Coronavirus and global supply chain disruption: when the world goes off course

Earlier this year, the whole world was suddenly faced with a global health crisis in the coronavirus. A largely unknown virus, coming seemingly out of nowhere, which apparently spreads easily and has a two-week incubation period, rapidly globalized with documented cases in over 157 different nations, according to the United Nations. At this writing, the statistics on infection show the current case load at 170,000 with over 6,500 deaths to date.

In response to this serious health crisis, the Chinese government quarantined major cities, restricted travel, closed borders and sought guidance and expertise from all corners of the globe. One of the most unfortunate realities of this outbreak is that it exploded during the Spring Festival, commonly known as Chinese New Year, when an extraordinary number of people were traversing the country. Over 413 million train trips, 73 million airplane trips and countless more bus and automobile travel plans meant that over a billion people were traveling in close proximity.

One of the critical early actions was the quarantine of Wuhan and a governmental extension of the Chinese New Year holiday. Rather than people coming back to work on Feb. 3, the official date was extended to Feb. 10 and that date later extended to Feb. 17. Officially, the holiday ended but, as we all know, scores of businesses stayed closed for well over a month and several universities in Beijing advised that they would only be open in May.

Moreover, hundreds of millions of people simply refused to leave the safe shelter of their uninfected home regions due to the danger of transit or going back to factories where people from many different cities would congregate in close quarters.

Of course, in time the coronavirus spread globally and now every corner of the U.S. is feeling the effects. Schools and universities are closed down, public venues are canceling gatherings, store shelves are empty of critical supplies and there is no seeming end to this crisis.

While the obvious effects are on social life, the business community involving manufacturing, distribution and technology have been seriously and profoundly affected. The effects on supply chain and all of the ripple effects that go down to every business in the U.S. are just beginning to be felt and will continue for months as the reverberations of this crisis seriously change how business is done forever.

As this will not be the last time that an infection or natural disaster will severely disrupt the flow of goods, what can we learn from this crisis?

Supply chain

When it comes to the business impacts, several stories have discussed the potential effects on supply chain. Most initially suggested something to the extent that deliveries might be delayed a week or two, and so there would be a small “ripple” in the steady flow of goods coming from China, but that it should not be serious, as most businesses carry enough stock to manage an interruption of one week.

However, it did not turn out that way. The most thoughtful commentators predicted that the disease would peak in April or May, but it may be well into late July or August before all the effects are erased. As a result, several other trigger effects started to cascade into problems for the global economy, and affected businesses in North America. Some of the goods we expect to be on the shelves at Walmart and places like Home Depot were in short supply and some had higher prices.

The effect on U.S. manufacturing and assembly was also felt. Even for companies who manufacture sophisticated goods and technological devices primarily in the United States, if even a small percentage of the parts that go into those U.S.-made devices are delayed, the entire factory can grind to a halt. This is exacerbated by the decades-old trend toward just-in-time parts delivery and maintenance of low levels of locally maintained stock and supplies. Those business practices that work so wonderfully to reduce capital costs when all is well may dramatically accelerate the crisis when supply suddenly becomes short.

Shipping and transportation problems

Products shipped by air and sea also faced significant restrictions. As severely reduced forecasts in product volumes coming out of China dropped the demand for shipping container movement, giant shipping companies such as Maersk, MSC Mediterranean Shipping, Hapag-Lloyd and CMA-CGM reduced the number of vessels on routes connecting China and Hong Kong with India, Canada, the U.S. and West Africa. Many North American and European airlines canceled all flights in and out of China, both for people and cargo. While some cargo flights ran reduced schedules, the severity of quarantines within China meant that whatever limited production was available couldn’t get to the shipping facilities and was trapped in the factories.

Labor shortage

One thing that many Americans may not factor into their evaluation is that when Chinese workers are advised not to return to the factory for an additional one, two or three (if not more) weeks, they do not receive compensation for that time when they are not working. There are not a lot of people in the working world who can easily handle a month off of work without pay. Many of these workers sought alternative employment closer to home, and as labor markets shift and additional fears of infection grew, many simply never went back to their previous factories.

Consider also that even in areas relatively clear of a health crisis, if they are reliant upon sub-components or parts for their production from factories located in the infected and quarantine zones, that they may simply stay closed because they don’t have enough parts to employ the workers who have come back to the factory.

That leads to another problem:

Quality and productivity reductions

After a long furlough and the need to hire many new workers — as even in good times an estimated 15 percent to 20 percent of all factory workers who leave for the Chinese New Year holiday do not return — under a crisis situation an additional 20 percent may seek alternative employment. This leaves many factories needing to find 40 percent to 60 percent of their workforce for replacements.

That means a massive training effort at a time when they will be pushing productivity hard to make up for the weeks of lost supply and revenue. We all know what happens when you have to train half of your workforce while simultaneously trying to ramrod production — quality problems will be widespread and that will further slow production. Indeed, in an effort to get product out the door so they can collect payment, some factories may be tempted to ship product knowing that there is a higher than acceptable degree of product defects, simply assuming that they will have to fix them later.

What happens when, slowly but surely, people in a crisis situation start to realize that while one or two of these effects might be a small ripple, the cumulative effects of supply chain delay, labor shortage, quality and productivity reductions, liquidity problems and other issues altogether (even in small measure) could be a pretty serious hammer blow to a North American business? All of these effects flow upstream, and the customers that are looking to you to supply high-quality product on time at competitive prices may understand that you are at the mercy of a health crisis on foreign shores, but it will not stop them from looking immediately for new sources of supply to give them alternatives and lead time.

But what happens when everyone does that all at the same time?

Large-scale simultaneous supply chain realignment

When this trickle of problems merge and start to impact companies outside of China, a lot of people start scrambling for solutions.

Immediate realignment of supply chains into countries less affected will probably be very difficult or impossible to achieve in the short term, as access to information, talent and materials locked in China will not be possible, even if there are production-ready facilities in other countries eager for your business. But rest assured that those other facilities are going to be besieged by hundreds of businesses just like yours, all trying to figure out what to do.

What can you do when the world goes off course?

Conserve product stock — Conserve your existing stock of products, and consider talking to key customers to see if they can accept lower volumes temporarily, to stretch out your current stock on hand to cover a longer delay than what is currently anticipated.

Locate existing alternative stock — If the nature of what you’re buying from China can be purchased off-the-shelf elsewhere, from U.S. domestic suppliers or possibly simply bought off-the-shelf of existing warehouse facilities, consider immediately purchasing a reasonable amount of stock and supplies in anticipation of further delay from your existing supplier base. Move fast and make decisions while product is still available.

Conserve capital — Consider temporarily slowing down non-critical plans so as to have available capital on hand, should payments expected from Asian customers fail to materialize or should your existing shipments to North American clients be compromised. You will need enough cash on hand to ride out the storm.

Take a pessimistic view toward optimistic forecasts — I have been traveling to China for over 32 years and I lived there for five years. I have practical, hands-on experience working there, and I have the greatest respect for the Chinese people and their capabilities. That said, there is a built-in inclination to project optimism and understate difficulties and challenges in production. Maintain a respectful and professional environment, but take their estimates about when they will be back to full production with a strong dose of skepticism. Add a little time to the forecasts so that you do not, in turn, project any unmerited optimism to your own customers.

Supply chain realignment and balancing — Consider just how many of these adverse effects of coronavirus could be avoided if critical components had multiple sources of supply spread throughout nations with equivalent labor rates and technological sophistication to China? Blue Water Growth has helped numerous clients find equivalent production at excellent prices in places like Malaysia, Thailand, the Philippines and Vietnam. For products requiring extremely high sophistication, consider also South Korea and Singapore. There are many places that have dramatically improved their production capabilities over the last two decades, that might now be fully able to deliver quality and volume at prices that are globally competitive.

Will having three separate suppliers in three separate countries of several critical elements of your supply chain add complexity and overhead to your operation? Without question, it will. At the same time, it gives you flexibility and the ability to shift production when various changes — natural, political or environmental — make certain areas untenable for production and require rapid shifts. Compared to locating qualified new suppliers and spinning them up on a wide range of complex products, it is extraordinarily easier to work with existing knowledgeable suppliers to slowly increase their product volumes over time, in products they already understand, with teams fully trained and in place.

I might add also that having multiple suppliers in multiple countries, even in good times, will allow you to constantly price check back and forth, so that the competitive pressures between these nations helps ensure that you are paying a fair and reasonable price for your products.

When a global crisis hits, if you hope for the best but are prepared for the worst, you can quickly take action and a little proactive preparation can be a lifesaver for your company.

 

David Iwinski Jr. is the managing director of Blue Water Growth, a global business consulting firm with extensive on-the-ground experience and expertise in Asia. Its services include merger and acquisition guidance, private capital solutions, product distribution, production outsourcing, and a wide variety of business advisory services for its Western and Asian clients.