As Appeared on Bloomberg Business as Part of the New Perspectives on Risk Series.

Manufacturing supply chains are the action stars of the business world. Everything depends on them, and they’re always ending up in tight spots. A natural catastrophe here, a geopolitical event there, and the next thing you know, your supply chain is involved in a cliffhanger.

In the wake of massive natural disasters in recent years, supply chain disruptions and risks have been in the news worldwide. “Manufacturing leads the way in the globalization of business,” says Erika Melander, Manufacturing Practice Leader at Travelers. “No other sector deals with so many components and sources in its supply chain, where a disruption to any single piece could derail the whole process—and the daily life of millions of people along with it.”

All of this makes it startling that 78% of manufacturers worry about supply chain disruptions, but only 19% actually plan for them, according to the 2014 Travelers Business Risk Index. “That is a very curious statistic,” says Ken Katz, Property Risk Control Director at Travelers. “The awareness of the cascading impact of risk events doesn’t resonate quite the way it should for manufacturers. They might understand that a hurricane could cause wind and flood damage, but they probably give less thought around what else it could mean to things like their power grid, telecommunications or their employees.”

The Plot Thickens

According to a survey conducted in 2012 by Travelers, more than 60% of manufacturers receive approximately one-quarter of their supplies from a single source. What happens if that source fails? A natural disaster could hit, a labor strike could form, a shipping disruption could pop up. Any one of these things can pull an entire source—and manufacturer—to its knees. When you combine the statistics mentioned thus far with the various “what if” scenarios, you have the makings of serious risk exposure.

Manufacturers are sophisticated businesses engaged in global commerce. So it begs the questions: What transpires on a daily basis that makes supply chains risky? And why do some business owners fail to see all of these risks?

“Manufacturing has many moving parts,” says Katz. “A business owner might get focused on what he or she is good at and let suppliers have more freedom. An awareness of risk is often lost when it’s not inside their walls. This reduced visibility can create too much dependence on suppliers—and their suppliers upstream.”

There is also the issue of compressed time frames in modern manufacturing. There’s a reason that manufacturers pursue tactics such as just in time (JIT): It makes a lot of sense—on the surface. Where a manufacturer may have once had a month’s worth of goods on hand, today they might just have enough to sustain operation for the next day or two—if that long.

“The time frame during which this could get ugly has changed,” says Katz. “Compressing time frames has changed the complexity of how quickly things can go wrong. That’s even more true with e-commerce.”

Managing supply chain risk is undoubtedly complicated, and is made more so by risks that go beyond the usual suspects, such as weather. For example, your supply chain can also expose you to reputational risks if, perhaps, it is infiltrated by faulty or counterfeit parts. Or, one of your suppliers could go bankrupt. The possibilities are not endless, but they can be extensive.

Add it all up, and you arrive at the realization that your business strategy must be compatible with your risk tolerance as a company.

“No other sector deals with so many components and sources in its supply chain, where a disruption to any single piece could derail the whole process—and the daily life of millions of people along with it.”

- Erika Melander

The Secret Weapon

“Knowledge of your supply chain is the ultimate competitive advantage,” adds Melander. “A win can be gaining market share, but it can also be surviving the disruption, because your fixed costs continue no matter what. The more you know, the better chance you have of quickly stopping the bleeding.”

Every manufacturer is different, of course. A large multinational might have a dedicated risk management team. On the other hand, a niche or specialized manufacturer might not have someone who is awake at night worrying about risks. In both cases, a trusted risk advisor can be a powerful resource to help bring to the surface the myriad of complexities, and help set a course to managing them.

Most insurance companies spend far more time thinking about risk management than their customers have time to, so it makes sense that they rank among the most knowledgeable and trusted consultants when it comes to supply chain risks. Working with such a trusted advisor reveals that in risk, there may also be opportunity.

“If you are prepared and have planned well, you could have the potential to respond when or where your competitors can’t,” says Melander. “There are cases of market share being gained because a company was thoughtful and proactive about their supply chain so as to have products delivered without interruption where others were not.” A textbook example occurred when many companies couldn’t obtain critical components or parts after the 2011 earthquake and tsunami in Japan. That event became Exhibit A in all ensuing discussions of supply chain risk management.

Part of the job for Melander and Katz is to help Travelers’ customers surface their supply chain risks, and to help increase their customers’ working knowledge of the subject. That starts with a three-part recommendation for customers. One: Perform an analysis of supplier risk by identifying which products hold the most value to your organization—value equaling revenue, margin and growth potential. Next, conduct a business impact analysis, which can help identify the potential operational and financial impacts from the failure of a supplier.

“When you do these things, you’re starting to connect where your products are coming from,” says Katz. “Who is supplying what? And if that’s interrupted, what does it mean? Then you drill down another layer and focus on single and sole suppliers that you don’t have options for. They deserve more scrutiny as you analyze your supply chain operations and build your strategy to avoid a loss.”

Third, make it a point to know more about your suppliers, and their suppliers, all the way across your supply chain. This requires building relationships and understanding everything you can about them—financials, quality of work, reputation, environment, health and safety records, certifications they need, their own exposures to disruptions—to gain an understanding of who is giving you the things you need to stay in business.

“If your supplier is reduced to 50% output at some point, are they going to be supplying you, or someone else?” asks Katz. “That’s something you need to know. You want to do business with businesses that understand your needs and expectations.”

All of this takes time; but with each step, your business moves closer to understanding its supply chain risk management needs and options, such as transferring some of the risk by insuring it.

“Ultimately it falls to the business to address supply chain risk issues,” says Melander. “It’s important to use all of the resources at your disposal. We certainly have tools and people that can help, and there are other resources, too, such as government and trade association resources. And insurance agents are a good resource, as well. It’s incumbent upon your business to use them.”