SARS Highlights Need for Supply Chain Contingency Plans
24 April 2003
Annie Chung, Martin Gilliland, Dion Wiggins
Document Type: Commentary
Note Number: COM-19-8431
Although the outbreak of severe acute respiratory syndrome has curbed travel with China, manufacturers report no major closures. The impact on IT hardware supply should be minimal, but vendors should plan for the worst.
What You Need to Know
Current understanding of severe acute respiratory syndrome is too limited for Gartner to predict the most-likely scenario, especially for the most-affected areas Guangdong and Hong Kong. Thus, enterprises with supply chains that rely on this region for products, while hoping for the best-case scenario, should prepare as best they can for the worst case. Contingencies to relocate as much production to other plants as possible would be the best solution, or build up contacts with contract manufacturers in other locations if relocation is not feasible.
In November 2002, severe acute respiratory syndrome (SARS) appears to have emerged from the southern Chinese province of Guangdong, home to a significant portion of China's growth industries. Many of the world's largest IT manufacturers rely on the supply of parts or finished goods from the Pearl River Delta in Guangdong. As of 15 April 2003, 2,673 of the 3,235 reported SARS cases come from China, most of them from Guangdong. The fact that so many IT hardware manufacturers and suppliers have moved to the one geographic location worst hit by this outbreak has started to make some enterprises and market watchers nervous. So far, SARS has not greatly disrupted supply chains, and probably won't if it remains contained. However, if authorities can't control and contain the outbreak, the entire region may become incapable of supplying its customers.
Guangdong's Importance and the Potential for Disruption
Since the early 1980s, foreign direct investment has flourished in Guangdong due to its proximity to Hong Kong, its abundance of inexpensive labor, its reasonably sound infrastructure and inexpensive land, as well as its increasingly skilled, educated workforce. Malaysia, Singapore, the Philippines and Hong Kong have suffered because of this trend. Guangdong alone attracted more than $17 billion in foreign direct investment in 2002, almost one-third of China's total. The province's GDP grew more than 10 percent in 2002, compared with about 8 percent for China as a whole. Exports from this region grew 42.4 percent year-over-year in the first quarter of 2003, to $174 billion. A large portion of this growth has come from the IT hardware sector. Companies such as Dell Computer and IBM set up major manufacturing facilities there in recent years, not to mention the countless component suppliers that also set up manufacturing, assembly and distribution centers.
Eighty percent of Guangdong's GDP is concentrated in the Pearl River Delta, which consists of a few fast-growing cities, such as Shenzhen and Guangzhou. The Pearl River Delta appeals to companies because it takes less than one hour by ferry, car or train to go from Shenzhen to Hong Kong. Thus, this part of Guangdong is close to well-established international shipping facilities. This proximity allowed SARS to spread quickly from Guangdong to Hong Kong.
How much disruption could SARS cause to global supply chains? Perhaps the earthquake, measuring 7.5 on the Richter scale, that devastated parts of Taiwan in 1999 offers the nearest comparison. This disaster closed many IT suppliers' offices for days, some even for weeks. Overall, the earthquake affected the hardware supply chain minimally, but the quake damage was also reasonably limited. Had it destroyed major manufacturing plants and taken out power supplies for long periods, the disruption could have been significant, and its effects would have had serious global ramifications.
Gartner forecasts three scenarios for what SARS will do to global supply chains (see "Three Scenarios to Measure the SARS Crisis"):
Vendors should educate their staff about the symptoms of SARS, and have employees take sick leave and seek medical advice if they show symptoms. The presence of infected workers at work threatens the health of other employees and their families. In addition, lost productivity from the loss of a limited number of employees to sick leave is a small price to pay compared with the possible downtime from closing an entire plant because of sick employees, as well as having to disinfect the plant.
The easy solution is for vendors not to put all their manufacturing into one location. However, industries such as PC production rely heavily on supply chain efficiencies to reduce costs, and consolidating manufacturing and suppliers into fewer locations significantly lowers supply costs while increasing supply flexibility. Vendors have few other areas in which to cut costs or increase revenue.
Vendors should make contingency plans in case a plant is quarantined because of disease or destroyed by natural disaster. They should include as much geographic flexibility in their supply chain as their business model will allow. They may simply build up relationships with contract manufacturers that have the capability to manufacture similar products in nearby regions or countries. If necessary, vendors can use these contacts to get new lines set up in the shortest possible time.
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This research is part of a set of related research pieces. See AV-19-7721 for an overview.