When Supply Chains Merge: Five Steps for Success
3:24 AM MST | March 4, 2010 | By HARPAL SINGH
By Dr. Harpal Singh, co-founder and CEO for Supply Chain Consultants
Companies embark on mergers and acquisitions (M&As) with high hopes, promising the financial community improved performance. In reality, however, few M&As live up to expectations. Recent research studies suggest that up to 60 percent of mergers have a detrimental effect on the overall performance of the combined firm, and fewer than 25 percent of all acquisitions achieve their strategic objectives.
Establish common metrics;
Construct a central data store for planning and management reporting;
Conduct a post-merger supply chain assessment;
Identify duplication and synergies between the supply chains, and prioritize improvements; and
Execute tactical projects to exploit the synergies.
Step 1: Establish Common Metrics
Before a comprehensive supply chain integration plan can be put in place, the legacy supply chains have to be compared. This can be more difficult than it sounds. Supply chain metrics vary from one firm to another, making it difficult to compare the supply chain performance between the merging entities. For example, one firm might measure delivery performance against the customer’s desired date, while another company may measure delivery against a negotiated delivery date. It is especially difficult if the merging entities have different product and capacity profiles, or serve different sections of the market.
Companies need to begin by establishing a common set of metrics in three areas; financial, supply performance and delivery performance. They should choose those metrics that can be supported by available data, provide a useful level of precision, and are backed by common definitions. Because of the need to establish these metrics quickly, data availability should be the overriding concern, rather than finding the perfect metric.
While there are many useful metrics available, we recommend the examples listed in Figure 1 because they can typically be supported with data that is readily available. To assess the financial performance of the supply chain, we recommend using “variable supply chain cost per shipment and inventory turns.”
The “cost per shipment” normally includes order processing costs, technical support, inventory costs, warehousing costs, transportation, taxes and overhead assigned to supply chain planning. We typically suggest that firms exclude the assigned overhead components from these costs because these reflect a pre-merger organizational structure. To compare the efficiency of supply chains it is more meaningful to look only at the variable costs.
Inventory turns is another commonly used measure to compare supply chain efficiency because it reflects the amount of working capital needed to support sales. While it is not strictly a financial measure, it is often treated as one by many companies because, together with receivables, it accounts for a significant amount of cash that the firm needs to operate with. In a merger and acquisition situation, a lot of attention is paid to inventory and receivables because they represent two areas from which cash can be freed up relatively quickly.
Inventory turns, however, should never be used if the merger represents a vertical consolidation of the supply chains. For example, if a manufacturer merges with a distributor, comparing the inventory turns of the distributor and the manufacturer are meaningless.
For the supply and order performance metrics, it is important that consistent definitions are used. Supply metrics often depend on the type of manufacturing technology being used. Take the case of product transitions. In one firm, the manufacturing process might employ large runs and infrequent product changes. Another company might have a more flexible manufacturing process with short product runs and frequent product changes. Although the first company may indeed have lower transition costs per unit of product made, it is not clear that it is a more efficient operation because the manufacturing process requires much larger inventories to buffer the long production runs.
A comparison of order performance metrics can be misleading as well. “On time” orders in one firm could mean on time deliveries to the customer, and in another firm, “on-time” orders could mean on time shipments. In our experience, the same metrics can often have very different interpretations in practice because of the inconsistency of supply chain planning definitions. A key part of defining consistent metrics is clarifying the supply chain definitions being used by the merging companies.
Figure 1: Suggested Common Metrics
Step 2: Construct a Central Data Store for Planning and Management Reporting
The approach that we recommend puts a greater emphasis on creating an efficient combined supply chain, rather than cutting costs. Fundamental to consolidating the supply chains is to build a common planning database that is able to combine transactional data from the inherited systems.
In our experience, many companies attempt to integrate the transaction systems like the order entry system, the financial reporting system, and others too soon after a merger because they believe that this is the only way to ensure consistency of data. This can be an overwhelming task if the new combined system is expected to accommodate the different business processes of the merging entities simultaneously.
Our experience is that it is counterproductive to rush into consolidating transaction systems, as this can become an expensive software and training project. Every modern database provides relatively simple tools that can be used to bring together disparate transaction systems. Often this can be done in as little as four to six weeks to address key supply chain management reporting requirements around production, production reliability, inventory allocation, demand variability and order performance.
We recommend creating a separate database that takes the transactional data (orders, production, purchases, requisitions, etc) from the existing systems and applies the appropriate rules and interpretations to make the data consistent. This serves two purposes: the first is that the new database becomes a repository to document the differences of how the merging entities interpret their data, and secondly it allows management to consolidate reporting without tackling the task of changing the entire systems infrastructure. This database provides the basis for calculating and reporting on the common metrics that are defined for the merged company.
Briefly, the planning database is useful or three reasons:
It provides a platform for addressing transactional discrepancies like duplicate product names, different cost allocations and alternate data interpretations. You cannot calculate metrics accurately without resolving these issues.
The common database provides a test bed for changing the planning processes. Since the data in this database is internally consistent, different metrics can be calculated uniformly over the merging entities.
Consolidating the data immediately provides visibility to management. It helps to create the common metrics that will be used to evaluate improvement.
Step 3: Post-Merger Supply Chain Assessment
The goal of the post-merger supply chain assessment is to:
Review the existing organization structure and identify improvement opportunities.
Assess each pre-merger entity’s competence in five key areas: Understanding Demand, Managing Inventories, Planning Demand, Planning Production and Scheduling.
Provide a list of steps that describe how to consolidate the systems and processes to increase efficiencies and avoid disruptions.
Often, companies make the mistake of restricting any post-merger assessment to the feasibility of consolidating transaction systems and combining transactional functions like order taking. Our contention is that these efforts are often misplaced. Supply chain efficiency is primarily determined by the planning and decision-making processes because these affect how well a company can react to the changing environment, and how well it allocates resources to meet business goals. The post-merger supply chain assessment should rightly be focused on the planning processes.
Planning processes are best compared over three dimensions; Integration, Optimization and Acceptance.
We have found that it is possible to grade supply chain planning processes on a five point scale for each of these factors. Often this is sufficient to identify the strong and weak points of the existing processes.
Companies should also take a look at the merging supply chain’s transactional systems. With the adoption of modern ERP systems, basic transaction management infrastructure like production and inventory recording is usually in place for the supply chain. The systems, however, should still be rated for transactional integrity and data visibility.
Step 4: Identify Duplication and Synergies between the Supply Chains, and Prioritize Improvements
Once a consolidated reporting framework is in place, we have the basis to compare the tactical performance of the supply chains. Corporations often make the mistake of defining a desired state, then trying to replace existing systems and processes all at once to achieve that desired state. This increases the risk of disruptions, especially in a post-merger climate. The assessment should indicate not just the end state, but a series of steps to move toward the end state.
At this stage, it is appropriate to appoint a joint team to recommend both short-term savings and longer term productivity improvements. Typically, such a team will be led by the supply chain organization with representation from finance, manufacturing, logistics and information systems. This team will use the assessment results as a guide for the longer term changes, and the team’s charter should include the ability to execute the short-term savings. These typically require a minimal investment but can have quick payoffs in terms of delivering cash.
When supply chains are combined there is usually an opportunity to consolidate work. For example, when companies providing similar products are merged, the sales organization can often be streamlined because the different companies may have their own sales representative for the same customer. Product offerings can similarly be consolidated because different products offered by the individual merging entities may serve the same end use.
In manufacturing too, there can be opportunities to consolidate the production of intermediate components, just as different car companies often use the same power train.
In situations where there is vertical integration (for example between a manufacturer and a distributer), there is usually more synergies then duplication. One area that deserves attention is the inventory being carried between the manufacturing entity and the distribution company. Often, this can be drastically reduced by integrating the planning processes.
In our experience, it is very important to empower this team to initiate short-term projects. When this does not happen, separate uncoordinated initiatives tend to sprout in different parts of the organization because of the pressure to create financial benefits quickly. This team should also guide the level of supply chain systems integration and how quickly system changes are implemented. The benefits of IT integration are usually quantifiable, and companies often try to accelerate this to achieve the gains. Unfortunately, the cost and revenue impact of potential disruptions is often not known until the problem happens. Longer term productivity improvements should be broken down into projects lasting three to four months. The output of this team consists of a series of projects which constitutes a road map for combining the supply chains and for delivering productivity gains.
Step 5: Execute Tactical Projects to Exploit the Synergies
Individual projects can have an affect on many different areas of an organization. Each project needs to stand on its own in terms of delivering the required business benefits and return on investment. The one additional factor that should be considered in the post-merger environment is the degree of disruption – both internally and to customers – that might result from any given project. In a post-merger environment, customers are often anxious and afraid that their interests may be compromised in the rush to achieve post-merger benefits. It is helpful if the initial projects are primarily focused on delivering better customer value, and if this focus is clearly communicated to the customers.
Although supply chains are rarely considered in Mergers and Acquisitions, they can be a key factor in delivering the financial benefits expected from a merger. It is important to carefully reconfigure the supply chain after a merger because any disruption can increase customers’ anxieties, resulting in lower revenue. Merger statistics indicate that alternate cycles of cost reduction and lower revenue affect more than 25 percent of all manufacturing mergers over the last 10 years. As the supply chain continues to gain greater visibility in response to a tougher economy, rising fuel costs and increased customer service pressures, it will also continue to play a greater role in successful Mergers and Acquisitions.