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Bringing Home the Industrial Revolution: Insights from the Apparel Industry

Thomas FriedliStephan BillingerMichael KickuthElgar Fleiscuh

Institute of Technology Management University of St. Gallen

Unterstrasse 22CH-9000 St. Gallen

Email: stephan.billinger@unisg.ch; michael.kickuth@unisg.ch

Abstract

The apparel industry was the starting point for the industrialisation of the world and thecompetitiveness of Europe in manufacturing. Today, the industry is truly global in nature. Apparelmanufacturing, being labour intensive, has been migrating from the high-wage world to developingcountries. This migration started earlier than in any other industry, and apparel manufacturing hastherefore been at the forefront of globalisation for more than four decades. At the same time, strong effort has been put into the efficiency rather than the effectiveness of supplychains. This means that location decisions were mainly based on pure labour cost considerations. Thecompetition has further shifted to the arena of speed and flexibility, where modular, verticallyintegrated supply chains have gained the lead in being able to react quickly to changes in demand.European apparel manufacturers, with production facilities in Europe, could capitalise on thisdevelopment and gain competitive advantages due to their physical proximity to the largest, singlemarket in the world. The primary concern will be how to match overall flexibility to changes indemand. This paper classifies different types of flexibility, compares flexibility initiatives in the US and linksthese results to the ways European apparel manufacturers can structure their value chain moreeffectively in order to cope with increasing demand uncertainty.

Our paper consists of three phases. We first describe the history of the apparel industry and point outthe recent challenges that it faces due to the high degree of uncertainty in terms of volume andcustomer demands. In the second phase, we utilise extensive literature on the topic of flexibility. Thethird phase is based on a case study of a major European fashion and apparel manufacturer, whichdescribes how the fashion manufacturer anticipates recent developments in the apparel industry andconsequently addresses those challenges by repositioning itself as a flexible organisation by launchingdistinct business units along its supply chain.

We conclude that strategic flexibility can be divided into three dimensions: market flexibility, resourceflexibility and the coordination ability that is needed to orchestrate both types of flexibility. Byanticipating the growing demand towards higher flexibility and speed, European apparelmanufacturer can capitalise on this and reposition themselves as flexible, high-speed serviceproviders and bring the revolution back to where it originated.

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1 The apparel industry

1.1 History of the apparel industry

The industrial revolution was a widespread replacement of manual labour through machines, whichbegan in Great Britain during the last half of the 18th century and spread through Europe and to theUnited States during the following century. It was the result of many fundamental, interrelatedchanges that transformed agricultural economies into industrial economies. Goods, which hadtraditionally been made at home or in small workshops, began to be manufactured in factories. From the middle of the 18th to the beginning of the 19th century, improvements in cotton textileproduction were made in Great Britain and the first factories were opened. For Great Britain, access tothe cotton raw materials in India, Africa and the Southern States of the USA was easy, because of thecolonial relationships.1 During the 19th century, the synthetic dye was invented and the textile andapparel industry also moved from Great Britain to other European countries and to the USA. Later, thetextile and apparel industry also found its way to Japan.2In the 20th century, prerequisites for the production of apparel were established in industrializedcountries. Industrialization extended on a wide scale to parts of Asia and the Pacific Rim. Since the1950s, the rise of low-wage countries began, because the sewing of apparel could hardly be automatedand was thus work intensive. The production of textiles shifted from industrial nations such as HongKong, Taiwan and South Korea. Later, the relocation also reached China and other low-wagecountries. The production of apparel eventually spread across the globe. Asian countries especiallyhave a cost advantage in the production of synthetic materials and cotton. They have become the mostimportant apparel exporting countries in the world. Within the last ten years, the Caribbean and eastern European countries also gained importance on theproduction line in the apparel industry. On one side, the main reason for re-establishing Europeanproduction was the opening of the eastern European markets. On the other side, many high qualityfabrics, such as wool, come from Europe and it is therefore advantageous to sew the apparel inEurope. Regarding this aspect, it becomes obvious that the shift of production in the apparel industrycame back to countries that are located near high-wage countries. The Caribbean countries, which areclose to the USA, and the Eastern European countries, which are close to Western Europe, areexamples of countries that have this geographical proximity. The concern is whether production inhigh-wage countries will have a chance to become competitive again. Due to this concern, the quickresponse strategy was developed in the middle of the 1980s.3 This strategy has been widely discussedand is today one reason why apparel manufacturers are still considering further back-shifts of apparelmanufacturing. The following article discusses the issue of bringing home the industrial revolution in the context ofthe apparel industry by using three steps. First, we describe the situation in the industry with presentchallenges. Second, we review literature on manufacturing and strategic flexibility and introduce aframework that summarizes various aspects of flexibility. Finally, we use a case study that illustrateshow a major European apparel manufacturer implements a strategy that allows flexibility along theapparel value chain. We conclude with a discussion why apparel manufacturing close to the market isgetting more attractive and we demonstrate how a firm’s strategic flexibility can benefit.

1.2 Characteristics of the apparel industry

Buyer-driven, fragmented global supply chains

In 2000, worldwide retail spending on clothing and apparel reached approximately € 900 billion.Europe accounted for 34% of the world market followed by the US, accounting for 29%. Within 1 Strube (1999)2 Hermann (1996)3 Hermann (1996)

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Europe, Germany is the biggest market for apparel, followed by the UK, Italy and France.4 The globalapparel chain is characterized as a typical example for a buyer-driven global chain, in which profitsderive from unique combinations of high-value research, design, sales, marketing and financialservices that allow retailers, branded marketers and branded manufacturers to act as strategic brokers,who link overseas factories with markets.5 These attributes distinguish the vertical structure ofcommodity chains and other labour-intensive industries, such as footwear and toys, from producer-driven chains (e.g. in automobiles) which are coordinated and dominated by upstream manufacturersrather than downstream intermediaries.

Buyer-Drive Global Chains(e.g. apparel)

Producer-Driven Global Chain(e.g. automobiles)

Upstream Structure Fragmented, locally owned,dispersed, and often tieredproduction

Global oligopolies

Downstream Structure Relatively concentratedintermediaries

Relatively fragmentedintermediaries

Key Cross-Border Links Retailers, branded marketers,and branded manufacturers

Producers

Rent concentration Downstream UpstreamTypes of Rents Relational

Trade policyBrand name

TechnologyOrganizational,

Typical Industries Labour-intensive consumerproducts

Capital- and technology-intensive products

Table 1: Buyer- vs. Producer Driven Supply Chains5

The apparel production is highly fragmented. About 30 % of the world production is exported, withdeveloping countries generating an unusually large share of about one-half of all exports.6 These largecross-border flows of apparel reflect cheaper labour and inputs, partly due to cascading labourefficiencies in developing countries. Despite extensive investments in substituting capital throughlabour, apparel production remains highly labour-intensive so that relatively large manufacturers inhigh-wage countries outsource labour intensive production steps (e.g. sewing) to lower cost laboursources.7

Blurring boundaries in the apparel industry

While the apparel production is highly fragmented, the global retailing industry is dominated by largeorganizations and a high market concentration. By 1995, the five largest US retailers accounted for68% of all apparel sales in publicly held outlets.8 Gereffi distinguishes between three types oforganizational buyers in the global supply chain: retailers, branded marketers and brandedmanufacturers. In the past, retailers were the apparel manufacturer’s main customers. Today retailersare becoming their competitors. In the 1980s, many retailers began to compete directly with nationalbrand names of apparel producers and marketers by expanding their sourcing of “private label”merchandise. These are sold more cheaply than the national brands but are also more profitable sincethis strategy eliminates some middlemen in the chain.9 Branded marketers have extremely well-knownbrands but carry out no production. These branded marketers include companies like Liz Claiborne,Nike and Reebok which have a long history in sourcing overseas. In order to deal with the influx of

4 Deutsche Bank (2002)5 Gereffi (1999)6 Ghemawat, Neuno (2003)7 Sydow, Fichter (2001)8 Finnie (1996)9 Gereffi (1996)

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new competition, branded marketers started discontinuing certain support functions (such as pattergrading, marker making and sample making) and reassigning them to contractors. In essence, brandedmarketers now recognize that external manufacturing contractors have the capability to manage allaspects of the production process, which concentrates the competitive edge of marketers to design andbranding. The third type of organizational buyer is the branded apparel manufacturer, such as LeviStrauss, Sara Lee or Phillipe-Van Heusen. Branded apparel manufacturers are increasingly anticipatingthat foreign production will often provide a similar quality and quantity as domestic producers, but atlower prices. Established American and European manufacturers are responding to this trend byclosing down their production sites or transferring their production sites to low-wage countries.

High demand uncertainty and long lead times

Fashion apparel products are examples of typical innovative products with a high amount of demanduncertainty.10 The life-cycle is usually very short and companies are forced to introduce a steadystream of newer innovations. The short life-cycle and the great variety of these products increase theunpredictability of fashion products. This increases the risk of shortages or excess supplies. Highprofit margins and the importance of early sales in the establishing of market share for new productsraises the cost of shortages. Therefore, the cost of pushing the wrong products into the market exceedsthe cost of the physical handling of the product by far. Normal competitive behaviour in fashion apparel involves introducing new product lines multipletimes per year, typically in a seasonal cycle. The traditional cycle of apparel manufacturing rotatesaround the sale season for a line of clothing. The products are designed from several months to over ayear ahead of time.11 Most of the expected season’s production is therefore done in advance. Theretailer prefers to start the season with a shorter supply of greater variety of products and then toreorder based on sales. Because of long lead times, manufacturers are committed to their productionand prefer advance orders from retailers. The manufacturers` policies in initial orders, reorders andreturns vary, depending upon their capabilities and their relationships with the retailers. The traditionalapproach to dealing with uncertainty was to concentrate on designing and producing only products thatsell, which means that the demand has to be accurately predicted. Thus, fashion sense and forecastingability are traditional core competencies of fashion apparel makers.11

Shift to speed & flexibility The apparel industry is increasingly perceiving time as a crucial variable within competition.12 Apparelmarketing trends dictate shorter lead times, smaller quantities, and many style changes.13 Due tohigher demand for high fashion products in Europe compared to the US,14 European apparelmanufacturers are more affected by this development. Of most importance in this environment isaccurate reading of early sales numbers or market signals followed by quick reactions during a newproduct’s life-cycle.15 Quick response as a set of process innovations has shifted the arena of competition from cost andquality to timing and know-how. Utilizing information technology, leading quick responsecompetitors have developed new capabilities in rapid learning, communication and coordination thatcomplement traditional core competencies in design and fashion sense. Rather than betting on a fewnew designs from the savviest designers, quick response competitors try out many designs, quicklyimitate other designs and continue to produce only what sells.16

Summarizing the factors mentioned above, the apparel industry can be characterized as a truly globalindustry in which boundaries between the different types of players are increasingly blurring.Competition has shifted from the arena of price and quality to the arena of speed and flexibility. 10 Fischer (1997)11 Richardson (1995)12 Forza, Vinelli (2000)13 Losman, Liang (1990) 14 Ghemawat, Neuno (2003)15 Fisher (1997)16 Richardson (1996)

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However, the meaning of flexibility has to be extended to a more extensive understanding. Not onlythe more operational part of flexibility, in terms of the ability to quickly react to changing consumerbehaviours, but also the ability to establish a flexible organisation, which can cope with the ongoingchanges in its environment, is a crucial variable in the apparel industry. According to a broadquantitative research in the entire producing industry in Germany, flexibility has become the mainreason for companies relocating their production facilities from foreign countries to its origin.However, further research has to be done in order to analyse whether this is valid for the apparelindustry, too (Figure 1: Factors influencing relocation decisions in the producing industry).

Factors influencing relocation descisions in the producing industry in Germany

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Reasons for relocation Reasons for relocation back to origin

Figure 1: Factors influencing relocation decisions in the producing industry17

2 Flexibility

Since the linkage of corporate and manufacturing strategy,18 researchers discuss numerous aspects offlexibility in the context of manufacturing. Flexibility is defined as “the ability to change or react withlittle penalty in time, effort, cost or performance“.19 In the context of many industries, this means that“cost and efficiency” focuses are no longer adequate20 and the nature of uncertainty determines thetype of flexibility.21 However, research indicates various characterizations and categorizations offlexibility. While a lot of researchers use flexibility as a general term, other researchers introducedetailed flexibility classification theories:

Narain et al22 identify a classification scheme with various types of flexibilities (e.g. machine or labourflexibility), which allows for a categorization into strategic, tactical and operational flexibilitytypes.

Beach et al23 introduce a concept with different dimensions of strategic flexibility (e.g. financial orlearning flexibility), which enable a categorization into internally and externally observable types of

17 Frauenhofer Mitteilungen (1998)18 Skinner (1969)19 Upton (1994)20 Skinner (1974)21 Gerwin (1987)22 Narain, Yadav, Sarkis, Cordeiro (2000)

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flexibility. Internally observable types of flexibility are, for instance, the ability to implement atrategy, value chain flexibility or control flexibility. External observable types of flexibility are, forexample, manufacturing process flexibility, product flexibility, or procurement flexibility.

Braglia and Petroni24 identify the types of flexibility that manufacturing firms prefer when the firmsare facing different environmental challenges. This approach allows for a categorization into clusters,which describe firms that perceive the relevance and effectiveness of various types of manufacturingflexibility in a certain way (e.g. customer- or innovation-oriented firms).

For the application within a firm, researches also introduced methodologies for the categorization andmanagement of flexibility, such as the flexibility audit25 or the house of flexibility.26 The increasingnumber of theories and methodologies in the past years indicates that research in the field of flexibilityis still in need for theory that extends existing results. One of the major challenges within flexibilityresearch is the notion of clustering or concentrating specific flexibility types, such as procurementflexibility or manufacturing process flexibility. However, the application of these theories within thecontext of a single company is often limited and neither reflects the explicit needs nor the potentials ofa complex corporation.

For some time, there are indications that the model of industrial development, in particular thedevelopment of mass production, is limited in a dynamic environment.27 One attempt to overcome thelimitations is to increase flexibility of manufacturing enterprises. However, existing approaches focuseither on the consideration of internal flexibility potentials28 or are more concerned about thecharacteristics and development of networks of independent firms. Existing approaches do not discussthe contribution of these networks to the flexibility of the single firm.29 As far as we know, there is nosystematic conceptualization of the flexibility of a single firm which takes into account the benefitsfrom collaboration potentials.Strategic flexibility is defined as "...the capability of the firm to proact or respond quickly to changingconditions and thereby develop and/or maintain competitive advantage".30 Such a capability includes:

• The firm must be able to identify potential competitive advantages in its environment on apermanent base and must be able to address theses advantages in an adequate manner.

• Competitive advantages31 rely on clear strategies. A firm must differentiate itself from itscompetitors and must establish uniqueness in its business.32

• The firm must be able to implement changes quickly. There has to be flexibility built into thefirm’s overall system.

• Competitive advantage means that flexibility can not be reached with massive investments inadditional capacities. The costs of this approach would be too high.

• At the place of an unchanging definition of core competence,33 a dynamic core competenceapproach has to be installed to ensure that core competencies do not become core rigidities.34

These points can be summarized in a general framework to reflect strategic flexibility (Figure 2:Strategic Flexibility Framework).

23 Beach, Muhlemann, Rice and Paterson, Sharp (2000)24 Braglia, Petroni (2000)25 Das, Patel (2002)26 Olhager, West (2002)27 Piore, Sabel (1984), Cohen, Zysman (1988), Skinner (1988), Hayes, Pisano (1994), Hayes, Abernathy (1980)28 Suarez et al. (1995), Gerwin (1993), Aaker, Mascarenhas (1984), Upton (1997), Wiendahl , Worbs (2000)29 Byrne et al. (1993), Scholz (1997), Schuh et al. (1998), Picot et al. (1998)30 Hitt et al. (1998)31 Porter (1985)32 Friedli, Knecht (2002)33 Hamel, Prahalad (1994)34 Leonard-Barton (1992)

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MarketFlexibility

ResourceFlexibility

CompetitivePosition

StrategicFlexibility

Viability

CoordinationAbility

RelevantEnvironment

Figure 2: Strategic Flexibility Framework

Strategic flexibility is an instrument to support superior goals (viability). It needs to be used as apermanent analysis of a firm’s specific environment and allows for a determination of the degree offlexibility that is needed. The complexity of the concept of flexibility is reflected with the introductionof three dimensions. While market flexibility summarizes a firm’s external observable flexibilitycomponents, resource flexibility summarizes a firm’s internal observable flexibility components. Thethird dimension, coordination ability, illustrates the necessity to balance the two other dimensions sothat superior goals (viability) can be achieved within the relevant environment. This coordinationability is not coordination flexibility, but in a firm’s context the capability to orchestrate internalresources while targeting specific market needs.

Flexibility is the ability to answer changes with changes. For this reason, the firm has to extensivelyunderstand its actual situation (its competitive position). The consideration of market and resourceflexibility is also found in other approaches.35 Strategic flexibility is especially important today as aresponse to environmental uncertainties.36 These uncertainties are more complex and dynamic thanever.37 In order to address flexibility, manufacturing enterprises have to consider some of theircharacteristics as high investment costs, pressure for globalization and quickly changing markets.

Presently there is a need to discuss flexibility beyond frontiers of the single enterprise38 but it isimportant to keep in mind, that the overall flexibility of the firm, rather than the network flexibility,should be improved. This also requires a firm to assess its entire value chain for market opportunities.It is often not only the “end market” that offers business opportunities and the Strategic FlexibilityFramework can therefore be applied along the value chain for different market opportunities. Thefollowing case study exemplifies the usage of the Strategic Flexibility Framework along the apparelvalue chain.

35 Aaker (1984), Ansoff (1975)36 Gerwin (1993)37 Bleicher (1992), Hitt et al. (1998), D'Aveny (1994), Bettis, Hill (1995)38 Schuh et al. (1998), Picot et al. (1998)

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3 Matching current characteristics in the apparel industry by using the StrategicFlexibility Framework: The case of an European apparel manufacturer

Introduction to the company

Within the further context, the company we describe is called the “Fashion AG”. The Fashion AGdesigns, manufactures and sells underwear for women, men and children through independent retailstores with its main focusing on the European market. In 2002, the Fashion AG generated a revenue ofabout €250 million. At the end of 2002 the Fashion AG employed around 4000 people in Europe, withabout 800 of them at the headquarter in Austria.

The company has a long tradition and is today operating through a number of sales offices andseparate purchasing offices. Its main market is the German speaking countries in Europe. In 2002, theexports accounted for about 20% of the total revenue. In 2002, the company had production facilitiesin Germany, several countries in eastern Europe, and one production site in southern Europe.

Former Sourcing & Manufacturing & Distribution

In 2002, the Fashion AG sourced about 50% of its finished products from their own productionfacilities and another 50% from external suppliers. The Fashion AG sourced materials (fabrics andother inputs) from their sourcing centres in the Czech Republic and Slovakia, while strategicpurchasing for finished goods and materials was centred in the headquarter. Apart from the sourcingcentres at the production sites, the Fashion AG had a purchasing office in Asia.

While the production facility in the Czech Republic was vertically integrated (except the fibreproduction), the Slovakian production site did not have spinning and dyeing facilities. However, themore labour-intensive activity of dessous production was concentrated at the Slovakian productionsite. Both production facilities had nearby workshops that performed the main part of the most labour-intensive activity of sewing.

The sewn garments were sent back from the workshops to the main manufacturing sites, where theywere inspected, ironed, folded and packaged before being sent to the central distribution centre at theheadquarter.

All of the Fashion AG’s merchandise, from internal and external suppliers, was passed through thecentral distribution centre. As customer orders came in, the customer service centre sent them in dailybatches to the logistics department, which consolidated the orders. Based on these orders, the logisticsdepartment then decided where to place the orders and constructed the master production plans for theown productions facilities. For external supplies, the logistics department then placed an order at thepurchasing department. However, the logistics department was also responsible for tracking the orderbacklog and controlling the order-flow throughout the entire supply chain.

The way orders were consolidated and transformed into purchase orders or replenishment signalsdepended on the kind of product that was ordered. Basic orders were divided into two segments: first,on-stock-articles that could be reordered and involved mainly standard articles; second, pre-order-articles consisting of fashion articles that could be ordered on a seasonal basis. On-stock articles wereautomatically replenished by balancing the current stock level with an automated sales forecastsystem, which was partly based on historical sales data and partly based on current sales forecastinformation from the sales force. The forecast for pre-order-articles were mainly based on datagathered from the sales force, which had to construct a forecast for the products they were planning onselling in the next season. Even though little forecast accuracy had significant effects on the number ofmarked-down products and costly production changes, the sales department did not have anyresponsibility for excess stock and mark downs.

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The former market situation

The German apparel market is the biggest apparel market in Europe with a total market size of €51billion in 2002.39 Similar to the apparel markets in other countries, the percentage amount of moneyspent for clothing has been decreasing for several years. Compared to other European markets, apparelmakers operating in the German market have faced an even tougher environment than in othermarkets. The absolute numbers of the total money spent for underwear in Germany decreased fromaround €3,7 billion in 1999 to about €3,3 billion in 2002.40 In Germany, the general trend is that theclothing retail chains and department stores are gaining market share, while independent specialistclothing and underwear retailers are losing market share.41 For the German retail market as a whole,the German retailers’ association forecasts circa 8,000-10,000 insolvencies in 2002, which wouldcorrespond to around 3% of all German retail outlets. Especially affected by this development aresmaller independent retailers.42

Apart from changes in the absolute numbers, the consumer behaviour in the markets has shiftedsignificantly. While the medium price segment has lost market share significantly, the low price andespecially the high price segment have gained market share for several years. The Fashion AG hasbeen affected by all trends described above. It has a strong foothold in the German speaking part ofEurope and its main sales channel has traditionally been the independent retail store. Because its ownbrand is positioned in the medium price segment, it has also been struggling with the ongoing changein consumer behaviour. The former internal situation

Apart from the tough market situation, the Fashion AG was facing several internal challenges. Afterdisplacing their main production facilities to low-wage countries, the coordination across the supplychain has deliberately been limited.

Though the coordination expenditures increased significantly, the Fashion AG maintained the internalstructure. The long standing traditions and culture barriers between the departments and thesubsidiaries lead to a culture of “tracking and controlling” the whole supply chain. While the physicalstructure of its supply chain became highly decentralised, the supply chain planning process was stillhighly centralised and coordinated by the logistics department. At the same time, little investmentswere made into IT and logistics, which resulted in high coordination costs due to the high amount ofmanual handling of orders placed at the internal production facilities. While the production capacity inthe textile garment facilities exceeded the average demand by far, bottlenecks in other parts of thesupply chain caused delivery problems for certain products. The lack of intra-organisationalcollaboration between the design department and the production facilities led to a huge variety offabrics and accessories causing high material handling costs, small production lots and long leadtimes. The overall result of this situation was a limited viability (Figure 3: Fashion AG's formerStrategic Flexibility Framework).

39 Deutsche Bank (2002)40 GFK (2002) 41 Deutsche Bank (2002)42 Deutsche Bank (2002)

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Market Flexibility• declining & volatile market• single market segment

Resource Flexibility• unstable production • excess capacities

former Position• branded manufacturer• medium price segment• mainly German market

Strategic Flexibility• little differentiation• little market &

resource flexibility• uncompetitive position

Limited Viability

InadequateCoordination

Ability

Relevantenvironment

Market Flexibility• declining & volatile market• single market segment

Resource Flexibility• unstable production • excess capacities

former Position• branded manufacturer• medium price segment• mainly German market

Strategic Flexibility• little differentiation• little market &

resource flexibility• uncompetitive position

Limited Viability

InadequateCoordination

Ability

Relevantenvironment

Figure 3: Fashion AG's former Strategic Flexibility Framework

Former Position: The Fashion AG was mainly operating in the mainstream medium price segment. Itwas highly concentrated on the German market and distributed its products mainly throughindependent retail stores. Its assets and production facilities were almost entirely utilized for producingits own products under its own label. It was mainly differentiating itself by quality.

Former market flexibility: Based on its former position, the Fashion AG had limited market flexibility.While its main business, the merchandising of branded fashion products, was subservient to a volatileenvironment, it had no opportunity to participate in the rising low or premium price segment.Simultaneously it was focused on the declining and highly saturated German market.

Former resource flexibility: Evaluating the resource flexibility, the Fashion AG had little flexibility.Even though it had excess capacity within its textile and apparel segment, it was not able to capitalizeon this. Struggling to run its production in a stable manner, its production sites had to cope with manyvolume changes due to inaccurate forecasts, late product changes, high return rates for certainexternally sourced materials, badly synchronized processes with its suppliers and high productcomplexity.

Coordination ability: According to our definition, strategic flexibility cannot be achieved byinvestments in capacities or by long term obtaining existing overcapacities. The coordinating abilitycan play a major role in terms of balancing market with resource flexibility and vice versa. In thesituation described above, the coordination ability was inadequate as market and resource flexibilitywere limited and the applied level of coordination was perceived to be high and ineffective.

Former strategic flexibility: The factors that were mentioned above lead to a situation in which theFashion AG was confronted with little strategic flexibility. Changes in consumer behaviour, marketand its whole environment lead to a situation in which the company’s position was no longercompetitive.

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The transformation process

Facing the challenges as described above, the management of the company started restructuring itsbusiness by displacing further activities to its subsidiaries to the Czech Republic and Slovakia andcutting its workforce in Germany by 50%. At the same time, the Fashion AG started reducing itsorganisational complexity by cutting the number of articles by 50%, reducing its customer base by50% and reducing the number of suppliers by 80%. However, the management anticipated that thelong term viability of the company required a strategic realignment to cope with the changingenvironment. The key findings of the strategic analysis comprised of three major findings:

1) The apparel supply chain can be divided into four main segments: The retail segment with itsmain function as a trade intermediary and a marketer; the branded marketer or brandedmanufacturer that orchestrates the network of external suppliers and has its core competenciesin the field of design, branding and logistics; the apparel manufacturer that transforms textileto apparel products; and the textile manufacturer that transforms fibre to fabric. However, thecompetition between these segments has intensified, which has lead to the blurring of thetraditional boundaries. This has opened up new opportunities for companies that offer servicesto help companies transforming their organization.

2) Profits can derive from all segments in the supply chain, but dominantly from a uniquecombination of coordinating existing capabilities in terms of high-value research, design,marketing, service business, sourcing and manufacturing.

3) By keeping manufacturing in-house and offering excess manufacturing capacity to externalcustomers, European apparel manufacturer can capitalise on four factors:

a. The “shift to speed and flexibility”: While the global retailing industry is dominatedby large organizations mainly concentrating on the “western hemisphere”,43

production is generally carried out by tiered networks of apparel manufacturingcontractors, mainly in Asia, that account for more than 60% of the apparel exports tothe world market.44 As speed and flexibility are becoming more importantgeographical proximity is also becoming important. By offering high quality productswith short lead times, European manufacturers can capitalise on that trend and outpacetheir Asian competitors in the field of speed and flexibility.

b. The “outsourcing paradigm”: A significant trend has emerged among establishedapparel manufacturers, who are de-emphasizing their product activities in favour ofbuilding up the marketing side of their operations by capitalizing on both brand namesand outlets.45 As more in-house production facilities in Europe are closing down, theoverall capacity for apparel and textile manufacturing in Europe is declining, whichwill lead to a growing demand for external manufacturing services. Due to theirgeographical proximity, especially European manufacturers with short lead times andhigh flexibility in terms of capacity will capitalize on this development.

c. “Hedging the volatility in the end market by leveraging the internal excess capacity”:While the demand uncertainty in the fashion apparel industry is high, volatility isapparent in nearly the entire end market. Even though innovative products anddemand changes can be rapid and somewhat unpredictable, all firms introduceproducts on a regular seasonal basis. Moreover, new product and manufacturingtechnologies are fairly stable. New products involve mainly styling or fabric changesthat usually do not require new technology. Hence, investments in design andmanufacturing assets are not subject to great risk of obsolescence and could usually beredeployed or divested.46 Closing or selling the in-house production facilities impliesthat the Fashion AG would jeopardize the fairly stable part of its business andconcentrate on a business which is subservient to a high volatility. By analysing theEuropean apparel and textile market structure, the Fashion AG anticipated that it

43 Chazen (1996)44 Gereffi (2002)45 Gereffi (2002)46 Richardson (1996)

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could become a major player in textile manufacturing, i.e. in the field of stitch-ware, ifit would manage to sell its excess capacity to other apparel manufacturers. By doingso, it could smooth out its revenue streams in the end market by generating additionalrevenues in the apparel and textile markets and improve its asset utilisation.

d. “Leveraging the poor process quality in the textile industry”: Compared to otherindustries, the textile industry is lagging behind in terms of intra-organizationalprocess know-how, involving a cluster of new organizational techniques such as TotalQuality Management, modular production, preventive maintenance and continuousimprovement.47 This leads to relatively low level of perceived process quality and,partially product quality, as well. For example, regarding the procedure of checkingtextiles, apparel manufacturers usually have double checks (at the textile manufacturerin the outbound logistics process and at the apparel manufacturer in the inboundprocess) and do not buy textiles that are “ready to be made up” which do not need anyfurther checking before being sent for processing.

4) Due to “outsourcing paradigm”, the demand for services from branded marketer is not justlimited to the field of external manufacturing services but can also be extended to otherservices in the field of design, material handling, logistics and coordination services. Whilemany branded marketers operate as a strategic broker that link overseas factories with marketdemands, they do not apply that business model to market segments that do not belong to theircore business like underwear or accessories. In these non-core business-activities, theytraditionally sell their brand to licensed Original Equipment Manufacturers (OEM) thatperform not only manufacturing but also perform design and parts of the sales and marketingactivities based on so called royalty fees. The OEM then ships the finished goods back to thebranded marketers, which is responsible for distributing, order management and invoicing.Assuming that the current outsourcing paradigm will sustain, the Fashion AG projects that thedemand for this kind of “full service OEM” will increase.

Based on the findings above, the Fashion AG decided to launch three distinct business units along itssupply chain that will help its core business to cope with its environment. By doing so, it can leverageits excess production capacity by entering three distinct markets.

The service business unitThe service business unit offers design, manufacturing, packaging and material handling to externalbranded marketers with branded products in the premium price segment and mainly sourcing andmaterial handling to private label customers in the low price segment. By doing so, it anticipates therising market share of premium and the low price market segments and the rising demand for “fullservice OEMs”. By concentrating on global branded marketers, it can simultaneously untie thedependency on the weak German retail market.

Based on the industry analysis, the Fashion AG identifies three strategic success factors in the servicemarket and formulates the following:

1) Order management ability2) Cooperation ability3) Design ability

The apparel manufacturing unitThe apparel manufacturing unit operates the apparel production facilities as mainly independentcompany and offers its excess capacity to external customers. The business involves the cutting,making and trimming of fabric and the material handling for the finished product to its customers. Thestrategic success factors in the apparel manufacturing market are formulated as follows:

1) Order management ability2) Orchestrating ability

47 Gereffi (2002)

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3) Quality management ability

The textile manufacturing unitSimilar to the apparel manufacturing unit, the textile manufacturing unit is mainly independent andresponsible for sourcing finished fabrics or transforming fibres into fabrics by using its productionfacilities. As the textile market follows its specific characteristics, it is crucial to bundle the market andtextile knowledge in the textile manufacturing unit. Therefore the textile manufacturing unit is theexclusive supplier of textiles within the Fashion AG. However, it can offer its excess capacities toexternal apparel manufacturing customers, too. The success factors identified in this segment aresimilar to those of the apparel manufacturing unit.

Establishing these business units leads to enhanced strategic flexibility and a new market position witha significantly improved viability of the Fashion AG (Figure 4: Fashion AG's current StrategicFlexibility Framework).

Market Flexibility• various market segments (i.e fashion, private label, textile/fabrics etc.)• various European markets

Resource Flexibility• stable production • stable planing process

current Position• producing Service

provider • medium, low &

premium price segment • branded & unbranded

products• various European markets

Strategic Flexibility• high market &

resource flexibility• competitive position

Viability

CoordinationAbility

needed to balance Market and Resourceflexibility

Relevantenvironment

Market Flexibility• various market segments (i.e fashion, private label, textile/fabrics etc.)• various European markets

Resource Flexibility• stable production • stable planing process

current Position• producing Service

provider • medium, low &

premium price segment • branded & unbranded

products• various European markets

Strategic Flexibility• high market &

resource flexibility• competitive position

Viability

CoordinationAbility

needed to balance Market and Resourceflexibility

Relevantenvironment

Figure 4: Fashion AG's current Strategic Flexibility Framework

Position: While still operating in the medium price segment with its own label, the Fashion AG hasalso entered the premium and low price market segment by offering its whole portfolio of services toexternal retailers, branded marketers and branded manufacturers. As it mainly concentrates onEuropean-wide or worldwide operating customers, it could shift its focus from the German market tothe European market. The apparel and textile manufacturing units are now operating as mainlyindependent companies that offer services or finished products to external customers as well. All of itsbusiness units (service unit, core business unit, manufacturing unit, textile unit) are now operating indifferent market segments and therefore differentiate themselves according to the strategic successfactors identified in each of its market.

Market flexibility: Based on the current position, the Fashion AG has the opportunity to penetratedifferent market segments. While its core business is still subservient to a volatile environment, it has

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the opportunity to participate in the rising, low or premium price segment by offering its services toexternal, globally operating branded marketers and unbranded retailers.

Resource flexibility: The Fashion AG is currently managing to stabilize its operational challenges, dueto a number of undertakings:• formulation of stable business, production and planning processes• reduced supplier base• reduced number of merchandised products and input materials• higher autonomy of its distinct business units• shifted responsibilities for excess stocks• better internal coordination procedures• strict management by objectivesThe Fashion AG is able to reduce its excess stock, increase its turnover rates and improve its forecastaccuracy. As it is now able to operate its production facilities in a stable manner, it can also capitalizeon this and utilise its assets and capabilities more flexibly.

Coordination ability: By utilizing the overcapacity in resource flexibility, the Fashion AG couldaddress existing market opportunities. However, the Fashion AG now has to balance its market andresource flexibility more effectively. The coordination ability now becomes a crucial success factor foroperating the complex but yet flexible current organization.

Strategic flexibility: Through the realignment of its business, the Fashion AG is now able to capitalizeon the trends of its environment. The Fashion AG can offer a vast portfolio of services to help othercompanies transforming themselves. It has managed to operate its almost entirely vertically integratedsupply chain more effectively and has the opportunity to hedge the traditionally high volatility in itsend market with a limited risk exposure in terms of assets and capabilities of its manufacturing andtextile business units.

4 Conclusion

For many companies, the major reason for relocating manufacturing to low-wage countries is cost andquality. However, our findings show that speed and flexibility are today’s drivers for an increasingnumber of market segments. This leads us to adapt the Strategic Flexibility Framework, which definesa firm’s internally observable flexibility components as resource flexibility and the externallyobservable flexibility components as market flexibility. The third dimension in the StrategicFlexibility Framework is the coordination ability, which illustrates the necessity to orchestrate the twotypes of flexibility so that superior goals (viability) can be achieved within a firm’s relevantenvironment.

Our case study shows how the Fashion AG manages to utilise ongoing trends in the textile industry,like the “outsourcing paradigm” or the poor process quality, in order to hedge the volatility in the endmarket, by leveraging the internal excess capacity. This strategy requires a thorough analysis of theexisting value chain and the identification of market opportunities along the value chain. The creationof various business units targeting specific markets disperses the Fashion AG’s uncertainty and createsstrategic flexibility through a balanced coordination of resource and market flexibility. The FashionAG in its current position is a flexible organisation with a high degree of strategic flexibility. Thischaracterises what we call the hybrid apparel manufacturer. In this context, our findings exemplify thatthe relocation of production near the market is a critical question and that flexibility aspects are themain driver within the decision-making process. The Fashion AG implements flexibility throughidentifying relevant market potentials along its value chain by establishing business units that targetthese markets. On one side, the Fashion AG’s flexibility strategy diversifies risks in the apparel endmarket through focusing on stable elements in the value chain, such as the apparel manufacturing. Onthe other side, the strategy utilises the blurring boundaries between retail, branded marketers andbranded manufacturers to help customers in their transformation process.

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The case of the Fashion AG can be an example for other players in the European apparel industry, ifthe identified trends continue to further develop. However, additional research is certainly needed inthe various market segments of the apparel industry and along the value chain. Today’s researchpublications mainly focus on world-wide operating companies, like H&M or ZARA, which definesignificant trends in the apparel industry. However, the case of the Fashion AG demonstrates that notonly major players have the potential of redefining the apparel industry. We believe that the examplefrom the underwear industry can be a role model for further apparel market segments and thereforeempower apparel manufacturing within Europe.

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