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Chipotle Feels the Financial Impact of its Ongoing Food Safety Crisis


This is a Supply Chain Matters update commentary regarding Chipotle Mexican Grill, specifically efforts to address its ongoing food-safety challenge that not only threatens the restaurant chain’s value to its brand and to its investors, but on perceived quality risks in its farm to fork supply chain.   Chipotle logo

This week, the restaurant chain posted its first quarterly financial loss as a public company amid a nearly 30 percent reduction in same store sales. Total revenues were down 23.4 percent while net income dropped by $122.6 million. Operating margin dropped to 6.8 percent from just over 28 percent a year earlier due to what was described as higher marketing, waste and food testing costs.

In a previous February commentary, we observed that the restaurant chain had entered a new critical phase, one focused in rebuilding its brand integrity along with assuring that food safety practices were re-addressed across the supply chain and within its individual restaurants. In our mid-March commentary, we highlighted reports that seemed to put a different twist to the ongoing crisis. At the time, The Wall Street Journal citing informed sources, reported that the restaurant chain considered stepping back from the food safety changes touted back in February. Rather than conduct high-resolution DNA testing on a multiple of inbound supply ingredients, the plan was apparently to test only certain foods. Further reported was that the chain’s beef supplies would be pre-cooked in centralized kitchen facilities to insure that E.coli was eliminated, and then packaged in vacuum-sealed bags and shipped to local outlets where the product could be marinated and grilled.

We speculated that the decision to scale back DNA testing may have been brought about by further process and supply chain focused analysis.  Yet, the restaurant chain later announced the hiring of a noted meat industry food safety expert to be its new director of overall food safety.  We questioned whether such decisions for scaling back testing should have been made so early in the process, without the insight or input of the chain’s newly hired food safety expert, and without allowing more time to address consumer concerns regarding uncertainty in food sourcing and handling practices.

Our stated belief was that restoring consumer trust in a badly damaged brand is not a one-time marketing or financial budgeting challenge, but rather a systemic management challenge to address quality and food safety practices among all farm to fork processes and activities.

The chain has since stepped-up training within local restaurants on food safety and food handling practices as well as the assistance of a field leadership program to assist local managers in managing and auditing food safety and handling practices.

Chipotle’s co-CEO, Steve Ells indicated to investors that rebuilding trust with customers would take some time. While we found that that admission insightful and somewhat overdue, we were taken back by a subsequent statement:

We will continue to make it our top priority to entice customers to return to Chipotle through effective promotions and marketing, and when they do return, we’re committed to providing the very best experience that we can to help ensure that they will keep coming back.”

Not a mention of testing and assuring consistent food safety practices as the top priority.

Further noted in business media reports are even further changes in food preparation and sourcing practices after apparent customer feedback indicated a decline in the quality of certain ingredients. Customers complained that produce or lettuce no longer tasted as it should. For instance, now the chain claims to have refined its washing of lettuce which will once again allow local restaurants to cut lettuce locally while still ensuring that it is safe. Similarly, bell peppers will be blanched and sliced in local restaurants rather than the previous change to do so in central kitchens.

On a positive note, customers apparently have endorsed the process for cooking organic beef in vacuum sealed bags within central kitchens because the meat is now perceived to not as dry to the taste.

As Chipotle customers may now be aware, the chain is attempting to incent customers to return by offering free burritos and other promotions. Over 5 million free burrito offers were issued followed by a direct mail promotion distributed to over 20 million households. Judging from the customer traffic statistics to-date, the chain’s most loyal consumers may not be completely convinced as of yet to return, although data seems to point to return by some not as loyal but cost conscious customers. One equity analyst has indicated that couponing is a short-term rather than a more sustainable strategy for restoring traffic.

In recent weeks, both Glass Lewis & Co. and Institutional Shareholder Services, both influential proxy advisory firms have weighed in on management. ISS is recommending a vote against re-election of certain current Chipotle board members at the upcoming annual stockholder meeting in May. The firm questions whether the ongoing food safety issues have exposed a flawed board succession process that nominated directors who have the management skill sets to keep pace with a chain’s size and complexity. Further stated was a failure of risk oversight by the firm’s Audit Committee.

Glass Lewis has reportedly taken issue with the board’s pay-for-performance model. As we noted in our March commentary, senior executive bonuses were recently changed to be pegged to increases in the firm’s stock price alone. ISS has also opined that the majority of discussion with major investors has focused on improving share price and changing executive compensation as opposed to addressing food safety.

The reality of losing the trust of loyal customers is indeed an ongoing challenge and Chipotle management must by our lens, have as its collective top priority means and methods to address food safety and quality from farm to fork. Management compensation not directly tied in some fashion to that goal, and management briefings and direction-setting that continues to lead with marketing and sales tactics are not going to convince this past Chipotle consumer that issues have been addressed and the quality and safety of food is industry-leading. Apparently we are not alone in that perception.

Bob Ferrari

© 2016 The Ferrari Consulting and Research Group and the Supply Chain Matters® blog. All rights reserved.

New Development in Sports Authority Bankruptcy Reorganization Effort


Yesterday, there was a significant development related to the bankruptcy proceedings involving sporting goods retailer Sports Authority, one with continued supplier collaboration and management implications for the broader retail and consumer goods industry sectors.

In early March, Supply Chain Matters called attention a report that retailer Sports Authority has filed for Chapter 11 bankruptcy protection which included an intent to close or sell 140 stores and two existing distribution centers.  Characterized as one of the largest sporting-goods retailers, the chain found itself weighted down with debt from a prior leveraged buyout a decade ago. According to media reports, there was $1.1 billion in debt that included $717 million in bank loans and over $200 million in trade debt owed to suppliers. Lenders have given the retailer up to the end of April to find a buyer or another investor, or close any remaining stores.

A subsequent disturbing twist to this bankruptcy proceeding involved the categorization of existing consignment inventory.  Attorneys for the retail chain filed lawsuits with more than 160 existing suppliers challenging claims to consigned inventories. According to reports, upwards of $85 million in shoes and other gear that were currently on the shelves in retail stores were at-stake. The supplier lawsuits were apparently a means to challenge who gets the bulk of compensation when consigned goods are sold in store closings or in discounted sales. Our Supply Chain Matters view was that the move on consignment inventory had significant ramifications for supplier collaboration practices within retail as well as other consumer goods focused supply chains.

Today, business reports indicate that this week, Sports Authority has abandoned its reorganization plan and instead will count on any potential buyers to salvage parts of the retail chain. A report in today’s editions of The Wall Street Journal indicated that the chain’s lawyers indicated to a bankruptcy judge that the existing debtors will not support reorganization and are instead enforcing an outright sale. A May 16 auction date has apparently been set for the bulk of the retail chain’s operations and facilities.  According to today’s WSJ report, there are no guarantees that any of existing stores will stay in operation.

What caught our attention was the following sentence:

The financing fight is also the arena for claims from some vendors that they, rather than lenders, have the right to collect the proceeds when goods are sold”

That obviously is a reference to attempt to seize proceeds from vendor consignment inventories. One could speculate that existing suppliers elected to play hardball, given what was on the table, and given that some other sporting goods retailers are financially struggling as-well. From our lens, it was indeed protecting the integrity of consignment inventory contracts.

Reports indicate that talks remain ongoing, and although a planned reorganization is off the table, a subsequent liquidation plan will have to address how any existing debt will be paid-up.

Our takeaway from this week’s Sports Authority development is a caution to other retailers to not mess with existing key suppliers who have extended a hand to help finance inventory investments. We continue to wonder aloud whether the Sports Authority developments, regardless of final outcome, provide a longer-term setback in joint inventory management practices.

Bob Ferrari



Amazon Reportedly Shopping for an Airport


Since last November, Supply Chain Matters has highlighted developments indicating how Amazon is rolling out a strategy for managing and controlling its own logistics, transportation and customer amazonfulfillment capabilities. They have included the long-term leasing from ATSG of dedicated air cargo aircraft, Amazon branded semi-trailers and advanced logistics sortation facilities.

Now social media and industry outlets are echoing a report from a German-language newspaper indicating that the online retailer may be negotiating a deal to buy the Frankfurt-Hahn Airport in Germany.

The focus of these reports emanates from a German language daily, Sueddeutsche Zeitung. A Tech Insider posting echoing this report indicates that the German report did not indicate what the discussions might have been about or how recently they occurred, but that three airport acquisition offers from unnamed parties were made for the airport. A posting on Geek Wire added that the subject Hahn airport is located near Koblenz where Amazon currently owns a large fulfillment center.

We would add that is the same pattern demonstrated when Amazon initially executed the lease of air cargo aircraft from ATSG last fall, electing a U.S. airport that was close by existing large Amazon customer fulfillment centers. Further, a published Seattle Times report in January indicated that the online retailer would begin competing directly with longtime partners United Parcel Service, FedEx and DHL in Europe, with pieces falling into place to make such competition a potential in the U.S. as well in time.  That report might have indicated that Europe would have been the initial target.

Thus, if or when this potential acquisition of a European based airport does come to pass, it will be another stepping stone toward rolling out a global customer fulfillment capability totally managed by Amazon. Whether its Hahn airport, or another opportunity, the signs point to an active investment and deployment strategy underway, and online retailers and producers had better pay attention.

A Sobering Declaration by Alibaba


At the conclusion of its fiscal year ending in March of this year, Chinese online retailer Alibaba declared this week that it has officially become the world’s largest online retail platform with trading volume exceeding 3 trillion yuan ($475.9 billion) according to a report from China Daily.

While the online retailer apparently did not formally disclose what is termed as total gross merchandise value (GMV) for the recently completed fiscal year, it did reveal that its online retail marketplace platforms have already surpassed the 3 trillion yuan milestone.

The report makes a comparison to Wal-Mart’s $482 billion in total retail revenues for its latest fiscal year, and that in 13 years, Alibaba has demonstrated that world’s largest retail marketplace has shifted from physical brick and mortar (offline) to online.

Just for comparison sake, Amazon’s 2015 revenues amounted to $107 billion.

Whether readers agree or disagree with this comparison, the report does provide a sobering indication of the scale of China’s online marketplaces in 2016.

Alibaba has set its sights to be a business platform serving 2 billion consumers by 2024, not to mention demonstrating leading-edge big-data and predictive analytics capabilities.

They are an online provider to be watched and admired and one that will continue to make news in the months to come.


In Fast Fashion the Supply Chain Does Indeed Matter


Spring is a season when thoughts often turn toward new beginnings and of course, new clothing. From the supply chain sourcing strategy lens, many clothing and apparel retailers made their new spring clothing design selections months ago because of the supply chain lead time involved in producing and shipping apparel and accessories from lower-cost manufacturing regions to global-wide consumers.

However, the apparel industry is changing, and the notions of “Fast Fashion” are garnering adoption by new start-up and older retailer and brand names alike. Fast Fashion is the ability to sense what designs are selling among consumers coupled with a supply chain strategy that can more quickly respond with design and production resources. The icon and continuing benchmark for excellence in this concept remains global retailer Zara, which from its inception, has designed its entire business and supply chain strategy to accommodate the fastest response to market trends and consumer desires. Check out our 2012 Supply Chain Matters commentary profiling Zara’s investment in automated logistics and market response.

The primary reason that faster fashion has become more important is the explosion in online and Omni-channel retailing.

Supply Chain Matters recently read of two current but meaningful examples of these trends, case studies that address slightly different consumer response needs.

An article published in FastCompany, Why Clothing Startups are Returning to American Factories (Paid subscription required) profiles boutique performance fabrics maker and Boston based yoga wear retailer Yogasmoga. Observed is that the firm’s founder and CEO elected to source production needs at apparel contract manufacturing facility in Fall River, Massachusetts, 60 miles south of Boston. The CEO’s stated motivations for doing so was simply stated as: “I simply couldn’t produce the clothes I wanted to make overseas.”

Instead, Yogasmoga wanted to create its own leading-edge fabrics, more closely monitor quality and have the flexibility to scale-up production as quickly as possible. The CEO observed that it can take as much as 10 months to go from placing an order at a Chinese based factory to receiving a shipment of goods. This retailer’s intellectual property resides in 30 different technically designed fabrics that utilize combinations of synthetic and organic fibers to create certain effects for yoga pants. Sourcing of these fabrics comes from U.S. producers while assembling these fabrics into finished garments requires a specialized process, one requiring constant monitoring and adjustment. U.S. based factories have further adopted advanced automation techniques in areas such as fabric cutting, measuring and assembly.

What local sourcing of sewing and production provides is to check-in on the local factory on a monthly basis to ensure quality is to specification, as well as to save on inventory investment tied-up in the elongated lead-times from Asian-based factories.

The FastCompany report further observes that newer clothing startups have started moving into U.S. factory sourcing because of the benefits of more rapid or flexible response that can be provided. Brands mentioned include U.S. West Coast menswear provider Buck Mason, children’s wear provider Petit Peony, and specialty sweatshirt brand American Giant which recently elected to move its production operations from Asia to the U.S.

A different example was profiled in a recent article published by Bloomberg Businessweek focusing on iconic brand retailer Brooks Brothers.  That retailer continues to operate a production plant in Long Island City, New York where half of the plant’s workers are 55 and older with age ranges from 22 to 80. The average worker tenure is stated as 30 years, and the plant’s advantage is one of deep worker experience along with flexibility to quickly respond to consumer or market needs. Noted is that these workers excel at speed and precision while making few mistakes. While the production operation is mainly automated, skilled tailors provide the added or custom design touches. For instance, a sample men’s tie can be produced in a half-hour, and twenty minutes later the sample is in the hands of Brooks Bothers product design and retail executives residing at corporate headquarters in Manhattan.

Workers respond to orders for custom ties in different fabric combinations, special orders for groups, or urgent orders that are responding to a new or perceived up and coming market need. While apparel production may be sourced from offshore locations, the Long Island production facility serves as the response mechanism to special market needs or personalization of apparel.

Readers have perhaps perceived one common denominator that currently allows Fast Fashion retailers to be able to uphold margins by sourcing in the United States or Europe. That is obviously price, namely that consumers continue to be willing to pay a higher price in order to receive higher value, better quality and the latest styles and fashion. In today’s online and Omni-channel customer fulfillment world where retail store and online outlet come together in a holistic retailing capability, speed, quality and timely fashion will remain an advantage. Compromise on any of these factors, and consumers respond by going elsewhere. Lululemon Athletica has become the classic case study.

The takeaway remains that supply chains do matter and in today’s new world of Omni-channel retail, when speed, superior quality and responsiveness of the supply chain to the needs of faster fashion are a requirement, supply chain sourcing strategy will continue to foster localized geographic sourcing.

Bob Ferrari

© 2016 The Ferrari Consulting and Research Group and the Supply Chain Matters® blog. All rights reserved.


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