Building the Supply Chain of the Future

Stephen DeAngelis

March 3, 2011

An article published in the McKinsey Quarterly asserts that building the supply chain of the future “means ditching today’s monolithic model in favor of splintered supply chains that dismantle complexity, and using manufacturing networks to hedge uncertainty” [“Building the Supply Chain of the Future,” by Yogesh Malik, Alex Niemeyer, and Brian Ruwadi, January 2011]. This advice is similar to that coming from Gartner that states, “Remember that one size does not fit all. Define how many supply chain types you have and design a customized response for each” [“The AMR Supply Chain Top 25 for 2010,” by Kevin O’Marah and Debra Hofman, Gartner, 2 June 2010] O’Marah and Hofman insist that the best supply chains will be built from the “outside in, starting with your customers and working back through your trading-partner network to design a profitable response.” Noted supply chain analyst Lora Cecere agrees completely with O’Marah and Hofman, she writes, “We will never achieve supply chain signal synchronization working from the inside out. Instead, we must start with the requirements of the customer’s customer and work backwards translating the requirements to the suppliers’ supplier” [“Dancing with a White Elephant,” Supply Chain Shaman, 25 April 2010] McKinsey’s Malik, Niemeyer, and Ruwadi insist that “many global supply chains are not equipped to cope with the world we are entering.” They explain:

“Most were engineered, some brilliantly, to manage stable, high-volume production by capitalizing on labor-arbitrage opportunities available in China and other low-cost countries. But in a future when the relative attractiveness of manufacturing locations changes quickly—along with the ability to produce large volumes economically—such standard approaches can leave companies dangerously exposed. That future, spurred by a rising tide of global uncertainty and business complexity, is coming sooner than many companies expect. Some of the challenges (turbulent trade and capital flows, for example) represent perennial supply chain worries turbocharged by the recent downturn. Yet other shifts, such as those associated with the developing world’s rising wealth and the emergence of credible suppliers from these markets, will have supply chain implications for decades to come. The bottom line for would-be architects of manufacturing and supply chain strategies is a greater risk of making key decisions that become uneconomic as a result of forces beyond your control.”

Logistics analyst Adrian Gonzalez says that the first thing “would-be architects of manufacturing and supply chain strategies” should do is ask questions [“Secret to Supply Chain Transformation: Asking Why, Then Taking Action,” Logistics Viewpoints, 29 July 2010]. Dan Gilmore, Editor-in-Chief of Supply Chain Digest, agrees. He writes: “The first place to find the right supply chain answers is to ask the right supply chain questions” [“Engineering the Supply Chain,” 22 October 2010]. I couldn’t agree more. The better the questions you ask the better the answers to those questions you are likely to find. Gilmore’s article is the review of a book entitled Operation Rules: Delivering Customer Value through Flexible Operations written by Dr. David Simchi-Levi of MIT. Gilmore notes that early in the book Simchi-Levi asks, “So what is a company to do? Should operations establish a single supply chain? Which one? Alternatively, if the firm is to establish multiple supply chains, is there a way to take advantage of potential synergies between the various supply chains, or should the different supply chains operate totally independently?” Malik, Niemeyer, and Ruwadi believe, as noted above, that establishing multiple supply chains is going to be the right answer most of the time. They write:

“A few pioneering supply chain organizations are preparing themselves [for the future] in two ways. First, they are ‘splintering’ their traditional supply chains into smaller, nimbler ones better prepared to manage higher levels of complexity. Second, they are treating their supply chains as hedges against uncertainty by reconfiguring their manufacturing footprints to weather a range of potential outcomes. A look at how the leaders are preparing today offers insights for other companies hoping to get more from their supply chains in the years to come.”

As I noted in a previous post, it has been said that “companies don’t compete — — only supply chains do.” In an interview with Malik and his co-authors, Jim Owens, the former chairman and CEO of construction-equipment maker Caterpillar, agreed with that sentiment. He told them, “The competitor that’s best at managing the supply chain is probably going be the most successful competitor over time. It’s a condition of success.” Malik, Niemeyer, and Ruwadi continue:

“Fully 68 percent of global executives responding to a recent McKinsey survey said that supply chain risk will increase in the coming five years. … It’s important to recognize that new, long-term shifts in the global economy will continue to pressure supply chains long after more robust growth returns. The increasing importance of emerging markets tops the list of these uncertainties. Economic growth there will boost global energy consumption in the coming decade by about one-third. Meanwhile, the voracious appetite of China and other developing countries for such resources as iron ore and agricultural commodities is boosting global prices and making it trickier to configure supply chain assets. Worries about the environment are growing, too, along with uncertainty over the scope and direction of environmental regulation. These long-term trends have knock-on effects that reinforce still other sources of uncertainty. Growth in developing countries contributes to volatility in global currency markets and to protectionist sentiment in the developed world, for example. What’s more, different growth rates across various emerging markets mean that rising labor costs can quickly change the relative attractiveness of manufacturing locations.”

I have been writing about the “Complexity Gap” — “the gap between the complex, interconnected nature of today’s challenges and the ability of siloed, disconnected systems to respond” — since I began writing this blog back in 2006. The gap has only grown over the subsequent years. Malik, Niemeyer, and Ruwadi continue:

“Manufacturing and supply chain planners must … deal with rising complexity. For many companies, this need means working harder to meet their customers’ increasingly diverse requirements. Mobile-phone makers, for example, introduced 900 more varieties of handsets in 2009 than they did in 2000. Proliferation also affects mature product categories: the number of variants in baked goods, beverages, cereal, and confectionery, for instance, all rose more than 25 percent a year between 2004 and 2006, and the number of SKUs at some large North American grocers exceeded 100,000 in 2009.”

To learn more about increasing SKUs and other packaging challenges, read my post entitled Packaging and the Supply Chain. In a world of growing complexity, Malik, Niemeyer, and Ruwadi assert that “the idea that companies can optimize their supply chains once—and for all circumstances and customers—is a fantasy.” That is why they conclude that supply chains in future will be “splintered” to match the complexities they must tackle. They continue:

“Recognizing this, a few forward-looking companies are preparing in two ways. First, they are splintering their traditional monolithic supply chains into smaller and more flexible ones. While these new supply chains may rely on the same assets and network resources as the old, they use information very differently—helping companies to embrace complexity while better serving customers. Second, leading companies treat their supply chains as dynamic hedges against uncertainty by actively and regularly examining—even reconfiguring—their broader supply networks with an eye toward economic conditions five or ten years ahead. In doing so, these companies are building diverse and more resilient portfolios of supply chain assets that will be better suited to thrive in a more uncertain world. … Splintering monolithic supply chains into smaller, nimbler ones can help tame complexity, save money, and serve customers better.”

To support their assertions Malik, Niemeyer, and Ruwadi provide a case study of a “US-based consumer durables manufacturer” who realized it was losing ground to competitors because of its monolithic supply chain. The article provides the details, but the bottom line is:

“Ultimately, the company decided to split its one-size-fits-all supply chain into four distinct splinters. For high-volume products with relatively stable demand (less than 10 percent of SKUs but representing the majority of revenues), the company kept the sourcing and production in China. Meanwhile, the facilities in North America became responsible for producing the rest of the company’s SKUs, including high- and low-volume ones with volatile demand (assigned to the United States) and low-volume, low-demand-volatility SKUs (divided between the United States and Mexico). Ramping up production in a higher-cost country such as the United States made economic sense even for the low-volume products because the company could get them to market much faster, minimize lost sales, and keep inventories down for many low-volume SKUs. Moreover, the products tended to require more specialized manufacturing processes (in which the highly skilled US workforce excelled) and thus gave the company a chance to differentiate itself in a crowded market.”

Splintering supply chains can help a company become more flexible and agile — two traits that analysts insist will be hallmarks of future supply chains. Another trait that gets just as much attention is supply chain visibility. Malik, Niemeyer, and Ruwadi indicate that their case study company addresses that aspect of its supply chains as well. They write:

“The company didn’t just reallocate production resources. In tandem, it changed its information and planning processes significantly. For the portfolio’s most volatile SKUs (the ones now produced in the United States), the company no longer tried to predict customer demand at all, choosing instead to manufacture directly to customer orders. Meanwhile, managers at these US plants created a radically simplified forecasting process to account for the remaining products—those with low production runs but more stable demand. For overseas operations, the company continued to have its Chinese plants produce finished goods on the basis of long-run forecasts, as they had done before. The forecasts were now better, though, because planners were no longer trying to account in their models for the ‘noise’ caused by the products with highly volatile demand.”

The results, the authors note, were reduced costs and increased customer satisfaction. Interestingly enough, “quality also improved across the company’s full range of products.” If “splintered supply chains” represent the future, Malik, Niemeyer, and Ruwadi note: “The first question for organizations exploring multiple supply chains is how many are needed?” As you might expect, there is not a pat answer. Malik, Niemeyer, and Ruwadi explain:

“Answering [that question] requires a close look at the way the supply chain assets that a company uses to manufacture and distribute its products matches up against the strategic aspirations it has for those products and their customers. This requirement seems obvious, but in practice most companies examine only the second half of the equation in a sophisticated way; they can, for example, readily identify which products they see as leaders on cost, service, innovation, or (most likely) some combination of these. Fewer companies seriously examine the operational trade-offs implicit in such choices, let alone make network decisions based on those trade-offs.”

They go on to provide a few examples. Although splintering a monolithic supply chain into multiple supply chains would appear to complicate operations, Malik, Niemeyer, and Ruwadi insist that “this approach allows companies to reduce complexity and manage it better because operational assets can be focused on tasks they’re best equipped to handle.” Another second order benefit, they claim, is that smaller splintered supply chains offer better visibility that “helps senior managers more effectively employ traditional improvement tools that would have been too overwhelming to tackle before.” They conclude:

“The advantages that multiple supply chains confer are most valuable if companies view them dynamically, with an eye toward the resiliency of the overall supply chain under a variety of circumstances. … In fact, we believe that the ability of supply chains to withstand a variety of different scenarios could influence the profitability and even the viability of organizations in the not-too-distant future. In light of this, companies should design their portfolios of manufacturing and supplier networks to minimize the total landed-cost risk under different scenarios. The goal should be identifying a resilient manufacturing and sourcing footprint—even when it’s not necessarily the lowest-cost one today. This approach calls for a significant mindset shift not just from operations leaders but also from CEOs and executives across the C-suite. … The rewards are worthwhile. By creating more resilient and focused supply chains that can thrive amid heightened uncertainty and complexity, companies will gain significant advantages in the coming years.”

So what do you call this splintered supply chain of the future? Malik, Niemeyer, and Ruwadi don’t answer that question. Other supply chain analysts have added a variety of modifiers, such as: demand-driven; sense and respond; dynamic; living; and optimized. Gartner even drops the term “supply chains” using instead the term “Demand-Driven Value Networks.” Lora Cecere has commented, “Remember Shakespeare’s wisdom? ‘What’s in a name? A rose by any other name would smell as sweet.’ I feel that when the focus is on the NAME -– versus the OUTCOME -– we all lose.” Perhaps that is why Malik and company didn’t try to label the supply chain of the future — they preferred to concentrate on its outcomes.