Category Archives: Risk Management

Supply Chain Risks: Barriers to Manufacturing in Emerging and Developing Markets

Recently, The Center for Supply Chain Research at the Penn State SMEAL College of Business published a report on “Supply Chain Risks: Barriers to Manufacturing in Emerging and Developing Markets”
that reiterated what we’ve known for a while; that 73% of U.S. companies with revenue exceeding $1 Billion experienced supply chain disruptions in the past five years, that 70,000 companies went bankrupt in China in 2008, and that the average American company operating procurement in Asia found that the average company lost 8.2 Million over a three year time span due to illegal bribes and kickbacks.

It also told us that the five main categories of risk are trade, political, geophysical, economic indicator, and operational — and that all of these risks are prominent in emerging and developing markets, which we already knew. It also re-iterated the common mitigation strategies of:

Building Mitigation into the System via
- Better Network Design
- Supplier Financing
- Multiple Manufacturing Locations
- Monitoring of Public Source Risk Data
- Contingency Plans
Use Technology Solutions such as
- Scenario Planning
- Visibility and RFID
- Early Warning & Event Monitoring
Contract Outside Risk Experts

However, in addition to providing a detailed risk analysis of Africa, Asia and the Middle East, China, Latin America, and Eastern Europe, with risk scores for almost 40 individual countries that you should definitely review if you are sourcing from, or planning to source from, any of these areas, it made two very good points that I rarely see in discussions of risk and mitigation.

1. Rank your Risk on probability and significance of the loss.

Face it, unless a low probability risk is associated with a very significant loss, it’s not worth addressing if there are higher probability risks that are more likely to happen.

2. Dollarize the Risk.

Not only will associated hard dollar losses bring about the severity of relative risks, but if you know a risk is pretty much guaranteed to happen in a certain time-frame (for example, a hurricane or earthquake has a 95% probability of affecting your operations in a given 25 year period), you can amortize the cost associated with the impending loss and build a business case for investing in contingency planning and more expensive mitigations that, while costly up front, are guaranteed to significantly reduce your losses over the long term. And, while this is a topic for another post, if you dollarize the risks, the mitigation costs, and the expected loss reductions from the mitigations, you can optimize the application of your limited risk management budget.

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Key Success Factors for Commodity Risk Management

Accenture’s recent white paper on “taking control in the new era or price volatility” listed the following as the four most important success factors for managing commodity risk. At a high level, they’re spot on.

- Procurement & Finance Alignment
  A risk policy needs to underlie all activities in both departments to insure the risk appetite of the buyer matches the risk appetite of the corporation. The mitigation strategies have to be implemented appropriately. These means that some risks cannot be ignored while others have to be carried.
- Expertise in Managing Commodity Supply & Price Developments
  When do you buy, how long do you contract for, and how much inventory do you carry?
- Visibility into Demand Throughout the Supply Chain
  This is the only way to truly measure the impact of raw material fluctuations on the business.
- Effective Performance Measures

Specifically, measures which link the actual purchase price of a commodity to its market price which allow true savings to be calculated as a percentage savings against expected price and the impact of raw material price fluctuations to be assessed.

Unfortunately, the paper was sparse on implementation details, but here are some tips to get you started:

Aligning Procurement & Finance
The key here is for procurement to lean the language of finance. You can start with Bob’s books on Straight to the Bottom Line and Beat the Odds and Dick’s book on Global Supply Management and Global Supply Chaining.
Managing Commodity Supply & Price Developments
The key here is to stay on top of trends and understand what they mean. Your supply management blogs like Sourcing Innovation, Supply Excellence, and @ Risk will help you out here on a regular basis.
Demand Visibility
Technology will really help out here. Get a good supply chain visibility platform with good forecasting capabilities and you’ll get a handle on how much you need and how long you should be buying for.
Performance Measurement
As the white paper noted, year-over-year savings is not a good measurement. What if raw material prices dropped 20% and you only saved 10% — then you left 10% on the table. That’s not good at all. Similarly, if raw material prices went up 20% above the board and you kept cost increases to 10%, that’s a big, big win. Year-over-Year doesn’t capture that. You should be measuring year-over-year savings as the % change in cost over indexed raw material prices. The calculation is a bit more involved than a simple year-over-year differential, but a much more accurate view into how your supply management organization is truly performing. An example calculation is below given the following raw material costs:

Raw Material Index Price per Unit Units per Commodity Cost per Commodity

X $10.01 0.47 $4.70

Y $7.57 0.34 $2.57

Z $6.66 1.21 $8.06

TOTAL $15.33

If you paid $19.64 per unit, then you paid 128% of indexed raw material cost per unit. If, when you did the calculation last year, you paid 135% of raw material cost, then your year-over-year savings is 7% over indexed raw material cost, which is a 25% improvement (7/28).

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We Didn’t Start the Fire – Part II

In a recent (guest) post over on @ Risk, I quoted Billy Joel’s We Didn’t Start the Fire from his Storm Front album which was released as a single twenty years ago. I did so because each reference in two of the later verses represent significant potential risks to your supply chain that haven’t changed much in the last twenty years; since what your supply manager would be signing about today would more-or-less have the same underlying risks.

In honour of Billy Joel’s masterpiece, which chronicled headline events during the first forty years of his life (from 1949 to 1989), I have compiled a sequel that chronicles major events from the last twenty years (the nineties and the naughts). How many do you remember? And, equally interesting, can you identify the risks to your supply chain and your business that each represents(ed)?

We Didn’t Start the Fire – Part II

Buster Douglas, Gorbachev, Mandela, Berners Lee
Margaret Thatcher, Leonard Bernstein, Mary Robinson
Time Warner, Hubble Scope, Jim Henson, Germany
Windows, Strangeways Riot, Iraq’s Kuwait Invasion

IRA, Pan Am, KGB, Dead Sea Scrolls
Sonic, Exxon Valdez, Operation Desert Storm
Jeffrey Dahmer, Clarence Thomas, Magic Johnson, Michael Landon
Boris Yeltsin, Six in Birmingham, Pinatubo transforms