Source: Euromonitor from trade sources/national statistics
While the sales of the first contributors in the value chain are diminishing, retail shop net sales have grown by a small amount, no more than 3.3%, which is much less than the 7% of total retailing growth.
Table 2.2: Clothing and footwear Retail shops Sales by country in constant/Real 2004 values
Source: Euromonitor from trade sources/national statistics
The worrying performance of the apparel industry can be partially accounted to low prices in recent years. As shown in table 3, apparel prices have grown slower than the inflation the past ten years.
Table 2.3: Consumer and clothing Price Index Growth
Source: Euromonitor: Index of consumer prices from National statistical sources
After adjusting for inflation we see that prices have actually reduced in almost all E.U. Limiting disposable income and lack of consumer confidence has kept the expected growth in demand at bay (Appendix Graph 2). The lower than anticipated demand and the price reduction have resulted in a reducing clothing industry in most European countries.
Table 2.4: Growth of Clothing Price Index and value in RSP 1999-2004, inflation adjusted for 1999 prices
The diminishing trend is reinforced when the employment figures are examined in it the last years. In all major European apparel manufacturing countries employment in clothing has reduced at least 30%. Only Spain and Portugal have remained at the same levels, while in the U.K. employment in clothing is only a fraction of what it used to be.
Table 2.5: Employment in clothing industry in thousands 1995-2002
III. The role of quotas and low cost labor in the European apparel industry
The condition of clothing market in Europe is at a large degree attributed to the recent elevation of imported clothing from developing countries, especially from Asia. The slow fading of the quotas system against imports, globalization and gradual liberalization of the markets substantially helped in this development. The global textile and clothing market had been protected for the last 40 years with the system of quotas. They were designed to protect firms in developed countries from a flood of low cost imports that would disrupt the markets. However, the result was the opposite since protectionism increased the competitive capabilities of developing countries’ manufacturers, who learned to make more sophisticated and more profitable products. The quotas system was initiated in 1962 by GATT and renewed in 1974 by the Multi Fibre Agreement (MFA) which expired in 1995. WTO succeeding GATT introduced then the Agreement on Textiles and Clothing (ATC), which had the role of gradually reduce quotas until full liberalization in 2005 - table 5 shows the gradual integration of more clothing product categories in free trade. The growing flow of clothing and textile products in the E.U. from developing countries had a major impact in the domestic clothing market, which is unable to compete with the far lower costs of the latter.
Table 3.1: Integration of textiles and clothing into GATT
As a result, clothing prices kept falling throughout the last decade and many businesses ceased operations in Europe. The low labor cost advantage, which can be even up to 15 times less than in Europe, has driven many European companies to gradually move production away from Europe and invest in Asia. Additionally, many companies were established in Asia during the last years with the sole purpose to manufacture low cost clothes and export them to Europe and the U.S. According to UN, from 1995 to 2004 China has increased its clothing exports to E.U. by 227%, when in the same period the value of internal E.U. trade has grown only 23% and is half in volume to that of China alone. Accordingly, most Asian countries are increasing their share as importers to the E.U. and they are expected to do so increasingly after 2005.
Table 3.2: Imports of clothing - Code 84 SICT in E.U. (billion $)
Source: UN Comtrade Database
Graph 3.1: Sources of Imports of Clothing to E.U.
Source: Comtrade Database
The companies that manufacture in Asia and enjoy lower costs are willing to provide more output for any price levels. Their Average Cost is lower and they equal their Marginal Revenue to their Marginal Cost at a lower price (see Graph 1). Therefore, they supply more output at a lower price. Because in the long term monopolistic competition behaves more like competitive market than a monopoly, the effect supply curve would be a shift downwards from S to S1, resulting to a lower price equilibrium. Since the demand in clothing industry is elastic, the demand growth for clothes will be proportionally higher than the percentage of price reduction %Δq > %Δp. Consumption in units volume will rise but to the benefit of the low cost producers, since the traditional domestic companies cannot compete effectively at the new lower prices and keep losing market share. Elasticity will be higher as we move towards more commoditized or lower quality products that target the lower income segments. However, not even high quality fast fashion expensive garments producers remain unaffected and all eventually lose profit, unless they innovate and differentiate enough to distinguish their product and add value that cannot be countered by the low cost imports.
Graph 3.2: Shift of Supply because of lower costs.
Space for success despite bad omens
Experience from the most successful companies has shown that there is adequate space for management to overcome the difficulties that these macroeconomic conditions pose. Success in the case of Inditex SA sources from taking advantage of fast fashion trends that the importers cannot catch up with because of distance, while in the same time sell massively in very competitive prices. And failure in the case of Marks & Spencer Plc. sourced exactly from losing this contact with fashion and treating its product as a commodity, thus vulnerable to price changes.
IV. Inditex SA
In the competitive European apparel industry, where large players see their sales diminishing and the many small face bankruptcy, few companies like Inditex have managed to create sustainable growing operations and expand rapidly and profitable. In the last four years Inditex has shown the greatest growth in its history, especially outside Spain, which has reached to the point of saturation, something that is very rare in the clothing market. Since 2000 Inditex has more than doubled its shops and sales while profitability has grown even more. Inditex is a group of companies activating in the clothing industry, integrating business units in almost all apparel value chain from textile dying to retail shops. Its core market is Europe, where 83% of its turnover is realized and especially Spain, which is the company’s Headquarters.
Table 4.1: Outlets expansion by region 2000 - 2004
Source: Inditex SA annual report
Table 4.2: Financial Performance 2000 - 2004
Source: Inditex SA annual report
The Inditex business model consists of a few simple concepts that cover the whole business from supply chain and logistics to designs and retailing.
Fast Fashion
Zara’s design team works at the capacity of producing 1000 new designs every month. The new designs are produced in smaller than anticipated demand capacity so that a feeling of scarcity and change is created to the customer. Instead of forecasting the next year’s trends and designing clothes months ago, Zara’s designers react to the fashion trends in flash speed and supported by excellent operations Inditex is able to achieve a lead time of 20 days from design to shelf.
Supply Chain and Vertical Integration
Like the vast majority of European manufacturers Inditex uses the international system of subcontracting often referred to as Outward Processing Trade. However, it is doing so in a much lesser degree. Inditex is perhaps the only operation of that size that has such a degree of vertical integration from textiles purchases and dying to retail, being quite innovative in that way. Only the sewing process is outsourced, with the fast fashion or else ‘pronto moda’ articles sent to many small workshops in Portugal or Spain and the products with longer life cycle being processed at distant but low cost production sites all over the world in Turkey, Egypt, Morocco, China, Taiwan etc. Total vertical integration enables Inditex to achieve high levels of flexibility, dependability and speed to a small sacrifice in costs. Still though, the Inditex operation is very cost efficient allowing for economies of scale and claiming the added value from virtually all the value chain stages.
High Street Strategy
Retailing is done only through spacious and luxurious High Street shops always located at the best markets of the largest cities. Having the best shops in every market, and sometimes even more than one at the same street, servers not only the obvious purpose of attracting high traffic, but also performs the role of advertising for the brands, which are not advertised at all in any other way. Inditex’s shops are the primary source of information to production regarding new designs and consumer suggestions are taken very seriously as hints for the next best seller design. The shops have their inventories renewed twice a week often moving non sellers between cities or countries. The goal is to have as many designs as possible in barely adequate quantities to maximize space utilization and offer customers the incentive to come again soon.
V. Marks & Spencer Plc
In the same time that Inditex was making its impressive expansion from Spain throughout Europe and was seeing its profits piling up, the major UK retailer and clothing manufacturer was at the worst moment of its history. By 1999 Marks & Spencer already had an established position as an international mixed retailer with clothing accounting for about half its GBP 8.22 Billion turnover. Its shops spanned the globe with the focusing mostly in UK and Europe and already operated 294 stores in the UK and 322 in the rest of the world.
M&S had followed the traditional Outward Processing Trade system for decades now and had developed a seemingly robust production model that offered excellent quality clothing over very good price. M&S organized its production under Spring/Summer and Fall/Winter collections. A ‘buying team’ comprising of stylists, product developers, merchandisers and technologists would design, purchase materials and assured quality for the next year’s collection in advance. The production was sourced to a wide network of suppliers many of who were located in the UK to enable close control by the buying team and others in low cost labour countries abroad. The path to the stores passed through sophisticated central warehouses which held big amounts of inventory to guarantee seven weeks of sales.
Table 5.1: Group Sales 1999 - 2003
Source: Euromonitor from M&S company reports
Table 5.2: Sales by region 1999 - 2003
Source: Euromonitor from M&S company reports
Unfortunately for M&S, good quality is not enough for the modern world of fashion and low prices advantage became less competitive after the market started to become flooded with imports that offered sufficient quality for half the M&S price. Eventually M&S just ‘went out of fashion’ and management was too late to realize that, only in fall/winter 1998 when the whole collection based on black and grey proved to be irrelevant to the market demands. At the time that was realized, there was little to be done since the lead times the traditional M&S model offered were close to one year.
M&S started to lose the fashion game and held its market share from collapsing only by the aged population and less fashionable but price sensitive products. M&S collection were no longer relevant and was considered outdated by many of its previous customers. Sales in Germany, Spain, France and other European major markets began shrinking and the Canadian operations were closed in 1999.
In an attempt to moderate the losses for the group coming mainly from its international operations, M&S decided to shut down operations mainly in continental Europe in 2001. The decision to shut down large department stores in major European cities and lay off suddenly thousands of employees placed M&S in confrontation with European governments. As a result M&S was obligated to pay large fines and compensations to workers, while its image lost significantly.
Table 5.3: Number of outlets by region 1999 - 2003
Source: Euromonitor from M&S company reports
VI. Conclusion
The apparel market in Europe has been suffering the last ten years by a negative macroeconomic environment that is gradually worsening from the effect of misused quotas restrictions to free trade. The market is becoming more concentrated and the more commoditized producers are losing share to private labels manufactured abroad and independent importers, while the large fashion retail chains are forced to adapt their business model or shrink. However, in these bad times innovative business models introduced by efficient companies and competent management can lead to success stories such as that of Inditex SA and the ZARA brand. On the other hand, complacency, inefficient management, bureaucracy and persistence to outdated practices can lead to profit loss and shrinking in the case of Marks & Spencer. M&S management failed to see the way fashion industry was moving into fast and inexpensive products often referred as ‘cheap chic’, while Inditex built its successful enterprise exactly on those changes its competitors failed to realize. Although, the macroeconomic conditions assisted in the failures of M&S, it was the company’s internal environment that had the choice to adapt to those conditions or conserve and suffer from them. Sooner or later the previous successful strategy becomes obsolete in a rapidly changing environment and it is the management’s role to make decisions according to these changes.
Appendix
Appendix Table 1: Employment in textiles and clothing (in thousands)
Appendix Table 2: The cost structure of the clothing industry, selected countries, 2001 (per cent of gross output)
Appendix Table 3: Sample Average Cost per unit of trousers
A: Actual Costs
B: Estimated Costs
C. Estimated costs
Appendix Graph 1: The apparel value chain
Source: Appelbaum and Gereffi (1994), p. 46.
Appendix Graph 2: Consumer expenditure in relation to clothing price Index 1996 – 2004 for UK, Germany, Italy, France and Spain
References
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Economist , ‘The sorry state of fashion today.’ 1/29/2005, Vol. 374 Issue 8411, p59-6
‘Time Europe Magazine’,
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U.N. Statistics Division,
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Euromonitor, ‘Overview of Inditex SA’, November 2005
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Overview of Inditex SA Annual Reports 1999 – 2004
