China Pursues Excellence in Logistics. A.T. Kearney s Logistics Excellence in China Study

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1 China Pursues Excellence in Logistics A.T. Kearney s Logistics Excellence in China Study

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3 While China and the world rebound from the worst economic crisis in 80 years, a new operating paradigm awaits companies doing business in China. Leaders in six major industries expect significant changes on the horizon, ranging from less emphasis on price to greater demand for sophisticated logistics products, measurements and management. To compete successfully in the recovering global economy, China supply chains need to be flexible, lean and optimized for what could be an uncertain future. The Logistics Excellence in China study, conducted by the Chair of Global Supply Chain Management at Tongji University, Shanghai, and A.T. Kearney, identifies the characteristics, trends and success factors that will shape China s future supply chains. This survey is similar to a recently published survey conducted jointly by A.T. Kearney and the European Logistics Association, Supply Chain Excellence Amid the Global Economic Crisis. 1 For the China Study, we use the methodologies and analysis of the European study, adapted to capture the characteristics of supply chains and logistics for companies in China (see sidebar: About the Study on page 2). This study is designed to answer some of the key questions facing today s supply chain managers: Do I have the right supply chain organization? How do I optimize my existing network inherited from the historical rapid growth? How is my supply chain doing compared to the competition? How do I improve my service levels to retain existing customers while keeping supply chain costs under control? What should my long-term supply chain strategy look like? This report summarizes our key findings, with selective benchmarking against European survey results. Overall, the results indicate significant gaps between supply chain management practices within companies in China and best practices. However, the gaps are closing and companies in China have overtaken their European counterparts in some areas. Price Will Become Less Important to Customers As the Chinese economy rebounds the rate of GDP growth was 8.7 percent in 2009, the lowest in five years survey respondents expect marked 1 The European study, Supply Chain Excellence Amid the Global Economic Crisis, is available at CHINA PURSUES EXCELLENCE IN LOGISTICS A.T. Kearney 1

4 changes in the degree of importance attached to buying criteria over the next five years. 2 In the supply chain, respondents expect supplier price to decrease in importance by 15 percent, while the importance of meeting buyers supply chain requirements is expected to increase by 14 percent. Product availability and order reliability, viewed as the two most significant factors in 2008, will become even more important by 2013, as shown in figure 1. One probable consequence: More companies will begin to regard supply chain management as a strategic function and increase its responsibilities in the near future. Almost half of the companies in our survey, 45 percent, say within five years the SCM function should include formulating supply chain strategies, investment decisions, and decisions in IT systems. This is consistent with the findings of our European counterparts, where strategy, control and planning are among the fastest growing responsibilities within the SCM function. However, there appears to be a contradiction between supply chain management strategy and overall business strategy. Although the majority of survey participants adopt a high-value, highcost product and supply chain strategy, the main benefit delivered by the supply chain is low cost. Among survey participants, 51 percent report About the Study A.T. Kearney and the European Logistics Association (ELA) have joined forces over the past 27 years to perform the Excellence in Logistics study of supply chains. The latest study, performed in 2009, focuses primarily on the organizational structure, supply chains, logistics costs and service levels of 150 companies in 18 countries. The related Logistics Excellence in China study uses the methodologies and analysis of the European study, and includes approximately 100 companies across six major industries, with different sizes and ownership structures. The figure shows the profile of survey participants. Each participant receives customized, company-specific benchmarking reports to identify gaps and strengths in their supply chain management in China; they also provide a basis for direction setting and decision making in supply chain and logistics management. Companies that would like to benchmark their performance Figure: Profile of survey participants Retail and wholesale 8% Other* 3% Automotive 11% Chemical and pharmaceutical 14% High-tech 17% Industry Industrial goods 34% Consumer goods 29% *This group includes logistics providers Sources: Logistics Excellence in China Study, A.T. Kearney in detail are welcome to contact A.T. Kearney to make arrangements for inclusion in the database and the development of a customized company-specific report. Legal and ownership structure Domestic Chinese joint Chinese venture and foreignowned joint venture 11% State-owned enterprise 17% 8% Wholly foreign-owned enterprise 34% Domestic private company 29% 2 Statistical Communiqué of the People's Republic of China on the 2008 National Economic and Social Development, February 26, CHINA PURSUES EXCELLENCE IN LOGISTICS A.T. Kearney

5 that their business focus is on product customization, and 68 percent say they aim to be flexible and responsive to customers needs. Both typify a high-value approach to business, and are diametrically opposed to the standard product and service inflexibility associated with a low-cost, low-value approach. Yet SCM s primary benefits seem to be derived from cost savings rather than increased service levels. Figure 2 highlights that logistics costs and inventory reduction are the top two benefits achieved by SCM, while increasing customer responsiveness is last. Figure 1 Product availability and order reliability will become more important to customers by 2013 Buying criteria 13.6% Relevance Relative change in importance (%) 15.3% Product price 0.0% Product quality 3.1% Product performance 4.8% Application and technology support Supply chain requirements Product availability Order reliability Routing or locations Flexibility or customization Sustainability Least important Most important Today 2013 estimated Figure 2 The benefits of supply chain management 49% High-value benefits Low-cost benefits 55% 57% 29% 41% 36% 13% Improved customer responsiveness Faster delivery cycle time More reliable delivery Improved product quality Working capital efficiency Reduced inventory Lower logistics costs CHINA PURSUES EXCELLENCE IN LOGISTICS A.T. Kearney 3

6 Figure 3 Chinese companies are largely dissatisfied with their ability to meet the needs of overseas customers Characterization of export activities Important part of the business* Necessary for competitiveness Designed or manufactured for export market Relevance Dissatisfaction extends to advanced supply chain requirements Provide timely and accurate deliveries Offer competitive prices Adhere to quality standards and specifications Deliver products and services in the volume specified Relevance Percent of companies unsatisfied 79% 81% 82% 83% More profitable than domestic market* Disagree Agree Offer adequate aftersales services Incorporate advanced technology in operations Least important Most important 88% 92% estimated *Select interviews indicate that international activities are at the beginning stage, and return on investment has not yet been realized Customers Basic Supply Chain Requirements Are Not Being Met Among survey participants, 72 percent have international supply chains and 78 percent are engaged in direct export to their customers; 28 percent have international operations and 22 percent report international sourcing. Given the heavy involvement in export supply chains, it is surprising that more than 80 percent of Chinese companies that engage in direct export are not satisfied with their ability to meet even the most basic customer supply chain requirements: on-time and accurate product delivery (see figure 3). This dissatisfaction extends to more advanced customer supply chain requirements. Indeed, the more ominous issue comes into focus when we see that survey respondents expect these more sophisticated requirements, such as adhering to quality standards and specifications, to become increasingly important in the near future. Simultaneously, we note a surprisingly low level of collaboration with suppliers and customers across all dimensions. Even basic collaborative practices, such as sharing inventory data, joint sales forecasting and sharing production schedules, are regarded as being of lower-than-normal relevance. This suggests a cause-and-effect relationship. A major factor in the inability of Chinese companies to meet their customers requirements fully is the low level of collaboration between them and their customers. When the main sales channel is 4 CHINA PURSUES EXCELLENCE IN LOGISTICS A.T. Kearney

7 via direct export, the ability of a company to understand its overseas customers without a physical presence in that market is problematic. China s Logistics Costs Exceed Europe s but the Gap Narrows Figure 4 shows that logistics costs jumped by 12 percent from 2004 to 2008, from almost 17 percent to almost 19 percent of sales. Although partly driven by the rising cost of oil during this period, another key driver in the increase is the lack of supply chain optimization as companies focused on rapid growth and expansion. Figure 4 Logistics costs in China rose nearly 12% in four years Costs Reverse logistics Logistics value-added services Logistics administration Write-offs for obsolete stock Inventory capital Warehousing Transportation 16.7% 1.0% 1.0% 2.1% 1.0% 3.5% 2.9% 5.2% 12% 18.8% 1.4% 1.3% 2.5% 1.0% 3.9% 2.9% 5.8% Average percent of sales Inventory includes raw materials, work in process (WIP) and finished goods stock; when inventory is stockpiled in the supply chain, so is cash. Compared to Europe, China s supply chain costs can be up to twice as high, with inventory costs in companies in China higher than their More companies will begin to regard supply chain management as a strategic function and increase its responsibilities in the future. European counterparts across most industries. Figure 5 on page 6 illustrates this comparison across select industries. Warehousing costs are relatively higher the more upstream the industry. Note that consumer goods have a higher relative cost than retail, and chemicals have a higher relative cost than consumer goods. Volatility in consumer demand is magnified as it travels backward through the supply chain. However, changes are under way as the preponderance of surveyed companies (83 percent) in China have chosen to move away from one size fits all supply chains to a differentiated stocking strategy, with movement frequency, inventory value and volatility the most commonly used criteria. Furthermore, the trend is shifting from maketo-stock to make-to-order in China. Figure 6 on page 6 indicates this trend is especially prominent CHINA PURSUES EXCELLENCE IN LOGISTICS A.T. Kearney 5

8 Figure 5 Compared to Europe, China s supply chain costs can be up to twice as expensive (by industry) 14.8% Inventory-related costs Warehousing 4.3% 11.7% 2.2% Inventory carrying Transportation costs 4.6% 5.9% 7.4% 1.2% 1.4% 4.8% China Europe China Europe China Europe Chemicals Consumer goods Machinery and electronics 4.0% 5.5% 8.2% 2.2% 2.1% 3.9% 7.5% 1.8% 2.6% 3.1% 5.8% 1.1% 1.2% 3.5% 6.4% 1.4% 5.5% 1.1% 3.9% 1.5% 1.0% 3.0% 3.3% 1.3% 0.8% 1.2% 3.1% 1.2% 0.3% 1.6% China Europe China Europe Automotive Retail Figure 6 The trend is shifting from make-to-stock to make-to-order in several industries TOTAL Industrial goods High tech Consumer goods Auto Chemical and pharma 63% 59% 59% Maketo-stock (percent of sales) 44% 39% 38% 32% 31% 31% 31% 18% 31% 56% 53% 48% 50% 39% 24% Maketo-order (percent of sales) 40% 45% 48% 41% 47% 53% 55% 66% 56% 36% 37% 42% 34% 43% 54% 28% 29% 26% Source: Logistics Excellence in China Study, A.T. Kearney and Tongji University estimated 6 CHINA PURSUES EXCELLENCE IN LOGISTICS A.T. Kearney

9 in the auto, industrial goods and consumer goods industries. Some preliminary evidence shows the average number of days of inventory (raw materials, WIP and finished goods) declined from 109 days in 2004 to 92 days in Survey respondents anticipate a 15 percent reduction to 78 days by One note of caution: Shifting to pure maketo-order supply chains does not make sense if applied in a one size fits all approach, which transmits all consumer demand volatility along the entire supply chain. Inventory-related logistics costs might drop, but at the risk of higher transportation or manufacturing costs. Logistics Leaders Control the Supplier Market High proportions (81 percent) of survey participants partially or fully outsource transportationrelated parts of their supply chains (see figure 7). However, typical higher value-added services such as warehousing, packaging, order handling and accounting functions are much less likely to be outsourced. When we look at the leaders in our survey those companies whose logistics costs and days of inventory are half those of other companies in their clusters the contrast is even sharper (see figure 8 on page 8). The majority of them outsource their transportation while focusing their resources on value-added services. The followers, on the other hand, appear to have a mix across the different activities, which could drive up the costs and risks associated with required collaboration and transactions. Figure 7 Leading firms outsource the transportation-related parts of their supply chains Extent of supply chain outsourcing by process (2008) Average number of external service providers used (2008) 81% 24% 57% Outbound transportation % 27% 52% Disposal % 25% 46% Inbound transportation % 31% 21% Packaging % 36% 11% Warehousing % 36% 10% IT systems % 19% Order-handling Outsourced Partly outsourced 3% 7% 7% 0.0% Invoicing and receivables Used nationally Used globally CHINA PURSUES EXCELLENCE IN LOGISTICS A.T. Kearney 7

10 Figure 8 Comparison of the leaders and followers in areas outsourced Outbound transportation Inbound transportation Disposal or waste transportation Leaders 15.8% 63.2% 10.5% 68.4% 10.5% 78.9% 21.1% 21.1% 10.5% Followers 30.0% 30.0% 30.0% 55.0% 45.0% 40.0% 40.0% 15.0% 15.0% Packaging Warehousing Order handling Invoicing and receivables Leaders 15.8% 26.3% 0.0% 5.3% 15.8% 31.6% 5.3% 36.8% 57.9% 94.7% 52.6% 57.9% Followers 10.0% 35.0% 10.0% 15.0% 15.0% 20.0% 20.0% 30.0% 55.0% 75.0% 65.0% 50.0% Fully outsourced Partly outsourced In-house When they outsource, leaders have significantly fewer service providers than the followers, expanding their provider base primarily for geographic coverage reasons (see figure 9). This indicates their superior cost structure is achieved not by cherry picking the lowest cost supplier for each particular route or logistics activity, but by managing the supplier base from a total cost-ofownership perspective. Having a clearer outsourcing and more holistic supplier strategy, leaders are more satisfied compared to followers with their service providers on every dimension (see figure 10). This suggests that mutual benefits can be gained with a smaller but well-managed supplier base. However, there is still much room for improvement, as indicated by the gap between satisfaction levels and required criteria. The Missing Link Between Performance and Incentives Many of the survey participants have information systems to measure the performance of their supply chains. However, fewer companies link these key performance indicators (KPIs) to their reward systems (see figure 11 on page 10). For example, 86 percent of the companies track on-time delivery performance, but only 55 percent link it to the reward system. This lack of linkage probably prevents companies from maximizing the utility of KPIs to improve supply chain performance continuously. Further, less than half the companies report they are very satisfied with their supply chain managers skills, a view that is consistent across a range of dimensions including technical skills, project 8 CHINA PURSUES EXCELLENCE IN LOGISTICS A.T. Kearney

11 Figure 9 The leaders outsource with fewer service providers and primarily for geographic coverage Number of logistics service providers by cluster Reasons for more than three service providers by cluster Inbound transportation Outbound transportation Service coverage 31.6% 55.0% Disposal or waste transportation Warehousing Geographic coverage 55.0% 63.2% Order-handling Invoicing and receivables Capacity coverage 15.8% 25.0% Packaging IT systems Risk hedge 31.6% 60.0% Leaders Followers Figure 10 Leaders are more satisfied with their service providers on every dimension Price Reliability Flexibility and customer orientation Innovation ability Depth of service portfolio Geographic coverage Ability to grow References SCALE: 1 = lowest, 8 = highest Satisfaction leaders Satisfaction followers Criteria leaders Criteria followers CHINA PURSUES EXCELLENCE IN LOGISTICS A.T. Kearney 9

12 Figure 11 Few companies link their key performance indicators to their reward systems Sales forecast accuracy Others Cash-to-cash cycle times 50% 57% On time delivery 86% 55% 33% 7% 6% 36% 42% 60% Inventory levels 54% 40% 43% 64% Logistics costs 70% 67% Delivery in full Delivery damage costs Measured Rewarded management capability, business administration, strategic and organizational and IT know-how. As a result, 16 percent of survey participants expect to have advanced degree holders (masters and doctorates) in supply chain management positions by 2013, up from 9 percent in In contrast, no survey participants in Europe had such expectations, suggesting that companies in China recognize the need to upgrade their talent pool significantly to prevent it from becoming a business performance bottleneck. Looking Ahead This survey s findings suggest the logistics and supply chain space in China faces a range of significant challenges. Survey participants adopting a high-value, high-cost product and supply chain strategy create misalignment as supply chain management is focused on lower costs. Outsourcing is difficult thanks to an immature supply market, and costs remain high. Capabilities, perceived as weaker than desired, are being stretched beyond the limit of satisfaction when the global supply chain crosses national boundaries. In spite of these challenges, companies in China are optimistic about future logistics costs. Many companies see the glass as half full, with an abundance of opportunities for improvement in traditional supply chain management areas including warehouse and inventory management and logistics administration. By applying leading supply chain practices tailored for China, companies expect to decrease their logistics costs by almost 14 percent by The opportunity is significant; leaders will continue to manage their supply chains to achieve even greater competitive advantage, and followers need to act or be left behind. Authors Lian Hoon Lim is a partner in the Hong Kong office. He can be reached at lian.hoon.lim@atkearney.com. Chee Wee Gan is a principal in the Shanghai office. He can be reached at chee.wee.gan@atkearney.com. Wayne Xue is a consultant in the Shanghai office. He can be reached at wayne.xue@atkearney.com. Jian Li is a consultant in the Shanghai office. He can be reached at jian.li@atkearney.com. 10 CHINA PURSUES EXCELLENCE IN LOGISTICS A.T. Kearney

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15 A.T. Kearney is a global management consulting firm that uses strategic insight, tailored solutions and a collaborative working style to help clients achieve sustainable results. Since 1926, we have been trusted advisors on CEO-agenda issues to the world s leading corporations across all major industries. A.T. Kearney s offices are located in major business centers in 36 countries. For information on obtaining additional copies, permission to reprint or translate this work, and all other correspondence, please contact: AMERICAS EUROPE Atlanta Boston Chicago Dallas Detroit Mexico City New York San Francisco São Paulo Toronto Washington, D.C. Amsterdam Berlin Brussels Bucharest Copenhagen Düsseldorf Frankfurt Helsinki Kiev Lisbon Ljubljana London Madrid Milan Moscow Munich Oslo Paris Prague Rome Stockholm Stuttgart Vienna Warsaw Zurich A.T. Kearney, Inc. Marketing & Communications 222 West Adams Street Chicago, Illinois U.S.A insight@atkearney.com ASIA PACIFIC MIDDLE EAST Bangkok Beijing Hong Kong Jakarta Kuala Lumpur Melbourne Mumbai New Delhi Seoul Shanghai Singapore Sydney Tokyo Abu Dhabi Dubai Manama Riyadh Copyright 2010, A.T. Kearney, Inc. All rights reserved. No part of this work may be reproduced in any form without written permission from the copyright holder. A.T. Kearney is a registered mark of A.T. Kearney, Inc. A.T. Kearney, Inc. is an equal opportunity employer.

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