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Double edged sword of optimizing China-based and US/EU-based supply chains

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Bleeding our China-monitoring interests over to logistics, I highly recommend two articles by George Stalk at BCG on the trade-offs between China-based and North American-based supply chains. The first is the HTML article from Supply Chain Management Review, Surviving the China Riptide, and the more developed PDF article from BCG, The China Rip Tide: Threat or Opportunity?

Stalk portrays the scope of the problem in trying to improve China-based chains as reaching epidemic proportions (Quotes below are from the HTML version):

[The] surface freight situation in North America and Europe is seriously challenged. Backlogs at ports and on railroads are at all-time highs. With freight volumes increasing faster than the ports can handle them, the situation will only worsen. Some Asian ships are too big to go through the Panama Canal to less busy ports on the Atlantic coast. Even some of those that can fit through the canal must offload and reload containers to meet the canal's pilot-visibility rules. The offloaded containers are sent by rail across the isthmus to be reloaded on the other side, adding even more transit time. And while shifting to East Coast ports might improve the predictability of shipping times, it certainly won't shorten them. Because of the problems on the North American West Coast and in Europe, the cycle times of the China supply chains are going up, not down... The cycle times of surface shipments (from China to Chicago, for example) are not only increasing - they are also becoming more variable. About 50 percent of the containers at one shipping company are offloaded within two weeks of their scheduled dates, and these are considered to be on time. The other 50 percent are even less predictable!

George was working on what became time-based competition (TBC) in the mid 80s, and released his seminal Time-The Next Source of Competitive Advantage in 1988. I had the opportunity to design integrated marketing and development programs around TBC as did a colleague at DEC. We can testify that TBC works. It's my opinion that Stalk has long had a subtle feel for the impact of timing and bullwhip effects, and it is evident here.

I submit that the 'Riptide pair' form the kernel of a "graduate survey course" for commercial supply chain and logistics managers. For those with chains in place, remedial protective measures are in order; for those designing chains, these mechanics should be factored into sourcing/siting decisions. Some of this has been known at the grassroots level, for example, while smaller part production left Mexico for Asia, assembly of "things larger than a breadbasket" stayed put. That feature will multiply if Ford goes ahead with leaked plans to site a new assembly plan in Mexico. (I admit to wondering if it was not leaked intentionally. The leak, if it was one, softened what could be an implied threat to nationalistic voters in the upcoming July Mexican presidential election as well as advising the UAW to 'roll over and play dead' in terms of its labor negotiations with the OEM.)

In their rush to source from China, many companies are blindly walking into a strategic trap. The trap is thinking that sourcing from China will result in lower product costs when, in reality, the supply chain dynamics will drive up overall costs and reduce profitability - thereby creating an opening for a competitor. Their only salvation is if all their competitors make the same mistake... The first company to see and correct the strategic error of sourcing from China without an appropriate investment in supply chain dynamics to minimize costs will seal the fate of its competitors.

There are many traps in going to China; the one that concerns us is Intellectual Property (IP) loss now at a hemorrhage level; in the automotive sector, the OEMs are comissive in stampeding their Tier Base to China based purely on piece part cost, a shortsighted practice that will come back to haunt both OEM and supplier. For those chains that can be retained here, the supply base has the opportunity - but not the guarantee (as an asset is at risk wherever it appears at any tier in the global supply chain) - of less predation upon strategic IP.

SwizStick at Third Paty Logistics captures Stalk's double edged sword, i.e., that US/EU suppliers can and should reoptimize their chains on total cost but that Chinese firms can again win the advantage by optimizing their chains with a built-in lower Unit Product Cost (UPC):

[Stalk analyzes] the hidden costs of a product that arise from fluctuations and challenges in the supply chain. His analysis is very technical and lengthy but is an excellent example of how companies who optimize their supply chain, integrating information flows and cutting cycle times, will have the advantage over their competitors. What I found extremely interesting and illuminating was the results of the analysis comparing a domestic supply chain to a China-based supply chain, clearly illustrating that a domestic supply chain that could optimize their information flows and cycle times would have a substantial operating margin advantage over the China-based supply chain. The author readily concedes that "...the competitive dynamic might continue with the China-based chain becoming integrated and also cutting its cycle time in half. In that case, the advantage returns to the China-based chain because of its lower UPC."

In a similar vein, Brian Sommer stated that Stalk had illuminated:

the true costs of using local, global and a mix of suppliers. The article takes the reader through a series of cost analyses assuming different combinations of US or China manufacturers and whether they possess non-integrated, semi-integrated or fully integrated supply chains. Stalk's analysis helps to understand why some firms:

  • move/keep much of their sourcing in-country
  • develop their own transportation solutions
  • rethink how much of each part should be made by country location
  • why some firms are re-routing offshore shipments to different, less congested ports
  • etc.

But more important, Stalk's analysis is great at understanding how Chinese firms may try to enter and win in the US market. His suggestions for US manufacturers/assemblers on how to win this competitive battle are a must read.

US/EU firms should investigate the implications of Stalk's analysis in concert with a realistic assessment of the financial impact of lost IP. The combination of the two would significantly modify existing supply chains. The institution of actionable and effective IP retention processes would then offer the suppliers

Rather than blindly bringing chains home or adding capacity to as yet uncongested ports, Stalk recommends that firms "need to be very aggressive in managing their China-based supply chains, looking for ways to squeeze time from them that competitors haven't identified. For companies that haven't yet sourced from China, [Stalk recommends] the following steps":

  • Reduce minimum-production-order quantities and reduce cycle times as quickly and as much as possible.
  • Don't source or manufacture in China until management fully understands the dynamics of the supply chains.
  • Create an integrated or a semi-integrated information flow within the company's existing supply chain.
  • Conduct in-depth examinations of buying practices and supplier relationships management at all levels of the supply chain. Then identify and prevent potential hidden costs.
  • Segment the demand chain on the basis of order predictability and demand volatility so that components with the highest gross margins and the most volatile demand get the fastest handling.
  • If a company does decide to source from or manufacture in China, it should explore alternatives that will minimize adverse supply chain effects. These alternatives may include options that appear costly but actually result in overall lower costs. For example:

  • Using air freight for products with the highest margins and volatility.
  • Insisting on point-to-point ocean shipping. To reduce costs, shipping companies build larger and larger container carriers, which must then be scheduled to call on multiple ports. Shipping products on a vessel that has your destination as its last port of call can add weeks - and great variability - to transit times.
  • Developing better relationships with transportation providers. This could mean paying the shipping company for preferential treatment. In "hot hatching," for example, you offer a premium to a shipping company that will load your goods onto its vessel last and unload them first. Another option is to work with the few shipping companies able to offload containers directly onto rail cars that are then expressed east - cutting days and sometimes weeks out of the supply chain.

Add IP risk mediation to this mix and firms operating in, or contemplating operations in, China would be well served; firms performing competitive analysis of potential Chinese competitors would have a new calculus for designing a competitive response.

Recommended read. While China is an especially difficult example of supply chain constraint, these guidelines can be generalized to any global supply chain.

"Surviving the China riptide."
by SwizStick @ 4:46 pm.
Third Paty Logistics
June 15, 2006

Ford to invest billions in Mexico: report
Reuters
June 14, 2006 01:17 PM ET

The China Riptide / Risky Supply Chains
Brian Sommer
Spend Matters
Posted At : June 6, 2006 1:13 PM

The China Rip Tide: Threat or Opportunity?
Profiting from the Growing Supply-Chain Bottleneck
By George Stalk Jr. and Kevin Waddell
Boston Consulting Group
June 2006

Surviving the China Riptide
By George Stalk Jr.
Supply Chain Management Review
May 1, 2006

The 10 Lives of George Stalk
By Jennifer Reingold
Fast Company
Issue 91, February 2005

It Is The Relative Speed That Counts
Roshni Jayakar
Interview with George Stalk
Business Today
July 1999

Time-The Next Source of Competitive Advantage
George Stalk, Jr
Harvard Business Review
66, July-August 1988
Full text mirror
HBR purchase link

Gordon Housworth



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