In July, we updated Supply Chain Matters readers concerning Tesla Motors construction of its $5 billion massive gigafactory, which when completed, will provide the capacity to be the single largest battery manufacturing volume plant in the world. Once more, the plant is located in the United States, an area that many thought impossible for sourcing such a plant.
Tesla’s strategy is bold, involving supply vertical integration. Given that a considerable portion of the cost-of-goods sold (COGS) for an electric powered automobile involves its batteries, the strategy is to control the bulk of the value-chain. The massive scale of this facility is targeted at reducing the unit costs of lithium-ion batteries by 30 percent.
Since the state of Nevada site selection announcement in 2014, a far broader strategy has been unfolding, one that extends beyond automotive supply chain needs, including the power storage needs of homes and businesses. The site was chosen because of its close proximity to supplies of the all-important raw material of lithium as well as to the Tesla factory in California. While the highest concentrations of lithium are mined in Bolivia and Chile, there are supply sources in the western U.S. and Mexico.
Last week, there was a significant joint announcement regarding one source of raw material supply for this new battery production plant, that being lithium hydroxide. Tesla announced that it had secured a five-year strategic long-term supply agreement through a partnership with mining firm’s Bacanora Minerals Ltd and Rare Earth Minerals PLC. The two suppliers have formed an entity termed the “Sonora Lithium Project Partners.”
According to a published announcement from Alberta Canada based Bacanora: “The Sonora Lithium Project Partners are working to develop a mineral-rich, lithium-bearing clay deposit into a planned low-cost, sustainable and environmentally conscious mining operation.” The announcement further estimates that the mine and processing facility will have an additional capacity of 35,000 tonnes of lithium compounds, with a scaling potential of up to 50,000 tonnes annually. That is a considerable supply, somewhat equating to global supply needs. The Sonora Lithium Project itself consists of ten mining areas in the northeast of Sonora State.
The supplier is further required to reach certain performance milestones and pass product specification milestones. A key milestone is noted as the ability to supply lithium hydroxide in accordance with the volumes and timeframes that will be established by Tesla. To do so, Sonora Lithium Project Partners will be tapping lithium supply from Bacanora, along with additional supplies located in Northern Mexico, owned by partner REM. The Mexico site will mine lithium from mineral-rich clay.
The electric automaker will additionally purchase specified minimum tonnages in accordance with an agreed-upon pricing formula which is described as below market pricing.
Noted is that this new agreement will form only a portion of Tesla’s lithium-based feedstock needs. The remainder will likely come from other mining suppliers which imply that Tesla has an active supply risk mitigation strategy for lithium feedstock.
The agreement requires that Sonora Lithium Project Partners raise additional financing to design and construct this mine and processing facility. That implies additional time required for fund-raising, permitting, construction and volume production. Thus, we strongly suspect that initial gigafactory lithium supply will come from other sources. However, the Bacanora announcement indicates that the Sonora Lithium Project will rapidly accelerate mining and development efforts.
In the spirit if its founder and CEO, Elon Musk, Tesla consistently makes bold moves in its product designs, detailed manufacturing, and now with its supply vertical integration strategies. It is going to be quite interesting to observe how all of this unfolds.
This month’s edition of Fortune includes the latest ranking of the world’s largest Global 500 corporations. We find this ranking much more meaningful, since it factors a global presence, which is the reality of today’s multi-industry supply chains. Fortune indicates that the Global 500 reside in 36 countries and based in 224 global based cities. Keep in mind that this ranking is by revenue size, not necessarily profitability. The 2014 rankings further provide certain realities.
The first is one related to geographic revenue share. For the 2014 ranking, the revenue share includes the reality that the bulk of the largest Global 500 reside in Asia based countries:
Asia 35.2 percent (China represents 19.8 percent)
Europe 31.4 percent
North America 29.8 percent
South America 2.1 percent
All Other 1.5 percent
Asia based growth has been steadily increasing since 2010. Revenues for European based Global 500 companies, on the other hand, have decline 6 percent since their peak in 2009, because of two significant recessions.
Of the top 25 listed ranking of the Fortune Global 500, retailer Wal-Mart continues to hold the number one ranking with a reported $485 billion in 2014 revenues. According to its 2014 Annual Report, the retailer now operates over 6100 retail units in 26 countries. Other noteworthy retailers appearing include CVS Health (#30), Costco Wholesale (#52), Kroger (#54), Tesco (#62), Carrefour (#64) Amazon (#88), Walgreens (#114) and Target (#117).
Global manufacturers within the top 25 ranked include four global automotive and parts companies, Volkswagen (#8), Toyota (#9), Daimler (#17) and General Motors (#21). Two consumer electronics, Samsung Electronics (#13), Apple (#15), and one diversified manufacturer: General Electric (#24), are further included.
Medical and pharmaceutical products distributor McKesson raised its ranking to #16, from a 2013 ranking of #29. Rival distributors AmeriSource Bergen were ranked #46, Cardinal Health (#84) and Walgreens Boots Alliance (#114).
Taiwan and China based contract and diversified manufacturing services provider Hon Hai Precision (aka Foxconn Electronics) was ranked #31 with reported revenues of $139 billion, rising one slot from 2013. Other CMS providers ranked include Pegatron (#355) and Flextronics (#453), reflecting a wide gap.
Commercial aerospace manufacturer Boeing was ranked #85, from #90 in 2013, while rival Airbus was ranked #106, from #103 in 2013. Major supplier United Technologies ranked #149.
Global-based consumer product goods corporate rankings highlights include Nestle (#70), Procter and Gamble (#100), Pepsico (#141), Unilever (#153) and Mondelez International (#348). Most have slipped since 2013 reflecting the impact of an industry with significant challenges. It is interesting to observe that certain retailers rank higher in terms of revenue.
High tech firms’ rankings for 2014 included Hewlett Packard (#53), Panasonic (#131), LG Electronics (#175), Intel (3182), Cisco Systems (#225), Lenovo Group (#231) and EMC (#487).
Among component manufacturers entering the Fortune 500 Global are Compal Electronics (#423), China Aerospace and Technology (#437), Taiwan Semiconductor Manufacturing (TSMC) (#472), Alcoa (#495).
In the global logistics and transport sector, Deutsche Post (owner of DHL Group) was ranked #111, UPS (#168), U.S. Postal Service (#137), A.P, Moeller-Maersk Group (owner of Maersk Lines)(#208) and FedEx (#238). We continued consolidation and M&A activity continuing to occur in this sector, we suspect the rankings of certain dominant firms within in this sector will rise further in the coming years.
Our business and supporting supply chain world has indeed become more internationally based and more influenced outside of North America. While certain top supply chain rankings may differ because of the added weighting of profitability and return-on-assets, the Fortune Global 500 provides the perspective of global influence and scale.
This week’s edition of Bloomberg BusinessWeek features a timely but sober update indicating that: Things Are About to Get Ugly at Kraft.
Not only does this report indicate that change is already already underway for Kraft, it provides more sobering indicators of expected erosion in other associated industry business and supply chain capabilities in the months to come.
We are Supply Chain Matters have featured a number of commentaries related to Kraft and its associated supply chain capabilities since our inception in 2008. That includes its split in 2012 into two separate companies, Kraft and Mondelez International. We have done so because of our belief that this global CPG giant was a true barometer of the significant market and industry forces impacting what is increasingly being termed as “Big Food” today.
In 2009, Irene Rosenfeld, the CEO of Kraft at that time, indicated to The Wall Street Journal that “scale is a source of great competitive advantage” in terms of industry growth and innovation. That motivation probably led to the acquisition of Cadbury. Eighteen months later, Ms. Rosenfeld, along with Wall Street partners, orchestrated a massive corporate split, carving out Mondelez as a $30 billion focused snacks company with the most attractive prospects for global growth, particularly in emerging consumer markets.
The $18 billion North America focused grocery brands business was to be Kraft Foods which literally was forced to develop its own separate supply chain and business support systems.
Prior to the split, Kraft corporate had reportedly invested $700 million in a global rollout of a singular SAP ERP system. All of the assumptions that made-up that implementation suddenly changed.
This corporate split further implied two different supply chain business support and distribution models. Snack food and cookie consumers are impulse buyers, with promotions, market timing and inventory deployment strategies requiring sophistication and proper timing. The distribution model is focused on higher touch including direct to store service needs of convenience stores and smaller retail, particularly when emerging consumer markets are considered. Grocery, on the other hand, was a model of conservative sales growth but high scale and distribution volume. Much of the grocery customer base was large supermarkets, with emerging penetration among smaller retail and convenience stores. Grocery implied a high dependency on vendor managed inventory and responsive replenishment business replenishment. We again bring these tenets out, because they provide more context as to what existed and to what is now occurring.
In September of 2013, we praised the positive transformation and new leadership that was underway at split Kraft Foods. Former Procter & Gamble supply chain executive Bob Gorski was recruited to lead a dramatic transformation. In an industry conference presentation we viewed at the time, Gorski described product demand and supply processes touching literally 60 different times with little effect on forecast accuracy. Supply chain wide metrics were at odds with individual plant and functional metrics, some in direct conflict. There was a lack of a fixed execution planning window with 60 percent of plan changes occurring in the execution window. Production lines, on average, were forced to shutdown every 4 minutes because of various maintenance or setup issues due to inconsistent process specifications. Gorski articulated a goal as moving from metrics in isolation to metrics as part of a performance culture. Oh yes, adding to the challenge was a need for Kraft grocery to adopt a new supply chain software support system and more responsive technology enabled decision-making.
In March of this year, the industry was taken back with the news that H.J. Heinz would merge with Kraft Foods in a combined public company that was named Kraft Heinz Company. It creates what is anticipated to be the world’s third largest food and fifth largest beverage company featuring many well-known consumer brands. This deal was backed by infamous private equity firm 3G Capital Partners, and the financing of Warren Buffet’s Berkshire Hathaway, which each contributed $5 billion in financing. Together, bot investors own 51 percent of outstanding equity.
The latest Bloomberg article essentially opines that in the end, the Kraft-Heinz deal has little to do with market growth and a lot to do with cutting costs. That includes targeting an additional $1.5 billion reduction in annual costs before 2018 and according to the article: “The company will lose employees, whole levels of management, and maybe a few brands, too.” It cites as a reference a February 2015 McKinsey report which describes 3G Capital’s strategy as acquiring marquee brands that need operational improvement, and then “purging existing culture and management teams” while employing zero-based budgeting techniques requiring departments to justify every expenditure, and squeezing suppliers for similar cost savings. McKinsey noted that Heinz itself has since its takeover, lost market share in 65 percent of its product categories, yet adjusted earnings have risen nearly 38 percent.
Bloomberg cites data indicating that with the prior Heinz merger, 90 percent of the senior executive team departed within three weeks and more than 7000 jobs, 20 percent of the then existing workforce was cut, along with closing of five factories. Thus far, after closing the Kraft-Heinz deal last month, 2500 job cuts have been announced including more than a third of the existing staffing at Kraft corporate headquarters. Further announced was that Kraft headquarters will be move from a 700,000 square foot complex of a Chicago suburb to a 170,000 square foot office in downtown Chicago. Travel has been restricted, conferences have been put on-hold and employees instructed to print double-sided.
To reinforce an overall industry concern, Bloomberg reminds us that Nestle Chairman Peter Brabeck-Letmathe had indicated earlier this year that Buffet and 3G have: “pulverized the food industry market, particularly in America, with serial acquisitions.” The Nestle executive additionally indicated that 3G’s “ruthless cost-cutting’, to improve profit margins has had a “revolutionary impact” on other food companies.
Parallel Impact- Mondelez
Today’s Business and Finance section of The Wall Street Journal features an updated report on Mondelez’s efforts at expanding market growth while attempting to reduce costs and improve margins. It observes that a second high-profile activist investor, William Ackman and his Pershing Square Capital Management firm revealed that it had built a $5.5 billion, 7.5 percent stake in the company, and cites sources as indicating a Pershing view that the snacks producer must cut costs significantly or sell itself to a rival. Activist Nelson Peltz of Train Fund Management joined the Mondelez Board in 2014 after a six month conflicting public debate on company strategy.
In emerging markets which currently account for 40 percent of existing Mondelez revenues, the company’s margins reportedly trail those of several rivals. The global snacks company has now reportedly engaged Accenture to implement zero-based budgeting techniques and a sweeping reorganization plan that is closing older factories in the U.S. and opening more efficient ones in lower-cost regions such as Mexico and Russia. The WSJ cites other equity analysts as engaging in debate as to whether the Nabisco brand use of direct-store delivery (DSD) in the U.S. should be curtailed or replaced for a lower-cost alternative.
Impact to Industry Supply Chain Capability
A fundamental belief in supply chain management is that supply chains exist to service customer needs and support required business strategic and tactical outcomes.
As activist actions continue to drive “Big Food” into modes of acute efficiency, cost-cutting and continued break-up and consolidation, the impact to supply chains invariable becomes destructive, risking the obliteration of previous gains in service, product quality, sustainability and process responsiveness. Once more, the tenets of supplier based product and process innovation are subsumed by other tactics to wring out additional cost reductions or more onerous payment terms.
While business and other industry media can for-tell of the pending ugliness that is circling Kraft, and perhaps Mondelez in the not too distant future, industry “Big-Food” supply chains risk a significant erosion of prior process, technology and other transformational gains as zero-based budgeting and wholesale cost-reduction efforts sap the energy of survivors. More importantly, the real objective for providing consumers with healthier, more sustainable food choices becomes subservient to an overriding short-term emphasis on increased margins and stockholder returns.
Hence is the legacy of activism, short-term results and the rest being damned. In the analogy of the wild kingdom, the weak in the herd are overtaken by predators, and soon the predators begin to overtake even the strong, as stamina is weakened.
One final editorial note: Our house has switched to French’s Ketchup. It is noted as free from high fructose corn syrup, artificial flavoring and preservatives and has a great taste. Hopefully, brands that have been around from the 1900’s will not succumb to the current madness surrounding “Big Food” and the wonton destruction of previous supply chain transformation initiatives, commitment to quality and commitment to talent and people development.
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.
WTO Moves Closer to Tariff-Free Classification of IT Products: Supply Chain Opportunities and Impacts
Late last week, the World Trade Organization (WTO) reached a landmark $1.3 trillion deal that addresses the categorization of 201 information technology products that will be freed from import tariffs. Among the products covered in this agreement are new-generation semi-conductors, GPS navigation systems, medical products which include magnetic resonance imaging machines, machine tools for manufacturing printed circuits, telecommunications satellites and touch screens. Once approved, the agreement will update an Information Technology Agreement that has not been updated for the past 18 years.
According to the WTO, the tentative accord reached by 54 of its members was confirmed as the basis for implementation work to begin. Ministers from the participating members will now work to conclude their implementation plans in time for the WTO’s 10th Ministerial Conference which will be held in Nairobi this December. Five of the total number of countries needed for final signoff has thus-far not signed up. Those countries include Colombia, Mauritius, Taiwan, Turkey and Thailand. The Director of WTO has indicated to news sources that approval from the remaining countries is due to process delays, and expects the required additional countries to sign-up soon.
This latest categorization is being billed as the first global tariff-cutting in 18 years with the implication that globally-based consumers should eventually benefit in purchases of computers, game consoles, touch-screen devices and other consumer electronics products. All 161 WTO members are expected to benefit from this agreement, as they will all enjoy duty-free market access in the markets of those members who are eliminating tariffs on these high tech products. According to the WTO, the terms of the agreement will be formally circulated to the full membership at a meeting of the WTO General Council on 28 July.
A published Reuters report indicates that high-tech manufacturers General Electric, Intel, Microsoft, Nintendo and Texas Instruments are among those firms expected to benefit from the free-up tariffs. A U.S. trade representative indicated to Reuters that more than $100 billion in U.S. exports alone would be covered by the updated agreement.
The implication to hi-tech and consumer electronics industry supply chains is significant.
A considerable amount of new products and product categories have been added since these tariffs were originally created 18 years ago, and with over 200 products designated to be free of import tariffs and duty-free trade, the industry as a whole stands to benefit by increased global market access and more streamlined, direct flows to end markets. The notions of offshore and near-shore production as well as new opportunities for push-pull customer fulfillment strategies can well benefit from this development of tariff-free components and products. On the other hand, the competitive landscape of regional brands competing with global brands will magnify.
By our Supply Chain Matters lens, the agreement will have implications to current manufacturing sourcing of high-tech and consumer electronics products since the assumptions concerning added tariff costs will obviously change. Supply chain strategy teams should therefore plan on a refresh supply chain network design models in light of these tariff-free assumptions to uncover any new opportunities for more efficient or enhanced customer fulfillment focused manufacturing and sourcing of end-products.
Seventeen months ago, business and social media was abuzz with electric automobile maker Tesla Motors’s audacious plans to build its own $5 billion electric battery “gigafactory within the United States, capable of supplying up to 500,000 electric vehicles per year. Plans indicated that the plant, would ultimately be able to produce batteries at 30 percent less cost, and when operational, would provide the capacity to be the single largest battery manufacturing volume plant in the world. To state the obvious, the strategy was a bold and savvy thrust involving vertical integration, given that of the entire value-chain and cost-of-goods sold (COGS) for an electric powered automobile, the batteries are indeed the highest portion of cost.
Since the February 2014 announcement, a far broader strategy has been unfolding, one that will extend beyond automotive supply chain needs. In September of last year, Tesla selected a site within the state of Nevada, just outside of Reno. Thus far, the steel structure and roof of the new factory have been completed. Tesla has partnered with Japan based Panasonic to assist in the setup of production processes within the new gigafactory. By autumn, Panasonic will dispatch hundreds of its employees to Nevada to assist in the plant internal design and setup.
In June, Tesla entered into a research partnership with a noted professor at Dalhousie University in Nova Scotia, known for his work in innovating lithium-ion batteries. The goal of this research partnership is to determine methods to incorporate more voltage as well as less cost of materials within batteries without eroding their longevity. According to a published report, Tesla is further investigating its own sourcing and processing of lithium, cobalt, graphite and nickel.
This week featured news indicating that Tesla has now increased its land holdings surrounding the new plant, purchasing an additional 2000 acres. The land purchases reportedly occurred during April and May with the majority of the land, according to Tesla, serving as a buffer zone in which solar arrays are to be constructed to provide internal power to the new factory.
According to a published report from The Wall Street Journal, battery cells will begin to roll-off production lines by the end of 2016, with plans for additional phased ramp-ups extending through the year 2020. Once more, up to 25 percent of the new plant’s capacity is expected to be allocated for production of static storage battery needs for homes, businesses and utilities. Tesla recently unveiled a new line of home storage batteries and the firm’s iconic founder, Elon Musk recently indicated that there has been positive interest from other industries in exploring potential battery supply agreements.
Tesla’s corporate culture of thinking big continues to extend across the supply chain and the new gigafactory will be the most significant testament to that boldness in supply chain vertical integration.
For added information regarding this new factory, readers can review Tesla’s conceptual design.