The risk of supply chain disruption has obviously become more prevalent over the past few years. Disruptions come from the globalized nature of the supply chain, just-in-time inventory management, consolidation of vendors through strategic sourcing activities, and overall geo-political changes, amongst other areas. Many sourcing departments consider supplier risk, but typically only from the perspective of the supplier's financial strength and not the geographic location and concentration of suppliers. Additionally, more often than not, sourcing activities do not involve the company's risk manager.
For the average company, the impact of a supply chain disruption is an afterthought, even though company boards increasingly have business interruption on their short-list of concerns. Surprisingly, over 85% of companies surveyed by Zurich Global Insurance experienced a supply chain disruption in 2011 and over 50% suffered more than one disruption. Disruptions, caused by natural disasters alone were significant. The financial devastation incurred from two major natural disaster events in 2011 are detailed below:
The impact from component supply disruption can be substantial. According to Zurich, companies, on average, experienced 9% lower sales and 11% higher COGS from a major supply chain disruption. More staggering is Zurich's estimate that nearly 40% of companies do not recover from a major disruption and ultimately go out of business.
Insurance underwriting for supply chain disruptions has historically been straightforward and required less information for coverage. However, in light of recent global disruptions, underwriters are requiring more detailed information and analysis on the impact of a supply chain disruption on profit margins. This allows underwriters to calculate a risk profile and subsequent coverage premiums.
Determining supply chain risk is not about insurance coverage; it is about de-risking the supply chain. This is achieved by developing alternative supply base sourcing, having agility to alter inventory levels during a disruption, and understanding the level of risk being entered into during the sourcing of key suppliers and components.
Many of our clients have developed a leading practice approach to address supply chain risk, which enables risk determination and quantification, along with specific and actionable mitigation plans. Because large-scale disruptions are generally infrequent, most organizations will recognize the issue, but delay action due to higher immediate and tactical priorities, lack of resources or lack of executive attention. Our experience indicates the most effective methodology for addressing supply chain risk involves executive stakeholder buy-in, detailed impact analysis, supplier assessments, and development of mitigation plans.
Purchasing managers must collaborate with finance, supply chain, operations, and now additionally risk managers. Key cross-functional activities should include determining the supply chain risk profile and estimating impact, as well as creating adequate risk mitigation plans to respond to any global disruption event.
De-risking the supply chain takes time and focused effort, but is a requirement in today's turbulent global environments. Traditional supply chain management activities alone may not be sufficient to effectively survive a major disruption. We have found that the key activities listed above are recognized by management as important, but not urgent, and therefore often don't generate high-profile proactive action. In addition, we have found that the cost of implementing these activities is relatively low, and more a function of focus than the allocation of discretionary expense. Try to begin addressing supply chain risks in your next budgeting cycle, allocate the time and resources to developing the de-risking plan, and be prepared for the next unexpected event. The operational challenge is that we all know there will be a disruption, we just don't know when and we don't know the magnitude -- therefore an approach to de-risking the overall supply chain is required.
Craig can be reached at 312.601.4247 or at cmcclory (at) alvarezandmarsal (dot) com.