The article below reinforces the need for a systems approach to reducing the resource intensity of an organization, particularly the risks and costs of external failure and ignoring the downside of decisions, the result of which we see all around us now.
The hidden costs of global sourcing
Devising and executing a successful global sourcing strategy may be the most complex analysis a supply chain organization undertakes. And the irony is, the more you learn about it and the deeper you get into a global sourcing strategy, often the more complex it gets. As companies continue to expand their supply bases, they learn—sometimes the hard way—about the hidden cost pitfalls that can send a global sourcing strategy right into the ditch.With all of the variable costs associated with global sourcing, it’s best to develop a range in which the current sourcing decision still makes economic sense. John Brockwell of J.P. Morgan Trade Services says using a range of costs will help determine when a particular cost is approaching a less-than-sensible level.
For example, a global sourcing decision may be based on a given freight cost model, but with freight rates becoming more volatile, using a range will help decide how much is too much when it comes to freight cost increases. From there, it will be easier to justify moving to a supplier in another market.
With that in mind, Purchasing recently tapped the expertise of several global sourcing experts in various sectors of the supply chain for their thoughts on what hidden cost factors could creep up and undo the savings a global sourcing plan seeks to achieve…………………..
It’s no secret that global sourcing in many cases means balancing a planned cost savings with a possible risk of less reliable product quality. Unreliable quality levels in a product or the timeliness of the production from overseas factories may impact profitability as well. On a broad scale, a product recall is very expensive.
But more likely, the cost impact of varying quality will be more subtly buried in your supply chain. For example, Goodrich’s Ostrosky points out that when selecting a contract manufacturer for a small or low-cost product, there may be a temptation to use a lower-quality contract manufacturer to improve the profit margin on the product. But if the contract manufacturer’s quality affects delivery of the part or increases the number of failures, it could wind up costing more than originally forecasted and wipe out the global sourcing ROI……………………..
Traditional Model (based on industrial products example) Labor savings 20–25% Depreciation 5–10% Materials and components 10–15% Economic development incentives 0–5% Savings on manufacturing cost (subtotal) 50% Logistics, inventory costs -10–15% Ongoing management costs -5–10% Taxes and duties -0–5% Net cost savings 25% Procurement Strategy Council Model (factoring in the impact of hidden costs not considered in the traditional model) Cost savings in traditional model 25% Business partner non-participation (buyers opting out before contract is set) -8% Business partner noncompliance (buyers not using contracts in place) -6% Savings (subtotal) 11% Resource-intensive sourcing activities -4–5% Reputation risk exposure and mitigation -1–2% Actual savings realized 4–6%
As this model from the Procurement Strategy Council shows, hidden costs such as non-compliance, internal resource costs and costs of mitigating reputation risk—including working conditions, foreign corrupt practices, and data security issues—can shave off significant savings on a global sourcing contract.