Working together to get the value chains right

Internal disagreements can hamper efforts to rationalize complex manufacturing and supply networks. Sometimes it is better to start from a clean sheet.

Manufacturing and supply networks tend to evolve organically. Production sites and supplier locations develop in regions where the company has strong historical links, or where there are opportunities to cut costs or access new markets. Over time, acquisitions add further complexity to these networks, while changes in technology, geographical demand, and regional advantage can leave companies with a footprint that is a poor match for their current or foreseeable needs.

But altering networks that took decades to reach their current form is challenging. Closing, combining, or relocating production sites is costly. Managers at individual sites or business units may be reluctant to disrupt long-standing production arrangements and supplier relationships. As a result, it can be difficult to reach internal alignment over changes, even when they are in the organization’s overall strategic interest.

Making change inescapable

One diversified global manufacturer therefore decided to adopt a different approach. Weighed down by a manufacturing and supply network that was fragmented, inconsistent, and poorly matched to crucial sources of sales and growth, the company’s margins lagged behind many of its competitors’. Years of acquisitions left it with too many small, often underutilized, production locations. Individual business units operated autonomously, using different suppliers and distribution networks, and often making fundamentally different decisions about what to make in-house and what to buy.

That arrangement meant the company suffered from more than just high costs. Its fragmented supply base made it difficult to form strategic relationships with suppliers, blocking access to innovative technologies and approaches. Lengthy, convoluted supply chains raised inventory levels, logistics costs, and lead times, just as customers increasingly demanded more flexibility and faster responses.

Thanks to detailed benchmarking efforts, the company knew its operations didn’t match the best of its peers, but previous efforts to streamline the organization’s footprint had stalled. Hesitation by any one of its businesses was enough for even the best-planned undertakings to eventually crumble. A fresh perspective from senior management, however, proved to be a catalyst for change.

Making change achievable

The company embarked on a new cross-functional value-chain optimization program. But this time, the leaders were determined to find an approach that would allow its different business units and functions to make decisions together, working from a common fact base.

To achieve this, they adopted an end-to-end modeling approach, based on “zero-based” or Cleansheet “should-cost” techniques. Rather than basing their analysis on individual products, the team focused on the common manufacturing, sourcing, and supply chain characteristics shared across the company’s entire product portfolio. That let the team develop several archetypes based on similar technologies (e.g., printed circuit boards, electric motors or cutting tools), shipping costs (e.g., large and heavy products vs. small and light ones), and supplier capabilities (e.g., grades of plastic molding, from basic injection to complex high-precision and overmolding of parts).

For each of these archetypes, the team created models that calculated total landed costs across the full production and distribution lifecycle, including sourcing, manufacturing, and logistics. To compare strategies, it modeled multiple scenarios, which ranged from keeping the organization’s current practices to reaching for an unconstrained (and therefore theoretical) “best-possible-cost” option—with several intermediate strategies that incorporated different elements of the organization’s current footprint. Examples included in-house manufacturing consolidated into global CoCs (centers of competence) for specific processes and technologies, in-house manufacturing with a regional hub-and-spoke structure, and a highly-outsourced model based on third-party manufacturers.

That modeling effort produced numerous insights. First, it revealed the size of the overall cost-optimization opportunity, and the specific production, sourcing, and distribution activities that were responsible for the largest excess costs. Second, it highlighted multiple potential countermeasures, from the integration of existing manufacturing facilities to the outsourcing of certain tasks to suppliers.

Most importantly, the modeling effort enabled effective discussion among internal stakeholders. Working together on common archetypes revealed how different business units shared many common manufacturing and supply-chain requirements. That helped build support for cross-unit operations, and inspired the development of centers of competence for key technologies. If representatives of a particular business unit or function objected to a given scenario, they had to bring evidence to justify their arguments. Challenging each other on long-held beliefs has helped the company define its core activities, technologies, and processes, while also uncovering new differentiation opportunities.

Making change affordable—and profitable

Over several weeks of discussion and refinement, the company drew up a blueprint for an optimized manufacturing and supply footprint. Then it turned to another key barrier: the cost of restructuring. Here again, taking an end-to-end perspective provided novel solutions.

To minimize the financial costs of site closures, as well as their social and reputational impact, the organization identified several top suppliers that were willing to take over the operation of some of its sites. The result was a win-win: The company got a faster, more cost-effective exit from unprofitable locations, while the suppliers gained high-quality capacity close to important customers. In a typical case, this “Smart Exit” strategy reduced the one-off costs associated with exit from a site by a factor of 2.5, and shortened the payback period from eight years to three.

Overall, the company identified more than 60 viable business cases for changes at 15 sites on three continents. Thanks to the use of the Smart Exit approach and other cost-saving strategies, 75 percent of those cases offered payback periods of less than five years. Overall, the new value chain design is expected to reduce total landed costs of the company’s products by 10 percent, while also cutting lead times, reducing inventories, and allowing the organization to concentrate its design and manufacturing capabilities on the technologies and markets with the highest growth potential. This integrated approach offers a new paradigm for the optimization of an organization’s value chain footprint, and more companies have successfully applied it since.

Nicola Ebmeyer is a consultant in McKinsey’s Amsterdam office, Denis Fomin is a specialist in the Hamburg office, Martin Lehnich is a partner in the Shanghai office, and Ricardo Moya-Quiroga Gomez is a senior expert in the Munich office.