Logistics and Outsourcing in China: the Benetton Group S.P.A. Case Essay

Introduction The aim of this paper is to analyze the supply chain management, of United Colors of Benetton, in order to understand the key logistic factors that have made this company so successful in the apparel industry. In addition, after an overview of the outsourcing model in China, I analyze the costs and issues that Benetton has faced in moving its operations in Asia. Although there have been problems, Benetton is a clear example of a successful outsourcing process directed to China. Company overview

Benetton is an Italian manufacturer of men’s, women’s, and children’s casual wear, footwear and accessories founded as a single shop in Belluno, northeastern Italy in 1965. Three years later, the company opened its first store in Paris, as a first step in the international expansion and development program outside Italy, which took place in the 70’s. As a consequence in the next decade, Benetton spread throughout Europe and by 1979 it was established in the United States. By mid-80’s the company was serving 60 countries through approximately 3200 stores, evolving towards one of the main Italian industrial reality in the sector.

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Benetton Group specializes in the designing and manufacturing of clothing. Nowadays Benetton group consists of the Sisley, United Colors of Benetton, Playlife and Undercolors of Benetton (UCB Kids) brands widely diffused over 120 countries served by 6400 franchised and directly managed stores. Figure 1. Benetton Sales Distribution by Brand 2011. Group Investors Presentation This huge network of sales points made the group able to experience revenues for over 2 billion euros in the last four years and a net income of 102 million euro in 2010, despite the crisis that strongly affected world performance in the industry.

Figure 2. The Group Profit Analysis 2010. Benetton Investors Report The importance of Logistics for the Apparel Industry In the past, the main players in the apparel industry used to compete primarily on style, price and marketing as these factors mattered most for customer buying habits. In current fact, those factors keep being important but new companies are now incorporating new operational systems that are dramatically changing the industry dynamics. Costs associated with holding inventory are lowering profit margins and therefore better inventory management policies must be put in place.

Lastly, outsourcing has become critical as companies are flocking to low cost manufacturing locations. Benetton operates in a highly competitive and mature industry characterized by a fickle consumer base demanding an increasing variety of products. The competitive activity can render one’s product to be found unfashionable overnight due to the volatility of the market. Product life cycles are planned to be short to maintain consumer interest. In this perspective, the logistic system needs to operate at a high level of competency to support this incessant pace.

On the one hand it needs to develop flexibility and speed in order to meet the demands of fashion and the rapidly changing needs of the customer. On the other hand, to compete in the fashion industry it must maintain high levels of efficiency. To achieve these goals Benetton has learned how to rapidly adapt to changing consumer tastes while gaining efficiency through economies of scale. It has done this by understanding the role of logistics in supporting its core business strategy. Benetton Supply chain management

In the mid-1990’s as growth accelerated, Benetton designed a primary center to manage production, logistics and distribution at Castrette, Italy. With the establishment of a consolidated central shipping center, the company is estimated to have saved 20% on transportation costs. In view of the expected increase in the number of items being shipped, in 2007 the group invested around 50 million euro in the Castrette hub with the result of doubling the potential distribution capacity of Benetton.

As this framework developed further, Benetton set up other similar regional poles around the world in its manufacturing centres. Through this model, the head production pole in Italy concentrates on the fashion design and electronically sends the product specifications to the regional poles that identify the production needs and source to a specific local manufacturing network. Once complete, the finished products are sent back to the central pole for final shipment preparation and distribution to the retail outlets. By using this model,

Benetton has realized significant efficiencies through coordination, high control, increased speed of production and reduced inventories achieving at the same time tight control over the whole supply chain and sufficient flexibility to rise to market challenges. Another aspect of the model that contributes its success is the Dual system of manufacturing and logistics, composed by “Networked Manufacturing” and “Postponement in Dyeing”. Networked Manufacturing is a system where groups of manufacturers collaborate on specific orders that are targeted to their capabilities, batch size, flexibility, and lead time to the central pole.

Manufacturing of products would not begin without an actual order in hand from a retail store. Once the order was placed, Benetton would purchase the raw materials and ship directly to the Networked Manufacturing groups. As the company actively seeks manufacturers for specific product segments, they look for and combine their efforts working together closely. In this way each part of the manufacturing process (cutting each piece of the clothing, stitching, assembly, adding accessories, and packaging) is all coordinated among the members of the manufacturing network so that each has a defined role and responsibility.

Nowadays the system is highly centralized and allows for better quality control of materials and logistics management. The process of defining the capabilities for each group is critical and very specialized. If one group for example is strong in wool, undid sweaters, then this network will handle the production of these products, while other highly specialized groups focus on jeans. This allows clear guidelines for manufacturers, lowers setup costs, eliminates the necessity to switch machinery, improves speed and ensures proper resource utilization.

Another important key, to the Networked Manufacturing, is the coordination among manufacturers whose responsibility is similar. The networking increases communication among all suppliers, so that the supplier who cannot produce the product will provide the order to another capable manufacturer. In the case of wool products this saved Benetton an estimated 85% in costs when compared with its competitors. Postponement in Dyeing : In the apparel industry, a postponement strategy aims at delaying some supply chain activities until custom demand is revealed in order to maintain both low system wide cost and fast response.

Indeed, Benetton realized that if the colouring process was moved to the end of the manufacturing cycle, the company would gain flexibility in the production and significantly lower inventory costs. This allows the company to gain a competitive advantage increasing customer satisfaction and improving the lead time for new product introductions. Postponement has also decreased the risk that a new product will fail and the inventory costs of these failures will hurt profitability across all products.

This fact finds also academic evidence in the study conducted by Tang (1996) which stated that “postponement is proven to be cost-effective mass customisation tool to handle regular fluctuations under normal circumstances”. Foreign Direct Investment Boom in China Foreign Direct Investment (FDI) directed to China has increased rapidly in recent years. In the 1990’s, many foreign firms shifted their manufacturing base to China in order to exploit cheap labor conditions offered by the Asian giant.

This process started as a consequence of Chinese policies of the second half of the 80’s which aimed at loosening the governmental control over private businesses and reducing its level of intervention. During the first five years after China’s entry into World Trade Organization (WTO) in 2000 it has experienced a growth rate of 15% per year as we can see from the chart below while being hit hardly by the global economy slowdown in the most recent years Figure 3: China FDI Inflow (2001-2006) However, due to a new upturn in the first quarter of 2011, China is still on top of world investment destination in terms of FDI inflow.

Benetton outsourcing in China Benetton’s production system operates with the own industrial production and the sourcing of finished product. Meanwhile, the company controls the logistics phase for both self-manufactured and sourced products, and has invested in modeling, organization, and automation of logistic processes in order to integrate the production cycle, from client orders to packaging and delivery. While the own industrial production is placed in Italy, East Europe, Tunisia and India, the company outsources labor-intensive phases of production, such as tailoring, finishing, and ironing, to small and medium nterprises, directly controlled by the Italian and foreign production sites and keeps in-house strategic activities that require heavy automation (e. g. dyeing, weaving, cutting, packaging and quality control). The main areas of sourcing are China (coordinated from Hong Kong), South East Asia (Thailand, Cambodia, Laos, Vietnam and Indonesia coordinated from Bangkok) and India (coordinated from Bangalore). Due to the fact most of the Chinese production returns to Italy in the warehouse of Castrette (TV), Benetton built three distribution centers in China.

All the products are first sent to one of the distribution centers, then to the nearest harbor, and finally exported to Italy. The network of the company with Asian producer is managed by Asia Pacific Ltd, based in Hong Kong, which controls the logistic platforms in Shenzhen and Shanghai. If the manufacturer process must be sped up, in order to reduce time to market (especially for non-standardize and more sophisticated goods), the delivery to Italy is by plane. Concerning the products, Chinese plants are used for lean manufacturing process and long series, planned well in advance.

The product outsourced are Moda1and Moda2, which are classic models planned well in advance, with a response time between 4 and 9 months , Trend clothes with a response time between 1 and 4 months and others accessories like belt, shoes and bags. Since 2003 the growth of import from China caused a scaling down of Italian subcontracting, despite the sales rise of 9% per year. The gradual replacement of Italian suppliers with the Asiatic ones forced many SMEs to stop the activity. Nowadays, Benetton is registering an increase in sale of 20% due to Asian sourcing.

In December 2010, sourced products represented approximately 50% of total production (75 million garments a year), while Italian production represents today only the 10% of the entire volume. The balance between quality, cost and time to market drives this sourcing allocation, and the ongoing scouting of third party vendors allows the Group to maximize total benefits, as in the industrialized production system. Challenges of Outsourcing in China At each step of the supply chain Benetton has made a conscious decision about whether to process in-house or subcontract, bearing in mind impact factors such as cost, flexibility, speed and service.

Concerning the benefits, the first that has to be mentioned is the labor and production cost reduction (more than 30%). This means, that by using subcontractors, Benetton can maintain its rapid expansion rate without the need for massive capital or labour force investment. Analysts believe this blend of low cost, third-party labour and high-technology in the in-house operations, gives Benetton a manufacturing cost structure that is competitive and comparable with Asian producers. On the other hand, with the outsourcing to China, Benetton loses the benefit of proximity.

Though there is a cost advantage in that approach in regards to labor and raw materials, the lack of flexibility in changing orders, based on current trends, hinders their operational efficiency. Moreover, Benetton has difficulty with effectively coordinating these external production units because the physical distance makes the internal and external flow of information more difficult. Yet cultural differences represent an issue to take into consideration since it has been proven how they negatively affect communication and so coordination among the different components of the supply chain.

Another relevant problem regards risks and rewards that are shared with such an arrangement. Indeed, responsibilities in the case of quality, time or delivery problems are shared with the subcontracted companies, with relevant impacts and consequences for Benetton brand equity and reputation. It also appears that no need is felt to formalize such relationships with a legal contract and so tasks and duties are not always clearly allocated. Furthermore, doing business in China is not easy because firms must consider very strict local regulations.

Finding a partner and creating a trusting relationship is a better way to avoid local regulation problems and to coordinate all the phases of the production process. Another aspect that must be taken in consideration is the recruiting and training of employees whom must understand the mission, the vision of the company and the importance of product quality for the success of the strategy. As a matter of fact, the quality of the outputs is a tricky topic because products that are made in China are perceived by final customers as cheap and with a poor value.

This means that made in China stickers could have a negative impact on Benetton’s Brand image and reputation, which is based on the perception of high quality. For that reason, customers with a strong sense of brand loyalty could feel betrayed by Benetton behavior and the reduced satisfaction could strongly impact on sales and revenues. Another relevant issue to be taken into account is the increasing cost of labour in China as a consequence of the country’s steady growth.

As we can see from the chart below, indeed, GDP per capita growth has experienced an significant acceleration in the last decade when Chinese citizens more than doubled their salaries on average. This phenomenon cannot be overlooked since it may constitute a source of additional costs in the long term if, as expected, China’s growth will not slow down in the next years. Figure 4. China GDP per Capita (1970-2009) There are other ethical issues that have generated much criticism from and discussion among customers, journalists and international organizations.

The first problem is the exploitation of the workforce in underdeveloped countries which generated the response of NGOs for the defense of workers’ rights. This is a problem that almost every player in the clothing market is facing since the flow of outsourcing directed to Asian countries started. However this represents a much more relevant issue for Benetton if we consider that the image that the group gives to its customers is of a multiracial and multinational enterprise and the message driven by its advertisements is world peace with racial and national harmony.

Figure 5. One of the most famous and criticized Benetton advertising Secondly, we should consider the employment rate. Outsourcing to China means decreased job opportunities for Italian citizens and in a period of economic distress, it is not the best decision to support the growth of the country. As a matter of fact, in 1990 90% of Benetton garments were produced in Italy, while now not even 10% of the group’s production is made in the peninsula.

On the one hand this is the natural consequence of globalization and Benetton is just following the same path of its competitors. On the other hand, Italian economy is experiencing one of the worst economic period since the end of World War II and such policy from the group may strongly affect its sales within the country which still represents Benetton biggest market in terms of sales, accounting for 52% of the group’s revenues in 2010 as we can see from the chart below. Figure 6. Benetton Revenues Geographical Distribution 2010. Thirdly, low abor costs do not imply lower final prices for the final customers but, instead higher profits for the group. This is frowned upon by consumers who see it as yet another profit and lucrative action. For all these ethical and non-ethical reasons, this topic is very delicate to deal with and still today, Benetton’s decisions to outsource is surrounded by critics by several different classes of stakeholders. Conclusion Benetton provides an example of an organization which has truly grasped the meaning of integrated logistics across national boundaries.

Establishing logistic functionality in China is the key for maintaining low prices and Benetton achieved this goal through the selection of qualified local manufacturers at a large-scale trade fair held to manufacture its products. Nevertheless, there are ethical and non-ethical issues that must be considered in order to understand the real impact of the outsourcing decision on the company’s financial and economic performance. Finally, the supply chain structure of Benetton in China and the dualistic system represent for sure a great success for the group due to the gains in terms of time and cost saving they generated.

However it remains to be seen whether or not Benetton can sustain its competitive edge, particularly in the emerging markets in Asia, where much of its energy is now focused. The early signs are good, however it has been shown that competitors who are able to display more “agile” working practices can edge out established brands in a very short space of tim exploiting a flexibility that Benetton seems still to be lacking. Bibliography •Alfaro L. , (2003), ‘Foreign Direct Investment and Growth: Does the Sector Matter? , Harvard Business School •Camuffo, A. , Romano, P. , Vinelli, A. (2001). Back to the Future: Benetton Transforms its Global Network. Sloan Management Review •Evans, D. (2004). Benetton in Greater China Push to Build Brand Awareness. Asia’s Media & Marketing Newspaper •Feuling A. Bradley (2007), Learning From Supply Chains: Benetton Group S. p. A. and the Apparel Industry. Kong and Allan Working Paper •Kirkegaard, J. F. (2005), Outsourcing and Offshoring: Pushing the European Model Over the Hill, Rather than Off the Cliff!

IIE Working Paper •Kletzer, L. G. (2001). Job Loss from Imports: Measuring the Costs. Washington: Institute for International •Economics. •Kumar A. (2007), ‘Does Foreign Direct Investment Help Emerging Economies? ’ Federal Reserve Bank of Dallas, 2(1) •Rodrik D. , (2006), ‘What’s So Special About China’s Exports? ’, National Bureau of Economic Research, Working Paper no. 11947 •Tang C. S. (1996). Postponement in Supply Chain Risk Management. International Journal of Production Economics •Tang C. S. (1996).

Robust Strategies for Mitigating Supply Chian Disruptions. International Journal of Logistics: Research & Applications •Tattara, G. , Crestanello, P (2008) . Towards a Global Network. Competition and Restructuring of the Benetton. University of Venice, C`a Foscari •Vu K. M. (2009),’Economic Reform and Performance: A Comparative Study of China and Vietnam’, China: An International Journal, 7(2), September 2009, 189-226 Sitography •www. benetton. com •www. investors. benettongroup. com •www. doingbusiness. org •www. imf. org •www. worldbank. org

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