The Value Imperative

It's not enough to merely cut costs any more. Logistics executives must focus on strategies that help create value.

By Peter Bradley -- Logistics Management, 12/1/1998

To understand the logistics challenges for the coming century, look to frozen fish fingers.

First, though, a brief glance back in time. In the 20 years since transportation deregulation allowed logistics managers and their service providers the freedom to bargain and innovate, much has been accomplished in the industry. The initial stage was simple. Shippers picked carriers based on the lowest rate. Carriers began to pay closer attention to their own costs. Then, as business began to focus on leaner inventories, adopting just-in-time and similar strategies, service reliability took center stage. New value-added services were developed. Expansion of global sourcing and sales created more opportunities for smart logistics providers.

Much of the focus during the past two decades has been on logistics efficiency. From 1980 and 1993, logistics costs as a percentage of gross domestic product dropped from 16.5 percent to 10.2 percent, according to numbers developed by Robert Delaney, vice president of Cass Information Systems. But Delaney's reports for the years since 1993 indicate that logistics productivity gains have stalled, staying above that 10.2 percent level in each of the following four years.

Have logistics managers and logistics providers squeezed out the last drop of productivity? Undoubtedly not. But merely forcing down transportation costs, which make up more than half of total logistics costs but only a small portion of corporate revenues, will not make the hard heart of a chief financial officer beat any faster.

What will raise his or her pulse is when logistics becomes a tool to help accomplish corporate strategic objectives: reducing working capital, taking assets off the balance sheet, accelerating cash-to-cash cycles, increasing inventory turns, and so on.

That brings us back to fish fingers. During the Logistics '98 conference in the United Kingdom this fall, a participant in a supply chain management seminar said that total time from fishing dock through manufacturing, distribution, and final sale of frozen fish fingers for his European grocery-products company was 150 days. Manufacturing took a mere 43 minutes.

That suggests an enormous target for supply chain managers. During all that time, company capital is--almost literally in this case--frozen. What is true for fish fingers is true of most products. Examine any extended supply chain, and it is likely to be a long one. James Morehouse, a vice president of consulting firm A.T. Kearney in Chicago, reports that the total cycle time for corn flakes, for example, is close to a year and that the cycle times in the pharmaceutical industry average 465 days.

In fact, Morehouse argues that if the supply chain of what he calls an "extended enterprise," encompassing everything from initial supplier to final customer fulfillment, could be cut to 30 days, that would provide not only more inventory turns, but fresher product, an ability to customize better, and improved customer responsiveness. "All that adds value," he says. And it provides a clear competitive advantage.

Morehouse believes that logistics and supply chain management also can play key roles in increasing a company's market share--"... not by cutting price, but by doing such a superb job that you attract profitable market share," he says. In other words, a company needs to have not only the right product, but also the right processes for the market.

Logistics and Profitability

Achieving gains of that magnitude requires much more than efficient operations. It requires changing the process. It demands both executive-management-level commitment and superb execution at the operational level.

In the book Supercharging Supply Chains, written by a group of Ernst & Young consultants led by senior partner Gene Tyndall, the authors write, "[W]e believe that more and more smart money will flow ultimately to the stocks of companies that are exceptionally well operated. ... This is why operational excellence and supply chain management will, over time, become more and more respected as serious drivers of shareholder value."

To contribute to the goal of operational excellence, logistics practitioners must aim far higher than mere efficiency. Tyndall and his team write, "[T]he ability of distribution and transportation to enhance enterprise value should still be acknowledged--not necessarily at the truckload, pallet, container, or unit-loading device level, but at the strategic value level."

Another reason why supply chain management is being recognized as a value driver is that it has such a wide-ranging effect on business success--or failure. William C. Copacino, managing partner of Andersen Consulting's strategic services practice and a Logistics columnist, says, "In most industries, the supply chain has such an influence on critical variables--on customer service, on asset productivity, and on the cost base." That is why it is crucial that companies carefully align their supply chain structure with their business strategy and processes, he argues.

David Bovet, a vice president in Mercer Management Consulting's supply chain practice, agrees, asserting that supply chain considerations must come into play at each stage of the business process. That means building in those considerations from the very beginning--strategic anticipation--and following through at every stage, including business design and the realization of value growth. "Competitive advantage does not come so much from the product or from physical infrastructure," Bovet says. "The whole question is one of business design suited to capturing your share of value."

Stephen Timme, president of consultants FinListics Solutions Inc. of Atlanta, Ga., argues that logistics and supply chain management also can have a profound effect on "corporate economic profit"--that is, not just the annual bottom line, but on the ability to create equity.

Timme identifies several ways logistics strategies can help create value. For example, well-designed logistics systems can accelerate inventory turnover and accounts receivable, thus improving working-capital performance, he says. Quicker flow-through also can squeeze extra capacity out of a production system. Better-managed inventory, moreover, should allow businesses to focus on selling new product and not outdated stock--particularly important in high-tech businesses in which product life cycles are notoriously short, he explains.

Bovet recommends that supply chain managers who want to use logistics to enhance corporate value adopt a financial analyst's perspective. "Analysts are looking for sustainable profit growth. Delivering that reliably is what creates shareholder value"--not just market share or a temporary bubble in profits, he says.

The Extended Enterprise

As a key player in the supply chain, logistics takes on an even greater significance for corporate value creation when one considers that the supply chain extends well beyond any single enterprise.

Morehouse suggests that companies that participate in what he calls "the extended enterprise" must engage in cross-enterprise cooperation that may even go so far as to share profits collectively. Such strategic partnerships begin, he says, with a focus on the end consumer, and then build a supply chain that reaches all the way back to the way in which raw materials are acquired to fill consumer needs or wants. That chain--much of which is controlled or influenced by logistics--has to provide benefits to all participants, he says. The ultimate extended enterprise, in his opinion, would share those benefits based on how much value was created throughout the chain.

In short, whether they are involved in manufacturing high-tech products or frozen fish fingers, developing strategies that create corporate value requires logistics and supply chain professionals to look beyond the tactical, day-to-day requirements of their businesses. Adding to the challenge of implementing widespread change is the knowledge that 21st-century businesses that expect to succeed worldwide will have to manage multiple supply chains. Creating value in a complex world of global supply and demand may well be the defining challenge for logistics in the first decades of the 21st century.

Where the Supply Chain Creates Value

Supply chain management's ability to affect profitability and shareholder value should come as no surprise. As Richard Thompson, a partner in Ernst & Young's supply chain practice, points out, supply chain management affects virtually every aspect of a company's business. "Everything is involved," he says. "Supply chain management [influences] plan-buy-make-move-and-sell."

Thompson and his colleagues have identified five areas in which supply chain management can have a direct effect on corporate value. They include:

* Profitable growth. Supply chain management contributes to profitable growth by allowing assembly of "perfect orders," supporting after-sales service, and getting involved in new product development.

* Working-capital reductions. Increasing inventory turns, managing receivables and payables, minimizing days of supply in inventory, and accelerating the cash-to-cash cycle all are affected by supply chain execution. Thompson cites the case of a consumer-products company that took 20 minutes to make a product and five and a half months to collect payment for it. "If you can cut the cash cycle down, there are millions of dollars there," he says.

* Fixed-capital efficiency. This refers to network optimization--for instance, assuring that the company has the right number of warehouses in the right places, or outsourcing functions where it makes more economic sense.

* Global tax minimization. "There's a ton of money here," Thompson says, if companies look at assets and sales locations, transfer pricing, customs duties, and taxes.

* Cost minimization. This largely focuses on day-to-day operations, but it also may involve making strategic choices about such issues as outsourcing and process design.