Risks drive fears to drive havoc

Uncertainties and variabilities are inherent in supply chains (and in life, I know…) and are often translated to fears. Fears of both phenomena often push people to extreme reactions – for example, on the one hand, fear of losing sales drives companies to overstock, ending up with significant surpluses. On the other hand, the fear of cash flow pressure drives companies to cut expenses wherever they can, such as holding adequate inventories, ending with severe shortages (ultimately damaging sales in the process and creating further cash flow issues). Oscillating between extreme reactions is common in many companies reacting to the fears above.

The typical way to address risk is to try and react fast to the threat; that would be a reasonable reaction unless we overshoot/undershoot the magnitude of the response. These extremes in the magnitude of response create havoc in systems.

Suppose we agree that the drivers for creating risk are a given and cannot be avoided. What should be the correct reaction to the inherent risk in doing business? What are the reactions, and what magnitude should we adopt in dealing with these challenges?

The answer is to hold the right buffers (safeties) in the system. These shock absorbers of resources, capacity, time, suppliers, inventories, cash, people, etc., are the only way a company can build a system that can effectively handle uncertainty and variability. Ensuring buffers are dynamic, considering the specific constraints and ongoing changes, is an effective way to make a robust and nimble system that deals and reacts promptly to the volatile behavior resulting from fears and prevents the damaging effects of extreme reactions.

Build for efficiency? (need for speed)

For decades, efficiency used to be the leading approach to supply chain management. The main principle of lean supply chains was eliminating any part of the system that does not add “value.” For that, massive efforts are invested in reducing the “price per product,” eliminating excessive capacities, reducing the number of suppliers, producing in huge batches, and more. The primary objective is to achieve a highly efficient supply chain (to minimize costs), all while satisfying customers’ demanding requirements.

Let’s try to understand this better. For example, let’s take the need to minimize the “price per product.” Is it a product that costs us $1, with a retail price of $10 considered to be cheap? According to the old way, it is a reasonable price per product. But, what if I told you that product is going to sit on the shelf unsold for 6 months, or arrive on its expiration date? Is it still cheap?

Supply chains should not be “efficient.” They need to be “effective.” In other words, they will be effective if they are agile. Agility is the ability of an organization to respond rapidly to changes in demand, both in terms of volume, and in variety. Agility is the system’s ability to cope with unexpected changes, survive unprecedented threats of the business environment, and take advantage of changes as opportunities.

There is a need for a paradigm shift in supply chain management. The need for speed or, better said, agility is the key for any supply chain to deal with the rapidly changing demands downstream, as well as the upstream challenges that are piling up.