Saturday, July 27, 2013

Mitigating Supply Chain Vulnerability to Inflation

I have a sinking feeling that many logistics professionals are unprepared for the havoc that inflation can wreak on supply chains.  Corporate supply chain managers have rested on outsourcing non-core supply functions to third parties without considering how inflation will disrupt those functions.  Just-in-time inventory and lean manufacturing assume that raw materials will be available on demand.  Inflation destroys that assumption when suppliers who can't keep up with rising costs go out of business.  Consider this article as a think-piece that logisticians will need to start their contingency planning for alternatives.

Pre-ordering inventory.  Companies can stock up on raw materials if they have the storage space or can lease space.  They can negotiate long-term contracts to deliver stuff but if they're smart they will lock in today's prices with fixed increases in annual increments.  This will really stick it to suppliers who didn't plan ahead.  Suppliers who don't hedge against increases in material delivery costs risk failure.  Downstream companies will have once-in-a-lifetime opportunities to vertically integrate by acquiring those suppliers who end up in bankruptcy.

Financial engineering.  This topic is too broad for one article.  Suffice it to say that corporate treasurers will have to think more like hedge funds by taking positions in the futures markets that balance their supply commitments.  If I were running steel mills or petrochemical plants, I would think long and hard about how many energy-related futures contracts my enterprise would need to neutralize rapid increases in prices for oil and coal.  Mining companies that closed their hedge books will have to open them again.

Sourcing from non-inflating economies.  I've blogged before about the desirability of currencies in Australia, New Zealand, and Canada because their central banks are not pursuing monetary stimulus.  That disposition also makes these countries good choices for locating the origins of a supply chain.  They also happen to have abundant natural resources (except maybe New Zealand, which has lots of sheep).  Global purchasing managers may wish to look at sourcing from any African or Southeast Asian economies that have just conquered an inflationary period; good luck with that one.  I'd avoid Latin American sourcing alternatives because that neighborhood loves inflation.  Argentina and Venezuela just can't get enough of high prices and product shortages.

Have more suppliers.  The Hershey Co. buys cocoa from hundreds of suppliers.  They mitigate political risk and currency risk by having one of the most robust supply chains on the planet.  Companies that survive hyperinflation will get deliveries from multiple sources.  This also applies to delivery methods.  Companies that depend on rail or pipelines are pretty much hostage to those methods.  Companies supplied by truck have more flexibility.  I suspect that a lot of trucking companies will go bankrupt if they haven't hedged their fuel costs or locked in long-term fuel contracts with minimal price adjustments.

Think fast, logisticians.  Hyperinflation will catch a lot of businesses by surprise.  Don't let your employer be one of them.