The Intricacies of Global Retail Sourcing

A few major (and often conflicting) objectives have been driving retailers to turn to information technology (IT) to streamline their sourcing and logistics processes. One objective is the pursuit of lower prices, which often involves excessively extended supply chains to remote, lower cost regions. The other is the quest to shorten cycle times, which is essential—but so is having quality control to ensure that companies get their merchandise on time and according to the exact specifications. With suppliers on the other side of the globe, it can be hard to check to see how things are going, and one typically finds out about problems after the fact, when the goods arrive. Therefore, although some vendor relationships are smooth and run on "automatic pilot" (for example, companies might simply casually monitor purveyors of office supplies for best prices and basic service requirements), a much deeper and more involved relationship is essential for strategic vendors such as retail goods suppliers, who must deliver to specifications, on time, and at the right cost. These vendors might be evaluated on many key performance indicators (KPIs) in a holistic scorecard-based fashion, such as on-time delivery, quality, innovation (organizational health and technology), responsiveness and customer service, security, social compliance, and so on.

Part Two of the series The Gain and Pain of Global Retail Sourcing.

Certainly, even without IT deployment, retailers must become more agile, efficient, and timely with product development, planning, procurement, manufacturing, and execution (logistics and transportation) if they are to maximize benefits from their private-label strategy and opportunistic buying. While technology plays a major role, organizations must better coordinate activities and bridge handoffs among product design, sourcing, and logistics groups to shorten lead times and ensure that "hot item" goods are on the shelf exactly when the customer wants them. Still, global sourcing is substantially more complex than domestic sourcing, and should not be attempted without adequate technological support and business process controls. Executive global sourcing mandates that are not supported with such tools to execute typically either fail or do not meet expectations. For further discussion, see The Gain and Pain of Global Retail Sourcing.

The ideal situation would be for a retailer to establish a collaborative trade platform that offers the tools, content, community, and business infrastructure to support global commerce communities and a transparent trade process. Yet, many realities typically entail the politicization of global sourcing by polarized functional and infrastructure camps inside the organization, which hampers the ability of the organization to produce necessary strategic changes. There is also little opportunity to train buyers, partners, and suppliers across an extended supply chain within such infrastructures. Ironically, control over the extended supply chain should be driven by the common need to impact delivery before the production begins, since on the tactical level, a lack of visibility results in costs becoming multiple times higher to fix problems onshore (when the goods have already arriived) than offshore.

Come with Some Inevitable Pains

Yet, the savings from global sourcing come with possible steep expenses elsewhere, since a company must find qualified factories, solicit bids, place purchase orders, inspect the factories, monitor quality, handle logistics, customs, and duties, and so on, all on its own, which is not a small feat. Any merchant nowadays has to manage numerous details on how private label brands are sourced, produced, and delivered, which can be quite daunting to deal with, especially when trading partners are scattered all over the world. The momentum of private labels in the retail industry (from grocery stores to major apparel stores) is driving even more opportunistic contracting with small and unknown suppliers in remote countries, which requires buyers to really take a chance when ordering from unfamiliar suppliers in the hopes of keeping total landed costs to a minimum.

This requires a timing mindset change, given that most issues with domestic suppliers can be resolved right away (or at least within a week, in the worst case scenario). Internationally, though, even for bordering countries, it might take a more particular purchase order even several weeks to be confirmed, let alone processed and delivered over oceans and through customs and duties. With global sourcing, the challenge has become how to communicate from a swanky domestic office in a Group of Eight (G8) country with a factory as far away as Africa or the Far East. The challenge is also how to assimilate and communicate multiple data points effectively into a unified operation on a single screen. After all, in the manufacturing process, communication necessarily takes place among retailers, manufacturers, brand managers, contractors, agents, brokers, and logistics providers. Many still share product information over the phone, or via email and faxes, or through physical communication, and the difficulty is thus to consolidate all these diverse data points.

In a more sophisticated scenario, though, all the members of the supply chain communicate through a Web-based system, which means that when a vendor makes a change in the status of a product, for example, everyone in the supply chain will see the change too. The key in global sourcing today is to minimize the overall cycle and disruptions, and the most important way to do that is to have live, accurate, immediate information. New Internet-native sourcing software applications should give users visibility throughout the world of current product or order status at any point in time, and eliminate almost all duplication of information, thereby allowing all trading parties to collaborate on more rewarding issues, rather than constantly fighting fires.

For instance, prior to implementing a contemporary Web-based automated solution, contacting multiple vendors at once for pricing would be a tedious and pedestrian manual process for the sourcing group. On the other hand, by using a Web-enabled infrastructure, user enterprises should be able to better integrate globally with their supply base, and broaden the scope of vendors they can locate. Such technology has lately streamlined the ability of many retail firms to get estimated pricing from several vendors simultaneously. Also, when the design team comes up with a new fashion concept and wants to get a sample of that concept, such a system allows the information that they have designed to flow into the sourcing organization, which then allows the sourcing team to start getting estimated costs, as well as time-and-action (meaning normalized or synchronized calendars within the entire production cycle) information. Then the team can better determine where it wants to place the production, depending on volume—possibly also integrating with the merchant organization to give them a feel for how much product the firm will be sourcing of a given style, so that they can look at capacity constraints. The next step could be to use the software tools to break style data down by more variables, in preparation for placing the purchase or production order. For instance, this might provide suppliers with answers to several questions: How much does the retailer want to order by color and by size? What is the final pricing? What is the final time-and-action calendar?

Increasingly, the standard order confirmation and customary advance ship notice (ASN) procurement practices cannot provide sufficient guarantee that everything is going smoothly with any placed order. This is particularly the case for the internationally sourced, custom-made purchases that are common in the consumer goods manufacturing and distribution industries. Here, the difficulty of communicating across time zones, along with long lead times, make for lengthy recuperation periods (if it is even possible to recover) when problems occur. That is why buyers should benefit from visibility and event management systems that would inform (or alert) them that, say, their orders were (not) started on time, or were (not) placed on the boat on schedule; or whether the design team has meanwhile (yet again) changed specs on color or fabric for a paarticular planned merchandise; or that the order was (not) properly documented to clear customs without a glitch.

Potential Global Sourcing Gains

In a nutshell, companies source globally to differentiate their products, gain competitive advantage with reduced price points, and realize margin improvements. On average, many contemporary analyst studies, surveys, benchmarking reports, and so on, have concluded that a well-devised and well-executed sourcing strategy can produce margin improvements up to 2 percent (through a more efficient trading partner collaboration); reduced cycle times by up to 30 percent; up to 5 percent in reduction to the cost of goods sold (COGS); and up to a 15 percent increase in gross margin (through increased international sourcing on low labor and supply costs from East and Southeast Asia, Eastern Europe, and South America). Sure, expectations are usually much higher than these figures, since initial savings may provide false gains. And with many costs and risks being hidden (such as logistics complexity and increased lead time ramifications), one should always take a long-term view and analysis. For more information, see Understanding the True Cost of Sourcing.

What also contributes to the popularity of global sourcing today might be the fact that for years, only larger companies had the wherewithal to operate complex and pricey import/export software systems. Today's technology, conversely, has leveled the playing field for international trade, given that inexpensive Web-based systems—designed for simplicity and more easily deployed—can now enable much smaller companies to engage in global sourcing with a wide range of suppliers. The unstoppable march of the Internet and the growth of online shopping and other transactions mean that we are all operating in a new electronic real-time world (the global village), with inherent visibility into important events. These new systems make it possible for a small retail company to engage even just once—opportunistically if needed (as in a "one and done" manner)—with a supplier, to still record a profitable and efficient transaction. This has brought about what some experts call the "great leap" in global sourcing: it is no longer the privilege of only a few humongous and mighty companies, but is becoming a viable strategy for almost any company.

In addition, trading quotas and other barriers have been disappearing (or are being reduced) globally, while the expansion of the European Union (EU) eastwards opens up potential new sourcing countries along with new potential markets. With the end of apparel import quotas, this sector is growing rapidly in India and the Far East, while the passage of the Central American Free Trade Agreement (CAFTA) promises to bring additional activity into Central America as well. Today, on average, retailers are consequently following the top executive mandates to increase imports (of both raw materials and finished goods), even up to a quarter of total purchases (from a current level of 5 to 12 percent).

The Gain and Pain of Global Retail Sourcing

For anyone who has not spent the last several years hibernating or stranded on a remote island, it has become apparent that supply-side control is more important than ever for overall business success. This is due to globalization (meaning new potential markets, but at the price of growing competition too), low-cost country sourcing (and even outsourcing of some, if not most, manufacturing or service operations), continuous cost pressures (shrinking margins), and other driving forces which have combined into a "perfect storm." Global sourcing (the process of identifying appropriate domestic and far- or near-shore suppliers of goods and services—preferably from countries with significantly lower cost bases—and then ordering the goods and arranging for payment and delivery) has thus become a way to go for many. In fact, this has lately become an increasingly important corporate strategy (and often an executive mandate for buying departments) that is rapidly becoming a survival strategy too, in sharp contrast to the stepchild and "ugly duckling" perception of supply-side control in previous decades.

Part One of the series The Gain and Pain of Global Retail Sourcing.

In fact, there is today a growing imperative within organizations to source directly from an ever-expanding global universe of prospective vendors. Indeed, according to the World Trade Organization (WTO), about 55 percent of all raw materials for American manufacturing are now being sourced outside the US, which compares to about only 12 percent in the 1980s. As another example, the Wall Street Journal last year reported huge volume increases of Far East imports through the port of Savannah, Georgia (US), where the cargo container volume of 1.7 million per year has tripled over a decade ago, as an US east coast alternative to the clogged and constrained (in terms of labor and capacity) west coast ports (which are the logical, shortest-path destination for Far East goods).

Example of Supply Modulation towards Demand

A high product volume/mix CPG company in the southern United States had chronic problems with perfect order rates and operating cost overruns, typically caused by constant changes to the master production schedule, which in turn trickled down to an increased number of production changeovers and labor material mismatch. After years of running segmented processes and focusing on pushing volume out the door (without being able to deliver on the above critical objectives), the company started to look beyond its walls, and formed cross-functional sales-manufacturing teams to realign the supply process.

The team focused on two fronts. The first was tracking and understanding true consumer demand patterns of core products across all channels. This was followed by restructuring batch sizes to develop additional flexibility and minimize impact due to demand variation. By partnering and proactively communicating with retailers and other distributors, the sales team started funneling demand intelligence such as in-store promotion plans and (in some cases) POS information. Additionally, order fulfillment metrics were redesigned and customized across all channels to measure exactly what was important to these customers.

On the manufacturing side, the batch sizes of random medium- to low-volume products were reasonably increased to prevent schedule changes, and the batch sizes of steady high-volume products were reduced and sequenced back-to-back in tune with actual demand, so that batches could be added or removed quickly without causing major changeovers. This raised the short-term quantitative capacity flexibility, and hence responsiveness. Initial results of this process redesign was a sustained 9 percent increase in perfect order rates and a 20 percent setup time reduction due to a lower number of changeovers. Additionally, by slowly gaining trust, the company even began to influence the replenishment plans of large retailers.

Characteristics of the Demand-focused Approach

This approach encourages holistic design of all supply processes and information flows, in order to take care of end consumer demand rather than only the upstream requirements of factories or distribution systems.

Instead of asset-focused supply chains, the demand-focused approach fosters constant communication and correction of deviations between demand, supply, and product processes.

It requires change management and significant rethinking of the way process execution happens, in order to address continuous improvement of business-critical objectives like perfect order rates, operational efficiencies, and overall cost control. Table 1 depicts the differences between the two approaches.

Traditional	Demand-focused
Excessive focus on cost	Balanced multiple objectives
Continuous replenishment	As-needed on-time replenishment
Big batch, high-volume manufacturing	Flexible shorter batches in tune with demand
Information gaps or segmented processes	Fully integrated for complete demand visibility

Table 1. Traditional versus demand-focused approach within linear supply chains.

Using Demand to Drive Supply Networks

Until recently, CPG companies have adopted ad hoc initiatives to control costs and improve service levels, and over time many of these initiatives have been exhausted. Now is the right time to look beyond traditional practices and transform existing supply chains into illuminated and informed supply networks. Companies must start focusing on all forms of demand inputs from retailers, distributors, channel partners, and even end consumers, and use these as a guiding light to steer supply in the right direction and to enlighten its entire supply network with timely information.
In any dynamic system like a supply chain, variability is inherent. Sensing the variability in time and formulating strategies, innovative processes (and the technology to respond quickly to these variations) sets progressive companies apart from the competition. Using demand to regularly modulate the supply process is the new generation of SCM that integrates demand, supply, and product processes across the network of customers and suppliers to balance revenue against cost. It is a system of tightly linked processes and technologies, which not only responds to demand, but which can also reshape demand through solid collaboration with value chain partners in the market place.

Limitations of Traditional CPG Supply Chains

As explained above, CPG companies continue to face pressure on multiple fronts, and are not able to deliver efficiently and flexibly, due to the inherent limitations of the existing supply chains.

Internal silos and closed-loop activity
Instead of taking a holistic view of the supply chain, most companies are more concerned about local metrics and local departments; they lack of broader participation and commitment during critical phases such as forecasting and sales and operations planning. The mind-set is still of firefighting and knee-jerk reactions. Typical examples include manufacturing pushing for volume to keep their metrics of cost per unit and capacity use in control; and sales going out independently and striking promotion deals with retailers and distributors, without properly understanding the supply constraints. The infamous hockey stick effect (see figure 1) is prevalent in many CPG companies, and indicates low supply orientation and disparate management within their own supply chains.

Figure 1. The hockey stick effect.

Lack of flexible processes for dealing rapidly with change
Typically, traditional supply chain management (SCM) strategies and systems work best during steady states, but respond poorly during new product ramp-ups, surge demands, or a short lead time promotion. With shrinking product lifetimes and increasing product mix and distribution channels, traditional supply chains are slow to match the requirements of dynamic product portfolios. Excessive focus on asset or labor use, along with a lack of proactive constraint management practices and dynamic information feedback, combine to slow response times to the inevitable changes in the market place as well as with internal processes.

Traditional supply chains do not consider essential demand signals
The traditional demand indicator of forecasts frozen ahead of time can be too distorted, and does not take into account recent changes in actual demand. This practice, in conjunction with inherent uncertainty in forecasts, can add costs and unwanted inventory for manufacturers.

Increasing power of retailers

By leveraging geographical spread and strong consumer relations, retailers are able to demand more and more from suppliers in terms of lower costs and higher service levels. As with the CPG companies, the retailers are also chasing the twin priorities of constant shelf availability (by synchronizing stock flows to the store) and reduction of excessive in-store stocks and labor, in order to cut total retail supply costs. In spite of a strong focus on reducing out-of-stocks at the shelf, the numbers below indicate an opportunity to bring this metric up, without which both retailers and CPG companies stand to lose business. Channel- and account-specific requirements such as new labels and pallet size, diverse ways of sharing point of sale (POS) data, and (most recently) radio frequency identification (RFID) of products mean extra time, resource, and cost pressures which the CPG companies cannot resist.

Rising inventory
Consumer fragmentation has also driven CPG manufacturers to have wide assortments within categories. With higher service level expectations, most manufacturers have a tendency to build finished goods inventory to be able to respond better. Combined with a "make to plan" business process, inventories of raw materials and work in progress are also at higher levels. While most industry segments have reduced inventory levels gradually with improved supply chain processes, the CPG industry is still saddled with higher inventory and the associated inefficiencies.

Using Demand to Modulate Consumer Packaged Goods Supply Networks

The success of consumer packaged goods (CPG) supply chains in profitably delivering the right products, to the right place, at the right time, has largely remained theoretical. The focus is still to make planned products at the right times, as opposed to just the right products. This implies a "push" culture, and constitutes excessive focus on volume and capacity use. For too long, linear supply chains have fallen short—in many ways—in terms of delivering the flexibility and customer response needed to achieve superior bottom line results.

CPG companies have also realized that branding strategy alone is not enough, as consumers are more concerned about cost and quality in many categories (particularly for commodity products) than brand. Superstore retailers have developed strong consumer relations, and with their purchasing power are compelling suppliers to deliver higher levels of service. Additionally, the proliferation of store brands is cutting into the sales of traditional brands: gone are the days of the trade-offs where CPG companies sacrificed cost for service, as the need now is to balance and hit the multiple yet important objectives of cost, service, inventories, and quality.

A key area that has the potential to boost enterprise performance, as well as dynamically support new product introduction for customer retention, is the way the company supplies its customers. Gaining visibility and agility across supply channels is vital. Other survival requirements in today's competitive market place include knocking down internal silos; transforming closed-loop supply chains into illuminated open-loop supply networks through unflinching focus on demand; and fostering collaboration with consumers as well as with value chain partners.

Business Challenges in the CPG Vertical

With pressure coming from diverse sources, the limitations in existing CPG supply chains can lead to severe challenges that highlight certain fundamental areas for improvement. But those are not the only difficulties. CPG companies also face specific challenges inherent to the industry.

Decreasing profitability and market share
The one-strategy-fits-all approach within linear supply chains has not been adaptable enough to meet rapid operations that switch between requirements for low-cost/high-volume commodity products and low-volume/high-cost premium products. Typical asset- and cost-focused arrangements have diverted attention from anticipating and responding to unique and niche market requirements, leading to reduced growth and profitability. Also contributing to lost market shares is the intense competition from private label products. Furthermore, some low-growth local brands became targets for acquisition by stronger regional (as well as national) brands, leading to extended supply chains and hence added complexities and cost.

Effective management of promotions and new product introductions
Lack of communication or wider collaboration with retailers and distributors (as well as with internal teams) are significant factors in the less-than-stellar performance of CPG companies with respect to promotions and new product introductions. A number of CPG companies do not have formalized internal stage-gate processes to justify and effectively drive new product demand. Also, companies tend to focus more on initial new product sales (for example, for the first two quarters) and ignore subsequent demand, which then provides only partial insights into product failure or success factors.

Added costs due to regulatory compliance requirements
Regulatory bodies, including the United States Department of Agriculture (USDA), tightly regulate the packaged food and beverage sectors on the following mandates:

* Hazard Analysis of Critical Control Points (HAACP) regulations—quality control records and manufacturing data access
* Occupational Safety and Health (OSHA) requirements—material safety data sheets (MSDS) maintenance, good manufacturing practices (GMP), and safety programs
* country of origin labeling requirements