More and more companies have operations that stretch overseas, where weather disasters are on the rise. How can they protect themselves?
Whether related to climate change or not, recent windstorms, floods, and other natural disturbances are causing greater losses than ever to U.S. multinationals, says Shivan Subramaniam, chairman and chief executive of FM Global. The Johnston (R.I.) company insures about a third of the 1,000 largest U.S. corporations. Subramaniam says CEOs are going to have to do a better job anticipating disruptions to their global supply chains and information technology systems, among other steps, to avoid losing market share. Here are edited excerpts from a recent conversation:
What kind of help are CEOs asking for to avoid weather-related disruptions?
Our clients focus on prevention. They think: "A business disruption gives me loss of market share, maybe permanently." They lean on us to provide them with the expertise about how to avoid those disruptions.
First we help them assess their risks and develop preventive programs. Then we help develop a business continuity plan in case something does happen. The last step is providing a risk-transfer product, or insurance.
Isn't it harder to anticipate disruptions in view of how globalized everyone's supply chain has become?
Not all multinationals make what they sell anymore. More and more of them make products in places that are 5,000 and 10,000 miles away from where they sell them.
How will their enthusiasm for global supply chains be affected by weather disruptions?
The supply chains are getting very, very stretched. I don't know if it's because of climate change, but clearly there is an increase in the frequency and severity of disasters. At the same time, urbanization is increasingly occurring where you're most at risk. Areas exposed to earthquakes and windstorms are where the greatest urbanization and commercialization are occurring, primarily in Asia in places like the Pearl River Delta of southern China.
What does it all mean?
If you superimpose those two scenarios on a long supply chain, the probability of that supply chain breaking down has just increased dramatically.
What can a CEO do about that?
If I can't change where I am making this product or where I am warehousing it, can I bring to bear loss-prevention techniques—so that when the wind does blow, the building is intact? And if the water does rise, what can I do to prevent flooding?
The next step is to focus on control and mitigation—simple things like making sure the product is not stored at the lowest level. When the flood does occur, you're not swamping the product. Another simple thing is having backup power. So if your company depends on refrigeration and you have backup power, you're still in business.
Can you envision a day when CEOs might ask themselves whether it's time to bring production back to the U.S. because of supply chain disruptions?
I don't envision that because of the economic benefits. When you look at why they are extending the supply chain so far, it is because of enormous productivity and efficiency gains. Right now, the trade-off between efficiency and risk is still on the efficiency side.
How vulnerable to disruptions are the IT systems that companies have built globally?
That's the second-biggest challenge. These systems are getting more elaborate and more complex because one of their tasks is maintaining the global supply chains. That's why data centers and backup and networking are supremely important. Every major organization is looking at how they can back up the data centers. A lot of times, it's not your manufacturing that's most important. It's your data centers because they represent the ability to deal with and service clients.
The challenge is to develop as many redundant systems as you can without tipping the balance in terms of efficiency and productivity.
At some point, will U.S. companies have to spend more money to protect these systems?
Yes. They're going to focus on whether they have to give up some of their profit margin to reduce their risks. A lot of our clients are starting to recognize that. We had a severe snowfall occur in China (BusinessWeek.com, 2/1/08) that nobody expected, and a lot of facilities collapsed. Companies increasingly ask: "What is the improvement in our margins worth if our supply chain breaks down, and what could we have done about it?" Generally, their answer is: "We should have spent more money on the loss-prevention side and made that building in China able to withstand a much higher snowfall load."
That's where we come in. Several of our clients [in China] have told us that their facilities are still standing. They gave up on that profit margin initially and put up a stronger building based on our recommendation.
So is all this climate change or not?
Our scientists tell us that they're not 100% sure about the reason, but there definitely is an increase in the frequency and severity of windstorms and floods. We have a very large research group, probably the largest collection of PhDs as it relates to fires and disasters. We do a lot of basic research in those areas. We have a campus where we build things and burn things down, to figure out how materials behave and how facilities or a warehouse respond when a fire occurs.
What are other issues that CEOs ought to be thinking about but aren't?
They should understand that their businesses have become significantly more complicated and riskier. They don't fully recognize that. They're focusing on the productivity gains and the margin gains, but not on the risks.
More and more, our best clients are having their breakdowns outside North America. Plants are not as well built. The preventive maintenance processes are not as well established as they would be in North America.
What about where they have an extensive sourcing network of different suppliers that they don't actually own?
That's a big issue, and it's getting bigger. The people in the forefront of managing that are in the high-end electronics businesses because they have so many suppliers. They are far more sophisticated than typical industries.
But this is a high area of risk. Not all of them are focused on the fact that one tiny screw manufacturer is critical to their enterprise. We've shown that to our clients many times. They may have a very large operation but if something happens to that screw manufacturer, that's going to put their product at risk.
Seems like insuring the global supply chain would be inherently risky because so many companies don't really know how far their supply chain reaches. Right?
That's our job. When a client hires us, we work to identify the key elements of the chain. We reach through that network and reach conclusions on the quality of the properties that supply the components. We go backwards into their production chain. That's the heart of where business is changing dramatically. Small events now threaten an entire supply chain.