Why an effective supply chain matters

Why an effective supply chain matters

Be like Mike. Like Michael Dell, that is, and use a build-to-order, low-inventory business model to lead your industry. Be like Wal-Mart, too, and use logistics to create an unassailable low-cost position. And hey, even the Defense Department is using leading-edge techniques to track and replenish inventories of beans and bullets. The message we hear is clear: Get on the stick, buddy, and adopt supply-chain "best practices."

I know what you're thinking: "Thanks a lot. We've already read that stuff. Less inventory, lower operating costs and higher productivity - they're all great to have, for sure. But we ain't them. We're not that big, we don't have their market clout, we don't have a big technology budget, we're not even in their industries. So why should we be concerned about what they have done, or seek to adopt the practices trumpeted by consultants and the business press? Does supply-chain management really matter?"

I admit to difficulty with these questions in the past. My best response has usually been something about how since these companies do have superior supply chains and they do have superior financial performance, then there must be some linkage.

But I could never prove it. Until now.

A recent study by Accenture, INSEAD and Stanford University has documented - for the first time, I believe - a strong direct relationship between supply-chain operations and corporate financial performance. The bottom line is that supply-chain leaders are rewarded by the stock market with substantially higher growth in stock values than companies with lesser performance in supply-chain management.

The study used data from more than 600 "Global 3,000" companies across 24 industries covering 1995-2000. Companies were classified as supply-chain "leaders" or "laggards," based on their performance compared with the others on inventory turns, cost of goods sold as a percentage of revenue, and return on assets. (Middle categories of companies that improved or declined during the study period were also developed). While supply-chain leadership can be defined many ways, those sound like pretty good measures to me.

The study then calculated financial performance for each company based on its change in stock market capitalization during the study period, compared with other companies in its industry. I don't think you can argue with Mr. Market as the ultimate arbiter of company value for this purpose.

Put the two together and - voila - there's your proof.

The impact was dramatic: The compound average annual growth in market capitalization of the leaders was 10 to 30 percentage points higher than the laggards. And the results applied across the board - for 21 of the 24 industries the supply-chain leaders had higher stock value growth over the six-year period.

We all try to beat the Dow or the S&P 500 averages and are happy if we are ahead by a couple of percentage points on a consistent basis. The supply-chain leaders beat the market by an annual average of 26 points during 1995-97 and 7 points during 1998-2000.

Is it possible for a company's financial value to grow without being a supply-chain leader? Sure. Fifteen percent of the "laggards" had top-tier market cap growth, and I'm sure there are some interesting case studies there. But the reality is that most supply-chain laggards were also underperformers in the stock market.

Armed with these results, is it easy to become a supply-chain leader? Of course not. It takes process, people, technology, leadership, discipline and maybe a little luck. It requires knowing what to do and how to do it. In future columns I'll cover some of these elements and specific examples that you can use in your own supply-chain quest.

It stands to reason, of course, that if you can build your product to order rather than carry inventory, closely match store replenishment to actual customer sales trends, restock the shelves quickly, minimize the amount of end-of-season markdown merchandise, or reduce the property, plant and equipment assets needed to generate a dollar's worth of profit - or any of a number of other "best practices" - then you'll earn an outsized return from the market.

Thank you, Accenture, INSEAD and Stanford. I knew it all along, but I'm glad to see the proof: Supply-chain management does matter.

Scott A. Elliff is president of Capital Consulting & Management Inc., which works with clients on supply-chain performance. He can be reached at (703) 370-2607, or via e-mail at scott_elliff@ccmiservices.com.