The CFO’s purview continues to expand amid the shifting tides of globalization. Supply chain risk management represents a newly vital, and growing, segment of that purview.
To illustrate: When the Kremlin threatened to nationalize the assets of Western companies that pull out of their country in protest over its invasion of Ukraine, CFOs within those organizations sprang into action, quantifying potential costs and sharing their analyses with their COOs, CEOs and board members. Russia’s agreement to move from the U.S. dollar to the Chinese yuan when trading with China, a spike in COVID cases in China’s manufacturing regions, and other disruptions with global reverberations sparked similar analyses and drove collaborations with supply chain leaders and updates in the C-suite and to boards of directors by CFOs.
CFOs and finance leaders have increased their focus on the supply chain in recent years as demand has grown for the finance group’s forward-looking insights, expanded real-time forecasts, risk management expertise, risk quantifications and strategic acumen. Leading CFOs recognize that supply chains can no longer be treated as a cost center; instead, they should be designed to meet customer demand and drive revenue.
As long-standing fragilities in global supply chains continue to be exposed as untenable in the face of persistent congestion and frequent large-scale disruptions, CFOs are deepening their collaborations with supply chain leaders. These collaborations involve more than reactive responses to supply disruptions. They also entail fundamentally rethinking traditional approaches to optimizing supply chain costs and risk management and redesigning supply networks to foster greater resilience.
As CFOs perform this work, there are important factors to recognize and actions to consider.
Fragile supply chains represent a longstanding structural issue. For about three decades, organizations managed their supply chains with a cost-dominant mindset, in which “costs” were defined narrowly (cost of goods sold). This approach helped drive valuable efficiencies during a period of relatively mild disruptions: Organizations narrowed sourcing to single countries, enlisted single-source suppliers and minimized inventories, which were viewed as a cost hung on the balance sheet. Just-in-time manufacturing and delivery techniques prevailed as total quality management, process re-engineering and six sigma methodologies were applied to drive costs out of processes.
This constant streamlining led to dependencies and concentrations that proved problematic once major disruptions—trade wars, extreme weather events, earthquakes, a global pandemic, war and other globalization game-changers—started occurring with greater frequency. Executive teams and boards now realize that a more realistic assessment of supply chain costs must account for unexpected surprises and disaster recovery responses, business continuity management efforts, lost revenue, and drops in customer satisfaction metrics, as well as loss of customers and declines in shareholder value. “Low likelihood” assessments of catastrophic events have become almost meaningless. The discussion has shifted from “if” to “what if.”
A lack of transparency is another pervasive challenge. Suppliers need to share more data with their sourcing partners to alleviate this problem. Conversely, organizations need to cultivate higher levels of trust with suppliers so they are not reluctant to share information they may believe will be used for negotiating leverage when contracts come up for renewal.
Understandably, more board members and CEOs are alarmed that “they don’t know what they don’t know” about their supply chains. This growing urgency stems, in part, from increasing calls from governments and regulators to identify, mitigate and/or disclose risks related to national security, cybersecurity and ESG matters lurking in supply chains, including among all suppliers (third tier, fourth tier, etc.).
CEOs and their boards are also aware of the disconcerting correlation between supply chain breakdowns and the bottom line. According to a McKinsey study, expected losses from supply chain disruptions equal more than 40 percent of one year’s EBITDA (Source: Risk, resilience, and rebalancing in global value chains, McKinsey Global Institute, August 2020).
On the other hand, organizations that have redesigned supply networks and supply chain risk management approaches to emphasize—in addition to cost—reliability and responsiveness are more apt to protect market share and can even achieve double-digit revenue growth and operating income advantages over less resilient competitors. That’s why more CFOs are helping COOs and leadership teams reconfigure supply chain risk management through the following four actions:
- Expand supply chain risk management: Resilient organizations measure supply chain risks based on costs, reliability and responsiveness. Their CFOs ferret out supply chain risks that reside within and beyond supply chains by involving logistics and transportation, legal, compliance, sourcing, customer management, and credit management, among other functions in the organization, in risk assessments. They also ensure supply chain risks are assessed across different time frames. For example, electric vehicles only comprise a sliver of total vehicle sales today for most automotive brands. But they also represent 95% of an automaker’s anticipated future profits, making supplies of critical raw materials such as cobalt, lithium and manganese a crucial longer-term risk consideration.
- Develop new financial models: CFOs in organizations with resilient supply chains are replacing cost-dominant measurement schemes with revenue assurance models. They also are clarifying the value metrics applied to supply chain risks so that they reflect organizational priorities—revenue, profit, customer loyalty, mission, etc.—and are tailored to each part of the organization contributing to supply chain risk management.
- Redesign supply networks: CFOs play a central role in helping supply chain leaders quantify and assess the pros and cons of rebuilding supply networks to include more near-shoring and reshoring as well as building factories and distribution centers in closer proximity to where products are sold, thus engendering higher confidence in supply chain design.
- Strengthen strategic planning: While formal processes exist to drive the enterprise risk analyses the CEO and board consider as part of their overall responsibilities to stakeholders, few of those analyses drill down into core supply chain operations. That’s changing as leaders and their boards express a greater awareness of the supply chain’s impact on shareholder value. More boards are challenging management to pull supply chain risks into the enterprise risk model. This challenge presents a strategic opportunity to CFOs and finance groups, which in turn requires more collaboration and alignment among CFOs and COOs.
CFOs and supply chain leaders have been working together much more frequently in the past 36 months than they did so in the previous decade. With the forces driving globalization undergoing fundamental change as companies de-risk their supply chains, the game has changed. Now it’s time to focus beyond short-term workarounds by designing fundamental overhauls of supply chain risk management and sourcing networks.
This article originally appeared on Forbes CFO Network.