Supply Chain Risk Management Archives

Integrating Strategic and Supply Chain Planning at Emerson

Supply Chain Planning | By Steve Banker • 06/08/2009

I am doing some research on “Supply Chain Management in Times of Turbulence” and one of my premises is that firms with a robust strategic planning process are better equipped to deal with large, unexpected events, like the current global recession. What does a robust strategic planning process look like? How does strategic planning integrate with supply chain planning processes? In an attempt to answer these questions, I called my contacts at Emerson Process Management, one of our clients and a company with a sterling reputation in planning. This is how they do it.

Emerson sells project-based solutions to clients in a variety of industries. The company is organized into regional business units, and regional leaders have profit and loss responsibility, so they take the time to understand the political and economic drivers of the countries they operate in. Their sales teams are also expected to talk to key customers and learn what sorts of political barriers could prevent them from doing business in specific countries.

Emerson’s strategic planning process consists of a five year look back and a five year look ahead. It is an annual process, so the five-year look back and look ahead are refreshed every year. In the five year look back, the company attempts to learn from history to improve its ongoing strategic planning process. It divides the five year look forward into three scenarios:

The profit scenario looks at things from the shareholder’s perspective. It asks the question: If we had low growth or no growth, could we still make money? This is the conservative scenario.
The company also has a growth review. It asks questions like: What if this product introduction really took off? What if a competitor’s weakness in a particular region led us to gain significant market share there? What if this industry grows much faster than we expect? This is the high growth scenario.
Finally, there is the “complexity review” which asks the following questions: How complex do we have to be? Can we reduce the number of suppliers we deal with or the number of parts we produce? This complexity review incorporates supply chain risk management and can drive the company to more, rather than less, complexity.

For example, Emerson is very concerned about supplier risks and it has developed a three-by-three matrix to analyze supplier risk. On the vertical axis, the company places suppliers in boxes based on total product revenues linked to specific supplier components, the degree to which key components are single sourced, and the geopolitical and environmental risks associated with where a supplier operates. On the horizontal axis, the company assesses the financial robustness of its partners.

If suppliers are placed in the top right hand corner of the matrix (high supply risk/high financial risk), Emerson requires these suppliers to develop and present business continuity plans. The company may also require its product development team to find alternate sources of supply for key components. Finally, Emerson decides how much inventory it needs to store in particular regions of the world, outside hotspots, to protect it from disruptive events like swine flu or the recent political turmoil in Thailand. A complexity risk analysis can lead to multi-year targets for engineering, procurement, supply chain, and other parts of the organization to reduce the risks associated with particular suppliers.

These reviews feed into Emerson’s process of determining where to build new plants, which plants to close, and which ones to expand. Longer term sourcing decisions also come out of this analysis. For example, to expand in Brazil, the company may decide to increase sourcing in Brazil. Year-by-year sourcing targets are then needed. While Emerson also has a one year budgeting process, many of the key targets for the supply chain teams actually emerge from the strategic planning process and are based on the five year plans.

Emerson’s sales and operations planning (S&OP) process is the major point of integration between the strategic plan and the ongoing execution of those plans. The company’s S&OP process provides an ongoing monthly, rolling supply/demand balancing process that looks forward two years and provides “rough cut” capacity plans for its factories. Emerson’s S&OP process is truly global. Dozens of key executives from around the world participate in a highly-structured, four hour decision-making process in which the CEO takes an active role.

Emerson has experienced substantial organic growth in recent years, far more than was predicted in its strategic plans. Key supply chain executives stress they could not have accommodated this growth without a robust and global S&OP process.

There is a price to this type of planning process. The average executive at Emerson spends 40 percent of their time in planning-related activities. However, strong companies get even stronger during times of turbulence. Emerson appears poised, once again, to come out of this recession with more market share than before the recession started.

Emerson’s approach to planning is not necessarily a road map for all companies to follow. The processes described here, for example, may not work as well for consumer goods companies. But for project-based companies, it is hard to imagine a more thorough process.

The Reset Economy

Logistics Trends | By Steve Banker • 04/07/2009

“This economic crisis doesn’t represent a cycle. It represents a reset,” according to Jeff Immelt, the CEO of General Electric. “It’s an emotional, social, economic reset,” which will lead to greater government involvement in the economy and business affairs.

For Steve Ballmer, the CEO of Microsoft, the problem with the economy is that it grew for 25 years on unrealistically cheap debt and that era is now over. “I think that expansion was built on three things: innovation, globalization, and debt, increasing debt. The private sector of our economy has borrowed too much money, businesses and consumers alike.”

Business leaders are starting to use the term “reset economy” to describe the current environment and the road ahead. The core idea is that once we rebound from this economic downturn, the worst in 70 years, it will not be business as usual. We could emerge into a world where:

The core growth rate is lower as cheap credit disappears and consumer spending does not fully rebound to pre-recession rates;
The costs of regulation are significantly higher;
The cost of capital is higher and the ability to apply financial leverage is greatly reduced;
Global trade and offshore manufacturing shrinks, as attitudes become more nationalistic and defensive.

Many companies project long term demand using a historical growth line. When a recession occurs, they ratchet down growth rates, project how long they think the recession will last, and then reapply the historical growth curve on the other side of the recession. However, the business environment might be far more different moving forward than it has been historically, not just during the recession, but potentially for a decade or more following it.

What does the Reset Economy mean for supply chain organizations?

The core problem will be matching capacity to projected demand over a strategic planning time horizon.
The strategic planning group will need a team that includes, or has access to, economists (to develop global growth scenarios by region and industry), industry experts (to project what sorts of capacity investment choices key competitors are making), lobbyists (to track and influence regulations that could impact business decisions), and supply chain strategic planning and risk management analysts.
Companies traditionally use a discounted cash flow methodology when deciding what sorts of capital investments to make, like building a new factory. The real options methodology, however, is better suited in environments with great uncertainty. A real option is the right, but not the obligation, to undertake some business decision, typically the option to make a capital investment. This is better than the traditional valuation methodology because it better accommodates the value of flexibility. However, few companies use or understand real options. Further, coming up to speed on this type of valuation methodology takes some time.
Network design and multi-echelon inventory analysis tools have a strong role to play in helping the supply chain organization perform the necessary analysis. Infor, IBM, i2 Technologies, Oracle and other solution providers offer these types of tools. For organizations capable of real options analysis, Monte Carlo simulation is a core tool (Oracle has a good solution for this). There are emerging tools (e.g. RiverLogic) that allow supply chain strategic planning scenarios to be combined with the cash flow, balance sheet, and profitability associated with that scenario.
People that have the background and experience to use these types of tools are rare. Many companies will need to work with consulting organizations, such as IBM, Chainalytics, and others, to do this type of analysis.
Organizations with Integrated Business Planning processes – i.e., rolling quarterly budgets that are connected to monthly Sales and Operations Planning processes – will be better equipped to accommodate a changing macro environment.

Finally, it needs to be pointed out that some companies will emerge from the recession stronger. They will have the cash reserves or financial stability to continue investing in new technologies and to take advantage of the weaknesses of their competitors.

Crisis also creates opportunities: to overcome cultural resistance; to slash structural costs that are out of line; and to build supply chain agility and have the ability to compete better in a far wider range of economic scenarios.

Supply Chain Risk Management and Brussels Sprouts

Supply Chain Risk Management | By Steve Banker • 03/12/2009

A few weeks ago, my colleague Adrian Gonzalez wrote a posting titled “Supply Chain Risk Management Gains Importance.” In it, he cites a Financial Times article that discusses how interest in enterprise risk management has increased over the past two years. I’m not sure I agree with that finding, at least when it comes to supply chain executives. Risk management may be more important today for executives in finance, legal affairs, or regulatory compliance, but for most supply chain managers, risk management is something they know they should care more about, yet their attention is consumed with other day-to-day activities.

ARC conducted a survey last summer where we asked executives to select their top areas for IT investment within supply chain management. Only 8 percent of the 114 respondents ranked supply chain risk management in the top three, and nobody ranked it as their top priority (the top two initiatives were improving supply chain performance, in terms of reducing lead times and improving service levels, and reducing supply chain costs).

Some companies with lean supply chains have discovered (to their chagrin) that focusing too greatly on cost reduction also increases risks significantly. Increasing supply chain agility and reducing costs are not always opposing goals, except when inventory must be used as a buffer to reduce risk.

A little over a decade ago, Peter Bernstein wrote a bestseller called “Against the Gods: The Remarkable Story of Risk” where he highlights evidence that shows “the repeated patterns of irrationality, inconsistency, and incompetence in the ways human beings arrive at decisions and choices when faced with uncertainty.”

When a major hurricane hits the Gulf Coast, when transportation costs surge, when the West Coast ports go on strike, supply chain managers need to know how to respond. What is often lacking, however, is a systemic approach that identifies the vast number of supply chain events that can put a company’s financial performance (or even survival) at risk, and also systematically assesses which risks deserve the most attention and defines how to monitor and control these high priority risks.

Supply chain risks fall into four general categories: supply chain infrastructure, supply disruptions, the inability to predict demand, and product risks. Different industries should focus on these risks in different ways.

four-categories-of-supply-chain-risk — Four Categories of Supply Chain Risk

By supply chain infrastructure, I mean facilities and assets that are owned and controlled by your company. For example, for a chemical manufacturer or oil refiner, the risk of a production facility explosion should take precedence. This type of event can jeopardize a company’s existence, so companies in these industries should have comprehensive safety programs to prevent these catastrophic events from happening. They should also look at their key physical assets and ask questions like: Are our facilities exposed to natural risks, such as tornadoes, hurricanes, or floods? What if our IT system crashes or we lose power for extended periods of time? How can our supply chain operations continue? Thus, business continuity planning is also an important consideration.

Supply disruptions can occur for a variety of reasons-e.g., labor strikes, loss of manufacturing capacity due to a catastrophic incident at a supplier’s facility, quality issues, or suppliers may decide not to conduct business with your company any more. Companies in the electronics industry often find that certain key components are produced by very few suppliers. If an earthquake in China, for example, shuts down one of these key suppliers, a large source of revenues could be endangered. Potential strategies to mitigate these supply-side risks include dual sourcing, paying suppliers more to receive a larger allocation if shortages occur, and setting up redundant production lines. Companies can use network design tools to understand the tradeoffs between cost and agility. Some companies have also developed “supply chain resiliency” metrics such as “time to recover” as a way to manage supply risks.

Manufacturers of fast moving consumer goods often face demand-side risks. For example, a competitor’s promotions and pricing decisions can greatly impact the demand for your key products. A sales and operations planning (S&OP) process with triggers that set off ad hoc contingency planning is one way to address this risk. Manufacturers that sell components and subsystems to a very small group of powerful customers also face serious demand-side risks. This is one reason why suppliers to the big auto companies have been devastated.

The pharmaceutical industry faces product risks in the form of patent infringement, which is also a risk for companies that offshore manufacturing or product development.

Because of all the different types of supply chains and risks, supply chain risk management is still more art than science. Companies should recognize that different supply chain risks require different strategies (risk avoidance, risk transfer, hedging, or assumption), monitoring and assessment tools, and different planning horizon frequencies.

What do supply chain risk management programs and Brussels sprouts have in common? The immediate discomfort of partaking in either is offset by the benefits they might provide in the future.

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