Aligning incentive in Supply Chain.pdf

HBR Spotlight The 21st-Century Supply Chain A supply chain stays tight only if every company on it has reasons to pull in the same direction. by V.G- Narayanan and Ananth Raman Aligning nee in Supply Chains W all Street still remembers the day it heard that Ciscos much- vaunted supply chain had snapped. On a mad Monday, April 16, 2001, the worlds largest network-equipment maker shocked inves- tors when it warned them that it would soon scrap around $2.5 bil- lion of surplus raw materials-one ofthe largest inventory write-offs in U.S. busi- ness history. The company reported in May a net loss of $2.69 billion for the quarter, and its share price tumbled by approximately 6% on the day it made that announcement. Cisco was perhaps blindsided by the speed with which the United States had advanced into recession, but how could this paragon of supply chain management have misread demand by $2.5 billion, almost half as much as its sales in the quarter? Experts blamed the companys new forecasting software, and ana- lysts accused senior executives of burying their heads in sockets, but those experts and analysts were mostly wrong. In truth, Cisco ended up with a mountain of subassembly boards and semicon- ductors it didnt need because ofthe way its supply chain partners had behaved in the previous 18 months. Cisco doesnt have production facilities, so it passes orders to contract manufacturers. The contractors had stockpiled semifinished products because demand for Ciscos products usually exceeded supply. They had an incen- tive to build buffer stocks: Cisco rewarded them when they delivered supplies quickly. Many contractors also boosted their profit margins by buying large vol- umes from component suppliers at lower prices than Cisco had negotiated. Since the contractors and component makers had everything to gain and nothing to lose by building excess inventory, tbey worked overtime to do so without worrying about Ciscos real needs. 94 HARVARD BUSINl SS REVIEW The 21st-Cen