Companies that diversified their sourcing bases were able to reduce sourcing cost and improve gross margin

Companies that diversified their sourcing bases were able to reduce sourcing cost and improve gross margin

It's no secret that apparel sourcing is in a constant state of flux. But what is less well documented is how strategies have evolved over the past few years – and their financial implications. Jillian Luetje and Sheng Lu from the University of Delaware have analysed the annual reports of the 50 largest US-based apparel companies to find out.

With 98% of apparel sold in the United States made overseas, sourcing is obviously key to the operation of US apparel companies. They are also constantly adjusting their sourcing strategies in response to the changing business environment – from where they source their products to how much they invest in each particular sourcing destination.

To better understand the latest sourcing practices, we examined the sourcing portfolios of the 50 largest US-based apparel companies ranked by Apparel Magazine. This included a content analysis of each company's publicly released annual reports and their financial statements from 2014 to 2017 (the latest information available), with a focus on the following two research questions:

1: How have the sourcing strategies of US apparel companies evolved?
2: How has this affected companies' financial performance?

The findings provide valuable insight into US apparel companies' sourcing trends, as well as the dynamics of the global apparel trade.

Evolving sourcing strategies of US apparel companies 

Companies' annual reports reveal several interesting sourcing trends since 2014. 

US apparel companies overall have adopted a diverse sourcing base
The 50 companies we examined sourced from an average of over 20 different countries or regions using more than 200 vendors in 2017.

For example, as one company (US$11.5bn net sales in 2017) mentioned in its 2017 annual report: "Our products are obtained from 21 [self-operated] manufacturing facilities and approximately 1,000 contractor manufacturing facilities in over 50 countries." Another iconic US apparel brand (US$15.5bn net sales in 2017) says: [in fiscal year 2017] "We purchase private label and non-private label merchandise from about 800 vendors. Our vendors have factories in about 40 countries."

These results echo the findings of the 2018 US Fashion Industry Benchmarking Study released by the US Fashion Industry Association (USFIA). Based on a survey of nearly 30 executives from leading US fashion brands and apparel retailers, the study also found companies with more than 1,000 employees typically source from more than ten different countries and regions. Also, larger companies, in general, adopt a more diverse sourcing base than smaller ones. 

While US apparel companies are actively seeking new sourcing bases, many are reducing either the number of countries they source from or the number of vendors they work with
As shown in the table below, around 28% of the top 50 US apparel companies we examined increased the number of countries or regions they use as sourcing bases between 2014 and 2017. However, over the same period, 52% chose to consolidate their existing sources bases, but on a small scale.

For example, one US apparel company (US$8.2bn net sales in 2017) reported sourcing from 55 countries in 2014 but reduced the number to 50 in 2017. Likewise, another US apparel company (US$35.2bn net sales in 2017) reported sourcing apparel from 34 countries in 2017, down from 41 countries back in 2014. 

Likewise, approximately half of the companies reduced the number of vendors they use between 2014 and 2017, compared with 33% that chose to source from more vendors. One company (US$15.52bn net sales in 2017) noted it "strategically reduced its number of sourcing facilities by over 25% over the past seven years," with the purpose of "prioritizing resources and ensuring that brands and suppliers collaborate more closely on social and environmental performance."

Similarly, the USFIA benchmarking study also found that some US fashion companies want to strengthen their relationships with key suppliers or to improve efficiency through a reduced number of vendors. "(Our) focus right now is really finding efficiencies and maximizing productivity in the supply chain. While we won't necessarily move out of any countries, we are consolidating the base within regions. The current relatively favorable sourcing environment will probably start to give way to challenges by next year, so this year we are 'cleaning up' in preparation for future obstacles (i.e., probably cost)."

The changing sourcing base of the Top 50 US apparel companies: 2014-2017

Number of countries/regionsNumber of vendors/facilities
Increase28%33%
Decrease52%47%
No change20%20%

Source: Compiled from companies' annual reports

For risk control purposes, most US apparel companies avoid relying too much on any single vendor. However, some companies have begun to allocate more sourcing orders to their largest vendors. 
The top 50 US apparel companies on average assigned no more than 10% of their total sourcing value or volumes to any single vendor in 2017. This practice suggests that minimising supply chain risks is a critical consideration in their sourcing strategies.

Nevertheless, between 2014 and 2017, around 45% of apparel companies raised the cap slightly. For example, one company (US$1.38bn net sales in 2017) noted: "During 2017, approximately 66 suppliers located in 10 countries manufactured our products, with the largest finished goods supplier accounting for approximately 15.5% [Note: was 12.0% in 2014] of the total of finished goods we purchased." Likewise, another company (US$2.58bn net sales in 2017) said: "In fiscal year 2017, no single supplier represents more than 10% of our total cost of goods sold [was 5% in 2014]."

Notably, most companies that allowed a higher percentage of sourcing value or volume from their biggest vendors also reduced the number of countries they sourced from or the total number of vendors they used. This suggests that improving supply chain efficiency could be the key objective behind the move. 

Financial implications of US apparel companies' evolving sourcing strategy 

To gain more insight into the financial implications of sourcing strategies, we further analysed the publicly released financial statements of these top 50 US apparel companies. Two patterns are interesting to watch:

Companies that diversified their sourcing bases between 2014 and 2017 were, in general, able to reduce sourcing cost and improve gross margin
Specifically, as shown in the table below, those who increased the number of countries or regions used as sourcing bases also improved their annual gross margin percentage from an average of 41.4% during 2013-2014 to an average of 43.7% during 2015-2017 (or up 2.32 percentage points).

Similarly, the gross margin percentage of those US apparel companies that increased the number of vendors also went up from 35.7% on average during 2013-2014 to 37.8% on average during 2015-2017 (or up 2.15 percentage points).  

In comparison, those US apparel companies who consolidated their sourcing base between 2014 and 2017 suffered a slight decline in their gross margin percentage. However, it is interesting to note that companies with a higher gross margin percentage tended to consolidate rather than diversify their sourcing bases – they typically target the premium or high-end market, suggesting that reducing sourcing cost may not be a pressing priority for them.

Average gross margin percentage of the Top 50 US apparel companies

Number of countries/regions used as sourcing bases*2013-20142015-2017Change
Increase41.4%43.7%2.32
Decrease47.6%44.9%-2.66
No change40.9%41.4%0.51

Source: Compiled from companies’ financial statements; * refers to the adjustment made between 2014 and 2017

Number of vendors used*2013-20142015-2017Change
Increase35.7%37.8%2.15
Decrease44.6%42.6%-1.94
No change42.8%43.2%0.40

Source: Compiled from companies’ financial statements; * refers to the adjustment made between 2014 and 2017

On the other hand, there was no clear pattern between a company's choice of sourcing strategy and its net profit margin
Specifically, as shown in the table below, those of the top 50 US apparel companies who increased the number of countries or regions used as sourcing bases suffered a decline of their annual net profit margin from 9.4% on average during 2013-2014 to 7.4% on average during 2015-2017 (or down 1.96 percentage points).

Similarly, the net profit margin of those who increased the number of vendors also went down from 9.5% on average during 2013-2014 to 8.7% on average during 2015-2017 (or down 0.77 percentage points). Further, within the same timeframe, the net profit margin of companies that consolidated their sourcing base slipped as well.

Interestingly, only those companies whose sourcing strategy remained unchanged were able to improve their net profit margin. While multiple factors could come into play, one possible explanation for the results is that diversifying the sourcing base incurs additional management costs for the company.

Apparel sourcing today is far more than just minimising the cost of goods. Instead, it is increasingly about striking a balance between various factors ranging from sourcing cost, speed to market, reliability, flexibility and risk control.

Average net profit margin of the Top 50 US apparel companies

Number of countries/regions used as sourcing bases*2013-20142015-2017Change
Increase9.4%7.4%-1.96
Decrease6.7%6.1%-0.62
No change1.2%2.3%1.09

Source: Compiled from companies’ financial statements; * refers to the adjustment made between 2014 and 2017

Number of vendors used*2013-20142015-2017Change
Increase9.5%8.7%-0.77
Decrease5.2%3.9%-1.32
No change2.7%4.60%1.86

Source: Compiled from companies’ financial statements; * refers to the adjustment made between 2014 and 2017

In conclusion, we expect US apparel companies to continue to adjust their sourcing strategies in the years ahead. However, as the findings of our study suggested, there is no fit-for-all best practice, particularly regarding the financial implications of the adjustment.

About the authors: Jillian Luetje is a Dean's Scholar in the University of Delaware. Dr Sheng Lu is an Associate Professor in Fashion and Apparel Studies at the University of Delaware.