Supply chains represent one of the biggest risks faced by modern businesses. They are also among the least understood, says John Hurrell of risk management association Airmic
For want of a nail the shoe was lost/ For want of a shoe the horse was lost/ For want of a horse the king was lost/ For want of a king the battle was lost/ For want of a battle the kingdom was lost.
This old rhyme, referring to the demise of Richard III at the Battle of Bosworth, shows that catastrophic supply failures are nothing new. What is completely unprecedented, though, is the extent to which modern businesses rely on their supply chains that are often mind-boggling in their complexity.
The level of dependency is higher than ever and still growing, with cost savings the main driver. Many firms have outsourced production and services accounting for well over half their value chain. In the process, they sometime forget that they are also delegating a large part of their reputation to a third party.
One of the first and most obvious rules of risk management is that any organisation needs to understand its vulnerabilities before it can do anything about them. Yet, as our report Supply Chain Failures highlighted, many businesses exist in a state of blissful ignorance that will almost certainly come back to haunt them.
To give just a few statistical examples, 90 per cent of firms do not consider the risks when outsourcing production, according to a report by the Harvard Business School. In a 2011 survey by the Business Continuity Institute, 92 per cent of respondents were unable to confirm that all key suppliers had business continuity programmes. Almost 20 per cent admitted they could not even identify their suppliers.
Many businesses exist in a state of blissful ignorance that will almost certainly come back to haunt them
This lack of care will end in tears. History does not record what happened to King Richard’s steed, but we do know about last year’s horsemeat scandal, which wreaked havoc with the reputations of supermarkets and food brands. In modern catastrophes, the cost of supply chain disruption can exceed that of physical damage to property.
Our report by Professor Alan Punter analysed 17 case studies, including the grounding of the Boeing 787 Dreamliner aircraft, the 2005 Buncefield oil storage depot explosion, the failure of G4S to recruit enough suitably qualified staff for the 2012 Olympics and the fall-out from the Icelandic volcano cloud in 2010.
Although these events are varied in nature, four failures cropped up repeatedly. These were:
1. Failure to anticipate the consequences of reasonably foreseeable events, such as floods in flood plains and earthquakes in seismically active regions. Often the contingency plan depended on back-up suppliers in the same flood or earthquake zone, as became apparent in the 2011 Thai floods and Japanese tsunami;
2. Failure to understand the extended supply chain beyond tier two;
3. Failure to plan for severe disruptions to utilities, communications or transport;
4. Failure to appreciate the reputational consequences of supply chain problems and the speed of impact, often driven by social media.
These failures are much more than an administrative and procurement issue. Companies that experience serious supply chain disruptions will see their share prices drop – by an average of 25 per cent according to one recent study. The subject goes, therefore, to the heart of corporate governance.
In short, choosing and monitoring your suppliers is a strategic activity that should receive close board oversight. Too often this is not the case.
John Hurrell is chief executive of Airmic, the UK-based association for risk managers.
Supply Chain Failures, written by Professor Alan Punter and sponsored by Allianz and Lockton, can be downloaded from www.airmic.com