Global supply chains under huge pressure due to ‘manufacturing deserts’

THE Covid-19 pandemic has produced an unprecedented global supply chain crisis, stemming from a lack of mapping and flexibility around the multiple layers of global supply chains and a lack of diversification in sourcing strategies, according to Baker McKenzie and Oxford Economics’ report: Beyond Covid-19: Supply Chain Resilience Holds Key to Recovery.

However, on a positive note, the report forecast that the hardest-hit manufacturing sectors across the world will also be the first to recover by first half of 2021 as a release in pent-up demand will be driven by a recovery in sentiment, and production ramps up to make up for previously lost output.

The current global supply chain crisis is due primarily to the pandemic creating temporary “manufacturing deserts”, whereby a city, region or whole country’s output dries up so substantially that they become a no-go zone to source anything apart from essential items such as foodstuff and pharmaceuticals.

The report highlights that the immediate impacts of a failing global supply chain are already being felt, from auto plants in Korea shutting down because of a lack of parts from China to smartphone manufacturers running dangerously low on components.

As a result, global trade is expected to have fallen by more than 4% in the first quarter of 2020, and decline even further in the second quarter.

Baker McKenzie global chair, international commercial & trade Mattias Hedwall explained the serious implications on global supply chains: 

“It is clear that the extended shutdown of parts of the world’s economy is now feeding through to impact supply chains as existing stocks are depleted. Businesses need to focus on how to minimise supply chain disruption and to adjust rapidly to a changing landscape. This includes, among others, infrastructure, tax and employment implications of changes and the option of quickly reversing changes if the situation stabilises quickly.”

Impact on manufacturing sector globally

While there remain a number of scenarios for the global economy over the next 24 months, Oxford Economics’ baseline forecast is that global manufacturing will take a 5% hit in the first six months of this year compared to 2019, recover much of that drop in the second half of 2020 and finally exceed the 2019 position by early 2021.

The automotive sector is set to see the biggest output falls globally in the first half of 2020 of 13%, followed by textiles (8%) and electronics (7%) although the forecast also shows the automotive and other transport equipment sector are likely to see the swiftest recovery, along with textiles.

All four key manufacturing sectors analysed for this report are predicted to start recovering in the second half of 2020 with the strongest recovery from the automotive and textile sectors growing at 10% and 8% respectively (relative to their levels in the first half of 2020), and then all sectors will see at least some output growth on 2019 levels by 2021.

Impact on China

Because of China’s unique role in the global supply chain, and its sensitivity to drops in global demand as a leading export nation, the forecast sees a significantly deeper drop in output this year than the global decline, with sectors such as automotive and electronics not actually climbing back to 2019 levels until 2022. 

China’s automotive sector will see a 19% drop in output for the first half of 2020 while electronics will see a 17% drop in output, all relative to 4Q 2019 data. Textiles will see a 14% drop in the first half of 2020, headline manufacturing will see a 11% decline  and aerospace 6%.

The Chinese economy being largely out of action for several weeks has also left many multinational companies with limited contingency plans to deal with supply chain disruptions. It has also rapidly exposed supply chain concentration issues for global companies that have relied heavily on China.

This has been further compounded for companies that are reliant on just-in-time manufacturing processes — particularly important in sectors such as automotive — and/or with thin inventory levels.

Supplier insolvency

As the epicentre of the pandemic has moved away from East to West, these same issues have become acute for those sourcing highly specialist goods and services in key markets such as Germany, Northern Italy and now the US. In coming months, there may even be challenges in securing some categories of commodities if the epicentre shifts again, to emerging markets.

New York-based Baker McKenzie chair of the global restructuring and insolvency practice Debra A Dandeneau said there was also a growing risk of supplier insolvency around the world.

She said some companies may have to support their supplier at least for the short-term, but understanding the source of the distress faced by the supplier is critical. Other suppliers may commence, or be placed into, some kind of formal restructuring or insolvency proceeding, which is likely to add delay to operations. 

Knowing how the law will work in each possible jurisdiction will help companies develop an advance strategy for dealing with that situation.

Long-term transformation

The report highlighted that supply chain risk management has jumped to the top of many companies’ agendas because of the current supply chain crisis, and is likely to stay there well after the immediate threat of Covid-19 begins to recede.

While the cost of such risk management processes can be high, it is often more than offset by the savings it can generate through helping to inform decisions around product pricing to shift the balance of demand towards less affected lines, inventory purchasing, and management and relocation of production processes across sites. 

Longer term, digitisation of supply chains will increasingly be the way companies begin to strategise and achieve business resilience against supply chain disruption. In this context, big data analytics can assist firms in streamlining their supplier selection process, while cloud-computing is increasingly being used to facilitate and manage supplier relationships.

Baker McKenzie technology, communications and commercial partner Anne Petterd who is based in Sydney, said: “Enhanced supply-chain management and adoption of digitalisation has never been more important. 

“Companies with well-considered supply-chain risk management processes will be better-placed to identify the impact of disruptive events on their supply chain and product offering, providing them with an opportunity to assess how to best respond in tough circumstances.”

The report concluded that to take advantage of the policy boosts around the world, businesses need to be agile and ready to tackle operational, labour and demand/supply constraints, re-address strategic and tax planning and reconsider business models post-Covid-19. This means structuring their supply chains, ramping up on digital transformations, which could lead to an even stronger commitment to sustainability goals alongside building resilient businesses. — April 8, 2020

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