The changing landscape for Chinese small business: the case of ‘‘Bags of Luck’’| | Submitted to: Professor Payal Mehra Date: 10/23/2011| | Submitted by – Amey Rambole ABM 08009 Submitted by – Amey Rambole ABM 08009 INDIAN INSTITUTE OF MANAGEMENT – LUCKNOW Contents Letter of Transmittal1 1. Synopsis3 2. Introduction4 2. 1 Problem Statement4 2. 2 Statement of Purpose4 2. 3 Methodology4 3. Case Analysis4 3. 1 Stated Problems4 3. 2 Unstated Problems5 4. Relevant Facts5 4. 1 Organizational Structure5 4. 2 Procurement and material handling5 4. 3 Stock evaluation5 . 4 Products and production5 4. 5 Sales, Marketing and Distribution6 4. 6 Accounting and Finance6 4. 7 Human Resource Management6 4. 8 Current Situation6 5. Issues & Concerns6 5. 1 Informal Organisational Structure7 5. 2 Lack of Trait Expertise7 5. 3 Inefficient Procurement and material handling7 5. 4 Accounting and finance7 5. 5 Human resources management7 5. 6 General Working environment7 6. Key decision criteria8 7. Recommendations:8 8. Most preferred recommendation:9 Letter of Transmittal Amey Rambole PGP-ABM Candidate, IIM Lucknow Dr. Payal Mehra Area Chair, Communication Group IIM Lucknow

October 27, 2011 Dear Dr. Mehra, Please find attached a copy of the final report “Turnaround Plan for Bags of Luck”. As per the case provided, this report contains the thorough analysis of the ‘Bags of Luck’ company and a detailed set of recommendations for their turnaround. It contains a summary of my research findings on a range of business management issues faced by the company. This report will facilitate the understanding of the current state and concerns faced by Bags of Luck. It contains a detailed analysis of the company’s functioning and the impact of the methods used by them on the business.

The report analyses the impact of economic changes on the growth and survival of the organization. The report includes an analysis of the organizational structure that is in place in BoL currently. The report analyses various alternatives that the company can resort to in order to improve its situations. Finally, the report concludes with recommendations for the company to improve from its current state and show results of sustained growth. In case of any queries, clarifications, or comments regarding this report, please feel free to contact me.

I express my gratitude for granting me this project and I look forward to working on many more of such projects in the near future. Yours truly, Amey Rambole Enclosure: Final report. 1. Synopsis This case details about a small family run Chinese company, Bags of Luck (BoL), located in the South-Eastern Fujian province. BoL produce three ranges of bags, namely, ladies fashion handbags, unisex fashion backpacks and trendy lightweight cases for laptop and netbook computers, for six major retail chain stores in the USA. In spite of economic crisis and many setbacks in terms of labour shortage, old technique etc. BoL managed to stay afloat while its competitors have shut down. Currently BoL is in deep crisis due to various reasons such as fast changing market trends, rising labour and material costs, Chinese currency appreciation, labour shortage, declining production volume, out-dated machinery and ineffective management structure. 2. Introduction 2. 1 Problem Statement The management of ‘Bags of Luck’ is worried over the performance of the organisation post-recession 2008 and wants to investigate into the cause of the issue. Aim is to suggest recommendation for correcting the course of action. 2. Statement of Purpose This report investigates into the cause and effect of the issues faced by ‘Bags of Luck’ (BoL) with the purpose of suggesting actions to improve its current situation. The report contains the summary of my observations, inferences and recommendations. 2. 3 Methodology I analysed the case based on information given and my own previous work experience in a manufacturing company. A few internet sources were also used for reference. 3. Case Analysis 3. 1 Stated Problems Following are the major problems faced by BoL: 1. Increased demand for labour has led to substantial increase in labour wages.

Continuous labour shortage has affected BoL’s profits adversely. They are unable to accept large contracts because of their inability to complete them on time. This forced them to dispatch goods by air-freight rather than by sea-freight which again reduced their profit margin. 2. Appreciation of Yuan with respect to US $ has impacted the bottom-line of BoL and made it difficult for BoL to increase its prices even though production costs have continuously been spiralling up. 3. Since BoL makes export quality designer bags, they have to maintain exclusivity in their product for which it is required that the industry be labour intensive.

But the labourers are not skilled and experienced and hence, the percentage of defects during production increased the production cost of good products. 4. There is neither proper accounting of the stock nor a formal budgetary control at BoL because of which there are a lot of discrepancies in the information that is at hand with the finance department. 5. Emergence of problems between the four joint owners has caused communication issues. They handle independent functions and at times they felt that the others are not trying as hard as they should. 3. 2 Unstated Problems

Following are the implied issues observed with the functioning of BoL: 1. Since the labour is employed by daily wages, there is a high turnover of factory-workers. We can imply from this that the management is not very much in support of having permanent employees. They are just costs to the company. 2. 90% workers are female migrants typically between 18-25 years which makes it uncertain for BoL to sustain old employees since most of them never return once they go for vacations. Many of them were continuously looking out for opportunities near their native places where developments were starting to take place. 3.

Over-stretched management resources meant that there is no proper forecast planning by the company which led to the mismatch between the demand and activities like procurement, staffing and production. 4. Relevant Facts The major facts which I noticed regarding the case are as follows. These facts would help us in giving the recommendations and identifying various issues in the case. 4. 1 Organizational Structure Heads of various departments are as follows: * Alfie Zhang – Production and Supply Chain Management * Ben Zhang – Marketing and Customer Relationship management * Dorothy Zhao – Human Resource management Cindy Wang – Accounting and Finance Decision making was by consensus or by majority views. There was no formal decision making process. 4. 2 Procurement and material handling BoL sticks to the same set of suppliers for most of their raw materials and accessories as they do not have an established ‘purchase department’ and also because they do not want variations in the sourced raw material. The system of tracking the work in progress fails during the peak production times as mistakes are made by the supervisors resulting in oversight on quality. 4. 3 Stock evaluation There is no standard accounting system that is being used at BoL.

Stock records are manually updated, and are time consuming and often inaccurate causing production delays. Since stock record up-dating is different from material handling it creates a lot of duplication in the records. It has been suggested that this be computerized and linked to a barcode system to facilitate tracking of work in progress, but was rejected due to high capital. 4. 4 Products and production Three ranges of bags are produced. Each range has 10 – 20 different designs which have to be re-styled four times a year. BoL has never carried any analysis on relative profitability of different product ranges.

Orders need to be dispatched 6 weeks in advance by sea freight or 3 weeks in advance by air freight. Shortage of accessory supplies and migrant workers forced BoL to send 45% of their orders by air, to account for the production delays. Product designs are specified by the customers and exclusivity is maintained for each customer. 90% of designs don’t last beyond one season and average life cycle of a design is 4 to 6 weeks. BoL uses a system of generic cutting, sewing machines and other labour intensive processes which makes it easy for it to change the design when compared to its automated competitors.

The other side is that their dated machinery also results in more downtime for repair. 4. 5 Sales, Marketing and Distribution Regular customers account for 85% of the sales and trade fairs are used for picking up new customers. The export formalities are handled by FJT under a 15 year contract. The commission charged has been hiked to 3 per cent recently for the remaining 7 years of the contract. 4. 6 Accounting and Finance BoL follows no formal budgetary control. The finance department offers assistance for costing of new products and rough idea for preliminary product costing.

However, it doesn’t take into account the factors such as order sizes and discounts. Fluctuation in the exchange rate, oil price and wage rate for piece work were not being addressed properly and is valid only for a maximum deviation of 5 per cent. 4. 7 Human Resource Management There is a total of 13 supervisory staff including the four joint owners. Shop floor workers range from 100 at off-peak periods to 400 at peak times. Very few shop floor workers work for more than a year and keep switching jobs in search of higher wages in nearby industries in the area. Most of them are female migrant.

To keep production facilities running, BoL had increased wages by 10 per cent. Most employees complained about noise, poor lighting, high level of humidity and poor ventilation in summer. Few complaints have been registered with regard to the Yang brothers with regard to their behaviour with the female workers and the best Ben and Alfie can do was talking tough with them due to the 20 year employment contract with them. 4. 8 Current Situation Despite increase of prices of products by BoL by 10 per cent, the total volumes of orders from USA were only slightly down due to the closure of other suppliers.

The major problem was regarding the delivery of orders rather than securing them. The continuing labour shortage is forcing BoL to dispatch by air freight. The company can’t afford to pay the usual “end of year bonus” and might face attrition with regard to the supervisors also. Family problems started coming up among the brothers due to work pressure and their father’s ill health and approaching Chinese New Year. 5. Issues & Concerns Based on the facts mentioned in the case and focussing on the substance which has affected the performance of the firm “Bags of Luck”, the issues and concerns are looked upon one by one. . 1 Informal Organisational Structure The two brothers and their wives are the four key people involved in running the business. There is no formal management structure and their job titles reflect the roles which have evolved over the years along the growth of the business. Also there is an absence of important entities like the Purchase Department, the Cost Accountant, 5. 2 Lack of Trait Expertise They key people had no knowledge of the American market and the US import standards for ladies’ bags. They also had no knowledge of how to get the Chinese Government approval in order to export their products to the USA.

Internally, they did not know whether they could adapt their machinery and hire people with the right skills in time to make it happen. 5. 3 Inefficient Procurement and material handling The firm had ‘‘single-sourcing’’ policy. Moreover they did not have an established purchasing department to source competitive supplies on a regular basis. The existing system of material handling “Card system” was inefficient as it was tedious. Though during the off-peak season the system of tracking work-in-progress using these paper-based cards generally worked well but at peak production times they added more workload to the supervisors.

The system employed to deal with the stocks was time consuming to maintain and information used to generate was often inaccurate. One of the key issues underlying was sole authority of Ian. This often led to out-dated stocks causing production delays due to Ian’s absence. With an annual turnover in the region of ? 7. 5-9. 5 m, although the firm has the capacity to employ 400 shop floor workers but the currently running capacity was only 150. Due this the percentage of fixed costs in the total costs had increased and led to decrease in margins.

The firm could not handle the short PLC’s of products because of their heavy dependence on labour intensive operations as compared to their competitors who employed higher degree of automation. Moreover, the out-dated machinery caused increase in costs for repairs & maintenance. 5. 4 Accounting and finance The firm did not adopt any formal budgetary control as the scale of production was dependent on the number and size of orders received. The whole procedure was carried out on basis of preliminary product costing irrespective of different independent activities involved in the process. 5. 5 Human resources management

The attrition rate faced in the company was very high. Due to the lack of housing facilities near the factory, many of the workers who lived far off from the factory did not turn up after their vacations. The other reason for this phenomenon was the location of the competitor’s factories in close proximity to the houses of the workers. 5. 6 General Working environment The basic hygiene factors in the factory were well taken care of. Though most of the production facilities are up to the mark, some issues like noise, poor lighting in some areas, humidity problems etc. are still persistent which are affecting the general morale of the workers. . Key decision criteria BoL was able to pick up additional orders due to unexpected closure of some of their competing firms. But their main problem was not securing orders but delivering them. Consequently, they had begun turning down orders from July 2010 due to the severe labour shortage. Even with a wage increase of 15 per cent, they still could not manage to recruit enough workers and thus have been running production at quarter of its full capacity since September 2010. The continuing labour shortage also means that they have not been able to complete their production for dispatch by sea-freight.

The use of air-freight has further eroded their bottom line. Decisions made are unable to cope well with the changes that are taking place around them. There is no structured costing system placed. All bags that are slightly imperfect are taken apart and sold to recycling firms is huge loss to company. Since BoL depend on single vendor they face shortage of supply in peak demand. Because of its high dependency, BoL run under less capacity when there is shortage in labour. Competitors have an edge over BoL due to automation in their production system. 7. Recommendations: Change in organizational structure – Strategic Business Units (SBUs): To bring in more accountability into the business, a formal management hierarchy has to be defined. This should be adhered to at all times. Professional managers should be hired and put in charge of each of the businesses which should be demarcated by the three different product lines. This would ensure that each manager is responsible for the profitability of his own business (product) and the focus on each product will increase. * Changing the workers’ status in company: BoL should seek out ways to increase automation in their factory to reduce dependency on labour.

Also, the remaining workers must be given permanency i. e. they must be converted from part-time daily wage workers to salaried workers. This will give them the satisfaction and security of having a full-time paid job and will not look for alternative options. But that would mean that the employees will have to compensated more than what they are currently getting. This will increase costs, but at the same time, free the management of the worries of hunting for labour every year and save the time and energy of the HR department. Establish a demand planning and purchase department: A purchase department which will co-ordinate with production department and establish a demand planning system which will help BoL to maintain buffer stocks at all times and plan for contingencies. The company will also be able to procure raw materials at a more competitive price. But while doing so preference has to be given to the suppliers who have long standing relations with BoL over newer suppliers whenever possible. * Update of accounting and management systems: Automation should be carried out throughout in order to increase the efficiency of processes.

Following a card system would acceptable in the off peak production times. A supervisor has to be hired in the peak production times whose job would be to countercheck the authenticity of quantity ratified by the supervisors. The product quality and response time will improve which will help BoL in shipping their orders on time. * Automation of machinery and scale-up of factory: If money cannot be invested in the automation of processes, although there were they should be heading in the long run, they should at least upgrade their machinery so that they can save the amount spent on periodic repairs and also reduce the downtimes of machines.

This will make the production faster and a lot of time can be saved. The only hurdle in realising this objective is the capital that will need to be invested to do so. * Obtain an export licence: Trying to obtain an export licence is not viable for BoL as it is still relatively a small company. BoL can allay the fears of FJT by sharing the information about the increase in orders from occasional customers with FJT.

Also as three of BoL’s direct competitors have gone out of business, BoL can claim that it has become a relatively large player in its area and that its export volumes would increase rapidly once the recession passes. Hence taking the long term view into consideration, BoL would coax FJT to incentivise it. 8. Most preferred recommendation: There should be a complete overhaul of the existing management structure. As suggested above SBUs should be established covering each of the product lines. Formal departments headed by professionals should be in place for each of the SBUs which will ensure focus on each of the products.

The accounting and material handling systems should be updated, using the services of an expert, to increase efficiency of the processes and improve response times of the production process. This will ensure timely delivery of the stocks using cost-effective means of transport. By giving salaries to workers instead of daily wages, BoL can ensure a constant supply of skilled labour and save a lot of time and energy for the HR department. The company should seek out alternatives to the labour-intensive production process it is currently using to improve profitability in the long term.