Academic journal article The McKinsey Quarterly

Harnessing the Power of Your Suppliers

Academic journal article The McKinsey Quarterly

Harnessing the Power of Your Suppliers

Article excerpt

Companies that effectively involve suppliers in their internal product development achieve a new strategic advantage

MANY BUSINESSES HAVE RECOGNIZED the strategic importance of optimizing their supply management processes. Companies as diverse as Toyota, Honda, Ford, Harley-Davidson, Detroit Diesel, Black & Decker, Yamazaki Mazak, Motorola, Bose, and Xerox are developing effective new ways for their internal functions to work together with suppliers in optimizing product design, development, manufacture, and distribution. Such improvements have enabled some to slash their development times by as much as 40 percent, increase inventory turns from six to over 50 a year, and reduce the cost of purchased materials by between 15 and 35 percent.

At the other end of the spectrum, companies that have failed to recognize the strategic importance of their supply management processes are paying price and performance premiums. Often, such companies have unintentionally set up conflicting objectives between engineering, manufacturing, and purchasing that form barriers to good supply management.

Engineering emphasizes meeting or exceeding technical targets in developing new products, but sees cost as secondary. Manufacturing typically wants to maintain constant utilization levels in production facilities, using suppliers to absorb fluctuations, whereas purchasing prefers to keep suppliers' production levels stable so that they can minimize changeover costs and pass the savings on to the company. Even at companies that charge purchasing with reducing the cost of materials, such conflicting objectives limit its ability to deliver savings.

In a survey of companies noted as leaders in supply management, we found that best practice in sourcing requires that three major elements of the supply management process be optimized:

* Product development/specification

* Sourcing

* Contract execution.

By mastering these elements, companies have achieved both dramatic improvements in productivity and substantial cost savings. A major designer and manufacturer of mechanical equipment with sales in excess of $5 billion reduced its operating cost by $280 million a year through improved supply management. A major electronics firm with sales of approximately $10 billion slashed its operating cost by between $500 million and $1 billion.

Each element of supply management overlaps and interacts with the others. In product development and specification, leading companies select their suppliers before designing a new product so that they can become an integral part of the product development team. Such suppliers typically provide assemblies rather than piece parts, reducing the complexity of managing a vast supplier base and multiple parts. To make this work, companies need to help their suppliers develop and maintain advanced technical capabilities. They must encourage their suppliers to invest in technology, but should be prepared as a last resort to take on new suppliers when their existing ones are not able to keep pace with developments.

The next element, sourcing, is the way in which companies select their suppliers, determine the number they will work with, and define the type of contractual agreements that will exist. Best practice suggests that companies should make great efforts to avoid duplication of capabilities between their suppliers and themselves. Where there is an emphasis on single-sourcing of parts, a strong relationship can be developed, founded on multi-year contracts and part ownership for life.

Contracts tend to be simple, based on trust that has been built over the years. Harley-Davidson, for instance, has recently moved from simple one-page contracts to having, in effect, no contracts at all. This was possible because the company has developed a partnership with its suppliers over the past eight years in which each party knows what the other expects and there is no longer a need for formalized agreements. …

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