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Published: July 22, 2008

 
 

Sidestepping Disaster

Extending supply chains to low-cost nations may make economic sense, but disruptions from natural catastrophes can drown the gains.

When a severe earthquake ripped through China’s Sichuan Province this spring, Greg Hayes, one of United Technologies Corporation’s (UTC) two chief financial officers, was worried that the company’s facilities in the region would be damaged so severely that UTC’s bottom line would take a hit. He was particularly concerned about the conglomerate’s factories in Chengdu, a thriving business hub in Sichuan, which make Otis elevators, Carrier air-conditioning equipment, and Pratt & Whitney engine components.

Hayes’s worries were quickly alleviated, however. “I got calls from each of the three businesses, saying, ‘Look, we’ve had a little bit of damage. But our people are okay,’” says Hayes. “And despite all the devastation, they had all the factories up and running within a week and the costs to the company were minimal.”

UTC survived the disaster virtually unscathed, primarily because each business had a continuity team with a contingency program for responding to emergencies. Otis’s plan, for example, called for its factories in Tianjin, a large port city near Beijing, to make up for disruptions in Sichuan — a plan that ultimately was not needed because of the Sichuan factory's fast recovery.

Many major U.S. companies with extended global supply chains are confronting similar challenges, which stem from an increasing number of weather-related and natural disruptions. Some experts blame global warming for what seems to be a growing prevalence of natural disasters. That may or may not be the culprit, but multinationals are clearly exacerbating the impact of these calamities by moving their supply bases deeper into lower-cost countries such as Vietnam, Cambodia, and Bangladesh in hopes of minimizing manufacturing expenses. Such regions are vulnerable to massive storms, flooding, and earthquakes, and their high population density and relatively undeveloped infrastructures compound safety, medical, and transportation challenges during a catastrophe.

The most obvious antidote to supply chain disruptions was the one employed by UTC: Build redundant manufacturing capability. That approach doesn’t merely entail having a second plant ready in a safe region for when it is needed, it also requires putting online multiple factories that make the same components as a routine course of business. Currently, about 27 percent of UTC’s suppliers are in low-cost locations such as China, India, and Eastern Europe. But the company is aiming to increase that number to closer to 50 percent — anything higher than that would make UTC overly dependent on those locations, says Hayes. With this plan, UTC hopes to “split its buy” between traditional sourcing locations and low-cost countries. “We want to have dual sourcing so that we are never held hostage by one location or one supplier,” Hayes explains.

Other companies are proactive in different ways. For example, The FedEx Corporation monitors weather patterns for key customers and asks them if they want to pre-position inventory in FedEx warehouses near end-users when a disruption appears imminent. This practice, which Tom Schmitt, chief executive officer of FedEx’s global supply chain services unit, calls “forward deployment,” allows companies to be more impervious to bad weather. Customers such as hospitals have come to rely on that forward deployment. Says Schmitt, “If a mechanical device goes out at a hospital in the middle of a storm, no matter where the hospital is located, they need a way to get a replacement in a hurry.”

Another element of preparation is to inspect each tier of a company’s supply chain to ascertain whether suppliers have built facilities that will withstand flooding, earthquakes, and windstorms. Shivan Subramaniam, chairman and CEO of Rhode Island–based FM Global, which insures the supply chains of large companies, says some companies make sure that their suppliers in China are lodged in buildings that can withstand snow and wintry conditions; these companies avoided disruption when large parts of central China were hit by blizzards this past winter.

 
 
 
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Resources

  1. Amy Bernstein, “Yossi Sheffi, The Thought Leader Interview,” s+b, Spring 2006: One of the leading proponents of “resiliency” offers his analysis of how and why companies must bounce back from disruptions.
  2. FM Global and Opinion Research Corporation, “Managing Business Risk Through 2009 and Beyond,” May 2007: A survey of 500 financial executives on how they are preparing for supply chain risks.
  3. Robert B. Handfield and Kevin McCormack, eds., Supply Chain Risk Management: Minimizing Disruptions in Global Sourcing (Auerbach, 2007): Supply chain disruptions, disruption recovery, and resilient supply chains are examined in depth.
  4. John B. Jasper, “Effectively Managing the Distribution of Time-Sensitive Parts and Devices,” FedEx Global Supply Chain Services white paper, December 2006: An order fulfillment optimization case study that outlines factors to be considered if supply chains of critical service parts are disrupted.
  5. Robert Malone, “Tracking Outsourcing’s Paradigm Shift,” Forbes.com, May 29, 2008: A look at today’s increased risks for outsourcers and the management tools to cope with those risks.