Risk comes from not knowing what you’re doing.” Warren Buffett
“Living at risk is jumping off the cliff and building your wings on the way down.” Ray Bradbury
Columbus sailed west to find the east and prove that the world was round. He was hoping to optimize the supply chain that fed Europe’s voracious appetite for tea and spices from the Orient. With great risk, he set out on his voyage, only to fail, in a way. Columbus got lucky and found a substitute. Are you willing to bet your career or company in similar fashion?
Globalization did not suddenly start in modern times, but rather has been evolving since the dawn of transportation, driven by the need and desire to trade goods and information. However, with the exploding development of communications and transportation technologies, their increasingly rapid deployment around the world in recent times, and the ever-present appetite of global companies for new markets, these key enablers have accelerated exponentially this phenomenon which we now refer to as Globalization.
Thomas Friedman refers to it as the “flattened world” in his bestseller, The World is Flat, A Brief History of the 21st Century. As Friedman points out, the “flatteners” (examples: supply chaining, outsourcing, work flow software) have created vast opportunities for governments, corporations, and entrepreneurs to create and compete globally with quick successes possible. But along with the heightened possibilities comes heightened risks. In today’s global economy, we have the means to succeed at warp speed to heights never before seen, and yet we can also fail faster with the crashes being more spectacular.
In my career as a Supply Chain Manager, I drilled into my management team and buyers that risk management must be one of their primary responsibilities. As a risk manager, one does all the traditional analysis on Total Cost of Ownership, strategic benefits, etc., and then you ask yourself, what could go wrong and how can I prevent it or contain it. But with our ever increasing global supply chains, the assessment exercise has become a little more complex. As I used to jest with my management team, we often get drunk on the potential benefits of some brilliant supply chain decision without anticipating the hangover to come when the risks come to light.
Supply chain risk exists at two levels – tactical and strategic. Recognizing and managing risk while performing a strategic assessment of your existing supply chain, or during the process of making sourcing decisions, can help prevent future disaster and/or help avoid the tactical pitfalls inherent in supply chain activities. Let’s discuss the major components of global supply chain risk at a strategic level.
Political Environment – Friendly and Stable?
Free market economies are developing world-wide even in countries whose systems of government previously managed their economies centrally (Vietnam, China, Russia, etc.). Although capitalist enterprises may be relatively free to operate, it behooves companies to understand the politics of the country, to what extent government policy may hinder or regulate economic activity, and its relative stability, internally and externally.
In his book Friedman posits the “Dell Theory of Conflict Resolution,” which suggests that the importance of global supply chains to a country’s economic stability will tend to moderate their political decisions, although he still recognizes that wars will happen. Thus, while corporations like Dell’s decision to move increasing volumes of customer support, IT development, and finally manufacturing operations to India has more to do with markets and costs, they still have to assess whether India’s long-term border dispute with Pakistan or even internal ethnic strife pose an unacceptable risk. In the case of Dell, they’ve made the move with the belief that potential benefits supersede potential risks.
Legal Environment – Are you protected?
Over the last two decades, an outcry has risen against the perceived abuses of the American civil law system – excessive litigiousness and exorbitant lawsuit awards. However, you may gain some renewed appreciation for our legal system as you do more business in other parts of the world with a less developed body of law related to contracts, torts, property, accounting standards, and business regulations. Price Waterhouse Coopers even developed an “Opacity Index” in a 2001 white paper to help assess these factors when making business decisions related to a specific country.
For instance, if you are doing business in the Russian Federation, it’s useful to know that their civil law code has only been in existence since 1995 and is relatively undeveloped. Yippee you may say, until you realize that it does not recognize a simple US legal principle known as “duty of care” which essentially says that one has a “duty to exercise reasonable skill and care” during business transactions. For the less scrupulous, you might be thrilled to know that consumer protection law is essentially non-existent in the Russian legal system.
Limited protection of intellectual property rights in China provides a disturbing example where companies seeking to sell or manufacture products in country may find development costs and market share potentially at risk. One recent real-world example involved two Chinese pharmaceutical companies who were able to reverse engineer the formula for Viagra, file patent applications in China, and subsequently win a lawsuit brought by Merck in the Chinese courts. That’s enough to make one dysfunctional (pardon the bad pun).
Oh yea, one other thing to know. In many countries of the world, corruption and bribery are still rampant practices. You will need to school your employees that the Foreign Corrupt Practices Act prevents any participation in this type of activity and makes them and the corporation subject to prosecution.
Cultural Factors – Don’t be an ugly American!
Much has been made of this issue in the press already, and world traveling Americans all have their stories of cultural faux pas that created either anger, embarrassment, or hopefully just a good laugh. Oftentimes, there is no wrong or right, just different, but if it involves business dealings, then a cultural misunderstanding can create risk. In my own experience, I had to learn that when my Asian suppliers nodded; It did not mean that they agreed, but only that they understood. Their cultural upbringing also did not prepare them well for losing face by admitting bad news on late deliveries to an over-bearing American supply chain manager.
The good news is that cultural training resources are readily available today through consultants, literature, and even the Internet (ex. Korean eZine at koreanconsulting.com) and should be utilized to ensure success by you and your team in your international dealings. There is no longer any excuse for being an ugly American!
Global Terrorism and Natural Disasters –
Hope and Prayer aren’t enough.
This component of risk assessment jumped to the top of the list with 9/11 and Hurricane Katrina, and provides possibly the biggest challenge because they are not controllable events. I group them together because their effects to a global supply chain are similar, and at least the response to an occurrence of either would be similar. Large transnational firms must determine not only whether they or their suppliers might be a direct recipient of some sort of terrorist act or an indirect victim (ex. Kantor-Fitzgerald employees in the World Trade Tower). Thomas Friedman points out that our “flattened” world with satellite phones and the Internet actually provides newfound capabilities for dispersed organizations such as al Qaeda, and enables their “suicide supply chains.”
Similarly, the probability of a natural disaster (hurricane/typhoon, earthquake, etc.) affecting your supply base must be understood and counteracted. I once worked with a storage device manufacturer located in Puerto Rico who originally located there to benefit from the labor market and significant tax benefits, but who also regularly had to take evasive action with their supply chain to dodge disastrous impacts from hurricanes.
Global Trade Policy – Battle of the Acronyms
We now have NAFTA, CAFTA, WTO, APEC, EU and a few other economic or trade alliances which advantage or disadvantage your supply chain decisions. The well-publicized expiration of WTO textile tariff agreements in 2005 created considerable turmoil in the already disadvantaged US apparel industry. In 2004, the Bush administration, despite its free trade orientation, seemingly yielded to political influences and imposed a temporary tariff on imported steel to protect the US steel industry – great for the steel industry, but not beneficial for the US auto industry or other steel dependent industries.
Being a Global Citizen While Maintaining Your Corporate Image –
Just Say Nike
Be aware that the labor and environmental practices of your global supply base may not match up with US regulations and customs or the socially oriented expectations of your customers. Nike’s well-publicized fiasco with the alleged labor practices of their Asian shoe and apparel contract manufacturers garnered them plenty of negative press with their socially aware customers. After suffering bad press and organized opposition, Nike responded aggressively to the image threat and developed a model program for managing supplier practices. Peruse their website today, and you’ll find pages dedicated to “Worker and Factories” and their initiatives to better assess, monitor and improve the working conditions of their suppliers. Perhaps they have become a paradigm for supply chain governance, but not without considerable corporate pain, expense and marketing effort.
Infrastructure – There Really is a Slow Boat from China
It’s immaterial to gain significant cost advantage by using a lower-cost global supply base if existing infrastructure prevents you from taking full advantage. Examples of what I term infrastructure are primarily the logistics network (both intra and inter-country) and the telecommunications capabilities. One of the factors to overcome when Electronics companies initially began moving manufacturing to China was the lack of out-bound air freight capacity to the US. As demand grew, air freight providers eventually responded with increased capacity, but there was a lag time in response. Dell, whose total volume from all suppliers supported it, simply took ownership for out-bound air freight by chartering a daily 747 which used a “milk run” approach with multiple suppliers to fill the charter to capacity.
Multiple Tier Analysis – Better Look a Little Deeper in the Chain!
OK, so you’ve reviewed the above risk factors relative to your Tier One supply base, and you feel reasonably comfortable. Don’t sleep well yet! In 1999, Taiwan experienced a major earthquake which sent shivers throughout the electronics industry. Dell’s initial review provided sighs of relief as we learned that our two major Portables OEMs did not suffer major damage. Later, however, we learned that TSMC, who manufactured a significant portion of the global supply for ASICS chips, had suffered physical damage to their production capacity which meant that supply to several of our Tier One suppliers would be impacted to some degree. The lesson here was that if we had analyzed risk with our Tier Two and Three suppliers, we would have found that geographic location and concentration of supply base presented some risk.
Taxes and Currency – Go Figure
Tax policies are quite different and confusing in Asian and Latin American countries (ex. Value added taxes) and may help or hinder you and your supply base. Tax policies can make or break you. Take advantage of them when you can, but it’s unwise to make supply chain decisions solely on the basis of some advantageous tax structure, because they are subject to political whim. There should always be another strategic operational or market advantage that leads your decision-making, with tax policy serving as icing on the cake.
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Korean Won to US $
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Currency exchange rates can work to your favor or disfavor and will fluctuate over time. In 2004 and early 2005, just as Korean display makers found their prices starting to plummet due to over-supply, the Won appreciated roughly 5% against the US dollar, and their profits took another hit. Today, of course, the Chinese Yuan is widely believed to be artificially devalued in order to favor Chinese trade with the US. When establishing contracts with foreign suppliers, you should carefully consider whether to buy in US dollars or the resident country currency, and of course, currency hedging remains an option for larger more sophisticated corporations.
At any rate, both of these areas are complex and generally require consultation with tax lawyers and treasury experts on an ongoing basis. Caveat emptor!
Customer Experience/Outcomes – They’re Smart and They Care
Equally important, an understanding of how your supply chain decisions in pursuit of cost or market advantage may affect your customers’ experience should be foremost. Numerous press reports exist, both funny and alarming, of companies who have moved customer support functions to India and suffered negative customer responses, primarily because of cultural issues. I know of one Fortune 500 company who pulled customer support for its corporate segment back from India due to strong negative feedback from its most important customer segment. The Nike example discussed previously highlights the need to recognize that socially conscious customer segments increasingly want to buy products that satisfy their desire for socially responsible outcomes.
Mitigation Strategies – Build Your Wings Before You Jump!
Now that I’ve scared you and taken the rigidity right out of your supply chain, I’m out of time and space to discuss how to mitigate them. Even if my litany of endless horror stories has made you want to just stay home in the good old USA, it’s probably not an option anymore, if you want to stay competitive in many industries.
But I will at least leave you with two general thoughts on how to start to address your supply chain risk. The first recommendation is of course to perform some level of risk analysis to whatever depth your resources and capabilities allow. Start by making yourself aware of potential risks, because unpleasant surprises are never acceptable to shareholders or customers, and may in the worst case be disastrous to your personal or business’s future. Second, develop mitigation strategies and tactical plans to reduce or prevent risk when possible. In the case of some risks (i.e. global terrorism), prevention may not be possible, and thus the best you can do may be to conceive and practice plans (i.e. Disaster Recovery) that contain or respond to the risks if and when they occur.
Finally, you can’t be intimidated by the seeming complexity of risk in the flat world. Indeed, the flat world ironically makes resources more readily available than ever to better find the landmines. If you don’t like risk, what the #%?! are you doing in Supply Chain?
Risk comes from not knowing what you’re doing.” Warren Buffett
“Living at risk is jumping off the cliff and building your wings on the way down.” Ray Bradbury
Columbus sailed west to find the east and prove that the world was round. He was hoping to optimize the supply chain that fed Europe’s voracious appetite for tea and spices from the Orient. With great risk, he set out on his voyage, only to fail, in a way. Columbus got lucky and found a substitute. Are you willing to bet your career or company in similar fashion?
Globalization did not suddenly start in modern times, but rather has been evolving since the dawn of transportation, driven by the need and desire to trade goods and information. However, with the exploding development of communications and transportation technologies, their increasingly rapid deployment around the world in recent times, and the ever-present appetite of global companies for new markets, these key enablers have accelerated exponentially this phenomenon which we now refer to as Globalization.
Thomas Friedman refers to it as the “flattened world” in his bestseller, The World is Flat, A Brief History of the 21st Century. As Friedman points out, the “flatteners” (examples: supply chaining, outsourcing, work flow software) have created vast opportunities for governments, corporations, and entrepreneurs to create and compete globally with quick successes possible. But along with the heightened possibilities comes heightened risks. In today’s global economy, we have the means to succeed at warp speed to heights never before seen, and yet we can also fail faster with the crashes being more spectacular.
In my career as a Supply Chain Manager, I drilled into my management team and buyers that risk management must be one of their primary responsibilities. As a risk manager, one does all the traditional analysis on Total Cost of Ownership, strategic benefits, etc., and then you ask yourself, what could go wrong and how can I prevent it or contain it. But with our ever increasing global supply chains, the assessment exercise has become a little more complex. As I used to jest with my management team, we often get drunk on the potential benefits of some brilliant supply chain decision without anticipating the hangover to come when the risks come to light.
Supply chain risk exists at two levels – tactical and strategic. Recognizing and managing risk while performing a strategic assessment of your existing supply chain, or during the process of making sourcing decisions, can help prevent future disaster and/or help avoid the tactical pitfalls inherent in supply chain activities. Let’s discuss the major components of global supply chain risk at a strategic level.
Political Environment – Friendly and Stable?
Free market economies are developing world-wide even in countries whose systems of government previously managed their economies centrally (Vietnam, China, Russia, etc.). Although capitalist enterprises may be relatively free to operate, it behooves companies to understand the politics of the country, to what extent government policy may hinder or regulate economic activity, and its relative stability, internally and externally.
In his book Friedman posits the “Dell Theory of Conflict Resolution,” which suggests that the importance of global supply chains to a country’s economic stability will tend to moderate their political decisions, although he still recognizes that wars will happen. Thus, while corporations like Dell’s decision to move increasing volumes of customer support, IT development, and finally manufacturing operations to India has more to do with markets and costs, they still have to assess whether India’s long-term border dispute with Pakistan or even internal ethnic strife pose an unacceptable risk. In the case of Dell, they’ve made the move with the belief that potential benefits supersede potential risks.
Legal Environment – Are you protected?
Over the last two decades, an outcry has risen against the perceived abuses of the American civil law system – excessive litigiousness and exorbitant lawsuit awards. However, you may gain some renewed appreciation for our legal system as you do more business in other parts of the world with a less developed body of law related to contracts, torts, property, accounting standards, and business regulations. Price Waterhouse Coopers even developed an “Opacity Index” in a 2001 white paper to help assess these factors when making business decisions related to a specific country.
For instance, if you are doing business in the Russian Federation, it’s useful to know that their civil law code has only been in existence since 1995 and is relatively undeveloped. Yippee you may say, until you realize that it does not recognize a simple US legal principle known as “duty of care” which essentially says that one has a “duty to exercise reasonable skill and care” during business transactions. For the less scrupulous, you might be thrilled to know that consumer protection law is essentially non-existent in the Russian legal system.
Limited protection of intellectual property rights in China provides a disturbing example where companies seeking to sell or manufacture products in country may find development costs and market share potentially at risk. One recent real-world example involved two Chinese pharmaceutical companies who were able to reverse engineer the formula for Viagra, file patent applications in China, and subsequently win a lawsuit brought by Merck in the Chinese courts. That’s enough to make one dysfunctional (pardon the bad pun).
Oh yea, one other thing to know. In many countries of the world, corruption and bribery are still rampant practices. You will need to school your employees that the Foreign Corrupt Practices Act prevents any participation in this type of activity and makes them and the corporation subject to prosecution.
Cultural Factors – Don’t be an ugly American!
Much has been made of this issue in the press already, and world traveling Americans all have their stories of cultural faux pas that created either anger, embarrassment, or hopefully just a good laugh. Oftentimes, there is no wrong or right, just different, but if it involves business dealings, then a cultural misunderstanding can create risk. In my own experience, I had to learn that when my Asian suppliers nodded; It did not mean that they agreed, but only that they understood. Their cultural upbringing also did not prepare them well for losing face by admitting bad news on late deliveries to an over-bearing American supply chain manager.
The good news is that cultural training resources are readily available today through consultants, literature, and even the Internet (ex. Korean eZine at koreanconsulting.com) and should be utilized to ensure success by you and your team in your international dealings. There is no longer any excuse for being an ugly American!
Global Terrorism and Natural Disasters –
Hope and Prayer aren’t enough.
This component of risk assessment jumped to the top of the list with 9/11 and Hurricane Katrina, and provides possibly the biggest challenge because they are not controllable events. I group them together because their effects to a global supply chain are similar, and at least the response to an occurrence of either would be similar. Large transnational firms must determine not only whether they or their suppliers might be a direct recipient of some sort of terrorist act or an indirect victim (ex. Kantor-Fitzgerald employees in the World Trade Tower). Thomas Friedman points out that our “flattened” world with satellite phones and the Internet actually provides newfound capabilities for dispersed organizations such as al Qaeda, and enables their “suicide supply chains.”
Similarly, the probability of a natural disaster (hurricane/typhoon, earthquake, etc.) affecting your supply base must be understood and counteracted. I once worked with a storage device manufacturer located in Puerto Rico who originally located there to benefit from the labor market and significant tax benefits, but who also regularly had to take evasive action with their supply chain to dodge disastrous impacts from hurricanes.
Global Trade Policy – Battle of the Acronyms
We now have NAFTA, CAFTA, WTO, APEC, EU and a few other economic or trade alliances which advantage or disadvantage your supply chain decisions. The well-publicized expiration of WTO textile tariff agreements in 2005 created considerable turmoil in the already disadvantaged US apparel industry. In 2004, the Bush administration, despite its free trade orientation, seemingly yielded to political influences and imposed a temporary tariff on imported steel to protect the US steel industry – great for the steel industry, but not beneficial for the US auto industry or other steel dependent industries.
Being a Global Citizen While Maintaining Your Corporate Image –
Just Say Nike
Be aware that the labor and environmental practices of your global supply base may not match up with US regulations and customs or the socially oriented expectations of your customers. Nike’s well-publicized fiasco with the alleged labor practices of their Asian shoe and apparel contract manufacturers garnered them plenty of negative press with their socially aware customers. After suffering bad press and organized opposition, Nike responded aggressively to the image threat and developed a model program for managing supplier practices. Peruse their website today, and you’ll find pages dedicated to “Worker and Factories” and their initiatives to better assess, monitor and improve the working conditions of their suppliers. Perhaps they have become a paradigm for supply chain governance, but not without considerable corporate pain, expense and marketing effort.
Infrastructure – There Really is a Slow Boat from China
It’s immaterial to gain significant cost advantage by using a lower-cost global supply base if existing infrastructure prevents you from taking full advantage. Examples of what I term infrastructure are primarily the logistics network (both intra and inter-country) and the telecommunications capabilities. One of the factors to overcome when Electronics companies initially began moving manufacturing to China was the lack of out-bound air freight capacity to the US. As demand grew, air freight providers eventually responded with increased capacity, but there was a lag time in response. Dell, whose total volume from all suppliers supported it, simply took ownership for out-bound air freight by chartering a daily 747 which used a “milk run” approach with multiple suppliers to fill the charter to capacity.
Multiple Tier Analysis – Better Look a Little Deeper in the Chain!
OK, so you’ve reviewed the above risk factors relative to your Tier One supply base, and you feel reasonably comfortable. Don’t sleep well yet! In 1999, Taiwan experienced a major earthquake which sent shivers throughout the electronics industry. Dell’s initial review provided sighs of relief as we learned that our two major Portables OEMs did not suffer major damage. Later, however, we learned that TSMC, who manufactured a significant portion of the global supply for ASICS chips, had suffered physical damage to their production capacity which meant that supply to several of our Tier One suppliers would be impacted to some degree. The lesson here was that if we had analyzed risk with our Tier Two and Three suppliers, we would have found that geographic location and concentration of supply base presented some risk.
Taxes and Currency – Go Figure
Tax policies are quite different and confusing in Asian and Latin American countries (ex. Value added taxes) and may help or hinder you and your supply base. Tax policies can make or break you. Take advantage of them when you can, but it’s unwise to make supply chain decisions solely on the basis of some advantageous tax structure, because they are subject to political whim. There should always be another strategic operational or market advantage that leads your decision-making, with tax policy serving as icing on the cake.
Currency exchange rates can work to your favor or disfavor and will fluctuate over time. In 2004 and early 2005, just as Korean display makers found their prices starting to plummet due to over-supply, the Won appreciated roughly 5% against the US dollar, and their profits took another hit. Today, of course, the Chinese Yuan is widely believed to be artificially devalued in order to favor Chinese trade with the US. When establishing contracts with foreign suppliers, you should carefully consider whether to buy in US dollars or the resident country currency, and of course, currency hedging remains an option for larger more sophisticated corporations.
At any rate, both of these areas are complex and generally require consultation with tax lawyers and treasury experts on an ongoing basis. Caveat emptor!
Customer Experience/Outcomes – They’re Smart and They Care
Equally important, an understanding of how your supply chain decisions in pursuit of cost or market advantage may affect your customers’ experience should be foremost. Numerous press reports exist, both funny and alarming, of companies who have moved customer support functions to India and suffered negative customer responses, primarily because of cultural issues. I know of one Fortune 500 company who pulled customer support for its corporate segment back from India due to strong negative feedback from its most important customer segment. The Nike example discussed previously highlights the need to recognize that socially conscious customer segments increasingly want to buy products that satisfy their desire for socially responsible outcomes.
Mitigation Strategies – Build Your Wings Before You Jump!
Now that I’ve scared you and taken the rigidity right out of your supply chain, I’m out of time and space to discuss how to mitigate them. Even if my litany of endless horror stories has made you want to just stay home in the good old USA, it’s probably not an option anymore, if you want to stay competitive in many industries.
But I will at least leave you with two general thoughts on how to start to address your supply chain risk. The first recommendation is of course to perform some level of risk analysis to whatever depth your resources and capabilities allow. Start by making yourself aware of potential risks, because unpleasant surprises are never acceptable to shareholders or customers, and may in the worst case be disastrous to your personal or business’s future. Second, develop mitigation strategies and tactical plans to reduce or prevent risk when possible. In the case of some risks (i.e. global terrorism), prevention may not be possible, and thus the best you can do may be to conceive and practice plans (i.e. Disaster Recovery) that contain or respond to the risks if and when they occur.
Finally, you can’t be intimidated by the seeming complexity of risk in the flat world. Indeed, the flat world ironically makes resources more readily available than ever to better find the landmines. If you don’t like risk, what the #%?! are you doing in Supply Chain?