Designing the Right Global Supply Chain Network - 2019
Designing the Right Global Supply Chain Network
Morris A. Cohen
The Wharton School, University of Pennsylvania
Hau L. Lee
Graduate School of Business, Stanford University
March 29, 2019
Abstract: This paper considers how research in Operations Management can support the
development of strategies for the design and management of global supply chains. It includes a
model-based statement of the problem and an overview of highlights of past research that is
relevant to both theory and practice. The paper identifies opportunities for research that focus
on how global supply chain modeling can inform the current debate concerning the reaction of
firms to changes in government policy that are relevant to global manufacturing and logistics.
This includes policy changes such as tariffs, content requirements, taxes and investment
incentives.
1. Introduction and Motivation
The global economy is in the midst of major upheavals that affect global supply chain
strategy in every industry. Today, firms are facing enormous pressure to re-structure, re-design
and re-think where and how products are produced, inputs are sourced and customer demand is
fulfilled. The drivers for this change include all of the usual factors such as market volatility,
cost differentials and technology disruption. Additionally, there are unknowns concerning
government policies which affect both cross-border trade and local processes. This has led to the
current situation where we are experiencing a trade war, with governments looking to optimize
the domestic portion of the supply chains that operate in their jurisdiction. At the same time,
accompanies are striving to optimize their particular global supply chains which operate in
multiple jurisdictions and which generate extensive cross-border flows of goods, money,
information and control.
The focus of this paper is on how these forces could guide the research on the design and
management of global supply chains, given the past three decades of operations management
research and applications. In addition to formulating a model-based statement of the problem
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and to providing an overview of highlights of past research, we will consider current challenges
and trends which suggest new opportunities for both research and practice. Our particular focus
will be on how global supply chain modeling can inform the current debate concerning how
firms should modify their global supply chain strategy in response to changes in government
policy.
First, let us define the key elements of a global supply chain strategy. The goal, as in all
supply chains, is to match supply with demand, but on a global scale. This is achieved through
a hierarchy of decisions that determine material flows, capacities and capabilities at each
manufacturing and stocking location, as well as cash flows and technology investments. These
decisions jointly determine the landed cost for every product/customer destination combination
as well as the total cost of ownership, both of which are keys to customer acceptance and market
share. Tradeoffs that must be considered include all fixed and variable costs, revenues that drive
global after-tax profit, as well as metrics related to customer satisfaction, service and competitive
position. In addition, resource constraints based on the capacity and capabilities of all valueadding processes, at all stages in the product life cycle (i.e. design, produce, fulfill, support),
must be satisfied. Finally, there are the constraints imposed by government policies within each
country of operation. While many objective functions can be formulated for the global supply
chain strategy problem, (e.g. maximize global, after-tax profit, maximize corporate market value,
increase growth, etc.,), most major companies also recognize that their global supply chains can
act to mitigate the many risks they face as they operate globally. These risks include foreign
exchange rate fluctuation, market demand and price volatility, uncertainties in trade policies, and
decisions made by their competition. As noted, the focus of this paper will be on the responses
associated with government policy changes such as adjustments to tariffs, import and export
quotas, investment credits and incentives, cash flow restrictions and foreign ownership
limitations.
2 Challenges and Trends
It is instructive to note some of the current challenges associated with the management of
global supply chains that firms are facing as we evaluate the relevance of the current state of
operations management research. As globalization has become pervasive, suppliers have
pursued global markets and most companies source extensively from global suppliers. This has
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led to an increase in outsourcing and a corresponding decline in vertical integration. As a result,
supply chain networks have become more complex and both first and lower tier suppliers are
playing a more important role in many industries. A recent reaction to this re-structuring of
supply chains has been increased interest in re-shoring, especially in the US and other developed
economies, where there is pressure to re-examine sourcing strategy and to promote ¡°bringing
manufacturing back¡± (or at least closer) to home. As supply chain re-structuring has accelerated,
we observe increased volatility of costs and demand. At the same time, more emphasis is now
given to product quality and labor relations. Other factors which must be considered include the
need to mitigate the impact of supply chain disruptions-caused by both economic and political
events, and the rising expectations for end-to-end product support services which has led a
movement towards incentive aligned, performance-based contracting. Finally, technology
developments now affect product design, production processes and the management of
production and service-support supply chains. Some of these technological developments are
expected to be highly disruptive (e.g. industry 4.0, Internet of Things, blockchain, and robotics,
etc.). This disruption will occur in part due to the possibility for increasing coordination through
the leverage of enhanced data sharing and visibility, and through enhanced integration of
decision making among supply chain partners. Finally, we note that supply chain strategy has a
major impact on a firm¡¯s carbon footprint, energy consumption, waste and recycling and end-oflife disposal. Such environmental considerations also must be considered.
We argue that firms today are facing a crisis, created by all of the challenges note above.
Firms have found that facing these challenges is unavoidable as they will have a major impact on
their competitive success and the welfare of countries in which they do business. The question
concerning how companies are responding or should be responding to the current crisis is now
hotly debated and has become highly politicized. In particular, there is a debate about re-shoring
to the US, Japan, Europe and/or other developed countries. Is it a real phenomenon that will
revive domestic manufacturing and service industries or has it yet to occur on a scale that will
restore domestic manufacturing employment in the developed economies? The decline in
employment in manufacturing industries in the US and other developed economies has been
underway for some time and is typically attributed to major cost differences for labor. The
potential impact of disruptions due to government policy changes is unknown. Figure 1
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illustrates historical employment data (in thousands) for the US which is representative for all
developed economies.
Figure 1: US Employment in Manufacturing Industries
We recently conducted a detailed benchmark survey of manufacturing sourcing decisions
(see Cohen et al., 2018). One of its key findings was that many firms were adopting new global
supply chain strategies and were re-structuring their supply chains in response to fundamental
changes in their environment (costs, markets, suppliers, and technology, etc.). The common
wisdom, as reported in the press, tries to explain this restructuring as a response to a dominant
factor such as the pursuit of lower labor costs or as a reaction to changes in tariffs or government
incentives. Our survey results indicated that companies were re-defining their global supply
chain footprint in a manner which considered the complex tradeoffs of multiple factors along
with risk factors associated with global supply chains. This is consistent with the operations
management modeling literature, which has formulated the global strategy problem in terms of
models that capture many of the interactions and tradeoffs that are relevant to the problem.
The survey also noted the following trends in production sourcing decisions.
1. China continued to be the most attractive region for production sourcing. However, cost
was not the sole driving force. Market access, quality and supply chain performance have
emerged as dominant drivers for increasing production volume in China.
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2. In the opposite direction it was primarily labor cost that drove companies out of China to
lower cost locations like ASEAN countries.
3. Eastern Europe and Russia was the second most attractive region for offshoring.
Especially Western European countries used near-shore cost advantages.
4. Western Europe was the region with the largest outflow of production volume and one
out of only two with a negative net-effect on production volume in our sample. Yet,
machinery companies still invested in capital-intensive production in Western Europe
5. For North America, a growth in production volume can be observed with more
companies investing than divesting.
6. Only Asian firms with a strong commercial focus on Japan and ASEAN countries
increased production volume in Japan while even more firms shifted production from
Japan in light of the recent natural disaster
These observations suggest that outsourcing to low labor cost countries continues to be a
favored strategy in certain industries in spite of government policies and incentives to promote
domestic manufacturing and/or restrict outsourcing. Some argue that technology (e.g. robotics,
3-D printing, social networks) will tip the balance between offshoring and reshoring.
The reported multi-dimensional decision drivers and the resulting complex pattern of
supply chain sourcing is consistent with the operations management modeling literature. An
early formulation of the problem is due to Cohen and Lee (1989), who introduced a constrained
optimization model that derived both inbound and outbound material flows as well as customer
and supplier sourcing and production capacity utilization. An interesting observation in this
paper is the discussion of particular component strategies associated with a firm¡¯s overall global
supply chain strategy. These component strategies include:
Plant Charter Strategies
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Consolidation at either a regional or global level for the full product line. This strategy
has important implications for market, product quality and customer service.
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Product Focus which specializes for a particular class of products and which leverages
economies of scale and avoids diseconomies of scope. Distribution costs will increase
under this strategy.
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