Originally posted on on the e-Sourcing Forum [WayBackMachine] on Thursday, 2 August 2007

In a recent issue of the Supply Chain Management Review, you’ll find an article entitled “Motivating Supply Chain Behaviour: The Right Incentives Can Make All the Difference”, that not only points out the effectiveness of incentives, but also tackles the issues surrounding them. Incentives work, but only if they are the right incentives based on the right metrics.

The second paragraph in the article points out the challenges in managing incentives holistically throughout the supply chain. “The most pervasive problem is that, in many companies, the supply chain is organized as a set of functions or departments such as receiving, production, and logistics. Each function is likely to use metrics that optimize performance inside its box on the organization chart. But when managers’ bonuses are based on criteria that make sense only within their own departments, the resulting behavior may conflict with the interests of the company as a whole”.

However, it’s not always easy to develop metrics that both serve to optimize performance across the entire supply chain and within individual departments. This is problematic when a company wants to award each individual department, and manager, individually and objectively. Furthermore, in highly volatile demand driven industries such as electronics, performance is often heavily tied to forecasting, which is difficult, if not impossible, to get accurate – especially in today’s age of global sourcing where you need average lead times of four to six weeks just to get product from your contract manufacturer.

This isn’t to say that it’s impossible, or that the use of supply chain wide metrics is exclusive of the use of departmental metrics. It’s not, and it’s not, but you might have to put some thought and creativity into coming up with the right metrics and incentives. (This task will be simplified if you incorporate the key elements outlined in Aberdeen’s “The Key to Talent Development” Market Alert: create a talent mindset and a performance culture, develop a “learning organization”, and align with the overall strategic plan of the company.) But, as the article discovered, it is worth the effort. The article, which was based on a study across fifty organizational divisions in companies that employ a make-to-stock manufacturing strategy, found that:

• Incentives drive improved operational performance.
• Incentives are more effective for easily controlled tasks.
• Companies with higher supply chain complexity are more likely to use incentives.
• Incentives can be used to encourage the effective execution of coordinated tasks.

It also found that most companies (85%) measure supply chain performance, which is good, because without a baseline, there is no way to measure improvement, and the number one goal of every organization should be constant improvement. Most of the companies surveyed used a supply chain scorecard, and while the contents of such scorecards varied, most respondents measured on-time delivery (89%) and inventory turns (79%) as key metrics.

Another great finding was that decentralized organizations outperform centralized organizations under the right conditions. Specifically when functional managers make decisions that consider the big picture rather than just focussing on their department. It’s unfortunate that they did not include center-led models in their study, since this finding could be construed to imply that center-led models might be the most effective as all as the center of excellence could come up with guiding principles that help keep each of the decentralized units on the right track while empowering them to make the autonomous decisions necessary for quick and effective customer service.

The article concludes with the following take-aways, which I would agree with:

• Have a balanced scorecard in place and monitor it regularly.
• Align the responsibility for achieving specific targets with the responsibility for the related operational activities.
• Align your use of incentives with your organizational model and your ability to measure performance.
• Apply the incentives in ways that promote the behavior you want.