Category Archives: Risk Management

It’s Not Our Fault if Stupid Suppliers Bid Too Low But …

… it is our fault if we accept an unsustainable bid.

Over on Spend Matters UK, the public defender wrote a very thought-provoking post that asked is Procurement responsible if suppliers are stupid and bid too low?

And the doctor has to agree with the conclusion that we are not responsible for suppliers’ stupidity, only our own. And accepting any bid that is not sustainable is, generally speaking, a stupid decision, at least without a plan to make it sustainable.

In the doctor‘s view, it’s not good enough to just have contingency plans in place. If a supplier goes into bankruptcy, and publicly blames you for forcing them to accept an unsustainable contract that is bankrupting them and forcing them to lay off hundreds, or thousands, of workers, that’s not good PR. It could hurt your brand, your sales, and your chances of striking a good relationship with a new supplier who will be wary of the corporate [job] killer.

While it’s your job to find, and get, the deal that is too good to be true, you want to be sure that the deal doesn’t bankrupt the supplier, at least not until the contract runs out. So if you know the supplier will lose money as is, you need to figure out how to make sure that you figure out how to stem the bleeding sufficiently over time to prevent bankruptcy or failure.

For example, if you know, based on raw material price trends, the COGS for the product you are buying will be at least 5% more than what the vendor is quoting, have plans in place to reduce that cost as soon as the contract is signed. Either develop lean improvement plans to reduce all overheads cost as a temporary stop-gap, buy raw materials in volume on behalf of the entire supply base to lower cost, and start work on alternate designs that reduce high-cost raw material requirements if costs get too high.

If you plan ahead, you can be careful not to accept any bid that you cannot make sustainable for the supplier with at least one of the above plans. You don’t have to make the supplier profitable, although if you take the supplier beyond breakeven to profitability it may make you a customer of choice and that can have a number of benefits beyond just the unbelievably low bid you scored, but you have to be able to prevent the supplier from going bankrupt.

So don’t worry about supplier stupidity, just worry about not catching foolish fever. Then you can score big, and not suffer the fate that comes with failure in your supply chain.

There Are At Least 12 Risk Disconnects … but One You Should Never Overlook!

Over on Spend Matters Pro [membership required], the maverick is running a 12-part Pro series on The 12 Supply Risk Disconnects that Destroy Value that you really should check out. These disconnects not only increase Procurement and Supply Management risks across the board, but often end up destroy all the hard-earned value Procurement tried to extract from the sourcing event or push into the contract.

All of the risks are important, but the most critical in SI’s view is the disconnect between risk and cost. Why?

  1. Not only can one identifiable supply chain disruption not only wipe out all the savings, but increase cost beyond the current solution but
  2. Only an understanding of the true cost of risk will convince most stakeholders and executives to look beyond cost, reliability, marketing differentiation, or whatever else matters most to them. Money talks, and (potential) loss is the one thing that gets noticed.

As the maverick points out, supply risk basically overlays the dimensions of external VUCA (volatility, uncertainty, complexity and ambiguity) on top of the quality value stream and you have to minimize TCO in the face of varying levels of risk. This creates the challenge of how to place a price tag on that risk and another price tag on the cost of mitigating those risks, which is driven both by the outside-in risk you face and also your current level of risk management capabilities. Which is easier said than done, but without a solid understanding of the cost of risk, and an ability to model it against the cost of a buy, you can’t truly optimize your overall total cost of ownership, of a potential buy.

But you need to, and you need to acquire an optimization-backed sourcing solution to model the true cost of each option to make risk-aware Procurement decisions. Because then, as SI pointed out in an earlier post, you can not only Define [True] Procurement Success, but enable it.

Single Tier Risk Mitigation Strategies Don’t Mitigate Risk

… and, in fact, may increase it!

For example, let’s say that risk analysis identifies a disruption risk from southern china with the primary reason being unpredictable transportation due to labour and provider capacity uncertainty. Let’s also say that Procurement decides a good response to the risk is to just triple inventory and instead of working with a 3 week safety stock, works with a nine week. Problem solved, right? No! Problem exacerbated. Why?

Given that production is not likely to notice an issue and raise a flag until they get down to 1 or 2 weeks of stock, simply increasing stock levels is not going to speed up the time in which Procurement is notified of a potential issue. But even worse, if Procurement raises stock levels, chances are Procurement, or the supplier, will increase shipment sizes and send stock less often. This will increase the amount of time before Procurement could sense a problem because if shipment windows increase from 2 weeks to 6 weeks and a disruption happens one day after a shipment, it will be almost 6 weeks before Procurement identifies it, which could be too late for a recovery. Risk increased.

In fact, most mitigation strategies designed at a single tier actually have the potential to increase risk. Let’s take a few:

  • Dual Sourcing
    without careful planning, both suppliers could use the same Tier 2 source
  • Alternative Design
    that reduces / eliminates the need for one rare material in favour of another doesn’t reduce raw material risk of the other material is just as rare or the acquisition / production cost substantially higher
  • Financial Risk Monitoring
    for shakey suppliers doesn’t catch production shortcuts they might be taking to cut costs that increase risk that could result in catastrophic failures
  • Replacement Product Lines
    chances are the replacement product lines share parts and suppliers … you’ve actually increased risk from a disruption, not decreased it

To truly mitigate risk, you have to go multi-tier and work with your supplier to identify the most likely risks, and how to properly mitigate them.

For example, if the risk is:

  • factory shutdown
    you can work with the supplier to ensure a secondary geographically remote location has the ability to recreate the production line quickly
  • transportation shutdown
    have secondary shipment companies, and ports, lined up and ready to go if primaries go down … be ready to truck or rail longer or even airfreight in emergencies
  • financial stress
    the buyer may need to step in and float operations during new production line setup or new product design
  • raw material unavailability
    the options for alternate supply must be known in advance, as with the options for substitute material

But you’re not going to be able to figure out the right secondary location, transportation options, financial mitigation strategies, or raw material strategies on your own. Don’t try. Work with your strategic suppliers and get it right.

What’s Procurement’s Role for 2018?

Watchdog.

As we enter the new year, the predictions and prognostications are going to get crazy again. And, like always, they are going to be of the obvious variety or, as the public defender points out, of the wild guesses.

But the reality is that from a process, power and performance perspective, not much will change … it will be the continual slow prod forward that it has been for the last decade. However, as the past few years have shown us, one thing is constant. Suppliers will fail. Disruptions and Disasters will happen. And your technology vendors will get acquired.

We’ll start with this last point first. Over the past year, Jaggaer and Coupa tried to outdo each other in an acquisition frenzy. Spend360 and Pool4Tool and Trade Extensions and BravoSolution all scooped up by Procurement space giants trying to get bigger. No matter how big, how successful, how stable, or how much they indicate a desire to remain independent, they could literally be scooped up tomorrow. Everyone has their price, and if it’s a PE firm, the company is flipped as soon as that price is met. And as we discussed in our recent post on M&A on how The Mania Continues, if this means there is solution duplication, at some point, you can be pretty much assured someone’s solution is going away. M&A’s are done to enhance synergy of offering or enhance profit through synergy of operation where you can reduce staff and product footprint against a larger customer base.

This means that Procurement has to expect that, at some point, at least one of its preferred platforms is going up in smoke, and has to be on the ball to identify what platform may be at risk, when, and what steps will have to be taken to mitigate that risk.

Similarly, it will have to insure it is keeping an eye on all critical suppliers — which, as the best know, is not just the 20% of suppliers who get 80% of the spend, but any sole-source or dual-source supplier that supplies a product or service critical to the organization’s primary product lines. If the product line could not be offered, or not offered to the full extent, without that supplier, any impending issues need to be detected early. This will mean keeping an eye on the organization’s credit risk, timeliness (if shipments get later and later, that could be an indication of trouble), sustainability ratings, negative mentions in the news, and so on. (An SRM solution that integrates with risk watchdogs will be critical.)

And, finally, it has to be on the alert for natural or man-made disasters that can pose a risk to parts of its global supply chains. It not only needs to know when an event happens that could affect a critical part of its supply base, but what suppliers in particular will be effected.

It has to be a watchdog on constant alert. Just sourcing and negotiating great deals is not enough. They have to be realized. And, for that, Procurement must be the best watchdog there is.

Are You Doing Your Own Quality Spot Checks? And Should You Be?

By now, if you haven’t heard of the Kobe Steel Scandal, you’ve been living in a cave. (Which, in some organizations, is highly probably given that one of the tricks the CFO likes to do to Procurement when fiscal year end is approaching is to lock them in the basement until the mandatory savings objective is reached … hence our post yesterday on why every day is Halloween for some Procurement departments.).

This scandal is scary. Not only because the data falsification on strength could go back as far as 10 years on some batches, and who knows what bridges, high-rises, and busses that steel has gotten into (and even a .1 degradation, while not enough to jeopardize immediate safety, can impact expected life span and increase susceptibility to decay, making safety a concern down the road before inspection and maintenance schedules kick in).

But this brings up a good point? If more companies were doing more spot checks on shipped product and quality, instead of just trusting Kobe, would it have been 10 years before the scandal was exposed. Even if only a small percent of batches are affected, I highly doubt this would have been undetected for 10 years, even if only one bar or sheet in multiple shipments were tested.

This is an example of what happens when finance tries to get too greed or supply chains to lean by centralizing a function downstream. When one party is responsible for everything, one failure can reverberate up multiple chains undetected — and have potentially disasterous consequences. Now one might say this problem is solved by co-locating people on-site, but if those people never leave the site, even though you pay their salary, their work family is the people they work with day in and ay out and the existence of that company is their livelihood. Are you sure they won’t bow into the local culture and, if the culture dictates, defer to authority or collectively hide the shame?

Just like third party audits are needed, for critical materials, so are third party quality tests. Doesn’t have to be you, could be an independent organization set up between your co-opetition that does random independent quality spot-checks on 1 in 10 shipments and shares the data with everyone.

Just like a good Chef would never use an ingredient without insuring it’s quality, a good Procurement organization should never let a shipment be accepted without a high degree of confidence that it’s a quality shipment. And confidence like that only comes from organizational testing or trusted third-party independent testing. So don’t get too lean or too cheap — your organization, and the lives of its customers, could depend on it.