It has been reported, for example, that Apple was facing tight supplies on the lithium-ion batteries used in its iPods. The bottleneck was traced to Kureha, a relatively obscure Japanese chemicals manufacturer which had to shut down its factory near Iwaki following the disaster. Although the company’s factory had remained intact, it was the damage to the ports that was creating the blockage in the supply chain.

How does a company that outsources its production deal with unexpected events ranging from Japan’s catastrophic earthquake and tsunami to unprecedented floods in Australia or an Icelandic volcano? Until recently, many corporations entrusted their supply chain operations to middle level management. The chief purchasing officer, if he/she existed, usually reported to the CFO, CIO or COO. CEOs had relatively little exposure and experience in dealing directly with supply chains. Often, the purchasing officers paid more attention to cost and product quality than to the risk factors in sourcing. The earthquake in Japan is changing all of that since many global supply chains have been disrupted to varying degrees.

The global supply chain is the natural consequence of a rational attempt to remain “asset light,” in other words, focusing on a company’s core competencies and outsourcing the rest by taking advantage of low-cost sourcing. No one questions the value of the concept or of just-in-time manufacturing, but it is increasingly apparent that the approach works best when the global economy is stable, protectionism is not prevalent and strong, and there are few natural disasters. The global economy has become increasingly integrated, and the growing frequency and intensity of natural catastrophes, such as what took place in Japan need to be factored into strategic planning.

All of these factors have changed the rules of the game and created a radically new environment which requires a fundamental shift in thinking with regard to the supply chain.

From “cost and value” to a “cost, value and risk model”
Most companies see their mission in terms of producing the highest value for customers at the lowest possible cost. Asset-light and just-in-time manufacturing maximize efficiency, but the missing part of the equation is the risk that some part of the chain could malfunction.

A notable example of miscalculated risk is BP’s inadequate assessment of the potential danger from a deepwater oil leak in the Gulf of Mexico. Since BP had subcontracted its engineering to Halliburton, it assumed that the risk of a spill would be borne by Halliburton. As the public saw it, BP’s management was ultimately responsible despite the fact that the source of the mishap was outsourced. The miscalculation ultimately cost BP’s CEO his job. Outsourcing is still a valid strategy, but supply risk needs to be factored into the model.

Lego, the Danish toymaker famous for its plastic bricks, took a more enlightened approach. The company pondered outsourcing its production to an Asian supplier specialized in plastic injection molding for computer printers. A deeper investigation revealed that the two companies had radically different philosophies concerning the molds. The Asian supplier favored low cost, light-weight molds that were changed frequently as new printer designs came on line. In contrast, Lego, which depends on all its components interconnecting, sometimes uses the same molds for 40 years or more. A minor variation in the specifications risked making Lego’s bricks unusable leading to poor results for the company. In Lego’s case, it made more sense to in-source its production, even if it was slightly more expensive. The global supply chain is only as strong as its weakest link, and it is crucial to know where the weak links are.

From arm-length financing to joint financing
Another variable of risk is expensive credit in the post-financial crisis world. Large corporations like Cisco and General Electric normally enjoy preferential credit because of their size and dependability. Smaller companies are riskier propositions to banks and loan institutions, so credit is likely to be more expensive and limited. For smaller suppliers, this can mean bankruptcy if the cash flow dries up, and for a large corporation that outsources the lion’s share of its production, that can spell disaster.

Large corporations are learning that they can no longer ignore the credit conditions experienced by their key suppliers. At the basic level, major corporations can serve as loan guarantors to see that suppliers stay in business. More enlightened corporations have begun using their size to negotiate preferential terms for their key suppliers.

Honda is an example of a corporation that uses its heft to negotiate preferential prices on the steel used by its suppliers. Other corporations have used their size to convince banks to extend credit to suppliers at the corporations’ preferential rates. By securing cheaper rates for suppliers, the corporation reduces its own costs. The banks come out ahead since they face substantially reduced risk.

Another approach is for a corporation to simply extend credit on its own without going through a bank. When Toshiba wanted to build a new factory to ramp up its production of flash memory, Apple prepaid Toshiba $500 million for its chips so that the company could speed up the project. In the process, Apple ensured that it was not caught short and Toshiba eventually produced a third of the flash memory that went into the new iPad.

In the current climate, product life cycles are accelerating. The advantage to a company of being the first to launch a new product may be as little as six weeks. If a company misses that window, it will be unable to reap the full benefits of its R&D investment to bring new products to the market first.

Re-thinking the supply chain model
Given the enormous impact of the supply chain on a company’s bottom line, executive input at the highest level of the corporation’s management team is increasingly important. The transition from mere purchasing function to outsourcing requires expertise in managing external relations. While it is easy to quantify sales and production, deciding what weight to attribute to risk is more difficult, and it requires a different skill set and different metrics, as well as a new mindset.

Professor Carlos Cordon is the LEGO Professor of Supply Chain Management at IMD and Professor Winter Nie is Professor of Operations and Service Management at IMD. They both teach on IMD’s Managing the Global Supply Chain program.

Related posts:

1. Carbon Disclosure Project Supply Chain Report 2011
2. Natural risk behaviour
3. Supply Chain Meltdown

12             PROFILE PETER BRIGGEMAN

“Expect the unexpected” Thanks to the opportunities on offer within Eastman Chemical, Peter Briggeman – having started his career at the bottom of the ladder – was able to work his way up to his current role as director of Supply Chain and Central Services EMEA. “I caught up on my education and training along the way but I think it’s my experience that is really invaluable to me.” Briggeman often refers to his ‘healthy obsession’ for supply chain. “I wake up every morning with a good feeling inside”.

 18        TO EMBRACE OR CAUTIOUSLY ADOPT?

As with innovation, when it comes to sustainability, businesses fall into one of two categories. Leading the way are the trendsetters – those companies who fully embrace sustainable ideals. Trailing behind is a large group of followers who first examine the situation from every conceivable angle before eventually deciding to invest in sustainability.  In practice, there is considerable overlap between companies who are sustainability trendsetters and those who are innovation trendsetters. Its carbon footprint is the most widespread reason for an organization to adopt a strategy for sustainable innovation, including in its supply chain management activities.

24         COLUMN JAAP-WILLEM BIJSTERBOSCH

Energy Supply: Sometimes I wonder if we are paying the real price for energy, especially the price for oil used in transportation: Bear in mind that fifty percent of oil is used in vehicles. Recently, the price of gasoline at the pump hit another record high. Nobody started screaming though. Perhaps it’s still a bargain for me.

28         ROUNDTABLE S&OP

The delicate balancing act that is S&OP: There is a delicate balance between working capital and corporate strategy. Organisations can make significant gains by improving the collaboration between their financial department and their supply chain managers. In theory, Sales & Operations Planning (S&OP) formalizes this collaboration- but to what extent is this happening in practice, and what form is the collaboration taking? ConQuaestor and S&V Management Consultants invited a number of supply chain and financial professionals to take part in a round-table discussion about this very topic.

 31        CASE STUDY NHR

NHR trades and refurbishes second-hand network hardware for businesses all over the world. Its market value reaches into millions which achieves with just a minimum of stock. The key to their success is reliable information.

38         OPINION IMD PROFESSORS

Re-evaluating the supply chain post-Japanese earthquake: Japan’s devastating earthquake, tsunami and nuclear accident have served as a wake-up call across the world to show just how fragile global supply chain can be, with almost 9% of the world’s economic output coming from Japan, these events have had a direct impact on many companies that rely on Japan for manufacturing parts, and have caused countless disruptions across the global supply chain.

FURTHER IN THIS ISSUE

6          NEWS & BACKGROUND

• Supply Chain and Finance share the same vision
• The cost of sustainability
• Roadmap to sustainable behavior

35         TOOLS & TECHNOLOGY

iPad and iPhone turn Supply Chain Movement green; Supply Chain media goes green with the introduction of its very own free application (or ‘app’) for the iPad and the iPhone, which has been developed especially for its two publications, Supply Chain Magazine and Supply Chain Movement. Having managed to secure the unique ‘supply chain’ name globally for its digital publications, the publishing house is truly embracing this latest technology.

PERSONS, COMPANIES & ORGANIZATIONS IN THIS ISSUE

Related posts:

1. Excellence in Supply Chain Sustainability
2. CEOs struggling with supply chain sustainability
3. Ecodesk 2011 Sustainability Transport & Logistics Report