(originally published by Booz & Company)

Lessening the Impact of Natural Disasters on Supply Chains

Physical diversification is important, but so is spreading data about designs and operations.

Title: Supply Chain Lessons from the Catastrophic Natural Disaster in Japan (Fee or subscription required)

Authors: YoungWon Park (Waseda University), Paul Hong (University of Toledo), and James Jungbae Roh (Rowan University)

Publisher: Business Horizons; vol. 56, no. 1

Date Published: January–February 2013

When an 8.9-magnitude earthquake shook the northeast coast of Japan in March 2011, spawning a devastating tsunami that led to a meltdown at the Fukushima nuclear plant, the immediate focus was on the immense destruction of property and loss of life. Slowly, the impact on Japanese companies also came into view, including the enormous task they faced of repairing their shattered supply chains.

Together, the earthquake and tsunami represented one of the costliest natural disasters on record, wreaking some US$235 billion worth of damage, according to World Bank estimates. (In comparison, Hurricane Katrina cost Louisiana about $81 billion.) And the ripples quickly spread far beyond Japan. Because the country produces about 60 percent of the world’s silicon for semiconductor chips, global prices for computer memory components spiked by 20 percent right after the disaster. Meanwhile, a number of U.S. auto plants were forced to halt production until shipments resumed of specialized paints and computer chips.

The disaster’s global reach provided a rare opportunity to examine “supply chain restoration and recovery processes,” the authors write, noting that the effect of such disasters and other severe disruptions has not been adequately explored.

It has long been accepted that diversifying plant locations increases flexibility and abates risk. But this study finds that information “portability”—or the ability to quickly disseminate design and operations data along the supply chain—is also crucial to bouncing back from an unexpected catastrophe.

The study focused on four Japanese manufacturers that either had substantial operations in the stricken area or were reliant on suppliers there. The authors interviewed middle and senior executives at the firms, who had to cope with damaged and idled plants, supply shortages, logistics failures, and the rationing of electric power. The goal was to understand the impact of the disasters on the companies, their level of preparedness, and the lessons they learned. The firms were given fictitious names at their request.

Iryou is Japan’s leader in medical device manufacturing, albeit not a top 10 player on the global stage. Because few of the company’s products are price sensitive, Iryou has kept most of its manufacturing in Japan, although it did expand its capacity to the Philippines and the United States to meet increasing cost pressures on its commodity lines, such as needles and syringes. The earthquake did not directly damage the firm’s central plant, but its suppliers were not able to deliver a variety of components for several weeks, causing a serious bottleneck. To keep the flow going for its commodity lines, Iryou ramped up production abroad. And to get around an imposed daily three-hour power outage, the company scrambled to build a gas pipeline at home. The firm also opened a 24-hour crisis center, which later evolved into a permanent task force on disaster readiness. In addition, it temporarily flattened its organizational structure so that it could spread information more quickly about its recovery efforts.

Kenki, once the second largest global manufacturer of construction equipment, had failed to diversify, and it had slumped to below-average market performance by the early 2000s. Basing its turnaround in part on a powerful new IT system, the company had strengthened its supply chain “traceability” by using GPS trackers to monitor, in real time, the production, shipping, and sales status of all its equipment, a step that proved very useful in the crisis. It also prepared well by investing heavily in emerging markets, which gave it a more dispersed supply chain than Iryou had, making the disruption that much more manageable. Nonetheless, Kenki also had to cope with incapacitated suppliers and with power outages. It came out of the crisis determined to further disperse its semiconductor supply chain, which was heavily based in the affected region. It also decided to install power generators in its plants to make them self-sufficient.

Sangyo is an engineering company that produces industrial equipment and machines. Before the earthquake hit, the firm had lowered production costs by shifting some of its manufacturing to China, making sure to share supply chain information between the mother factories in Japan and its overseas plants. As with Kenki’s moves, these steps proved to be a valuable cushion, facilitating close coordination among Sangyo’s dispersed production sites and making the company “better able to handle the potential damages” from the disaster, the authors write. Still, Sangyo’s domestic production line was closed for two weeks for lack of components. Since the crisis, the company has begun to manage its suppliers’ inventory directly. It has also conducted a corporation-wide risk analysis of natural disasters, set aside one month of stock to shield itself from future logistical hitches, and increased its use of generic components.

Zyuden, one of the largest conglomerates in Japan and a producer of vehicles and generators, was the hardest hit of the four companies. Its plants in the affected region, heavily rocked by aftershocks, were cut off from electricity, communication, and transportation. More than a month and a half after the initial quake, they were still being repaired. Yet Zyuden was able to recover quickly and comprehensively, again thanks in large part to an earlier move involving an information tracking system. Six months before the quake, the company had installed sensors on its production lines. Once power was restored and damaged sensors were replaced, managers were able to monitor real-time recovery via Excel graphs, allowing the company’s Tokyo headquarters to better allocate resources and response efforts. In effect, the tracking system served as a “restoration roadmap for Zyuden’s production lines,” the authors say, helping the company to integrate “all sectors of its business, including those in the damaged region.”

One major lesson from Japan is that companies need to disperse the flow of information along with the physical locations of production. Developing ways to capture and share information throughout an existing or expanding supply chain can benefit the overall manufacturing process in addition to mitigating risk.

As the case studies also show, companies can be hamstrung by power outages and other shortfalls in local infrastructure. Therefore, it is vital for firms to anticipate a range of short- and long-term external disruptions and plan around them.

Bottom Line:
The calamitous earthquake, tsunami, and nuclear meltdown in Japan in 2011 posed enormous challenges for the country’s businesses. The recovery effort of four manufacturers highlights the importance of information dispersion, in addition to physical diversification, along the supply chain.

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