Vertical Intergration Zara

2 February 2017

How is Zara organized with respect to its vertical integration and outsourcing decisions? What governance structure does it appear to follow? Support your conclusions with reference to details of the Zara and the Ferdows reading. Zara manufactures and distributes its products in small batches. Zara is vertically integrated as the company manages all design, warehousing, distribution and logistic functions. Zara outsources sewing of garments to an outside supplier. Zara controls the product it creates from inception to when it is sold to the final customer.

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Amancio Ortega, Zara’s founder is a strong believer that in order to be successful in the apparel industry retailing and manufacturing must be closely linked as consumer demand is difficult to forecast. Both Ortega and Castellano (Intidex CEO) both believe that Zara needs to be able to respond very quickly to the demands of target customers as their taste in clothes is hard to predict, difficult to influence and changes very rapidly. Zara’s vertical integration allows the company to constantly introduce new items into the marketplace with very short lead times.

The company can design, produce and deliver a new garment and put it on display in its stores with a 15 day turnaround. No other competitor has this capability. While Zara introduces over 11,000 new items in a given year its competitors introduce a mere 2,000 to 4,000. Vertical integration allows Zara the leverage to be super responsive to the eclectic tastes of its customers. Zara does an outstanding job of matching demand to supply. Its sells only 15-20% of its clothes during clearance sales at an average discount of 15% compared to the industry average of 30-40% at a discount of 30%.

Zara produces complicated products in house and outsources the simple ones. Men’s dress shirts for instance are outsourced because of the stable demand in these products. The dress shirts are outsourced to China with a four month lead time and to Turkey with a two month lead time. Zara purchases most of its undyed fabrics on the external market, although it owns a few textile fabrication facilities. It also outsources the sewing of the fabrics into garments to a network of small local workshops in Galicia and northern Portugal that guarantee quick turnaround times.

Governance Structure: Ortega and Castellano both wanted to take advantage of the intelligence and trust the judgment of employees throughout the company rather than relying on a small set of decision makers. The company thus has a decentralized structure. Store managers are able to pick and choose what products will be sold at their stores. Products are designed and created by a team of “commercials” rather than a small elite team as many competitors have. These in turn are influenced by store product managers, who are the main interface between stores and the head office in La Coruna.

They determine what kind of clothes sell well, what the trends are, and what would most likely sell. There are other “commercials” who decide what assortment of clothes to offer each store. Decisions are not reviewed by any higher level managers and there is a culture of autonomy. Zara believes that second guessing would make the company less responsive and would compromise its emphasis on decentralized decision making. How does Zara’s situation support, or not support, its supply chain strategy?

Refer to specific details of Zara’s operations and concepts developed in Hayes et al (see session notes for a summary of Hayes). Zara’s supply chain strategy is to control the entire supply chain from product creation to selling the product to the final customer at the retail stores. Amancio Ortega believes that in order to be successful in this industry you need to have five fingers touching the factory and five fingers touching the customer. He knows that retailing and manufacturing have to be closely linked in the apparel industry due to the difficulties of trying to predict consumer demand.

Zara is chic fashion meant to be worn ten times. Zara’s target customers are young, fashion conscious city dwellers, and their tastes in clothing change rapidly and are difficult to predict and extremely hard to influence. Other companies have tried pushing their products and setting trends through advertising, but this often resulted in “fashion misses”, while Zara, through its responsive supply chain strategy, is able to produce and deliver styles that capitalize on what the customers are looking for. Thus, Zara is able to accurately match supply to demand.

Zara’s situation supports its supply chain strategy due to the nature of the apparel industry. Products in this industry tend to have very short life cycles and fashion trends are constantly changing. The nature of the industry demands a very responsive supply chain. To prove this point, we can see that in general, after a product is pushed by most retailers during a season, they need to hold clearance sales at the end of the season to sell through any remaining inventory that wasn’t purchased in order to make room for new products for the next season.

Retailers typically sell 30-40% of their products during these sales at a discounted rate of 30%; Zara on the other hand only sells 15-20% of their products at a 15% discount. Also, because Zara is so immediate to matching demand to supply, it’s able to collect 85% of the full ticket price on its retail clothing, while the industry average is 60-70% According to Hayes et al, a key decision for a firm is which activities should be conducted in house and what should be outsourced to an outside supplier.

Zara conducts key activities in house, such as designing products and selling them at the retail stores. However, it does do some outsourcing, but only when the situation calls for it. Zara is able to outsource production of certain items that have very stable demand and it is also able to outsource sewing activities to small local workshops that have a very quick turnaround. These decisions do not jeopardize Zara’s responsiveness. Is Zara organized properly with respect to vertical integration or outsourcing?

What changes, if any would you recommend? State the reason for your recommendations. Zara is organized properly with respect to vertical integration and outsourcing. Vertical integration gives Zara the leverage against its competitors. Zara is able to create products on the fly, modify and change production midstream. Zara’s operations are organized in a way that capitalizes on having a responsive supply chain system in an industry that demands one.

It understands that in the apparel industry you need to be as proactive as possible and very responsive to consumer demand because people’s tastes are constantly changing and it is difficult to predict what will sell. Zara’s retail concept depends on the regular creation and rapid replenishment of small batches of new goods. Through its responsive supply chain and quick communication, it is able to constantly offer new and changing assortments to customers and thus customize their assortments to capitalize on the current fashion trends.

Its organization allows it to reap higher margins through better sales because Zara is better able to match supply to customer demand. We believe that Zara should not change its structure. It is organized exactly how it should be. It has a proven success rate. The only changes that should be considered are with regards to technology. A company of Zara’s caliber needs to more forward and take advantage of new IT capabilities available that would be in line with its overall strategy.

By upgrading and standardizing its IT infrastructure Zara’s supply chain could potentially increase speed and decision making without compromising stability. Upgrading IT could facilitate returns, eliminated the need to carry floppy disks around to tally up sales from individual POS terminals, make it easier to do store transfers and submit inventory replenishment orders. Real time information would be available and inventory checks could be done through the system as apposed to having a store clerk do an inventory check by calling the other store.

An internal intranet site would offer real time communication and feedback from its store managers to La Coruna and throughout the whole supply chain. An option for Zara could be to outsource their IT as Zara’s core competencies are not in IT. However, long term strategic agreements would have to be put in place between the parties. An updated IT infrastructure would add functionality and and would make Zara even more efficient and responsive. As a company that is growing and expanding its presence all over the world, Zara needs to ensure that its IT infrastructure is able to grow with it.

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