Achieving Supply Chain Excellence...Profitably
I recently attended a Harvard Business Review webcast featuring Reuben Slone and Paul Dittmann, authors of The New Supply Chain Agenda. Their presentation was interesting for several reasons. First, they measured success using economic profit, which they referred to as the generic version of Stern Stewart & Co’s Economic Value Add (EVA). Economic profit is the difference between the net profit after tax and the opportunity cost of invested capital, which calculated using weighted average cost of capital (WACC) and the amount of capital employed. Second, they the focused on the opportunity to collaborate, both internally and externally, to drive improvement which was measured in terms of economic profit. Finally, they stated that a critical success factor was adapting systems thinking to supply chain. Reuben’s success at OfficeMax is not unlike the success experienced by many of our clients. Let’s take a closer look at some of the key capabilities required to achieve this type of success on a sustainable basis.
Let’s start with how you measure success. In Reuben’s case, OfficeMax is a public company and as such, shareholder value is the ultimate measure of success, so using economic profit makes a lot of sense because it brings in more of the overall balance sheet, which is what most investors look at when evaluating a company’s overall performance. If you managing the supply chain for a private company, then net profit might be an acceptable substitute because the overall cash position might be more important. Regardless, what you won’t see in these successful examples are supply chain managers that use gross margin or even purely operational measures like supply chain efficiency as the overall measure of their success. What our clients and Reuben have learned is that that transformational change and break through results requires you to venture outside of your domain (and comfort zone) so that you can evaluate your measures in the context of the overall success of the business. This means that the information systems used for decision support must be able to reconcile data from a number of organizations across your company. Unfortunately, a large number of companies (both public and private) still rely upon silos of information that often have significant gaps in critical information within each silo. This can lead to decisions made in a vacuum or worse, analytical paralysis as various organizations attempt to collaborate and, instead, spend more time disputing the validity of the data than they do coming to a consensus conclusion upon which they can take the appropriate action (see Who Will Win the Battle of the Numbers at Your Company?) By contrast, our most successful clients use Time-Driven Activity-Based Costing (TDABC) combined with other measurement methodologies to define an overall measurement of success that presents the results of the analysis in a context that allows them to make informed decisions that lead to successful outcomes. The only way to do this is in a single system that incorporates the processes that run the business along with the resources that support these processes as well as the ability to trace the results back to the operational and financial drivers. It’s the only way you can avoid information gaps typical of organizational silos.
The other key point you’ll need to realize is that not all customers are the same and it’s your ability to differentiate the products (and services) you provide to them that provide the greatest opportunity profitable results. The same is also true for your relationship with vendors. This is where collaboration can lead to huge dividends. My first experience with this was right after I had joined our company. We had organized our very first Acorn User Group meeting in Baltimore. After a day of sessions, we all boarded buses for a tour of our nation’s Capitol. I happened to sit next to two of our clients; one was in the semiconductor business, the other an electronics distributor who was a customer of the semiconductor company. During the bus ride these two quickly identified opportunities to improve their relationship by collaborating on improving the overall supply chain operations between both companies using profitability as the measure of success. It was amazing to watch. It was easy for them to have this conversation because they had both completed modeling their business using TDABC. Their discussions centered on process efficiency as well as a couple of other cost and revenue drivers. While they didn’t completely resolve how they would accomplish their improvements in this discussion, it did set the stage for follow-up discussions where they agreed to share more insight into the overall process from both sides and this allowed them to collaborate on improving collective operations in a way that provided a 10 times greater improvement than would have been possible if each side had worked independently. Over the years, we’ve seen other examples. Their TDABC based performance measurement system allowed them to price according to the value of the relationship and minimize the cost to deliver those goods and services. For more information, please read Building the Profit Focused Supply Chain. The bottom line is that collaboration offers benefits for both sides, but in order to realize these gains, you have to be able to work from data that’s traceable and reaches across the silos, which bring me to my last point.
After many years at BMC Software where I worked on products that managed systems whose interconnected complexity was growing at a pace much faster than our customers could manage them, I came to appreciate the value of systems thinking. Using cyclic models instead of a set of linear rules allowed us to develop products that could adapt to the rapidly changing environment they were intended to manage. This allowed them to absorb changes to these conditions by merely acquiring additional data and, unless the underlying processes didn’t change, they were fairly insulated from the growth in complexity. It was a game changer for us then and it’s still a game changer now. Like BMC, we’ve adopted a systems thinking approach to Performance Management allows you to build models of your business based on the resources, expenses and revenues using the processes that connect them in such a manner that they require much lower maintenance, greater accuracy and better insight into the overall operational performance of your business. Armed with these capabilities, our clients have been able to capitalize on collaboration opportunities with both vendors and customers with results that are literally unbelievable.
It’s not a silver bullet, there’s always more work to do, but your chances of succeeding are greatly enhanced. Furthermore, you’re never really done because it’s a continuous transformation. The transformation will occur in the markets you’re in so you’ll either be a leader or a laggard. When asked about the most important takeaway from the presentation, both presenters responded with collaboration. But, in order to collaborate successfully, you’ll need to put yourself in a position to be able to serve markets of one…profitably (more on that in my next blog post) . Companies who engage in systems thinking and arm themselves with the right tools are able to do this consistently with great results. Are you ready?