as it grows because ZARA has not yet invested in distribution facilities to support their global expansion. As a result, they may not be able to supply all of their retail shops even because of their centralized logistic model based in Europe. It might work well at the moment because the major of their shops are located in Europe. However, as ZARA is planning to spread out into other countries, they will not be benefiting from short lead times and low operational costs with only two distributions centres, both so closely located to each other in Spain.
1.3 Possibilities for failure (Threats)
European production facilities
Like Zara´s direct competition, the company has some threats for failures what can stop its future growth. If the European common currency becomes stronger concerning the US dollar, the production costs will increase generally for European manufacturers and thus Zara´s production costs. The increased costs will and must be covered by the customers what may decrease Zara´s sales because the new prices will be too high for a typical Zara´s customer.
Another fact threatens Zara´s success is the quota elimination under the World Trade Organization agreement in 2005 on textiles and clothing expiring. Retailers using the outsource strategy will benefit from greater access to cheaper production opportunities. Zara will have its difficulties to counter a high euro impact and its competition lower prices for merchandise.
Direct competition
Zara’s largest threat is of course its direct competition, especially when entering new global markets. Due to Zara´s broad field of merchandise offering almost every retailer can be a threat especially when offering only one certain category of products. Very quick and effective due to international expansion, allowing the company to gain successfully sales outside Sweden is Zara´s most threatening competitor H&M. They are also entering new markets more accurately and only one country at a time compare to Zara´s global multitasking actions. H&M tends to build up distribution centres in the entered regions in order to cut down lead times and logistical costs.
Another H&M´s competitive advantage is that the company offers clothes based on the design of an average taste of global apparel fashion and cheaper than Zara does. H&M is also investing more in advertising making the competitor entering new markets more successful because the locals are already aware of the trade H&M and its offer.
Cannibalization
One of Zara´s already present threats is the issue of cannibalization. Zara is putting multiple stores carrying the same merchandise within the same location. This location strategy supposes to cover up all the city´s residents with the same products. For example, there are more than 200 Zara stores in Spain which can cannibalize sales from each other especially if multiple stores are within the same location area as for example in Madrid (see figure XX.). There are also more than 550 Inditex stores in Spain cannibalizing Zara´s revenues since the majority of the Inditex group pointing the same target market as Zara does.
Zara´s marketing strategy to be available everywhere is fundamental for them and carries of course many opportunities since there are many markets unexplored. Exploring new opportunities with such a fast expansion might be a problem in the future especially in bigger cities with a very high risk by stealing revenues from each other.
- Recommendations (Opportunities)
Generally it will be difficult for Zara entering markets far away from its base in Europe since it would cause increased lead times and affect its strong quick response philosophy. Zara has to replicate its business model into the new markets unless the company does not want to experience diseconomies of scale. However, replication the European business model into other locations might be a difficult undertaking due to language, culture and infrastructure differences. To find a premium location with competitive advantages is getting harder. For this it is necessary to analyse Zara´s advantages and disadvantages due to geographical expansion alternatives.
1.3.1 Analysis geographical expansion alternatives
Expansion in Europe
Expansion in Middle East
Expansion in Asia
Expansion in North America
1.3.2 Market Entry Strategies
Other reasons to fail entering new markets is the challenge in how to get adequate staff, undercutting of the price by low cost suppliers, not upgraded technologies, and less fashion savvy customers in certain countries. Zara has to be aware of the risks and opportunities regarding the markets the company wants to enter and has to choose the right market entry strategy for the certain region. Therefore, Zara used to utilize the following three entry modes to enter new markets:
Subsidiary
This strategy is very expensive but also useful in markets with high growth potential and a minimum of business risks and used to be practised in Europe.
Joint venture
By not having any experiences or knowledge about a market, Zara tends to use Joint ventures with a local company and benefits from the synergy effect. In the year 1999 Zara formed a Joint venture with the German mail order company “Otto” and benefited from the world´s biggest commercial company and its experience in the distribution sector in the largest markets in Europe.
Franchising
This strategy is used for countries with a higher risk factor whit cultural difference, smaller markets and limited forecast like Arabic States or Malaysia. Franchisees always follow Zara´s model regarding the product, interior design, logistic, human resources, etc. If the market does well Zara tends to buy the stores back from its contractor.
1.3.2 General Recommendations
Cost growth should never exceed sales growth
Generally, Zara should slow down its growth and concentrate its strength on fewer markets until the company has built up additional facilities to satisfy any customer demand and consolidate its strength into the certain regions the company wants expand into. It is a serious issue to spread the own strength and thus to risk weakness in the supply chain.
Concentration in existing markets
There should be more penetration and establishment when entering in existing markets before moving to new markets. If a brand is successful in a certain market it does not mean it will be successful in another one. Zara should either put all its effort to establish its own brand in the existing market or undertake a kind of a “pilot project”, with a few stores to analyse the customer´s resonance for its brand.
Continue to focus on value-added labor
Zara has its own certain customer segment which pays more for better quality and fashion. Trying to lower costs by lowing quality is not equal to best value. To keep its reputation as good quality fashion retailer, Zara should continue to focus on value-added labour and thus on higher price customer segment.
Hedge against the Euro
If the euro becomes stronger relative to the dollar, costs will increase. Sales may also decrease if prices increase. Zara has to invest more into outstanding suppliers and manufacturers based in not European region.
Consider strategic partnerships
By entering new and unknown markets Zara should first consider to franchise or joint-venture in region where there are barriers to direct entry, too much competition, product piracy, financial or other risks.
Consider combine one or more chains
For an international expansion Zara should combine several chains. For example, business processes as purchasing and designing can be still executed centralized in Spain. Other procedures as manufacturing and distribution can be run in the certain region of sales. All this combined with a good working IT system would keep the transportation costs low while ensuring to provide possible customers all over the world.
1.4.3 Recommendations and implementation due to expansion plans
Zara should expand further into the European market using its already strong presence in many European countries. Therefore, there should be no difficulties to continue its success history. They have already good working distribution network located in Europe and implementing new stores into its system will not pose the company into troubles.
The global expansion should be concentrated on one country at the same time. During the whole international expansion process it is very important that Zara maintains its business strategy due to short lead time, quick inventory turnover but should consider attaching more importance in advertising.
Zara faces plenty of possibilities on how continue its suitable growing. By analyzing the possibilities there are some key recommendations the company should take into account.
Further expanding Europe and Middle East
Further aggressive expand in the European and Middle East markets, with its traditional “oil stain” approach, is the curse Zara should continue. There are significant untapped markets to exploit such as Germany, Greece, Italy, Israel, Turkey, Kuwait etc. by using special entry strategies for each market. Especially Sweden is very interesting as a counter attack to H&M to defend the company´s position in Spain. Due to Zara’s centralized distribution system located in Spain, it will be very easy for the company to support its existing system and new proximities or stores in regions with closely based to its main centres. Zara has already entered the Italian market through joint ventures and opened successfully the largest Zara store in Milan without any advertisement. So the company should continue to own flagship and critical stores while franchising or joint-venturing other where there are barriers to direct entry or financial risks.
Expanding into Asian market
Another very important strategic recommendation refers to the Asian market. Although, the Asian market has a big scope it has been also proven as a market of intense competition. Zara should be carefully with this expansion route. It needs a good worked out strategy if they want to achieve success because of the big competition that can squeeze the margins enormously. If Zara keeps on putting a huge effort on an aggressive expansion in Europe, it will barely provide the resources and the important focus to achieve great success in such a competitive market as Asia. For an entry into the Asian market Zara has to duplicate its business model and it into the Asian market, which means a huge investment as well as higher risks. Especially the human resources are playing a big role in Zara´s success. A lack of trained personal could be one of the biggest threats in Asian market. It is for sure that there is a huge competition in the Asian clothing market, but established brands as Zara can still claim a price for its clothes higher than the competition. An increased presence in the Europe market will strength the company´s cache and make it less difficult for the Zara to compete in the future in the Asian region.
Expansion in North America
To build up new facilities and networks is very expensive and takes a lot of time so it may not be very difficult to realize new manufacturing plants or distribution centres in America in the short term. So Zara should stay away from the US market unless the company can develop a better understanding of the market and have built up a strong supply chain strategy like they have in Europe. Zara will need to continue to ship product from its European distribution centre and concentrate on few stores in major fashion cities such as New York. Furthermore, Zara should keep analyzing the POS date coming from existing stores and use this insight to decide on the most appropriate business model due to the needs for distribution centres, transportation and production requirements for North America. Moreover, Zara should add an e-commerce feature to its website. So the company can reach consumers faster and easier also measure the consumer´s preferences and give further strategic criteria for any expansion intensions.
Regarding the long term expansion Zara should definitely enter the US market. The company has already its fundamental strength in designing, manufacturing and distributing that guarantees quick response to customer demand based in Europe. If Zara wants to continue operating successfully on the global market and maintain short production and lead times, it has to duplicate and implement its business system within the American region to by re-configuring its system to a less centralized approach. Some aspects of its business model (e.g. designing and purchasing) should be kept centralized but the company should consider placing manufacturing and distribution in areas based closely or in the US region.
Placing a main distribution centre in the US will facilitate the company to decrease logistic and time costs while helping to maintain its system of fast fashion and the economies of scale. A strategically located distribution centre in Texas, next to countries where manufacturing can be done con a low cost basis and with less value added production for standard clothes (e.g. Mexico or Caribbean), will shrink its productions costs. Another production facility in the US with higher labour costs but more value added production will help Zara to provide high fashion merchandise in short time and maintain the company´s philosophy of quick response. Because of the huge American market, smaller satellite distribution centres would guarantee providing the whole market with merchandise in time in order to shorten lead times.
Zara should consider a combination two supply chains by keeping the purchase of raw materials centrally in Europe but instead of going through Spain, the materials can be shipped directly to America for manufacturing and distribution. The rest of Zara´s model can stay centralized and just provide the necessarily support for the American based manufacturing and distribution. By utilizing this concept, the company will operate more efficient in the US market while reducing its total costs at the same time.
1.7 Conclusion and Risks
Zara plans to fallow its expansion strategy and has already stores in many major cities around the world. By having almost a double-digit sales growth compared with the average of 4% growth to other fashion retailers, it seems like that the strategy is paying off. However, the company is facing some strategic issues regarding its rising cost structure. Competing with the global markets strains Zara´s well operating logistic network and weakens its business system by creating bottlenecks.
With an international expansion there are is another risk regarding its margin. Zara has its difficulties to control the increased costs through transportation to far away markets and has to pass these costs to the customers (see figure xx (kleidung in japan)). However, to keep on exporting its products cannot be long term solution not only because the margins will probably shrinking. If Zara is not able to grow and maintain its margins at the same time there will be some serious threats regarding its cost efficiency and competitive advantage trough quick response.
With a further expand into new markets Zara will be facing more and more new competitors. Zara offers such a huge variety of merchandise for all ages and types that almost any apparel retailer can be a potential competitor and threat. Furthermore, if the company wants to be successful in future has to consider the cultural differences in some regions it wants to expand in. That means adjusting its product lines to make sure there are different goods for different regions what Zara did not fully implement, yet.
Moreover, franchising and joint ventures seem be a good alternative in regard to minimizing financial risks due to instable or unexplored markets. However, if these retail locations are poorly operated and managed it can damage Zara´s image and may has an effect on the position and market segmentation in the certain location. For example, in countries with a desire for “Made in Europe” products the company has to award itself as such a brand to guarantee the sales in long term.
One huge sales market Zara has penetrated only with 1% share of the apparel total is the US market. To enter this market successfully the company will have to change its business structure and put in more resources because of the enormous market size. The market is characterized by an intense competition and price sensitivity with higher operating costs – not a premier of Zara´s business model. This is a clear risk for Zara and can result in loses of invest capital or similar barriers what already H&M is experienced in as they failed to enter the US market.
Although there are financial risks and a huge direct competition Zara is facing due to its expansion plans, by maintain its ability for short lead time, low production cost, quick response and its philosophy as fast fashion retailer, the company has the best chances to minimize the risk of failure by entering the global markets.