Learnings From Caterpillar — Procurement Strategy, Supply Risk Mitigation and Rising Order Volumes

Timothy Aeppel, who often covers the procurement and supply chain area for The Wall Street Journal, published an extremely informative piece this morning that details how Caterpillar, perhaps the ideal industrial bellwether company to consider as a thermometer to gauge the temperature of the economy, is preparing itself and its suppliers for the “bullwhip” effect of an economic recovery. The article is a must read piece for anyone in procurement or operations. It includes insights into specific supply risk management strategies and programs that CAT is deploying. The article suggests that Caterpillar is extremely involved in monitoring the operations of suppliers to insure that they can meet increased demand in 2010 even in a slow recovery situation. The entire situation reminds me of a real world simulation of the supply chain beer game which I previously wrote “teaches the challenges of managing and communicating supply and demand signals across multiple tiers of a supply chain -- and its impact on availability and inventory as a result. Besides its educational value, the beer game can be fun, especially on a Friday afternoon, when you can drink the game pieces once the demonstration is over.” But in this case, there will be no toasting or office high-fives if Caterpillar does not get things right.

Consider how "Caterpillar recently told its steel suppliers that it will more than double its purchases of the metal this year -- even if the company's own sales don't rise one iota." This forecast, even under a less than rosy economic scenario, is due to the bullwhip effect where "even small increases in demand can cause a big snap in the need for parts and materials further down the supply chain" due in large part to the rapid leaning out of CAT's inventory and supply chain in 2008 and 2009. Moreover, "even if demand for its equipment is flat this year -- an unlikely projection it [CAT] calls its 'Great Recession scenario' -- it would still need to boost production in its factories by 10% to 15%, just to restock dealer inventories and meet ongoing customer demand." And even at this level, the WSJ suggests, CAT's suppliers would have to increase production 30% to 40% just to keep Peoria's production lines running. More optimistic scenarios (e.g., a 15% spike in demand) would force many of CAT's suppliers to "more than double their shipments," according to one source the article quotes.

To insure that they suffer less impact as a result a of the bullwhip effect compared with other industrial manufacturers, many of which might have supply chain overlap with common supply bases, CAT even "took the unusual step late last year of visiting with key suppliers to ensure they had the resources to quickly boost output," Aeppel reports. For those in the supplier management world, we know these types of visits should not be infrequent under ideal supplier development scenarios. But in this case, they are remarkable considering that as part of their efforts, CAT appears to have taken strides to make sure suppliers can meet forthcoming demand from both production and capital perspectives. To this end, Caterpillar is acting as a supply chain finance intermediary for its suppliers, offering a new "program that allows suppliers to borrow money from a bank, against their receivables, at a favorable interest rate. This means they can tap the loan funds within five days of delivery of goods to Caterpillar—as opposed to a typical 60-day wait."

The rest of the article provides numerous examples that I'm sure will provide a ray of hope to those who thought manufacturing in North America was in a state of permanent decline. Just as fast as orders dried up 12 months ago, we could see a massive rebound, testing the limits of production and available skilled labor at many smaller suppliers who were on the brink of insolvency at the end of 2009. To pave a smoother transition for its suppliers who are in the process of ramping-up capacity, CAT has even agreed not to change order volumes for a period of three months under a new "freeze period" plan which will "give suppliers greater ability to plan ahead and persuade banks to increase their financing, since there's no chance of the business suddenly falling away again during that three-month span."

Hopefully, CAT's example will serve as a wake-up call for companies that under-invested in supplier development, supplier management and supply risk management going into the downturn. Moreover, it also highlights the even larger forms of supply risk that procurement organizations face under an even moderate restocking scenario toward the end of a recession compared with the insolvency risk of suppliers during a downturn. Kudos to the WSJ for surfacing the details of CAT's current direct materials procurement, supplier management, supplier development and supply risk programs and calling attention to a subject that we should all think about more often. If you're not thinking and acting like CAT today, you should be, even if you don't believe a lasting recovery is around the economic corner.

Jason Busch

First Voice

  1. Rose:

    good article

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