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Comment: Switching sourcing markets will not solve retail´s margin issues

Fashion brands and retailers are in a tremendously challenging environment which is putting pressure on growth and margins. Faced with consumer demand for faster fashion at competitive prices and a proliferation of choice, retailers are struggling with high inventories and slow sales. In parallel, rising apparel sourcing and production costs are heavily impacting margins.

While shifting production volumes to countries with increasingly lower production costs might appear as a possible way out of the gross margin trap, the true impact is limited. Switching sourcing markets is simply not going to drive the cost savings retailers need to compete. Instead, a longer-term solution to cost pressures is needed.

Sourcing and production cost hikes

Global cost increases for apparel and footwear production have steadily continued over the last two years. Sourcing markets with stable costs are now rare, while the vast majority showed strong increases in production costs. This does not only affect China, which has already been on a strong upward trajectory for many years, but also many of the typical low-cost sourcing destinations in South East Asia, such as Bangladesh, Pakistan, and Indonesia.

Cost increases have been driven by both rising labour costs and strengthening local currencies in the sourcing markets. Rising minimum wages in developing markets, increased competition for skilled factory workers, and growing alternative work offers, particularly in China, are all factors that have contributed.

Facing these strong cost increases in key sourcing markets, brands and retailers continue to search for alternatives in their global sourcing portfolios, shifting production from more established yet

increasingly costly regions, such as South-East China, to less developed but cost competitive regions, like Western China, Myanmar, Cambodia.

While switching markets will ease cost pressures in the short-term, it adds significant risk to flexibility, operational performance, product quality and corporate social responsibility. In addition, capabilities for selected product groups are not available in the same breadth and quality, limiting the opportunity for larger shifts of volume, particularly for products on higher price points and with more sophisticated technical requirements.

As costs continue to increase in almost all sourcing countries, retailers need to find another way forward.

Unlocking trapped value

Retailers and brands can make bigger gains by reinventing their operating model to unlock trapped value in their supply chains. Closer alignment and intensified collaboration between product development and suppliers improves product innovation and quality, time to market, reliability and execution. This provides effective means to tackle the significant pressure many brands are facing with regards to markdowns and ultimately drive realised gross margin.

This approach requires a different way of working compared to the traditional execution-oriented sourcing function. Digital technologies will play a critical role in orchestrating all sourcing and supply chain capabilities. 

For example, differentiated supplier capabilities must be leveraged along the entire value chain, from planning, through design and development, material management, costing and logistics. Closer collaboration will mean more common standards, definitions and KPIs. An integrated cloud-based database can provide end-to-end transparency and control, internally as well as with third party suppliers. Furthermore, it allows dynamic access to big data insights across the entire value chain which can improve merchandise and production capacity planning.

Predictive analytics can also optimise decision-making across the ecosystem which is critical when operating in a volatile environment and on short timelines. Retailers can more accurately pre-empt consumer demand for particular trends and use those insights to inform supply. 3D printing is also improving efficiency and cutting down sample iterations, and cut and sew robots are paving the wave for greater production efficiency.

New value creation

By reshaping the fashion value chain, technology will prove to be the key enabler that provides the tools for analytical optimisation. Closer collaboration and the smart application of technology will give retailers and brands the power to drive true consumer value from their supply chains, and will present a sustainable margin optimisation solution compared to what any tactical sourcing market shifts can provide. 

Dr Peter Rinnebach is MD at Kurt Salmon, part of Accenture Strategy.

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