By Vanessa Miller, Nicholas Ellis, Alejandro Gomez. Partners at Foley
To maintain operations during the pandemic, many companies have been operating in crisis management mode, particularly with respect to unpredictable and unprecedented disruptions to their supply chains. Supply chain bottlenecks have rippled through and impacted all levels of industry, from raw materials up to the
consumer.
Due to the increasingly global nature of supply chains, volatile fluctuations in demand, along with environmental and socio-political influences, companies must adapt and take proactive steps to thrive in this “new normal.”
How, then, can your company shift from crisis management mode to an adapt-tosurvive-and-then-flourish operational approach in the new environment? This article presents six key strategies that companies should consider from the contracting stage through daily operations.
1.Engage in Supply-Chain Mapping.
Understand who, what, when, where, and how, products move across supply chain inputs and outputs. Many companies have a full view of their direct suppliers and customers, but much less understanding beyond such direct links.
More transparency of their supply chain will increase a company’s ability to plan and pivot when there is an interruption or some event that impacts supply— whether due to price increases, delivery issues, or raw material shortages.
Examine past occurrences and lessons learned from those incidents to inform strategies to improve the supply chain going forward.
2. Reexamine Your Contracts.
Your contracts matter. They are the framework that will determine the duties and responsibilities of the parties, and define how any supply chain dispute will be resolved.
One key area where we see changes is a renewed focus on price adjustments and indexing mechanisms for triggering pricing relief. Before the pandemic, many contracts were long-term and fixed price contracts with no countervailing protections for volume fluctuations or termination. Across many industries, suppliers were even required to provide annual price reductions, i.e. year-over-year cost savings. With some hard knocks over the last two years, companies are seeking to build in greater pricing flexibility to account for variable costs whether through some form of predefined indexing, a periodic opportunity to renegotiate and market test, or other novel approaches.
3. Build Warehousing and Inventory Banks.
The proven efficiency of lean, justin-time (JIT) inventory management works as long as all systems run smoothly and on time. The ability to warehouse or otherwise create an inventory bank—whether on- or off-site—creates a buffer against shortages and disruptions. These can benefit both parties to a supply contract: they give the seller some degree of flexibility, and the buyer some level of protection.
4. Dual-Source.
The drive toward minimizing costs, including the expenses associated with qualifying a new supplier, signaled a trend toward single sourcing materials and components.
In the current, unpredictable world of trying to bring global supply chains closer to home, companies should analyze their supply chains to understand where risks exist and whether a single-source strategy still makes sense; this often requires drilling down into the details of the related business processes to identify the flow and sources of the supply chain. For example, if two unrelated suppliers are obtaining one hundred percent of their raw materials from the same vendor, your company is exposed to risk based on the sole source.
It is vital to have a contingency plan that makes the most business sense like dual-sourcing from different locations, and have at least one prequalified alternate source ready.
5. Shift Risks for Freight Costs.
Traditionally, many buyers have treated shipping costs, including expedited costs in cases of force majeure and commercial impracticability, as the suppliers’ responsibility. This typically resulted in a zero-sum game with buyers demanding their suppliers pay the entire costs for whatever-isnecessary-to-get-my-parts-to-menow, and suppliers often balking and refusing to pay such costs—even if obligated to do so under applicable law or existing contract provisions. (Do you know what your current contracts say in that regard?)
Companies should look for potential new approaches in which both buyers and sellers each share some of the risks for expedited freight arising from events that are out of their control. Companies should involve operational managers from both sides in preparing the relief plan.
6. Nearshoring and Reshoring.
Many North American businesses are either bringing back, or contemplating bringing back, their manufacturing to North America in the near future; this is a practice commonly referred to as “reshoring” or “nearshoring.”
The business areas that companies are considering reshoring range from backroom operations such as information technology, payroll, etc, to customer services and call centers, to design and production of key components or entire product lines.
Similarly, there are many variations in the ways in which reshoring is accomplished. In some cases, a company may return work to existing North American plants and facilities, while in others it can involve the construction of entirely new facilities. Regardless of the approach, the goal is the same—to mitigate the risks and costs associated with having an extended supply chain with long shipping times for Trans Atlantic or Trans-Pacific shipping.
It should be noted however that, due to the complexities involved with moving production locations, particularly in cases where contracts may require revalidation and customer approval, reshoring and nearshoring cannot be achieved overnight. It is a promising long-term strategy, but may not offer much in the way of short-term relief.
Conclusion.
If supply chain participants have learned anything from the pandemic and its effects on their business, it is that they should re-evaluate their contracting and operations across their global supply chains. Going forward, companies should build in additional layers of protection through contracting, processes and logistics. The bend-but don’t-break approach may add costs, but it will be worth it to enhance flexibility and maintain continuity of supply and operations.
About
Authors Vanessa L. Miller, vmiller@foley.com; Nicholas J. Ellis, nellis@foley.com; and Alejandro N. Gomez-Strozzi, agomez@foley.com, are partners at the law firm Foley & Lardner LLP
