How Important is the Inbound Supply Chain to Shareholder Value?

We recently put the finishing touches on a white paper entitled “Creating Shareholder Value from Supplier Relationships,” and are busy preparing for a companion webinar on October 2nd.

This work required us to map and articulate the connection between suppliers and the drivers of shareholder value for manufacturers.

While the amount of correlation is strong, I wonder if this “inbound” portion of the manufacturing supply chain is really getting the attention it deserves.

Let’s first look at the basics of shareholder value creation and where supplier relationships can have an impact. Shareholder value is primarily driven by profitability (revenue growth and cost reduction) and return on capital employed (both working capital and fixed assets). Consider a few ways that suppliers come into play in each of these dimensions:

Revenue growth: collaborating with suppliers on new product designs that will add incremental revenue at higher profit margins; suppliers supporting the ongoing evolution and growth of existing products
Cost reduction: selecting suppliers that provide the best total landed cost (not just the lowest piece price)
Working capital: choosing suppliers who minimize the working capital consumed by inventory requirements (i.e. those with shorter lead times)
Fixed assets: reducing internal fixed asset requirements by leveraging external supplier capabilities to produce components and parts for final assembly

The linkage between suppliers and shareholder value is clear, but there is nothing like a real world example to remind us how suppliers can make or break a manufacturer. Fiat recently revised their 2013 earnings estimates from $2.2B to $1.7B – $2.2B because of demand-driven parts shortages in their Chrysler business. Giving up as much as $0.5B in profits because your suppliers cannot keep pace with growing demand can have a detrimental effect on shareholder value.

This brings us back to my initial question: is the inbound direct materials supply chain getting the attention it deserves? How can these crippling parts shortages occur? With so much of the finished product being sourced from suppliers, why is there not greater visibility into this segment of the supply chain? I believe there are two primary reasons.

First, more attention has always been paid to the customer end of the supply chain. This is where demand originates and where service must be excellent or orders will be missed and customers will be lost. It makes good business sense to optimize the manufacturing and distribution network to properly service customer demand.

Second, it is really hard to understand and optimize the inbound supply chain because manufacturers do not own it. That’s right: this part of the supply chain is completely dependent on the network of suppliers (and their sub-tier suppliers) that manufacturers select to provide their direct materials.

There is a significant opportunity to more effectively manage these supplier relationships and strengthen the overall end-to-end supply chain. When this is done well, shareholder value will follow.

Source: Greg Anderson, Directworks, Direct Materials Insider Blog