What’s Ailing Supply Chains?

The supply chain and logistics discipline started during World War II when armies needed to be supplied to multiple global theaters beginning from Northern Africa to Europe to small Pacific islands. Sophisticated planning and coordination effort at a period when there were no computers and the world wide web. The ability of military planners to achieve this feat caught the eye of the commercial industry. At the end of the war, they hired the experienced veterans to run their supply chains which had started to span the globe. Now, let us proceed to the current times once we have computers, the internet, and real-time data systems. One would expect to see further strides in supply chain management. Unfortunately, United States Government Accountability Office (GAO) was highlighting for the last several years that “Department of Defense supply chain management as a high-risk area due in part to ineffective and inefficient inventory-management practices.” We’re talking about hundreds of billions of dollars in surplus inventory with substantial back orders. Plainly said, the Government has too much inventory it does not need and too little the things it needs to fight wars leading to several billion dollars of losses to taxpayers each year. More importantly, it compromises military readiness.

Is this problem unique to the Government agencies? No. Any large corporation, whether retail, auto, oil & gas, consumer products, healthcare and any other manufacturing industry will tell you that they experience the same problem. They’ve a massive inventory of items their clients aren’t buying and back order of things that are selling. The issue is quite acute. It is estimated to take Gap, Inc. 9 to 12 months for their new designs to accomplish the marketplace. Imagine attempting to predict fashion trends in advance, and then start the process of procuring cloth and making clothes globally to provide markets. On the flip side, Zara claims it takes them 10 to 15 days to get merchandise from the design stage to stores. They’ve designed a highly responsive and demand driven supply chain which they credit for their achievement.

Before we discuss the root causes of supply chain problems, let’s understand what drives supply chain performance.

 What drives supply chain performance?

A supply chain is a process of accepting material from suppliers through manufacturing and distributing to end users or customers. Below is a simple pictorial that explains the procedure. It would, naturally, vary from industry to industry and depending on the scale of operations can get quite complicated.

Supply Chain

There is a simple metric to comprehend supply chain performance — Total System Cost (the impact of customer service is built in as out of stock or missed opportunity cost). The goal of the supply chain is to minimize the Total System Cost or maximize profit. The costs are lower at suppliers and build up quickly as you get closer to end users or customers. Based on the business, sales cost can range from 20% to 50% of the total system cost. For some industries, the total system cost will go beyond their four walls and might incorporate inventory being held by dealers or wholesalers to provide an overall perspective of the supply chain.

Supply Chain Cost Drivers ver2.jpg

What are the critical challenges with supply chain?

  1. Hidden cost: Because of General Ledger structure in many businesses, costs get allocated to different functions which fail to provide an overall picture to management for decision making. A few expenses like missing sales never appear in GL. In our experience, sales cost is typically computed wrongly as the opportunity cost of lost sales and inventory costs are not well understood.  Inventory cost includes the cost of carrying the inventory, warehousing, obsolescence, pilferage and other expenses. Similarly, missed sales cost should consist of the lost margin and the effects of lost advertising, after sales earnings and possible long-term effects of losing clients to the competition.  Without proper computation of costs, management can end up making decisions that aren’t financially sound. Sometimes decisions are made to hold more stocks or run larger batch sizes without actually understanding its impact on the total system cost.
  2. Silo decision making: Most managers tend to make a decision that optimizes metrics they’re accountable for, without understanding interdependencies and influence on other areas of the business. By way of example, manufacturing might want to increase the batch size to improve throughput without completely taking into consideration inventory and obsolescence costs upstream.
  3. Old planning processes: Companies have implemented ERP systems. Financial transparency and management are the primary focus. The business processes for most other functions have been ported from pre-ERP days to ERP, without fully utilizing the capabilities of the new system. So, the new system instead of being helpful works as a roadblock to achieving business results. To our surprise, we’ve discovered many supply chain planners use Excel to plan their dispatch rather than utilizing the capabilities of the ERP system.
  4. Increasing complexity: Supply chains are becoming complexity. The trend towards globalization has extended supply chain to its limits. It is common now for goods to be manufactured in China, assembled in a third country before being sold in the U.S. The lead times have become longer which directly affects system inventory. Additionally, SKUs have increased due to the desire of companies to customize. One merely has to visit a grocery store to see how many different varieties are available for simple things such as salt or yogurt. Product proliferation significantly raises costs all through the system — more goods have to be manufactured, they have to be held in inventory and higher potential for going out of stock.
  5. Impact of SLAs on costs: Sales organizations might not be fully aware of the financial effect of service levels. In their desire to perform better than the competition, sales teams make promises that could break the bank and the supply chain. At a global telecom company, the sales staff was signing contracts with unrealistic lead time for shipping of equipment. It leads to significant penalties.

What can companies do?

  1. Get total system cost: Finance organizations can put together a high-level total system cost picture that may significantly assist in making educated supply chain choices. The trickiest part is to estimate the sales cost since there are no agreed norms for estimating stock outs and missed opportunity cost.  With some fundamental principles determined (such as stock price as 15% to 20% of inventory value), these could be estimated consistently across product segments or lines.
  2. Ensure company goals drive company metrics: It is vital to link functional metrics to overall organization goals to steer clear of silo decision making. By way of example, for high margin businesses, manufacturing throughput isn’t as critical as responsiveness to orders. There’s a need to know interdependencies better to reduce overall system price.
  3. Move to demand-based planning where feasible: Due to ERP and point of sale technology, demand data are now readily available and can be used to plan for dispatch. But many businesses and government agencies spend enormous time and money attempting to predict customer demand and utilize it in shipment planning. Which one you believe is more accurate, actual demand data or prediction based on historical data?  Procter & Gamble in India implemented demand-based planning which reduced total delivered price from 75% of earnings to 55% of earnings, reduced system inventory from 115 days to 60 days, perfect order (right amount, right time, right billing) in 40% to 90 percent and enhanced quality (PPM) by 30,000 to 5,000.  Then, why demand-based planning isn’t typical?  Well, it requires a significant change in direction. For instance, you need the discipline of not producing more than what’s being demanded by customers. This is tricky when you’re handling organizational silos and older ways of cost accounting.
  4. Manage complexity: We can’t change the move towards increasing complexity — globalization and demand for personalized services are likely to continue. Apple established iPhone with a single version; today it comes in so many different sizes and colors. A better method is to consider how best to manage complexity with supply chain design. Products that have routine demand, it’d be logical to have a streamlined manufacturing and supply chain. But products which have unpredictable demand (for example, cosmetic) an assembly line production won’t be suitable and would require much more flexible manufacturing and supply chain.
  5. Make sure sales team understands the cost implication of service levels: Most companies don’t have a suitable means of assessing the fiscal impact of different service levels. A modeling exercise could provide insights into the cost involved.
  6. Utilize data to identify improvement areas: Data analytics can not only offer timely reporting but also help in modeling and simulation exercises.   For instance, some businesses assume that their network layout is fixed. But, data analytics may offer insights into how to optimize and tweak the system because of market demand changes due to seasonality or changes in customer preference.

Supply chains can provide a significant competitive edge to businesses. Getting total system cost to drive design and improving business processes can resolve the underlying ailments. Processes like demand-based planning, tiering of supply chain based on demand pattern and rationalizing service levels based on customer profitability have shown to boost supply chain performance.

About Author:

Suman Sarkar
Partner / Three S Consulting

Suman’s mission is to help clients achieve a competitive edge in the marketplace. With more than 20 years of international consulting experience, Suman has a proven track record delivering an innovative and strategic approach with outstanding results.

Supplier Engagement

Most successful companies acknowledge the importance of their suppliers in their achievement.  This could be driving innovation, running operations, improving efficiency among other things.  If this is true, then it’s essential to have supplier engagement that delivers business results.

We have observed that most supplier management programs don’t get enough attention or designed to drive business results.  For instance, when Dell computer began, it collaborated with suppliers to quickly bring innovation to market.  However, with time, Dell changed its focus to be cost efficient and dropped its focus on bringing innovation to market. It pressured suppliers to reduce prices. This along with other steps led Dell to lose its edge over time, as suppliers started to take their invention elsewhere.  Dell’s products were no longer cutting edge, and Dell lost its image of being cool. You wonder what motived the change in supplier engagement since hi-tech products sell because they are cool and not because they are cheap. Apple continues to command a substantial premium in the market because of their focus on innovation.

Did Dell providers meet quality, timeliness, and other tactical metrics? I am confident that they did. Then what went wrong? Well, at a fundamental level, these steps don’t connect to business goals.  These measures offer assurance to procurement and manufacturing organizations that suppliers can run their delivery procedure well.  But they are inadequate to measure whether suppliers are driving overall company success.

Most firms have rolled out supplier relationship management programs with their key suppliers.  My biggest gripe against current programs is that they are tactically focused and are grossly insufficient in helping companies achieve their business objectives.  Some of those critical problems with these programs are:

  1. Lack of Partnership: For most American companies, the relationship with suppliers is somewhat adversarial. Providers are supposed to give service whereas the firms are clients who pay for them.  There’s a mindset that suppliers are subservient to the needs of their corporation.  They lack a partnership approach and a collective focus collectively on the same goal. Imagine having a similar relationship with your significant other, how long will that relationship last.
  2. Insufficient expectation setting: Most businesses lack a good way of setting expectations with providers. The idea of Service Level Agreements (SLAs) is not widely used.  When SLAs are used, they do not tie back to the business goals, i.e., they concentrate on jobs performed by supplier instead of business objectives a business is interested in attaining.  For example, most Janitorial contracts have SLAs that specify the frequency of cleaning and not the way the customer perceives cleanliness.  If a Janitorial company cleans at a rate agreed in the However it doesn’t achieve the cleanliness as perceived by customers, then SLAs aren’t linking back to the objective of cleanliness.
  3. Emphasis on price vs. service: In companies where supplier relationship management programs are employed, we found overwhelming focus is on price and not on service. It seems the role played by business organizations in setting up these programs is minimal, mainly being driven by procurement organizations.  It may be easy to measure price, but it doesn’t assure that suppliers are providing the right service as desired by the business organizations.   There is a need to review the supplier metrics to ensure providers are focused on the right areas.
  4. Limited supplier feedback and communication: Generally, most discussions with suppliers concentrate on providing them with feedback on their performance and the areas they can improve. We all know companies can also do things at their end that can help improve the overall outcomes.  To our surprise, many managers who take part in the supplier discussions don’t knowingly ask suppliers for feedback and providers are hesitant to provide the information for fear of alienating clients.  It’s a missed opportunity for cooperation and partnership that might be readily exploited.
  5. Emphasis on punishment vs. incentive: It’s well known that positive enforcement works better than negative enforcement. Ask anyone who needed to help steer their kids in the right direction.  So, why then do we see that most supplier contracts only contain penalties for non-performance and no incentives for doing above and beyond expectations?  It appears the overwhelming view among procurement teams is that providers are incented for performance when a company provides them with additional business. This may be true. However, behavioral scientists will tell you that direct incentives work better than indirect incentives. The incentives and penalties do not have to be material, but a token something always aids in recognizing supplier efforts at a regular frequency.

What needs to change to create supplier engagement strong?   

A partnership approach. It starts with accepting the fact that suppliers bring value to the table. This is the reason why companies employ them in the first place. They are capable of providing excellent results in their particular area of expertise.  The aim of supplier engagement should be to enable suppliers to perform and hold them accountable but not to micromanage.

Below are steps we found useful in holding suppliers accountable.

  1. Clearly defined business aims: It is essential to think beyond the product or service a supplier is providing and understand the underlying business goals to get much better value from supplier engagement. For instance, one of our financial services customers offers free bus service to its employees to transfer them from New York to their offices in Connecticut.  The business goal, in this situation, is more than merely providing safe transportation to the employee. The company wants its employees to be productive while traveling, a trip that requires an hour or two each way.  A transportation provider will need to have the ability to address these high-level needs in addition to supplying safe bus rides.
  2. Tie SLAs / KPIs to company goals: There’s usually confusion between Service Level Agreements (SLAs) and Key Performance Indicators (KPIs). For instance: to provide excellent transportation service to the financial services client, an SLA for the transportation provider is going to be drivers that are exceptional in customer service along with the safe driving record.  Drivers are the first and last person to interact with employees daily.  To measure how well transportation provider is doing in this respect, KPIs might incorporate worker feedback on driver behavior, how well they kept the employees informed during the drive, their helpfulness and others. These metrics will be in addition to driver’s driving and accident records.
  3. Provide both incentives and penalties: Link penalties and incentive to the KPIs upper and lower limits. Providing small financial benefits/pain guarantees focus from the leadership of both companies on these metrics. But it is critical that these penalties and incentives aren’t material since there’s a risk of diverting supplier attention away from the job at hand.  Also, I like to provide incentives to softer measure like customer support/feedback and penalties to hard measures (such as timeliness, quality,) which are in supplier’s control.  For example: In Pharma, particulate contamination (microscopic dirt) is now becoming a real problem for medical devices companies.  This type of contamination is hard to control.  In a situation like this, Pharma companies can consider providing incentives for medical devices firms to decrease particulate contamination (not completely under their control) whereas penalties around product performance / dimensional accuracy, etc.
  4. Use fact/data for performance measurement: Opinions are easy to get whereas facts are difficult to collect. An engagement works better if it’s based on facts and data rather than swayed by subjective perceptions. Facts/data enable providers to concentrate on tasks and having productive discussions without emotions. I occasionally get pushback for focus on facts as managers believe not everything could be captured with data. This could be accurate, nevertheless, developing the right KPIs will help in devising proper methods for information capture. The facts could be collected via surveys, feedback on performance from key It helps to be transparent with providers on when and how data will be captured so there’s no concern on how their performance will be measured.
  5. Be open to two-way feedback: Though the focus of the supplier engagement is to ensure supplier is providing the agreed level of support, it always helps to be open to feedback from providers. I’ve received outstanding ideas from suppliers on improvements. Missing out on chances to acquire supplier feedback is plain unwise.
  6. Establish regular cadence: Establishing a regular cadence to measure and communicate supplier performance is good. This avoids surprises and allows for the timely repairing of any difficulties.  The most significant advantage is that providers realize that somebody is reviewing their performance and publishing it to stakeholders.  This is the best way to hold suppliers and internal organizations accountable.

Most supplier engagement/relationship management programs are tactical and punitive in nature and don’t assist in building a long-term relationship with suppliers.  Thoughtful design will allow companies to drive better business results with help from suppliers.

About Author:

Suman Sarkar
Partner / Three S Consulting

Suman’s mission is to help clients achieve a competitive edge in the marketplace. With more than 20 years of international consulting experience, Suman has a proven track record delivering an innovative and strategic approach with outstanding results.

The Future of Sourcing – Business Partner to Business Leader

Sourcing evolved from transaction management to category management sometime in the 1990s. This had a significant impact on the way corporate leadership viewed sourcing professionals. Sourcing moved from an organization that finalized pricing into an organization that provided experience on the dynamics of supply market and helped companies drive value through the total cost of ownership. To make this transition, companies hired MBAs with an ability to comprehend functional strategies and use supply markets to support them.

Evolution of Sourcing / Procurement Organization

Sourcing Evolution ver1

What’s next?

Logically, the next evolution will probably see sourcing professionals directly contributing to business strategy — moving from being a cost center to becoming an essential part of the business very similar to its marketing or R&D organizations. For want of a better term, I am calling the next evolution as Sourcing 3.0. A sourcing team’s contribution to company strategy will be through developing and managing strategic suppliers who will drive business outcomes like increased revenue, reduced dangers or decreased price in a business level. Strategic providers can execute a variety of role for a company. They have a considerable effect on business outcomes. Traditionally, these providers were considered out of scope for sourcing organizations since they needed different skills and toolkits than currently exist, and companies preferred to manage them directly.
CPOs recognize strategic suppliers as an opportunity area but emphasize the issues with insufficient toolkits and abilities in their company to effectively engage these providers.

What are these different skills and toolkits?

Working with strategic providers needs two essential skillsets — a collaborative mindset and an analytics-based approach. This differs from the approach used for category management where market / competitive forces drive efficiency.
As an example, among the tools we’ve employed is the “Should Cost” modeling. We’ve used the “Should Cost” models across many industries and corporations where we readily shared the information with the strategic suppliers. This approach demands financial and analytical experience in addition to the commercial expertise typically needed from a buyer in a strategic sourcing organization. Additionally, it requires “influencing skills” to treat suppliers as real business partners. These multi-year relationships need careful ongoing relationship management by linking performance to business goals.

Example of a toolkit – “Should Cost” modeling


Sourcing organizations have been developing cost models. It’s critical for strategic suppliers as understanding the underlying costs can identify opportunities for outcome improvements.

This concept is sometimes confusing to our clients as they believe the objective of cost modeling is to decrease costs, and they don’t understand the linkage between the improvement of result or service. Cost modeling is a tool that can also identify areas where cost could be added or redirected so as to improve service or quality of the product in addition to making the operation more efficient.

Below is an example of a should cost modeling. A technical call center contract at a Pharmaceutical company required that the provider maintain infrastructure at a particular location with a set of stringent technical requirements. The requirements changed significantly over time due to changing business environment; however, both firms struggled to figure out how best to redefine their relationship.
Should Cost modeling showed significant potential for service improvement by spending more on agents who attend the phone and less on overhead areas like program management and administration. The change in the contract was also a win for the provider as they now have greater flexibility in establishing the infrastructure and location.

Restructuring of Strategic Call Center contract through Should Cost Modeling

Call Center Cost Model ver1

How then do we affect change?

Creating these new capabilities could be the change agent which will evolve sourcing organizations from a cost center to becoming an integral part of the business enterprise. This resembles the category management expertise that led to the evolution of the procurement organization to a strategic sourcing organization in the late 1990s and early 2000s.

About Author:

Suman Sarkar
Partner / Three S Consulting

Suman’s mission is to help clients achieve a competitive edge in the marketplace. With more than 20 years of international consulting experience, Suman has a proven track record delivering an innovative and strategic approach with outstanding results.