Accounting for Change – the impact of currency fluctuations and discount policies on global supplier management
The positive opportunities offered by globalisation to outsource operations to lower-cost countries can also represent a major headache – currency exchange rates may leap up and down, making the business of estimating the overall system cost for multi-site and multi-supplier projects an even greater task.
This may have a knock-on effect on order volume, and therefore transportation and inventory costs. Discount policies can also vary from one site to another, so it is doubly important that supply chain managers keep a global view on the cost implications. The crucial selection of suppliers is both strategic and closely associated with the many possible cost scenarios on the table.
The globalisation of industrial activities and the expansion of offshoring have undeniably raised global purchasing levels in recent years, as companies seek economic development and competitive advantage. However, with these business opportunities come a number of potential pitfalls. Environmental, sustainability and financial issues have arisen as a result of the increased amount of transportation required. Currency exchange rates may fluctuate to such an extent that companies are driven to order in larger quantities while the rates are in their favour, resulting in higher inventory and storage expenditure. Varying discount policies may also be applied from one site to another, depending on the volumes ordered, making the expected purchasing cost even more complicated to anticipate. These and other variables all have a major impact on the initial key decision – choosing the right suppliers.
A strategic and financial decision
A whole number of criteria are involved in the selection of suppliers for global, multi-site operations – financial metrics and the cost of service are high on the list but other issues such as reliability, customer service, technological capability, and flexibility also come into the equation. It may be tempting for a company to opt for service providers in lower-cost countries but sometimes the saving made can be offset by the higher maintenance costs incurred by integrating these providers into the overall chain. More than ever before, the supplier selection process is influenced by overall strategy, as well as the more traditional factors of eventual purchasing and supplier management costs.
Predicting the cost of change
Previous research into this fertile area has successfully identified the many risks and types of uncertainty inherent within global supply chain management. However, what has not been addressed up until now has been the actual impact of currency exchange rate fluctuations and discount policies, and their link to transportation and inventory costs. In order to establish a potentially successful model for application by companies, an interrelation between these four key factors needs to be established, not just theoretically but also empirically with a view to adoption of a new proposed model by practitioners.
As part of this process, various exchange rate scenarios require analysis (the quantity ordered per site, in each time period, and with the inventory costs of each buyer site). Discount policies per site need to be kept track of but the initial negotiation of discounts should be performed globally, with managers per local site responsible for feeding information to the global supply chain manager overseeing operations. However, the main objective has not changed that radically – to minimise the total expected purchasing cost (i.e. supplier management cost + purchasing price + transportation costs + inventory costs) over the planning horizon while satisfying all constraints.
Shedding theoretical and practical light
A case study based upon the US automobile industry has helped provide insight into this complex issue. The case in point relates to a company with plants in the US and Germany that require provisions from supplier sites based in China, Japan, Spain and the US, meaning four currencies have to be juggled with, different management costs and varying volumes. However, the US dollar is employed as the “reference currency”. Discounts per site are offered based upon volume, whilst currency exchange rate fluctuations are calculated based on Royal Bank of Canada financial market forecasts.
Concerning discount policy and its impact on the chain, the study recommends global negotiation of quantity-based discounts with each local supplier in order for the global overseeing company to make gains. However, transportation costs were not found to have so large a bearing on the supplier decision-making process, as only in the case of a large increase in transport costs would it make financial sense for a company to switch suppliers. What this recent case study has sought to illustrate regarding the exchange rate issue is not the fluctuations themselves but rather the impact they have on the global supply chain management process. It is the uncertainty created by this issue that managers must face in today’s globalised market, not the actual rate changes themselves. Establishing a new model for multi-country, multi-buyer, multi-supplier projects will represent a great leap for companies trying to accurately cost so complex an operation and therefore make the right choice of suppliers.
This article draws inspiration from the paper A scenario-based stochastic model for supplier selection in global context with multiple buyers, currency fluctuation uncertainties, and price discounts, written by Ramzi Hammami, Cecilia Temponi and Yannick Frein, and published in the European Journal of Operational Research vol. 233 (2014).
Ramzi Hammami is the Head of the Centre of Research in Supply Chain Management& Operations Management (R-SCOM) at ESC Rennes School of Business, France. His research interests cover supply chain design, green logistics, supplier selection, and inventory management.
Cecilia Temponi is a professor of Management at the McCoy College of Business, Texas State University. Her research interests include Quality and Supply Chain, Enterprise Modelling and Demand-Driven Supply Chain Networks
Yannick Frein is a distinguished professor at Grenoble INP and former director of the G-SCOP research laboratory. His research interests cover logistic flow management in production systems (particularly within the automobile industry) and supply chain design (international factors, lead time, and environmental concerns).