Thought Leadership From Survival to Revival:

Manufacturing Sector We make it happen. Better. Thought Leadership From Survival to Revival: Manufacturing is Adapating to a Faster, More Complex Landscape A paper by Dennis McRae, Vice President September 2015 Better Strategy

Delivering value in the new landscape CUSTOMER VALUE CAN BE QUANTIFIED BY FOUR FACTORS: SURVIVAL SUSTAINING VALUE, 2008 RECESSION REVIVAL TO VALUE NEAR SHORING Quality Value = Q x S C x LT Value = Q x S C x LT Lead Time VALUE Service Manufacturers lowered cost to remain competitive via off shoring Low unit cost still required to remain competitive Cost Off shoring required longer lead times and therefore more inventory to store Customers now want Just in Time deliveries to lower their inventory holding cost Value = Quality x Service Cost x Lead Time Manufacturers sustained value and remained competitive by lowering per unit costs but at a higher cost of capital (COC) COC increases due to higher inventory levels, additional storage space, handling, and excessive movement damage Manufacturers are driving value by finding near shore suppliers with flexibility to provide JIT deliveries COC decreases due to lower inventory levels, less storage space, and less material handling/damage The traditional manufacturing model is falling short in meeting the needs of today s marketplace. Customers demand faster delivery of more customized orders, while supply chains have extended to global lengths as all value chain stakeholders have reduced inventories. Manufacturers are therefore hamstrung by a process and existing supply chains that struggle to achieve shorter fulfillment times all the way through the value chain from sourcing raw material to fabrication to assembly to final production to distribution to final customer. The scenario boils down to a common set of challenges that emerged in the aftermath of the 2008 recession. In an effort to cut costs, supply chains were lengthened by offshoring material sourcing and manufacturing capacity to lower cost countries. At the same time, supply chains focused on reducing material inventories to free up cash while further increasing delivery risks. Meanwhile, customers were reducing their supply chain costs too, creating competing goals as they now expected fast, agile processes to deliver product with little (or no) lead times. To capture customer orders and keep low utilization plants running, manufacturers ignored their past standards of minimum orders, change-over fees, and minimum order lead times. Product development and marketing leaders across all industries were also adding innovative and complex SKU s to their product portfolios in order to capture market share in declining markets. The strategy was simple: take any order, no matter how complex or small, and keep as much of the capacity utilized as possible. In order to prevent margins from absolutely imploding, manufacturers were forced to source parts and materials from lower cost and often lower quality suppliers within global markets. These moves extended the supply chain, added lead times, and increased the variables to manage, resulting in greater complexity and risk to customer delivery. The extended supply chains now had new variables driving variability and risk of delivery such as foreign holidays, port shutdowns, and severe weather that delayed shipping routes. Possibly the biggest outcome of these trends: customer behavior changed; as their supply chains tightened to reduce cost, they pushed suppliers on both cost and delivery to reduce working capital needs. Price pressures continued, and in many cases, orders were won or lost solely on the ability to meet shorter order due dates.

That disconnect between supplier capability and customer s changing expectations has led to a difficult environment for U.S. manufacturers as the economy has rebounded. Companies must now adapt their value chains to capture growth in the evolving global environment. Success depends on their ability to: Source and design the supply chain to ensure material flows are on time to assembly without over compensating with excessive inventory. Although the unit cost may be lower with long lead time suppliers, the overall cost is greater due to the extra working capital and material handling/storage. Structure the supply chain to ensure deliveries of orders are 100% on time and in full. Working with suppliers to deliver true Just in Time while balancing manufacturing operations will achieve world class delivery. Compete on time, rethink the manufacturing footprint and supplier base of core parts and components. This may mean nearshoring or reshoring capacity and/or bringing key parts/ components in house from some vendors while simultaneously outsourcing some parts to new supplier relationships. Drive and invest in continuous improvement across the entire value chain while focusing on cost, quality, service, and delivery. The focus should stay on the changing market and managing manufacturing parameters. Rationalize product portfolios and utilize platform designs to reduce supply chain complexity. Rationalize based on providing differentiated, high value customer solutions vs. providing an exploding list of products or one off low return design platforms. To build a model suited for competing today and into the future, manufacturers must focus on time, cost, service, and quality across the end-to-end value chain. They should address the manufacturing footprint to compete on time, develop differentiated offerings across modular product platforms, improve material flow and inventory accuracy, and return to continuous improvement. VALUE REVIVAL CHECKLIST Materials flow on time to assembly Measure and execute on time and in full (OTIF) deliveries across value chain Compete on Time configure manufacturing footprint to enable small lot/frequent deliveries (JIT); Lower the working capital profile through near shoring (see figure one below) Revive and invest in continuous improvement functions to drive value across the value chain Focus on Platform designs that delay differentiation and reduce supply chain complexity Inventory Profile Supplier Manufacturer Figure 1 Customer Legend Survival thru Off Shoring Revival thru Near Shoring / JIT

Rethinking the manufacturing footprint Competing on time Given the emphasis on quick delivery time and customized orders, product makers must ensure that their physical reach allows them to better respond to modern expectations. Decentralized and low inventory direct results of offshoring initiatives implemented to cut costs forces longer lead times to order fulfillment, in addition to increasing the opportunity for supply chain disruptions. Indeed, offshoring can extend lead times from 30 days to more than 180 days, putting pressure on the entire supply chain. To answer the demand for quick delivery, manufacturers need to re-evaluate decentralized, low inventory environments across the entire supply chain to regain competitiveness and quality. This was a reality taken at full speed by one international automotive manufacturer, whose brand is hallmarked by quality, safety and environmental care. In developing a strategic roadmap to deliver against 2020 objectives, it was important to integrate the company s guiding principles across all new and existing facilities while working to reduce complexity and improve ramp-up time for new models. By increasing the focus on designing a supply chain with reduced complexity (lead time variability), the automaker was able to double vehicle capacity and hit their assembly targets on time. In many cases the answer involves bringing operations back to the U.S. According to the Reshoring Initiative, more than 13,000 manufacturing jobs were reshored in the top six examples of the trend in 2013. Walmart, GM, Apple, Caterpillar, Ford, GE, Farouk Systems and Boeing each brought operations stateside from countries including Mexico, Japan, China, Korea, Brazil, India and Hungary. While reshoring reasons vary, each of these companies has rethought their manufacturing footprint to improve lead-times and reduce overall supply chain complexity. Onshoring the workforce will have a positive impact on the supply chain, but it is complicated by the fact that manufacturing talent is not as readily available nor as desirable to the American worker as it once was. And as the graying workforce heads for retirement, maintaining a skilled, sustainable labor pool is one of the most significant challenges of the young century. According to the U.S. Department of Labor, less than 10 percent of the U.S. workforce is currently employed in manufacturing, down from a peak of 30 percent in 1960, and 14 percent in 2000. Despite this, demand remains. While overall job growth in U.S. Manufacturing has slowed to just 1.5% in the last year, according to the U.S. Department of Labor, 312,000 manufacturing positions remain unfilled. While the decline of manufacturing talent in the United States may not be easily solved, manufacturers still need to maintain competitive advantage. In some cases it s a matter of relocating operations or opening new facilities to gain access to talent. Borrowing from the classic manufacturing playbook, manufacturers are revisiting the approach of moving to new, often rural, labor markets. However, careful consideration is required as available labor can be quickly consumed if other manufacturing is also attracted to the same labor markets.

Rationalizing portfolios: Right customer, right offering, right platforms In order to adapt to a market that often rewards high maintenance customers, companies need to be more attuned to servicing the right customer with the right product at the right price with the right value-added service support. By no means does this translate into servicing all customers faster. On the contrary, as orders increase globally, companies should be taking a holistic view of their product portfolio, inventory flow, and customer profiles to determine the total cost to serve (e.g., where the pain of overservicing is worth the hardship). There are four steps that will help manufacturers reduce complexity and operate on a healthy margin: Rationalize SKUs One of the most difficult tasks for large manufacturers (especially those with a successful product history) is determining which SKUs stay in the portfolio and which should be retired. As technology breaks down barriers, the emphasis on product innovation continues to grow. Rolling out new and successful products without removing other items from the catalogue, however, increases complexity and expands stress on the supply chain. Segment customer service Along similar lines, manufacturers must assess performance and measure customer compliance how does actual customer behavior and fulfillment stack up against the processes in place? A system can look effective on paper, but the reality is that when customers make enough noise, they often move to the front of the line. Customers know who to call and when to be aggressive enough to get special treatment, and they work different angles and different contacts to speed their orders. In the end, customer priorities are being managed from all corners of the organization, creating an almost impossible schedule for the supply chain. Tracking policy exceptions to lead-time, order minimums, and other customer cost factors will provide better visibility to customer profitability. Gartner also notes in a recent report that some companies are taking newer approaches to determining which customers do, in fact, deserve to be at the front of the line. Some of the leading companies, Gartner writes, are tracking customer satisfaction measures as a first-tier metric for their organizations. Rationalize customers and product platforms With a better understanding of which customers and products are a good fit for value creation, companies can reduce the number of suppliers and better manage the supply base for material flow and on time delivery. In addition, putting focus on leveraging product platforms will further reduce supply chain complexity, inventory, and risk to delivery. Based on the segmented service needs, which customers get a higher level of service, and which are passed on to wholesalers and distributors? By taking steps to rationalize the customer portfolio based on value delivery, companies can remove order and planning complexities and smooth out demand volatility. Putting a keener eye on portfolio management will reduce planning and packaging complexities. Manufacturers should strive to develop a methodology and cadence, and discipline, for a cross functional review of volume, revenue, and profit, which will help to better manage SKU portfolios. Develop cost to serve models Once the portfolio is evaluated, companies must take a hard look at the profit model and the customers themselves: who is hurting the cycle and the bottom line? By working with both customer and internal stakeholders, manufacturers can assess the complete impact of the need to launch, transition, and retire SKU s throughout the promotion, distribution, and shelving cycles. Customer Segmentation & Service Cost Flexible Platform Design Product & Platform Rationalization Right Portfolio

Improving material flow and inventory accuracy Does this look familiar? Many companies have turned to semi trailers and cargo containers to serve as their extra warehouse space due to the extra inventory needed through off-shoring. The complexity to track, find and get material to assembly on time is very costly and often delays customer orders. When competing on time and JIT delivery, these costs go away! Once the product portfolio is more focused, companies must then begin to look across the value chain to better assess material flow and inventory levels. Especially when new or higher margin products are introduced, companies should re-evaluate associated materials lists. That requires a full understanding of not just which product or material is being held in which location, but what the lead time is for all suppliers. Supplier Capability Assessments are being redefined to include viability, ability to respond, and other parameters that represent changes in the market demands. Companies often find they have either too little of a specific material, or just as troublesome too much. Indeed, overstocking material results in cluttered space, disorganized storage systems, and a higher risk of damaging product as workers sort through packages to find certain items. Overstocking also leads to difficult decisions about capacity at distribution centers. If lead time is excessive and material must sit for extended periods, absorbing the cost of a new distribution facility may be required. Having too much material on hand also leads to tracking problems, as shipments are housed in improvised containers or are moved from place to place to make room for other product. This is a recipe for missing or damaged parts, which creates new inefficiencies: entire orders can be held up over one missing part. This results in some cases of pilfering parts from partial assemblies or borrowing parts from another customer s order. The result is a spiraling, non-sustainable complexity of scrambling for inventory and cascading missed customer orders. Reducing inventory and shortening lead times (or at least planning appropriately for lead times) enables companies to vastly simplify operations. Whether procuring something for a retailer or for a nearby plant, the chain has to be stocked with the right material at the right time.

Improving material flow and inventory accuracy When consumer spending and overall orders decreased following the 2008 downturn, all manufacturers began rationalizing and consolidating capacity. Many that turned to offshoring also cut continuous improvement/ a Continuous Improvement Disciplines (like Lean Six Sigma) which are designed to minimize the complexity in the processes that were being extended. Supply chains, inventory on hand, fabrication, assembly, and key parts manufacturing were all stretched beyond capacity, with no sound strategy to guide them. Faced with this challenge, one Fortune 500 organization spanning the lighting, consumer and healthcare industries, broke ground on a new, world-class manufacturing facility with improved supply chain and material flow processes that were complemented by an innovative product development framework utilizing common product platforms. The result was reduced time to market, fewer defects in production, and an impressive $14M in annualized cost of goods (COGS) savings. The lesson? The footprint means something entirely different in 2016 than it meant in 2008. Those that look at their operational reach through the lens of CI programs focused on reducing supply chain complexity (lead-time variability) will find major efficiencies. Every aspect of the supply chain and material flow process, including sourcing raw materials, facility location, and inventory management will play into a manufacturer s ability to stabilize and grow in this environment. Manufacturers will always be called upon to adapt to new customer realities and widely varying market demand. A complete understanding of the manufacturing footprint means assessing CI programs, revisiting value chain assumptions, and eliminating sources of complexity. With a detailed picture in hand and learning from the pendulum swing of 2008, companies can ensure their path to growth is constructed on a strong foundation. Consistently focused on how Value is defined, delivered and improved Improvement Cycle Management Cycle Analyze Forecast Decision DADA Loop Data MCRS Plan Action Control ffcontinuous improvement through fact-based decisions ffa system defines targets and measures value chain execution vs. plan

Revival to Value About the Author Dennis McRae Vice President Mr. McRae has made a name for himself in his over 20 years of experience bringing sustainable value to his client base through the management of results-based implementations. As a practioner of Lean and Six Sigma, he has successfully trained over 100 people in results based delivery techniques. Dennis brings his mastery of technical skills such as Lean Manufacturing, Revenue Growth & New Product Development, Footprint Rationalization and Sales & Operations Planning directly to his clients bottom line. About Hitachi Consulting Hitachi Consulting is the global management consulting and IT services business of Hitachi Ltd., a global technology leader and a catalyst of sustainable societal change. In that same spirit and building on its technology heritage Hitachi Consulting is a catalyst of positive business change, propelling companies ahead by enabling superior operational performance. Working within their existing processes and focusing on targeted functional challenges, we help our clients respond to dynamic global change with insight and agility. Our unique approach delivers measurable, sustainable business results and a better consulting experience. About Hitachi Limited Hitachi, Ltd. (TSE: 6501), headquartered in Tokyo, Japan, delivers innovations that answer society s challenges with our talented team and proven experience in global markets. The company s consolidated revenues for fiscal 2014 (ended March 31, 2015) totaled 9,761 billion yen ($81.3 billion). Hitachi is focusing more than ever on the Social Innovation Business, which includes power & infrastructure systems, information & telecommunication systems, construction machinery, high functional materials & components, automotive systems, healthcare and others. For more information on Hitachi, please visit the company s website at: http://www.hitachi.com. For more information contact: info@hitachiconsulting.com www.hitachiconsulting.com Hitachi Consulting is the global management consulting and IT services business of Hitachi Ltd., a global technology leader and a catalyst of sustainable societal change. In that same spirit and building on its technology heritage Hitachi Consulting is a catalyst of positive business change, propelling companies ahead by enabling superior operational performance. Working within their existing processes and focusing on targeted functional challenges, we help our clients respond to dynamic global change with insight and agility. Our unique approach delivers measurable, sustainable business results and a better consulting experience. www.hitachiconsulting.com