Effects of Hybrid Strategy on Zara UK
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1. 1. Rationale for Chosen Topic
To achieve competitive advantage in a highly competitive market such as a fashion market is not an easy process, what is more difficult than that is to achieve sustainable competitive advantage in like this market which also describe as fast changeable and unpredictable market. This opens the field to know about the competitive strategies, and to choose the best strategy among them to achieve the objective of sustainable competitive advantage.
This research focuses on the Generic strategies which suggested by Michael Porter in 1980 who set three different strategies which are the low-cost leadership strategy, differentiation strategy, and focus strategy. Porter (1980) argued that these strategies are the road map for the companies to achieve a sustainable competitive advantage, however he warned that the combining two of these strategies will put the company in a position defined by him as ‘Stuck in the Middle' and therefore will not lead a high performance. However, other researchers in the strategic management field such as Miller and Dess (1993), Kekre and Srinivasan (1990), Faulkner and Bowman (1992) and Hill (1988) suggest that combination of two strategies would let the companies achieve a high performance, and achieve sustainable competitive advantage.
Recognising the debate in the academic world suggests exploring whether application of “hybrid strategy” will help companies in achieving sustainable competitive advantage or not. To do this, Zara UK is chosen since it has the highest contribution to the overall revenues of Inditex, the mother company, which was accounted 65.6% of the whole sales (Inditex Annual Report, 2008).
1. 2. Research Background
Inditex group is a Spanish company and is one of the largest fashion distributor groups in the world. The group was established in 1975 and opened its first branch in Coruña city in Spain (Inditex, 2009).
The international expansion of Inditex started in 1988 by openings its store in the UK which is now the fifth largest market of the group after France, Italy, Portugal, and Germany in terms of number of stores (Inditex Annual Report, 2008).
In 2009, Inditex operates in 73 countries through 4430 stores and among those 1340 are under the name of Zara. In 2008, the number of Zara stores in the UK was 63 (Inditex, 2009).
“Inditex” consists of six subsidiary companies working in the retail industry and one of them is Zara which generates the highest income in overall revenues of Inditex. Zara is the most internationalised business unit of the group and therefore has the largest of chain (Inditex, 2009).
1. 3. Research Aim
Ultimately, this research aims at exploring whether hybrid strategy helped Zara UK in creating sustainable competitive advantage or not. Reaching this aim requires conducting external and internal analyses. Applied tools and their justification are given below:
The external environments which surround Zara are analysed by using:
- PESTLE tool to analyse the impact of Political, Economical, Social, Technological, Legislations, and Environmental factors on Zara to explore weather it would formulates opportunities or threats.
- Porter's Five Forces model to analyse the competitive environment which surrounds Zara in order to explore the market conditions in fashion industry.
- Key Competitors' analysis in order to examine the key competitors of Zara in the market to identify their similarities and differences as well as the business process in Zara.
The internal environment of Zara is analysed by using:
- Values Chain analysis in order to explore how efficiently Zara uses the value chain system to create value for its customers.
- Financial analysis in order to analyse its financial performance from 2006 until the first half of 2009.
- Resource-based View analysis to determine core competences, and capabilities of Zara.
- Grand Strategy analysis to identify the grand strategy used by Inditex and to examine the effectiveness of this strategy.
- Competitive Strategy analysis in order to determine the competitive strategy used by Zara in achieving sustainable competitive advantage and analyse the effectiveness of this strategy.
- SWOT analysis in order to determine the internal strengths and weaknesses of Zara as well as the opportunities and threats that Zara faces due to forces exist in external environment.
It is believed that after conducting these analyses, it would be possible to reach a conclusion about whether hybrid strategy is effective or not in achieving sustainable competitive advantage in the UK fashion industry.
2. LITERATURE REVIEW
2. 1. Competitive Strategy
Literature in competitive advantage strategy is a well developed topic and many scholars such as Milles and Snow's (1978) Mintzberg and Quinn (1992) Faulkner and Bowman (1995) introduced several models to explain how companies can achieve sustained competitive advantage. However, one of the most famous and effective model in this field was Michael Porter's framework which was introduced in 1980. in this framework which is called ‘Generic Strategy', he mention that the firm can achieve competitive advantage from three different bases. According to Porter (2004):
“The two basic types of competitive advantage competitive advantage combined with the scope of activities for which the firm seeks to achieve them lead to three generic strategies for achieving above- average performance in an industry: cost leadership, differentiation, and focus. The focus strategy has two variant, cost focus and differentiation focus”
Having briefly described the Generic Strategies, it is necessary to look at them in details.
2. 1. 1. Cost Leadership Strategy
To achieve competitive advantage according to Porter (1980, 2004), the company has to decrease their cost, and to achieve cost advantage below its competitors in the market. By doing this, a company is able to lower prices and performs above the average performer in its industry thanks to the fact that the cost for the company will be less than its rivals.
The company can succeed in its cost leadership strategy if it focuses in decreasing the overhead cost, uses a low-cost product design and automated assembly and pursuits economies of scale and so on. However, David (2005) highlighted some risks associated with applying this strategy. According to him, competitors may imitate this strategy and increase the competition and make a head on collusion, which will drive the overall profit of the industry down (David, 2005).
2. 1. 2. Differentiation Strategy
According to Porter (1980, 2004), to achieve competitive advantage, the company has to seek to be unique in its industry. In another words, gaining a competitive advantage can be achieved by increasing the willingness of customers to pay for the company products or services that the company sell (Barney, 2007).
According to Gaik (1993), in differentiation strategy, the customers look at the attributes of the products other than looking at the price. To apply this strategy, the firm has to differentiate itself in terms of its products for instance by focusing on the quality of the products or in terms of provided service by focusing on the delivery system by means of decreasing the lead or delivery time. Moreover, the company has to focus on the promotion and the packaging of products. The firm can also differentiate its products by competing on both cost and differentiation, by decreasing the cost and by adding value at the same time. One of the tools for achieving both strategies is managing the supply and value chain systems and designing, structuring, modifying and operating efficiently to add value to the products at the lowest cost possible.
However, David (2005) mentioned that the risks of this strategy might be that the product or the service may not be valued enough for the customers to buy it at the price of which the company desires and/or that competitors will be able to imitate the products or services. Therefore, if a company seeks to be successful and sustain its advantage in the market, it should pursue a creative strategy which makes difficult for competitors to imitate and replicate the products or services.
2. 1. 3. Focus Strategy
According to Porter (1980; 2004), focus strategy is different than other strategies this is because this strategy aims to narrow the competitive scope in the market, requires selecting a specific segment or group and focusing on it by tailoring the strategy to an exclusive and particular market.
This strategy has two variants which are differentiation focus and cost focus. Differentiation focus aims at differentiating a segment or a group by satisfy their unusual needs and the in Cost focus, the firm seeks to achieve low-cost advantage in order to provide the products at cheap prices and the concentration is made only for a small number of the market segments. However, the risk of these strategies is that competitors can easily recognise the success and may copy them (David, 2005).
Porter (1980; 2004) mentioned that each strategy is fundamentally different from the other strategies in terms of creating sustainable competitive advantage. Therefore, a company has to make a choice among these strategies and does not combine them.
Otherwise, it will lead the firm to get “stuck in the middle”. He also stressed that being ‘all things to all people' is the recipe for strategic mediocrity and if the performance is below the average, it often means that a firm has no competitive advantage at all (Porter, 1980; 2004).
However, according to Porter (1980), there are three circumstances where a firm can combine two strategies given in the Generic Strategies framework: First, when all of the other competitors are stuck in the middle; second, when the cost is strongly affected by share or interrelations and finally, when a firm pioneers are a major innovation. Also Porter (1980) mentioned that even under these circumstances, a firm would not be able to compete with a firm which pursues either differentiation, cost leadership or focus strategies. Therefore, according to Porter (1980), a hybrid strategy is unlikely to achieve sustainable competitive advantage.
2. 2. Empirical Studies
Porter's framework both supported and criticised by the scholars. For instance, Dess and Davis (1984) and Kim and Lim (1988) supported Porter's claims and found that companies have to employ only one of the Porter's generic strategies if their aim is to achieve higher performance.
On the other hand, several authors such as Miller and Dess (1993), Kekre and Sriniva-San (1990), Faulkner and Bowman (1992) and Hill (1988) criticised Porter's claims and provided evidence that “the combination between the cost leadership and the differentiation strategy” would help the company to achieve high performance in the market.
For example, Miller and Dess (1993), Kekre and Sriniva-san (1990), Faulkner and Bowman (1992) and Hill (1988) demonstrated that it is not necessary to choose between one of the competitive advantage strategy in order to achieve a high performance. They argued that a company may achieve high performance against its competitors by combining differentiation strategy and cost leadership strategy. This is because integration of these strategies allows being flexible against the changes in the environment.
Barney (2007) mentioned that a company can use low-cost and product differentiation strategies simultaneously and this is often expected to create sustained competitive advantage.
Moreover, Miller and Dess (1993) mentioned that conceptualisation of Porter's model enables the researcher in a strategic management field to explore the viability of the Hybrid strategy. Miller and Dess (1993) gave an evident of Toyota and Lincoln Electric companies as highly successful companies which are applying the Hybrid strategy.
Moreover, Wright et al. (1990) also proved that use of Hybrid strategy in apparel industry brought higher financial performance.
In addition, Hall (1980) explored that use of Hybrid strategy is the main reason of high successful of firms in low-profit industries.
Murray (1988) proposed that firms can use hybrid strategy successfully by focusing in two areas: areas of production and functional areas. In terms of production areas, Murray (1988) threw an argument based on the research conducted by Hayes and Weelwright (1984) and Schonberger (1982) and asserted that achieving greater market responsiveness depends on higher product quality. Using techniques such as Total Quality Control (TQC) and its integration with Just In Time (JIT) for inventory control and purchasing procedures are key to the success. Benefits would be reduction of cost as use of these techniques will be resulted in higher customer satisfaction. As a result, the conflict between the production and the marketing functions can be eliminated and therefore cost minimisation and price maximisation strategies can be implemented together.
In terms of functional areas, conflict resolution techniques can be applied which will minimise the conflict to a point that permits the firm to pursue cost leadership and product differentiation strategies simultaneously.
More recently, Grant (2005) pointed out the changes occurred in the management techniques and the industries and stated that the market leaders in most industries are the firms whom are able to maximise the customer appeal by reconciling effective mixture between differentiation and low cost. The examples of these firms include Toyota, Dell and Canon. More importantly, he underlined the fact that the success of these firms relies on the implementation of new management techniques such as Total Quality Management (TQM) of which exploded the myth that there is a trade off between high quality and low cost.
Grant (2005) also mentioned about the role of the innovation in the manufacturing technology and the manufacturing management in producing simultaneous increase in productivity and quality.
Thompson et al. (2005) called hybrid strategy as the ‘best-cost provider' and stressed that in order for a firm to gain a competitive advantage among the competitors; it should have a lower cost than its competitors and should position its products with good-to-excellent attributes. They also stated that this strategy can be effective in markets where the buyers are sensitive to the price and the value and then the firm can position itself near the middle of the market by providing customers with either a medium quality products at below average price or by providing with high quality products at an average price. However, they warned that the firm which does not have the capabilities to integrate the upscale product attributes at lower prices compare to its competitors, the hybrid strategy would be ill-advised for them.
3. RESEARCH METHODOLOGY
3. 1. Chosen Topic
The “Hybrid Strategy” has been challenged by many strategic management scholars who argued that this strategy can be harmful to the companies. However, substantial amount of research showed that several companies like Toyota, Dell Inc, etc. have achieved a superior success. In order to assess whether this is true or not, this study examines the strategy of Zara in the hybrid strategy framework to determine whether it is successful or it “stuck in the middle”.
3. 2. Research Question
In the light of the ultimate aim, the research question of this study is to what extent Hybrid Strategy can achieve a sustainable competitive advantage for firms in fashion retail industry in the UK. The research focuses on Zara UK which is one of the important business units of Inditex Group.
3. 3. Research Technique
The dissertation is qualitative in nature. The exploration is based on data obtained from secondary sources of which include information that is already collected for other studies and documents.
The main secondary sources used in this study include reports and documents such as annual reports, press releases and other documents published by the company as well as official statistics and other publicly available data collected by research institutions. The research did not attempt to collect a primary data due to barriers in communicating with the company as well as time limitations.
3. 4. Advantages and Disadvantages of Use of Secondary Resources
The main advantage of using secondary data is embodied in saving time and resources.
There are some disadvantages associated with the use of the secondary data in this particular study. First of all, collected information does not answer the research question fully. However, they are good enough to be relied upon to reach a conclusion.
Secondly, secondary data has reliability issue as there are many resources but in some cases it is not possible to determine whether it is valid or not and this limits the accuracy of the analysis based on secondary data.
To overcome these limitations, the coverage of the information was enlarged and multiple sources were used to improve the reliability of the data.
3. 5. Quality of Resources
Zara is a leading company in the industry and have competitors. Therefore, before using the data obtained from secondary sources, it was assessed in terms of quality in order to verify whether the data is consistent with the purpose of the research and whether it is reliable and up-to-date. Quality standards were determined by identifying directions of bias in the resources by means of attempting both biased and unbiased sources, by checking the background and reputation of the provider and their level of education, and experience in their professional career. The assessment also considered the target audience in terms of their knowledge as a bias direction.
The resources were also assessed in terms of their relevance to the research, their readiness and usefulness in achieving targeted quality and in the analysis of anticipated results.
3. 6. Case Study
To enrich the quality of the research particularly in terms of its practicality and its rationality, it used empirical inquiry methods for analysis to investigate the contemporary phenomenon within Zara's real-life context. Therefore it has boundaries between phenomenon and context aimed at providing clear evidence by using multiple sources to assure quality and objectivity. In developing and conducting this study, the researcher was influenced by the case study produced by Ghemawat and Nueno and published in 2003. In their study, the authors explained the rapid changes occurred in the fashion industry, by focusing on the global apparel chain Zara and its structure from the producers to the ultimate customers.
Although this study influenced by the Ghemawat and Nueno's (2003) work, it did not depend on the case because of two reasons. First of all, the case study focuses on the corporate level and the mother company and therefore did not include the strategic planning techniques and analysis to explore the advantages of using hybrid competitive strategy. Having said that, this study made use of information about Zara provided by the case study in developing the strategic analysis.
Secondly, the case study was prepared in 2003 and the facts given in that study was outdated to some extent. As this paper needs to be based on most recent data particularly for external analysis, financial analysis, current trends in fashion market, it is different than the case study provided by Ghemawat and Nueno (2003).
4. 1. External Analysis
4. 1. 1. Characteristics of Fashion Retail Market
4. 1. 1. 1. Overview of Fashion Retail Market in the UK
The apparel retail market contains three main sectors: the womenswear sector, menswear sector and infantswear sector. According to Data Monitor (2008), womenswear sector consists of retail sale of clothing for girls and women and generated 66.90% of the whole market in 2007 in the UK. The menswear sector consists of retail sale of clothing for men and boys and generated 30.90% of the whole market. And the infantswear sector includes retail sale of clothing for children between ages of 0 to 2 years of age and it accounts 2.20% of the sales generated by the whole market in the UK in 2007.
According to Data Monitor's (2008) report, the UK apparel retail market has the highest percentage of revenue in the Europe market value with 24.1% in 2007. The clothing market in the UK grew significantly between 2001 and 2005 when the total spending on clothes in the UK in 2005 reached at £38.4 billion. Women's clothing sector showed the highest growth with 21% and the total value reached at £24 billion in the same year.
More interestingly the clothing market has been growing even though the recession which hit the UK in October 2007 and affected most of the UK sectors.
According to the National Statistics (2009), the sales volume in retail sector in June 2009 was 2.9% higher than in June 2008. In the non-food sector, the sales increased by 2.4% and the largest increase occurred in textile, clothing and footwear by 11.3%.
Fashion is a part of the clothing and textile industry and the fashion industry is characterised by the rapid change and the high competition particularly after the year 2005 because of permission of unrestricted access of all members of the World Trade Organisation (WTO) to the European (Lopez and Fan, 2009). This created a big opportunity for the multinational companies to invest in the UK market. Moreover, the rapid change in technology has given the chance for companies to reduce their cost and to increase the quality of their products. In addition, companies which are searching to decrease their costs started to outsource their production with the companies from the countries with low-labour cost such as China, Singapore. This led the competition in the clothing industry to increase and as the competition increased, the prices went down; as a result a market for ‘Discount Apparel Retail' emerged and started to grow (Datamonitor, 2008).
However, in the fashion industry, customers do not consider prices but look at the quality, variety, design and the availability of the products. Due to characteristics of the market, no particular group or company dominate the market since the market is driven by “customers”. In addition, due to increased competition, switching cost for the customers also diminished. This resulted in changes in the direction of competition. Today, the rules of the game in the clothing market have changed and meeting with customer expectations turned into achieving fast fashion production (Walters, 2006).
Bruce and Daly (2006) describe today's fashion industry in the following way:
“In fast fashion, buying activities play a crucial role through supplier selection and product decision-making, and indeed, buying is arguably changing from purely operational to much more strategic”
And according to Walters (2008), the retailers in “fast fashion” can satisfy consumer expectations by the speed, variety and style of the products and by selling the products in low prices.
4. 1. 1. 2. The Nature of Fashion Market
According to Christopher et al. (2004), there are four elements which determine the characteristics of the fashion market. These are:
- Short life-cycles - products have short life, it is often for a moment when designs catch the style. As a result, the period of selling products is very short and seasonal: it could months or even weeks.
- High volatility - the demand in the fashion market is rarely stable; the demand may be influenced by several factors, such as the weather, movies or even footballers or pop stars.
- Low predictability - it is not easy to predict the desire of the market in the fashion industry, because of the volatility of the demand. Therefore, it is very difficult to predict total demand within a period accurately even week-by-week or item-by item.
- High impulse purchasing - the availability of the products increases the need for the customer to buy it. Consumers' decision making for buying fashion clothes occur at the point of purchase.
4. 1. 2. 3. Key Success Factors for Fashion Industry
To conclude, as the fashion products have a short life cycle and as it is difficult to predict the market demand due to unstable demand as well as characteristics of fashion market, several key success factors were identified. These are outlined below:
- Price: Prices should be affordable for the customers.
- Quality: Fashion products should have a good quality.
- Quick Response: Companies should respond to market demand quickly by launching rapidly.
- Design: Should match with the current fashion.
- Availability: Products should be available on the shelves of the store as long as there is demand.
- Variety: Companies should provide variety of products for the customers.
4. 1. 2. PESTLE Analysis
PESTLE framework provides a comprehensive list of environmental influences on the possible success or failure of particular strategies (Johnson et al., 2008). PESTLE framework contains six factors, which are the external factors that have effect on companies. It is argued that if companies major these factors they can formulate strategies from the opportunities or be prepared for the threats.
4. 1. 2. 1. P - Political Factors
Since 2005, no restrictions left on all import in the textile and clothing industry. This gives unrestricted access to all members of the WTO to the European.
This would formulate an opportunity for Zara as it imports products from outside the UK with low cost without any restrictions. However it could pose as a threat for Zara, as the competition in the market can be increased especially by the companies which have products with lower prices.
4. 1. 2. 2. E - Economic Factors
Most recent recession hit almost all countries in the world, including the UK. As a result of global recession, the unemployment rate in UK started to increased. According to the National Statistics (2009), the unemployment rate was 7.6% for the first quarter of 2009 and it was the highest rate since 1981.
The impact of recession in the UK is a threat for Zara, as the number of unemployed people increase, their expenditures decrease. Moreover, for employed people, current economic conditions bring uncertainty and therefore they tend to decrease their expenditures and increase their saving. This could affect Zara's sales in an adverse way since unemployment rate has been on the rise.
Moreover, as a result of economic recession, the Gross Domestic Product (GDP) has been declining in a dramatic way in the UK. According to the National Institute of Economic and Social Research (2009), the GDP in the UK fell by 0.3% ending in July 2009; in addition, according to Financial Times (2009), it was the worst quarterly performance since 1958. However it is predicted that it rose by 0.2% starting from August.
Decline in the GDP posed a threat for Zara as it indicates decline in consumers' income.
In terms of exchange rates, the situation is also not that bright. According to Economy Watch Website (2009), since December 2008, the Great Britain Pound (GBP) lost value at a rapid rate and reached a 24-year low of $1.35 per £1 in January 2009.
The impact of weakening of the pound against euro and dollar is pushing up the prices of imports and therefore forces retailers to increase their prices. According to Financial Times (2009), this would formulate a threat for Zara as the retailer will need to increase its prices. However, depreciation of GBP would be an opportunity for the mother company Inditex because of the strong Euro against the GBP. More interestingly, despite the recession, the clothing industry in the UK is still growing. In general, the retail industry in UK has grown during 2009 and the growth was predominantly in non-food goods particularly in textile, clothing and footwear stores by 11.3% (National Statistics, 2009b).
4. 1. 2. 3. S - Social Factors
The social factors are one of the most important factors which affect the fashion industry. Culture of the society is viewed as the most significant factor in terms of its effects in fashion since it is different from one country to another, even it might be different in the same country. Moreover, culture changes as time passes and these changes affect preferences in fashion. As a result, predicting changes become difficult since taste of consumes can be influenced by several factors, such as weather, movies, or even footballers or pop stars (Christopher et al., 2004).
The impact of this would be a threat for all companies in fashion industry if they company cannot be able to adapt themselves with ever-changing nature of tastes.
Other thing which might affect fashion preferences is education which triggers continuous searching for knowledge. In the UK, education level is high and it causes fashion preferences change rapidly. This is because, as a result of high education level, the awareness of customers to new areas of experience expands and it increases the interest in and desire for a more fashionable appearance. Moreover, increases in the number of working women let them more confident in their judgments when making decisions about clothing (Kiran et al., 2002).
The increase in population in the UK is also an opportunity for Zara. According to National Statistics (2009), the UK's population increase with an annual growth rate of 0.5% which is about 1000 people per day due to increase in number of births. This means the market for fashion clothing will continue to grow thanks to the increase in the number of customers, particularly in children clothing sector.
UK clothing market is well-developed market and it is growing. According to the research conducted by Allwood et al. (2006), consumers in the UK spent £38.4 billion in 2005 in clothing and of which £24 billion was on women's, girls and infants clothing and £12 billion on men's and boys' clothing. Growing fashion clothing market is an opportunity for Zara, especially in women and girls sectors.
To conclude, it can be said that the impact of the social factors on Zara would be positive as they create opportunity for the company if it quickly responds to the market and the changing in customer preferences.
4. 1. 2. 4. T - Technological Factors
The technology is the corner stone for any company since it helps in decreasing the cost in manufacturing process. Therefore, technological developments stand as an opportunity for Zara as advance technology helps in developing better business process.
In addition to this, technology led to development of new marketing channels. The internet is a good example for such development. Recent figure showed that online retailing has been increasing particularly in the UK. According to IMRG Cap Gemini (2009), e-retail sales index showed an increase around 12% in the second half of 2009 and in the first half o 2009, UK consumers spent £22.9 billion in their online purchases. This suggests that increase in online retailing transactions stands as an opportunity if Zara starts online retailing.
4. 1. 2. 5. E - Environmental Factors
Watson (2001) argued that as much as organic food products have become popular, it is inevitable that consumers will extend their scope of purchase to the organic textiles and this trend is already started as some retailers such as Marks and Spencer introduced range of clothes made with organic cotton.
Moreover, the British government started a campaign to tackle the environmental impact of a fast fashion culture with the aim of creating sustainable environment since high amount of clothing end up in landfill every year (BBC, 2009).
As a result of the pressure on environmental issues, Inditex implemented a framework called the Environmental Management System which is the pursuant to ISO 14001 standards. This is a good opportunity for Zara because the company can now position itself as a socially responsible for environment. In addition, emerging trend for organic cotton can be an opportunity for Zara to strength its image and help the company to attract customers who prefer made with organic materials.
4. 1. 2. 6. L - Legislative Factors
The new legislations in environmental issues which have the intention to tackle the environmental impact of a fast fashion culture and to create a sustainable environment would stand as a threat for Zara as their products are the main subject of the new campaign launched by the UK government.
4. 1. 3. Porter's Five Forces Analysis
4. 1. 3. 1. Threat of Entry
Threat of entry indicates the entry barriers to an industry. Since there is several numbers of clothing companies in the UK, it is a highly competitive market. This makes difficult for the new entrants to compete in this market as there are some barriers to enter and compete in the market.
One of the barriers is the need for large sum of financial resource to compete in the market as entering requires building both tangible and intangible assets which can be achieved by investing in advertising, customer service to build a customer loyalty as well as investing in physical facilities for stock holding and distribution.
Moreover, it is difficult for the new entrants to enter clothing market due to price wars among existing market players. Furthermore, as a result of high competition, switching cost for customers diminished of which makes them to move from one retailer to another in the market.
On the other hand, the UK fashion clothing market has become very attractive for the foreigner companies and one reason for this is the depreciation of GBP against Euro and Dollar and other reason is the removal of trade barriers after the WTO agreement in the clothing trade between member countries. Finally, foreigner companies are attracted to enter in the UK market because of the size. According to Datamonitor (2008), the UK apparel retail market in 2007 generated the highest revenue with a 24.1% of the overall European market value. And as this market is still growing despite the recession, this means it is highly lucrative.
When all these factors are considered, it can be said that threat of entry to the UK fashion retail market is low.
4. 1. 3. 2. Threat of Substitutes
As there is no substitute for the clothes, threat of substitute is low however, environmental friendly clothes seemed to be the future substitute.
4. 1. 3. 3. Power of Buyers
The power of buyers in the clothing industry is high because there is no switching cost due to high competition in the market.
4. 1. 3. 4. Power of Suppliers
The suppliers in the clothing marker are the manufacturers and the wholesaler. As there are too many suppliers in the market, the switching cost for the retailers is not high and as the competition between suppliers is high, many of them outsource their production from countries such as China where the production cost is low and since one fifth of the annual consumption of the UK clothing and textile products is manufactured in the UK (Allwood et al., 2006), the power of suppliers in the clothing and apparel market is low.
4. 1. 3. 4. Competitive Rivals
According to Johnson et al. (2008), the first four competitive factors affect competitive rivalry in a market. When this assertion is taken into account and as there is low barriers to entry, low switching cost between suppliers and low threat of substitutes, it can be said that the competitive rivalry in the market is high.
4. 1. 4. Key Competitors Analysis
4. 1. 4. 1. Hennes and Mauritz (H&M)
Established in 1947 in Sweden, H&M is the closet competitor for Zara. It is a multinational company which is located in 36 with 1827 stores around the world according to the H&M Group Sales Report (2009). The UK was one of the first countries to where H&M expanded internationally. As of end of the year 2008, H&M have 146 stores in UK and is the fourth largest clothing retailer in terms of number of stores ad well as its sales. In 2008, the company developed a plan to penetrate in the UK market by pursuing the concept of “offering fashion at the best prices for women, men, teenagers and children” (H&M Group Sales Report, 2009).
In order to cater for a different customer groups, in 2007, H&M introduced a new concept for its brand strategy and built a new multi-brand portfolio called “the COS chain” for its operations in the UK market. According Moreau (2008), with this new portfolio, H&M aims to position itself for a higher price - smaller market segment compare to its standard H&M stores. In order to decrease its cost, H&M outsourced all of its production to 700 suppliers from low-labour cost countries and most of them are Asian countries such as China and Singapore (Lopez and Fan, 2009).
H&M recognises that the location of the store is one of the key factors of their success in the business model and therefore the company locates their stores at the best shopping areas. H&M also relies on advertising and believes that it is the strongest communication tool to promote their products. According to Moreau (2008), H&M launched the home shopping and internet retailing in Germany and next market for these offerings is the UK market.
4. 1. 4. 2. Gap, Inc.
Gap is an American brand which established in 1969. Gap is one of the largest retailers in the world, with 3,100 stores in six countries including USA, Canada, UK, France, Japan and Ireland. Gap is expanding its international presence with franchise agreements in Asia, Europe, Latin America and the Middle East. In addition to this, it has other five brands which are Forth & Towne, Old Navy, Banana Republic, Piperlime and Athleta. Gap, Inc. offers clothing, personal care products and accessories and focuses on several segments which include women, men, children, and babies.
Gap, Inc. opened its first store in the UK in 1987, and has 134 stores under the name of Gap, Gap Kids and Baby Gap. Gap, Inc ended its operations in the Germany market in 2004 after 10 years of operating in this market as a result of the unsatisfactory results in sales. In 2008, the international sales of the company accounted for 19.2% of its total turnover with a value of $2.595 million (Gap, Inc., 2008).
At the time when Zara positioned itself in the UK market as a fast fashion clothing brand with premium quality and good prices, it took over Gap's market share when it was the largest clothing and footwear retailer in the UK. In August 2008, the quarterly results of Zara showed that the retailer's sales was exceeding EUR2.2 billion, while Gap's quarterly revenues during the same period fell below EUR2.2 billion (Moreau, 2008).
4. 1. 4. 3. M&S
M&S was established in the UK in 1884 and is one of the leading retailers in the UK market. M&S' concept is to provide customers with stylish, high quality, great value clothing and home products, as well as outstanding quality foods, responsibly sourced from around 2,000 suppliers all around the world. M&S has 600 stores in the UK and 285 stores in 40 countries. M&S is planning to expand its international business through franchising and partnerships. M&S offers womenswear, menswear, kidswear, lingerie and homeware through its stores as well as its online shop. The clothing and home ware sales of M&S accounted for 49% of its business and 51% are generated by food sales (M&S, 2009).
Until the late 1990s, M&S was highly successful when its profits and market share are considered. However, M&S faced with problems in 1998 during its European expansion programme. The problems of the company occurred at the bottom-end because of the competition from discount stores and supermarkets which offered essential clothing but at low prices (Collier, 2007).
In 2008, M&S faced challenges in the UK market, the reason for that was the most recent financial crises. According to its financial report (2008), the group's revenue increased only 0.4% to just over £9billion. Its UK sales were down by 1.7% but its international sales increased 25.9% at the same period which is believed that it is because of the success in integration of its acquisitions in Greece and the Czech Republic.
Adjusted operating profit of M&S was down by 29.4% to £768.9 million which shows that a reduction in its gross margin by 1.7% due to growth in its cost by 4.3%. Profit before tax of M&S was £604.4 million down by 40.0% and adjusted earnings per share was 28.0p down by 35.8%.(M&S, 2008).
4. 2. Internal Analysis
4. 2. 1. Value Chain Analysis:
Porter (2004) argues that a firm can gain a competitive advantage by performing its strategically important activities more cheaply or better than its competitors, and by steaming up its discrete activities in designing, production, marketing, delivering and supporting the products.
Porter (2004) also argues that gaining and sustaining competitive advantage depends on understanding not only a firm's value chain but also of how the company fits its overall value system.
Porter, who developed the concept of the value chain in a relation to competitive strategy, divided the value chain activities into primary activities which consist of five generic categories i.e. Inbound Logistics, Operations, Outbound Logistics, Marketing and Sales and Service, and supporting activities which consist of four generic categories i.e. Procurement, Technology Development, Human Resource Management and Firm Infrastructure.
Zara is an example of a company which exploited the value chain to gain competitive advantage. The company is the designer, manufacturer, distributor and the retailer for women, men and children of the fast fashion clothing, Zara aims to achieve the customer satisfaction by introducing variety of fashion products at affordable prices.
Zara introduces more than 11,000 new styles each year and puts them in stores within three weeks from the start of the concept. This enabled Zara to optimise and exploit the critical linkage between the customer service and product design. The effectiveness of the strategy followed by Zara can be found in its impressive financial performance - 39% return on capital employed, 24% revenue growth and 16% earnings before interest and taxes (Van Mieghem, 2008).
According to Diaz (2005), the life span of a fashion trend was one year in 1998; by the year 2000 it reduced to 5 months and nowadays it is measured by weeks. It is obvious that in order for a company in the fashion industry achieve competitive position, it should quickly respond to the changes.
One distinctive feature of the value chain system of Zara is its agility. In other words, flexibility and quick response to the market demand is the key factor in its success. Design-to-delivery process is 12 times faster in Zara compare to its competitors. With shorter lead times, Zara can ship a greater variety of goods more frequently (twice a week compared with once every 12 weeks) than many of its competitors (Jin and Moon, 2006). This led Zara to provide its products into the hands of customers faster than its competitors, which is the critical reason for having a competitive advantage in the market, particularly in fashion industry as it changes rapidly.
Zara has the flexibility in the production system thanks to the vertical integration with the manufacturing part of the retailing. The company started its vertical integration activities in 1980's and its efforts were accelerated during 1990s during the implementation of JIT system in Zara factories. The company cooperated with Toyota during this process and became one of the first examples of its kind in Europe (Ghemawat and Nueno, 2003).
Zara integrated its supply chain, both upstream and downstream, vertically in a way that it developed good control on all manufacturing and selling stages from fabric procurement to manufacturing, from logistics to retailing.
Whereas Zara's close competitors H&M and Gap, Inc preferred downstream vertical integration and therefore outsourced all their manufacturing part of its operations (Moreau, 2008). Zara manufactures 60% of its products via in-home production and the remaining is outsourced by the company. By the integration of overall supply chain, Zara reduced its reliance on a network which is made of desperate and slow-moving suppliers. For instance, Zara stores in Europe are receive fresh merchandise twice a week. On top of that, for Zara, the process of launching a new piece of clothing from sketching to delivery takes about 10 to 15 days on average (Keenan et al., 2004).
The integration of overall supply chain system gives Zara very significant competitive advantage among its competitors particularly in tackling with uncertainty in consumer demand, product proliferation, achieving flexibility in responding changing customer tastes as quickly as possible and producing products with higher quality. It is evident from the fact that in 2003, H&M's attributed sales slumped because of unusual cold weather after a very hot summer. However, H&M did not have room for reaction because of the need for long lead times of goods from Asia to its stores whereas Zara was able to react quickly to the changes in the market (Financial Times, 2003).
On the other hand, the cost of keeping in-house production for Zara is more than those which outsource their manufacturing processes in low-cost labour countries like China, Singapore. Due high cost of in-house production, Zara fails to gain an opportunity in achieving economies of scale like its competitors did.
In terms of logistics and distribution, in Zara, delivery of products to the stores made twice a week and each delivery includes new models, thus, the offerings of Zara to its customers refreshed frequently (Inditex, 2008). The logistic system of the company is based on software designed and developed in-house by Zara's own teams. With this system, the time between receiving an order at the distribution centre and the delivery of the goods to a store is 24 hours on average for stores located in European and for stores in the US or Asia, the same process is 48 hours maximum. Thanks to the centralised distribution system, Zara successfully decreased the lead time, gained flexibility and therefore reduced its overall cost. Therefore, it can be said that having such distribution system add another competitive advantage to Zara in the value chain.
In terms of promotion, again, Zara has an advantage over its competitors since its promotion activities mostly focus on maintaining store image. In this frame, Zara's budget for advertising is only account for 0.3% of its overall revenues whereas its competitors' are ate 3 to 4% level. Zara mostly runs advertising campaigns at the beginning sales and at the end of seasons (Fan and Lopez, 2009).
In attracting customers, Zara uses its stores. In this context, the company changes about three-quarters of its products on the display almost every three to four weeks. This helps the company in achieving more customer visits. It is estimated that the shoppers visit Zara stores is 17 times a year in average whereas this is three or four times in its competitors (Ghemawat, and Nueno, 2003).
Zara invests significant amount of money to improve its supply chain by using advance technology in clothing manufacturing. In upstream part of the manufacturing, Zara uses new weaving and knitting technologies and CAD/CAM combined with industrial cutting robots which decrease the number of hours and employees in its manufacturing process. Moreover, in the downstream part of production, Zara uses POS technology, bar codes, and modern telecommunications which allow obtaining more data in a faster and reliable way. Zara also uses Vendor Managed Inventory (VIM) which enables having a better inventory management practices and therefore increases the integration between retailing and manufacturing (Diaz, 2005).
Above findings show that design and product development processes in Zara is more up-to-date and therefore different than its competitors. This enables Zara standardised its production in global scale and therefore helps the company to offer latest fashion products in most efficient and effective way.
Zara has a creative design team which consists of designers, sourcing specialists and product development personnel for all kids, men and women lines. The product design is centralised in Spain. In order to deal with the changing market trends, Zara adopts market-oriented approach. This is one the competitive advantages of Zara because the fashion market is unpredictable and to understand the market trend Zara tracks the information and therefore provides quick response to the changes.
In tracking information, Zara uses two methods. In the first method, the designers of Zara travel around the world and attend the fashions shows and trade fairs. They also receive input from a task force of trend-spotters who focus on venues such as university campuses and discotheques as well as other sources of information captured from the TV, Internet, movies and magazines (Capell and Kerry, 2008).
In the second method, store managers are the information providers. They monitor daily selling items and track the current sales trends by looking merchandise of customers. With the advanced IT system, they report their observations to the Inditex's 300 designers who create fashion instantly according to what is needed by consumers (Capell and Kerry, 2008).
What makes Zara more efficient is related to the fact that the production of the company has low rate of product rejection when compared to industry average. Estimates show that the failure rate of new Zara products is 1% and industry average is 10% (Ghemawat and Nueno, 2003).
Other competitive advantage of Zara is the short cycle time in the operation process. This reduces working capital intensity and makes manufacturing of new products easier according to Ghemawat and Nueno (2003). According to the authors, Zara carries out 35% of its product design and purchases of raw material by itself and also undertakes 40-50% of the purchases of finished products from external suppliers. Moreover, 85% of the production is made in-house after the beginning of a season whereas its competitors' figures in this process vary from zero to 20%.
Despite the given strengths and advantages in the value chain of Zara, the company also has several weaknesses. One of the weaknesses is the vertical integration system. Although it is found advantageous, Craig et al. (2004) argue that the vertical integration often leads to inability in gaining economies of scale. This means because of concentration on vertical integration, it is not possible for Zara to gain the advantage of mass production of which provides discount rate in product supply.
Other weaknesses occur due to centralised logistics and distribution system. According to Ghemawat and Nueno (2003), such systems leads diseconomies of scale and the authors argue that although this system works for 1000 stores there is a possibility that it may not work when it comes to 2000 stores.
Other weakness of the company occurs due to fast introduction of new products. It is argued that this would increase the overall cost. In this context, it is underlined that introduction of new lines requires investing in research and development which is also one of the main cost drivers.
Moreover, it is also identified that Zara's efforts to grab continuous change also increases overall cost because achieving this requires developing new production techniques to create different lines which appeal consumers' attention and this involves continuous training of employees in terms of teaching how to use new manufacturing techniques (Craig, et al., 2004).
4. 2. 2. Financial analysis:
The financial analysis is one of the most important tools to analyse the strengths or weaknesses of Zara as it indicates the financial health of the company from the aspect of managers, creditors and investors. Also, it indicates efficiency of using a particular strategy and the stability and sustainability for Zara's performance during the years, particularly during the last financial crises which hit most companies all around the world and worsen their financial position. In order to provide full picture of Inditex's financial position, four financial ratios i.e. liquidity, leverage, activity and profitability are computed.
* Liquidity Ratio: It gives an indication about a firm's ability to cover its short term obligations (Pearce and Robinson, 2009). This ratio can be calculated by dividing the current assets by current liabilities. The results are as follows:
Table 1: Liquidity Ratio of Inditex between 2006 and 2008
The findings indicate that the current assets of Inditex exceed the current liabilities and this was around 36% in 2008. The findings show that current assets of the company have been growing 7% in 2007 and 12% in 2008 which is a good sign as it indicates that the company has elasticity and resilience to bear liquidity risk with its current assets.
* Leverage Ratio: This ratio is used to identify the source of firm's capital- owners or outside creditor. It measures a percentage of total funds provided by debtors over total assets (Pearce and Robinson, 2009). The results are as follows:
Table 2: Leverage Ratio of Inditex between 2006 and 2008
The findings show that the leverage of Inditex was around at 40% level for the last three years. If this ratio increases it indicates that the company becomes risky due to insolvency. On the other hand, it is also known that raising debt is cheaper to some extent compare to raising equity and provides tax advantages. Therefore the general rule is having 50% debt and 50% equity. The findings show that the leverage level is less than 50% and sustaining this level during the last three years. This might indicate that the keeping leverage at this level could be company's strategic policy.
Considering the business activities involved in fashion industry, particularly the fast fashion route, it is certain that utilisation of credit and therefore the leverage is high due to shortness of life cycle of products of which causes high capital turnover. The findings show that Inditex is in good position and its financial position is strong since it uses less debt and therefore has great strength and ability in leverage. It is believed that this is the reflection of good uses of competitive advantages and success in designed strategy.
* Activity Ratio: This ratio is known as asset turnover ratio and indicates the efficiency of using the resources. In other words, it shows how efficiently total assets are employed by a company. This ratio is calculated by dividing sales by total assets (Pearce and Robinson, 2009). The results are as follows:
Table 3: Activity Ratio of Inditex between 2006 and 2008
Asset Turnover Ratio
The findings show that the assets invested have rewarded more than 100% of sales and this trend has been around 135% for the last three years. However, when industry average is considered, the company is not found very competitive. This is because of the inventory held at the end of period was very high. When the offering of the company is considered, it is believed that holding high level of stock is disadvantages since it is very difficult to reduce the stocks in fashion industry.
The reason behind this could be related to having in-house production and possessing high level of fixed assets to make in-house production. If the company has made use of outsourcing, this ratio would be higher as it would appear in the balance sheet as a variable cost. Therefore, although asset turnover ratio indicates effective use of assets, due to high level of stocks held, it cannot be regarded as competitive.
· Profitability Ratios: Profitability of a firm indicates how efficiently the company is managed. To determine the profitability of Inditex, profit margin, return on investment and growth of profits are computed.
Profit margin is also called return on sales and calculated by dividing the net earnings by sales (Pearce and Robinson, 2009). The results are as follows:
Table 4: Profit Margin of Inditex between 2006 and 2008
Return on Sales
The findings show that the company achieves considerably good return on sales as its strategy is based on low profit margin with high volume of sales. Considering the cost of credit which is between 5 and 10%, and cost of capital is generally 10%, it can be said that almost 10% revenues are net profit which is a good sign since the results of the ratio is matching with the sales strategy.
Return on investment is the second profitability ratio which is obtained by dividing total assets by net income. The findings are as follows:
Table 5: Return of Investment of Inditex between 2006 and 2008
Return on Investment
This ratio is important in attracting investors as it indicates how much profit is generated by the total assets of a company. The findings show that Inditex maintains same level of return on investment and has a reasonable risk reward relationship. This gives a financial competitive advantage when it is considered from the aspect of attracting new investors and retaining the existing ones.
Finally, profit growth of Inditex is examined between 2006 and 2008. The results are as follows:
Table 6: Profit Growth of Inditex between 2006 and 2008
Profit Growth Rate
The findings indicate that profit of the company has been growing a very limited pace which is around 0.1%. This trend is not a bad sign but may raise concerns among shareholders in terms of meeting their expectations. Growth of profit is important since it increase confidence among shareholders and therefore demand from potential investors to purchase the stocks of the company. The findings show that sales over the last three years have increased from 60% in 2006 to 62.5% in 2007 and 66% in 2008. The low growth rate of profitability indicates that expenses of the company have been increasing and therefore it is not occurring in the same growth rate as sales. This could be related to following competitive pricing strategy. Overall it can be said that, despite the lower growth rate, the company sustained its profitability over the last three years.
· Financial Performance in the First Half of 2009
According to Inditex (2009), net sales of the group in the first half of 2009 during the period from 1 February to 31 July 2009 is 4,861 million Euros. Net sales of the group increased by 7% compare to the same period in 2008. Gross profit rose 5% to 2,690 million Euros and the gross margin realised at 55.3%. However, net income declined by 8% compared to the same period in 2008 and decreased to 375 million Euros.
4. 2. 3. Resource-Based View Analysis
The aim of this analysis is to identify Zara's strategic advantage by looking at its tangible and intangible assets as well as its capabilities.
* Tangible Assets of Zara: According to the financial statements of Inditex, total assets of the group were 5,742,162 Euro in 2006 and it increased to 7,105,602 Euro in 2007 and to 7,776,646 Euro in 2008. This means the total assets of the mother company increased by 24% from 2006 to 2008.
Zara on the other hand, owns all of its stores and the number of stores has been increasing. At the end of 2009, this number reached to 1,738 which was 1,520 at the end of 2008 and it was 1,361 at the end of 2007. When the UK market is considered, the number of stores was also on the rise since total number of stores in the UK was 56 and increased to 63 in 2008. When compared to its closest competitor H&M, Zara falls behind since H&M has 146 stores in the UK which is more than double of Zara stores in the UK market.
* Intangible Assets of Zara: In this part of the analysis, Zara's brand name, its reputation and accumulated experience are analysed.
In terms of brand name, Inditex's annual report in 2008 indicates that Zara brand reached the 62nd place in the “Best Global Brands” ranking which is done annually by the consultants from the Inter brand. When the value of the brand is considered, it rose up two places over the previous year and valued at 5,955 million Euros. Zara brand name is widely known in 72 countries around the world with its good quality products, affordable prices and the good brand image thanks to the location of its stores which are well-placed in the high streets in the big cities.
In terms of company reputation, Inditex as well as Zara have won several awards in different markets. Some of these awards are listed below:
- In 2009, Inditex awarded with the “Multi-market Retailer of the Year” award during the third edition of the World Retail Congress.
- In 2009, Business Monitor of Corporate Repute elected Inditex as the “Best Repute Company” in Spain for the second time in a row.
- In 2008, the Russian Association of Retail Companies and the World Retail Congress awarded Zara with the “Best fashion product” in the course of first ever Retail Grand Prix.
- In 2007, Zara became the seventh European company with the best financial performance in the annual ranking of Europe's best performing publicly listed companies which had done by European Business Week 50.
In terms of accumulated experience, Inditex has more than 30 years of experience in the fashion retail industry. The first Zara store opened its doors in 1975 in Spain and has expanded the stores internationally in a very short time. This helped Inditex to become the world's second largest clothing retailer at the end of January 2006 (Fan and Lopez, 2009).
When the UK market is considered, the entrance of Zara is dated back to 1998 and today it has 63 stores in this market. However, H&M exists in the UK market since 1976 and the UK was the second international market for H&M after Norway. Moreover, M&S has been operating in the UK market for 125 year and UK market is the main market of the company. In 2008, M&S generated 90.1% of its revenues in this market. Furthermore, M&S is considered as the UK's largest clothing retailer with 10.7% market share according to M&S's Annual Report in 2008. Despite having less experience in the UK market, Zara is doing much better in expanding international markets particularly in Europe and Asian.
· Core Competencies of Zara: The main and distinctive core competency of Zara is providing products with affordable prices with good quality in real t
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