Mitigating and prioritizing risk in order to achieve success.
Third in a Five-Part Series
Previously on the UPS blog, I’ve discussed the current state of risk and recent supply chain risk research conducted by my team and me at the University of Tennessee.
In my last post, I also discussed the first step of supply chain risk management – identifying the risks.
This time, I’d like to explore the next step: prioritizing the identified risks. After reviewing the most common concerns for risk managers, I’ll detail a strategy that can help target which risks are most urgent for your business.
It is fascinating to see what risks are most on the minds of supply chain professionals. Not surprisingly, the No. 1 risk mentioned was quality. Long global supply lines make it very difficult to recover from quality issues.
The second-ranked risk concerns the requirement for increased inventory due to a longer global supply chain. Caught up in the allure of low cost labor, companies began rushing to Asia 25 years ago. This extended supply chain requires companies to carry at least 60 to 75 days of supply in additional inventory.
Most firms now understand the stress this additional inventory places on their company’s working capital and cash flow, and it can lead to excessive stock that moves slowly and can become obsolete.
Most supply chain professionals are not familiar with financial products such as cargo finance that allow companies to maximize the amount of cash that can be borrowed against trading assets, such as in transit or internationally warehoused inventory.
A properly structured working capital loan or other financial bridge can help a company minimize financial strain and work its way through inventory risks.
Natural disasters stand as the third most mentioned risk, no doubt brought to top of mind with high-profile natural disasters such as the Japanese tsunami and California earthquake.
These eleven risks are most prevalent in the survey research, but of course there are many others unique to specific industries and company operations – no two companies are the same.
Once identified, the next question is to determine which are most pressing and take priority.
Unfortunately, no company has enough resources to mitigate all risks. Companies must identify and then mitigate the most important ones. To determine the most pressing and riskiest, a supply chain profession might use the FMEA (failure mode and effect analysis) approach.
The military used the FMEA approach as early as the 1940s, which is a testament to its success. This method prioritizes risks based on three factors:
- Seriousness of consequences,
- Likelihood of the problem occurring, and
- Likelihood of early detection.
By assigning numeric values between one and ten to each of these factors, leading firms have successfully applied this approach as a way to identify high-priority risks. However, the real power of the approach lies in its use as a framework to discuss and debate risks with the supply chain strategy team. Given that risk analysis has a large subjective component, reaching group consensus is critical.
|FMEA (Failure Mode and Effect Analysis)|
|Severity:||1 = low severity|
|Probability of Occurrence:||1 = low probability|
|Priority of Early Detection:||1 = low priority|
|Index:||Multiply the above inputs|
|Recommended Action:||What should be done to mitigate the risks that have the highest index?|
|Responsibility:||Who is responsible for executing the mitigation?|
Once prioritized, companies should begin to implement mitigation techniques and tools. In my next post, I’ll introduce a variety of ways supply chain professionals are mitigating risk in their own supply chains.
Click here to read the first article in this series, Managing Risk in the Global Supply Chain.
Click here to read the second article in this series, An Up-to-Date Twist on Supply Chain Risk.
Dittman’s white paper, Managing Risk in the Global Supply Chain, can be downloaded here.