Using Audits to Improve Supply Chain Performance

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© 2014 Wiley Periodicals, Inc.Published online in Wiley Online Library (wileyonlinelibrary.com).DOI 10.1002/jcaf.21954

featur

e article

Reginald Tomas Lee, Sr. and Marianne Novac

A supply chain audit is one of the most simple and effective but overlooked tools for supply chain improvement. © 2014 Wiley Periodicals, Inc.

Using Audits to Improve Supply Chain

Performance

One of the most simple, effective, and overlooked

tools for supply chain improvement is the sup-ply chain audit. In our over 30 combined years of doing consulting and process improve-ment work with major compa-nies, most of them overlook and even dismiss the importance and relevance of the improve-ment opportunities that can be highlighted by a supply chain audit. Audit teams themselves are often considered adversaries or outsiders. Additional com-mon concerns include but aren’t limited to:

Internal audit (IA) teams • are finance and risk people, they don’t know supply chain processes and are viewed to lack credibility regarding supply chain pro-cesses. Audit teams are focused on • their checklists and on risk and compliance, not on process execution. Audit activities are often • focused on current state assessments or reacting

to situations, and their improvements are often limited and tactical. Audit teams often may be • insensitive to the specifics of a business culture or business practices, espe-cially when multiple cul-tures are involved.

There may be some truth to these comments. IA is usually not composed of a team of sup-ply chain experts. In many cases, audits aren’t heavily strategic in nature. Although the objec-tive is to enable the company to be much more strategically thinking by looking at improv-ing processes and eliminating risks, the truth is that rarely are audits going to lead to an overall supply chain strategy that the company will look to implement over a 3- to 5-year period. Most audits we’ve been a part of are focused on either solving a problem or looking at

current state opera-tions to identify potential problems, whether focused on risks, compliance, or both. Finally,

we’ve observed situations where teams of American auditors, for instance, may perform audits in other geographies, and the audit program isn’t adjusted to the operations or culture.

Even if these ideas are true, there is no need for a supply chain audit to be carried out solely by an IA team. In fact, some of the most effective sup-ply chain audits involve combin-ing IA skills and processes with those who have deep knowledge of supply chain operations. This combination creates a perspec-tive that more general supply chain assessments usually don’t provide and offers insights that, when implemented, can lead to overall supply chain perfor-mance improvements. Another important benefit is that when the teams work together, the findings and recommendations have greater credibility within the supply chain operations group.

46 The Journal of Corporate Accounting & Finance / May/June 2014

DOI 10.1002/jcaf © 2014 Wiley Periodicals, Inc.

failed simple reasonability and effectiveness tests. • Make: A manufacturing company had schedule compliance issues. Opera-tors would make decisions to improve their own pro-cesses without realizing the disruptions in lead time and throughput they were creating downstream. The practice was technically out of compliance with produc-tion, but with no controls in place, was encouraged by supervisors. • Deliver: A large computer company had governance and compliance issues related to customer orders. Poor, missing, or incom-plete order information was collected from sales, lead-ing to errors and delays in

• Plan: A retailer had an inventory management governance challenge because multiple groups, including supply chain, sales operations and mer-chandising, had input to inventory levels and end-of-life discounting. Because ownership of activities was unclear, this often led to high inventory levels due to inaction. • Buy: An international consumer goods company did not have a risk plan to review and select vendors in new geographies around the world. Issues ranging from labor laws, to produc-tion capabilities, to materi-als and safety issues were all considered in an ad hoc manner and, upon review,

WHAT ARE SUPPLY CHAIN AUDITS?

A supply chain audit focuses on risk, governance, controls, and compliance issues within the supply chain. An organization’s supply chain is composed of five areas (Exhibit 1 ) 1 :

1. Planning 2. Buying 3. Making 4. Delivering 5. Returning

Unlike many financial and legal processes and transactions, supply chain processes typically do not have as heavy emphasis on areas such as risk and com-pliance. The result is that these areas are often ripe for IA types of activities. Examples include:

Supply Chain Processes

The supply chain comprises all activities related to meeting market demand. It often begins with customer order processing and ends with the order’s being fulfilled. In some cases, the supply chain is extended to handle cus-tomer returns. The supply chain processes are:

1. Planning: The planning and execution of supply chain activities.

2. Buying: The activities associated with buying goods and services including identifying vendors to provide the goods and services

3. Making: The conversion of goods into products, or creating services.

4. Delivering: Fulfilling customer orders.

5. Returning: The process of handling returned goods.

To youTo your

vendor

Exhibit 1

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© 2014 Wiley Periodicals, Inc. DOI 10.1002/jcaf

clearly defined and understood so that if issues arise during the audit, the leader responsible can step in and breakdown any barriers. The importance of this action cannot be underempha-sized. Sometimes the reason for the audit has not been articu-lated throughout the organiza-tion for one of many reasons. Employees who don’t know the reason might be reluctant to have outsiders come in and assess how well they are doing their job. Leadership from the responsible party will be able to step in and resolve the issue.

Preparation Steps

As you design the audit, the coordination between IA and supply chain becomes impor-tant. One activity that is highly valuable is to have a discus-sion about potential problem areas within the supply chain. For example, one client was concerned about the issue of off-contract procurement. In this case, the client wanted to understand whether off-contract buying was an issue. The conver-sation began by having supply chain describe the scenario with

the supply chain group. The objective is to work together to improve the process, not for IA to review supply chain processes as an adversary. This can be done by agreeing to the pur-pose of the audit, the approach including information sought, the scope, interviews, the nature and structure of the deliver-ables, and, the roles and respon-sibilities of the two groups (Exhibit 2 ).

The last point is very impor-tant for two reasons. First, it is not IA’s role to tell supply chain operations how to do their jobs better. Instead, the role is to identify places where supply chain is not being as effective as they would like. Likewise, it’s not supply chain’s role to tell IA how to perform an audit. Clearly, from a contextual per-spective, supply chain will be involved with the audit because they will help with all aspects of the execution. However, IA will have techniques it will use whose integrity must be maintained if the audit is to be effective. Sec-ond, when executing the audit, you will need full support from leadership of each group. The roles and responsibilities must be

orders reaching their cus-tomers. • Return: A large retailer lost, by estimates, mil-lions of dollars because of poor compliance with their return policy. Custom-ers returned items, which waited in a return section of their warehouse. Many of the items had passed the date for which the original vendor might allow the returns and provide finan-cial compensation.

IA emphasizes areas where supply chain design teams are not historically strong. This is why the partnership potential is strong. By offering a skill set, a mind-set, and a methodology, IA can help identify ways to help improve supply chain operations and execution.

EXECUTING THE IMPROVEMENT AUDITS

Initial Steps

To execute an effective improvement audit, the first step will be to establish a relation-ship between the IA group and

Using Supply Chain Audits for Expansion Activities

Supply chain working with audit can be a powerful strategic tool as well. One area which we have found it to be effective is when looking to expand the supply chain, especially when looking at new regions. There are many issues related to risk, safety, and quality that can be reviewed and considered when creating a new supply chain design. For instance, when looking at new suppliers, understanding their supply chain capacity, labor practices, and throughput capabilities will be critical. Additionally, understanding who they supply may influence their ability to supply you. In one case, a company looking to go into Asia considered a supplier whose only major client was a direct competitor that had over 70 percent of their business. This raised a red flag to the audit team and caused the supply chain team to reconsider both their strategy and selection criteria.

Exhibit 2



enough information for IA to begin understanding the scope and magnitude of the problem. Through this dialogue with many clarifying questions, IA understood how to begin design-ing an audit program that would provide the insight that supply chain was looking for. This led to defining the scope and objec-tive of the audit, which, when both parties agreed, led to the development of the audit pro-gram.

The audit program itself is often prepared by the IA group using the tools and templates it normally uses, with the context provided by supply chain. There are a few things here that we’ve found are critical to success:

1. Design the audit with the objective clearly in mind. We’ve often found IA teams begin by looking for all potential problems. Although sometimes ben-eficial, it ultimately ends up demanding extra time from the audit team, while pro-viding unnecessary data.

2. Design the findings and recommendations report for use and interpretation by the supply chain team. By working with the supply chain team and having them review past deliverables, the output can be tailored in a way that will help the supply chain team integrate the recommendations seam-lessly. All too often, the supply chain team would be presented with an abun-dance of data and descrip-tions that are presented in a way that can be overwhelm-ing and ultimately useless to the supply chain team.

3. Review the entire audit pro-gram with the supply chain team and describe what they

should expect to know com-ing out of the audit . That way, the supply chain team can provide input to make sure that the work of the IA team fully meets their expec-tations.

Executing the Audit

Once the audit program has been defined, it is important for both the IA team and the supply chain team to execute the audit together. Having sup-ply chain leadership announce the audit, its objective, and the expected participation as well as having supply chain personnel execute the program with the audit team does three things. First, it shows solidarity to those who are being observed. This will reinforce the impor-tance of the program. Second, there will always be questions about processes that the audit team will have. Supply chain representation can help answer the questions in the context of the objective of the audit. Finally, and often very sur-prisingly, is that supply chain teams learn a lot from the audit approach. It never fails that supply chain teams begin think-ing about risk, governance, and control issues as they had not previously, and this will broaden how they look at supply chain operations in the future.

Reviewing the Results

The audit will identify many issues that might seem important to the audit team. It is important not to over-prioritize findings unless they have an issue on financial transaction integrity, quality, or safety. These are areas that are extremely important to the

company and their presence must be highlighted. Other-wise, structure the findings and recommendations as agreed upon in the design stage. One way to present the findings and recommendations is to do so in the context of the objective. With the off-contract buying client, providing data showing that people are buying items off-contract as well as the sup-porting detail went a long way to help control design. For instance, suggesting what types of personnel were more likely not to follow compliance policy, or what geographic or organi-zational units were more likely to be noncompliant would help focus the supply chain team on specific solutions. Some of these solutions involved increasing awareness of organizational policies, some involved acceler-ated software deployment, and others required a reminder to management that they were expected to enforce compliance with company policies.

CONTROL DESIGN

Control design, too, should be a joint activity. The focus of the design of controls is to help offset undesired behavior and process design that leads to higher risks and have an adverse affect on process performance. Simultaneously, control designs must consider process perfor-mance and seek to have a neg-ligible effect on it. Supply chain will often want to take this step on themselves. This temptation should generally be resisted. The problem is that supply chain personnel are not always skilled in understanding and design-ing process controls. Working on this together will result in controls that are more effectively designed.

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© 2014 Wiley Periodicals, Inc. DOI 10.1002/jcaf

the right information, and pro-vide findings and recommenda-tions that the supply chain team can act on to improve.

NOTE

There are a number of models that 1. define supply chain processes. For this article, a very simple model was used, but groups such as the Supply Chain Council and many consultancies have defined their own supply chain models.

applied to practically any area of supply chain, including fore-casting, production, warehous-ing and distribution, transporta-tion and logistics, and inventory management. This approach was even applied to the engi-neering design function for an aerospace and defense com-pany with tens of thousands of employees. The keys will be to focus on the objective, capture

THE VALUE OF SUPPLY CHAIN AUDITS

These simple steps (see Exhibit 3 ) can have a profound impact on your supply chain improvement agenda. The combined knowledge of sup-ply chain with IA provides unique insights into operations that others may not have or seek. Additionally, they can be

Supply Chain Audit Checklist

1. Setup

• Establish a relationship between the IA group and the supply chain group.

• Agree to the purpose, approach, scope, interviews, deliverables, roles, and responsibilities between the two.

2. Preparation steps

• Discuss potential problem areas.

• Resolve clarifying IA questions.

• Design audit program:

− Design the audit with the objective clearly in mind.

− Design the findings and recommendations report for use and interpretation by the supply chain team.

• Review and approve the audit program.

3. Executing the audit

• IA team and supply chain team execute the audit together.

• Have supply chain leadership announce the audit, its objective, and the expected participation.

4. Reviewing the results

• Do not overprioritize findings unless they have an issue on financial transaction integrity or safety.

• Structure the findings and recommendations as agreed in the design stage.

• Present the findings and recommendations in the context of the objective.

5. Control design

• Use findings and recommendations report to identify the need for controls.

• Design IA and supply chain design controls together.

Exhibit 3



Reginald Tomas Lee, Sr., PhD, is a business scientist at Business Dynamics & Research. His research work focuses on innovation in profit management and developing leading-edge corporate performance tools and approaches. His client work emphasizes the application of leading-edge concepts to help execu-tives and their teams improve cash flow and to understand and manage performance. Reginald has a PhD in engineering, highlighting optimization solutions. He is the author of Explicit Cost Dynamics: An Alternative to Activity Based Costing (Wiley, 2001), and Essentials of Capacity Management (Wiley, 2002). He would welcome any thoughts or feedback at [email protected] or on LinkedIn. Marianne Novac is a project manager for JAS Worldwide Management, an international freight forwarder and logistics provider. She has worked in many areas of business including business process analysis, sales and account implementa-tion, and internal technology implementation. She is currently working as a project manager for the global implementation of a single-platform logistics management system to enhance ERP for the company. Mari-anne has an MBA in international management and is working toward her PMP certification. She would welcome any thoughts or feedback at [email protected] or on LinkedIn.

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Using Audits to Improve Supply Chain Performance