Supplier Partnerships Lead the Way
A few years ago, I asked a buyer from a large high-tech company, “Do you use supplier partnerships as part of your purchasing approach?” She responded, “Of course,” as if partnerships were an obvious aspect of purchasing. When I asked, “What do those partnerships look like?” she replied, “If the supplier provides the price, quality and lead time we want, they can be our partner.” I asked how their suppliers feel about that, and she answered, “It doesn’t matter. There are plenty out there that want to do business with us.”
A recent example of this type of vendor relationship is Amazon.com, which accounts for 65 percent of e-book sales in the United States,1 and its demands that publisher Hachette reduce its e-book prices. This dispute played out in the media throughout 2014, damaging both companies’ reputations and making a dent in sales.2 While the two companies eventually reached an accord, it seems to be an uneasy one.
The Real Definition of a Supplier Partnership
When companies focus on developing partnerships with suppliers, the results in terms of cost, quality, lead time reduction, and overall competitiveness can be astounding. Real supplier partnerships create win/ win outcomes that neither party would be able to achieve on their own. Partnerships are based on trust, communication, and both participants’ dedication to success.
A rapidly growing middle market manufacturing company, Supra Products, had an unexpected opportunity to take significant market share away from its main competitor. The competitor had a major quality problem with their product that rendered them unable to ship for three months. For this product, the initial sale was a system sale with a large installation followed by ongoing replenishment as units wore out. If Supra could ramp up to two or more times their normal output, they could capture a number of the competitor’s system sales and decimate their position in the market place.
The catch was that to pull it off, Supra would have to increase their output beyond their known capacity, and (as if that wasn’t challenging enough) then ramp back down to normal production levels. This burst mode of production seemed impossible.
In September 1996, Supra explained the opportunity to their employees in production and supply chain. Knowing that the effort would require extraordinary performance from the employees, management created a bonus program to share the increased profit the opportunity would create.
Supra then explained the profit opportunity to its key suppliers. The campaign would stress the suppliers’ ability to obtain parts, meet production goals, and still produce high-quality products for rapid customer shipment, but partnerships with key suppliers had been well developed. Conversations occurred not only at the procurement level at Supra and its suppliers, but also at the executive level. It appeared to be a win for everyone if they could pull it off.
The ramp-up started in early October, and demand for the products exceeded the most optimistic forecasts. One supplier was even willing to work on Thanksgiving to help get the product out to meet the demand. Employees at all of the companies came together to meet their goals, with progress displayed at each plant using a United Way thermometer-type graphic. At the peak of the campaign, the partners were producing at three times the normal levels, far beyond their known capacity.
All of the partners supplied an extraordinarily high volume of parts just in time, and in the end, Supra was successful in taking so much market share away from their competitor that the competitor eventually dropped out of the market. By mid-December, production was back to levels slightly higher than normal and employees received big bonus checks just in time for the holidays.
Several things made this success story possible:
A few key suppliers produced the majority of the parts needed because the company had worked hard to rationalize its supplier base, focusing on a few key partners.
The lines of communication were open across multiple levels of the organizations.
Everyone wanted success and profitability for all participants and was willing to work hard for it.
All parties realized that taking significant business from the competitor would benefit them all, now and into the future.
Supplier partnerships go well beyond basic collaboration, which is defined as “the action of working with someone to produce or create something.” Collaboration is simply working with another company toward a joint outcome, often without regard for the deeper impact on people, processes, and profits.
A recent example of what a supplier relationship shouldn’t look like is Apple and one of their suppliers, as told in a series of articles in The Wall Street Journal.3 Apple selected a supplier, GT Advanced Technologies, to create a screen for their new phones made out of artificial sapphire, a material that was supposed to be harder than glass and less susceptible to scratching and breakage.
Apple agreed to invest in a plant that GT planned to build in Texas to the tune of over $700 million, but to GT’s apparent surprise, withheld their final payment of $139 million. GT share prices plummeted and the company eventually filed for bankruptcy. What happened to this collaboration?
There were several indications that this was not a true partnership. GT said it could produce a product that would solve the problem of scratched and broken smart phone screens, but, apparently, GT wasn’t able to produce the artificial sapphire screens and Apple engineers decided not to use them in their phones. GT struggled with low manufacturing efficiency, and some processes didn’t work at all. GT had never produced sapphire screens before, only the furnaces that made the material.
How could Apple not know this? Why didn’t Apple engineers and GT engineers work hand in hand toward their shared objective?
Apple withheld payments on the plant due to GT’s poor performance. When GT declared bankruptcy, it “surprised” Apple. Apple had been working with GT to keep it solvent, so how could the bankruptcy be a surprise? In the end, GT said that its agreements with Apple were “oppressive and burdensome.”
Partnerships are built on a foundation of trust and communication. There might have been trust between Apple and GT (or perhaps just wishful thinking), but there certainly wasn’t good communication. Collaboration is a worthy thing, but world-class success requires real partnerships.
Separating the Wheat From the Chaff
The first step in creating supplier partnerships is to rationalize the supplier base. A typical company’s supplier base becomes bloated over time and can expand to hundreds or even thousands of suppliers. They use requests for proposals (RFPs) every time they add new products, want to check prices, or order additional parts. Can you imagine the amount of time that goes into preparing, issuing, reviewing, and selecting new suppliers? In addition, any hope for volume discounts and long-term relationships goes up in smoke when companies rely too heavily on RFPs. Many of the best suppliers won’t even respond to RFPs, especially if they don’t have a previous relationship with the company.
There’s a very simple report that can provide a window into the supplier base. It’s a list of suppliers in descending order based on either purchase orders (POs) issued year to date or payments made year to date. Most accounting packages include this report in the accounts payable system and it’s also typically available as part of the PO tracking system.
What I’ve found over years of analyzing these reports is that the top five to seven suppliers usually make up about 50 percent of the total spend on materials, with 13 to 20 suppliers usually comprising 80 percent of the total spend, and the rest (often hundreds of suppliers) receive the remaining 20 percent of total materials spending. Keep in mind that the administrative costs (issuing and managing POs, selection, issuing checks, etc.) of working with suppliers in the bottom 20 percent are the same as working with the top suppliers. The broader the supplier base is, the lower the likelihood of volume discounts and the greater the likelihood of quality variation.
The report itself is very simple (see Figure 2.1). The commodity column (second from left) can be particularly revealing, because, typically, there should be only two or three suppliers for a particular commodity, and here lies the opportunity to rationalize the supplier base.
Figure 2.1 Top 25 supplier analysis sample
Source: © 2015 Rick Pay—All rights reserved.
Channeling the spend from a large number of suppliers into only a few suppliers creates opportunities for volume discounts; many companies save 5 percent to 20 percent by concentrating their business in a few suppliers. Suppliers are often willing to reduce costs based not only on a large order volume for a particular part but also on the total value of the supplier relationship across all of the parts you buy from them.
Occasionally, a particular supplier may provide a totally unique item. In the electronics industry, for example, customers of contract manufacturers often call out specific parts (which come from a specific supplier) that they want on a printed circuit board assembly. There’s no alternative and the contract manufacturer must buy that part from that particular supplier even though they make no other purchases from them.
Many companies claim that by having multiple suppliers they’re reducing risk by keeping their purchasing options open. A good way to achieve the same result with fewer suppliers is to sole-source parts and dual-source technology. In other words, buy any particular part from just one supplier, thereby consolidating volume and maximizing discounts. Then buy another part—in the same family of parts—from a second supplier. This way, you have relationships set up with two qualified suppliers, so if something happens to Supplier A (or to the supply chain associated with Supplier A, like storms or earthquakes), you can quickly switch to Supplier B.
Supra Products used three aluminum extrusion parts in their product. The company bought all of part 1 from Supplier A and all of parts 2 and 3 from Supplier B. They took advantage of the cost efficiencies of fewer setups and consolidated volume, yet they had relationships with two suppliers so they could quickly switch suppliers if there was an interruption in the supply chain.
Two suppliers are typically sufficient to reduce risk, and three would be the absolute maximum. For example, as you saw in Figure 2.1, the company buys sealants from several vendors. Barring unique items, the company has a big opportunity to consolidate their supplier base, save direct materials costs, and reduce overhead. Because it brings more business to the chosen suppliers, consolidation is a win/win situation.
Selecting Partners for Life
Finding good supplier partners is challenging and it starts with the selection process. A “dating period” is necessary to decide if you want to spend the rest of your life with a supplier partner; getting to know the partner and whether their interests and outlook are similar to yours is vital to a strong and lasting relationship. Supplier partners will help you lower costs, increase quality, and improve service. They’ll provide higher operating efficiencies, lower inventory, and shorter cycle times.
The perfect partner communicates effectively and frequently and participates in your design processes to help you make better products that win more customers and profits in the long run. One example of this is Wal-Mart providing detailed sales data to its suppliers to help them create products that will sell in large volume.
In order to satisfy your customers in a competitive and constantly changing market, suppliers must have consistent, high-quality processes and be able to deliver reliably with short lead times. Supplier partners need to be willing to share the risks of the relationship and work closely with you to satisfy your customers. They must be willing to expose their technical capabilities to evaluation and their cost structures to review.
The process starts with your team. Many companies leave supplier selection either to the design engineers or the purchasing group, but there are several players you’ll want on your partner selection team:
Purchasing personnel—contract development, price setting, material flow expectations
Manufacturing/engineering—review of technical capabilities to be sure that the supplier can maintain the levels of tolerance and quality needed
Quality—to determine whether the supplier has a system of quality and the ability to meet regulatory requirements
Finance/accounting—to determine whether the supplier is financially stable and to develop processes for resolving invoice issues and making payments
Together, this team visits the suppliers to make sure they measure up to expectations and to create the foundation for the partnership.
Supplier selection starts with your supply chain designs. Determining where the supplier’s materials or services will be used is a key part of the decision-making process. Alaska Communications (ACS) served construction projects all over the state from a warehouse in Anchorage and brought materials up by barge from suppliers in Seattle. When they needed to transfer materials to their satellite warehouse in Juneau (a city that is inaccessible by road), they were shipped from the warehouse in Anchorage—but took a side trip to Seattle first. That’s right: Seattle to Anchorage, back to Seattle, then finally to Juneau. Obviously not a very efficient logistics architecture.
With my assistance, ACS worked with their supplier to completely redesign the supply chain. The supplier kitted materials in Seattle and sent them directly to construction projects all over the state, including Juneau. This way, the materials didn’t pass through ACS’s warehouses, meaning fewer transactions, less time sitting on shelves, and lower handling and logistics costs. In addition, the inventory cycle time was shortened, which helped cut the inventory balance by millions of dollars. Having a supplier partner enabled my client to better serve their construction teams while reducing costs and inventory levels. The supplier got the majority of the construction business in the state. A true win/win relationship.
The Prenuptial Agreement
An attorney once told me that the only reason you need a contract is if you plan to sue someone. While it’s important to spell out the expectations, terms, and conditions for a supplier relationship, the resulting contract is often just pages of legalese that no one but your attorney understands. A better way to approach this is to have
Standard terms and conditions (T&C)
A memorandum of understanding (MOU) between the parties
The T&C was written in the standard language often found on the back of printed POs back in the “old days” when they were multipart forms. The PO can be replaced with a printed or e-mailed document (one page) that refers to standard T&C that you give to the supplier for their files at the beginning of the relationship.
The MOU is something else entirely. It’s an agreement between the parties that is normally about four or five pages long. It deals with
Timing (beginning and ending dates)
Forecasts and PO process—how POs will be issued, which forecasts the customer will provide, and, most importantly, what the commitment is for blanket POs. It also defines the liability for costs
Pricing and terms
Quality expectations
How nonconforming parts will be managed
Delivery expectations
How supplier performance will be measured
Confidentiality provisions
Modifications and product changes
Any special warranties and indemnification
The MOU is straightforward, complete, and partnership oriented. For an example, see Appendix.
Keeping the Relationship Exciting
Many supplier relationships, once launched, drift forward on their own as long as materials show up as ordered and when expected. Over time, the relationship atrophies and begins to decline, just like a marriage that isn’t maintained and developed. To stay strong over the long haul, a relationship needs a little dose of excitement. With suppliers, there are three ways to keep things exciting.
First, include suppliers in new product development. Concurrent engineering invites the supplier into the design process early, giving the supplier the chance to suggest materials to increase performance and reduce costs, propose ways to change tolerances to make the product more manufacturable, and help design packaging and other components to improve quality. Concurrent engineering treats suppliers like a valuable resource (which they ought to be), and offers them a peek into your R&D.
Next, get “executive sponsors” involved. Establish relationships between your CEO and CFO and their counterparts at your top 10 suppliers. Involve your head of engineering, your COO or VP, Operations and even your sales and marketing people. In my experience as a VP, Operations, at Supra Products, I’d occasionally ask my CEO to contact the supplier’s CEO to work out a difficult issue. They would discuss the issue and its impact on both businesses, and resolution was always quick to follow.
Third, keep multiple communication channels open. For example, hold a supplier day once or twice a year. Bring in all of your top suppliers and inform them what’s coming in terms of new products, sales increases, new initiatives that might impact them, and so on. Have your engineering team share new products. Have your VP of Sales present the forecast for the coming year or two. Show the suppliers their future opportunities to increase their business with you and to participate in concurrent engineering processes.
At ACS, during a supplier day event, the suppliers initiated discussions with each other to see how they could work together to better serve their mutual customer. Even though we intentionally put competitors in the room, partnerships began to grow among them. They appreciated the fact that we bought small gifts and lunch for them, with one saying, “No one has ever done that before.” The meetings instilled a feeling of camaraderie that yielded benefits like new ideas for material flow, consolidation of parts, and better and cheaper materials.
Supplier partnerships based on a foundation of trust can yield great rewards for both parties. Much more than collaboration, partnerships provide the right products in the right place at the right time at the best possible profit margins. When I was VP of Operations, I used to say that I wanted to be my supplier’s most profitable account, while at the same time they provided me with world-class pricing and service: a true partnership.
References
Bercovici, J. 2014. “Amazon Versus Book Publishers, by the Numbers.” Forbes Magazine, February 10. Web. May 13, 2015.
Streitfeld, D. 2014. “Amazon and Hachette Resolve Dispute.” The New York Times, November 13. Web. May 13, 2015.
Wakabayashi, D. 2014. “Apple Sapphire Partner GT Advanced Files for Bankruptcy Protection.” The Wall Street Journal, October 6. Web. May 13, 2015.