This week, our thoughts and prayers are with all those that have impacted by the recent significant earthquakes that have occurred in Italy, northwest of Rome. News images once again remind us of the death and destruction of such natural disasters. We trust that those affected by the latest quakes in Italy will be able to bounce back to some normalcy in the not too distant future.
As many of our Supply Chain Matters readers may be aware, a series of significant destructive earthquakes struck southern Japan in April, with concerning supply chain disruption indications. We touched upon the many multi-industry implications in a mid-April commentary. Almost four months after this latest round of quakes, it appears that many Japan based manufacturers and component suppliers have instituted effective supply chain risk mitigation efforts.
The Associated Press reported this week that the Honda motorcycle facility near Kumamoto, on the southern island of Kyushu has “virtually normalized” production operations as of this week. The report notes that the plant, severely damaged by the quakes and completely idled for the first two weeks after the major quakes struck, has gradually restored output. However, Honda is still working to stabilize its supply network for engine parts related to mini-vehicles.
Similarly, automotive producers Nissan and Toyota collaborated and worked with major supplier Aisin Seiki Co. to restore production operations among two major component supply facilities located in Kumamoto region that incurred damages as a result of the quakes. Seiki acknowledged the discovery of broken walls, windows and assembly equipment at its facilities in the quake area but quickly shifted the production of door and engine parts to other owned facilities located in other parts of Japan and outside the country as well. Toyota was able to resume assembly operations among four plants in early May.
In our Q1 Newsletter, we called attention to a Reuters article indicating that after the devastating earthquakes and subsequent tsunami that struck northern Japan in 2011, many Japan based manufacturers elected to reassess their supply chain risk mitigation and inventory management practices. Some Japan supply chain experts advocated that holding more safety stock inventory or adding another contingency production line would deter from the global competiveness of Japan based manufacturers. Yet, examples were provided where foreign based suppliers such as German based Merck KGaA and ZF-TRW analyzed strategic inventory strategies and indeed elected to hold more safety stock. TRW, a producer of auto safety systems now stores back-up production equipment at more of its supplier plants.
Thus it would appear that manufacturers have indeed applied the lessons of 2011 in supply chain risk mitigation.
Within the current case studies related to supply chain disruption and risk mitigation are how specific companies, specifically Wal-Mart and other home improvement retailers such as Home Depot were able to successfully respond to the devastating effects of Hurricane Katrina that struck the United States Gulf Coast region in 2005. Their response exceeded even that of U.S. federal disaster assistance agencies.
It goes without stating that consistency over time and over multiple events is the ultimate determinant of risk mitigation.
Our U.S. and foreign based readers may be aware that the Louisiana region surrounding Baton Rouge has been impacted by severe amounts of participation and widespread flooding. Thousands of families, many whom relocated from the 2005 flooding around New Orleans as a result of Katrina, had since relocated to this area, and once again have their lives terribly disrupted. Our hearts go out to all of them.
The New Orleans Picayune Times reported last week that in the aftermath of the flooding, trucks from Wal-Mart and United Parcel Service (UPS) were once again among the first to deliver much needed relief and re-building supplies.
According to the report, Wal-Mart’s Emergency Operations Center in Bentonville once again began preparations for response when meteorological conditions indicated storm conditions and high participation levels would continue. A Wal-Mart spokeswoman indicated to NOLA that eight Wal-Mart stores were closed because of flooding levels and damage but as of August 18, five were able to re-open. A distribution center in Hammond Louisiana that supports store replenishment needs in across Louisiana as well as South Mississippi remained opened. The retailer has also prepared for the pending shifts in recovery, anticipating the standard post-disaster need for diapers, bottled water, cleaning and other supplies.
A UPS spokesperson told the Times that that all of its distribution centers were able to sustain operations throughout the heavy rains and flooding. However, facilities supporting four cities: Baton Rouge, Port Allen, Jeanerette and Gonzales experienced limited capabilities. Similar to Wal-Mart, UPS began re-routing packages destined to south Louisiana late in the week as a staff of five company meteorologists in Louisville continued to monitor weather patterns. Because so many residences are unoccupied or remain flooded, UPS’s systems are being flagged and held for delivery delays until they are claimed or dispositioned be designated recipients. UPS is further preparing to initially focus on resuming high-priority deliveries, for example prescription medicines. The UPS spokesperson indicated that the carrier is further helping to coordinate transportation of trailers for the American Red Cross.
Planning and preparedness is always fundamental in supply chain risk mitigation.
Of late, the trend of extending payment terms to suppliers should not be any new news to many of our Supply Chain Matters readers since such practices continue to gain multi-industry momentum. Such momentum continues because private equity firms and high powered consultants in finance now advocate and practice this tactic as a means to boost earnings and operating cash flow. However, what we view as an even more disturbing trend is current more aggressive efforts by suppliers to now push back by exercising whatever options they have, up to and including significant supply disruptions.
To ascertain the scope of the trend towards extending payments to suppliers, we exercised a Google search this morning on the term: News- suppliers not being paid. That search yielded and eye-popping 9.7 million item results, an obvious indication of industry-wide trending.
Just about a year ago, Bloomberg published an article: Big Companies Don’t Pay Their Bills on Time. The author, Justin Fox attributed the increased trend among large global companies to extend payments to suppliers to two principle influences. The first was Amazon, that being yet another aspect what we often describe as “the Amazon effect.” In essence, the online retailer had a cash conversion cycle of negative 24 days in 2014, meaning the online retailer received cash from customers 24 days before it was paid out to suppliers. The other major influence was noted as Brazilian private-equity firm 3G Capital which has acquired well known consumer brands and operates primarily today as Anheuser-Busch InBev. A chart in the Bloomberg report indicates that since the acquisition of Anheuser in 2008, supplier payments stretched to near 260 days by 2014 with InBev on-average paying suppliers 176 days after the company was paid by customers. That is nearly six months of cash float.
Similarly, after previously attending this year’s Institute of Supply Management (ISM) annual conference, this author penned a blog commentary on a session where private equity firm representatives leveraged their stated tactic of operational intervention and improvement, namely concentration in procurement policies to harvest cash flow and margin savings.
The Bloomberg article further charts well-known names Procter and Gamble, Mondelez and Kimberly-Clark, who collectively have to now respond to 3G’s industry presence with the acquisition of both Heinz and Kraft. in the consumer-goods sector. By 2014, days payable outstanding for all three had grown to between 70 and 85 days.
And so the ripple effect of this trend continues offering the brand owner opportunities to leverage cash flows, product margins and profitability, while the ripple effects cascade down the to the remainder of the supply chain.
The open question now remains as to what are various industry norms for paying suppliers, and invariably, the principles of supplier survival and stakeholder interest come into play when such practices become more wide-spread. More and more, such incidents seem to be on the increase.
In early July, General Motors encountered a brief supply disruption over a contract dispute and bankruptcy filing from Clark-Cutler-McDermott Co. a component supplier for 175 acoustic insulation and interior trim parts that are apparently utilized in nearly every vehicle GM produces in North America. The supplier stopped producing parts for GM after work shifts on a Friday and laid off its workforce. Subsequently the supplier refused to grant GM access to any remaining inventory or production tools forcing GM layers to enter a legal process proceeding in bankruptcy court to gain rights to tooling and any leftover inventory.
In late July, avionics producer Rockwell Collins issued a public statement directed at Boeing, indicating that the commercial aircraft producer owed Rockwell $30-$40 million in overdue supplier payments and noted as a breach of contractual supply agreements between the two companies. Rockwell supplies cockpit avionics displays for the Boeing 787 and newly developed 737 MAX aircraft. The CEO of Rockwell openly indicated in his firm’s report of financial performance that Boeing had contributed to Rockwell’s reported financial shortfalls. In its reporting, The Wall Street Journal observed that the industry relationship among Rockwell and Boeing was previously noted for positive collaboration in ongoing cost-control efforts resulting in Rockwell gaining additional supply contracts involving other produced commercial and military aircraft.
Similarly, British based GKN, a supplier of cabin windows, ice protection systems and winglets, openly called Boeing to task for extending supplier payments. Both Reuters and The Wall Street Journal had earlier reported that to boost its cash flows, Boeing was extending supplier payments from 30 days, too upwards of 120 days while at the same time continuing efforts to scale-up the supply chain to address upwards of ten years in booked orders.
The most recent public incident of outright supply disruption is now Volkswagen dealing with the possibility of reduced working hours involving multiple German based final assembly plants resulting from a supplier dispute with two suppliers, Car Trim and ES Automobilguss. Car Trim reportedly supplies parts for seating and ES Automobilguss produces gearbox components for a variety of different VW car models. As of today, business media is reporting that negotiations are ongoing to resolve the matter after the suppliers cut component supply deliveries feeding four final assembly plants. The suppliers have denied responsibility for the situation, indicating that VW cancelled contracts without explanation or compensation and the decision to halt delivery was taken to protect their own workforces. As we pen this posting, upwards of 10,000 workers at VW’s main plant in Wolfsburg, Germany are close to being idled due to parts shortages. Both suppliers, which are part of holding company Prevent, have denied any responsibility in the pending supply disruption claiming that VW is responsible for creating its own supply crisis because of the lack of timely payments to suppliers and that the suppliers’ decisions were taken to protect their own workforces and financial health.
Thus we observe a common theme beginning to manifest across different industry supply chain settings, more aggressive supplier push-back to existing payment terms and the transfer of the burden of cash-flow.
In prior Supply Chain Matters postings, this Editor has not been very keen on such strategies namely because of the short and longer-term havoc imposed on supply chain capabilities and ongoing relationships. But, with the realities of the current business environment being what they are, and with so many firms now under the short-term professional looking glass, the elongated payment strategies extend, testing such relationships. This is obviously not healthy, and many other voices are beginning or have already concluded as-such.
Our prior advice to procurement professionals was essentially to be forewarned and prepared since those possessing or prepared with termed financial engineering skills can reap some short-term financial and other bonus rewards.
We now extend advice to the broader supply chain management leadership and operations management communities. If you have little choice but to exercise such strategies, best be prepared for the new consequences of supplier push back and potentially harmful supply disruptions and eroded supplier relationships.
The age old adage remains that long-term success is built on two-way, win-win relationships. An I win-you lose relationships helps lawyers to stay gainfully engaged and your supply chain to be in constant jeopardy. When times are good, such strategies can yield some benefits. When times are challenged, such as the 2008-2009 global recession, they often lead to massive supply disruptions or calls for mutual sacrifice from suppliers. They further lead to missed opportunities for joint-collaboration on product and process innovation since suppliers are indeed savvy to stick with customers to consistently try to adhere to win-win relationship building.
© Copyright 2016. The Ferrari Consulting and Research Group LLC and the Supply Chain Matters® blog. All rights reserved.
Supply Chain Matters has highlighted a number of supply risk and potential ingredient safety challenges impacting pharmaceutical and drug supply chains of life-critical medications and yet such challenges seem to persist, often in the same dimensions. A recent Bloomberg published article highlights the latest involving cancer-drug shortages with supply chain ingredients continuing to be sourced from banned Chinese producers. The open question is why the industry continues to foster such sourcing practices.
When we launched Supply Chain Matters back in 2008, one of our first series of commentaries concerned supply chain risk management, specifically the issue of the tainted pharmaceutical drug heparin that originated from Chinese based suppliers. At the time, tainted batches of the prime API compound that produces heparin, a key life-saving drug utilized as a blood thinner, were found to later contain over sulfated chondroitin, an altered version of the required chondroitin sulfate. Instead of sourcing this active API from designated pig intestines, the tainted API apparently came from shark cartilage. This specific incident was directly attributed to the death of 80 persons and many others became seriously ill. Our 2008 commentary, Will FDA Inspectors in China Solve Product Safety Issues?, questioned whether regulatory agencies were ill equipped to keep up with the pace of global outsourcing of pharmaceutical compounds and specifically getting a handle on the increasing occurrence of counterfeit or non-conforming products.
In 2012, the pendulum shifted towards global-wide shortages of life-saving drugs due to a number of domestic and global-based API suppliers either unable to produce required quantities or having to temporarily suspend production operations because regulatory inspections citing lapses in good manufacturing practices. Agencies subsequently had to alert doctors and healthcare providers that in the light of severe shortages of hundreds of drugs, there were clear signs that unauthorized or counterfeit versions of these drugs had infiltrated global supply chains. The U.S. FDA alerted to the appearance of “non-FDA approved injectable cancer medications” and later, patients and drug companies were subjected to counterfeit versions of the drug Avastin, widely prescribed to treat brain, colon, lung and kidney cancers. Swiss drug maker Roche, and its Genetech unit, the global producers of Avastin later indicated that counterfeit versions of its top-selling cancer drug, ones without any active ingredient, were being circulated in the U.S. Patients receiving this counterfeit version would thus not have received required therapy, or worse, could suffer potential harm.
The latest iteration outlined in a recent Bloomberg Businessweek article cites data from the National Academy of Medicine indicating that more than 80 percent of ingredients used in drug manufacturing are now produced externally, primarily in China and India. Further cited is an incident where the U.S. FDA inspected a Chinese production facility in early 2015 and uncovered what was termed “broad data manipulation” resulting in a warning letter to plant owner Zhejiang Hisun Pharmaceutical. That subsequently led to an indefinite ban for this facility in September 2015, a first for one of China’s leading exporters of pharmaceuticals. However, according to this report: “…to avoid possible drug shortages, the regulatory agency allowed the Hisun facility to continue to export about 15 ingredients used for drugs produced in the U.S., including nine components of cancer medicines.” The report goes on to explain the delicate balancing act regulators currently face in insuring adequate supplies of life-saving drugs while de-facto transferring the burden of assuring safety and quality inspections to end-item drug manufacturers themselves. End-item drug producers are therefore asked to perform additional inbound testing, hire independent auditors or take other mitigative actions. Overall, Bloomberg indicates that the FDA has for the current year added 13 plants to its listing of banned plants, with a cumulative total of 52 classified banned plants.
We found that statistic to be staggering and alarming. Once more, we wonder aloud about the strategies that have led to increased outsourcing to lower-cost production regions, especially for drugs that are held to such high specification standards and currently sold for staggering margins in developed countries. One has to wonder aloud as to why.
According to the Bloomberg report, among the 15 API’s from the subject Hisun Taizhou plant that can be exported by exception, most are widely used for producing chemotherapy treatments for leukemia, breast and ovarian cancers. One would surmise that these drugs are expensive. A former FDA official who once was responsible for domestic and international investigations indicated to Bloomberg of his belief that not all U.S. companies are ensuring the safety of ingredients purchased from known banned factories.
Regulators such as the U.S. FDA are indeed placed in a rather difficult position in trying to assure that life-saving drugs remain in adequate supply in the light of an overall industry trend to source compound ingredients from lower-cost production regions. Critical drug shortages of expensive drugs lead to the creation and distribution of counterfeits which obviously adds to overall safety concerns.
Yes, drug markets serving China and India should come with government controls that require far lower costs to healthcare providers and patients. Drug companies continue to extract far higher end-item drug costs for distribution among highly developed countries and economies. Ingredient sourcing and quality conformance strategies should align.
The pharmaceutical and drug industry has often been in media headlines portrayed as profit-grubbing villains. In some cases, that may be underserved, since research, development and production costs for life-saving drugs are rather expensive. However, when the industry continues to pursue supply chain sourcing strategies that are driven more by lower-cost and do not insure adequate safeguards, than they need to be called out. Armies of FDA inspectors chasing endless foreign producers are a Band-Aid to a broader challenge of supply chain sourcing.
This week, a prominent auto parts supplier experienced an explosion at one of its factories in central Japan, injuring four people. News of such an incident of supply chain disruption would not be considered unusual in these times of global-wide supply chain activities. However, considering the Japan location and the major automotive OEM customer being Toyota, it may well be noteworthy.
The factory where the explosion occurred was operated by Aisin Advics Co.is a major supplier to Toyota Motor for automotive braking systems. The explosion occurred at the supplier’s production plant located in Kariya, Aichi Prefecture, near one of its paint lines. On Monday, the supplier indicated that it was still in the process of evaluating the extent of the damage which had the potential to impact the supply chain of its customers.
As Supply Chain Matters and other business media has indicated, Toyota had already suffered production delays as a result of two major earthquakes that impacted southern Japan in April. A body factory and a die-casting plant, both operated by Aisin Seiki Co., and located in Kumamoto region, were damaged as a result of the quakes, and Toyota had to suspend nationwide production operations for upwards of a week because of this disruption. A fire at a steel production plant operated by Aichi Steel Corp. also impacted Toyota.
Coincidentally, Aisin Advics is owned by Aisin Seiki Co. and thus may well be versed in supply chain risk mitigation and business continuity planning..
The overall impact of the April earthquakes came to more light this week in the release of the Nikkei Japan Manufacturing PMI for May. The May reading of 47.7 in production and manufacturing activity represented a 40 month low. According to the panelists that are polled by Markit Economics, the earthquakes had a detrimental effect on production output prompting an economist to indicate:
“The aftermath of the earthquakes in one of Japan’s key manufacturing regions continued to weigh heavily on the goods producing sector.”
Depending on the extent of damage involved in this latest factory fire incident, the Japan automotive manufacturing sector and specifically Toyota will have another supply chain business continuity effort underway in the coming days.