Global supply chains are efficient but fragile. Geopolitical tensions, natural disasters, and pandemics have all caused major disruptions to global supply chains over the past five years.
China remains integral to global supply chains. Given the size of its domestic market and the fact there is no simple substitute for the country's export sector, it is difficult for foreign companies to fully decouple from it. However, global companies are adopting a range of strategies to reduce their exposure to China. These include "China + 1" or reshoring strategic products and parts, especially in sensitive sectors.
Foreign companies need to understand their current risk exposure. They also need to prepare a Plan B, particularly in the event geopolitical tensions worsen.
We have identified a series of “no-regret moves” that companies and financial institutions can take to de-risk their global supply chains. In our experience, there is no single template. Options not only differ by sector, but are influenced by a company’s geographical footprint, market, and organizational structure.
1. Understand your geopolitical risk exposure
Many companies are managing conventional risk effectively but have not yet experienced significant geopolitical risks. Firms should conduct a review of products, components, or materials, as well as key shipment hubs, to understand how a geopolitical event might impact revenues, such as an extended supply disruption or a significant cost increase.
Firms must also assign responsibility to a dedicated risk owner or team who will monitor and drive risk management, rather than simply conducting one-time risk reviews. As horizontal risks can cut across multiple business lines, such as merchandising and logistics, a holistic view toward risk exposure is critical to achieve a truly robust and accurate assessment of risk.
2. Decide on the products that need alternative suppliers
Companies need to next agree on the level of exposure they are prepared to accept at a product and component level. China is likely the lowest cost option already, so developing alternative suppliers, such as ones in India or Indonesia, will be more expensive. It therefore makes sense to utilize alternative suppliers for select products rather than the entire portfolio.
To make this decision, firms need data-driven insight into a greater number of variables than is typically available. Leading companies are only just starting to track the physical location of suppliers via digital control towers, for instance. Translating these insights into a financial impact at the product level will improve decision-making on which products need alternative suppliers.
3. Make market choices for relocation
Companies then need to assess the alternative markets and suppliers available to them. The optimal mix depends on a range of inputs, including but not limited to costs, supplier availability, and incentives. There is no single template for success, as a company’s capabilities, footprint, and customers will shape and impact its decisions.
- Operating costs: The playbook for assessing operating costs, such as labor, logistics, and raw materials, is well understood. However, structurally higher inflation globally and the wide differences between countries will complicate calculations
- Business environment: Companies need to consider the depth of the local supply chain in new markets. ESG standards are also rightly higher today, so firms need to exhaustively qualify new suppliers to avoid complications later
- Public subsidies and incentives: Governments around the world are offering compelling packages to attract manufacturing investment. However, these packages can be complex, so companies should be cautious of being locked into unfavorable deals
- Reshoring and automation: Reshoring is still in its infancy, but it is accelerating thanks to government support. There is also a greater mix of automation in the production process to help offset labor costs and productivity
- Supplier relationships: Smart organizations can also work with their suppliers to reduce risk, by encouraging them and their suppliers to diversify their own supply base, such as by sharing risk and providing a safe market
4. Ensure regular checks on new suppliers
Companies that switch to markets outside of China must ensure that the new suppliers they employ are meeting their contractual obligations. In some cases, companies have discovered that the new suppliers are simply rebranding products imported from China or relying more heavily on Chinese component parts than originally agreed, thereby negating the company’s original de-risking initiative.
5. Optimize inventory and cash flows
Many companies have also responded to uncertainties by building up their inventory. This inventory is expensive to buy, maintain and monitor. It directly impacts a firm’s financial health and is not a sustainable option in the long term. Most companies are now looking for ways to improve their resilience while also reducing the stock they hold.
Developing alternative suppliers or markets less prone to disruption is a first step. Companies may also choose to change their SKU (stock keeping unit) inventory mix to avoid over or under-stocking specific products. Better communication with suppliers or negotiating contracts with suppliers to ensure they supply on demand, rather than contingency, is another option.
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