The risks that make a nonsense of just-in-time manufacturing

Since the waste-eliminating manufacturing technique known as just-in-time – or JIT – emerged from Japan’s mighty automotive industry in the 1970s, it was quickly adopted around the world and has proved remarkably successful. But a series of geophysical, political and financial events – notably the financial crisis, Iceland’s volcanic eruptions, Indonesia’s floods of 2011 (and those earlier this year), the Fukushima tidal wave and the recent invasion of Ukraine – ended up making a nonsense of JIT arrangements around the world.

As a result, companies in most sectors of industry were left so seriously short of inventory that normal production was paralysed. In short, inventories had been cut too close to the bone and ever since risk managers have been forced to rethink their assumptions.

Many now turn to a quote in professor Nassim Taleb’s landmark book The Black Swan: The Impact of the Highly Improbable: “Our world is dominated by the extreme, the unknown and the very improbable … while we spend our time engaged in small talk, focusing on the known and the repeated.”

In short, risk managers should actually expect deviations from the norm.

It is even possible that supply chains may be tested beyond their limits. If a manufacturer lands an unexpectedly large and urgent order, for example, it may not have enough materials or stock at its disposal to meet it.

That’s why for these and a variety of other reasons risk managers of companies with global operations – and their number is exploding – now nominate disruption of the supply chain as one of their top threats.

An important reason for these fears is dependence on JIT inventory management systems. As far back as 2012, respected London-based think-tank Chatham House warned presciently: “The vulnerabilities of globalised supply chains, and particularly the just-in-time business model, are likely to be exposed by any disruption lasting more than a few days.”

Chatham House researchers estimated that the average global JIT supply chain – which probably stretches for thousands of miles – had a maximum tolerance of around one week if a black swan-type incident took place.

Re-evaluation

Those forecasts could now be coming home to roost, especially given the increasingly scarce minerals and metals on which countless manufacturers rely.

Global consultancy PwC pointed out in a recent study – Minerals and metals scarcity in manufacturing: The ticking time bomb– the effects of such shortages on several industries as sustainability issues take effect. The report says: “There’s a fine line between ‘just in time’ and ‘just not there.”

PwC’s just global sustainability leader Malcolm Preston, an authority on climate change, regularly warns of such unforeseen disruptions – not just in terms of availability but also in price.

“For a large majority of the companies we interviewed, efficiency and collaboration throughout the supply chain are seen as essential to responding to [raw materials] risk,” he says.

“While the effects of scarcity can cause stress at any link of the supply chain, it is especially evident as you move down the supply chain.”

Many exposed manufacturers now recognise this. US-based chemical giant

Dow points out in its latest annual report: “Major hurricanes have caused significant disruption in Dow’s operations on the US Gulf Coast, logistics across the region and the supply of certain raw materials, which had an adverse impact on volume and costs for some of Dow’s products.

“Due to the company’s substantial presence on the US Gulf Coast, similar severe weather conditions or other natural phenomena in the future could negatively affect Dow’s results of operations.”

JIT explained

JIT is defined as a production model in which items are created to meet demand instead of being produced in surplus or in advance of need. The purpose of JIT production is to avoid the waste, overproduction, waiting times and excess inventory, thus making significant savings. The revisionists now argue that JIT thrived in a different and much less interconnected world of manufacturing. The Japanese car industry’s suppliers were located near the main plants; they talked the same language, usually knew each other personally, shared the same geography, lived by the same commercial laws and regulations. They were not subject to the same levels of disruption as today’s global manufacturers.

In today’s less predictable world, even Toyota has learned lessons. The automotive giant has been gradually implementing a strategy that, if necessary, allows all of its models to be produced in more than one plant around the world.

It is possible to triumph over highly disruptive and unpredictable events, as logistics giant DHL demonstrated during Europe’s 2011 ash cloud. With an emergency plan already in place, it was able to maintain almost normal schedules while millions of deliveries by other firms were either delayed or cancelled.

From its German base, DHL rerouted cargo planes to the least affected airports and, if that wasn’t possible, shifted deliveries to a small army of trucks and vans.

Learning from experience

Other companies can learn from disruptive events to protect them in the future. Dow Chemical Company has been rolling out since 2010 a project called Scram across 20 global business units – with big benefits.

Short for ‘supply chain resilience assessment and management’, Scram is based on six major sources of disruption that could seriously affect production. It applies disruption scenarios that mimic anything

from a shutdown of a production site to an outage of raw material, both of which could bring normal output to a standstill. A simulation model then measures the full impact of such events.

The result of this in one unit – a glycol ethyl plant – was that 95% of normal output could be maintained under existing capabilities. Surprisingly and gratifyingly, the simulations revealed that Dow had actually been overcautious and could reduce the fixed assets and working capital it was employing without increasing risk any further. Result? Annual savings of $1.1m (€1m) in the plant.

Many other manufacturers are shrinking their geographic reach. In the US, UK and Europe, companies that once moved production to emerging countries such as India and China, mainly because of lower labour costs, have decided that extended supply chains make them too vulnerable to disruptions. Many of them are relocating plants back home.

Unless a manufacturer is prepared to conduct similar exercises to Dow, however, which proved its ability to withstand a black swan, many consultants believe it might just be simpler and safer to run an overstocked inventory – just in case.