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WŽƚĞŶƚŝĂůdŚƌĞĂƚƐƚŽ>ŝΘ&ƵŶŐ͛ƐƵƐŝŶĞƐƐDŽĚĞů;ϮͬϮͿ͗Internal
November 15, 2010
The pace of change/expansion at Li & Fung is a lot faster than at most other companies. In the one
hand it seems the company is over-‐extending itself into multiple direction at the same time, but
then when you look at their rolling 3-‐year plan, they do seem to have one major aim at a time. It
was top line growth in 2005-‐2007, and more margin improvement in 2008-‐2010 and likely to be
business model expansion through focusing on accessing Chinese consumers for 2011-‐2013. Is Li &
Fung trying to run marathon like a sprinter, or is it just quicker, more agile and more flexible?
x Organizational complexity
x Ambitious value chain expansion
x Improving margin
x Competition with customers
x Hazy strategy over asset ownership
x Competition with suppliers
I did not rate them, because they are all high impact and high probability threats. However, in
my opinion, the chance for these threats to materialize in the coming 3-‐4 years is quite low. Li &
Fung took the aggressive expansion only recently, and it has managed well so far. Also, even the
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more obvious flaws at less well-‐managed organization often take time to manifest. Plus, current
external environment is quite favorable to Li & Fung. The fact that Li & Fung is running instead of
walking itself does not predict impending failure, but it does mean the need to monitor
closely. And below is detail of the threats that I have identified:
Li & Fung historically grew by acquisition but it kept acquired organizations more or less in-‐tact. Li
& Fung brought cost saving to customers by 1) empowering what used to be middle-‐office 2) well-‐
ĂůŝŐŶĞĚƐƚƌŽŶŐĐĂƐŚŝŶĐĞŶƚŝǀĞƚŽ͞>ŝƚƚůĞ:ŽŚŶtĂLJŶĞ͕͟ĂŶĚϯͿŬŶŽǁůĞĚŐĞĂƌďŝƚƌĂŐĞ͘ That is why
ŚŝƐƚŽƌŝĐĂůůLJ>ŝΘ&ƵŶŐ͛ƐĨŝŶĂŶĐŝĂůƌĞƐƵůƚĚŝĚŶŽƚƐŚŽǁŽƉĞƌĂƚŝŶŐůĞǀĞƌĂŐĞ͘ However, from around
2006, Li & Fung centralized shipping and compliance function of its sourcing divisions serving
various customers, and it also started sharing regional office resources across different teams
serving different customers. I.e. Li & Fung is increasing middle office functions.
This brings the long-‐missing economies of scale, but at the same time poses some potential
problems. First of all, calculating the contribution of LJWs is not as easy as before. Second, there
is a chance that it gets overly complicated. Think of Li & Fung as SAC of sourcing industry and
imagine yoƵƌƐĞůĨƚŽďĞ>ŝΘ&ƵŶŐ͛Ɛ>:t͘ What attracts people to SAC is not how efficient SAC is but
how simple and transparent the SAC structure is no matter what the culture is.
.
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Threat 2: Ambitious Value Chain Expansion
Li & Fung is expanding across the value chain. I am sure Li & Fung will capture more $ in its initial
stage of expansion, but as the expansion continues, there is a good chance that li & Fung will also
turn into a dinosaur. If its customers were unable not handle all process of the value chain
efficiently enough and thus outsourced, then why should Li & Fung be able to do that?
Previously, even if Li & Fung was expanding product categories, its role was still knowledge
arbitrager and network orchestrator. Today, for example, with IDS acquisition, it is largely locked in
ƚŽ/^͛ƐůŽŐŝƐƚŝĐƐnetwork. There is nothing wrong with this move itself. After all, it is all about
finding the right balance, but with increasing integration, the risk of losing the balance has grown.
As you can see in the below graphs, Li & &ƵŶŐ͛ƐŵĂƌŐŝŶŚĂƐďĞĞŶŝŵƉƌŽǀŝŶŐ͕ĂƐĂƌĞƐƵůƚŽĨĂďŽǀĞ-‐
mentioned efficiency improvement initiatives and expansion into higher-‐margin on-‐shore
businesses.
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And with the expansion of higher value-‐adding areas of value chain, it is likely to become higher
after the initial stage of building up the scale.
.
Li & Fung more or less owns Roots Asia. It pays licensing fee to Roots of Canada, but it does
everything from product development to marketing and sales. For example, recently Li & Fung
ĚĞǀĞůŽƉĞĚŶĞǁĐŚŝůĚƌĞŶ͛ƐƐůĞĞƉǁĞĂƌůŝŶĞŝŶ-‐house, procured it through its supplier network, and
ƐŽůĚŝƚƐƵĐĐĞƐƐĨƵůůLJŝŶdŽLJƐ͟Z͟ƵƐƐŝĂƐƚŽƌĞƐǁŚŝĐŚ>ŝΘ&ƵŶŐŐƌŽƵƉŽǁŶƐƚŚƌŽƵŐŚƵŶůŝƐƚĞĚ
subsidiary.
Is this just an exception or is it a prelude of more to come? Li & Fung might say it is just part of an
expansion strategy of helping customers reaching Asian customers, but few will believe it.
.
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>ŝΘ&ƵŶŐ͛ƐďƵƐŝŶĞƐƐ is asset-‐light. The company has negligible amount of PP&E and inventory and
in fact, it has negative net tangible asset. However, IDS owns manufacturing facilities, and
ŝŶǀĞŶƚŽƌLJ;ƚŚŽƵŐŚŝƚĚŽĞƐŶ͛ƚƚĂŬĞŝŶǀĞŶƚŽƌLJƌŝƐŬͿŝƐĂďŝŐŐĞƌƉŽƌƚŝŽŶŽĨƚŚĞŝƌĂƐƐĞƚ base. Also, Kenas
furniture Li & Fung acquired in August, owns manufacturing facilities and takes inventory risks.
The question is not whether asset-‐light model is superior to asset-‐heavy model, but whether the
asset the company owns is value-‐adding or not. I agree that owning Listerine bottling facility is
relatively more value-‐adding than owning sweater manufacturing facilities; but I am not sure
whether it is value-‐adding in an absolute sense. /ĂŵŶŽƚďĞŝŶŐƐŬĞƉƚŝĐĂů͕ďƵƚ/ũƵƐƚƌĞĂůůLJĚŽŶ͛ƚ
know.
These assets Li & Fung acquired are unlikely to create sub-‐par value as of today. Had it been the
case, the company would have decided (or will soon) decide to divest these assets. However, the
company is likely to keep these assets, and over time it can cause hazy strategy over asset
ownership. As all flexible rules do, what is initially owning well-‐selected strategic assets can evolve
into owning many non-‐strategic political assets.
.
As I mentioned above, Li & Fung now has one toe in manufacturing. It is not in direct competition
to the majority of its suppliers who make garments, bags, and shoes. However, as Li & Fung
expands its product category, what the tension with suppliers could grow.
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