Guy Norton in Zagreb -

Like many of its peers in the country's manufacturing sector, Croatia's clothing and textile industry has found the transition from a socialist self-management to a free-market economy model to be a highly challenging one.

Before Croatia declared independence from Yugoslavia in 1991, it employed over 83,000 workers and was an important source of hard currency for the country. However, given a toxic combination of war damage, the breakdown in trade relations between the former Yugoslav republics, and the onslaught of competition from both high-end Western European clothing retailers and low-cost textile manufacturers from Asia, the industry's financial fortunes have been decimated over the last two decades.

With Croatia mired in recession since 2008, the recent past has been particularly hard, with a number of once famous names failing to keep pace with the fierce competition for customers at both home and abroad. Although at a legal minimum level of HRK2,700 (€360) a month, wages in the textile and clothing industry are among the lowest of all the industrial sectors in Croatia, they are nevertheless at least four-times higher than those that workers in countries such as Bangladesh or Cambodia can command working for multinational companies such as Sweden's Hennes & Mauritz, which has launched a concerted assault on the Croatian market in the last 12 months.

This year has already proved to be a particularly cruel one for the embattled fashion industry in Croatia, with a number of once-major names having gone to the wall in the face of fast-shrinking spending by consumers in Croatia, which has dropped by at least 30% since 2008. In April, fashion retailer Xnation shut up shop with the loss of roughly 250 jobs after a planned recapitalisation by the firm's German-Slovenian business partner failed to materialise. Ironically, Xnation owner Mile Kozul had tried to fight off competition from international fashion retailers by moving production of its high fashion clothing range to China from factories in Croatia and Bosnia-Herzegovina.

Then in May, womenswear firm Angel based in Medimurje in northern Croatia, whose owner Ruza Djurkin had steadfastly refused to abandon manufacturing clothing in Croatia, closed its doors with the loss of 50 jobs. In the same month, the Croatian government was forced to step in to rescue the knitwear company Pounje Trikotaza based in the central Croatian town of Hrvatska Kostajnica and save 95 employees from the dole queue, converting HRK5.8m of debts to the state into a government shareholding in the company, giving it some much-needed breathing space to turn its fortunes around. The move gave some temporary relief to the firm's shareholders who had seen their stock fall from a high of HRK5 in January 2007 to a low of HRK0.5 before the government stepped in to rescue the firm in May. Hopes that Pounje can attract a strategic investment from Slovenian Modiano have since seen the shares trade up recently to HRK1.13.

Meanwhile, the country's largest clothing company Varteks which currently employs 2,300 workers in the northwestern Croatian city of Varazdin, announced in late July it was shedding around 100 jobs as part of a restructuring plan to help ensure its continued survival. The company's financial troubles means that it owes the central government roughly HRK130m in unpaid taxes.

Dressing up for the EU

Despite its recent trials and tribulations however, the textile and clothing industry is still the second largest employer in the manufacturing sector in Croatia, with around 20,000 employees, and is the country's third largest exporter accounting for 8.2% of Croatia's industrial exports. With the prospect of Croatia joining the EU on July 1, 2013, there is also hope that firms will be able to attract fresh capital from both home and abroad, while foreign manufacturers - especially those from higher cost EU members - may be tempted to set up new factories in Croatia.

Although much higher than those in Southeast Asia, labour costs in Croatia are reckoned to be on average at least 50% lower than those in traditional European fashion industry hotspots such as Italy, according to the Croatian Chamber of Commerce. Furthermore, with the Croatian government keen to promote greenfield developments in employment blackspots, international firms can receive subsidies of 20% of the start-up cost for new operations in Croatian regions where the unemployment rate is at least 20%.

Croatia has, therefore, succeeded in attracting the likes of Italian clothing brands Benetton and Calzedonia to establish factories in the country, while Austria's Boxmark, which manufactures leather upholstery for the likes of Audi, Bugatti, Opel and Porsche has proved to be a major manufacturing force in Croatia since it established a factory in Varazdin in 2001, with overseas sales worth around €135m a year, making it one of Croatia's leading exporters.

There's still considerable uncertainty facing a number of once major companies in the sector, however. Slavonija Modna Konfekcija (SMK), for example, finds itself embroiled in a life-or-death struggle for existence if it fails to turn its financial performance around in the near future. Based in Osijek, the capital of the Slavonia region in eastern Croatia, SMK's bank accounts have been blocked for the last seven years because of outstanding debts and it has only been able to survive thanks to the largesse of Audio, Croatia's Agency for State Property Management, which manages the government's roughly 80% shareholding in the firm. Last year alone, the company racked up of losses of HRK17.3m and the company has been struggling to pay wages and social security contributions for its 260 employees. It recently ranked in 18th place among the leading tax debtors to the Croatian government, with outstanding dues of HRK47.2m. Given its recent troubles, it's no surprise that the value of its thinly traded shares which are listed on the Zagreb Stock Exchange have slumped from almost HRK90 in August 2007 to just HRK2 five years later.

Founded in 1945, SMK was once a flagship firm in Slavonia, employing over 4,000 workers and selling men's and women's clothing throughout Yugoslavia. With the break-up of Yugoslavia in the 1990s, it suffered both extensive war damage as well as losing traditional customers in the former Yugoslavia and like many of its peers it is struggling to compete for customers given the increasing volumes of cheap imports to Croatia.

Consequently, chief executive officer Miljenko Babic who was brought in to help turn SMK's fortunes around in June, believes that the firm will have to cut its coat according to its cloth and as part of a restructuring programme move to new, much smaller manufacturing premises if it is to have a viable future. "After getting acquainted with the basic information about the business and the balance sheet of the company, we found that the situation in SMK is not great," admits Babic, adding: "I think Slavonia has a future... it will require a lot of work and effort, but I am confident that we can achieve better results."

As well as seeking new customers abroad one of the key priorities of the new management is to up the proportion of revenues it derives from Croatia - currently it stands at a measly 10% - on the basis that once the blockade on its bank account is lifted it will be able to compete for business from the Croatian army, police and state-owned companies. It also plans to expand its range of clothing from its in-house Tref brand of men's- and women'swear to include children's clothing and protective workwear. Furthermore, the firm is hoping to receive a new strategic partner after the government announced a public tender for SMK offering up its 78.95% stake in the firm for sale. Two, as yet unnamed, bidders have expressed an interest in the stake in October. Whether a new owner will be able to provide the necessary financial wherewithal to help SMK to stave off bankruptcy remains to be seen however.