- Industries experience month-long disruptions every 3.7 years on average
- Companies can expect supply chain disruptions to erase 40 percent of a year's profits over the course of a decade on average—and extreme events take an even bigger toll
- Up to a quarter of global trade flows could move to different countries over the next five years if companies restructure their supplier networks and governments take action. But moving supply chains is not the only way to build resilience
NEW YORK, Aug. 6, 2020 /PRNewswire/ -- Disruptions that affect global manufacturing—from natural disasters to cyberattacks and trade disputes—have become more frequent and more severe. Now, in light of the COVID-19 pandemic, companies and policy makers alike are reconsidering how to make production networks more resilient.
The stakes are high, according to Risk, resilience, and rebalancing in global value chains, a new report from the McKinsey Global Institute (MGI). MGI analyzed 23 industry value chains to assess their exposure to specific types of shocks, including pandemics, conflicts, cyberattacks, trade wars, natural disasters, and climate risks. Industries have different exposure to these shocks based on their geographic footprint, factors of production, and other variables.
Based on the frequency and cost of disruptions, MGI scenarios show companies in most industries can expect shocks to erase 45 percent of one year's EBITDA on average over the course of a decade. A single extreme event could cause even bigger financial losses. On top of this bottom-line impact comes the additional cost of rebuilding damaged physical assets, losing market share to competitors that are able to sustain operations, and significant societal harm such as loss of life, loss of jobs, shortages of critical goods, and damage to communities.
Geographic concentration can often produce supply chain bottlenecks when a shock hits. MGI finds 180 goods that are exported primarily from just one country, worth $135 billion in trade annually. Another issue is that large multinationals can have thousands of suppliers—but most have little visibility beyond the top tier of those tightly interconnected networks.
Between 15 and 25 percent of global trade flows could move in the medium term
Will companies restructure their supply chains as part of a flight to safety? Yes and no, the report finds. There is an economic logic behind the way industry value chains have evolved. Given the scale, complexity, and interconnectedness of value chains, they are harder to move than is commonly realized.
MGI estimates that 15 to 25 percent of global goods exports, worth $2.9 trillion to $4.6 trillion annually, could conceivably move to new countries over the next five years. This is based on both economic factors, such as the cost of relocating production, and non-economic factors, such as governments changing policy to promote domestic production of goods deemed essential or important to national economic security.
"The prospect of a significant geographic rebalancing in global supply chains represents a risk for the companies and countries that might lose out—but a potentially significant opportunity for those that manage to capture a share of this production. This could have important consequences for future growth and employment," says Susan Lund, a partner at the McKinsey Global Institute. "But supply chains involve thousands of independent firms, reflecting specialization, access to consumer markets around the world, substantial sunk costs, and long-standing relationships. Relocating is not a simple task."
To attracting more production, countries need to develop strong supplier ecosystems, specialized workforce skills, robust infrastructure, and an attractive business environment.
Companies can take a wide range of actions to build resilience—and many do not sacrifice efficiency
There is more to resilience than changing where goods are made, however. Operational choices and the structure of a company's supplier network can heighten or lessen vulnerability to disruptions. Common practices such as sourcing from a single supplier, relying on customized inputs with few substitutes, and carrying substantial debt can magnify the financial impact of a shock if they are not calibrated to account for current levels of risk.
Among the steps companies can take are mapping the sub-tiers of their supply chains in detail and connecting them digitally for better transparency; building the capacity to flex production across multiple sites; holding more inventory; and strengthening their balance sheets.
The COVID pandemic is prompting action at a time when cost structures are changing across countries and revolutionary digital technologies are gaining traction in global manufacturing.
"Supply chain shocks are not a new phenomenon, but the COVID experience has made companies realize that they have to do more to minimize their risk," says Katy George, senior partner and global leader of McKinsey's operations practice. "In the past, resilience has often come at the cost of efficiency. But that no longer has to be true. Now companies have new tools at their disposal to make their operations more flexible and more agile. With these tools, they can become more resilient and more productive."
About MGI The McKinsey Global Institute (MGI), the business and economics research arm of McKinsey, was established in 1990 to develop a deeper understanding of the evolving global economy. MGI's mission is to provide leaders in the commercial, public, and social sectors with the facts and insights on which to base management and policy decisions. MGI research combines the disciplines of economics and management, employing the analytical tools of economics with the insights of business leaders. Its "micro-to-macro" methodology examines microeconomic industry trends to better understand the broad macroeconomic forces affecting business strategy and public policy. The partners of McKinsey fund MGI's research; it is not commissioned by any business, government, or other institution. For further information about MGI and to download reports for free, please visit www.mckinsey.com/mgi
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