In fall 2008, the world witnessed on a grand scale what happens when companies that we thought were solid institutions are in fact in grave danger of going under. While the financial behemoths shook the foundation of our financial system to the core and the impact rippled throughout the world, the events taking place underscored two major lessons: that appearances can be incredibly deceiving and that we're vulnerable if we don't find out what's really going on beneath the surface.

We should also heed these lessons in the supply chain. Supplier risk is a critical issue in today's economic environment where the financial status of suppliers can change rapidly, often without much apparent warning. Supplier issues can lead to quality problems, difficulties delivering the quantity of goods on time, or even bankruptcy--all of which would be detrimental to a buyer's business. Additionally, in today's economic climate where it's hard to get financing, it's often very difficult for insolvent suppliers to restructure their debts and emerge intact from a crisis.

Several major issues are making supply chain risk more prevalent: the ineffectiveness of traditional methods of monitoring risk in today's economy, corporate cost-cutting imperatives that are squeezing suppliers, and the disconnect between Finance and Procurement departments.

The old ways of monitoring risk are no longer valid. Simply monitoring supplier credit ratings or bringing in analysts to run annual or even quarterly financial audits on a supply base will often miss the early-warning signs that can be found in day-to-day transactions. Most companies haven't adapted their approach to monitoring risk to adjust to the realities of the current economic environment. In November 2009, Basware completed a follow-up study to our June 2009 Cost of Control survey of 550 CFOs in large organizations. (The June study featured insights from CFO and financial director-level respondents in the U.S., U.K., Scandinavia, Germany, Spain, Benelux, and France.) The November study shed light on strategic issues and challenges, including supplier risk, facing CFOs and CPOs (chief procurement officers) around the world. Interestingly, in The Cost of Control: The Real Price of Cost Cutting interviews, we found that many companies are mistakenly focusing on identifying major disruptive events in their supply chains while failing to address the more likely risks of smaller, incremental problems--such as suppliers cutting corners in quality and service or struggling in other ways to meet companies' demands.

The problems caused by failing to conduct ongoing supplier monitoring are exacerbated by the current approach to business that considers cost control and reduction "the new normal." Organizations' urgency to implement reactive cost-cutting measures is currently taking precedence over a longer-term investment focus. Some industries, such as automotive, have been negotiating tougher terms with suppliers to gain short-term savings. But these companies need to make sure to strike the right balance. When suppliers are forced to succumb to unrealistic demands and significantly reduce prices, it may impact their cash flow, profitability, or even their viability. In the CFO and CPO interviews, we found that the majority are...