19MWORLD FALL 2012 American Management Association

The simple fact is that intoday’s longer global supplychains, product moves overgreater distances and acrossmore multinational bordersthan in the more localizedsupply chains of the past. Thisdistance-based supply chain,whose links are forged bymany supplier tiers in variouscountries, carries a riskdependent on its length anddiversity. The longer andmore diverse it becomes, themore it is susceptible tounforeseen circumstances. By consequence, the sup-ply chain is rendered delicate, extended, and bloatedin some way.

Are you equipped to succeed in a supply chainworld of increasing difficulty and insecurity andmultiple interconnected supply chains? Do you havethe correct response to a supply disruption in thesupply chain and the attendant supply-related risk?

Supply chain disruption can destroyshareholder value and corporate prof-itability. More importantly, taken

together, total supply chain costs consume about 7 to12% of corporate annual revenue across all indus-tries, which makes the task even more daunting.

IMPACT ONGROWTH

In their 2005 study of thefinancial effect of supplychain disruptions, KevinHendricks, formerly of theUniversity of WesternOntario, and Vinod Singhal,of the Georgia Institute ofTechnology, made some inter-esting findings. They discov-ered that the average effect ofsupply chain disruptions inthe year leading to the disrup-tion included a 107% drop inoperating income, 7% lowersales growth and 11% growth

in cost. Share price volatility in the year after the disruption was 13.5% higher than in the year beforedisruption. Don’t you think that BP can attest to this effect as a result of the Gulf Coast oil spill in the USA?

Risk is an everyday occurrence in business, andcompanies either consciously or unconsciously includeit in their decision-making process when managingtheir operations. (See sidebar: Most Common SupplyChain Risks.)

Companies must invest in enhancing the integrityof their supply chains, in a manner that balancesoperational objectives with reputation risks (a typeof risk related to the trustworthiness of business).Supply chain risk exists in many varied forms. For

Mitigating Supply Chain Risk in UncertainTimes—Murphy’s Law BY THOMAS L. TANEL

C H E C K P O I N T

• Financial instability, bank-ruptcy, or financial failure of a supplier

• Fire, chemical spill, etc. at thesupplier firm

• Problems in electronically shar-ing information with suppliers

• Suppliers incorrectly interpret-ing our requirements

• Natural disasters affecting suppliers’ operations

• Political instability, terrorism,civil strife, or war affectingsuppliers’ operations

• Reduced accuracy of forecastsand plans

• Long physical distancesbetween buyer and suppliers

• Inability to influence /managesuppliers

• Lack of alternative sources ofsupply

• Labor availability, slowdowns,strikes, and quality of work-force

• Health issues, disease, quaran-tines, and pandemics

MOST COMMON SUPPLY CHAIN RISKS

Source: CATTAN Services Group, Inc. Research

20 American Management Association MWORLD FALL 2012

instance, damage to a firm's reputation canresult in lost revenue or destruction of share-holder value. Damage to revenue may be per-petrated by transportation disruptions, naturaldisasters, strikes, and political unrest—all ofwhich may interrupt supply of product to theultimate customer or components to the fac-tory. By way of example, the European debt cri-sis, the Japanese earthquake and tsunami, andthe Arab Spring uprisings all had a ripple effectin 2011.

As PPB Newslink reported in March 2011,more than 40% of the world’s USB flash drivesupply is produced in Japan. In fact, one major sup-plier, Toshiba, supplies 30% of the world’s memory chips alone. When the tragedy unfolded inJapan due to the history-making earthquake andtsunami, memory prices jumped by 50 to 60%overnight–literally.

A major concern for purchasing and supply chain executives is supplier financial stability as the sup-

ply base shakeout occurs from the last four years’worldwide financial reckoning. According toPricewaterhouseCoopers LLP, many companies arebeginning to learn that relationships with criticalsuppliers shouldn’t be taken for granted.Relationships must be acknowledged, protected, andnurtured to positively impact a company’s bottomline.

As a case in point, the effects from the March 2011earthquake and tsunami, and the ongoing nuclearcrisis in Japan: Automotive News reported that supplychain management at Honda was being stress tested,given that at least 113 of its suppliers are located inthe affected areas.

Closely monitoring the financial health of suppli-ers has become an important part of the job for any-one involved in a company’s purchasing or procure-ment sourcing efforts. A solvent supplier yesterdaymay become an insolvent supplier today. While sup-plier insolvency is a known risk, the recent economicdownturn has brought it to the forefront. To weatherthis and future storms, organizations must focus on aproactive approach to better anticipate changes insupplier viability and financial health.

According to a recent research project by theProcurement Strategy Council (PSC), procurement

SUPPLY BASESTABILITY

organizations pay, on average, an additional 4% toresolve a supply incident stemming from supplier finan-cial distress. What specifically accounts for that 4% costincrease? According to the PSC research, the real cost ofpoor supplier risk management includes: supplier prod-uct line or facility closures; reduction in quality stan-dards, and supplier layoffs and bankruptcies.

Recently, as a hedge against rising oil prices, DeltaAirlines bought the Phillips 66 refinery in Trainer,Pennsylvania, to maximize its jet fuel productioncapacity. As reported by USA Today, “Fuel makes upbetween 25% and 40% of an airline's costs, and soar-ing prices in the past several months have dug intoindustry profits and led to higher fares for the flyingpublic. The Pennsylvania refinery and products itproduces will fulfill 80% of Delta's fuel needs in theU.S,” the publication said.

Clearly, understanding and mitigating supplychain risk needs to be recognized by the C-level ofmanagement. For example, what does this do to oursupply risk and the increased supplier risk depend-ency? How do we assure ourselves of supplier viabil-

Figure 2: Severity of Impact Criteria Dimension Example

Descriptor Rank Value

Catastrophic High 5

Critical Medium High 4

Serious Medium 3

Marginal Medium Low 2

Negligible Low 1

Figure 1: Levels of Likelihood Criteria Dimension Example

Descriptor Probability Rank Value

Highly Probable >75% High 5

Probable >50% — <75% Medium High 4

Occasional >25% — <50% Medium 3

Remote >10% — <25% Medium Low 2

Improbable <10% Low 1

C H E C K P O I N T

21MWORLD FALL 2012 American Management Association

ity and financial health in light ofthese trends?

Having assessedthe risks andidentified those

that require action, plans need to bedrawn up and responsibilitiesassigned to control and mitigatethese risks. This means risk identifi-cation, risk assessment, and riskmitigation. The intent of risk miti-gation planning is to answer thequestion, “What is our approach foraddressing this potential unfavor-able consequence?”

� Avoiding risk by eliminatingthe root cause and/or consequence

� Controlling the cause or consequence� Transferring the risk, and/or� Assuming the level of risk and continuing on

the Supply Chain Continuity PlanThe allocation of risk should be dependent on the

assessment of the likelihood and consequence of therisk and then the identification of who is best able tocontrol or manage the risk. Normally a risk templatehas two critical elements:

1. Likelihood of occurrence (probability)—A riskis an event that "may" occur. The probability of itoccurring can range anywhere from just above 0% to just below 100%.

2. Severity of impact or consequence (magni-tude)—A risk, by its very nature, always has a nega-tive impact. However, the severity or size of theimpact varies in terms of cost and impact on somecritical factor.

So let’s look at the Levels of Likelihood CriteriaDimension Example in Figure 1, which representsthe probability that a risk will occur. It values thatrisk’s probability of occurrence on a scale of 1-5 with5 being the highest-ranked probability and 1 beingthe lowest-ranked. The Severity of Impact CriteriaDimension Example in Figure 2 represents the mag-nitude of a risk’s impact. On a scale of 1-5, it valuesrisk’s severity of impact with 5 being the highest-ranked impact and 1 being the lowest-ranked.

You then use the two dimensions in Figures 1 and2 to calculate and quantify the risk in Figure 3. ThisRisk Analysis Levels of Likelihood and Severity of

RISK MITIGATIONPLANNING

Impact Scorecard Example gives you a quick, clearrisk quantification ranking of the priority that youneed to give to each risk.

Do you remember what BP’s CEO said about theGulf of Mexico oil spill? He gave it a likelihood ofoccurrence of 1 but a severity of impact of 5. Well, thecompany was certainly wrong in their risk assessment!

The Scorecard Example chart in Figure 3 allowsyou to rate potential risks on these two dimensions:(1) the probability that a risk will occur is repre-sented on one axis of the chart and (2) the impact ofthe risk, if it occurs, on the other. The higher thescore, the higher the risk.

You can now decide how risk-averse-based youare. Does your organization have the wherewithal toimplement a robust Supply Chain Risk Management(SCRM) strategy? If not, do you feel that your organ-ization is flirting with disaster by not exploring andinvesting in SCRM measures? Since SCMR is becom-ing an increasingly visible, multifaceted phenome-non, what are you doing to mitigate it?

As companies look to recover from the uncer-tainty and economic turbulence of the last four years,the experience of managing supply chain risk acrossoceans and continents is still daunting for manyorganizations. Why? They unknowingly have realizedthat they have taken on greater exposure to risks anduncertainty as the supply chain today has been ren-dered weak and vulnerable. MW

Thomas L. Tanel, C.P.M., CISCM, CCA, CTL, is president

and CEO of CATTAN Services Group, Inc.

C H E C K P O I N TPH

OTO

S: COURTESY OF TH

OMAS L. TANEL

Severity of Impact

LIKELIHOOD NEGLIGIBLE MARGINAL SERIOUS CRITICAL CATASTROPHIC

Highly Probable

Probable

Occasional

Remote

Improbable

1x5=

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1

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Figure 3: Risk Analysis Levels of Likelihood and Severity of Impact Scorecard Example