Strategic Sourcing and Supply Chain Management in a Post-COVID World
Written by Hans Dau - November 29, 2020
While it might seem premature to discuss the post-COVID world as we are nearing what is hopefully the peak of the pandemic this winter, it is also clear that the crisis will pass as better treatment and vaccines become available and immunity spreads in the population.
Remaining however will be key macro trends that were sparked or drastically accelerated by the pandemic:
Forced adoption of e-commerce: E-commerce penetration into late adopter segments was drastically accelerated during COVID and the lockdown that followed. Consumers who did not shop online were forced to do so and now prefer it. By some estimates, this steep change compressed five years of projected online shopping adoption into about three months.
Location irrelevance of knowledge labor: During the lockdowns, all non-essential service labor that could be performed remotely was done so, and it largely worked quite well. Fast network access speeds, low-cost video conferencing options, and sheer necessity finally made video conferencing common and socially acceptable; far easier, quicker, and cheaper via Zoom than actual physical meetings.
Real estate "Zoom Doom": I estimate that only 50% of the office space utilized prior to the pandemic will be re-occupied, as both employers and employees prefer remote work for many jobs. Employers save and employees can live wherever they want. While driving through rural parts of the US over the summer, I saw several housing developments with billboards advertising nothing but their high internet access speeds.
While obviously net positive for the economy, this transition will be quite jarring, as the $3.7 trillion of commercial mortgages will lose significant and possibly permanent value, severely damaging banks' balance sheets. This may trigger a financial crisis similar to 2008, but if the Federal Reserve Bank and the Federal Government apply the lessons learned in 2008 proactively, the worst might be avoided.
Focus on supply chain diversity: Prior to the pandemic, many companies paid lip services to true supply chain diversity and instead focused on lowest-cost sourcing, depending heavily on China. President Trump's China tariffs were the first test and many companies responded by diversifying to other Asian countries as best they could. When the pandemic hit, China initially shut down and prioritized their domestic needs, but came back surprisingly quickly. Companies are now scrambling to enhance diversity and increase non-China and US domestic sources.
Smart companies should use this crisis as an opportunity - To strategically re-source core supply chains for better long-term pricing and more diversity and robustness.
2021 is the time to do this. Suppliers are highly motivated and seek long-term partnerships. A proper strategic sourcing approach is grounded in microeconomics principles and designed to reduce costs for both parties in the long term.
Here are the key steps:
Envision target supply chain. A desired end state vision is a useful planning device, but companies should remain flexible and include suppliers they may not have used in the past and consider them for development. It's important not to restrict the solution before all the facts and data have been gathered and terms have been fully negotiated. Restricting the degree of freedom by presupposing an answer can be very costly and highly counter-productive.
Design the correct pricing model. The method of pricing is the most powerful lever in strategic sourcing. The way one asks for a price determines how suppliers respond, how much of the spend is covered, what we learn about the supplier economics, it enables long-term relationships and most importantly, aligns incentives to reduce cost and innovate long-term pricing contracts. Unlike cost-plus approaches, pricing models are industry-based, competitive, and centered around buyers' requirements.
Perform disaggregated analysis on bidding data. A bidding process or request for proposal is the main source of data and can be quite complex. Strategic sourcing analysis is usually about uncovering many small improvements that add up to meaningful savings, blocking and tackling, tedious iteration, and outworking the suppliers, rather than big, brilliant insights. The availability of big data methods enables sophisticated analysis.
Negotiate for optimal supplier configuration. Negotiation is the iterative process of leveraging the fact that the buyer is now in possession of more information than the suppliers. Based on the highly disaggregated analysis, one can find each supplier's 'sweet spots' and configure a preferred supplier base, where each purchase is routed to the most competitive source. It is critical that all bidders remain convinced that they can gain a lot or lose a lot of business and that there is no preference for anyone outside cold, hard economics and math.
Implement for ongoing competition. Even the most sophisticated and thoughtful pricing arrangements cannot account for unknowable innovation, temporary excess capacities, new entrants, etc. Therefore, it is critical to maintain ongoing competition while balancing the commitment to the preferred supplier base. This can be accomplished by allowing purchase level competition subject to an agreed-upon pricing umbrella with minimum / maximum market shares within the preferred supplier set.
Strategic buyers should not go back to business as usual, but instead create a competitively differentiating supply chain for the long-term. The COVID supply chain experience provides the organizational urgency to act and the likely ongoing weakness in the world economy provides the motivation to suppliers to cooperate.
Most strategic sourcing initiatives take about six to nine months and return three to five times their investment within the first year of implementation, but require a high level of expertise and analytical sophistication. If such resources are not available internally, senior management should build or bring in the talent and capabilities required before this opportunity passes.