Proper Supply Chain Management Involves Assessing Tradeoffs
Companies with exposure to global supply chains have faced two major threats in as many years. In 2018, the imposition of tariffs on goods imported from China set off a cost structure crisis, while the new coronavirus pandemic of 2020 led to widespread product delays and underages. Both events have been tremendously costly to U.S. manufacturers, and they have exposed many risks inherent in globalized supply chains that had previously been discounted during an extended period of economic prosperity and stability. With the coronavirus still raging across much of the globe, supply chain disruptions are expected to continue for several months due to wide fluctuations of end-user demand and the challenges of restarting factories and distribution channels amid a pandemic. Many leaders are now realizing that a new calculus is required for judging a supply chain’s performance, with resiliency and durability now serving as more prominent criteria. However, reconciling the two conflicting supply chain imperatives—either cost or security—is becoming a high-wire act. There are ways to better balance these often-competing objectives, and move your company from an “either-or” to a “both-and” supply chain strategy in the face of ongoing risk.
What Tradeoffs Are Supply Chain Leaders Facing?
Effectively managing a supply chain involves paying a market competitive price for the right level of service. In the wake of two recent crises impacting global trade, how companies define the right level of service has changed. With external parties, tradeoffs to pure unit price can often include a more localized supply chain, more available sources, better account management, and better contractual coverage. Internally, the trade-off often looks like building buffer inventory at the expense of building working capital—the theory being that lost revenue from missed shipments can have a far greater impact on a company’s financials than the associated supply chain costs of mitigating the risk.
What Are Some Action Steps for Balancing Risks Effectively?
There is no one-size-fits-all model. Not all parts or raw material inputs are created equal, nor are all revenue streams. As such, supply chain and operations leaders can find it extremely effective to triage risk in order to provide clarity about what is most important to protect:
- Start with identifying your most critical customers and revenue streams. Where would a revenue impact hurt the most? While high-volume products often come to mind first, companies would be well-advised to ensure they understand other risk factors, including the potential for customer penalties and negative publicity.
- Analyze bills of material to understand all material inputs required to produce a revenue-critical product. Be careful not to neglect even seemingly straightforward and widely available parts. Recall that the Boeing 787 Dreamliner famously suffered painful delivery delays because of a fastener shortage.
- Parts and materials, once fully identified, can be assessed in terms of potential risk of supply disruption as well as the potential downstream financial impact of a disruption (the 787 example being the extreme). Supply-side risks are often heightened if the part or material is either single-sourced, highly customized, in high demand, has an extensive lead time, or otherwise has tight sourcing specifications. Those parts deemed to be high sourcing risks and high revenue risks are prioritized.
- With a more manageable scope, explore all possible risk mitigation steps with suppliers, starting with the least prohibitive step (often carrying some excess inventory).
- Capture the analysis above and maintain in a transparent dashboard. There is some benefit to conducting such a risk assessment as a one-time exercise but building this ongoing capability into your operations team’s day-to-day can have a major long-term impact.
- Going forward, establish clear criteria for how sourcing decisions are made. It is a best practice to consider up to five major criteria (often weighted), in addition to purchase cost. Supplier quality, location, warranty, support, and contract coverage are common additional criteria to weigh when choosing a partner.
How Can Costs Be Controlled While Also improving Supply Security?
Supply chain and operations leaders will have a difficult time shaking the imperative of low-cost sourcing. Many CEOs and CFOs, while clear on the need to mitigate risk, will often quickly revert to cost control and margin preservation during important points of the fiscal cycle, especially as crises fade. This often leaves the supply chain leads in a position to drive this balance as a long-run best practice. However, cost and security can be optimized. A well-skilled and well-resourced supply chain team can find sufficient cost opportunity to pay for the service gains and then some. Here is how we advise our customers:
- Consider total cost of ownership: Unit price is just what lies “above the line.” Factor in other additional costs that can vary by supplier and sourcing location, including freight, tariffs, insurance, cost of poor quality, warranty, and on-time delivery performance. Beyond just swaying the economics, some of these factors can greatly exceed the original purchase cost when things go wrong.
- Leverage competition to ensure market-best pricing for quoted services: Success starts here at the RFQ/RFP stage. Well-developed and articulated competitive quotes across capable suppliers will help ensure the best pricing for the necessary specifications and sourcing criteria.
- Toggle between single-sourcing and duel-sourcing: Duel-sourcing introduces ongoing competition that can save on price and add immediate security but often cuts the total available market for a supplier. For lower-volume materials, this can actually lead to higher purchase costs and less preferred service. Aggregating volume into one supplier can lead to better pricing and service but doesn’t offer the ability to have a “ready now” alternative. Beyond effective quoting and negotiation, leaders can achieve the benefits of both by seeking to avoid complacency in the supply chain; changing (or at least quoting) suppliers every few years, processing sample shipments from second sources, setting up payment/IT connections in advance, and maintaining diverse relationships.
- Invest in a skilled team that can go deeper: In addition to advanced bidding and negotiation tactics, highly proficient procurement teams can unlock additional cost savings by challenging supplier cost structures, assumptions, and sub-component pricing. These efforts often more than repay the investment in resources and the trade-offs associated with higher service levels.
The stakes have arguably never been higher for those charged with managing a complex supply chain. But when armed with effective governance, sound sourcing principles, clear objectives, and a strong team, companies can turn a major risk area into a competitive strength.
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The information provided in this communication is of a general nature and should not be considered professional advice. You should not act upon the information provided without obtaining specific professional advice.