Where Are Your Supply Chain's Hidden Costs?

Know your supply chain costs today to optimize it tomorrow.

War and Supply Chain
War and Supply Chain. Getty Images

Does your supply chain look like 13 separate British Colonies or a single United States?  If your company hasn’t designed and implemented a supply chain strategy, then the individual colonies within your supply chain (purchasing, sourcing, logistics, warehousing, customer fulfillment, production planning, etc.) probably aren’t working together to win the fight against the British (in this example, “the fight against the British” is actually more of an optimization goal – cost of goods reduction, inventory optimization, on-time delivery, that sort of thing).

  But why should you care?  If your purchasing team is buying from your suppliers and your logistics team is keeping track of it all and your customers are getting their orders – why is it important that you manage supply chain strategically?

Time and money, that’s why.  Every link in your supply chain costs money and takes time.  And if you can improve the time it takes to move your products to your customers – and you can reduce the amount of money that process costs – then you’ll likely accept General Cornwallis’ surrender at Yorktown.  (Or get a slap on the back from a senior Ops executive.) 

But where to begin?  Let’s start with: How much is your supply chain costing you right now?  Figuring that out can be your Boston Tea Party, your call to arms.

Start by looking as far up the supply chain that you have control over.  Are you buying products from suppliers?  Do you dictate who your suppliers buy their raw materials and components from (your Tier II suppliers)?

  For the sake of this argument, let’s say you don’t control over your Tier II suppliers.  So your supply chain cost begins with your supplier purchase price.  In this case study, you purchase a product from your supplier for one dollar.  But that’s not your total product cost. 

$1 is your starting point.

 

Next: Where is your supplier in relation to you?  Even if your supplier is next door, there’s a cost to moving that $1 product into your warehouse.  But chances are – your suppliers aren’t next door.  Chances are they are in another country – and maybe in another hemisphere.  So that cost to move your $1 product can be significant.  And that significant moving cost includes moving your product out of your suppliers factory (on a truck?) to the ocean port or airport (where it sits in a freight forwarder’s warehouse?) onto a plane or a ship and then across the planet (holy fuel surcharges!) into your country (duties, tariffs, etc.) and then to you (more trucks and handling).  Those freight and handling charges are also part of your product cost.  Some finance departments like to include those transportation costs in the actual product cost of goods (i.e. they count against product margin) and some finance departments account for them separately, where they are expensed to a non-product general ledger account.  Either way, it costs your company money and time to move that product.   Your $1 product, by the time it reaches your warehouse may now have cost you anywhere from $1.10 to $1.50 – just by adding in freight and logistics charges.

  Let’s call it $1.25. 

Your product, now at $1.25, is in your warehouse.  Did you inspect it?  How long does it sit there before you move it?  Every day it sits there costs you money (inventory carrying costs include warehouse rent/overhead/insurance).  It’s either a product that goes into production to make another part or you resell it to your customer.  So either a plant work/job order or a customer purchase order will get it moving.  Processing job orders and purchase orders also cost money – estimates range from $50-$250 each.  So there’s probably another ten cents to fifty cents tied up in your $1 part (inventory carrying costs, admin costs, etc.).  So that $1 part probably really costs you anywhere to $1.30 to north of $2 by the time you ship it out the door.  And that doesn’t include the cost of returns.

  5%-10% returns are not out of the ordinary.  Are you including those costs, too? 

What can supply chain do about this?  A supply chain pro will study your supply chain and realize that your $1 product costs you a lot more than $1.  Working with suppliers, freight/logistics providers and inventory teams, a supply chain pro sees the entire process and works to cut costs along the way.  Purchase price reductions can be worked by negotiating with suppliers, aggregating demand and working with quality teams to reduce the total cost of ownership.  Freight and logistics costs can also be negotiated and sent out for quote.  Inventories need to be controlled and optimized (either by cycle counting or physical inventories or both).  Supply chain pro’s will even work with your customers to level load orders and optimize demand planning.  Where would the Continental Army had been without General Washington and where would your supply chain be without the right seasoned pro at its helm? 

One final area your supply chain pro can work on – your cash flow.  What payment terms do you have with your suppliers?  And what payment terms do your customers have with you?  If you can negotiate net 90 payment terms with your suppliers.  Then get your customers to pay you on a credit card (who doesn’t want all those frequent flier miles?) – you might actually start making money on your money.  For example, if your net 90 supplier invoices you on January 1.  And then you sell the supplier’s product on January 15 and your customer pays you on a credit card – you now have 75 days for that customer payment to sit in the bank and collect interest.  Those cash-to-cash metrics are also an area supply chain can impact your bottom line.

Optimized supply chain is getting your customers what they want, when they want it – and paying as little money accomplishing that as possible.  Hidden costs can be lurking in throughout your supply chain but a strategic supply chain team can bring your separate colonies together and form a more perfect union (supply chain optimization and financial success).