The great supply chain collapse

Wednesday, 4 May 2022 — Albert Park

[6 min read]

Dear Reader,

It’s pretty clear that supply chains are in trouble. Everyone’s starting to notice, whether it’s when they’re grocery shopping or fuelling up their cars.

Today, Jim Rickards begins an in-depth study of just what is going wrong with supply chains. How did we get here?

In order to answer this question, you have to understand the true complexity (and vulnerability) of supply chains.

Read on below to learn more…

Regards,

Callum Newman,
Editor, The Daily Reckoning Australia

Dear Reader,

Global supply chain delays are something everyone has heard about or experienced firsthand. Yet it’s a subject that very few are familiar with beyond a superficial acquaintance.

Most people think the supply chain is just part of the global economy. That’s not entirely true. The supply chain is the global economy. There isn’t a single good or service of any kind offered to you that doesn’t arrive through a supply chain. Not one. If the global supply chain is broken, then the global economy is broken. That increasingly appears to be the case.

Supply chains — what could go wrong?

Most people have some notion of how supply chains work, but few understand how extensive, complex, and vulnerable they are. If you go to the store to buy a loaf of bread, you know that the bread didn’t mystically appear on the shelf. It was delivered by a local bakery, put on the shelf by a clerk, and then you carried it home and served it with dinner. That’s a succinct description of a supply chain — from baker to store to home.

Yet that description barely scratches the surface. What about the truck driver who delivered the bread from the bakery to the store? Where did the bakery get the flour, yeast, and water needed to make the bread? What about the ovens used to bake the bread? When the bread was baked, it was put in a wrapper of some sort — where did those come from?

Even that expanded description of a supply chain is just getting started in terms of a complete chain. The flour used for baking came from wheat. That wheat was grown on a farm and harvested with heavy equipment. The farmer hires labour, uses water and fertiliser, and sends his wheat out for processing and packaging before it gets to the bakery.

The manufacturer who made the oven has his own supply chain of steel, tempered glass, semiconductors, electrical circuits, and other inputs needed to build ovens. The ovens are either handcrafted (engineered to order) or mass-produced (made to stock) in a factory that may use either assembly lines or manufacturing cells to get the job done. The factory requires inputs of electricity, natural gas, heating and ventilation systems, and skilled labour to turn out the ovens.

The store that sells the bread is on the receiving end of numerous supply chains. It also requires electricity, natural gas, heating and ventilation systems, and skilled labour to keep the doors open and merchandise in stock. The store has loading docks, backrooms for inventory, forklifts, and conveyor belts to move its merchandise from truck to shelf.

Every link in these supply chains requires transportation. The farmer relies on trucks or rail for deliveries of seeds, fertilisers, equipment, and other inputs. The oven manufacturer also relies on trucks or rail for deliveries of its inputs, including oven components. The bakery and the store rely mainly on trucks for deliveries of their inputs and the finished loaves of bread. The consumer relies on their cars to get to the store and return home.

These transportation modes have their own supply chains — involving truck drivers, train engineers, good roads, good railroads, rail spurs, and energy supplies — to keep moving and make deliveries on time.

This entire network (farms, factories, bakeries, stores, trucks, railroads, and consumers) relies on energy supplies to keep working. The energy can come from nuclear reactors, coal-fired or natural gas-fired power plants, or renewable sources fed to a grid of high-tension wires, substations, transformers, and local connections to reach the individual user.

Everything described above sits somewhere in a complex supply chain needed to produce one loaf of bread. Now, take everything else in the grocery store (fruits, vegetables, meat, poultry, fish, canned goods, coffee, condiments, and so on) and imagine the supply chains needed for each of them.

Then take all the other stores in the shopping centre (home goods, clothing, pharmacies, hardware, restaurants, sporting goods) and imagine all the goods and services available from those vendors, and the supply chains behind each and every one of them.

So ubiquitous they’re invisible…until something goes wrong

In case you think I’ve exaggerated the components and steps for making a loaf of bread in the above example, I didn’t. The example above is actually a grossly simplified description of the actual supply chain.

A full description of the necessary supply chain would reach back further (where do the seeds for the wheat come from?) and branch off in tangential directions (where do the bread wrappers originate?). A full description of the bread supply chain — with choice of vendor analysis, quality control tests, and bulk purchase discounts, among other decision tree branches — could easily stretch to several hundred pages.

You get the idea. Supply chains may be hidden but they are everywhere. They’re interconnected, densely networked, and unimaginably complex.

With that as an introduction, let’s think about how supply chains break down. The best description is the one Ernest Hemingway wrote when a character in The Sun Also Rises was asked how he went bankrupt. The answer: ‘Two ways. Gradually, then suddenly.’ Supply chains break down gradually at first. Then the collapse can be sudden and catastrophic.

Right now, we’re at about the midpoint of Hemingway’s description and dangerously close to something that could rival the oil embargo of the mid-1970s or the collapse of world trade in the 1930s in its impact.

In my next edition, we’ll look at just how close we are to a supply chain breakdown…

Regards,

Jim Rickards,
Strategist, Strategic Intelligence Australia

This content was originally published by Jim Rickards’ Strategic Intelligence Australia, a financial advisory newsletter designed to help you protect your wealth and potentially profit from unseen world events. Learn more here.

Dear Reader,

The great ‘River of No Returns’ — Amazon.com — went over a waterfall on Friday. From Forbes:

‘Shares of Amazon collapsed Friday after the e-commerce monolith reported worse-than-expected earnings spurred by high inflation and lingering supply chain constraints, pushing the stock down more than 30% below its record high and extending a slate of massive losses among formerly high-flying technology firms.

‘Amazon stock tumbled 14% Friday to $2,485, logging its worst day since 2014 and wiping out about $210 billion in market value.

‘Spurring the losses, the Seattle-based giant on Wednesday reported an unexpected loss of $3.8 billion in the first quarter, or $7.38 per share, significantly worse than the $8.36-per-share profit analysts were expecting and much lower than the profit of $8.1 billion a year earlier.’

But what did you expect? Nature imposes symmetry. And in a market economy that means:

‘Those stocks that go up the most in a boom are the ones that go down the most in a bust.’

The first shall be last

There are always market leaders. Some companies stand out. Either because they have snazzy new technologies or better business models. And they seem unstoppable…indestructible. They’re the companies everyone knows. And they can afford to hire the very best talent. Then, with the leading engineers and innovators on their payroll, they should be able to meet challenges better than their competitors — including adapting to innovations as well as developing the next big technologies.

At least, that’s what investors expected from IBM, Minnesota Mining and Manufacturing, Kodak, Sears, Coca-Cola, and Xerox. These companies were members of a group of sizzling stocks from the 1960s — the Nifty Fifty.

They were ‘nifty’ because they grew faster, and made more money for investors than other stocks. And they had brands that looked unbeatable.

Who could resist ‘Avon calling’? Who didn’t know that ‘Things go better with Coke’? Who didn’t shop at Sears? What office didn’t have a Xerox machine?

But just as day begets night, so does success beget failure. When the big breakthrough in photo technology — digital imagery — came along, for example, did Kodak lead the way? Nope. And when women wanted perfumes and makeup with a little more chic — was Avon on the case? Nope…it was French brands — Givenchy and Dior — that gave them what they wanted. And who led the world into the laptop computer/tablet/iPhone age…IBM? Nope again, it was Microsoft and Apple.

Similar retrospectives could be written about any of the Nifty Fifty companies. The common feature was symmetry. They went up…then they went down.

As a group, the Nifty Fifty outperformed on the way up. Then, when the ‘60s boom turned into the ‘70s bust, they outperformed again…on the way down. From Bridgeway Partners:

‘The recession of 1973–1975 ushered in a period of low economic growth, and with it a bear market…the S&P 500 fell by over 14% in 1973 and lost over 26% in 1974. But the Nifty Fifty stocks fell even more, dropping over 19% and then 38% in those two years. Markets did recover somewhat after that, and the S&P 500 gained on average about 2.5% annually over the five years from 1973–1977. But the Nifty Fifty still lagged, with five-year average returns of -4.4%. …those Nifty Fifty stocks with the highest P/E at the peak tended to have the lowest subsequent returns.’

The Amazon of the ‘60s

Sears is the one we know best.

Growing up in the ‘50s and ‘60s, we shopped at Sears. Everyone did. If Sears didn’t have it, you didn’t need it. In the 1950s, the Sears catalogue was more than toilet paper. It was a ‘Consumer Bible’ where all that was good in American industry was on display. It showed us the latest fashions, gadgets, appliances, and precision tools — everything that set the US so far ahead of its competitors. In it, you could find everything you were looking for…and much more than you never knew you wanted.

The Sears’ Christmas catalogue — the Wishbook — was a marvel of marketing to children. It kept them occupied for days, making careful notes and comparisons.

Richard Sears was a century ahead of Jeff Bezos. His catalogue was the paper-era precursor of Amazon. And his company, with its huge customer base, expertise, and purchasing power…was the retailer Numero Uno...in the top retail market in the world.

In the 1960s, Sears expanded its network of brick-and-mortar stores. They were innovative, car-oriented outlets, typically away from the city centres. Frequently, they were anchor tenants in huge malls. And they were built from the inside out — focused on the shoppers’ experience inside the stores — often without windows to the outside world.

Unlike Amazon, Sears owned its own brands — Kenmore, Craftsman, DieHard, etc. It developed its own ‘Discover’ credit card. It had its own insurance, auto repair, and investment subsidiaries.

Sears had a huge lead on its competitors. It had plenty of money. And it had management nonpareil. But there’s an old saying on Wall Street (that we just made up): ‘When unstoppably brilliant management confronts the symmetry of market forces, bet on symmetry.’

As recently as April 2007, 115 years after its founding, a share of Sears Holdings would have cost you US$193. On Friday, the price was 5 cents.

Regards,

Bill Bonner,
For The Daily Reckoning Australia