Factors for Successfully Managing Supply Chain Risks, Part 4: Performance Metrics

This blog post is the part 4 of the continuation of our Identifying the Factors for Successfully Managing Supply Chain Risks research post. Our recent study to better understand supply chain risks focused on the structure, implementation, and maintenance of a formal system for managing risks in the supply chain.  These factors included: Corporate Strategy,  Supply Chain Organization, Process Management, Performance Metrics, and Information & Technology. We will now further explore Factor 4 Performance Metrics.

Factor 4:

Performance Metrics

All of the firms in this study have developed and monitor a set of performance metrics to maintain a risk profile for their supply chains. They do so by using an assortment of tools and techniques such as: initial supplier evaluations, QS audits, industry benchmarking, supplier questionnaires, report cards, capacity planning, lead-time analysis, financial risk assessment, business continuity plans, risk analysis based on accounts payable performance, historical data, technical capability assessment, on-site capability reviews, forecasting techniques and analysis, data tracking with customers to identify demand trends, supplier performance measurement, etc. The majority of the firms also used supplier risk rankings, similar to credit scores used in the financial industry, to measure suppliers on stability, contingency planning, and on-target delivery performance. These tools allow the firms to ask some basic questions such as: Do suppliers maintain consistent quality and delivery performance and is lead-time volatility increasing? While most of the firms track this type of performance through supplier scorecards to monitor leading indicators that impact risk, none had an ongoing risk-review process to ensure that they keep their risk profile within an optimal range of economic impact.

This study also demonstrates that the measurement of risk factors does not necessarily require a new or unique set of performance measures. For example, one firm used average on-time delivery as a measure of supplier performance and chose to look more closely at the peaks and valleys of this indicator to determine the supplier’s risk impact on its own delivery performance. In another example, key metrics were established to measure the risk associated with key suppliers and their performance against service level agreements. Supplier agreements were then aligned with the established levels negotiated with the company’s key customer agreements.

In general, the development of proactive risk management performance metrics in the supply chain was lacking in this study. The supplier scorecards were not balanced, optimal, and supported reactive decision making. The firms in this study do equip themselves with management scorecards that can identify some trends in advance. They often referred to them as dashboards, reviews, audits, etc., and they allowed managers to view the progress of their supply chains according to a collection of performance indicators. In this manner, they do get some early warning signs if suppliers or carriers are underperforming. However, they fall short on having systems with event-based alerts that let them know when their supply chains are at risk. Until that happens, managers will not take appropriate and well managed risks (e.g., they will outsource to low cost regions to meet their cost savings goals and not stay within an optimal range on the risk management side).

In general, no one was compensated or incented in their day to day job to look at and evaluate the risks within an optimal range of economic impact. For example, a typical off-shore target for several supply chain managers was to achieve x million dollars of component off-shore in y years. Such situations forced managers to inevitably compromise on risk issues as they focused on achieving cost efficiency. None of the firms have developed some sort of on-demand platform that helps them predict supplier failures before they occur. Managers were mostly concerned with risks on the supply and demand sides of the supply chain. It is not that they ignore operations risk, but typically operations risk management resides in other departments such as corporate risk or finance, and is covered by buying insurance or hedging foreign exchange exposure.

A key component of the supply chain risk management framework is to develop and monitor a set of performance metrics to maintain an optimal risk profile of an organization’s supply chain. In response to this, it is recommended that a risk-adjusted view of current and traditional SCM performance metrics be used. In addition, key risk measures may be added to monitor potential upstream and downstream disruptions in the supply chain. New measures might also be added to monitor supplier contingency planning processes and procedures that already exist as traditional SCM applications. Establishing a set of supply chain risk measures across an organization’s supply chain can culturally institutionalize the importance of managing risks in the supply chain. As decisions are weighed in terms of both the financial benefits and the impact to supply chain risks, the results should lead to a more proactive approach with long-term benefits to the entire supply chain.

This study suggests that performance metrics are an important determinant of the temporal perspective of supply chain managers. If the reward system only rewards those who achieve their objectives irrespective of due attention to risks, then managers will strive to achieve objectives at the cost of disproportionate risks. In most of the firms in this study, the major objectives were to reduce inventory, improve in-stock availability, and cut costs. Most of these firms had specific targets for off-shore sourcing that that forced managers to inevitably compromise on risk issues. Managing risks in the supply chain was perceived as something that contradicts the process of achieving these company objectives.

The most appropriate strategy might not be adopted because of factors such as performance metrics. Developing metrics that accurately and fully tap the impact of effectively managing risks in supply chains will drive managers to take appropriate and well managed risks. Although the development of specific performance metrics is beyond the scope of this study, it is certainly an area ripe for future research.

We hope Part 4 of the research study helps shed light on the Performance Metrics Factor for Successfully Managing Supply Chain Risks. We will be reviewing our Factor 5 Performance Metrics and summarizing our study results next month.