Executive Briefings

Let's All Focus on Supplier Risk - For Now

Do supply-chain executives suffer from the same attention-deficit disorder that plagues the rest of our culture? There are times when that seems to be the case. One wonders whether many of them can see beyond the next quarterly report.

When the economy took a dive, companies took a sudden interest in the concept of supplier risk. In good times, they seemed blithely unaware of the possibility of major vendor failures. This despite the fact that the stampede toward cheap production in China heightened the chances for disruption in the chain, while making it tougher to monitor key suppliers.

"Certainly it would have been more productive to invest in risk management prior to the economic downturn," says Josh Green, chief executive officer of Panjiva (www.panjiva.com), a provider of supplier intelligence. "Unfortunately, people were too focused on costs and not enough on risk when the economy was booming." Now, he says, "companies are still struggling to identify the right processes for effectively managing supply-chain risk."

Even in the best of times, there were problems with suppliers, but those tended to be masked by prosperity. When a supplier went bankrupt, two more would spring up to take its place. Many original equipment manufacturers saw little need for diversifying their supplier base. On the contrary, they were seduced by the savings that could be realized through vendor consolidation.

The risk of such a strategy is all too evident now. Thousands of manufacturers in China have gone out of business in the last year, and many others are foundering, hoping to survive until consumer demand finally recovers. It's clear that companies need to take more of a hands-on approach to assessing the health of their suppliers.

So what to do now? First, says Green, they must recognize the need to invest in a formalized risk-management strategy. Second, they need to understand the different types of risk to which they are exposed. "There is no one-size-fits-all answer to that," he says. "It's important to leverage your own experience and that of your teams to identify risks."

A word about those teams. Companies know that the people who are on the front lines of a supply chain can play a crucial role in spotting new market opportunities. (A smart, engaged sales force, for example, is a great source of ideas for new products.) But top executives are less in the habit of tapping those same individuals for the purpose of identifying risk. "The people interacting with suppliers on a daily basis often know quite a bit about the risk that exists in the supply chain," Green says, "but it's rare that the knowledge is making its way up through the organization so that [a company] can manage risk at a macro level."

It's a common mistake to focus on just one source of data about supplier stability, he says. "In general, that's unrealistic, because there are so many different types of risk that you have to worry about, and every source has its strengths and weaknesses."

Having identified the nature of their supplier-related risk, companies then need to set up a process for assessing the data, drawing conclusions and taking action. The key, says Green, lies in identifying who within the organization has overall responsibility for risk management. Often the job is spread among many individuals or groups, a situation that he calls "a recipe for failure."

Frequently there's a temptation to assign the task to the finance organization. Green says that's probably the wrong place for it. Financial people look primarily at, naturally, the financial side of risk. That's a source of legitimate worry, but he believes the larger job of overseeing all kinds of risk should rest within operations - possibly a chief operations officer. That individual, he says, "needs to draw on a skill set that resides across so many different pieces of the organization." An accurate risk assessment will consider finance, legal, manufacturing and procurement issues.

So where should the data come from? Again, Green thinks some companies focus too narrowly on credit risk. That kind of information, while vital, becomes less reliable and harder to obtain as supply chains become longer and more globalized. Managers should also be looking at data on shipping patterns and customer relationships, along with information gleaned from personal inspections of a supplier's facility. And, of course, intelligence from the people who are involved in day-to-day supplier management. "The real win comes when you marry external data sources with your own team's knowledge," Green says.

Look for the red flags that indicate a struggling supplier. Valuable information might come from further up the tiers. Green cites one company that received warnings from another business that served many of its suppliers, whenever any of them was more than 60 days late in paying its bills. Look also for disappearing customers of the supplier, a sudden drop-off in production volumes, or even a surge in production - the last suggesting a desperate attempt to generate cash flow. And how is the supplier managing that steep ramp-up in volumes? It is subcontracting, or possibly compromising on product quality?

As with so many ambitious corporate initiatives, the trick lies in sustaining a risk-management strategy through good times and bad. Green says the recession has presented a silver lining, in that executives have acquired "a healthier sense of balance in terms of thinking about costs and risks." But he worries that companies might be tempted to pull back on their efforts as economic conditions improve.

Let's hope not. "People are walking away from the experience of the last year and saying, 'I don't want to be caught in that position again,'" says Green. "In the long term, we're shooting ourselves in the foot if we don't think about risk as well [as cost]. Those risks ultimately turn into cost if you don't manage them."

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Do supply-chain executives suffer from the same attention-deficit disorder that plagues the rest of our culture? There are times when that seems to be the case. One wonders whether many of them can see beyond the next quarterly report.

When the economy took a dive, companies took a sudden interest in the concept of supplier risk. In good times, they seemed blithely unaware of the possibility of major vendor failures. This despite the fact that the stampede toward cheap production in China heightened the chances for disruption in the chain, while making it tougher to monitor key suppliers.

"Certainly it would have been more productive to invest in risk management prior to the economic downturn," says Josh Green, chief executive officer of Panjiva (www.panjiva.com), a provider of supplier intelligence. "Unfortunately, people were too focused on costs and not enough on risk when the economy was booming." Now, he says, "companies are still struggling to identify the right processes for effectively managing supply-chain risk."

Even in the best of times, there were problems with suppliers, but those tended to be masked by prosperity. When a supplier went bankrupt, two more would spring up to take its place. Many original equipment manufacturers saw little need for diversifying their supplier base. On the contrary, they were seduced by the savings that could be realized through vendor consolidation.

The risk of such a strategy is all too evident now. Thousands of manufacturers in China have gone out of business in the last year, and many others are foundering, hoping to survive until consumer demand finally recovers. It's clear that companies need to take more of a hands-on approach to assessing the health of their suppliers.

So what to do now? First, says Green, they must recognize the need to invest in a formalized risk-management strategy. Second, they need to understand the different types of risk to which they are exposed. "There is no one-size-fits-all answer to that," he says. "It's important to leverage your own experience and that of your teams to identify risks."

A word about those teams. Companies know that the people who are on the front lines of a supply chain can play a crucial role in spotting new market opportunities. (A smart, engaged sales force, for example, is a great source of ideas for new products.) But top executives are less in the habit of tapping those same individuals for the purpose of identifying risk. "The people interacting with suppliers on a daily basis often know quite a bit about the risk that exists in the supply chain," Green says, "but it's rare that the knowledge is making its way up through the organization so that [a company] can manage risk at a macro level."

It's a common mistake to focus on just one source of data about supplier stability, he says. "In general, that's unrealistic, because there are so many different types of risk that you have to worry about, and every source has its strengths and weaknesses."

Having identified the nature of their supplier-related risk, companies then need to set up a process for assessing the data, drawing conclusions and taking action. The key, says Green, lies in identifying who within the organization has overall responsibility for risk management. Often the job is spread among many individuals or groups, a situation that he calls "a recipe for failure."

Frequently there's a temptation to assign the task to the finance organization. Green says that's probably the wrong place for it. Financial people look primarily at, naturally, the financial side of risk. That's a source of legitimate worry, but he believes the larger job of overseeing all kinds of risk should rest within operations - possibly a chief operations officer. That individual, he says, "needs to draw on a skill set that resides across so many different pieces of the organization." An accurate risk assessment will consider finance, legal, manufacturing and procurement issues.

So where should the data come from? Again, Green thinks some companies focus too narrowly on credit risk. That kind of information, while vital, becomes less reliable and harder to obtain as supply chains become longer and more globalized. Managers should also be looking at data on shipping patterns and customer relationships, along with information gleaned from personal inspections of a supplier's facility. And, of course, intelligence from the people who are involved in day-to-day supplier management. "The real win comes when you marry external data sources with your own team's knowledge," Green says.

Look for the red flags that indicate a struggling supplier. Valuable information might come from further up the tiers. Green cites one company that received warnings from another business that served many of its suppliers, whenever any of them was more than 60 days late in paying its bills. Look also for disappearing customers of the supplier, a sudden drop-off in production volumes, or even a surge in production - the last suggesting a desperate attempt to generate cash flow. And how is the supplier managing that steep ramp-up in volumes? It is subcontracting, or possibly compromising on product quality?

As with so many ambitious corporate initiatives, the trick lies in sustaining a risk-management strategy through good times and bad. Green says the recession has presented a silver lining, in that executives have acquired "a healthier sense of balance in terms of thinking about costs and risks." But he worries that companies might be tempted to pull back on their efforts as economic conditions improve.

Let's hope not. "People are walking away from the experience of the last year and saying, 'I don't want to be caught in that position again,'" says Green. "In the long term, we're shooting ourselves in the foot if we don't think about risk as well [as cost]. Those risks ultimately turn into cost if you don't manage them."

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