ARAVO WHITE PAPER. Best Practices for Supplier Risk Management: Measure, Monitor and Mitigate

Transcription

1 ARAVO WHITE PAPER Best Practices for Supplier Risk Management: Measure, Monitor and Mitigate

2 EXECUTIVE SUMMARY Risk management practices, techniques and tools have been used extensively across all industries over the last 30 years. Risks with respect to a company s supply chain, and in particular both their direct and indirect suppliers, have become operational concerns from the front lines to the boardroom, given the economic downturn and recent spate of supply chain disaster headlines. For the last several decades, supply chain risk management has been primarily focused on operational efficiencies such as forecasting errors, capacity restraints, just-in-time inventory management, and transportation risks (delays, damage, re-routing, etc.). But as Tier 1 and Tier 2 suppliers collapse under the weight of financial distress, supplier risk management has taken on a new, urgent need. According to a March 2009 survey by A.T. Kearney of automotive suppliers, more than half of all current automotive suppliers ranging from small Tier 3 to the largest Tier 1 suppliers could file for bankruptcy protection in A March 2009 report from Roland Berger Strategy Consultants reveals that 94% of executives in the building materials and supply industry considered bankruptcy the greatest risk in Research from the Chinese Academy of Social Sciences estimates that 100,000 Chinese manufacturing suppliers went out of business in So what should companies do? Many buyers are adopting strategies ranging from hasty stockpiling to providing financial bailouts to their suppliers. But are these extremes the only approaches? Using such techniques may stave off sudden disaster in the next 30 days, but as a longer-term strategy, this kind of pay-as-you-go supplier risk management does not properly manage risk, because it is still there. Only, now the buyer has assumed the risk instead of the supplier. For more strategic and longer-term risk management, it is time to go back to the basics. 1. Measure: Create a view of supplier information, including data on your supplier s suppliers. A profile means that the buyer can compile information from internal stakeholders or IT systems of supplier performance and value, real-time information directly from the suppliers themselves and validation of information from third-party data feeds such as LexisNexis, Dun & Bradstreet and credit bureaus. 2. Monitor: Identify the risk measurements that are most important to the buyer, their leading indicators and the internal business owner for each risk area. Keep an unwavering watch on these risk measurements such as receivables, days of inventory stock and revenues vs. expenses. 3. Mitigate: Develop an early warning system of supplier health and alert the right business owners. Enable the collaboration on mitigation and business continuity planning from alternate supplier sourcing to contract renegotiation. Measure 1 Monitor 2 Mitigate 3 Create a view of suppliers: internal, supplier provided and external information feeds. Identify risk measurements, their indicators and business owners. Create mitigation workflows via triggered alerts for business continuity. Back to the basics with the 3 Ms: Measure, Monitor and Mitigate 1 Kearney, A. T. (2009). Automotive supply base financial health survey. Detroit, MI: A.T. Kearney 2 Roland Berger Strategy Consultants. (2009). Study: Despite stimulus package, construction supply industry expects sharpest drop in sales in second half of Munich, Germany: Roland Berger Strategy Consultants GmbH 3 Calum, M., & Wiserman, P. (October 22, 2008). Economy rocks China factories. USA TODAY. world/ red-dragon-china factories-economy_n.htm 1

3 MEASURE Buyers need to transform their supplier data into supplier intelligence by ensuring that vital information on suppliers is accurate, validated and accessible across the company. Collecting supplier information extends beyond the basics (e.g., contact name, address and tax ID number) and includes gathering data on supplier performance such as delivery performance, responsiveness, factory audits, product quality, etc. Information Source Internal Systems and Sources Internal Business Stakeholders Suppliers Site Visits Third Parties Examples of Information On-time delivery Call center data on customer complaints Incoming quality In-process quality Spend management Contract details Supplier responsiveness Service quality Ease of doing business with supplier Inventory turns Business processes and practices information (such as QA, carbon emissions practices, etc.) Business processes and practices Specific performance information Financial filings Certification (ISO, insurance CSR) Current, holistic supplier information is the core component of supplier risk management. It strengthens and optimizes oversight and governance through consistent, standardized practices, processes and procedures while sustaining accountability and insight into the management processes through audit features and reporting. Buyers should consider investing in an automated supplier information management system that provides A single system incorporating standard information and a transparent process for the monitoring and oversight of supplier relationships An alignment of process with policy, allowing the flexibility for specific business needs A single point of entry for information resulting in a reduction of redundant data entry An integration of key systems to reduce data redundancy and inconsistency Complete, accurate supplier information is the foundation and prerequisite for all supplier risk management business processes. 2

4 MONITOR Monitoring supplier risk requires cross-functional participation. Buyers must decide which risk categories are most important and relevant to their business needs. The top 10 most common risk categories include 1. Importance of the supplier to key lines of revenue 2. Fulfillment of contract terms 3. Percentage of revenue represented by the buyer to the supplier 4. Regulatory compliance 5. Dun & Bradstreet rating 6. Information security compliance 7. Financial information 8. Number of alternative suppliers 9. On-time delivery performance 10. Product quality It is clear that not all risk factors are under control of procurement. If available, the business owner for supplier risk should review the corporate risk strategy to see what areas of risk the company is preparing for that could be mapped back to a supplier risk strategy. Review such areas as types of risk, vulnerabilities to those risks, high-risk commodities or categories and types of suppliers with critical risk potential. Monitoring supplier risk is a cyclical process and requires a steady stream of updated supplier information and ongoing assessment. When companies do not clearly specify requirements to suppliers, and then do not adequately monitor for failures of performance according to their business requirements, they can become vulnerable to significant loss. MITIGATE Identify supply risks and business owners Put risk assessment metrics in place and evaluate Segment supply base according to risk Evaluate relationships for risk factors Analyze impact of potential risks Implement risk-triggered alerts to business owners Monitoring for supplier risk a cyclical process (Martin, 2005) 3

5 Once companies have the proper information and monitoring systems in place, they can focus on collaborative mitigation and business continuity planning. Critical elements of mitigation planning include Contracting with alternative sources for critical commodities or areas more open to risk Drafting a business continuity plan with specifically defined processes and procedures to ensure restoration of core business processes and services in a timely manner Insurance solutions such as hedging contracts with predetermined prices that will be paid for given products or services Using inventory buffers at risk points in the supply chain Many risks cannot be anticipated with any certainty. Even risks with low probabilities of occurring can produce critical consequences. Fortunately, some risk factors in the supply base can be identified and prevented. Awareness is the first step, but mitigation planning is at the heart of lowering the risk level. SUMMARY In a report based on a survey of a worldwide panel of executives, McKinsey Quarterly reported that nearly two out of three executives are facing increasing supply chain risks that can limit their ability to provide their customers with goods and services cost effectively. 4 Recently, the financial market has tightened significantly and suppliers are having increasing difficulty in financing working capital. This could land many companies in financial difficulties. In fact the American Bankruptcy Institute is estimating a total of 1 to 1.2 million bankruptcy filings in 2008, a 30% increase from Although bankruptcy is a lagging indicator, with the continuing global economic crisis, this trend is likely to accelerate in the near future. Large enterprises have thousands of suppliers. It is virtually impossible to track every aspect of supplier risk without going back to the basics of enabling buyers to measure customized risk metrics for each of their suppliers, monitor risk indicators via automated notifications and mitigate against supplier failure by triggering automated workflows that enable remediation. Supplier risk management is an iterative process that continues throughout a supplier s lifecycle. Through the best practices of measure, monitor and mitigate, companies can ensure that they are following the core tenets of effective supplier risk management: Continually assess risks Start prior to supplier acceptance Continue to monitor throughout the supplier lifecycle Combine a variety of information sources Collaborate regularly with suppliers Use high-risk suppliers only if absolutely necessary Engage in mitigation planning Automate the mitigation process if possible Build an internal team with the right skills Improve visibility Measure often with scorecards and dashboards Move beyond just monitoring preferred suppliers Recognize that the vast majority of catastrophic failures are not preferred suppliers Understand that no supplier is zero risk 4 McKinsey Quarterly. (2006). The McKinsey Global Survey of Business Executives : Confidence Index. New York, New York: McKinsey & Company. 4

6 ABOUT ARAVO SOLUTIONS Founded in 2000, Aravo reduces the cost of managing supplier information by up to 72%, according to leading analyst firm AMR. 5 The world s largest companies trust Aravo to manage their global supplier information. Aravo s core product, Aravo SIM, reduces costs by automating supplier management and providing real-time data that make efficient supplier engagement more cost effective, less risky and more strategic. From supplier management to risk management to supply chain sustainability, Aravo s Application Suite solves today s most demanding supplier information management challenges. For more information, visit 5 Rizzo, M. N. (April 28, 2009). GE lights up supplier management with Aravo. AMR Research. Aravo Solutions, Inc. 400 Montgomery Street 10th floor San Francisco, CA Tel: Fax: Copyright 2010 Aravo Solutions, Inc. All rights reserved. Aravo Supplier Information Management is a trademark of Aravo Solutions, Inc. All other brands and product names are trademarks or registered trademarks of their respective companies. 5