Perspectives on Various Issues of Interest

Thermal management technologies - Supply chain and operational issues

In this post, I cover supply chain and operational issues faced by a small and medium enterprise providing thermal management technology for consumer electronics, lithium batteries, and electric vehicles. I will also allude to actions that are being taken to address supply chain issues. I would be interested in hearing your thoughts on the outlook for small and medium enterprises operating in this space in light of prevailing operational and supply chain challenges.

The thermal management technologies market is evolving rapidly, especially in the case of consumer electronics and lithium batteries use. Increasing adoption of renewable energy resources is the major factor driving the thermal energy storage market with the rapid industrialization across the world has increased the need for continuous power supply, which positively leads to the growth of the overall thermal energy market during the forecast period. Developments in the electronics industry have culminated in a considerable surge in the power densities, which have led to the introduction of smaller, smarter products. These advancements in the industry have led to an increased need for innovative thermal management technologies as they improve the system performance and reliability by avoiding the heat generated by the devices. The electronic packaging trend has increased the performance and reduced the size of the product. This has led to a significant increase in the power consumption of the system. A report from Grand View Research said that the global thermal management technologies market size is expected to reach USD 20.14 billion by 2024, according to a new report by Grand View Research, Inc. The industry is primarily driven by the growth in the emerging trend of miniaturization of electronic devices and components.

The Grand View research report said: "Advanced technological research is expected to produce more efficient and cost-effective thermal management solutions in the future. The key industry participants are extensively focusing on the development of optimized thermal management solutions that are cost-effective and are applicable across a range of end-use applications. However, the industry is anticipated to witness various issues associated with modularity in designing and reliability of modeling, which are presumed to challenge the growth over the forecast period. Current cooling technologies, standard heat sinks, and fans are rapidly approaching their cooling capacity limit, and thermal management is becoming a critical step in enabling enhanced product functionality. The thermal management software is anticipated to exhibit a significant growth in the near future owing to the increasing adoption of the software heat removal techniques and simulations to reduce moments of peak heat impact and reduce the risk of failure."

Several companies compete in this sector including Arkema S.A., BorgWarner Inc., Continental AG, Dana Limited, Gentherm Incorporated, Grayson, Hanon Systems, Kendrion N.V., Lord Corporation, MAHLE GmbH, Marelli Corporation, Modine Manufacturing Company, NORMA Group, Orion BMS by Ewert Energy Systems, Inc., Polymer Science, Inc., Renesas Electronics Corporation, Robert Bosch GmbH, Samsung SDI Co. ltd., Tesla, Inc., Valeo S.A., VOSS Holding GmbH + Co. KG. and KULR. Given that many of the competitors are OEMs or diversified corporations, focusing on a small and medium enterprise offers some insights into key supply chain pain-points in this sector. I am focusing on the 2022 Q1 experiences of KULR Technology Group, Inc. (ticker symbol: KULR:US) to identify some of the supply chain and operational issues in this sector.

KULR Technology Group, Inc. (ticker symbol: KULR:US), through its subsidiary, KULR Technology Corporation, develops and commercializes thermal management technologies for batteries, electronics, and other components applications in the United States. It offers lithium-ion battery thermal runaway shields; fiber thermal interface materials; phase change material heatsinks; internal short circuit device; KULR battery cell screening and testing automation system and tech safe case; cellcheck; and CRUX cathodes. The company's technologies are used in electric vehicles, energy storage, battery recycling transportation, cloud computing, and 5G communication devices. It sells its products for applications, such as lithium-ion battery energy storage, electric vehicles, 5G communication, cloud computer infrastructure, consumer, and industrial devices. The company was formerly known as KT High-Tech Marketing Inc. and changed its name to KULR Technology Group, Inc. in August 2018. KULR Technology Group, Inc. was founded in 2013 and is based in San Diego, California.

In 2021 the company increased its revenue by 287% as compared to 2020, mainly reflecting expansion in the commercialization roadmap. Shareholder equity was increased to $16.4 million in the year ending December 31, 2021, from $6.1 million in the year ending December 31, 2020. Gross margins decreased to 54% in the year ending December 31, 2021, from 70% in the year ended December 31, 2020, primarily due to a change in product mix from higher margin products to lower margin services. Selling, General and Administrative (SG&A) Expenses in the fourth quarter of 2021 increased to $3.8 million from $768,000 in the corresponding period in 2020 due to the addition of management and operations team members, sales and marketing activities, and non-cash stock-based compensation paid to employees and consultants. R&D expenses in the fourth quarter of 2021 increased to $705,000 from $68,000 in the same period last year, reflecting a combination of new engineering hires, investments in manufacturing automation, new product developments, and research in high-areal capacity battery electrodes and solid-state electrolyte. Loss from operations was $4.0 million for the fourth quarter of 2021, compared to $677,000 from the same period in 2020. Higher SG&A costs offset higher sales while the gross margin decreased from 76% in the fourth quarter of 2020 to 70% in the comparable 2021 quarter, as a result of lower margins on some larger jobs. Net loss for 2021 increased to $11.9 million or a loss of $0.15 per share, compared to a net loss of $2.9 million, or a loss of $0.03 per share in 2020. The Company reported cash balances of $14.9 million as of December 31, 2021, compared to $8.9 million in the same period in 2020. 

In the first quarter of 2022, KULR's sales reduced by 52%, from $418,000 in 2021, to $200,000 this year. General and admin expenses increased to $3.5 million in the first quarter of 2022, from $1.5 million in the corresponding quarter last year. The increase of 136% was due to additional marketing and advertising expenses, consulting fees, and non-cash stock compensation pay for employees and consultants, and the expansion and kiting out of new office facilities. R&D expenses increased 486%, from $123,000 in the first quarter of 2021, to $721,000 in the first quarter of 2022. The loss from operations increased 141%, from $1.5 million for the first quarter of 2021, to $4.1 million for the first quarter of 2022. The increase in the operating loss included 0.9 million increase in non-cash stock-based compensation expense, and increases in payroll, advertising, and marketing expenses, as well as professional fees and research and development projects. The company's net loss increased by 141%, from $1.7 million in the first quarter of 2021, to 4.2 million in the first quarter this year. The net loss per share for the first quarter of 2022 was four cents, compared to two cents for the comparable period last year. As of March 31st, 2021, the company reported cash balances of $10.1 million, compared to $6.2 million on March 31st, 2022. The company raised over $7 million from the issuance of warrants and promissory notes and have established a $15 million standby equity purchase agreement. 

Over the course of past five years, the company's sales, cost of goods sold and profit margins saw major increases in 2018, followed by two years of decline (2019 and 2020) and then an increase in 2022. Except for 2019, the sales, general and administrative expenses have increased as would be expected for a growing company in a growing sector. Similar trend can be observed in R&D expenses to keep up with new innovations and product development.

The company's earnings before interest, taxes, depreciation and amortization are negative.

Supply chain disruptions and action plan

Based on the information available for 2022 Q1 earnings call, the following supplier chain issues and remedial actions were highlighted.

• supply chain disruptions resulted in over $325,000 worth of inventory that couldn't be shipped due to the COVID lockdown
• COVID lockdown that occurred in Shanghai, China at the end of March, left KULR production on the dock with no option to ship.

To respond to these issues primary following initiatives were taken:

• secured $55 million in additional capital to drive two key initiatives
  • securing battery cell supplies of over 500 megawatt hours in energy capacity from tier one battery manufacturers, who are securing the inventory in anticipation of fast-growing demand from key end markets in energy storage and e-mobility.
  • control supply chain and manufacturing costs and reduce disruptions risk by bringing much of the supply chain and production capabilities to North America
• maintain its margins through improvements in logistic flexibility and response times that can offset potential increase in labor costs.
• create a buffer stock of materials, which the company is in negotiations to have its customers take immediately as a hedge against future potential lockdowns
• continue investment in new and automated test and production equipment first implemented in the Q4 of 2021.
• onboarding new tier one battery manufacturers to obtain battery cell supplies of over 500 megawatt hours in energy capacity.
• multisourcing
• geographical diversification of suppliers
• onshoring production in North America
• creating a buffer stock of materials
• developing modular platforms for new product development
• expand operations and support new business

Information on accounts receivables indicate a growth in the past two years. Finished goods inventories and investments in plant, property and equipment have been growing

Past five year balance-sheet:

The accounts payables saw a decline in 2020 but then increased in 2021, reflecting expanding operations.

For the fiscal year ending 2021, the return on assets were -50.60% and return on equity was -105.95%. Total debt to equity ratio was 5.04, current ratio was 6.41 and book value per share was 0.16.

Below, I present the summary of stock market performance:

 

Strengthening the Personal Protective Equipment Supply Chain

The vulnerabilities of global supply chains were exposed by the COVID-19 pandemic. In this post I first consider the geopolitical landscape and disruptions in PPE supplies by reflecting on the conditions before the pandemic until the time when countries started to take steps toward managing the crisis. Next, I discuss prevailing contextual conditions, future demand and supply trends, and directions for risk management through government interventions, public-private partnerships and organizational best practices.

It is instructive to start from pre-COVID time to understand the distribution of various PPE products and global demand. Before COVID-19, the global PPE market was worth roughly $60 billion. PPE products are destined for numerous different economic sectors such as healthcare, mining and construction. According to an April 2020 analysis by the Asian Development Bank, the healthcare sector PPE market alone was estimated at $2.5 billion in 2018 as shown below where the revenue is in $ millions.

As for 2020, the United States (US) was a major manufacturer, accounting for 20 % of the global production of every category apart from gloves.

Source: Mordor Intelligence (updated in November 2020 ), Statista research department, COVID-19 PPE demand and supply perspectives, Industry experts interviews (November 2020)

Despite being a major PPE producer, the US relied heavily on imports to meet local demand.

Source: ITC Trade Map

The global trade network in 2018 shows high geographic and regional concentration in the PPE supply chain. There are three regional clusters: Asia, Europe, and the US. Among countries making these products, China (PRC) clearly plays a central role in the trade network (except for gloves where countries such as Malaysia, Thailand, Indonesia are dominant due to abundance of rubber).

Source: ADB calculations using data from United Nations. Commodity Trade Database.

In fact, PPE concentration in Asia has intensified in the past decade or so.

Source: Asian Development Bank (2020)

To counter the supply shortage of PPE during pandemic, several nations had instituted export restrictions. The efficacy of these measures could be debated since they also could have resulted in less optimal investments in new capacity (since manufacturers would take the restricted market into consideration when taking capacity decisions), high burden on public finances (since governments had to provide greater fiscal inducement to encourage domestic manufacturers to increase capacity aimed at the restricted market), and loss of cooperation as well as potential retaliation by nations.

Source: International Trade Center website (in November 2020)

Source: Global trade alert                                                                                   Source: : Committee for the Coordination of Statistical Activities (2020)

Considering product shipments from China to US, once China was able to control its own pandemic, supply chains for garments, visors, thermometers, gloves, simple masks and N-95 masks linking China to the US adapted very well. The need for gloves in the US market was served by other countries such as Malaysia, Thailand, and Indonesia, since the plastic gloves from China are relatively less in demand in the US. Technological sophistication of ventilators made in China also were not compatible with the US needs, which reduced the adaptive ability of this supply chain.

Source: Dallas, M. P., Horner, R., & Li, L. (2021). The mutual constraints of states and global value chains during COVID-19:The case of personal protective equipment. World Development, 139, 105324.

There was indeed a component of luck in that the pandemic in China had eased as it spread to the west. Future pandemics may not reflect such a temporal dynamic. Additionally, the phenomenal increase in the exports of simple masks and N-95 masks could have been a result of mislabeling and customhouse chaos during the pandemic.

The PPE supply chain is faced with several bottlenecks as shown in the following illustrative example.

Medical supplies were delayed due to shipping challenges. Demand for shipping and transportation services had increased significantly, but the labor available to provide these services had reduced. The backlogs and congestion produced significantly delays, uncertainty and cost increases.

To respond to the crisis, several countries boosted their domestic production base. In the US, the Defense Production Act was activated to mobilize domestic industrial base. The EU accelerated joint procurement procedure with 26 member states to ensure supply of medical equipment across Europe. Structural funds were directed to the supply of medical equipment. In India, financial incentives were provided for the production of critical supplies. Digital platform was developed to identify and fill the shortage of critical supplies. Japan provided subsidies for the production of face masks. State-owned firms in China were repurposed to supply medical materials. Loans and subsidies were provided to firms producing critical supplies.

In a survey, over half of respondents expected a significant or somewhat decreased presence of supply chain components in China, while 75 percent expected a significant or moderate increase in the United States. Similar expectations emerged for the European Union, the UK, Canada, Australia, and New Zealand, for which half of respondents expect an increase in components.

Source: Atlantic Council

44 percent and 53 percent of respondents cited inadequate planning for both near and long-term disruptions as the top vulnerability in their supply chains, respectively. In addition, over 40 percent of respondents listed geographic or regional concentrations as well as bottlenecks and single point dependencies as core vulnerabilities.

Source: Atlantic Council

Over 60 percent of respondents foresee more prioritization of contingency planning and crisis modelling in response to the pandemic’s disruptions. In addition to planning, they ranked location diversification of their supply chains as a top priority, followed by relocating them within the borders of the primary country of operation.

This focus on re- or onshoring due to the growing concern about foreign dependencies and increasing demand for self-sufficiency resulted in several new manufacturing sites being established for the production of PPE products.

Source: Health Industry Distributors Association

Going forward, PPE spending is forecasted to nearly triple by 2027. Demand for N95 respirators will continue to grow more than 5% per year through 2024. Increased demand and limited manufacturing capacity combined to create a predicted 37% shortfall in nitrile gloves in 2021. Raw material shortage used in making isolation gowns will continue to impact prices.

 

The US PPE market is expected to group 12.5% a year through 2024, with 80% of sales in four highly fragmented product segments.

 

Increased focus on workplace safety, product usage to encourage end-user adoption, growth in industries that are heavy PPE users, and shift to online sales will act as tailwind in this market. On the other hand, competition from private labels and low-cost producers as well as uncertain raw material availability will act as headwinds. Some of the price-sensitive segments will witness disruptions while others will need to differentiate in this market.

Government can play an important in strengthening the PPE supply chain by means of reforms to domestic and international trade rules and agreements. It can take necessary diplomatic, economic, security, trade policy, informational, and other actions. Frequent supply chain review and reforms to make supply chain analyses and actions more effective could help. Government can also help in fostering innovation, developing world-class American manufacturing base and ensuring adequate stockpiles in the future.

Public-private partnership can help with coordinating various aspects within the PPE supply chain. These include establishing policies, incentives, and focused federal procurement guidelines; guiding input, development timelines, and product portfolios; initiating combined exercises and planning efforts; incentivizing emergency essential businesses’ use of federal purchasing vehicles; and enabling vertical and lateral supply chain distribution activities. The partnership can help with managing pricing by assessing and maximizing the value and efficacy of federal investments in latent manufacturing capacity. Increased supply chain visibility and data sharing as well as cost-efficient maintenance of inventories could be part of public-private initiatives. Finally, these partnerships can help maintain a specified level of pandemic preparedness and formalize pandemic preparedness as a condition for participation in federal programs.

Organizations need to recognize that supply chain disruptions are becoming more frequent and severe.

Source: McKinsey Global Institute, 2020

Supply chain pressure is only increasing in recent times as reflected below:

Source: Michigan State University's Supply Chain Pressure Index 

Source: New York Fed's Global Supply Chain Pressure Index

Supply-chain leaders believe that the issues by the pandemic will transform supply chains. 73% of respondents in a McKinsey survey indicated that they encountered problems in supplier footprint, 75% faced issues in production and distribution footprints, 85% struggled with insufficient digital technologies, and 48% experienced delays in planning decisions.

Organizations need to understand the bottlenecks along the PPE value chain due to increasing manufacturing capacity. For respirators, supply pressure arises mainly from shortages of melt-blown non woven, a critical ingredient. Supply pressure in for medical masks also arises mainly from shortages of melt-blown non-woven. And for gloves, supply pressure is driven both by nitrile shortages and limited specialist manufacturing capacity

 

Source: COVID-19 PPE demand and supply perspectives, Industry experts interviews (November 2020)

Consumers and non-healthcare workers will drive surgical mask demand in 2021 before dropping by ~ 40 % p.a. in 2021-25. A significant shift in the weight of global PPE demand will move towards Asia.

Source: Source: Mordor Intelligence (updated in November 2020 ), EPI model, WHO assumptions

According to a McKinsey surveys of global Supply Chain leaders, 93% expect to increase resilience across the supply chain, 90% plan to increase digital supply chain talent across supply chains, and 54% expect changes in supply chain planning after COVID-19. As for measures for resilience, 53% plan to consider dual sourcing, 47% plan to increase inventory of critical supplies, 40% are considering near-shoring and increasing their supply base, and 38% plan to regionalize their supply chains. To improve digital supply chain talent, 70% are planning to resell their supply chain labor force and 55% are considering acquiring new talent from the labor market. For supply chain planning 60% are considering implementing advanced analytics, 58% will consider centralizing supply chain planning, and 50% are going to retail faster sales and operations planning cycle. 11% of the respondents indicated facing budget challenges associated with transforming their supply chains.

Given the importance of resilience among supply chain leaders it is important to consider both resistance and recovery capabilities. Resistance capabilities help avoid and contain disruptions. Recovery capabilities enable stabilization and return to normalcy. Companies need to consider not only risk factors (impact and probability of disruptions), but also uncertainties (known, unknowns and unknown, unknowns) associated with disruptions.

Investment strategies need to be considered to manage disruptions effectively. These investments strategies can be categorized as those related to discovery, information, supply chain design, buffers, operating flexibility, security, and preparedness. Discovery related investment strategies would require investing in the ability to identify potential problems in the supply chain as close to the event occurrence as possible. The types of investments include information technology/information sharing, early warning by supply chain partners, forecasting, demand sensing, monitoring of performance in the supply chain. Investment strategies in information call for improving the quantity, speed, and quality of information flow within the supply chain. These could be facilitated by improved information technology, effective communication, and visibility. Supply chain design investment strategies involve designing and implementing supply chains that can be configured and reconfigured quickly in response to changes within the supply chain. Supply base management and supply base reconfiguration can help in this regard. For buffer related investment strategies organizations need to create excess cushions in the form of inventory, capacity and lead times by considering human resource capacity, human resource capabilities/experience, inventory, operating flexibility, and redundancy. With investments in operating flexibility organizations can create a system that can change either the flow or product specifications in response to supply chain problems. Alternatives for transportation and variable bills of material are examples of such investments. Investment in security can help protect the system from supply chain shocks by creating firewalls, quarantine protocols, and development of strengthened supply chains. Finally, preparedness related investment strategies require designing contingency plans for dealing with potential supply chain shocks and carrying out drills using these plans so that various groups would know what they must do and what their specific responsibilities are. This can be facilitated by investing in planning for contingencies, training/rehearsing, risk assessment and insurance.

Different investment strategies contribute towards different stages of resilience. Avoidance stage is best handled by investment strategies in discovery, information, security and preparedness. Containment can be managed by investments in supply chain design, buffers, operating flexibility, security, and preparedness. Investments in supply chain design, buffers, operating flexibility, and preparedness can also help with stabilization. Finally, the return stage is best managed by investments in operating flexibility and preparedness.

Organizations need to realize that there are several modes of reshoring as shown below. Firms can relocate manufacturing activities performed by wholly-owned offshore facilities to wholly-owned onshore facilities (in-house restoring); can relocate manufacturing activities performed by wholly-owned offshore facilities back to onshore suppliers (restoring for outsourcing); can relocate manufacturing activities performed by offshore suppliers to wholly-owned onshore facilities (reshoring for in-sourcing); and can relocate manufacturing activities performed by offshore suppliers back to onshore suppliers (outsourced reshoring). 

Source: Gray et al. (2013)

To be successful, new entrants will need to achieve scale and secure raw materials and specialist machinery. The will also need to acquire technical expertise and quickly build brand strength.

Source: COVID-19 PPE demand and supply perspectives, Industry experts interviews (Nov. 2020)

Organizations need to consider a range of supply (shift away from sole-source contracts), data aggregation and predictive modeling capabilities, understand the price-points for competitiveness, manage quality of products, have built-in redundancies, invest in innovation & reusables, create transparency in their supply chains, and foster talent. 

Russia-Ukraine Crisis and the Automotive Wiring Harness Supply Chain

Modern vehicle is much more of a digital device than a mechanical one. Whether it is engine control systems, driver assistance systems or media centers, electronic technology is omnipresent. The advancement towards the "connected car" and autonomous driving is only accelerating this trend. In this increasing presence of electronic systems in a car, the wire harness is one of the key backbone that integrates various digital components, links digital components with  mechanical and structural components, and ensures that the onboard electronic systems get the required power supply. It is also critical for enhancing efficiency and ensuring vehicle safety.

In a typical car, the cables forming the wiring harness stretch more than 3 miles in length and Ukraine is a key supplier in the supply chain for this essential backbone. Leoni AG, a global supplier of wiring harness, has sites covering more than 65,000 miles in the Lviv region in Ukraine. The company employs more than 7,000 people in Ukraine and the cable assemblies made in Ukraine are supplied to LEONI plants in Poland, Slovakia, Hungary, Czech Republic, Germany, Spain, Portugal, Italy, Belgium, the UK, the USA and Austria. These plants in turn supply the wiring harnesses to car manufacturers such as Opel, Porsche, Volkswagen, Audi and Lamborghini. 

Fujikuru, a Japanese company that make wiring harness, also has sites in Ukraine and supplies cables to car manufacturers such as Volkswagen, Porsche, Audi, and the Czech Republic’s Skoda. Sumitomo Electric Bordnetze with 60:40 split in terms of shareholding between Sumitomo Electric Industries and Sumitomo Wiring Systems has facility in Ternopil, Ukraine. Nexans, headquartered in France, is another such company with sites in Ukraine. Along with these companies other suppliers such as Germany's Forschner, Kromberg & Schubert, Prettl, SEBN and Japan's Yazaki have built up wire harness production sector in Ukraine. In fact, Ukraine supplies nearly 7% of all imports of wire harnesses in the European Union. These wire harness manufacturing sites are among about 22 automotive companies that have invested more than $600 million in 38 plants and employing over 60,000 Ukrainians.

The western part of Ukraine bordering Poland was a relatively safe haven in the conflict until now. However, today's missile strike in the Lviv region has upended the situation. This morning (18th March) several missiles had struck an aircraft repair plant at the airport complex in Lviv, destroying the buildings. 

While several manufacturers preempted the situation due to rising hostilities and had moved high volume production of parts for vehicles out of the Ukrainian plants to other locations, it wasn't an easy transition. The factory space, machinery, tooling, workers and financing requirements are going to add a fair amount of lead time to be up and running. Automakers will have to find short and medium term solutions. As of this writing, the Volkswagen Group was trying to boost production of wire harnesses in neighboring locations in Europe and North Africa such as Romania, Hungary, Tunisia and Morocco, but also in farther locations such as Mexico and China.

Data: CRU

S&P Global Mobility downgraded its 2022 and 2023 global light vehicle production forecast to to 81.6 million for 2022 and 88.5 million units for 2023. These figures are 2.6 million units lower for both years than previous year. The European forecasts are expected to be 1.7 million units lower with almost 50% of the figure resulting due to part shortages of chips and wire harnesses. The remaining 50% would be due to reduced demand from Russia and Ukraine. European automakers such as Volkswagen, Porsche, BMW, Audi, Mercedes-Benz have suspended production at some of their plants. Since Ukrainian wire harnesses constitute almost 45% of imports in German and Poland, German automakers are particularly going to be affected due to this crisis and the profit margins are going to witness a squeeze. 

This is a reversal of the trend that we were seeing in January and February. According to LMC Automotive, the selling rate in Germany had improved slightly in February to 2.7 mn units/year from 2.6 mn units/year previously. Similar trends were visible in other European markets. However, although LMC anticipates the 2022 annualized selling rate to improve over the course of 2022, it will grow at a slower rate than forecasted last month due to the current conflict. This is due to supply disruption, inflationary pressure and lowering of consumer confidence. 

Source: LMC Automotive 

US auto industry will also not be immune to this supply disruption. According to S&P Global Mobility North America light-duty vehicle production will be reduced by 480,000 units in 2022 and by 549,000 units in 2023. According to the company there will be a shortage of nearly 25 million units of global light-duty vehicle production from its forecast between now and 2030.

Russia-Ukraine crisis and the resulting supply chain disruption - a reflection

Russia's invasion of Ukraine that began a week ago (on 24th February 2022) is setting in motion a set of dire conditions that supply chains are going to face in coming weeks and months. In this post, I reflect on the effect of the crisis on oil prices, energy prices, supplies for product manufacturing, service supplies, food supplies, and metals. 

The Brent Crude Oil Continuous Contract Price opened today at $107.34 and is ranging between $106.83-$113.94 at the time of this writing.

This crisis has taken the oil price above $104 for the first time since 2014. As the third-largest oil producer and second-largest oil exporter, Russia exerts power in the oil supply equation. Low levels of inventories, spare capacities, and stockpiling activities are putting upward pressure on the oil price. Addressing this would require sale from alternative sources such as the U.S. Shale, OPEC or Iran.

In addition to transportation costs due to increasing oil prices, transportation is also being affected due to the effect of the crisis on the estimated times of arrivals and pricing. Trade lines from China to North America are exploring various options to manage this crisis. The quantities transported from China to the EU increased in the first half of last year (at 336,500 TEUs, it was more than 44% higher as compared to 2020 and 99% higher than 2019) and this trend was continuing this year. However, these shipments that were transported by rail will now need to use alternative modes (ocean or even more expensive air). 

This can cause ocean freight rates to go up by two to three times (from $10,000 per container to more $30,000 per container) and the air freight spot rates and lead times to go up three to four times.

With Russia providing about 35% of the supplies of Europe, energy prices have started to witness an upward tick. Russia has already reduced the supply of natural gas and is potentially going to further reduce the exports as a retaliation to sanctions. Compounding this situation is the fact the almost 10% of the liquefied natural gas flows through pipelines from Ukraine to the European Union; these assets are at risk of being damaged due to the invasion. These rising energy prices will increase the operating costs of various entities in the supply chain, including manufacturing firms, distributors and retailers. Without alternative sources of supplies from places such as U.S. and Qatar, the costs of operations can become very high. The situation is also going to test Russia's ability to withstand the financial impact of reduced supplies to Europe.

There is also an expected impact on supply shortage since a large set of organizations (more than 2000 US firms and more than 1000 European firms) receive their supplies from first-tier suppliers that are located in Russia. Additionally, several companies (more than 450 US firms and more than 200 European firms) also have their first-tier suppliers operating out of Ukraine. Companies located in Russia and Ukraine are also prominently suppliers of services, including software and IT services (13%), consumer services (7%), and trading and distribution services (6%). On the product side, 4% of industrial machinery as well supplies such as oil, gas, steel and metal products are supplied from these two countries. Overall, as compared to other countries such as China, the overall trade impact due to tier-1 supplier disruptions may not be very high, but when tier-2 and tier-3 suppliers are added to the mix, the impact can be substantial since close to 200,000 firms in the US and more than 100,000 firms in Europe have upstream suppliers (tier-3) from these two countries.

Russia is the top wheat exporter, Ukraine is the top exported of rye, barley and is the third largest exported of corn. Given these trade situations, food supplies are expected to get disrupted in coming days.

On the metal commodity front, markets for copper, nickel, platinum and aluminum are expected to be squeezed due to the conflict.

Overall, the supply chain disruption caused by this crisis is just unraveling and will manifest fully in coming weeks and months. Organizations should take necessary steps to reduce the potential impact that the conflict might have on their businesses by proactively taking steps for continuity planning.

 

Quality penalties and continuity of health care

In a study my co-authors and I examine whether quality penalties aimed at reducing readmissions improve continuity of health care. We investigate if the quality penalty policy impacts continuity of care for services that were targeted by the policy through what we refer to as primary spillover effects. We also investigate the secondary spillover effects of the quality penalty policy on continuity of care for related ailments that were not targeted by the policy. The findings of this study show that externalities from quality penalties for readmission not only benefit continuity of care for the regulated ailments, but also allow health care organizations to adapt their existing routines and unlock continuity of care improvements for related, but non-targeted ailments. The finding that continuity of care does not diminish for unrelated services assuages concerns that hospitals respond strategically by neglecting or redirecting resources away from unrelated services. We provide novel insights as to how organizations respond to regulation by actively re-configuring their care patterns and coordinating service provision with attendant spillover effects on a variety of patients. Processual mechanisms such as the source of patient admissions and length of stay, and structural mechanisms such as system size and investments in continuity of care facilitate the spillover effects. 

Source: Ananthakrishnan, R., Deore, A., Nair, A. Virtuous Spillover Effects of Quality Penalties on the Continuity of Health Care. Working paper.

 

The Role of Social Media in Linking Corporate Social Irresponsibility with Abnormal Returns

Interest in the topic of corporate social irresponsibility (CSI) has burgeoned in recent years. CSI covers organizational activities that have an adverse impact on investors, employees, customers, suppliers, or the local communities. This set of organizations and individuals represent the stakeholders of a firm whose expectations of a certain behavioral standard are not met when firms cause harm through their actions and do not take steps to rectify the situation. Information about firm actions that may have compromised sustainability objectives can have a multifaceted outcome. Given that negative news receives more attention and deliberation, CSI can not only shape the sentiments of customers and media but also affect firm performance from the reaction of customers and stakeholders. At the same time, as stakeholders may be more focused on other performance measures such as cost and quality, instances of CSI may also end up receiving low to moderate attention, thereby reducing their negative effects. If this is indeed the case, firms can misbehave on the sustainability front with little consequences. As such, undertaking further research investigation is important to discern the impact of CSI on sentiment formation and financial outcome. Drawing on stakeholder theory and attribution theory, in this study we investigate the association of firms’ environmentally irresponsible actions with social media sentiments and abnormal stock returns.

In our research we examine how corporations’ environmental impact influences social media sentiment and firm value. To address this important question, we analyze a large-scale dataset collected from five sources (Trucost, Infegy Atlas, Center for Research in Security Prices, COMPUSTAT, and Harris Interactive). We find that environmental impact results in less favorable social media sentiment toward the firm. Natural resource usage and land, water, and air pollution have the most profound effect on social media sentiment of the various types of environmental impacts. However, brand equity helps insulate the negative effect of environmental impact and simultaneously strengthens the positive relationship between social media sentiment and the firm’s long-term abnormal returns; by contrast, market competition weakens this relationship. The results further show that social media sentiment mediates the link between environmental impact and firm value.

The research findings provide useful implications to aid firms in managing their environmental impact so as to avoid negative social media response and, in turn, enhance firm value. Ultimately, this study calls for the careful management of investments in activities detrimental to the environment, because consequent negative comments on social media can negatively affect firm value. Furthermore, firms lacking brand equity and facing intense market competition need to be especially vigilant with their activities that can be construed as socially irresponsible.

Source: Nair, A., Nguyen, H. Environmental Impact, Social Media, and Abnormal Returns: The Moderating Role of Brand Equity and Competition. Working paper.

Federal Government Contracting for Disaster Management

About 500 disasters occur every year, affecting more than 200 million people and killing around 75,000. Moreover, the number and severity of disasters are increasing.  To cope with these challenges, governments spend vast amounts of money in acquiring products and services. For example, the US Federal government spent over $20 billion for supplies needed for Hurricane Katrina, and so far, it has committed over $245 billion in acquisitions related to the Covid-19 pandemic.

During disaster relief operations, procurement can be a complex and uncertain activity, and there is ample reporting of failures.  A report by the US Senate Committee on Homeland Security and Governmental Affairs examined contracts awarded by Federal Emergency Management Agency (FEMA) during the response to the 2017 hurricane season.  The report reveals major shortcomings, such as the failure to adequately use pre-positioned contracts, the award of contracts without adequate vetting, inadequacies of the bidding process, and failures of suppliers to deliver.  

While disaster relief operations have similarities with commercial operations, there are notable differences concerning speed of response, uncertainty of supply and demand, and stakeholder’s goals.  These differences call for unique capabilities in terms of logistics – to ensure timely delivery – and procurement – to ensure efficient and effective contracting.  Despite the importance of both logistics and procurement in this context, research has tended to focus on logistical challenges. Much less attention has been placed on procurement, with some notable exceptions.  A review of the disaster management literature shows that out of 268 papers, only nine dealt with procurement, emphasizing the paucity of research into procurement in disaster relief. In the public administration literature, researchers have also noted that emergency procurement has been neglected and that more research is needed.  To frame our research, we take a multidisciplinary perspective drawing from the fields of operations management, disaster management, and public administration.

This research focuses on procurement during relief operations by investigating the use of contracts by US federal agencies during national emergencies.  The research focuses on the choice of contract type, which is an established dilemma in procurement.  Different contract types offer buyers and sellers a different balance of risks and rewards, and debate continues about their effectiveness under varying circumstances.  Thus, it is important to investigate the factors that influence the choice by federal agencies between cost-reimbursement contracts and fixed-price contracts as disaster relief operations unfold. 

Three key stages characterize disaster relief operations: preparation, response, and recovery. Each stage presents vastly different operational conditions. The response stage, in the immediate aftermath of a disaster, is particularly distinctive due to increased uncertainty, market disequilibrium, pronounced information asymmetries, and extreme time pressure; differences that increase the government’s risk exposure. For instance, the CARES Act, launched in response to the Covid-19 Pandemic, immediately attracted the attention of unscrupulous suppliers. Despite the differences across disaster stages, the dearth of research spanning across all stages has thus far prevented the evaluation of the factors influencing contracting practices. This study addresses this research gap by investigating how the type of acquisition and the amount of spend affect the choice of contract type. Furthermore, we examine how the disaster stage moderates these relationships, with a particular focus on the response stage, which presents the most extreme conditions.

Drawing from agency theory and the theory of regulatory capture, we investigate the choice of contract type in a setting that combines high uncertainty (which creates information asymmetries, adverse selection, moral hazard, and opportunism), and the need for speed and flexibility (which exacerbates problems of bounded rationality, supplier availability, and adverse selection).  Agency theory brings an economic perspective to the choice of contract type dilemma, as it seeks to determine the most efficient contract, given conditions of goal conflict, opportunism, information asymmetry, bounded rationality, risk aversion, and self-interest.  The theory of regulatory capture brings a public-private relationship perspective, arguing that private organizations can advance their interests by gaining influence over government agencies, often at the expense of the public interest.  It has been noted that in the aftermath of disasters, it is not uncommon to find corrupt suppliers exploiting the situation. 

The research relies on data made available by the US government, including all contracts deployed by federal agencies to support disaster-relief operations between 2005 and 2016, including 47,560 contracts across 14 disasters.  We evaluate the role of two key factors underpinning the choice of contract type during disasters, namely the type of acquisition and the amount of spend.

Our results indicate a positive association between contract spend and the likelihood of choosing a cost-reimbursement contract, which has significant implications for policymakers and practitioners because it indicates a higher risk exposure for government agencies in larger contracts.  Spend thresholds stipulated within FAR are intended to mitigate this type of risk, but since these thresholds are relaxed during disasters, government agencies become more exposed by accepting risk for the sake of expediency. However, federal agencies continue to have a fiduciary responsibility, which falls into the hands of contracting officers. Thus, both capacity (i.e., availability) and capability (i.e., knowledge and skills) of contracting officers are central to effective disaster response.  This emphasizes the importance of human resource aspects of public procurement. 

For contracting officers, the positive relationship between contract spend and cost-reimbursement contracts emphasizes the importance of contracting efforts in advance of a disaster, when they have more time to evaluate suppliers and negotiate contracts.  Pre-arrangements could thus help mitigate opportunistic behavior. Policy guidelines under FAR make pre-established arrangements available to government officials, and researchers have reported on their effectiveness. For example, in 2019, the Army Corp of Engineers established a $999 million advance joint venture agreement with six contractors to provide time-sensitive disaster support to repair critical infrastructure such as roads, bridges, electric distribution systems.

Our finding that cost-reimbursement arrangements are more prevalent in services contracting, particularly during the response stage, appears to be generally beneficial to suppliers, as they assume less risk and can concentrate on delivering the expected outputs from the contract without particular concern for costs.  For the government, this represents an increased risk, and contracting offices must remain vigilant and act when suppliers fail to fulfill their duties.  Potential suppliers should be mindful that cost-reimbursement contracts can involve additional monitoring costs. For federal agencies, this stresses the importance of having quick and easy onboarding as well as monitoring processes for suppliers of services in disaster situations.  Furthermore, it is important that contracting officers maintain open communications channels with suppliers and use supplier forums to allow suppliers to provide feedback on the suitability of contract types and other aspects of relief operations.

The negative moderation of response stage as spend increases means that there is a preference for fixed-price contracts involving large monetary value during the response stage when compared to other stages.  This appears to be positive news for the government, as it allows prioritizing speed over the fear of opportunism when dealing with large contracts.  However, this result does not imply that contracting officers can let down their guard against opportunistic suppliers.  While fixed-price contracts might help mitigate some risks for government agencies, it is still possible for opportunistic suppliers to take advantage of disaster situations. Therefore, government agencies should continue to maintain transparency and fairness of the procurement process before, during, and after the award. Moreover, drawbacks associated with fixed-price contracts, such as limited flexibility, potentially poor quality, and the possibility of supplier opportunism, should be taken into consideration.  For example, in 2009, FEMA reached a $4 million settlement with a supplier who failed to deliver on a contract to build and operate a base camp for first responders during Hurricane Katrina.  It is also important to consider efforts during the preparation stage to maintain the supply base for categories involving large acquisitions to preserve competition among prospective suppliers.

Source: Mena, C., Nair, A. U.S. Federal Government Contracting for Disaster Management. Working paper.

Risk Management Infrastructure and Information Exchange for Managing Disruptions During Surgeries

 

In a research study we examine the impact of magnitude and likelihood of disruptions on surgical procedure performance. More importantly, we investigate the moderating role played by information exchange and risk management infrastructure in mitigating the negative effect of disruption on performance.

A nationwide multi-respondent survey was administered to operating room personnel to collect information on their experiences with disruptions experienced in surgeries. The survey data is analyzed to examine the relationship between operational disruptions and procedure performance. Additionally, the moderating roles of risk management infrastructure and information exchange on the relationship between disruptions and performance are investigated. The results obtained from the empirical analysis are validated using data from an ethnographic investigation of surgeries at a major hospital.

The results show that both the magnitude and the likelihood of a disruption adversely impacts procedure performance. Interestingly, we find that risk management infrastructure and information exchange play different roles in mitigating the effect of disruptions on performance. We find that while risk management infrastructure helps mitigate the effect of magnitude of service disruptions, information exchange helps reduce the effects of likelihood of disruptions. The findings lend strong support to our theoretical assertions. By means of the participant-observer data collected from over 100 surgeries as part of the ethnographic investigation, we validate our key findings. Our findings suggest that disruptions are common occurrences in surgical settings, but their performance impact may be lessened or altogether avoided with the proper information and risk management mechanisms in place.

This survey research extends our understanding of risk management by considering a context that is highly prone to disruptions. We adopt existing constructs pertaining to supply chain disruptions within this context and find new insights. The findings of our study show differential roles played by information exchange and risk management infrastructure in mitigating disruptions. This nuanced understanding provides directions for aligning efforts towards risk mitigation in surgical settings in a more focused way. This study supplements findings from survey data analysis with an examination of data collected by means of ethnographic investigation.

Our study provides insights to practitioners to lower the number of disruptions, thus improving quality and lowering costs. Managers in other industries that often work in IATs may find the results applicable to their context. Many organizations are looking to lower their risk of disruption, and this research can help them better understand how their organization may be responding to disruptions. From the controls, we learn that operating room (OR) location influences performance. Inpatient rooms are typically larger, and more comfortable for everyone present. Hospitals may explore investments in adopting more flexible outpatient rooms or different layouts, such that the space the equipment utilizes in the room is minimized. OR personnel should be made aware that the disruptions increase the length of episodes of care and in-turn impact performance. This knowledge may help guide healthcare workers actions to better ensure a smooth experience by thinking ahead and anticipating the needs of others in the room. Additionally, experience matter. Thus, educating those in the OR department concerning the behaviors that lower or increase the risk of disruptions in acute episodes of care, a hospital may experience lower costs and less waste while saving time. In turn, this could increase the quality of results and the satisfaction of patients and team members.

To begin, a hospital's OR department or risk management department may want to develop business continuity plans by exploring the Disruption in Surgery Index  and map their disruption items. This will begin to help one understand the consequences of an episode of care disruption and provide the means to focus on the most detrimental disruptions first. This exercise will allow resources to be used efficiently to begin mitigating and building resilience for future disruptions. This awareness could lead to policies that attempt to sequester an OR team so they are not interrupted by outsiders during an episode of care. These efforts, along with the suggestions in this research, should be part of a broader conversation around business continuity planning within the OR.

Hospitals and their OR departments should look to increase their levels of information exchange to help maintain a high level of procedure performance. This could be done through training, promoting psychological safety within teams, and building long-standing relationships to create stronger bonds among team members. Additionally, formalized information sharing processes could be introduced throughout a procedure, like the pre-procedure "time-out" discussion where a surgical team ensures one more time that the right patient is receiving the correct procedure on the proper part of their body. These formalized processes ensure that different members of the team are heard, thus increasing informational independence and information distribution. Furthermore, as mentioned in the previous section, awareness by personnel of when it is appropriate to communicate is critical. Through education and experience, healthcare personnel can learn to minimize discussions during routine work, so that disruption risk remains low. Alternatively, they should learn to increase communication during higher disruption risk moments in an episode of care.

Investments in risk management infrastructure will benefit hospitals struggling with high magnitude disruptions, such as COVID-19. Risk management infrastructure further creates a more open environment by offering information to team members that may help prevent a disruption. However, this infrastructure should not solely rely on technological solutions, as "technology overload" may occur. These early warning systems may stem from pre-defined processes such as the pre-procedure "time-out", hardware or software installed in the surgical suite that alerts personnel to a potential issue, or training that discusses methods of analyzing risks and managing them, possibly through what-if scenarios. As mentioned in the previous section, low-cost solutions that provide signals to others, such as notes on doors, can have positive impacts on procedure performance. Additionally, inside the surgical suite, a better design which builds risk management infrastructure into each element will help promote a disruption-free area. These design elements may include basic signage to alert others to important matters. It may also include audible alarms, fire suppression, air filtration systems, and tools adapted to reduce user fatigue and errors. In summary, efforts to promote information exchange and resilience through risk management infrastructure will yield positive procedural outcomes.

Finally, norms of information exchange and risk management infrastructure touch upon the strategies identified from eight HRO frameworks currently being used by healthcare entities. These strategies include developing leadership, data systems, implementing interventions, training and learning, and a safety culture. As healthcare leaders continue to work towards becoming HROs, they should focus on these two constructs to help get them there. Beyond healthcare, consulting firms experience similar challenges using interdisciplinary teams, which quickly form to achieve a task for a customer. They may benefit from enacting these strategies to ensure better outcomes for their customers. It cannot be understated how difficult it may be to change the norms of information exchange. This takes time. In contrast, the implementation of some risk management infrastructure may cost more upfront, but the benefits may occur more quickly.

Source: Dreyfus, D., Nair, A. Impact of Disruptions on Performance in Acute Episodes of Care: Moderating Role of Information Exchange and Risk Management Infrastructure. Working paper.

External auditors and certification bodies of ISO 9001

 

In a research study my co-authors and I seek to advance the knowledge on ISO 9001 implementation by examining two research issues. First, we investigate the relationship between external auditors, certification bodies, and the operational and market-oriented outcomes from the ISO 9001 certification. Second, we study the different roles played by external auditors and certification bodies in affecting the outcomes achieved from the quality of implementation of the standard. Using a dataset comprising of 537 firms from Australia and New Zealand that are ISO 9001 certified, our findings show that the quality of external auditors enhances operational outcomes as well as strengthens the relationship between ISO 9001 implementation and operational outcomes. This affirms the role of external auditors in the implementation of the standard. On the other hand, the reputation of certification bodies has a positive direct effect on market-oriented outcome, and its effect is strengthened by the quality of ISO 9001 implementation. The findings, therefore, show the contrasting roles between external auditors and certification bodies in enhancing different outcomes of ISO 9001 adoption in terms of operational and market-oriented ones.

There are a number of practical implications drawn from the findings. First, our study confirms once again that quality implementation is the key determinant of the operational outcomes of ISO 9001 adoption. At the same time, however, the findings also confirm the important role of external auditors in enhancing the effect of implementation on the operational outcome from ISO 9001 standard. This result is instructive in that it is the quality of auditors rather than the reputation of certification bodies that help firms in gaining the operational outcomes. For many firms, however, this finding could raise a practical problem: how to find good auditors? The answer to this question is not straightforward because, unlike certification bodies who have certain brand equity, auditors are employed by certification bodies and their quality is somewhat hidden from the customers and is only revealed after they are engaged after the ISO 9001 certification is over. Indeed, this problem is exacerbated by the fact that firms cannot simply resort to reputable certification bodies in order to find good auditors. The positive correlations between quality of auditors and reputable certification bodies only show a medium strength and, hence, this does not provide a strong assurance that reputable certification bodies will always send quality auditors. Therefore, while engaging reputable certification bodies is recommended, firms should request that they are served by experienced and quality external auditors whose characteristics are partly captured in this study. At the same time, however, the findings also infer that high quality auditors are not necessarily always employed by reputable certification bodies; they could also be part of less reputable certification bodies. In this regard, our findings also provide a ray of hope for firms who cannot afford to engage reputable certification bodies that normally charge higher costs than their counterparts. In particular, smaller firms with limited resources still have a chance to engage high quality auditors and to benefit from their services.

Our findings show that the reputation of certification bodies (rather than the quality of external auditors) helps firms improve their market-oriented outcome, including broadening their market scope and winning more customers. This finding suggests that customers still rely on “brand image” of reputable certification bodies. Customers perceive ISO 9001 certifications issued by reputable certification bodies to be of higher value than others. While this may be true to a certain extent, it is important to balance this notion with our finding, which shows that certification bodies do not have a direct positive effect on operational outcomes. Instead, firms ought to seek high quality ISO 9001 implementations that are then vetted by high quality auditors so as to obtain operational outcomes. The operational outcomes in turn exert a positive effect on market performance. This result therefore sends a strong message to firms that are trying to attain market-oriented outcomes solely from compliance to the standard’s requirements without internalizing the implementation process. More importantly, since it is operational outcomes that are mainly desired by customers (rather than the certification), simply signaling high quality ISO 9001 implementation by tapping into the reputation of certification bodies could be a misleading strategy to gain market-oriented outcome.

Source: Prajogo, D., Nair, A., Castka, P. 2022. The effects of external auditors and certification bodies on the operational and market oriented outcomes of ISO 9001 implementation. IEEE Transactions on Engineering Management. (Forthcoming).

Supply chain integration for improving performance of not-for-profit organizations

Food banks are not-for-profit organizations that aim to alleviate the hunger problem in the society by working with donors on the upstream and member agencies on the downstream of their supply chains. These organizations operate in highly complex environments due to the uncertainties associated with supply and demand. In order to cope with the uncertainty and to be able to deliver food to the underserved communities, food banks need to utilize information and coordinate well with their partners so that the donations can be matched with demand in a timely manner.Therefore, effective and efficient supply chain management approaches become critical in this resource-constrained setting, where it is unknown which resources are available. Based on what we know from the previous research on for-profit firms, and given the complexity of food bank supply chains along with the necessity of food banks to work with partner firms, it is natural to contend that supply chain integration is a key determinant of performance. Exactly how the constituent parts of supply chain integration relate to each other in humanitarian organizations, however, is an open research question. Three common integration dimensions that have been investigated in the supply chain management literature include internal integration, demand integration and supply integration. Demand integration and supply integration are also referred to as external integration in some studies. Collaboration between functions and information sharing processes within an organization determines the internal integration. Some indicators of internal integration in the literature include intra-firm functional team activities between functions, such as operations, marketing and logistics, to achieve the goals of the supply chain. Moreover, demand integration relates to the collaboration activities and information sharing with key customers to meet their expectations and improve supply chain performance. Similarly, supply integration involves coordination activities as well as information sharing with key suppliers to achieve supply chain performance by enabling better planning, forecasting and process design. We study the three key dimensions of supply chain integration – supply integration, demand integration and internal integration and empirically examine how each is related to the others and how they impact food banks’ ability to create basic programs that help in delivering food to the underserved communities.