Executive Briefings

Open or Closed Supply Chains: Which Way to Go?

Supply chains are just as susceptible to faddish behavior as anything else. We're social animals, so we tend to follow the crowd - especially if we believe that the crowd has a competitive edge. That's why so many companies flocked to China over the last couple of decades, in search of ever-cheaper sources of production. Or why outsourcing became such a hot trend over that same period of time.

It's also why some executives might be thinking about bringing back some of their supply-chain processes in-house - or, at least, exerting a greater measure of control over manufacturing. Recently we've seen a handful of examples of companies that have scored big successes by avoiding or minimizing their reliance on outsourcing. Whether that constitutes a trend, or an unrelated series of anecdotes, is a matter for debate.

The Hamlet-like question before us: open supply chains, or closed? The first describes a retailer, manufacturer or distributor that has amassed a team of trusted partners to provide the crucial links. Often these are companies with thin margins and a consequent focus on cost. Think of consumer electronics, where the production of computers, cell phones and similar devices is largely handled by contract manufacturers in a commodity-like fashion. The trend has become so prevalent that it has migrated to functions that were once thought impossible to outsource, such as product design. In a completely open supply chain, the business in question spins off nearly everything except its brand and the sales and marketing function. And who's to say that the latter can't be handled by outsiders as well?

A closed supply chain, by contrast, is one that keeps a large portion of its functions in-house. "It is oriented more around ownership and control," says Kelly Thomas, group vice president of services with JDA Software Group, Inc. "On one end would be closed supply chains, which are completely vertically integrated, and the ownership of assets and control reside with the OEM [original equipment manufacturer] or brand owner. On the other end are open supply chains, where the brand owner wouldn't own anything."

The reality, of course, is that few companies fit comfortably into either of these extremes. Even zipper manufacturers and matzo bakers need outside help in getting their products to market. Henry Ford's initial dream of a vertically integrated supply chain, in which the automotive pioneer would own every possible asset, has rarely been realized. (Although his philosophy might explain why the auto industry continues, for the most part, to keep assembly within its own factories.) Instead, we get a hodgepodge of practices that orients each company toward one end of the continuum or the other.

Obviously, the trend of recent years has been toward the open model of supply chains. Contract manufacturers and logistics service providers (LSPs) have thrived, providing the kind of service and expertise that cash-strapped OEMs can no longer afford. Now, however, Thomas wonders whether the pendulum is beginning to swing in the other direction. Industry leaders such as Apple have shown that asserting greater control over design and production, if not doing the actual manufacturing itself, can greatly enhance product quality and brand reputation.

At the very least, says Thomas, companies are reconsidering their decision to place manufacturing so far from end-markets. That trend bodes well for countries such as Mexico, where production costs are far greater than those of China, but whose proximity to U.S. consumers goes a long way toward making up the difference.

By stepping away from Asian contract manufacturers, OEMs minimize the risk of giving birth to future competitors. In their never-ending search for better margins, providers of outsourced services are "moving up the food chain," taking on a variety of value-added functions, says Thomas. Coming up with their own brands seems like a natural step forward, especially as China's growing middle class creates demand for domestic production.

Again, however, the situation isn't quite so cut and dried. On one hand, Caterpillar Inc. late last year moved production of certain machines back to the U.S., in a bid to be closer to the source of demand. But a few months earlier, Cisco Systems Inc. turned over its manufacturing operation in Juarez, Mexico to Foxconn Technology Group, the giant contract manufacturer. So the flight of OEMs from Asia doesn't necessarily mean an end to outsourcing.

Automotive companies continue to operate supply chains that are relatively closed. There are important exceptions - Mercedes-Benz and Toyota are among those to outsource a portion of their manufacturing - but automakers still directly perform the lion's share of assembly. "They want to control the activities that are critical to the product itself," says Thomas. "Assembly is tied to production quality, which is tied to product quality." American automotive unions, with their highly restrictive work rules, are another factor in keeping production in-house.

One function that companies aren't likely to take back anytime soon is logistics. LSPs have made a clear case for relying on trusted outsiders to manage the complexities of moving product across borders. But their involvement also raises issues of visibility and pricing. So users of logistics services have begun to engage in more sophisticated analytics, placing them "in a much better position to advise and collaborate with their third-party logistics providers," Thomas says.

Open supply chains have dealt companies some hard lessons. Witness the problems that Boeing had in building the 787 Dreamliner, whose production schedule suffered numerous delays caused by supplier glitches. At one point, Boeing was forced to purchase the 787 operations of Vought Aircraft Industries, maker of the plane's rear fuselage. Score one for the wisdom of closed supply chains.

Don't expect businesses to move en masse toward the concept, but they have to be giving it serious consideration, fad or no fad. "The speed at which things moved toward the outsourced model was very fast," says Thomas. "This is a careful consideration by companies that are not just following the herd mentality."

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Keywords: supply chain, supply chain management, supply management, inventory management, global logistics, third party logistics, supply chain planning, retail supply chain, supply chain outsourcing, contract manufacturing, closed supply chains

It's also why some executives might be thinking about bringing back some of their supply-chain processes in-house - or, at least, exerting a greater measure of control over manufacturing. Recently we've seen a handful of examples of companies that have scored big successes by avoiding or minimizing their reliance on outsourcing. Whether that constitutes a trend, or an unrelated series of anecdotes, is a matter for debate.

The Hamlet-like question before us: open supply chains, or closed? The first describes a retailer, manufacturer or distributor that has amassed a team of trusted partners to provide the crucial links. Often these are companies with thin margins and a consequent focus on cost. Think of consumer electronics, where the production of computers, cell phones and similar devices is largely handled by contract manufacturers in a commodity-like fashion. The trend has become so prevalent that it has migrated to functions that were once thought impossible to outsource, such as product design. In a completely open supply chain, the business in question spins off nearly everything except its brand and the sales and marketing function. And who's to say that the latter can't be handled by outsiders as well?

A closed supply chain, by contrast, is one that keeps a large portion of its functions in-house. "It is oriented more around ownership and control," says Kelly Thomas, group vice president of services with JDA Software Group, Inc. "On one end would be closed supply chains, which are completely vertically integrated, and the ownership of assets and control reside with the OEM [original equipment manufacturer] or brand owner. On the other end are open supply chains, where the brand owner wouldn't own anything."

The reality, of course, is that few companies fit comfortably into either of these extremes. Even zipper manufacturers and matzo bakers need outside help in getting their products to market. Henry Ford's initial dream of a vertically integrated supply chain, in which the automotive pioneer would own every possible asset, has rarely been realized. (Although his philosophy might explain why the auto industry continues, for the most part, to keep assembly within its own factories.) Instead, we get a hodgepodge of practices that orients each company toward one end of the continuum or the other.

Obviously, the trend of recent years has been toward the open model of supply chains. Contract manufacturers and logistics service providers (LSPs) have thrived, providing the kind of service and expertise that cash-strapped OEMs can no longer afford. Now, however, Thomas wonders whether the pendulum is beginning to swing in the other direction. Industry leaders such as Apple have shown that asserting greater control over design and production, if not doing the actual manufacturing itself, can greatly enhance product quality and brand reputation.

At the very least, says Thomas, companies are reconsidering their decision to place manufacturing so far from end-markets. That trend bodes well for countries such as Mexico, where production costs are far greater than those of China, but whose proximity to U.S. consumers goes a long way toward making up the difference.

By stepping away from Asian contract manufacturers, OEMs minimize the risk of giving birth to future competitors. In their never-ending search for better margins, providers of outsourced services are "moving up the food chain," taking on a variety of value-added functions, says Thomas. Coming up with their own brands seems like a natural step forward, especially as China's growing middle class creates demand for domestic production.

Again, however, the situation isn't quite so cut and dried. On one hand, Caterpillar Inc. late last year moved production of certain machines back to the U.S., in a bid to be closer to the source of demand. But a few months earlier, Cisco Systems Inc. turned over its manufacturing operation in Juarez, Mexico to Foxconn Technology Group, the giant contract manufacturer. So the flight of OEMs from Asia doesn't necessarily mean an end to outsourcing.

Automotive companies continue to operate supply chains that are relatively closed. There are important exceptions - Mercedes-Benz and Toyota are among those to outsource a portion of their manufacturing - but automakers still directly perform the lion's share of assembly. "They want to control the activities that are critical to the product itself," says Thomas. "Assembly is tied to production quality, which is tied to product quality." American automotive unions, with their highly restrictive work rules, are another factor in keeping production in-house.

One function that companies aren't likely to take back anytime soon is logistics. LSPs have made a clear case for relying on trusted outsiders to manage the complexities of moving product across borders. But their involvement also raises issues of visibility and pricing. So users of logistics services have begun to engage in more sophisticated analytics, placing them "in a much better position to advise and collaborate with their third-party logistics providers," Thomas says.

Open supply chains have dealt companies some hard lessons. Witness the problems that Boeing had in building the 787 Dreamliner, whose production schedule suffered numerous delays caused by supplier glitches. At one point, Boeing was forced to purchase the 787 operations of Vought Aircraft Industries, maker of the plane's rear fuselage. Score one for the wisdom of closed supply chains.

Don't expect businesses to move en masse toward the concept, but they have to be giving it serious consideration, fad or no fad. "The speed at which things moved toward the outsourced model was very fast," says Thomas. "This is a careful consideration by companies that are not just following the herd mentality."

Comment on This Article


Keywords: supply chain, supply chain management, supply management, inventory management, global logistics, third party logistics, supply chain planning, retail supply chain, supply chain outsourcing, contract manufacturing, closed supply chains