Monday, February 9, 2009

5 Ways to mitigate Supply Chain Risk in this Economy

Nortel Networks Corp, once a telecommunications equipment giant, after years of being under tremendous pressures and trying numerous reorganization and cost-cutting actions to improve its competitive position, filed for bankruptcy protection from creditors on Jan 14th 2009. The Wall Street Journal reported that the company was expected to pay creditors $107 million in bond interest that week and owed bondholders more than $3.8 billion.

Now why is this an important incident? The implosion of huge telecom companies like Nortel has widespread negative repercussions not only for their customers, partners and suppliers but also for competitors to an extent. For example, most of the telecommunications equipment manufacturers have outsourced their manufacturing to their contract manufacturing partners like Flextronics, Sanmina-SCI Corp., Jabil Circuits to name few. Although these contract manufacturers are huge players by themselves, an accounts receivable situation and inventory exposure in millions of dollars due to bankruptcy of a major customer could break their back. This will lead to disruption of supply chain for their other customers as well.

But most Tier 1 contract manufacturers have their customer portfolio well diversified so they could probably survive one or two implosions. That is not the case with smaller component suppliers, especially start ups. Start ups generally have one or two customers who drive majority of their revenue. And losing 50-80% of their revenue stream may take them down, and if you happened to be using them in upcoming or released products then it is a huge supply risk and time-to-market risk for your company.

Here are 5 ways to mitigate the supply chain risk in this economy:

1) Validate and monitor the financial & operational health of your key suppliers: In this economy we can expect more businesses to go under so supply chain managers and strategic sourcing managers need to place emphasis on reviewing operations data, financial statements and running "credit checks" on their strategic suppliers. If the companies are based out of countries like Mexico, Malaysia, India, Taiwan or China and their records are not public, then use 3rd party information gathering services. Depending upon what you find out start developing secondary sources if they are a sole-sourced supplier. Require your suppliers to do the same thing with their suppliers as well. This is not easy by the way and it can cost small amount of money but the due diligence is worth it.

2) Conduct Bill-of-Materials (BOM) risk analysis: When a new product is moving from prototype to pilot phase there should be thorough analysis conducted on the components and suppliers being used on the BOM. Most of the sometimes, it is during the new product introduction phase when start-ups with new and advanced technology get used as suppliers. Verification of the financial condition of such start-ups if they are sole-sourced suppliers should be integral part of the risk analysis.

3) Monitor quality more aggressively: When times get tough, suppliers may look for ways to cut corners to maintain their margins so it is important to increase the frequency of the quality audits. Physical site visits during quality audits can also be used as a time to get the feel on their overall business condition.

4) Partnership mindset: In this tough economic climate “partnership mindset” that was preached about during good times becomes even more important. “Let’s just get the lowest price we can” attitude is self-defeating because you’re not building a relationship in which your strategic supplier or partner is looking out for your best interests as well as their own. Remember that this is an ecosystem and losing some of the critical players could shift the equilibrium to your disadvantage. Partnership mindset will open up opportunities for new ways to reduce costs, improve efficiency and quality.

5) Make an investment: If you have a start-up supplier whose products are being used in your future releases and they are in financial doldrums due to tough economy, then invest in them after conducting a business analysis. If you think their technology will be in great demand in future and key to your future products as well, then buying a stake in them will not only secure your supply chain but also open up a future revenue stream.

Those are 5 ways to mitigate supply chain risk in this economy. I would be interested in knowing what other strategies are being employed to reduce supply chain risk related to suppliers. Please feel free to comment to this discussion.