In January, Supply Chain Matters called reader attention to Chipotle Mexican Grill’s bold adherence to staunch standards for high quality, ethically based food ingredients served at its various restaurants. Chipotle boldly suspended the use of pork sourced from an unnamed regionally based pork supplier evoking broad media headlines. According to Chipotle, a routine audit discovered that the supplier violated declared humane-based standards for the housing of pigs with access to the outdoors. The restaurant chain, which was decisive in its decision to stop supply, indicated that this was the first time it had suspended supplies because of a violation of standards.
This week, the restaurant provider reported financial results for its third quarter that somewhat disappointed the investment community by indicating that future growth would be modest through next year, as opposed to the double-digit growth rates of quarters past. For its latest quarter, Chipotle’s same stores sales growth was a modest 2.6 percent, far below the nearly 20 percent growth rate of a year ago. The recent number further reflects across-the-board price increases on menu items.
Wall Street attributes this declining sales trend as a reflection of growing competition from competing outlets, the need for more workers, and problems securing inbound ingredients that meet the high standards of an ethically based supply chain.
In a prior April blog commentary, we observed that consumers are now, more than ever, interested in knowing where their food originated, the ingredients within food and how food is produced with sustainable methods. Well known producers, food service providers and suppliers such as Hershey, Nestle, MacDonald’s, Tyson Foods, Costco, Yum Brands and others have all embarked on initiatives directed at curbing the use of antibiotics in animals, artificial food coloring within food, and higher quality standards for suppliers. This week, sandwich chain Subway, the largest U.S. restaurant chain by number of outlets, joined this chorus, announcing plans to eliminate antibiotics use in all U.S. meat supplies over the next several years. In 2016, the chain will introduce turkey and chicken raised without antibiotics with plans to address antibiotic free pork and beef supplies down the road.
That commentary in April was triggered by a Wall Street Journal report indicating the increasing need among consumers for more organic foods is literally: “hampering the growth of one of the hottest categories of the U.S. food industry.” Farmers, dairies and ranchers face significant costs and risks in attempting to convert from conventional to organic farming or animal production techniques. “While organic produce or livestock can command prices as high as three to four times that of conventional food, farmers generally have to sell their food at conventional prices during the transition.”
Supply Chain Matters increasingly believes that as more food producers and restaurant chains require and transition to the use of such ethically sourced and organically grown foods, the time to transition the entire food supply chain will be a perplexing problem. Chains such as Chipotle who were pioneers in the sourcing of healthy food could well have their near-term growth plans constrained by the reality of constrained supply. There is a classic excess demand and restricted supply condition occurring as the supply chains attempt to transition from conventional to more organic and sustainable food supplies.
This condition will present added challenges for food sourcing and purchasing teams and buying cooperatives. Ranchers, farmers, poultry and meat producers require adequate time to transition to a more healthy food supply, and that comes with the need for the financial flexibility to fund such a transition. Providers who have practiced organic food standards since their inception understand this need, and took the time to work collaboratively and financially with food suppliers to build-up adequate supply through long-term buying commitments. With more and larger global players now demanding organic and antibiotic-free supply in far larger volumes, the demand and supply equation likely becomes chaotic without added collaboration, training, financial and buying incentives. Buying scale could cloud needs for stronger and more responsive supplier relationships.
The takeaway is that food purveyors cannot just buy or dictate their way into organic, more-healthy supply contracts. This will take time and it is rather important that providers, consumers and investors understand such realities, and develop the patience and understanding that the global food supply chain does not transform itself overnight.
We would appreciate hearing from readers residing in various tiers of existing food supply chains.
What are reasonable expectations for transition?
What added financial incentives are required?
Whom do you consider to be a leader in these efforts?
The Wall Street Journal reports that two major Apple suppliers are locked in a fierce battle for control of Taiwan based Siliconware Precision Industries, known as SPIL. (Paid subscription required) This skirmish places Apple as having to be attune to its ongoing relationships among two rather important key suppliers.
The battle centers around a new component-packaging technology termed system-in-package or SiP which is essentially a number of integrated circuits enclosed in a single module (package). SiP can support all or most of the functions of an electronic system, and is typically used inside a mobile phone or consumer device such as Apple’s iPhone.
According to the report, SPIL currently supplies SiP services in small volume and is seeking to roll out this technology on a far broader scale in 2017. The report cites Bernstein Research as indicating that Apple alone will account for $3.1 billion in SiP component orders this year, and that amount could double by 2017.
The two existing Apple suppliers vying for control of SPIL are Advanced Semiconductor Engineering (ASE) and none other than contract manufacturing services provider Foxconn, through its parent, Hon Hai Precision Industries.
ASE is noted as the world’s biggest chip assembler, recently acquired a 25 percent stake in SPIL. In late August, SPIL announced a deal to collaborate with Hon Hai Precision that included a share swap that would afford the contract manufacturer a bigger equity stake and more voting clout than ASE. The WSJ opines that because Foxconn has an existing close collaborate relationship with Apple and its product design teams, SPIL has a better chance for leveraging expanded Apple business. Further noted is that collaboration with SPIL aides in Foxconn’s goals to diversify into lower tiers of the high tech supply chain including semiconductors.
From our Supply Chain Matters lens, we concur with the WSJ that this ongoing battle for emerging supplier control very much underscores the importance that Apple’s scale and business potential has for key suppliers. It further underscores how existing close relationships with key suppliers can influence future strategic supply decisions, particularly when such influence extends to the influence of future product design. In this specific case, individuals within Apple’s strategic sourcing and iPhone product design teams will have to eventually play the role of peacemaker.
In previous Supply Chain Matters postings, we have called attention to metals and components supplier Alcoa. In September of 2014 we highlighted the announcement of Alcoa’s long-term strategic agreement with Boeing’s commercial aircraft unit. Our March 2015 commentary further highlighted this supplier’s strategic positioning within commercial aircraft and aerospace supply chains, and our September commentary noted how product innovation efforts have begun to pay off.
This week features the news that Alcoa has signed a $1 billion deal to supply aircraft components such as bolts, rivets and other specialty fasteners with Airbus. Alcoa classifies this deal as its largest deal for aerospace fastening systems with Airbus.
According to published reports, the parts are to be fabricated from titanium, steel and nickel-based alloys utilized in newer Airbus aircraft models such as the A350, the A320 neo, and the A330. The components were designed to withstand extreme operating conditions and be more resistant to wear.
Once again, Alcoa has characterized these new fastener components as having “breakthrough technology for some of the most advanced aircraft in the world.” Of further significance, these specialty parts that Alcoa has developed are normally provided by niche specialty metal suppliers catering to the aerospace sector.
According to a report from The Wall Street Journal, most of the work related to this new Airbus supply contract would be completed in California and a more than a dozen Alcoa world-wide sites.
In September of 2014, Supply Chain Matters began calling reader attention to aluminum producer Alcoa and its efforts to collaborate and introduce newer, high-strength and corrosion resistant aluminum alloys for the commercial aerospace industry. At the time, Alcoa struck a multiyear aluminum supply agreement with Boeing’s Commercial Airplane unit to make this producer the sole supplier for wing skins on its metallic structure commercial aircraft along with aluminum plate products used in wing ribs or other structural aircraft components. The supply deal was valued to be more than $1 billion at the time, and the two parties a desire continue to collaborate on developing newer, high-strength and corrosion resistant alloys including aluminum-lithium applications.
In March of this year, we updated our readers with news that Alcoa’s indent to acquire RTI International Metals, described as one of the world’s largest producers of fabricated titanium products in a stock-for-stock transaction valued at approximately $1.5 billion. RTI’s business focus was centered on long-term supply of titanium fabricated parts that make-up landing gears engines and airframes for both Airbus and Boeing aircraft. The Wall Street Journal reported at the time that that as much as 80 percent of RTI’s 2014 revenues originated from the aerospace and defense sector. This RTI acquisition followed the 2014 acquisition of Germany based titanium and aluminum castings producer Tital, and U.K. jet-engine parts maker Firth-Rixson.
Our March commentary noted that the metals producer was further positioning itself to be a more strategic supplier to the global automotive industry, helping to pave the way for use of lighter metals in automobile product design and functionality.
Last week, the news reverberating across automotive supply chain audiences was that Ford Motor Company had reached an augmented supply agreement with Alcoa for use of aluminum based components. Readers might recall that the Ford F-150 was recently re-designed, making it the first mass market pick-up truck with an aluminum body. As a result of the design of lighter materials, this vehicle’s over weight was lightened by 700 pounds, adding upwards of 29 percent in overall fuel economy. Alcoa worked with Ford on the aluminum component re-design.
According to published reports, this revised supply agreement will allow for the use of more sophisticated alloys for additional use in the F-150 along with production of other exterior metal components such as fenders and door panels for other future Ford models. In its reporting, The Wall Street Journal (paid subscription required) quotes Ford’s product chief as indicating that collaborating on technology at this scale represents a fairly significant commitment by both companies.
While a reportedly large amount of Alcoa’s business still emanates from raw aluminum, the supplier is clearly on a strategic product innovation thrust to target business and product innovation needs in key industries. The WSJ reported that Alcoa is aiming to grow its automotive-aluminum sheet business alone to upwards of $1.3 billion by 2018, from a level of $229 million in 2013.
By developing new casting technologies for fabricating both aluminum and titanium based component parts, the door is being opened for joint product design collaboration and more strategic longer-term supply agreements to insure adequate supply. In its reporting of the Ford supply agreement, the WSJ spoke with Alcoa CEO Klaus Kleinfeld who indicated a focus on growing dozens of niche downstream businesses from aerospace to truck wheels, and in developing supply agreements with eight other auto makers.
Supply Chain Matters brings Alcoa to light as an example of joint supplier and OEM production efforts paying rewards in multiple strategic industries and boosting bottom-line results for both supplier and customer.
In April a front page published article by The Wall Street Journal reported on Wal-Mart’s increased pressures on North America based suppliers to squeeze costs. The retailer informed suppliers involved in a wide range of purchased categories to forgo any additional investments in joint marketing and focus the savings on lower prices to Wal-Mart. In July, Reuters reported efforts to impose added fees affecting upwards of 10,000 U.S. suppliers. Contract renegotiation letters were mailed to respective suppliers that included amended contract terms along with added fees to warehouse products at Wal-Mart DC’s. At the time, a Wal-Mart spokesperson indicated to Reuters that these fees were a means for sharing costs of growth and keeping consumer prices low. Not all of the 10,000 suppliers would face the higher charges due to existing payment arrangements afforded these suppliers to utilize existing Wal-Mart distribution centers.
Last week, Bloomberg reported that Wal-Mart’s Suppliers Are Finally Fighting Back, indicating that some of the larger suppliers are saying no to these new cost squeezing measures. Some suppliers reported that the new fees are impacting their own bottom lines, while several firms are reportedly hiring attorneys to further pursue matters. The Bloomberg report indicates that two large, unnamed suppliers have refused to accept such terms. A senior vice president at Kantar Retail, which advises some Wal-Mart suppliers, is quoted as indicating: “It looks as though they (Wal-Mart) are trying to have it both ways and trying to pad their own margins where they are facing cost pressure.”
Regarding the report, a Wal-Mart spokesperson indicated to Bloomberg that the global retailer is willing to now negotiate with suppliers and will take into account prior history with a supplier, as well as quality of the products. The spokesperson further indicated that the retailer may encourage some suppliers to seek low-interest loans through an existing financing program, implying that those suppliers that do not agree to new terms may find their Wal-Mart business affected.
The report observes that smaller and even larger suppliers have the most at-stake in their ability to be able to push-back. “A smaller supplier, notified of the fees late last month and given two weeks to accept, said it won’t be able to make a profit on its Wal-Mart business under those terms unless it fires workers or cuts wages and benefits.”
From our Supply Chain Matters lens, these ongoing supplier developments related to Wal-Mart are indeed part of the realities for certain retail industry players who can leverage their sheer scale of buying power. On the other hand, it defeats more positive initiatives.
Wal-Mart’s ongoing initiative to purchase an additional $50 billion in U.S. sourced products over the next ten years could be a casualty of its ongoing supplier management efforts. Many of these newer suppliers will not only need the retailer’s long-term buying agreements and shared distribution facilities, but the ability to make meaningful profit in order to sustain their presence in the U.S.
Wal-Mart stated goals are to simplify supplier relationships and develop a broader U.S. supplier base. However, from our lens, cost-sharing tactics for having it both ways defeats such strategic objectives and places supplier relationships in the context for always on the ready for the next shoe to drop.
This week, two major U.S. based retailers, Target and Wal-Mart, each reported financial results that presented different perspectives on the importance of integrated brick and mortar and online merchandising strategies and strong, collaborative supplier relationships. Both of these retailer’s performance numbers point to an industry that continues to struggle with balancing investments in both online and in-store operations and a realization that significant change has impacted retail supply chains. The approaches, however, are different.
Wal-Mart’s second quarter net income declined 15 percent as a result of increased competition and added costs. The retailer has been forced to add staffing and has increased wages to improve customer service and overall merchandising. The retailer further pointed to currency fluctuations, lower than expected reimbursements for its pharmacy business and an increase in goods stolen or lost as weighing on profit performance. The latter related to “shrink” of inventory has to be especially troubling. The retailer is currently implementing a new inventory management system.
If our readers have had the opportunity to visit a U.S. based Wal-Mart store over the past 3-6 months, you would have witnessed the results of prior cutbacks in staffing and an ill-planned merchandizing strategy. Stores appeared messy, shelves were not stocked adequately and store and checkout clerks seemed to be in short supply.
On a positive note, Wal-Mart has finally been able to stem the lack of sales growth among its U.S. stores. Same stores sales across the U.S. actually increased 1.5 percent within the latest quarter, the fourth quarterly increase after rather long multi-quarter declines. Online sales rose 16 percent in the second quarter.
Wal-Mart has been heavily investing in its online and Omni-channel customer fulfillment capabilities which have obviously impacted profits in the short-term. In this week’s financial performance announcements, the retailer actually lowered its profitability targets for the current quarter and the remainder of its current fiscal year. The notion of Wal-Mart has been one of supply chain scale in distribution, warehousing and dedicated fulfillment.
In prior commentaries, Supply Chain Matters has highlighted reports indicating that Wal-Mart again focused on its suppliers for sharing the burden of needed higher margins. In April a front page published article by The Wall Street Journal reported on Wal-Mart’s increased pressures on North America based suppliers to squeeze costs. The retailer informed suppliers involved in a wide range of purchased categories to forgo any additional investments in joint marketing and focus the savings on lower prices to Wal-Mart. In July, Reuters reported efforts to impose added fees affecting upwards of 10,000 U.S. suppliers. Contract renegotiation letters were mailed to respective suppliers that included amended contract terms along with added fees to warehouse products at Wal-Mart DC’s. A Wal-Mart spokesperson indicated to Reuters that these fees were a means for sharing costs of growth and keeping consumer prices low.
In its reporting of Wal-Mart’s results, the WSJ noted Wal-Mart’s CEO Doug McMillon acknowledgement that the company was in a period of change. He further cited a 1996 magazine article hanging on the wall in his office titled: “Can Wal-Mart Get Back the Magic”, while quipping that the retailer has rebounded before.
In contrast, we reflect on Target.
For its second quarter, the retailer reported a 2.4 percent increase in same-store sales and elected to raise its outlook for the second time. A concerted strategy on improved in-store and online merchandising has caught the positive attention of Wall Street, especially in light of the prior 2013 massive credit-card breach that significantly impacted sales growth.
Sales of termed signature merchandise categories were reported as growing at 7 percent, three times faster. Online sales increased 30 percent contributing .6 percentage points to comparable sales growth while more than 80 percent of online sales growth was driven by Home and Apparel categories. Overall net income nearly doubled in the second quarter.
In its earnings briefing, Target CEO Brain Cornell specifically addressed five strategic priorities, many of which have supply chain connotations. The first is to become a leader in digital, including direct from store capabilities. Thus far the retailer’s is shipping direct from 140 stores with plans to enable 450 ship-from locations by the end of this year. Target’s current online fulfillment is supported by six dedicated fulfillment centers, regional distribution centers and direct ship from store.
Most important from this author’s lens, was Cornell’s acknowledgement that balancing inventory across the network and leveraging resources at store level are an integral part of strategy. Target will be testing a new available-to-promise system that provides specific customer delivery commitments, later this year.
There was also refreshing candor. CEO Cornell indicated:
“Retail is changing rapidly today than any time in my career and we need to ensure that core operations keep pace with the new ways we’re serving our guests. Over time, Target has developed an incredibly complex supply chain, built to serve an outdated linear model in which product flows from vendors through distribution centers to stores. To serve guests today, we are becoming much more flexible in the way we fulfill demand for products and services. And this is stretching our supply chain well beyond its core capabilities.”
To add more credence to candor, Cornell acknowledged to Wall Street analysts that in-stocks within physical stores have been unacceptable so far this year. He has tasked a newly appointed Chief Operations Officer, John Mulligan, to have as his initial priority the improvement of overall supply chain capabilities.
As readers may be aware, Target recently had to make a very painful decision to close all of its Canada retail outlets. A part of that problem related to merchandising and significant challenges in maintaining in-stock inventories.
From our lens, such articulation from senior management, reflecting the importance of integrating both merchandising and end-to-end supply chain capabilities is a very important and noteworthy change in retail. Later in follow-on Q&A with analysts, Cornell articulated the value of collaborative efforts among various suppliers to bring more innovative products to market.
Wal-Mart and Target provide different contrasts but yet reflect the common challenges impacting retail industry. Retail supply chains are undergoing significant and groundbreaking change, far different than the last decade. Online and in-store marketing, merchandising, supply chain customer fulfillment and supplier management are all interrelated and must be addressed in a singular umbrella strategy and supporting action plans. Emphasizing one as the expense of the other often leads to sub-optimal business results.