The upheavals and disruptions of the past year—from pandemics to protests to riots—have all had the effect of making visible what was once invisible (or at least partially hidden). They have forced us to take a hard look in the mirror at the weaknesses and cracks that have long existed in society in general and supply chains in particular.
In addition to my work on DC Velocity, I also serve as the executive editor of our sister publication, CSCMP’s Supply Chain Quarterly. Several articles in the current, Q1 issue of The Quarterly emphasize this point.
In the cover story (“Covid-19 and the health care supply chain: impacts and lessons learned”), a team of researchers from Clarkson University, the University of New Hampshire, and Mount Sinai Hospital in New York took a close look at what caused the supply disruptions for basic personal protective equipment early in the pandemic. One of the article’s key points is that the health-care industry’s long-time focus on driving down costs has had a deleterious effect on its ability to be resilient and provide quality care during a public health emergency. The researchers argue that declining reimbursements from Medicare, Medicaid, and private insurance companies drove hospitals to exist on razor-thin margins and look to cutting supply costs as a way to cope. This focus on cost rippled back through the supply chain, with distributors and manufacturers chasing low-cost labor and tax incentives in offshore manufacturing. The result? A lack of safety stock and an overreliance on a few offshore manufacturers far away from the point of demand.
The cost of focusing too much on cost is echoed in research conducted by consultant Kelly Thomas on supply chain management’s effect on market capitalization and reported in “What type of supply chain strategy drives market cap leadership?” Thomas looked at market capitalization and financial statements for 1,500 companies in order to assess what supply chain management-related financial measures correlated with market capitalization. Not surprisingly, profitability measures, like operating margin, net margin, and earnings, all have a direct correlation to market cap. Perhaps what is surprising is that Thomas could find no correlation between cost-related measures and market capitalization. For example, there was no link between inventory turns—one of the most oft-discussed supply chain metrics—and market capitalization. In fact, market cap leaders are more likely to perform worse than their peers when it comes to inventory turns—oftentimes, much worse.
The reason? Thomas argues that more and more, the path toward profitability lies through customer satisfaction, which often requires more products and variants customized to specific customer segments and more tailored (and faster) delivery options. In this environment, you can’t make your supply chain a profit center by focusing solely on cutting costs and optimizing assets.
As we attempt to survive these tough economic times when even top economists struggle to predict which way the wind will blow, it’s tempting to shut out all the noise and focus on what we already know and do best. We know and understand how to cut costs. In a complex world, this strategy seems so appealingly simple. So much safer than dealing with the messy business of trade-offs and the scary possibility of trying to innovate but failing big.
But if this past year has taught us anything, it’s that a focus on cost limits a supply chain’s ability to be resilient, it limits our ability to take care of our employees and our suppliers’ employees, and it limits our ability to be innovative and truly delight our customers.
While it is possible to run a supply chain by always zeroing in on cost control, is that the type of operation that we dream about running? Do we want to live another day, only to have to get up in the morning and make still more cuts?
