WhitePaper_Supply-Chain-Risk-2.0-Understanding-Supplier-Networks-and-Supply-Connections_June2012

Supply Chain Risk 2.0 – Understanding Supplier Networks and Supply Connections

IHS Supplier Risk White Paper

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Supply Chain Risk 2.0 - Understanding Supplier Networks and Supply Connections

The Only Constant Will Be Supply Chain Volatility It isn’t your imagination. Supply chain costs are on the rise. Sector prices have exploded from 2002 to 2011 with an average annual growth rate of 15% (See Figure 1). This surge in prices has impacted profitability and complicated budget planning. Worse, higher prices have been joined by higher volatility in recent years as upside risk and downside risk have combined to create wild price gyrations. Cost-trend analysis indicates that costs are more volatile now than they have been in recent decades. And, beyond volatile, today’s market is rife with potential supply disruptions, shortages, and potentially crippling disasters.

To survive in today’s complex and inter-dependent supply chains, companies need supplier and material insight that allows them to fully understand and act upon shifts in the market, mitigate cost risk, and ensure business continuity. Keeping up with rapidly fluctuating costs is a challenging job, but it has to be done to protect profitability. The alternative is to become victimized by volatility and unforeseen supply chain failures.

A Business Imperative to Address Supplier RiskTo prevent suffering at the whims of the markets, companies must understand and mitigate potential impacts to their sources of supply. Risky supply scenarios like sole-sourcing or reliance on a single geographic region for critical components and materials can leave companies vulnerable. Risks like these can be identified with comprehensive supplier insight and analysis. Only then, can organizations identify which suppliers are the most critical, which are at risk, and which are subject to geographic, economic, political or resource vulnerabilities. Armed with this supplier intelligence, business leaders can determine where they should develop alternate sourcing options, and identify where to invest in supplier relationships to avoid.

Of course not all market risks are predictable. There are certain “resting risks” that can be analyzed. Resting Risks are the risks associated with business as usual, and include supplier bankruptcy, lack of supply due to high demand, cost risks, regulatory compliance, obsolescence, counterfeit parts. There are also “reactive risks” which cannot be predicted in advance. These include unforeseen economic conditions, natural disasters like floods and earthquakes, or product recalls. In these scenarios, the more information that is available to overcome the unexpected situation, the faster companies can resume to a normal state of operation. For example, pre-determining alternate sources of supply can prevent shortages. Comprehensive material and supplier insight can also prevent reactive overbuying in a panic to hedge risk that can’t be easily quantified.

Unfortunately, most companies lack information and transparency into their supply base. Perhaps they have knowledge of their supplier relationships, but what do they know about their suppliers’ other relationships? To what extent is continuity reliant upon their suppliers’ suppliers, their suppliers’ customers, or their supplier’s customers’ end markets?

To survive in today’s complex and inter-dependent supply chains, companies need supplier and material insight that allows them to fully understand and act upon shifts in the market, mitigate cost risk, and ensure business continuity.

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Figure 1: Standard deviation of gold, silver, oil, aluminum, copper, co�ee, sugar, rubber, cotton, corn, wheat, lumber, steel scrap, steel plate, HR carbon steel sheet. Source: IHS

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Insight into multi-tier supply and demand inter-dependencies can help companies predict and forecast cost and availability in horizons from several months to twenty years into the future. A comprehensive supplier risk program recognizes risks, provides transparency into the supply chain, and provides deep information on markets, geographies, suppliers, and trends that shape the industry such as regulations. With better insight and analytics, companies can plan for the future and react to the unpredictable. It also allows companies to identify suppliers where market risk warrants developing deeper relationships to ensure continuity of supply and transparency of information.

Understanding Supplier Risk in ContextIn adventure sports such as mountaineering or scuba diving there is a phrase that says “no one thing will kill you.” The point is that it is usually not a single incident or failure that causes a catastrophe, but a confluence of events that in combination leads to significant problems. This is also true with supply risk. Properly mitigating and reacting to risk requires insight and intelligence into a host of factors.

One example of supply risk is geographic risk. It is important to know where your suppliers extract, source, or produce the goods you rely on. Are all of your suppliers for a particular component or commodity sourcing from the same geographic region? If so, how quickly could they shift production across the globe in the event of an unforeseen issue? For example, the Thailand floods in 2011 resulted in significant disruption to the majority of disk drive manufacturers in the area, resulting in significant shortages. Are there situations in your supply chain like this that you are not aware of?

Another category of risk that has to be considered is economic risk. Organizations must consider the answers to questions such as:

Key Questions:

• What market conditions could impact your suppliers?

• What other industries do they serve, how well diversified are they, and how are their critical markets performing?

• How much inventory is in the supply chain, and how long could your suppliers continue to produce if raw materials or other essential inputs were disrupted?

• To what extent will disruptions such as mineral scarcity or political unrest compromise the supply chain?

• What role does your market segment play in the overall demand for suppliers? How important are you to their business and financial ecosystem?

In essence, to understand the economic risk to supply, you should understand more than the business you do with your supplier -- you should understand your supplier’s business, as well as their upstream and downstream value chains. Understanding their business will also help you understand how much they will be investing in product innovation and new assets to serve you effectively.

To understand the economic risk to supply, you should understand more than the business you do with your supplier -- you should understand your supplier’s business

A comprehensive supplier risk program recognizes risks, provides transparency into the supply chain, and provides deep information on markets, geographies, suppliers, and trends that shape the industry such as regulations.

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There are a host of other supply risks that need to be managed as well. These factors are often inter-related, compounding the issue. For example, environmental regulations such as the European Union’s Restriction of Hazardous Substances (RoHS) regulations led to electronic component shortages and shortened component lifecycles. These in turn, resulted in more frequent design changes and prematurely discontinued products as indicated by documented part change (PCN) and end-of-life (EOL) notices sent to customers. To compound matters, the shortages created by these PCN and EOL situations set up an environment that encouraged counterfeiting, leading to further security, safety, and cost containment risks to manage and mitigate. As for unintended consequences, the discarded “hazardous” components were later harvested by counterfeiters, falsely relabeled as RoHS-compliant, and re-circulated within the supply chain pointing to a need for supplier knowledge and material traceability.

Establishing Comprehensive Supply Chain Insight and AnalysisCompanies have a difficult time understanding their supply chain. While they may have the information needed to identify common risks like sole-source supply, most companies simply don’t know their supply base well enough to understand risk effectively. Even for those that do, they typically only have knowledge about their direct suppliers and perhaps some information one level down the supply chain from there. It is very hard, though, to understand the full supply chain because that information is very difficult to obtain. For larger companies, this information is also very difficult to aggregate and view at an enterprise level. Even if one business unit has researched their supply chain, it is very hard to aggregate across multiple divisions. When it is done effectively, companies often find they are buying much more from an individual supplier than they think. This not only limits negotiation leverage, but also may represent unseen risk.

Supplier risks, individually and in combination, impact cost and the ability to effectively serve customers. In order to balance cost and risk in their supply chains, while making the right decisions to control and reduce cost, companies need to think both wide and deep about the supplier and material insight they rely upon to address today’s supply chain and marketplace complexities. For instance, IHS tracks a combination of integral industrial commodities with its Global Insight Industrial Materials Price Index (see Figure 2), which measures price movements among raw material inputs. Meanwhile, the IHS Pricing and Purchasing Service provides forecasts for over 4,000 raw materials, semi-finished, and finished goods, helping supply chain leaders anticipate and mitigate risk introduced by price volatility. Capabilities like this, which serve as key underpinnings to the IHS supplier risk and material risk insight and analyses offerings, illustrate the level of sophistication available and necessary to manage today’s supply chain risk.

Developing an Actionable Risk ModelDeveloping a comprehensive supplier analysis requires financial, geographic, inventory, production capability, and market share insights. These should be viewed individually and as a composite rating. Many companies that evaluate their suppliers are surprised to find that the company is sourcing components or materials from only one geographic location. Knowing this allows companies to understand the risk - and mitigate the situation. IHS provides country ratings and risk scores that consider the taxation environment, interpretation/enforcement of regulations, administration, security, geological information, infrastructure and the potential for political unrest. IHS has risk profiles of this sort of over 200 countries.

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GIIMPI With 26 Week Moving Average (2002:1 = 1.000)

Figure 2: Global Insight Industrial Materials Price Index (GIIMPI) 2002:1=1.00

Companies need to think both wide and deep about the supplier and material insight they rely upon to address today’s supply chain and marketplace complexities.

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In addition to country profiles, IHS also has profiles for specific suppliers. While your company may understand a customer or supplier and how they fit into your market, IHS can provide a comprehensive understanding of your supplier’s business, including an understanding of their position in the markets they serve and with their customers. This allows you to forecast what might happen in various market scenarios.

Once risks are identified, they can be used to make the right business decisions. Having the right information is only one part of the equation. Companies need a risk framework to make it actionable. They should be able to quantify the impact of risks based on micro- and macro-economic factors. This requires economic modeling that quantifies risk, forecasts and analysis into context. For example, IHS applies techniques such as “cluster- distance modeling” to identify riskier suppliers. In addition, IHS looks at risk relative to geographies and individual suppliers in a global production framework that includes financial, geographic, inventory, production, market share, and investment information (see Figure 3). In-depth information analyzed in a proven framework is the key to mitigating supply risk.

Enabling a Calculated Response to Unexpected DisruptionAccording to a recent survey conducted Supply & Demand Chain Executive Magazine, 76 percent of supply chain, procurement, and sourcing executives said that supply disruption or delay is the most pressing issue they are concerned about in 2012 (Figure 4).

As mentioned earlier, not all risk can be predicted, however, that doesn’t mean you have to wait to prepare your response. While you can’t predict the unpredictable, you can put your company in a

Figure 3: IHS Supplier Risk Content Map View

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Figure 4: IHS Inc and Supply & Demand Chain Executive Magazine, 2012 Survey Results

Developing a comprehensive supplier analysis requires financial, geographic, inventory, production capability, and market share insights.

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good position to respond when issues occur. When infrastructure disruptions like natural disasters or political instability strike, companies should already know what their options are. Through the right supplier insight and analytics, you can make fast and well-informed decisions.

A clear example of responding to the unexpected occurred when the Japanese earthquake and resulting tsunami hit in 2011. IHS had intelligence concerning the impacted value chains, as well as experts positioned worldwide, to immediately provide clients with insight and analysis to prepare swift and informed supply chain responses. They quickly identified which companies were impacted, pinpointing semiconductor fabrication, chemical manufacturing, industrial production, country infrastructure, energy networks, and shipping operations that were disrupted -- and even which customers would be impacted by resulting capacity and material shortages (see Figure 5). While the market speculated on the demise of prominent manufacturers and suppliers, IHS was able to advise clients on how best to ensure continuity of critical supply.

Another unexpected disruption was Thailand’s flooding from the extreme monsoon season in July 2011, flooding a reported 14,000 factories. In addition to human tragedy and loss of life, the flood turned out to be the third most expensive disaster in recorded history. Shipments for hard disk drives (HDD) dropped by 29% quarter-over-quarter in the fourth quarter of 2011 and prices increased 28%. The result was almost 12 months worth of disruption in the market. Clearly this couldn’t have been predicted, but companies that had access to IHS information and insight to information like alternative parts and sources of supply were better able make the right information-driven decisions to prevent shortages while preventing unnecessary (and costly) overbuying.

Securing Supplier Relationships and Knowing Where to Invest

In addition to information, companies must invest in developing relationships with their critical suppliers. When you know the supply chain and the inherent risks, you can create a strategy based on a thorough understanding of potential bottlenecks and risks. Some vendors may simply be one of many suppliers of commodity items. For these, the relationship can focus on negotiations that address cost, quality, and availability. Meanwhile, other vendors may be more strategic due to their potential impact on the business.

Photo: Thailand extreme monsoon season causes massively destructive flooding

While the market speculated on the demise of prominent manufacturers and suppliers, IHS was able to advise clients on how best to ensure continuity of critical supply.

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Figure 5: 2011 Japan Earthquake Impact map. Source: IHS iSuppli

When infrastructure disruptions like natural disasters or political instability strike, companies should already know what their options are.

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For higher risk items and suppliers, companies should invest in the relationship. For example, they may appoint a designated relationship manager in addition to procurement specialists. In this way, when issues occur, it will be much easier to respond. These tighter relationships will pay off in allocation markets and unexpected shortage scenarios. Of course you have to have the right information to determine which suppliers are the right ones to invest in. Supplier and material insight helps your company understand how important you are to your suppliers so you can invest appropriately in the relationship.

ConclusionMitigating supplier risk is good business, helping to prevent shortages and take advantage of market fluctuations. Understanding supplier risk is the first step, and only IHS has the depth of information on supply chains across materials, suppliers, markets, and geographies required to enable clients to develop an optimal strategy. IHS combines the most comprehensive data on regulations, political scenarios, financial conditions, and counterfeit incidents available with industry expertise in a framework of systematic analysis, helping quantify risk and make information on suppliers, their supply chains, and their markets actionable.

By combining supply chain insight with proper analysis, forecasting, and risk modeling techniques, IHS can help your company gain a comprehensive view of risk and volatility. Its insight and analysis allows you to have the right information to predict trends and have data at your fingertips when disruptions or unexpected situations occur. The business value to the organization can be immense, through newfound abilities to manage volatility, predict and capitalize upon price fluctuations, minimize supplier and material costs, isolate and mitigate risk, establish disaster preparedness, respond to supply chain failure, ensure continuity of supply, and operate more profitably. IHS supplier insight and analysis can help your company make good business decisions and respond quickly and confidently to market events so you can take advantage of market trends instead of becoming a victim of them.

About IHS (www.ihs.com)IHS (NYSE: IHS) is the leading source of information, insight and analytics in critical areas that shape today’s business landscape, including energy and power; design and supply chain; defense, risk and security; environmental, health and safety (EHS) and sustainability; country and industry forecasting; and commodities, pricing and cost. Businesses and governments in more than 165 countries around the globe rely on the comprehensive content, expert independent analysis and flexible delivery methods of IHS to make high-impact decisions and develop strategies with speed and confidence. IHS has been in business since 1959 and became a publicly traded company on the New York Stock Exchange in 2005. Headquartered in Englewood, Colorado, USA, IHS employs more than 5,500 people in more than 30 countries around the world.

IHS Supplier Risk Rating Service (www.ihs.com/SupplierRisk)IHS provides supplier risk ratings to help organizations better understand and manage supplier risk, such as those featured in this whitepaper. These tools help users identify risks associated with suppliers ever-present in their daily operations, enabling quick response to world events that might have a disruptive impact on supply chains. Leveraging expertise across content groups, IHS insights are built on a foundation of economic forecasting, industry expertise, and company level detail. IHS helps organizations prepare for and respond quickly to supply chain disruption – from everyday risks of doing business, to navigating dangerous supply chain floodwaters.

© Copyright 2012 all rights reserved. All information contained herein is obtained by IHS from sources believed by it to be accurate and reliable. All forecasts and predictions contained herein are believed by IHS to be as accurate as the data and methodologies will allow. However, because of the possibilities of human and mechanical error, as well as other factors such as unforeseen and unforeseeable changes in political and economic circumstances beyond IHS’s control, the information herein is provided “as is” without warranty of any kind and IHS and all third party providers make no representations or warranties express or implied to any subscriber or any other person or entity as to the accuracy, timeliness, completeness, merchantability or fitness for any particular purpose of any of the information or forecasts contained herein.

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Mitigating supplier risk is good business, helping to prevent shortages and take advantage of market fluctuations.

www.ihs.com/SupplierRisk

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WhitePaper_Supply-Chain-Risk-2.0-Understanding-Supplier-Networks-and-Supply-Connections_June2012