Supply Chain Failures: “We have met the enemy, and it is us!”

11 Million containers arrive at US ports annually, and almost all of them are carrying products to be sold to US consumers; many are products the US used to produce domestically.

"The supply chain is broken. Poor Lisette (not the real name). Her role as Purchasing Manager for the Southeastern Region has been a nightmare lately. The Sales team, Upper Management, Ownership are all up her butt. And they all know the reality, but they still have to have someone to grind down, so Lisette is catching the heat," the voice radiated concern over the phone connection.

This was a colleague catching up recently, and after the personal family updates, it moved toward our shared experience working together for a major player in the distribution channel for many years. 

With extreme empathy for the purchasing professional facing an onslaught of complaints about the daily backorder report, it should be noted that a great deal of the supply chain consternation can probably be laid at the feet of those using it as an excuse as to why the wholesale, distribution and consumer channels are unable to find the products they're looking for on a daily basis. A large portion of the problems being experienced should be assigned to internal factors, like poor decision making, mostly in the pursuit of greater profits, made by the manufacturers of the products that are now in short supply. They will blame it on COVID decimating their production lines, or lack of truckers to fill the distribution lanes or the shipping container offloading delays at various ports. But those are simplistic and easy scapegoats for decisions they made in the past, sometimes decades ago, that are now emerging, like boils that fester under the surface of skin from an infection months before, and then erupt as a painful, unsightly blemish requiring urgent attention. But in this case, the urgent attention is being felt by their supply partners, and after offering their weak excuses, the manufacturers retreat to their lairs and hope the boils magically disappear.

In the wholesale supply channel of disposable packaging used by foodservice operators, caterers, packer/processors and grocery stores, the disruption to the supply chain has been particularly painful for distributors and by extension, their customers. From paper bags to hinged lid containers to plastic cups and even drinking straws, foodservice and grocery operators have been regularly challenged in securing these packaging items. And conceding it is true, that most of these items end up being thrown away after one use, it is with no less a sense of irony that the most appropriate quote that keeps surfacing about the supply chain issues being felt in this industry segment today, is one that appeared over 50 years ago in 1971, on Earth Day no less, as an anti-pollution statement. Walt Kelly's popular and topical syndicated daily comic “Pogo,” on a special strip for that day, offered this lament by the title character, the anthropomorphic possum, Pogo: "We have met the enemy and he is us."  Of course, Pogo was commenting on the state of the world's pollution. In the context of the current supply chain, the statement might refer to the decisions, most often driven by greed (and regularly encouraged by venture capital/private equity) made by the manufacturers themselves, now being victimized by disruptions that have been caused by their earlier decisions.

Some perspective: In the very early 1980s, the paper, plastics, allied product disposable packaging industry was heavily influenced by entrepreneurial enterprises in both the manufacturing channel and the distribution channel. In many cases, these were founded as family businesses, or close partnerships between entrepreneurs seeking through hard work, long hours and dedication to building outstanding relationships with both customers and vendors, to develop a successful enterprise with a formidable reputation and to garner respect among peers. As their success grew, their sphere of influence grew likewise and often the scope of their business operations increased in geography and offerings. Soon many of the manufacturers went from local to regional to national profiles and as they moved into new territories, they found new opportunities built on the new trends predicated on the new customer base they were encountering

The manufacturers found new distribution partners as their product mix grew and as their service area expanded. Welcoming new distributors into their fold, they learned of new or different product needs and uses. As entrepreneurs, they were excited to capture new market share and new innovations; this was their milieu. And the ability to pivot, to innovate, to experiment, to invent and to deliver new concepts and new ideas was how many of these suppliers and manufacturers became the top tier vendors in the industry.

Another consequence of their drive for new territories and new innovations was the expansion of their manufacturing operations, their sales initiatives, and their logistics engagements. This also meant an expansion of their headcount and their payroll. This expansion included production line workers, drivers, engineers, but the growth of administration, management, customer service was also necessary. In short, the family business that may have started on a shoestring had grown into an impressive industry business enterprise.

With that expansion, there were also greater expense loads to consider. Expense to Sales ratios needed to be driven down wherever possible to build incremental earnings. Invariably, labor as a component of the cost of production, regardless of industry channel (manufacturer or distributor, retail or service sector) was one of the most glaring figures in the financial reporting. Raw materials were also a key factor in the cost of production and eventual cost of goods. As the global economy became more accessible, the formerly regionally acclimated entrepreneurial businesses, started expanding their procurement horizons for raw material in advance of expanding their revenue stream through geographical growth. This strategy of seeking lower cost raw material alternatives from offshore suppliers often meant some compromises in terms of quality and control of the resource, but the potential enhancement of profitability, sometimes an extreme improvement, quite often made these possible quality compromises less bothersome, even for the most ardent of entrepreneurs, who regularly built their mission statement around promises of quality.

As these manufacturers began relying more heavily on offshore manufacturing and supply solutions, their profits did begin to improve in most cases. The middle tier of manufacturers, leveraging opportunities accessed through lower cost production alternatives, began to capture the attention of their larger competitors. So in the midst of the relocation of much of the manufacturing capabilities to foreign soil (very often, that soil being China, particularly as Communist China began opening up to having US companies invest in the manufacturing sectors built in China during the 1990s), there was also a period of acquisition and consolidation. These family businesses, founded by entrepreneurs were being confronted by offers they found difficult to refuse. Bigger competitors or concerns seeking to diversify found investment capital and acquired the customer base, the receivables, the product catalog, the research and expertise and maybe most importantly, the intangible asset of the goodwill of the business' identity. 

Fast forward two or three decades to the current supply chain dilemma. In the 1980s, there were a dozen or so suppliers of paper grocery bags and sacks. There were as many or more suppliers of disposable plastic cutlery. There were numerous producers of plastic straws and a few suppliers that offered paper straws. Can liners and poly bags, flexible packaging items, were produced by a multitude of suppliers, large and small, local, regional and national. And almost all but a few, were manufactured by concerns that started out quite often as entrepreneurial family businesses. They employed long tenured local labor resources, where upward mobility was commonplace, not an exception. The line worker running the production line for bags today, might be the Operations Manager in a few years, and the Sr VP of Operations a decade later. Truck drivers, became account managers and maybe even the VP of Sales. People in these organizations cross trained and wore several hats; this was the milieu of these tight margin, entrepreneurially focused enterprises. 

But as acquisitions continued, an eye toward consolidation in the name of efficiency began to emerge. The necessity for more oversight, more management and often, more capital resources to fund the expansions inevitably drew the attention of fund managers, venture capitalists, private equity who saw the usually cash liquid businesses as strong investment opportunities. The offers to the business owners of capital funding, as though holding a blank check ready for the business owner to fill out for any amount necessary, were rarely passed up. 

There were conditions however, with each check cashed. As the private equity team engaged with the original ownership team, they began looking at the opportunities to shed unprofitable portions of the business model (including some of the customer list), as well as resources that represented unfavorable expense to earnings ratios. The face of the original business slowly changed from a smiling one that was friendly with and loyal to long standing customers and employees, to one that was more taciturn and circumspect, a visage with stony resolve in the process of analyzing the profitability of the local independent customer base when measured against the activity cost associated with servicing the account. Similar concepts led to the development of metrics to assess the productivity of the workforce, who were now being pressed to build efficiencies, rather than better mousetraps. The days of 30 year customers and 30 year employees was coming to a close.

The continued attention to cutting costs to enhance profits, began to create pressure to find new sources for raw materials in the supplier sector. There was also continued scrutiny on costs of production, most notably the cost of labor. This all coincided with the rapid expansion of global markets for both raw materials and labor, as well as the growth of industrialization in foreign countries. Soon there were opportunities to build production facilities for a fraction of the cost than those being built domestically, and these new facilities usually had access to an inexpensive labor pool. In fact, the costs of the raw materials, the costs of manufacturing machine time and the costs of labor were so advantageous, that the logistic expenses to get the product from across an ocean, or over a land border, were offset in multiples by the production cost savings. A gradual migration of equipment, tools, dies, machinery from US production facilities to offshore production plants started quietly. But as the newly manufactured product arrived at the ports, the private equity accountants wanted to see a quick return on their investments, so they ensured that their new "lower cost" products were marketed to sell quick and sell in volume. As domestic competitors were quickly priced out of the market, they had to take stock of their manufacturing production models, and to stay competitive, many joined the caravan of domestic manufacturers relocating their production to offshore facilities, using offshore labor and offshore raw materials. They really had little choice in the matter, as often the savings to be gained in this migration, were multiples of their former profit margin targets. 

So where there used to be a dozen manufacturers of paper bags, soon there were two major names. Where there were two dozen plastic cutlery manufacturers, the production lines dwindled to a small cadre of specialty suppliers. Where there were scores of flexible packaging, can liner and poly bag manufacturers, there are now a handful, and many of those are supplementing their production with offshore inventory. 

But the stories of this industry, one that has been experiencing supply chain disruption with the same severity as others, worse than many, but less than some, are not truly unique. We watched steel production depart decades ago, and with it the vibrancy of some of our key metropolitan areas. Technology providers, produce farming, auto manufacturers, cosmetics, the garment industry and countless others have all adopted the strategy, as well. 

Besides the jobs that are lost through this migration, there are other less tangible elements that slip away too. Quality control and assurance is much more difficult to manage when the manufacturing location of the product is thousands of miles away, on a different continent in many instances. When companies were running a production line in the same community that the product was being sold, that product available for sale mere hours after coming off the production line, the company ethos often ensured the quality of effort and the resultant output was something that they could all be proud of. When the product is being produced several weeks prior to the product being loaded onto a shipping container and then weeks in transit before it wends its way through the supply chain, a lapse of quality may not be discovered until several months after the actual production date. By then, little recourse is available, and consumers are often provided with little more than platitudes and shoulder shrugs. The company's production managers are often confronted with a problem that occurred three months prior, but only evident to them today. Once aware of the problem, in the time required to correct the production line issue, months after the problem originally surfaced, and then replace the product in the marketplace, there is a strong likelihood that confidence may wane, from the sales bullpen to the boardroom and certainly in the ranks of their customers.

These are the considerations of these situations in the best of times. Now imagine what can happen when confronted with a rising tide of demand starting about four years ago, well in advance of the COVID pandemic. Add to this element, the reality that a severe shortage of over the road truck drivers was becoming more alarming. Shipping container shortages were being reported by the key ocean shipping lane carriers over the past couple of years and during that same time frame the cost for shipping to the US has spiked severely. So delays at ports were already becoming problematic before COVID, but the onset of the pandemic ramped these delays, creating the massive reporting of even longer delays contributing to product shortages across all market segments.          

It is not easy to draw a straight line from the migration of domestic manufacturing to offshore solutions predicated upon significantly more attractive cost equations and enhanced profits directly to the current disruptions. Nor is it easy to place the blame completely on the infusion of venture and private equity capital that helped fuel consolidation acquisitions or relocation decisions. But these eventualities certainly played a hand in constraining the flexibility of the domestic supply chain solutions, especially as more reliance was placed offshore for inventory replenishment. 

The customer, perhaps a business awaiting finished goods to supply to their customers, or maybe a homeowner awaiting an appliance, or a new car buyer, awaiting the arrival of the technology module necessary to complete the build of their automobile are all at the mercy of the supply chain. In some cases, the wholesales and/or distributor unable to complete the sale to their customers, is impacting their customers' ability to serve their patrons. All of these represent lost sales, lost revenue and lost earnings. These elements have an impact on consumer confidence and that can have even greater economic implications.

When we backtrack to the root cause of the supply chain problem however, we may be confronted (depending on where we align ourselves within the chain) with the harsh reality that it was our decisions, our actions and our acceptance of the market trends that led to the state of the supply chain today. Did we move our manufacturing from our community to an offshore solution? Did we agree to buy finished goods that were produced at lower costs in offshore facilities, using cheap or even exploited labor resources, in an effort to garner higher profits? Or were we confronted with competitive market prices, and felt compelled to eschew higher priced domestic options, afraid that customers would balk at playing more for domestically manufactured goods? Once the market prices adjusted to the lower cost alternatives, it would be hard to reverse the momentum, and reliance on the offshore stream of supply would be set.

Of course, as long as nothing posed an obstruction to raw material sourcing, production scheduling, manufacturing or transportation and logistics, these choices to engage with offshore suppliers might have been considered prudent business decisions. Only when confronted with demand spiking beyond supply capabilities or the ability to supply in a timely manner (a weak link in the offshore supply model at times), do concerns arise over the offshore supply strategy. But when all of the aforementioned elements, raw material sourcing, production scheduling, etc were severely impacted by the COVID pandemic, one may certainly appreciate the precariousness of the offshore supply chain strategy.

But the tools for local solutions had already been shipped overseas and the desire for less expensive products was unabated. There may be a realization that the the cost to rebuild the production facilities domesticallly, as well as the cost to rebuild the workforce necessary to run the facilities, might be prohibitive to the current roster of manufacturing concerns. In effect, the die has been cast and in some ways, the market's fate may have been sealed...by us.