A supply chain is made up of interconnected parts of a whole, all of which add up to finished products bought by customers. Take automobiles, for example. Before a consumer buys a car, iron ore is extracted from the earth. The ore is transported to a plant, where it’s turned into steel, which is made into the chassis of the automobile. To make the car, various components—from engines to batteries, electrical components, rubber tires, a metal body, and paint—are assembled. Once the car is made, it’s sold in a retail setting to the end consumer.

That’s a good illustration of several types of supply chain stakeholders:

• producers, which make or grow the raw materials for goods
• vendors, which buy and sell materials
• manufacturers, which make materials into goods
• transporters, or logistics providers, which move those goods around the world
• supply chain managers, which ensure that operations run smoothly in everything from planning to sourcing raw materials, manufacturing, delivery, and returns
• retailers, which sell goods either online or in physical stores
• consumers, who buy and use those goods and services

What’s the difference between value chains and supply chains?

A supply chain includes all the raw materials and parts that are made into a product and distributed up the chain for manufacture and sale. In contrast, a value chain encompasses all the individual steps that are taken to create a marketable product. That includes not only physical components but also various value-adding activities that might be classified as part of the “knowledge economy”—things such as innovation, design, marketing, and sales—and that lead to the development of a product ready for customers.

What is supply chain disruption?

When any link in a supply chain isn’t working optimally, you might say the supply chain has been disrupted. Different issues can emerge. For example, an increase in inbound material costs because one material costs more this year than it did last year can have major implications on a company’s cost structure. Or labor market mismatches can cause operational concerns—for instance, if transport companies can’t find enough people who want to drive trucks to deliver goods.

There are five areas where supply chain vulnerabilities most often show up:

• planning and supplier networks
• transportation and logistics systems
• financial resiliency
• product complexity
• organizational maturity

McKinsey research suggests that supply chain disruptions lasting one month or longer now occur every 3.7 years, on average. And these disruptions can have a steep price: they cost the average organization 45 percent of a year’s profits over the course of a decade.

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What are some supply chain risks?

Although the COVID-19 pandemic has delivered the biggest supply chain or value chain shock in recent memory, other examples abound. The Russian invasion of Ukraine has led to the worst humanitarian crisis in Europe since World War II, as well as supply chain disruptions in critical sectors, including agriculture, automotive, energy, and food. Changes in the environment and global economy have increased the frequency and magnitude of these shocks. For instance, the 2011 earthquake and tsunami in Japan shut down electronics factories, and 2017’s Hurricane Harvey disrupted US oil refineries and petrochemical plants, ultimately leading to shortages of some plastics and resins critical to different industries.

McKinsey has classified supply chain shocks into four different types, based on their impact, lead time, and frequency of occurrence:

• Unanticipated catastrophes. These are historically remarkable events that can’t be anticipated and lead to trillions of dollars in losses. Examples include extreme terrorism and a systemic cyberattack.
• Foreseeable catastrophes. Shocks in this category are of a similar magnitude to an unanticipated catastrophe but differ in that larger patterns and probabilities can guide general preparedness. Examples include financial crises and global military conflicts.
• Unanticipated disruptions. These are serious and costly events but are on a smaller scale than catastrophes. Examples include data breaches, product recalls, and industrial accidents.
• Foreseeable disruptions. Some disruptions can be spotted in advance of their arrival. Examples include China–US trade disputes and the United Kingdom’s exit from the European Union.

Organizations often focus on managing the shocks that they see most often. The COVID-19 pandemic is a reminder that while outliers are rare, organizations still need to consider such possibilities when making decisions and strategic moves. For most organizations, that will mean expanding supply chain executives’ long-standing focus on cost (and capital usage), service, and quality to include three new priorities: resilience, agility, and sustainability.

How does inflation affect supply chains?

Inflation can play a role in supply chain challenges. When inflation occurs, costs for input materials (such as energy) can rise substantially, having negative effects on companies’ profits and losses. One way to adjust is to increase prices (fairly) for consumers. Organizations can make more informed decisions by using an exposure matrix to assesses which categories of their products are exposed to market forces and whether the market is inflating or deflating. Also, organizations aren’t necessarily at the mercy of suppliers that say they have to increase prices in an inflationary market; McKinsey has identified several strategies for negotiating such demands.