Earlier this week, Apparel Magazine featured our thoughts on the recently announced Wal-Mart / Li & Fung deal.  I’m reprinting the piece below, with Apparel Magazine’s permission.  Would love to hear your perspective.  josh@panjiva.com

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A Skeptic’s View of the Wal-Mart/Li & Fung Deal

There’s a lot of praise for both Wal-Mart and Li & Fung in the wake of Thursday’s announcement that the two inked a sourcing deal worth up to $2 billion annually. Indeed Li & Fung should be congratulated for expanding a relationship with a huge client. And Wal-Mart deserves high marks for identifying a low-risk way to test a new approach to global sourcing, at a time when new approaches are clearly needed. But is this deal actually going to create significant value? I’m a skeptic.

Problem #1: Li & Fung’s lack of scale advantage

Typically, the best argument for working with Li & Fung is the sourcing giant’s ability to reduce your cost base. Think you have leverage over your suppliers? Chances are that Li & Fung has more, because Li & Fung is bigger than you. Unless, of course, you’re Wal-Mart. Wal-Mart is world famous for getting the world’s best prices from its suppliers — no surprise, given its unrivaled scale. Can Li & Fung really get better prices than Wal-Mart can? Unless the answer to this question is yes, Li & Fung will be hard-pressed to reduce Wal-Mart’s overall cost base. Specifically, Li & Fung will have to find a way to run the sourcing process more efficiently than Wal-Mart, which is of course legendary for its efficiency.

Problem #2: Wal-Mart’s focus on transparency

Earlier this year, Wal-Mart announced an ambitious initiative to promote environmentally sustainable practices in its supply chain. In time, Wal-Mart will provide more transparency to consumers about the environmental impact of their purchases. To do this, Wal-Mart will require more transparency from its suppliers about the environmental impact of their operations. However, it’s unlikely that more transparency will be the result of the Li & Fung deal — which will create a layer of separation between Wal-Mart and many of its suppliers. Unless Li & Fung can take steps to ensure that the flow of information to Wal-Mart grows, rather than shrinks, as a result of this deal, Wal-Mart’s efforts to promote transparency will be frustrated.

Problem #3: Technology culture clash

For years, Wal-Mart has been aggressive in using technology to build and sustain competitive advantage. Just as Wal-Mart’s scale exceeds that of Li & Fung, Wal-Mart’s embrace of technology almost certainly exceeds that of Li & Fung. (To be fair to Li & Fung, Wal-Mart’s embrace of technology likely exceeds that of every would-be partner.) Can these two companies with different approaches to technology find a way to work together seamlessly? We’re about to find out.

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For Li & Fung, this deal is the latest in a series of a high profile successes. Over the last several years, Li & Fung has convinced a variety of big name companies to hand over significant aspects of their sourcing operations.

Not surprisingly then, there are those who argue that the Li & Fung model is the future of global trade. Given Li & Fung’s scale and expertise, why won’t more and more companies trust their sourcing to Li & Fung? Meanwhile, there are others who argue that the Li & Fung model will be unsustainable as buyers and suppliers increasingly insist on direct interaction. Who’s right? Interestingly, the outcome of Wal-Mart’s experiment with Li & Fung may point us to the answer.

Therefore the stakes of this experiment are quite high for Li & Fung. My advice to Li & Fung (a company that’s done quite well for 100 years without the benefit of my advice)? Take advantage of your expanded relationship with Wal-Mart to cultivate new assets: specifically, a bias toward transparency and an enhanced commitment to technology. Otherwise, I suspect you’ll prove skeptics like me right.

What about the stakes for Wal-Mart? Well, even at $2 billion, the sourcing deal with Li & Fung represents only about 2% of Wal-Mart’s private label business. Therefore, the stakes for Wal-Mart are relatively low. Meanwhile, if the experiment goes well, Wal-Mart has the option to buy the operations that Li & Fung is building. Bottom line: whether or not this deal with a key supplier ultimately creates value, Wal-Mart will be in good shape. Is anyone surprised?

Josh Green is co-founder and CEO of Panjiva, an intelligence platform for sourcing executives.