The following is a contributed opinion piece from Stefan Reidy, founder and CEO of Arviem. Opinions expressed are author’s own.
The traditional CFO-chief supply chain officer relationship could be defined as cost-focused: how much is being spent on supply chains, and how it can be reduced.
That’s less the case now. A PricewaterhouseCooper global pulse survey released in June found 30% of CFOs say supply chains are more important to rebuilding or enhancing revenue than talent, geographic markets or acquisitions.
This is unsurprising; supply chain is a big cost driver and value creator for an organization. Both CFOs and CSOs should be considering their hidden value beyond supply chains as an exercise in cost optimization.
According to an Oliver Wyman study, supply-chain costs can range from 10% to more than 20% of revenues, and focused supply-chain optimization can reduce costs by up to 25%. In a challenging economy, that’s a significant return.
Balancing optimization and value
Most CSOs believe they’ve optimized their functions. But do these lean operations make sense in a disrupted world that needs resiliency as much as lowered costs?
Consider a manufacturer sourcing raw materials in South America for production in Europe. This requires a transit of 30 days from source to factory. To protect its cash flow, the manufacturer has payment terms of 90 days with the supplier.
This suits the buyer, but for the vendor, it means having to finance the raw material for 120 days, tying up working capital. To compensate for the cost, the supplier must put a high price on the raw materials. That’s tough for a supplier typically smaller than the manufacturer and lacks its resources or cash reserves.
Even so, the arrangement works up until a major global event like the pandemic. Suddenly, transit times are disrupted and factories are shut down. The supplier must wait longer for payment, putting it at greater risk of collapse. In turn, the manufacturer must find a new supplier.
It’s here that a collaborative partnership between heads of supply chain and finance is needed.
The manufacturer’s CSO doesn’t want to find a new supplier when so many are going out of business, while the CFO is concerned with high costs. By collaborating, they can review their agreement with the supplier from both a finance and a supply chain perspective. The output might be rebalancing the payment terms, allowing the manufacturer to take on more of the financing if the supplier agrees to a discount.
Suddenly, the manufacturer is paying less, and the CSO has strengthened vendors and increased resiliency. It’s a positive outcome that can only be achieved by having transparency and visibility across the supply chain.
Transparency is all
That level of understanding comes through collating and analyzing data in real-time from all the parts comprising a supply chain: the suppliers, manufacturers, logistics providers, warehouses and everyone in between.
It’s not a straight-forward undertaking. It requires input from separate organizations, underlining why CFOs and CSOs must have strong, mutually beneficial relationships. They each must be clear on what’s required of them, what information the other needs and where it can come from.
CFOs are well-positioned to lead supply chain optimization initiatives alongside supply chain professionals, partnering in value creation.
Value creation means looking at business units and functions in new ways and taking an integrated approach to value realization. It’s about taking a holistic view of the organization and quantifying the impact a change in one part of the organization would have on another.
For organizations to do this, executives must be aware of three factors:
- Cost of capital. This is measured by assets’ service cost. In the supply chain, these assets can be in transportation, inventory, raw materials or finished goods. To keep them active and valuable requires money. How do CFOs and CSOs know whether working capital is actually working or if it’s tied up in processes, solutions, and suppliers that could be more effective? Many do not, because they rarely consider capital cost. For example, they continue to run their own trucks or own their warehousing when they aren’t a logistics provider. If those trucks are idle and the warehouses are empty, they’re not monetizing those assets. Reducing assets reduces cost of capital.
- Planning for hidden costs. Many businesses know how much it takes to manufacture and transport a finished product, but they don’t necessarily account for the hidden costs: detention and demurrage at ports, for example, shrinkage (goods decreasing in value), or cost of non-performance (for instance, where failing to meet agreed lead times leads to a loss of revenue). These are performance and quality-related costs rarely considered up front, but can have a significant impact on the balance sheet. By identifying and quantifying the impact, businesses can plan for these eventualities and mitigate their impact.
- Payment terms. It’s common for suppliers to have a higher cost of capital than their customers, thanks to terms that push the payment to anywhere in the region of 90 days from receipt of materials. Add on to that 30-day transit times, and a small supplier could be looking at financing their customers for up to a third of a year after raw materials have been dispatched.
When all businesses are struggling, these vendors could find themselves going to the wall, leaving CSOs to rebuild parts of their supply chain. One way of protecting against that risk is for businesses to reduce their payment terms and take on more of the cost of capital. By doing so, they may then be able to negotiate better discounts from their suppliers, as the raw material price doesn’t have to factor in such long terms. So, CFOs get their cost reduction and CSOs give suppliers much-needed oxygen. Combined, this equals value.
Data is key
To be able to do all this requires two things: a mutually beneficial relationship between CFOs and CSOs and visibility across the supply chain.
Want to know how much your deployed capital is costing you? Need to identify where you’re consistently running up unplanned charges? Think your supply chain lacks resiliency? The answer to all three is accurate, timely, and reliable data.
How do CFOs and CSOs access that intelligence? Investment in digital tools and operational transformation.
This is where more holistic thinking comes in. Investing during a tumultuous time can be a challenging sell, particularly if CFOs are in a cost-saving mindset. That’s why supply chain digitalization and supply chain visibility must be seen as part of the whole transformation.
That said, while it is an investment, it’s not the kind upfront cost that was the norm in years past. The use of software-as-a-service or cloud-based solutions has inverted the model, with costs moving from capital expenditure to subscription payments. Nor do these new models apply just to provisioning the tools required to capture data; a digitized organization will be better placed to access new modes of financing, which is particularly beneficial if they have previously been excluded from risk-averse traditional institutions.
Visibility delivers predictability – in short supply currently. To see what’s coming and have the know-how that will affect the wider business means being able to reduce the dependency on things like safety stocks, which frees up working capital.
It requires investment, but ultimately, the focus needs to be on the value this will create, and how it intersects with the wider organization.
It’s a constant balancing act, but if it’s done well, a CFO-supply chain exec partnership can unlock value, optimize employed capital and deliver improved operational and financial performance.