Published: ETAuto.com, January 19, 2017According to RBI data, 90% of all transactions in India are made with cash. A little over 80% of this cash became practically worthless overnight when ₹1,000 and ₹500 currency notes were demonetised on November 8 this year. This withdrawal of the legal tender status of these notes came as a major blow to traders who rely mainly on cash for business transactions. Kashmere Gate in Old Delhi, one of India’s largest wholesale markets for <a target="_blank" rel="noopener noreferrer" href="https://www.vectorconsulting.in/en/industries/auto-and-auto-components/">auto parts</a>, which is overcrowded on any usual day, wore a completely deserted look for days after November 8. Business in other auto-component wholesale markets across the country also tanked. An examination of the impact of this unexpected event (often described as Black Swan by many) threw up some interesting observations about two sets of <a target="_blank" rel="noopener noreferrer" href="https://www.vectorconsulting.in/en/industries/auto-and-auto-components/">spare parts manufacturers</a> in the aftermarket. In the week after November 8, sales of a few companies immediately slumped. In a few others, there was no perceptible change (compared to sales of the same period of previous years). But by the month-end, the trend reversed. Business hopped back to normal (and, in some cases, even improved) for the first set of companies, while the second set suffered a severe hit. Industry reports indicate that not only are the latter looking at abysmal numbers for the month, but are also anxious about the top line for the next two quarters. Yes, two sets of companies in the same environment had drastically different experiences of the same circumstances. Why? Let’s take a closer look. The difference lies in whether the supply chain of the company is managed by the ‘push’ method or ‘pull’ replenishment systems. The ones that are managed with a <a target="_blank" rel="noopener noreferrer" href="https://www.vectorconsulting.in/en/solution-frameworks/supply-chain-and-distribution/">pull-based supply chain</a> appear to be anti-fragile!  So, what happened?  <h2>Saga of two paradigms: Push v/s pull supply chains</h2>Demonetisation created a currency drought in the market. Our study showed that traditional companies operating on push systems felt little or no immediate impact. These organisations have a typical sales pattern. The first couple of weeks see very little sales. It picks up in the third week and peaks at the month-end. When the market was reeling under the aftermath of demonetisation, these companies remained relatively unaffected, since activity at that time of month was usually low. But when the month-end approached, and their channel partners refused to pick up the anticipated stock, all hell broke loose!  The first links in the channel for most companies are distributors, wholesalers or dealers. Since most of the cash with retailers was in demonetised currency, they rushed to distributors and wholesalers to get rid of the old notes by settling dues, clearing overdue, and, in some cases, even paying in advance for future purchases. Unfortunately, distributors could not do the same with companies. Though distributors and wholesalers became flush with cash, they could not deposit it in their accounts as the banking system was almost paralysed. So, despite having cash, distributors and wholesalers did not have 'money' to clear their dues. Thus, they were unable to buy additional stock from companies as their billing accounts were frozen (a fairly common occurrence). Consequently, the primary sales of companies were badly hit. <figure class="image"><img style="aspect-ratio:16668/11456;" src="https://web-assets.vectorconsulting.in/storage/editor_uploads//image_1779774621.png" width="16668" height="11456"></figure>On the other hand, companies operating with a 'pull' replenishment system had a different experience. In the 'pull’ replenishment method, retailers or distributors are only supplied to the extent that goods have moved out due to consumption. Orders are placed daily at all nodes and replenished frequently. When the market was in shock and consumption was almost frozen for a few days, signals of this decline reached the companies immediately. But sales picked up once the initial pall lifted and consumption resumed (albeit at subdued levels), even without any incentives or credit extensions. Since retailers in this system have very little possibility of their money being locked up in excess stock (as they are not required to buy in bulk), they preferred to use whatever liquidity they had to buy small lots needed to service customers. Moreover, unlike traditional companies, whose availability took a big hit due to distributors’ inability to buy, the availability of products of companies that using the ‘pull’ replenishment remained high. According to numerous accounts, this advantage of high availability and the willingness to supply small lots actually prompted some retailers to substitute products that they had traditionally sourced from other companies with these firms, leading to a shift in market share – shop by shop, SKU by SKU.  <h2>The Chakravyuh in the channel</h2>Now, while it’s business as usual (or near usual) for companies using ‘pull’ replenishment, sales have seen a significant degrowth (20%-30% reduction according to various reports) for many traditional companies. The result is an increasing pile of finished goods (FG) in warehouses. Industry reports indicate that companies are responding by increasing credit limits and credit terms for channel partners and offering additional discounts. This knee-jerk reaction can prove counterproductive.  Distributors are already in a dicey situation; they are unable to pay dues. They are also burdened with inventory (which was pushed to them in the past). As companies are doing the distributors a favour by extending credit cycles, they would set tough terms. Chances are, they will push stock with more ‘strangers’ than ‘runners’. Consequently, inventory with distributors would continue to pile up. Channel partners, too, would be choked with inventory and start straining even their extended credit limits. If they are unable to pay for the inventory and cannot clear their earlier dues, they may go into credit lock.  Companies may then have to resort to strong-arm tactics of 'pay or no supply'. So, while the distributors’ money is stuck in not-so-fast-moving goods, and there is no cash to buy runners, there will be a scarcity in the market for these goods. Since a significant share of sales comes from the runners, retailers already reeling under a cutback in consumption will experience a further decline in sales due to this supply issue. The net result is a vicious circle of reduced sales and ballooning working capital for the manufacturers and their channel partners.    <h2>The Padmavyūha in upstream operations</h2>The supply chain strategy not only impacts how the trade channel will fare but also determines how companies weather the aftermath of this particular storm!  Unlike companies that adopted ‘push’ methodology, traditional companies tend to have huge piles of FG (more than 4-6 weeks). History has shown that if sales remain below expectations for a protracted period, companies would be compelled to cut production by block plant closures. Reduced sales also mean that collections of gross contribution (sales – truly variable costs) would not be sufficient to pay for total periodic expenses, such as salaries, rent, etc. Companies also have to pay for raw materials currently lying in FG (in the automaker’s own warehouse or at dealers/distributors). They will then feel compelled to throttle both orders and vendor payments. Consequently, they will end up with a huge FG inventory of products that are not selling fast and will be short of components to produce runners that can sell immediately. This, of course, will further hinder the flow of liquid money.  Without orders, companies’ production cuts will be amplified by suppliers’ cuts (who also have FG). Suppliers would then be forced to downsize or give workers long breaks, which can be a huge risk as they may not get them back when required. This may affect both their business and their customers’ businesses.  <h4>Another vicious cycle.</h4><h4> </h4><h2>Breaking out of the Chakravyuh</h2>Most companies are prisoners of an erroneous model of supply chain management. The paradigm that ‘the more one pushes, the more one sells’ is flawed. The 'push' model locks up working capital in non-moving SKUs and prevents distributors from buying more of fast-moving SKUs. This model is not effective even in stable markets. But whenever there are ‘Black Swan’ events (high-impact, hard-to-predict, and rare) or even 'Grey Swan' events like the 2008 recession, Jat unrest (February 2016), Cauvery water unrest (September 2016) or now demonetisation (November 2016), this method of operating makes companies particularly vulnerable. The industry has experienced it over and over again.  So, how can companies become anti-fragile using the ‘pull’-based operations and distribution i.e., how can they not only survive such random events but also thrive?  To answer this, let’s ask a few more questions. What if factories produced only what was sold? What if companies had an inventory of about 15 days at the dealers and 10 days at their own central warehouse (CWH), and the CWH supplied the dealers only with what they sold? And the plant, in turn, only produced quantities equivalent to what was sold from the CWH? Would the cash crunch situation be so severe?  But for 10 days of inventory in the CWH to be enough to prevent unavailability (lost sales), the plant has to be capable of delivering in less than 10 days. Can this be done? Let’s assume RM will be available in the producers’ RM stores or as FG from component suppliers. With this support, the plants (component manufacturers) can replenish the CWH within 5-7 days. If the CWH has a near 100% availability and the distributors/dealers provide daily sales data, the inventory required at the distributors/dealers depends solely on the delivery times. With frequent replenishment at all nodes, the entire supply chain can thus work to actual consumption!  Such a ‘pull’ mechanism in the supply chain will ensure that the company is not blindsided by market declines, for whatever reason. Moreover, the system’s inherent agility will ensure the company is best positioned to take advantage when the market bounces back. Research shows companies implementing 'pull’ methodology to acquire market share this way tend to permanently retain it even after the turbulent period has passed.   It is as Seneca said, “Good Luck is when preparation meets opportunity.” 1. A Black Swan is an event or occurrence that deviates beyond what is normally expected and is extremely difficult to predict; the term was popularised by Nassim Nicholas Taleb. 2. A term introduced by Nassim Nicholas Taleb in his book by the same name to describe, “some things that benefit from shocks; they thrive and grow when exposed to volatility, randomness, disorder, risk, and uncertainty.”

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Problem: Demonetisation disrupted cash transactions, exposing inefficiencies in push supply chains that lock up working capital in excess inventory, delay responsiveness, and amplify vulnerabilities during Black Swan events. Solution: Adopt a pull replenishment system that aligns production and inventory with actual consumption. Frequent replenishments reduce overstocking, ensure agility, and enable dynamic responses to market changes. Benefits: Such a system lowers working capital requirements, enhances product availability, reduces risks during downturns, and helps businesses capture market share during recoveries.

Key Takeaways

Understand how demonetisation affected automotive spare-parts manufacturers differently based on their supply chain strategies. Traditional 'push' systems faced setbacks, while 'pull' systems adapted better, highlighting the need for an agile and responsive supply chain to overcome Black Swan events.