Supply Chain Risk Factors

Whilst risk has always been present in the process of reconciling supply with demand, there are a number of factors which have emerged in the last decade or so which might be considered to have increased the level of risk. These include:

  • A focus on efficiency rather than effectiveness
  • The globalisation of supply chains
  • Focused factories and centralised distribution
  • The trend to outsourcing
  • Reduction of the supplier base
  • Volatility of demand
  • Lack of visibility and control procedures

A focus on efficiency rather than effectiveness

The prevailing business model of the closing decades of the twentieth century was very much based upon the search for greater levels of efficiency in the supply chain. Experience highlighted that there was significant opportunity in many sectors of industry to take out significant cost by focusing on inventory reduction. Just-in-time (JIT) practices were widely adopted and organisations became increasingly dependent upon suppliers. This model, whilst undoubtedly of merit in stable market conditions, may become less viable as volatility of demand increases. The challenge in today’s business environment is how best to combine ‘lean’ practices with an ‘agile’ response.

The globalisation of supply chains

There has been a dramatic shift away from the predominantly ‘local for local’ manufacturing and marketing strategy of the past. Now, through offshore sourcing, manufacturing and assembly, supply chains extend from one side of the globe to the other. For example, components may be sourced in Taiwan, sub-assembled in Singapore with final assembly in the USA for sale in world markets.

Often the motivation for off-shore sourcing and manufacturing is cost. However, that definition of cost is typically limited to the cost of purchase or manufacture. Only rarely are total supply chain costs considered. The result of these cost-based decisions is often higher levels of risk as a result of extended lead-times, greater buffer stocks and potentially higher levels of obsolescence – particularly in short life-cycle markets. A further impetus to the globalisation of supply chains has come from the greater increase in cross-border mergers and acquisitions that we have witnessed over the last decade or so.

Focussed factories and centralised distribution

One of the impacts of the implementation of the Single Market within the European Union and the consequent reduction in the barriers to the flow of products across borders has been the centralisation of production and distribution facilities. Significant scale economics can be achieved in manufacturing if greater volumes are produced at fewer sites. In some cases companies have chosen to ‘focus’ their factories – instead of producing the full range of products at each site they produce fewer products exclusively at a single site. As a result, production costs may be lower but the product has to travel greater distances, often across many borders. Incidentally, at the same time, flexibility may be lost because these focused factories tend to be designed to produce in very large batches to achieve maximum scale economics.

Simultaneously with this move to fewer production sites is the tendency to centralize distribution. Many fast moving consumer goods manufacturers aim to serve the whole of the Western European market through a few distribution centres, for example, one in north-west Europe and one to the south.

The trend to outsourcing

One widespread trend, observable over many years, has been the tendency to outsource activities that were previously conducted within the organisation. No part of the value chain has been immune from this phenomenon, companies have out-sourced distribution, manufacturing, accounting and information systems for example. In some cases these companies might accurately be described as ‘virtual’ companies. There is a strong logic behind this based upon the view that organisations are more likely to succeed if they focus on the activities in which they have a differential advantage over competitors.

This is leading to the creation of ‘network organisations’; whereby confederations of firms are linked together – usually through shared information and aligned processes – to achieve greater overall competitiveness. At a practical as well as a theoretical level this idea has many attractions, for example, the large supermarket chains run parallel own-account and third-party distribution systems partly to spread the risk of disruption, particularly from industrial action. However, in reality outsourcing also brings with it a number of risks, not least being the potential loss of control. Disruptions in supply can often be attributed to the failure of one of the links in the chain and, by definition, the more complex the supply network the more links there are and hence the greater the risk of failure.

Reduction of the supplier base

A further prevailing trend over the last decade or so has been a dramatic reduction in the number of suppliers from whom an organisation typically will procure materials, components, services, etc. In some cases this has even extended to ‘single sourcing’; whereby one supplier is responsible for the sole supply of an item. Several well-documented cases exist where major supply chain disruptions have been caused because of a failure at a single source. Even though there are many benefits to supplier base reduction it has to be recognised that it brings with it increased risk.

Sometimes a consolidation of the supply base happens through merger and acquisition. Since the rate of merger and acquisition has increased so dramatically over recent years, it follows that supply base reduction will have accelerated if for this reason alone.

Volatility of demand

It is undoubtedly true that the level of market turbulence has increased bringing with it a reduction in the predictability of demand. There are many reasons for this increased demand volatility. Shorter life cycles, often driven by technology change, means that the risk of obsolescence increases. Higher levels of competitive activity leads to marketing-led disturbances to demand in many consumer markets, e.g. promotions, sales incentives and the like. Increasing variety within product ranges further fragments demand and makes forecasts less reliable. Many supply chains also have in-built features which contribute to the ‘chaos’ effect, for example, rules on economic batch sizes or order quantities, re-order level based inventory management systems and so on.

Because companies are still largely forecast driven, with long planning horizons and long lead-times of response they are increasingly vulnerable to wild swings in demand. In 2001 one of the world’s leading producers of electronic network equipment, Cisco, announced a US$2 billion write off of inventory because of a dramatic fall-off in demand for its products.

Lack of visibility and control procedures

Paradoxically, a consequence of supply chain risk is a lack of confidence in the supply chain amongst its members, but it is also this very lack of confidence that adds to supply chain risk! Lack of confidence in a supply chain leads to actions and intervention by managers throughout the supply chain which collectively can increase the risk. This risk spiral exists everywhere and the only way to break the spiral is to find ways to increase confidence in the supply chain. To do so organisations need to understand the elements of supply chain confidence – visibility and control – the lack of which will increase supply chain risk.

‘Visibility’ refers to the ability of all members of a chain to see from one end of the pipeline to another; an undistorted view not clouded by intermediate inventories or other barriers to vision. Lack of visibility forces supply chain members to rely on forecasts and to build buffers which themselves only worsen the situation. Unfortunately it is often the case that members of the supply chain do not have detailed knowledge of what is happening in the rest of the chain – for example, information on finished goods inventory, material inventory, work-in-process, demand levels, production plans, capacity, yields, order status and so on.

Supply chain control refers to the ability to respond to disturbances in appropriate ways. Problems arise when disturbances are not recognised in time and when there is a time lag for the remedial action to take effect. What can sometimes happen is that the intended remedial action actually worsens the situation!

The factors identified above are present to a greater or lesser extent in most supply chains today. For this reason it is apparent that organisations need to be aware of where the vulnerabilities are in their supply chains, the sources of risk and how that risk can be managed (and of course reduced wherever possible).

Supply Chain Vulnerability
Supply Chain Risk Management

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