After a decade of growth, the expansion rate of major economies is levelling off. While trade is still growing in absolute terms, the share of output moving across the world’s borders has fallen from 28.1 percent in 2007 to 22.5 percent in 2017.
What is causing this slow down, and how can we build the resilience needed to absorb the variations in supply and demand without damaging productivity levels?
- One of the trends to consider is the regionalization of value chains—something expected to accelerate as automation plays a growing role in production processes. Emerging economies are now consuming more of what they produce, and just-in-time delivery is driving decisions on manufacturing locations.
- As value chains are becoming regionalized and fragmented, so are consumer demands. Mass customization, speed of service, and changing relationships with brands, mean companies must adopt agile operating models that allow them to iterate quickly to maintain their market share.
- Adding to the volatility is an aging workforce and a move to digital production, contributing to gaps in expertise and the need for reskilling employees.
- Add in political turmoil, changing regulatory frameworks, high-profile trade disputes, and environmental factors such as scarcity of resources, and it seems more disruption and turbulence will be inevitable.
Previous experience tells us that it is possible to maintain, or even increase, growth during periods of turbulence. Organizations that take a bold, and flexible, approach to resilience planning by transforming their operations – adopting digital technologies and exploring new collaborations with customers, suppliers, and partners – will be in a stronger position to build momentum and power through volatility and so stay ahead of the S-curve.
We’ve reached levels of economic and business volatility not seen since the run up to the financial crisis of 2008—economic, political and environmental tensions, along with increased regulatory pressures, are combining to create turbulence across industries and geographies.
And while many companies felt the impact of declining growth during the previous downturn, a number withstood the pressure and accelerated away from their peers as the economy began to recover. Much of their success was thanks to their ability to drive productivity faster and further than other organizations, before, during, and after the crisis.
As this new period of volatility moves closer, what lessons can we learn from these organizations?
Learning from the past as we look to the future
Drive a step-change in productivity:
High, and continually rising, productivity helps organizations to protect their margins, allowing them to ride out smaller changes and provide the financial firepower to respond to larger ones.
Clean up your balance sheet:
Organizations that performed well during the previous downturn cut their operating costs by 3 percentage points more than their peers, and reduced debt while others were accumulating it.
Invest surplus in mergers and acquisitions:
As the upturn began, successful organizations used their cash wisely, acquiring new assets from distressed rivals and maintaining relationships with key customers.
But while the past provides some clues about how to survive the approaching uncertainty, it shouldn’t be treated as a blueprint for future success. Much has changed in the years since the last downturn: supply chains are more fragmented; and digital technologies impact nearly every element of production—critical factors to consider when creating resilience plans for the future. There is a new need to build more flexible operations that can absorb changes in supply and demand while further increasing productivity. And thanks in part to the impact of digital technologies throughout the value chain, current thinking no longer sees flexibility and productivity at odds with one another.
By combining lessons from the past with a bold approach to planning and new technology that combine elements of productivity and flexibility, there is an opportunity to move strongly through any period of uncertainty. Organizations that choose where to focus their efforts most effectively will emerge ahead of the curve, ready to take advantage of the opportunities this new era will present.
It’s time to measure-up to find your perfect fit for resilience
McKinsey has taken a close look at the performance of 1000 large publicly traded companies across multiple industry sectors and geographies from 2007 to 2011, identifying factors that differentiate most successful from the rest. A subgroup rode out the downturn during this period much better than their peers, achieving a growth in total return to shareholders (TRS) that was structurally higher than the median in their sector. Their performance dipped less overall during the downturn and they emerged stronger and grew faster than others as the recovery began—they were resilient in the face of adversity.
One of the most effective strategies these resilient companies adopted was a relentless focus on productivity. That helped them to cut costs without sacrificing things that mattered to their customers like consistent quality and on-time delivery.
But while this approach was powerful, we believe it is no longer sufficient, as companies enter a new period of turbulence caused by geo-political, economic and social pressures, and an era of increased regulation. Changes to rigid, tautly stretched value chains are time consuming and difficult. That can leave companies poorly positioned to navigate the new reality of constant shifts in supply and demand, due to the regionalization of supply chains and changing consumer wants.
With the adoption of digital and analytics tools, additional flexibility no longer needs to come at the cost of productivity. A flexible value chain will allow organizations to bring costs down as demand falls, build output to take advantage of market peaks, and adjust procurement activities to benefit from fluctuations in input costs.
The levels of investment required to add this flexibility to value chains are marginal—existing infrastructure can be optimized to take advantage of new digital technologies with minimal replacement of equipment. Organizations that build this flexibility now will be able stand firm in the face of volatility, and build the momentum required to accelerate out of a cyclical downturn ahead of their peer group. But questions remain—even for the highest performing companies— about where to focus efforts to create the ideal balance between productivity and flexibility, and which digital and analytics tools can help with flexibility and acceleration.
To help identify this focus, it’s time to introduce new metrics to give greater insight into operational resilience. As we measure, develop, and manage value-chain flexibility through a granular analysis of cost structure, productivity levels, and rate of improvement, we will be able to help an organization evaluate where it may modify its costs in the face of fluctuating supply and demand. Taken with both a top-down and bottom-up perspective, these measurements will give leaders the basis for targeted actions. They will guide improving the balance between productivity and flexibility, and the tools needed to build greater levels of resilience.
This post is adapted from a series of three posts that recently appeared on Rafael Westinner’s LinkedIn profile.