Manufacturing or Supply Chain

When I recently had to explain to my aunt (she is in her 70s) what I do she struggled with the word(s) supply chain – ‘during her work life supply chains did not exist’. I tried to explain how supply chain looks at the total flow of goods in a company – from suppliers to customers and everything in-between. After we parted I thought about how many of the companies I work with or have worked with have the same problem.

Occurrence of supply chain terms in literature 1800-2000

Occurrence of supply chain terms in literature 1800-2000

Today, 2015, there are still companies that have no concept or limited understanding of supply chain – even though the majority of the money they spend is directly controlled by supply chain processes. Over the last 20 years I learned that the difference is whether a company considers their supply chains as a strategic asset. Many companies that struggle or are merely median do not. They tend to focus on their manufacturing capabilities.

A company that considers its production capabilities strategic will be focused on optimizing factory operations. The emphasis will be on key drivers such as Cost of Goods Sold (COGS) for cost, Capacity utilization for asset efficiency and forecast accuracy for pretty much anything. Customer centric metrics are often translated to metrics like: Schedule adherence or manufacturing cycle time. This was common practice in the early nineties and resulted in the formation of supply chain special interest organizations back then.

Today we know that companies with strategic supply chains focus on a wider scope: The end-to-end flow a.k.a. the supply chain. Metrics are expanded by adding Distribution Costs to Cost of Goods Sold, Capacity utilization expands to supply chain fixed asset utilization and customer centric metrics include Order Cycle time and Perfect Orders. Companies invest in their strategic assets. If the investments are limited to the manufacturing capability then so will the results.

We worked with a company that considered their manufacturing capabilities strategic. This was clear after our first visit: Production determines the speed at which everything flows from suppliers to customers. The key metric is Cost of Goods Sold. The distribution from factories to end-customers is considered unimportant as is handled by Sales. (And the primary priority of a sales organization is to generate demand that can be converted into revenue, not cost). The company does not have a single person that is accountable for the end-to-end supply chain or its performances metrics. (Unless you consider the CEO, but he was not too focused on the supply chain job).

Over the past years strategic initiatives had been put in place to lower Cost of Goods Sold. The initiatives included closing some ‘more expensive’ plants and optimizing internal processes of the remaining plants. The result on Cost of Goods Sold was great: a reduction of several percentage points. The effect on the distribution network was not taken into consideration but was significant. By closing plants with the highest COGS the distribution network had to reroute customer orders, generally these customers were now farther away from the supplying plant. This impacted multiple supply chain metrics: Longer order cycle times (in plain english: Customer had to wait longer for product), transportation cost increase and as a counter measure to remain responsive Sales added a distribution center, which added more cost and inventory. The net result was that the supply chain costs (which incorporates COGS and distribution costs) increased more than COGS dropped. So after all the work to fix the company they had gotten worse. And to really rub it in: This was during a period the cost of gas bottomed.

If this sounds like your company and you are ready to take the next steps; start by introducing supply chain metrics. Include metrics such as Distribution Costs in the same discussion as Cost of Goods Sold. Eventually you want to use a metric that rules them both (Supply Chain Cost), but that may take a while. Try finding the person who has an interest in supply chain cost performance not just production costs.

Experience shows that changing metrics changes behavior, picking the right metrics is therefore crucial to get the right behavior..