Can Supplier Flexibility Help the Oil and Gas Industry to Manage Market Volatility?

Can Supplier Flexibility Help the Oil and Gas Industry to Manage Market Volatility?

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Evaluating the resilience of suppliers could help the oil and gas industry to manage extreme swings in energy prices.

The oil and gas industry has learned much from the recent collapse in oil prices and the mass layoffs triggered by the downturn. A lesson that could help the industry to manage the energy market’s volatility is the importance of an agile supply chain. Peng Bi and Remya Pushpangatha Kurup looked at how supplier flexibility can enhance supply chain agility in the industry for their MIT CTL Supply Chain Management program master’s thesis. They developed a tool for assessing this important attribute that could help energy companies to build more resilience into their supply chains.

The downturn forced oil companies to slash around $1 trillion in spending on new oil and natural gas output reported the Wall Street Journal. Oil services enterprises that rely on industry investment projects have been the hardest, said the Journal.

Suppliers that are able to flex with the market’s ups and downs help the industry to weather economic storms. However, the researchers found that supplier flexibility tends to receive much less attention that other critical factors such as price, quality, and service levels. Companies that have the ability to adapt to market volatility are much more likely to survive a dip in demand. Here are two examples.

A small Canadian supplier in the oil and gas industry was hit hard by the downturn, and laid off some 40% of its workforce. But the company survived largely because it diversified into other markets, streamlined production and operations, reduced lead times, and shared forecasts with other industry vendors to get a better read on demand. The second example, a large U.S.-based corporation, also shared forecasts with its peers. In addition, the company used its extensive manufacturing base to provide more production flexibility.

It can be argued that companies already pay attention to suppliers’ flexibility. This was borne out in a survey of category managers that the researchers carried out. Managers were asked what capabilities in their experience make suppliers resilient to market adversity. The respondents pointed to factors such as suppliers’ dependence on the oil and gas business, the degree to which they are vertically integrated, and their financial flexibility.

However, relying on individual managers’ perceptions is not enough. Each industry has a distinct risk profile, and the mix of factors that underpin flexibility in the oil and gas business is unique to that industry. Also, to effectively assess supplier flexibility, companies need an evaluation tool that they can integrate into their corporate risk management strategies.

The researchers developed such a tool. After interviewing industry managers and suppliers, and researching current supplier assessment practices, they created a master list of 29 flexibility factors for the oil and gas industry. The list was validated by the survey of category managers. Respondents were asked to rate the importance of the factors listed, and also which factors contribute to supplier flexibility.

The master list was organized into a framework that forms the basis of a Microsoft Excel-based tool for evaluating supplier flexibility. The tool includes a self-reporting section where suppliers answer questions on flexibility factors and are scored on each answer. For example, on procurement flexibility vendors are asked how much of their procurement programs are sole-sourced. There is also a section for category managers who can rate the supplier responses. The fourth section provides a dashboard overview of each supplier’s flexibility performance.

The idea is not to reject suppliers that do not score well. The tool is meant to be part of a company’s ongoing efforts to monitor its supply network. Also, the researchers believe that suppliers can learn as much from the tool as their customers can.

All too often flexibility falls off the radar screen when companies are assessing suppliers. Moreover, in the oil and gas industry many vendor companies do not have a firm grasp of the industry’s risk profile – let alone the importance of flexibility.

These issues apply regardless of size. A small supplier might not have the resources to comprehensively track market demand and global energy trends, but they can institute low-cost measures such as joint planning with customers and sharing forecasts with peer companies.

The tool can be refined with more data and user experience, so the next time that oil prices plunge, the industry will be better prepared. In addition to causing much trauma, layoffs and bankruptcies do immense damage to the supply base, extending recovery times and causing companies to miss opportunities as an upturn gathers pace. Fewer suppliers also means that companies have to invest in finding and qualifying new vendors.

These lessons not only pertain to the oil and gas industry. The research indicates that although enterprises in other sectors such as electronics consider flexibility when evaluating suppliers, their analyses lack the systematic rigor of an evaluation tool that is part of a risk management program.

The SCM thesis by Peng Bi and Remya Pushpangatha Kurup SCM “How to Assess Supplier Flexibilitywas supervised by Dr. Roberto Perez-Franco, Research Associate, MIT Center for Transportation & Logistics (roberto@mit.edu). For more information on the thesis contact SCM program Executive Director Dr. Bruce Arntzen at: barntzen@mit.edu. This article will be published in issue #62 of Supply Chain Frontiers later this month. Frontiers is the newsletter of the MIT Global SCALE Network. Subscribe for free to Frontiers here. 

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