Supply Chain Design and Supplier Development

In 1985, Michael Porter, introduced in his book ‘The Competitive Advantage’ the concept of the Value Chain. He suggested that activities within the organisation add value to the service and products that the organisation produces, and all these activities should be run at optimum level if the organisation is to gain any real competitive advantage.

Several mergers and acquisitions (M&E) in the components side of the auto industry
during the second half of the 1990s are attributed as reactions to the earlier increased buying power of the OEMs. Driven by the industry’s ongoing need to consolidate, the so-called ‘‘merger mania’’ rose to fever pitch between 1998 and 2000, with 30 major deals worth $58.4 billion to $30.2 billion alone in 1999, the pinnacle of the trend (Brooke 2001). As a result, one report in fact predicted a substantial decline in both the number of Tier 1 (from 600 in 2000 to 30 in 2010) and Tier 2 (from 10,000 in 2000 to 800 in 2010) (Bingham 2001) suppliers. The ownership of the parts manufacturers was consequently fused together into new global companies with significant technological and innovation capabilities. At the same time, the OEMs divested their components and sub-systems divisions in an effort to tap into the non-OEM automotive markets.

These developments intensified the OEMs’ move to...

outsource the bulk of the manufacturing and design of the subsystems and components to their suppliers and, in effect, lost most of their manufacturing strength and bargaining power to them; the suppliers currently account for 28% of the total automotive industry profits as opposed to only 24% for the OEMs.(For more information about the automotive industry suppliers profit share see ‘‘Detroit’s Nine Lives,’’ The Economist, September 2nd, 2004 available at: http://www.economist.com/).

The outsourcing trend has thus resulted in OEMs relinquishing their historical strategic role and to position themselves more like original brand manufacturers -OEMs(In a recent article, Chatterjee et al. state that in the auto industry achieving competitive advantage revolves around styling and other intangibles and the emotional benefits they confer on the customer. ‘‘Companies that act on all of the elements of brand affiliation—that is, the emotional relationship, the purchase process, and product attributes—build an advantage that competitors find hard to duplicate.’’ They then suggest that ‘‘. . .the auto industry must move from traditional product-based marketing to a conscious and organized brand-based strategy.’’).

These trends have contributed to an accelerated increase of the supply uncertainty in addition to the already recognized demand uncertainty. Various supply uncertainty reduction strategies have been designed in order to stabilize the planning process among which the most significant is the design collaboration which includes the sharing of NPI plans and even a joint NPI plans design (see Lee 2002). As the components and sub-systems are being outsourced, and the suppliers are leveraging the innovation and technological costs across OEMs, industry SC structure has also evolved into an extremely complex and intricate network in which all suppliers tend to have short-term relations with multiple OEMs. The result: any difference in quality, performance, safety, fuel efficiency, and amenities has been reduced significantly.

The OEMs, in many ways, have historically been treating SC design as a ‘‘tactical’’ issue separate from concurrently designing the product and manufacturing process: after the concept design phase, the Purchasing Department would start a continuous quest for the lowest cost components by establishing an optimum between the capacity and production costs, location of the supplier’s facility, and transportation and logistics costs (Financial Times 2005). Chain performance would thus be measured in oversimplified and sometimes counterproductive (cost reduction- based) terms.

However, the performance measures that emphasize mainly costs distort the way in which the chain members reach key decisions concerning which customers are the most important and therefore the most profitable to serve. The fundamental problem of cost-centric measures is its focus on individual costs minimization rather than on the maximization of value to end customers (see e.g. Simaputang and Sridharan (2002) for details on the advantages of collaboration and cooperation in SCM). While the cost-centric measures might still be acceptable for components with low strategic importance, low customer visibility and low clockspeed (e.g. nuts and bolts), they are far less appropriate for those with high clockspeed.

The lessons learned from fast moving industries (such as Dell, Nike and Li & Fung) teach us that the companies that have successfully outsourced their manufacturing in order to lower their costs and increase their flexibility concomitantly created extremely valuable SC controls that led them to remain the dominant player of the SC.

This in turn has permitted these companies to further differentiate themselves from their competitors and has allowed them to maintain a sustainable competitive advantage. Not following the strategy of implementing SC controls, on the other hand, has severely limited the ability of the OEMs to make the fundamental SC design and synchronization decision and has ultimately caused them to lose their role as integrators within the value chain (see e.g. Anderson and Lee (1999) for details).

To maintain their role as value chain integrators, the OEMs should put more emphasis on the restructuring of their existing SC; the industry has to shift its differentiation focus into the realm of SC design and synchronization. This implies that the supplier selection decisions should be guided not only by operational factors but also by strategic factors such as flexibility, the capacity to innovate, and the supplier’s business-technology alignment.

When the development of the SC becomes integral to the NPI process, then the suppliers’ responsibilities at different stages of product and process designs could be clearly acknowledged depending on the strategic importance and the clockspeed of different components and sub-systems. In fact, in our opinion, the design of the SC links that precede the final assembly should be considered as the rational differentiating characteristic of the OEMs from an operational point of view (agility, innovation, quality and reliability).

The first to mention the term “supplier development” was Michiel R. (Mike) Leenders (Graduate School of Business Administration, Division of Research, Harvard University, Boston, MA), in “Improving Purchasing Effectiveness through Supplier Development” published in 1965. He defined it as “…manufacturers’ efforts towards increasing a number of relevant suppliers and their performance improvement…”.

Most medium to large size companies have supplier development programs in place; many of these programs are programs in word only. Most of these programs are nothing more than "Supplier Quality Award" programs, in which suppliers receive an award for a certain level of quality and on-time delivery. While there is nothing wrong with doing this, i falls short of what is truly needed in a successful supplier development program.

What is the purpose of a supplier development program?
At a minimum, a supplier development program should be aimed at achieving the following:
Lower supply chain total cost
Increased profitability for all supply chain participants
Increased product quality
Near-perfect on-time-delivery at each point in the supply chain

Most supplier development programs do not do enough to meet these goals. Auditing suppliers once per year to determine if they've met certain on-time-delivery and quality goals will not actually fulfill the purpose of a supplier development program. One could call this type of work "supplier checking and verification" rather than "supplier development." Supplier development requires much more work than auditing and checking does.

Supplier development is actually developing suppliers in much the same way employees are developed. How should an organization develop its employees? Well, this question might open an entirely different can of worms in that many organizations don't do a very good job of developing employees either. However, those companies that do well in this area provide the training, tools, and incentives that will make them successful. In short, they invest in their employees because they know that great employees are what make companies great. It should come as no surprise, then, that great suppliers make supply chains great.

Thus, a supplier development program must be aimed at improving suppliers performance, not beating them into charging less or simply auditing and rewarding them. The suggested Supplier Development areas are:
Business Systems: Financial Sustainability, Social Responsibility
Production: Capacity, JIT Delivery
Quality: Six Sigma, Continuous Improvement
New Product Introduction: Innovation, Dominant Design, APQP
Sub-Supplier Development: Sourcing, Supplier Management, Performance Assessment

Supplier development is all about providing suppliers with what they need to be successful in the supply chain. Suppliers need to become extensions of their customers.

Adapted from: "Making supply chain design the rational differentiating - H. Noori and D. Georgescu – International Journal of Production Research - Feb 2007)

To be continued... - Dan Georgescu, M.Sc, P.Eng, MBA - April 23, 2010