Confectionery industry supply chain management

Thanks to sustainability projects and traceability of raw materials, as well as to investments in agricultural production and in intermediate processing units, the management of the entire supply chain has become quite popular in the confectionery industry. This choice – which was initially a strategy adopted by large multinational companies in the confectionery industry – is now also rapidly becoming the main choice of smaller companies. The main reason is the fact that offering quality products, by implementing advanced production processes and selecting the best raw materials, is no longer enough. Consumers want more than just quality, and confectionery companies are asked to be involved in activities for which they have never been responsible.

This article will try to identify the reasons for this evolution, highlighting the objectives to be achieved and the risks that confectionery companies are going to run.

What are the objectives?

Over the last few decades, issues like environmental protection, product traceability, animal welfare, and also social issues such as gender inclusion, the fight against child labour, and market prices compatible with decent living standards in developing countries, have become life and death matters, encouraging confectionery companies to be more conscious, since this aspect began to be considered as an added value by most consumers, who were willing to pay for it. Today, we can affirm that meeting these standards concerning environmental sustainability and social responsibility is a basic requirement for a consumer who is asked to choose among different products and companies.

The challenges posed by increasingly saturated markets – associated with increased competition and tight profit margins, and increasingly complex global supply chains threatened by geopolitical uncertainties, climate change, epidemics and migration – shall also be considered. In a nutshell, the growing desire of confectionery companies to manage the entire supply chain is justified by these needs:

• Making sure that a product is supplied in the right quantity, and that quality meets the set standards. Especially if:
  • The raw material is in short supply or the desired quality is not easy to find;
  • There is a monopoly or oligopoly;
  • There is power imbalance in buyer-supplier relationships;
• Creating added value to be transferred to the finished product by:
  • Making our products unique, so that they can be immediately recognised;
  • Implementing sustainability programs, developed by the company and therefore unique, or by external partners.
• Implementing corporate social responsibility for environmental and social issues. There are countless examples, including child labour claims involving the hazelnut supply chain in Turkey, and allegations of orangutan habitat destruction in Southeast Asia due to replacement with palm oil plantations;
• Reducing transaction costs by managing the production and/or intermediate processing of raw materials;
• Benefiting from tax advantages offered in the countries of origin of raw materials;
• Mitigating the volatility of market prices;
• Increasing the company market power;
• Ensuring the traceability of raw materials;
• Improving knowledge of the supply chain and of the characteristics of a strategic raw material.

Operating modes: an overview

The main operating modes implemented to better manage the supply chain are the following:

1. Resorting to suppliers

This is a flexible operating mode, as it does not require any investment or the availability of dedicated structures within the company. A supplier develops a program, which can be the same for all its customers or specifically designed for an individual company, and frequently and regularly reports on the activities carried out and the results achieved.

In this case, however, the supply chain is still controlled by the supplier, therefore there must be a trust relationship between the parties and a good balance between the forces in the business relationship. The intervention of audit companies that certify the correctness of data and information, and protect the parties is pretty common in this case, but in my opinion this mechanism can be subject to distortions, given that audit companies are usually private bodies operating on the market and are not able to ensure the required impartiality.

Finally, the distinctive feature of a program is less effective if the supplier offers the same program to other companies, which is not unusual.

2. Vertical integration

Vertical integration means internalising all or part of the activities upstream in the supply chain, and can be implemented by:

• Providing the companies withits own facilities, including investment in plantations, the construction of intermediate product processing units and the marketing of products.
• Acquiring the existing operators.

This way a company – even at higher costs and with a greater use of resources – can achieve the following objectives:

• Reducing transaction costs, as it no longer needs to buy from and sell to other companies;
• Ensuring the regular supply of the raw materials needed;
• Managing the entire supply chain;
• Increasing market power;
• Maximising tax deductions and managing any restrictions in force in the country where the company is based.

There are, of course, several intermediate situations. For example, if the product being integrated is a semi-finished product (chocolate, refined oil, almond paste, hazelnut grains, etc.), the company can replace its purchase with the purchase or production of the main raw material, outsourcing processing and/or sustainability projects with long-term agreements.

The risks not to be underestimated

Ultimately, there are many and well-defined opportunities for companies that decide to manage the raw materials supply chain, and not surprisingly many of them have made this choice.

However, this still comes at a cost and there may be risks. Indeed, there are many challenges to face, and the first important obstacle to overcome is not to overestimate these risks, which happens more frequently that you might think. National and international leading companies,  which have the right resources and skills,  as well as decades of experience, often think that the formulas that have proved successful in their field can help them succeed even in vertical integration. Let’s see what are the main risk areas:

• Transaction costs: you won’t necessarily save money. Our suppliers are better at optimising raw materials than we are, and they probably know them better. They manage processing waste more efficiently, both from a production and a commercial point of view. Furthermore, if the investment is tailored solely to our needs, the risk of not benefiting from the same economies of scale is real. Last but not least, adequate budgets must be allocated to dedicated cross-functional resources and teams.
• Risk profile: confectionery companies are usually quite averse to risk, especially with regard to the purchase and management of raw materials. This is not a minor obstacle, if you have to manage a self-produced raw material, as you will probably have to manage surpluses and quality levels that could not meet our standards, accepting greater risks, or you will be less efficient than the other operators on the market, with consequent higher production costs.
• Customer orientation: confectionery companies process raw materials only for the purpose of producing their products. If we have invested in an intermediate processing unit with a capacity greater than our needs, perhaps to benefit from cost advantages, we will have to change our approach and produce not only for our customers, but also for the market, and then consider different technical specifications in our plans, and develop sales and quality offices capable of providing a customer service that meet the standards of the reference market.
• Supply continuity: in the case of an agricultural investment, with production concentrated in a specific area and focused on a specific variety, we are exposed to the risk that weather, political or other adversities affect the harvest or its availability. The impact of the risk will depend on the production rates required to meet the needs of the company.
• Organisation: it depends on the size and on the importance of the project. New professional positions must be crated, according to the level of vertical integration: agronomists, technologists, sales experts willing to produce or purchase the raw materials, who know the countries of origin of such products. Then, if the company decides to internalise other processes, other professionals can be required, for example to manage CSR projects and traceability. Finally, the project should be supported by an adequate governance structure, with steering committees meeting regularly andcross-functional teams consisting of the right professionals.
• Flexibility: making such changes will inevitably result in new commercial, qualitative and process standards, for example, when submitting a purchase order – perhaps a dematerialized order – to a producer, or when requesting a HACCP certificate from a small cooperative in a developing country. The procedures will have to be reformulated and made consistent with the new reality.

In conclusion, in order to seize the opportunities while minimizing the risks,  confectionery companies must define its objectives in detail, taking into account the positioning of their products, and therefore the characteristics of their consumers, as well as the budgets available, and making sure they have the professionals and the organizational structure they need to implement their project.