© 2008 JPMorgan Chase & Co. All rights reserved. JPMorgan Chase Bank, N.A. Member FDIC Minimizing Diminished Value Risk The Impact of Import and Export

© 2008 JPMorgan Chase & Co. All rights reserved. JPMorgan Chase Bank, N.A. Member FDIC

Minimizing Diminished Value Risk

The Impact of Import and Export Regulations and Processes on Supply Chains

John Brockwell, Vice President, Global Supply Chain Practice LeaderMay 2008

2© 2008 JPMorgan Chase & Co. All rights reserved. JPMorgan Chase Bank, N.A. Member FDIC

Topics

Supply Chains need to deliver product at the highest value to the market

The enemy of the supply chain is variability

What challenges to company’s face in extending their supply chains into developing countries?

How do companies evaluate potential sources and markets in developing countries?

Regulations and bureaucracy have a financial impact to the supply chain


Supply Chain Management impacts almost every line item in the Financial Reports

3© 2006 JPMorgan Chase and Co. All rights reserved. JPMorgan Chase Bank, N.A. Member FDIC.

Income Statement

Revenue +

- Cost of Product -

Gross Profit ++

- Expenses -

Net Earnings Before Tax +++

Balance Sheet

Inventory - Fixed Assets -

Revenue enhancing logisticsProduct availability matched to customer needs

Stockout elimination programsLogistics based sales channels -

catalog, TV, Internet, home delivery etc.Cost & expense saving logistics

Just-In-Time or Continuous Flow distribution techniques Carrier contract management

Duty minimization programs Automation, goods tracking & handling

Investment optimization logisticsInventory reduction - vendor managed

inventory, quick response, etc.Order cycle time reduction programsAsset productivity enhancement programs - 3rd party logistics, multi-function DCs, etc.


Failure to meet customer’s product availability needs often have significant “Diminished Value” impact

Time

Raw Materials & Component

s

Inbound Logistics

Manufacturing

Outbound Logistics and Inventory Investment Risk

Selling Season Start

Selling Season End

Selling Season Expected Price

75% reduction in price

In Season Out of Season

Service Level Requirement

For On Time Delivery Late

Sh

ipm

en

t

Dim

inis

hed

Sale

s

Diminished Profit due to Higher

Product, Storage Cost, Inventory

Obsolescence and Write-downs

Product & Distribution

CostsForecasting

Diminished Price

Does not include lost revenue and profit from product service and follow-on sales


Can you protect and proactively generate improved sales and reduce “diminished value”?

“Diminished Value” happens when circumstances cause a reduced selling price, lost sales and/or significant cost increases, resulting in a drop in total transaction value

Understanding a product’s seasonality is critical• “season” is not a calendar term but a window of sales and profit opportunity

– Seasons can be years – telecommunication, computer, aerospace– Seasons can be hours – service contracts guaranteeing product

availability in hours

Diminished Value can happen for many reasons:− Back to school children's clothing arrive 1 week after the peak sales season =

55% price markdowns are required − Late delivery of hospital X-Ray and MRI equipment resulted in penalties - 15%

lower price− Out of stock shoes result in customers going to competition amounting to over

$2,000,000 a day in a 3,500 store chain --- value $640 million annually− Lead based paint is used in toys costing millions in sales ($100M+), defaults on

contracts, lost Sales (> $150M), inventory write-downs ($42M), restocking (0), potential health liability law suits and damage to the brand

Diminished Value occurs every day when there are time, place and product delivery failures in the supply chain


Q. How can you achieve the 99% product availability demanded by customers?

Domestic factory to the store, 3 days at 95% reliability

1 day 2 days 18 days 1 day 3 days

International factory to the store, with 5 hand-offs and each leg 95% reliable for a total of 25 days. 0.95x0.95x0.95x0.95x0.95 = 77.4% reliability

Irregularities in goods flow like cargo cut-offs or customs delays can result in full days added to the supply chain, causing expedited

freight and increased inventoryA. Increase Inventory and use of expedited freight


Evaluating How do companies evaluate

potential sources and markets in developing countries?


Sourcing Consideration #1: Supplier Flexibility/ Time to Market

− What are the order lead times, manufacturing cycle times, international and inland transit times, and customs clearance times?

− What are the minimum order/lot sizes?− How much upside capability is available?− How much downside risk is protected?− How responsive is supplier to changes in orders?− Can you communicate through a shared system or EDI?


Sourcing Consideration #2: Quality

− Consistent, high quality product?− Quality programs in place? (e.g., Six Sigma)− ISO certification?− What is the warranty agreement?− How will Repairs and Returns be handled?− What are the costs of defects?


Sourcing Consideration #3: Logistics Capability

− Modes of Transportation − Service Levels− Lift− Security (in accordance with C-TPAT and other initiatives)− Reliability

• Weather and natural disasters• Seasonal shipping patterns impacting lift• Port and airport labor stability

− Use of electronic information sharing− Cost


Sourcing Consideration #4: Total Landed Costs

− What is the cost of the goods?− What Incoterms and Payment terms are available?− How will the finances be managed (letters of credit, open account)?− What are the Transportation and Warehousing costs to move the

goods to market?− What are the importing costs?

• Duty• Taxes• Fees• Brokerage costs• Do quotas apply? Are there any anti-dumping duties?

− How does variability of transit times, order lead times and demand forecast impact inventory levels?

− How will peak volumes be addressed? Where is the product in the overall life cycle (Ramping-Up, Mature, End-of-Life)?

− What is the total cash-to-cash cycle time of the supply chain ?


Sourcing Consideration #6: Economic Stability

− Good, consistent access to raw materials, labor, utilities, and logistics infrastructure

− Long-term partnerships with key suppliers− Access to trained workforce− What are the labor conditions?− What are the environmental, health and safety factors?− Are there any health epidemics (SARS, AIDS, Bird Flu)?

− How stable is the economy?− What are future projections for

• Inflation• Currency Exchange

− Is there a history of labor unrest?

Sourcing Consideration #5: Production Inputs/Environment


Sourcing Consideration #7: Government Relations

− How easy is it to work with the Government?• Is there transparency in the country’s political system?• Are there major elections or political movements that could influence trade?• What is the commercial, regulatory, and legal environment?• How difficult is it to comply with local and U.S. Customs requirements?• What is the level of U.S. trade policy enforcement actions concerning the country?

• Global Supply Chains are exposed to variability introduced by government regulations and variability creates increased costs, inventories and longer delivery times– Failure to understand how government agencies interact with goods

movement could result in:» Goods seizure» Fines and penalties for violating country laws in amy potential areas» Delays in clearing customs at ports» Increased costs due to regulations – processing fees, anti-dumping or

countervailing duties etc. Note: U.S. Customs and Border Protection has verification teams that visit over 10

countries and hundreds of factories per year to combat illegal transshipment, to enforce Country of Origin and Trade Preference programs, and to investigate violations of Intellectual Property.


Import Processes

Classify HS #’s

Submit Pre-Entry

Generate Documents

Binding Rulings

File Duty Drawback

Minimize Duties

Perform Liquidation

Assist Tracking

Education & Training

Invoice Adjustments

Post Entry Info

Inbound Landed Cost

Export Processes

Classify ECCN #’s

Screen Orders

Determine Licensing

Apply for Licenses

Generate Documents

Submit SED

Track/Trace Shipment


Deemed Export Mgmt

Landed Cost Modeling

Trade Management Professionals

Forwarder Processes

Select Carriers

Book Carriers

Consolidate Freight

Track Shipments

Carrier Processes

Transport Goods

Track Shipments

On-time arrivals

Bulk Breaking

Broker Processes

Pre-Entry

Submit Entry

Clear Customs

Exporter/SellerExporter/Seller International International CarrierCarrier

Importer/BuyerImporter/BuyerForwarderForwarder BrokerBroker

Export ProcessesClassification

Jurisdiction Determination

EAR/ITAR

Screen Orders

Determine Licensing

Apply for Licenses

Generate Documents

Submit Export Dec


Deemed Export Mgmt

Landed Cost Calc.

Metrics

Import Data review - 10+2

Trade Logistics Mgt

Supply Chain Security and

Safety

Import ProcessesClassify HS #’s

Import Data Mgmt

Manage Doc Creation

Binding Rulings (BTI)

Manage FTAs

Manage Duty Recovery

Manage CoO

Declare Goods Value


Post Entry Processing

Supplier Management

Metrics

Trade Logistics Mgt

Supply Chain Security and

SafetySupporting

Technology

Global trade requires additional expertise

Track Shipments Resolve Issues Manage Brokers

Government

Export Declaration Import Declaration


Variability of Export and Import Processing

Trading Across Borders

Region or EconomyDocuments for

export (number)Time for export

(days)Cost to export (US$ per

container)Documents for

import (number)

Time for import (days)

Cost to import (US$ per container)

Australia 6 9 930 6 12 1,120

Brazil 8 18 1,090 7 22 1,240Canada 3 7 1,385 4 11 1,425

China 7 21 390 6 24 430Germany 4 7 740 5 7 765Hong Kong, China 4 6 525 4 5 525

India 8 18 820 9 21 910Poland 5 17 834 5 27 834

Russia 8 36 2,050 13 36 2,050Singapore 4 5 416 4 3 367Taiwan, China 7 13 747 7 12 747United Kingdom 4 13 940 4 13 1,267

United States 4 6 960 5 5 1,160

World Bank Ease of Doing Business 2007


Global trade management costs are small as a percentage of the value of the goods traded in developed countries

Trade Management Affects

•Revenue, Cost of Goods Sold, Inventory, Development Expense, Sales and General Administration

(SG&A), Days Purchases Outstanding, Days Sales Outstanding

• Operational staffing

• Supply Chain Flow - Defects in the Trade Management process can and do

stop the supply chain

Trade Management

Costs

•People

•Processes

•Technology

Typically for large companies < .1% of goods value traded


Impact of Time and Variability on Safety StockBase Case Scenario 1 Scenario 2 Scenario 3 Scenario 4

52 weekly shipments 52 52 52 52168 units per 40 foot container 168 168 168 168

$1,146 per unit $1,146 $1,146 $1,146 $1,1468,736 annual demand 8,736 8,736 8,736 8,736

24 per day 24 24 24 24$10,011,456 annual buy $10,011,456 $10,011,456 $10,011,456 $10,011,456

60 day order lead time 60 60 60 6020% demand forecast variance 20% 20% 20% 20%

21 day ocean transit time 21 21 21 212 day customs clearance 2 3 5 103 day inland delivery 3 3 5 10

10% order lead time variance 50% 50% 50% 75%95% service level target 95% 95% 95% 95%

27.07 Days Safety Stock 28.74 28.91 29.56 31.1510% Weighted Average Cost of Capital 10% 10% 10% 10%

$742,493 Inventory Value $788,299 $792,962 $810,791 $854,402$74,249 Inventory Carrying Cost $78,830 $79,296 $81,079 $85,440

$816,743 Working Capital $867,129 $872,258 $891,870 $939,8438.16% % of total value 8.66% 8.71% 8.91% 9.39%


Key competitive factors for developing countries

Transparency

Streamlined customs regulations and processes

Competitive customs, port and inland cycle times

Increased predictability / reduced variability


Questions?

John Brockwell

[email protected]

303-532-3814