Over the past 30 years, the winning formula for U.S. manufacturing firms has been simple: outsource as much production as possible to low-cost centers in Asia and ship the goods across the Pacific.
That model had a good run, but the unprecedented supply chain disruption affecting every corner of the economy is a glaring sign that manufacturers’ luck has finally run out.
A surge in shipping costs is hammering middle-market firms. It’s showing little sign of abating amid rebounding U.S. consumer demand and persistent supply disruptions abroad. It costs around $20,000 to send a 40-foot container from China to the United States, up around 500% from a year ago. Dozens of ships have to anchor for days or even weeks off of key U.S. ports like Long Beach that cannot cope with the swell in import demand.
Any manufacturing industry CFO who thinks they can go back to business as usual after this period of logistics sclerosis is misguided. On the contrary, the crisis is a wake-up call for companies to re-think old assumptions and take bold steps to reduce their supply chain risks and bolster their capacity to weather future shocks.
These actions are particularly crucial now, given the rising risk that inflation will trigger a hike in U.S. interest rates, posing a double threat of higher input expenses and a jump in debt servicing costs.
The recent chaos has laid bare the need to take a more strategic, risk-based approach to foreign supply chains — a departure from the usual practice of viewing them mostly as a way to save on costs.
There’s long been a discrepancy in how U.S. firms monitor and coordinate with their domestic suppliers compared with their foreign suppliers. The former tend to be well integrated through enterprise resource planning systems, while relations with the latter rely on late-night emails and phone calls to Asia to find out the problem. As a result, issues affecting a whole section of the supply chain often don’t make it up to decision-makers at the highest level.
Now’s the time for manufacturing CFOs to make strategic investments to eliminate that gap in visibility and coordination. That could mean investing in supply-chain talent or in sophisticated “Industry 4.0” tools that enable tracking production from procuring raw materials to shipping products. Key executives should know every risk in the supply chain to manage it on a daily and weekly basis.
A good first step might be to perform a 360-degree analysis to understand the gap between where a foreign supply chain is versus where it needs to be. Independent third-party research can often reap some immediate low-hanging fruit, such as finding alternative shipping options or suppliers while also identifying longer-term needs in technology and systems.
Internal management teams should have access to a dashboard that shows five crucial indicators of supply chain risk: quality, delivery, geopolitical risk, pricing, and currency levels. Staying on top of currency moves, for example, enables executives to adjust the timing of supply orders beneficially. It can also provide opportunities when the U.S. dollar weakens for pushing export sales to markets with stronger currencies.
CFOs and other key executives need systems that let them break down and analyze a bill of materials to assess where the biggest supply chain risks lie. Suppose a critical item shows up as vulnerable to shortages or delays. In that case, that’s a trigger to evaluate alternative supply options that could help avoid the kind of disruptions experienced.
Ensuring that production isn’t overly dependent on a single supplier is an area where many manufacturers falter, and it’s a key factor behind the current problems. Contrary to common practice, relying on one supplier for 85% of production and using an alternate supplier for the remainder doesn’t constitute a shock-proof strategy.
If the primary supplier shuts down, the alternate may not be able to take up all the slack or may not be inclined to do so if it feels treated like a second-class partner. Therefore, a far better strategy is to engage multiple suppliers in different regions that can produce a significant share of supply (30% to 35%), and that can be switched on and off with relative ease.
Many of these practices fly in the face of the traditional philosophy of just-in-time inventory management focused on cutting supply chain costs to the bone. The future calls for investment in supply chain professionals who can manage relationships and implement systems to integrate with and monitor suppliers. Continuing to run a supply chain that’s hostage to logistics bottlenecks, price instability, and poor visibility will ultimately result in increased business risk and disappointed customers.
Lou Longo is a partner at Plante Moran. He leads the international consulting practice.