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The Supply Chain: The CFO's Crystal Ball

There may be a secret weapon in the CFO's battle to stay ahead of globalization and a fast-evolving marketplace filled with complexity and risk. Surprisingly, this weapon has been there all along, an integral part of a company's everyday operations that holds the key to improving working capital and cash flow and better understanding risk. It can even predict revenue and profitability with a far greater degree of certainty than most people ever imagined.

This secret weapon resides in an organization's supply chain. The weapon is in fact the data that can be gleaned from examining the supply chain -- data that serves as a primary source of information that can help forecast a company's revenue outlook. Understanding what factors affect products as they move through a supply chain, and how those factors ultimately impact pricing and customer satisfaction, provides a solid, near real-time model -- a sort of "crystal ball" -- the CFO can use to gain a more accurate idea of market factors affecting the company. Even a single critical component or raw material can significantly impact an organization's entire approach to sourcing and its profitability.

Forecasting Commodity Pricing
The past few years have seen a great increase in market volatility, especially around oil and commodities. This volatility presents a challenge to CFOs in balancing inventory investment and procurement cost. They can achieve this balance by developing an analytical model that scrutinizes macroeconomic factors affecting metals and provides a price driver analysis of those factors that cause price variations. The model can also provide fundamental analysis of the demand supply gap in commodities such as aluminum, and a technical analysis of historical and current movements of primary price and volume.

For example, aluminum is a key raw material for a global wind turbine manufacturer based in India. The company needed up-to-date market analysis, assessment and projection of aluminum prices in order to make timely and advantageous sourcing decisions. By developing an analytical model, the company was able to more accurately forecast commodity prices and make better decisions with regard to sourcing, ultimately lowering its purchase price by 8 percent, from $2,269 per ton to $2,100 per ton.

This ability to factor in variations and adjust the model in near real-time significantly improved the company's ability to adjust to changing market conditions and seize opportunities. The better the CFO is able to sift through complex data sets and form a clear picture, the better the supply chain teams can forecast and set targets that drive better results.

Improving Inventory Turns

With a double-dip recession looming and high uncertainty regarding the banking system, especially in the euro zone, prudent fiscal management of working capital has become the acute need of the hour. Improving inventory turns is, of course, a major concern within the supply chain and an obvious focus for the CFO concerned with optimizing working capital. To accomplish this, CFOs need in-depth understanding of the composition of their inventory investments, in particular anything which is not selling. They need to transform the inventory base into its most productive and profitable form through multi-criteria inventory classification and optimization of safety stock and service level requirements.

One major aviation company achieved a 48 percent drop in raw materials inventory (from $60 million to $31 million) in seven months by taking a close look at how the entire process was managed. It had no comprehensive, centralized view of part level inventories, and policy levels for such things as order quantities were determined by manual judgment.

After a thorough analysis of order policies and transit times, the company was able to optimize carrying and transaction costs. It instituted weekly reviews of assigned inventory targets with supply chain planners and segmented its inventory into four categories (prior, current, ahead and surplus) with clear category definitions. A demand pull system for select parts as well as a web-based inventory analysis tool helped establish tighter controls and more timely and accurate understanding of inventory levels. This resulted in improvement of inventory turns from 12 to 17.

Understanding Risk
Volatility impacts the end-to-end supply chain, which in today's global supply base can be quite deep and extended. By nature, the supply chain is prone to controllership risks because of its multiple physical and transactional hand-offs. The CFO who clearly understands the entire procurement and fulfillment process and the workings of the physical supply chain is much better positioned to understand the cascading effect of risk faced by an organization. Clear insight into the drivers of supply and demand, costs and the end-to-end process can enhance the CFO's role in guiding policies that mitigate risk and drive better results overall. This can be achieved through a thorough financial evaluation and peer benchmarking of the company's supplier base.

For one major pharmaceutical company that spends more than $9B on procurement annually, such a supplier risk assessment provided valuable insights for contract and price negotiation discussions with vendors and lowered their risk of being caught in supplier bankruptcy issues. By setting up a system to periodically analyze certain key factors such as the supplier's financial performance, industry ratings, cost-out initiatives, best practices, business strategies and strategic initiatives, the company was able to establish bankruptcy indicators and benchmark vendors against their competitors. The system gave them the ability to segment suppliers into high, medium and low risk categories and lent significant advantage in negotiations.

The CFO and the Supply Chain
Progressive organizations are now leveraging technology to integrate the CFO into the supply chain organization, using ERP systems and reporting that allows the CFO to extract data that aids in timely decision-making. Such an entwined operation is beneficial to both functions. The CFO is better able to forecast revenue and profitability, decreasing risk and increasing cash flow. The supply chain team is better able to create and deliver on plans that closely reflect the organization's operational capabilities and goals. This close integration has resulted in some organizations giving the CFO direct responsibility for the supply chain function.

Companies seeking a way to get control of working capital and see further into the future would do well to take a close look at their supply chain. It just might provide the crystal ball they need to stay ahead of both the competition and the market.

Rajeev Menon

Mercredi 21 Mars 2012

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