Risk Management For The Warehouse Operator

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					                                                                                                      VOLUME 21 •• NUMBER 6 •• MAY 2006
                                                                                                      VOLUME 21 NUMBER 6 MAY 2006

            Risk Management For The Warehouse Operator
Editor ’s Note: “Managing Business Risk in 2006 and Be-
yond,” a research study by FM Global (www.fmglobal.com), a                            Categories of Disaster            Probability*   Severity*
leading provider of commercial and industrial property insur-                         Natural Disasters
ance,was the source of inspiration for this article. The re-                                 Flood                        Slight       Extreme
search partner, Harris Interactive Inc., is a major market                                   Earthquake
re s e a rc h f i r m t h a t i s k n o w n f o r “ T h e H a r r i s P o l l . ”            Windstorm
(www.harrisinteractive.com). Also referenced was, The Resil-                          Chemical Disasters
ient Enterprise, a 2005 book by Professor Yossi Sheffi of MIT.                               Fire
The book was reviewed in our December 2005 issue. KBA                                        Contamination
   Warehousing always has been a risky business. In our                                         *Rodents
present day global economy, the risks are more diverse                                          *Insects
                                                                                      Operational Errors
and more plentiful than ever before.                                                         Product damage
Categories of Risk                                                                           Mis-shipments
                                                                                             Inventory discrepancies
    A first step in risk management is to determine what                              Human Disasters
risks we face in a global economy.                                                           Employee malfeasance
    As part of the process, management should grade each                                     Theft
potential disaster according to both probability and sever-                                     *Pilferage
ity. For example, the risk of flood in your community may                                       *Collusion
be rare, but if it happens the severity may be great. Other                                  Work stoppage
risks, such as civil disturbance, are likely events in some                                      *Strike at your warehouse
nations, but rare in the USA.                                                                    *Strike at supplier or major customer
                                                                                             Death or disability of key executives
    The grading process for both probability and severity                             Customer Failures
will differ, depending on the operation and its location.                                    Bankruptcy
For that reason, in this exhibit, these two columns were                                     Management change
filled in only on the top line. Each user must grade the                                     Market change
events according to the individual risks that might apply                                    Litigation
                                                                                      Utility Failures
to each particular warehouse.                                                                Power outage
Managing the Risk                                                                            Disruption of water supply
                                                                                             Disruption of natural gas supply
    These are the three ways to control the risk of any loss:                                IT/telecoms failure
        Insurance                                                                            Mechanical breakdown -- conveyors
                                                                                             Disruption of road access
        Loss prevention                                                                      Disruption of rail service
        Contingency planning                                                          Government Disasters
    Nearly every warehouse operator has insurance. You                                       Civil disobedience or riots
                                                                                             War or insurrection
need to recognize the significant differences in liability                                   Sanctions by OSHA
among logistics service providers, common carriers and                                       Sanctions for SOX violations
wholesale distributors.                                                               *This will vary for each warehouse
    In the US, and most nations having English common
law as the basis of their legal codes, the service provider is
a bailee for hire, and therefore is not responsible for cargo
losses unless caused by operator negligence. This law also                          common carrier must insure the cargo. Wholesalers own
governs parking garages and dry cleaners. If your product                           the products that they store, so they must insure them. Be-
is lost due to “acts of God” or another disaster, your own                          cause rules are different overseas, users of logistics ser-
insurance coverage must pay for the loss. In contrast, the                          vice firms need to understand the local legal system.

   Leading property insurance carriers, such as Factory          government or regulatory sanctions, and competitive
Mutual, insist on comprehensive loss prevention pro-             threats. In warehousing, the OSHA threat may be less se-
grams from their customers. They provide their own in-           vere than it was a few decades ago, but now we must also
spection services, and demand the right to make                  comply with the Sarbanes Oxley (SOX) law, with its sig-
un-announced examinations of warehouse operations in             nificant cost of reporting as well as destructive conse-
order to check on the readiness of fire protection equip-        quences for violators.
ment and the capability of plant emergency organizations.            If a competitor were to acquire an inexpensive but ser-
The customer is encouraged to study the latest loss pre-         viceable warehouse building in your neighborhood, could
vention techniques, and to appoint and train a team to pro-      a price war be introduced that results in loss of customers
vide early response in the event of fire or other disaster.      to the new company? Competitive risks are even greater
   Contingency planning is a longer range approach for           in information technology and transportation, two closely
addressing the unexpected. The process consists of ask-          related logistics services.
ing, and then answering, a long list of “what if” questions,         Of the property related risks, survey respondents con-
such as these:                                                   sidered supply chain disruption and mechanical/electrical
       What if our top four executives were wiped out in a       breakdown as the most significant.
       plane crash?
                                                                     Labor issues and price changes were considered to be
       What if our largest customer goes bankrupt?
                                                                 most prominent of the non-property risks.
       What if we receive a million dollar fine from
       OSHA as the result of a fatal accident in the ware-       Too Many Eggs...
       house?                                                       A leading cause of failure among public warehouse op-
       What if our most important supplier is crippled by        erators and wholesalers is over-dependence on one or a
       a strike?                                                 few customers. When the basket breaks and the customer
   Contingency plans provide a comprehensive approach            leaves, the operator cannot replace the loss of revenue
for addressing every conceivable disruption.                     quickly enough to remain solvent.
Remaining Resilient                                                 Yet, this is a risk that is not insurable. It is avoided by
   As Yossi Sheffi observed in his book, corporations sur-       marketing aggressively to eliminate over-dependance, or
vive through redundancy or flexibility. Redundancy may           refusing to work with a customer who is promoting such
include a deliberate gathering of excess inventory, or ex-       risk. Retail distribution and auto manufacturing always
cess capacity. Flexibility is gained through postponement        have been noted for creating dependancy situations. Pru-
and inter-changeability.                                         dent managers must recognize the challenge of too many
   For example, one of the worst fire disasters in Ameri-        eggs in one basket, before the situation becomes difficult
can history destroyed an eastern Pennsylvania retail dis-        or painful to correct.
tribution center. Because the chain retailer had several         Organizational Change
other distribution centers that were not operating at ca-
pacity, supply to stores in the region was maintained by            Warehouse operators frequently build their marketing
shifting the tasks to other distribution centers.                efforts on relationships; however, in the corporate world
                                                                 these relationships change when key people retire, or are
   For the warehouse operator, postponement usually in-          re-assigned to a new job. The new manager may not have
volves packaging, branding or final assembly at the distri-      the same personality as the predecesor, which leads to a
bution center. If the manufacturer has dual capabilities for     change in the relationship. Eventually, the result is a
completing the job at either the factory or the distribution     change of suppliers.
center, the flexibility should allow the company to sur-
vive if one of these locations is destroyed by disaster.         Obstacles to Risk Management
What Are Others Doing?                                              Perhaps the biggest road block to addressing risk is the
   In a survey of North American companies, 96% of the           optimism that is a hallmark of a successful business
respondents indicated that risk management is a moderate         leader. Because contemplation of disaster is naturally un-
to high priority. If your board and senior management            pleasant, if not depressing, the active manager tends to
have not considered this subject recently, it is time to do      avoid the process.
so. Since the 9/11 disaster, the risks have changed. Global         Although “insufficient time” was the most common
expansion also continues to introduce changes to the situ-       excuse given in the survey for lack of a disaster plan, good
ation.                                                           managers always will find the time to complete tasks that
   Most firms give more attention to loss prevention than        are important to them.
to risk transfer through insurance. They recognize that it          Managers who devote ample time to risk management,
is difficult, or impossible, to insure against every disaster.   and who re-assess those risks frequently, are likely to ulti-
Insurance will not fully compensate most companies for           mately gain a competitive advantage.
all of the losses associated with a disaster. Furthermore,          Consider the consequences of doing nothing until a
frequent insurance claims will result in raised costs of the     major disruption occurs. One business analyst reported
coverage or, even worse, loss of the insurance policy. For       that the average life of a corporation is shorter than the life
these reasons, most managers prefer to avoid disruptions,        of a dog. If you are concerned about the longevity of your
rather than to rely on insurance alone.                          enterprise, risk management should be moved to the top
   Currently, the two fastest growing business risks are         of your task list.
                                                                down the operation and start over in another city.
                                                                   Group incentives are more equitable than individual
                                                                ones, particularly in a warehouse. Successful warehous-
                                                                ing is a team effort. Furthermore, each member of the
                                                                team, including the janitor, is important. Most incentive
            Preparing                                           programs are designed to reward the order pickers, but
                                                                they leave out the janitor.
              For The                                              If you are considering any incentive program, be sure
         Next Disaster                                          that the focus is on quality rather than productivity. De-
                                                                sign a system that is flexible, and readily adjusted when
   Whether it is bird flu, a hurricane or another terrorist     conditions change. Don’t assume that the employees will
attack, corporations should be on the frontlines in disaster    like your new system, and remember that it is only as
recovery. It is not realistic to assume that government         good as they believe it to be.
agencies acting alone, will be able to respond effectively
to all areas of need.
   Considerable relief can be provided by logistics ser-        One Size Won’t Fit All
vice providers. First, warehouse buildings may be a                Professor Jonathan Byrnes of MIT has pointed out that
source of badly needed shelter. Second, warehousing em-         most companies have a single distribution process for all
ployees are skilled in moving materials, which could in-        of their products, even when it makes little sense. The
clude food and clothing for a stricken community.               highest value products in your inventory should not be
   Effective response requires planning and drill. If you       shipped in the same manner as lower value goods. Very
do not have a disaster plan for your organization, it is not    expensive merchandise can and should move directly
too late to develop one.                                        from factory to customer, via overnight air carriers.
                                                                Moving a high-value product directly from factory to
                                                                customer will save inventory costs, as well as reduce
The Dangers Of Incentives                                       damage risk, by avoiding the rehandling that occurs in
   Many managers hope, or believe, that the cure for ev-        most distribution warehouses.
ery ailment in the warehouse is the development and ap-            Many producers of expensive merchandise, such as
plication of an incentive system. Yet, we have seen more        circuit boards, also will produce a wide variety of goods
than one situation in which an out-of-control individual        at far less value. For this reason, it makes sense to have a
incentive system virtually has destroyed a distribution         premium distribution program for high-value merchan-
center. It is very difficult and painful to remove an estab-    dise, in order to turn that product into cash as quickly as
lished incentive program. If the system is so badly de-         possible. Replacement parts, and other goods of lower
signed that workers routinely earn more than normal pay         value, can move through the traditional supply-chain sys-
for their work, and the earnings are not accompanied by         tem. In this situation, two logistic systems certainly are
increased productivity, the only solution may be to shut        better than just one.

                                                                       working toward the same goal.
                                                                       Retain a good company physician, and seek her/his
                                                                       advice about achieving a healthier workplace.
                                                                       When employees are injured or ill, show your con-
Reducing The Cost                                                      cern about their recovery. Some companies ap-
Of Workers Compensation                                                point an individual to stay in touch with workers
                                                                       who are disabled by accident or illness.
   The cost of workers compensation has risen dramati-                 Check the ergonomic conditions in the office, as
cally in the past few years. Unfortunately, the warehous-              well as in the warehouse. Is the work arranged in
ing industry rate of accidents and injuries is higher than             such a way that bending, lifting and twisting are
the average for all other businesses. Experts indicate that            minimized? Are chairs and computer screens de-
the cause of the increase is not safety records, rather it is          signed to minimize stress?
the escalating cost of medical care. Prudent employers                 Finally, be sure you are not paying more than you
can control or reduce the cost of workers compensation by              should for workers compensation because of bill-
improving their record for both health and safety. The fol-            ing or rating errors. You probably will need a con-
lowing are six things that should be done:                             sulting specialist to audit the fees.
       Discuss the problem with your employees. It is                  Hire people with good health habits, and try to im-
       likely that they will be surprised to learn how much            prove the habits of those already employed. Re-
       you pay for workers compensation, and how it af-                cently, some companies have threatened smokers
       fects the profitability of the company. Nobody                  with dismissal. Others have encouraged workers to
       wants accidents or illness, so your staff is likely to          control their weight by supplying company vend-
       suggest good ideas for improving health and safety              ing machines and cafeterias with healthy foods,
       on the job. When they are involved, everybody is                while others have installed exercise facilities.
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      Amid all the media nonsense that followed the con-        ����� �����
   gressional uproar over Arab management of                          For this study, the earnings and acquisition history
   intermodal ports, came this clear and appropriately             of the nation’s largest logistics service providers were
   sarcastic analysis of the issue. Foreign-owned logis-           traced throughout a seven year period. During 2005,
   tics service companies are found everywhere in                  revenues increased by 16%, and after tax income av-
   America. Lynch states that: “If the United States               eraged 5.6%.
   wants to participate in the global supply-chain, we
   must learn to play well with others.”                              Margins in the warehousing segment were just 4%,
                                                                   however, that was an improvement over the previous
                                                                   year. During the past decade, warehouse based firms
��� ���� ������ �� ������ ����� ���������                          have shown greater revenue growth than the other
�� ������� �� �������� ������ ����� ����������                     three business segments; however, warehousing lags
������� ����� ����� ��� ���                                        behind the others in net income percentage.
      As former general counsel of a multinational logis-             There was no correlation between size and quality,
   tics service company, Ken Charron is well-qualified             using earnings as an indicator. However, those firms
   to comment about contractual issues. There are a                that grew by acquisition had lower earnings than
   number of reasons that “key performance indicators,”            those that grew organically. Also, asset based firms
   are valuable in a service agreement. Included are the           had lower margins than those that were non-asset
   following:                                                      based.
             They define expectations for both provider               The full report, statistically supported in numerous
             and customer.                                         charts and tables, can be purchased at:
             They may be an incentive provider.
             They offer an objective way to assess results,           www.3PLogistics.com
             and may result in more consistent perfor-
             mance.                                             ������� ��� �����
             They allow the customer to compare perfor-
                                                                �� ������ ����� ������ �������� � ������������� ���
             mance of several different service providers,
                                                                ������ ��� ���� ��
             or to compare performance of one provider
             over a period of time.                                   The author provided a series of tips for addressing
             They may help to identify causes of service           emergencies and disasters. The first, and perhaps
             failures.                                             best, was to create a detailed assessment of every risk
             They should improve both communication                item, including physical, in all categories: Geo-
             and service.                                          graphic, political, weather history, labor union his-
                                                                   tory, economic and market, infrastructure disruption,
             They should reduce the number of disputes.
                                                                   and the availability and proximity of alternative lo-
      Well drafted KPIs share certain fundamental char-
                                                                   gistics networks for all modes. The next tip was to es-
   acteristics. First, they should be written so that per-
                                                                   tablish a disaster team. Don’t put all eggs in the same
   formance can be graded objectively. The results are
                                                                   basket: Develop alternative disaster plans. Demand
   calculable, and not overly subject to judgment. Sec-
                                                                   disaster plans from your key suppliers, as well as
   ond, they should always have a minimum perfor-
                                                                   from your own team. Develop a flexible supply chain
   mance requirement. Failure to meet the minimum is
                                                                   that can react to significant demand fluctuations.
   presumed to be the subject of corrective action. For
   example, a KPI governing order picking accuracy
   might read: Measured as the number of orders picked          ������������ �����������
   accurately, divided by the number of orders received,        �� ��� �������� ������ �������� ���� ���
   with the minimum requirement of 98%.
                                                                     Described by this article are practical tests for
      It is essential that reporting of KPIs is accurate, and      determining your ability to recover from a disaster.
   not subject to manipulation. Each KPI should relate to          Five critical tests are suggested:
   the service and to an achievable goal, and they should
   be limited in number. Each should be tested to verify                   Perform a test data restoration.
   that the performance level is possible, recognizing                     Determine the practical life of batteries, to
   that it is conceivable that the KPI minimum perfor-                     know how long you could run without power.
   mance requirement could be too high or too low.                         Review phone and data contingency plans.
      Inclusion of KPIs should add certainty to the con-                   Test and drill the recovery team.
   tractual relationship, and enable both parties to per-                  Check insurance coverage, and test your car-
   form their obligations more smoothly then in the past.                  rier’s emergency response system.

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