Global supply chains risks under the microscope after coronavirus disruptions

The interruptions to global supply chains as the COVID-19 pandemic hit has prompted boards to rethink the risks and mitigation strategies for their organisations.

In recent decades, consumers and businesses have enjoyed the cheap goods that come with offshore production and just-in-time supply chains. However, the supply chain shock arising from the COVID-19 crisis has not only forced companies to revise their own supply strategies, it is prompting a national policy rethink.

Just-in-time and geographic concentration in the supply chain are the two things that have underpinned business for the past decades, says Arlene Tansey FAICD, a director of Aristocrat Leisure, Infrastructure NSW and Healius (formerly Primary Health Care). “That’s now working against us,” she says. “In our quest for lower costs, we’ve gone to a level of exposure we’ve not seen previously. We’ve seen now that it has life-and-death consequences. It’s like wartime. We now realise we need strategic supplies and built-in redundancies.”

The China lockdown had a number of supply chain knock-on effects. Initially, companies that sourced parts for Australian production were caught when supplies were interrupted by factory closures. Third-party dependencies with second- and third-tier suppliers were also exposed when factories in other locations had also sourced their components from China. The scramble by countries, including Australia, to build respirators and personal protective equipment — and source hand sanitiser — highlighted our vulnerability.

“We will now revisit how we view the risk and redundancy in our supply chains, how we view domestic versus offshore manufacturing,” says Tansey. “We’ll also take a look at distribution and transportation. The systems of transportation we have relied upon, which have been incredibly dependable, have, all of a sudden, been much less dependable and much less available.”

In April, Andrew Liveris, the former CEO and chair of Dow Chemical, who also helped write manufacturing policy for Barack Obama and Donald Trump and is now advising the National COVID-19 Coordination Commission, put it more bluntly. Australia had tilted too far towards reliance on foreign manufacturers; more production must be brought back onshore.

“Australia drank the free-trade juice and decided that offshoring was OK,” Liveris told the Australian Financial Review. “Well, that era is gone. We’ve got to now realise we’ve got to really look at on-shoring key capabilities. I don’t think you tilt as far as we’ve tilted, in which 20 per cent is domestic and 80 per cent imported,” he said of Australia’s reliance on foreign manufacturers. “You need some balance in there that lessens the reliance [on foreign suppliers] and safeguards your basics and essentials.”

Various Australian organisations have already pivoted in the face of necessity. Brisbane company Triple Eight Race Engineering has adapted the skills it uses in the Supercars Championship to working with medical professionals and intensive care experts to quickly develop a prototype ventilator. Craft breweries and distilleries such as Carlton and United Breweries, Beenleigh Rum and Young Henrys, are using their resources to create hand sanitiser. South Australian company Detmold Group, which typically produces packaging for the likes of Subway, has re-geared to producing face masks.

It’s complex

The supply chain disruption arising from the COVID-19 crisis isn’t just the result of businesses offshoring their production to lower-cost economies, in particular China, but also the increasing complexity of products adding to the depth of supply chains.

For example, two or three decades ago, a car was a relatively simple machine consisting of a range of mechanical devices. But as Bindiya Vakil, founder and CEO of Californian supply chain resilience and risk management solutions software company Resilinc, points out in Harvard Business Review, a car is now also a high-tech electronic product with a very complex supply chain, including dozens of microprocessors. Cars rely on microprocessors for just about every function, but they are particularly problematic. Each has a four-tier supply chain, which runs at very high-capacity utilisation because they have to be updated whenever the technology advances.

It’s not only car manufacturers that have had production grind to a halt because they’re unable to source crucial parts from Wuhan, the industrial hub and capital of China’s Hubei province at the centre of the coronavirus outbreak. As consumers have found out for themselves, even supply of the simplest products such as toilet paper can run short as production is interrupted, but also as companies struggle to keep up with wildly fluctuating demand from consumers.

While the COVID-19 supply chain disruptions are unprecedented and couldn’t have been planned for, Vakil says smaller supply chain disruptions occur on a nearly constant basis and, in general, companies are not well prepared for the 99 per cent of disruptions they could mitigate.

“I think that what people have not appreciated is that the world has changed around us in the past 20 years,” says Vakil.

Companies still try to overcome disruptions with manual processes and relationships, which have proved inadequate to cope with today’s complex supply chains, she adds.

What happens next

The current crisis has required both an immediate response from companies to mitigate the supply chain disruption as best they can, and a longer-term response to try to ensure it is better placed for future disruptions.

The first step for a company in a period of disruption is to take stock — literally — and assess what it has by way of finished goods in different parts of the supply chain within its control. Some companies will have clauses in their contracts with their channel partners or distributors allowing them to take stock back, or dictate who the product is sold to, so they can prioritise their better customers, says Vakil.

Next is to work out what they have by way of work in process, along with raw materials, so they can allocate them to the products they want to prioritise. Vakil says the most important supply chain tool is information — about what is happening with their supply chains in real time and which of their suppliers will be disrupted. From there, companies can develop a proactive risk management plan to protect the most critical parts, products and suppliers. And the biggest suppliers aren’t always more important.

“When you say, ‘Oh, I spend a lot of money with this supplier. This is critical.’ Yeah, but you can’t ship this product if the screw is missing, so the screw supplier is worth $5b to your business,” says Vakil. “Looking at which supplier is critical to your revenue is an important way to think about and segment the suppliers’ supply chain. And make sure you have backup plans, alternate sources or sites qualified with the same supplier where you cannot second-source. Make sure your top-revenue products are all protected.”

John O’Connor, Deloitte Asia Pacific sourcing and procurement lead partner, agrees that information is the key. “What became really clear was that companies here didn’t understand their supply chains in any depth,” he says of the most recent crisis. Companies also didn’t have detailed knowledge about their most important customers, those they should prioritise during a shortage.

“The whole supply chain visibility piece is really the consistent theme we’re seeing,” says O’Connor. “We think it is the major area to be addressed in the initial and longer terms. It’s been challenging to respond quickly enough — in terms of being able to run with effective models and really make some decisions.”

In particular, visibility isn’t good enough for today’s lean, just-in-time supply chains — another factor exacerbating supply chain disruptions. Along with offshoring, many companies have focused on reducing the number of suppliers, which reduces costs, thanks to the massive production volumes, but also carries obvious consequences in a disruption. “For instance, the car manufacturing sector is supplied by just two airbag manufacturers, both of them in Hubei province,” says O’Connor.

While the COVID-19 supply disruptions are the equivalent of a 100-year flood, and the last major supply disruption arising from the World Trade Centre attacks in 2001 was nowhere near as dramatic, companies should be thinking of disruptions as coming more frequently than once in every century.

What should directors do?

Tansey says directors typically move their focus to where they see gaps in their organisation’s strategy or operations, and so the supply chain gaps that emerge will occupy their attention for some time to come. The current crisis will drive a recalibration of supply chain models and more robust scenario modelling, with a bigger focus on security of supply. Companies will also deploy more capital towards their supply chain, she says and inevitably, this will push up the costs of goods in the short term.

Key questions for directors to ask include: Have we got the tools and technologies we need to run really complex supply chains? Is our modelling sophisticated enough? Do we understand the impacts and do we have the ability to respond quickly when we see these sorts of disruptions?

Many supply chains are focused on cost reduction and speed to market, with consequences that have now become readily apparent.

“We haven’t weighted things appropriately,” says O’Connor. “We’ve probably been weighting too much on cost reduction and efficiency, and not enough on security of supply.”

As with so many other aspects of their roles, directors need to find a balance between profit and risk when they look at supply chains. They need to think about how they build supply chain resilience and benchmark their organisation against others to see where they sit on working capital, inventory and suppliers.

The incentives

Part of the problem is incentive and remuneration structures. Procurement teams have traditionally been rewarded for driving out costs to increase short-term profitability, not for building resilience into the supply chain. In the shorter term, companies will need to make plans for when the current crisis comes to an end and generates a likely resurgence of demand. Companies need to understand where they sit in the pecking order with suppliers — and to ensure they’re not forgotten. However, O’Connor adds that as comparatively smaller customers, Australian businesses need to recognise they will sit behind European and North American customers in many suppliers’ lists of priorities.

Rob O’Byrne, founder and CEO of management consulting and education firm Logistics Bureau, says consumer demand for the cheapest possible product has pushed production to low-cost jurisdictions, with China the best-known example — but also Vietnam and Bangladesh. O’Byrne expects that to change, at least in part. He predicts that some consumers will decide they no longer want cheap overseas goods and instead buy local to support the Australian economy. However, he notes that low-income earners will always buy the cheaper imported product.

Achieving resilience

Once the crisis has passed, directors wanting to ensure they have supply chain resilience will need to ask management about the strategic sourcing policies — who are the five most critical suppliers and is there backup for them?

“The mechanics of all of this is having a really good planning process within the business,” says O’Byrne. “The terms generally used are ‘sales and operations planning’ or ‘integrated business planning’. MDs and CEOs really need to participate in that. It’s a cross-functional planning process, one that highlights key issues in terms of supply and demand.”

But it could also push up the cost of goods. “To mitigate against this, you would be sourcing from multiple countries and paying a little bit more for your inbound product,” says O’Byrne. “You would also perhaps be holding more inventory so you’re going to have higher working capital, the systems involved. That’s a trade-off.”

While O’Byrne expects procurement and supply chain management to take on a much more prominent role within businesses, he says there’s a risk that in planning for the next supply crisis, companies might overdo it, resulting in a much higher cost product for minimal gain. There is little a customer can do if a major manufacturing location closes.

This will be accompanied by an increased focus on the circular economy, trying to recycle, reuse or repurpose different products rather than having a linear supply chain predicated on the model of building, selling and then disposing of a product, says Kylie Porter MAICD, executive director of the Global Compact Network Australia.

She says companies will pay more attention to workers at the start of their supply chain, with the recognition that events such as COVID-19, and perhaps climate change in future, are above all human events, and aside from humanitarian considerations, companies cannot operate without people. “If businesses aren’t protecting the workers in their supply chain and not working towards protecting their employees then you can’t expect to have a strong supply chain, nor can you expect to sell good, solid product,” says Porter.

Tansey expects that social licence issues will come to play more of a part in supply chains.

“Ultimately, though, it comes back to the basic questions for society,” she says. “Can we continue to grow at the rate and speed we grow consumption? Can we continue to drive the costs of production down?”

Call centre chaos

The global call centre sector is being transformed by the pandemic. Already seeing the gradual introduction of AI technology such as chatbots, lockdowns in India and the Philippines have accelerated the pace of change.

The US$25b-a-year outsourcing sector in the Philippines, which employs more than a million people, is in chaos, with JPMorgan, Amazon, Google and Facebook among companies affected. Many of those call centre employees still working have been forced to sleep in their workplaces due to travel restrictions. Local union BPO Industry Employees Network has raised concerns over unsafe working conditions.

In India, which imposed a nationwide lockdown in late March, the millions working in its US$100b-plus IT/data/call centre industry have been forced to operate from home. More than 80,000 of them work for Australian banks, telcos and supermarkets. Some banks are putting workers up in hotels in order to guarantee data security for services such as credit card applications.

The travel sector was hit hard as lockdowns impacted call centres. Webjet was immediately unable to respond to the avalanche of customer calls regarding cancelled flights. Qantas and Virgin Australia customers reported being on hold for more than six hours, or being hung up on.

Australian telcos are rejigging customer support models. TPG and Vodafone have adopted remote telephone support; others have jettisoned live chat. Optus has indicated it will permanently abandon the offshore call centre model in favour of work-at-home measures.