Backbone of the Business

5 May 2011 Francesco Gori

Pirelli Tyre CEO Francesco Gori explains why he views the supply chain as the 'backbone' of the business.

In 2008, after almost a decade of rapid growth, the global tyre market deflated. Yet, while most tyre companies struggled as the effects of the credit crunch reverberated around the world, some saw it as an opportunity to tune up and reshape their business.

Pirelli Tyre was one of those firms. A couple of years on, the company is going places fast. The Pirelli Group has been stripped down and focused on tyres; its Pirelli Tyre subsidiary generated record amounts of cash in 2009, secured the F1 tyre contract and is back burning rubber in the fast lane.

The economic slowdown was tough on the tyre industry. Following years of growth averaging 9% - the market doubled from $70bn to $140bn between 2000 and 2008 - demand for tyres stalled almost overnight.

"The crisis quickly reduced demand," says Pirelli Tyre CEO Francesco Gori. "And not just in the original equipment manufacturer market, where we supply tyres to vehicle manufacturers. The trade market, which is 75% of our business, immediately cut back its purchasing, recognising that it was more important to have cash at that time."

But, despite dealers reining in their spending so severely, by the end of 2009 Pirelli had turned in a strong performance. Although not back to the record levels of profitability pre-crash, its €300m of cash (before dividend) represented a record year in terms of cash generation.

Supply chain savvy

A major reason for the firm's quick bounce back was Pirelli's resilience as a business, rooted in the flexibility afforded to the firm by its highly efficient supply chain. The global economy moves at an ever-increasing pace. As a result, supply chains in multinational organisations have to be much more dynamic as they adapt to internal changes in technology and product innovation, as well as external variations in markets, both from a supplier and consumer perspective. This requires close collaboration across the value chain, and in many cases hands-on intervention from the CEO. Pirelli's supply chain is no exception.

"For us the supply chain is the backbone of the company; possibly the most important transverse inter-functional process," says Gori. "I am frequently involved with its development and management."

In this regard, Gori sees the CEO's task as one of ensuring balance between certainty and flexibility, a role integral to achieving the goals of the business. "I have a clear vision of the extent of the compromise required between flexibility and the need to adapt to continuous changes in market demand on the one hand, and trying to maintain some kind of control and cost-efficiency in production and in the factories on the other."

As Gori points out, it might seem like an ideal situation to have factories specialising in a single product or technology. But with most companies producing an increasingly customised product mix and greater numbers of stock-keeping units (SKUs), this is not practical. Nor is it desirable from a resilience perspective. Gori makes key decisions about the level of specialisation of a factory, production department or technology against market flexibility, and then makes sure that those decisions stick.

"On the inbound side of Pirelli's supply chain, the company works as closely as it can with key suppliers, based on mid-term forecasts received from its business units. "

On the inbound side of Pirelli's supply chain, the company works as closely as it can with key suppliers, based on mid-term forecasts received from its business units - car, motorcycle, truck and bus, and agro. The business units then manage the process, from production planning through to delivery to the final customer. It is easier on a business unit basis, Gori explains, because the dynamics for the various segments are very different.

In terms of time frames, Pirelli Tyre balances its long-term 18-month forecast with a review every 30 days. This allows an assessment of what is required on the inbound side, in order to purchase the right kinds and amounts of raw materials; sign contracts with suppliers; build new machines, curing presses and factories; and so on.

But, as with many firms operating globally, it is a challenge. There are thousands of SKUs, each requiring different raw materials and processes. Each needs to be manufactured and available at monthly intervals. There are regional variations, winter and summer tyres, the list goes on. The technology, data systems and processes may be advanced - all of Pirelli's warehouses are connected via IT and each warehouse has its own stock targets by SKU - but it is still often a question of being able to respond to last-minute changes that counts.

"The reality is, even though we have all that information at our disposal, we manage by exceptions," says Gori. "The vehicle manufacturers tell us they want a particular thing one week, but by Monday they want something else, and we must try to supply them. It is a market that is difficult to predict or follow.

"It is much easier, in some ways, to supply the mass market with large amounts of a relatively low number of SKUs. But as we are focused on leading the tyre segment of this premium segment, with smaller amounts of more complicated goods, we have to be more accurate, faster and more flexible in the way that we react."

Gori believes that teamwork is the key factor in operating an effective supply chain, as is having a good team that knows what is expected of it.

"The supply chain is inter-functional; it extends from the plantation in South-East Asia to the garage in Brooklyn. There can be a lot of conflicts to manage, so good teamwork is essential. When you change a production programme, for example, it may mean someone missing their key performance indicators on productivity, efficiency and waste; it may mean that the person in purchasing, who has secured beneficially priced, long-term accounts with a supplier, having to tell that supplier that we don't want to buy from them any longer.

"The supply chain team has to understand that the real priority is the customer - that is where real value is created, not inside the company. So the team must work closely together, giving up their functional priorities and key performance indicators in the name of the overall goal. I don't think that there is a single more important element than the spirit of teamwork and collective understanding, especially in a crisis."

"The supply chain team has to understand that the real priority is the customer - that is where real value is created, not inside the company."

Pirelli's emphasis on teamwork and flexibility served the firm well following the credit crunch. "In the space of a few weeks it meant applying the brakes in factories and stopping the containers of natural rubber coming from South-East Asia," says Gori. "Early in 2008 we were growing in terms of investment in the business, adding capacity and ordering new machinery. Soon we had to start discussions with our machinery and parts manufacturers about stopping production."

Some quick organisational restructuring was required. For example, one factory closed, but another opened with reduced manpower and greater automation. "Our production poles must be flexible enough that in the case of a change in market demands we are even able to set up production with a different mix, in a region where there is a low demand locally, and then ship those tyres to a region where there is demand," says Gori.

"Of course the costs are higher; shipping tyres is not as convenient, the economics not as good, but it is still often better than shutting down."

Pole position

Pirelli has built an exceptionally strong brand. But even though the firm turned in a relatively strong performance during the downturn, there is no sign of complacency. This is just as true in supply chain operations as elsewhere. For example, its success in winning the F1 tyre contract is viewed not only as a big win in terms of visibility and brand value, but also as an opportunity for innovation that will bring benefits to the broader business.

"Of course in reality, the supply chain starts with the product concept, design, development, testing and the car maker's approval process. Industrialisation and delivery come after," says Gori. "F1 has allowed us to innovate in a number of areas, including around the approval process."

Pirelli had to accelerate its production process, particularly from approval to delivery. It was only towards the end of June 2010 that the company knew for certain it would be supplying the tyres for F1, tyres that had to be delivered to the racing teams for testing the following November. Although the firm had a department dedicated to motorsport tyres, there was a process of adaptation; new machines needed to be designed and installed, and a number of processes had to be run in parallel. But despite the tight deadline Pirelli's racing tyres were with the teams as planned.

Gori is also aware of the need for companies to look ahead, sense changing markets and consumer trends, and be proactive. "Increasingly, consumers are shopping for tyres on the internet," says Gori. "The numbers are small at the moment, but they are likely to increase substantially, and that means that the supply chain will become more extensive and extend beyond its traditional boundaries.

"There are risks involved, but if you want the growth associated with emerging markets you have to accept some possible risk of instability."

"Equally, the number of tyre types continues to grow, and it is possible to envisage a time when product sophistication will make it impossible to meet customer requirements using existing warehousing processes. Instead, the internet will be essential to provide the necessary service level.

"That doesn't mean we are going to eliminate the tyre dealer from the process - tyres need people with the expertise to physically fit them. However, we can facilitate the process by providing those tyres to the right address, to the right dealer and according to customer requirement. We will have to be ready to facilitate this process, deliver according to internet requirements and influence consumers through non-traditional media, as well as be influenced by and respond to the consumer's comments."

Another area of rapid change is the explosive growth in the demand for tyres in emerging markets. The change is reflected in Pirelli's 2015 vision. Gori notes that Asia-Pacific, and China in particular, is becoming the largest market in the world. More production will be moved closer to local markets; Pirelli is well placed to do this, as historically it has high exposure in these rapidly growing economies.

"There are risks involved, but if you want the growth associated with emerging markets you have to accept some possible risk of instability," the CEO says. "There is a strategic advantage to be gained and we have been investing in the emerging markets well in advance of our main competitors, starting with Latin America, the Middle East, Africa and finally China."

As part of the company's 2013 plan and 2015 vision, investment will continue in these areas. Of the €1.9bn earmarked for investment, 80% will be used as capital expenditure in high-growth, low-cost markets. And there will be, of course, a continued focus on the supply chain, and striking the right balance between flexibility and the ability to plan for the future with some degree of certainty. Because it is effective supply chain management and innovation that have played a major part in propelling Pirelli firmly back into contention for pole position in its industry.