Case Study On The Garment Industry

Supply Chain Management:Case Study on the Garment Industry

Alessandro Spaventa

Leonardo Business Consulting

OECD Investment Compact for South East Europe - Workshop III

Prague 12-13 December 2006

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Contents

• One side of the story

• The other side of the story

• Opportunities and strategies for SEE countries in the garments sector

One side of the story

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Going East/1

• It is since the first half of the 1990’s that the European manufacturing industry has started to exploit the opportunities offered by the opening of the former socialist Centre-east European countries and progressively internationalised growing parts of its production.

• Italy has been one of the most active countries in this process both because of its geographical proximity and because it was, and still is, one of the European Union’s (EU) main producers of low-technology products, a position conquered in the early 1980s, when the other European main industrialised countries progressively moved to more sophisticated, high-tech and capital intensive sectors.

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Going East/2

• Since the second half of the 90’s Italy’s manufacturing firms have progressively substituted in-house production or supply relationships with local firms with supplies from SEE, particularly Romanian, firms developing a buyer-driven value chain. To this aim, Italian manufacturing firms directly acquire raw or processed materials and then export them to Romania or other SEE countries, importing then back the semi-finished or finished products.

• To give and indication of the phenomenon we consider here Veneto, one of Italy’s most active regions in this process, reporting imports and exports from and towards Romania in the traditional Made in Italy sectors: textile and clothing (CPATECO code db), leather and leather products (dc), wood and wood products (dd), furniture and other manufactured products (dn).

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The case of Veneto and Romania/1

Veneto: Imports and exports from and towards Romania in the Made in Italy sectors(DB, DC, DD, DN), 1994-2003 (euros)

0

200.000.000

400.000.000

600.000.000

800.000.000

1.000.000.000

1.200.000.000

1.400.000.000

1994 1995 1996 1997 1998 1999 2000 2001 2002 2003

Exports ImportsSource : Istat

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The case of Veneto and Romania/2

Veneto: imports and exports from and towards Romania broken down by sector, 2003 (euros)

0

100.000.000

200.000.000

300.000.000

400.000.000

500.000.000

600.000.000

700.000.000

DB-Textiles and clothing DC-Leather and leatherproducts

DD-Wood and woodproducts

DK-Machinery DN-Furniture and othermanufactured products

Exports ImportsSource : Istat

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Leading firms thrive, industrial districts suffer/1

• Italy’s manufacturing firms, and garments firms in particular, are increasingly transferring their production in SEE both through FDI (mainly greenfield) and through subcontracting with the latter form still prevailing on the former.

• They have developed what in the literature is referred to as buyer-driven value chain. In these type of global value-chain, buyers with core competencies in branding and marketing act as the driving actors in setting up the value chain, increasingly organizing, coordinating and controlling the production, designing and marketing activities to target consumer markets (Unido 2005).

• This process, while convenient for the single firm, might involve some concrete risks for Italy’s industrial districts (Crestanello and Tattara, 2005; Gianelle, 2005).

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• In a typical industrial district firms are not all at the same level. Usually, as the district evolves, some companies grow more than others acquiring a leading role.

• They grow in dimension, sometimes passing from small to medium-sized enterprises, developing their product, creating a brand and adding value to their product through immaterial factors such as design.

• Growing in size they strengthen and multiply their backward and forward linkages. They buy raw materials or semi-manufactured goods and outsource through subcontracting some of the lower stages of productions.

• They become a pivotal element for other smaller firms.

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• These leader firms are the ones that go international both to sell and to buy or produce. They are the ones that have first gone abroad looking for cheaper workforce.

• As they transfer stages of production outside the district, however, they weaken the web of linkages that are essential for the industrial district to thrive.

• Small firms progressively loose their local clients and have to face the choice between downsizing their activity, and eventually go out of business, or look outside the district for new clients.

• In both cases what happens is that more and more backward and forward linkages inside the districts are weakened or disappear.

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Veneto: exports and employees in the textiles, clothing and leather sectors (CPATECO DB, DC), 1991-2004

0

1.000.000.000

2.000.000.000

3.000.000.000

4.000.000.000

5.000.000.000

6.000.000.000

7.000.000.000

8.000.000.000

9.000.000.000

10.000.000.000

1991 1992 1993 1994 1995 1996 1997 1998 1999 2000 2001 2002 2003 2004

0

20.000

40.000

60.000

80.000

100.000

120.000

140.000

160.000

180.000

200.000

Employees Total export Total export minus RomaniaSource: Istat

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Veneto: N° of employees in various sectors, 1991,1996,2001

-

20.000

40.000

60.000

80.000

100.000

120.000

Textiles Clothing Leather and leatherproducts

Machinery Wholesale (exceptmotor vehicles)

1991 1996 2001

Source: Istat

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Veneto: N° of productive units in various sectors, 1991,1996,2001

-

5.000

10.000

15.000

20.000

25.000

30.000

35.000

40.000

45.000

50.000

Textiles Clothing Leather and leatherproducts

Machinery Wholesale (exceptmotor vehicles)

1991 1996 2001Source: Istat

The other side of the story

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Beyond the immediate advantages

• The increasing internationalisation process of the Italian manufacturing industry, and all the more of the garments sector, in the long term might have some substantial positive effects for recipient SEE countries that go well beyond the immediate economic advantages for local firms and the consequent creation of jobs.

• Let us consider the case that the internationalisation process of the larger district firms is not dispersed in different regions or countries, but is directed to a specific area, as it is the case of Veneto’s firms internationalising in the Timis province in Romania.

• These firms establish links with local firms through sub-contracting, joint-ventures or partnerships, or create new companies through direct investment. As a result local firms gradually grow and acquire know-how while the local workforce acquires specific skills.

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A possible virtuous process

• As time goes by and linkages between foreign firms and local firms become stronger and stable, foreign firms may found convenient to subcontract other and more complex stages of production, moving them from their original district. Linkages between local firms may then develop and strengthen.

• This could prime a virtuous process in which, thanks to their linkages with foreign companies, local firms grow in dimension and know-how inducing foreign firms to outsource other stages of production leading to further growth of local firms and so on.

• Following this process local firms could develop from being subcontractors to producing their own products and finally to creating brands for the lower segments of the consumer market.

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As in the Centre and South of Italy

• The process would be analogue to the path followed by many firms operating in the Italian Adriatic districts and, in some cases, in the South of Italy industrial districts, that have managed to evolve from mere subcontracting to manufacturing and selling their own products on the market and eventually to creating their own brands.

• As a result of this process in the medium term a new industrial district may develop. A district that is in direct competition with the district of origin of the first internationalising companies, but has lower labour costs and similar product quality.

• For this to happen, however, a crucial condition has to be realised: local firms have to be successful in acquiring and mastering the necessary knowledge to climb higher in the production process.

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Acquiring knowledge: the role of foreign firms/1

• We are considering the case of SMEs that have chosen an internationalisation process that tends by its nature to create linkages with local firms and that have little incentive in keeping their environment close to the outside.

• These firms are used to operate in a cooperative/competitive environment, the industrial district, where the ability to create efficient and stable backward and forward linkages constitutes an essential characteristic of the firm and of its modus operandi.

• These firms are prone to create linkages with local firms through partnerships and subcontracting and might be tempted to replicate in the new environment the kind of backward linkages they had in their original district. A trend that has indeed been reported by Majocchi (2004) in his paper on the experience of Italian firms in Timisoara.

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Acquiring knowledge: the role of foreign firms/2

• Thus, not only the characteristics of the foreign companies pose few obstacles to the transfer of technology, and more in general of knowledge, to local firms; adding to that there is the fact that facilitating a certain degree of knowledge and technological capabilities transfer might be in the interest of the foreign firm if not part of its strategy.

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The case of Montebelluna

Montebelluna Industrial District: Production stages that have been delocalised (N° fof stages of production), 2000-

2004

0

10

20

30

40

50

60

70

80

Concept/design Project making Cutting Assembling Printing Whole product N.a.

2000 2001 2002 2003 2004Source : OSEM

Opportunities and strategies for SEE countries in the garments sector

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Districts or not internationalisation is positive

• If the internationalisation process gains a relevant dimension and is protracted through the years, it might lead to the evolution of embryos of industrial districts that might then further develop. Moreover, this goal might be pursued not by attracting foreign direct investments, in general a more difficult task, but through sub-contracting, a more popular and widely used practice among Italian garments firms.

• Leading to the development of an embryo of an industrial district or not, partnerships might in any case help local firms to grow, not only in production capacity, but also in knowledge and technical capabilities, promoting the evolution from mere sub-contractors to real and proper garments producers, able to manage the whole production process, from cutting to packaging, and eventually produce their own brands.

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FDI vs. Sub-contracting/1

• FDI in the garments sector will hardly play a relevant role in the near future, at least for what concerns the Italian garments sector. This not because of particular problems regarding the “country products”, but because most of the Italian firms that had the capabilities to invest have already done so. They could disinvest and then invest in other areas, if the latter prove to be particularly convenient, but costs would be high and it is hard to think that they could be repaid in the short to medium term.

• The firms that have not yet invested have mostly established partnerships. These could be switched easily enough, as, ultimately, has been for the case of Cotonella, an Italian leading underwear producer that is transferring all its production from Romania to Albania. More than a productive investment, in fact, Cotonella has made an investment in logistics so as to be able to efficiently and effectively manage the partnerships with a series of small Albanian producers.

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FDI vs. Sub-contracting/2

• Thus, Italian entrepreneurs seem still to be mainly interested in subcontracting instead than investing directly.

• However, the kind of partnerships Italian firms are looking for seems to be more sophisticated and integrated in respect to the one that have been put in place in the ‘90s.

• Italian garments companies are looking for reliable and stable partners, able not just to confection the product, but to take the responsibility for the whole production process, from cutting to labeling and packaging. In particular Italian firms appear to be looking for:1. reliable and stable partners 2. ensured rapidity, flexibility and programmability of

production and transport. 3. certainty regarding bureaucratic procedures and timing;4. low labour cost and taxes.

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Beyond the standard productive partnerships/1

• Traditionally, the subcontractor would receive from its foreign client a semi-processed product or the processed raw material (cut textiles), realize part of the production process and then re-export the semi-finished product to the foreign firm that would realize the final stages of production and packaging.

• However, more advanced partnerships are now increasingly taking place, with foreign SMEs focusing on marketing, styling and distribution while delocalising the entire production process to sub-contractors. An evolution that helps SEE local firms in developing their capabilities of managing a complete production process and thus, eventually, to start producing their own products with their own brands.

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• Following this trend, another and more sophisticated type of partnership might be possible: a partnership with a foreign garments wholesaler that has decided to evolve by producing its own products, labeled or not, without however engaging in the effective production process, i.e. recurring to subcontracting.

• However, the number of wholesalers able to evolve in such direction were not many form the start, and many of them have already done this sort of “jump”. This leaves a small number of companies, the smallest and the less reactive.

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• Finally, there is a last type of partner, that however might still be out of reach for most of SEE firms: the large distribution company. In this context a viable, but feeble, option could be of entering the so called “sample and countersample” market.

• In this kind of market a buyer for a large distribution company individuates a product that might be particularly suitable for the large distribution company and asks a panel of pre-selected production companies to realize a sample. The company that produces the best sample will be selected to produce that particular product for that particular client.

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• At the moment this approach might still be too sophisticated for most SEE garments firms, but it might represent an option in the future, when they will have further evolved by acquiring the capability of developing their own models and of interpreting and re-inventing models of other companies.

• In this market China represents the obvious and immediate competitor, but, once capabilities will have been developed, SEE countries will have on their side a fundamental element: geographical proximity. Large distribution companies, in fact, are looking mainly not for large producers, but for producers that can ensure a continuous flow of small quantities of different products.

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Contact details

Alessandro Spaventa

Head of the Research Unit - Leonardo Business Consulting

[email protected]

Tel. +39 06 68891578 – fax +39 06 68891146

Via del Banco di S. Spirito 3, 00186 Rome

Italy

Case Study On The Garment Industry

Business

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