In the airline industry, the largest cost of services rendered is the cost of aviation fuel followed by direct labor costs. Profitability and overall business financial results are therefore highly dependent on a predictable cost of fuel.
In May of 2012, Delta Airlines made what Supply Chain Matters viewed as a bold initiative in practicing supply chain vertical integration. At that time, Delta purchased a previously idled Trainer Pennsylvania refinery from Conoco Phillips for $150 million. Plans called for an additional $100 million to retrofit the refinery to optimize its ability to refine jet fuel and Delta would subsequently enter into marketing and sourcing agreements with both Phillips 66 and BP PLC to exchange gasoline, diesel and other refined products additionally produced at this refinery for distribution in other retail markets. Delta’s plan was to eventually reduce its annual jet fuel costs by $300 million, along with having the ability to plan on a reliable source of supply for eastern U.S. operational needs. Airline competitors and industry analysts were very skeptical of this effort and Supply Chain Matters committed to continue to monitor subsequent developments and financial results that concerned this refinery’s contribution to its stated business goal.
Last week, Delta indicated to its investors that lower fuel prices would increase its profitability next year but could force the airline to write-off $1.2 billion as a result of prior fuel hedging contracts. The airline expects pre-tax income to jump 11 percent to $5 billion next year, including a net gain of $1.7 billion in cost savings from lower fuel costs. Since June, the cost of jet fuel has dropped by about a third. However, according to reporting from The Wall Street Journal (paid subscription), those savings could have been 70 percent larger without the hedging. Fuel hedging is a common but controversial procurement practice for the airline industry. Even though Delta owns a refinery, it also exercised fuel hedging contracts to protect from being impacted by high spikes in fuel prices.
Delta indicated that in its fiscal fourth quarter, profit of $75 million at its Trainer refinery would offset a roughly $150 million hedging loss in the period. Delta’s CFO indicated that in a period of stable fuel prices, the refinery, hedges and efficient operations allow Delta to save 8 to 10 cents a gallon on fuel. But, partly because of hedges, “during periods of dramatic price swings… our goal is to drive industry parity” on fuel prices. Delta’s president further indicated that its hedges save it 65 cents for every dollar decrease in the price of fuel.
Thus, at this point, Delta’s investment in a refinery continues to contribute short-term financial benefits, but coupled with a longer-term fuel hedging strategy, and current period of dramatically lower cost of jet fuel costs in 2015, whether or not the refinery serves a strategic advantage. Time will tell, along with subsequent financial reporting from other competing airlines.
Supply Chain Matters will continue to monitor these developments.
Automotive Service Networks Response to Crisis: Update Three- Expanded Recall Involving Suspected Defective Air Bag Inflators
Supply Chain Matters provides another update to the ongoing crisis involving the automotive industry as unprecedented levels of product recalls continue to stress auto aftermarket service supply chains to their limits. In our last commentary, we noted the colliding forces of regulatory, political, and capacity-restrained automotive replacement spare parts networks may well continue for many more months, and that appears to be exactly what continues to unfold. Once more, when the dust settles, we believe that the industry needs to take a hard look at lessons learned.
This week, there were further significant developments related to recalls of alleged defective airbag inflators produced by Japan based supplier Takata. After undergoing additional scrutiny from U.S. regulators, Takata refused to broaden the scope of the defective inflators recall beyond a select number of U.S. States with high humidity concerns. That action forced OEM Honda, to expand its U.S. recall of suspected defective airbag inflators to all 50 U.S. states. Once more, Honda further indicated to U.S. regulators that the company is in discussions with other air bag suppliers to add augmented capacity of replacement parts. According to published reports, Honda is in discussion with suppliers AutoLiv and Daicel Corp. for supplementing supplies of required repair parts. In testimony this week, a Honda executive confirmed what Supply Chain Matters indicated several weeks ago, that the shortage of repair replacement parts would continue for quite some time.
U.S. regulators continue to pressure OEM’s BMW, Chrysler, Ford and Mazda to expand their driver-side air bag recall campaigns to include all 50 states. These actions have been prompted by additional information disclosed this week by the U.S. National Highway Traffic Safety Administration (NHTSA) indicating that prior incidents of premature exploding airbags are not just occurring in high-humidity areas. That is new information not brought forward previously. If these other OEM’s expand their campaigns to include all U.S. states, that will of-course add even more concerns to the ultimate availability of replacement parts.
According to a published report by The Wall Street Journal, earlier in the week Takata issued a letter to the NHTSA challenging the authority of that agency to compel a parts supplier to initiate a recall, arguing that the U.S. regulator authority is limited only to actual OEM’s that produce automobiles. From the lens of Supply Chain Matters, that argument is tantamount to a supplier throwing its major automotive OEM customers under the proverbial bus.
There should be little doubt among automotive line of business and supply chain leaders that these past few years of unprecedented product recalls are cause to revisit product quality imperatives. There has been a lengthy industry debate as to whether the quest for volume and profitability growth sacrifices quality conformance across the end-to-end supply chain. On the positive side, Hyundai recently scaled-back its volume growth plans when indicators of slipping quality motivated senior leadership to cut-back growth plans and endorse added quality measures. The fact that Honda, which has prided itself in the quality image of its products is now front and center in the media is a symptom. In contrast, reports in business media of late question whether Toyota or General Motors have been chasing volume and profitability growth with quality and brand image as a casualty.
Evidence of common defective parts among multiple OEM brands and models point to shortfalls in quality monitors and component sourcing strategies that balance quality conformance risks. At the surface, these developments are perhaps a further indication that teams are not collecting or monitoring correct data as to component failure trends along with predictive indicators of broader manufacturing or material issues. The industry needs to take a hard look at supply-chain-wide quality conformance and feedback mechanisms.
These past few weeks have featured a series of noteworthy news items related to enterprise and supply chain technology provider SAP. In a prior posting, Supply Chain Matters called attention to the announcement of a new chief marketing officer and the formation of a new Digital Business operating unit. In this posting we touch upon some other announcements and their significance to a broader strategy that is underway, one that is perhaps strategically critical to SAP.
Earlier this month, SAP announced three business applications to help customers leverage Internet of Things (IoT) technology. These announcements represent initial efforts towards an overall multi-year effort for SAP to provide increased leveraging of digital based technologies.
SAP Predictive Maintenance and Service, which is developed on SAP’s HANA Cloud Platform, is directed for manufacturers’ support in predicting a malfunction of installed equipment before it occurs by monitoring equipment sensors and historic operational data. SAP Connected Logistics is also provided on the SAP HANA Cloud Platform to provide logistics hub operators the ability to monitor traffic toward and within a hub and facilitate communication between involved parties including those that do not have a direct business relationship. The software is planned to offer integration to backend transportation management systems, and lean dispatching capabilities for logistics service providers that do not have a sophisticated backend solution in place. Finally, SAP Manufacturing Execution, Version 15.0 is envisioned to offer IoT support for manufacturing operations, by integrating manufacturing results with real-time feeds into the SAP HANA platform.
The above announcements, in themselves, are significant because they are another reinforcement of the building interest among manufacturers and service providers for increased leveraging of IoT in business support and supply chain planning and execution processes. SAP does not typically initiate development efforts without some form of customer pull influence. The announcements are an indicator that SAP does not want to be the also-ran player in leveraging cloud-based IoT networks. From our lens, that is an indicator that the enterprise vendor needs to foster forms of deeper relationships with broader IoT ecosystem players, similar to what PTC has been initiating with its recent acquisitions in this area, and broadened channel relationships.
Readers may recall SAP’s prior announcement in September of the technology providers intent to acquire travel and expense spend control provider Concur Technologies for $8.3 billion. Last week, both companies announced that Concur’s shareholders have now voted their approval of the acquisition and that the transaction is expected to close on or about December 4, 2014, subject to the satisfaction or waiver of closing conditions, including those related to regulatory approval. At the time of the announcement, this author’s initial reaction was that of puzzlement. Why pay such a significant premium for a cloud-based travel expense support provider and what is the strategic fit to other cloud-based strategies? Apparently, after noting numerous comments from other industry observers as well as SAP’s own influenced blogging community, we were not alone in that perception. Indeed, the SAP user community should wonder whether Walldorf is again taking precious financial resources away from its core strength of supporting broad manufacturing industry business process support needs.
That leads to the third significant announcement. At a recent Morgan Stanley investment conference, SAP CEO Bill McDermott indicated that the enterprise technology provider is about to unveil a five year operating plan. According to a posting by re/code that highlighted a recent interview with McDermott, the first elements of the strategic plan will be laid out in January, when SAP next reports quarterly results. In February, at the SAP shareholders meeting in New York, the CEO will unveil the detailed five year plan. After spending upwards of $16 billion in prior acquisitions of cloud-based providers it would appear that SAP may be chasing installed-based seats vs. an overall cohesion of strategy. According to the re/code commentary, “now it falls to McDermott to make the disparate parts work together in a coherent strategy with SAP’s core group of applications.” In the interview, SAP’s CEO further indicates that the company may be done with large acquisitions, preferring instead to pursue strategic “tuck-in” acquisitions to supplement cloud applications. That is the sure sign that SAP’s financial resources do have limits, particularly as the company transitions to its goal of having a more cloud-based, subscription revenue stream.
Supply Chain Matters highlights all of these announcements as data points because for us, they indicate that SAP has reached an important stage. The technology provider needs to differentiate itself to its customers and to its investors. Which markets and which technology areas does it portend to strategically pursue over the next five years? Which core industries, including manufacturing related, will SAP continue to provide technology innovation and what areas will SAP open to broader strategic partnerships? Will SAP’s market strategies be governed by the influence of its direct-sales model? Will innovation in future supply chain, manufacturing and B2B business network areas be once again diluted by other strategic needs?
These are all crucial questions, not only to SAP and its installed base customers, but to the tenure of its current senior management team. We can all look forward to 2015 as providing some added answers for the SAP ecosystem.
In our ongoing observations of global business developments and the linkages to the areas where supply chains do matter, this editor has been amused as to how equity analysts and business media now hone-in on a company’s supply chain information leaks to uncover information on a particular firm. To cite an example, Apple’s supply chain across Asia has had numerous information leaks regarding potential new products or supply chain glitches related to Apple.
Supply Chain Matters readers have most likely been following our ongoing commentaries relative to the current crisis that has impacted aftermarket service supply chains within the automotive industry. An explosion of various automotive model recalls has cascaded to unprecedented levels. Beyond the current air bag deflator issues surrounding supplier Takada, lest we forget the incidents of faulty ignition switches leading to a multitude of product recalls involving multiple models of General Motors vehicles.
In what we can best described as “oh crap” news, The Wall Street Journal disclosed this past weekend (paid subscription required) that GM placed an order for a half-million replacement ignition switches almost two months before alerting U.S. safety regulators. The publication cites its source as emails viewed between a GM contract worker and supplier Delphi Automotive, and where the supplier was asked to develop an aggressive plan of action to produce and ship these replacement parts. The article further cites communication among a GM contract worker at Menlo Worldwide Logistics in-turn, seeking a plan from Delphi regarding the build and ship plan for the replacement switches. The report further indicates that it took Delphi about a month to outline a parts shipping plan.
The publication notes that the timing “is sure to give fodder to lawyers suing GM and looking to poke holes in a timetable the auto maker gave for its recall of 2.5 million vehicles. Readers can certainly review the entire WSJ published article which addresses a multitude of implications. However, we feel compelled to add a supply chain planning perspective.
Supporting a product recall of such magnitude requires the coordinated planning of a rather complex spare parts and service management network. Automotive manufacturers know all too well that proper up-front planning and synchronization of parts and dealer servicing resources is required as much as possible, before notifying consumers of the product recall. However, regulatory reporting requirements can foil attempts for proper planning.
Consumers expect to have specific information as to the defective part and when their vehicle will be repaired. A product recall of the size of 2 million or more vehicles requires urgency to planning and it seems rather plausible that GM would issue such a spare parts order with requirements for aggressive production. It also places supplier Delphi in a rather difficult situation in having to coordinate revised product design specifications within existing production, allocate supplemental resources and generate volumes of parts over and above prior planned spare or production parts schedules.
The sum total of this commentary is perhaps two-fold. First, supply chain information leaks and security is an obvious growing problem. The utilization of emails or spreadsheets to plan or initiate supplier orders adds to the potential of information leaks.
Second, manufacturers often overlook the critical aspects of their service management supply networks, which can often support higher margins than product management value-chains. Just as product supply chains have to manage in the new normal of supply chin complexity while being more responsive to constantly changing events, service supply chains have even more complex challenges. They often represent the most current touch point and customer perception of your brand.
Supply Chain Matters provides a brief contrast to our prior posted commentary regarding Wal-Mart’s efforts to spread out holiday promotions in the coming holiday surge. The Wall Street Journal reports that yesterday, which was China’s celebration of Singles’ Day, online provider Alibaba set a record for China’s largest online shopping day. The online provider’s various online properties processed a reported $9.3 billion in sales, most likely the equivalent to the Black Friday or Cyber Monday shopping holidays in the United States.
The WSJ notes that last year, Alibaba processed $5.9 billion in Singles’ Day sales. China’s premiere online provider also offered a number of pre-holiday promotions which allowed consumers to order ahead of time and complete their sales transaction on the holiday. Keep in mind that for the most part, Chinese consumers shun the use of credit cards in favor of cash or mobile based payments.
In its fiscal year ending in March, Alibaba recorded the equivalent of $275 billion in various online sales which the WSJ notes is bigger than the combined online sales of Amazon and eBay combined. Included in the information surrounding its recent initial public offering of stock the online provider noted that it is just tapping the enormous potential of its online market.
We can sometimes get enamored with names such as Amazon and Wal-Mart but Alibaba is indeed an evolving player to reckon with in the coming era of online commerce and retail supply chain customer fulfillment.
Global retailer Wal-Mart indicates that it will abandon its prior emphasis on the singular one-day Black Friday buying holiday and will instead spread promotional incentives over an extended five day period beginning in the last week of November. By our lens, this is good news for consumers but not so for certain retail competitors.
Wal-Mart’s efforts at spreading out online and in-store buyer incentives allows shoppers greater flexibility to shop for bargains and avoid the craziness and frenzy of Black Friday mobs in stores and online. The retailer’s employees hopefully get some brief time to celebrate the Thanksgiving Holiday with family and friends. Reports indicate that Wal-Mart will extend promotions thru the entire Black Friday weekend, with an additional flurry of bargains on Cyber Monday. The retailer further indicates that it will be matching online prices from its website as well as in its physical stores.
Other retailers including Amazon have scheduled their holiday promotions to begin earlier in November as well. Already, our inbox contains promotional emails for holiday bargains. What thing is certain, the largest online retailers including Wal-Mart and Amazon will be playing even more hardball in holiday promotions.
All of these efforts can hopefully avoid what occurred in 2013, consumers waiting to the very last days and hours prior to the Christmas holiday to make their purchases only to discover the weakest link, the last-mile of delivery from parcel shipping companies. Both FedEx and UPS have been urging retailers to spread out their promotions and avoid multiple delivery network surges. However, UPS anticipates that its peak day will be December 22. 6 days later than what the package delivery firm planned for in 2013. UPS is planning to process 585 million packages in the month of December.
An added dimension this year is the U.S. Postal Service and its efforts to be a more mainstream player in last-minute last mile parcel delivery. A final dimension in 2014 will be how Amazon and Google’s efforts in piloting their own pilot delivery networks fare in supporting or mitigating surge fulfillment periods.
The not so good news concerns retailers who are still scrambling to get inbound inventories moved through highly congested and near dysfunctional U.S. West Coast ports. With competitive promotional programs about to kick-off, some retailers will have to fess-up to not having inventory to satisfy consumer holiday needs, or be notified by suppliers that inventory is delayed.
This is all a game of competitive positioning and the stakes are high. Some business and social media outlets, knowing what may be forthcoming, are advising consumers to wait to the very last-minute before initiating holiday gift purchases. The premise is that certain retailers might be more motivated to offer more attractive bargains once they assess their inventory situation.
Another certainly is that retail and B2C focused S&OP forums and their supporting supply chains can expect a steady stream of intense activity, and perhaps more surprises now and through the end of December. It will not be pretty and the winners will be those that can plan and anticipate consumer actions and those that can best respond to changing events.
Keep your web browser pointed to Supply Chain Matters for continuing updates and insights regarding the 2014 holiday surge.