The Regionalization of the High Tech Supply Chain

The speed of technology innovation is growing constantly, as technological products become more powerful and affordable.  Saying that, it has also been difficult, if not impossible, to find these products made close to home…unless your home is Asia.   This is not a recent phenomena but one that has been happening over the last few decades. 

Are we at the beginnings of a change?  Will Apple be alone in its decision to start producing some of its Mac computers in the United States? We all realize that these days the Macs are only a part of Apple’s business empire but the imagery is powerful.

The fact that Motorola followed suit with their announcement of producing the Moto X Smartphone in Texas could be an indicator of things to come.  

So the question to ask is; does that mean technology companies will be shuttering their overseas facilities and bringing manufacturing back to the US?  The answer is no!  

What is happening the regionalization of this industry?  It is not re-shoring but near-shoring, or in other words having production near the consumers.  

Some of the production in China and other parts of Asia will continue to serve that region while the production in South America and Mexico will serve the United States.  This is not even near-shoring but realignment.  

The primary reason for this is the cost differential has been shrinking.  In 2000 labor cost in the U.S. were 23 times higher than in China or other parts of Asia. At present the cost is only 8 times higher.  In addition, transportation costs are soaring in 2000 and before China produced items arrived in the United States costing 22% less than same items made in America.  At the close of 2011 that cost gap was only about 6%.  

Another reason was the complexity of the technology which may have dictated the need for production to be closer to Research & Development.  The complexity of the production process and continuous innovation required in the high tech industry commands close approximation between production and Research & Development. This development has caused some ‘opposite’ things to occur – a resurgence of technology manufacturing in Silicon Valley. 

Deciding where to place an R&D facility has become more complicated for two reasons – costs and training.  To offset those costs many companies are developing R&D facilities at the local market level to meet local demand and then expand globally.   

Yet another factor is the large supply of college trained workers.  The American intellectual wealth makes it easier to develop first of its kind products.    The United States has only 5% of the entire world’s population but has one third of the high tech researchers.  

There are three factors which need to be watched to see if they help or hinder this future.  They are the following:

1.      Intellectual property – Will the United States intellectual property continue to outweigh the labor cost savings?  How will technology development costs increase or decrease as a share of the total product cost? 

2.      Labor quality – Will labor quality become more important than labor cost?  The quality of the available work force will be determined by the quality of our K-12 education and the institutes of higher learning.   I am specifically referring to the STEM – science, technology, engineering and mathematics.  

3.      The states to be truly business friendly – Unreasonable government regulations are toxic to establishing new manufacturing operations.  Successful states are building cooperatives between university and industry to build the type of work force that will be required.

All locations should offer incentives to build and support new manufacturing facilities.  Areas in the United States which are newer to the high tech industry – those areas other than Silicon Valley, Boston and Austin – should offer the best packages which include tax concessions, economic grants, reimbursements and training partnerships with local universities.   

Navigate Clear of Supply Chain Disruptions

Port Labor Negotiations

When dealing with maritime supply chains it is anyone’s guess how port labor negotiations will pan out or affect inbound and outbound traffic. A prime example of this was the U.S. West Coast port negotiations amongst the Pacific Maritime Association and the International Longshoremen and Warehouse Union.  Imperative to evaluate your supply chain on a constant basis and introduce contingency plans to avoid potential trouble that negotiations such as these might cause. 

As the dock employees and employers prepared for an intricate contract negotiation we need to be aware of the disruption to their supply chain and to the effect on the U.S. economy.  The concern is well-founded.  In prior negotiations the Pacific Maritime Association brought in new technology such as scanners, sensors and bar-coding system to make cargo flow more efficient. But at the same time these improvements eliminated 10 percent of longshoremen positions.  Passionate talks resulted in a 10 ten lockout and only intervention by President Bush settled the lockout. 

While all this occurred in 2002,  a few years later, 2008 to be exact, saw another dispute cause major  interruption.  The Pacific Maritime Association (PMA) charged the International Longshoremen & Warehouse Union with deliberately creating work stoppages at all West Coast ports. The International Longshoremen & Warehouse Union (ILWU) counter charged that individual members were merely exercising their rights to protest the war in Iraq.  Ultimately, the sides compromised agreeing to wage rates and to have automated cargo handling systems.  

Once again in 2014 uncertainty reared its ugly head.  The primary issues for both the ILWU and PMA were healthcare c costs, pensions, etc. Compared to past port disruptions based upon automation and wages these discussions were very time consuming.   

These negotiations resulted in unpredictable work stoppages, increased costs, capacity challenges, transit time delays and lack of supply chain stability.

Not only did each of these three incidents cost the U.S. economy about $1 billion dollars per day but the resulting six months to recover deeply affected retailers, importers, manufacturers and  agricultural exporters.  While companies can track negotiations over time they cannot gain any certainty about the process until contracts have been signed. 

The best way of protecting your business is to assess the impact of potential disruptions on the current state of the supply chain.  Afterwards, create response plans to minimize the landed costs and delivery times.  Be proactive and appraise potential disruptions before they occur is critical and will make a response plan.

There are three phases to this appraisal that need to be followed:

1-      Assess the impact of disruption.  Port disruptions will cause companies to deviate from their existing supply chain strategies.  For example, cost-driven companies may be forced to reroute through different ocean routes which have longer transit times.  This will lead to lack of product availability and lost sales. 

2-      Explore options.  Form contingency plans for the affected product flows. 

a-      Develop alternative sources of supply.  Suppliers closer to distribution centers will avoid material movement via transportation.

b-      Build onshore inventory. Increase safety stock of materials normally routed through ports.

c-       Plan for alternate routes. Map out and assess the viability of these routes.

d-      Evaluate airfreight strategy.   Examine the impact of changing modals from ocean to air by comparing costs, transit time and service.

3-      Prioritize the response options.  The building of onshore inventory and finding alternate routes require long term planning and execution perspectives.  These options should be considered along with three factors: severity, occurrence and detection (SOD).

a-      Severity of impact. A contract negotiation could differ from no impact, a slowdown or a complete work stoppage.  The severity depends on the duration of each scenario.

b-      Occurrence. Use a rating system of 1 to 10. More frequent occurrences will pull the scale toward a ten (most severe and occurrences).

c-       Detection. This is most difficult factor. How can one pre-judge the severity and occurrences of a work disruption? The option here is to build relationships with neutral logistical service providers. 

To minimize the impact of port disruptions firms should monitor developments of the negotiations from both parties, use response planning options throughout the disruptions and find impartial logistic providers for transportation capacity, alternate routes and space for additional inventory. 

The sooner planning is initiated for any and all impending disruptions; your supply chain will be able to withstand the disorder.

CASH into INVENTORY or INVENTORY into CASH?!

A manufacturer may turnover inventory 3.6 times, a retailer can have 4.1 turns and a wholesaler or distributor can show turns of 4.4.  What these companies, albeit, in different types of industries, have in common? TOO MUCH Inventory!  Where they may carry it – raw materials, work-in-process or in finished goods – is not necessarily the point.  The point is they have too much money tied up in inventory.

From an accounting outlook, inventory is an asset – a buffer against uncertainty.  The complete cycle time of inventory, when needed, when received, sold and sales payment is received is vital to a company’s success. The longer the cycle time, the larger the amount of inventory will be carried against that uncertainty.

Inventory turns are important.  While the turns mentioned in the opening paragraph look good on the surface it is important to understand that turns should be compared to rate of days paid.  In other words, when the company receives payment for the goods. The above firms are getting paid every 90 days. Would you like to get paid only every 90 days?  This leads to a large capital investment of inventory earning nothing at a large carrying interest rate.  Why do many companies still operate in this manner and accept this kind of performance?

In addition to the capital or carrying issue, excess inventory influences service and operations. Unnecessary freight costs were incurred to bring products into facility.  Other costs like manpower hours, warehouse put-away and larger warehouse space than is needed are increased.  A cycle count program, which is based on Pareto’s Law and ABC analysis, will continually count these items to the company’s detriment.  

A business does not automatically or deliberately decide to have too much inventory on-hand as part of their forecasting plan.  The reasons for excess inventory are many but some of the more common ones are the following:

1     Loss of sales fear: this is the fear of not having an item to sell as opposed to not being able to sell the item.  This is where companies will put in a hedge factor into their inventories.

2      Price deals:  Many companies purchase due to “great” price deals. Buy in excess of what is needed or will deplete in a reasonable time frame due to a price they could not pass up. Is it still a good deal when it sits in your inventory forever?

3      Write-offs: Firms are hesitant to write off the inventory and take a hit to their profit and loss for the year.  

4      Metrics to measure: there are no metrics or key performance indicators implemented to measure and manage inventory – inventory turns, days in inventory, inventory aging and inventory velocity and no “ABC” analysis.

5      Supplier performance: suppliers are not managed even the ones who fail to ship on time or less than a pre-arranged percentage of the purchase orders. Extra time and extra inventory are built into the system to compensate for delivery issues. 

These are only a few of the reasons for excess inventory. Inventory buildup is not the result of one cause but many create the overabundance of inventory.  These causes reflect the lack of priority, processes and control of the inventory.

Excess inventory is not an acceptable situation and needs to be eliminated as quickly as possible. There are some options to carry this out:

1     Strategy and process: develop a process and procedures to manage inventory. Sustainability for this must come from the C-level management, otherwise a frustrating endeavor.  Included in this, is the development of performance metrics for inventory (some mentioned above), implement lean to add value-added processes, study the entire supply chain from inbound to outbound and make inventory part of the company direction as it pertains to customers, sales and profits.

2      Distribution network: determine the optimal number of DC’s for today’s business. 

3      Supplier performance: ensure it is a key part of the inventory management and sourcing strategy.   There is more to vendor selection than just low prices.

4     Effect of global sourcing:  long transit times across the oceans affect the inventories – in costs – that companies carry. 

 Increasing inventory turns and controlling lead or cycle time is vital to a firm’s profitability and long term growth.  However, reducing inventory and preventing excess inventory does not happen overnight.  It took a while to realize the inventory overage, so it will take a fair amount of time to correct.  This action will require focus and diligence.

JIT versus JIC: An Inventory Dilemma

Just-in-Time opposed to Just-in-Case

As manufacturers are reaping the benefits of Lean and Lean Six Sigma or other continuous improvement processes within their facilities the importance of eliminating waste still hold sway.  So the question now facing these manufacturers is this: 

Has the time come where Just-in-Time inventory levels need to be changed to Just-in-Case levels?  With the present and at least near future volatility of the economy this may prove to be the case.  The answer lies within each company’s own supply chain and decided upon based on each company’s individual requirements.

Inventory is considered one of the seven (7) wastes in a lean manufacturing environment.  It is any material over and above what is required for use in the process.  The JIT environment basically works much like this: a piece per process > one piece delivered > one piece processed > one piece shipped.  Any and all inventory on hand after this process can be viewed as waste. 

There is no such thing as the ideal situation and it’s quite impractical.  Thus, inventory is carried within the facility.  In practice just about every company carries inventory of some magnitude.  And thus many issues ensue – excess storage requirements, carrying costs, increased material handling and obsolescence. The real concern should lie within the raw materials inventory levels as finished goods and sub-assemblies are in company’s control – based upon customer service levels and on-time delivery rates.  

Over the past several months many small companies have shuttered their businesses.   Much of this occurred when a primary supplier shutdown operations and damaged your delivery performance.  

Under these circumstances perhaps it is time for the remaining small manufacturers to take a good hard look at their suppliers and ask the following questions:

1-      How well do you know your first, second and third tier suppliers?

2-      Are any of them at risk of closing their doors and catching you off guard?

3-      Have you looked at their financial health?

Maybe the time has come to get to know them better.  Harks back to making your suppliers your business partners.  The slightest change or disruption upstream can cause a major effect downstream.   It might be a good idea to carry a few weeks inventory to protect the company until the risk potential with this supplier can be evaluated.  Perhaps a visit to this third tier supplier would be in order to avoid higher future costs.

Start this process by reviewing some of the more vulnerable suppliers.  For example: if you are in the automobile industry start by checking the health and stability of suppliers you share with the North American automakers.  

In any industry, in order to implement JIC, and to determine how much and type of inventory need to carry these questions require honest answers:

1-      How difficult will it be to source replacement parts?

2-      How long does it take to get customer approval to move the tooling?

3-      How much testing is required if a new supplier is needed in an emergency?

4-      How long can you delay in shipping to your customers before it affects relations?

5-      How much space will be required to carry enough stock in case of emergency?

The answers to these questions will point the way to determining the on-hand inventory levels.  In addition, with good strategy and procedures it should also help to determine which components are at the greatest risk.  

Please keep in mind that JIC could be a temporary solution to a temporary problem.  It is extremely expensive to carry JIC inventory for every part, so the decision needs to be made as to which parts are the most critical.  Be aware, the carrying cost may increase exponentially, at least in the short run.   Consider JIC an insurance policy but when the crisis is over re-think the policy and return to JIT and LEAN.