Case Study Analysis – Li & Fung
The report must include three components: (a) page 1: essential case facts, (b) page 2 –
3: identification of major issues/dilemmas, pros and cons of two alternative paths of
action, your recommendation, and rationale for your recommendation, (c) page 4: three
essential concepts from the assigned reading(s) and a brief statement about how each
one is connected with (or helps understand) the situations described in the case
Li & Fung (A): Internet Issues
the company. Two years later, silent partner Li To
-Ming retired and sold his shares to the company.
The company retained Li’s surname, a homophone for
“profit” in Chinese, which, along with “Fung,”
a homophone for “abundance,” had an
auspicious ring when combined.
Li & Fung relocated permanently to Hong Kong at the end of World War II, expanding its
operations to include toys, garments
, plastic flowers, and electronics.
In the early 1970s, both Fung
brothers had just returned from the United St
ates: William had earned his MBA from Harvard
Business School and returned to
the business in 1972. Victor had recently completed his Ph.D. in
economics at Harvard University and, following a two-year stint teaching at Harvard Business
School, rejoined the business in 1974. Their return
heralded Li & Fung’s tr
ansition from a family-
owned business to a professionally managed firm, with a planning and budgeting system in place for
the first time. William and Victor,
the third generation to run the company, felt that the next logical
step in growing the company was to go public. In
1973, Li & Fung became the holding company for
the Group and was listed on the Hong Kong Stock Exchange. Throughout the 1980s, Li & Fung
expanded its regional network of offices throughout the Asia-Pacific region as more sources of
supply emerged in the rapidly industrializing Asia
n economies. In 1988 the Group was privatized
and streamlined, incorporated in Bermuda in 1991, an
d its trading activities we
re listed on the HKSE
in July 1992. With the 1995 acquisition of Inchcape Buying Services
5
(formerly Dodwell), Li & Fung
expanded its customer base in Europe while simultaneously shifting its sourcing network beyond
East Asia to include the Indian sub-continen
t, the Mediterranean,
and Caribbean basins.
By 2000, Li & Fung was a $2 billion global export trading company with 3,600 staff worldwide,
sourcing and managing the global
supply chain for high-volume, ti
me-sensitive consumer goods.
(
Exhibit 1
shows 1999 Li & Fung financial data.) By 2000, 69% of Li & Fung’s sales were in the United
States and 27% in Europe. Key customers included
The Limited, Gymboree, American Eagle, Warner
Brothers, Abercrombie & Fitch, and Bed, Bath, & Be
yond. Tesco, Avon Products, Levi-Strauss, and
Reebok had become customers within the last two
years; Royal Ahold, Guess Jeans, and Bebe had
signed on in 2000.
Li & Fung’s product mix included
hard and soft goods. Soft goods referred to apparel, including
woven and knit garments for men, women, and chil
dren. Hard goods included fashion accessories,
festive or holiday products, furnishings, giftware,
handicrafts, home products, fireworks, sporting
goods, toys, and travel goods. Hard goods provided
higher margins than soft goods because, despite
a generally lower item value per unit, they required
higher value-added services for orders that were
also usually much smaller than soft goods orde
rs. Hard goods items such as watches, shoes,
suitcases, kitchenware, or teddy bears required an
inspector for quality control evaluation for even
the smallest batch order, thereby greatly increasing
what Li & Fung could charge. Margins for soft
goods were roughly 6% to 8%, while margins on
hard goods ranged anywhe
re from 10% to 30%,
depending on the degree of complexity involved in
sourcing raw materials.
Li & Fung attempted to
expand its sale of hard goods. In 1998 soft and ha
rd goods contributed 77.5% and 22.5% of total sales,
respectively, while the proportion of hard-goods sa
les grew to 25% in 1999 and was projected to
increase to 27% in 2001 and 29% in 2002.
Holistic Supply-Chain Management
Although Li & Fung described itself as a trading company, by 2000 it was far more sophisticated
than a typical Hong Kong import-export trading company and had come a long way from its roots in
matching Chinese manufacturers with Wes
tern buyers. In Victor’s words:
5
For details, see
Acquisitions
on page 5.
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3
We have been changing. Now we’re orchestratin
g a whole production process that starts
from raw materials all the way through to fini
shed product. If you look at the old days,
language skills could guarantee you margins better than we have now. My grandfather used
to charge 15% or more, basically to be
an interpreter. Those days are over.
6
With 48 offices in 32 countries, the company pr
ovided value-added services across the entire
supply chain in a so-called “borderl
ess” manufacturing environment (see
Exhibit 2
). A down jacket’s
filling, for example, might come from China, the
outer shell fabric from Korea, the zippers from
Japan, the inner lining from Taiwan, and the elastics, label, Velcro, and other trim from Hong Kong.
The garment might be dyed in South Asia, stitched in China, then sent back to Hong Kong for quality
control and finally packaged for delivery to The Li
mited or Abercrombie & Fitch. Victor explained:
Say we get an order from a European retail
er to produce 10,000 garments. We determine
that, because of quotas and labor conditions, the best place to make the garments is Thailand.
So we ship everything from there. And beca
use the customer needs quick delivery, we may
divide the order across five factories in Thailand. Effectively we are customizing the value
chain to best meet the customer’s needs. Five weeks after we received the order, 10,000
garments arrive on the shelves in Europe,
all looking like they came from one factory.
7
Li & Fung clients benefited in several ways: supply-chain customization could shorten order
fulfillment from three months to five weeks, and this faster turnaround allowed clients to reduce
inventory costs. Moreover, in its role as a middlema
n, Li & Fung reduced matching and credit risks,
and also offered quality assurance to
its customers. Furthermore, wi
th a global sourcing network and
economies of scale, Li & Fung coul
d offer lower cost and more flexible sourcing than its competitors.
In addition, through acquisitions and global expa
nsion, Li & Fung was extending this knowledge
base to Sub-Saharan Africa, Easter
n Europe, and the Caribbean. Finally, Li & Fung provided up-to-
date fashion and market trend information to clients.
As a result of its Camberley acquisition in 1999
it started offering clients virtual manufacturing, or product design services.
According to Victor: “Li & Fung does not own an
y of the boxes in the supply chain; rather, we
manage and orchestrate it from above. The creation
of value is based on a holistic conception of the
value chain.” In recent years, however, Li & Fung had begun to improve operations by controlling or
owning strategic links in the chain.
In some cases, Li & Fung offered raw material sourcing. In the
past when clients placed an order, Li & Fung
would determine the manufa
cturer best suited to
supply the goods, and that factory would source its
own raw materials. But Li
& Fung understood its
clients’ needs better than its manufacturing plants di
d, so by offering raw materials to its suppliers,
the company both ensured greater
quality control and bought larger and thus more cost-effective
amounts of raw materials, thereby pr
oducing cost savings for each manufacturer. In such cases, Li &
Fung also earned revenue by char
ging its factories a commission on
each raw material purchase they
made. By mid-2000, nearly 15% of Group sales invo
lved Li & Fung’s raw material sourcing service.
Corporate Culture and Compensation
From the 1992 privatization on, the division of labo
r between the Fung brothers was clear-cut: as
Group chairman, Victor was primarily concerned with the Group’s strategic issues and long-term
planning. As the Group managing
director, William attended to ever
yday operations of the publicly
6
Gren Manuel, “Technology Journal: Historic Trader Keeps It
s Cool—Li & Fung Says It’s Fo
und a Place in the Internet
Economy,”
The Asian Wall Street Journal
, March 27, 2000, p. 15.
7
Joan Magretta, “Fast, Global, and Entrepreneurial: Supply Ch
ain Management, Hong Kong Style, An Interview with Victor
Fung,”
Harvard Business Review
, September–October 1998, p. 106.
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301-009
Li & Fung (A): Internet Issues
4
listed trading arm, or as he joked in a recent interview, “Victor is the deep thinker, and I just make
the money.”
8
In another interview, Victor joked that “William calls me the visionary, meaning that I
don’t really know what’s going on.”
9
But both brothers lived in the same apartment building as their
mother and sisters and conversed every day to keep
abreast of developments at Li & Fung. The duo
created a strong synergy that was described as follows by the CEO of the Group’s e-commerce
venture:
. . . a combination of both thought leadership
and execution, with the unique relationship
between Victor and William cementing the entire
organization. They crea
te a very particular
kind of culture that blends pragmatism and, at
the same time, a recognition of and openness to
innovation.
According to Victor, once the business was successful,
it was essential to keep an open mind and,
rather than resting on their laurels, to move past success and look forward. Furthermore, Victor held
that it was imperative to cultivate a corporate
culture that not only tolerated but encouraged
diversity, or in his words, “keep the culture so th
at it remains humble, agile, and responsive all the
time and keep the people externally focused.” Bi-ann
ual retreats were held in Hong Kong, and senior
management meetings were attended by division-level managers in order to foster communication
across the group.
Li & Fung’s 3,600 employees were spread around the globe in offices ranging in size from six staff
in Saipan to 1,100 in the Hong Kong head office. Five of the 48 offices were hubs—Hong Kong,
Taiwan, Korea, Thailand, and Turkey. Each (except the Hong Kong office) had 200 to 300 employees.
Li & Fung was entrepreneurial, allowing senior
managers to run 90 small, worldwide management
teams as separate and individual companies. These
dedicated teams of product specialists focused on
the needs of specific customers and were groupe
d under a Li & Fung corporate umbrella that
provided centralized IT, financial, and administrati
ve support from Hong Kong. This decentralized
corporate structure allowed for adaptability and rapid reaction to seasonal fashion shifts.
As a meritocracy, performance-based promotion
and compensation were cardinal principles.
Each of Li & Fung’s top executives negotiated in
dividual compensation packages. In contrast to
companies that restricted executiv
e bonuses to a fixed percentage of salary, Li & Fung bonuses were
based on profits with no ceiling. In the words of one journalist:
It’s not every company that calls its executives
“little John Waynes.” But for Li & Fung, the
image captures perfectly the drive, dedication
, and independence of the company’s far-flung
managers. As Li & Fung extended its geographic reach, it also expanded its mix of cultures.
And to manage the mix it uses a simple formula:
give managers the freedom to work as they
see fit, so long as they get the job done.
10
Tripartite Growth Strategy
In 2000 Li & Fung saw its future growth coming from a combination of organic growth, expansion
through acquisition, and extension of its su
pply chain to new markets via the Internet.
8
Louis Kraar, “The New Net Tigers,”
Fortune Magazine
, May 15, 2000, p. 310.
9
Joanna Slater, “Masters of the Trade,”
Far Eastern Economic Review
, July 22, 2000, p. 10.
10
Joanna Slater, “Corporate Culture,”
Far Eastern Economic Review
, July 22, 1999, p. 12.
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of copyright. [email protected] or 617.783.7860.
Li & Fung (A): Internet Issues
301-009
5
Organic Growth
Since 1995, the Group had grown or
ganically by receiving more orders from existing clients and
by securing new mandates from strategic clients.
Li & Fung further extended its network and
diversified its sourcing around the globe with new offices in places as diverse as Bangladesh, Sub-
Saharan Africa, and Manchester, England (see
Exhibits
3
and
4
).
In 1996 Li & Fung adopted a “three-year plan” system, one which William described as having
been adopted directly from the economic planning
system of the Chinese Communist Party, which
“allow[ed] the company to look ahead, but not too far ahead.” William elaborated:
We thought that the Chinese had a neat system.
They have five-year plans, fixed; we have
three-year plans, fixed. We don’t want moving goalposts, we want set goals. At the beginning
of every three-year plan we sit down and look
at the business from its fundamentals. We use
backwards planning, we recognize
where we want to be in three years time, identify the gaps
between that and where we are now, and see what we have to do to get there.
During its first three-year plan (FY1993–1995), entitl
ed “Filling in the Mosaic,” Li & Fung focused
on filling in the gaps in its network of offices to cover new sourcing markets. The second three-year
plan (1996–1998), “Margin Expansion,” was launched immediately after the Inchcape acquisition to
increase Li & Fung’s profitability. A third three-year plan, “Doubling Profits” (FY1999–2001),
established the goals of doubling profits every three years and achieving $3 billion in annual sales.
Investors liked the results: Li & Fung outperfo
rmed the Hang Seng Index (HSI) by over 75% in
2000. The reward was inclusion in the Morgan Stan
ley Country Index for Hong Kong in May 2000,
subsequent inclusion in the HSI in August 2000, an
d on the FTSE World Index Hong Kong Section in
September 2000. With a market capitalization of $6.6 billion, by mid-2000 Li & Fung was the
nineteenth-largest Hong Kong stock trading with
a company record price-to
-earnings (P/E) ratio of
nearly 60. A local newspaper declared:
It is difficult to find a bad word [about Li & Fung]. It could be a poster-child for
shareholder value, with a return-o
n-equity of 60.2% at the end of last year. The firm is well
positioned to benefit from the opening of the
mainland market and Beijing’s accession to the
World Trade Organization, with 40% of so
urcing on the mainland and Hong Kong.
11
Acquisitions
Li & Fung’s acquisition strategy was based on buying rival sourcing companies, thereby gaining
new client accounts, integrating their operations,
and eventually bringing the operating margins of
these acquired units up to Li & Fung levels. In 1
995 Li & Fung acquired Inchcape Buying Services, a
100-year-old company roughly the same size as Li & Fung and its closest competitor. The Dodwell
acquisition brought access to sourcing markets on
the Indian subcontinent and European export
markets. This acquisition took nearly three years to be fully absorbed into Li & Fung’s operations.
Within three years, Dodwell’s operating margins in
creased from 0.8% to 3%, primarily through the
provision of Li & Fung value-adde
d services to Dodwell customers.
In December 1999, Li & Fung acquired the export trading operations of the Swire Group (Swire &
Maclaine) and Camberley, which were Li & Fung’s
next-largest Hong Kong-based competitors, and
in the process became the only listed supply-chain management company in Hong Kong. Like Li &
11
David Wilder, “Internet Key to More Gains for Li & Fung,”
South China Morning Post
, September 4, 2000, Business Post, p. 1.
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