Managing Today's Risky Business: Identifying supply chain threats, mitigating disruptions, improving strategies


risky businessThis year alone, we have experienced two terrible natural disasters that have severely disrupted our agglomerated, tiered, supply chains. Ensuring that qualified and secured secondary suppliers are part of your risk management strategy is essential in today's multi-risk environment. It seems a simple enough strategy, yet one that must be engaged prior to disruption to ensure business continuity along with transparency, quality and security.

Supply chains have always held risk.  Whether production depends on the flow of raw materials like cotton or iron ore or the delivery of complex integrated circuits, the fundamental importance of efficient, timely lines of supply is the same.  On the face of it, then, one might say that today's risks are not that different than at any other time: natural or manmade disasters, dissolution of supply chain partners and suppliers, changes in regulations, counterfeiting, and the long-standing question of what consumers will buy, when, and from whom. 

What is different are the ways that our supply chains have changed to meet modern demand, particularly for the rapidly evolving and growing electronics sector.  Among the major supply chain changes that have occurred and dramatically changed processes and risks is the move to Japanese tiered supply chains, as argued by Thomas Choi and Tom Linton in their recent article (December 2011) in Harvard Business Review for purchase here.  Another major supply chain development that has increased risk is the growth of agglomeration, or 'clustering.'  As multi-national corporations have added numerous production locations, agglomeration is occurring at these specific locations.  Manufacturers have encouraged their suppliers to cluster in the same, or localized, industrial parks in order to streamline the manufacturing process, implement tiered supply chain strategies, and reduce costs. 

While this supply chain clustering, agglomerating, makes business sense for manufacturing logistics, cost controls, and quality oversight, it poses significant risks that can quickly erupt and potentially disrupt or even destroy supply chains.  This year alone, we have experienced two such terrible natural disasters that have severely disrupted our agglomerated, tiered, supply chains: in March, the earthquake, tsunami and nuclear disaster in Japan; and this Fall, the massive flooding in Thailand.

Identifying supply chain threats

While a single company has little influence over changing industry trends in supply chain structures, it is very much its own master when identifying supply chain threats and crafting appropriates responses.  For this reason we will look at today's threats and risk mitigation strategies, in light of evolving supply chain structures, for the semiconductor and electronics industry supply chains.

Natural disasters and accidents
Among the most disruptive supply chain threats are the natural disasters and accidents.  The reason is simple, they are relatively immediate and pervasive and they tend to strike without much warning, if any.  Of course, these threats are among the most common in risk management strategies to mitigate losses of all types.  As the disasters in Japan and Thailand have again reminded us this year, tightly integrated and agglomerated supply chains can mean that when disaster strikes for a few suppliers and manufacturers, entire industry sectors can come to a screeching and costly halt.

While a single factory accident or natural disaster can reverberate through the supply chain quickly, as we have seen many times before, and that single supplier may be a critical node to many, there are usually same-level suppliers who can make up for the component reductions in the supply chain.  However, when a wide-scale natural disaster occurs, as happened two times this year alone, the availability of other suppliers and/or supply chain partners to continue or complete the manufacturing process can be completely eliminated.  This "high-impact low probability" (HILP) scenario is, thankfully, not as frequent as a single disruption, but this risk must be mitigated (see this early MarketWatch Quarterly article for more discussion).

Economic shifts
The coupling of lean management, supply-based strategies and tiered sourcing, where there is less transparency into non-first tiered supply chain partners, means that the traditional visibility into suppliers is often lost.  There are many risks to this supply chain relationship and lack of transparency, not the least of which is the potential for HILP events to affect suppliers without timely knowledge by OEMs.  These HILP threats may not originate as a sudden event, like a natural disaster or accident, but because of the lack of visibility along the supply chain, the impact is the same: disruption and potential shut down of supply or production. 

With the global coupling of markets and businesses, the triggers for significant risk seem to be greater in number and now include macro-economic events that may be far afield from a particular industry.  For example, the recent global economic crises, US economic stalls, and the continued European sovereign debt problems have negatively affected multiple industries.  For the semiconductor and electronics industry, the impact of these macro-economic threats has included significant softening in demand by consumers and enterprises alike, increases in mergers and acquisitions (M&A), line consolidations, increased utilization levels, lowered capital expenditures (CAPEX) that has pushed back equipment and line upgrades, facility expansions or improvements, etc. 

The result of these macro-economic threats has lead to further lean management strategies to reduce inventory held in the event that demand softness increases to the point that product cannot be sold.  However, by pushing inventory holdings up the supply chain, and loosing visibility, a new risk of complete disruption is made greater.  Suppliers also feel the pinch during challenging economic times, and what the tiered supply strategies have contributed to a state in which greater dependency on suppliers is the norm.  When these suppliers are eliminated due to M&A or bankruptcy, or simply reduce their ability to react quickly to demand due to line consolidations and increased utilization, then the end-product manufacturer and/or OEM can end up with a significant disruption and supply shortage.  While not the result of a disaster or accident, the end-situation is very much the same: lack of components or products and a stop to the supply, and with that, a halt in revenue streams.

Increased environmental legislation
More recently, organizations have actively increased their environmental sustainability measures, whether due to corporate value analyses or due to legislation enforced by governing bodies.  For a number of years, the semiconductor and electronics industry has worked to abide by increasingly stringent restrictions on hazardous substances (RoHS) and waste electrical and electronic equipment (WEEE) directives (see this recent MarketWatch Quarterly article for updates to RoHS and WEEE).  Originally set forth by the European Union and later adopted and modified by numerous countries (and variably by different states in the US), RoHS and WEEE have had significant impacts on the supply chain.  Initially, these directives were seen as threats to be mitigated due to the requirement for changes in substances and therefore technological architectures in addition to new reverse logistics solutions to deal with the return and proper disposition of end-products (see this recent MarketWatch Commentary article for updates on e-waste solutions).

Today, environmental legislation is only one part of an ever-growing set of changes to the supply chain status quo.  That doesn't mean it is not good to change these status quo practices, environmental stewardship is important and has finally come to be equated with good business practices.  The 'threat' aspects here are not traditional, but rather come from the introduction and sometimes sudden enforcement practices that can disrupt supply chains.  While the regulatory decisions are made and publicized in timely fashions, there is a disruption potential from the mandated changes due to increasing restrictions taking time to be met by new architectures.  Also, disruptions can be sudden when the enforcement of the directives changes by local and national governments and non-compliance is more strictly handled than previously. 

One recent example of such an enforcement change can be found in the production of hard shell cases by a manufacturer in China.  While production practices had not changed, the enforcement of local environmental laws governing air pollution were increased and the manufacturer was forced to immediately shutter production until a multi-million dollar upgrade to filtration systems and production lines was made.  While just one manufacturer was involved, it so happens that the manufacturer is a supplier to a few major OEMs, and the shut-down of their lines resulted in complete supply chain disruption and shortage of a critical casing part for a set of high-demand end-products.

Among the set of threats that increase risk for today's semiconductor and electronics supply chains is counterfeiting.  In and of itself, any of the threats could be an article unto themselves, but especially that of counterfeiting (see this recent MarketWatch Quarterly article).  While counterfeit components and products are a constant threat to be vigilant in combating, during supply chain disruptions, there is a need for increased vigilance.  The reasons  are simple: opportunity and profit.  When supply chain disruptions occur, there is an increased opportunity for counterfeit product to be purchased because increased profitability means more counterfeit items are likely to be put into circulation with the hope that desperation for those parts might breed reduced vigilance.  Again, during shortages and disruptions, it is important to be careful of suppliers and ensure that only conforming components are entering your supply channel.  Having approved, qualified suppliers that have previously been audited and are able to perform high-level anti-counterfeiting procedures is essential (see, for example, this recent article by Rockwell Automation and Smith).

Strategies to mitigate disruption effects

The tight collection of supply chain partners in localized centers, that is, the agglomeration phenomenon, needs to be addressed at an industry level, but how do you protect against disruption at the individual company level?  Ensuring that you have other suppliers on your approved vendors lists (AVLs) and establishing at least minor relationships with them allows for a critical alternate supply chain in HILP and disruption situations.  A quick and reliable set of secondary supply chain sources that are not located in the same geographic areas or countries (if the country is small) provides a means to source and resume production during disruptions.  Having pre-approved, secondary supply chain partners ensures that during a massive disruption, when others are also looking for similar components, you not only have a direct line to a qualified supplier, but you also can use your employees wisely and stay ahead of the disruption rather than focusing all efforts on trying to source critical parts.

It is equally important to remember that today's business risks go beyond the physical threats from natural or accidental disasters that can strike a supply chain.  Today's risks go beyond local, isolated events, and even beyond industry-wide supply chain disruptions.  The tight coupling of multi-national businesses means that global, macro-level threats also enter in as significant risks to be mitigated.  Macro-level threats are beyond what any single organization can prevent, yet these threats can create market conditions that can disrupt supply-chains and eliminate businesses, large or small.  Some of these macro-level threats include the following: economic conditions that change the supply chain (e.g., demand/supply shifts, consumer confidence, macro-economic problems (such as EU sovereign debt and US economy), fiscal conditions that lead to line consolidations and utilization changes, mergers & acquisitions of businesses (affecting partner relationships), and environmental legislation (for material and component compositions and their disposal). 

Understandably, while some of these macro-level threats may seem out of reach for any single organization to solve, the fact is, these macro-level threats are at the core of our threats today because of the way that supply chains have evolved due to tiered approaches and agglomeration.  Furthermore, in the wake of supply chain disruptions, there is also the heightened risk of counterfeiting because of increased opportunity, that is, high demand and higher pricing for components and products.  More importantly, some of the most critical and effective solutions to these problems are still at a very tangible, corporate level that can be handled quickly and effectively through proactive, risk management and secure sourcing strategies.

Ensuring that qualified and secured secondary suppliers are part of your risk management strategy is essential in today's multi-risk environment.  It seems a simple enough strategy, yet one that must be engaged prior to disruption to ensure that the transparency, quality and sourcing requirements, as well as supply lines are laid forth during times when full auditing of and partnership-building with these secondary suppliers can occur.

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About the Authors

Kirk Wehby, Vice President, Operations

Kirk Wehby

Kirk Wehby joined Smith in 2008 to head world wide operations and quality. He was formerly Director of Operations and Supply Chain for Cardone Industries (1997-2008) where he managed startup and integration of operations in Belgium and Mexico. Kirk received a B.S. from Oral Roberts University and M.B.A. from Westchester University.

Lisa Ann Cairns, Ph.D., Senior Contributor to MarketWatch

Lisa Cairns, Ph.D.

Lisa Ann Cairns joined the Smith network of businesses in 2001 as a Technology Strategist and became the Chief Strategy Officer for a Smith subsidiary the following year. More recently, Lisa has been involved with various strategic marketing projects for the Smith network and is the Senior Contributor for MarketWatch. Prior to joining Smith, Lisa was an Assistant Professor at Texas A&M University. Lisa received her Ph.D. (1998) and A.M. (1992) from The University of Chicago, during which time she was awarded a National Science Foundation Doctoral Dissertation Research Improvement Grant. She holds a B.A. from Hofstra University, 1988, where she was the first woman undergraduate to receive a Fulbright Scholarship. 

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