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Risks and disasters come in all sizes. On a national level, the 2011 Japanese earthquake and tsunami was followed by flooding in Thailand, which disrupted supply chains and caused widespread economic losses. Former U.S. Secretary of State Hillary Clinton estimated the impact at $200 billion.
More recently, the regional impact of Hurricane Sandy on the U.S. East Coast destroyed infrastructure and caused delays and disruptions to supply chains; it closed ports and necessitated rerouting shipments, extending the storm’s impact well beyond the zone of physical damage.
Then there are the man-made disasters, as in the case of an investigation of Apple and Foxxconn that led the two supply chain partners to address work hours and take remedial action addressing health and safety, worker representation, and compensation. Add localized issues like the labor action at the Ports of Los Angeles and Long Beach and the threat of strikes related to the International Longshoremen’s Association (ILA) negotiations with the U.S. Maritime Alliance (USMX) on the U.S. East and Gulf Coasts.
These risks have added to the pile of disruptions to service and business that can literally place a stranglehold on companies’ supply chain lifelines. Risks are tough enough supply chain situations to discuss internally – but they can get even tougher when you’re faced with presenting them to your board of directors.
The Role of the Board
In a for-profit corporation, the role of the board is to represent shareholders. The shareholders are concerned about the company’s ability to turn a profit, to expand and to operate in a sound financial condition. Unsurprisingly, a majority of companies tend to bring in board members who can help the company enter new markets, bring in expertise for new product development, or contribute in some way to the company’s strategic direction. They like to talk strategy, and are less interested in the mechanics of supply chains.
This focus on strategy, with management handling operations, is a product of what corporations and their boards have learned over time. The board understands that it should focus on strategy and on doing whatever it can through personal or other connections to help the company expand. The flip side of this is that the board (and management) understands that board members should not be involved in managing daily operations or in making operational decisions – which is management’s job.
Sometimes these strategic and operational functions can overlap. This is why many organizations define a very precise set of by-laws on how the board is to function, even to the point of setting formal guidelines for the conduct of meetings (such as adopting “Robert’s Rules of Order”).
These by-laws and rules might seem like so much “administrivia” to a supply chain manager – but they can become quite significant when a supply chain disruption is involved. In a scenario like this, the initial impact is operational. Management puts its shoulder to the wheel to resolve the situation and get the supply chain back on track. Unfortunately, the fallout from the disruption, coming in the form of delayed orders, lost sales, quality issues, or even potential damage to corporate reputation, is a strategic area that makes the incident an issue for the board.
Getting on the Board’s Agenda
Quarterly revenues, business performance and impact on stockholders are the normal province of the board. Traditionally, supply chain discussions have been relegated to backburner topics that might appear in operational projects or cost reports presented by the CFO or COO.
Should board-level thinking change to view the supply chain more strategically? With supply chains globally spanning hundreds of countries and thousands of suppliers, the answer is unequivocally “yes.”
The question for companies now is to figure out where the supply chain dialogue should be scheduled into the board’s meeting agenda, and who presents the information. The most logical entry point for a supply chain risk discussion is in the financial report, since this is where overall corporate risk management is often discussed.
Many companies now have dedicated risk management officers who present risk and corporate governance topics to the board. Whether it is the CFO or the risk management officer who presents risk management to the board, it’s a simple step to also include commentary from the supply chain executive (SCE) when the discussion turns to supply chain risk.
“A well-governed company takes a longer-term view that integrates environmental and social responsibilities in analyzing risks, discovering opportunities and allocating capital in the best interests of shareholders” says Georg Kell, executive director of the United Nations Global Compact. The UN group promotes universal principles of dealing for companies around the world. “There can be no better way to restore public confidence in both businesses and markets and build a prosperous future,” he continues.
Today’s global supply chains are part of this process.
Making the Supply Chain Relevant
Unless there is a glaring supply chain emergency that is setting the company back, it is possible that board members who do not have background in supply chain operations or in insurance, banking or risk management, will question why the supply chain (an ostensibly operational issue) should be on the board’s agenda. This is why it is never a good idea to just add the supply chain to an agenda without first educating the board on why a supply chain discussion belongs in the board room, and what risks are involved.
This is an area where the CEO should be the first to step up. The CEO should explain how the global necessity of dealing with complex supply chains and a diversity of markets and suppliers now make the supply chain vulnerable to risks that an organization no longer can fully control. This is also an opportune time for the SCE to present a presentation to the board that breaks the supply chain down into the number of markets served, the number of suppliers and their locations, and the product pipeline itself.
This supply chain presentation can be operational in terms of summarizing how many different parts and processes are part of the supply chain. But the ultimate goal must be to demonstrate how a malfunction in any of these elements can cause a failure and lead to potential financial and brand impact for the company. Once the board understands this, the stage is set for the supply chain becoming a component of the strategically focused monthly risk reporting and analysis that the board receives.
Talking About Supply Chain Risks
Management’s goal in risk management strategy is to demonstrate to the board and stakeholders that it fully understands the risks of doing business, and that it is on top of these risks so that they may either be readily mitigated or avoided altogether. Managing supply chain risk is no different. How does management discuss these risks?
Huhtamäki is a packager that must be prepared to follow its large corporate clients into whatever markets they enter. “We would have to develop extensive expertise in-house to address the best way to handle our freight, or how to handle taxes, customs and other compliance requirements particular to these markets,” says Scott Stuckenschneider, a vice president at Huhtamäki. “In our business, we have to get this work done quickly. To approach it internally would take us much longer and could potentially lead to mistakes.”
Huhtamäki opts to use a third party logistics provider with experience in a new market to iron out the logistics for efficiency and best value, and to keep the risks of doing business in the new market low.
Very large organizations usually have their own in-house compliance and regulatory departments, but even in these cases, it is hard to imagine every scenario that could potentially emerge in a new market when experience in that market is lacking. Because of this, companies spend considerable time in due diligence – studying a potential new market – before they decide to enter. Entry into new markets is risky. It is a topic that definitely should be on the board’s agenda under “risk management,” and it might even prove to be an actionable item that requires board approval. The SCE should be on hand to help present the new market business case and to answer any supply chain-directed questions.
Supplier Report and Forecast
The board is likely to view supplier management as a day-to-day operational issue, and it is. But the SCE should nevertheless be proactive in bringing potential supplier problems to the board’s attention as soon as possible – along with the steps underway to deal with those risks.
Supplier risks can be significant – and they can cost a company goodwill as well as performance and revenue gains. A quick look at the Apple iPhone5 chronology offers a good example:
In late 2012, manufacturing was disrupted when labor riots erupted in Taiyuan, the Chinese city where the iPhone5 was manufactured, and 80,000 people took to the streets. This brought Apple’s Chinese manufacturing to center stage in U.S. politics as the issue was raised in a presidential debate prior to the November 2012 elections.
As a result, Apple announced in December 2012 that it will begin to in-source some of its manufacturing to the U.S., including construction of a new $100 million U.S. plant.
In 2012, Apple conducted 393 supplier audits (up 72 percent from the number of audits in 2011). These were audits of working conditions at major suppliers – performed after a number of cases were unearthed of underage workers, discrimination and wage problems. Apple is now taking steps to correct these situations
When boards hear news like this, they want to be assured (as representatives of shareholders) that their companies are in good shape with suppliers. A good way to do this is to present a monthly supplier report to the board, along with the financial risk management presentation. The report should illustrate how suppliers are performing, how the company is certifying new suppliers, and how suppliers that pose potential risks are being dealt with so the company can mitigate or avoid these risks.
Disaster Recovery and Business Continuation
Most corporate boards are briefed on the corporate disaster recovery (DR) and business continuation (BC) plan annually. Many of these DR/BC plans primarily center on the maintenance of system uptime when communications and system processing are threatened. But, the seamless continuance of business operations is equally important.
For the supply chain, this means that goods and production are able to be rerouted if a major natural or manmade disaster occurs, so the company can continue to move its goods through supply chain channels without disruption. For this reason, the SCE should be championing the inclusion of the supply chain in the corporate DR/BC plan.
If the supply chain is not part of the company’s DR/BC plan, the SCE should address this issue with the CEO and the board first. Once plan development is approved, the plan can be written, and then communicated (and taught) to suppliers and other supply chain partners.
Testing of the written plan should be periodically conducted to ensure that alternate routing of goods and services can be achieved in practice as well as on paper. This will require time and also a budget, which is another reason the CEO and the board have to be firmly behind it.
Several years ago, researchers from Ohio University enumerated a series of steps enterprises should take to safeguard their physical supply chain facilities from disaster. Since that time, the plot has considerably thickened due to the global footprints of most supply chains.
This is one more reason why SCEs and corporate CEOs need to maintain supply chain visibility with the board. If a major risk emerges in a particular market that threatens the safety of goods and employees and a new facility may be called for. That facility will require physical infrastructure, systems, workers and other supporting resources, resulting in capital and operational expense. A CEO and board who have been following supply chain issues and appreciate the risk may be inclined to act with appropriate speed to such a need.
A company could also elect to outsource some of its supply chain work to a 3PL, but this does not eliminate risk. Instead, it presents a different set of risks because the company does not have direct control over its operations.
“You can mitigate your upfront risk, especially in a new market, if you outsource initially, and you can also defer investment,” says Mark Robinson, vice president of UPS Capital. However, once the market grows, the company will need to revisit its strategy and determine whether to increase the outsourcing budget or build its own local presence. Much of this decision depends on whether the company feels that it is better off in the long run to manage risks in the market by being in the market locally, or by leaving the logistics, distribution, cost management, support, governance and even inspection of locally manufactured goods to a third party. This is a strategic direction; the SCE needs to evaluate the pros and cons and present a proposal to the board for approval.
Board knowledge of supply chain risk is as important today as it has ever been – but it is also no secret that many companies continue to lag in this area.
CEOs, CFOs and SCEs have the ability to change this with a series of steps they can take to facilitate regular board dialogues on supply chain risks and the relative health of the supply chain.
These steps include:
- Make sure the CEO and the CFO firmly support the SCE before discussing the importance of the supply chain in strategic corporate thinking with the board.
- Incorporate supply chain risk management into overall financial risk management and corporate governance. This paves the way for regular supply chain health reports in corporate board meetings while preparing the board for potential supply chain mitigation steps or investments.
- Look into financial modeling tools that can help assess supply chain volatility as well as product and service demands, especially for new markets.
- Secure funding and report regularly on supplier audits as part of supply chain risk management presentations.
- Ensure insurance levels for risk management are where they should be.
- Build supply chain resilience and failover into the corporate disaster recovery and business continuation plans – and also budget for planned tests to make sure the plan will really work if it is ever needed.
- Educate board members on the supply chain. Many board members come from banking, entrepreneurial marketing/sales, or research and development backgrounds. Consequently, they are apt to be weak in their knowledge of operational areas like supply chain management. They may also not see the need to talk about it out of a feeling that it is operational. Avoid discussing the supply chain operationally. Instead, focus on building awareness of how a supply chain malfunction can impact the bottom line and also company brand and reputation. When the board sees those connections, they’ll listen.