Shocks to the System: Financial Meltdown and a Fragile Supply Chain
Just-In-Time (JIT) practices are a cornerstone of the fast-paced, 21st century globalized economy. But as the October 2008 financial meltdown has so starkly indicated, when just a few of the assumptions on which a critical system is based change, all hell can break loose. What effect could the economic crisis have on businesses that rely on JIT?
There are several scholars who have studied JIT in depth – the pros, the cons, and of course the implementation details. But one recent article stands out most, to me, as I try to gauge how the seismic shift might impact business. In 2006, Tony Polito (an Associate Professor in the Department of Marketing and Supply Chain Management at East Carolina University) published an article in the Journal of the American Academy of Business detailing the ubiquity and fragility of Just-In-Time practices. If you’re involved in a business that uses or depends on JIT, you should be aware of his conclusions – forewarned is forearmed! I’ll summarize them here to save you some time, so you can start thinking about the structural health and viability of your own business processes.
First of all, it’s important to recognize that JIT is indeed a cornerstone of business practice in the U.S. and abroad. Polito notes a 2001 survey in which 92% of manufacturers believed that JIT was critical, and a 1990 study showing that 98% of customers at that time expected “JIT treatment”. He remarks that “global corporations are mistakenly reliant on extensive supply chains that are disastrously under-buffered [by sufficient excess inventory].”
Polito calls out five “major constraints” on the JIT process:
- Customer-Driven and Economic Conditions: “JIT savings are based on the implicit assumption that additional inventory is always available for quick delivery at the same price as old inventories.” Effective JIT also depends on capital availability, and relative stability of customer demand. In a challenged economic environment, capital is not as readily available to companies and consumers alike, and customer demand wanes.
- Logistics: If transportation fails, so will your supply chain. This can happen not only as a result of economic turmoil, but also due to rising energy costs, labor disruptions like strikes, and catastrophic weather events like hurricanes and floods. The proposed solution is, again, to increase buffer stock.
- Organizational Culture & Conditions: Worker-based collective decision making, trust, and decentralized control are also noted as essential ingredients for JIT. If the people doing the work don’t have the freedom to improve their own processes, the health of the JIT-based supply chain will suffer. Trust across international boundaries is also critical; foreign suppliers or recipients of product may unexpectedly change their policies to reduce risk, especially if credit is an ingredient in the business relationship.
- Intractable Accounting & Finance Practices: After describing some specific roadblocks that disparate financial systems between supply chain partners can present, and calling out limitations based on financial accounting methods themselves, Polito recommends that improvement of processes prior to improvement of measures may help.
- Small Supplier Difficulties: One of the criticisms of JIT is that it silently offloads costs from larger companies onto the smaller partners, and many small suppliers have implemented “JIT premiums” to offset this effect. Relaxing JIT requirements could have a positive effect on these members of your supply chain, which could also reduce your costs, so examining the pressures on your smaller suppliers is warranted in an economic downturn. There might be hidden opportunities for both sides.
What does this mean for managers? Among other things, increase long lead-time inventories, compare the costs of stockouts with the benefits of not having stockouts, re-examine the risks that your upstream and downstream partners may perceive, and assess the resilience of your smaller suppliers within an economic crisis. You might also think about resetting expectations with your customers regarding how quickly you can deliver.
Polito’s article is available on his web site at http://www.tonypolito.com/wri_jit5.pdf – I strongly encourage everyone to give it a read as it provides far more detail, and illuminating examples that are not presented here in my summary.
Polito, T. & Watson, K. (2006). Just-in-time under fire: the five major constraints upon JIT practices. Journal of the American Academy of Business, Cambridge. 9(1), March 2006, 8-13.