Governance of Federated Business Models

Introduction

During the last twenty years, many businesses migrated from vertical integration to a virtual model, outsourcing all their non-core functions (see figure 1). This has created challenges in aligning the strategies and activities of all these functions dispersed across the supply chain, each in separate legal entities. The next phase of evolution to emerge is the "dynamic federation", or federated supply chain which is governed differently than both vertical and virtual businesses.

Figure 1 Migration from Vertical Integration to Virtual Enterprise
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In the old vertically integrated business, the CEO crafted the vision and articulated the strategy in order to get the business units and internal functions in synch and pulling in the same direction. But a virtual business, which consists of many enterprises, does not have a CEO. Instead, it is governed by a series of relationships between firms, with one party often wielding disproportionate power in the relationship. Each of these peer-to-peer relationships is governed by executive-to-executive dialog, legal contracts, service level agreements, informal understandings, and human interactions at various levels. The disadvantage of this approach is that it does not necessarily lead to alignment of strategies and activities across the supply chain.

This lack of alignment is reflected in the way information is typically shared. Information is passed to your supplier (or customer), who then feeds it into one of their internal systems, eventually passing a different set of information to their suppliers. This approach creates delays and distortion and does not help to align the players in the virtual enterprise. The same is true on strategy, policy, and process levels, because there is generally no guiding force or cohesive governance across the supply chain. Each firm is guided by their own perspective of what constitutes success.

In a federation, guidance comes from key firms that have a broader responsibility across the chain. These tend to be of two types, "the concierge" at the front end, touching the customer, and "the orchestrator", coordinating the supply chain (see figure 2). These two functions may in some cases be performed by the same company. These are different than the traditional role of an OEM or channel master.

Figure 2 Dynamic Federation
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Orchestrator function

We are still at the early stages of these new models. The orchestrator function is a little more established and understood. The orchestrator is responsible for coordinating functions across the supply chain. In some cases, the OEM or brand owner plays this function. For example, some apparel brand owners, who don't own factories, reach all the way back to the raw materials suppliers, selecting cotton from specific locations, deciding which of myriad outsourced manufacturing firms and locations are going to spin, weave, cut, sew, store, move, etc. These decisions are made in a coordinated and cohesive way to support the goals and specific needs of the brand, the specific product, and ultimately of the end customer. And in terms of the chain of responsibility, they literally carry liability insurance to address warranty, accidents, damage, and injury that may occur across the chain. The OEM or freight forward may compliment these financial liabilities.

In other cases, the brand owner may hire a supply chain orchestrator like Li & Fung to perform these functions. In this case, the orchestrator interfaces deeply and frequently with the brand owner to understand and fulfill the end customer requirements—and the orchestrator possesses deep domain expertise, such as understanding the quirks of local politics, regulations, and culture, as well as a global knowledge of logistics, supply chains, and industry-specific processes and players.

The orchestrator function is not limited to apparel. In automotive, some of the large OEMs are coordinating the procurement of steel across all their tiers. Or they may bring together multiple tiers of suppliers into a "supplier park", and facilitate the physical co-location and integration in one facility. In aerospace, a major manufacturer of jet engines plays a very active role selecting and aligning suppliers several tiers back in the supply chain, based on the specific competencies of the suppliers (e.g., "supplier X is best at machining tungsten steel with this specific chemistry") and influencing the supplier's design decisions in order to consolidate the thickness and chemistry of the steel used. In addition, as 3PLs branch out into hybrid models, managing things other than logistics (e.g., assembly, repair, etc.), they start to take on some of the characteristics of an orchestrator, though often not as comprehensively as outlined here.

Concierge service

The concierge has a different function, bringing together a very broad range of solutions into a unified and cohesive offering for the end customer. The concierge also acts as the single point of contact for receiving the customer's requests, resolving issues, or helping the customer with virtually any aspect of the solution/offering, regardless of which other players are involved in ultimately delivering it. In the more general case, the concierge will actually do the legwork of going and finding the service the customer wants, even if it is not already within their network. This is one of the aspects that make these federations so dynamic.

An example of a somewhat limited concierge service is when a financial service provider consolidates a range of normally unintegrated services from different banks, insurance companies, investment advice, electronic payment, and so forth into a single suite of integrated services. This takes a lot of work behind the scenes to integrate the billing systems, help desk systems, etc. In the old model, the effort would be made to build a new IT structure, integrate all the disparate components, host its own business site, etc. But the new models of federation address standards, so that rather than integrating and building a rigid solution, a dynamic network of services is set-up. (The web was architected to provide this type of capability.) Obviously, there has to be a high bar of business practices to be part of this solution.

A last mile example is a virtual companion offering for elderly people living at a distance from their children. New web-based interactive systems are in the home. This could include monitoring and emergency response services like fall detection, pulse monitor, etc. that set off an alarm and dispatch an emergency medical response team if it appears that the person needs help. It could also include home delivery of groceries, movies, pharmaceuticals, etc. The delivery person is specially trained to interact with elderly people, stock up the fridge, and put the drugs into a personally programmed pharmaceutical dispenser tied to a digital assistant that reminds the customer "it's time for your medicine" as it dispenses just the right dose of the right drug at the right time.

The concierge could also provide general advice, companionship, entertainment, and education—all of which can be delivered to the home in various ways. All of these services are available today, but usually not as a unified offering. This requires logistical coordination between the cable company (or Telco carriers or wireless provider), pharmacist, grocer, delivery company, and others. The concierge eliminates the aggravation of finger pointing when something goes wrong, and takes care of the hassle of integrating all this stuff behind the scenes.

The concierge concept would also be highly valuable for helping small businesses get through all the heavy lifting involved in getting a company off the ground—finding and hiring trusted advisors (e.g., lawyer, accountant, etc.), various service providers, learning about and putting together all the pieces of the infrastructure, getting the technology installed, making it work, and keeping it up and running. This lets the entrepreneur really focus their time and energies on serving customers and growing their business. What a great idea!

The concierge has tremendous clout in the supply chain because they truly represent the customer. A concierge who does not make decisions in the best interest of the customer will ultimately fail, as this is a position highly dependent on trust and transparency. Trust is achieved thru technical transparency.

Many levels

The orchestrator has power for the same reason. They represent the brand owner, who is still liable to design a great product to make sure that products meet global standards, etc. The rchestrator may manage the IT platform, selects suppliers, decides on locations, selects transportation providers, logistics, and other service providers, and mandates the performance requirements for all of the players. In short, they are responsible for coordinating, guiding, and aligning the supply chain on many levels, as illustrated in figure 3.

Figure 3 Elements of Alignment for Dynamic Federations

• Strategic alignment: Players coordinate their market strategies, product/solution strategies, technology roadmaps, infrastructure investments, etc.
  
  
• Financial alignment: Each player has incentive to optimize the fulfillment of the customer's needs and wants
  
  
• Executional alignment: Synchronization of operations across the chain
  
  
• Metrics alignment: Success is measured in a consistent manner, using inter-enterprise scorecards to align with needs of the customer; and
  
  
• Collaborative peer to peer network. An IT platform for sharing information within the federation.

True governance ultimately will come from the end-customer being served.

This alignment of strategies, financial incentives, execution, and metrics across the federation means that all the parties are pulling in the same direction to fulfill the same goals, to satisfy the end customer, who is the source of all value in the chain. Imagine customers rating, in real time, the performance of each member of the federation. If one member is not performing, follow-up orders will not occur. In fact, in our last mile concierge example, the customer can browse for an alternative choice. Unlike some of the online travel firms, for example, who promote their preferences to the customer, the customer's preferences is the Governance Principle. The federation, of which the customer is really the key member, must accept this change. In other words, back room deals are not the driver, unless they are offering the value actually perceived by the customer.

Benefits of federations versus virtual

Virtual models still rely on serial IT and process approaches. Federations rely on synchronized process and information. Therefore, over time, the federation will find methods to synchronize their information, product and cash flows, and move from disjointed and linear approaches where less powerful players are left holding the bag. Collectively, operating costs can come down, since we are dealing with a single version of the truth. Higher customer awareness and a customized platform for the customer should lock-in loyalty and should translate into more sales and higher customer satisfaction.

There is a huge untapped market, especially at the high-end, for more intimate and customized services for customers. Also, the elusive last-mile services, both digital (entertainments, communications, and business) and physical (products and services), have only begun to be exploited.

Future customers require future supply chains—global distributed businesses, with joint venture partners, using virtual offices around the globe; new lifestyle consumers, the techno-fascinated populaces of the world—all are untapped customers.

Partnerships between old enterprises—Telco, Logistics, Retail etc.—can create the platforms for these willing customers. Powerful mobility, auto-ID, and global liquid currencies make this level of flexibility easily achievable.

The real alignment comes from serving the end customer. Those who can achieve this will succeed.

About the Author

Bill McBeath, Chief Research Officer of ChainLink Research, leads ChainLink's research efforts, as well as the procurement, strategic sourcing, design collaboration, and on-line marketplaces practices.

Bill McBeath can be reached at: bill.mcbeath@clresearch.com.

ChainLink Research is a bold new supply chain research organization dedicated to helping executives improve business performance and competitiveness.