SUPPLY CHAIN RESOURCE COOPERATIVE

Oil prices continued to plummet last week to below $60, and experts predict that it could continue to drop.  All of a sudden, what seemed like a boost to the global economy has caused consternation and worry among economists, as the recognition that the oil supports jobs across a number of important sectors.  There are of course rumors circulating about the politics of the situation and what is driving it.

One school of thought is that “OPEC is trying to drive out the competition”.  That is, they are hoping to be able to drive out many of the directional driller outfits using fracking technology that has boosted output in the United States over the last two years.  There is some truth to this.  The drilllers that were early to the party were able to drill relatively shallow at a low cost, and had very good returns on these early fracking forays, that has created a real economic upswing.  However, as these drillers are forced to drill deeper, their costs are going up – and if oil is at $57/bbl, the costs are unsustainble, and they will be forced to shut down operations.  Bigger operations, such as the major projects in the Canadian oil sands, can continue to operate profitably at oil prices upward of $40/bbl, so will be relatively untouched by these developments.  However, the smaller operations in the fracking industry will in all likelihood be packing up their things and going home, and so will be the jobs associated with these operations.  In addition, the railroads which have been run at peak capacity due to the plethora of oil being shipped by rail will see a downturn.  This is in truth probably a good thing, as there is not even enough capacity to operate the railroads to bring farmers’ crops to market, causing prices of wheat and corn to spike as railyards continue to push more and more oil carriers onto the tracks, causing massive bottlenecks in railyards and leaving crops undelivered during a bumper year of production.

On the other hand, there may be more to it than OPEC trying to drive out smaller players.  Jason Schenker from Prestige Economics, spoke at our SCRC meeting, and pointed out that OPEC members really don’t see smaller drillers in North Dakota as a threat.  Rather, their worry is more on the state of the global economy, and the fact that China and India’s GDP continues to drop.  In such cases, it is likely that there will indeed be the beginnings of a global recession.  In such cases, the theory goes, the economy needs a “jumpstart” to grow demand for vehicles and oil, which means growing overall demand for new vehicles, and hence demand for oil.  Remember that revenue = price X demand, so if price goes down, than demand will jump…a supply side strategy.  Schenker believes that OPEC is more worried about the global economic recovery, and by boosting oil inventories, prices will drop and bump up all global economies….and prices will naturally drop.

It will certainly be interesting to see which way this will go…

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Bob Trebilcock, the editor of the Supply Chain Management Review, interviewed me and my co-author Gerard Chick on our new book “Procurement’s Value Proposition”.  Here’s an excerpt from the interview.

SCMR:  The role of the Chief Procurement Officer is becoming more strategic and even more important as procurement is affected by technological advances, changing demographics, geo-political and macro-economic change, and an increased focus on sustainability and Corporate Social Responsibility. In The Procurement Value Proposition, Gerard Chick and Robert Handfield consider how these global economic changes will alter purchasing strategies, organizational structure, role and responsibility, system development, and the skills required to work in the profession. I recently had a chance to speak with Chick and Handfield about their book. You can read an excerpt on SCMR.com.

SCMR: Gerard and Rob. Thanks for speaking with me. First, tell us a little about the book and how procurement is changing. It’s no longer just about purchasing, correct?

Handfield: We argue that there is an evolution of procurement as a true value added business function. For a long time, procurement was boxed into a corner. Its role was viewed within the organization as negotiating to get better prices. Even today, in many organizations procurement is still about leveraging the spend to get quantity discounts and lower costs. However, given sustainability mandates, supply chain risks, and the huge amount of volatility in business today, procurement has to be different now. One of the trends we’re seeing is that the real savings often occurs after the contract is signed by looking at the total cost of ownership, which can include the end-to-end supply chain costs. The question is: Who leads that? Is it supply chain management or is it supply management? It could be different depending on the organization, but you have to bring them together. We think there is an opportunity for procurement in that change. But, in order for procurement to lead and get a seat at the table, it has to demonstrate a business case. It has to be a value added function.

Chick: One of the things you’ll see in the book is a formula related to procurement and profit. I’ve had procurement people tell me that procurement isn’t strategic; they just go out and do deals. But, the cost of purchased goods impacts profit so it must be strategic because the business is there to make profit. Secondly, value is a word that people bandy about today. The way I approach it is that value is the utility you derive from a good or service. If procurement works well in an oil and gas company so that they don’t have rigs producing the wrong crude then procurement is adding value because it is ensuring that through its work, the company is creating the petrol people need for their cars, it’ll be the right quality, and they’ll be paying the right price. They’re valued by the effectiveness they bring to the company. They’re not just buyers cutting deals. They are aligned with what the company wants to achieve. That’s value.

Read more of the interview on the SCMR website.

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Speakers are the SCRC meeting yesterday and today continued to speak more on the topic of transportation strategy given increasing challenges in the transportation sector, and the need for an effective transportation management strategy.

George List, a professor of mechanical and construction engineering, emphasized the need for governments to consider the broader impacts of global change.  For example, the widening of the Panama Canal will change the conditions here in North Carolina, as enormous container ships will be circumnavigating the globe. Steamship companies will dedicate vessels that permanently go eastbound and westbound. And in Panama a huge transshipment area will grow where they will will do break bulk, put cargo onto smaller ships and send to North America. These services will no longer occur in US ports, and this will shift the nature of supply chain designs.  As opposed to increasing ports to ship massive containers of bulk items, regions like North Carolina need to think differently, and to consider new possible locations for transport-driven logistics portals statewide.  For example, George mentioned that the Research Triangle is a major provider of vaccines worldwide.  These are little vials with very short half-lives, and to ship them you need a category 3 ILS equipped airport so autopilot technology landings are possible.  This requires investment in the right sophisticated technology.    But for public sector funding decision makers, the idea of spending money on runways is a foreign idea.

Clark Robertson from CSX Railroads also came in to speak on the role that railroads have played in the US economy.  Railroads were critical in helping to develop the United States in the last half of the 1800’s.  Their growth was incentivized by governments to expand networks.  In the last 1880s  the first Interstate Commerce Act rregulated trains.  The rights of way today were built from 1850-1920.  Rail mileage peaked in 1920 and then went into recession.  By 1850 there were more than 9000 miles of track which expanded to 450,000 miles by 1920.  The mass production of vehicles caused this market to drop dramatically, and now the US has about 180,000 miles of railroad.  By 1970s the railroads were on the brink of ruin.  More than 21% of mileage was run by bankrupt railroads.  The railroads had lost most passenger business, and freight business was regulated and operating at a loss.

What changed that was the Staggers Act in 1980.  Prior to this Act, railroads could not enter into confidential contracts with clients.  The Act introduced balanced regulation in the rail industry and allowed railroads  some freedom.  Since the Staggers Act rail volumes have doubled.  Average rail rates have fallen 42%.  Rail productivity have been among the highest, and railroads are financially strong.  Railroads are much safer and spending on infrastructure continues to be strong. Clark did mention that rail capacity continues to be a challenge with the shale oil boom, and this is simply a function of the rapid rise in demand and the inability of the railroads to add capacity to meet this.

Adam Ruff from Excel Logistics spoke about some of the challenges of transportation, and mentioned that the indicators continue to show constrained markets.  He noted that “We are seeing good economic growth and YOY increases in tonnage, and passenger vehicle production is hitting a high water mark, as is industrial production.  There is increasing pricing power, and on average a 2-4% increase in freight demand – which is outpacing the supply of truck capacity due to limited drivers.  There is a chronic lack of drivers, and it is an unattractive profession for most people.   He notes that this is similar to the 2006-2007 market where capacity was becoming constrained.  This is impacting how you think about managing the network, and in procurement.

In the regulatory environment, there are a number of regulations that are on the books.  These include hours of service limitations for drivers (11 hours), and Compliance, Safety and Accountability (CSA).  Other that will impact productivity include fuel economy (Café standards are increasing for mid-heavy weight trucks), emissions of particulate and Co2, and others regarding comprehensive drug and alcohol databases, and equipment with speed limiters and stability control systems.  These are all designed to provide greater safety and environmental improvements, but there is a cumulative drag on operational productivity and running the network.  Drivers are negatively impacted in terms of productivity.

Some estimates cite that the equivalent of 400,000-800,000 drivers will be taken out of the market in the next 10 years!   This is perhaps a high estimate, but it is nevertheless alarming.  The first impact on hours of service has already been felt.  Some solutions include allowing Canadian truckers to operate in the US, and in the future perhaps using other foreign drivers as well.

In terms of the challenges to freight infrastructure, Adam noted that  Excel has to design in a lot of “slack” due to the congestion in major urban centers.  Fuel tax hasn’t been increased since 1993, and funding for the Highway Trust fund is truly “hand to mouth”.  Investments in ports and rails and waterways are competing with other political priorities.  There is inadequate funding and lack of consensus on investment priorities in general in the US.  As an example, Adam Ruff mentioned the big border crossing across the Detroit River.  The Canadian government is going to pay for a new bridge, but the US government cannot find the funding to fund the customs plaza.

On the inbound side customers started to by-pass or disintermediate middlemen and going directly to the point of need.  Given challenges with capacity, companies are re-thinking their transportation strategies – perhaps going to smaller fleets that are better suited to the business.  Some are also looking at dedicated fleets, and ensuring that they are using their full capacity and do operational tradeoffs to fill every empty mile on fleets that are dedicated.  Many companies are thinking about the different advantages and options for dedicated capacity investments in a constrained transportation market environment.

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The 30th SCRC meeting kicked off today with a theme on “Transportation Strategy in an Infrastructure Constrained Environment”.  This is a theme that was discussed a year ago at a conference in DC on Transportation Infrastructure, over coffee with William Lucas from Caterpillar.  We talked about focusing on transportation as an issue that needs to be specifically addressed. Infrastructure came up time and time again in the BVL Study we worked on last year.  This continues to be a major challenge as companies think about their long-term strategic planning investments.

As William discussed, the top 10 truckload carriers represent less than 6% of the total market.  This creates strong bargaining power, but brokers are moving more and more towards playing a larger roll in truckload shipments.  But drivers will turn down loads in lanes where they are not paid enough – and this is a challenging issue.  Truckload is also evolving into complex multi-mode areas – and it has become a larger carrier and more dedicated set of issues.  Truck drivers are also getting older, and a discussion with carrier JB Hunt, reveals that salaries are now over $65K for drivers.

Ocean carriers are also a challenge, as there is not enough capacity – and US imports exceed exports by 40B.  This will continue to congest the ports, and it is tough to find carriers as there are a limited number of competitors. Another big challenge is around government regulations.  First on the list are regulations around Class A drivers – and the 11 hour driving limit constrains when trucks can load, and driving time is being tracked electronically.  The key is that it is helping and removing people from the road.  It is better for safety but a lot of people are not making the same amount of money.  Loads also have to be permitted, and each state has its own permitting requirements.Roads are becoming more congested, and many of them are aging.

Infrastructure growth is a major issue for companies who ship a lot, especially those like CAT who ship heavy permit loads from the ports.  It is also happening at border crossings such as Mexico. The expansion of Panama has shifted shipments from West Coast to East Coast, but only Norfolk and Baltimore can handle these larger ships – and this will result in longer berths  where will the funding be coming from for these port expansions – and it is something that is happening, but we aren’t sure how to handle it.

Rail repairs to existing infrastructure is a big issue, and rail companies are investing a huge amount in infrastructure.  Replacement costs are going up.  And there is a massive challenge with rail capacity due to the shale oil crisis. William also talked about the importance of having an integrated transportation strategy that thinking about packaging and planning issues – and the quality concerns are becoming more important.  If we can’t protect it or get it to the line, quality will be impacted.

Matthew Drown from CAT then talked about some of the solutions that existed.  Some of the solutions are from a strategy perspective, but also from a continuous improvement perspective.  Depending on weight and velocity needs, decisions and optimal transportation strategies are impacted.  As our growth increases, CAT uses heat maps and center of gravity studies to consider where our major shipments are going, but also looking at costs. Matt gave a great plug for our student projects that were used for transportation planning approaches.  In 2011 a student project team focused on packaging and where there were changes in sourcing and whether weights were correct.  In 2012 a port study was conducted by students to understand capabilities of ports and what existed, and whether to use Savannah and Charleston, considering their capabilities, number of calls, what types of shipments they are strongest with.  The developed a tool to assist with decision-making.  There was also a study looking at lanes coming out of Mexico – and to have a truck do a live load, vs. drop the load and the facility loads it and picks up the trailer.  The team questioned whether a larger pool of trailers would be beneficial.  As you have more trailers, there is a cost, but is the benefit more than the cost?  In 2013 a study project looked at transportation regulations and permits, and what globally were the limitations on weights?  A final team this year looked at volume readiness.

We are excited by the quality of the student projects and their contribution to the transportation team at Caterpillar.

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A supply manager in the Canadian oil patch wrote me recently about their experience on a major capital project, after reading my blog on capital equipment uptime.  He was quick to point out that ensuring uptime of equipment is a major priority, not the cost of the equipment itself, due to the amount of production revenue being lost for every minute that the site is not operational due to equipment failures. He pointed out that this principle doesn’t necessarily apply to capital equipment only. “You might find this a bit hard to believe but this could even extend to something that you’d otherwise shrug off as ‘not that’ important! E.g. Small tools and consumables. A purchase order to a supplier for $25k would be construed as a minor purchase that wouldn’t even warrant the raising of an eyebrow. Here’s an example of how things could go horribly wrong were the goods to be not procured in time: A construction crew of 40 people, all employed at $ 85/hour and working on a 10 hour shift in the oil sands remain idle for 4 days because they didn’t receive their tools in time. The idle time cost alone for 4 days would cost the company $136k!! I have to literally breathe down the supplier’s neck every single day to ensure that we won’t have any nasty surprises! Small tools and consumables fall under the MRO (Maintenance , Repair & Operations) category,and in the oil sands, it’s booming business for some suppliers.  A crane operator cannot get on a crane or any other major piece of equipment unless he has the proper PPE gear on! Fail to get him his gear and we end up losing big money!

This is a perfect example of thinking about Total Cost of Ownership as a component of procurement value.  Thank you for the readers of my blog for their comments!

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I had an opportunity to speak at Mount Royal University as well as the University of Calgary on a recent visit this week. I was speaking on the subject of importance of developing skills and capabilities in procurement, and that this is in effect the “golden age” of procurement.  At no other time in history has procurement had such an opportunity to create value, to drive different forms of engagement with internal stakeholders, to take on the role of a “trusted advisor” and “partner”, and to begin to truly drive opportunities for creating mutual value for both suppliers and their own enterprise.  On the other hand, it is also an opportunity for procurement to disappoint and fall short if the right approach is not taken.

For too long, procurement has complained about “not having a seat at the table”.  As one executive said at the meeting, “there is no reason why we can’t pull up a seat – but we have to give the others at the table a reason why we’re there.”  This means being able to spend the time to meet with stakeholders, and truly understand their problems and issues, and be able to solve their problems.  This in turn requires going beyond the traditional role of “stacking ‘em higher and buying ‘em cheaper”, but being able to derive true value from supplier relationships and derive solutions that are solving important problems for the business.  As I’ve said many times in previous blogs, price is only one of many different problems that procurement people face on a day to day basis.

One executive, Dave Balson from Suncor Energy, mentioned a case where he was working on a big Oil Sands project, and negotiating with the president of a large crane supplier.  He was, as usual, trying to get the cost of the cranes down, as well as the cost of the service agreement, focusing primarily on price.  The president of this company looked out the window of the ATCO trailer that was on the site.  He asked Dave, “How many cranes do you see outside that window?”  Dave said, “Five”.  “How many of them are operating right now?”  Dave replied again, “Well, none of them right now.”  “That’s right,” said the crane president, “you are beating me up to save a nickel, but you are losing a dollar by not having those cranes operational 24/7″.

In fact, on a major project, ensuring uptime of equipment is a major priority, not the cost of the equipment itself, due to the amount of production revenue being lost for every minute that the site is not operational due to equipment failures.  This principle has since been applied to trucks and other major pieces of capital equipment.

All of the executives I met with in Calgary, including executives from Suncor, Shell, WestJet, Canadian Natural Resources, HuskyEnergy, Hasbro Engineering and others, all mentioned the major talent shortages that exist in the supply chain area.  The local schools, Mount Royal University and University of Calgary, cannot produce enough talented graduates to meet the demand.  This will continue to be a challenge, and represents an exciting opportunity for young talented individuals seeking a promising new career.  It also represents an opportunity for those with technical, engineering, and functional skills to go into an area that was once considered a transactional area, but which has emerged as the hottest place to be in the industry.

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Today’s breaking Wall Street Journal article provides a great case study on the impacts of not properly managing contractual supplier relationships.

First consider the type of supply arrangement this represented.  This was an important and emerging new technology, one that would produce manufactured sapphire to cover the face of all of Apple’s new iphone products.  According to the WSJ, “GT made furnaces for producing sapphire…. GT told Apple in March of last year that it was developing a furnace that could produce a sapphire cylinder, known as a boule, weighing 578 pounds, more than twice as large as what were then the biggest boules. The larger boule would yield more screens, reducing costs….Apple offered to lend GT $578 million toward building 2,036 furnaces and operating a factory in Mesa, Ariz. Apple would buy and retrofit the factory for an additional $500 million and lease it to GT for $100 a year.”

This type of purchase, nearly half a billion dollars, and for a supplier that is unique with an emerging new technology, puts this category of sapphire squarely in the middle of the “strategic category” for the traditional “Kraljic” category portfolio matrix.  Based on traditional supply management pedagogy, strategic categories require a great deal of attention, information sharing, and joint collaboration to ensure that the right mutually beneficial outcomes occur.

The second part of this challenge is understanding what type of supplier Apple was dealing with.  According to the WSJ, “GT was intrigued, because the agreement would provide more consistent revenue than equipment orders. Moreover, GT’s business making equipment for solar cells had fallen on hard times. GT’s 2013 revenue was down 66% from two years earlier.”  In other words, GT was also a “high risk” supplier, in that they had indicators of having had previous financial problems and had made bad technology investments in the past….read on…

Mapped to a “supplier preference” matrix, this would indicate that GT was definitely viewing Apple as a preferred customer, and would fall into the “Develop” category, or a supplier that is not doing a lot of business with Apple, but has the customer as a strong developmental prospect.  But because they were high risk, a prudent supply manager would want to watch them closely.

In terms of a procurement strategy, everything looked copacetic and had fallen into place.  GT’s stock price took off when Apple and GT signed an agreement to seal the deal.   Apple would lend GT $578 million toward building 2,036 furnaces and operating a factory in Mesa, Ariz. Apple would buy and retrofit the factory for an additional $500 million and lease it to GT for $100 a year.

Shortly after, in fact a few days later, the first sapphire boule came out of the furnaces, and it was badly cracked, and deemed unusable.  Soon, it became clear that the manufacturing problems were more than a single batch, and that there were major problems with the process itself.

At this stage, there should have been daily onsite meetings, so that Apple and the supplier could work on the technical issues together, and identify the source of the problems.  Instead, GT continued to flounder, hiring over 700 people for jobs that didn’t exist, as capacity was not up and running yet.  They struggled with quality, production planning, and failed to meet deadlines.  Rather than have regular communications, Apple failed to conduct due diligence and project planning.  GT, fearing that Apple would leave them stranded, continued to try to work through the problems on their own, and continued to experience difficulty.

This is a textbook case, in that it demonstrates the importance of managing strategic relationships through careful performance measurement, human interaction, joint problem solving, and project management.  It also demonstrates the critical nature of joint technology development.  Apple was essentially funding the project, but not providing the human capital and knowledge required to make the technology viable.  GT was afraid to ask for help, and preferred to clam up and continue to work on their own.   In the end, both parties failed to do what was needed to manage the relationship.   In the end, both parties failed to do what was needed to manage the relationship.

This doesn’t appear to be a one-time event either.  Another blog on the WSJ website interviewed Apple suppliers, and two key lessons came out of it:

“To long-time suppliers, GT is a reminder of two lessons they learned long ago: Don’t rely too heavily on Apple and don’t make promises you can’t keep. Follow these, they say, and you probably won’t end up like GT.”

“Apple always asks the suppliers to expand their manufacturing facility to meet the rush demand for its new product, but we have to make our own judgment as the big orders only last for a few months,” said a manager at an Apple supplier. “For example, Apple might want us to increase 100 production lines, but we would only add 50 to 60 gradually.”

The screen maker Wintek was another supplier that over-expanded on Apple hopes. The company expanded its facilities on the prospect of growth, but ended up losing new orders when Apple shifted to new technology to make screens thinner, people familiar with the matter said. The company has suffered major operating losses.  The subsequent word is out in the supplier community, that Apple is very demanding of their suppliers, but not always committed.

The blog also notes that “Apple has built up an army of supply chain managers over the past few years to squeeze costs, people familiar with the matter said. Many of these were hired directly from suppliers, so they know exactly where suppliers’ costs are. Apple’s contract manufacturers have seen their profits margins shrink as Apple flexes its muscle on component pricing, the people said. Apple has also tightened its oversight of factory conditions, which means higher costs for suppliers who have to comply with the measures.”

The approach to ruthlessly pursuing price reductions and using the marketing power is certainly one that traditional procurement executives have used for years, but one which everyone in the industry is recognizing as obsolete.  And the results are also predictable.  On October 6, GT chief Mr. Gutierrez told Apple that his company had sought bankruptcy protection.  GT shares collapsed 93% on the news, wiping out roughly $1.4 billion in market value. The story demonstrates why simply “checking the boxes” on sourcing strategies aren’t enough;  people actually need to manage and communicate with their suppliers, especially the important strategic ones.

 

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I was in Houston yesterday evening, speaking to a large group of procurement executives at a roundtable held by KPMG’s Procurement Advisory Group, at the fabulous Brennan’s restaurant on Smith Street.  The event was sponsored by Coupa, one of the leading providers of software, and several of the Coupa executives from the Houston area and from California were present.  The event was well attended, with over 40 executives present.  I had an opportunity to speak with a  number of executives from various organizations, including the Port of Houston, El Paso Exploration, Baylor College of Medicine, Pioneer Natural Resources, AXIP Energy Services, LyondellBasell Chemicals, and others.  Prior to the dinner, I also spoke with one of my former MBA students from NC State, Scott Frahm, who has been working at Bechtel for the last 10 years.

The atmosphere in Houston can best be described as “full throttle”.  Everywhere I drove in the city there was construction going on, including a massive re-construction of the Hobby Airport.  Business at the Port of Houston is robust, and the volume is growing, based on the hope that the Panama Canal expansion will drive more cargo into the port.   It seems as if the infrastructure is continuing to grow, based on the strong oil prices we’ve seen in the last few years. However, with the price of oil down in the $70′s, I did sense a bit of uneasiness in the air.  One of the opinions expressed (which I heard from several people) is that the Saudis are in effect hoping to drive out the “bottom feeders” in the industry, referring to the startups that have come out of the fracking craze.  The sense was that the strategy was to drive out competition by forcing oil prices to go lower, and putting these newer companies out of business.

Interestingly, the topic of my presentation was on Supplier Relationship Management, a research area that I have been working on with KPMG for the past year.  I shared insights derived from over 29 executive interviews, talking about the need for organizations to drive mutually beneficial contracts, to share risks and rewards, and to think on how to become more transparent and visible in their planning and actions, to derive greater value to stakeholders.  A big part of the ensuing discussion focused on the important of alignment within the organization, as too often organizations were known to say one thing to suppliers, and to act in a way that was completely opposite to agreed on working principals.

There was also a discussion about the challenges of accessing good data necessary for driving SRM initiatives forward.  One executive mentioned to me that “I came from the Sales side of the organization into procurement, and was used to working with CRM software that would provide me with all the information I needed to know about our customer segments, who were in them, how much business we were doing with them, the products and services and pricing structures we had in place, etc.  But when I came over to purchasing, and looked at the SRM technology that was available, I realized it wasn’t able to provide any of the information I need to have a conversation with my suppliers!”

This topic resonated strongly with me, as I had a conversation with Tim Cummins on Monday at the Zycus event in Amelia Island, and the same conversation with my student Scott Frahm earlier in the day.  In fact, the way that organizations manage relationships and contracting has to change, to keep up with the extremely volatile and complex environment we are faced in today’s global economy.  Procurement executives need to re-think how they establish performance metrics, how they evaluate and measure performance against these metrics, and find ways to resolve the inevitable conflicts when they occurred.  Although this sounds like a simplistic solution, my experience has been that companies don’t do this very well, either because they cannot align their internal stakeholders to this way of working, that they fail to properly define the scope of responsibilities during the contracting period, and they are unable to “sell the benefits” of this manner of working to their senior leadership. This is going to have to change.  The likelihood that oil is going to stick around $70 a barrel for some time is high (based on my quick survey of the room)…and I believe that this means thinking long-term, and not simply reverting to beating up on suppliers.  One executive pointed out that “Nobody cares about procurement when oil is at $100/bbl, but all of a sudden they are coming to me saying “we need to run everything through procurement because we have to cut back!””

This is exactly the root cause of the problem.  Procurement needs to re-think how they are selling SRM to executives inside the company, and how they think about effective relationally-based contracting to survive in a period of $70 oil and increased uncertainty on the horizon.

 

 

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As more data becomes available in the grocery and retail environment, organizations are re-thinking their supply chain processes to drive increased automation, improved performance, and increased inventory turns.  They are also re-thinking the design of their supply chains, thinking about how much of their product goes through distribution centers, distributed to stores, or shipped directly from suppliers  to store locations.

I recently completed a study for the International Institute of Analytics,   to provide insights into the following questions faced by retailers confronted with the issue of how to exploit analytics to improve supply chain performance.  In doing so, I had an opportunity to reconnect with two of my former students, Jeff Behrens, who is now a demand analyst at Lowes, and Kuru Subramanian (one of my first Research Associates I worked with at NC State!) who is now a consultant at Wipro, and who worked for years as a demand forecasting analyst at Tesco’s.  I also interviewed executives at Key Foods in New York, and P&G in Europe.

All of the companies we benchmarked have a different systems and analytics capability.  In general, all retail chains use a very simplistic approach, which generally consists of looking at prior year’s sales, and running historical promotions and coupon sales based on prior year.  Only recently have organizations gotten into complex solutions and tools to forecast grocery. Grocery is an inherently relatively stable category with little fluctuation in demand, except for major holidays.  In most cases, historical sales from the previous year for that week are used to place initial orders, and integrate with POS systems with manual weekly tracking of actual sales.

In general, I discovered some important insights in reviewing these systems:

  1. Forecasting in the retail sector is still a combination of human experience and analytical systems.  There is still some level of human review and scanning required to review/revise computer generated forecasts, due to the fickleness, weather-related, and changing tastes associated with consumer buying patterns in the grocery and retail channels.  Historical seasonal factors associated with holidays and events should be reviewed annually and planned for to optimize supply chain category plans in retail sectors.
  2. Data collected form Point of Sale systems can be compiled and consolidated into categories to detect consumers’ changing tastes and needs, with but should ideally be complemented with vendor insights and reviews to understand what factors may be at play in forecasts.
  3. Automated replenishment systems must be complemented by store-level management decisions for seasonal items, items with short shelf lives, and space planning factors that may impact product presentations and order quantities.
  4. Retail forecasting and replenishment systems continue to evolve, and are being complemented by third party consumer preference panel analytical services, as well as multi-tier collaborative planning systems.

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I was attending the Zycus Horizons 2014 conference at Amelia Island today, listening to speakers.  In addition to the procurement executives, I also got to meet Captain Dick Phillips, the captain of note in the film “Captain Phillips”.  We had a chance to talk about his experience, and he also presented to the group about the incredible experience he went through.  If you haven’t seen the movie or read the book, it is a great story in leadership.

In addition, I sat in on a set of interviews on the main stage.  Chris Sawchuck from the Hackett Group interviewed three heads of procurement from three large companies, and asked an important question.  Does procurement add to top line revenue.  In general, the executives noted that this was a measure that was nice to envision, but not a measure that they could believe in.  How do you possibly show what suppliers do that could impact revenue.  the response was somewhat lackluster….

“In general, there are restrictions.  Some issues are customer-driven, but can procurement really affect revenue in a way that is believable by the organization?  It will always be difficult to change that perception.” Based on that feedback, Chris asked a different question:  “Looking out to 2025 –will we be using the same KPI’s as we do today?  And if not – what will change?”

The first response, from Anders Lillevik, Global Head of Procurement Support Services, QBE North America, provided a very interesting perspective:

“I’ve been doing procurement for a long time, in many different companies.  And we follow a pattern: you do an assessment, a sourcing wave, build a process, and do it over and over.  Over time, you get decent at this cycle.  It is amazing that we do the same things.  We don’t impact COGS much in financial services – but from an indirect side – we will continue to build procurement but won’t build the level of influence as manufacturing.  But vendor management and KPI’s will be impacted – and we need to evolve beyond saving money.  If we define ourselves as a one trick pony – that is all we will be.  Branching into process reengineering and KPI’s will be important.   But what one measure will be involved in 2025?  I would love to see a measure of the number of crises averted by having better management.  The vendor defrauded you, went belly-up, they printed someone’s information on the front of the envelope!  How can we proactively NOT get into those situations.  It is good and bad – that is what makes procurement investment very visible – but not the kind of attention we want.

A second response was provided by Niklas Hamnstedt Chief Procurement Officer at TE Connectivity: “I would like to see a stronger rating of supply risk and a supply risk metric.  If I could punch a button that yesterday we were at 50 now at 45!  Also more end to end KPI’s – our own inventory – but don’t have supply chain lead-times on end to end.

Finally, a response by Alex Brown, Chief Procurement Officer at AMD: “Two new areas of focus.  I can see the light that will maybe be a freight train someday.  From a corporate margin, can we measure not just cost savings but how are they contributing to the gross margin of the company? Another one that is predominant in manufacturing is corporate responsibility, around conflict minerals and human rights.  People will measure you on how well you are managing your supply chain.”

These insights provide a clue as to the real underlying value that procurement brings beyond price savings.  But the real value is not yet being fully realized, and we are only starting on that journey.  But it requires leadership, and individuals who are willing to take on risks beyond the “usual” procurement model discussed by the speakers.

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