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Essay: Zara positioning, external analysis & business strategy

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  • Published: 7 October 2022*
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1. Overview

Zara is a global, vertically integrated specialty retail chain that is part of its parent group Inditex. Along with the other five chains that are part of the Inditex group, it designs, manufactures and sells apparel, footwear and accessories for women, men and children. The primary activities that they engage in are in design, sourcing, manufacturing, distribution and retailing, while the secondary activities they engage in are in staff training and HR management, real estate portfolio management, market research and trends analysis and management of information technology. It is part of the apparel retail industry, worth about 900 billion euros worldwide. Zara competes with other major fashion retailers globally, where key competitors include The Gap (US), H&M (Sweden) and Benetton (Italy). Inditex’s growth is rapid and profitable, posting a net income of 340 million euros on 3.25 billion euros of revenue in 2001, a 31.3% Y-o-Y growth from the previous year, and a 50% increase in stock price, outperforming its major competitors in the industry. This is largely driven by the success of the Zara chain, whose highly coordinated business system allowed to create a sustainable competitive advantage over other major retailers. This report serves to analyze Zara’s capabilities, competitive positioning relative to its competitors, and how those factors reinforces its business strategy.

2. Zara’s Competitive Positioning

2.1 Internal analysis

Zara’s positioning in the fashion retailing market emphasizes on speed and fashionableness. Their core competencies are structured around the following areas: having a wide and constantly updated variety of designer-style garments and accessories; having products designed on-demand in response to current trends and consumer preferences; and generating customer awareness and pull using their storefronts.

In order to achieve these competencies, Zara has accumulated a set of resources and capabilities that they manage and organize successfully. These resources are listed out in the table below and analyzed using the VRIO framework to identify the key factors of Zara’s competitive advantage.

Resource Valuable Rare Hard to Imitate Organized

Telecommunication System    

Centralized Distribution Centre 

Just-in-time Manufacturing System    

130km square-meter warehouse 

Headquarter Location (Galicia)    

Retail Stores  

Founder / Chairman    

Store Managers    

Designers 

Subcontractor & Supplier Network 

*Resources that satisfy VRIO framework are highlighted.

From the table, it can be observed that the key resources that Zara has are its telecommunications system, JIT manufacturing system, its headquarter location, its founder and chairman, its store managers as well as its retail stores.

The telecommunication system was built to connect and coordinate Zara’s multiple activities including the headquarters, supply chain, production, manufacturing and retailing. It enables Zara to form tight feedback loops between each business function and react quickly to customer and sales input on the ground, making it very valuable. As Zara is the only fast fashion chain that is so highly vertically integrated, it makes the system not only rare, but also hard to imitate, due to the high capital costs and steep learning curve that companies need to go through to learn the optimal ways that each business line coordinates with each other that makes the system effective.

As the only vertically integrated retailer, Zara’s JIT manufacturing system allows the chain to realize the shortest design to store product cycles in the industry. They adopted supply chain principles that was seen primarily in the car manufacturing to apparel production, making it a rare occurrence. As most fashion manufacturers produce clothes based on fixed season designs given by designers or retailers, there is no incentive for them to invest in such a system. Furthermore, fashion retailers who want to backward integrate would face significant costs like capital expenditure and ending of supplier relationships, which would deter them from making such an investment, making Zara’s manufacturing system hard to replicate.

The headquarter location, Galicia, was an undervalued resource before being transformed by Zara. Although there was skilled labour and abundance of apparel workshops in the area, it lacked the infrastructure and coordination that would make it attractive as a fashion hub compared to other areas of Spain as well as Italy. However, Zara took the opportunity to become the coordinator of fashion activities in the region by subcontracting labor-intensive work to these workshops and formed long-term relationships with them by creating a sense of dependency. The chain also realized that Galicia was strategically located that would help to reduce transportation costs. With Zara dominating the supply side, it is hard for competitors to create the same advantage in the same area, allowing Zara to derive maximum value from this resource.

Amancio Ortega Gaona, the founder and chairman of Zara, had developed heightened awareness of how costs piled up in the apparel chain. His interest in technology also gave him the insight to tap into store data to learn about what customers wanted. The work experience he accumulated since a young age helped him develop a strong business acumen in the fashion industry which led him to create completely new innovations that helped Zara create a strong competitive advantage.

Store managers are key to Zara’s store management and design input that allows the chain to understand customer demand at a deeper level compared to other competitors. They provide their insight on customer sentiment and product movement cannot be captured through a sales-tracking system, then convey it to the designers working on the season’s collection. As their work is very closely tied to Zara’s business system, store managers undergo comprehensive training programs to get equipped with specialized skills that may not be as transferable in other retail systems, which make them hard to imitate. Zara’s compensation system also maximizes value extraction by tying incentives to key success metrics, which makes store managers focus on good store performance.

2.2 External Analysis

There are external forces affecting the fashion industry that impacts Zara’s profit potential as discussed below.

Zara faces high rivalry from competitors. The retail chain industry is an ogliopolistic one, made up of key players that include Inditex, H&M, Gap and Benetton. Fashion retail chains command high profit potential with increased revenue concentration, accounting for 85% of total retail sales in the US, 70% in Western Europe and 1/3 to ½ in Latin America, East Asia and Eastern Europe. However, although worldwide retail spending reached 900 billion euros worldwide, share of expenditure on apparel decreases as incomes increase, indicating that retailers would eventually have to find growth at the expense of their competitors. Furthermore, international expansion would be a challenge due to increased costs and localization issues, which may force competitors to focus more on existing markets. Although the phasing out of MFA’s quota system and reduction of tariffs makes it easier for international apparel players to enter and compete in the same industry, but there is also increased risk of demands for managed trade and protectionism.

Barriers to entry in fashion retail are high. To become a large apparel retailer requires a significant amount of upfront investment, especially in retail stores and logistics costs. Only players with large sources of funding would be able to enter the market. Furthermore, building supplier relationships and realizing economies of scale for better costs require time and experience to build up.

However, apparel chains also face significant competition from substitutes in the form of branded manufacturers, branded marketers and independent stores, all of whom also offer differentiated apparel at varying price points but using different business models. Branded marketers such as Liz Clairborne outsourced apparel production while selling items in department stores, while branded manufacturers produced their own items and selling them under their own brand name through several retail channels.

Nonetheless, Zara could reap competitive advantages through their suppliers as the power of suppliers over Zara is very low. About 20 suppliers accounts for 70% of Zara’s external purchases with minimal formal contractual commitments, which shows that Zara has the ability to switch suppliers easily. Furthermore, for the workshops that Zara outsources labor-intensive and scale-insensitive items to, Zara not only accounts for most if not all of their production, but also provides them with resources like technology, logistics and financial support, making these subcontractors highly dependent on Zara for revenue.

Furthermore, Zara has strong power over buyers as it is the only retailer that refreshes offerings consistently, which makes them highly differentiated from competitors in the market who only updates offerings once every season. Apparel and accessories that are produced according to what customers actually want to buy, which makes shoppers more inclined to visit Zara to buy clothes.

In addition, Zara appeals to many buyers because they do not have a fixed image that they created via branding. Hence there is no single buyer that makes up a large portion of their revenue.

Thus, although Zara faces an increasingly competitive climate, it commands strong differentiation in its products and negotiating power that helps it reduce costs which puts its profit potential ahead of its competitors.

3. Business Strategy

Zara pursues a blue ocean competitive strategy that allows it to compete on both differentiation and cost. This can be seen by identifying Zara’s business activities and analyzing them according to the Eliminate-Reduce-Raise-Create framework to see how the activities helped it to create value innovation.

3.1 Value Innovation according to ERRC Framework

Zara combines its primary and secondary activities to capture significant value in the retail value chain. The following highlights how these activities helped Zara to lower costs while increasing the total perceived consumer benefits simultaneously.

Eliminate

Zara eliminated traditional fashion marketing channels such as ready-to-wear shows, and strong advertising campaigns that gives the company a strong associated branding in favour of their store fronts, where beautiful presentation, fresh product assortment and high traffic footfall would generate customer awareness of the brand. This helps Zara to reduce advertising expenditure to only 0.3% of total revenue, compared to the industry standard of 3-4%.

Reduce

Product cycle times (from design to store) that Zara could generate was at four to five weeks, compared to the industry standard of six months for design and three months for manufacturing. The efficiencies generated by having a vertically-integrated supply chain enabled Zara to react quickly to the market, while keeping product inventory held at hand at a minimum. As a result, Zara managed to keep failure rates on new products to 1% compared to the 10% industry average and kept markdowns to 20-25% of total sales compared to the 30% average of other retailers.

Raise

Zara increased the number of new products that they offer every season, with new designs arriving in each twice-weekly shipment. This helped Zara maintain freshness in product offering, which results in a much higher number of average visits per customer. A Zara customer visits the store approximately 17 times a year, four to five times more than the average of three to four times for other retail stores.

Furthermore, Zara also increased their product turnover by limiting the length of time that each design could be displayed in stores before they are replaced by new designs, which creates a sense of scarcity among customers, encouraging them to buy more items out of urgency.

Zara’s retail stores are updated more frequently in terms of interior presentation or location compared to other retail chains. This ensures that Zara maintains its customer pull while still tapping onto the optimal amount of footfall based on current shopping district and traffic patterns.

Create

A new business system was created that enabled a bottom-up design process, informed by hard sales data and current trends, rather than the typical top-down system in the industry where designers determined what was going to be in stores. This system worked based on close coordination between supply chains, production locations and retail stores via an in-house information system. This helped Zara offer products based on customer preferences, which are more likely to be the type of items that customers would demand for.

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