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Supplier Network Risk Management in Turbulent Environments Introduction
Supply Chain Networks, the dominant competitive model in today’s world, means more risks and greater impacts. SC network management, generally understood to be the management of a set of companies that are cooperating to produce a product or service, is the major challenge of procurement and SCM groups. Collaborating with the right suppliers and managing them is getting more important now with the use of strategic partnerships and the involvement of suppliers in product development stages to achieve a competitive advantage (Araz & Ozkarahan, 2007). Risk management of this network is becoming increasingly critical since exposure to the supplier-connected risks have severely impacted several companies. The most famous stories are Thomas & Friends Wooden Railway toys who has agreed to a $30 million settlement after last year's recalls of toys due to lead in the paint; Chrysler that had to stop their production in several factories due to bankruptcy of its supplier Plastech; and a coal company Peabody Energy that reported $34 million in losses due to contract breach by one of its suppliers (Haksöz & Kadam, 2008). The appropriate preparation for such events matters greatly. For example, while Ericsson suffered a major loss due to a fire at Philips, its single source supplier of chips for mobile telephony, and was eventually driven out of mobile telephony business, the damage to the Nokia SC was limited (see e.g. (Chopra & Sodhi, 2004) for a more detailed description). It is then not surprising that companies, regardless of their industry, rate supplier failure and continuity of supply as their top risk factor2. But, besides these published stories - how large really is the risk connected to a single supplier? The outside environment and the possibility of terrorism, contagious diseases or worker strikes reach the headlines of the popular press more frequently and managers often pay much attention to large risk (with low probability) and ignore smaller risks (with high probability). The cumulative effect of the latter can also be very detrimental. The real risks are namely far more every-day - the late delivery, wrong demand forecast, obsolete stored material, a quality glitch or those taking more long-term perspective such as getting locked with a supplier that loses a market or technology battle with its competitors. The latter can be especially detrimental, since increasing length, complexity and interdependence in SC contracts means more critical and costly supply disruptions. Procurement is namely often handled via long-term, fixed-price contracts containing naive terms and clauses in the case of a breach (Haksöz & Kadam, 2008). Therefore, effective methodologies are needed that have the capability of evaluating suppliers’ current performance and, even more important, predicting the likelihood of supplier connected disruption in the future. Methodology for supplier network risk management Currently, SCRM approaches are attempting to measure either supplier attributes or SC structure, and then use it to compare suppliers and predict disruption. The results are then used to prepare mitigation and response strategies. Most often SCRM is a formal process that involves identifying potential losses, understanding the likelihood of potential losses, and assigning significance to these losses (Giunipero & Eltantawy, 2004). A typical example of such an approach is PRAM methodology, developed by Dow Chemical Company to measure SC risk and its impact3. Due to growing concerns, many companies have initiated various initiatives towards reducing those risks. Systematic supplier performance management4 is certainly a first step in the right direction. But as a popular saying goes: "past performance is no guarantee of future results". With limited visibility, how can you be sure that your important supplier will not experience issues that disrupt deliveries, influence the quality or even endanger the business continuity of the supplier and in turn the entire supply chain? Or do you know if a supplier’s strategy is able to cope with technology, market turbulence, events from the environment and, last but not least, whether it aligns with the strategy of the supplied company? The measurement of the risk contribution of the supplier specific environment to the whole SC is vital. Firstly, the supplier characteristics should be studied. According to PRAM, the main characteristics influencing supplier risk are its financial and operational performance, material quality, human resource quality, compliance with work process and IT system stability. Supplier ethics should also be considered (remember the damage caused to Wal-Mart due to child labor usage at Kathie Lee Gifford, one of its suppliers?). Secondly, the supplier’s environment should be studied. This includes market dynamics (customers and competitors), mergers, acquisition, divestitures, regulatory dynamics, disasters (natural and man-made), and transportation dynamics (routes, borders, types). While a certain supplier strategy (e.g. ordering large batches to decrease procurement costs or single source suppliers with long contractual commitments) may be acceptable in a non-turbulent environment it may be detrimental in a more turbulent one (e.g. in the presence of quick technological advances such as microprocessors or large commodity price swings).
The final and most important question is whether supplier characteristics will fit with the SC structure and strategy of the company that has organized the SC network. For agile SC networks, the supplier flexibility and responsiveness to market turbulence is of utmost importance. For lean SC networks, the reliability and low variation in lead times take priority. The geographic dispersion of the SC network plays a vital role as well. Large The large number of factors that should be considered and a huge supplier base poses significant challenges to any company attempting to evaluate its suppliers and predict the potential sources of disruption. The reality is that most companies currently lack the understanding, capability or willingness to operate at such demanding levels (Trent & Monczka, 2005). Two models are proposed here to help in this mission. Firstly, various aspects that should be included in the evaluation and their interconnections are shown in figure 1.
Figure 1: Evaluation of Risk of Supplier Non-performance or Disruption in a SC (Trkman & McCormack, 2009) The same supplier attributes, strategy and structure may pose considerably different risks of disruptions in different environments. Therefore, an assessment of supplier risk of disruptions based upon a supplier’s strategy, structure, performance and attributes as modified by the turbulence in their specific environment is needed. The company should therefore not just have a SCM professional with a job of "reducing risk"5. The proper approach towards risk monitoring and mitigation depends on the overall supply chain network strategy of the company. Supplier portfolio management An isolated study of a single supplier does not tell the full story. Traditionally, companies adopted strategies which buffer against risks present in their environment by using multiple sources for strategic items and holding safety stock. These buffers however restrict operational performances and can negatively impact competitive advantage (Giunipero & Eltantawy, 2004). The supplier portfolio matrix (Figure 2; the size of the circle indicates the supplier importance), developed based on supplier risk rating and the turbulence of its environment, can help to identify those suppliers where safety stock, multiple sources or even the replacement of the supplier are indeed most needed. 
Figure 2: Supplier Risk vs. Turbulence (Trkman & McCormack, 2009) The basic idea of SCRM portfolio management should therefore be to have a proper combination of the Stable classification (that add stability to the chain) and Stars (that add creativity and the possibility of improvement). Stars are like shooting stars. They can shine brightly but can burn out suddenly too. Those two types are the main treasures or assets of a network and should be properly managed and rewarded. The Danger area is a group with immediate risk to the business. You should investigate whether to invest in them (with different supplier development programs, information sharing, etc. in order to facilitate their move into the star group) or to seek alternative solutions (which is not necessarily easy due to the turbulent environment). The Caution area is a decision zone. Although the possibility to improve their performance should be investigated, their replacement may be a more desirable option. The most desirable combination of suppliers depends on the operating environment of the SC leader, its strategy and the type of the SC. The implications of the framework can best be described with the analysis of a group of suppliers of a large automotive company. Two suppliers are chosen as an example: Fenton (suppliers’ names are fictional), a low risk supplier and was in a low turbulence environment and consequently in the "stable" position in the supplier portfolio. Jupiter, on the other hand, had a similar risk rating but was in a highly turbulent environment. This placed it in the "star" position. In addition, Jupiter was the single source of certain parts which considerably increased the impact of any potential disruption. Since the focus of this SC network strategy is on a high level of network reliability6, the potential risk for Chrysler was too high. Therefore, upon a closer examination and mainly influenced by the turbulence assessment, mitigation plans were put in place and an investment in qualifying back-up suppliers for Jupiter was made. Soon after this, Jupiter, like a shooting star, lost a large customer which greatly changed its financial position and risk rating. This consequence of the market turbulence caused Jupiter’s financial backers to withdraw, resulting in its collapse and liquidation. The back-up suppliers were notified and within one week the production was transferred to those suppliers. Without a consideration of turbulence, the mitigation of this risk may not have been a high priority and an expensive disruption would happen. Conclusion The major point of this article is therefore to offer a new way to look at supplier risk. All suppliers cannot be rated on a single risk scale; their environments must be considered as a major factor. Michael Jordan was very dependent upon his environment. He was a super basketball star but was less than exciting as a baseball player. Suppliers can be the same way and the secret is to know this and manage your supplier portfolio accordingly. References Araz, C., & Ozkarahan, I. (2007). Supplier evaluation and management system for strategic sourcing based on a new multicriteria sorting procedure. International Journal of Production Economics, 106(2), 585-606. |
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