The lean, clockwork-like supply chains of the past revealed their weaknesses during the past year. Though they had worked well for a long time, it became clear they lacked the ability to respond quickly to changes, opportunities, and the many global threats we now face, including an ongoing pandemic, war in Ukraine, China shutdowns, and overall economic uncertainty. This perfect storm of disruptors has led many to rethink lean supply chains in favor of more resilient and agile networks. But how do companies get there?
A new white paper from the University of Tennessee-Knoxville, Understanding and Valuing the Impact of Agility in Your Supply Chain, outlines some possible paths to follow. Dan Pellathy, an assistant professor at Grand Valley State University’s Seidman College of Business, was part of the team that conducted the research and wrote up the findings.
Pellathy teaches supply chain and operations management at the graduate and undergraduate level at Grand Valley State in Michigan, and actively consults with companies on supply chain agility, organizational alignment, supply chain risk, and end-to-end operational excellence. His research has been published in academic journals and The Wall Street Journal. Pellathy, who holds a Ph.D. in supply chain management from the University of Tennessee-Knoxville, recently spoke with Group Editorial Director David Maloney on an episode of DC Velocity’s “Logistics Matters” podcast. What follows are excerpts from their conversation.
Q: Could you tell us about the origins of the research?
A: The research originated out of the University of Tennessee’s Global Supply Chain Institute. It is a collaborative study with other academics as well as a number of industry sponsors. We have been working on this now for two years and have had well over 20 conversations with senior supply chain executives and other senior leaders from companies across a number of different areas, so it has been a really rich conversation.
Q: How do you define “supply chain agility”?
A: Supply chain agility reflects how quickly a company can adjust operations to avoid disruptions while at the same time capitalizing on opportunities in a changing environment.
Agility means more than just mitigating the downside effects of a problem after it has occurred. Instead, it means proactively investing in internal capabilities and external relationships so as to provide alternatives to managers who are facing a highly uncertain environment. Agility should be less about accurately predicting a particular risk event and more about building response capabilities.
Q: Every company wants a supply chain that’s agile, but what is the reality in the market? Are their supply chains as resilient as they should be?
A: That is a great question. We went into this research thinking we were going to find best practices in supply chain agility, but very quickly we realized that that was not going to be the case. Instead, we found that companies were very uneven in their thinking and their activities as it relates to agility.
Some companies were just starting their journey and facing a lot of the barriers that we identify in the research. Other companies were doing some really innovative things, but even in those more innovative companies, the thinking across functional areas and at different levels of the organization was quite mixed. I would say that supply chain agility is definitely a topic of conversation in organizations, and now is the time for supply chain managers to make the case for investing in agility.
Q: What questions should companies be asking themselves about their agility?
A: Leadership teams need to ask themselves some tough questions as they start to dig into supply chain agility. That includes questions like: Is our organization focused on incremental cost reductions but at the same time missing opportunities to engage the market? Does our organization put up barriers to investing in supply chain agility? That might include using valuation methods that are based on net-present value and other kinds of valuation techniques that are biased against agility projects.
Also, is our organization able to identify target areas for investments? I think these questions help companies expose some of the structural barriers that may be hindering improvements in agility.
Then at a more systematic level, leadership teams can use supply chain audits by external experts or self-assessment tools like the one in our white paper to judge where they are in their agility journey and think about different areas where they can start to make investments.
Q: For companies long accustomed to running lean supply chains, investments in agility can be a tough sell. How do you pitch the idea to upper management?
A: I think you have hit on the biggest challenge managers face when talking about agility. Too often, companies view investments in supply chain agility simply as expenses, and managers are penalized for increasing costs if those investments don’t yield an immediate return. But what that approach doesn’t capture is that there are losses that companies face from disruptions, which are significant.
More importantly, traditional methods of valuation don’t capture missed opportunities that come about with market changes that the companies are not prepared to capitalize on because they haven’t made the agility investments in advance.
The key problem here is that supply chain leaders have been approaching agility with the wrong set of tools. Traditional budgeting techniques—like payback period, the internal rate of return, or net-present value—typically translate uncertainty in the environment into more aggressive discount rates while ignoring managers’ ability to positively influence outcomes after investment. So that results in viable projects getting shelved due to overly pessimistic valuations.
We talk a lot in our research about how managers need to expand the toolkit they use to value agility investments.
Q: Since we are talking about return on investment, what do companies typically consider an acceptable ROI for their agility investments?
A: That is a great question, but there, too, there is a lot of diversity across companies that we’ve talked to in terms of what their target ROI is. We would even suggest that ROI may not be the appropriate investment metric for agility projects. I would say more broadly that companies need to flip the script on how they think about investing in agility.
The central questions need to be how much agility is appropriate given the dynamics of our market, and then what investments do we need to make in order to create that level of agility. These are really strategic questions related to the overarching goals of the company. To answer them, companies need to continuously work at scanning their environment, making seed investments, and building flexibility.
However, in most companies, supply chain managers are under intense pressure to justify any agility investment with an immediate return. That really puts pressure on managers. As I mentioned, these pressures are often driven by an internal rate of return or traditional budget techniques that simply assume an average expected cash flow over the life of a project.
But in a dynamic environment, that assumption doesn’t make sense. It also doesn’t take into account managers’ abilities to make follow-on decisions that could improve the return outlook for the investment after an initial investment has been made. It is a complex problem—one that takes a lot of work and a lot of collaboration across functional areas.
Q: What are some of the common barriers to agility?
A: After two years of talking with executives, we’ve concluded that there really are three main areas where companies struggle when it comes to supply chain agility. The first is how to think about supply chain agility. That really means basically defining “agility” for your company and establishing what we call an “agility mindset” in your team.
The second is how to make the business case for internal stakeholders, and that includes some of the challenges I mentioned earlier with conducting the valuation.
The third is how to develop agile relationships with external stakeholders. Companies really need to be thinking about their end-to-end supply chain as they invest in agility. Focusing exclusively on what’s going on within your four walls is not going to be enough.
Q: Your research identifies three categories of agility investments: digital, physical, and process agility. Could you briefly describe what each means?
A: Absolutely. For any particular company, supply chain agility is going to require some combination of investments across those areas, with the right mix depending on the company strategy and how the operating environment looks.
Under digital agility, the real opportunity areas for investment include data integrity, visibility tools, cognitive analytics, human resource skills, and fast information flows that are going to facilitate quick decision cycles.
With physical agility, we are talking more about flexible physical capacity, automation, strategic working capital, inventory investments, product simplification, and SKU rationalization.
Finally, process agility covers cross-functional alignment and really focusing on cycle-time compression and then supplier and leadtime compression. Overarching all that is the imperative of building an agility mindset, a culture of agility, a culture of risk-taking, and understanding these investments in agility in terms of a risk/reward framework.
Q: How should companies start their journey?
A: I am a big believer in getting straight on what a company is trying to achieve before going out and starting new projects. Investments, again, need to be seen as true investments, not just expenses. Those investments have payoff probabilities. They impose opportunity costs. They can fluctuate in value relative to environmental conditions, which means those are the kinds of things that need to drive the conversation.
The investments in supply chain agility should focus on holistic solutions for matching supply and demand, and should therefore be evaluated against company performance. When you have that understanding as a foundation for discussions about agility, then companies can really move forward on deciding which of the investment areas to target for maximum gain.
Editor’s note: The white paper mentioned in this article, Understanding and Valuing the Impact of Agility in Your Supply Chain, is available on the Global Supply Chain Institute’s website. You can download a free copy here.