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For&From: Inditex Group’s Social Franchise

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For&From: Inditex Group’s Social Franchise Carlos Piñeiro, head of Inditex Group’s Social Investment, wrestled with himself as he reviewed the results of the For&From chain he had to attach to the company’s Annual Report. This chain “for unique people from unique people” had just celebrated its 15th anniversary, and, over its life span, it had certainly come a long way. From selling 10,000 garments and creating 12 jobs for mentally-challenged individuals during its first year in business, For&From had moved on to selling over a million garments across 13 dedicated stores and offering more than 150 job opportunities. Piñeiro truly believed that this social franchise scheme was mature enough to embark on a path to greater growth. However, it still faced some opposition inside Inditex. Global brand management entailed some serious reputational risks: in the age of social media, any mishap could go viral and become internationally visible in a matter of minutes. This robust textile conglomerate regarded its brands as its most valuable assets and safeguarded their use zealously. As a result, some group executives preferred to stick to traditional philanthropy efforts, rather than venturing into more high-profile social projects. The idea to support “social outlets” with a view to promoting handicapped people’s labor inclusion lacked unanimous backing. In turn, others thought the potential of this social franchise to deliver a positive impact on society proved substantial. Piñeiro wondered if the time had come to expand this chain in Spain and even to replicate this scheme in other countries.

Inditex Group’s Background The group called Industria de Diseño Textil, S.A. ("INDITEX") encompassed eight retail formats with extensive international operations (see Exhibit 1 for a map showing Inditex’s major markets). Zara, the Group’s oldest store chain (see Exhibit 2 for a list of Inditex’s eight brands), raked in 70% of Inditex’s sales via 2,162 stores across 88 countries. By late 2016, Inditex owned 7,013 stores around the world and operated online in 42 countries. Up 10% as compared to the year before and amounting to a net income of €3.157 billion, sales in 2016 totaled €23.311 billion, turning Inditex into the world’s best-selling fashion player, ahead of both Sweden’s H&M and Japan’s Fast Retailing (Uniqlo). The Group employed over 162,450 people around the world, with women accounting for 74%

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This case was prepared by Ezequiel Reficco, associate professor at Universidad de los Andes (Colombia) and Alfred Vernis, lecturer at the Department of Strategy and General Management at ESADE-Universidad Ramón Llull (Spain). The case has been developed as a basis for discussion in the classroom and is not intended as an endorsement, or a primary data source, or as an example of good or poor management. Please, this is a pilot case, do not reproduce without permission of the authors. Copyright © SEKN, 2017.

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For&From: Inditex Group’s Social Franchise of its headcount. While 60% of Inditex’s sales came from Europe, Asia provided 25% of its revenues, and the Americas only 15% (see Exhibit 3 for Inditex’s key financial data in 2016). Inditex was born in 1963, when Amancio Ortega Gaona started Confecciones Goa, his first garment factory. Soon, he felt drawn to retailing and opened the first Zara store, creating his first retail distribution and sale company. From inception, Zara positioned itself as a store selling fashionable, average quality clothes at affordable prices. By late 1970, Zara had grown into a six-store chain in Galicia. In 1985, Inditex SA was formally incorporated as a holding company, and it initiated a path of rapid growth, opening its first store outside Spain (in Portugal) in 1988 and expanding to 18 other countries in the 1989-1998 period, by building or buying other fashion brands, such as Pull and Bear or Massimo Dutti. Throughout this process, Inditex experienced profound structural changes, turning from a production chain wholly based in Spain in 1980 into a network of production centers and certified, audited suppliers across the Americas, Africa, Europe, and Asia. This growth brought new challenges for Inditex, especially concerning labor, social, and economic issues that involved its employees as well as its vendors and outsourced workshops.

Inditex’s Business Model Over its 40-plus-year track record, Inditex had fine-tuned a unique business model. Self-proclaimed as a “consumer-focused” company, it intended to offer affordable fashion with a premium shopping experience. To this end, its brands’ stores became increasingly larger, with ever-improving design and very good lighting, located at the best districts in the world’s largest cities. In recent years, some of its stores had started to open in iconic buildings –true city landmarks. Inditex’s garment offerings featured significant design and meant to appeal to a broad audience with prices below its competitors’. Inditex turned into one of the few industry players to update its collection over 30 times a year, with stores receiving new garments twice a week. Inditex’s store chains targeted consumer segments spanning several age groups and style preferences. Every brand boasted creative and marketing freedom to set its own strategy, while the Group streamlined some central processes, such as store acquisition or lease, funding, raw material purchases, supply chain management, and sustainability policies. Like all fashion companies, Inditex’s chains tried to sell their excess stock at the lowest possible prices during sales periods. As Jorge Pérez, Massimo Dutti’s CEO, explained, “We sell 75% of our overall output during the season, while the remaining 25% is sold on sale. If you factor in the 1% average waste, we end up with a 1.5-2% excess inventory.” Managing this excess inventory played a significant role in the fashion business: “We have to offer novel garments, and, when we have excess inventory, physical stores need to make room for new items, as the space is very limited,” added Pérez. In recent years, some Inditex chains, such as Massimo Dutti, Bershka, and Pull&Bear, had opened their own outlets to sell excess inventory, but this store format had not proven popular at Inditex (see Exhibit 4 for every chain’s inventory management scheme). As Massimo Dutti’s Ramón Rubio put it, “At Inditex, we don’t like the outlet concept. Unlike of some of our competitors, who have strengthened their outlets, we have never really bought into that format.” Margo Agnolin, Bershka’s CEO, added, “Ten years ago, we used to have seven or eight outlets in Spain. (…) We have gradually done away with them because, at the end of the day, we find it quite hard to link them with our core business.” Most at Inditex believed that the discount channel was not in line with the premium shopping experience that its brands sought to offer customers. At outlets, garments were stacked in large boxes, poorly showcased at rather unsophisticated stores. This channel also took up the time and effort of brands’ employees. As one of them noted, “We are not in the business of selling garments; we sell fashion.”

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For&From: Inditex Group’s Social Franchise The garments that did not end up at outlets were sold via online wholesalers –known as online discount stores– at very low prices and in bulk (see Exhibit 5 for a description of new fashion retail channels). According to industry experts, online channels enjoyed a number of advantages: unlike brick-and-mortar stores, their storage room was limitless, and marginal costs were very low. Bershka’s Agnolin elaborated, “We cannot make returned garments disappear, but we do try to get them out of the countries where we operate to avoid any trouble. Group leftovers are sorted by geographical area and taken to Asia, Africa, and some areas in countries where we do not operate.” To market leftovers in other markets, online discount sellers had to remove garment labels and agree to stay away from the countries where Inditex operated.”

Inditex’s Social and Environmental Sustainability Policy As it started listing at the Stock Exchange in 2001, the Group created its Social Responsibility Department. The textile manufacturing industry’s fragmented structure (largely consisting of small and medium-sized companies) and the socio-economic conditions of host countries (mostly developing nations) forced Inditex to roll out a robust and comprehensive supply chain monitoring system as well as to build supplier clusters. By 2016, over 100 employees worked at the four areas engulfed by Inditex’s (now renamed) Sustainability Department, overseeing the production clusters located in Argentina, Bangladesh, Brazil, Cambodia, China, Spain, India, Morocco, Pakistan, Portugal, Turkey, and Vietnam. Nonetheless, unlike other brands, Inditex manufactured 60% of its output at nearby clusters –Portugal, Turkey and Morocco– to secure shorter lead times, as garments featuring design and fashion traits proved highly time-sensitive. Inditex’s production chain consisted of 1,725 vendors across 50 countries and connected to 6,298 factories. To guarantee that all items marketed by Inditex met health and safety standards, R&D programs had been built with “suppliers’ suppliers” –i.e., the chemical industry, which supplied the textile industry– to spot and replace any health or environmentally hazardous chemicals. Finally, the Group’s Sustainability Department focused on reducing Inditex’s environmental footprint across its entire chain: from factories to stores and in its products’ reverse logistics. Inditex expected to fully introduce a closing-the-loop scheme by 2017. Along with its supply chain work, Inditex had a long social investment track record. By 2016, it worked with 367 social organizations and had forged long-term strategic alliances with some of them, including Caritas, Entreculturas, Doctors Without Borders (MSF), and Water.org. The Group viewed social investment from a philanthropic standpoint, regardless of business considerations. In 2016 alone, its social investments –in excess of €40 million– directly benefited 1.1 million people. Inditex’s sustainability policy brought international accolades for both the Group and its leadership. In 2017, its CEO, Pablo Isla, ranked first among the “Best-Performing CEOs in the World 2017,” a ranking published by the renowned Harvard Business Review. Specifically, Isla rose to the top of this global list on account of his company’s sustainability policy, as noted by the prestigious magazine itself: Measured on financial returns alone, Isla comes in 18th in our ranking; his company’s performance on environmental, social, and governance (ESG) factors, which count for 20% of a leader’s score, propelled him to the top spot. ESG-rating firms praise Inditex’s transparency in managing, monitoring, and auditing its supply chain. The company encourages consumers to bring worn-out clothing to its stores for recycling (in Spain it runs an at-home-pickup recycling program), and the Join Life brand of Zara, its largest chain, is produced using recycled fibers and with careful attention to the consumption of water and other resources.2

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Daniel McGinn, "The Best-Performing CEOs in the World 2017," Harvard Business Review, Nov-Dec 2017, p. 3. An online version of this article was available on 10/24/17 at https://hbr.org/2017/11/the-best-performing-ceos-in-the-world-2017.

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For&From: Inditex Group’s Social Franchise

Launching a Social Franchise In 2001, Valentí Agustí, Palafolls’ Mayor, and Jorge Pérez, Massimo Dutti’s CEO, met to explore ways to collaborate on social programs. A physician, Mayor Valentí also chaired the Comunidad Terapéutica del Maresme (“Maresme’s Therapeutic Community”), an organization that helped mentally-challenged individuals at Maresme, a coastline county near Barcelona. Passionate about his work, Valentí convinced Pérez of the therapeutic benefits that working as shop assistants would bring to mentally-challenged people. While some local civil society organizations worked on providing labor inclusion solutions for this population segment, their ability to offer jobs proved limited, and few retail companies seemed interested in hiring these individuals. They would largely work on simple, labor-intensive jobs, such as gardening. Valentí and Pérez realized that coming up with a business venture that would assign more sophisticated tasks to these people could yield a significant impact. Soon, a leader from a labor inclusion social organization, Miquel Isanta, who managed a private foundation called Molí d’en Puigvert (henceforth, “Moli Foundation”) joined these meetings. Isanta and Valentí managed to sell the idea to Pérez, who recalled, Miquel came to us with an entirely different project. He suggested a collaboration to replicate the For&From scheme in several locations to sell leftovers via a channel that would undermine neither our brand nor our store alignment, while promoting labor inclusion for people with working disabilities and invigorating local market dynamics. At first, I told him, ‘I don’t know that I’m going to be able to support that venture over time, so, honestly, I’d rather not start it.’ But, then, the conversation shifted towards the notion of building a social store that we could supply with our products –both leftovers and samples. It would be located at Manresa and work with handicapped people. Then, it made sense to us: this social project was a good fit for us, and, from an organizational standpoint, we knew we could merge it into our business, so that it would last. To delve deeper into the project in order to establish its feasibility, Pérez asked Ramon Rubio, Massimo Dutti’s CFO, to look into it. The Moli Foundation had become the home to rehab programs for people with Severe Mental Disorders (SMDs) in Maresme County. In subsequent talks, the project started to take shape: the store chain would be managed by the social organization, manned by mentally-challenged people, and would market Massimo Dutti’s excess inventory. Every store would need to prove profitable on its own, and every social venture would have to ensure its success. Inditex’s companies would not engage in philanthropy; rather, they would forge a business relationship with their mission-critical partner in a hybrid chain, after making an up-front investment. The first store opened at Palafolls (see Exhibit 6 for a map showing the locations of For&From stores) on April 29, 2002. With some 753 square feet (70 square meters), the small store followed Massimo Dutti’s design guidelines. Managed by a supervisor with sales experience, it employed two people with SMDs and had four patients doing internships. It proved a success for the Moli Foundation, with daily sales of €527 and annual revenues of €226,000 in its first year (see Exhibit 7 for For&From’s store sales in 2014-2016). While the first store effectively laid the groundwork for the project, it took five years to open For&From’s second store. According to an insider, “At the time, the efforts of Inditex’s Social Responsibility Department focused on preventing any surprises along a complex supply chain than spanned around the world.” The role of social initiatives still had to mature inside the Group. Social Responsibility Department officials interacted with brands’ purchasing managers on a daily basis, but their exchanges revolved around upstream –supply– issues. The CSR team seldom contacted store employees. Over time, a robust supply chain management system consolidated, addressing all risk factors (workshop workers’ social and labor conditions, industrial safety, product safety, environmental care, etc.). By 2007, Inditex started to focus largely on extending a positive social impact along its entire value chain, and social considerations trickled downstream, reaching brands and consumers. As Jesús Echeverría, Inditex’s Chief Communications and Institutional Relations Officer, remarked, “We exercised some caution with For&From at first, because it put our brands –our key asset– on the line. However, For&From’s positive 4

For&From: Inditex Group’s Social Franchise outcomes encouraged us to continue growing.” Thus, the Group started to work on expanding the successful project started five years before (see Exhibit 8 for a timeline with For&From’s milestones).

Consolidating For&From’s Scheme Time helped to consolidate and fine-tune For&From’s business model. In recent years, new store openings had doubled sales from €3.6 million to over €7 million. The concept was quite straightforward: a store chain managed via alliances with strategic civil society partners. The stores were meant for “special” customers and run by “special” people –hence, its name “for & from”– with this attribute made visible to consumers by means of a social brand that would join Inditex’s fashion brands (see a photo of a Massimo Dutti/For&From store at Palafolls, Barcelona, in Exhibit 9). To render this concept viable, it would prove necessary to find a mission-driven organization that could understand how the market might be leveraged to support its social (rehab) mission. Bershka’s Marco Agnolin described this partner in the following terms: “Moltacte has an amazing business approach. They’ve told us, ‘Look, this is not patronizing handicapped people; this is managing a business.’ As a result, they have kept their stores profitable, and they tend to become increasingly profitable.” Table 1: For&From’s Sales, 2012-2016

Sales

2016

2015

2014

2013

2012

€7,091,581

€5,322,380

€4,066,085

€3,648,000

€3,647,189

Overall, NGO partners tried to draw away from the paternalistic culture and, thus, were demanding with rehab beneficiaries. Rather than just keeping them busy or entertained, this venture intended to train these people so that they could transition into other jobs and become self-sufficient. As Cogami’s Mayte Gutiérrez explained, This project aims at providing a transition for people, making them more professional and able to join the labor market. (…) We employ 14 people who have become better professionals during their time at this organization, both because we have adopted a more demanding stance and because we are supported by a highly professional business organization. Then, our people have learned from all the individuals sent by Inditex to dress shop windows and so on and so forth. To this end, a two-prong approach was used, with assistance professionals closely supporting beneficiaries (see next section) and a strict monitoring of their job performance. As María Vizcaíno, from the same organization, added, For our beneficiaries, we no longer want marginal jobs –those no one else wants to do. We are demanding with our workers. (…) They are expected to do everything they have to do with the same performance quality of any other worker. When that is not the case, we assign them to other kinds of tasks, or we fire them. This is clearly established: we are careful; we don’t fire people just because, but it is truly important for us now to shape our internal culture, so that people don’t feel that just because they have a certified disability, they can do whatever they want. From the standpoint of this project’s purpose, we have accomplished our goal. For brands’ management teams, partners made a unique contribution. As Stradivarius’ Mireia Gimeno noted, At one point, we chose to say, ‘we don’t know enough about this.’ We know our business, is there anyone who knows about social issues? The assistance side of this project, which is the one I can’t handle, marks the difference between For&From and a regular business franchise. (…) Moltacte –my NGO partner– manages a team that I wouldn’t know how to manage. I can contribute my knowledge on how other stores 5

For&From: Inditex Group’s Social Franchise are set up, so that they have a similar store, and they contribute a different skillset. (…) We have worked with our part...