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Reflecting on Supplier Management Practices Related to the Apple Watch

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In our prior Supply Chain Matters commentary concerning Sharp Corporation, we reiterated the two sides of supplier based relationships involving the most recognized supply chain, that being Apple.  On the one hand, being chosen as an Apple supplier can provide enormous scale, global reach and financial rewards.  However, Apple is a demanding customer with unique and exacting processes that can test any supplier.

Apple further practices very active supplier risk mitigation, insuring that this global consumer electronics provider has at least two or more supplier agreements in-place for key components.

In a May commentary, Supply Chain Matters highlighted a report indicating that one of the key technology components within the Apple Watch had experienced reliability issues. The taptic engine component, which controls the sensation of tapping the watch while transmitting heart-rate data, was sourced among two key suppliers.  Citing people familiar with the matter, The Wall Street Journal reported at the time that reliability testing has discovered that the taptic engines supplied by a China based supplier demonstrated reliability problems, with Apple electing to scrap some completed watches. Engines produced by Japan based Nidec Corp., the backup supplier, reportedly had not experienced the same problem. Apple subsequently moved all remaining sourcing of this component to Nidec.

Today’s WSJ report regarding Sharp also makes mention of the Apple Watch component issue in the context of how manufacturers can discard faulty products when design issues or production snafus are evident. The report again noted how Apple subsequently turned to Nidec for nearly all of its taptic engine production needs, but it took time for this other supplier to ramp-up its own production processes to be able to accommodate Apple’s overall production volumes. Thus, for our readers who were wondering what was causing the delay in the delivery of their new Apple Watch, now you know.

The obvious takeaway is that active supply risk mitigation is essential for key technological components, as well as the ability to lend a helping hand to suppliers in time of product or business crisis. Such risk mitigation is especially critical in new product ramp-up stages as volume production processes are tested for volume scale.

There are two-sides to supplier loyalty and management, and how they are practiced goes a long way in the determination of overall supply chain agility and responsiveness.

In November of last year, the WSJ stated in a report related specifically to Apple’s supply chain: “If you cut a deal with Apple, you better know what you’re getting into.” That statement continues to sum it all.

Bob Ferrari


The Implications of Sharp Corporation’s Ongoing Financial Crisis

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Supply Chain Matters has featured several prior commentaries specifically related to Sharp Corporation, one of three current liquid crystal display (LCD) screen suppliers in Apple’s supply chain.

Sharp has a track record of innovation in LCD technology but a rather rocky financial history as well. Our last commentary in early April, Perils of an Apple Supplier- Sharp Corporation, highlighted continuing reports of severe financial crisis surrounding Sharp. The Wall Street Journal reported at the time that various restructuring options were being considered but no final decision had been made. One reported option was that this supplier was moving to spin-off a portion of its LCD panel business unit with intent to seek a new capital injection from Innovation Network Corp. of Japan, a governmental entity overseen by Japan’s Ministry of Economic Trade and Industry. One of the tenets of Japan’s high tech industry is to rely on government funded agencies to bridge times of financial crisis. Since our April commentary, Sharp’s bankers agreed to provide an additional $1 billion plus lifeline, the second in three years, in exchange for restructuring measures that included a 10 percent workforce reduction. Also since that time, the market prices for LCD panels remain in significant decline as other suppliers turn more to China based smartphone manufacturers for revenue needs. The WSJ cites data stemming from market research firm IHS indicating that 5 inch HD smartphone panel components prices have dropped nearly 60 percent from Q1 2013 through the current quarter.

Today, the WSJ featured a report (paid subscription required) indicating that Sharp has warned that its survival could be at-stake, and that it is now pushing suppliers for deeper price cuts and that it further considering sourcing of display components from new China based suppliers rather than its former Japan based suppliers. At its annual meeting for shareholders held this week, sales directly attributed to Apple accounted for 20 percent of Sharp’s fiscal year revenues.

For the fiscal year that ended in March, Sharp racked up a loss reported to be $1.8 billion, due to write-downs of its LCD operations. Yet, this supplier maintains a public confidence that it can implement steps to maintain its ongoing viability, despite its share price haven fallen upwards of half over the past year.

LCD screens are highly strategic for Apple, and the consumer electronics juggernaut has elected to initiate strategic supply agreement among three different suppliers to insure both leading-edge technologies as well as the ability to scale to Apple’s flexible volume requirements.

All of which leads back to the perils of being an Apple supplier. In a recent Spend Matters sponsored webinar (no relation to this blog), chief research officer Pierre Mitchell observed that Apple imposes very strict contract terms among its supplier base, shifting considerable risk on the backs of suppliers while preserving major rights to product based intellectual rights. So much so that GT Advanced Technologies recently elected to seek voluntary bankruptcy in order to gain leverage with Apple over what was described as onerous contract terms.

The conundrum for Sharp and other Japan based high tech component suppliers is that bankruptcy is culturally looked upon as a  major failure and embarrassment of senior management. So much so that the most optimistic financial forecasts are stubbornly held to up to just prior to the formal reporting of the bad news. On the other hand, firms such as Apple that practice active supply risk mitigation for key components will often have contingency options to buffer the shortfalls or stumbles of any one key supplier.

The financial challenges involving Sharp will most likely linger and through its ongoing re-structuring efforts, this supplier could introduce even more risk into its ability to deliver to customer needs.

The takeaway for the broader high-tech supplier community is to insure you understand all the terms and risk implications of your supply and technology agreements.

Bob Ferrari

 

 


Paris Air Show Adds New Impetus for Supply Chain Execution Across Aerospace Supply Chains

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Commercial aircraft industry eyeballs were focused on this week’s Paris Air Show, a biannual event with enormous significance to major aircraft manufacturers and their respective supply chain partners.  Each event is a competition as to which manufacturer walks away with bragging rights to the most landed Airbus A320neocustomer orders or most buzz regarding a new aircraft model. Beyond the headline buzz as to whether Airbus or Boeing landed the most orders, the global supply chain takeaway is an additional $100 billion plus in customer orders and another obvious extension of multi-year backlogs. The overall pressures on aerospace focused supply chain have clearly and unquestionably turned toward fulfillment execution.

Reports indicate that Airbus booked $57 billion for 421 new aircraft orders at list prices while Boeing landed $50 billion worth of orders representing 331 new aircraft.  Combined, it represents nearly another 6 to 9 months of customer order backlog at current monthly production volumes.

Aircraft engine providers also shared in the order bonanza with consortium based CFM International reporting a combined $19 billion in orders related to its LEAP family of engines, and other models, while General Electric Aerospace reported orders valued at $5.4 billion for its new GE9X engine. Interesting enough, as a literal follow-up to our previous Supply Chain Matters commentary related to CFM International, the CEO of that engine supplier publically warned the two major OEM’s not to request additional production volume beyond aircraft currently scheduled for delivery through 2020, and that the consortium is currently stretched to capacity in fulfilling what has already been booked in orders. Likewise, the President of Rolls Royce’s aircraft engine business indicated that supplier was booked out to 2021 and the current industry message is about production and supply chain ramp-up.

On the topic of engines, Airbus had previously planned to feature its new A320neo aircraft at this week’s show but a component problem within the new model Pratt and Whitney engine grounded the aircraft.

A further industry implication is that more and more of added industry orders are originating from new and up and coming discount based carriers. Indonesia based Garuda was reported to be one of the most active buyers this week, placing orders for both Airbus and Boeing aircraft. Many are opting for termed “power by the hour” or included service management contracts where manufacturers guarantee a specified level of operational up-time and assume annualized aircraft maintenance costs. The longer the industry backlog continues, the less likely that OEM’s and engine suppliers can take advantage and leverage these incremental recurring revenue streams.

On the product design front, the reported buzz centered on a potential new Boeing model termed “Mom”, billed as a likely replacement of current discontinued Boeing 757 fleets. The aircraft does not exist and is more in the pitching stage, but talk of the new model was enough to reportedly generate a lot of interest and a lot of differing views. Postings by Business Insider and Bloomberg provided added color to Boeing’s potential new model.  Industry participants are quoted as indicating that Boeing has no choice but to pitch such an aircraft because of current functional advantages offered by arch rival Airbus with its new A320neo aircraft. According to these postings, Boeing is indicating a “clean sheet” design. However, the current realities of the current highly capacity constrained industry are already adding to the discussion as to the time-to-market timetable for such a new model. Once more, the current operational 757 fleet is noted as more than two decades old and will need replacement rather soon. This author alone is rather frustrated in having to fly coast-to-coast across the United States in aging and dull United Airlines 757’s. It is akin to driving a station wagon with 200,000 miles on the odometer with seats and upholstery worn out. The notion of “Mom” will undoubtedly place enormous pressure on Boeing’s design engineering and program management teams at a crucial time when other new aircraft need to meet delivery and volume milestones.

Obviously, the industry question centers on whether both Airbus and Boeing have learned from past supply chain snafu’s with prior models and can effectively instill added agility, cadence and responsiveness to global-based supply chains. Supplier resiliency and contingency planning will be crucial as will supply chain risk mitigation.  Advanced technology is already playing a crucial role in areas of additive manufacturing, RFID, IoT and more extensive end-to-end supply chain visibility. Both OEM’s, along with key suppliers, would be wise to increase their investments in more predictive planning and supply chain wide business and operational intelligence.

As Supply Chain Matters has noted often, an industry with engineering based culture having upwards of a current ten year order fulfillment backlog while enviable, has unprecedented challenges and requires more innovative approaches by all its players. The focus is now flawless and synchronized execution.

Bob Ferrari


Report that Johnson Controls Seeking to Divest of Seating Business- Changed Automotive Supplier Dynamics

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During 2008-2009, the U.S. automotive industry faced a significant crisis involving the largest OEM’s, and there were legitimate concerns that many key suppliers within the U.S. automotive supply chain would become collateral damage to a flawed industry business model that did tend toward shared rewards among suppliers.

A lot has changed and much learning has occurred since that crisis.  Some OEM’s such as General Motors are now communicating intent to establish more strategic relationships with suppliers. Many key suppliers have moved toward reducing major exposure to automotive market cycles through industry supplier diversification.

Last week The Wall Street Journal reported that Johnson Controls, a key component and systems provider to the automotive industry was considering the sale of its automotive seats division.  This news is significant because this division is the largest within Johnson Controls accounting for nearly 40 percent of total revenues, and over one billion in pre-tax profit.

Why therefore, is sale being considered?

According to the WSJ, the company wants to shrink its automotive interiors businesses and focus on other more strategic opportunities, even though executives had previously identified seating as a core business. The supplier’s CEO indicates that further investments in the seating business would take away from the goal for diversification among other industry sectors. In essence, senior leadership is acknowledging that it reached an important crossroads for its seating business. A cited quote indicates that Johnson Controls would do harm to continued growth of seating if it did not invest.  Instead, the key supplier is opting to sell the business to a party willing to make the next leap in seating technology.

Further implied by the WSJ is that Johnson Controls shareholders expect higher value in the company’s stock.   Supply Chain Matters as well as others have noted how activist investors have penetrated major industries demanding enhanced short-term shareholder value increased returns.  Such investors are active among key automotive suppliers.

The implication is that years of contentious relationships among certain U.S. automotive OEM’s among suppliers has motivated certain key suppliers to seek reduced industry exposure via diversification. However, influences of activist or major shareholders for increased returns have opened up heightened M&A activity.

When the dust settles, the U.S. automotive supply chain ecosystem may well have a different or more powerful collection of strategic suppliers, either U.S. or foreign based.

As the idiom often reminds us: You reap what you sow.

Bob Ferrari

 


Supply Chain Related Fraud is a Growing Problem Requiring Attention

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Supply chain fraud has become a significant challenge for industry supply chains. According to a study conducted by Deloitte Financial Advisory Services LLP, supply chain professionals still appear to be ill-equipped to tackle instances of fraud.

Supply Chain Matters recently had to opportunity to speak with Deloitte partner Larry Kivett about the background, results and implications of this recent study.

The Deloitte findings involving over 2000 professionals across varied industries highlighted key concerns related to supply chain fraud. The study reported that more than one-quarter of professionals (28.9 percent) indicate that their organizations experienced supply chain related fraud, waste or abuse during the past 12 months, yet nearly as many (26.8 percent) indicated no program currently in-place to detect or prevent such risks.  These findings alone are significant, considering that many firms are not comfortable with admitting or acknowledging instances of fraud, and thus occurrences are probably far larger. As to sources of fraud incidents, respondents pointed to employees as the top identified source (22.9 percent) when compared to suppliers (17.4 percent) and other third parties, subcontractors or vendors (20.1 percent). The study authors noted that internal employees can leverage transactions involving vendors and/or third parties for fraud purposes, and when collusion is involved, detection and prevention is difficult.

Our conversation with Larry Kivett reinforced that while many firms recognize reputational, litigation and regulatory repercussions of fraud, internal budgetary constraints remain a significant challenge. The size of a company is a further variant. We touched upon the overall implications of more globally dispersed supply chains that add challenges in introducing different business practices further away from corporate based internal controls, compliance and oversight adding to instances of supply chain related fraud.

We explored the specific question of who owns or is directly accountable for fraud.  Kivett indicated that fraud is indeed a shared responsibility that has to involve first-line people at the operational level.  It is not just the responsibility of finance or audit control teams. He further acknowledged that there is no perfect system to prevent fraud.  It requires constant diligence.

Other significant Deloitte findings were that nearly two-thirds (65.3 percent) of respondents reporting that their company conducts at least some due-diligence on third-parties. However, incidents of fraud continue. While the Deloitte study did not specifically address cyber theft and fraud focused from vendor, subcontractor or supplier access to a company’s operational systems, such as the data breach incident that impacted Target Stores last year, Kivett indicated that cyber theft has indeed become a significant topic in current boardroom discussions. That should be no surprise.

If readers are seeking more detail related to the Deloitte supply chain fraud survey, a February recorded webcast is available for replay. (Sign-up information required)

Supply chain fraud is indeed a growing problem that has many internal and external dimensions.  A June 2014 study conducted by the Association of Certified Fraud Examiners (ACFE) quantified that as much as 5 percent of revenues are lost each year due to fraud, amounting to $3.7 trillion annually. Supply chain teams cannot afford to ignore this challenge.

Bob Ferrari


A Track Record of Persistent Shortages of Life-Saving Pharmaceutical Drugs

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Supply shortages involving critical drugs across multiple pharmaceutical focused supply chains should not be a surprise to our Supply Chain Matters readers.  We have called attention to this situation since 2011-2012.  However, what should be of concern is the ongoing persistence of this problem and how it impacts timely and quality-focused delivery of life-saving healthcare services.  Further, there are now brewing perceptions that the industry may have other intentions, namely, not concentrating on the increased supply needs of generic drugs.

On Monday, The Wall Street Journal featured a page one report: Drug Shortages Plaque U.S. Medical System. (paid subscription required)  The report cites University of Utah Drug Information Service stats indicating that the number of drugs in short supply in the U.S. has risen 74 percent in five years. Once more, a graph indicating the reasons for such shortages has the top three categories listed as: “Unknown” accounting for 47 percent; “Manufacturing shortages” accounting for 25 percent; “Supply and demand” accounting for 17 percent. These statistics, by our lens, should not by any stretch, be viewed or perceived as being complimentary to pharmaceutical supply chains, especially when “Unknown” is the leading reason.

The article’s authors cite interviews with company executives, pharmacists and regulators pointing to several causes that are noted as not building enough production capacity, not adequately maintaining production equipment and failure to control contamination in aging plants. There is a further observation that crackdowns on shoddy quality by the U.S. Food and Drug Administration (FDA) have worsened the shortages because some companies have responded by shutting down all production of a particular drug.  But the authors also point to another theme: (we quote)

Many of the scarce drugs are older, injectable treatments that can be complex and costly to manufacture, but which command relatively low prices because they aren’t protected by patent. Hospitals and doctors’ offices are the main buyers of the drugs. Companies can’t easily increase prices because insurers reimburse many generic hospital-administered drugs under a payment system that is more frugal than for other medicines.

This theme of generic drug shortages is similar to previously reported shortages.

A U.S. federal law passed in 2012 provides the FDA with increased powers to prevent and resolve drug shortages. Supply Chain Matters called reader attention to the new powers of the FDA in a 2012 commentary on the crackdown on Ranbaxy. According to the WSJ, the number of declared new shortages decreased by 44 in 2014, from a peak of 251 in 2011.  That obviously is some progress made in the last four years but more is definitely needed.

The article goes on to call attention to continued global-wide shortages of critical drugs such as BCG, a potentially life-cycle drug utilized to treat bladder cancer and how specific manufacturers have not responded to market need. It notes how doctors have been forced to either postpone or suspend BCG treatments since shipping delays are expected to persist in next year.

Supply Chain Matters is calling attention and making wider visibility to the continued supply shortages because we feel strongly that the industry needs to face up to its problems and work with regulators and physicians in constructive solutions to such problems. Supply shortages will continue to motivate illicit and unsavory global distributors to introduce more counterfeit or lower quality supply in the market.

The open question remains as to which organization is directing supply chain supply strategy.  In the meantime, quality healthcare outcomes continue to be at-risk.

Bob Ferrari

 

 


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