Supply Chain Metrics That Matter: A Focus on the Automotive Industry – 2015

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Supply Chain Metrics That Matter: A Focus on the Automotive Industry - 2015 Progress on Supply Chain Excellence 10/27/2015 By Lora Cecere Founder and CEO Supply Chain Insights LLC and Regina Denman Client Services Director Supply Chain Insights LLC

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Contents Research 3 Disclosure 3 Research Methodology 4 Improving Performance 6 Driving Profitability 7 Improving Cycles 7 Managing Complexity 7 Defining Improvement 8 Balance 10 Strength 11 Resiliency 12 Evaluating Supply Chain Excellence: Putting It All Together 14 Executive Summary: Current State of the Automotive Industry 15 Supply Chains to Admire 16 A Look Back at History 17 Cash-To-Cash 24 Recommendations 26 Conclusion 27 Companies Studied 28 Definitions 28 Prior Reports in This Series 29 About Supply Chain Insights LLC 31 About Lora Cecere 31 Page 2

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Research The Supply Chain Metrics That Matter report series is an analysis of supply chain excellence for specific industries. In this report we take a closer look at, and share insights on, the automotive industry. The goal is to help supply chain leaders understand what is possible in driving supply chain excellence programs. These reports are based on data collected from financial balance sheets and income statements over the period of 2000-2014. Our source of data is YCharts. In these Supply Chain Metrics That Matter reports we analyze how companies made trade-offs in balancing growth, profitability, cycles, and complexity during the last decade. Within the world of Supply Chain Management (SCM), each industry is unique and sectors vary within industries. As a result, it is dangerous to list all industries in a spreadsheet and declare a supply chain leader. We believe a better methodology is to evaluate change over time with a focus on overall performance and improvement within an industry peer group. In this series of reports—Supply Chain Metrics That Matter—we analyze the potential of each supply chain peer group while sharing insights and recommendations from industry leaders based on general market trends. In the appendix of this report we share information and links for other reports in this series which are focused on progress in other industries. Disclosure Your trust is important to us. As such, we are open and transparent about our financial relationships and our research process. This independent research is 100% funded by Supply Chain Insights. These reports are intended for you to read, share and use. Please share this data freely within your company and across your industry. All we ask for in return is proper attribution when you use the materials in this report in public forums. We publish under the Creative Commons License AttributionNoncommercial-Share Alike 3.0 United States and our citation policy is outlined on the Supply Chain Insights Website. Page 3

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Research Methodology The methodology to understand supply chain performance and improvement is based on ten years of data mining of supply chain financial ratios. In Table 1 we share the supply chain ratios we analyzed to understand the trends in the Supply Chain Metrics That Matter report series. Table 1. Financial Ratios Considered in the Development of the Supply Chain Index While there are other measurements which we believe are important in the determination of supply chain excellence—forecast accuracy, case fill rate, carbon footprint, and inventory write-offs—we cannot find a reliable and consistent source of data for these metrics which covers all industries and the years studied. We find the industry data sources for these additional measurements are spotty and largely inaccurate due to the self-reporting of data. As a result, they are not included in this analysis. Without a consistent data source across the industries, we cannot include these factors even though we believe they are important. The Supply Chain Index methodology was built on the belief that the supply chain is a complex system with increasing complexity. We believe it is the supply chain leader’s role to build and manage supply chain performance to drive year-over-year improvements which are balanced, strong, and Page 4

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resilient. In our research we find that most companies throw the supply chain system out of balance, and as a result are able to drive progress only on a single metric, not a balanced metrics portfolio. To illustrate this point, in the development of the Supply Chains to Admire Report we studied public manufacturing and retail companies for the period of 2006-2014, and we found that only 21 of the companies in the study group performed better than their peer group on the portfolio of metrics of operating margin, inventory turns and Return on Invested Capital (ROIC). In the management of the supply chain there are many metrics. In fact, we find that most supply chain leaders measure too many on their scorecards, which drives confusion. Our first goal in the research was to determine which metrics should be tracked in the portfolio analysis. To understand the relationship between supply chain performance and market capitalization, we calculated the correlation of seven years of financial ratios (based on quarterly reporting) to market capitalization (the number of outstanding shares multiplied by the share price on a quarterly basis). The results of this study are presented in Table 2. Our goal was to select a portfolio of metrics that could be meaningful to all industries. Table 2. Correlation to Supply Chain Financial Ratios to Market Capitalization For leaders, we find that progress is slow and deliberate. In our research we find it takes at least three years to drive significant supply chain progress, and the best supply chain transformation projects take at least five to six years. Page 5

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We also find it is difficult for supply chain leaders to sustain progress. A bad project, a quality issue, or a merger can result in deep balance sheet gyrations. As a result, most companies go through ups and downs with distinct patterns. Our work is a study of metric performance patterns. We believe the patterns matter. It is for this reason that in this report we analyze companies’ progress in time periods—pre-recession, during the recession, and post-recession—to discover year-over-year trends. In our research, supply chain excellence is defined as ‘performance better than a competitor on a portfolio of metrics’, and ‘improvement better than the peer group average’. While this sounds easy, what will be seen by the reader of this report is a tough standard which few can meet. Improving Performance To evaluate performance we analyzed a portfolio of metrics against industry averages and improvement for three periods of time: 2006-2014, 2009-2014, and 2011-2014. This allowed us to analyze the companies for the longer view, and post-recession recovery. The basis of the analysis in this report is the Effective Frontier model. As shown in Figure 1, the Effective Frontier is designed to illustrate the principle that a supply chain is a complex system, with increasing complexity, which needs to be managed using a balanced metrics portfolio. We use the model of the Effective Frontier to represent this complex system. Figure 1. The Effective Frontier In our writing it is deliberately not termed the ‘Efficient Frontier’—a term used in economic theory. Why? Quite simply it is because the term ‘efficiency’ in supply chain processes is usually linked to the lowest cost or the best revenue per employee. The concepts of the Effective Frontier are based on the balance of growth agendas with cost, cycle metrics (a focus on inventory), and complexity. We use Return on Invested Capital (ROIC) as a proxy for complexity. Page 6

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In this report we analyze the progress of the automotive industry on the Effective Frontier. Across all industries we find that nine out of ten companies are stalled at the intersection of two important metrics: inventory turns and operating margin. While some companies made no improvement over time, most companies were able to either improve inventory turns, or cost, but not both together. The reason? We believe it is due to the rise of unchecked complexity. In the last five years, 37% more items were added to the item master of the average automotive company. As will be seen in this report, unchecked complexity throws the supply chain out of balance. Driving Profitability There is often an inverse relationship between margin and supply chain excellence. Industries with the thinnest margins are more serious about delivering on the promise of supply chain leadership. With the historically low margins in the automotive industry, supply chain has been an important industry imperative. Progress was faster in the last decade than more recently. In our analysis for this report, we use operating margin as the measure of profitability. The methodology is equally applicable to EBITDA. Improving Cycles When it comes to managing cash-to-cash cycles, a small number is better. The question in the boardroom is “How small can supply chain working capital cycles be managed to pump cash into the organization?” There is seldom the question of “How low can we go in working capital cycles before we put the supply chain at risk?” To understand the management of cycles in the automotive sectors we evaluated the cycles in three time periods: 2006-2014, 2009-2014, and 2011-2014. Here we use inventory turns as the proxy metric for supply chain cycles. Cash-to-cash is a composite metric of receivables, inventory, and payables. As can be seen through the charts, the greatest improvement in supply chains in the last decade has been made in payables—lengthening payment terms to suppliers. Inventory levels and receivables have been more constant. In our analysis, we use inventory turns as our measure of supply chain cycles. The higher the inventory turn value, the stronger the results. Managing Complexity By definition, the automotive industry is asset intensive. Factory smokestacks are iconic representations of manufacturing excellence. Within the automotive company supply chain there are many forms of complexity: increase in items, customer policies, geographic reach, and markets. Over Page 7

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the last decade, complexity in the automotive industry increased: this includes platform complexity, greater use of software in development of the automobile, global sourcing alternatives, and the shifts in fuel prices. Return on Invested Capital (ROIC) is a less well-known metric compared to Return on Assets (ROA). Return on Assets has a narrower focus. Our research indicates that ROIC has a better correlation with stock market capitalization, and provides a broad perspective on cash flow generation and profitability based on shareholder equity. The formula used for ROIC is: ROIC is a measurement of the company’s use of capital. The goal is to drive higher returns than the market rate of the cost of capital. As will be seen in this report, for many companies this is a struggle. Defining Improvement In judging improvement, the patterns matter. We built the Supply Chain Index to gauge the progress of supply chain leaders. The methodology starts with understanding the resulting pattern when two supply chain metrics (generally ratios) are plotted over time on an orbit chart. As shown in Figure 2a, an orbit chart enables the visualization of performance patterns. Figure 2a. Example Orbit Chart. Ford Motor Company Inventory Turns and Operating Margin for 2000-2014 Page 8

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In the first chart, we show the pattern of Ford Motor Company with callouts to help read the chart. Note that Ford lacks resiliency with performance at 2014 similar to that of 2005. Figure 2b. Orbit Chart. Audi Inventory Turns and Operating Margin for 2006-2014 The patterns of orbit charts tell stories. Often they are gnarly and turbulent like that of Ford. In contrast, when you find a supply chain leader you see a clearer pattern of supply chain improvement. This is the case of Audi. As you trace Audi’s progress in Figure 2b, you can see that performance declined during 2006-2009, and then the company made dramatic improvement in 2009-2011, followed by a small correction in 2011-2014. Seldom do you find a company making linear improvement. Due to the complexity of the charts, our first challenge in the creation of a methodology was to define ‘Supply Chain Improvement’. This was our goal in the building of the Supply Chain Index. We wanted to develop a means to analyze improvement across a variety of industries with applicability to companies with different levels of revenue and at different levels of supply chain maturity. As we shared our findings, and educated supply chain leaders about financial ratios, the interviews with companies helped us to better understand the data. “What caused this downswing in inventory in 2007?” we would ask. The company would then share that it was a six-month laser-focus brought on by a new manager. When we asked, “What caused these cash-to-cash cycle gyrations in the period of 2002-2004?” they told us the story of a difficult merger. We found that this was a new way of Page 9

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looking at data; and while it took adjustment and training, it provided a new and fresh perspective at most organizations. Our insight? Supply chain progress happens over time; not in months or quarters, but in years. It usually takes at least three years to see impactful change. The interrelationships between the metrics are real. The supply chain is a complex system with nonlinear relationships between the metrics of growth, cost, inventory turns, and ROIC. The effective management of the supply chain requires embracing it as a system. The data cannot properly be assessed in a spreadsheet. Our approach was to plot the shifts over time using orbit charts. In this report, we share the orbit charts of automotive manufacturing leaders. In 2013 we partnered with Arizona State University’s School of Computing, Informatics and Decision Systems Engineering. After two years of work, we believe that we now have a methodology which enables the comparison of supply chain progress in the delivery of the Supply Chain Index. We defined the Index as a whole, and applied the methodology across industries to measure supply chain improvement. To help the reader understand the Supply Chain Index calculations in this report, we first define the separate pieces—balance, strength, and resiliency—and then evaluate the input of the pieces to the total Index. Balance Balance in the supply chain is a constant struggle. Growth requires an increase in inventory. Forecasting and managing a new product launch is difficult. Excessively long Days of Payables leads to weakened supplier health. The examples are endless. The two metrics which comprise our balance measure are Revenue Growth and Return on Invested Capital. The balance measure in the Supply Chain Index is a mathematical calculation of the vector trajectory of the pattern between growth and ROIC for the periods of 2006-2014 and 2009-2014.To understand this measurement, imagine a four quadrant grid with growth and ROIC on the two axes. In our calculation, the overall trajectory of this vector from Year 0 (2006) to Year 8 (2014) is simplified into a single value which represents the company’s ability to balance growth while improving ROIC. Companies that were able to drive improvement in both metrics scored the best, while companies that deteriorated in both scored the worst. The companies are then stack ranked based on factor ratings. In Figure 3, we profile Audi. Audi has made more progress than its peer group. Page 10

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Figure 3. Orbit Chart. Growth vs. Return on Invested Capital (ROIC) for 2006-2014 for Audi The balance factor comprises 1/3 of the total Supply Chain Index calculation. Sustained improvement on both year-over-year growth and ROIC indicates a balanced supply chain and is reflected in a high balance score. Strength A successful supply chain is strong and reliable. Supply chain leaders strive to deliver year-over-year improvements in both cost and inventory management. Our research on pattern recognition has uncovered a rich relationship between operating margin and inventory turns. For most supply chain leaders, these are some of the most important measures of their performance. Not only are they important, they are more directly influenced by day-to-day supply chain decisions than other, and more broadly used, corporate metrics. It is for this reason they are the two components of our strength factor in the Supply Chain Index. The strength measure in the Supply Chain Index is a mathematical calculation of the vector trajectory of the pattern between inventory turns and operating margin for the periods of 2006-2014 and 20092014. Like the balance factor calculation, the work starts with understanding the orbit chart pattern. To understand the calculation, imagine a plot—an orbit chart—of inventory turns and operating margin. In this report, performance is graphed on an annual basis from an origination point Page 11

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representing performance on the two metrics at Year 0 (2006). The overall trajectory of this vector from Year 0 (2006) to Year 8 (2014) is simplified into a single value which represents strength. Improvement on both metrics simultaneously is graphically shown as movement to the upper-right quadrant with increasing values for both inventory turns and operating margin over the period. The companies are then stacked ranked based on performance and assigned a strength factor. The strength factor comprises 1/3 of the total Supply Chain Index calculation. Sustained improvement on both inventory turns and operating margin indicates a strong supply chain and is reflected in a high strength score. In Figure 4, when comparing Audi to Peugeot, while both companies have made recent progress, Audi is operating at a significant advantage with a 9% operating margin and almost 12 inventory turns. Figure 4. Orbit Chart. Operating Margin vs. Inventory Turn Comparison of Audi and Peugeot for 2016-2014 Resiliency Resiliency is an adjective easily tossed around as one of the important qualities of a successful supply chain in today’s volatile world. However, the concept of resiliency is difficult to define, and there is rarely clarity among stakeholders as to what resiliency is or should be. As we plotted orbit chart after orbit chart, we could see that some supply chains Page 12

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had very tight patterns at the intersection of operating margin and inventory turns, and that other companies had wild swings. We wanted to find a way to measure the variation. So, we turned to the experts at ASU. After evaluating several methods to determine the pattern in the orbit chart, we settled upon the Euclidean Mean Distance between the points. These results were published in our March 2014 report, Supply Chain Metrics That Matter: Improving Supply Chain Resiliency, where we define resiliency as the tightness of the pattern at the intersection of inventory turns and operating margin. These metrics, both critical for any supply chain, are components of both the strength and resiliency metrics in our Supply Chain Index model. Table 3. Supply Chain Resiliency by Industry The tightness of the pattern (mathematically speaking, the Euclidean Mean Distance) indicates the ability of a supply chain to maintain a tight, consistent pattern across these two metrics as the business environment shifts and changes over a nine year period (2006-2014). As shown in Table 3, supply chain resiliency varies considerably by industry. The automotive industry is more resilient than contract manufacturing and consumer electronics, but more volatile than consumer packaged goods. The resiliency metric is similar to the cash-to-cash cycle in that a smaller number is better. A lower number for resiliency is an indicator of a tighter pattern and greater reliability in results over the time period. Page 13

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Evaluating Supply Chain Excellence: Putting It All Together In the analysis, each company is judged by their own potential to make progress. While the average values of a company’s performance may be higher, in the Supply Chain Index we are evaluating companies on their ability to drive year-over-year improvement, and reliable progress on the metrics that we believe matter. The Supply Chain Index is a measurement of supply chain improvement. Each of the factors— balance, strength and resiliency—as defined above, comprises 1/3 of the total score. Companies that are underperforming their peer group can drive supply chain improvement faster than higher-performing companies. As a result, when evaluating supply chain excellence, it is important to look at improvement and performance together. We use this analysis to determine the best performing supply chains through our Supply Chains to Admire methodology. Page 14

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Executive Summary: Current State of the Automotive Industry Globalization. Commodity inflation. Economic uncertainty. Recalls. Labor bargaining disputes. The list could go on and on, but one thing is clear: the automotive industry was redefined over the course of the last decade. The company that outperformed, and stood the test the best, is Audi AG. In general, for the period of 2006-2014, the European automotive companies outperformed their North American and Asian counterparts. Audi, BMW and Volkswagen drove the highest level of supply chain improvement as measured by the Supply Chain Index. Asian manufacturers Honda, Nissan, Toyota, and Suzuki averaged lower levels of operating margin and Return on Invested Capital (ROIC). The North American manufacturers of Ford and General Motors struggled. Table 4. Comparison of Automotive Companies for the Period of 2006-2014 While Lean and Toyota systems are touted widely as a panacea for supply chain excellence, this is not supported in the financial balance sheet numbers. While Toyota’s inventory turns are above peer Page 15

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group averages, the company operates at a much lower ROIC and ranks in last place in the Supply Chain Index for 2009-2014. As shown in Figure 5, Toyota is at the same level of operating margin and inventory turns in 2014 as 2006. In Figure 5 we contrast the orbit chart patterns of two Asian manufacturers, Honda and Toyota, during this volatile period. Figure 5. Orbit Charts for Toyota and Honda Contrasting Inventory Turns and Operating Margins for 2006-2014 Supply Chains to Admire When it comes to understanding the Supply Chain Metrics That Matter, the performance of each industry is different. The study needs to be industry specific. In the 2015 Supply Chains to Admire analysis, only Audi makes the list from the Automotive Industry. As shown in Figure 6, no automotive supplier makes the list, but two heavy equipment companies, John Deere and United Tractors, meet the criteria. Page 16

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Figure 6. Supply Chain Insights 2015 Results of the Supply Chains to Admire A Look Back at History In reviewing annual reports for the period, two facts become very clear:  Supply Chain Matters: The annual reports have a higher number of supply chain citations than those in other industries for the same period.  Reflection of Volatile Times: The automotive industry faced unprecedented levels of demand and supply volatility in this period. The importance of these two facts is echoed in the annual report citations for the period of 20062010. Here we share some of the most relevant annual report excerpts. As you read through the citations and look at the orbit charts, the intensity of this pre- and post-recession period for this industry is clear: Page 17

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BMW, 2006. The situation on the commodity markets remains tense the high price levels on the raw material markets once again represented a major challenge for the group’s purchasing departments in 2006. Significantly higher costs had to be paid for supplies of steel, plastic, aluminum and copper. The annual average market price of aluminum, copper and plastic went up in 2006 by 34%, 76% and 13% respectively. Only in the case of steel did the annual average market price in 2006 remain at its 2005 level. The price of industrial raw materials went up by 31% in US dollar terms and by 30% in euro terms. The price of non-precious metals increased by 56% in US dollar terms and by 55% in euro terms. Energy supplies saw a price increase of 21% and 22% in US dollar and euro terms respectively. In the case of precious metals (rhodium, palladium, platinum), purchase price hedges reduced the impact for the BMW Group of extreme market price rises. Compared to the previous year, the price of precious metals relevant for the BMW Group went up in 2006 by rates of between 27% and 116%. Measures were put in place in the area of raw materials to ensure that additional costs were fairly spread over the entire added-value chain, with the BMW Group also bearing its share of the cost. Although the purchase price predictions of various institutes have indicated, since the year-end, that the commodity markets may have eased somewhat, it is likely that high price levels will persist in 2007. As part of the process of increasing the level of responsibility that suppliers are expected to assume for quality, the BMW Group also provides real-time data to its suppliers. Data regarding supply quality from all plants can be retrieved, as can information concerning customer complaints and warranty costs. (BMW, 2008) Ford Motor Company, 2007. Commodity price increases, particularly for steel and resins (which are our two largest commodity exposures and among the most difficult to hedge), have occurred recently and are continuing during a period of strong global demand for these materials. In addition, energy prices continued to increase significantly in 2006. In particular, gasoline prices in the United States increased in volatility and rose to levels over $3.00 per gallon in 2006. Although prices have moderated somewhat, they remain and are expected to remain at high levels. This has had an adverse effect on the demand for full- and medium-sized sport utility vehicles and trucks in the United States. (Ford, Ford Annual Report 2007, 2008) Acceleration of the Way Forward plan includes additional reductions of our capacity and workforce to contribute to our goal of reducing annual North America operating costs by about $5 billion by the end of 2008 as compared with 2005. Our accelerated plan reduces salaried-related costs through the elimination of the equivalent of about 14,000 salaried related positions, which represents about onethird of our North American salaried workforce. This reduction includes our elimination of the equivalent of nearly 5,000 salaried positions by the end of 2006; the additional reductions are being achieved through early retirements, voluntary separations and, as necessary, involuntary separations, with most employee departures expected to be completed by the end of the first quarter of 2007. Page 18

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Suzuki, 2007. The business environment surrounding the Company is extremely unclear due to the fluctuation of exchange rates and the increase in competition among companies. Considering these circumstances, the business environments surrounding the Company has become increasingly tougher. In order to cope in such difficult circumstances, we are striving to pursue the following motto which represents our basic policy: “In order to survive, let us stop acting in a self-styled manner and get back to basics”. We intend to make positive efforts to strengthen our management structure by reviewing our practices in every area of our business. (Suzuki, 2008) Bayerische Motoren Werke AG (BMW), 2007. As part of its strategic realignment and in the light of the ever-increasing complexity of the supplier chain structure, the BMW Group created a new Purchasing and Supplier Network corporate division with effect from 1 October 2007. In addition to purchasing, the following functions have been assigned to the division: quality management of parts, logistics, vehicle components and systems. This new division has been charged with the task of achieving even further improvements in the areas of quality, supplier loyalty and costs. This will involve keeping the number of system interfaces to a minimum and optimizing processes right from the raw material stage through to the finished product. Situation on the commodity markets remains tense High price levels on the raw material markets once again represented a major challenge for the Group’s purchasing departments in 2007. The additional costs were spread over the entire value-added chain with the BMW Group also bearing its share. Compared to the previous year, the average market prices of steel and plastics were up by 10% and 6% respectively in 2007. By contrast, the price of aluminum fell by 5% and that of copper by 1%. Overall, the prices of industrial raw materials, non-ferrous metals and energy raw materials increased by 7%, 4% and 2% respectively in 2007. Compared to the previous year, the prices of precious metals relevant for the BMW Group went up in 2007 by rates of between 11% and 35%. In the case of precious metals (rhodium, palladium, platinum), purchase price hedges reduced the impact of sharp market price rises for the BMW Group. Toyota, 2007. One of Toyota’s basic approaches to manufacturing is to look for straightforward manufacturing methods that use simplified and slim production equipment. Such methods benefit many different aspects of our operations, including production efficiency, space efficiency, initial investment, quality, ease of maintenance, new plant start-ups, human resources development, and workplace environments. If production equipment becomes smaller, it needs less space and the transportation distance between equipment is shortened. This reduces the overall length of production lines and production lead times. Additionally, slim production equipment enables the use of smaller plants, which dramatically improves production and investment efficiency. Moreover, simplified equipment means less complex manufacturing, making learning new skills and maintenance easier, thereby improving quality. This strategy is not difficult to explain, but putting it into practice requires considerable technological Page 19

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innovation. And in such efforts to simplify, we have set the bar high for ourselves. (Toyota, Toyota Annual Report, 2008) Bayerische Motoren Werke AG (BMW), 2008 Prices of raw materials highly volatile. The global economic downturn caused demand for raw materials to fall sharply worldwide during the second half of the year. The price of crude oil reached its peak at approximately US dollar 150 per barrel in summer 2008. It then proceeded to fall to under US dollar 40 by the end of the year. Although reducing supplies to the market, OPEC was unable to stop the price of oil falling. Despite these developments, the average price of a barrel of Brent Crude over the entire year was around US dollar 97, some 37% above the previous year’s average. The price of steel also witnessed another sharp rise in 2008, reaching its highest point in summer before starting to fall. The prices of most precious metals dropped from the middle of the year onwards, some of them drastically. Size of workforce reduced: The BMW Group’s workforce was reduced by 7,498 employees (– 7.0%) during the financial year 2008 to stand at 100,041 employees at 31 December 2008. This is largely due to the implementation of previously reported measures to reduce the size of the workforce and the sale of business units in 2008. The workforce reduction program resulted in a sharp rise in the employee fluctuation ratio at BMW AG. Despite the overall reduction in personnel, the BMW Group nevertheless recruited staff on a targeted basis in 2008 The price levels of all major raw materials and supplies needed for car production rose again sharply during the first half of 2008 as compared to 2007, creating additional pressure along the whole of the value-added chain. Costs rose substantially, particularly for steel and aluminum as well as for precious metals such as platinum, palladium and rhodium. Hedges already in place for precious metals helped to cushion the immediate impact for the BMW Group. During the second half of the year, the BMW Group took advantage of falling prices to conclude new contracts with medium and long-term price hedges for the coming years. The BMW Group is responding to the increasing significance and complexity of raw materials procurement by centralizing its raw materials management. This will allow it to react even more swiftly and efficiently to price fluctuations on raw materials markets in the future. Bundling purchase volumes creates additional synergies in the area of requirements forecasting, whilst also having a positive impact on pricing structures. The BMW Group continued to work closely with its suppliers in 2008. Interdisciplinary teams from development, purchasing, production and quality management came together with suppliers to analyze potential opportunities to reduce costs and improve quality along the entire value-added chain. In addition to productivity improvements, the main emphasis was on generating benefits which are relevant for customers and which can be applied across all models. Initiatives were also taken to raise productivity by using common technologies for component production. Analyses of existing systems and processes resulted in significant reductions in the use of space, inventory volumes and throughput Page 20

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times for products. At the same time, quality was improved and costs reduced. (BMW, BMW Annual Report, 2008) Peugeot S.A., 2008. Non-recurring operating expense amounted to €917 million. The unprecedented collapse in the automotive market triggered the launch of new restructuring plans in both the Automobile Division and at Faurecia for a total of €512 million. In addition, the impact of the fall in demand and the prospect of further contraction led to an aggregate €405 million in exceptional impairment charges in the Automobile Division and in Faurecia’s vehicle interior business. Faced with the prospect of a prolonged recession, our priorities are clear. We must concentrate all our efforts on reducing inventory and minimizing our cash consumption through our CASH 2009 program, and we must pursue our initiatives to cut costs as part of the CAP 2010 plan, so that we can return to profit during the course of 2010. At the same time, we must prepare for the future by targeting our investments and R&D expenditure to develop new vehicles and new environmental solutions to ensure sustained and profitable growth for PSA Peugeot Citroën once this crisis is behind us. Our intention is to maintain investment and expenditure on automotive R&D at around 3.5 billion euros. (Peugeot, 2008) Volkswagen AG, 2009. After plummeting by an average of almost two thirds on worldwide markets during the second half of 2008, raw material prices regained more than half of the ground lost between their lowest point in February 2009 and the end of the year. The price of oil almost doubled, rising from US dollar 43 per barrel at the start of the year to US dollar 80 per barrel at the end. Massive injections of speculative capital in the raw materials sector also caused the prices of non-ferrous metals and precious metals to rise steeply. Within the real economy, the main factor behind the sharp rise in prices was China’s continuing need for raw materials. (BMW, 2010) Bayerische Motoren Werke AG (BMW), 2009. Car production volumes adjusted flexibly to match lower demand: Production volumes were reduced at an early stage in line with falling demand. In total, 1,258,417 BMW, MINI and Rolls-Royce brand cars came off the production lines in 2009 (–12.6%). The BMW brand accounted for 1,043,829 units (–13.3%). A total of 213,670 MINI brand cars left the Oxford plant in England, 9.1% fewer than in the previous year. 918 Rolls-Royce brand cars were manufactured during the year under report (–35.2%). With nine product start-ups successfully executed and a whole range of investments made at the plants in 2009 at a cost in excess of euro one billion, we continued to lay the foundation for further rises in productivity. Instruments such as flexible working hours and shift models made it possible to adjust production schedules at short notice. (BMW, 2010) Fiat, 2009. At the end of December, the Group had 190,014 employees, a decrease of 8,334 over the 198,348 figure at year-end 2008. Reductions in headcount were reported in almost all countries where the Group operates. Those reductions were more significant in the first half of the year and were primarily attributable to the fall in production volumes. Of the 24,600 departures recorded, concentrated predominantly in the first half, the majority were in Latin America and Europe, while over 50% of the Page 21

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approximately 15,100 new hires, which occurred predominantly in the second half, related to Group companies in Latin America and resulted from the recovery in the market and consequent increase in production volumes. (Fiat, 2010) Group production continued to be heavily influenced by extremely turbulent and volatile markets with erratic demand, such as for FGA in Europe, or depressed demand, such as for trucks and construction equipment. During 2009 also the agricultural equipment market experienced a significant fall in demand in both the tractor and combine segments. (Fiat, 2010) Outside Italy, production stoppages were also necessary to respond to the significant deterioration in volumes. Almost all Sectors utilised Chômage Partiel in France, Expediente de Regulación de Empleo in Spain and Kurzarbeit in Germany. In the United States, CNH instituted temporary layoffs at its plants in Wichita, Burlington and Calhoun, all belonging to the Construction Equipment business. Suspension of production activities, which took various forms, also involved the plants of certain Sectors in other countries, such as Poland, Belgium and the UK. In Brazil, workforce reductions were made in the first quarter, primarily for blue collars, in response to the drop in production volumes attributable to the economic crisis, which began to ease in the second quarter. The reversal in the trend resulted in an increase in plant output and, consequently, a return to hiring and use of overtime. (Fiat, 2010) Ford, 2009 Our U.S. manufacturing presence includes 10 vehicle assembly plants and 23 powertrain, stamping, and components plants. We have converted one North American assembly plant, and are converting two additional assembly plants, from production of large utilities and trucks to small car production to support what we believe is a permanent shift in consumer preferences to smaller, more fuel-efficient vehicles. In addition, nearly all of our U.S. assembly plants will have flexible body shops by 2012 to enable quick response to changing consumer demands, and nearly half of our transmission and engine plants will be flexible, capable of manufacturing various combinations of transmission and engine families. We have announced plans in North America to close three Ford plants and one ACH plant in the 2010 – 2011 period, as well as consolidating Wayne Assembly Plant into the Michigan Assembly Plant as part of our plan to expand North American production capacity for smaller, more fuel-efficient vehicles. We are exploring our options for our remaining ACH plants, and intend to transition these businesses to the supply base as soon as practicable. We continue to work to strengthen our supply base in the United States, which represents 80% of our North American purchases. As part of this process, we have been reducing the total number of production suppliers eligible for new product sourcing from 3,300 in 2004 to about 1,600 suppliers in 2009 and 1,500 suppliers in 2010. To date, we have identified specific plans that will take us to about 850 suppliers in the near- to mid-term, with a further reduction to about 750 suppliers targeted. We believe that our efforts at consolidation will result in more business for our major suppliers, which is increasingly important with the decline in industry sales volume. In addition, our move to global vehicle platforms should increase our ability to source to common suppliers for the total global volume of Page 22

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vehicle components, so that a smaller number of suppliers will receive a greater volume of the purchases we make to support our global vehicle platforms. (Ford, 2010) Honda Motor Company Ltd., 2009. In production activities, Honda reduced output in response to the worldwide decline in unit sales and the need to make adjustments in inventories. Japan. As a consequence, automobile production during the fiscal year was down 11.4%, to 1,148,000 units. In response to sudden changes in global markets, Honda transferred all production of the Stream model from the Suzuka Factory to the Saitama Factory. Also, production of the Fit for the North American market began at the Saitama Factory in addition to the Suzuka Factory. The start-up of production at the Yorii Factory, which was scheduled for 2010, has been postponed for two years or more. Also, plans for beginning the manufacturing of mini-vehicles at the Yokkaichi Factory of Yachiyo Industry Co., Ltd., have been postponed for one year or more. (Honda, 2010) Nissan Motor Corporation, 2009. One primary goal in fiscal 2009 is a 5 percent cut in monozukurirelated costs. Our monozukuri functions— Engineering, Purchasing, Manufacturing, and Supply Chain Management—are developing concrete action plans with suppliers to reduce parts diversity and complexity and exchange rates. During fiscal 2009 we will cut vehicle and service parts complexity by 35 percent compared to the end of fiscal 2007. Inventory is also at an all-time low. At the first sign of market decline we downshifted production at all our vehicle and powertrain plants worldwide, reducing our global volume for fiscal 2008 by 772,000 units—a 20 percent decrease from planned volumes. By March 2009, inventory was 26 percent lower than last year. We plan to keep inventory flat through tight control in a wider range of areas, including used cars, parts and materials. (Nissan, 2010) Toyota Motor Corporation, 2009. Toyota’s consolidated vehicle sales declined 1.35 million units, or 15.1%, to 7.57 million units due to the steep downturn in the global economy. Consolidated vehicle production also decreased 1.50 million units, or 17.5%, to 7.05 million units. Fiscal 2009 performance was also impacted by higher operating expenses and currency exchange fluctuations. As a result, net revenues decreased 23.2% to ¥18.6 trillion and operating income fell ¥2.6 trillion to a loss of ¥394.8 billion. (Toyota, 2010) Bayerische Motoren Werke AG (BMW), 2010. Raw material prices continued to rise over the course of 2010. Prices of non-energy raw materials were even up on the previous highest levels recorded in summer 2008. On the one hand the development reflects the ongoing global economic recovery, with demand from China remaining at a very high level. However, it also results from surplus liquidity and the worldwide search for investment opportunities. Prices of both nonferrous and precious metals also rose, in some cases substantially. The price of oil increased from US dollar 80 per barrel at the start of the year to US dollar 92 on the last day of trading. (BMW, BMW 2009 Annual Report, 2011) Sharp increase in automobile production: Automobile production was raised sharply in 2010 in response to greater demand. In total, 1,481,253 BMW, MINI and Rolls-Royce brand cars left our Page 23

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production network (+17.7%) during the year. The number of BMW brand cars produced rose by 18.5% to 1,236,989 units. MINI production rose by 12.8% to 241,043 units. Rolls-Royce Motor Cars increased production threefold to 3,221 units (2009: 918 units). The production network again displayed great flexibility in 2010. The process of internationalization proceeded with plant expansions both in China and the USA. The Group’s production sites proved their strength yet again with 14 production start-ups successfully implemented at a consistently high standard worldwide. At the same time, the shift from below-capacity utilization in the crisis year 2009 back to full capacity in cleaned in a conventional washing plant before the primer is applied, but with the aid of CO2 snow. (BMW, BMW 2009 Annual Report, 2011) As you read through the annual report excerpts, one of the things that stands out: the automotive industry is a case study of “When the going gets tough, the tough get going.” The industry withstood the economic downturn, supplier and commodity issues, and major labor setbacks. In the post-recession period, growth has boomed and gross margin has improved from 17% to 19%. Table 5. Pre- and Post-Recession Gross Margin for Automotive Leaders Cash-To-Cash Cash-to-Cash (C2C) analysis is a compound metric. It is the combination of Days of Receivables plus Days of Inventory minus Days of Payables. When comparing the periods of 2006-2009 and 20102014, the average automotive company has reduced C2C by 22 days. Page 24

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Days of Inventory (DOI) increased. Automotive companies struggled to reduce inventory in the face of growing complexity with the average Days of Inventory increasing in the post-recession period of 2010-2014. Days of Payables also increased. Most of the C2C gains were made in elongating Days of Payables. The lengthening of Days of Payables pushes the cost of capital backwards on suppliers. Table 6. Comparison of Average Cash-To-Cash Components Pre- and Post-Recession The largest shifts happened at Ford and Volkswagen. Ford shifted average receivables from 266 to 45 days while receivables at VW shifted from 23 to 62 days. In parallel, inventory at VW increased from 57 to 73 days. Figure 7. Comparison of Automotive Companies’ Cash-To-Cash Cycles for 2006-2009 Page 25

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Figure 8. Comparison of Automotive Companies’ Cash-To-Cash Cycles for 2010-2014 Recommendations In supply chain benchmarking it is important to look at performance and improvement of peer companies over time. The orbit charts are useful to see these patterns. As companies do this work, we recommend that they: 1) Build a Guiding Coalition to Drive Improvement Based on Industry-Specific Data. Organizations should benchmark companies within an industry. Each industry has unique rhythms and cycles. As a result, supply chain excellence analysis needs to be within an industry. 2) Understand the Potential of Your Supply Chain and Orchestrate Trade-offs on the Effective Frontier. Supply chain leadership teams should analyze the total portfolio of metrics and study progress at the intersections of the Effective Frontier. Companies with higher performance are using more advanced analytics to plan outcomes and design the supply chain. 3) Apply Systems Theory. Teams should evaluate performance over time to understand improvement while realizing that they are managing a complex system. The functions should be aligned to a balanced portfolio of metrics representing the Effective Frontier while functional metrics should be focused on improving reliability (first-pass yield, OEE, hands-free orders, etc.). Page 26

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4) Focus on Building Value Networks. The automotive industry more successfully built global supply chain capabilities when compared to the food giants of Kraft and Nestle. Traditional supply chain planning techniques have not been sufficient with supply chain leaders adopting new techniques for forecasting, inventory management, and demand sensing. With the rise of commodity prices, the principles of market-driven value networks matter more than ever for these industries. Companies need to be able to orchestrate volume/mix/cost implications strategies bidirectionally from channel to supplier. 5) Learn from Other Industries and Use a Steady Hand to Drive Improvement. Companies within the Automotive Industry struggled during the recession due to supply-centric process and combative processes with suppliers. When suppliers are squeezed past the point of profitability, and collaborative processes do not improve, it is impossible for suppliers to be profitable and have a sustainable business. Many automotive manufacturers learned this the hard way. In the last five years many have redesigned supply chain processes and practices to be more market driven (to sense market shifts and be more adaptive to demand and supply variation). Much can be learned from this industry—production planning, platform simplification and rationalization, and integration with new product launch—to apply to other value networks. Conclusion The automotive industry paved the road for today’s Lean supply chain practices. Lean is not sufficient to withstand the brutal forces of economic downturns. Today, while business is booming, the industry must not forget the lessons of the last decade. The Supply Chains to Admire Analysis methodology is a litmus test. As a yardstick of supply chain excellence, the analysis helps clarify what is the right stuff to drive performance and improvement. Overall, the only Automotive company that meets the test is Audi. Page 27

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Companies Studied Table A. Corporate Overview of Companies Studied in the Automotive Industry Definitions The definitions of additional financial metrics used in this report are outlined in Table A. Table B. Metrics Definitions Page 28

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Prior Reports in This Series Over the course of the last three years, our methodology has changed and matured. You can track our progress, and find industry-specific information here: Supply Chain Metrics That Matter: A Focus on Retail Published by Supply Chain Insights in August 2012. Supply Chain Metrics That Matter: A Focus on Automotive Published by Supply Chain Insights in September 2012. Supply Chain Metrics That Matter: A Focus on Automotive Published by Supply Chain Insights in August 2015 Supply Chain Metrics That Matter: The Cash-to-Cash Cycle Published by Supply Chain Insights in November 2012. Supply Chain Metrics That Matter: A Focus on the Food and Beverage Industry Published by Supply Chain Insights in December 2012. Supply Chain Metrics That Matter: Driving Reliability in Margins Published by Supply Chain Insights in January 2013. Supply Chain Metrics That Matter: A Focus on Hospitals Published by Supply Chain Insights in January 2013. Supply Chain Metrics That Matter: A Focus on Brick & Mortar Retail Published by Supply Chain Insights in February 2013. Supply Chain Metrics That Matter: A Focus on Medical Device Manufacturers Published by Supply Chain Insights in February 2013. Supply Chain Metrics That Matter: A Focus on Consumer Electronics Published by Supply Chain Insights in April 2013. Supply Chain Metrics That Matter: A Focus on Apparel Published by Supply Chain Insights in May 2013 Supply Chain Metrics That Matter: A Focus on Contract Manufacturing Published by Supply Chain Insights in August 2013 Supply Chain Metrics That Matter: A Focus on the Automotive Industry Published by Supply Chain Insights in October 2013 Page 29

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Supply Chain Metrics That Matter: A Closer Look at the Cash-To-Cash Cycle (2000-2012) Published by Supply Chain Insights in November 2013 Supply Chain Metrics That Matter: Third Party Logistics Providers Published by Supply Chain Insights in December 2013 Supply Chain Metrics That Matter: A Critical Look at Operating Margin Published by Supply Chain Insights in December 2013 Supply Chain Metrics That Matter: A Closer Look at Pharmaceutical Companies Published by Supply Chain Insights in April 2014 Supply Chain Metrics That Matter: A Closer Look at Chemical Companies Published by Supply Chain Insights in May 2014 Supply Chain Metrics That Matter: A Closer Look at Food and Beverage Companies Published by Supply Chain Insights in June 2014 Supply Chain Metrics That Matter – A Focus on Pharmaceutical Companies Published by Supply Chain Insights in April 2015 Supply Chain Metrics That Matter – A Focus on Chemical Companies – 2015 Published by Supply Chain Insights in May 2015 Supply Chain Metrics That Matter: A Focus on Food and Beverage Companies-2015 Published by Supply Chain Insights in June 2015 Supply Chain Metrics That Matter: A Focus on Consumer Products – 2015 Published by Supply Chain Insights in August 2015 These reports, and additional information on the Supply Chain Metrics That Matter methodology, are available at our Supply Chain Insights website and in the Beet Fusion community. Page 30

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About Supply Chain Insights LLC Founded in February, 2012 by Lora Cecere, Supply Chain Insights LLC is now in its fourth year of operation. The Company’s mission is to deliver independent, actionable, and objective advice for supply chain leaders. If you need to know which practices and technologies make the biggest difference to corporate performance, we want you to turn to us. We are a company dedicated to this research. Our goal is to help leaders understand supply chain trends, evolving technologies and which metrics matter. About Lora Cecere Lora Cecere (twitter ID @lcecere) is the Founder of Supply Chain Insights LLC and the author of popular enterprise software blog Supply Chain Shaman currently read by 5,000 supply chain professionals. She also writes as a Linkedin Influencer and is a a contributor for Forbes. She has written four books. The first book, Bricks Matter, (co-authored with Charlie Chase) published in 2012. The second book, The Shaman’s Journal 2014 published in September 2014; the third book, Supply Chain Metrics That Matter, published in December 2014; and the fourth book, The Shaman’s Journal 2015, in September 2015. With over 12 years as a research analyst with AMR Research, Altimeter Group, and Gartner Group and now as the Founder of Supply Chain Insights, Lora understands supply chain. She has worked with over 600 companies on their supply chain strategy and speaks at over 50 conferences a year on the evolution of supply chain processes and technologies. Her research is designed for the early adopter seeking first mover advantage. Page 31

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