For Resilient Supply Chains, Think Local
By Richard Howells, Kristin Burnham | 16 min read
Procter & Gamble, the maker of Charmin toilet paper, was prepared for thousands of scenarios – including earthquakes, fires, and cybersecurity attacks – but not for a disruption greater in magnitude than all three combined: a global pandemic.
As COVID-19 spread throughout the United States in March, panicked shoppers snapped up what precious paper products they could find. Meanwhile, P&G’s “just-in-time” manufacturing and distribution operations meant it had no more than two or three weeks’ worth of toilet paper to sell.
Other U.S.-based paper goods manufacturers, along with makers of hand sanitizers and cleaning products, experienced similar shortages, not only due to the unanticipated and extraordinary demand, but also because of their heavy reliance on overseas suppliers. P&G had, in fact, warned investors in February that virus-induced factory shutdowns in China, where it had nearly 400 suppliers shipping more than 9,000 materials, would affect more than 17,000 products.
As shipments of products worldwide slowed or stopped entirely, it soon became clear that global supply chains had snapped. Companies everywhere were in trouble. But not every business.
3M, the maker of N95 respirator masks, was able to ramp up production to meet skyrocketing demand. Although 50% of hospital masks worldwide are manufactured in China, U.S.-based 3M produces all components of the filters used in its N95 respirator masks at its own factories around the world, and it sources other materials, like the straps and metal nose clips, from regional suppliers. When border restrictions and plant closures stonewalled companies with far-flung supply chains, companies like 3M that could manufacture locally, near their customers, were able to stay productive.
The COVID-19 pandemic has uncovered wide-ranging vulnerabilities inherent in sourcing materials and manufacturing products thousands of miles away from where they are sold, and it’s underscored the urgent need for more resiliency. While catastrophic outbreaks of disease may only happen every few decades, material disruptions lasting a month or longer happen every 3.7 years. This pandemic won’t be the last event to disrupt global supply chains.
5 Supply Chain Truths
What we learned when the world shut down.
In an increasingly volatile world, businesses need to prepare for all manner of turbulence, from the impact of climate change and regulatory shifts to protectionist trade policies, among other threats. Companies that shift some aspects of their global supply chain closer to the markets where their customers are will be able to respond more quickly, and thus be better prepared for unexpected risks. Global supply chains won’t disappear, but companies can make it a priority to build a better balance between global and local.
These changes can’t happen overnight. While some businesses might only need to make a few small shifts in their supply chains, others might need to overhaul them completely. Considering the benefits and drawbacks of localization will help organizations execute the right mix.
“Some businesses might have had different outcomes in the pandemic if they had better planning in place,” says Alexis Bateman, director of MIT Sustainable Supply Chains, an applied research program within the Massachusetts Institute of Technology. “They’d know what options are available, they could pivot quicker, and be more agile and flexible than some supply chains have historically been.”
The vulnerability of global supply chains
For the past few decades, global supply chains worked because they were mostly reliable and cost effective. Plentiful, cheap labor reduced costs, and factories became more efficient, making companies more profitable. Those years were stable, too. GDP grew steadily and with few supply or demand shocks. But as chaos reverberated through the pandemic-stricken world, businesses soon learned that their reliance on the trusty global model had actually increased their risk in ways that few had considered.
“No one was looking at the risk of having all of their sources of supply coming from Asia,” says Lisa Anderson, president of LMA Consulting Group, a supply chain consulting firm. Some companies decided that having multiple suppliers in the region, such as in China and India, covered their risks. Others didn’t want to increase costs to mitigate risks that didn’t seem likely to occur, she explains. After all, while many previous disruptions in the region had caused problems, the impact wasn’t long term. Nor had the effects extended around the globe.
The longer the supply chain, the greater the opportunity for disruption.
Prior disasters, like the 2011 Japanese earthquake and tsunami, the Thailand floods that same year, and countless hurricanes, should have prepared affected companies for the fallout from the pandemic. Many didn’t. Bateman blames “organizational amnesia.”
“After every disaster, most businesses go back to the way things were, forgetting about how bad it was. They just want to move on,” she says. Sometimes lessons become lost in history – if, say, no employees remain from an event that happened decades ago. Or an organization may not be able to transfer the lessons to areas where they can be used for adaptation or creating value. In a large company, one area may know what to do but their knowledge hasn’t spread across the enterprise.
SAP Insights Newsletter
Gain key insights by subscribing to our newsletter.
“There really wasn’t any expectation that whole countries would be locked down, or that you might have import or export issues,” Bateman says. If it hasn’t happened in the past, it’s not unusual to think it won’t happen in the future – a concept derived from philosophy called inductive reasoning. Because a global pandemic hasn’t disrupted supply chains within the lifetime of most people on Earth (the last one was the 1918 flu pandemic) it’s reasonable for people to think it isn’t likely to happen soon. But that thinking is flawed. “When COVID hit,” Bateman explains, “all the vulnerabilities in many supply chains were pushed front and center.”
The worst, barely imagined scenario came to pass.
For companies with the most complex global supply chains, the disruptions were paralyzing. Automotive original equipment manufacturers, for example, source raw materials and turn them into parts and components, like seat frames and bearings. These parts are sold and shipped to automotive assembly locations worldwide, which ultimately sell and transport finished automobiles to dealerships across the globe. When one link in that supply chain breaks – because shipping restrictions prevent the transportation of materials, for example – the others are affected. The longer the supply chain, the greater the opportunity for disruption.
The solution involves looking closer to home.
Why local suppliers matter
Over the past several decades, global supply chains in many industries have become highly complex. In moving a product across oceans, for example, companies need to coordinate with partners at both locations. Additional parties may need to be involved if a company is consolidating products from multiple plants into one shipment to save money on ocean freight. Then, to efficiently unload a container, more coordination with distributors is necessary to ensure that the correct carrier is ready to pick it up at the terminal.
There’s also complexity in managing inventory. If a customer no longer needs an order, for example, the company might be able to reallocate stock or switch locations – requiring coordination with the logistics network and manufacturing facilities, which could be located in different countries.
When supply chains are based locally, some of that complexity is removed, says Josh Nelson, principal in strategy operations at The Hackett Group. Fewer parties, less coordination, and simpler logistics are necessary to move the product from Point A to Point B. Proximity allows companies to be more responsive to customers’ needs – in cases where stock needs to be reallocated, for example – and it also enables a greater level of control over suppliers.
Having more diverse, shorter, less complex supply chains creates more resiliency, Anderson says. Consider what happened to automakers Ford and Chrysler: when the 2011 earthquake and tsunami rocked northern Japan, a warehouse storing a locally produced chemical used to make pigment in car paint was rendered inaccessible. With this chemical temporarily unavailable, and nowhere else to turn for supply, both companies were forced to suspend sales of vehicles in certain colors.
At the root of the problem was a lack of visibility beyond the manufacturers’ Tier 1, and some Tier 2, suppliers (the pigment maker was in Tier 3). It wasn’t unusual for companies to focus on their main suppliers because integrating and reconciling the necessary external data was complicated, Nelson says. “Generally, companies had to directly integrate, or use middleware, requiring the careful matching of master data and transactional data to gain visibility into external partner inventories and associated plans.”
Today, cloud-based supply chain visibility software makes that integration and resulting collaboration much easier by eliminating legacy integrations and manual data exchanges. Companies that deploy these applications can have near-real-time visibility into their trading partners, suppliers, and customers.
If a company needs to meet an increase in demand for a certain product, for example, it can review the raw materials a supplier has, which can in turn inform the company about constraints in its supply chain, Nelson says. It can either work through those constraints or schedule around them to avoid supply shortages.
“The big companies are seeing the value in having visibility into the inventory of their Tier 2 suppliers,” he says. “They are able to optimize the inventory investment across the supply chain and better coordinate schedules across it as well.”
A year after the tsunami, German company Merck, the maker of that chemical used in auto body paint, relocated some of its production to an additional factory in Germany. The new source of supply enabled the company to both meet demand from global customers and have a backup in case of another disaster.
Proximity can also help companies develop strong relationships with suppliers. The closer one is to the other, the more feasible it is to coordinate factory visits, for example. Factory visits help companies determine whether a supplier has the necessary leadership, organizational structure, and operational processes to meet their material and service requirements.
Customers are Demanding Authenticity
Learn how to practice what you preach in today’s consumer-driven market.
In some cases, localizing supply chains can also be a plus for a company’s branding, Bateman adds, and contribute to sustainability goals. “Especially since we’re in a recession, bringing some economic input into our own communities is becoming more valued.”
According to one report, 25% of respondents indicated that they are now shopping more often at locally owned stores and buying locally made, grown, or sourced products. That preference may not disappear when the pandemic is over. Consumers already gravitate to local food products, a 2018 study found. When two food products – one locally and conventionally grown, and one organic but grown hundreds of miles away – were available in a market at the same time, consumers preferred the locally grown food.
In addition, for companies working to reduce their carbon footprint, shorter, local supply chains that eliminate shipping from overseas may help achieve that goal.
Reduced complexity, stronger relationships with suppliers, and an improved ability to cater to customers’ needs make localizing at least some part of a company’s supply chain a smart way to mitigate business risks.
How local can you go?
Though having some local supply chains is an attractive benefit, it doesn’t always make sense. When making sourcing decisions, companies will still need to consider factors such as cost, manufacturing capacity, and availability of raw materials.
The most obvious drawback to localization is its cost: where local labor costs can be high, consumers may ultimately feel the pinch in their pocketbooks. Cost savings from transportation might balance higher labor costs, but it’s industry- and product-specific, Bateman says.
“It’s a balancing act. It won’t ever be perfectly equal in that you’re saving on logistics to offset higher labor costs,” she says. “That’s not to say that shipping is an insubstantial cost, but it’s not on the scale of really high-cost labor, which is why many global supply chains were outsourced to begin with.”
The investment required to establish local sources of supply can be substantial, too, adds Bruce Twery, partner at Clarkston Consulting. “Moving a plant or building a new plant can be hundreds of millions of dollars,” he says. “[Companies] need to look at those investments through the lens of their specific products, their markets, and their strategy for winning in that market.”
When making sourcing decisions, companies will still need to consider factors such as cost, manufacturing capacity, and availability of raw materials.
Manufacturing capacity may also be a limiting factor, Bateman says. Local suppliers may not be able to achieve the scale needed to produce at the volume required. Over the past two decades, manufacturers in Asia have built massive plants with state-of-the-art automation to accommodate demand from global clients. “Often, they just have bigger manufacturing sites,” she observes. “In some cases, they might have more automation that is not necessarily as common domestically.”
Specialization could be another obstacle. For example, manufacturing some components in products like smartphones and medical equipment requires sophisticated tools. Considerable training, skills, and experience are needed to operate them – expertise that may not be easily found in a local market. In general, managing the knowledge inherent in the manufacturing of a company’s product may inhibit some changes, LMA Consulting’s Anderson says. “If you were producing in Asia and moving it to the U.S., there’s quite a bit of knowledge that won’t be coming back unless you had dual production.”
Finally, key raw materials may not be available locally, either. Arsenic and gallium, for example, are widely used minerals in making computer chips, but the chemicals aren’t produced in the United States.
To be practical, companies will need to find a middle ground where the growing risks of the extended global supply chain are mitigated through localization.
Finding a balance between global and local
As the dust from the pandemic settles, companies shouldn’t return to business as usual, Bateman says.
“There’s such a desperation to get back to normal that I fear many people won’t be doing the work to ensure this doesn’t happen again,” she says. Part of that plan to protect against future disruptions can include finding the right mix of global and local suppliers. Consider these questions to gauge where localizing supply chains makes sense:
Where are your customers and suppliers? Wherever they are, look at moving at least some nodes in your supply chain closer together, Anderson says. If your suppliers are far away from each other or from your markets, or if they are in places prone to disruptions, locally sourced materials – even at a higher cost – in many cases can ensure continuity, Bateman says.
Supply chain modeling tools give companies insight into different scenarios, Twery says. “These models run all the possible permutations to help you figure out the right place to put assets like your warehouse and your manufacturing facility.”
Do you know where your supply chain starts? Companies usually know the most about where their Tier 1 suppliers are, but beyond Tier 2 becomes hazy – that is, until that Tier 1 supplier can’t obtain a critical material.
“Companies were blindsided because they had visibility with their Tier 1 supplier, but they had no idea what was happening with their second- and third-tier suppliers,” The Hackett Group’s Nelson says. “They thought they were safe because their suppliers weren’t in Wuhan – but it turns out their second-tier supplier was. This prevented them from being able to react and be agile in response to demand shocks.”
Because supply chains are so complex, it’s difficult to manually trace the exact source of every material, he adds. Some companies use mapping or geographic information system (GIS) software to trace their supply chains and achieve greater visibility into sources of supply.
What are your transportation costs? If your product has a high labor cost percentage but it’s lightweight to ship, it may not make sense to bring it back, Anderson says.
Supply chain network design and optimization tools can provide visibility into cost drivers across the supply chain, Nelson says. “When you have extended supply chains, it’s hard to see the total cost of them. This is where having better visibility into all the cost components helps – conversion costs, materials costs, transportation costs, and warehousing costs,” he says.
What does scenario planning reveal? Political, economic, social, technological, legal, and environmental considerations all play a role in understanding where the next supply chain disruption may come from. Moving forward, scenario planning should also include stress tests for different disease scenarios, Deloitte advises, including a mild, contained epidemic, a global epidemic, and a global pandemic.
How complex is your product? Look at whether there are manufacturers outside your current supply chain that already produce a product that is similar to yours, as well as the locations of materials these manufacturers require. This will affect the speed at which companies can make the move to local.
“It’s extremely unlikely that you would ramp up 100% overnight,” Anderson says. “Instead, you would put together a transition plan to ramp up with the new supplier before you start reducing volume with the old supplier. You might even keep both long term, as well.”
Could local be more than a backup? Because you no longer want to rely on a single source of supply, “you should be looking at backup sources that you actually use,” Anderson says. “A backup supply that you don’t use isn’t really a backup.”
At a previous company where Anderson was VP of operations, they used a backup supplier in South Carolina for a core supplier in Brazil. The South Carolina supplier was treated as a partner, receiving 20% of the company’s volume throughout the year. When the supply from Brazil became disrupted due to a transportation issue, the South Carolina supplier ramped up production, helping them to cover their needs. Anderson says the company’s ongoing relationship with the South Carolina supplier was key to making this happen.
Building a more resilient future
COVID-19 revealed the weaknesses in global supply chains and underscored the need to build in more resilience. For some companies, sourcing materials, components, or product manufacturing locally will achieve that.
Sustainable Logistics on the Move
Learn how delivery and logistics are getting a major tech makeover to go green.
“COVID was a global game-changer for many, many companies,” Twery says. “In the past, supply chain risk was just an afterthought in the annual planning process at best. Now, COVID has put supply chain resilience on the board-level agenda for the first time.”
Transitioning to more resilient, less risky supply chains can take time. If materials and alternative manufacturers are easy to find, a company might be able to make a shift within 60 to 90 days, Anderson says. But it could take many more months or even years to reconfigure the supply chain for a complex product.
What’s important, Bateman notes, is that companies assess their options soon. “You want to capitalize on the crisis when it’s fresh and there’s motivation to do so,” she says. “Visibility and transparency have been a hot topic for years, but it rarely gets deeply implemented. Build in the capabilities you’ve always wanted but didn’t have the drive or imperative to make happen. The time to act is now.”
Meet the Authors
Further reading
SAP Insights Newsletter
Ideas you won’t find anywhere else
Sign up for a dose of business intelligence delivered straight to your inbox.