VideoJohn O'Connor doesn't mind surprises — as long as he knows about them before everybody else. Whether it's a power outage in Wichita or an earthquake in Chengdu, "if I hear about it for the first time on the news, something has gone wrong," says O'Connor, director of supply-chain risk management at Cisco Systems, the computer-networking giant. He relies on a subscription-based incident-monitoring service to instantly send out an E-mail alert about any event that could impede the flow of goods from, to, and between Cisco's roughly 1,000 suppliers. By the time the rest of us are first hearing about a crisis, O'Connor has already consulted Cisco's crisis-management dashboard, onto which he has mapped nodes for all of Cisco's manufacturing partners, component suppliers, and logistics providers.
Right away he can see how much revenue is at stake and whether one of Cisco's top 100 products — which account for 50 percent of its revenue — could be delayed. If production has slowed or stopped, when will it return to normal? He can find that out. Does the supplier have another site, or does Cisco have to switch to a secondary source? No guesswork needed. In short order, the pipeline to O'Connor's brain is stocked with the right information so that a Cisco manufacturing crisis-management team can set up an alternative source or route.
Like Cisco, other companies have learned how to respond swiftly to external disruptions of their supply chains, whether natural or man-made. Now they must address a growing threat on the horizon: the prospect that a supplier, strangled by tightening credit, will cease functioning. That risk has grown as companies have increasingly partnered with single-source suppliers, signing long-term agreements in exchange for better pricing.
Cisco is getting on top of this risk, too. Late last year, the company began to screen the financial health of its publicly traded suppliers via Moody's KMV's financial monitoring service. Based on three drivers — the market value of a supplier's assets, the supplier's asset volatility, and its capital structure — Moody's calculates the probability of supplier default, or "expected default frequency." Cisco also keeps a watch list of companies that may be approaching trouble, and uses a heat-map visualization tool to see, literally, what impact various scenarios may have.
By accentuating the negative, Cisco hopes to avoid falling victim to it. The term for this particular form of disaster-preparedness is "resilience," and it forces supply-chain managers to confront a delicate balancing act: how to implement risk buffers while staying true to lean supply-chain principles. "There is a real tension between resilience and the need for savings," says Mauritz Plenby, director of corporate and global trade compliance and risk management at Eastman Kodak Co., the imaging technology giant.
"If you want to have a lean environment, but also one that is focused on resiliency, you have to acknowledge the trade-off," adds O'Connor. "Sometimes what you do will run counter to your lean metrics, such as slowing down inventory turns or reducing purchase commitments."
Slack Is Back
As supply chains have grown leaner and more complex, they have also become more vulnerable. In a recent survey of 169 finance executives by CFO Research Services, the sponsored-research arm of CFO magazine, more than half said their companies' performance has been adversely affected by logistics disruptions and underperforming supply-chain partners. About 40 percent of finance executives agreed that there was "room for improvement" in how their companies formally assess supply-chain risks.
How much room? Lots, apparently. In a 2008 survey of 110 risk managers by Marsh, not one characterized his or her company as "highly effective" at supply-chain risk management (see "Weak Links" at the end of this article).
Getting it wrong can be costly. In one study, PricewaterhouseCoopers analyzed 600 firms whose supply chains experienced disruptions and found that their financial performance suffered for about two years afterwards. Within one day of reporting supply-chain problems, a company's share price dropped an average of 9 percent. A 2005 study of 800 companies came to similar conclusions.
And it doesn't take a major earthquake or a hurricane to shut down a supply chain — far from it, says Rob Handfield, professor of supply-chain management at North Carolina State University. "It could be something [small-scale] that happens in a village somewhere in China." In fact, Kevin O'Marah, chief strategy officer at AMR Research, goes so far as to say that "protecting against natural disasters is too expensive to be worth it. The more mundane stuff is the bigger issue."
Such prosaic pitfalls include rising input costs (think of the recent volatility in commodity prices) and tightening credit and working-capital requirements. Any of these can nudge a supplier over the edge. Preventing that from happening means knowing in advance that, say, a critical supplier in Eastern Europe carries hefty debt that is soon to mature, or that another is approaching bankruptcy. Companies that outsource manufacturing (as Cisco does 95 percent of the time) likely want similar information about their contractors' suppliers and the companies that serve them.
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