Charles Schwab and Zara: an investigation of strategic IT alignment A report for Information Technology Management course (Module C)

By Maxim Peskin Master of International Business (MIB), Greenwich cohort

The body of this report contains 2179 words. April 23, 2012 Hult International Business School London, UK

Contents
Executive summary..........................................................................................................................2 Introduction .....................................................................................................................................3 Brief summary of the cases .........................................................................................................3 External environment: the drivers of change..................................................................................3 Internal factors: the digital muscles ................................................................................................4 Findings summary: key IT issues......................................................................................................5 Recommendations: a matter of value .............................................................................................5 IT transformation as value proposition .......................................................................................6 Conclusion .......................................................................................................................................7 Appendix 1: Models and frameworks used .....................................................................................8 PEST analysis ............................................................................................................................8 Porter's Five Forces ..................................................................................................................8 McKinsey 7S model ..................................................................................................................8 Value Matrix .............................................................................................................................9 Venkatraman's IT-driven Transformation Framework ..........................................................10 Appendix 2: External environment................................................................................................11 Macro-environment ...............................................................................................................11 Micro-environment ................................................................................................................11 References .....................................................................................................................................13 Bibliography ...................................................................................................................................14

Executive summary
This report presents an analysis of two cases: Charles Schwab Corporation and Zara. Both companies face substantial challenges regarding IT in their respective businesses: for both, these challenges have profound strategic implications. Charles Schwab is facing a decision concerning the launch of an innovative online trading product; the case of Zara revolves around the upgrade of store terminals. After careful consideration of external environments and internal factors of both companies, this report evaluates the current strategies of the companies and suggests perspectives for future development. In case of Charles Schwab, a new product is revealed to be a step towards an entirely new modular business model. In case of Zara, systems upgrade dramatically strengthens the core competence contained in the value chain. In both cases, IT is shown to be inseparable from business strategy, alignment being the crucial factor of effectiveness.

Introduction
Case studies, business press reports and academic research alike suggest that IT strategies must be aligned with general business strategies in order to be both effective and efficient. The primacy of alignment implies that any business challenge regarding the use of IT should never be treated in isolation, i.e. as a purely technical matter; on the contrary, it is to be addressed with a coherent set of interrelated activities concerned with three aspects of business management: strategy formulation, organisation and control, and technology implementation (Laudon & Laudon, 2012). The cases of Charles Schwab Corporation and Zara further demonstrate that the effectiveness of information systems is inseparable from strong leadership vision, appropriate corporate culture, efficient processes of the company and sustainable, competence-driven strategy. The purpose of this report is to explore the two cases, identify key IT issues faced by the companies currently and provide specific recommendations for future development. This requires an investigation of their respective external environment factors, performed with such tools as PEST and Porters Five Forces model, and the internal factors analysis employing McKinsey 7S framework. The findings are then summarised and certain strategic actions are suggested basing on the Value Matrix model and the IT-driven business transformation typology proposed by Venkatraman. (The description of these methodologies is provided in Appendix 1). This sequence of analytic steps defines the structure of this report; however, due to spatial constraints, external environment analysis is presented in Appendix 2.

Brief summary of the cases

The case of Charles Schwab is focused on an innovative brokerage company facing a typical innovators dilemma in a highly competitive and changeable market: their new online trading product, although strategically attractive, would be detrimental to both top and bottom-line performance in the short run. The principal decision to be made is, in fact, whether to launch this new product and, if yes, how to market it (McFarlan & Tempest, 2001). Zara case, despite the stark differences, deals with the same matter fundamentally. The company is also facing an innovators dilemma of sorts: a range of new technologies for pointof-sales (POS) terminals and store communication is readily available that are superior to those currently in use in all respects; nevertheless, the implementation decision is primarily hindered by perceived risks of systems reliability and usability. (McAfee, Dessain & Sjoman, 2007).

External environment: the drivers of change

Please see Appendix 2.

Internal factors: the digital muscles

This section uses McKinsey 7S model, as described in Appendix 1. (However, both cases notably disregard Skills and Staff since these elements apparently present no bottlenecks for the companies presently or in the foreseeable future). The strategy of Charles Schwab can be simply described as product differentiation based on technological innovation and supreme customer service. A core element of the strategy is the multitude of customer contact channels. The company has had two overarching growth objectives: empowering investors and pursuing lower margins in order to gain volume. This correlates strongly with their style since Charles Schwab is a trend-setting, team-driven company with an entrepreneurial, adaptive culture, and their shared values of trust, financial ethics, fair play, client satisfaction, etc. It should be noted that Charles Schwab is an atypical financial company because they consider technology to be the core of their business (McFarlan & Tempest, 2001). It is in exactly the same way that Zara is an atypical clothing company. Apart from the focus on IT, their shared values include responsiveness and autonomy. This translates to a truly decentralised style of business which also is rational but design-driven and focused on speed and agility not accuracy. These factors support company strategy which can be described as niche product differentiation based on accurately responding to the most current demand and being able to continuously change the offering, introduce new products, etc. following the demand trends (McAfee et al., 2007). The powertrain of Zara, the source of their core competences agility and ability to respond fast is their operations. In terms of structure, the key point is an integrated yet decentralised and therefore intrinsically flexible network of small production facilities. As for systems, IT infrastructure is generally not standardised: Zara combines cutting-edge automation in distribution centres with very low-tech, informal, essentially manual planning in manufacturing and in stores. The main application of IT in the latter case is in the ordering process: a partially decentralised process chiefly driven by sales and stock visual inspection, it is a potential bottleneck for what is effectively a lean, order-driven distribution system. Stores currently run antiquated DOS-based terminals that provide incredible reliability and simplicity of maintenance and set-up yet very limited functionality (McAfee et al., 2007). Further sections of the report discuss this key IT issue which effectively is the most unaligned element of the 7S of Zara. In contrast, Charles Schwab primarily deals with up-to-date technologies: a benefit of their dual IT structure that differentiates centralised company-wide projects from specific enterprise applications. The company has typically been a systems innovator; technology experience is one of their core competencies. Their IT operations are characterised by a focus on standardisation, resilience and effective utilisation of resources. The only minor bottleneck at the moment is presented by the commission charging system which runs a legacy database and is inherently inflexible (McFarlan & Tempest, 2001). In terms of 7S, Charles Schwab is presently a remarkably aligned company.
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Findings summary: key IT issues

For Charles Schwab, key business challenge lies with the potential launch of their new internet trading product which would offer full customer service at substantially lower prices than before, thus jeopardising profit structure and substantially cannibalising other products in the company portfolio. Consequently, chief IT issues can be summarised as follows: Should the company do the transition to the new product now? Would their IT system support the transition effectively? How to deal with short-term system inflexibility? What future product or service development might be required? For Zara, key business challenge is created by their outdated IT in retail outlets and the gaps in functionality that are a potential hazard to lean value chain efficiency. The following IT issues arise: Should the company transfer their stores away from a very old but very reliable technology? How to balance new software functionality with required robustness? What new functionality is in fact required? What platforms and vendors to choose to deliver it? And should this opportunity be used to address deeper, more fundamental IT issues in the company?

Recommendations: a matter of value

This section provides specific strategic suggestions for Charles Schwab and Zara and then summarises these proposals with Value Matrix and Venkatraman models, as described in Appendix 1. For Charles Schwab, new product introduction is an absolute necessity. However, while rolling out a new online trading product, the company must also maintain and reinforce three competitive advantages that Charles Schwab currently has: superior customer service, multichannel access to trading services and an extensive range of trading options available. The first two can be considered fixed quantities; the latter however offers certain room for change. From the point of view of these advantages, there are three segments in the market presently: heavy traders, a segment mostly interested in product range width and quality; mass investors, who care about customer service and accessibility yet are increasingly price-conscious and therefore somewhat less appealing for Charles Schwab; and finally potential new clients, attracted from traditional offline full-service brokerages who value all three advantages of being with Charles Schwab. However, in order to tap into the enormous potential of this emergent market segment, Charles Schwab has to be able to offer specific tailored product packages (not to mention some degree of investment advice which can be achieved by establishing or enhancing partnerships with market news providers, rating agencies, exchanges, etc.). This would essentially require a dramatic change in the product philosophy of the company and, by and large, in their entire business model: instead of a subscription type of service with a flat commission fee, they should roll out a range of subscription plans, similar to what mobile network operators do, with product and service additions, bundles, etc.
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In a nutshell, in order to fend off the commoditisation of the internet trading services, Charles Schwab needs a modular business model: it would utilise the modular IT architecture of the company most efficiently, prevent the company from being involved in a price war and most importantly support the core competitive advantages of Charles Schwab. The only bottleneck is flexibility: as noted previously, commission charging systems must be upgraded immediately. The recommended strategy for Zara is more straightforward. As far as lean value chain is the main strategic asset of the company, its demands dictate the way of systems development. In the case of IT in Zara stores, the transition from DOS-based terminals to newer systems is necessary because operational reliability is in evident conflict with strategic reliability (i.e. being able to rely on these systems in the long run) and the latter naturally prevails. Naturally, new systems will add certain functionality, such as in-store networks, constant connection between the store and the distribution centre, inventory optimisation by store-tostore communication and so on. However, the crucial aspect for new IT introduction will be the preservation of what was perceived as crucial functionality of the old systems: their resilience, simplicity and maintenance ease. Single click functionality in main operations turning the terminal on or off, information exchange, setting up and reinstallation can be achieved with web-based applications; more importantly, web platforms will eliminate vendor dependence completely, simplify update procedures and help establish more advanced standards for the retail IT infrastructure. (In terms of standards creation and enforcement, Charles Schwab IT infrastructure could provide a handful of extremely useful examples for Zara IT department).

IT transformation as value proposition

Value Matrix model (see Appendix 1) suggests that the primary value discipline for Charles Schwab strategy is Customer intimacy, more specifically its soft aspect. The company, however, has not always been a Socialiser: it had begun as a Price minimiser and then was an Innovator for a period of time. Proposed strategy requires Charles Schwab to remain a true Socialiser; however, this value discipline is to be supported by two related paradigms: soft Product leadership and hard Customer intimacy. It would essentially mean that Charles Schwab should add myth-building and technology-integration competencies to the mix. Is this strategy too radical? Venkatramans model (see Appendix 1) shows that it is only radical enough. Charles Schwab is essentially a technology-driven business; IT has been a revolutionising force behind radical changes in the past for the company. Yet the internet is potentially the biggest innovation in finance so far and the launch of their new online trading product can be regarded as a continuation of their innovative spree. On Venkatraman scale, Charles Schwab is habitually between stage 3, Business process redesign, and stage 5, Business scope redefinition: the company constantly creates change and incorporates it into the strategy, and there is every reason to expect that this trend will continue. Zara, by contrast, presents a substantially less radical scenario of change. From the point of view of Value Matrix, the company is a typical Simplifier that had also started, initially, as a
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Price minimiser. The strategy proposed in this report implies that the former value discipline is to be maintained (while forays into unrelated disciplines, e.g. trying to become a Brand manager, would lead to disastrous consequences for the brand). On Venkatraman scale, transition to more advanced POS terminals and retail IT upgrades in general correspond to stage 2, Internal integration, with a very likely expansion to the expansion to stage 3, Business process redesign. At the same time it might be argued that what the new IT, primarily the webbased applications, truly bring is the change in the nature of interaction with technology vendors which effectively is a definition for stage 4 in the model, Business network redesign. However, as discussed previously, the main issue for the company is the clash between old and proven technologies and potential future demands of their agile and fast logistics system; from this point of view, process redesign will be a very narrow endeavour and the entire IT transformation will be mostly confined to stage 2 of Venkatraman model.

Conclusion
The cases of Charles Schwab and Zara show that IT design and implementation are inextricably linked with business strategy development and realisation. For Charles Schwab, an introduction of a new online trading product could herald a transformation of their entire business model towards a modular, radically innovative market proposition; it is a way to avoid the price wars and offer substantial value to the clients. For Zara, an upgrade of POS terminals is inseparable from ensuring their lean distribution network maintains the competitive edge; at the same time the company is essentially changing the architecture of their IT supplier relationships. For both companies, internal pressure for change is the key driver for action despite fairly favourable competitive and macro-environment conditions. The two cases discussed in this report definitely prove that effective IT-driven transformation initiatives require a working, meaningful alignment between strategy and technology.

Appendix 1: Models and frameworks used

This section provides a description of analytical methodologies and tools used in this report. PEST analysis PEST is a framework typically used in strategic management for external environment investigation. The acronym stands for Political, Economic, Social and Technological factors that are generally accepted to be among the crucial drivers affecting the overall business conditions in any industry or market. The model has proven extremely popular due to its simplicity and apparent flexibility. The acronym has been extended to include Environmental (or sometimes Physical), Legal, Ethical, Demographic, Regulatory and numerous other factors. Consequently, in line with PEST, strategists often use STEEP, SLEPT, PESTEL, STEEPLE, STEEPLED and other similar frameworks that share the same essential purpose and function. (Mindtools, 2012a)

Porter's Five Forces Five Forces framework was proposed by Michael Porter as a tool for industry analysis and the primary development of business strategy. From the viewpoint of strategic management, this model deals with internal environment of the company by assessing various powers that define the intensity of competition. The forces identified are Suppliers, Customers, New entrants, Substitute products and Competitive rivalry within the industry (also referred to as Existing competition). The former two act through their bargaining power while the latter three represent potential competitive threats to the company. Five Forces model is a typical starting point for industry analysis, widely accepted due to its clarity and methodological rigidity. (Porter, 1980, as cited in Sutherland & Canwell, 2004)

McKinsey 7S model 7S model was developed by McKinsey & Co superstar consultants Tom Peters and Robert Waterman as a framework for analysing internal factors affecting business performance. The model identified seven elements of the organisation: strategy, structure, systems, shared values, style, skills and staff. The former three are referred to as hard elements since they can be managed by company leadership directly; the latter are thus soft elements, less tangible and less controllable. The primary idea behind the 7S framework is that a company can only be effective if all seven elements are properly aligned. The model is very versatile: it can be used to dissect a company and find misaligned elements as well as for integral assessment and strategic design. (Mindtools, 2012b)

Value Matrix Value Matrix is a conceptual expansion of the Value Disciplines model initially developed by Treacy and Wiersema (1996, as cited in Martinez & Bititci, 2001). The original framework listed three strategic value dimensions: Product leadership, Operating excellence and Customer intimacy. According to the authors, an effective strategy had to be focused around one of these three so that the business would achieve significant advantage over the competitors. The other two dimensions, although requiring considerably less strategic attention and input, cannot be neglected completely: the company has to maintain effective parity with the competition in respective parameters. Value Matrix idea, introduced by Martinez, brings the distinction between hard and soft values to the forefront. For each of the three core value dimensions there exist two dramatically different aspects of existence: see table 1 for the list of six value dimensions as proposed by the new model. Hard values represent business strategies (and essentially businesses themselves) focused on the tangible aspects of technology and product management whereas soft values mean that a company deals with such intangibles as brand perceptions, subcultures, etc.

Table 1. New value dimensions as listed by the value matrix model Value disciplines according to Treacy & Wiersema Product leadership Operational excellence Customer intimacy Hard values Soft values

Innovators Price minimisers Technological integrators

Brand managers Simplifiers Socialisers

Although adding new depth to the analysis, the model asserts the same perspective in terms of business strategy: an effective strategy must follow one of the six value disciplines while maintaining parity in the remaining five. However, parity in sister values (e.g. price minimisation for simplifiers) is assuredly easier to achieve than in more distant ones (e.g. innovation in this case). (Martinez & Bititci, 2001)

Venkatraman's IT-driven Transformation Framework Developed by Venkatramanm, it is a tool to assess the degree of business change and potential benefits that underlying IT innovation brings forward. One of the fundamental tenets of the framework is that the degree of business transformation is directly correlated with potential advantages of this transformation for the company. The model can be used to evaluate current activities as well as to design and align future strategic initiatives. The model identifies five potential stages: an IT-driven change project is most likely to exist on any of the five or span neighbouring two. The lowest level is Localised exploitation, followed by Internal integration, Business process redesign, Business network redesign and finally Business scope redefinition. The former two are considered evolutionary stages while the latter three are revolutionary. The higher the stage, the more pronounced the strategic involvement and alignment of IT initiatives. (Venkatraman, 1994)

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Appendix 2: External environment

This section provides and external environment analysis for the cases of Charles Schwab and Zara. It uses PEST and Porters Five Forces model, as described in Appendix 1. Macro-environment Macro-environment conditions for Charles Schwab are quite favourable to begin with: as for economic factors, the number of private investors is growing considerably, brought forward by a turbulent bull market. These investors possess not only massive funds and financial knowledge but also experience with technology (and therefore have certain expectations regarding the technical prowess from their brokerage of choice). At the same time, the economic outlook of the internet brokerage market is strengthened by such social trends powerful dynamics of internet penetration rate and corresponding growth of online services. The key technological factor is undoubtedly the internet itself: an interweaving of technologies that promises to change the entire financial industry. However, e-commerce is still in its infancy and there is no reliable, proven business model so far (McFarlan & Tempest, 2001). By comparison, the external situation for Zara is even more beneficial. The economic bit is obvious: middle class is expanding worldwide, with emerging markets offering the most lucrative opportunities. As for social factors, such trends as new tribalism enhance fashion and design consciousness in consumers everywhere (Penn, 2007). Still technology remains an apparent weak spot of clothing industry: it is the low-tech yet intimately personal contact with the client that is still perceived as the epitome of quality. This last point admittedly holds true for financial services as well, and Charles Schwab is a prime example of a company that followed suit exactly; Zara, however, turned the tables dramatically, as detailed in the following sections of this report. Finally, political factors play virtually no role for Charles Schwab (McFarlan & Tempest, 2001); in case of Zara, the crucial aspect is the multitude of country-specific business regulations that this global company has to consider in their daily operations (McAfee et al., 2007). Micro-environment The analysis of micro-environment factors reveals significant differences between the two cases. Charles Schwab is not in fact threatened by existing competition: the company is the doubtless leader in the online brokerage industry with a market share of over 50% (by number of accounts managed). However, entry barriers are relatively low in the industry prompting new entrants to appear: the number of internet trading companies is reported to have quadrupled in a single year. Moreover, discount brokerage market is effectively being transformed by socalled deep discount online brokerages that compete entirely on the basis of price. Since intense price competition has turned into a full-on price war, the competitive threat from that direction is actually diminished but the danger of commoditisation still remains. Substitute products, such as full-service brokerages, present little risk for Charles Schwab: on the contrary, it is their customers that the company should try to address (as discussed further). Suppliers are
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typically reliable and present no risk, since they are competing vendors of up-to-date systems (McFarlan & Tempest, 2001). As for customers, Charles Schwab thrives on the growing number of clients interested in selfmanaged investment and internet trading options; online business represents over 25% of the companys portfolio. There are three potential market segments: price seekers, value optimisers and luxury clients (the latter having transferred from offline full-service brokerages); given the market growth dynamics, it is entirely up to Charles Schwab to choose their target (McFarlan & Tempest, 2001). Zara, on the contrary, exists in a much more competitive environment. The competitive rivalry between Zara and such brands as H&M, Gap or Mexx is intense and key factors are geographic expansion, product range and speed of response to market. (Strong financials suggest that Zara is quite good in all three activities; however it is discussed further that their core competence lies in their speed and agility). New entrants are hardly a threat since entry barriers are high and substitute products, e.g. more expensive brands like Hilfiger are typically targeted to a vastly different audience. Suppliers, in contrast to Charles Schwab, might be a significant factor: on one hand, Zara owns some of their suppliers and collaborates intensely with equipment vendors; on the other hand, ancient technologies used in POS terminals translate to vendor dependence (McAfee et al., 2007). Finally, the customers are an unpredictable factor, hard to influence and capricious. Core marketing capabilities in this market are not related to brand management but to being able to respond instantly: something that Zara inherently possesses (McAfee et al., 2007).

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References
Laudon, K. & Laudon, J., 2012. Management Information Systems. 4th ed. Upper Saddle River, New Jersey, USA: Pearson Education Martinez, V. & Bititci, U., 2001. The Value Matrix and its Evolution. In: Blackmon, K., Brown, S. et al. What Really Matters in Operations Management: Proceedings of the European Operations Management Association 8th International Annual Conference. Bath, 3-5 June 2001. [online] Available at: <http://www.som.cranfield.ac.uk/som/dinamiccontent/research/documents/the%20value%20matrix%20and%20its%20evolution.pdf> [accessed 23 April 2012] McAfee, A., Dessain, V. & Sjoman, A., 2007. Zara: IT for Fast Fashion. HBS No. 9-604-081. Boston: Harvard Business School McFarlan, F. & Tempest, N., 2001. Charles Schwab Corporation (A). HBS No. 9-300-024. Boston: Harvard Business School Mindtools, 2012a. PEST Analysis: Understanding Big Picture Forces of Change [online] Available at: <http://www.mindtools.com/pages/article/newTMC_09.htm> [accessed 23 April 2012] Mindtools, 2012b. The McKinsey 7S Framework: Ensuring that All Parts of Your Organization Work in Harmony [online] Available at: <http://www.mindtools.com/pages/article/newSTR_91.htm> [accessed 23 April 2012] Penn, M., 2007. Microtrends: The Small Forces Behind Tomorrows Big Changes. New York: Twelve Porter, M., 1980. Competitive Strategy. New York: Free Press Sutherland, J. & Canwell, D., 2004. Key Concepts in Management. New York: Palgrave Macmillan Treacy, M. & Wiersema, F., 1996. The Discipline of Market Leaders: Choose Your Customers, Narrow Your Focus, Dominate Your Market. New York: Perseus Books Venkatraman, N., 1994. IT-Enabled Business Transformation: From Automation to Business Scope Redefinition. Sloan Management Review 35 (2), pp. 73-87

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