Are we ready for Systemic Changes in Supply Chain?

However, the most difficult and frightening of all issystemic change; because that calls into question whether those skills have anyvalue or even relevance. A person devotes a working lifetime gaining experienceand knowledge to develop a specific set of skills, only to be told those skillsare no longer relevant and therefore he or she is no longer relevant. We areused to thinking of systemic changes as something affecting blue-collar workersreplaced by automated machinery, or clerical and lower management employeesreplaced by computers.

We do not think of systemic change effecting seniormanagement because not only because they are more highly educated and thereforesupposedly more difficult to replace, but more importantly they are the oneswho usually decide who is no longer relevant and who should be phased out.However, once in a very long while, the systemic problems become so fundamentalthat senior managers- the arbiters of survival are the ones who must bereplaced. At that point those running the company must make a decision eitherchange the system and fire their colleagues who lack the ability to adapt, orsee their company die.

Supply chain management

For example, in our industry, we have sub-industry calledsupply chain management. Every importer/retailer has a seemingly indispensablesourcing department responsible for supply chain management. Some very largeand highly successful companies' entire reason for being is supply chainmanagement. Nevertheless, this is one area where fundamental systemic changemust take place, because the supply chain concept is deeply and irredeemablyflawed. The purpose of supply chain management is to deliver the product in theshortest period of time and at the lowest cost.

The reality is that in today's industry the supply chain systemsubstantially increases both delivery time and product costs. The problem isneither the structure of the department nor the skill-sets of its members. Infact the better the sourcing department structure, the more experienced itsmembers and the greater their supply-chain management skills, the longer thedelivery time and the higher the product cost. The supply chain system hasbecome dysfunctional and in one sense, all professionals know this.

A major moderate price retailer requires 48 weeks to delivera pair of jeans- from first sketch to in-store delivery. This is more time thanthe Boeing aircraft company requires to deliver a 747 jet. What professionalsdo not realise is that the cost of their $60 retail jeans is higher than a pairof Diesel jeans with a retail price tag of $150. The head of sourcing at themoderate price retailer is not stupid, nor is he incompetent. He is simplytrapped in a dysfunctional system which mandates that he overpay for badquality product, with irrationally long lead times. Most often he can see thatthe dysfunctional supply-chain system is slowly strangling his company butthere is nothing he can do. How did this occur? And what are the alternatives?

Back to basics

To understand just what has happened, we have to go back tobasics. The supply chain system has two parts.

1. The supply-chain process chart the list of steps in the supply process together with the body selected to carry out each step in the process. The supply-chain process chart begins at the point when the customer has a product which he wants supplied and ends when that product arrives at its final destination.

2. The product cost-sheet -a breakdown of costs for each material and step.

In our industry we term this process garment sourcing, whichwe define as breaking the style into a series of materials and processes whichthe customer controls. The supply chain has gone through three evolutionaryphases:

Integrated

The early period was an integrated approach, when the supply-chain process chart and product cost sheet both included the important steps in the process and were sufficiently well aligned to provide the required product at the lowest cost.

Disintegrating

This was followed by the middle period when the process chart expanded to include additional tasks which were not included in the product cost sheet. This meant that the two parts became misaligned, resulting in a bias against better factories.

Dysfunctional

Then, there is the present time when the supply chain process chart and product cost sheet are both flawed. The process chart excludes important steps while at the same time the product cost sheet excludes major costs, with the result that the factory seen to provide lowest cost is often the factory with the highest cost.

Phase I

The Integrated Supply Chain- from the early days of garment sourcing through the 1990s the two parts of the supply worked together. With some few exceptions, all the steps were included and allocated to specified groups. Most importantly, the costing included all of the steps. This is a traditional supply-chain chart, albeit somewhat simplified:

This is the traditional cost sheet:

The traditional supply chain was not perfectly integrated.

For example, the post-production steps following customs clearance- local transportation and distribution costs- were not included in the cost sheet. However, since these were invariably carried out by the customer, it did not affect negotiations with supplier.

A more potentially serious problem was agent/buying office costs. These costs were recovered by a fixed per cent commission, which assumes that all factories require the same follow-up, communication, and inspection.

However, during this period, these commissions were thought to be relatively unimportant, accounting for only 3% of delivered duty paid (DDP) cost.

Far more important were quota costs (21 % of DDP) and duties (l0% of DDP). As a result, supply chain management was often reduced to a search for countries with lower quota and duty costs.

This was the era of macro costs- the cost of doing business in a particular country.

Phase II

The Disintegrating Supply Chain- About ten years ago, garment sourcing began to change as factories began to play an active role in the pre-production process, and started providing services such as pattern making, design sample making and material sourcing.

As the most developed factories began increasing their services, the distinction between pre-production and production began to disappear as both combined to form the manufacturing process.

The most advanced factories were able to accept the customer's designer sketch and carry out all the steps up to and including preproduction duplicate.

In this new service driven process, the customer's designers began to deal directly with the factory, which caused conflict between the brand divisions and the corporate sourcing department. This also reduced the role of the buying office/agent.

Most importantly the supply chain was now extended back to a point before the product existed.

The greatest problem is that these new services were not listed anywhere on the product cost sheet, thereby breaking the relationship between the supply chain process chart and the product cost sheet.

Somebody must make the patterns, the design samples, source the fabric, etc. And, each of those services cost money.

We can see from the cost sheet that the factory costs might have risen by 15 (cut and make (CM) has risen from $2.25 to $2.40) - but nowhere does the cost sheet list the much higher costs when the customer must provide these same services.

Therefore, the cost sheet tells us that the factory that provides these services is more expensive than the less capable factory.

If the goal of the garment sourcing is to provide the garment at the lowest cost, the disintegrated supply chain fails because it does not include all the costs. In fact the supply chain is biased in favour of the least qualified suppliers.

However, worse is to come.

Phase III

The Dysfunctional Supply Chain- With the advent of Full Value Cost Analysis, it became clear there is no relationship between garment cost and the supply chain.

In fact any effort to reduce supply chain costs increases the garment's full value cost, because greatest garment costs occur outside the supply chain.

Just as the disintegrated cost sheet became invalid because it excluded costs occurring before the supply chain, the dysfunctional cost sheet becomes invalid because it excludes costs occurring after the supply chain.

The greatest cost to the garment is the retail markdown which is invariably far higher than the DDP. In this regard, increases-even substantial increases- in FOB prices are cost effective, provided they result in reduced markdowns.

Markdowns are a direct result of long lead times, which in turn are related to the manufacturing process which begins when the designer first considers sample fabric and ends when the finished stock garment is shipped to the customer.

The faster the process, the lower the markdown rate and therefore the lower the garment cost.

The difficulty is that speed-to-market is not a step in the supply chain process; rather it is one of the two goals of that process.

To reach this goal, factories must take on much greater responsibilities in the manufacturing process and invest very large sums of money.

However, since the product cost sheet does not include markdowns, the customer cannot see that the increased FOB price is more than offset by the reduced markdown.

The supply chain with its associated dysfunctional cost sheet moves the customer in the opposite direction-towards increasingly higher costs. Each time the sourcing specialist "reduces" supply chain costs, he is in fact raising full-service garment costs.

The solution is to scrap the entire supply chain process and go back to basics.

First we redefine cost as full-value cost: Cost = Listed Retail Price (the number on the hang-tag) minus Profit.

Second we restate the basis of supplier selection.

The customer works with the factory which provides the product at the lowest cost- which is the same as: the customer works with the factory where they make the most money.

To achieve this end, the customer combines the manufacturing process (pre-production and production) with post-production to form the product cycle, which begins at the point when the designer selects sample fabric and ends when every last piece of that style has been sold in retail.

All reorders are included in the product cycle. The product cost sheet becomes the product full-value cost sheet, and every step in the product cycle is listed separately.

When the customer carries out that step, the customer's cost is listed. When the factory carries out that step, the listed cost becomes 0, because it becomes part of the CMT.

This may appear obvious, but when you think about it, it changes the entire basis of garment sourcing. The customer no longer cares about CMT, FOB, or DDP. The customer cares only about NET.

The factory becomes responsible for in-store delivery dates, quality, etc. The customer no longer cares why the style did not sell well. The problem may be poor design, poor quality, late delivery, high retail price, etc. All of these are irrelevant.

Periodically, the customer evaluates its suppliers- which supplier provided the customer with the highest per cent profit and which did not.

The good suppliers are given more business. The not-good suppliers are given less business or no business at all.

The full value cost system is simple, transparent and most important realigns the relationship between customer and supplier.

Instead of competing, both sides work to achieve a common goal profit for the customer. The customer does well and in situations where the factory has made the investment in capital and systems, its profit has the potential to rise tremendously.

Originally published in The Stitch Times: March 2009