BECOMING BEST-IN-CLASS

Logistics Insight Asia, 1/11/2007

The latest benchmarking study from the Supply Chain Council reveals very few organizations in Southeast Asia excelling in their supply chain operations. LIM YEONG CHUAN discusses the results and recommends some steps companies can take to become best-in-class.

The Supply Chain Council South East Asia chapter’s latest supply chain benchmarking study surveyed a total of 271 companies from nine industry groups across the region. The aim of this annual study, now in its eighth year, is to reveal how companies in this region are measuring up in terms of their supply chain performance and also how much they have to improve to become leaders, or “best-in-class”,in their industry.

The headline conclusion after the examining the results: very few companies in the region have mastered their supply chain. Or to put it another way, good and sustainable supply chain operations are still in their early days. There is also a wide gap between bestin- class and median performance, and this is observed more so within a certain industry than acrossindustries.

For those companies that can achieve best-in-class supply chain operations the reward is superior financial performance. However, the survey revealed that only a small minority of companies are able toachieve this.

One reason for the general lackluster performance is the still low degree of understanding of“supply chain” within companies.Many are still struggling to copewith production volumes and failto see the importance of investing time and effort to better manageand improve their supply chainprocesses.

Without a structural approach, companies find it very difficult to align internal and external supply chain partners towards common goals to compete against another supply chains. It is recommended that companies in the region should adopt a supply chain improvement framework, like SCOR (discussed below), as the first step to achievebetter supply chain performance.

$$: THE MISSING LINK
Many senior managers hold a“traditional” view of supply chainmanagement and do not fullyrealise its potential impact on areasof financial performance (growth,profitability, assets and capitalutilization).

Ironically, many supply chain professionals fail to translate supply chain management into the senior management language (language of finance) and are thus unable to articulate the real value of supplychain management to them.

Logically, though, supply chain operations do have a direct impact on the financials of a company. A well managed supply chain operations should translate to good financial performance. The reason this is not always visible is because of the complexity and nature of a supply chain itself – process driven and involving cross-functionalactivities.

Revenue, working capital, cash-tocash cycle time, days of payables outstanding and inventory days of supply are some metrics that are managed or results of activities carried out by different functions– purchasing, manufacturing,logistics, distribution, and planning.In short, supply chain operations.

These metrics influence return on equity (ROE), return on assets (ROA) and economic value added (EVA) which are key indicators for shareholders and investors. As such, it becomes essential for companies to build linkages between key financial decisions with supply chain performance and strategy. In other words, companies should develop supply chain strategy in order toachieve desired financial indicators.

iCognitive, a supply chain consultancy company based in Singapore, has built a strong and clear framework that links operational performance metrics such as perfect order fulfilment to the financial performance of companies such as revenues growth, operating profit, return on assets(ROA) or return on equity (ROE).

OPERATIONAL PERFORMANCE
In the survey, operational performance assessment was based on internationally recognized, process based supply metrics derived from the SCOR (Supply Chain Operations Reference) model, an established industry framework for enabling companies to address, improve, and communicate supply chain management practicesbetween partners.

Companies were evaluated on thefollowing three metrics:

• Inventory days of supply – the stock levels maintained to support demand satisfaction (lower the better)

• Cash-to-cash cycle time – how quickly cash from customers flows back into the company after outlay on raw materials from suppliers (lower the better)

• Cost of goods sold – an indicator of costs associated with operating the supply chain (lower the better)

Two categories, “best-in-class” and “median” were specified to provide broad measures of performance. Best-in-class being defined as the average score of the top 20 percent of companies; and median defined as the average performance of the 40th to 60th percentile of companies.

Only four out of the 271 companies were best-in-class across the board in all three of the defined supply chain metrics, while less than 10 percent (27) were found to be bestin- class in either two of the three defined supply chain metrics. Most companies managed to reach bestin- class level in only SCOR metric, and are median or below on theothers.

FINANCIAL METRICS
As well as evaluating operational performance, the survey companies were also benchmarked on a set offinancial metrics:

The financial metrics used:

• Operating income – measure of a company’s earning power fromongoing operations (also calledoperating profit or EBIT)

• Operating expenses – general expenses in running the business, including sales & marketing, administrative, R&D

• Net profit – company profits after taxation (also referred to as bottom line)

• Sales growth – revenue growth over the last five years calculated through compound annual growth rate (CAGR)

• Asset turns – calculated from sales divided by total assets, this is a key indicator of how efficiently a company’s assets are being used (was formerly a SCOR metric – up to version 6.1)

A key point of investigation was to establish whether supply chain competency is translated into superior financial performance, by identifying those companies that were best-in-class in any one of the three SCOR metrics AND also bestin- class in any of the five financial metrics.

But only four companies met this criterion, and these were the same four companies that were best-in-class in all three supply chain metrics. The key findings is that although the link between operational performance and financial performance is known to be strong, very limited companies in Southeast Asia are able to translate superior supply chain performance into financial results. Another observation from thefinancial results were the large gaps between best-in-class and median companies, which was almost 10percent for net profit and just under20 percent for sales growth.

Separate analysis was carried out to examine salient characteristics of best-in-class versus median companies for the net profit and sales growth indicators (see tables).

For net profit, the results indicate that best-in-class companies have lower days of sales outstanding as well as lower days of payables. This indicates stronger relationships with customers and suppliers, respectively. Best-in-class companies, however, had a lower asset turn ratio, which may point to a more selective approach to customers and business deals.

Best-in-class net profit companies came from across all industry groups but with the majority from food, beverage & tobacco; industrial; chemical.

This was also the case for the sales growth indicator, for which the analysis reveals a lower days of payables for best-in-class but higher days of sales outstanding. The conclusion here is a positive relationship with suppliers, as with the best-in-class net profit companies, but the aggressive sales growth leading to the longer time to collect revenue from customers. It was also revealed that less than five percent companies are able to achieve profitable growth performance, which is to be both best-in-class net profit and best-inclass sales growth. And less than 1.5 percent of the companies achieved managed to achieve best-in-class on this indicator for two year running.

KEEPING SCOR
As mentioned above, it is recommended that companies should adopt a supply chain framework as a means to improve supply chain performance. The Supply Chain Operations Referencemodel (SCOR) is one such tool that enables companies to address, improve and communicate supply chain management and practise between all parties involved.

SCOR has been widely adopted across many industries and by leading companies including Boeing, BASF, Intel, and Coca Cola. Organizations typically use SCOR for activities such as supply chain redesign and standardization of operations and performance measures.

To describe business activities associated with all phases of satisfying a customer’s demand, the model is organized around the five primary management processes of PLAN, SOURCE, MAKE, DELIVER and RETURN. By describing supply chains using these process building blocks, the model can be applied to supply chains that are very simple or very complex.

As a result, disparate industries can be linked to describe virtually any supply chain, which can be defined by product grouping, geographical segmentation, profit or cost center, organizational, customer or supplier.

In the SCOR model, Level 1 describes top level activities of each entity within a supply chain. A pure manufacturer will have its Planning, Sourcing, Making, Delivering and maybe returns. Typically, a distributor will not have Make processes, will have Planning, Sourcing, Delivering and maybe Return processes.

Level 2 describes the configuration for each process; how each process is done. For instance, the model defines three Sourcing strategies: Source stocked product (S1), Source Make-to-order product (S2), Source Engineer-to-order product (S3). There are also three Make strategies: Make-to-stock (M1), Make-to-order (M2) and Make-toengineer (M3).

Once the configuration is defined, at Level 3 the model gives a very detailed description of the process elements that each process category can contain. For example, SCOR gives five process elements for process category S1 (Source stocked product): Schedule Product Deliveries (S1.1), Receive Product (S1.2), Verify Product (S1.3), Transfer Product (S1.4) and Authorize Supplier Payment (S1.5).

For each of these process elements, there is Definition, Metrics, Best Practices, the Inputs and Outputs described in the model.

Thus, by mapping top level activities of each entity within a supply chain (Level 1), and describing how things are done, configuration and strategy (Level 2), the model provides you with a detailed operational process flow (Level 3).

With the current available technologies for mapping business processes, it is possible to automatically link the above generic Level 3 supply chain processes to company specific tasks and activities performed at Level 4. For this purpose iCognitive has developed a software tool, SCORAnalyzer, SCORAnalyzer provides visibility on the company’s supply chain processes. Such technologies have reduced the SCOR implementation roadmap time by 35 percent.

Technologies such as the SCORAnalyzer can provide a deep visibility of the supply chain from the highest strategic overview (level 1) to the lowest detail of day-to-day work performed (level 5). Vertical integration from top down as well as horizontal integration of end to end supply chain processes is then possible.

ADVICE FOR PRACTITIONERS
To provide a constant reminder that companies work with partners within a supply chain and need to manage all aspects related to this, it is critical for a business to have a map showing the span of the supply chain. While certain activities (Source, Make, Deliver, Return) might be outsourced, the company still has the overall accountability and responsibility to make sure finished products are made available to the end customer at the right place, right time, right cost.

And performance measurement mechanisms should always be in place to monitor and track how processes are performing. In selecting appropriate measures, there are two key points: hierarchy of the metric, and balance of measures.

Some metrics are designed for senior management; these are strategic in natural and frequency of measurement is longer. Operational metrics are lower level measuresthat are monitored at least daily.

It is also critical to maintain a balance in measuring the supply chain. This means to measure how well a supply chain is performing, one should not merely look at cost or lead time alone, but assess the supply chain both operationally and financially from various dimensions.

To this end, SCOR provides a set of measures that is both structured and balanced. SCOR Level 1 metrics are primarily high level measures that should form part of the senior management dashboard. With these metrics, they will have a good indication how the supply chain is performing. Lower level metrics (Level 2 and 3) are also embedded in the model to allow for operational control.

SCOR metrics are organized in five supply chain performance attributes:

• Reliability – measures performance of the supply chain in delivering the correct product, to the correct place, at the correct time, in the correct condition and packaging, in the correct quantity, with the correct documentation,to the correct customer

• Responsiveness – measures speed at which a supply chain provides products to the customer

• Flexibility – measures agility of a supply chain in responding to marketplace changes to gain or maintain competitive advantage

• Cost – measures costs associated with operating the supply chain

• Asset management – measures effectiveness in managing company assets to support demand satisfaction

Supply chain reliability, responsiveness and flexibility contain “customer facing” measures, which means they measure a company’s performance as experienced by its customers. Supply chain cost and asset management are “internal facing” measures, which point towards the financial performance of the supply chain.

Metrics from the five attributes should be measured concurrently to assess supply chain operations and financials from various angles. Not all Level 1 metrics may be suitable, however, at least one metric should be selected for each performance attribute. The selected metrics will then form the organization’s supply chain SCORcard.

If we combine the results of the Supply Chain Council South East Asia chapter’s supply chain benchmarking study as described above, with our consulting experience at iCognitive, we can confidently state that companies that adopt the SCOR model, which provides process, metrics, benchmarking, andbest practices, are more likely to be able to translate their supply chain competency into superior financial performance.

271 companies from six countries and nine industry groups took part in the study

Supply chain operations have a direct impact on the financials of a company

Drilling down from Level 1 to 3 of the SCOR model to provide a detailed description of the elements for each process category

The author announcing the results of the studyat September’s Supply Chain World

Companies that adopt SCOR are more likely to translate supply chain competency into superiorfinancial performance

Lim Yeong Chuan is Senior Business Consultant with iCognitive (www.icognitive.com) and Member of the Supply Chain Council, SEA Chapter.