What gives a supply chain strategic importance?
A supply chain involves more than cutting purchase orders. Here are three impacts highlighting the strategic position of a supply chain within a company:
- Delivering customer satisfaction: The supply chain is the critical link in making sure products and services meet customer expectations as they were designed to.
- Ensuring financial well-being: In most companies, over 50% of expenditures are tied up in COGS. That makes the supply chain a prime area to look at for potential value creation opportunities.
- Building talent: Today’s supply chain requires expertise in big data and in supplier relationship management. It also requires cooperative inventory, logistics, and operations planning.
What is a worse case impact of a mismanaged supply chain?
Bankruptcy to be blunt. Here is an example.
In the early 2000s, one of the largest fertilizer manufacturers in the US found itself in a bind over the price of natural gas, an essential ingredient for fertilizer production. It had forward contracts that protected it when the price of natural gas spiked from $2.50 MMBtu to over $14. When the gas prices started to fall, the company decided to purchase forward again, at about $5 MMBtu. The market fell to $2.50 again. So their cost of goods sold (COGS) grew to twice what the market would accept, with damning financial effects on the firm. The firm was broken up, selling the various businesses and assets.
Best-in-class companies are the ones who frequently assess the health of their supply chain against multiple risks. Whether their company is a manufacturer, distributor, or service company, they know that the company’s health and well-being is firmly linked to its supply chain.
What are the risks your supply chain faces?
A general understanding of the areas that are fundamental to risk mitigation is helpful prior to a supply chain assessment. Your supply chain may face risks like the following:
- Purchasing: As the fertilizer company found, purchasing comes with risks, especially if you don’t fully understand how hedging works. It’s critical to have a true understanding of the market and the position you are taking. If your raw materials cost too much, your product may cost more than substitutes or higher than the market will clear.
- Manufacturing: If your costs to manufacture are too high, once again your products will cost too much and may end up sitting in your warehouse or being sold at a discount.
- Transportation: Total landed costs are critical to a healthy gross margin. Therefore, you must assess and compare costs like ocean freight, demurrage, domestic transportation, and related fees to understand their impact and risk.
- Government Action: Governments use tariffs and duties, fines, and other incentives to motivate companies to change their supply chain even if they wouldn’t have on their own. So you have to weigh the risk of government action as well.
- Geopolitical: Many companies rely on parts, components, and raw materials from other countries, and some have geopolitical risk. Leading companies are in the process of nearshoring or re-shoring to decrease the risk to their supply chains from political crises and also compress transportation lead time.
- Suppliers: In terms of best-sourcing, you have many risks to consider. How does each supplier compare in costs, quality, deliverability, and labor standards, for example? Which suppliers will be able to serve you in the future, not just in response to a temporary need? If you change suppliers, what new risks could you incur?
- Upstream: All the risks and costs mentioned previously are absolutely critical upstream, for your suppliers’ suppliers. For example, the supply chain for electrical vehicles includes not only the battery manufacturers but the miners of raw materials critical to battery manufacture, such as rare earths. That whole upstream market affects your cost profile downstream.
What are the elements that go into an assessment?
Decisions about the supply chain should never be made in isolation. External factors like the marketplace and industry dynamics, the capabilities of individual suppliers, the geopolitical situation, etc. must be taken into consideration.
An internal assessment is also crucial to determine how and how well your supply chain process, systems, and organization functions. In addition, given its role to ensure the right product or service at the right time, the interaction with other departments and communication clarity are important review points. The whole firm has to work together as a synchronous system.
For example, best-in-class companies ensure that their demand and supply plans are up to date and linked and are revisited frequently, not just when a problem arises. During the post-Covid period, a home goods company SGS Maine Pointe worked with had a typical annual planning cycle. However, its supply base was only committing to orders 15 to 18 months out, due to pent up demand. That difference absolutely put a monkey-wrench in the company because their planning cycle was shorter than they could get product into their warehouses.
A supply chain assessment is the lynchpin to establishing mitigation plans and extracting financial and other qualitative value. One attribute shown by market leaders is their ability to move quickly when a course change is evident but doing so with care and forethought.
What are some KPIs for supply chain health?
There are many metrics, but the most important are:
- Lead Time: How long does it take from purchase order issuance to receipt of product inside your warehouses? When a customer places an order, how quickly does your distribution ship your product to the customer? These respective lead times are critical to customer satisfaction and working capital.
- Quality: What quality are you getting? Do the product and its packaging always meet specifications?
- OTIF: Are you getting the supplies, products, or contractors you need when you need them? Was the whole order completed or did you get a partial shipment?
- Geographic Concentration: How concentrated is your supply base in any one country? What will happen if that country comes under conflict or suffers a natural disaster? You have to have an alternative for at least some portion of your supply base.
- Labor: What is your labor tenure and turnover?
- Accuracy of Forecasts: How often is your production schedule changed?
- Procurement Excellence: How much have you actually saved on cost-saving initiatives versus what you forecasted? If your procurement department says, “We can save you $5 million this year,” what’s the baseline and have you actually performed against that?
What does an accurate assessment require?
An accurate assessment requires an objective mind that is open to new ideas, data that you can trust, and procurement professionals who appreciate the power of that data.
It also requires collaboration. Your planning, procurement, operations, and logistics have to work together in a cross-functional team. The supply chain is an integral part of your overall organization, where central functions, like finance for instance, are not separate from supply, but they all operate as a smooth functioning system. At SGS Maine Pointe, we call that Total Value Optimization™.
By frequently assessing the health of your supply chain, before a crisis happens and before a potential risk become a real threat, you encourage idea generation, collaboration, and flexibility—protecting your company from risk and adding value upstream and down.
