GRA Partner Carter McNabb talks with GRA Director Dan Knox about Supply Chain Value Creation.
In the interview Carter answers the following questions:
- How do Supply Chains create value?
- What are the drivers of value creation?
- Where are some of the trends in supply value creation and competitive advantage?
Dan Knox: Well, Carter, thank you for joining us.
Carter McNabb: It's really my pleasure, Dan.
Dan Knox: So Carter, how do supply chains create value?
Carter McNabb: Supply chains have the ability to deliver a sustainable competitive advantage, and also deliver shareholder returns that are best practise by industry sector. And they do that in a few ways, one is by being focused on the customer, so aligned to the customer's needs, and the value proposition. In doing that, they support best in class service levels, responsiveness in time to market, and what we see by industry sector is service levels for the best in class performers at 98% plus, whereas the industry average can be 95% or less. So even though that's only three percentage points, it can make a huge difference when we're talking about a competitive landscape.
Supply chains also provide an opportunity to optimise the relationship between the customer value proposition or service offer, the amount of capital tied up in the supply chain, the cost in the supply chain, and also the capacity of the network. To give some examples of what that looks like in practical terms is by industry sector we see supply chain costs vary between 5% to 15%, and it'll vary a bit by industry sector, but the differential is about the same. So what that means is the best in class performers have about a third of the costs as the laggards in the industry, and if we could look at that on a dollar basis, that's 10 percentage points of costs, which means for every hundred million dollars of revenue, that's 10 million dollars of additional profit, so it can be quite a competitive advantage.
The second area was inventory. The best in class performers tend to have about 10 to 40% less inventory in the supply chain. Again, for the same or better service levels, which represents a huge benefit in terms of the capital efficiency ratios, like inventory turn rates, and creates a lot of free cashflow, makes it easier to fund growth initiatives, and also to acquire further funding, if that's required.
I've talked already about the service levels, but again, it's worth saying that the best in class performers will have service levels of 98% plus, whereas the average is 95% or lower, so what we're really saying is that if you're at the top of the game, you've got a third of the costs, 10 to 40% less inventory, and are getting nearly perfect DIFOT fill rates. And that's across the board, all three of those things can be true, and it tends to be what we see in the best in class performers.
On top of that, there's a process efficiency piece which says that if I have to adapt to a changing situation, which is often the case in supply chain, you know, we might be short supply, there might be a promotion that's come on, there might be competitor activity, there might be a disruption in the actually industry, but the ability to make decisions quickly and factually, and act with confidence, is also a key competitive advantage in that space.
So I've put that all in a pot mixed together, the short way of saying that is, that has a multiplier effect on financial ratios like return on capital employed, which is something the financial community pays attention to very closely.
Again, it creates a lot of free cash flow to fund business initiatives from within the business itself, so it's additional funding I don't have to find. And the great news is, the opportunity typically already exists in the business. I don't have to go out and win new customers, call products, make large scale changes that require a lot of risk and investment, the opportunity usually exists within the business, so it's a low risk, a lower risk, high return windfall type value proposition.
Dan Knox: So it seems there's a lot of value to be created out of supply chains. Where do you see the drivers are to extract that value?
Carter McNabb: The drivers of value creation, for us, we break that down into three areas. So one is strategic, the middle layer is the management layer, and that often doesn't get a lot of attention, but I'll explain why that's important in just a minute, and then there's the operational layer. So if we start with the strategic layer, we really see three things that need to be in place to help guide the focus of the supply chain so it can create and deliver value, and the first one is a clearly defined business strategy that's objectively defined. So we've got some clear view about where we're headed, and what good looks like, and how do we know if we're successful.
The second piece is the customer value proposition. So if we know the business strategy, then what is it that we offer to the customer, what is that clearly defined value proposition, and what are the priorities? Again, helps, really aim the supply chain at servicing that, and again, if we don't have clarity in those areas, it's a bit more difficult to really focus the supply chain on achieving something. That doesn't mean a supply chain won't be effective, but it's a lot more effective when we've got that clarity.
And then there's the supply chain strategy, that really for us comes from the business strategy and the customer value proposition. If I know those things, then I can look at what type of supply chain network needs to be in place to support that. What are the capabilities, what are the structures, what are the flows, what are the response times, and then we can design it on that basis. If I then go down to the, I'm going to skip down and go to the operational level, and then come back to the middle.
The operational people are all the people, processes, the technology, and the data that supports the doing to deliver the value proposition of the business. And so those are areas like demand planning and forecasting, inventory optimisation, replenishment planning, S&OP, IBP, warehousing, transportation, procurement execution, etc. And again, what we're looking at here is do we have the right people skills and capabilities, are the processes well defined and efficient, do we have the right technology to match what the business is trying to achieve?
Again, we can overinvest or underinvest accordingly, so it's really a question of what's the right thing for what this business is doing. And does the data we have in the business support accurate decision making. I'll then go back up to the middle layer which is the management layer, and this is often where we see perhaps not as much clarity, or kind of quote unquote tightness as we'd like. And that's a fair enough thing, 'cause it's a little bit more amorphous, but the management layer is really, what's the organisational structure that defines the roles and responsibilities that align that value proposition with the doing. Also, what are the management processes we have in place to again, integrate the target versus the activity, and that would be S&OP and IBP. And also, what are the policies? And this is one we see often missing is what are the policies? So, if I'm a short supplier to a particular product, what are the decisions rights? You know, who gets the priority, what decisions can I make, and so on. And what we see oftentimes is there's a lack of clarity in those areas that creates a lot of confusion and diffusion, and some frustration in the business. So getting really tight around those areas really helps provide a fulcrum between that strategic layer and the operational layer.
Dan Knox: So Carter, what are some of the trends that you're seeing out there that's creating supply chain value to give companies competitive advantages?
Carter McNabb: Well, it's a pretty interesting time to be in supply chain because what's interesting and, and complex, and that's what make it interesting, is there's a whole lot more options then they're used to be, and so there's an opportunity to get it a whole lot more right then we used to. And the converse of that is also true, is there's a whole lot more opportunity to get it wrong then we used to. So, why is that?
Well, if we look at supply chains in terms of the global piece, designing supply chains these days is a lot more than just looking at net structure and flows. We have to look at everything from offshore fulfilment, right through the last mile delivery, and that's much more of a global piece. We've got a much more kind of fractured and particular customer base, and the way we fulfil and deliver also has to be very tailored to the customer channel and the product attributes. So, it's an opportunity to get it right, because if I can really design a supply chain that allows me to fulfil offshore, assuming that a fair percentage of my supply base is off shore, which is often the case in Australia, how do I do that in a way that gets the product into Australia the most efficient way possible, and then how do I get that out to the customer, and then how do I plan all that?
And so an example might be a business that has several product categories, and has a store network, it may make sense for some products to be made store ready offshore, so that has a lower logistics cost, but it has a much higher inventory risk, in terms of getting at the wrong place, wrong time.
There's midpoints in that, which might be a soft allocation that's on the water, we have our cross docks in flow through that can go right out to the stores. In other cases, it still makes sense to bring it in, hold it distribution centre, and ship it out.
And that will again depend on the product attributes, shelf life, demand volumes, and product cost. And so there's really no one size fits all anymore.
So, the good news is there's a way of doing it. The bad news is if we don't pay attention to the detail, it can cost us quite a bit.
So, the first one is that key piece of really integrating offshore fulfilment to last mile delivery. Tied in with that, the next trend is what I would call the integration of procurement in supply chain strategy, so historically they have been kind of linked in a linear fashion.
So procurement, and I apologise for oversimplifying this for everyone, the procurement would really setup the supplier relationship to try to get best value and best service, and at some level was then kind of handed to supply chain to sort of order and execute around that. The issue is, is what we're seeing now for example is with this increased competitive offshore fulfilment, the way of looking at a supplier or a product as lowest cost may lead us to a decision that has a higher overall cost for the business. So procurement's traditionally been focused on increasing gross margins, supply chain is all about net margin.
So let's say for example we have a supply base consolidated here in Asia, but we've found one supplier over here that gets a particular product for a lower cost. If I actually split up my supply base, I'm actually increasing the logistics cost and breaking down some of my volume, so that might come at a higher net cost to the business, even though it produces a lower gross margin. So looking at things like consolidation of source in geographies, and making sure that the combined procurement supply chain effort represents the best net cost or net margin to the business is the way forward, and those two things have to be done in conjunction. No longer does it really work to have it be a step one, step two type process.
Another piece to look at is the advent of increasing automation and technology in the warehouse, and so what we're seeing is that the driver of logistics cost, it used to be purely volume, it's now volume by product attribute because of the automation piece. So really understanding the cost incurred in a supply chain of a particular product profile or attribute, and the way it's handled and delivered, can have a huge impact on the cost basis, as well.
So again, trying to figure out what's the range, what markets do we want to service, what categories do want to play in, the question of how do we make sure the supply chain can support that in a cost effective way also becomes a big question.
One of the challenges we have in Australia is that a lot of the individual businesses don't have the volume to make those sorts of automation decisions. We're seeing more the 3PL/4PLs invest in those sorts of facilities, and again, the question is what's right for each business is something that needs to be looked at very carefully.
The fourth trend was once kind of a science fiction type, capability scenario planning. So, scenario planning is really the ability to rapidly assess options based on a change, make factual decisions based on data, and to act with confidence in face of rapid change is really important. It's probably the next big step in the evolution of S&OP and IBP, and really requires having systems that are very granular, that can actually take detailed bottom up data, and then translate that into something at higher level that the business can act on.
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