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Skagen's transfer of total manufacturing to India or China
This report is designed to assist in making the decision whether to completely move the total manufacturing of Skagen's products from its current manufacturers to a single country with cheaper labour costs. The report first highlights the advantages and disadvantages of going ahead with the transfer process. The second part of the report will review Skagen's current operating systems in order to consider what possible changes might be needed if the proposal is being adopted. Current company strategy and objectives will be reviewed to determine whether the decision fits into firm's broader operating framework. To conclude the report goes further to propose some decision making techniques (and the required data and data sources) from the 'Management Decision Making' literature that can potentially assist in the decision making process.
SECTION 1- Advantages and disadvantages of moving manufacturing process to India or China
Transferring all manufacturing activities of Skagen to one low labour cost country comes with many benefits as well as challenges.
Firstly there is the benefit of a lower Cost of labour. Skagen is labour intensive given that it produces a variety of products and does not engage in mass manufacturing.
With lower labour costs, Skagen can significantly cut its prices to offer great quality products at lower prices. This will help the company to remain competitors and even to undercut it competitors in the area of watch manufacture. Some of its competitors such as DKNY, Guess, Police etc. are already manufacturing in low cost countries such as Mexico, China and the Philippines.
These competitors are better placed to improve the quality of their products while keeping the price reasonable. This move will help the company to better compete in this competitive market. As a direct result the company can transfer labour cost savings to its consumers through lower prices while also ensuring higher profitability.
Skagen currently runs its manufacturing from several locations. At present it sources parts and components from different countries even though the assembly process is completed in Denmark. Transferring all these processes to one low labour cost country will bring about consolidation of operations. The effect of consolidation is that proximity between different players in the manufacturing chain is increased and this can enhance effectiveness while cutting time and cost spent in moving materials and resources between different units in the supply chain. Control and monitoring becomes facilitated as all processes are carried out under one 'roof'.
A move of manufacturing operations to a low cost country can enable Skagen parent company to concentrate on its core strength which is design. The core competency of the company from the words of its two founders is 'design'  . The move aligns with its vision statement which states 'By 2015,Â Skagen Designs will be the first choice among suppliers, customers, consumers, and employees as the most innovative and profitable design goods company within our chosen strategic segments, products and markets'.
Low cost countries such as China and India have a poor reputation with regards to the durability of their products. Low cost manufacturing has always been associated with compromises in quality. It is no doubt that high end manufacturer have ensured that the most value adding part of their manufacturing process are kept in reputable manufacturing countries. The manufacture of Swiss watches for example has be restricted to Switzerland to ensure that the quality and long standing reputation of the product is not compromised.
Moving to a low cost country such as India or China can cause a reputational dent on skagen products and also bring about other quality management issues. Low labour cost countries are associated with the production of lower quality products. Firms in low labour cost countries have historically been accused of unruly practices such as exploitation and the use of child labour. Skagen relies greatly on its reputation of high quality products and its corporate social responsibility to its communities.
Transferring production from several countries and units to a single unit constitutes high manufacturing risk to the entire company. In the event of disasters such as earthquakes, fires or political turmoil such as strikes, civil wars, the Skagen Company will be highly exposed and severely compromised. Moving all units from many countries to one country also exposes the firm to macroeconomic fluctuations such as exchange rate changes and currency fluctuations. Operating in several countries provides a natural hedge to fluctuations within the global macroeconomic environment. This provides the firm with the ability of switching its production from one country to another depending on fluctuations within the global market environment. The firm will loose this advantage if it unifies its production process to one low cost country.
Skagen raises a high percentage of its revenues from the US and Europe. It has developed its capabilities in these markets and has kept its production facilities in close proximity to the market. This helps to cut costs involved in transportation. Given that Skagen is not a bulk manufacturer, the per-unit cost of transportation from its new production centres (China or India) will be very high and this may offset any benefits that may be accrued to the firm from cheaper labour costs.
Due to the increased distance between the manufacturing facilities and the market, the company will incur additional losses in terms of inefficiencies by not being able to benefit from JIT (Just In Time) production. Due to increased distance from the market, there will be need for maintenance of a buffer stock to meet any unexpected fluctuations in demand. This represents increased (and irrelevant) costs to the company in terms of space, material and labour.
In the same light there will be less flexibility in production and supply. Again considerations for EOQ (Economic Order Quantities) will have to be made. Small orders will at times have to be ignored because the fixed costs (such as processing and transportation) per order outweigh the profits to be made from the order.
This move can potentially inflict less flexibility in service quality management. Skagen has over the years built a reputation of high service quality. It for example provides a lifetime guarantee to all its products (as stated on its website). A suitable variable that measures service quality in this case could constitute the time taken for the company to repair or replace faulty products. A move to India or China implies that its American customers with faulty products will have to wait for months so that the products are moved back and forth from the US to Asia and back to the US for collection. This will take time and will not reflect well on the quality of the service provided by the firm. The result is less flexibility with meeting customer needs and potentially poorer customer service.
Both countries; India and China, are plagued with political and other economic issues. Business laws in china require most new firms to form alliances with local firms. There is a limited potential for Greenfield investment in China and this will result to a potential alteration of the ownership structure of the firm. The political situation in both countries cannot be classified as risk-free. China is ruled by a communist-type government and its democracy and political system has been subject to much controversy. India on the other hand shares a border with very unstable (politically) countries such as Pakistan and Afghanistan. The condition can become quickly volatile at any time given the recent events in the region. Moving 'ALL' manufacturing operations to this area laden with political uncertainty will therefore be extremely risky for the company.
Again there is a possible lack of skill and craftsmanship in both countries. The production of watches requires specialist skill and precision. This is the reason why the Swiss have excelled in the industry over time. Moving such delicate processes to countries reputed for highly unskilled labour might cause further problems due to unavailability of skilled craftsmen.
Moving from several locations to one location is very expensive. The costs of moving are considerably high as they include termination of contract charges, abandonment or quick sale of old facilities and equipment, building of new manufacturing facilities, recruitment and training of new staff and many other set up costs. Skagen has already acquired equipment, factories and land which it uses in production and it has also invested heavily to train employees in its production processes. Leaving these very valuable assets will constitute a huge waste on company resources. Again, the company has already signed contracts with employees, suppliers etc which it will have to annul in order to move its production facilities away from their present locations. Cancellation of employment contracts could be very costly in terms of compensation and litigation costs from litigations that may potentially arise.
Many firms have moved to India and China to allow them source the raw materials at cheaper rates in order to cut costs. Skagen current sources parts (raw materials) for the manufacture of its products from several countries. Its choice of countries from which it sources it raw materials will be based on several considerations such as material (product) costs, quality, delivery lead times and appropriateness (meets firm policy, objectives and strategy). Skagen stands to benefit nothing in terms of raw material sourcing by moving its manufacturing operations to China or India.
The next section will examine the effects of a potential move on the firm's operating system.
SECTION 2- Effect on operating system
Current Operating systems
Every system is made of components, elements, subsystems and a boundary. In the case of Skagen, the operating system transforms inputs into outputs through a manufacturing process (manufacture of watches) and a distribution process (sales and repair of watches).
The case study highlights three main firms that are involved in the operating system of skagen. The skagen operating system is 'Hard' because it is made of technology (in terms of watch design and manufacture), objectives (high quality production at reasonable prices), not many stakeholders (owned by Henrik and Charlotte Jorst, sources its products from several countries, use few distributors and repair centres), which can thus be easily revised or changed
Skagen is neither a mass producer nor a 'customizer' in terms of its marketing strategy. On its website Skagen emphasizes that its unique selling proposition is its ability to consistently provide beautifully designed and crafted watches, with a high quality at reasonable prices. It therefore does not compete on price but competes on quality (in terms of consistency, durability and design). There are no aspects of product flexibility as Skagen does not take orders for customized products from individual clients.
The Operating system of Skagen showing links between the different subsystems is shown as below;
Manufacture & Assembly
Skagen operating system
Changes needed for the operating system
The current manufacturing subsystem is sparse as there are many parties supplying materials and parts to the assembler in Denmark. There is a large network where materials suppliers feed part manufacturers who in turn feed the assemblers. In a new system with only one manufacturer, all subsystems will be curled in under one roof. i.e. At one end raw materials will be fed into the factory and finish products pulled out from the other end. The new operating system including changes is shown in the diagram below;
New Operating system of Skagen; Move to India/China
SECTION 3-Strategic fit of decision
Current firm strategy and objectives
The firm is built on principle that beautifully designed high-quality objects can be created at reasonable prices. The Skagen Denmark Collections reflect owners Charlotte and Henrik Jorst's creative Danish spirit with clean, elegant designs, skilful craftsmanship and technical perfection. The Jorsts have a hand in designing each piece of the Skagen Collection, from watches to jewellery to sunglasses. In their vision statement Skagen hopes that by 2015,Â Skagen Designs will be the first choice among suppliers, customers, consumers, and employees as the most innovative and profitable design company within its chosen strategic segments, products and markets. In its mission statement Skagen Designs strives to create a global community of enthusiasts with its commitment to designing an impressive and unique yet attainable product while offering outstanding customer serviceÂ to its customers and consumers. An objectives tree (based on the limited information about the company can be shown as follows;
SKAGEN OBJECTIVES TREE
Preferred by suppliers, consumers, customers an employees
Outstanding customer service
High quality products
Community of enthusiasts
Skilled & motivated staff
Reputation, pride and prestige
Development of value chain
Repairs and maintenance
Objective Tree of Skagen
Fit to current strategy and objectives
A move of manufacturing process to one country; India or China, fits within its broader framework since its unique proposition is its designs which can be done in its headquarters in Nevada, Hong Kong and Denmark. However, a move to either of these countries can potentially dent its ability to meet its mission to offer 'outstanding customer service to our customers and consumers'. As discussed above issues may arise with service quality management with respect to time spent to effect customer repairs and returns.
SECTION 4- Decision making techniques
There are several useful decision making techniques to support the decision making process in this case as indicated by the management decision making literature. The most comprehensive technique is the S.M.A.R.T analysis. SMART is a mnemonic for Simple Multiple Attribute Rating Technique. It is relevant to this decision as there are many objectives to be met from the decision. The technique was developed by Edwards (1971)  in a paper entitled 'social utilities'. The method can be used to quantify the results from each cause of action and the costs measured against the benefits. There are 8 steps involved in the full process. These include;
Step 1: Identify the decision maker(s)-
Step 2: Identify the alternative courses of action-
Move to India or maintain status quo
Step 3: Identify the attributes which are relevant to the problem
This can be done by looking at the costs and benefits in a cost benefit analysis using a decision tree tool.
-Cheaper labour costs
-Skagen focuses on key competency- design
-Relocation costs- buildings, equipment, set up
-Settlement fees- contract termination for current employees
-Recruitment and training of new employees
-Political and economic risks
-Manufacturing risks (manufacturing at a single location)
-Less flexibility in production
-Potential issues with service quality management
-Higher transportation costs
-Loss on benefits of JIT production
-Potential shortage of required skill and craftsmanship
Skagen Moving Abroad
Political and Economic Risks
Loss of Flexibility
Low Labour cost
Cost-Benefit analysis- Skagen
Step 4: For each attribute, assign values to measure the performance of the alternatives on that attribute.
Through sensitivity analysis and estimation procedures, dollar values could be affixed to the attributes highlighted above. Data sources could include; Internal analysis, contractors & supplier surveys, constructors' quotations, financial statements, consultants etc. The Delphi method for estimating and forecasting can be used to improve on data quality. For example, relocation costs can be computed from the building estimates and estimates of costs of machinery that will be required while Settlement fees could be computed based on current salaries, number of employees and their contract terms.
Step 5: Determine a weight for each attribute.
The attributes could be ranked in order of importance or given a weight on a scale from 1 to 10 to show their relevance to the company.
Step 6: For each alternative, take a weighted average of the values assigned to that alternative. At this stage a weighted average is computed for each alternative given the assigned values and the weight of the attribute
Relocation, Start up, Settlement fees
Loss of Flexibility
Political & economic risks
Step 7: Make a provisional decision.
Based on the averages arrived at for each alternative a decision can be made. Based on my assumptions, the firm will be in a better position without the move. I assume for example that labour costs will not change it stays at its current location, recruitment costs will be significantly higher if it moves, prices won't change if it stays but will reduce if it moves, competitiveness will slightly increase if it moves and it will be exposed to higher political and economic risks if it moves.
Step 8: Perform sensitivity analysis
This is a robustness check, wherein assumptions are revised and altered to see if the assumptions used for the analysis materially affect the decision arrived at.
In a nutshell, on the subject of whether such a move will be beneficial for Skagen, it seems there is little to be gained from transferring operations to India or China. From the above, it is evident that while certain benefits in terms of labour costs will be accrued to the firm from the move, the costs of such a move significantly outweigh all the benefits.
A move completely alters the operating system of Skagen and this alteration might require the introduction of new and costly processes.
The SMART decision analysis framework can be better used to evaluate the alternatives in this case. Other techniques such as SERVQUAL, Break-Even Analysis, EOQ, TQM and Balanced Score Card will be useful when operations are commenced.