The Changing Shape of Global Supply Chains: How Private Equity and Portfolio Companies Are Responding
A&M identifies seven core transformational levers to build resilience
Globalized supply chains are being disrupted on an unprecedented scale as the pandemic, new geopolitical frontiers with China, and the Russia-Ukraine war led to temporary increased freight costs, lower shipping capacity, labour shortages and sky-rocketing commodity prices.
In recent months, galloping inflation and a pending recession placed further stress in the system, leading companies to rethink their supply chain resilience.
For private equity firms, the reshaping of global supply chains is recalibrating investment decisions and post-deal transformation strategies.
“When looking to deploy, investors are actively scrutinizing the sustainability of supply chains and companies’ ability to pass-through costs in light of inflation and other constraints we see in the market,” said Jessika Van Veen, a Managing Director with Alvarez & Marsal (A&M) Private Equity Performance Improvement and co-head of Benelux in Amsterdam.
“They want reassurance that the company is addressing the long-term changes resulting from the current disruption and will be able to withstand future shocks,” she adds.
Optimized Supply Chain as a Lever for Value Creation
Supply chain pressures are also influencing post-acquisition strategies, with the need for transformation and innovation to build long-term supply chain resilience increasingly taking centre stage.
“As raw material prices continue to be highly volatile and sourcing products from suppliers becomes harder, supply chain management is becoming increasingly strategic,” says André Kieviet, a Managing Director with A&M’s Private Equity Performance Improvement in Hamburg.
In this context, optimizing supply chain for resilience becomes a fundamental lever in private equity value creation, protecting against future shocks while boosting operational performance and competitiveness within portfolio companies, he adds.
In this article, Jessika and Andre analyse how the supply chain crisis is creating challenges and opportunities in private equity.
Deeper Supply Chain Due Diligence
Deeper due diligence of supply chains has emerged as an area of attention for dealmakers, who are increasingly questioning a target’s reliance on Far East suppliers in light of new Covid disruptions and geopolitical objections against China, as well as their dependence on Russia and Ukraine for agricultural commodities, oil and gas.
Additionally, there has been renewed focus on physical transportation. “Companies are currently facing significant issues in getting capacity on transports for example on the Silk Road, but also having trouble getting products insured when traveling on these routes due to the Russian and Belarusian exposure”, says André.
Jessika adds: “We’re being asked to look for some extra levers in relation to the long-term sustainability of a company’s supply chain and whether it can survive and create value in the context of current and future disruptive events.”
There is also the question of whether and how to pass on increased costs stemming from raw material prices and supply chain issues onto customers, and how this will impact profitability going forward.
“As pent-up demand begins to wane and interest rate rises in the later part of 2022, companies will need to make assertive pricing decisions and that’s something private-equity owned firms are increasingly focused on too. Depending on the price point acceptable to customers, companies may have to consider more cost-reducing alternatives to minimize price increases” she adds.
According to André, investors have grown more comfortable with factoring in new supply chain risks when assessing a deal. However, in some extreme instances, M&A processes have been paused, for example for assets with high supplier exposure to the Russia-Ukraine conflict.
On the other end of the spectrum, some private equity firms are seizing the opportunity to invest in assets that are benefitting from disruption such as logistics technology companies. The challenge here is to assess future returns as today’s extraordinary profit levels may not reflect performance in the months and years ahead, André says.
Balancing Efficiency and Resilience
At the portfolio company level, persistent supply chain snarls are prompting private equity firms to reconsider their supply chain approach. Some of the strategies being explored buck dominant trends in modern supply chain such as offshoring and lean management, requiring companywide transformation.
“At A&M we are helping clients implement a set of short and long-term levers across the value chain to secure supply and pricing. The focus is to find a balance between efficiency and resilience in this trying environment,” says André.
A&M has identified seven core transformation levers to help build a resilient and cost-efficient supply chain in this new VUCA (Volatility, Uncertainty, Complexity and Ambiguity) environment:
- Inventory and S&OP: look to build up precautionary inventories as demand and supply continue to vary significantly and, in parallel, built a best-in-class S&OP process to anticipate inventory requirements.
- Transport network optimization and control tower establishment: optimize the carrier sourcing, mode of transportation, service levels, transportation routes and utilization to optimize transportation lead times, costs and reliability. Establish a control tower to assure real-time visibility across the supply chain and improve process efficiency.
- Dual sourcing and supplier development: make use of dual sourcing arrangements and developing relationships with two suppliers for critical materials or services.
- Localized supply chains: explore near-shoring opportunities in segments of the supply chain to reduce overreliance on a single geography or single supplier.
- Automation: use automated warehouse systems to help companies cope with labour shortages and volatile demand, strengthen workflows, and improve fulfilment.
- Price intelligence: evaluate how to pass on increased costs to customers without friction as inflation becomes entrenched.
- Outsourcing: handle processes within supply chain management to third-party experts as a way to minimize costs and let management focus on core competencies.
How Can A&M Help?
Refashioning value chains through the above solutions is far from straightforward. In real life, diversifying the supplier base can be expensive and building higher inventory levels are likely to affect companies’ working capital.
A&M’s Private Equity Improvement Performance team can help private equity firms and their portfolio companies find the right balance between building resilience, cost competitiveness and profitability. Some of our team’s current and recent projects include:
- Introducing short-term levers at an original equipment manufacturer (OEM) client to bring material costs down and helping negotiate with their customer base how to pass-through cost inflation. The company’s profit margins were being hit by material price increases and supply chain disruptions.
- Streamlining supply chain and sales and operations (S&OP) at a pharmaceutical company which faced a profit slump resulting from the upward price pressure on energy and raw materials
- “Taking back control” of a client’s outsourced supply chain management after supply chain pressures exposed flaws in the way it monitored and controlled vendors and service providers.
Leadership. Action. Results.
A&M’s private equity-focused professionals understand the need for agility and the importance of speed to execution in order to prioritize the key areas of improvement that will positively impact EBITDA and ensure sustainable cash generation at the portfolio company level. Ensuring a successful transformation requires strong leadership at the top that can then be exemplified and reproduced throughout the organisation. Leadership requires definitive action, which then leads to positive results for all.
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