IKEA’s Global Sourcing Challenge Essay

Custom Student Mr. Teacher ENG 1001-04 24 September 2016

IKEA’s Global Sourcing Challenge

Indian Rugs and Child Labor (A)

In May 1995, Marianne Barner faced a tough decision. After just two years with IKEA, the world’s largest furniture retailer, and less than a year into her job as business area manager for carpets, she was faced with the decision of cutting off one of the company’s major suppliers of Indian rugs. While such a move would disrupt supply and affect sales, she found the reasons to do so quite compelling. A German TV station had just broadcast an investigative report naming the supplier as one that used child labor in the production of rugs made for IKEA. What frustrated Barner was that, like all other IKEA suppliers, this large, well-regarded company had recently signed an addendum to its supply contract explicitly forbidding the use of child labor on pain of termination. Even more difficult than this short-term decision was the long-term action Barner knew IKEA must take on this issue.

On one hand, she was being urged to sign up to an industry-wide response to growing concerns about the use of child labor in the Indian carpet industry. A recently formed partnership of manufacturers, importers, retailers, and Indian nongovernmental organizations (NGOs) was proposing to issue and monitor the use of “Rugmark,” a label to be put on carpets certifying that they were made without child labor. Simultaneously, Barner had been conversing with people at the Swedish Save the Children organization who were urging IKEA to ensure that its response to the situation was “in the best interest of the child”—whatever that might imply. Finally, there were some who wondered if IKEA should not just leave this hornet’s nest. Indian rugs accounted for a tiny part of IKEA’s turnover, and to these observers, the time, cost, and reputation risk posed by continuing this product line seemed not worth the profit potential.

The Birth and Maturing of a Global Company1

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Working out of the family kitchen, he sold goods such as fountain pens, cigarette lighters, and binders he purchased from low-priced sources and then advertised in a newsletter to local shopkeepers. When Kamprad matched his competitors by adding furniture to his newsletter in 1948, the immediate success of the new line led him to give up the small items. In 1951, to reduce product returns, he opened a display store in nearby Älmhult village to allow customers to inspect products before buying. It was an immediate success, with customers traveling seven hours from the capital Stockholm by train to visit. Based on the store’s success, IKEA stopped accepting mail orders.

Later Kamprad reflected, “The basis of the modern IKEA concept was created [at this time] and in principle it still applies. First and foremost, we use a catalog to tempt people to visit an exhibition, which today is our store. . . . Then, catalog in hand, customers can see simple interiors for themselves, touch the furniture they want to buy and then write out an order.”2 As Kamprad developed and refined his furniture retailing business model he became increasingly frustrated with the way a tightly knit cartel of furniture manufacturers controlled the Swedish industry to keep prices high.

He began to view the situation not just as a business opportunity but also as an unacceptable social problem that he wanted to correct. Foreshadowing a vision for IKEA that would later be articulated as “creating a better life for the many people,” he wrote: “A disproportionately large part of all resources is used to satisfy a small part of the population. . . . IKEA’s aim is to change this situation. We shall offer a wide range of home furnishing items of good design and function at prices so low that the majority of people can afford to buy them. . . . We have great ambitions.”3

The small newsletter soon expanded into a full catalog. The 1953 issue introduced what would become another key IKEA feature: self-assembled furniture. Instead of buying complete pieces of furniture, customers bought them in flat packages and put them together themselves at home. Soon, the “knockdown” concept was fully systemized, saving transport and storage costs. In typical fashion, Kamprad turned the savings into still lower prices for his customers, gaining an even larger following among young postwar householders looking for well-designed but inexpensive furniture. Between 1953 and 1955, the company’s sales doubled from SEK 3 million to SEK 6 million.4

Managing Suppliers: Developing Sourcing Principles

As its sales took off in the late 1950s, IKEA’s radically new concepts began to encounter stiff opposition from Sweden’s large furniture retailers. So threatened were they that when IKEA began exhibiting at trade fairs, they colluded to stop the company from taking orders at the fairs and eventually even from showing its prices. The cartel also pressured manufacturers not to sell to IKEA, and the few that continued to do so often made their deliveries at night in unmarked vans. Unable to meet demand with such constrained local supply, Kamprad was forced to look abroad for new sources.

In 1961, he contracted with several furniture factories in Poland, a country still in the Communist eastern bloc. To assure quality output and reliable delivery, IKEA brought its knowhow, taught its processes, and even provided machinery to the new suppliers, revitalizing Poland’s furniture industry as it did so. Poland soon became IKEA’s largest source and, to Kamprad’s delight, at much lower costs—once again allowing him to reduce his prices. Following its success in Poland, IKEA adopted a general procurement principle that it should not own its means of production but should seek to develop close ties by supporting its suppliers in a long-term relationship.a Beyond supply contracts and technology transfer, the relationship led IKEA to make loans to its suppliers at reasonable rates, repayable through future shipments. “Our objective is to develop long-term business partners,” explained a senior purchasing manager. “We commit to doing all we can to keep them competitive—as long as they remain equally committed to us. We are in this for the long run.”

Although the relationship between IKEA and its suppliers was often described as one of mutual dependency, suppliers also knew that they had to remain competitive to keep their contract. From the outset they understood that if a more cost-effective alternative appeared, IKEA would try to help them respond, but if they could not do so, it would move production. In its constant quest to lower prices, the company developed an unusual way of identifying new sources. As a veteran IKEA manager explained: “We do not buy products from our suppliers. We buy unused production capacity.” It was a philosophy that often led its purchasing managers to seek out seasonal manufacturers with spare off-season capacity. There were many classic examples of how IKEA matched products to supplier capabilities: they had sail makers make seat cushions, window factories produce table frames, and ski manufacturers build chairs in their off-season. The manager added, “We’ve always worried more about finding the right management at our suppliers than finding high-tech facilities. We will always help good management to develop their capacity.”

Growing Retail: Expanding Abroad

Building on the success of his first store, Kamprad self-financed a store in Stockholm in 1965. Recognizing a growing use of automobiles in Sweden, he bucked the practice of having a downtown showroom and opted for a suburban location with ample parking space. When customers drove home with their furniture in flat packed boxes, they assumed two of the costliest parts of traditional furniture retailing—home delivery and assembly.

In 1963, even before the Stockholm store had opened, IKEA had expanded into Oslo, Norway. A decade later, Switzerland became its first non-Scandinavian market, and in 1974 IKEA entered Germany, which soon became its largest market. (See Exhibit 1 for IKEA’s worldwide expansion.) At each new store the same simple Scandinavian-design products were backed up with a catalog and offbeat advertising, presenting the company as “those impossible Swedes with strange ideas.” And reflecting the company’s conservative values, each new entry was financed by previous successes.b During this expansion, the IKEA concept evolved and became increasingly formalized.

(Exhibit 2 summarizes important events in IKEA’s corporate history.) It still built large, suburban stores with knockdown furniture in flat packages the customers brought home to assemble themselves. But as the concept was refined, the company required that each store follow a predetermined design, set up to maximize customers’ exposure to the product range. The concept mandated, for instance, that the living room interiors should follow immediately after the entrance. IKEA also serviced customers with features such as a playroom for children, a low-priced restaurant, and a “Sweden Shop” for groceries that had made IKEA Sweden’s leading food exporter. At the same time, the range gradually

aThis policy was modified after a number of East European suppliers broke their contracts with IKEA after the fall of the Berlin Wall opened new markets for them. IKEA’s subsequent supply chain problems and loss of substantial investments led management to develop an internal production company, Swedwood, to ensure delivery stability. However, it was decided that only a limited amount of IKEA’s purchases (perhaps 10%) should be sourced from Swedwood. b By 2005, company lore had it that IKEA had only taken one bank loan in its corporate history—which it had paid back as soon as the cash flow allowed.

The Emerging Culture and Values5

As Kamprad’s evolving business philosophy was formalized into the IKEA vision statement, “To create a better everyday life for the many people,” it became the foundation of the company’s strategy of selling affordable, good-quality furniture to mass-market consumers around the world. The cultural norms and values that developed to support the strategy’s implementation were also, in many ways, an extension of Kamprad’s personal beliefs and style. “The true IKEA spirit,” he remarked, “is founded on our enthusiasm, our constant will to renew, on our cost-consciousness, on our willingness to assume responsibility and to help, on our humbleness before the task, and on the simplicity of our behavior.” As well as a summary of his aspiration for the company’s behavioral norms, it was also a good statement of Kamprad’s own personal management style.

Over the years a very distinct organizational culture and management style emerged in IKEA reflecting these values. For example, the company operated very informally as evidenced by the open-plan office landscape, where even the CEO did not have a separate office, and the familiar and personal way all employees addressed one another. But that informality often masked an intensity that derived from the organization’s high self-imposed standards. As one senior executive explained, “Because there is no security available behind status or closed doors, this environment actually puts pressure on people to perform.”

The IKEA management process also stressed simplicity and attention to detail. “Complicated rules paralyze!” said Kamprad. The company organized “anti-bureaucrat week” every year, requiring all managers to spend time working in a store to reestablish contact with the front line and the consumer. The workpace was such that executives joked that IKEA believed in “management by running around.”

Cost consciousness was another strong part of the management culture. “Waste of resources,” said Kamprad, “is a mortal sin at IKEA. Expensive solutions are often signs of mediocrity, and an idea without a price tag is never acceptable.” Although cost consciousness extended into all aspects of the operation, travel and entertainment expenses were particularly sensitive. “We do not set any price on time,” remarked an executive, recalling that he had once phoned Kamprad to get approval to fly first class. He explained that economy class was full and that he had an urgent appointment to keep. “There is no first class in IKEA,” Kamprad had replied. “Perhaps you should go by car.” The executive completed the 350-mile trip by taxi.

The search for creative solutions was also highly prized with IKEA. Kamprad had written, “Only while sleeping one makes no mistakes. The fear of making mistakes is the root of bureaucracy and the enemy of all evolution.” Though planning for the future was encouraged, overanalysis was not. “Exaggerated planning can be fatal,” Kamprad advised his executives. “Let simplicity and common sense characterize your planning.”

In 1976, Kamprad felt the need to commit to paper the values that had developed in IKEA during the previous decades. His thesis, Testament of a Furniture Dealer, became an important means for spreading the IKEA philosophy, particularly during its period of rapid international expansion. (Extracts of the Testament are given in Exhibit 3.) Specially trained “IKEA ambassadors” were assigned to key positions in all units to spread the company’s philosophy and values by educating their subordinates and by acting as role models.

In 1986, when Kamprad stepped down, Anders Moberg, a company veteran who had once been Kamprad’s personal assistant, took over as president and CEO. But Kamprad remained intimately involved as chairman, and his influence extended well beyond the ongoing daily operations: he was the self-appointed guardian of IKEA’s deeply embedded culture and values.

Waking up to Environmental and Social Issues

By the mid-1990s, IKEA was the world’s largest specialized furniture retailer. Sales for the IKEA Group for the financial year ending August 1994 totaled SEK 35 billion (about $4.5 billion). In the previous year, more than 116 million people had visited one of the 98 IKEA stores in 17 countries, most of them drawn there by the company’s product catalog, which was printed yearly in 72 million copies in 34 languages. The privately held company did not report profit levels, but one estimate put its net margin at 8.4% in 1994, yielding a net profit of SEK 2.9 billion (about $375 million).

6 After decades of seeking new sources, in the mid-1990s IKEA worked with almost 2,300 suppliers in 70 countries, sourcing a range of around 11,200 products. Its relationship with its suppliers was dominated by commercial issues, and its 24 trading service offices in 19 countries primarily monitored production, tested new product ideas, negotiated prices, and checked quality. (See Exhibit 4 for selected IKEA figures in 1994.) That relationship began to change during the 1980s, however, when environmental problems emerged with some of its products. And it was even more severely challenged in the mid-1990s when accusations of IKEA suppliers using child labor surfaced.

The Environmental Wake-Up: Formaldehyde

In the early 1980s, Danish authorities passed regulations to define limits for formaldehyde emissions permissible in building products. The chemical compound was used as binding glue in materials such as plywood and particleboard and often seeped out as gas. At concentrations above 0.1 mg/kg in air, it could cause watery eyes, headaches, a burning sensation in the throat, and difficulty breathing. With IKEA’s profile as a leading local furniture retailer using particleboard in many of its products, it became a prime target for regulators wanting to publicize the new standards. So when tests showed that some IKEA products emitted more formaldehyde than was allowed by legislation, the case was widely publicized and the company was fined.

More significantly—and the real lesson for IKEA—was that due to the publicity, its sales dropped 20% in Denmark. In response to this situation, the company quickly established stringent requirements regarding formaldehyde emissions but soon found that suppliers were failing to meet its standards. The problem was that most of its suppliers bought from subsuppliers, who in turn bought the binding materials from glue manufacturers. Eventually, IKEA decided it would have to work directly with the glue-producing chemical companies and, with the collaboration of companies such as ICI and BASF, soon found ways to reduce the formaldehyde off-gassing in its products.7 A decade later, however, the formaldehyde problem returned.

In 1992, an investigative team from a large German newspaper and TV company found that IKEA’s best-selling bookcase series, Billy, had emissions higher than German legislation allowed. This time, however, the source of the problem was not the glue but the lacquer on the bookshelves. In the wake of headlines describing “deadly poisoned bookshelves,” IKEA immediately stopped both the production and sales of Billy bookcases worldwide and corrected the problem before resuming distribution. Not counting the cost of lost sales and production or the damage to goodwill, the Billy incident was estimated to have cost IKEA $6 million to $7 million.8

These events prompted IKEA to address broader environmental concerns more directly. Since wood was the principal material in about half of all IKEA products, forestry became a natural starting point. Following discussions with both Greenpeace and World Wide Fund for Nature (WWF, formerly World Wildlife Fund) and using standards set by the Forest Stewardship Council, IKEA established a forestry policy stating that IKEA would not accept any timber, veneer, plywood, or layer-glued wood from intact natural forests or from forests with a high conservation value. This meant that IKEA had to be willing to take on the task of tracing all wood used in IKEA products back to its source.

9 To monitor compliance, the company appointed forest managers to carry out random checks of wood suppliers and run projects on responsible forestry around the world. In addition to forestry, IKEA identified four other areas where environmental criteria were to be applied to its business operations: adapting the product range; working with suppliers; transport and distribution; and ensuring environmentally conscious stores. For instance, in 1992, the company began using chlorine-free recycled paper in its catalogs; it redesigned the best-selling OGLA chair— originally manufactured from beech—so it could be made using waste material from yogurt cup production; and it redefined its packaging principles to eliminate any use of PVC. The company also maintained its partnership with WWF, resulting in numerous projects on global conservation, and funded a global forest watch program to map intact natural forests worldwide. In addition, it engaged in an ongoing dialogue with Greenpeace on forestry.10

The Social Wake-Up: Child Labor

In 1994, as IKEA was still working to resolve the formaldehyde problems, a Swedish television documentary showed children in Pakistan working at weaving looms. Among the several Swedish companies mentioned in the film as importers of carpets from Pakistan, IKEA was the only highprofile name on the list. Just two months into her job as business area manager for carpets, Marianne Barner recalled the shockwaves that the TV program sent through the company: The use of child labor was not a high-profile public issue at the time. In fact, the U.N. Convention on the Rights of the Child had only been published in December 1989. So, media attention like this TV program had an important role to play in raising awareness on a topic not well known and understood—including at IKEA. . . . We were caught completely unaware. It was not something we had been paying attention to.

For example, I had spent a couple of months in India learning about trading but got no exposure to child labor. Our buyers met suppliers in their city offices and rarely got out to where production took place. . . . Our immediate response to the program was to apologize for our ignorance and acknowledge that we were not in full control of this problem. But we also committed to do something about it. As part of its response, IKEA sent a legal team to Geneva to seek input and advice from the International Labor Organization (ILO) on how to deal with the problem.

They learned that Convention 138, adopted by the ILO in 1973 and ratified by 120 countries, committed ratifying countries to working for the abolition of labor by children under 15 or the age of compulsory schooling in that country. India, Pakistan, and Nepal were not signatories to the convention.11 Following these discussions with the ILO, IKEA added a clause to all supply contracts—a “black-andwhite” clause, as Barner put it—stating simply that if the supplier employed children under legal working age, the contract would be cancelled.

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