08 Feb 2023 Strengthening the Supply Chain beyond Resilience Projects
In the last 3 years, companies have had to respond rapidly to drastic shifts in supply chains. To hedge against uncertainty, many took a “better safe than sorry” approach and ordered far more goods than necessary; unfortunately, this often resulted in an overabundance of inventory that could not be sold until months later – if at all – and usually at a reduced cost.
Ideally, resilient supply chains are designed using processes, technologies, and – most importantly – reliable factories in optimum locations that allow managers to predict and respond quickly to risks and opportunities as the future unfolds. Unfortunately, most supply chains were developed largely based on lowest cost with little ability to be changed in the short term, leading to supply chain disasters.
COVID-19 caused an unprecedented disruption on a global scale, with far reaching impacts that continue to be felt today. Other disruptions like the Suez Canal blockage or the invasion by Russia of Ukraine are more localized but also severe. A potential disturbance with even more powerful, and long-lasting global effects will occur if China uses force to seize control of Taiwan, which China has stated publicly is within its rights to do.
Resilient Supply Chain Features and Pre-Requisites
A resilient supply chain works by providing flexibility in responding to an increase or decrease in demand or disruptions in the supply and demand of products. Typically, companies will engage in supply chain planning which provides sufficient inventory levels to respond to market changes or offset the temporary delays in manufacturing and/or transportation of products. There are 5 common strategies:
- Assuming significant volume, production in multiple manufacturing plants, in different geographic locations, such as China, Mexico, and Vietnam. This strategy works well when multiple plants are required due to the very high volume, such as iPhones. However, the demand for most products is too low for this many production lines. The capital cost of the redundant production lines, or for the tooling (if the production lines already exist), may still be excessive in comparison to the return and therefore not worth the investment.
- Developing multiple sources in different geographic locations for key components. This is similar to the above strategy but is viable in cases where complex products are not entirely manufactured in the final assembly plant. A current example of this is the manufacturing of computer chips. Generally speaking, a manufacturing plant for computer chips will produce various products for many companies. Changing from one design to another is fairly simple and can be accomplished without significant costs. Typically, this results in lower product costs without the capital investment or the need for dedicated resources devoted to that technology.
- Proactively developing and approving alternate substitutions for critical parts and components. Like the above solutions, parts should be produced at multiple geographical locations to offset geopolitical risk or supply chain disruptions due to ocean shipping. This strategy is viable if there is sufficient time to increase production of the alternative part or component before the disruption causes shortages. It also requires an ongoing relationship with the alternative factory, including the design, specification, testing, and advance approval of the alternative parts or components. It might be advisable to routinely purchase a certain number of these parts or components to ensure that the capacity continues to exist. The alternative factory can rapidly increase production to offset the disruptions in the primary supply chain, should the need arise.
- Proactively developing and approving alternate logistics, such as different shipping carriers, for critical parts and components. During the disruptions of the past several years, airfreight usage increased dramatically when the ocean carriers were unreliable and ports, rails, and trucks were adversely affected by congestion and insufficient capacity. Alternatively, many importers paid 4 to 5 times the pre-crisis costs for premium freight to secure containers from China. However, these were (and remain) costly solutions to supply chain disruptions that adversely impact profitability and return on investment.
- Carry sufficient inventory to satisfy demand while disruptions in the supply chain are overcome. Business inventory typically is carried to ensure that customer demand can be fulfilled when orders are received. Companies will buffer the inventory to be able to respond to increases or decreases in demand. They may also attempt to align with customers to forecast demand so that inventory levels can be adjusted for future projected orders. Businesses also buffer for foreseeable disruptions in the supply of products, while understanding that some events are anything but foreseeable.
Unfortunately, this solution has significant downsides. If a company does increase inventories to better cope with the potential of major supply chain disruptions, what happens when the inventory arrives, and demand suddenly falls for those products? Warehouses fill up, storage costs increase, and unfortunately, companies may need to heavily reduce prices to move these products through the rest of the supply chain.
While these 5 strategies have been developed using hindsight, the fact is that most companies are unprepared for massive and unexpected disruptions to global supply chains. Additionally, all strategies have significant cost implications that run counter to the strategy of supply chain efficiency, which is the lowest-priced goods (while still consistent with quality standards). To achieve the lowest price, supply chains are optimized. Redundancy in factories, manufacturing lines, tooling, key parts and components, and even raw materials, is inconsistent with the most efficient supply chains. All these redundancies have a cost and major implications on profitability and the company’s financial resources. All of them are designed to offset supply chain risk.
There are many other strategies suggested by the most well-known consulting companies. These typically center around better information systems that collect real-time data and provide instant alerts and analysis of what is going wrong. However, none of them address the underlying cause of the disruption, nor could they have foreseen the pandemic. None of them could address the containers of product in transit once they left the port in China to redirect the container ship to another port, perhaps on the East Coast. The supply chain logistics system simply is not flexible enough to address in any way other than to try to expedite through the existing bottleneck.
Designing the Supply Chain with Minimal Risk
Reducing risk instead of managing risk may be the better long-term strategy, using strategies such as these:
- Reducing global geopolitical risk by sourcing products from countries not engaged in economic warfare. China has long been involved in heavy financial subsidies for basic and export industries. Sourcing from countries that have Free Trade Agreements with the US significantly reduces the risk caused by sanctions or trade wars.
- Reducing the risk of supply due to potential conflicts such as the invasion of Ukraine by Russia or the potential invasion or blockade of Taiwan by China. Sourcing from allied countries would remove this particular type of risk.
- Reducing intellectual property risk, which is a chronic issue with China. Shifting to a country where US intellectual property is respected virtually eliminates the potential of creating an eventual competitor.
- Reducing the distance. Even before the pandemic, the West Coast ports and ocean shipping bottlenecked every few years. The congestion of these ports can be avoided by having the source of product several days away by trucking or by rail, for example, in Mexico.
- Reducing lead time. Sourcing from factories nearby reduces lead time from 60 plus days (down from 120 to 180 days in 2021 and 2022) to 30 to 35 days if the manufacturing is near-shored to Mexico. Due to the shorter supply chain, the improvement of working capital, and the reduced amount of warehousing space needed is quite large. The shorter lead time also improves the ability to react to major changes in demand much more quickly, resulting in greater customer fulfillment rates and reduced obsolescence.
Simply put, tighter and shorter supply chains with reliable partners significantly reduce the risk of disruption.
Maximizing the Possibility of Successful Re-Sourcing
Re-Sourcing from China to another country is a strategic decision involving great effort and difficulties to overcome. Minimizing the risk of re-shoring or near–shoring is achieved through thorough planning and a strong partnership with on-the-ground resources in Mexico. Shoreview Management Advisors is a leader in Mexico near-shoring, with experience beginning well before Covid. Contact us to talk about re-shoring your company.