Value Chain diagram

Pandemic exposed company value chain flaws

Wednesday, November 10, 2021 - 08:14
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As businesses look forward to the post-Covid environment, value chains have come under the spotlight. In many sectors, long-standing inefficiencies were exposed by the pandemic and it’s bringing about change in the relationship between businesses and their value chains.

For businesses, the restrictions on travel over the past 18 months and the need for remote working demonstrated how the traditional analogue way of interaction with customers, suppliers and intermediaries is simply outdated. A new way offering efficiency, transparency and good practice is needed.

A value chain is the process whereby a business receives raw materials, adds value to them in manufacturing, processing, refining etc. to create a finished product, which is then sold. The value chain helps a company to create a competitive advantage.

In the metals industry, the value chain would go from mining to processing and then on to fabrication, transportation, storage and consumption, and finally it is hopefully recycled. Terms such as upstream and downstream are often used in this context. The more verticals within the chain that a business owns, the more scope there is to benefit from significant efficiencies.

However, most businesses deal with intermediaries or brokers – often with longstanding relationships – to advise them on both sales and purchases depending on where they fit into the value chain. These intermediaries frequently supply materials directly or broker their supply. This is mostly done in a traditional analogue way that can be very profitable for the intermediary.

Global Value Chain ImageEvolving value chain in metals sector

For example, 25 years ago, cobalt would be mined in Russia or sub-Saharan Africa as a by-product of nickel, sold to third parties who would transport and store it, and then supply producers of high-grade steel for aircraft engines and other products. The cobalt was sold to end-users by brokers in an analogue market largely devoid of transparency that occasionally led to seemingly unnatural price movements. In 2010, the London Metal Exchange added cobalt to the list of non-ferrous metals it trades, bringing far greater transparency to the market and price action better aligned to market fundamentals.

Today, in a sense, metals such as cobalt have been replaced by rare earth metals, for which there is no recognised public source of pricing. Rare earth metals are critical in the manufacture of mobile phones, computer chips, and rechargeable batteries. With rare earth metals, suppliers of raw materials and the end-users rely on a limited analogue network of intermediaries. Price spreads can be wide and the costs high.

The reality is that, across the value chain, there are substantial efficiencies to be had from stepping away from analogue. Digital business-to-business (B2B) marketplaces are trusted to transact billions of dollars’ worth of goods annually across a wide variety of industries, including vehicle sales, leasing and re-leasing through to luxury goods and food products. There’s no reason why it can’t be done for physical commodities.

Digital B2B marketplaces foster competition and liquidity

Digital B2B markets widen distribution networks, help to ensure competition and liquidity in the marketplace, and enable price discovery using various auction methodologies. At the heart of it, buyers compete for goods or services by bidding an incremental price. The bidding process can be open or closed and, as with auctions anywhere, the goods or services are sold to the highest bidder, if the bid is greater than the reserve price set. During the course of that, digital markets can capture every activity of potential buyers, including lots searched or browsed, bids submitted, and lots won or lost.

Once in operation, B2B markets can incorporate data science in the form of machine learning that has the capability to make recommendations on products, buyers and timing, thereby helping sales teams to operate more efficiently. Such algorithms offering recommendations are powerful tools for a marketplace owner, allowing for adjustments to be made to auction methodologies to get the best price for any given product, based on past auction performance.

Recommendation algorithms can also point buyers to possible substitute products if they exist. For example, in the auto sector, it could recommend another model of car with a similar specification and price. This enables to sellers to satisfy customer demand where previously the transaction would not have been completed. Effective use of data science can significantly broaden understanding about the marketplace and the wider industry, putting sellers in a position which cannot be easily disrupted by competitors.

Advanced marketplace technology underused by commodities sector

Many commodities, including cobalt, are now exchange traded and have some price transparency. But given the scientific advances in the commodities sector, from automated drilling and tunnel boring in the mining industry, to drought resistant seeds, low methane-inducing animal foodstuffs, temperature and moisture sensors in agriculture, it is surprising that marketplaces for these products are not more technologically advanced as well.

There are two reasons: first, face-to-face sales have long been the tradition in the commodities sector; second, going digital is not in the best interests of the intermediaries, which creates inertia. After all, more transparency in a digital B2B market and associated logistics solution would naturally narrow spreads and squeeze margins for intermediaries.

One outcome of the pandemic is that the efficacy and benefits of a digital approach are more obvious. Commodity markets for the most part will not return to their old ways. As the world eyes the prospect of ‘building back greener’, digitising the multi-billion-dollar commodity value chain clearly has a part to play. Markets will be created where they didn’t previously exist and enhanced where they do exist. It will involve disruption and investment, but businesses willing to take the plunge will position themselves well to genuinely benefit in the future.

Author:  Garry Jones, CEO of NovaFori

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