Peter Cheung and several hundred others crammed into a Los Angeles conference hall in April to discuss the plight of the textile industry. The meeting was held by US clothing retailer Guess, and the star participants were the company’s top international suppliers, of which Cheung is one.
In his capacity as executive director of China Ting Group, a Hangzhou-based, Hong Kong-listed manufacturer that counts Macy’s and Express among its other clients, Cheung has attended dozens of these meetings over the years. But the most recent round of gatherings, taking place amid falling global demand, has seen a marked shift in tone.
“The brands say it’s now a different world,” Cheung explained. “They try to squeeze the vendor as much as they can because they need to lower prices. They put pressure on the vendor to supply better quality products, and they want to place orders as late as possible.”
Know your partners
For the brands themselves, though, the meetings have become as much about extracting information as sharing it.
Jeff Streader, senior vice president for global sourcing at Guess, which spends 40% of its US$800 billion annual purchasing budget at Chinese factories, is not overly worried about his company’s demand situation. Orders placed up front in 2009 are down by one-quarter on last year, although some of this shortfall could be made up through short-notice orders.
Similarly, Thomas Nelson, managing director for sourcing at VF Asia, which owns brands ranging from Wrangler to The North Face, doesn’t expect his China sourcing to fall at all this year. The company spent US$1.6 billion in Asia in 2008, with nearly half of it going to China.
Streader and Nelson’s concerns are directed toward the factories’ ability to supply: Both have seen long-standing suppliers disappear in the export crunch.
“If your garment factory is running at 100% efficiency, you are making money. At 75%, you are breaking even. At 50% or below, you are hemorrhaging cash,” said Streader. “The problem in China is that if the demand is down and they are at 50%, and they don’t have any cash, then they are gone. And if our top three knit guys in China disappear then we are hurt.”
Large buyers typically track their suppliers’ progress across a range of criteria, from technical capability to social compliance. Now they need good information more than ever before. Reports at the end of last year said 10,000 Chinese clothing and textile factories had closed and two-thirds of those still in business were struggling to stay there. There is no shortage of tales of manufacturers who borrowed heavily to expand production only to slip into insolvency when demand fell.
“The biggest thing for us is to make sure the vendors we have are financially viable,” said Nelson. “That’s the key to all this: When times are tough, how do you pick the right guys to do business with?”
Just as the global brands are reexamining their supply networks for risk exposure, suppliers are encouraged to look deeply at their business models. Are they overly dependent on certain raw materials and accessories suppliers? Do they have a tight grip on treasury affairs? Are they moving toward vertical integration?
“We always say to customers that if you want to be efficient in your operations, you need to have transparency through the value chain,” added Marco De Lorenzo, industry principal for consumer products in the Asia-Pacific region at SAP, a leading business software provider. “Companies that don’t do real-time cost controlling are less likely to survive.”
Rising costs were a considerable headache for textile manufacturers last year, hit by the “triple whammy” of renminbi appreciation against the US dollar, higher compliance costs under the new Labor Contract Law and the removal of value-added tax rebates on exports.
“It is difficult because the prices are going down but the costs are going up,” said Kenny Chan, vice president of Nature Group, which supplies premium cotton polo shirts to the likes of Callaway, Ashworth and Greg Norman.
Nelson of VF Asia has little time for suppliers’ cost complaints, noting that most Asian manufacturers don’t have engineers on site looking at waste elimination. He recalls going into factories that claimed to be running at optimum efficiency, and coming out with US$400,000 in potential reduced costs simply through the elimination of waste – in everything from water use to fabric use – and non value-added services.
“Take this as a positive time, and use it to look at your organization and make it stronger,” Nelson told a room full of suppliers at a conference in Hong Kong.
Cut out the fat
For those that are able, the pickings could be rich. VF deals with 350 factories in Asia; it cut its supplier base by 10% last year and plans a further reduction in 2009. Guess currently sources from 125 factories in China, but Streader envisages ultimately cutting this to 50. This means more business for the select few.
Cheung of China Ting and Chan of Nature Group say the spate of factory closures has already resulted in some natural consolidation as buyers seek to build partnerships with the suppliers that remain. Both are confident their firms can ride out the storm – Cheung points to China Ting’s size and strong balance sheet, while Chan notes that Nature Group is a leading player in a niche market – and benefit from the buyer-driven consolidation still to come.
What these manufacturers want is government assistance to progress. Beijing has already reinstated export tax rebates, forged better access to bank lending and even granted some leeway on labor law compliance. Renminbi appreciation has become negligible.
Next on the wish list is funding for training that encourages product development. Not only would this help keep down costs, it would also allow companies to bridge the gap from the low-value original equipment manufacturer model (OEM) to the original design manufacturer (ODM) model. Ultimately, a few will have the ability to develop their own brands and retail networks.
“In the beginning we were doing OEM business and they were just giving us the design, but now we have our own design teams and they pick up our designs,” Chan said.
China Ting is further ahead, with four brands and 450 retail outlets to its name. The company has a retail expansion strategy focused on second- and third-tier cities, and Cheung is eyeing 1,000 stores within three years. Profit from OEM and ODM operations, which totaled US$45.8 million in 2008, is still more than six times that from the retail business, but Cheung is optimistic.
“We don’t expect the OEM business to grow hugely, but there is a lot of room for expansion in our retail business,” he said.