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Making Supply Chains Resilient
Toyota’s ability to adapt has helped it manage multiple crises during the COVID pandemic, but regulatory challenges threaten resiliency
After Toyota’s supply chain was significantly disrupted by the 2011 earthquake and tsunami in Japan, the automaker decided to change its game. A team within the company started building a huge dataset of suppliers, suppliers’ suppliers and suppliers’ suppliers’ suppliers (yes, three steps out), which led to stocking strategic inventories of essential components. Creating the ability to catch a hiccup before it became an impediment put Toyota in a strong position to deal with the past two years of COVID-related supply chain issues.
Toyota weathered the first and second COVID waves of closures, port delays, natural disasters and shipping problems. The company had up to a four-month inventory of essential components such as chips. In fact, it was a surprise to many in the company how long it was able to keep production going.
But the third and fourth waves of COVID-induced closures of suppliers’ and chip makers’ factories across Asia presented too many obstacles at once. “Those new lockdowns exacerbated an already dire situation,” Afas explained, and in August of 2021 Toyota announced a 40% production cut.
Protect Your Supply Chain But Also Your People
Several other automakers announced COVID-induced production cuts as well, but while some of these companies laid off workers, Toyota kept theirs on the payroll. “Managers were calling their team members every week to check in with them and their families, and to see if they needed anything,” Leila said. Workers may not have been making cars at the plant, but they were figuring out how to improve performance once they returned.
Toyota had already seen how its people-first approach paid off after the financial crisis of 2007 to 2009. As the U.S. and global economy slid into a recession and production lines slowed down (or in some cases stopped), Toyota workers stayed on the payroll and kept busy finding new ways to improve their own or their colleagues’ performance. Harvard Business Review showcased the “Toyota production system” that draws on frontline workers to identify ways to improve the production process. In some cases, workers spent time on community service projects. “So once the economy picked back up, Toyota came storming back,” Leila said.
The Death of Just-In-Time Manufacturing Has Been Exaggerated
Toyota is famous for its just-in-time manufacturing system, which relies on keeping just enough inventory to make value flow without interruption, thus minimizing waste. For decades it was praised as a key to good performance, but since the emergence of COVID, many observers are pointing to just-in-time manufacturing as the cause of supply chain problems. Toyota had more essential components in inventory than most other automakers, but even it succumbed to the continued disruptions. Keeping 8 to 12 months of complete inventory on hand is not commercially viable for most companies since the capital could be deployed in more efficient ways.
Still, just-in-time manufacturing does not appear to be going anywhere, although Toyota changed how it implements the techniques a decade ago, after the Tohoku earthquake and tsunami in Japan. Leila was hesitant to highlight or frown on any one inventory process. “For an industry like autos, the supply chain is so incredibly complex,” she said. Considering that the average vehicle has about 30,000 parts, and “you need all of them to build a car,” it is vital to have reliable ways of getting those critical parts and components into your manufacturing facilities.
If one supplier goes down, it’s not so easy to find a replacement. Certifying a supplier is a lengthy process to ensure that strict safety and quality specifications are met. This process can take up to several years in some cases. “You can’t just flip on a dime and switch suppliers,” Leila said. And suppliers do tumble. Toyota’s suppliers have been hit by natural disasters, a 2021 fire in a semiconductor facility, the Texas 2021 deep freeze and the COVID pandemic.
Regulatory Challenges After COVID
Like many companies, Toyota is taking a hard look at how it will move forward after the pandemic. There will always be crises, whether natural or geopolitical, and those are costly. But it is the changing policy landscape that worries Leila more.
Consider advanced electric vehicles with a high-tech landscape that includes new battery technology, fuel cells, charging stations and a host of privacy issues for smart cars. If Toyota develops these technologies in the United States, will it be able to commercialize them in the EU? Can the company do that in a way that includes Japan?
Or consider new laws around forced labor. In December 2021, President Biden signed the Uyghur Forced Labor Prevention Act into law, which bans imports of goods made with forced labor in China. As a result, U.S. companies are preparing for outright bans on everything from this region. The EU, U.K. and Canada are gearing up to pass similar laws.
It is yet to be seen how U.S. Customs and Border Protection (CBP) will administer the legislation, but the key words in the statute are “rebuttable presumption.” That is, if the good comes from the Xinjiang Uyghur Autonomous Region, it is presumed to be made with forced labor, and the importer will have to prove otherwise. China closed down its one remaining independent auditor last year, which made it that much harder for shippers to prove their goods were not made with forced labor. Toyota, like some other large multinational corporations, has its own supplier certification process. But it is not clear if those processes will be sufficient for CBP.
Despite living through a once-in-a-century pandemic and a slew of horrible natural disasters, the biggest challenge for Toyota, according to Leila, has been “geopolitical risks and the protectionist measures put into place to grapple with them.” While the irony was not lost on her, she understands the desire to protect national security and health. “But unfortunately, many new barriers have been erected,” she said. Companies are trying to deal with challenges that are completely out of their control. On top of that, they are navigating how to comply with new policies and the barriers those policies create. “Lately, new rules have been coming down the pipe at a pretty fast clip,” she said. The latest are restrictive rules of origin for autos in the United States-Mexico-Canada Agreement (USMCA) and Section 232 steel and aluminum tariffs that hurt Toyota’s domestic suppliers, even though Toyota sourced more than 90% of its steel from the United States for its U.S.-built vehicles.
The USMCA has far more stringent rules-of-origin requirements than did the original North American Free Trade Agreement (NAFTA). So, when the freak deep freeze hit Texas in the winter of 2021, manufacturers could not get product in, and having to comply with the myriad USMCA rules of origin was not just an added cost but a huge roadblock to crisis management. Similarly, the Section 232 tariff on steel imports (25%) raised costs throughout the supply chain, further limiting flexibility.
Resist Protectionism in All Its Forms
Leila also warned against using statecraft to further certain goals. “It is wonderful to see countries make strides to reduce emissions, but be careful of protectionism in disguise because trade partners will undoubtedly retaliate.” For instance, the electrification tax credit might benefit the U.S. producers but not allies who are also working toward the common goal of electrification. If Congress makes certain domestic batteries eligible but not those of our trading partners, that will undermine global cooperation.
Carbon does not respect borders. So, if reducing emissions is the goal, policymakers may need to rethink these protectionist approaches. Leila went on, “Will the EU’s CBAM (carbon border adjustment mechanism) be one or the other? Are you pursuing a climate goal or a trade goal? They could be on a crash course.”
Companies like Toyota need the ability to maintain flexibility, not rigid rules. If policymakers want resilient manufacturers, they must help manufacturers help themselves in times of a crisis. Openness to trade brings that much-needed flexibility. It is what matters most for resiliency. Those ties with other countries are a good thing, and Washington must figure out how to keep them intact.