| Advice to CFOs: don’t fail to find failure in the supply chain |
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| The financial performance and overall success of manufacturers, retailers, wholesalers, and distributors may depend heavily on the effectiveness and reliability of their supply chains. Here, Kieran McHugh discusses the less obvious potential disruptions that can be as devastating to a firm as more familiar catastrophes like fire and flood. |
SSupply chains are complex networks that connect suppliers, manufacturers, distributors, retailers and customers. A supply chain can be thought of like a rope, with its series of integrated and intertwined threads. The threads give the rope its strength. If any of the individual threads should break or become dislodged, the strength of the rope is reduced. As the rope is pulled tighter, increasing pressure is placed upon the individual strands and any excess slack is removed. A sudden shock to the rope with little or no slack can result in a break.
Many organisations have spent years trying to optimise their various supply chains some more successfully than others often via software implementation projects. But few, if any, are analysing the risks inherent to their organisation in relation to the acquisition, movement and conversion of goods, services and information.
Supply chain disruptions can arise from many sources, at times without warning. These disruptions can result from an external event, such as a natural disaster, or they can stem from an internal issue, such as the failure to integrate all functions in a supply chain. Disruptions also can result from attempts to create a more efficient, cost-conscious supply chain environment.
Similarly, a supply chain must be fully integrated to operate at maximum efficiency. Failing to understand the potential vulnerabilities can compromise the supply chain’s ability to handle unexpected and sudden shocks. By understanding risk within and external to the supply chain, an organisation can more clearly identify its options for optimizing the supply chain to ensure viability and strength.
Traditionally, companies have managed risks within specific business functions or units. Yet, the most effective form of risk management requires the involvement of multiple components of the supply chain.
The process begins with an assessment of the supply chain. Understanding the risks within a supply chain requires in-depth knowledge of a business’s operations. The assessment enables the organisation to develop a detailed picture of its supply chain, which in turn helps to identify potential risks.
After the supply chain risks are identified and prioritized, the organisation determines those that might pose the greatest threats or that could lead to a significant disruption in the supply chain.
These activities provide the framework for the creation of a preliminary financial model, which is an important tool for making decisions about how to manage supply chain risks. An effective financial model typically includes: key assumptions about a supply chain’s performance, limitations, process relationships and interdependencies, as well as the organisation’s financial details.
Based on the results of the financial modeling and other information gathered from internal meetings and formal discussions, an organisation can develop an inventory of supply chain risks. This can be used to help make decisions regarding any adjustments that need to be made to business processes and overall risk-management strategies.
Whatever their cause, supply chain disruptions can have significant ripple effects that can go beyond an organisation, its customers, investors and others directly affected by the disruption. In some cases, organisations that don’t manage these issues effectively can suffer loss of market share, reputation damage, and regulatory actions among other consequences.
On the other hand, the ability to effectively manage supply chain risks by understanding their potential impact may result in significant competitive advantages. Examples of such advantages might include an organisation’s ability to weather an adverse event, such as SARS or the Foot and Mouth Disease (FMD) outbreak, while its competitors are focused on disaster recovery.
Organisations that have the foresight to understand and manage risk within their supply chains may continue to make significant gains in network optimization, operational excellence and customer satisfaction. However, those that underestimate the potential impact of supply chain risks may ultimately face difficulties with customers and shareholders who are dissatisfied with unreliable supply chain performance.
The following questions are typical of those Marsh Ireland would ask, and help businesses address:
- How does your organisation define, quantify, prioritise and measure supply chain risks?
- Does your organisation measure the financial impact of disruptions to your supply chain?
- Are alternative supplier policies and procedures in place to meet your product/ingredient requirements?
- Does your organisation have access to alternative suppliers or logistics providers?
- Does your organisation have significant inter-company cross-border flows?
- Does the business identify / measure the impact and risk of inventory management policies?
- How dependent is your supply chain on supplier/customer information flows?
- How does your organisation collect, monitor and measure the environmental practices of your suppliers and the potential financial impact to you?
- Is demand forecasting effectively integrated into your supply chains?
- Where your product is sold and distributed through external trading partners, distribution networks and OEM relationships, do you have visibility of sale, use and disposal of product?
Experience has shown that many organisations need to make the transition from an instinct-based approach, to a knowledge / information-based approach to understanding risk. This will enable a better understanding of key risk exposures of the company’s supply chain and its key suppliers, and allow the company to quantify the potential financial impact of those risks on its business.
Irish organisations must gain a better understanding of the key potential points of failure within the supply chain, and certify key suppliers in terms of their vulnerability, financial stability, and their own risk management strategies. A simple first step is to design and implement a risk management plan to minimize the potential exposure of the company’s business in the event of a supply chain disruption.
Any statements concerning legal matters should be understood to be general observations based solely on our experience as insurance brokers and risk consultants and may not be relied upon as legal advice, which we are not authorised to provide. |
Kieran McHugh is deputy chief executive of Marsh Ireland.
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| Article appeared in the March 2004 issue.
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