Risk & Supplier Performance -- When Conventional Wisdom Isn't
This morning, I'd like to welcome a distinguished supply risk expert to Spend Matters. Dr. Kevin McCormack, the CEO of Supply Chain Redesign, LLC, is a true authority on a subject that all Spend Matters readers should know more about.
After applying a holistic risk model to several companies, we have seen something that contradicts the conventional wisdom that there is a trade-off between risk and supplier performance (total cost of ownership). The "wisdom" is that risk increases when supplier performance (price, quality and delivery) increases or with a better price comes higher risk. Remember when it was conventional wisdom that there was a trade off between price (or cost) and quality? What resulted from this thinking was that the companies that proved this false gained a competitive advantage on the believers. Many companies that accepted this "wisdom" are now out of business.
When we say a "holistic model" we mean that we attempt to measure all the factors that define a supplier's "risk" or the potential of not performing as promised (quality, delivery timeliness, quantity or cost). In our model, developed over the last four years of research, we measure the following attributes and situational factors of a supplier:
Relationship -- the specific relationship with the supplier’s customer, as seen from the supplier's perspective. This is a customer's reputation with a supplier.
Performance -- the specific performance of the supplier as measured by the customer.
Human Resource Factors -- attributes of the supplier such as pay position, workforce issues, turnover, etc.
Supply Chain Disruption -- the level of disruption experienced by the supplier in their supply chain.
Financial Health -- indicators that show the financial stress of the supplier (payables v. receivables cycle time, growth, profitability, customer satisfaction, etc.)
Environment -- situational factors that impact the supplier such as their specific market dynamics, physical location, specific transportation routes to the customer, etc.
After examining the data collected with hundreds of suppliers in numerous categories in widely varied industries, we have seen a statistically valid positive relationship between supplier risk and performance (including cost). The better performing suppliers also had the lowest risk level as measured by our model. When looking at the supplier's history with the customer, these suppliers also had the least number of supply chain issues or incidents.
Our conclusion is that holistic supplier risk management can produce a tangible return. Improve the risk level and this will help supplier performance which then will lead to a lower total cost while giving you opportunities for top-line growth. While this might sounds like a "duh" statement after reading this post, conventional wisdom, when disproved, always does!
Spend Matters would like to thank Dr. Kevin McCormack, the CEO of Supply Chain Redesign, LLC, for contributing his thoughts on supply risk.
After applying a holistic risk model to several companies, we have seen something that contradicts the conventional wisdom that there is a trade-off between risk and supplier performance (total cost of ownership). The "wisdom" is that risk increases when supplier performance (price, quality and delivery) increases or with a better price comes higher risk. Remember when it was conventional wisdom that there was a trade off between price (or cost) and quality? What resulted from this thinking was that the companies that proved this false gained a competitive advantage on the believers. Many companies that accepted this "wisdom" are now out of business.
When we say a "holistic model" we mean that we attempt to measure all the factors that define a supplier's "risk" or the potential of not performing as promised (quality, delivery timeliness, quantity or cost). In our model, developed over the last four years of research, we measure the following attributes and situational factors of a supplier:
Relationship -- the specific relationship with the supplier’s customer, as seen from the supplier's perspective. This is a customer's reputation with a supplier.
Performance -- the specific performance of the supplier as measured by the customer.
Human Resource Factors -- attributes of the supplier such as pay position, workforce issues, turnover, etc.
Supply Chain Disruption -- the level of disruption experienced by the supplier in their supply chain.
Financial Health -- indicators that show the financial stress of the supplier (payables v. receivables cycle time, growth, profitability, customer satisfaction, etc.)
Environment -- situational factors that impact the supplier such as their specific market dynamics, physical location, specific transportation routes to the customer, etc.
After examining the data collected with hundreds of suppliers in numerous categories in widely varied industries, we have seen a statistically valid positive relationship between supplier risk and performance (including cost). The better performing suppliers also had the lowest risk level as measured by our model. When looking at the supplier's history with the customer, these suppliers also had the least number of supply chain issues or incidents.
Our conclusion is that holistic supplier risk management can produce a tangible return. Improve the risk level and this will help supplier performance which then will lead to a lower total cost while giving you opportunities for top-line growth. While this might sounds like a "duh" statement after reading this post, conventional wisdom, when disproved, always does!
Spend Matters would like to thank Dr. Kevin McCormack, the CEO of Supply Chain Redesign, LLC, for contributing his thoughts on supply risk.
As the good Dr. said…“The better performing suppliers also had the lowest risk level as measured by our model”. Makes sense, what you measure is what you get, and since firms measure pretty much along these categories, that’s what they indeed do get. So, the conventional wisdom is indeed wise and now empirically proven. Q.E.D.
As the Guinness commercial goes….”Brilliant”!
In MY next guest article, I will play an Aberdeen analyst and argue that the conventional wisdom of “cross-functional teams are a waste of time” is indeed false by proving that “Leading CPOs 2X More Likely to Emphasize Procurement Team Management”.
The fool clearly needs to find a nice professorial gig to set up his own little research & consulting business. Will keep you all posted.
That’s the problem with theory: it just doesn’t hold up to day-to-day grind and wear-and-tear of real use.
Still, Dr. McCormack is right – manufacturers need to look at all these variables (and factors such as regulatory compliance (and non-compliance), diversity profiles, and industry benchmark data) to determine the risk profile of suppliers. The good news is that the best-and-the brightest – names like UTC, Dresser-Rand and Eaton – have been doing it for years, with technology and the wealth of information found well beyond their own organizations to know up-to-the-minute who’s in trouble and how relevant it is to their own well-being.
Actually, the conventional wisdom that a good model means academic irrelevance is untrue. In fact, the best thing about Dr. McCormack's model is in fact that it really is an extension of a supplier scorecard that starts with supply/category performance criteria. Many folks are running around trying to beat the supply risk drum like it's some other parallel universe when in fact Dr. McCormack's model is that risk is anything that prevents attainment of defined supply performance. This allows a company to firmly ground a risk strategy to a firm's existing supply performance management framework - even though the model components can get complex and not captured by a transaction system. This is very practical and powerul. In fact, it's exactly what UTC does although UTC has a deeper operational diagnostic it uses beyond just a single-tier output metric measurement system.
Even though the Fool (and likely the Dr. too - shame on him - go grade some papers) spends a lot more time with procurement executives than Jim, I will not mock him for what he is (only what he says that deserves such mockery), and in fact, we all have a role to play to help companies get better.
"All the world's indeed a stage, and we are merely players, performers and portrayers, each another audience, outside the gilded cage". With that, it's time to rush for a homebrew.
"That’s the problem with theory: it just doesn’t hold up to day-to-day grind and wear-and-tear of real use. "
I would like to offer some perspective on this (not to attack Jim but address the conventional wisdom).
1. A good theory is developed through solid observations of reality and is an explanation of what happens, why it happens and how you can influence it. That is what we have done through several years of research and on the ground work with commodity managers.
2, A good theory also has “face validity”; meaning that it makes sense to subject matter experts, in this case commodity managers. We have validated this theory with dozens of real folks doing real work in this area.
3. Finally, a good theory is useful. This we have also validated with real working commodity managers. Their comments have always been; “if I had just known that (an observation about a supplier), I could have prevented this (an event that has happened associated with the supplier).
A good theory is based on reality, developed from reality and useful in reality. Like the theory of flight…pretty useful now but it looked pretty wild early on.