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Supply Chain Disruptions and Corporate
            Performance


              Vinod R. Singhal
           College of Management
      Georgia Institute of Technology
             Atlanta, GA, 30332
   E-mail: Vinod.singhal@mgt.gatech.edu

                April 2011



                                          1
Some thoughts

โ€ข Without facts you are just another person with
an opinion
                       unless
you are at a level of the organization where your
opinion becomes fact.


โ€ข When research is limited or absent, anecdotes
prevail.



                                                    2
Agenda
โ€ข The financial consequences of supply chain
  disruptions
       - shareholder value
       - stock price volatility
       - profitability


โ€ข Drivers of supply chain disruptions.


โ€ข Implications for investors.


                                               3
Supply chain disruptions are frequent
โ€ข Disruptions due to natural disasters
      - Hurricane Katrina in USA
      - Volcanic eruption in Iceland
      - Floods in Australia
      - Earthquake in Japan

โ€ข Disruptions not due to natural disasters
      - Boeing Dreamliner
      - Toyota quality problems
      - Johnson & Johnson product recalls
      - BP Deepwater Horizon oil rig collapse

                                                4
Awareness about supply chain risks
โ€ข 70% of executives indicated that supply chain risks
have increased over the past three years, and will
increase over the next five years (McKinsey 2010).

โ€ข 75% of firms experienced unexpected production
hiccups in the last 12 months and 25% said the
problems are getting worse (Business Continuity
Institute survey 2010).

โ€ข Second most important issue (IBM 2009).


                                                  5
Obstacles to addressing risks

              60

              50         47

              40                         36            36
 % of firms




              30
                                                                       18
              20
                                                                                        14

              10                                                                                           6

              0
                   Insufficent time   Inadequate   Insufficient   Not a priority   No reason given   Not recognized
                                       personnel     budget




Survey done by Harris Interactive in 2005.                                                                      6
Consequences of disruptions
๏‚ง Lower Revenues

๏‚ง Higher costs

๏‚ง Poor asset utilization

๏‚ง Excess inventory, inventory write-offs, stockouts

๏‚ง Higher cost of capital/borrowing

๏‚ง Shareholder lawsuits

๏‚ง Management and personnel turnover

๏‚ง Loss of reputation and credibility, negative publicity
                                                           7
Sample
๏‚ง 1000+ announcements of supply chain disruptions
(production or shipment delays) from Wall Street Journal and
Dow Jones News from 1990 to 2007.

  - Apple Inc. said it will delay shipment of its Apple TV
    device until mid-March , Dow Jones News Service,
    February 27, 2007.

  - Sony to delay launch of Playstation3 because of
    manufacturing issuesโ€, The Wall Street Journal, October
    6, 2006.

  - Boeing has run into delays producing the latest military
    navigation satellites, Wall Street Journal, August 23,
    2006.
                                                             8
Stock market reaction to disruption announcements


                                                                            Perf ormance
                                        Portf olio Matched   Size Matched     Matched      Industry Matched
                                   0
 Average shareholder return (%)




                                   -2


                                   -4


                                   -6

                                                                               -6.81
                                   -8         -7.18             -7.17
                                                                                                -7.81

                                  -10
                                                                                                         9
Comparison with stock market reaction to other
                corporate events
Operational events                         Marketing events
Increase in capital expenditure     1.0%    Change in firm name         0.7%
Increase in R&D expenditure         1.4%    Brand leveraging            0.3%
Effective TQM implementation        0.7%    Celebrity endorsement       0.2%
Internal corporate restructuring    1.0%    New product introduction    0.7%
Decrease in capital expenditure    -1.8%    Affirmative action awards   1.6%
Plant closing                      -0.7%
Automotive recalls                 -0.5%



Information technology events              Financial events
 IT Investments                    1.0%    Stock splits                   3.3%
 IT problems                   -1.7%       Open market share repurchase 3.5%
                                           Proxy contest                  4.2%
                                           Increasing financial leverage  7.6%
                                           Decreasing financial leverage -5.4%
                                           Seasoned equity offerings     -3.0%

                                                                        10
Average stock returns over different intervals

                                                            On
                                         Year before   announcement   1st year after   2nd year after
                                    0
  Average shareholder return (%)




                                    -3                                                     -1.77



                                    -6

                                                          -7.18
                                    -9

                                                                         -10.45
                                   -12


                                           -13.68
                                   -15
                                                                                                    11
Average stock returns over three years

                                                                          Performance
                                       Portfolio Matched   Size Matched    Matched      Industry Matched
                                  0
Average shareholder return (%)




                                 -10


                                 -20


                                 -30
                                                                            -32.21
                                                              -34.77
                                 -40                                                         -38.40
                                            -40.66

                                 -50

                                                                                                      12
Volatility changes

                                   75
Annualized Equity Volatility (%)




                                   70

                                   65
                                                                                                                Disruptions
                                                                                                                Control Sample
                                   60

                                   55

                                   50
                                        -24   -20   -16   -12    -8   -4         1       5   9   13   17   21
                                                                           Event Month


       On average 21% increase in volatility
                                                                                                                     13
Broader perspectives

๏‚ง S&P 500 has returned about 12% annually over the
 last 15 years.

๏‚ง Major disruptions are associated with 35%
 underperformance in stock returns.

๏‚ง One major disruption every 10 years โ€“ average
 return of 9%




                                                  14
Profitability impacts of disruptions


                                              Performance Measures
                         Operating Income        Return on Sales     Return on Assets
                   0

                  -20
Percent change




                  -40                                    -32.02
                                     -42.27                                     -35.82
                  -60                                                                    Mean
                                                                                         Median
                  -80

                 -100                                                  -92.24
                           -107.43
                 -120                             -114.67

                 -140

                                                                                             15
Summary
โ€ข Disruptions cause significant destruction in corporate
  performance.

โ€ข It does not matter who or what caused the disruption
  โ€“ you still pay.

โ€ข Small firms suffer more from disruptions.

โ€ข Firms do not quickly recover from disruptions.



                                                   16
Are supply chains more prone to disruptions
                    today?
โ€ข Globalization of supply chains

โ€ข Increased reliance on outsourcing and partnerships

โ€ข Single sourcing

โ€ข Over-concentration of operations

โ€ข Little slack in the supply chain โ€“ focus on efficiency

โ€ข Competition

                                                     17
Why enough attention is not paid to the
           possibility of disruptions?
โ€ข Consequences are not known

โ€ข Low frequency events

โ€ข Resource shortages

โ€ข Requires cross-functional effort

โ€ข Short tenure of managers

โ€ข You donโ€™t get credit for fixing problems that never
  happened

โ€ข You have not experienced one                      18
Implications
๏‚ง Supply chain disruption experiencing firms are
 torpedo stocks

๏‚ง Sell or hedge these stocks.

๏‚ง Supply chain risk analyses should be an important
 part of stock recommendations and selections.

๏‚ง Educate firms about the consequences of supply
 chain risks.

๏‚งServe as a catalyst to motivate firms to be proactive
 in mitigating supply chain risks.

                                                   19
Final Thoughts

โ€ข Can you afford the risk of a major supply chain
disruption?


โ€ข What is the easiest way to create shareholder
value or make money? Stop losing it!




                                                    20

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Supply Chain Disruptions and Corporate Peformenace

  • 1. Supply Chain Disruptions and Corporate Performance Vinod R. Singhal College of Management Georgia Institute of Technology Atlanta, GA, 30332 E-mail: Vinod.singhal@mgt.gatech.edu April 2011 1
  • 2. Some thoughts โ€ข Without facts you are just another person with an opinion unless you are at a level of the organization where your opinion becomes fact. โ€ข When research is limited or absent, anecdotes prevail. 2
  • 3. Agenda โ€ข The financial consequences of supply chain disruptions - shareholder value - stock price volatility - profitability โ€ข Drivers of supply chain disruptions. โ€ข Implications for investors. 3
  • 4. Supply chain disruptions are frequent โ€ข Disruptions due to natural disasters - Hurricane Katrina in USA - Volcanic eruption in Iceland - Floods in Australia - Earthquake in Japan โ€ข Disruptions not due to natural disasters - Boeing Dreamliner - Toyota quality problems - Johnson & Johnson product recalls - BP Deepwater Horizon oil rig collapse 4
  • 5. Awareness about supply chain risks โ€ข 70% of executives indicated that supply chain risks have increased over the past three years, and will increase over the next five years (McKinsey 2010). โ€ข 75% of firms experienced unexpected production hiccups in the last 12 months and 25% said the problems are getting worse (Business Continuity Institute survey 2010). โ€ข Second most important issue (IBM 2009). 5
  • 6. Obstacles to addressing risks 60 50 47 40 36 36 % of firms 30 18 20 14 10 6 0 Insufficent time Inadequate Insufficient Not a priority No reason given Not recognized personnel budget Survey done by Harris Interactive in 2005. 6
  • 7. Consequences of disruptions ๏‚ง Lower Revenues ๏‚ง Higher costs ๏‚ง Poor asset utilization ๏‚ง Excess inventory, inventory write-offs, stockouts ๏‚ง Higher cost of capital/borrowing ๏‚ง Shareholder lawsuits ๏‚ง Management and personnel turnover ๏‚ง Loss of reputation and credibility, negative publicity 7
  • 8. Sample ๏‚ง 1000+ announcements of supply chain disruptions (production or shipment delays) from Wall Street Journal and Dow Jones News from 1990 to 2007. - Apple Inc. said it will delay shipment of its Apple TV device until mid-March , Dow Jones News Service, February 27, 2007. - Sony to delay launch of Playstation3 because of manufacturing issuesโ€, The Wall Street Journal, October 6, 2006. - Boeing has run into delays producing the latest military navigation satellites, Wall Street Journal, August 23, 2006. 8
  • 9. Stock market reaction to disruption announcements Perf ormance Portf olio Matched Size Matched Matched Industry Matched 0 Average shareholder return (%) -2 -4 -6 -6.81 -8 -7.18 -7.17 -7.81 -10 9
  • 10. Comparison with stock market reaction to other corporate events Operational events Marketing events Increase in capital expenditure 1.0% Change in firm name 0.7% Increase in R&D expenditure 1.4% Brand leveraging 0.3% Effective TQM implementation 0.7% Celebrity endorsement 0.2% Internal corporate restructuring 1.0% New product introduction 0.7% Decrease in capital expenditure -1.8% Affirmative action awards 1.6% Plant closing -0.7% Automotive recalls -0.5% Information technology events Financial events IT Investments 1.0% Stock splits 3.3% IT problems -1.7% Open market share repurchase 3.5% Proxy contest 4.2% Increasing financial leverage 7.6% Decreasing financial leverage -5.4% Seasoned equity offerings -3.0% 10
  • 11. Average stock returns over different intervals On Year before announcement 1st year after 2nd year after 0 Average shareholder return (%) -3 -1.77 -6 -7.18 -9 -10.45 -12 -13.68 -15 11
  • 12. Average stock returns over three years Performance Portfolio Matched Size Matched Matched Industry Matched 0 Average shareholder return (%) -10 -20 -30 -32.21 -34.77 -40 -38.40 -40.66 -50 12
  • 13. Volatility changes 75 Annualized Equity Volatility (%) 70 65 Disruptions Control Sample 60 55 50 -24 -20 -16 -12 -8 -4 1 5 9 13 17 21 Event Month On average 21% increase in volatility 13
  • 14. Broader perspectives ๏‚ง S&P 500 has returned about 12% annually over the last 15 years. ๏‚ง Major disruptions are associated with 35% underperformance in stock returns. ๏‚ง One major disruption every 10 years โ€“ average return of 9% 14
  • 15. Profitability impacts of disruptions Performance Measures Operating Income Return on Sales Return on Assets 0 -20 Percent change -40 -32.02 -42.27 -35.82 -60 Mean Median -80 -100 -92.24 -107.43 -120 -114.67 -140 15
  • 16. Summary โ€ข Disruptions cause significant destruction in corporate performance. โ€ข It does not matter who or what caused the disruption โ€“ you still pay. โ€ข Small firms suffer more from disruptions. โ€ข Firms do not quickly recover from disruptions. 16
  • 17. Are supply chains more prone to disruptions today? โ€ข Globalization of supply chains โ€ข Increased reliance on outsourcing and partnerships โ€ข Single sourcing โ€ข Over-concentration of operations โ€ข Little slack in the supply chain โ€“ focus on efficiency โ€ข Competition 17
  • 18. Why enough attention is not paid to the possibility of disruptions? โ€ข Consequences are not known โ€ข Low frequency events โ€ข Resource shortages โ€ข Requires cross-functional effort โ€ข Short tenure of managers โ€ข You donโ€™t get credit for fixing problems that never happened โ€ข You have not experienced one 18
  • 19. Implications ๏‚ง Supply chain disruption experiencing firms are torpedo stocks ๏‚ง Sell or hedge these stocks. ๏‚ง Supply chain risk analyses should be an important part of stock recommendations and selections. ๏‚ง Educate firms about the consequences of supply chain risks. ๏‚งServe as a catalyst to motivate firms to be proactive in mitigating supply chain risks. 19
  • 20. Final Thoughts โ€ข Can you afford the risk of a major supply chain disruption? โ€ข What is the easiest way to create shareholder value or make money? Stop losing it! 20