@ Supply Chain Management


Supply Chain Network Optimization and Competitive Advantage – Part 1

SC Digest’s editor Dan Gilmore has a recent post about Supply Chain Network Optimization and Competitive Advantage and how a few companies are adopting this particular aspect of Supply Chain Management in their processes so much so that it maybe a source of competitive advantage.
While I am quite convinced about the need for strategic planning for supply chains at the highest echelons of management using the very kinds of tools that Dan Gilmore is talking about, I am hesitant, if not quite in the opposite camp, when the use of such tools is deemed to confer, even offer, a competitive advantage. The opportunity of deriving a competitive advantage this way is minimal at best. What is competitive advantage and what is not is the subject of this part of the series. In following parts, I hope to identify what supply chain planning and optimization really is.
In order to explain myself, I need to first elucidate the very notion of competitive advantage and strategy (or strategizing). I refer you to the excellent article on strategy: All strategy is local by Bruce Greenwald and Judd Kahn. The byline of their article states that:

True competitive advantages are harder to find and maintain than people realize. The odds are best in tightly drawn markets, not big sprawling ones.

The aim of true strategy in their opinion is,

to master a market environment by understanding and anticipating the actions of other economic agents, especially competitors. But this is possible only if they are limited in number. A firm that has privileged access to customers or suppliers or that benefits from some other competitive advantage will have few of these agents to contend with. Potential competitors without an advantage, if they have their wits about them, will choose to stay away. Thus, competitive advantages are actually barriers to entry {emphasis is mine}. Indeed, the two are, for all intents and purposes, indistinguishable.

Greenwald and Kahn contend that true competitive advantages, whatever their source, are really barriers to entry – in the sense that gaining such a competitive advantage presents a significant threshold to be scaled. The conclusion is an acceptable one and as you can imagine begins to chip away at the notion that the use of supply chain strategic planning tools in some way offer a competitive advantage. I think there is a case to be made about sources of competitive advantage with regards to all aspects of supply chain management within a firm. I do not see that the output of supply chain strategic planning (which is a streamlined and robust supply chain network) offers any real competitive advantage. To belabor the point, any competitive advantage that can be easily replicated is not an advantage, it is the entry price for remaining in the competitive arena.

So the question beggars: What is a true competitive advantage? In the section of the article called – The Varieties of Competitive Advantage, Greenwald and Kahn explain briefly the identified sources of competitive advantage. In the most general sense,

A competitive advantage is something a firm can do that rivals cannot match.

Therefore, it follows from generalizing that on the time dimension that a long-term or sustained competitive advantage is one that is maintained for long periods of time.
A competitive advantage therefore,

generates higher demand or leads to lower costs.

and perhaps some other hitherto unknown characteristic(s) (which ofcourse will be your claim to fame if you should so discover it/them).

The above figure captures the sources of competitive advantage quite well and they’re directly adapted from the article by Greenwald and Kahn. However, what must be kept in mind is that these are the sources of competitive advantage or even strategies to follow in order to realize competitive advantage. That is to say that if a firm were to invest sufficient capital in developing new technology and patent this new technology, a source of competitive advantage is realized iff (if and only if), the use of this patented technology realizes the following (I refer you to the following article – Why Strategy Matters, Exploring the link between strategy, competitive advantage and the stock market by Michael Mauboussin and Bob Hiler):

Competitive advantage exists when a company’s sales are greater than its total costs, including the opportunity cost of capital. One measure of such returns is a positive ROIC-WACC spread.4 It should be stressed that competitive advantage is not a qualitative, but rather a quantitative, issue (as the Buffett quotation above suggests). By definition, a business with a competitive advantage either earns, or promises to earn, returns on capital in excess of the cost of capital.

Warren Buffet’s quotation as referred to above is:

“Anybody who says that they have a wonderful business that’s earning a lousy return on invested capital has got a different yardstick than we do.”
Warren Buffett, Annual Shareholder Meeting, 1993.

Summarizing, while patented technology is a source of competitive advantage, it is the deployment of this patented technology in a way such that a financial metric such as ROIC (Return on Invested Capital) – WACC (Weighted Average Cost of Capital) is positive that realizes competitive advantage.. Similarly, whatever other source of competitive advantage is used, the above must hold true.
Now, Greenwald and Kahn posit the source(s) of competitive advantage. Michael Mauboussin and Bob Hiler provide a quantitative method by which the realized effect of competitive advantage can be measured and an understanding of how the market values a firm’s competitive advantage. What is missing? Ofcourse, it’s the doing – the actual nitty gritty of creating the competitive advantage itself. Taking the example of patented/proprietary technology itself:
1. Investment in R&D or some acquisition provides a unique opportunity with regards to a product or underlying technology – However, this is still not a competitive advantage but only remains as a potential competitive advantage.
2. The underlying technology or patent must provide a barrier to entry for other competitors.
3. Deploying this product or underlying technology to market with all its attendant activities in such a way that ROIC-WACC is positive transforms a potential competitive advantage into an actual competitive advantage.
4. The realization and appraisal of this competitive advantage by the market place in some tangible financial reflection completes the whole picture in the sense that the firm (and the world in general) is on notice that a firm possessing such a true competitive advantage beggars some disrepair technology or innovation that needs to undertake some or all of the steps outlined above.

Now, harkening back to the case of supply chain strategic planning using network optimization and modeling tools. Is there a way in which the continuous or discrete use of such tools might confer a competitive advantage to a firm. My answer is – No, within the context of the notion of competitive advantage outlined above. Creating, deploying and revising an optimal supply chain configuration along with its attendant inventory management and other operational issues does not confer competitive advantage necessarily. With supply chain planning, one is trying to develop a minimum total cost configuration that imputes a marginal cost reduction to the products in the network – the best possible cost reduction within the confines of the modeling assumption and ground realities. So, if it is not a competitive advantage that the use of such network modeling and optimization tooling confers, then what is it?
That is the subject of the next post in the series.

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Category: Strategy, Supply Chain Management


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  1. […] Supply Chain Network Optimization and Competitive Advantage – Part 1 […]

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April 2007