Corporate Strategic Business Sourcing

Corporate Strategic Business Sourcing

Corporate Strategic Business Sourcing KEVIN R. MAROMONTE

QUORUM BOOKS Westport, Connecticut • London

Library of Congress Cataloging-in-Publication Data Maromonte, Kevin R. Corporate strategic business sourcing / Kevin R. Maromonte. p. cm. Includes bibliographical references and index. ISBN 1–56720–114–8 (alk. paper) 1. Industrial procurement—Evaluation. 2. Contracting out. 3. Strategic planning. I. Title. HD39.5.M357 1998 658.7'2—dc21 97–30228 British Library Cataloguing in Publication Data is available. Copyright  1998 by Kevin R. Maromonte All rights reserved. No portion of this book may be reproduced, by any process or technique, without the express written consent of the publisher. Library of Congress Catalog Card Number: 97–30228 ISBN: 1–56720–114–8 First published in 1998 Quorum Books, 88 Post Road West, Westport, CT 06881 An imprint of Greenwood Publishing Group, Inc. Printed in the United States of America TM

The paper used in this book complies with the Permanent Paper Standard issued by the National Information Standards Organization (Z39.48–1984). 10 9 8 7

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To my daughter Melissa . . . where open arms will await you, may back home you often run.

The payoff from outsourcing . . . falls far short of expectations. One study found the average savings to be around nine percent though consultants often promise gains of 20 to 40 percent. from ‘‘Has Outsourcing Gone Too Far?’’ Business Week, April 1, 1996

Contents

Figures Acknowledgments 1. An Introduction to Strategic Business Sourcing

xi xv 1

I. Developing Strategic Business Sources for Operational Functions

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2. Developing the Strategic Business Source for Production Services

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3. Developing the Strategic Business Source for Research and Development Services

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4. Developing the Strategic Business Source for Purchasing Services

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Summary of Part I

115

II. Developing Strategic Business Sources for Financial and Administrative Functions

117

5. Developing the Strategic Business Source for Financial Services

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6. Developing the Strategic Business Source for Administrative Services

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Contents

Summary of Part II III. Optimizing the Performance of Strategic Business Sources

173 175

7. Optimizing the Quality Performance of Strategic Business Sources

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8. Optimizing the Delivery, Cost, and Customer Service Performance of Strategic Business Sources

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9. Optimizing the Product Advancement Performance of Strategic Business Sources

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Summary of Part III Bibliography Index

203 205 207

Figures

1.1 Sample SBS Quality Performance Matrix 2.1 SBS Customer Service Assessment Guidelines for Sources of Production Services

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2.2 SBS Performance Measurements and Assessment Worksheet: Production Source Performance Measurements and Assessment Results

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2.3 SBS Quality Performance Matrix: Production Source Selection

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2.4 SBS Delivery, Cost, and Customer Service Performance Matrix: Production Source Selection

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2.5 SBS Product Advancement Performance Matrix: Production Source Selection

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2.6 SBS Balanced Performance Summation: Production Source Selection

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2.7 SBS Balanced Performance Matrix for Production Source Monitoring

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3.1 SBS Customer Service Assessment Guidelines for Sources of Research and Development Services

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3.2 SBS Performance Measurements and Assessment Worksheet: Research and Development Source Performance Measurements and Assessment Results

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3.3 SBS Quality Performance Matrix: Research and Development Source Selection

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3.4 SBS Delivery, Cost, and Customer Service Performance Matrix: Research and Development Source Selection

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xii

Figures

3.5 SBS Product Advancement Performance Matrix: Research and Development Source Selection

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3.6 SBS Balanced Performance Summation: Research and Development Source Selection

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3.7 SBS Balanced Performance Matrix for Research and Development Source Monitoring

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4.1 SBS Customer Service Assessment Guidelines for Sources of Purchasing Services

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4.2 SBS Performance Measurements and Assessment Worksheet: Purchasing Source Performance Measurements and Assessment Results

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4.3 SBS Quality Performance Matrix: Purchasing Source Selection

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4.4 SBS Delivery, Cost, and Customer Service Performance Matrix: Purchasing Source Selection

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4.5 SBS Product Advancement Performance Matrix: Purchasing Source Selection

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4.6 SBS Balanced Performance Summantion: Purchasing Source Selection

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4.7 SBS Balanced Performance Matrix for Purchasing Source Monitoring

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5.1 SBS Customer Service Assessment Guidelines for Sources of Financial Services

124

5.2 SBS Performance Measurements and Assessment Worksheet: Financial Services Source Performance Measurements and Assessment Results

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5.3 SBS Quality Performance Matrix: Financial Services Source Selection

135

5.4 SBS Delivery, Cost, and Customer Service Performance Matrix: Financial Services Source Selection

136

5.5 SBS Product Advancement Performance Matrix: Financial Services Source Selection

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5.6 SBS Balanced Performance Summation: Financial Services Source Selection

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5.7 SBS Balanced Performance Matrix for Financial Services Source Monitoring

144

6.1 SBS Customer Service Assessment Guidelines for Sources of Administrative Services

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6.2 SBS Performance Measurements and Assessment Worksheet: Administrative Services Source Performance Measurements and Assessment Results

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Figures

6.3 SBS Quality Performance Matrix: Administrative Services Source Selection 6.4 SBS Delivery, Cost, and Customer Service Performance Matrix: Administrative Services Source Selection 6.5 SBS Product Advancement Performance Matrix: Administrative Services Source Selection 6.6 SBS Balanced Performance Summation: Administrative Services Source Selection 6.7 SBS Balanced Performance Matrix for Administrative Services Source Monitoring 7.1 Pareto Analysis of Production Specification Errors Issued by the Research and Development Strategic Business Source 8.1 Pie Chart Analysis of Late Purchaed Goods Deliveries from the Purchasing Strategic Business Source 8.2 Pie Chart Analysis of Costs Incurred by the Production Strategic Business Source

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163 165 166 168 171 179 188 190

Acknowledgments

Perhaps the only immeasurable aspect of the approach to developing Strategic Business Sources is the countless thanks owed to my esteemed colleagues, who were rich with ideas as these concepts evolved.

CHAPTER 1

An Introduction to Strategic Business Sourcing

OUTSOURCING AND DOWNSIZING IN THE GLOBAL MARKETPLACE With the many sources of goods and services available in the global market, corporate outsourcing, the purchase of goods and services from external suppliers, began being widely used in the 1980s. In the competitive environment of the global market, companies have found it less expensive to purchase many commodities than to produce them internally. As international commerce becomes easier and the barriers to global trading fall, the use of outsourcing continues to rise. In 1995, companies outsourced more than $75 billion in goods and services, with major corporations leading the way. General Motors, for example, is purchasing over $10 billion a year in components from external sources, and BellSouth is outsourcing $60 million in goods and services. In fact, approximately 90 percent of major corporations are now outsourcing. Downsizing, which refers to reducing the number of employees to further cut operating expenses, is fueling the increased use of outsourcing. AT&T and IBM each reduced their staffs by more than 40,000 over a recent three-year period. With fewer employees to handle greater workloads, the need to outsource is further increased. Indications are that the use of outsourcing will continue to increase. Globally, the outsourcing market is projected to exceed $120 billion by the year 2000. Many companies, however, have not reduced costs to the degree that they hoped when they first turned to outsourcing. As a result, the anticipated increase to profit levels has not been realized. A recent study has shown that, although gains in profitability of up to 40 percent had been projected by corporations,

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Corporate Strategic Business Sourcing

improvement in some cases has been less than 10 percent. This is because the decisions to outsource are being based primarily on lower direct costs. Not enough consideration is being given to the source’s performance in other criteria that can cause indirect costs to increase. Even though goods and services may be provided by external sources at lower prices, their performance in the criteria of quality, delivery, customer service, and product advancements may be weak. Poor performance by sources in any or all of these criteria will result in the company incurring indirect costs that will more than offset the reduced direct costs. Assume a company decides to outsource the manufacturing of a part used in its products based solely on an external supplier’s price being lower than internal production costs. The supplier’s performance in other criteria can result in the true cost being greater. For example, if the supplier of the outsourced parts delivers poor-quality products, the outsourcing company will incur expense by either having to rework the items to correct the problems or delay production until the supplier provides acceptable replacement parts. Also, if the supplier delivers the parts late, the company may have to delay completion and delivery of the end products to the customer base, impacting cash flow and sales revenues. In addition to the financial impact, the company’s customers will be dissatisfied because of the delays in receiving the products they purchased. If the external supplier is not advancing the manufacturing processes used to produce the parts, production methods in use could become outdated and not competitive. Furthermore, if the supplier provides the company with poor customer service (for example, not being responsive to the company’s request for scheduling information needed to support its internal operations), again delivery of its products to the customers could be delayed. For these reasons, sourcing decisions need to be made considering the overall performance of each available source, whether an internal department or an external supplier, in all five performance criteria that determine the company’s competitiveness: quality, delivery, customer service, and product advancements, as well as cost. By applying the concept of the Strategic Business Unit, or SBU, to each source of key corporate functions, and viewing each as a Strategic Business Source, the overall performance of internal and external sources can be easily determined and compared. With the overall performance considered for the many available sources of corporate functions, the decision to select the optimal source can be easily made. Under the SBU concept, similar product lines are organized into separate profit centers. With this organizational approach, the company’s ability to produce profitable product lines is improved. This is because, within the focused SBU structure, all five of the performance criteria that fuel competitiveness are more easily monitored and improved. By similarly viewing the sources for goods and services as Strategic Business Sources, and assessing their overall performance in all of the important criteria beyond just costs, the optimal

Introduction

3

source (whether an internal department or an external supplier) can be easily selected. DEVELOPING CORPORATE STRATEGIC BUSINESS SOURCES In the SBU organizational structure, the levels of quality, delivery performance, cost competitiveness, customer service, and product advancements being achieved are more easily monitored and strengthened. As a result of this, the competitiveness and profitability of the SBUs are maximized. Just as the SBU structure helps support improving performance in these criteria for the various product and service lines within the corporation, the same concept can be applied to optimize the sources performing functions within each SBU. By viewing the sources for the key functions performed for the SBU as Strategic Business Sources, the performance of each can be easily monitored in the five criteria that impact profitability. Overall corporate performance and competitiveness will be improved as a result, since quality levels, delivery performance, customer service, and product advancements, as well as cost competitiveness, can be enhanced for each of the SBU’s sources. The problem of outsourcing not significantly reducing costs to the degree hoped for will be resolved because the focus is being placed on the performance of each source in all important criteria, beyond just the direct costs for their goods and services. The method used to develop a Strategic Business Source is the same used to develop the SBU. Specifically, performance levels for quality, delivery, cost, customer service, and product advancements are determined for the sources available to provide the goods and services needed by the SBU, whether internal departments or external suppliers. The performance levels of the various sources being considered to supply these goods and services are then compared. The best-performing sources become readily apparent, and the optimal source is selected by the company as its Strategic Business Source. As an example, assume a company is considering outsourcing the production of one of the parts for its products. External suppliers may be located that can manufacture the part at a lower cost than the company, but the performance levels of quality, delivery, customer service, and product advancements need to be considered before the external supplier is selected. If the external source does not perform as well as the internal department in any or all of these criteria, the company may be benefited by producing the part internally. On the other hand, if external suppliers can exceed the company’s internal performance levels in these five criteria for any SBU function, outsourcing may be the right choice. However, outsourcing is not the only option. As an alternative, the company may challenge an internal production department to improve performance, using the levels being achieved by external sources as benchmarks for which to strive. This helps improve the morale of the downsized corporate

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Corporate Strategic Business Sourcing

work force by providing employees with the opportunity to meet the challenge of improving performance beyond that of the external source. This approach to ensuring that effective decisions are made when selecting sources for goods and services is termed Strategic Business Sourcing. By considering each available provider of goods and services a Strategic Business Source, for which all performance criteria are monitored beyond strictly cost, the company will be positioned to select and use only the optimal sources. This is accomplished by using, or in some cases upgrading, the performance of internal departments, or contracting the better-performing external suppliers. Every function performed by corporate SBUs can be improved by developing a Strategic Business Source. This includes operational functions, such as the manufacturing performed by a production department, as well as administrative functions, such as the services provided by a human resources department. The various departments shown on the company’s organizational chart point to all of the functions which can be considered for Strategic Business Sourcing. Once the source is targeted, the product or service provided by the source can then be easily defined; for example, the parts manufactured by the production department, or the employee benefits administration provided by the human resources department. With the product or service defined, the performance levels for quality, delivery, cost, customer service, and product advancements can then be determined. With the performance measurements defined, the performance of each source being considered for goods and services can be assessed and compared, whether an internal department or an external supplier. With this information available, the optimal decision can be reached and the Strategic Business Source for the goods and services selected. Operational functions which can be viewed as Strategic Business Sources include any of the functions performed by the production, purchasing, and research and development departments. Administrative services which can be viewed as Strategic Business Sources include any of the functions of the finance and human resources departments. Regardless of the type of goods and services to be provided to the SBU, under the premise of corporate Strategic Business Sourcing, the performance of internal and external sources must be assessed and compared in all criteria that drive competitiveness, beyond strictly cost. Otherwise, the optimal sourcing decision will not be reached. Internal or external sources cannot be chosen based on their performance in only one, two, three, or four of the five performance criteria. All of the performance information needed to make the best sourcing decision can be methodically compiled and compared by developing Strategic Business Source (SBS) Performance Matrixes. The matrixes will compile and compare each source’s performance in quality, delivery, cost, customer service, and product advancements. As will be explained, an SBS Performance Matrix is a performance measurement system that provides for an easy comparison of the available sources for each corporate operational and administrative function, and highlights the best performing source.

Introduction

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DEVELOPING THE SBS PERFORMANCE MATRIXES AND PERFORMANCE SUMMATION There are many cases of companies that have placed contracts with external sources based primarily on reduced costs, without giving enough consideration to other performance criteria; specifically, quality, delivery, customer service, and product advancements. A typical case was experienced by General Electric, which contracted an external supplier to produce parts for a new washing machine design. Because of the poor delivery performance of the supplier, the production of the new product line was delayed. In this case, not enough emphasis was placed on the supplier’s delivery performance before it was selected to provide production services; specifically, the external source’s ability to deliver its products on schedule. An easy method for compiling and comparing performance levels in all criteria is through developing SBS Performance Matrixes for the internal and external sources under consideration. To illustrate the approach, Figure 1.1 shows a sample SBS Quality Performance Matrix for two external suppliers and an internal department being considered for the production of parts. Similar matrixes would be prepared for the other performance areas of delivery, cost, customer service, and product advancements. In Figure 1.1, the performance criteria of quality are shown at the top of the matrix, and the specific measurements of quality performance are defined. In Figure 1.1, one of the quality measurements is the percentage of products produced and delivered by the production source that are acceptable, referred to as the delivered product yield. The product yields being achieved by each internal and external source being considered are determined and entered on the matrix, as are the performance levels for the other quality performance areas (that will be detailed later). Referring to Figure 1.1, External Source ‘‘A’’ has a delivered product yield of 96 percent, External Source ‘‘B’’ is performing at 98 percent, and the internal production department has a yield level of 94 percent. These performance levels are then compared by developing ratios of each source’s performance, by comparing a given source’s performance to the best level being achieved by one of the sources being considered by the company. For yield levels, the ratio is termed the delivered product yield ratio. The ratio for External Source ‘‘A’’ is 0.98 in Figure 1.1 (its yield of 96 percent divided by the best yield of 98 percent being achieved by External Source ‘‘B’’). The delivered product yield ratio of External Source ‘‘B’’ is 1.00, since this is the best-performing source for this criterion. The internal production department’s ratio is 0.96 (94 percent divided by the best yield of 98 percent). These performance ratios, as well as the ratios for the other quality performance criteria which are determined using the same approach, are entered on the matrix as shown in Figure 1.1. As companies develop their business strategies, some performance criteria are concluded to be more important than others. In some industries, it may be more

Figure 1.1 Sample SBS Quality Performance Matrix

Introduction

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important for companies to excel in quality performance, whereas in others low costs may be more important to enhancing competitiveness. To account for this, weighting factors are entered at the bottom of the SBS Performance Matrix. The weighting factors allow the relative importance of each of the performance criteria to the particular company to be factored into the sourcing decision. This is done by assigning a weighting factor of ten to the most important performance criterion, and weighting the other areas in relation to this highest weighted criterion. Where delivered product yield performance may be extremely critical and the highest weighted performance area for the automotive industry, the consumer products industry may weight the measurement of warranty expense higher. In Figure 1.1, a weight of ten is assigned to the quality measurements defining each source’s product yield improvement trends. Relative to this highest weighted area, the delivered product yield is given a weight of nine, indicating it is slightly less important to the company. The warranty expense measurement is assigned a weight of eight and the warranty improvement trend is given a weight of nine. The performance ratios determined for each of the quality performance criteria are multiplied by the individual weighting factors. The results are then entered at the bottom of the SBS Performance Matrix. For example, the delivered product yield ratio of 0.98 for External Source ‘‘A’’ is multiplied by the weighting factor of nine, for a weighted score of 8.8 as entered in the SBS Quality Performance Matrix in Figure 1.1. The individual weighted scores for all of the quality performance criteria are similarly determined and summed for each source, giving a single total weighted score for this performance area. The highest total weighted score flags the best performing source in quality performance, based on the performance levels of the internal and external sources being considered for production services. In Figure 1.1, the total weighted score of External Source ‘‘A’’ is 31.3, higher than the 28.6 achieved by External Source ‘‘B’’, but lower than the internal source’s summed weighted score of 32.9. Before the optimal source can be selected, all performance criteria have to be taken into consideration, beyond just quality performance. For this reason, SBS Performance Matrixes similar to the one in Figure 1.1 need to be prepared for delivery, cost, customer service, and product advancements. Total weighted scores are determined for each of these five performance criteria. By summing the weighted scores from the individual SBS Performance Matrixes addressing all five performance criteria, the best overall performing source can be easily determined. Although this example involved sources being considered for production of products, SBS Performance Matrixes can be prepared for any SBU operational or administrative function. With the SBS Performance Matrixes prepared and the total weighted scores summed for the internal and the external sources being considered for a given product or service, the company will be in a position to select the optimal source. In some cases, external sources will be determined to be the best provider of the product or service at a given point in time, but their selection as the Strategic

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Corporate Strategic Business Sourcing

Business Source may not be in the best interest of the company over the long run. The Strategic Business Sourcing decision needs to be based on the longrange benefits to the company, and may not simply be to use an external supplier that is performing better than an internal department at a given point in time. As will be addressed, there are other factors which need to be considered before the right sourcing decision can be reached. SELECTING AND OPTIMIZING THE STRATEGIC BUSINESS SOURCE The SBS Performance Matrixes for quality, delivery, cost, customer service, and product advancements may point the company toward a better-performing external supplier. However, it is important that other factors be considered before the correct decision can be reached. It may be in the company’s best interest to upgrade the performance of internal departments, rather than contract external suppliers for the goods and services. Specifically, the internal source can be challenged with improving performance to the levels being achieved by the better-performing external source. In the long run, the company will be benefited by achieving benchmark performance levels internally, and avoid the drawbacks associated with doing business with external suppliers. By upgrading the performance of internal sources, several problems with dealing with external suppliers can be avoided, such as the lack of accurate and timely status information. Employee relations can also be improved, since the internal work force would be given a fair opportunity to improve performance to levels comparable to those of external suppliers. The motivation of the work force is a serious concern as companies downsize and employment security is threatened. Considering these and other pertinent issues that will be detailed later, the company may conclude that it is worthwhile to invest the time and, in some cases, the capital expense needed for its internal department to achieve the levels of the better-performing external suppliers. IMPLEMENTING THE CONCEPT OF STRATEGIC BUSINESS SOURCING The concept of Strategic Business Sourcing can be implemented to any extent desired by a given company. The approach can be applied pervasively to every operational function and administrative service performed within the company’s SBUs, or to just certain SBUs and select sources of goods and services. For this reason, this book is organized such that the Strategic Business Sourcing approach can be implemented at any rate the company desires. Specifically, the remainder of this book is organized into three parts. Part I addresses developing Strategic Business Sources for operational functions and Part II covers financial and administrative functions. Parts I and II cover the majority of the goods and services for which improved sources are sought by

Introduction

9

companies, based on a recent survey of corporate executives that indicated that most outsourced processes are in operational, financial, and administrative functions. Part I addresses typical SBU operational areas which can be viewed as Strategic Business Sources and optimized through the Strategic Business Sourcing approach. These areas include any or all of the functions performed by the production, purchasing, and research and development departments. Financial and administrative services, which can similarly be improved by applying this approach, are covered in Part II. These include any or all of the services provided by the human resources and finance departments. For each of the corporate functions covered in Parts I and II, a dedicated chapter will address the six steps required to develop a Strategic Business Source for each. First, the products of each source are defined. For example, the products of the source would range from the parts produced by the production source to employee benefits administration provided by the source for human resources services. The second step is determining the performance measurements for the source’s products, covering all the criteria. For example, the cost measurement for the production source would be the manufacturing expense per part, and that of the human resources source would be the benefits administration expense per employee. The third step covered in each chapter is assessing the performance levels, in terms of the performance measurements, of the internal and external sources being considered to provide goods and services. An internal source (a production department, for example), may be able to produce parts for $100.00 per hour of manufacturing, as compared to an external source, a supplier of production services, with a price per hour of $120.00. Similarly, an external supplier may administer benefits at a price of $1.50 per employee, as compared to an expense of $1.60 incurred by the internal human resources department. The fourth step covered in each chapter is developing SBS Performance Matrixes for each internal and external source being considered; compiling the performance levels for all criteria. The fifth step of the implementation process detailed in each chapter is considering some immeasurable issues, and then making the final decision and selecting the optimal Strategic Business Source. Lastly, the performance of the selected Strategic Business Source is then monitored by preparing and maintaining an SBS Balanced Performance Matrix, the final step addressed in each chapter. The six-step approach to developing Strategic Business Sources leads to the remaining part of the book, which focuses on continually improving the selected sources. Part III will cover how to implement methods proven to improve the performance of the sources to world-class levels. These methods include translating the corporate business strategy and goals into Strategic Business Unit objectives, and then converting the SBU objectives into measurable initiatives pursued by the selected Strategic Business Sources. The approaches addressed in Part III apply equally to improving internal departments and external suppliers. The techniques used to analyze and target the specific processes in use at each Strategic

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Corporate Strategic Business Sourcing

Business Source which require strengthening to support these measurable initiatives, and ultimately the Strategic Business Unit objectives and corporate goals, are then covered. This is followed by addressing approaches that can be used by the work force of the Strategic Business Sources to strengthen the targeted processes. The improved performance of the Strategic Business Sources that results will ultimately drive Strategic Business Unit performance in support of corporate goals. With the format used and the detailed guidance included in the remainder of this book, the company can customize its approach to implementing and benefiting from developing corporate Strategic Business Sources. Regardless of the rate that this approach is implemented by the company, all corporate SBU functions should be assessed against the best available globally, by using Strategic Business Sourcing. Only in this way can corporate performance be optimized to the levels necessary to be the best in the world, positioning the company to thrive in the global marketplace.

PART I

Developing Strategic Business Sources for Operational Functions

Strategic Business Sources can be developed for all corporate functions. These include operational, administrative, and financial services; the most common functions considered by companies for improved sourcing. Currently, 45 percent of the services being outsourced are in operational areas, 40 percent are in finance and administration, and the remainder in miscellaneous areas. The first three chapters of Part I will address typical corporate operational functions which can be viewed as Strategic Business Sources and optimized. These functions are most commonly production, research and development, and purchasing. A separate chapter will cover each of these operational areas and address the six steps required to develop the Strategic Business Sources for each.

CHAPTER 2

Developing the Strategic Business Source for Production Services

This chapter will cover developing a Strategic Business Source for production services, but the same steps apply to all corporate functions for which improved sources are being sought. First, the products and services of each source, in this case for production services, will be defined. This will be followed by defining the performance measurements for the source’s products and services, covering the criteria of quality, delivery, cost, customer service, and product advancements. The third step will be to assess and determine the performance levels, in terms of the performance measurements, of the internal and external sources being considered to provide production services to the company. The next step will be to develop SBS Performance Matrixes for the potential internal and external sources, to compile and compare the measured performance levels of each. The fifth major step in developing the optimal source for production services will be evaluating the SBS Performance Matrixes and, after considering other pertinent issues, making the final decision and selecting the Strategic Business Source. With the Strategic Business Source selected, the sixth and final step in the process is developing an SBS Balanced Performance Matrix. The Balanced Performance Matrix is a measurement system prepared to monitor and ultimately improve the performance of the selected source in all of the five performance criteria. DEFINING THE PRODUCTS OF PRODUCTION SOURCES To develop a Strategic Business Source, the products and services of each potential source need to first be defined. For the purpose of establishing a Strategic Business Source, this is the end product or service delivered by the source to the company, whether from an internal department or external supplier.

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Operational Functions

The definition of the end product or service will vary, depending on the goods and services that a given source provides, from parts produced by production sources to new product designs developed by research and development (R&D) sources. For production sources, there are two general approaches that can be taken. Most often, the production source is responsible for providing products produced to the sourcing company’s specifications. The specifications will define materials, configurations, and other processing requirements. With this approach, the sourcing company remains responsible for the R&D effort necessary to advance the design of the products being produced by the production source. An alternate approach is to hold the production source not only responsible for manufacturing the products, but for performing the R&D efforts needed to design new products. This second approach is increasingly being used, especially for products that are not critical to the products that the sourcing company delivers to its customers. For example, a computer producer, whose core competence may be the design of operating systems for its computer lines, may outsource both the production and R&D of its monitors. The products of the production sources under the first arrangement, with the source performing production only and no R&D, will be addressed in this chapter. The next chapter will separately cover how to develop Strategic Business Sources for R&D services. For the source providing production services, that has no responsibility for R&D, the end product is simply the products produced and delivered to the sourcing company. In the case of an assembled product, the product is the final assemblies and not the individual parts which make up the assemblies. It is the source’s performance in producing the assembled products (in the form delivered to the sourcing company) that will be assessed for quality, delivery, cost, customer service, and product advancements. The individual parts produced by the production source which make up the product assemblies do not need to be evaluated against these performance criteria, since they are not delivered to the sourcing company in the unassembled form. In the case where the production source is expected to perform R&D, in addition to manufacturing products, there are actually two products which have to be assessed. Specifically, the end product manufactured and delivered to the company, and the successful completion of R&D efforts. Under this scenario, not only do the quality, delivery, cost, customer service, and product advancement levels being achieved while producing the products need to be assessed, but the source’s R&D efforts also need to be evaluated. The method used to assess performance and develop a Strategic Business Source for R&D is addressed in the next chapter. This chapter will only address sources for production services, with no responsibility for R&D. A Sample Case of Defining the Products of Production Sources To demonstrate the approach to developing a Strategic Business Source for production services, a sample case will be used to explain each of the six steps

Production Services

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in the process. Assume a producer of automobiles is considering three potential sources for producing anti-lock braking systems, one internal production department and two external suppliers. The external suppliers are termed External Sources ‘‘A’’ and ‘‘B’’ for the purposes of discussion. The source selected by the automobile producer will be contracted to produce the anti-lock braking system to specifications supplied by the automobile producer. The source will be responsible for buying the brake system materials for the product assemblies, and manufacturing, assembling, and testing the brake system assemblies. The products of the source in this example, for the purpose of developing a Strategic Business Source, would simply be the finished anti-lock braking system assemblies, in the form delivered to the automobile producer. The assessment of the source’s performance, which will be addressed in the next section, will measure each source’s performance levels achieved in producing these assemblies. In some cases, the automobile producer may require its source to perform R&D projects and develop a new design for anti-lock braking system assemblies; for example, with improved reliability performance. This situation, in which case the additional ‘‘product’’ of R&D services provided by the source will need to be assessed, will be covered separately in the next chapter. With the products of the sources defined and the first step of developing a Strategic Business Source for production services complete, performance measurements can now be determined. Specifically, the next step in establishing the production Strategic Business Source is to define the measurements to be used to assess the quality, delivery, cost, customer service, and product advancement performance of the sources being considered. These measurements will ultimately be used to assess performance levels being achieved by each source while producing the products defined in the first step. DETERMINING THE PERFORMANCE MEASUREMENTS FOR PRODUCTION SOURCES With the products of the source defined, the next step in developing a Strategic Business Source for production services will be to determine the measurements for the internal and external sources, of quality, delivery, cost, customer service, and product advancements. These are the same five criteria successfully used by corporations to monitor and improve the performance and competitiveness of Strategic Business Units, but in this case they will be applied to optimize the source chosen by the company for production services. Many case studies have shown that companies that have outsourced production services based primarily on an external supplier’s performance at a point in time, without considering long-range performance trends, have been disappointed with the results. Suppose a company bases a sourcing decision on a particular external supplier’s price of $100 per production hour being 10 percent lower than the company’s internal production department’s hourly cost of $110. If the supplier’s prices have been increasing 5 percent per year, and internal

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costs are being reduced by 10 percent per year, the company would be benefited over the long run by continuing to manufacture the part internally. This is because in one year the external supplier’s price will probably be up to $105 per hour, having increased 5 percent, and the internal cost per hour would be10 percent less, or $99, $6 less than the external supplier’s price. Many companies have regrettably entered into long-term contracts with external suppliers based solely on the source’s performance levels at the time the contracts were awarded. In many cases, the performance of the contracted source fell to unacceptable levels over time, impacting the competitiveness of the sourcing company. For this reason, the performance measurements used to quantify a given source’s current performance levels need to be supplemented by measures of the source’s performance trends over the long term. The measurements for production sources that will be developed will address both current performance levels as well as long-range performance trends in each of the five criteria. As will become clear as these measurements are developed, they will permit the overall performance of internal and external sources to be assessed, quantified, and then compared, supporting the company’s selection of the Strategic Business Source for production services. Determining the Quality Performance Measurements The ability of a production source, whether an internal department or an external supplier, to consistently deliver high-quality products is critical to the success of the sourcing company. Specifically, if poor-quality products are received from the source and rejected by the company, delays in delivering products to its customers may occur due to the shortage of acceptable products. The delivery delays will result in lower sales levels over the short term, and dissatisfied and potentially lost customers over the long range. Also, poor-quality products delivered by production sources may be unintentionally passed on by the sourcing company to its customers if they are not detected. This will cause warranty expenses to be incurred to resolve complaints made by customers, dissatisfied customers, and a possible loss of market share. To address these concerns, the quality performance of sources being considered for production services has to be measured and assessed before a Strategic Business Source can be selected. Primarily, performance measurements need to quantify the quality of the products produced by the sources, in the form delivered to the company. These quality performance measurements will need to define both current levels of quality being achieved by potential sources for production services, as well as their quality improvement trends. Both the current and long-term performance of sources needs to be considered to ensure the optimal Strategic Business Source is selected. First, the rate that the source’s customers accept the products it delivers needs to be measured. Specifically, of the total quantity of products delivered to the

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customers of a given source, whether individual parts or assemblies, the percentage accepted by the sourcing companies needs to be determined. This is termed the delivered product yield and the closer this quality measurement is to 100 percent, the better the source is performing. The yield needs to be viewed as a percentage of the total products delivered and not just the quantity of accepted products. This is because the volume of deliveries has to be considered since, for example, it is important to distinguish between 10 rejects of 100 delivered products and 10 rejects per 1,000 deliveries. In addition to monitoring the production source’s delivered product yield, which reflects how the source is performing at a given point in time, it is necessary to determine and consider the source’s quality improvement trend, or how the source’s yield levels are improving or degrading over a long-term time period. Suppose one source has a historic delivered product yield of 85 percent, and has improved this rate by 10 percent over the past year. Assume a second source under consideration has a higher yield of 90 percent, but the yield has degraded by 5 percentage points over the past year. In this case, the first source with a current product yield of 85 percent, but a positive yield improvement trend, would be the better choice as a Strategic Business Source over the long term. The delivered product yield is based on the sourcing company detecting and rejecting defective products delivered by its production source, prior to putting these products into use. The products would either be rejected by the sourcing company’s receiving department, or possibly after being pulled out of inventory for further processing prior to delivery to the customers; for example, assembled by the company into its end products. However, not all defective products delivered by sources will be flagged and rejected by the sourcing company before putting them to use. For this reason, the delivered product yield and yield improvement trend measurements need to be supplemented with two additional quality performance measurements. These additional performance measurements are needed to address the expense incurred by the sourcing company when poor quality products received from production sources are not detected and rejected prior to being put to use. One quality performance measurement to address this situation is the source’s warranty expense levels, measured as a percentage of sales to take into account the volume of shipments made to customers. For example, a source that reimburses its customers one dollar for every $100 of delivered products to settle warranty claims due to their receiving poor quality products it provides would have a quality performance measurement of 1 percent (based on one dollar divided by the $100 of products, multiplied by 100 equaling 1 percent). This measurement will give an accurate indication of the level of defective products that the sourcing company can expect from each source being considered for production services. However, it is only indicative of how the source is performing at a given point in time. Similar to the delivered product yield percentage and yield improvement trend, the quality measurement for warranty has

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to be supplemented with a measurement showing the source’s warranty improvement trend. Specifically, a quality performance measurement of the percent reduction to the source’s warranty expense, as a percentage of sales levels, over a long-term period is needed. For example, assume a company has reduced its warranty expense as a percentage of sales from 5 percent to 4 percent over a two-year period. This would be expressed as a warranty improvement trend measurement of 10 percent per year (based on the 20 percent reduction to warranty expense, from 5 down to 4 percent of sales, divided by the two-year period). Summarizing, four measurements are needed to categorize a production source’s quality performance: the delivered product yield percentage, the annual yield improvement percentage, the warranty expense as a percentage of sales, and finally, the warranty improvement trend, the annual percent reduction to warranty expense. Determining the Delivery Performance Measurements The delivery performance of the Strategic Business Source selected for production services is critical to both the sourcing company’s profitability and the satisfaction of its customer base. If the selected source does not deliver its products consistently on time, the sourcing company will likely be late in delivering its products to its customers. Many companies are operating under just-in-time production control systems, in which products are scheduled for delivery from production sources just in time to support either further processing or deliveries to the end customers. This helps minimize inventory levels and the associated expense. With this scheduling system, if product deliveries from production sources are late, deliveries to the sourcing company’s customers will be delayed, regardless of whether the source’s delivered products are assembled into another product or delivered directly to the customer. The late deliveries will dissatisfy the customers due to the delays in providing the end products to them, and impact customer satisfaction and ultimately sales levels. One of the performance measurements for delivery which addresses this concern is simply the on-time delivery performance of the source, viewed as a percentage of the total deliveries meeting the commitment date made to its customers. Sources for production services will generally monitor their performance against two delivery dates, one being the contractual commitment made to their customer and the other being an internal date determined through internal production planning. The internal scheduled delivery date would likely precede the contractually committed date. For the purpose of developing a Strategic Business Source, the delivery performance measurement is determined based on the percentage of the total deliveries made by the source meeting its customer’s specified date. Companies are increasingly being expected by their customers to continually reduce product cycle times. This is because of the financial benefits that result

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from more frequent inventory turns, as well as lower production costs. The company’s overall cycle times are largely a function of its product development, engineering, purchasing, and production cycle times. The production portion of the company’s overall cycle time will be determined by the cycle times required by its production sources. To account for this when developing a Strategic Business Source for production services, a second delivery performance measurement is needed; specifically, the success of the source toward continually reducing cycle times needs to be measured. To accomplish this, the annual percent reduction to cycle times needs to be determined for the sources being considered to provide the company with production services. As an example, assume a potential production source automated its purchase order entry process and invested in state-of-the-art machine tools to reduce its average production cycle times from 20 to 17 weeks, for an improvement of 15 percent over a three-year period. The source’s delivery performance measurement for cycle time improvement would be 5 percent annually (based on the 15 percent reduction achieved over a three-year period). Summarizing the delivery performance measurements required for production sources, the performance of sources being considered can be determined and monitored using two performance measurements: the on-time product delivery percentage and the annual cycle time improvement percentage. Determining the Cost Performance Measurements Similar to the pressure being applied by customers to reduce product cycle times, costs must also be continually reduced. A significant portion of the cost incurred by companies in producing their end products is the expense of production. Of the overall production expense, most is incurred by the production sources producing the individual parts that are either delivered directly to the customers or ultimately assembled into end products for delivery to customers. For this reason, the efforts of production sources toward reducing costs need to be determined and quantified before a Strategic Business Source can be selected. To accomplish this objective, two cost performance measurements need to be developed. The first will cover the source’s present cost competitiveness. The second will address the source’s trend toward reducing its costs. For internal sources of production services, specifically, the company’s own production departments, the cost performance measurement would be the company’s effective cost to produce the product. The effective cost would include the direct hourly expense incurred to manufacture the products. However, for the purposes of selecting and developing a production Strategic Business Source, this cost has to be adjusted by adding additional expenses incurred by the company through producing the products internally. Specifically, the warranty expense incurred by the company to settle complaints made by the customers receiving poor quality products needs to be added to this hourly cost. Since the products are being produced internally, without involving an external supplier

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under this scenario, none of the expense is recoverable and has to be considered. Companies can easily quantify their historic warranty expense as a percentage of sales volumes, and the effective internal cost needs to include this additional expense. Suppose a company incurs warranty expense that equates to 4 percent of its sales, and that of this 4 percent, 1 percent is caused by production errors (and the remainder attributable to other mistakes, such as sales or engineering errors). If the internal production cost per hour is $100, then the effective cost would be 1 percent higher, or $101 to cover the warranty expense that history indicates will be incurred by the company. The reason for making this adjustment is to allow a direct comparison of this internal cost with the pricing levels quoted by external suppliers of production services. To make the external supplier’s price comparable to the effective cost of the internal department, the hourly pricing quoted also needs to be adjusted. Specifically, just as the company determines its historic warranty expense incurred to resolve customers’ complaints made when poor quality products are received, external suppliers of production services need to do the same. However, for an external supplier being considered as a potential Strategic Business Source, the warranty expense being incurred is returned to its customers, the companies doing the sourcing. To account for this reimbursement, the supplier’s price needs to be reduced by the percentage of sales that it normally incurs to settle warranty claims. To clarify this, assume an external supplier proposes producing a product for $200 per hour, and the suppler historically incurs warranty expenses totaling 2 percent of sales. This means the sourcing company’s effective cost would be $196 per hour, or the supplier’s quoted hourly price of $200 less the 2 percent the sourcing company can expect to recover at some point in the future to settle warranty claims. Through making these adjustments to both the internal costs of the company’s production department, and the prices quoted by external production sources, the effective costs become directly comparable and can be used as performance measurements. These measures only define the present cost competitiveness of internal and external production sources. In addition to the present cost competitiveness of production sources being considered, the long-term trend toward reducing the effective costs needs to also be determined and quantified. The performance measurement that is used to determine the long-range cost competitiveness of sources for production services is the annual percent reduction to effective costs being passed on to their customers. For example, assume a source’s effective hourly cost for producing a product it has historically supplied to its customers has been reduced by 4 percent over the past two years. The cost improvement trend measurement would be a 2 percent annual reduction to the costs passed on to its customers. Furthermore, assume the effective internal cost for a product is being reduced by 10 percent per year. Even if the internal costs are currently higher than those quoted by external sources, after a short period of time the company would actually incur less cost by producing the

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product internally (because of the greater cost reductions being achieved by the internal department). To summarize the performance measurements for cost, the effective hourly cost of production sources, whether an internal department or an external supplier, needs to be determined. For an internal production department, the effective cost is the direct costs incurred producing the product, plus the additional cost associated with settling warranty claims received after the products are delivered to customers. This additional expense is determined based on the history of warranty expense incurred to settle claims for poor-quality products delivered to the customer base. For external suppliers of production services, the effective cost is the hourly price quoted to produce the products, less the amount the sourcing company can expect to recover from the supplier. This amount is estimated based on the supplier’s historic warranty expense, as a percentage of sales. With the adjustments made to the internal department costs and external supplier prices for producing products, and the effective costs determined, the figures can be directly compared. In addition to comparing the effective costs of sources for production services, the trend toward improving these effective costs needs to quantified. This would be measured as the annual percent reduction to the effective costs, determined over a several-year period. Determining the Customer Service Performance Measurement The performance measurements covered in the previous sections covered the quality, delivery, and cost of the products delivered by sources of production services. All of these characteristics of the products are very important to the sourcing company. However, beyond the products delivered to the sourcing company, there are additional services provided by production sources that need to be assessed. Specifically, the customer service provided by the sources needs to be quantified and factored into the decision to select a Strategic Business Source. The quality and delivery performance for any submittals required by the sourcing company’s contract needs to be assessed and measured. For example, the sourcing company may require production status reports to be submitted periodically by the source. Of course, the quality and delivery timeliness of these submittals is important; they need to be complete, accurate, and submitted on schedule to the company. Also, the sourcing company may require data collected during production operations to be submitted as it is generated through the course of a production contract. For example, dimensional, statistical process control, or test data may be required by the company’s contract to be submitted as it is generated by the source. This data, just like the production status information, has to be comprehensive, accurate, and delivered in a timely manner. The customer service levels expected by sourcing companies of their production sources will vary widely, impacted by such factors as the complexity of the product being produced, the industry in which the company competes, and the demands of the company’s customers. For this reason, guidelines for assessing

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the customer service levels of production sources need to be developed by the sourcing company, so that their unique needs for customer service are being addressed. These guidelines need to be standardized and used consistently to assess the various sources being considered, such that the results can be directly compared. Figure 2.1 shows typical customer service assessment guidelines. For each of the customer service criteria being assessed, the performance level being achieved by the source is rated using a scale of one to ten by the company looking for a production Strategic Business Source. For example, if the production status report submittals addressed in Figure 2.1 are provided only 84 percent on time, a rating of 8.4 may be given to the source. At the completion of the customer service assessment, the average performance level is determined. The average of the ratings then serves as the performance measurement for customer service. In Figure 2.1, the average assessment rating is 8.8, as entered at the base of the guidelines. Determining the Product Advancement Performance Measurements The performance measurements addressed previously dealt with a source’s ability to provide high-quality products, consistently delivered on time and at a competitive price, while providing strong customer service. Since Strategic Business Sourcing decisions need to be based on the long-term benefits to the sourcing company, the source’s success in advancing its products also needs to be assessed and considered before the optimal source is selected. For example, sources of production services may be purchasing state-of-the-art production equipment through their capital investment plans. Also, the source may, through its R&D program, be designing new products which may benefit the sourcing company when they are available for sale. Similar to the customer service assessment guidelines, which are tailored to reflect the needs of the company performing the sourcing, an assessment of product advancement activities of sources should be performed with the company’s needs at the forefront. This is accomplished by measuring the source’s financial commitment to advancing its products which would benefit the sourcing company, and then quantifying the source’s progress in actually achieving its commitments. Specifically, the capital investment and R&D plans of potential production sources need to be reviewed and evaluated. Typically, capital investment and R&D plans will cover the source’s entire operations, covering planned commitments over the next several years. The performance measurement for the source’s commitment would be the annual capital and R&D expense committed to the particular areas of the source’s operations that will ultimately benefit the sourcing company. This could be plans for adding new manufacturing capabilities to work centers that would be used to produce the sourcing company’s

Figure 2.1 SBS Customer Service Assessment Guidelines for Sources of Production Services

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products, or a commitment to design new products which would benefit the company. Often, when companies are reducing costs, the capital investment and R&D budgets are cut. For this reason, the source’s performance in actually accomplishing its planned commitment needs to be assessed. Specifically, the source’s success in executing its capital investment and R&D plans needs to be quantified as the percentage of the budget actually invested when planned. For example, if the source planned to invest $100,000 to advance its products in the past year, but only invested $80,000 by the conclusion of the year, its percent achievement would be 80 percent ($80,000 actually invested, divided by $100,000 planned, multiplied by 100 equaling 80 percent). A Sample Case of Determining the Performance Measurements for Production Sources The case of an automobile producer considering new sources for producing anti-lock braking systems (one internal production department and two external suppliers of production services) will be further developed to demonstrate how the performance measurements are determined. Figure 2.2 shows a summary of the performance measurements that were previously defined to quantify the performance levels of the three sources being considered. This figure, in addition to defining the quality, delivery, cost, customer service, and product advancement performance measurements, will also be used as a worksheet as the three sources being considered are assessed and their individual performance levels are determined. The italicized entries in Figure 2.2 show the performance levels of these three production services as determined during their assessment, which will be detailed in the next section. Quality performance of each source will be measured as the delivered product yield percentage. The annual percentage improvement to delivered product yield will also be used as a quality performance measurement. The quality of the production sources will also be measured as their warranty expense as a percentage of the sales volume delivered by each source. The warranty improvement trend, the annual percent reduction to this warranty expense, will also be used to quantify the quality levels being achieved by each source. Delivery performance for each of the three sources will be measured as the on-time delivery percentage for products manufactured at the same work centers that would be used to produce the sourcing company’s products. This will give the company an indication of the delivery performance it can expect from each source. Additionally, delivery performance for each source being considered will be measured as the percentage reduction to cycle times, again for products comparable to those that would be provided to the sourcing company. The effective cost of each of the three sources will also be determined. The effective cost for the internal production department is the internal cost per hour

Figure 2.2 SBS Performance Measurements and Assessment Worksheet: Production Source Performance Measurements and Assessment Results

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which would be incurred, plus the additional historic expense incurred to settle warranty claims made due to customers receiving poor quality products. The effective price of the two external sources would be their quoted price per hour, less the warranty expense as a percentage of sales volumes that each historically reimburses to their customers, since the sourcing company can expect to eventually recover this amount. Customer service for each potential production source, whether an internal department or an external supplier, will be determined and measured by performing a customer service assessment, such as that described by Figure 2.1. The customer service performance measurement is simply the average assessment score assigned by the automobile producer to each of the three sources being considered for production of the anti-lock braking systems. The commitment and achievement of each source toward advancing its products will be measured for the potential sources for producing the anti-lock braking systems. Specifically, the portion of the source’s planned capital investment and R&D expense which will advance products that benefit the company will be determined. This then defines the commitment of each source in this area. The progress in actually achieving the planned capital investment and R&D plans will be determined for each source, as the percentage of the budget historically invested as planned. This then defines the achievement of each source in advancing its products. At this point in developing a Strategic Business Source for production services, the products of the sources have been defined. Performance measurements for quality, delivery, cost, customer service, and product advancements have been determined. With these two steps completed, the sourcing company can proceed with performing an assessment of each source being considered for production services, and quantifying their individual performance in these five criteria.

ASSESSING THE PERFORMANCE OF PRODUCTION SOURCES The next step in establishing a Strategic Business Source for production would require making on-site visits to assess performance of external sources, as well as conducting a review of performance levels of internal sources. The guidance in this section on assessing the performance levels of sources under consideration applies equally to internal departments and external suppliers of production services. The results obtained will be compared in the next step of the process. To ensure that consistent and comparable results are obtained, the same personnel of the company doing the sourcing should perform the assessments of all sources being considered.

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Assessing the Quality Performance of Production Sources Two approaches need to be used to determine the quality performance levels of each potential source. First, the source being assessed should be requested to directly supply the information on its performance levels, in terms of the measurements previously defined. This information is commonly available from internal departments and external suppliers. However, since the sources being considered have incentive to be awarded the sourcing company’s business, with both the internal and external sources benefiting from increased workload, they may embellish the information. Because of this, the information reported by each of the sources needs to be independently verified by the sourcing company’s assessment personnel. Assume the sources being considered report quality performance measurements of a delivered product yield rate of 98 percent and an annual yield improvement of 5 percent. The sourcing company needs to review a sampling of the source’s documentation, such as shipping and receiving records that detail deliveries made to the source’s customers, and return shipments of rejected products. From these records, the quantities of parts delivered by the production source, and the quantities rejected by the customers, can be determined. With this information known, both the current reported yield rate of 98 percent, and the 5 percent yield improvement reported by the source can be verified. The production source’s information reviewed by the sourcing company needs to pertain to the particular areas of the source’s operations that will be used for the company’s products. If the source’s reported yield is mostly due to a high-quality product line that the company is not sourcing, the performance measurement will not necessarily indicate the level of performance that the company can expect for its products. Rather, the delivered product yield and yield improvement data should be based on performance levels for the source’s production areas, preferably the same work centers, that will be used to produce the company’s products. If, for example, 98,000 of the last 100,000 products shipped by a given production source were accepted by the customers, the source’s reported delivered product yield of 98 percent is verified as accurate (based on 98,000 accepted by the customers, divided by the 100,000 delivered, multiplied by 100 equaling 98 percent). Suppose the delivered product yield was determined by reviewing the production source’s shipping documentation to be 89 percent two years earlier. The current 98 percent yield is a 10 percent improvement over the 89 percent two years prior. Dividing the 10 percent yield improvement by the two-year period results in a 5 percent annual improvement, and again the figure reported by the source is confirmed to be accurate. The source’s warranty expense as a percentage of its sales volume, as well as the warranty improvement trend, can be determined again by first requesting the production source to provide the information, and then by verifying the figures. Since both performance measurements addressing warranty are expense-based

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figures, the source’s financial database would contain the information needed to verify these figures. Both warranty expense and sales volumes are entries on a typical profit and loss statement: the two bits of information needed to determine warranty expense as a percentage of sales. For the prior year, the quality measurement of warranty as a percent of sales can be determined by dividing the warranty expense by the sales dollars, as defined by the company’s profit and loss statement. For example, suppose a source reports warranty expense as 4 percent of its sales. If warranty expense is determined by the sourcing company to be $40,000 for sales of $1,000,000, the quality performance measurement would in fact be 4 percent as reported ($40,000 warranty expense, divided by $1,000,000 in sales, multiplied by 100 equaling 4 percent). The warranty improvement trend can be determined by reviewing these same figures over several years. For example, if warranty expense as a percentage of sales was reduced from 5 to 4 percent over the prior five-year period, the warranty improvement trend would be 4 percent annually (5 down to 4 percent equaling a 20 percent reduction, divided by the five-year period giving an annual rate of 4 percent). Assessing the Delivery Performance of Production Sources The sourcing company’s assessment personnel can determine the delivery performance of potential production sources by again first requesting the source to provide the information, and then independently verifying its accuracy. By reviewing a sampling of purchase orders awarded to external sources, and the production schedules of internal sources, the scheduled delivery dates for the products can be determined. By reviewing shipping documentation of external sources and production routings for internal sources, the actual delivery performance in comparison to the scheduled dates can be determined. To clarify this, assume an external supplier of production services reports on-time delivery performance of 95 percent. This can be verified by comparing the delivery dates required by purchase orders to shipping documentation dates for products similar to those that would be produced for the company. If, for example, purchase orders and shipping documentation show that the source delivered the last 19,000 of 20,000 products by the date contractually required by its customers, the reported 95 percent on-time performance is accurate (based on 19,000 products delivered on time, divided by 20,000 total deliveries, multiplied by 100 equaling 95 percent). The delivery performance measurement of cycle-time improvement reported by the source can also be verified by reviewing purchase orders received by the source from its customers. The history of cycle-times; the time span from the date the source was awarded the purchase orders to the contractual delivery date (again for products similar to those that would be provided to the sourcing company), will determine the cycle-time improvement trend. Assume the source reports a 6 percent annual reduction to product cycle times. If purchase orders from two years ago for the products show cycle times of sixteen weeks, and the

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same product is currently being delivered by the source in fourteen weeks, the source’s cycle-time improvement trend would be verified as 6 percent annually (based on sixteen to fourteen weeks being a 12 percent reduction, divided by the two-year period equaling 6 percent annually). Assessing the Cost Performance of Production Sources To assess the cost performance of potential sources of production services, different approaches are needed for internal departments and external suppliers. For external production suppliers, the cost performance measurement would be the source’s effective cost. The effective cost is determined from the external source’s quoted price per hour, and its historic expense incurred reimbursing its customers to settle warranty claims. The price quoted by the source to produce the products would be included in its proposal to the sourcing company. The effective cost is determined by subtracting the warranty expense as a percentage of sales, which was previously determined as a quality performance measurement. This adjustment is appropriate since the sourcing company will likely be reimbursed this amount to settle warranty issues over the long run. If, for example, the source quotes an hourly price of $500, and the historic warranty expense as a percentage of sales for similar products is 5 percent, the effective cost would be $475 (based on $500 less 5 percent equaling $475). For internal production departments, the effective cost would be its normal direct cost per production hour, plus the warranty expense incurred to resolve complaints made by customers receiving poor-quality products. Suppose the internal effective cost per hour is $450, and the warranty expense incurred to settle customer complaints has been historically 10 percent of sales. The effective hourly cost for the internal source would be $495 (based on $450 plus 10 percent equaling $495). Note that in the above examples of determining effective costs for internal and external sources, although the external supplier’s price was higher than the internal cost, its effective cost was actually less; $475 hourly as compared to $495 once adjustments to account for warranty expense are made. The cost improvement trend is determined from the effective costs of internal and external sources over the past several years. Specifically, assume an external source reports a 5 percent annual reduction to its hourly prices. The sourcing company needs to review historic data to define the source’s effective hourly costs for products similar to those that would be produced for the sourcing company. Both historic purchase orders to determine prices quoted by the source over the years, and financial records showing historic expense incurred by the source to resolve its customer’s warranty claims, would need to be reviewed. If records indicate that, over a three-year period, effective hourly costs for similar products have been reduced by 15 percent, the annual cost improvement trend would be verified as 5 percent (based on the 15 percent reduction, divided by the three-year period equaling 5 percent).

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Assessing the Customer Service Performance of Production Sources In the previous section covering performance measurements for customer service, guidelines for assessing the customer service levels of sources were developed, such as those shown in Figure 2.1. To determine the customer service performance measurement, each source needs to be assessed using these guidelines. For each of the criteria defined by the assessment guidelines, the source’s performance levels need to be verified by reviewing documentation, wherever available, before a rating is assigned by the sourcing company. For example, for the Figure 2.1 criteria of production data timeliness, past records issued to the source’s customers for similar products should be reviewed and the timeliness of the submittals quantified. If 92 percent of the dimensional inspection and test data reports were issued by the customer’s purchase order–defined submittal dates, an appropriate assessment rating for this area would be 9.2. Once all criteria are rated, the averages of the individual ratings are determined and represent the customer service performance measurement for the source. Assessing the Product Advancement Performance of Production Sources The performance measurements previously defined for product advancements defined the financial commitment made by a given production source being considered, as well as the source’s progress in achieving these planned commitments. Again, each source should initially be requested to provide the information. The source would inform the sourcing company of its capital investment and R&D budget, as well as its historic percent achievement of its investment plans. The source’s reported figures then need to be verified by the sourcing company’s assessment personnel. This is done by reviewing the source’s documented capital investment and R&D plans showing the financial commitments planned and the percent of progress historically being achieved. If a source reports that the annual capital investment and R&D plan is budgeted at a total of $500,000, this can be verified by reviewing the associated documentation. Only the expense that will be dedicated to advancing the products that would benefit the sourcing company should be considered. Portions of the budget to upgrade the source’s operations that will not be used for the sourcing company should be subtracted from the figure to provide an accurate performance measurement of the source’s commitment. Assume that, of the source’s annual $500,000 budget, $100,000 is dedicated to purchasing and installing a new machine for producing a product line that the sourcing company will not be sourcing. In this case, the effective budget is actually $400,000, the amount that is dedicated to advancing products that will benefit the sourcing company (based on the $500,000 total budget less the $100,000). Furthermore, assume the source reports that historically 98 percent of its cap-

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ital investment and R&D plans are successfully completed. The sourcing company also needs to assess and verify this by reviewing the source’s documentation. If records from the prior year indicate that, going into the year a commitment of $1,000,000 was made to capital investments and R&D activities but, by the conclusion of the year, only $980,000 was actually invested, the percent progress would in fact be 98 percent as reported by the source (based on $980,000 invested, divided by $1,000,000 planned to be invested, multiplied by 100 equaling 98 percent). A Sample Case of Assessing the Performance of Production Sources Again adding to the sample case of an automobile producer considering three sources for producing anti-lock braking systems, the SBS Performance Measurements and Assessment Worksheet in Figure 2.2 summarizes the measurements that would be used for their assessment. The sourcing company’s assessment personnel, after reviewing the appropriate documents and records detailed above, have concluded that, of the last 50,000 brake system assemblies produced and shipped by External Source ‘‘A’’, similar in design to what would be produced for the company, 2,000 were rejected by the customers. From this information, the sourcing company can conclude that the delivered product yield rate that it can expect is 96 percent (based on 48,000 accepted by the customers, divided by the 50,000 products delivered, multiplied by 100 equaling 96 percent). This quality performance measurement is entered on the Figure 2.2 worksheet as the delivered product yield for External Source ‘‘A’’. A review of historic documents and records indicates that the yield for braking system components (again similar to what would be produced for the sourcing company), had improved by 50 percent over the prior two years, from 64 percent to the present level of 96 percent. This 50 percent improvement over a two-year period equates to a 25 percent annual yield improvement trend. This figure is also entered on the Figure 2.2 worksheet for External Source ‘‘A’’, as the delivered product yield improvement trend. The source’s annual warranty expense for braking system assemblies was determined by reviewing financial documentation to be $30,000 for total sales of $1,000,000, or 3 percent as entered on Figure 2.2 as the warranty expense as a percentage of sales. The prior year’s warranty expense as a percentage of sales was found to be 3.3 percent, giving about a 10 percent annual reduction to warranty expense, shown on the worksheet as the warranty improvement trend. The sourcing company’s assessment team determined that External Source ‘‘A’’ delivered 40,000 of the last 50,000 braking system assemblies to its customers by the purchase order–required date. This gives an on-time delivery performance measurement of 90 percent as entered on Figure 2.2 (40,000 divided by 50,000 total, multiplied by 100 equaling 90 percent). The cycle times for these products were determined by reviewing the appropriate documents to have

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been reduced from 20 weeks three years ago to their present cycle time of fourteen weeks, a 30 percent reduction for an annual improvement of 10 percent, as shown on the worksheet in Figure 2.2. External Source ‘‘A’’ quoted an hourly price of $109 to produce the anti-lock braking system assemblies for the automobile producer. Reducing the quoted price by the 3 percent warranty expense as a percentage of sales previously verified gives an effective hourly cost of $106, as entered on the Figure 2.2 worksheet. For products similar to what would be produced for the sourcing company, External Source ‘‘A’’ has reduced its effective costs (its quoted hourly prices less its warranty expense as a percentage of sales) by 14 percent over the past two years. The annual reduction of 7 percent is entered on the Figure 2.2 production source assessment worksheet as the cost improvement trend for External Source ‘‘A’’. The sourcing company’s assessment team evaluated External Source A’’ using customer service guidelines similar to those shown in Figure 2.1. The average of the individual ratings assigned by the team to each of the customer service criteria was determined to be 8.8. This value is shown as the customer service performance measurement for External Source ‘‘A’’ on the Figure 2.2 worksheet. The total budget that External Source ‘‘A’’ plans to commit to capital improvements and R&D was found by the sourcing company’s assessment team to be $535,000. Of this amount, $485,000 is targeted to improve anti-lock braking system processes and products that would ultimately benefit the sourcing company. This effective annual budget, $485,000, is shown on the Figure 2.2 worksheet for External Source ‘‘A’’ as its commitment to advancing its products. The company’s assessment team compared the capital investment and R&D plans to the actual investments made by this source over several years. The documentation shows that an average of $495,000 is invested of an average annual budget of $500,000 planned for product advancements. This percentage of achieving planned product advancements, 99 percent ($495,000 invested, divided by $500,000 planned, multiplied by 100 equaling 99 percent) is shown on the Figure 2.2 assessment worksheet. The sourcing company’s personnel performed similar assessments of the other supplier being considered to produce anti-lock braking systems, External Source ‘‘B’’, and its internal production department. The approach used is similar to that described for External Source ‘‘A’’, by first having the source supply the information and then having the assessment team independently confirm the accuracy of this information. The results for External Source ‘‘B’’ and the internal source are also shown on the Figure 2.2 production source assessment worksheet. At this point in developing a Strategic Business Source for production services, the end products of the source have been defined. The performance measurements for assessing quality, delivery, cost, customer service, and product

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advancement levels have been determined and the assessment of the sources being considered has been conducted. The next step is to compile and compare the performance levels being achieved by each source, as determined during their assessments, and after considering some immeasurable issues selecting the optimal Strategic Business Source.

DEVELOPING THE SBS PERFORMANCE MATRIXES FOR SELECTING THE PRODUCTION STRATEGIC BUSINESS SOURCE At this point in developing a Strategic Business Source for production services, the performance levels of sources being considered have been assessed. Their performance has been quantified using measurements for quality, delivery, cost, customer service, and product advancements. The performance being achieved by these sources can now be compared. To ensure that the optimal Strategic Business Source is selected, the performance of each potential source needs to be compared in all five of the performance criteria. Basing decisions on whether to use external suppliers or internal departments by comparing just a few performance areas will likely result in the wrong choice being made. An easy method for compiling and comparing the overall performance levels of internal and external sources is by developing Strategic Business Source (SBS) Performance Matrixes. Three individual matrixes are needed: one addressing the quality performance of the sources being considered, one defining the delivery, cost, and customer service levels being provided by the sources, and one quantifying the source’s success in advancing its products. There are five major elements to each SBS Performance Matrix. First, the matrix defines the actual levels of performance being achieved by each source being considered, determined by performing an assessment of each. Second, the matrix includes ratios of these performance levels, comparing the performance of each to the best performing source. Third, the matrix includes weighting factors that allow the sourcing company to place more emphasis on certain performance areas over others, as appropriate to support the company’s strategy. The fourth major element of the matrix is the weighted scores for each source, determined by multiplying the performance ratios by the weighting factors for each of the performance criteria. Lastly, the matrix includes the sum of the weighted scores; the source with the highest summed weighted score is the best overall, considering the criteria of quality, delivery, cost, customer service, and product advancements. To demonstrate how the SBS Performance Matrixes are developed to flag the best overall source, sample cases will be presented. The cases that follow build on the prior example of an automobile producer considering new sources for production of anti-lock braking systems. Separate sample cases will be presented to explain how the SBS Quality Performance Matrix, the SBS Delivery, Cost

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and Customer Service Performance Matrix, and the Product Advancement Performance Matrix are developed. A Sample Case of Developing the SBS Quality Performance Matrix for Selecting the Production Strategic Business Source To select the optimal Strategic Business Source once the performance of each being considered has been determined, their individual performance levels need to be compared. Figure 2.3 shows a Quality Performance Matrix prepared for selecting the Strategic Business Source for producing the anti-lock braking systems previously addressed in sample cases. The measurements and actual performance levels of the sources being considered are shown, taken from the Figure 2.2 assessment worksheet completed while evaluating the capabilities of each. Using these measurements, the performance of each source is compared to that of the bestperforming source in each area. This is done by dividing each source’s performance level by that of the best-performing source. For example, in Figure 2.3 the delivered product yield percentage for each source is divided by the highest yield level being achieved by one of the available sources, and the ratio is entered on the SBS Quality Performance Matrix. The delivered product yield percentage of External Source ‘‘A’’ in Figure 2.3, 96 percent, is divided by the highest yield level of 98 percent being achieved by External Source ‘‘B’’. This gives a delivered product yield ratio of 0.98 for External Source ‘‘A’’ (96 percent divided by 98 percent). The delivered product yield ratio of External Source ‘‘B’’ is simply 1.00, since it is the best-performing source. The ratio for the internal source is 0.96 (determined by dividing its yield of 94 percent by the best yield level of 98 percent). The performance of all sources being considered for production of the braking systems is similarly compared by determining the delivered product yield improvement trend ratio, the warranty expense ratio, and the warranty improvement trend ratio. In addition to determining the performance ratios, weighting factors need to be assigned to each quality performance criterion. Weighting factors allow the sourcing company to place greater importance on select performance areas, based on the unique needs of the company’s customers and industry, and its business strategy. The most important criterion is simply assigned a weight of ten, and the other areas are assigned a weighting factor relative to this highestrated area. For example, in Figure 2.3 the most important area to the automobile producer considering new sources for anti-lock braking system production is the delivered product yield improvement trend, which is given a weight of ten. The next most important performance criteria in the Figure 2.3 example are the delivered product yield and the warranty improvement trend, each assigned a weight of nine. This indicates that they are slightly less important to the automobile producer and its business strategy than the delivered product yield improvement trend. The quality performance criterion of least importance to the

Figure 2.3 SBS Quality Performance Matrix: Production Source Selection

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automobile producer in Figure 2.3 is warranty expense, which is assigned a weighting factor of eight. At this point in preparing the SBS Quality Performance Matrix, the performance measurements and levels being achieved by each source have been entered, performance ratios determined, and the weighting factors assigned. The SBS Performance Matrix is completed by multiplying the performance ratios by the weighting factors. These values are entered at the bottom of the matrix for all of the performance criteria and for each source being considered. The weighted scores for each of the potential production sources are then summed. Referring to Figure 2.3, the delivered product yield ratio of External Source ‘‘A’’, 0.98, is multiplied by the weighting factor of nine, for a value of 8.8 as entered at the base of the matrix. Similarly, the values for this performance criterion for External Source ‘‘B’’ and the internal source are determined to be 9.0 and 8.6, respectively (based on 1.00 multiplied by nine for External Source ‘‘A’’, and 0.96 multiplied by nine for the internal source). The weighted scores for the delivered product yield improvement trend, warranty expense, and warranty improvement trend are determined using the same approach. These weighted scores are then summed for each source; for example, the sum of the values for External Source ‘‘A’’ in Figure 2.3 is 31.3 (determined by adding 8.8, 10.0, 8.0, and 4.5). The source with the highest summed weighted score is the best-performing production source for the quality performance criteria. In Figure 2.3, the internal source with a summed weighted score of 32.9 is performing better than both External Sources ‘‘A’’ and ‘‘B’’, with lower sums of 31.3 and 28.6, respectively. Since the selection of the optimal source needs to be based on performance levels for the criteria of delivery, cost, customer service, and product advancements, as well as quality, two additional SBS Performance Matrixes need to be prepared before selecting the Strategic Business Source. One additional SBS Performance Matrix will cover delivery, cost, and customer service, and the other will address product advancements. A Sample Case of Developing the SBS Delivery, Cost, and Customer Service Performance Matrix for Selecting the Production Strategic Business Source Similar to the SBS Quality Performance Matrix prepared to compare sources being considered for producing anti-lock braking systems, an SBS Delivery, Cost, and Customer Service Performance Matrix needs to be prepared. Figure 2.4 shows an SBS Delivery, Cost, and Customer Service Performance Matrix prepared to evaluate the three sources being considered by the automobile producer. After assessing the performance levels of the sources being considered and completing the Figure 2.2 worksheet, the actual measured performance levels of the sources are entered on the matrix. Similar to the method used to prepare the Quality Performance Matrix, the delivery, cost, and customer service

Figure 2.4 SBS Delivery, Cost, and Customer Service Performance Matrix: Production Source Selection

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performance of each source is compared to that of the best-performing source for each of the criteria. This is done by dividing the source’s performance by the best level being achieved by one of the potential production sources. For example, in Figure 2.4 the on-time delivery percentage of each source is divided by the highest on-time delivery performance being realized by a source, and the ratios entered on the SBS Delivery, Cost, and Customer Service Performance Matrix. The on-time delivery percentage of External Source ‘‘B’’ in Figure 2.4, 87 percent, is divided by the highest on-time delivery performance of 95 percent being achieved by the internal source. This gives an on-time delivery ratio of 0.92 (determined by dividing 87 percent by 95 percent). The delivery performance ratio of External Source ‘‘A’’ is 0.95 (based on its 90 percent on-time delivery performance divided by the best level of 95 percent) and that of the internal source is simply 1.00, since it is the best-performing source. The performance of all of the sources is compared using the same approach to determine the cycle-time improvement trend, effective cost, cost improvement trend, and customer service ratios. As with the SBS Quality Performance Matrix, weighting factors need to be assigned to each of the delivery, cost, and customer service performance criteria. Again, these weighting factors will permit the sourcing company to consider its strategy and place higher emphasis on select performance areas, as necessary to support the needs of the company: in this sample case, the automobile producer. The most important criterion for each of the three performance categories is assigned a weight of ten, and the other areas are assigned a weighting factor relative to this highest rated area. Referring to Figure 2.4, the most important delivery criterion to the automobile producer is the cycle-time improvement trend, which is assigned a weight of ten. The remaining delivery performance area, on-time delivery, is weighted a nine, just slightly lower in importance. The most important cost performance area to the sourcing company is the cost improvement trend, assigned a weight of ten, and a weighting factor of eight is assigned to the other cost performance criterion, the effective cost of each of the production sources. In customer service, a weight of ten is assigned given that there is only one customer service criterion being measured in Figure 2.4. With the measured performance levels being achieved by the sources entered, comparison ratios developed and the weighting factors assigned, the SBS Delivery, Cost, and Customer Service Performance Matrix can now be completed. The matrix is completed by multiplying the performance ratios by the weighting factors, entering the values at the bottom of the matrix and summing them for each of the sources being considered to produce the anti-lock braking systems. In Figure 2.4, the on-time delivery performance ratio of External Source ‘‘B’’ of 0.92 is multiplied by the weighting factor of nine, for a value of 8.3 as entered at the base of the matrix. Similarly, the values for External Source ‘‘A’’ and the internal source are determined to be 8.5 and 9.0, respectively (determined by multiplying 0.95 by nine for External Source ‘‘A’’, and 1.00 by nine for the internal source). The weighted scores for each source are determined the same

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way for the cycle time improvement trend, effective cost, cost improvement trend, and customer service. These weighted scores are then summed for each source; for example, the sum for External Source ‘‘B’’ in Figure 2.4 is 43.5, determined by adding 8.3, 8.0, 8.0, 10.0, and 9.2. The source with the highest total weighted points is the best-performing source in the criteria of delivery, cost, and customer service. External Source ‘‘B’’, with 43.5 weighted points in Figure 2.4 is performing better than both External Source ‘‘A’’, with a weighted score of 42.4, and the internal source, with a weighted score of 37.3, in these three performance criteria. In addition to the SBS Delivery, Cost and Customer Service Performance Matrix, and the previously developed SBS Quality Performance Matrix, the performance of each source toward advancing its products needs to be compared. This is done by preparing the third and final matrix: the SBS Product Advancement Performance Matrix. A Sample Case of Developing the SBS Product Advancement Performance Matrix for Selecting the Production Strategic Business Source Figure 2.5 shows an SBS Product Advancement Performance Matrix prepared for the automobile producer’s selection of a Strategic Business Source for producing anti-lock braking systems. The actual measured performance levels of the sources are entered, as determined by assessing the performance of each source and completing the Figure 2.2 worksheet. To compare the performance levels being achieved by the different sources under consideration, performance ratios are determined from the measured levels of performance. Again, the performance of each source is compared to that of the best-performing source in each area, by dividing the source’s performance level by the best being achieved. To illustrate this, in Figure 2.5 the annual capital investment and R&D progress being achieved by each source is divided by the highest percentage being realized. The ratio that results is then entered on the SBS Product Advancement Performance Matrix. For example, the progress being achieved by the internal source in Figure 2.5 is 97 percent, which is divided by the highest performance of 99 percent being achieved by External Source ‘‘A’’. This gives a product advancement achievement ratio of 0.98 (determined by dividing 97 percent by 99 percent). The product advancement achievement ratio of External Source ‘‘A’’ is simply 1.00, since it is the best-performing source in this area, and that of External Source ‘‘B’’ is 0.96 (95 percent progress divided by the highest level of 99 percent). The product advancement commitment ratio is determined in a similar manner for all of the sources being considered, again by dividing each source’s performance by the best level being achieved. Weighting factors also need to be assigned to the two product advancement performance criteria. As determined by the company’s business strategy, the

Figure 2.5 SBS Product Advancement Performance Matrix: Production Source Selection

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most important criterion is assigned a weight of ten, and the remaining area assigned a weighting factor relative to this highest rated criterion. As shown in Figure 2.5, the most important product advancement criterion to the sourcing company is achieving the product advancements planned, which is assigned a weight of ten. The other performance criterion, the commitments planned to advance products, is rated slightly lower in importance at nine. The SBS Product Advancement Performance Matrix can be finalized now that the performance measurements and levels being achieved by the sources have been entered, the comparison ratios developed, and the weighting factors assigned. The matrix is completed by multiplying the ratios by the weighting factors, entering the weighted scores at the bottom of the matrix, and then summing the weighted scores for each source. As shown in Figure 2.5, the product advancement achievement ratio of the internal source, 0.98, is multiplied by the weighting factor of ten for a value of 9.8, which is entered at the base of the matrix. Similarly, the weighted scores for External Sources ‘‘A’’ and ‘‘B’’ are determined to be 10.0 and 9.6, respectively (determined by multiplying 1.00 by ten for External Source ‘‘A’’, and 0.96 by ten for the External Source ‘‘B’’). These weighted scores are then summed for each source; the sum of the values for the internal source in Figure 2.5 is 18.8, determined by adding 9.0 and 9.8. The best-performing source at advancing its products, when considering both the source’s financial commitment and achievement in this criterion, is that with the highest summed weighted score. In Figure 2.5, the internal department available to produce the anti-lock braking systems, with a summed weighted score of 18.8, is performing better than both External Sources ‘‘A’’ and ‘‘B’’ in product advancements, with lower summed weighted scores of 18.7 and 18.1, respectively. At this point, three SBS Performance Matrixes have been developed covering the performance criteria of quality, delivery, cost, customer service, and product advancements. From the summed weighted scores on each matrix, the bestperforming source in each criterion has been determined. Since selecting the optimal Strategic Business Source needs to be based on the best performance levels being achieved in all five criteria, beyond just a few areas, the information compiled in the three individual matrixes needs to be combined to highlight the strongest source overall. This is done by preparing a Strategic Business Source (SBS) Balanced Performance Summation.

A Sample Case of Developing the SBS Balanced Performance Summation for Selecting the Production Strategic Business Source At the base of each of the three SBS Performance Matrixes, the performance of each source was quantified and summed. The information from the individual

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matrixes needs to be consolidated into an SBS Balanced Performance Summation to flag the best-performing source overall. Referring to Figure 2.6, the summed weighted scores from the SBS Quality Performance Matrix shown in Figure 2.3 are entered for each source: 31.3, 28.6, and 32.9 for External Sources ‘‘A’’ and ‘‘B’’ and the internal source, respectively. The values from the Figure 2.4 SBS Delivery, Cost, and Customer Service Matrix and the Figure 2.5 SBS Product Advancement Performance Matrix are also entered for each source. These values are then summed, and the highest sum highlights the best overall performing source being considered for production services. In Figure 2.6, External Source ‘‘A’’ is flagged as the bestperforming source overall. Note that in Figure 2.6, this source was actually outperformed by External Source ‘‘B’’ in delivery, cost, and customer service performance, and by the internal source in quality and product advancements. However, when all five performance criteria are considered, External Source ‘‘A’’ is achieving the best overall performance levels. In many, but not all cases, the Strategic Business Source selected by the sourcing company will simply be the best-performing source highlighted by the SBS Balanced Performance Summation. After all, this is the source that would currently provide the best overall performance, considering all of the criteria that determine the company’s competitiveness. However, before reaching the conclusion that the best-performing source at a given point in time is the best choice for the sourcing company over the long run, other immeasurable issues need to be considered. SELECTING THE STRATEGIC BUSINESS SOURCE FOR PRODUCTION SERVICES Up until this point, the guidance on developing a Strategic Business Source for production services has concentrated on assessing, measuring, and comparing the performance of sources being considered in each of the five performance criteria. The overall performance of each source was quantified and, by comparing their performance levels, the best performing source was highlighted. In addition to this quantifiable approach, there are immeasurable issues that need to be taken into account before the Strategic Business Source is selected. Considering Immeasurable Issues before Making the Strategic Business Sourcing Decision If the summed weighted score from the SBS Balanced Performance Summation for an external supplier being considered for production exceeds that of an available internal department, it may well be in the best interest of the company to select the better-performing external source. However, there are cases where it would be worth the investment to upgrade the internal department to the levels being achieved by the better-performing external supplier. This is

Figure 2.6 SBS Balanced Performance Summation: Production Source Selection

*denotes current best performing source

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particularly true when the measured overall performance of the external source is only marginally better than that of the internal source. Rather than selecting the production Strategic Business Source based solely on the highest score flagged by the SBS Balanced Performance Summation, consideration needs to be given to some important immeasurable issues. For example, if the products to be produced by the source are an extremely important component of the sourcing company’s end products, the company may want to invest the resources necessary to improve the internal department’s performance. This would permit the company to have direct control over production of products that are critical to its products and core competence. Also, if the product to be sourced by the company is a proprietary design, it again may benefit by upgrading the internal department’s performance to the best levels equivalent to external suppliers. This would place the company in an improved position to safeguard its proprietary information. Additionally, if outsourcing the work will cause labor problems which could degrade management and employee relations, and possibly hinder other company operations, again, upgrading the internal performance levels may be beneficial. Concerns expressed by labor unions regarding the use of external suppliers for production services have often hurt working relationships with management. Several well-publicized cases of how outsourcing can deteriorate management and labor relations involved the automotive industry. Primarily because of the United Auto Workers disagreements with General Motors over the use of outside production services, an agreement between the two parties over outsourcing could not be reached. As a result, the union work force of two General Motors plants that provided brake system parts went on strike. Since these plants fed parts to several other factories for assembly operations, ultimately 22 of General Motors’ 29 North American plants had to be shut down due to parts shortages. The shutdowns may well have been avoided had the union been given the opportunity to meet the overall performance levels of the external suppliers, considering performance quality, delivery, customer service, and product advancements, and not just reduced production costs. In fact, in another case involving General Motors, the labor union was given the opportunity to compete with external sources and bid to produce parts for a new car design. As an important part of the agreement, General Motors was required to base the decision on using the unionized internal department or the non-union external supplier on overall performance levels, including quality, delivery, and cost. Chrysler’s relationship with the United Auto Workers was similarly impacted due to its use of external production sources for automobile windshields. Because of Chrysler’s original intent to sell off one of its own union glass factories and purchase the windshields from non-union external suppliers, the union workers walked off the job. To settle the dispute, Chrysler agreed to upgrade the factory’s production equipment and expand its capacity to the level necessary to be competitive with the external suppliers available for windshield production. With the capital investments made to advance and improve its production proc-

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esses, Chrysler’s glass factory became competitive with external suppliers and is no longer up for sale. These case studies from General Motors and Chrysler demonstrate how important it is for the sourcing company to consider immeasurable issues before external suppliers are selected over internal departments for production services. After considering the immeasurable issues, suppose the company concludes that it is in fact in its best interest over the long-term to upgrade and retain internal departments for production, even though external suppliers may currently be performing better. In this case, a review of the SBS Performance Matrixes will flag the areas of internal performance that need to be improved. To illustrate, again refer to the Figure 2.6 SBS Balanced Performance Summation. This shows that the summed weighted score for the best-performing External Source ‘‘A’’ of 92.4 is only 3.4 weighted points better than the internal source’s weighted score of 89.0. An analysis of the SBS Balanced Performance Summation shows that the internal department was actually performing better than both external sources in the criteria of quality and product advancements. However, referring to the delivery, cost, and customer service performance of each of the sources, the weighted score for the internal source, 37.3, was 5.1 points less than the 42.4 points achieved by External Source ‘‘A’’. This indicates that the performance criteria that the internal source needs to upgrade to meet or exceed the levels of the best-performing source can be pinpointed by reviewing the Figure 2.4 SBS Delivery, Cost, and Customer Service Performance Matrix. A detailed review of this matrix shows that the internal source’s performance levels were lower than those of External Source ‘‘A’’ in three of the criteria: the cycle-time improvement trend (6 percent annual improvement as compared to 10 percent for External Source ‘‘A’’), the effective cost ($110 for the internal source as compared to $106 for the external source), and the cost improvement trend (5 percent annual cost reduction for the internal source versus 7 percent for External Source ‘‘A’’). For the company to maximize its competitiveness yet retain its own production services, the internal department would need to upgrade its performance in these three criteria, using the levels being achieved by External Source ‘‘A’’ as benchmarks for which to strive. Approaches that have been proven effective for improving production source performance to benchmark levels will be addressed in Part III. At this point in the six-step process of developing a production Strategic Business Source, the quality, delivery, cost, customer service, and product advancement performance of the various sources being considered have been assessed and measured. The levels being achieved by each source have been compared. In addition to the quantifiable issues, some appropriate immeasurable factors have been considered. The company is now positioned to choose its Strategic Business Source for production services. With the production source selected, the company then needs to monitor its chosen source, to ensure that

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performance stays at or above the level that led to its selection as the company’s Strategic Business Source. DEVELOPING THE SBS BALANCED PERFORMANCE MATRIX FOR MONITORING THE PRODUCTION STRATEGIC BUSINESS SOURCE Since the production source is selected as the company’s Strategic Business Source based on its overall performance being better than other sources that were considered, the next step is to monitor its performance. By tracking the performance of the source, the company can ensure that the source chosen for production services is performing at the expected levels: those which led to its being selected. The performance of the Strategic Business Source is monitored to compare its performance to the levels demonstrated during its original assessment as a potential source. An SBS Balanced Performance Matrix is particularly useful for this purpose. Assume that, even after considering all pertinent immeasurable issues, the sourcing company has selected External Source ‘‘A’’ as its Strategic Business Source for production services. As shown in Figure 2.7, the measurements for quality, delivery, cost, customer service, and product advancements are shown across the top of the SBS Balanced Performance Matrix. In the row just below the performance measurements, the source’s actual performance in each of these criteria is entered periodically following its selection. For example, the Strategic Business Source’s performance achieved during the first quarter of the fiscal year is shown in Figure 2.7. Below the row showing actual performance, a scale of performance levels is shown, with the top of the scale showing the planned levels. Specifically, in Figure 2.7 the scale of delivered product yield performance ranges from 91 to 96 percent, with 96 percent being the level demonstrated by the source during its assessment as a potential production source. The top of each scale shows the planned levels of performance in each of the criteria, based on the performance demonstrated by External Source ‘‘A’’ during its assessment and ultimate selection as the Strategic Business Source. These performance levels are summarized on the Figure 2.2 worksheet. The performance scale of zero to ten at the left side of the matrix allows the use of weighting factors for each performance criterion, again for the purpose of assigning greater emphasis on those that are most important to the sourcing company and its business strategy; specifically, the actual delivered product yield of the Strategic Business Source selected for production services after the first quarter of the year is 94 percent in Figure 2.7. On the zero-to-ten performance scale, this equates to a score of ‘‘6’’, which is entered at the base of the matrix. This value is then multiplied by the weighting factor of ‘‘9’’ assigned by the company to this performance criterion. This gives an actual weighted score of ‘‘54’’, which is entered at the bottom of the SBS Balanced Performance Matrix. The actual levels being achieved by the source for the other performance criteria

Figure 2.7 SBS Balanced Performance Matrix for Production Source Monitoring

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are similarly converted to scores of zero to ten, which are then multiplied by the weighting factors, and the values entered across the base of the matrix in the row of actual weighted scores. Below the row of actual weighted scores, the planned weighted scores are entered. The planned levels are based on the source performing at the levels it demonstrated during its original assessment; specifically, the performance that led to its being selected as the company’s Strategic Business Source. Since the expected performance level is shown at the top of the performance scale, and the top of the scale equates to a score of ten, the planned weighted scores for each performance area are simply ten multiplied by the individual weighting factors. The values that result are entered in the row below the actual weighted scores in Figure 2.7. The rows showing the actual and planned weighted scores are then summed, and the summed weighted scores for both actual and planned performance are entered to the right of each row. The deviation between the actual weighted scores being achieved by the Strategic Business Source and the planned levels (for the individual performance areas as well as the sum), are entered in the row below the planned weighted scores. This highlights the specific areas of the source’s performance that are lower than planned. For example, in Figure 2.7 the selected Strategic Business Source is performing below planned levels in the performance criteria of delivered product yield and cost improvement trend. Overall, the source’s actual performance is 96 weighted points below the level which led to its selection. The method used to improve the source’s performance, premised on analyzing and improving the processes in use by the source which are impeding performance, will be detailed in Part III. To summarize the approach to developing a Strategic Business Source for production services, there are six steps involved. First, the products of each source, in this case for production services, are defined. The appropriate performance measurements for the source’s products, covering the criteria of quality, delivery, cost, customer service, and product advancements, are then determined. The performance levels of the internal and external sources being considered for production services are then assessed. SBS Performance Matrixes for potential internal and external sources are then developed, compiling and comparing the measured performance levels in the five criteria. The SBS Performance Matrixes allow the performance being achieved by sources under consideration to be easily compared to ensure the optimal source is chosen. The SBS Performance Matrixes are then evaluated and, after considering other immeasurable issues, the sourcing decision is made and the optimal Strategic Business Source is selected. Once the selection is made, the final step in developing the optimal production Strategic Business Source is preparing an SBS Balanced Performance Matrix. This performance measurement matrix is used to monitor and further improve the overall performance of the selected Strategic Business Source in all performance criteria.

CHAPTER 3

Developing the Strategic Business Source for Research and Development Services

The first chapter covered developing a Strategic Business Source for production services. The production function is the most common area for which companies search for improved sources. However, companies are increasingly looking for improved sources for research and development (R&D). Consider Chrysler as an example. Chrysler expects its supplier base to be active and effective in performing R&D. In fact, Chrysler views its suppliers as long-term partners. Its Chief Executive Officer has stated that its supplier base is expected to perform ongoing R&D, and technical innovation and product advancements are essential. Compaq similarly views its supplier base, again with the expectation that effective research and development is pursued by them. Furthermore, Compaq develops alliances with its suppliers to benefit from their technical expertise. For example, Compaq is working with Fisher-Price of Mattel Incorporated to produce personal computer auxiliaries for small children, the expertise for which Compaq depends on Mattel. The same six steps from the previous chapter addressing sources for production apply to developing a Strategic Business Source for R&D. This chapter addresses these six steps, as applied to sources for R&D. Again, the products of the source will first be defined, in this case the R&D services, and then the performance measurements used to evaluate the sources will be determined. The performance measures will again cover the criteria of quality, delivery, cost, customer service, and product advancements. The performance levels of the internal and external sources being considered for R&D services will then be assessed. The next step will be to develop the Strategic Business Source (SBS) Performance Matrixes to evaluate the potential R&D sources, compiling and comparing the measured levels of performance in all of the important criteria. The next step will be assessing the SBS Performance Matrixes and, after con-

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sidering other immeasurable issues, selecting the optimal Strategic Business Source for R&D services. With the Strategic Business Source selected, the final step in the process is preparing the SBS Balanced Performance Matrix, used to initially monitor, and ultimately improve the overall performance of the chosen source. DEFINING THE PRODUCTS OF RESEARCH AND DEVELOPMENT SOURCES The products and services of each potential Strategic Business Source for R&D services need to first be defined. In the prior chapter addressing production sources, the product was simply the delivered products produced by the sources. For R&D sources, the product is the successfully completed research and development program, which generally consists of four major phases. In the first phase, research is performed, product design concepts are generated, and the detailed product configuration is determined. In the next phase, product prototypes are manufactured representing the product design configuration determined in the prior phase. Next, the prototypes are tested to confirm that the design complies with the R&D project objectives, as detailed by the sourcing company’s specifications. In the final phase, the source performing the R&D documents the details necessary to produce the final product design, by preparing and submitting the final production specifications to the sourcing company. These production specifications are then used by the company to produce the products for the customer base. For production sources, the performance levels measured in the criteria of quality, delivery, cost, customer service, and product advancements were applied to the products being produced by the sources. These same criteria can be applied to sources providing R&D services. Specifically, the criteria are applied to the final production specifications released by the R&D source for use by the sourcing company. For example, where the quality of the production source was measured as the delivered product yield percentage, the quality of the R&D source will be measured as the percentage of successful R&D projects completed. Where the delivery performance of the production source was measured as the on-time delivery percentage, the R&D sources will be measured as the percent that they complete R&D projects on time. Where the effective cost per product produced by the production source was measured, the effective cost of the R&D project will be considered when evaluating potential R&D sources. Where customer service criteria were developed and performance was measured for production sources, an assessment of customer service levels for R&D services will be performed. A Sample Case of Defining the Products of Research and Development Sources To clarify the approach to developing sources for R&D services, a sample case will be used after each of the major steps to developing a Strategic Business

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Source. Assume a producer of computers is considering three potential sources for an R&D project to improve the visual resolution of monitors: one internal department and two external suppliers of R&D services, termed External Sources ‘‘A’’ and ‘‘B’’. The source selected will be contracted to complete a full R&D program to improve the monitor’s visual resolution to the level defined by specifications supplied by the computer producer. The source will be responsible for performing the technical research and design development effort, producing and testing a prototype of the new monitors to simulate ten years of consumer use, and releasing the final production specifications to the computer producer for producing the monitors. The products of the R&D sources in this example would be the successful completion of the entire R&D program, culminating in the submittal of production specifications detailing a product that meets all design objectives, including improved resolution. The performance measurements, which will be addressed in the next section, will quantify the source’s performance in successfully completing the R&D program and preparing the specifications. With the products of the potential sources for R&D services defined, the first step in developing the Strategic Business Source has been completed. Performance measurements can now be developed to assess the performance levels of these potential sources. The next step to establishing a Strategic Business Source is to define the measurements used to assess the various R&D source’s performance levels in the five criteria. DETERMINING THE PERFORMANCE MEASUREMENTS FOR RESEARCH AND DEVELOPMENT SOURCES To develop the Strategic Business Sources for R&D, the specific performance measurements used to assess the potential sources need to be defined. The same five criteria successfully used by corporations to monitor and improve the performance of Strategic Business Units will be applied to select the Strategic Business Source. The source’s current levels of performance in these five criteria need to be assessed and quantified. However, it is equally critical that long-range trends of performance be considered, since the selected Strategic Business Source will be used by the sourcing company over the long term. For this reason, the measured level of current performance needs to be supplemented by quantifying the source’s performance trend over a long-range period. With both current and long-range performance levels of potential R&D sources considered for internal and external sources, the best source can be selected as the company’s Strategic Business Source. As with the production sources addressed in the previous chapter, the guidance on developing performance measurements for R&D sources applies equally to internal sources such as the company’s own R&D departments, and to external sources such as suppliers of these services. In a later step in the process of

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developing a Strategic Business Source, the performance levels of internal and external sources will be assessed and compared using these measurements, so it is important that the same measures be used for all R&D sources being considered. Determining the Quality Performance Measurements The competitiveness of the company will largely be impacted by the success of its source for R&D services. If R&D projects are not successfully completed, the sourcing company’s product development objectives will not be supported. As a result, new products will not be made available to the marketplace when planned, and the competitiveness of the company will be impeded, resulting in fewer sales. To address this, the quality performance of potential R&D sources needs to be measured, assessed, and compared before the Strategic Business Source is selected. The quality performance of R&D sources can be measured in a manner similar to that used for production sources. Quality, in the case of R&D sources, will be defined as the ability to meet the sourcing company’s R&D objectives as defined by its R&D specifications. The quality performance measurements will need to define both current levels of quality being achieved by potential sources, as well as the source’s quality improvement trend. First, the source’s R&D project yield needs to be quantified. Specifically, of the total quantity of R&D objectives pursued for the customers, the yield is the percentage in full compliance with the company’s objectives, as defined by its specifications. The closer the delivered R&D project yield is to 100 percent, the better the R&D source is performing. The yield should be viewed as a percentage of the total R&D project objectives that the source attempted to meet, to consider the volume of projects handled by the source. It is important to distinguish between a given source meeting 95 out of the last 100 objectives, and another source successfully completing 95 of the last 200 attempted. In addition to monitoring the source’s delivered R&D project yield, which shows how the source is performing at a given point in time, the source’s quality improvement trend needs to be addressed. A measure of how the source’s R&D project yield levels are improving or degrading over the long term is as important as its current performance. As an example, suppose one source has a historic delivered R&D project yield of 95 percent, and has reduced its rate of failed objectives by 20 percent over the past two-year period, from ten missed objectives down to eight. A second source under consideration may have a higher R&D project yield of 98 percent, but assume this source’s reject rate has increased by 10 percent, from ten to eleven missed objectives, over the past two years. In this example, the first source with a current project yield of 95 percent may be the better choice for a Strategic Business Source over the long range, because of the better-delivered R&D project yield improvement trend. The quality measurement of delivered R&D project yield for sources is based

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on the source detecting its own R&D project failures, prior to forwarding the resulting production specifications to the sourcing company. However, not all R&D project errors will be detected by sources before the specifications are provided to the sourcing company for production of the newly designed products. For this reason, the delivered project R&D yield and yield improvement trend measures need to be supplemented with additional performance measurements. These additional measures will address the quality of the final production specifications submitted by the source at the conclusion of the R&D project. A measurement which defines the accuracy of the production specifications (including production bills of materials, drawings, and processing requirements), released by the R&D sources to the company, is needed. Specifically, the percentage of specifications that require revisions after being put into use by the company to correct design errors has to be quantified. If, during production of the newly designed products by the sourcing company, design errors in the production specifications released by the R&D source are uncovered, unplanned delays and expense will result. Delivery of the end products to the sourcing company’s customers will be delayed to correct the problems. Additional expense needed to rework or replace defective products caused by specification errors, if not recovered from the R&D source, will reduce the company’s profits. For example, a source that provides 99 out of 100 specifications to its customers free of errors (a production specification accuracy of 99 percent) will cause the company fewer delays and less expense than a source with an accuracy of 95 percent (where 5 out of every 100 specifications require revisions). Also, similar to the delivered R&D project yield improvement trend, the trend of R&D sources toward improving production specification accuracy needs to be measured. A measurement of the percent reduction to rejected specifications will accomplish this. This measure will give an indication of whether the potential R&D source is improving the accuracy of the production specifications it releases to its customers. For example, a source may have improved its production specification accuracy, reducing the percentage rejected by 10 percent over the prior three years (from an average of ten specification errors down to nine). Another potential source may have improved by only 5 percentage points, from an average of 20 rejected down to 19, over the same time period. Over the long run, the R&D source with the higher improvement trend will provide more accurate specifications for the company’s use in producing the newly designed products. In addition to quantifying the accuracy of production specifications delivered by R&D sources to their customers, a measurement of warranty expenses incurred by companies employing the sources is needed. This is because not all production specification errors will be detected by the source’s customers before expenses are incurred during production processes. In some cases, the specification error, and the product design flaw that results, will go undetected until after the product is shipped to the customers. For example, suppose that the sourcing company purchases castings per the R&D source’s production speci-

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fications, and after most finish machining is done, it is discovered that there is insufficient casting stock to allow the remaining machining to be completed. In this case, the casting drawing released by the R&D source was in error by not defining the configuration needed to achieve the final machined configuration. At the point in time that this error was uncovered, the company incurred the expense of purchasing the castings and completing most of the machining (and also the associated delivery delays), only to have to scrap these products. The quality performance measurement that is needed to address this situation is the R&D source’s warranty expense levels, measured as a percentage of its sales. This measure will give an indication of the expense the R&D source’s customers can expect to incur due to production specification errors. For example, a source that reimburses its customers one dollar for every 1,000 dollars of completed R&D projects to settle warranty claims made by its customers due to specification errors would have a quality performance measurement of 0.1 percent. This measurement gives an indication of the quality of specifications that the company can expect from each of the R&D sources being considered. However, this is only indicating how the source is performing at a given point in time. A measurement of each source’s trend toward reducing its warranty expense is needed to address its long-range performance. Specifically, a performance measurement of the percentage that the source’s warranty expense (again expressed as a percentage of sales) is being reduced over a long-term period needs to be defined. For example, assume a source for R&D services has reduced its warranty expense as a percent of sales from 4 to 2 percent over the last two-year period. This would be expressed as a warranty improvement trend measurement of 25 percent per year (based on the 50 percent reduction from 4 to 2 percent, divided by the two-year period). Summarizing the quality performance measurements for sources of R&D sources, six are needed to categorize a given source’s performance and support selecting the optimal Strategic Business Source. The delivered R&D project yield percentage, as well as the project yield improvement trend, need to be quantified for each R&D source being considered by the company. Also, the accuracy of the production specifications released by R&D sources needs to be measured, as the percentage that do not require revisions after being put into use. Additionally, the percentage improvement to production specification accuracy needs to be measured. Finally, the warranty expense, as a percentage of the R&D source’s sales, needs to be defined, as well as the percent reduction to warranty expense being achieved over the long term. Determining the Delivery Performance Measurements The ability of the Strategic Business Source selected to perform R&D services to successfully complete R&D projects on time is critical to the sourcing company’s competitiveness and profitability. If the selected source does not successfully complete its R&D efforts consistently on time, the sourcing company

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will likely be late in producing and delivering the newly designed products to its customers. Because of the company’s delays in delivering the new products to the customer base, competitiveness, market share, and profit levels will be degraded. To avoid this situation, two delivery performance measurements are needed. One measure that addresses this concern is based on the source’s on-time completion of R&D projects. Specifically, the delivery performance measurement is simply the percentage of the total R&D projects successfully completed by the source by the contractual commitment date made to the sourcing company. A source may monitor its performance against two targeted project completion dates, one being the contractual commitment made to the customer and the other being an internal date determined through its internal planning. For the purpose of developing a Strategic Business Source for R&D services, the delivery performance measurement is the on-time project completion percentage based on the contract completion date required by the sourcing company, regardless of the source’s internal scheduling. Because of competitive pressures and the need to rapidly introduce new and innovative products to the customer base, companies are continually being challenged to reduce concept-to-market cycle times for new products. A large portion of the company’s overall new product cycle time is the time span necessary to complete R&D projects, determined by the cycle time required of its R&D source. To account for this when developing a Strategic Business Source for R&D services, a second delivery performance measurement is needed. Specifically, the success of the source in continually reducing R&D project cycle times needs to be measured and the annual percent reduction to cycle times determined for the source being considered. Suppose a potential R&D source updated its prototype manufacturing facilities, adding state-of-the-art flexibility features which reduced its average R&D project cycle times by 10 percent, from 50 to 45 weeks, over the last two-year period. This equates to an annual R&D project cycle-time improvement trend of 5 percent (based on the 10 percent reduction realized over a two-year period). Summarizing the delivery performance measurements required for selecting a Strategic Business Source for R&D, two are necessary. The on-time R&D project completion percentage needs to be determined, based on the percentage of the total quantity of projects completed in support of the completion dates required by the source’s customers. Also, the R&D project cycle-time improvement trend needs to be characterized, as the annual percent reduction to R&D project cycle times. Determining the Cost Performance Measurements In addition to the competitive pressures placed on companies to improve product quality and delivery performance, internal costs and prices passed on to the

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customers must also be continually reduced. The total expense of R&D projects is a large portion of the cost incurred by companies in developing and producing their products. Because of this, the cost competitiveness of sources being considered for R&D services needs to be determined and quantified before a Strategic Business Source can be selected. Two cost performance measurements need to be developed to support this objective. The first performance measurement for cost will cover the source’s current cost competitiveness. To assess the source’s long-term cost competitiveness, the second cost performance measurement will define the source’s trend toward reducing its costs, and ultimately the prices passed on to the sourcing company. For internal sources of R&D services, such as the company’s own R&D department, the cost performance measurement would be the company’s effective cost incurred to successfully complete R&D projects. The effective cost would include the direct expense incurred to perform the R&D, establish new product designs, manufacture and test prototypes, and deliver the specifications detailing how to produce the end products. These elements of expense will generally appear on the company’s profit and loss statement as the R&D portion of operating expenses. However, for the purposes of selecting and developing a Strategic Business Source for R&D services, this figure has to be converted into an effective cost. The effective cost is determined by adding the expenses incurred by the company through performing the R&D internally. Specifically, any warranty expense incurred by the company to settle complaints made by the customers due to R&D errors, for example, design deficiencies, needs to be added to the expense directly incurred in performing R&D. Since the R&D effort is being performed by an internal department under this scenario, without involving an external supplier, none of the warranty expense is recoverable from outside sources. The company will incur both the direct R&D expense and the expense incurred to settle warranty claims made by the customers. Companies can easily determine their historic warranty expense incurred due to R&D errors, often viewed as a percentage of sales. Assume a company incurs warranty expense due to product design errors that are 4 percent of its sales levels, and that of this 4 percent, 2 percent is caused by R&D errors (and the remainder of the expense attributable to production or other errors). For an internal R&D cost per hour of $1,000, the effective cost would be 2 percent higher, or $1,002 per hour, to cover the expense needed to settle warranty claims that history indicates that the company will incur. By making this adjustment to R&D expense and determining the effective cost for R&D performed by internal departments, a direct comparison with the pricing levels quoted by external suppliers can be made. However, the price quoted by external suppliers of R&D services also has to be adjusted for this comparison to be valid. Specifically, just as the company predicts the warranty expense needed to resolve customers’ complaints made when poor quality products are delivered,

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so do the external suppliers of R&D services. For an external R&D source, however, the warranty expense being incurred is returned to the source’s customers: that is, the company doing the sourcing. To account for this reimbursement, the price per hour for R&D quoted by the external source needs to be reduced by the percentage of sales it normally incurs to settle warranty claims made due to R&D errors. Suppose an external supplier quotes completing an R&D project for $1,500 per hour, and the supplier historically incurs warranty expenses of 1 percent of sales caused by product design deficiencies. This means the sourcing company’s effective cost would be $1,485 per hour; the supplier’s quoted price less 1 percent, since the sourcing company can expect to recover $15 (1 percent of the source’s price) at some point in the future to settle warranty claims. By adjusting the hourly cost of internal departments and the hourly price quoted by external suppliers of R&D services, the effective costs are directly comparable and can be used as performance measurements for current costs. The long-term trend of the sources toward reducing the effective costs needs to also be determined and considered before the Strategic Business Source for R&D is selected. The performance measurement for the long-range cost competitiveness of R&D sources is simply the annual percentage reduction to effective costs passed on to their customers. For example, assume a source’s effective cost for R&D projects, whether the internal department’s adjusted cost or an external supplier’s adjusted price, has been reduced by 4 percent over the past two years. The cost improvement trend measurement would be a 2 percent annual reduction to costs incurred by its customers (based on the 4 percent reduction, realized over a twoyear period). To summarize the performance measurements for cost, the effective cost of available sources needs to be determined. For an internal R&D source, the effective cost is the internal expense incurred in completing the R&D project, plus the additional cost associated with settling any warranty claims made after the products are delivered to the customers. This additional cost is estimated based on the history of warranty expense, as a percentage of sales volumes, incurred to settle claims for products with design flaws delivered to the customer base. For external sources of R&D services, the effective cost is the price quoted for a given project, less the amount the sourcing company can expect to recover from the source to resolve warranty claims. This amount is estimated based on the external source’s historic warranty expense, again as a percentage of its sales. With the adjustments made to the internal costs and external prices for completing R&D projects, and the effective costs determined, the figures can be directly compared. In addition to comparing the effective costs of sources being considered, the trend toward improving these effective costs needs to quantified. This would be measured as the source’s annual percent reduction to the effective costs, based on performance over several years.

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Determining the Customer Service Performance Measurement The performance measurements previously addressed the areas of quality, delivery, and cost of the R&D projects completed by sources, all of which are very important to the sourcing company. Additionally, the levels of customer service provided by the R&D sources being considered by the company need to be considered before the Strategic Business Source can be selected. The criteria used to assess an R&D source’s customer service levels will vary widely from company to company, depending on their needs and expectations. For this reason, guidelines for an assessment of sources providing R&D services need to be developed by the sourcing company, such that its unique needs for customer service are addressed. These guidelines need to be used consistently to assess the various R&D sources under consideration, so that the results are directly comparable. Figure 3.1 shows a representative customer service assessment, with the criteria defined for each of the four general phases of R&D projects. For each of the customer service criteria being assessed, the performance being achieved by the source is rated on a scale of one to ten. For example, if the source deploys an effective concurrent system for R&D projects, a rating of 9.7 may be assigned as shown in Figure 3.1. At the completion of the customer service assessment, the average assessment score is calculated, and serves as the performance measurement for this criterion. For example, in Figure 3.1 the performance measurement is 9.3, the average of the individual ratings assigned by the sourcing company to the various customer service criteria covered by the guidelines.

Determining the Product Advancement Performance Measurements The performance measurements previously addressed dealt with the R&D source’s ability to provide high-quality products, consistently delivered on time and at a competitive price, while providing strong customer service. Since the decision to select a Strategic Business Source is based on the long-term benefits to the company, the source’s ability to advance its products (in this case its R&D capabilities and services) also needs to be assessed and considered when selecting the R&D Strategic Business Source. For example, a source of R&D services may, through its capital investment plans, install state-of-the-art prototype manufacturing equipment. As another example, a given source may be adding new R&D services, such as finite element analysis, by adding a new stress analyst to its organization. Similar to the customer service assessment guidelines, which are customized to suit the needs of the company, an assessment of product advancement activities of R&D sources should be performed with the needs of the company at the forefront. This is accomplished by measuring the source’s financial commitment

Figure 3.1 SBS Customer Service Assessment Guidelines for Sources of Research and Development Services

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to advancing its R&D services that would benefit the sourcing company, and then quantifying its historic progress in actually achieving its commitments. Specifically, the capital investment plans of the sources need to be evaluated. Typically, capital investment plans will cover the source’s entire operations, and address planned commitments for the next several years. The performance measurement for the R&D source’s commitment to product advancements would be the annual budget committed to the areas of its operations that would benefit the company. For example, this could be plans for adding new test facilities that would be used to complete the sourcing company’s R&D projects. Anytime budgets are being reduced, the source’s capital investments are likely to be cut. For this reason, the source’s performance in actually following through on its planned commitments needs to be assessed. Specifically, the source’s historic progress in executing its capital investment plans needs to be quantified, as a percentage of the planned expense actually invested in the intended time frame. For example, if the company planned to invest $500,000 on advancing its R&D services in the past twelve-month period, but only invested $450,000, the source’s percent progress would be 90 percent ($450,000 divided by $500,000). A Sample Case of Determining the Performance Measurements for Research and Development Sources The previous sample case of a computer producer considering new sources for an R&D project for its monitors, one internal R&D department and two external suppliers ‘‘A’’ and ‘‘B’’, will be used to demonstrate how the performance measures are determined. Figure 3.2 shows a summary of the performance measurements that were previously defined to quantify the performance of the three sources being considered. This figure, in addition to defining the quality, delivery, cost, customer service, and product advancement performance measurements, is also used as a worksheet as the three sources under consideration are assessed and their individual performance levels are determined. The italicized entries are generated during the assessments of the source, which will be covered in the next section. Quality performance of each source will be measured as the delivered R&D project yield percentage. The annual percent improvement to delivered R&D project yield, viewed as the percent reduction to rejections, will also be used as a quality performance measurement. The quality of the R&D sources will also be measured by their percentage of production specification accuracy, as well as the associated improvement trend of percent reduction to production specifications rejected by customers due to errors. Quality is also measured as the warranty expense as a percentage of the sales levels of each potential R&D source. The annual percentage reduction to this warranty expense measurement will also be used to assess the quality levels of each source. Delivery performance for each of the three sources will be measured as the

Figure 3.2 SBS Performance Measurements and Assessment Worksheet: Research and Development Source Performance Measurements and Assessment Results

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on-time R&D project completion percentage. This will give the sourcing company an indication of the current delivery performance it can expect from each source. In addition, delivery performance for each source being considered will also be measured as the percent reduction to cycle times, for R&D projects comparable to those that would be performed for the sourcing company. The effective cost of each of the three sources will also be determined. The effective cost for the internal R&D department is the internal costs incurred to complete the R&D project plus the additional historic expense incurred to settle warranty claims made due to customers’ receiving products with design flaws. The effective cost of the two external sources would be their quoted prices, less the historic expense that each reimburses its customers to resolve warranty issues due to its delivering production specifications with design deficiencies. Customer service for each source, both internal and external, will be determined and measured by performing a customer service assessment, such as that shown in Figure 3.1. The customer service measurement is simply the average assessment score for each of the three sources being considered by the computer producer for its monitor R&D project. The commitment and success of each source being considered toward achieving its products, in this case R&D capabilities, will be measured. Specifically, the portion of the source’s planned capital investment expense which will advance R&D capabilities that would benefit the sourcing company will be determined to define the commitment of each source in this area. The progress in achieving capital investment plans will be determined for each source, as the percentage of progress historically achieved as planned. At this stage in developing a Strategic Business Source for R&D, the products of the sources have been defined. The appropriate performance measurements for quality, delivery, cost, customer service, and product advancements have been determined. With these steps completed, the company searching for new R&D sources can then proceed with assessing each source under consideration and quantifying the performance of each in the five criteria.

ASSESSING THE PERFORMANCE OF RESEARCH AND DEVELOPMENT SOURCES The next step in developing a Strategic Business Source for R&D services is to assess the performance of the sources being considered. This requires on-site visits to external suppliers, and a review of the performance levels of the internal department. The assessment of R&D sources is very similar to that performed for production sources, involving much of the same documentation. The guidance in this section applies equally to assessments of both internal and external sources. Since the performance data gathered during the assessment will be compared in a later step, the assessments of all the sources need to be performed consistently. For this reason, the same representatives of the sourcing company

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should be used to assess all of the R&D sources being considered, so that comparable results are obtained. Assessing the Quality Performance of Research and Development Sources To determine the quality performance levels of R&D sources, the source being assessed should first be requested to directly supply the information. Performance levels in terms of the measurements previously defined and summarized in Figure 3.2 are commonly available from internal departments and external suppliers. Since both the internal and external sources would benefit from the increased workload should they be selected as the company’s Strategic Business Source, the information reported needs to be independently verified by the company doing the sourcing. A source being considered may report a delivered R&D project yield of 95 percent and the yield improvement as an annual reduction to the reject rate of 50 percent. To verify this, a review of the source’s documentation detailing R&D project objectives defined by its customers, in comparison to the actual results obtained by the end of the projects, needs to be performed. From these records, the quantity of project objectives pursued by the source, and the quantity meeting the customers’ R&D specifications, can be determined to validate the performance levels reported by the source. Whenever possible, the source’s information reviewed by the company should pertain to the particular areas of its R&D capabilities that would be used for its projects. For example, if 190 of the last 200 R&D objectives were met by the source, the reported delivered R&D project yield of 95 percent is valid (based on 190 successfully achieved divided by the 200 pursued, multiplied by 100 equaling 95 percent). If the delivered project yield had improved from 90 percent one year earlier, or 10 percent of the R&D objectives not being met, to the current level of 95 percent, the source’s claim of a 50 percent annual improvement is confirmed (based on reducing the reject rate by 50 percent, from 10 to 5 percent, in one year). Similar to the delivered R&D project yield and the corresponding yield improvement trend, the percentage of accurate production specifications and the associated improvement trend need to be determined. For example, if 97 out of 100 specifications are submitted to their customers free of errors, the accuracy percentage is 97 percent. If the accuracy percentage had improved from 95 to 97 percent over the past two years, with specifications requiring revisions to correct errors reduced from 5 to 3 percent, the annual improvement trend is 20 percent (based on the 40 percent reduction, from 5 to the current level of 3 percent, achieved over a two-year period). The source’s warranty expense as a percentage of sales, as well as the warranty improvement trend, can again be determined by first requesting the R&D source to provide the information, and then by independently verifying the fig-

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ures. The source’s financial databases would contain the information needed to verify these figures, since the measures are expense-based. Both warranty expense and sales volumes are entries on a typical profit and loss statement: the information needed to determine warranty expense as a percentage of sales. For the prior year, the quality measurement of warranty as a percentage of sales can be determined by dividing the warranty expense by the sales dollars, as defined by the company’s profit and loss statement, for the same time period. For example, if the warranty expense is $100,000 for sales of $5,000,000, the quality performance measurement would be 2 percent ($100,000 divided by $5,000,000, multiplied by 100 equaling 2 percent). The warranty improvement trend can be determined by reviewing these same figures over several years. If, for example, warranty expense as a percentage of sales was reduced from 4 to 2 percent over the past five-year period, then the warranty improvement trend would be 10 percent annually (4 percent down to 2 percent being a 50 percent reduction, divided by the five-year period giving an annual rate of 10 percent). Assessing the Delivery Performance of Research and Development Sources Delivery performance of the R&D sources under consideration can also be determined by requesting the source to first provide the information, and then independently verifying its accuracy. Specifically, by reviewing a sampling of purchase orders awarded to external suppliers of R&D services, and internal planning schedules for the company’s own departments, the targeted completion dates for the projects can be determined. By reviewing the source’s R&D project status documentation showing the actual completion dates for these projects, the delivery performance against the scheduled dates can be determined. Assume an external source reports an on-time R&D project completion of 96 percent. This can be verified by comparing the customer-defined purchase order project completion dates to documentation showing the actual completion dates. If, for example, purchase orders and project status documentation indicate that the source completed 48 of its last 50 R&D projects on or before the date contractually required by the customers, the reported 96 percent on-time performance is accurate (based on 48 projects completed on time, divided by the total of 50, multiplied by 100 equaling 96 percent). The delivery performance measurement of cycle-time improvement reported by the source can also be verified by reviewing the purchase orders awarded to the source from its customers. The history of cycle times (the time span from the date the purchase order was awarded to the contractual project completion date) for R&D projects similar to what would be performed for the company will determine the cycle-time improvement trend. Assume the source reported a 5 percent annual reduction to project cycle times. Suppose purchase orders for R&D projects from two years ago show cycle times of 40 weeks, and similar projects are currently being completed in 36 weeks. The source’s cycle-time

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improvement trend would be verified as 5 percent annually (based on 40 to 36 weeks being a 10 percent reduction, divided by the two-year period). Assessing the Cost Performance Levels of Research and Development Sources For external sources of R&D services, the cost performance measurement would be their effective hourly cost quoted to perform projects. The effective cost would be determined from the external source’s quoted price for the R&D project, and its historic expense incurred reimbursing customers to settle warranty claims. The price quoted by the source would be included in its proposal to the sourcing company. The effective cost would be determined by subtracting the warranty expense as a percentage of sales, which was previously determined as a quality performance measurement. For example, if the source quotes a price of $500 per hour to perform a project, and the historic warranty expense as a percentage of sales is 2 percent, the effective cost to the company would be $490 per hour (based on $500 less 2 percent equaling $490). The adjustment to the quoted hourly price is appropriate since the company can expect to recover the 2 percent over time, as the R&D source settles its warranty claims. For internal sources, the effective cost for the R&D project would be its normal internal cost planned for the R&D effort, plus the warranty expense incurred to resolve customers’ complaints made due to receiving products with design flaws. To clarify this, assume the internal planned cost is $450 per hour, and the warranty expense historically incurred to settle customer complaints due to R&D project errors is 10 percent of sales. The effective cost for the internal source would be $495 per hour (based on $450 plus 10 percent equaling $495). Note that although the external source’s hourly price for performing the R&D project was higher than the planned internal R&D project cost, the effective cost of the external source was actually slightly less: $490 as compared to $495 per hour for the internal source, once adjustments for warranty expenses are made. The cost improvement trend is determined from the historic effective costs of internal and external sources. Specifically, assume an external source reports a 6 percent annual reduction to its price per hour quoted for R&D projects. The sourcing company needs to review historic data to define the source’s effective costs, taking into consideration warranty expenses reimbursed to its customers to determine its effective hourly cost. For example, if an hourly price of $250 per hour is quoted by an external R&D source, but the source’s warranty expense as a percentage of sales is 2 percent, the effective cost per hour is $245 ($250 less the 2 percent equaling $245). For an internal source, the planned cost per hour would be increased by the warranty expense as a percentage of sales. Documentation showing R&D project hourly prices quoted by the source over the years and financial records showing historic expense incurred by the source to resolve warranty claims made by its customers would be reviewed to determined the cost improvement trend. If, for example, records indicate that over a

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two-year period a given source’s effective price per hour has been reduced by 12 percent, the annual cost improvement trend would in fact be the 6 percent reported (based on 12 percent reduction divided by the two-year period). Assessing the Customer Service Performance of Research and Development Sources In the previous section addressing performance measurements for customer service, guidelines for assessing the customer service levels of R&D sources were developed. Typical customer service assessment guidelines are shown in Figure 3.1. The company doing the sourcing needs to assess the sources being considered using these guidelines to quantify the customer service performance measurement. For each of the criteria defined by the assessment guidelines, the source’s performance levels would be rated using a scale of one to ten. For example, for the Figure 3.1 criteria of R&D prototype production flexibility, the source assessed has sophisticated prototyping capabilities and is assigned a rating of 9.6. Once all of the criteria are similarly rated for a given source, the average of the ratings would be determined and used as the customer service performance measurement. Assessing the Product Advancement Performance of Research and Development Sources The performance measurements defined for product advancement addressed the financial commitment made by R&D sources to improving their products: specifically, R&D capabilities, as well as their progress in achieving their plans in this area. Again, the source should initially provide the information, advising the sourcing company performing the assessment of its capital investment budget, as well as its historic percent achievement of its planned advancements. Again, the source’s reported figures would need to be verified by the sourcing company, by reviewing the source’s capital investment plan documentation showing the financial commitments planned, and the percent progress historically being achieved over the years. Assume a source reports that the annual capital investment plan is budgeted at $750,000. This can be verified by reviewing the capital investment plan documentation. For the purposes of assessing a potential Strategic Business Source for R&D services, only the expense that will be applied to advancing the products that will benefit the company should be considered. Portions of the budget to upgrade the source’s R&D capabilities that will not benefit the company should be subtracted from the budget so that an accurate measure of the source’s commitment to advancing its products is determined. Of the source’s reported annual $750,000 budget, assume $250,000 is targeted for expanding the source’s thermal analysis capabilities, which would not be of any benefit in completing the sourcing company’s R&D projects. The effective budget is then actually

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$500,000; the amount that is dedicated to advancing R&D services that will benefit the company (based on the $750,000 total budget, less the $250,000 equaling $500,000). Also, suppose the source reports that historically 96 percent of its capital investment plans are successfully completed. This also needs to be assessed and verified by reviewing documentation. If records from the prior year indicate that a commitment of $500,000 was planned going into the year for capital investments to improve R&D capabilities, but by the conclusion of the year $480,000 was actually invested as planned, the percent progress reported would be verified as 96 percent (based on the $480,000 actually invested, divided by $500,000 planned for the year, multiplied by 100 equaling 96 percent). A Sample Case of Assessing the Performance of Research and Development Sources The sample case of a computer producer considering three sources for an R&D project to design monitors with improved visual resolution will be used to demonstrate how the sources are assessed. The Figure 3.2 SBS Performance Measurements and Assessment Worksheet summarizes the measures that would be used to assess the internal source and the two external sources, ‘‘A’’ and ‘‘B’’, being considered by the computer producer. External Source ‘‘A’’ reported that 98 percent of the R&D objectives defined by its customers’ specifications are being met. The sourcing company’s assessment personnel, after reviewing the appropriate records described above, concluded that of the last 200 objectives pursued during R&D projects completed by External Source ‘‘A’’, only four did not meet the goals defined in their customers’ specifications. From this information, the computer producer can conclude that the delivered R&D project yield rate that it can expect is, in fact, 98 percent as reported by the source (based on 196 objectives successfully accomplished divided by 200 attempted, multiplied by 100 equaling 98 percent). This quality performance measurement is entered on the Figure 3.2 SBS Performance Measurements and Assessment Worksheet as the delivered R&D project yield for External Source ‘‘A’’. A review of past records indicates that the delivered R&D project yield had improved by 70 percent over the prior two years, from 13.5 percent of the R&D objectives not achieved to the present level of 4 percent, or 35 percent over each of the two years. This figure is entered on the Figure 3.2 worksheet as the delivered R&D project yield improvement trend for External Source ‘‘A’’. The source’s production specification accuracy is determined to be 95 percent, with only 5 percent rejected by customers due to errors. The production specification accuracy improvement trend is 15 percent annually, based on a 45 percent reduction in rejects over the past three years: from 9.1 percent to the present level of 5 percent. The source’s annual warranty expense for R&D projects was determined by reviewing financial documentation to be $56,000 for total sales of $2,000,000, or 2.8 percent of sales. This figure is

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entered on the Figure 3.2 worksheet as the warranty expense. The warranty expense as a percentage of sales two years prior was found to be 5.1 percent and, when compared to the current level of 2.8 percent, represents a 30 percent reduction to warranty as a percentage of sales. This gives an annual improvement of 15 percent (based on the 30 percent reduction realized over a two-year period), which is shown on the worksheet as the warranty improvement trend. The sourcing company’s assessment personnel confirmed, by reviewing the appropriate documentation, that External Source ‘‘A’’ successfully completed 186 of the last 200 R&D projects for its customers by the purchase order– specified contract date. This gives an on-time R&D project completion percentage of 93 percent (based on 186 completed on time divided by the total of 200, multiplied by 100 equaling 93 percent), as entered on Figure 3.2. The cycle times for these R&D projects was determined by reviewing documentation to have been reduced from 44 weeks three years ago to their present time span of 32 weeks. This is roughly a 27 percent reduction over three years, or an annual improvement of 9 percent as entered on the Figure 3.2 worksheet. External Source ‘‘A’’ quoted a price of $273 per hour to the sourcing company to complete the computer monitor R&D project. Reducing the quoted hourly price by the 2.8 percent warranty expense as a percentage of sales previously verified (which over time will be reimbursed to the sourcing company) gives an effective cost of $265 per hour. This value is entered on the Figure 3.2 worksheet. External Source ‘‘A’’ has reduced its effective hourly R&D costs (its quoted prices less its warranty expense as a percentage of sales) by 18 percent over the past two years; from $323 down to the current $265 per hour. The annual reduction of 9 percent is entered on the Figure 3.2 assessment worksheet as this source’s R&D project cost improvement trend. The sourcing company’s assessment personnel evaluated External Source A’’ using customer service guidelines similar to those shown in Figure 3.1. The average of the individual ratings assigned by the company to each of the customer service criteria was determined to be 9.5, shown as the customer service performance measurement for External Source ‘‘A’’ on the Figure 3.2 worksheet. The total budget that External Source ‘‘A’’ plans to commit to capital investments to improve its R&D capabilities was determined by the computer producer to be $470,000. Of this amount, $370,000 is targeted to improve services that would ultimately benefit the sourcing company’s R&D efforts. This is the effective annual budget, as shown on the worksheet for External Source ‘‘A’’. By comparing the historic capital investments planned to the actual investments made by this R&D source, an average of $470,000 of an average annual budget of $500,000 is actually invested. The percentage of the capital investment budget historically invested as planned is 94 percent ($470,000 actually invested divided by $500,000 planned, multiplied by 100 equaling 94 percent). This figure is entered on the Figure 2.3 assessment worksheet. The sourcing company’s personnel performed similar assessments of External

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Source ‘‘B’’ and its own internal R&D department. The approach used is similar to that described for External Source ‘‘A’’, by first having the source supply the information and independently verifying the reported performance. The results for External Source ‘‘B’’ and the internal source are also shown as the italicized entries on the Figure 3.2 R&D source assessment worksheet. At this point in developing a Strategic Business Source for R&D services, the end products of the sources have been defined: in this case the successfully completed R&D projects. The performance measurements for assessing each source’s quality, delivery, cost, customer service, and product advancement levels have been determined. The assessment of the sources being considered by the company has been described and the results compiled on the assessment worksheet. The next step is to compare the performance levels of each source and, after considering some immeasurable issues, selecting the optimal Strategic Business Source for R&D services.

DEVELOPING THE SBS PERFORMANCE MATRIXES AND SUMMATION FOR SELECTING THE RESEARCH AND DEVELOPMENT STRATEGIC BUSINESS SOURCE So that the optimal R&D source can be selected, the performance levels of each being considered need to be compared in all five of the performance criteria that drive the company’s competitiveness. Basing sourcing decisions on comparing just a few of these criteria will likely result in the wrong choice being made. Using Chrysler as an example, this company views suppliers as long-term partners and works cooperatively with them to gain overall improvements to performance in the five criteria. Chrysler’s relationships with its supplier base are targeted toward reducing costs, enhancing quality, improving customer service and delivery performance, and achieving product advancements, throughout the life cycles of the products they supply. Other examples of companies that select sources based on overall performance, beyond strictly reduced direct costs, are IBM and Hewlett-Packard. These corporations have entered into long-term agreements with sources like Solectron, a producer of complex printed circuit boards. The alliances formed with this source are being pursued, not just to reduce costs and gain from Solectron’s R&D expertise, but to purchase highquality products produced in Solectron’s Malcolm Baldrige National Quality Award–winning system. The same method used for comparing the overall performance of production sources can be used for evaluating R&D sources. Specifically, the Strategic Business Source (SBS) Performance Matrixes need to be prepared to both compile and compare the performance of the potential R&D sources. Three matrixes will accomplish this objective: one addressing the quality performance of the sources being considered; one defining the delivery, cost, and customer service

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performance being provided by the sources; and one quantifying the product advancements being realized by the sources. To clarify how the SBS Performance Matrixes are developed to flag the bestperforming source for R&D, sample cases will be presented. The cases further build on the previous example of a computer producer considering a new source for an R&D project to improve the resolution of its monitors. Sample Cases of Developing the SBS Performance Matrixes and Summation for Selecting the Research and Development Strategic Business Source To select the optimal Strategic Business Source, the individual performance levels of each source being considered need to be compared. SBS Performance Matrixes defining the performance of each in the criteria of quality, delivery, cost, customer service, and product advancements will make this comparison easy. A Quality Performance Matrix, prepared for selecting a Strategic Business Source for performing the computer monitor R&D project is shown in Figure 3.3. The performance measurements and actual performance levels of the sources being considered are shown, which were determined when the capabilities of each source were assessed in the previous step and entered on the Figure 3.2 worksheet. These performance levels are compared and ratios are determined. Specifically, the performance of each source is compared to that of the bestperforming source for each of the criteria. This is done by dividing each source’s performance level to the best level being achieved by one of the potential sources. For example, in Figure 3.3 the delivered R&D project yield percentage of the internal source, 97 percent, is divided by the highest yield level, 98 percent being achieved by External Source ‘‘A’’. This gives a delivered R&D project yield ratio of 0.99 for the internal source (97 percent divided by the best yield of 98 percent). The delivered R&D project yield ratio of the best performer, External Source ‘‘A’’, is simply 1.00 (the value assigned to the best-performing source). The ratio for External Source ‘‘B’’ is 0.97 (determined by dividing its yield of 95 percent by the best yield of 98 percent). The performance of all sources being considered is compared in a similar manner, by determining the ratios for the remaining quality performance criteria: the delivered R&D project yield improvement trend, production specification accuracy, the production specification accuracy improvement trend, warranty expense, and the warranty improvement trend. Weighting factors also need to be assigned to each quality performance area. These factors allow the sourcing company to put more emphasis on select performance areas over others, as appropriate to support the company’s business strategy. The most important criterion is simply assigned a weight of ten, and the other areas are assigned a weighting factor relative to this highest rated area. For example, in the Figure 3.3 SBS Quality Performance Matrix, the most im-

Figure 3.3 SBS Quality Performance Matrix: Research and Development Source Selection

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portant performance criterion to the computer producer considering new sources for R&D is the delivered R&D project yield. This criterion is assigned a weight of ten. The next most important performance criteria in this sample case are the trends for delivered R&D project yield improvement, production specification accuracy improvement, and warranty improvement, each of which is equally weighted and assigned a weight of nine in Figure 3.3. The quality performance criteria of slightly less importance to the computer producer in this example are production specification accuracy and warranty expense, each of which is assigned a weighting factor of eight. The SBS Performance Matrix is completed by multiplying the performance ratios by the weighting factors. These values are entered at the bottom of the matrix for each source and summed. Referring to the Figure 3.3 example, the delivered R&D project yield ratio of the internal source, 0.99, is multiplied by the weighting factor of ten, for a value of 9.9 as entered at the base of the matrix. This process is repeated for the other two potential R&D sources for this performance criterion, as well as for the other areas of quality performance. These values are then summed for each source; for example, the sum of the values for the internal source in Figure 3.3 is 50.0 (determined by adding 9.9, 7.7, 8.0, 9.0, 6.4, and 9.0). The internal source, which has the highest total weighted points, is the best-performing source in quality performance. The optimal Strategic Business Source needs to be selected based on performance levels of potential R&D sources in the criteria of delivery, cost, customer service, and product advancements, as well as quality. To address these other criteria, two additional SBS Performance Matrixes need to be prepared. An additional performance matrix, addressing delivery, cost, and customer service performance levels being provided by the potential sources for the R&D project to improve the resolution of computer monitors is shown in Figure 3.4. The Figure 3.4 SBS Delivery, Cost, and Customer Service Performance Matrix is prepared using the same approach used to prepare the Figure 3.3 matrix, again using the performance levels from the Figure 3.2 worksheet. Figure 3.4 shows the best-performing source in these performance criteria is External Source ‘‘A’’, with 44.1 total weighted points. The final SBS Performance Matrix addressing product advancements is shown in Figure 3.5. This matrix is prepared the same way as the first two performance matrixes. Figure 3.5 shows the best-performing source in advancing its products, specifically, its R&D capabilities, is External Source ‘‘B’’ with 18.9 total weighted points. At this point, three SBS Performance Matrixes have been developed covering the five performance criteria. From the summed weighted points on each matrix, the best-performing source in each of the specific performance criteria has been determined. However, since selecting the optimal Strategic Business Source needs to be based on the performance of sources in all five criteria, beyond just a few areas, the information compiled in each of the three individual matrixes needs to be combined, which will highlight the strongest performing source overall.

Figure 3.4 SBS Delivery, Cost, and Customer Service Performance Matrix: Research and Development Source Selection

Figure 3.5 SBS Product Advancement Performance Matrix: Research and Development Source Selection

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At the base of each of the three SBS Performance Matrixes, the performance of each of the three sources being considered for R&D services was quantified and summed. The information from the individual matrixes can be consolidated into an SBS Balanced Performance Summation to target the best overall source. Figure 3.6 shows an SBS Balanced Performance Summation prepared for selecting the R&D source. The total weighted points from the SBS Quality Performance Matrix shown in Figure 3.3 are entered for each source: 44.4, 43.9, and 50.0 for External Sources ‘‘A’’ and ‘‘B’’ and the internal source, respectively. The values from the Figure 3.4 SBS Delivery, Cost, and Customer Service Performance Matrix and the Figure 3.5 SBS Product Advancement Performance Matrix are also entered for each source. These values are then summed, and the highest value highlights the best-performing source overall, giving consideration to all of the important areas of their performance. In Figure 3.6, the internal source is highlighted as the best-performing source overall. As Figure 3.6 shows, the internal R&D source was actually outperformed by External Source ‘‘A’’ in delivery, cost, and customer service performance, and by External Source ‘‘B’’ in advancing its products. However, when all five performance criteria are considered, the internal source is achieving the best balanced, overall performance levels. In many, but not all cases, the Strategic Business Source selected by the company doing the sourcing will simply be the best-performing as flagged by the SBS Balanced Performance Summation. After all, this is the source that is currently providing the best overall performance, considering all the performance criteria. However, before the company can conclude that the best-performing source at a given point in time is the best choice over the long run, other immeasurable issues need to be considered. SELECTING THE RESEARCH AND DEVELOPMENT STRATEGIC BUSINESS SOURCE The instructions for developing a Strategic Business Source for R&D have placed the emphasis on assessing, measuring, and comparing the performance of sources being considered in each of the performance criteria. The overall performance of each source was quantified and the best-performing source was highlighted. Beyond the measurable criteria included in the performance matrixes, there are immeasurable issues that need to be taken into account before the Strategic Business Source is selected. Considering Immeasurable Issues before Making the Strategic Business Sourcing Decision If the summed weighted score from the SBS Balanced Performance Summation for an external supplier for R&D services is higher than that of an internal R&D department, the company may benefit by selecting the better-performing

Figure 3.6 SBS Balanced Performance Summation: Research and Development Source Selection

*denotes current best performing source

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external source. However, as was the case for the production Strategic Business Source addressed in the previous chapter, there are situations where it would be worth the investment to improve the internal department’s performance to meet or exceed that of better-performing external sources. This is especially the case when the overall performance of the external source is only marginally better than the performance of the internal source. Some immeasurable issues need to be considered before the Strategic Business Source is selected based on the source’s performance levels defined by the SBS Balanced Performance Summation. For example, if the R&D services to be performed by the source are an extremely important part of the sourcing company’s operations, the company may want to invest the resources necessary to upgrade the internal department. This would be the case for companies that compete in high-technology industries, where product innovation is a core competence; for example, the computer and electronics industries. If the internal R&D department’s performance were upgraded to the levels being realized by external suppliers, the company would retain direct control over these services that are critical to its core competence. Also, it may benefit the company to retain internal R&D capabilities when the effort is complicated and the project objectives are somewhat flexible. In the event the source performing the R&D is not able to meet certain objectives, the direct access that an internal department has to the company’s marketing, sales, and engineering personnel will facilitate the company’s evaluation of deviations to the objectives that are likely to occur during complicated R&D projects. Suppose that, after considering the immeasurable issues, the company concludes that it would be in its best interest over the long term to upgrade and retain internal sources for R&D, even though external sources are performing better. In this case, a review of the SBS Performance Matrixes will highlight the areas of internal performance that need to be improved. By reviewing the SBS Balanced Performance Summation, the particular performance criteria in which external suppliers are outperforming the internal department become readily apparent. The summed weighted points define whether the internal department is underperforming in quality, delivery, cost, customer service, or product advancement performance. For the specific performance criteria that require strengthening in the internal source, the appropriate SBS Performance Matrixes can be referred to, further pinpointing the areas that need improvement. Assume the SBS Balanced Performance Summation shows that the internal source was outperformed in quality criteria. The SBS Quality Performance Matrix may show that, of the six performance measurements covered by the matrix, production specification accuracy of the internal source needs to be improved to the levels being achieved by an external source. The company may then elect to take the necessary actions to address this performance shortcoming, such as implementing state-of-the-art computer software to improve the accuracy of the production specifications being released by its internal R&D department.

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At this stage in the process of developing a Strategic Business Source for R&D services, the performance of the sources being considered has been assessed and measured. The levels being achieved by the various sources have been compared and performance ratios developed. In addition to the quantifiable issues, the immeasurable factors have been considered. The company is now positioned to select its Strategic Business Source for R&D services. To ensure that the performance of the selected source stays at or above the level that led to its choice, the performance needs to be monitored. An SBS Balanced Performance Matrix can be prepared for this purpose. DEVELOPING THE SBS BALANCED PERFORMANCE MATRIX FOR MONITORING THE RESEARCH AND DEVELOPMENT STRATEGIC BUSINESS SOURCE The source was selected as the company’s R&D Strategic Business Source because its overall performance was better than others that were considered. The next step in the process of developing the source is to monitor its performance to ensure it is maintained at the expected levels. By monitoring the performance of the source, the company can ensure that it is performing at least at the level that led to its being selected as the company’s Strategic Business Source. This is easily done by comparing its performance over time to the levels demonstrated during its assessment by the company. An SBS Balanced Performance Matrix serves this purpose. Assume that in the previous sample case given, the computer producer selects its internal department as its Strategic Business Source for R&D. As shown in the Figure 3.7 SBS Balanced Performance Matrix, the measurements for quality, delivery, cost, customer service, and product advancements are shown across the top. These are the same measures used throughout the assessment process. In the row just below the performance measurements, the source’s actual performance in each of these criteria is entered periodically; for example, after each quarter of the corporate fiscal year. In Figure 3.7, the R&D Strategic Business Source’s performance achieved after the second quarter of the fiscal year is shown. Below the row showing actual performance, a scale of performance levels is shown, with the top of the scale showing the planned levels. In Figure 3.7, for example, the scale of on-time R&D project completion ranges from 83 percent at the base up to 88 percent at the top. An 88 percent on-time project completion was demonstrated by this source during its assessment. The top of all of the scale shows the planned levels of performance, the performance that the internal R&D department demonstrated during its assessment prior to its being selected as the Strategic Business Source. Specifically, the performance levels at the top of the scale in the Figure 3.7 SBS Balanced Performance Matrix are the same as those shown for the internal source on the Figure 3.2 assessment worksheet. The performance scale of zero to ten at the left side of the matrix allows the

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use of weighting factors for each performance area. The weighting factors allow the sourcing company to place greater emphasis on the criteria that it considered to be most important in achieving its business strategy. For example, in Figure 3.7 the actual on-time R&D project completion percentage of the Strategic Business Source after the second quarter of the year is 86 percent, two percentage points below the performance demonstrated during its assessment. On the performance scale, this equates to a score of ‘‘6’’, which is multiplied by the weighting factor of ‘‘10’’. This gives an actual weighted score of ‘‘60’’, as entered at the base of the SBS Balanced Performance Matrix. The actual levels being achieved by the source for the other performance criteria are converted in a similar manner to a score of zero to ten, multiplied by the weighting factors, and the values entered across the base of the matrix in the row of actual weighted scores. The planned weighted scores are shown in a row below the actual weighted scores. The planned levels are based on the source performing at the expected level, as determined during the original assessment of the source. Since the source is expected to perform at these levels (which are shown at the top of the performance scale), the planned weighted scores for each performance area are simply ten multiplied by the individual weighting factors. These values are entered in the row below the actual weighted scores in Figure 3.7. The rows showing the actual and planned weighted scores are then summed and the totals entered at the base of the matrix to the right of each row. The differences between the actual weighted scores being achieved by the R&D Strategic Business Source and the planned levels, for both the individual performance criteria as well as the sum, are entered in the row below the planned weighted scores. This flags the areas of the source’s performance that are at levels less than planned. In Figure 3.7, for example, the selected Strategic Business Source is performing below planned levels for production specification accuracy, as well as on-time R&D project completion. Overall, the source’s actual performance is 132 weighted points below the level which led to its selection as the Strategic Business Source for R&D services. The means by which the internal R&D source’s performance can be upgraded to the expected levels will be addressed in Part III. To develop a Strategic Business Source for R&D services, there are six steps involved. First, the products provided by the source are defined, in this case the successful completion of R&D projects. The performance measurements for the source’s products, covering the criteria of quality, delivery, cost, customer service, and product advancements, are then defined. Next, the performance levels of the internal and external sources being considered, in terms of the performance measurements, are assessed. SBS Performance Matrixes for internal and external sources are then developed, compiling and comparing the measured levels of performance in the five performance criteria. The SBS Performance Matrixes are then evaluated and, after considering appropriate immeasurable

Figure 3.7 SBS Balanced Performance Matrix for Research and Development Source Monitoring

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issues, the optimal Strategic Business Source is selected. The last step in developing the R&D Strategic Business Source is preparing an SBS Balanced Performance Matrix, used to initially monitor and ultimately improve the overall performance of the selected source.

CHAPTER 4

Developing the Strategic Business Source for Purchasing Services

There are sources available to perform all purchasing functions for companies. Purchasing services available from external sources range from supplier evaluations, to purchase order negotiations, to expediting, inspection, and transportation of purchased goods from third-party suppliers to their customers. The approach to developing a Strategic Business Source for purchasing services is very similar to that used for production sources. Production sources deliver the products they manufacture to their customers, the companies doing the sourcing. Purchasing sources, whether internal departments or external suppliers of these services, will also deliver products to the sourcing company. In this case, the delivered goods would be the finished items and raw materials that the source purchases from third-party suppliers. Since both production and purchasing sources are delivering goods to the sourcing companies, their customers, the process of developing a Strategic Business Source (particularly the development of the performance measurements) is very similar. The same six steps used for the production and R&D operational areas addressed in the previous two chapters are applicable for purchasing sources. This chapter will cover these six steps in developing a Strategic Business Source for purchasing services. DEFINING THE PRODUCTS OF PURCHASING SOURCES When developing a Strategic Business Source for purchasing services, the end products to be delivered by the source need to first be defined. The definition of the end product will vary widely, depending on what type of purchased goods will be provided by the source for purchasing services. Sources for purchasing services will generally be responsible for delivering purchased goods, including raw materials and finished products, procured and

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delivered to the sourcing company’s specifications. The specifications typically define materials, configurations, and other processing requirements passed on by the purchasing source to the producer, a third-party supplier. For the sources of purchasing services, the end product is simply the purchased goods delivered to the sourcing company. This would include raw materials, such as castings and forgings, which are further processed by the company when received from the source. This would also include finished items purchased by the source providing the purchasing services, such as parts and assemblies produced by other suppliers and used by the company to assemble into its products. For the purpose of developing a Strategic Business Source for purchasing services, the end products are the purchased goods in any form delivered to the company, whether raw materials or finished items. The performance measurements will apply to these purchased goods, to assess each source’s quality, delivery, cost, customer service, and product advancement performance levels.

A Sample Case of Defining the Products of Purchasing Sources To explain the approach to developing a Strategic Business Source for purchasing services, a sample case will again be used after each of the six major steps in the process are discussed. Assume a producer of consumer products is evaluating three potential sources for purchasing raw materials used in its home appliances: one internal purchasing department and two external sources, External Sources ‘‘A’’ and ‘‘B’’. The purchasing source selected will be contracted to purchase castings that the company will manufacture into its end products, the home appliances. These purchased goods will be procured to specifications supplied by the company producing the appliances. The selected source for purchasing services will be responsible for delivering purchased goods that not only comply with the sourcing company’s specifications, but are delivered when needed and within budget. The products of the source in this sample case would be the castings, in the form delivered to the consumer goods producer. The performance measurements, which will be addressed in the next section, will be used to assess and measure the source’s performance in providing and delivering these purchased goods.

With the first step of establishing a Strategic Business Source for purchasing services complete, and the products of the source defined, performance measurements can be developed, the next step in the process. These measurements will eventually be used to assess performance levels in quality, delivery, cost, customer service, and product advancements being achieved by each source being considered to provide the services.

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DETERMINING THE PERFORMANCE MEASUREMENTS FOR PURCHASING SOURCES The next step in developing a purchasing Strategic Business Source will be to determine the performance measurements for the internal and external sources under consideration to provide the purchased goods. As with the other operational areas, these measurements will cover the same five criteria successfully used by corporations to improve the performance of Strategic Business Units, but in this case will be used to develop the optimal Strategic Business Source for purchasing services. The measurements for purchasing sources that will be developed will address both current performance levels as well as long-range trends of performance in each of these criteria. Since selection of a Strategic Business Source needs to be based on the source’s ability to service the company over the long term, it is important that improvement trends be quantified, beyond just measuring how a source is performing at a given point in time. These measures will allow the performance of internal and external sources to be assessed and compared, leading to the selection of the Strategic Business Source. The guidance on developing performance measurements applies equally to internal sources such as the company’s own purchasing department, and to external sources such as external suppliers of purchasing services. In a later step, the performance levels of internal and external sources will be assessed and compared using these performance measurements. Since the conclusions from this comparison will be used to select the Strategic Business Source, it is important that the same measures be used for all sources being considered, whether internal departments or external suppliers. Determining the Quality Performance Measurements The ability of a purchasing source to consistently deliver high-quality purchased goods is extremely important to the success of the sourcing company. If poor-quality products are received and rejected by the sourcing company, delays in delivering the end products may occur, since the sourcing company’s processing of the materials will be delayed. The delayed deliveries will reduce sales levels over the short term, since product deliveries will be delayed, and cause dissatisfied and potentially lost customers over the long range. Also, in the worstcase scenario, poor-quality purchased goods delivered by purchasing sources may be passed on by the company to its customers if not detected. This would cause warranty expense to be incurred to resolve customer complaints and claims, and ultimately dissatisfied customers and a loss of market share. To prevent these problems, the quality performance of sources has to be measured and assessed before a Strategic Business Source can be selected. The quality performance measurements for purchasing sources are very sim-

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ilar to those used for evaluating production sources. Primarily, performance measurements need to address the quality of the purchased goods as delivered to the company doing the sourcing. The quality performance measurements will have to define both existing quality levels being achieved by potential sources, as well as their quality improvement trends. This will help ensure that the best source, with consideration given to long-range performance, is selected as the company’s Strategic Business Source. The customer acceptance rate of the purchased goods delivered by each source needs to be measured. Specifically, of the total quantity of purchased goods delivered to the customers of the source, whether raw materials or finished items, the percentage accepted by the customers of the source needs to be defined. This is referred to as the delivered purchased goods yield. For obvious reasons, the closer this quality measurement is to 100 percent, the better the source is performing. To ensure this measure is adjusted for the volume of purchasing activity, the yield has to be viewed as a percentage of all of the goods delivered, and not just the quantity rejected. It is important to distinguish between ten rejects of 1,000 delivered purchased goods and ten rejects per 10,000 deliveries. In addition to monitoring the source’s delivered purchased goods yield that shows how the source is performing at a given point in time, it is necessary to quantify the source’s quality improvement trend. Specifically, a measure of how the purchasing source’s yield levels are improving or degrading over a longrange period is needed. This is because when the delivered purchased goods yield rates of sources are compared, it is necessary to consider both the current yields of the sources and the yield improvement trend. For example, suppose one source has a delivered purchased goods yield of 94 percent, and has reduced its customer reject rate from 12 to 6 percent, or by 50 percent over the past two-year period. Assume a second source under consideration has a higher yield of 95 percent, but the reject rate has increased by 10 percentage points over the past two years. The first source with a lower current yield of 94 percent, but a positive yield improvement trend, would likely be the better choice for a purchasing Strategic Business Source over the long term. The quality measurement of delivered purchased goods yield is derived from the source’s customers, the companies doing the sourcing, detecting and rejecting the poor quality goods it receives. However, not all goods will be rejected by the sourcing companies prior to putting them into use. The delivered purchased goods yield and yield improvement trend measurements need to be supplemented with quality performance measurements to account for poor quality goods not immediately rejected by the source’s customers. Two additional performance measurements are needed to address the expense incurred by the sourcing company when these goods are not rejected prior to being put to use. To cover this situation, the purchasing source’s warranty expense levels, commonly measured as a percentage of sales, need to be quantified. As an example, a source that reimburses its customers $20 for every $1,000 of shipped purchased goods to settle warranty claims made by customers due to receipt of poor quality

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products would have a quality performance measurement of 2 percent (based on $20 divided by $1,000, multiplied by 100 equaling 2 percent). This measurement gives a strong indication of the level of defective purchased goods that the sourcing company can expect from each source being evaluated. However, this warranty expense measurement is only indicative of how the source is currently performing. Because of this, the quality measurement for warranty needs to be supplemented with a measurement showing the company’s warranty improvement trend. The same warranty improvement trend used for sources of production and R&D services can be used for purchasing sources. Specifically, a quality performance measurement of the percent reduction to the source’s warranty expense, expressed as a percentage of sales, being achieved by the source over the long term is needed. Assume a company has reduced its warranty expense as a percentage of sales from 4 to 2 percent over a two-year period. This would be expressed as a warranty improvement trend measurement of 25 percent per year (based on a 50 percent reduction to warranty expense as a percentage of sales volume, from 4 down to 2 percent of sales, achieved over a two-year period). To summarize the quality performance measurements for potential sources of purchasing services, four measurements are necessary: the delivered purchased goods yield percentage, the annual yield improvement percentage, the warranty expense as a percentage of sales volumes, and finally, the warranty improvement trend of annual percent reduction to warranty. Determining the Delivery Performance Measurements The sourcing company’s profitability and the satisfaction of its customers will be partly determined by the delivery performance of the Strategic Business Source selected for purchasing services. If the chosen source does not consistently deliver the purchased goods on time, the company will likely be late in delivering its products to its customers. This is especially the case for companies that operate under just-in-time scheduling systems, as most companies now operate, in which products are scheduled for delivery from sources only when needed to support deliveries to their customers. If purchased goods deliveries from sources of purchasing services are late, deliveries to the sourcing company’s customer base will likely be delayed. The late deliveries will impede the sourcing company’s sales and profit levels, and dissatisfy the customers due to their delays in receiving the products. To address this, the on-time delivery performance of the potential sources for purchasing services, viewed as a percentage of the total deliveries meeting the commitment date made to their customers, needs to be defined. Sources for purchasing services will generally monitor their delivery performance, such that this information is readily available or easily determined. To help companies continually reduce cycle times and meet the demands made by their customers, the portion of the cycle time allotted for purchasing activities

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needs to be reduced. The purchasing portion of the company’s overall cycle time will be dictated by the cycle times required by its purchasing sources. When developing a Strategic Business Source for purchasing services, a second delivery performance measurement is necessary to address cycle-time reduction. Specifically, the source’s success in continually reducing the cycle times needed to deliver the goods it purchases needs to be measured. To quantify this, the annual percent reduction to cycle times needs to be quantified for the sources being considered. Assume a given purchasing source establishes electronic data interchange (EDI) capabilities with its key foundries to streamline the order entry process and reduce its average cycle times for procurement of castings from 30 to 27 weeks over a one-year period. This equates to a 10 percent annual cycletime reduction, from 30 down to 27 weeks over a one-year period. Summarizing the performance measurements needed to characterize the delivery performance of potential sources for purchasing services, two performance measurements are needed. The on-time purchased goods delivery percentage is needed to show the current performance of the source. The cycle-time improvement trend, in terms of the percent reduction to cycle times, also needs to be determined to gauge the long-term delivery performance of potential sources

Determining the Cost Performance Measurements In the global market, companies are being pressured to reduce costs to remain competitive. A significant portion of the cost incurred by companies producing their products is for the purchased goods portion of them. There are two major elements to this cost. First, the cost of funding the source for the purchasing services is incurred, such as the cost of the budget for an internal purchasing department, or the cost to contract an external supplier for purchasing services. The second element of the cost is the actual cost of the purchased goods, the prices paid to the third-party suppliers to produce the goods by the purchasing source. Two cost performance measurements need to be developed to cover the cost for purchasing services. The first performance measurement for cost will address the purchasing source’s present costs, as a function of the dollar volume of the purchased goods delivered to the company doing the sourcing. Specifically, the cost performance measurement will be the source’s cost per dollars purchased. For example, if the purchasing source, whether an internal department or an external supplier, charges $1,000 to procure $10,000 of purchased goods, the performance measurement would be $0.10 per dollar purchased (the $1,000 charged for the purchasing services, divided by the $10,000 in purchased goods delivered). The second cost performance measurement will cover the source’s trend toward reducing its cost per dollar of purchased goods. For example, if the source for purchasing services reduced its rate from $0.20 per dollar of purchased goods, to a current level of $0.10 over a two-year period, the cost

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improvement trend would be 25 percent annually (a 50 percent reduction from $0.20 to $0.10 achieved over two years). The second major element of cost is the expense incurred for the purchased goods procured by the source providing the purchasing services from third-party suppliers. For the company’s internal purchasing department, the cost performance measurement would be the company’s cost of goods purchased for a given product, adjusted for warranty expense to determine the effective cost. This effective cost is the direct expense in purchasing the goods from suppliers, adjusted upward for additional warranty expense incurred due to customers’ receiving poor-quality purchased goods. Specifically, the warranty expense incurred by the company to settle complaints made by their customers because of poor-quality purchased goods needs to be determined. The warranty expense is viewed as a percentage of the total purchased goods cost, so that the volume of purchases is taken into account. None of the warranty expense is recoverable from external sources when an internal purchasing department is used for purchasing services, and because of this the additional cost for warranty needs to be added to the cost of goods purchased. To clarify this, assume a company incurs warranty expense that equates to 2 percent of its total cost of goods sold. Of this 2 percent, suppose 1 percent is caused by customers receiving poorquality purchased goods (and the remainder attributable to engineering and manufacturing errors). If the direct cost of purchased goods is $10,000, then the effective cost would be 1 percent higher, or $10,100 to cover the warranty claims that history indicates will be incurred. This adjustment to the direct cost of goods purchased, to add in warranty expense, permits a direct comparison with the costs that would be incurred by dealing with external suppliers of purchasing services. For external sources of purchasing services, the quoted price for the cost of goods purchased for a given product line also needs to be adjusted. Specifically, just as the company determines its expected warranty expense necessary to resolve customers’ complaints made when poor-quality purchased goods are received, a similar adjustment needs to be made for external purchasing sources. However, for an external supplier, the warranty expense being incurred is returned to its customers, the companies contracting them as their purchasing source. To account for this, the external supplier’s quoted price for the purchased goods for the product line needs to be reduced by the percentage of sales normally incurred to settle the customers’ warranty claims. To clarify this, assume an external supplier proposes providing the purchased goods per product for a price of $20,000, and the supplier historically incurs warranty expenses totaling 2 percent of sales. This means the company’s effective cost in contracting the source for purchasing services would be $19,600, or the supplier’s quoted price of $20,000 less 2 percent. The sourcing company can expect to recover 2 percent from the external source, or $400, over the long run to settle warranty claims. By making these adjustments to internal costs and external prices for the purchased goods provided by sources of purchasing services, the effective costs

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become directly comparable and are used as the performance measurements for present costs. In addition to the present cost competitiveness of available purchasing sources, the long-term trend toward reducing these effective costs also needs to be quantified. The performance measurement that is used to determine the long-range cost competitiveness of sources for purchasing services is the annual percent reduction to the previously defined effective costs for purchased goods. Suppose an internal source’s effective cost for the purchased goods for a certain product line that it has historically supplied to customers has been reduced by 4 percent over the past two years. The cost improvement trend measurement would be a 2 percent annual reduction to costs passed on to its customers (based on the 4 percent reduction achieved over a two-year period). To summarize the performance measurements for cost, four performance measurements are needed. The first two cover the cost for the actual purchasing services: one addressing cost per dollar volume purchased, and the second quantifying the percent reduction to this cost. Two additional cost performance measurements are needed. One will address the current effective costs, the cost of the purchased goods adjusted for warranty expense. For internal purchasing departments, the warranty expense is added to the direct cost of the purchased goods. For external suppliers of purchasing services, the warranty expense will be deducted from the quoted cost of purchased goods, since the expense will ultimately be reimbursed to the company doing the sourcing to settle warranty claims. The second will cover the percent reduction in the effective cost of purchased goods, to address the long-range performance of sources being considered. Determining the Customer Service Performance Measurement The performance measurements addressed in the previous section covered the criteria of quality, delivery, and cost of the purchased goods delivered by sources of purchasing services. In addition to the products delivered to the sourcing company, there are additional services provided by sources of purchasing services that need to be considered. Specifically, the level of customer service provided by potential sources needs to be quantified and factored into the decision to select a Strategic Business Source. Guidelines similar to the customer service assessment guidelines prepared for sources of production and R&D need to be developed for assessing purchasing sources. The customer service expected of sources providing purchasing services will vary from company to company, impacted by many factors such as the industry in which the sourcing company competes and the demands of the sourcing company’s customers. To ensure the assessment of potential sources for customer service levels is consistent, the guidelines need to be standardized and consistently used to assess the various sources being considered. Figure 4.1 shows guidelines for performing a customer service assessment of potential

Figure 4.1 SBS Customer Service Assessment Guidelines for Sources of Purchasing Services

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sources of purchasing services. For each of the customer service criteria, the performance level being achieved by the source being assessed is rated on a scale of one to ten. For example, if the purchasing source forms strong partnerships with its key suppliers, a rating of 10.0 may be given as shown in Figure 4.1. After the customer service assessment of each potential source is completed, the average performance rating is determined. This average value serves as the performance measurement for customer service. Determining the Product Advancement Performance Measurements Up until this point, performance measurements were developed to assess each potential purchasing source’s ability to provide high-quality products, consistently delivered on time and at a competitive price, while providing excellent customer service. The selection of the Strategic Business Source needs to be based on the long-range benefits to the sourcing company. For this reason, the source’s success in advancing its products also needs to be assessed and considered before the optimal Strategic Business Source is selected. For example, purchasing sources may be investing capital to link computer scheduling systems with their key suppliers, which in turn will benefit the company by providing more timely production and delivery status information. Similar to the customer service assessment guidelines, which are tailored to meet the needs of the company looking for improved purchasing sources, an assessment of the product advancements being achieved by the sources should be performed with the company’s needs at the forefront. This is done by measuring the source’s commitment to advancing the particular processes and products that would be of benefit to the sourcing company. Specifically, the source’s financial commitment to advancing its products, as well as the source’s progress in actually achieving its commitments, needs to be measured. The capital investment plans of each potential source for purchasing services need to be reviewed and evaluated. Typically, capital investment plans will cover the source’s entire operations, and address planned commitments for the next several years. The performance measurement for the source’s commitment would be the annual capital investment budget to improve products that will benefit the sourcing company. For example, a given source may be investing $150,000, of which $100,000 will be applied to improving the operations that would benefit the sourcing company. In this case, the performance measurement would be the $100,000 budget targeted for investments that would improve the products that would be provided to the sourcing company. Commonly, when companies are reducing expenses, the capital investment budgets are cut. For this reason, the source’s performance in actually accomplishing its planned commitments to improve its products needs to be quantified. The source’s historic progress in executing its capital investment plans needs to be measured, as a percentage of the original budget actually invested as planned.

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For example, if the company planned to invest $100,000 on product advancements in the past year, but only invested $90,000, the source’s percent progress would be 90 percent (based on the $90,000 actually invested, divided by the $100,000 planned to be invested, multiplied by 100 equaling 90 percent). A Sample Case of Determining the Performance Measurements for Purchasing Sources To clarify developing performance measurements for potential sources of purchasing services, the previous example of a consumer products producer will be expanded upon. Again, the consumer products producer is considering three potential sources for purchasing its castings: one internal purchasing department and two external suppliers of purchasing services, ‘‘A’’ and ‘‘B’’. Figure 4.2 summarizes the performance measures that will be used. This figure, in addition to defining the quality, delivery, cost, customer service, and product advancement performance measurements, will also be used as a worksheet as the three sources being considered are assessed and their individual performance levels determined. The italicized numerical entries will be addressed in a later step when the assessment of the potential Strategic Business Sources is covered. Quality performance of each source will be measured as the delivered purchased goods yield percentage, and the annual percentage improvement to the yield. Also, the quality of the purchasing sources will be measured as their warranty expense as a percentage of the sales volume of each source. The annual percent reduction to this warranty expense measurement will also be used to measure the quality levels being realized by each source. Delivery performance for each of the three sources will be measured as the on-time delivery percentage of purchased goods (similar to those that would be procured for the company doing the sourcing). This gives the company an indication of the delivery performance it can expect. In addition, the delivery performance of each source under consideration will also be measured as the percentage reduction to cycle times, again for purchased goods comparable to those that would be provided to the company. In this sample case, the historic on-time delivery percentage for castings would be appropriate. The cost for purchasing services, as a function of the volume of the purchased goods delivered, will be quantified and used as a performance measurement. The trend toward reducing this cost will also be measured, as the percent reduction to the source’s cost per dollar purchased. The effective purchased goods cost for each of the three sources will also be determined. The effective cost for the internal purchasing department is the direct cost for the purchased goods passed on to the third-party casting suppliers, plus the additional expense historically incurred to settle warranty claims made due to customers’ receiving poor-quality goods. The effective price of the two external suppliers would be their quoted price for the purchased goods, less the warranty expense that each reimburses to customers due to their receiving poor-quality goods.

Figure 4.2 SBS Performance Measurements and Assessment Worksheet: Purchasing Source Performance Measurements and Assessment Results

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Customer service levels for each source will be determined and measured by performing a customer service assessment, using guidelines such as those shown in Figure 4.1. The customer service measurement is simply the average assessment score for each of the three sources being considered for purchasing the consumer product producer’s castings. The financial commitment and achievement of each source toward process and product advancements will be measured for the potential sources of purchasing services. Specifically, the portion of the source’s planned capital investment budget which will advance products that would benefit the consumer products producer will be determined and used as a performance measurement. The historic achievement in making the planned investments will be quantified for each source, as the percentage of the budget actually being invested as planned. At this stage of developing a Strategic Business Source for purchasing services, the products of the sources have been defined: in this case the purchased goods delivered to the company. Also, performance measurements for quality, delivery, cost, customer service, and product advancements have been determined. With these two steps completed, the sourcing company can proceed with assessing each source being considered to provide purchasing services and quantifying performance in the five criteria. ASSESSING THE PERFORMANCE OF PURCHASING SOURCES With the performance measurements defined, the next step in developing a Strategic Business Source for purchasing services is to assess the performance of the sources being considered. This is done by making on-site visits to external sources, as well as conducting a review of performance levels of internal sources. The guidance in this section applies equally to assessing internal departments and external suppliers of purchasing services. The same representatives of the company searching for a new purchasing source should be used to perform the assessment of all sources under consideration to ensure that results can be directly compared in a later step in the process of selecting a Strategic Business Source. Assessing the Quality Performance of Purchasing Sources As with the assessments of sources for the other operational areas covered in the previous chapters, there are two methods which should be used to determine the quality performance levels of sources. First, the source being assessed should be requested to supply the information, since the performance levels should be readily available from both internal departments and external suppliers. The in-

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formation reported from the sources then needs to be independently verified by the sourcing company’s assessment personnel. For example, the sources being considered for purchasing services may report quality performance measurements of a delivered purchased goods yield of 95 percent and an annual yield improvement of a 20 percent reduction to rejected purchased goods. The source’s shipping and receiving records detailing deliveries made by the source to its customers, and return shipments of purchased goods rejected by customers can be used to validate the reported performance. From these records, the quantities of purchased goods delivered by the purchasing source, and the quantities rejected by the customers, can be determined to validate the current reported yield rate of 95 percent. These same records showing performance over several years can be used to verify the 20 percent reduction to rejects reported by the source. The delivered purchased goods yield and yield improvement data should be based on performance levels for purchased goods that are comparable to the type that would be delivered to the sourcing company. To clarify this, if 5,000 of the last 100,000 products delivered by the source were rejected by the customers, the reported delivered purchased goods yield of 95 percent is accurate (based on 95,000 accepted by the source’s customers, divided by 100,000, multiplied by 100 equaling 95 percent). If the delivered purchased goods reject percentage reduced from 8 percent to the present level of 5 percent over the past two years, the source’s claim of a 20 percent annual improvement is valid (based on a 40 percent improvement from 8 down to 5 percent rejected, achieved over the two-year period). The source’s warranty expense as a percent of sales, as well as the warranty improvement trend, needs to be determined. Again, the source being evaluated would first be requested to provide the information. The figures would then be verified by the sourcing company. Since both performance measurements addressing warranty are expense-based figures, the source’s financial databases would hold the information needed to verify the figures reported by the source. The two bits of information needed to determine warranty expense as a percentage of sales, the warranty expense incurred and sales volumes, are entries on the source’s profit and loss statement. Warranty as a percentage of sales is determined by simply dividing the source’s warranty expense by its sales dollars. For example, if in the past year warranty expense was $10,000 for sales of $1,000,000, the quality performance measurement would be 1 percent ($10,000 warranty expense, divided by $1,000,000 in sales, multiplied by 100 equaling 1 percent). The warranty improvement trend can be determined by reviewing these figures over several years. If warranty expense as a percentage of sales reduced from 2 to 1 percent over the prior two years, the warranty improvement trend would be 25 percent annually (2 percent down to 1 percent equaling a 50 percent reduction, divided by the two-year period, giving an annual rate of 25 percent).

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Assessing the Delivery Performance of Purchasing Sources Delivery performance of the purchasing sources under consideration can also be determined by requesting the source to provide the information. Again, the accuracy of the reported information would then need to be verified by the company during the assessment of each of the sources under consideration. By reviewing a sampling of purchase orders awarded to external suppliers, and schedules of internal purchasing departments, the contractual delivery dates for the purchased goods can be determined. By reviewing shipping documentation of external sources and shipment receiving department records for internal sources, the actual delivery performance against the scheduled dates can be determined. Assume a potential source for purchasing services reports on-time purchased goods delivery performance of 97 percent. This can be verified by comparing purchase order delivery dates to shipping documentation dates for similar purchased goods comparable to those that would be delivered to the company. If, for example, purchase orders and shipping documentation indicate that the source delivered the last 9,700 of 10,000 purchased goods on or before the contractual date required by the customers, the 97 percent on-time performance reported by the source is in fact accurate (based on 9,700 divided by 10,000, multiplied by 100 equaling 97 percent). The delivery performance measurement of cycle-time improvement reported by the source can also be verified by reviewing purchase orders received by the source from its customers. The history of cycle times for comparable purchased goods will define the cycle-time improvement trend. Assume the source reported a 10 percent annual reduction to casting cycle times. If purchase orders from two years ago for similar castings show cycle times of 40 weeks, and the same product is currently being delivered in 32 weeks, the source’s cycle-time improvement trend would be verified as a 10 percent annual reduction (based on 40 down to 32 weeks being a 20 percent reduction, divided by a two-year period, multiplied by 100 equaling 10 percent per year). Assessing the Cost Performance of Purchasing Sources One of the cost performance measurements for sources of purchasing services would simply be the cost per purchased dollar volume, such as the cost charged per $1,000 dollars of purchases made. For an internal department, the measurement can be easily determined by dividing the purchasing department’s annual budget by its annual purchased dollar volume. For external suppliers of purchasing services, the figure would be the price per dollars purchased quoted in the source’s proposal submitted to the company. This measurement would be supplemented by the cost improvement trend: the percentage that the cost per dollars purchased has been reduced by the source over the years. This cost performance measurement would be determined by reviewing each source’s doc-

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umented costs over a multi-year period, and quantifying the percent reduction being passed on to its customers. For example, by reviewing an external source’s proposals submitted to its customers, and an internal department’s budget information, it may be concluded that the source has reduced its costs from $1.50 to $1.00 for every $1,000 of purchases over a three-year period. This would equate to a purchasing cost improvement trend measure of 11 percent annually (based on a 33 percent reduction from $1.50 to $1.00 per dollar purchased, achieved over a three-year period). Since the source for purchasing services will be responsible for negotiating and placing contracts for purchased goods with third-party suppliers, the cost of which is passed on to the sourcing company, the effective purchased goods cost also needs to be covered by measurements. The effective cost would be determined from the external source’s quoted price for purchased goods, less its historic expense incurred reimbursing customers to settle warranty claims. The price quoted by the external source would be included in its proposal to the sourcing company. The effective cost would be determined by subtracting the warranty expense as a percentage of sales incurred by the source, previously determined as a quality performance measurement. For example, suppose a source quotes a price for the purchased goods for a given product line of $50,000. Suppose the historic warranty expense as a percentage of sales for similar purchased goods is 1 percent. The effective purchased goods cost would be $49,500 (based on $50,000 less the 1 percent). For an internal purchasing department, the effective purchased goods cost would be its normal internal cost incurred purchasing the goods for a given product line, plus the warranty expense incurred to resolve complaints made by customers receiving poor-quality products. Assume the internal cost for purchased goods is $45,000, and the warranty expense incurred to settle customer complaints is 2 percent of sales. The effective cost for the internal source would be $45,900 (based on $45,000 plus 2 percent). The purchased goods cost improvement trend also needs to be determined. This is done by assessing each source’s effective costs over several years for similar purchased goods. Specifically, suppose an external source reports a 10 percent annual reduction to its prices for purchased goods similar to what would be delivered to the sourcing company if chosen to provide purchasing services. The data that would be reviewed by the sourcing company to verify this would include both historic purchase orders, to determine purchased goods prices being quoted over the years. Also, financial records showing historic expense incurred by the source to resolve warranty claims made by its customers would be reviewed. If records indicate that over a two-year period, effective costs for similar purchased goods have been reduced by 20 percent, the purchased goods cost improvement trend would be 10 percent annually (based on 20 percent reduction to purchased goods cost, divided by a two-year period).

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Assessing the Customer Service Performance of Purchasing Sources Guidelines for assessing the customer service levels of sources were developed in the prior section covering performance measurements. Representative customer service guidelines for purchasing sources are shown in Figure 4.1. Each source needs to be assessed using these guidelines to define the customer service performance measurement. For example, Figure 4.1 includes criteria for assessing the effectiveness of the source’s partnerships with its key suppliers. The source’s meeting minutes may indicate that the partnerships are leading to improved quality, reduced cost, and better delivery performance of the suppliers. This would warrant assigning a high rating, such as the 10.0 assigned to this criterion in Figure 2.1. Once all of the customer service criteria are rated, the average of the ratings would be determined and represent the customer service performance measurement. Assessing the Product Advancement Performance Levels of Purchasing Sources The performance measurements for product advancements are based on the source’s financial commitment to improving its products, as well as its progress in achieving its goals. Again, the source should initially provide the information, informing the sourcing company of its capital investment budget, as well as its historic percent achievement of its committed investments. The reported figures would then need to be verified by the sourcing company. This is accomplished by reviewing the source’s documentation showing planned capital investments, as well as records showing the percent progress historically being achieved as planned. If a given source reports an annual capital investment budget of $750,000, this can be verified by reviewing the capital plan documentation. Only the expense that will be dedicated to advancing products that will benefit the sourcing company should be considered. Assume that of the source’s annual budget, $250,000 will be dedicated to advancing purchasing processes that will not benefit the sourcing company. In this case, the effective budget is actually $500,000, the amount that will advance products to the benefit of the sourcing company (based on the $750,000 total budget, less the $250,000). Also, assume the source reports that historically 98 percent of its capital investment plans are successfully completed. If records from the prior year indicate that, going into the year, a commitment of $1,000,000 was made to capital investments, but by the conclusion of the year only $980,000 was actually invested, the percent progress would be verified as 98 percent (based on $980,000 invested, divided by the planned budget of $1,000,000, multiplied by 100 equaling 98 percent).

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A Sample Case of Assessing the Performance of Purchasing Sources The sample case of a consumer goods producer considering three sources for purchasing its castings will be built on to demonstrate how the sources would be assessed. The Figure 4.2 SBS Performance Measurements and Assessment Worksheet summarizes the measurements that would be used, as well as the results obtained during a typical assessment. After reviewing the appropriate documentation, the consumer products producer concluded that of the last 10,000 casting deliveries made by External Source ‘‘B’’, 300 were rejected by the customers. The company can conclude that the delivered purchased goods yield rate that it can expect is 97 percent (based on 9,700 products accepted by the customers, divided by the 10,000 deliveries, multiplied by 100 equaling 97 percent). This quality performance measurement is entered on the Figure 4.2 SBS Performance Measurements and Assessment Worksheet as the delivered purchased goods yield for External Source ‘‘B’’. A review of past records indicates that the customers’ reject rate for castings, similar to the type that would be delivered to the sourcing company, had reduced from 5 to 3 percent, or 40 percent over the past two years. This equates to a 20 percent reduction per year. This figure is entered on the Figure 4.2 worksheet for External Source ‘‘B’’ as the delivered purchased goods yield improvement trend. The source’s annual warranty expense was determined by reviewing financial documents to be $12,000 for total sales of $1,000,000, or 1.2 percent as entered on Figure 4.2 as the warranty expense as a percentage of sales. The prior year’s warranty expense as a percentage of sales was found to be 1.7 percent, giving a 28 percent annual improvement. This value is shown on the worksheet as the source’s warranty improvement trend. The consumer products producer’s assessment team determined that External Source ‘‘B’’ delivered 9,500 of the last 10,000 casting shipments, similar to those that would be provided to the company, to its customers by the contractually required date. This gives an on-time delivery performance measurement of 95 percent (based on 9,500 delivered on time, divided by 10,000 total, multiplied by 100 equaling 95 percent). This figure is then entered on Figure 4.2. The cycle times for these purchased goods were determined by reviewing purchase orders awarded to this source to have been reduced from 44 to 36 weeks, or 18 percent over the past two years: a 9 percent annual improvement as shown on the Figure 4.2 worksheet. The price quoted by External Source ‘‘B’’ in the proposal made to the consumer products producer was $1.20 for every $1,000 of purchases made, as entered on the Figure 4.2 worksheet as the purchasing cost for this source. By reviewing past proposals issued by this source to other customers for purchased goods similar to those that would be procured for the company, this price has been reduced from $1.58 over the past three years. The price reduction, from $1.58 to the current level of $1.20 for every $1,000 of purchases, is a 24 percent

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reduction over three years, or 8 percent annually. This value is entered on Figure 4.2 as the purchasing cost improvement trend. External Source ‘‘B’’ quoted a price of $8,097 per casting to the consumer products producer. Reducing the quoted price by the 1.2 percent warranty expense as a percent of sales previously verified gives an effective purchased goods cost of $8,000. This figure is entered on the Figure 4.2 worksheet. For castings similar to what would be delivered to the sourcing company, External Source ‘‘B’’ has reduced its effective cost (its quoted prices less its warranty expense as a percentage of sales) from $11,100 down to the current $8,000, or 28 percent over the past two years. This annual reduction of 14 percent is entered on the Figure 4.2 purchasing source assessment worksheet. Customer service guidelines similar to those shown in Figure 4.1 were used to assess each potential source for purchasing services. The sourcing company’s assessment team evaluated External Source ‘‘B’’, and the average of the individual ratings assigned for each of the customer service criteria was determined to be 9.4. This value is shown as the customer service performance measurement for this source on the Figure 4.2 worksheet. The total capital investment budget that External Source ‘‘B’’ plans to commit to improving its products was determined by the sourcing company to be $200,000. Of this amount, $165,000 is targeted to improve the processes used to procure castings for its customers, which would ultimately benefit the consumer products producer. This effective annual budget of $165,000 is shown on the worksheet for External Source ‘‘B’’. A comparison by the company of historic capital investment budgets and the actual investments made showed that an average of $198,000 of an average annual budget of $200,000 is actually invested. This percentage of achieving the planned product advancements through capital investments, 99 percent ($198,000 invested, divided by $200,000 planned, multiplied by 100 equaling 99 percent) is shown on the Figure 4.2 assessment worksheet. The sourcing company’s personnel performed similar assessments of External Source ‘‘A’’ and its internal purchasing department. The approach used is similar to that described for External Source ‘‘B’’, by first having the source supply the information, and then independently confirming its accuracy. The results for External Source ‘‘A’’ and the internal source are also shown on the Figure 4.2 purchasing source assessment worksheet. At this stage in developing the purchasing Strategic Business Sources, the products of the source have been defined. The performance measurements for assessing quality, delivery, cost, customer service, and product advancement levels of the sources have been determined, and the assessment of these sources described. The next step is to compile and compare the performance levels of each source being considered to provide the company with purchasing services and, after considering important immeasurable issues, selecting the optimal Strategic Business Source.

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DEVELOPING THE SBS PERFORMANCE MATRIXES AND PERFORMANCE SUMMATION FOR SELECTING THE PURCHASING SOURCE To ensure that the best overall source is selected, with consideration given to performance in all five of the criteria covered during the assessment step, the performance levels need to be compiled and compared. The same method used for comparing the overall performance levels of each potential source for the other operational areas previously covered can be used for sources of purchasing services. This is done by developing Strategic Business Source, or SBS Performance Matrixes to compile and compare the performance levels of the purchasing sources being considered. As with the other operational areas, three SBS Performance Matrixes are needed: one addressing quality performance, one covering delivery, cost, and customer service, and one quantifying the product advancements being achieved by the sources. The results from the SBS Performance Matrixes are then consolidated on the SBS Balanced Performance Summation, which will flag the best overall source. To show how the SBS Performance Matrixes and the Balanced Performance Summation are prepared to highlight the best-performing purchasing source, sample cases will be used. The previous example of a consumer goods producer looking for sources of purchasing services to procure its castings will be used. Sample Cases of Developing the SBS Performance Matrixes and Performance Summation for Selecting the Purchasing Strategic Business Source The individual performance levels in quality, delivery, cost, customer service, and product advancements of each potential source need to be compared so that the best can be determined. The SBS Performance Matrixes will make the comparison of source performance levels easy. A Quality Performance Matrix, prepared for selecting the Strategic Business Source to provide the casting purchasing services for the consumer goods producer is shown in Figure 4.3. The performance measurements and the actual levels being achieved by the sources being considered are shown, as determined during their assessment described in the previous step. These performance levels are compared by developing ratios. Specifically, the performance of each source is compared to that of the best performing source for each of the criteria, by dividing each source’s performance level by the highest level being achieved by one of the sources. As an example, in Figure 4.3 the delivered purchased goods improvement trend for External Source ‘‘B’’ is shown as 20 percent. This value is divided by the highest level being achieved by a source under consideration, in this case the 25 percent being achieved by External Source A’’. The result, 0.80, is entered on the SBS Quality Performance Matrix as the delivered purchased goods yield improvement ratio for External Source ‘‘B’’. The deliv-

Figure 4.3 SBS Quality Performance Matrix: Purchasing Source Selection

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ered purchased goods yield improvement trend ratio of External Source ‘‘A’’ is simply 1.00 in Figure 4.3, since it is the best performer. The internal source performance of 22 percent is divided by the highest level, 25 percent of External Source ‘‘A’’, giving a ratio of 0.88. For the other quality performance measurements, including delivered purchased goods yield, warranty expense, and the warranty improvement trend, the levels being realized by each source and the ratios are determined the same way and entered on the Figure 4.3 SBS Quality Performance Matrix. The ratios entered for each source are then multiplied by the weighting factors identified for each performance criterion and the results are entered at the base of the matrix. Again, these weighting factors allow the sourcing company to put more emphasis on select performance areas over others, based on the company’s business strategy. As shown in Figure 4.3, the most important criterion is assigned a weight of ten; in this example, the delivered purchased goods yield improvement trend is the highest weight. For External Source ‘‘B’’, the delivered purchased goods yield improvement trend ratio of 0.80 is multiplied by the weighting factor of ten, and the result of 8.0 is entered at the bottom of the matrix. This process is repeated for all of the sources, and for all of the performance measurements and ratios. These weighted scores are then summed for each source; for example, the sum of the values for External Source ‘‘B’’ in Figure 4.3, 34.0, is determined by adding 9.0, 8.0, 9.0, and 8.0. This external source has the highest total weighted points in the quality performance criteria when compared to the performance of External Source ‘‘A’’ with 32.9 weighted points, and the internal source with 31.7 weighted points. The optimal Strategic Business Source for purchasing services needs to be selected based on performance levels in delivery, cost, customer service, and product advancement, as well as quality. Two additional SBS Performance Matrixes need to be prepared to cover these other performance criteria. A performance matrix covering delivery, cost, and customer service levels being provided by the sources is shown in Figure 4.4. This SBS Delivery, Cost, and Customer Service Performance Matrix is prepared using the same approach as the Figure 4.3 Matrix, using the performance levels compiled on the Figure 4.2 worksheet. In Figure 4.4, the best-performing source in the areas of delivery, cost, and customer service is External Source ‘‘A’’ with 62.1 total weighted points. The last SBS Performance Matrix covering product advancements being achieved by the sources is shown in Figure 4.5, prepared the same way as the first two performance matrixes. The best-performing source in this performance criterion is External Source ‘‘B’’, with 19.0 total weighted points. At this point in the process of selecting a purchasing Strategic Business Source, three SBS Performance Matrixes have been developed. These three matrixes cover quality, delivery, cost, customer service, and product advancements being achieved by the sources being considered. From the total weighted scores on each individual matrix, the best-performing in each of the criteria is highlighted. The information compiled in each of the three individual SBS Perform-

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ance Matrixes now needs to be combined to highlight the strongest performing source overall. At the base of each of the three SBS Performance Matrixes, defining the performance being realized by the sources, the performance was quantified and summed. This information from the individual matrixes needs to be consolidated into an SBS Balanced Performance Summation to flag the best overall source. Figure 4.6 shows the SBS Balanced Performance Summation prepared for use by the consumer goods producer in selecting a source for purchasing its castings. The total of weighted points from the SBS Quality Performance Matrix shown in Figure 4.3 is entered for each source: 32.9, 34.0, and 31.7 for External Sources ‘‘A’’ and ‘‘B’’ and the internal source, respectively. Similarly, the values from the Figure 4.4 SBS Delivery, Cost, and Customer Service and the Figure 4.5 SBS Product Advancement Performance Matrixes are entered for each source. These values are then summed, and the highest value points to the best overall source. Specifically, in Figure 4.6 External Source ‘‘B’’ is flagged as the bestperforming source overall, with 113.5 total weighted points. This source was actually outperformed by External Source ‘‘A’’ in the performance criteria of delivery, cost, and customer service. However, when all five of the performance criteria that will determine the sourcing company’s competitiveness are considered, External Source ‘‘B’’ is achieving the best, overall balanced performance levels. The Strategic Business Source selected by the sourcing company may be the best overall performer, as targeted by an SBS Balanced Performance Summation. The source highlighted by the Performance Summation is, after all, the source that has the best current overall performance, considering the five key performance criteria. However, before the final selection of the Strategic Business Source is made, some pertinent immeasurable issues need to be considered. SELECTING THE PURCHASING STRATEGIC BUSINESS SOURCE Up until this point, the overall performance of each source was quantified and the best-performing source was highlighted. Before the Strategic Business Source is selected, however, there are immeasurable issues that need to be considered beyond the measured performance shown on the performance matrixes. Considering Immeasurable Issues before Making the Final Decision If the total score from the SBS Balanced Performance Summation for an external supplier of purchasing services is higher than that of an internal department being considered, the company may be better off selecting the external source. However, there are times when it would be worthwhile to upgrade the

Figure 4.4 SBS Delivery, Cost, and Customer Service Performance Matrix: Purchasing Source Selection 106

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Figure 4.5 SBS Product Advancement Performance Matrix: Purchasing Source Selection

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Figure 4.6 SBS Balanced Performance Summation: Purchasing Source Selection

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internal source to the levels being achieved by better-performing external sources. This is particularly true when the performance of the external source is only slightly better than the internal source’s performance. Some immeasurable issues need to be addressed before the Strategic Business Source is selected based only on the performance information compiled in the SBS Performance Matrixes and Balanced Performance Summation. To clarify this, if the purchased goods to be procured by the source for purchasing services are a significant portion of the company’s overall cost of producing its end products, the company may want to retain internal control of the purchasing function. This way, the company’s own personnel would be responsible for negotiating improved pricing, helping to reduce the overall cost of the goods produced for sale to the customers. Also, it may benefit the company to retain internal purchasing capabilities when the purchased goods are a critical component of its end products. Additionally, when there is a likelihood that the design of the purchased goods will continually be refined and changed by the company doing the sourcing, the company may again want to retain direct control of purchasing. In this case, the company’s technical personnel would have easy access to its purchasing department personnel, improving timely and accurate communication of design changes to the suppliers. Assume that, after considering these and other immeasurable issues that are important to the company considering new sources for purchasing, the conclusion is reached that it would be in the best long-range interest to upgrade the internal purchasing department. A review of the SBS Balanced Performance Summation and the three SBS Performance Matrixes needs to be performed to determine the specific internal performance areas that need improvement to meet those being realized by external suppliers. Suppose the SBS Balanced Performance Summation shows that the internal source was outperformed in achieving product advancements. The SBS Product Advancement Performance Matrix may show that the investment budget committed to the internal department to advance its capabilities was not as large as that committed by external suppliers. The company may then elect to provide additional funding for upgrading the internal purchasing department’s processes and products, to the level being invested by external sources. With the larger budget available, the internal source would have the same or greater financial commitment to product advancements as the external source, supporting its selection as the company’s Strategic Business Source. Summarizing, performance of the sources being considered for purchasing services have at this point been assessed and measured, and the levels being achieved compared. Immeasurable issues have been considered, and the company is positioned to select its purchasing Strategic Business Source. The performance of the selected source needs to stay at or beyond the levels that led to its selection. To ensure this is the case, an SBS Balanced Performance Matrix needs to be prepared to monitor the selected source’s performance.

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DEVELOPING THE SBS BALANCED PERFORMANCE MATRIX FOR MONITORING THE PURCHASING STRATEGIC BUSINESS SOURCE The company based its selection of the Strategic Business Source for purchasing services on its balanced, overall performance. The selected source, at the time it was chosen by the company, was performing better than the others that were considered. The next step in developing the purchasing Strategic Business Source is to monitor it to ensure that it continues performing at the expected levels. The source’s performance after being selected as the company’s Strategic Business Source has to be compared to the levels demonstrated during its assessment. An SBS Balanced Performance Matrix makes for an easy comparison. Suppose that the company, after evaluating the SBS Performance Summation and other immeasurable issues, selects External Source ‘‘B’’ from the previous sample cases as its purchasing Strategic Business Source. As shown in the Figure 4.7 SBS Balanced Performance Matrix, the measurements for quality, delivery, cost, customer service, and product advancements are shown across the top of this matrix prepared to monitor this source. These are the same measures used in the assessment process. In the row just below the performance measurements, the source’s actual performance levels in each of the criteria are entered periodically; for example, the purchasing Strategic Business Source’s performance achieved through the third quarter of the fiscal year is shown in Figure 4.7. Below each row showing the actual performance of External Source ‘‘B’’, scales of performance levels are shown with the top of each scale showing the planned levels. In Figure 4.7, for example, the scale for delivered purchased goods yield ranges from 92 percent at the bottom up to 97 percent at the top; 97 percent was the level demonstrated by the source during its assessment, the level at which the selected source is expected to perform. Furthermore, all of the performance levels at the top of the scales in the Figure 4.7 SBS Balanced Performance Matrix are those shown on the Figure 4.2 assessment worksheet for External Source ‘‘B’’. The performance scale of zero to ten at the left side of the matrix allows the use of weighting factors for each performance area. The weighting factors allow the sourcing company to place more importance on some performance criteria over others, as appropriate to support the company’s business strategy. In Figure 4.7, for example, the actual yield improvement trend of the Strategic Business Source after the third quarter of the year is 20 percent, the level the source demonstrated during its assessment. On the performance scale, this equates to the highest score of ‘‘10’’, which is multiplied by the weighting factor of ‘‘10’’ assigned to this criterion. This gives an actual weighted score of ‘‘100’’, as entered at the base of the SBS Balanced Performance Matrix. The other performance levels being achieved by the selected source for the other criteria are converted in a similar manner to a score of zero to ten, multiplied by the weighting factors, and the weighted scores entered across the base of the matrix.

Figure 4.7 SBS Balanced Performance Matrix for Purchasing Source Monitoring

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The planned weighted scores are shown in a row below the actual weighted scores. The planned weighted scores are based on the source performing at the levels demonstrated during its original assessment. Since the source is expected to perform at the levels shown at the top of each performance scale, the planned weighted scores for each performance criterion are simply ten, multiplied by the individual weighting factors. These values are entered in the row below the actual weighted scores in the Figure 4.7 SBS Balanced Performance Matrix. The rows showing the actual and planned weighted scores are then summed and the totals entered in the single column to the far right at the base of the matrix. The differences between the actual weighted scores being achieved by the Strategic Business Source for purchasing services and the planned levels, for both the individual performance areas as well as the sum, are entered in the row below the planned weighted scores. This pinpoints the areas of the source’s performance which are below planned levels. For example, in Figure 4.7, the selected Strategic Business Source is performing below planned levels in the on-time delivery criterion: 93 percent versus a planned level of 95 percent; and its financial commitment to product advancements, $160,000 now committed to capital investments versus $165,000 originally planned. Overall, the source’s actual performance is 132 weighted points below the level which led to its selection as the purchasing Strategic Business Source. The method used by the company to upgrade its Strategic Business Source’s performance in the targeted criteria will be addressed in Part III. As with the other operational functions addressed in the previous chapters, the approach to developing a purchasing Strategic Business Source involves six steps. First, the products, in this case the purchased goods delivered by the source, are defined. The performance measurements for the defined products, covering quality, delivery, cost, customer service, and product advancements, are then determined. Next, the performance levels of the internal and external sources being considered to provide purchasing services are assessed. SBS Performance Matrixes for the sources being considered are then developed, compiling and comparing the measured levels of performance in the five criteria. The information from SBS Performance Matrixes is then consolidated into an SBS Balanced Performance Summation and, after considering important immeasurable issues, the optimal Strategic Business Source is selected. The last step in developing the purchasing Strategic Business Source is to prepare an SBS Balanced Performance Matrix, used to monitor and improve the overall performance of the selected source over the long term.

Summary of Part I

Part I addressed developing Strategic Business Sources for three important corporate operational functions: production, research and development (R&D), and purchasing. Each of the chapters addressing these three operational functions covered the six major steps required to develop Strategic Business Sources: defining the products, developing the measurements, assessing the sources, preparing the performance matrixes and performance summation, considering immeasurable issues and selecting the Strategic Business Source, and lastly, preparing the SBS Balanced Performance Matrix for monitoring the chosen source. Of course, there are other operational functions for which Strategic Business Sources can be developed by applying the same six steps. As was evident as the Strategic Business Sources for production, R&D, and purchasing were developed, the same six steps are followed regardless of the operational function being addressed. However, the six steps are customized, depending on the types of products or services being provided by the source. For example, when the products were defined for the three operational areas previously covered, they varied from the parts produced by production sources, to the R&D projects executed by research and development sources, to the purchased goods delivered by purchasing sources. The performance measurements were also customized, depending on the products being provided by the sources for the particular operational area addressed; for example, the on-time delivery performance measurements applied to each area. The assessment of each source involved reviewing the appropriate documentation to quantify each source’s performance levels. The SBS Performance Matrixes and Balanced Performance Summation were all prepared using the same approach, regardless of the specific operational function being assessed. The immeasurable issues considered before the Strategic Busi-

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ness Source was selected were based on the drawbacks of losing direct control over the particular operational function when external suppliers are selected. Finally, the SBS Balanced Performance Matrix, used to monitor and improve the performance levels of the selected sources, was prepared the same way for each function. The detailed guidance included for developing Strategic Business Sources for operational functions can be extended to other operational areas not specifically addressed in Part I. The premise is the same, regardless of the operational function for which a Strategic Business Source is being developed; the same six steps can be logically applied. In fact, the same method can be applied to nonoperational functions. This will be covered in Part II.

PART II

Developing Strategic Business Sources for Financial and Administrative Functions

Part I covered developing Strategic Business Sources for operational functions: production, research and development, and purchasing. These are the most common functions considered for improved sourcing, comprising 45 percent of the services for which improved sources are sought by companies. About 40 percent of outsourced services are in finance and administration. Part II will address the typical financial and administrative services which can similarly be viewed as Strategic Business Sources and improved. Financial areas, such as accounts payable, accounts receivable, billings, and travel and entertainment expense reporting, will be covered in Chapter 5. Typical administrative areas, including payroll processing, benefits and pension administration, and human resource services, will be addressed in Chapter 6. Each of these chapters will give guidance on developing the financial and administrative Strategic Business Sources, addressing the same six steps applied to the operational areas previously covered.

CHAPTER 5

Developing the Strategic Business Source for Financial Services

Sources for financial services will perform a variety of functions for their customers, including processing accounts payable, accounts receivable, billings, and travel and entertainment expense reporting. The approach to developing a Strategic Business Source for financial services follows the same six steps used for operational areas. The most significant difference is in the product being delivered by the source. For the operational areas covered in Part I, the delivered products included manufactured parts, purchased goods, and research and development projects. Sources for financial services perform transactions, which are in essence their delivered products. This chapter addresses the six steps to developing a Strategic Business Source for financial services.

DEFINING THE PRODUCTS OF FINANCIAL SERVICES SOURCES The end product to be delivered by financial services sources needs to first be defined. For financial services, the product is the specific financial transaction performed. The transactions can vary, from processing accounts payable and accounts receivable, to remitting billings, to processing travel and entertainment expense reports. Since all of these are financial transactions, they can all be handled in a similar manner for the purpose of developing a Strategic Business Source. For the sources being considered for financial services, the end product is the completed financial transaction. The performance measurements will apply to this financial transaction. The measures will be used to assess the levels of quality, delivery, cost, customer service, and product advancements being

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achieved by the financial services sources being considered to perform these transactions for the sourcing company. A Sample Case of Defining the Products of Financial Service Sources A sample case will be used throughout this chapter to explain the approach to developing the Strategic Business Sources for financial services. Suppose a restaurant chain is considering three potential sources for financial services; specifically, to process its accounts payable. The internal finance department and two external sources of financial services, ‘‘A’’ and ‘‘B’’, are being considered. The financial source selected will be provided with approved invoices from the restaurant’s suppliers, and will be required to remit payment within thirty days from the invoice dates. The selected source for financial services will be responsible for accurately executing the financial transactions within the required time period at a competitive price. The product of the source in this sample case would be the accounts payable transaction, as completed by the financial services source. The performance measurements, addressed in the next section, will be used to measure the potential source’s performance in completing these financial transactions. The next step in establishing a Strategic Business Source for financial services is to develop measurements which will ultimately be used to assess performance levels in all five criteria. DETERMINING THE PERFORMANCE MEASUREMENTS FOR FINANCIAL SERVICES SOURCES As with the operational areas, the same five criteria successfully used by corporations to develop Strategic Business Units will similarly be used to develop a financial services Strategic Business Source. Both current performance levels and performance improvement trends will be covered by the measurements for financial services sources. Selecting the Strategic Business Source will be based on the source’s ability to service the sourcing company over the long term, so the improvement trends are as important as the source’s current performance levels in the five criteria. These performance measures will allow the performance of both internal and external sources to be assessed and compared so that the optimal Strategic Business Source can be selected. Consistent with the approach used for operational areas in Part I, the guidance on developing performance measurements applies equally to internal sources, such as the company’s own finance department, and to external sources, such as outside suppliers of these services. In a later step to developing the Strategic Business Source, the performance levels of internal and external sources will be

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assessed and compared using these performance measurements. Because of this, it is important that the same measures be used for all internal and external sources being considered to provide the financial services, so that a valid comparison of performance levels among the sources under consideration can be made. Determining the Quality Performance Measurements It is important that the financial transactions performed by sources of financial services are executed accurately. If financial transactions in the wrong dollar amount are made, the sourcing company’s bottom line profitability will be impacted. For example, accounts payable transactions, if inaccurate, may result in suppliers being remitted payments greater than required, causing the sourcing company to incur the unnecessary expense. The same holds true for other financial transactions, such as travel and entertainment expense reimbursements to employees. Quality performance measurements need to address the quality of the financial transactions executed, specifically, their accuracy. The quality performance measurements will have to define both existing accuracy yield levels, the percent of the total financial transactions processed correctly, as well as yield improvement trends. This will ensure the best source, relative to long-term performance, is selected as the company’s Strategic Business Source. Specifically, of the total quantity of financial transactions executed by a given financial services source for its customers, the percentage accurately completed needs to be defined. This is referred to as the financial transaction yield. The closer this quality measurement is to 100 percent, the better the source is performing. So that this measurement is adjusted for the total volume of transactions, the yield should be viewed as a percentage of all transactions completed, and not just the quantity of accurate transactions. The financial transaction yield shows how the source is performing at a given point in time. It is also necessary to quantify the source’s quality improvement trend. Specifically, a measure of how the financial services source’s yield levels are improving or degrading over the long term is needed. The measure would be the percent reduction to inaccurate financial transactions. When the yield levels of sources are compared, it is important that both the current yields of the sources and the yield improvement trend be considered. For example, suppose one source has a financial transaction yield of 98 percent, and has reduced the rate of inaccurate transactions from 10 to 8 percent, or by 20 percent, over the past year. Assume a second source under consideration has a higher yield of 99 percent, but the reject rate has increased from 10 to 12 percent, or by 20 percent over the past year. The first source, with a lower current yield but a positive yield improvement trend, would be the better choice for a Strategic Business Source, when considering long-term performance. Summarizing the quality performance measurements for potential sources of

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financial services, two measurements are needed: the financial transaction yield percentage and the yield improvement trend percentage. Determining the Delivery Performance Measurements The sourcing company’s profitability will be partly determined by the delivery performance of the Strategic Business Source selected to perform financial services. For the sources, the delivery performance is measured as the timeliness of its execution of financial transactions. To clarify this, consider accounts payable services. If the selected source does not consistently complete the accounts payable transactions on time, the sourcing company’s suppliers will not receive their payments within the contractually required time frames. Suppliers will eventually stop doing business with the company and, as a result, the company’s ability to acquire the purchased goods needed to produce its products will be hindered. For some financial transactions, it is just as important that the transaction not take place too early as not be late. Again using accounts payable as an example, early payments to suppliers will negatively impact the company’s financial position, since funds will be paid out earlier than necessary. To address these concerns, the on-time delivery performance of the potential sources for financial services needs to be monitored. Delivery performance can be measured as the percentage of the total financial transactions performed within a defined time frame. For example, for accounts payable transactions due to be made 90 days after receipt of the suppliers’ invoices, the percentage made within 90, plus or minus a few days, would be an appropriate measurement. For many companies, the time span required for a source of financial services to perform financial transactions is important. This would be the cycle time, which spans from the source’s receipt of the necessary information from the sourcing company to completion of the transaction. When cycle time is important, two additional delivery measurements are appropriate. To quantify a source’s delivery performance relative to cycle time, the annual percent reduction to cycle times needs to be determined for each source being considered. Assume a given source upgraded its computer systems over a oneyear period to reduce the time required to process its customers’ accounts payable, from ten days to five. This translates to a delivery performance measurement of a 50 percent annual cycle-time reduction. Summarizing, two performance measurements are needed to characterize the delivery performance of potential Strategic Business Sources for financial services. The on-time delivery percentage is needed to show the current performance of the source in executing financial transactions in the required time frame. Also, the annual cycle-time improvement percentage needs to be determined, to gauge the potential source’s success in reducing financial transaction time spans. Determining the Cost Performance Measurements Companies are continually attempting to minimize expenses to increase profitability, especially for tasks that do not add value to their products. Financial

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transactions would be considered non-value added functions, and their expense needs to be minimized. To address the cost for financial services, two cost performance measurements need to be established. The first cost performance measurement will cover the source’s current quoted price per transaction. For example, if the source, whether an internal department or an external supplier, charges $1,100 for every 1,000 financial transactions, the performance measurement would be $1.10 per financial transaction (the $1,100 charged by the financial services source, divided by the 1,000 financial transactions provided for this price). The second cost performance measurement will cover the source’s trend toward reducing its financial transaction costs. For example, if the source for financial services reduced its rate for 1,000 transactions from $2.20 to the current level of $1.10 over a twoyear period, the cost improvement trend would be 25 percent annually (based on a 50 percent reduction from $2.20 to $1.10, over a two-year period). To summarize the performance measurements for cost, two performance measurements are needed to quantify the performance of sources for financial services. The first addresses the cost per financial transaction quoted by the source, whether an external supplier of financial services or an internal finance department. The second cost performance measurement covers the source’s financial transaction cost improvement trend, the annual percentage reduction to its cost per transaction.

Determining the Customer Service Performance Measurement In addition to the quality, delivery, and cost performance of financial services sources, the level of customer service provided by the sources to their customers, the sourcing companies, is important. Similar to the customer service assessment guidelines prepared for sources of the operational areas addressed in Part I, guidelines need to be developed for assessing financial services sources, taking into consideration the companies’ individual needs. The customer service expected of sources providing financial services will vary, depending on what is important to the sourcing company’s operations, market, and customers. Because of this, guidelines for an assessment of sources for financial services need to be developed by each company to reflect its unique needs for customer service. To ensure the customer service assessment of financial services sources is performed consistently, these guidelines need to be standardized and used to assess the internal and external sources under consideration. Figure 5.1 shows typical customer service assessment guidelines for potential sources of financial services. For each of the customer service criteria covered in the guidelines, the performance level being achieved by the source is rated on a scale of one to ten. For example, if the majority of the financial services source’s accounts payable and accounts receivable computer systems are compatible with those of the sourcing company, a rating of 9.7 may be given, as shown in Figure 5.1. After the customer service assessment is completed, the

Figure 5.1 SBS Customer Service Assessment Guidelines for Sources of Financial Services

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average performance rating is determined. This average value is the customer service performance measurement. Determining the Product Advancement Performance Measurements The performance measures covered up until now were developed to assess each potential finance source’s ability to provide high-quality financial transactions, executed on time, at a competitive price, while giving strong customer service. Since the selection of the Strategic Business Source needs to be based on the long-range benefits to the company, the source’s ability to advance its products also needs to be assessed and considered before the optimal source is selected. As an example, finance sources may be investing capital to interlink financial computer systems with their customers which, in turn, will benefit the sourcing company by streamlining the transaction cycle time. An assessment of the product advancements planned by financial services sources should be performed with the needs of the sourcing company at the forefront. This is achieved by measuring the source’s commitment and progress toward advancing its particular operations that will benefit the sourcing company. Specifically, the source’s financial commitment to advancing its products, as well as the source’s progress in actually accomplishing its planned improvements, needs to be measured. The capital investment plans of each potential source for financial services needs to be quantified. Typically, capital investments plans will cover the source’s entire operations, and address planned commitments for the next several years. The performance measurement for the source’s commitment would be the annual capital investment committed to improving products that would benefit the sourcing company. For example, a given source may be investing $250,000 to advance its products, of which $200,000 will be applied to improving transactions that will benefit the company. In this example, the performance measurement would be the $200,000 planned investment. The source’s performance toward actually accomplishing its planned commitments to improving its products also needs to be quantified. The source’s historic progress in achieving its capital investment plans needs to be measured, as a percentage of the originally budgeted expense actually invested as planned. For example, if the company actually invested $150,000 of the $200,000 planned, the source’s percent progress would be 75 percent ($150,000 divided by $200,000, multiplied by 100 equaling 75 percent). A Sample Case of Determining the Performance Measurements for Financial Service Sources To demonstrate how the performance measurements for potential sources of financial services are developed, the previous example of a restaurant chain

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considering sources for accounts payable transactions will be used. Recall that the restaurant chain is considering three potential sources: one internal finance department and two external suppliers of financial services, ‘‘A’’ and ‘‘B’’. Figure 5.2 summarizes the performance measurements that will be used. This figure, in addition to defining the quality, delivery, cost, customer service, and product advancement performance measurements, will also be used as a worksheet as the three sources being considered are assessed and their performance levels determined. The italicized numerical entries will be discussed later when the assessment step of the Strategic Business Source selection process is covered. Quality performance of each source will be measured using two measurements: the financial transaction yield of each source will be determined, and the financial transaction yield improvement trend will be quantified as the percent reduction to inaccurate transactions. Delivery performance for each of the three sources will be measured as the on-time percentage that financial transactions are completed, which gives the restaurant an indication of the delivery performance it can expect. In addition, delivery performance for the sources being considered will also be measured as the percentage reduction to cycle times to complete the accounts payable financial transactions. The cost for financial services, in this sample case the cost per accounts payable transaction, will be quantified and used as a performance measurement. The trend toward reducing this cost will also be measured as the percent reduction to the source’s cost per financial transaction. Using guidelines similar to those shown in Figure 5.1, customer service levels will be determined and measured by performing an assessment of each of the sources being considered. The customer service measurement is simply the average assessment score for each of the three sources being considered. The financial commitment and progress achieved toward product advancements will also be measured. Specifically, the portion of the source’s planned capital investment budget which will advance products that will ultimately benefit the sourcing company will be determined and used as the performance measurement. The historic achievement in making the planned investments will be quantified for each source, the percentage of the planned investment to product improvements historically made as planned.

At this point in developing a Strategic Business Source for financial services, the products of the sources have been determined and performance measurements for quality, delivery, cost, customer service, and product advancements defined. With these two steps completed, the sourcing company can then proceed with assessing each source, and quantifying performance in the five performance criteria.

Figure 5.2 SBS Performance Measurements and Assessment Worksheet: Financial Services Source Performance Measurements and Assessment Results

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ASSESSING THE PERFORMANCE OF FINANCIAL SERVICES SOURCES The next step in developing a Strategic Business Source for financial services is to assess the performance of each source. On-site visits to external sources, as well as a review of performance levels of internal sources, need to be conducted. The same guidance that follows applies equally to assessing both internal and external sources of financial services, since the assessments have to be consistently performed so that results can be compared later. To ensure the source assessments are performed consistently, the same representatives of the sourcing company should be used to perform the assessments of all sources being considered. This way, the results can be directly compared in a later step in the process of selecting a Strategic Business Source. Assessing the Quality Performance of Financial Service Sources The same general approach used to assess sources for the operational areas covered in Part I applies to sources for financial services. Specifically, two methods should be used to determine quality performance levels. First, the source being assessed should be requested to provide the information. The performance levels, in terms of the measurements, are usually readily available from both internal departments and external suppliers. The data provided by the sources then needs to be independently verified by the sourcing company’s assessment personnel. For example, a given source may report quality performance measurements of a financial transaction yield rate of 97 percent. Also, assume this source reports its annual yield improvement as a 25 percent reduction to inaccurate financial transactions. The source’s financial records detailing financial transactions completed for its customers, and subsequent corrections and adjustments made to the completed transactions, need to be reviewed to validate the reported quality performance. From these financial transaction records, the total quantity of transactions executed by the financial services source, and the number subsequently requiring corrections over a given time period, for example, the past year, can be determined to verify the current reported yield of 97 percent. These same financial records covering a period of several years can be used to verify the 25 percent reduction to inaccurate financial transactions reported by the source. The financial transaction yield and yield improvement trend should be determined for the same type of financial transactions that the source would perform for the company; for example, accounts payable, billings, accounts receivable, and so on. To show how the necessary information can be determined from the financial transaction records, if only 3,000 of the last 100,000 financial transactions com-

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pleted by the source for its customers required a later adjustment due to errors, the source’s reported yield of 97 percent accurate transactions is verified (based on 97,000 completed accurately, divided by a total of 100,000 executed, multiplied by 100 equaling 97 percent). If the percentage of inaccurate transactions that required corrections reduced from 6 to the present level of 3 percent over the past two years, the source’s claim of a 25 percent annual yield improvement is accurate (based on a 50 percent improvement, from 6 down to 3 percent, achieved over the past two-year period). Assessing the Delivery Performance of Financial Service Sources Delivery performance of the sources under consideration can also be determined by first requesting the source to provide the information, and then independently verifying the data during the assessment of each source. By reviewing a sampling of purchase orders awarded to external suppliers by their customers, and internal financial documentation for internal departments, the required completion dates for financial transactions can be determined. By reviewing financial documentation detailing already completed transactions, the actual delivery performance against the required dates can be determined. Suppose a potential source reports on-time delivery performance of 98 percent completion of financial transactions within three days of the required date. This can be verified by comparing purchase order–defined required completion dates to documentation showing the actual completion dates, for transactions similar to those that would be performed for the company. Assume, for example, customer purchase orders and the source’s financial documentation indicate that the source completed the last 98,000 of 100,000 accounts payable transactions within 90-plus or -minus three days, as required by the customers. The 98 percent on-time delivery performance reported by the source would be proven accurate (based on 98,000 completed when required, divided by the total of 100,000, multiplied by 100 equaling 98 percent). The cycle-time improvement reported by the source can also be validated by reviewing the source’s financial records showing the date a given transaction begins, and the date it is actually completed. The history of cycle times for financial transactions comparable to those that would be performed for the company, such as processing accounts payable or billings, will define the cycle-time improvement trend. Assume the source reported a 10 percent annual reduction to accounts payable transaction cycle times. If the source’s financial documentation from two years ago for similar accounts payable transactions shows cycle times of 20 days, and these transactions are currently being completed in 16 days, the source’s cycle-time improvement trend would be verified as a 10 percent annual reduction (based on 20 days down to 16 days being a 20 percent reduction, divided by a two-year period).

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Assessing the Cost Performance of Financial Service Sources One of the cost performance measurements for sources of financial services would simply be the price per financial transaction quoted by external suppliers, and the internal department’s cost per transaction. This measurement would be supplemented by the financial transaction cost improvement trend: the percentage that the cost per transaction is being reduced by the source annually. These cost performance measurements would be determined by reviewing each external source’s quotations forwarded to its customers, as well as the internal costs being incurred by the company, over a several-year period and quantifying the percentage reductions being achieved. For example, by reviewing a given external source’s proposals submitted to its customers, it may be concluded that over a three-year period the source reduced its quoted costs from $2.00 to $1.40 per financial transaction. This source’s financial transaction cost would simply be its current price of $1.40 per transaction. Also, this would mean that the financial transaction cost improvement trend is 10 percent annually (based on a 30 percent reduction from $2.00 to $1.40, achieved over a threeyear period). Assessing the Customer Service Performance of Financial Service Sources Figure 5.1 shows representative guidelines for assessing the customer service levels of sources for financial services, which were developed in the prior section covering performance measurements. Each source being considered to perform transactions for the sourcing company needs to be assessed using similar guidelines to define the customer service performance measurement. For example, Figure 5.1 includes criteria for assessing the quality of the source’s work force. The source’s employees may be determined to be highly educated and qualified, warranting a fairly high rating, such as 9.9 shown for this criterion in Figure 5.1. Once all of the customer service criteria are rated, the average of the ratings would be determined and represent the customer service performance measurement. Assessing the Product Advancement Performance of Financial Service Sources The performance measurements for product advancements are determined by the source’s financial commitment toward improving its financial transactions, as well as the progress actually being achieved in executing its investment plans. Again, the source should initially be requested to provide the information, informing the sourcing company of its capital investment budget, as well as its historic percent achievement of its planned investments. The reported figures would then need to be verified by the sourcing company’s assessment personnel.

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This is easily done by reviewing the source’s documentation showing planned capital investments to improve its products, particularly those that would benefit the company, as well as the percent progress in making the investments historically being achieved. Suppose a given source of financial services reports an annual capital investment budget of $800,000. This can be verified by reviewing the appropriate budget documentation. Only the portion of the budget that will be dedicated to advancing the products that will benefit the sourcing company should be considered. To clarify this, assume that of the source’s total annual budget, $100,000 will be dedicated to advancing financial processes that will not be performed for the sourcing company; for example, targeted for improved billings processing, whereas the sourcing company is only interested in accounts payable services. In this case, the effective budget is actually $700,000, the amount targeted to advance products that will benefit the company (based on the $800,000 total budget, less the $100,000 that will not impact the sourcing company). Also, assume the source reports that historically 99 percent of its planned capital investments are successfully implemented. If records from the prior year indicate that a commitment of $500,000 was planned for capital investments to improve financial transactions but, by the end of the year, only $480,000 was actually invested, the percent progress would actually be only 96 percent (based on $480,000 invested, divided by the planned budget of $500,000, multiplied by 100 equaling 96 percent). A Sample Case of Assessing the Performance of Financial Service Sources The sample case of a restaurant chain considering three sources for its accounts payable financial services will be used to demonstrate how the sources would be assessed and the performance data recorded. The Figure 5.2 SBS Performance Measurements and Assessment Worksheet summarizes the measurements that would be used, as well as the results obtained during an assessment of the three sources being considered. After soliciting input from the source and independently reviewing financial transaction documentation, the sourcing company’s personnel performing the assessment determined the financial transaction yield for External Source ‘‘A’’. They have concluded that, of the last 100,000 accounts payable transactions completed, just 2,000 were not accurate and later required a correction. The company can conclude that the yield rate it can expect is 98 percent (based on 98,000 accurate transactions, divided by the total of 100,000 executed, multiplied by 100 equaling 98 percent). This quality performance measurement is entered on the Figure 5.2 SBS Performance Measurements and Assessment Worksheet as the financial transaction yield for External Source ‘‘A’’. A review of historic records of financial transactions shows that the rate of inaccurate accounts payable transactions had reduced from 2.9 percent to the current 2 percent, or 30

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percent over the past year. This figure is entered on the Figure 5.2 worksheet for External Source ‘‘A’’ as the financial transaction yield improvement trend. The sourcing company’s assessment team determined that External Source ‘‘A’’ completed 92,000 of the last 100,000 accounts payable transactions within 90 days, plus or minus five days, as required by its customers. This gives an on time delivery performance measurement of 92 percent (based on 92,000 transactions executed on-time, divided by the total of 100,000 performed, multiplied by 100 equaling 92 percent). This value is entered on Figure 5.2 as the source’s on-time delivery performance. The cycle times for these accounts payable transactions were determined, by reviewing financial documentation, to have been reduced from 11 to 10 days in the past year, a 9 percent annual improvement as shown on the Figure 5.2 worksheet as the cycle-time improvement trend. The price identified by External Source ‘‘A’’ in the proposal made to the restaurant was $1,050 for every 1,000 accounts payable financial transactions made. The figure translates to $1.05 per transaction, which is entered on the Figure 5.2 worksheet as the financial transaction cost for this source. By reviewing historic proposals made by this source to other customers for accounts payable transactions, this quoted price has been reduced from $1.35 to the current cost over the past two years. The reduction from $1.35 to the current quotation of $1.05 per transaction is a 22 percent reduction, achieved over two years, or an 11 percent annual improvement. This value is entered on Figure 5.2 as the financial transaction cost improvement trend. Customer service guidelines similar to those shown in Figure 5.1 were used to assess each potential source for financial services. The sourcing company’s assessment team evaluated External Source ‘‘A’’, and the average of the individual ratings assigned for each of the customer service criteria was determined to be 9.7. This figure is shown as the customer service performance measurement for External Source ‘‘A’’ on the Figure 5.2 worksheet. The total capital investment budget that External Source ‘‘A’’ plans to commit to improving its products, the financial transactions it performs for its customers, was found by the sourcing company to be $300,000. Of this amount, $240,000 is targeted to improve accounts payable processing, which will ultimately benefit the restaurant. The remainder is targeted to improve the source’s operations that would not benefit the restaurant. Of this effective annual budget, $240,000 is shown on the worksheet for External Source ‘‘A’’ as its commitment to product advancements. The assessment team compared the historic capital investment budgeting to the actual investments made, and concluded that an average of $242,500 of an average annual budget of $250,000 is actually invested. The percentage of achieving the planned product advancements is 97 percent (based on $242,500 invested on average, divided by the average of $250,000 planned, multiplied by 100 equaling 97 percent). This figure is shown on the Figure 5.2 assessment worksheet as the product advancement achievement measure for External Source ‘‘A’’. Assessments similar to that described above for External Source ‘‘A’’ were also performed by the sourcing company’s personnel for the two other sources

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being considered, External Source ‘‘B’’ and the company internal finance department. The approach used is the same as used for External Source ‘‘A’’, by first having the source supply the information, and then having the assessment team independently confirm its accuracy. The results for External Source ‘‘B’’ and the internal source are also shown on the Figure 5.2 source assessment worksheet. At this point in developing the Strategic Business Source for financial services, the products of the sources have been defined, the performance measurements for assessing quality, delivery, cost, customer service, and product advancement levels have been determined, and the assessment of the sources completed. The next step is to compile and compare the performance levels of each source and, after considering important immeasurable issues, select the Strategic Business Source. DEVELOPING THE SBS PERFORMANCE MATRIXES AND SUMMATION FOR SELECTING THE FINANCIAL SERVICES STRATEGIC BUSINESS SOURCE To ensure that the best overall source is selected, considering performance in all five criteria covered during the assessment step of the process, the performance levels need to be compiled and compared. The same method used for comparing the overall, balanced performance levels of each source for the operational areas can be used for evaluating the potential finance sources. Again, Strategic Business Source, or SBS Performance Matrixes can be developed for this purpose, to consolidate and compare the performance levels of the various sources being considered. As with the operational areas, three SBS Performance Matrixes are required: one addressing the source’s quality performance, one covering delivery, cost, and customer service levels, and one quantifying the product advancements being achieved by the sources. The results from the SBS Performance Matrixes are then consolidated on an SBS Balanced Performance Summation, which will highlight the best-performing source being considered to provide the company with financial services. To show how the SBS Performance Matrixes and the Balanced Performance Summation are prepared to target the best-performing source, the previously addressed sample case will be used. Specifically, the case of a restaurant chain evaluating three sources of financial services to process its accounts payable will be discussed. A Sample Case of Developing the SBS Performance Matrixes and Summation for Selecting the Financial Service Strategic Business Source The individual performance levels in quality, delivery, cost, customer service, and process and product advancements of each source being considered need to

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be compared so that the best can be determined. The SBS Performance Matrixes, which define the performance of each source in the five criteria, will again serve this purpose. A Quality Performance Matrix, prepared for selecting the Strategic Business Source to perform the accounts payable financial transactions for the restaurant, is shown in Figure 5.3. The performance measurements and the actual levels being achieved by the various sources, as determined during their assessment, are shown. The performance levels need to be compared by developing ratios. Specifically, the performance of each source is compared to that of the bestperforming source for each criterion, by dividing each source’s performance level by the highest level being achieved by one of the sources. To illustrate this, Figure 5.3 shows the financial transaction yield of the internal source, the company’s own finance department, to be 97 percent. This value is divided by the highest level being achieved, in this sample case the 98 percent being achieved by External Source ‘‘A’’. The result of 0.99 is entered on the SBS Quality Performance Matrix as the financial transaction yield ratio for the internal source. The financial transaction yield ratio of External Source ‘‘A’’ is simply 1.0 in Figure 5.3, since it is the best performing source for this criterion. The performance of External Source ‘‘B’’, 95 percent, is divided by the highest level of 98 percent of External Source ‘‘A’’, giving a ratio of 0.97. For the remaining quality performance measurement, the financial transaction yield improvement trend, the performance levels are similarly entered for each source and the ratios entered on the Figure 5.3 SBS Quality Performance Matrix. The ratios entered for each source are then multiplied by the weighting factors assigned by the sourcing company, as identified for each of the performance criteria at the base of the matrix. Again, these weighting factors permit the sourcing company to place more emphasis on select performance criteria over others, based on the strategy of the company. As shown in Figure 5.3, the most important criterion is assigned a weight of ten, in this case, the financial transaction yield is the highest weighted area for the restaurant. For the internal source, the financial transaction yield ratio of 0.99 is multiplied by the weighting factor of ten. The result of 9.9 is then entered at the bottom of the matrix. This process is repeated for all of the sources, and for both of the quality performance measurements and ratios. The resulting values are then summed for each source. The sum of the values for the internal source in Figure 5.3, for example, is determined by adding 9.9 and 7.5, for a total of 17.4. The internal source has fewer weighted points for quality performance when compared to the performance of External Source ‘‘A’’ with 19.0 weighted points, and more than External Source ‘‘B’’ with 16.4 weighted points. Two additional SBS Performance Matrixes are needed to cover the other important performance criteria, since the optimal Strategic Business Source will be selected based on delivery, cost, customer service, and product advancement performance, as well as quality. Figure 5.4 shows an additional SBS Performance Matrix covering delivery,

Figure 5.3 SBS Quality Performance Matrix: Financial Services Source Selection

Figure 5.4 SBS Delivery, Cost, and Customer Service Performance Matrix: Financial Services Source Selection

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cost, and customer service for the three sources of financial services being considered by the restaurant. This SBS Delivery, Cost, and Customer Service Performance Matrix is prepared in the same manner as the Figure 5.3 matrix, using the performance levels from the Figure 5.2 assessment worksheet. In Figure 5.4, the best-performing source is External Source ‘‘B’’, with 45.5 total weighted points, as compared to 44.7 and 42.3 achieved by External Source ‘‘A’’ and the internal source, respectively. The third and final SBS Performance Matrix, which covers process and product advancements being achieved by the sources, is shown in Figure 5.5. This matrix is prepared in the same manner as the first two performance matrixes. The best performing source in the performance areas covered in the Figure 5.5 matrix is again External Source ‘‘B’’, with 19.0 total weighted points, as compared to 18.1 and 18.0 achieved by External Source ‘‘A’’ and the internal source, respectively. At this stage in selecting a Strategic Business Source for financial services, three SBS Performance Matrixes have been developed covering the key performance criteria. From the total weighted points on each, the best-performing source in each of the performance criteria is highlighted. The information compiled on each of the three individual SBS Performance Matrixes now needs to be combined to highlight the strongest performing source overall, with consideration given to all five performance criteria. At the base of each of the three individual SBS Performance Matrixes prepared for the sources being considered for financial services, the performance of each source was quantified and summed. The information from each of the three matrixes can now be consolidated into an SBS Balanced Performance Summation, highlighting the best overall financial services source. Figure 5.6 shows the SBS Balanced Performance Summation prepared by the restaurant for selecting an accounts payable financial services source. The total weighted points from the SBS Quality Performance Matrix shown in Figure 5.3 are entered on Figure 5.6 for each of the three sources: 19.0, 16.4, and 17.4 for External Sources ‘‘A’’ and ‘‘B’’ and the internal source, respectively. The values from the Figure 5.4 SBS Delivery, Cost, and Customer Service and the Figure 5.5 SBS Product Advancement Performance Matrixes are similarly entered for each source. These values are then summed, and the highest value flags the best overall performing source being considered by the restaurant to provide financial services. Specifically, External Source ‘‘A’’ in the Figure 5.6 sample case is highlighted as the best-performing source overall, with 81.8 total weighted points, as compared to 80.9 for External Source ‘‘B’’ and 77.7 for the internal source. Note that External Source ‘‘A’’, the best source overall, was actually outperformed by External Source ‘‘B’’ in the performance criteria of delivery, cost, customer service, and product advancements. However, when all five of the performance criteria are considered, External Source ‘‘A’’ is achieving the best-balanced performance.

Figure 5.5 SBS Product Advancement Performance Matrix: Financial Services Source Selection

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Figure 5.6 SBS Balanced Performance Summation: Financial Services Source Selection

139 *denotes current best performing source

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The source targeted by the SBS Balanced Performance Summation may well be the company’s best choice for a Strategic Business Source. The source highlighted by the Performance Summation is the source that has the best overall performance, considering the five performance criteria. However, before the final selection of the Strategic Business Source is made, other immeasurable issues need to be considered.

SELECTING THE STRATEGIC BUSINESS SOURCE FOR FINANCIAL SERVICES At this stage in developing the Strategic Business Source for financial services, the overall performance of each source under consideration was quantified and the best-performing was highlighted. Beyond the measured performance, there are other issues that need to be taken into consideration before the Strategic Business Source is selected.

Considering Immeasurable Issues before Making the Strategic Business Source Decision Assume the total score from the SBS Balanced Performance Summation shows an external source for financial services is outperforming an internal finance department being considered. The company may be benefited by selecting the external supplier of financial services over the internal department. However, there are cases where it would be worthwhile to upgrade the internal source to the levels being achieved by the better-performing external source, and retaining the internal capability to perform the company’s financial transactions. This is particularly feasible when the measured performance of the external source is only slightly higher than that of the internal source. Under this scenario, it may be beneficial for the company to improve its financial services performance and continue use of the internal department for these services. Immeasurable issues should be addressed before the final decision is made and the Strategic Business Source is selected based solely on the information included in the SBS Balanced Performance Summation. If the sourcing company’s financial information is especially sensitive, where confidentiality is important, it may be beneficial for the company to make the investment needed to upgrade the performance of the internal department. In this case, the company can better safeguard its financial information by not allowing access to it by an external source. Also, it may benefit the company to retain internal financial services when the company relies heavily on financial data to make daily business decisions. By retaining the internal department, accessibility to the data will be much better than if an external source is providing the financial services. Additionally, the size of the sourcing company may

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determine the level of service that would be provided by external sources of financial services, as the following case demonstrates. Consider the case of a small, New York–based company, whose 20 employees provide communications consulting services. This company contracted an external source to perform basic accounting functions, but was disappointed with the outcome. Because of the sourcing company’s relatively small size, the service provided by the external source was poor, and the company was largely neglected by the source. The external source concentrated on its larger customers, and the best employees were assigned to the larger accounts. The lower quality of personnel assigned to the communications consulting company resulted in accounting errors being made. This company may have been benefited by improving its internal financial services capabilities; specifically, its own accounting services, rather than outsourcing the function. Assume that, after considering immeasurable issues of importance to the sourcing company, the conclusion is reached that it would be in the best longterm interest to retain and upgrade the internal finance department, even when external sources may be performing better. The SBS Balanced Performance Summation and individual SBS Performance Matrixes need to be reviewed to pinpoint the performance areas that the internal department needs to improve to meet the levels being achieved by external suppliers. Suppose the SBS Balanced Performance Summation shows that the internal source was outperformed only in quality performance, exceeding external sources in delivery, cost, customer service, and product advancement performance. The SBS Quality Performance Matrix may show that the financial transaction yield of the internal source is lower than that of an external source being considered. The company may then decide to take action to improve the accuracy of financial transactions, such as investing in improved computer systems or retraining personnel. With the focus of the internal finance department on improving the financial transaction yield, and eventually achieving the higher yield available from external sources, the internal department is an appropriate selection as the company’s financial services Strategic Business Source.

At this point in developing a Strategic Business Source for financial services, performance of the sources under consideration has been assessed and measured, and the levels being achieved have been compared. Immeasurable issues have been considered. The company is now positioned to select its Strategic Business Source for financial services. The performance of the selected source then needs to stay at or beyond the levels that led to its selection as the company’s Strategic Business Source. An SBS Balanced Performance Matrix, similar to those prepared for the operational areas covered in Part I, can be prepared to monitor the performance of the selected source.

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DEVELOPING THE SBS BALANCED PERFORMANCE MATRIX FOR MONITORING THE FINANCIAL SERVICES STRATEGIC BUSINESS SOURCE The Strategic Business Source for financial services was selected based on its balanced performance in all key performance criteria. The source chosen, at the time of its selection, was performing better than the others that were considered. The final step in developing a financial services Strategic Business Source is to monitor the source to ensure that it continues performing at the expected levels. The source’s performance after its selection needs to be compared to the levels demonstrated during its assessment. An SBS Balanced Performance Matrix can be used for this purpose. Assume the restaurant chain from the prior sample case, after evaluating the SBS Balanced Performance Summation and other immeasurable issues, selects External Source ‘‘A’’ as its Strategic Business Source for financial services. As shown in the Figure 5.7 SBS Balanced Performance Matrix prepared to monitor this source, the measurements for quality, delivery, cost, customer service, and product advancements are shown across the top. These are the same measures used in the assessment process. In the row just below the performance measurements, the source’s actual performance levels for each of these criteria are entered periodically; for example, after each quarter of the fiscal year. For example, the financial services Strategic Business Source’s performance achieved through the fourth quarter of the fiscal year is shown in Figure 5.7. Scales of performance levels are shown below the row defining the source’s actual performance, with the top of each scale showing the levels expected for External Source ‘‘A’’. In Figure 5.7, for example, the scale for the financial transaction yield ranges from 93 percent at the bottom, up to 98 percent at the top, the yield this source demonstrated during its assessment before being selected as the Strategic Business Source. In fact, all of the performance levels at the top of the scales in the Figure 5.7 SBS Balanced Performance Matrix are taken from the Figure 5.2 assessment worksheet for External Source ‘‘A’’. The performance scale of zero to ten at the left side of the matrix allows the use of weighting factors for each performance criterion. Again, the weighting factors allow the sourcing company to give consideration to its business strategy and place more importance on some performance criteria over others. In Figure 5.7, the actual financial transaction yield percentage of the Strategic Business Source after the fourth quarter of the year is 97 percent, one percentage point below the level demonstrated during its assessment. On the performance scale, this equates to a score of ‘‘8’’, which is multiplied by the weighting factor of ‘‘10’’ assigned for this area. This gives an actual weighted score of ‘‘80’’, as entered at the base of the SBS Balanced Performance Matrix. The performance levels being achieved by the Strategic Business Source for the other criteria are also converted to a score of zero to ten, multiplied by the weighting factors, and

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the results entered across the base of the matrix in the row entitled ‘‘actual weighted scores.’’ In the row below the actual weighted scores, the planned weighted scores are shown. These planned weighted scores are based on the source performing at the expected level, the level that the source demonstrated during its original assessment by the company. Since the source is expected to perform at the levels shown at the top of each performance scale, the planned weighted scores for each performance criterion are simply ten, multiplied by the individual weighting factors. For example, in Figure 5.7, the planned weighted score for the financial transaction yield is determined by multiplying ‘‘10’’ by the weighting factor of ‘‘10’’, for a value of ‘‘100’’ as shown in Figure 5.7. This and the other planned weighted scores are entered in the row below the actual weighted scores in the Figure 5.7 SBS Balanced Performance Matrix. The rows showing the actual and planned weighted scores are then summed and the totals entered in the single column to the far right of each row. The differences between the actual weighted scores being achieved by the financial services Strategic Business Source and the planned weighted scores, for both the individual performance criteria as well as the sum, are entered in the bottom row of the SBS Balanced Performance Matrix. This highlights where the source’s performance is below planned levels. In Figure 5.7, for example, the selected Strategic Business Source is performing below planned levels in the criterion of financial transaction yield, 97 percent versus a planned level of 98 percent; financial transaction cost improvement trend, 10.9 percent annually versus a planned level of 11 percent; and commitment to product advancements, $230,000 committed versus $240,000 originally planned. Overall, the source’s actual performance is 86 weighted points below the level which led to its being selected as the financial services Strategic Business Source. The method used by the sourcing company to upgrade the source’s performance in the weaker areas will be addressed in Part III. As with the operational areas addressed in Part I, the approach to developing Strategic Business Sources for financial services involves six major steps. First, the products, in this case the financial transactions performed by the source, are defined. The performance measurements for these products, covering the criteria of quality, delivery, cost, customer service, and product advancements, are determined. The performance levels of the internal and external sources being considered are then assessed by the sourcing company. Next, SBS Performance Matrixes are developed, compiling and comparing the measured levels of performance in the five key criteria. The SBS Performance Matrixes are then evaluated and, after considering pertinent immeasurable issues, the optimal Strategic Business Source is selected. The last step in developing the financial services Strategic Business Source is to prepare the SBS Balanced Performance Matrix. The Balanced Performance Matrix is then used to monitor and improve the overall performance of the selected Strategic Business Source over the long term.

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Figure 5.7 SBS Balanced Performance Matrix for Financial Services Source Monitoring

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CHAPTER 6

Developing the Strategic Business Source for Administrative Services

There are sources of administrative services available that will perform a variety of tasks for their customers. Service include virtually all corporate administrative functions, including work force payroll, benefits, and pension administration. Specifically, there are sources called ‘‘professional employer organizations’’ that handle virtually all administrative functions for their customers. Professional employer organizations provide expertise in all administration areas, while eliminating this burden from, and reducing the administrative costs incurred by their customers. The approach to developing a Strategic Business Source for administrative services is very similar to that used for financial services. The major difference is that, instead of the product being a financial transaction, the product provided by the source is an administrative transaction, such as processing the company’s employee payroll. This chapter covers the six steps to developing the administrative services Strategic Business Source. DEFINING THE PRODUCTS OF ADMINISTRATIVE SERVICES SOURCES The first step in the process of developing a Strategic Business Source for administrative services is to define the end product, to which the performance criteria will apply. The end product delivered by sources of administrative services is the administrative transaction provided. As with financial transactions addressed in the previous chapter, these transactions can vary from payroll to benefits to pension administration. Since all administrative transactions are similar, they can all be handled with the same approach when developing the Strategic Business Source. For the sources being considered for administrative services, the end product

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is the successfully completed administrative transaction. The performance measurements will apply to the particular administrative transactions to be performed by the sources, to assess their levels of quality, delivery, cost, customer service levels, and product advancements being achieved. A Sample Case of Defining the Products of Administrative Service Sources To explain the approach to developing a Strategic Business Source for administrative services, a sample case will be used. Assume a hotel chain is considering three potential sources to perform its administrative services; specifically, to process its employee payroll. Two external sources, External Sources ‘‘A’’ and ‘‘B’’, are being considered, in addition to the internal human resources department currently handling the administrative task. The source of administrative services selected will be provided with access to the computer database defining the pay due each employee, and be required to issue paychecks on the last working day of each month. Additionally, the selected source of administrative services will be responsible for the accuracy and timeliness of payroll processing, and for providing the service at a competitive fee per transaction, the cost per employee paycheck issued. The product of the source in this sample case would be the issued paychecks, as forwarded to each employee by the source. The performance measurements that are addressed in the next section apply to each of the payroll administrative transactions. Developing the performance measurements is the next step in establishing a Strategic Business Source for administrative services. In a later step in the process, the performance measures will be used to assess performance levels in quality, delivery, cost, customer service, and product advancement being realized by each source for administrative services under consideration. DETERMINING THE PERFORMANCE MEASUREMENTS FOR ADMINISTRATIVE SERVICES SOURCES The same five criteria successfully used by corporations to develop Strategic Business Units will similarly be used to develop a Strategic Business Source for administrative services. The measures will address both current performance levels and performance improvement trends being achieved by administration sources. Selecting the Strategic Business Source will again be based on a given source’s ability to service the sourcing company over a long-range period, so the trends are as important as the source’s current performance levels. These performance measures permit the performance of internal and external sources under consideration to be assessed and compared in a later step, allowing the optimal Strategic Business Source to be selected.

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Consistent with the approach used for operational areas in Part I, the guidance on developing performance measurements applies equally to internal sources, such as the company’s own administrative department, and to external sources, such as outside suppliers of these services. Since the performance levels of internal and external sources will be assessed and compared using these performance measurements in a later step, it is important that the same measures be used for internal and external sources under consideration. This will then provide for a valid comparison of performance levels among the sources being considered for administrative services. Determining the Quality Performance Measurements The administrative transactions completed by sources of administrative services must be executed with great accuracy. If inaccurate administrative transactions are made, the sourcing company’s bottom line profitability will be impacted. For example, consider payroll processing transactions. If inaccurate, employee paychecks may be issued in amounts higher than necessary, and expense will be incurred correcting paychecks with incorrect figures identified. The same holds true for other administrative transactions, such as providing benefits and issuing pensions to employees. To avoid the unnecessary expense incurred due to inaccurate administrative transactions, the quality performance of sources has to be measured and assessed before a Strategic Business Source can be selected. As with financial transactions, performance measurements need to address the quality of the administrative transaction; specifically, its accuracy. The quality performance measurements will need to define both existing accuracy yield levels, the percent of administrative transactions processed correctly; and yield improvement trends, the annual percentage that inaccurate transactions are being reduced. This yield improvement trend measure will ensure that the best Strategic Business Source, relative to long-range performance, is selected. Specifically, of the total quantity of administrative transactions executed by the source for its customers, the percentage accurately completed needs to be quantified. This is termed the administrative transaction yield. For administrative transactions, this quality measurement needs to be as close to 100 percent as possible. So that this quality measure is adjusted for the volume of administrative transactions, the yield should be viewed as a percentage of all of the transactions completed, as opposed to just the total number of accurate transactions executed by the source. The administrative transaction yield shows the current accuracy level of the source. It is also necessary to quantify the source’s quality improvement trend. Specifically, a measure of how the administrative source’s yield levels are improving or degrading over the long term is needed. An appropriate measure would be the percent reduction to inaccurate administrative transactions. For example, suppose one source has an administrative transaction yield of 99 per-

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cent, and has reduced the rate of inaccurate transactions from 2 percent down to the current 1 percent, or by 50 percent over the past two-year period. This gives an annual yield improvement of 25 percent reduction to inaccurate transactions. Assume a second source under consideration has a lower yield of 98 percent, but the reject rate has reduced by 50 percent in the past year, from 4 down to the current 2 percent. This second source, with a lower current yield of 98 percent, but a higher yield improvement trend of 50 percent annually, may well be the better choice for a Strategic Business Source, with consideration given to long-term performance. To summarize the quality performance measurements for potential sources of administrative services, two measurements are needed: the administrative transaction yield percentage and the annual yield improvement percentage. Determining the Delivery Performance Measurements The delivery performance of the selected Strategic Business Source for administrative services is very important to the sourcing company. For example, paychecks must be issued to employees by the required date, and benefits must be administered in a timely manner. For some administrative transactions, it is just as important that the transaction not take place too far in advance of its scheduled date. Again using payroll processing as an example, early remittance of paychecks to the work force detracts from the sourcing company’s cash flow and hurts its financial position. To cover these issues, the on-time delivery performance of the potential sources of administrative services needs to be monitored. Specifically, the percentage of the total administrative transactions executed within the required time frame needs to be monitored. For example, for payroll processing transactions due to be made the last working day of each month, the percentage of paychecks issued on the required dates would be an appropriate measurement. The time span required to execute administrative transactions, from receipt of the necessary information from the sourcing company to successfully executing the transaction, referred to as cycle time, is critical in some cases. When cycle time is important to the sourcing company, an additional delivery measurement is needed. To quantify a source’s cycle-time delivery performance, the annual percent reduction to cycle times needs to be determined for each source being considered. Suppose a source implemented, and then upgraded, electronic data interchange capabilities with its major customers over a one-year period. This streamlined its pension processing services, reducing the cycle time from twelve days to six, translating to a delivery performance measurement of a 50 percent annual cycle time reduction. To summarize the necessary delivery performance measurements, two are needed to characterize the performance of potential Strategic Business Sources for administrative services. The on-time delivery percentage is needed to show

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the current performance of the sources in executing administrative transactions in the time frame required by the customers. Also, the annual cycle time improvement percentage needs to be determined in some cases to measure the commitment of potential administrative services sources toward reducing transaction time spans. Determining the Cost Performance Measurements As with transactions executed by financial services sources, administrative transactions can also be considered non-value added functions and, therefore, the expense incurred in executing them needs to be minimized. This is because companies need to reduce expenses to remain competitive, especially when there is no value being added to the end products that are delivered to their customers. To cover the costs incurred in executing administrative transactions, two cost performance measurements are needed. The first cost performance measurement will cover the source’s present cost charged per transaction. This would be either the price quoted by external suppliers of these services, or the costs incurred internally by the company’s own administrative department. For example, if a given source of administrative services, whether an internal department or an external supplier, charges $500 for every 1,000 administrative transactions, such as issuing employee paychecks, the performance measurement would be $0.50 per administrative transaction (the $500 charged by the administration source, divided by the 1,000 administrative transactions provided). The second cost performance measurement will cover the source’s trend toward reducing its administrative transaction fees. For example, if the source for administrative services reduced its rate per 1,000 transactions from $1.00 to the current level of $0.50 over a one-year period, the cost improvement trend would be 50 percent annually. Summarizing the performance measurements for cost, two performance measurements are needed to quantify the performance of administration sources. The first covers the current cost per administrative transaction quoted by external sources, or incurred by internal departments, performing administrative services. The second cost performance measurement addresses the administrative transaction cost improvement trend, the annual percentage reduction to the source’s cost per transaction. Determining the Customer Service Performance Measurement In addition to the quality, delivery, and cost performance of administrative services sources, the levels of customer service provided to their customers are very important. Similar to the customer service assessment guidelines prepared for sources of financial services, guidelines need to be developed for assessing administrative services sources. The guidelines need to be prepared reflecting the sourcing company’s individual needs.

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The customer service expected of administrative services sources will be dependent on what is important to the sourcing company’s operations, industry, market, and customers, and guidelines for assessment need to be developed by each company to reflect its individual customer service needs. These guidelines need to be standardized and uniformly used to assess the internal and external sources being considered, to help ensure that the customer service assessments are performed consistently. Typical guidelines for assessing the customer service of administrative services sources are shown in Figure 6.1. For each of the customer service criteria covered, the performance level being achieved by the source is rated on a scale of one to ten. For example, if the source’s administrative data security systems are strong, a rating of 9.8 may be given, as shown in Figure 6.1. The average performance rating is determined after the customer service assessment is completed, and this average value is the customer service performance measurement. Determining the Product Advancement Performance Measurements The performance measures covered up until now were developed to assess each potential source’s ability to provide high-quality transactions, consistently executed on time, and performed at a competitive price while giving excellent customer service. However, the selection of the Strategic Business Source needs to be based on the long-range benefits to the sourcing company. Because of this, the source’s success in advancing its products (the administrative transactions executed for its customers) also needs to be assessed and considered before the optimal source is selected. For example, sources of administrative services may be making capital investments to interlink computer systems with their customers, which could benefit the sourcing company by streamlining the transaction cycle times. With the unique needs of the sourcing company at the forefront, an assessment of the product advancements planned by potential sources needs to be performed. This is achieved by measuring the source’s progress being achieved in advancing the particular products that will benefit the sourcing company. Specifically, the source’s financial commitment to advancing its products, as well as the progress in actually implementing its planned improvements, needs to be measured. To accomplish this, the capital investment plans of each potential source for administrative services need to be evaluated. Typically, capital investments plans will cover the source’s entire operations, and address planned commitments for the next several years. The performance measurement defining the source’s commitment would be the annual capital investment committed to improving products that would benefit the sourcing company, administrative transactions that would be performed for the company. To clarify this by example, a given source may be planning capital investments of $400,000 targeted to improve its products. Of this amount, $300,000 will be applied to improving operations that will

Figure 6.1 SBS Customer Service Assessment Guidelines for Sources of Administrative Services

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benefit the sourcing company, and the remaining $100,000 will be applied to processes that would not improve the administrative transactions performed for the company. In this example, the performance measurement would be the $300,000 planned investment, the amount that will ultimately benefit the company for whom the transactions would be performed. Beyond just looking at the financial commitments, the source’s performance toward actually accomplishing its planned commitments to improving its products needs to be measured. The source’s historic progress in achieving its capital investment plans needs to be determined; specifically, as a percentage of the originally budgeted expense actually invested as planned. For example, if the company actually invested $275,000 of the $300,000 planned, the source’s percent progress would be 92 percent (based on $275,000 invested divided by $300,000 planned, multiplied by 100 equaling 92 percent). A Sample Case of Determining the Performance Measurements for Administrative Service Sources The previous example of a hotel chain considering administrative services sources for processing its payroll will be expanded on to demonstrate how the performance measurements are developed. Again, the hotel chain is considering three potential sources: the internal human resources department and two external suppliers of administrative services, ‘‘A’’ and ‘‘B’’. Figure 6.2 summarizes the performance measures that will be used. In addition to defining the quality, delivery, cost, customer service, and product advancement performance measurements, the form will also be used as a worksheet as the three sources under consideration are assessed and their performance levels determined. The italicized numerical entries will be discussed later when the assessment step of the process of developing an administrative services Strategic Business Source is covered. Quality performance of each source will be quantified using two measurements. For each source to be considered—the administrative transaction yield, the percent accurately executed, and the administrative transaction yield improvement trend—the percent reduction to inaccurate transactions will be determined. Delivery performance for each of the three sources will be measured as the percentage of administrative transactions that are completed by the date required by the customers. This will give the sourcing company an indication of the delivery performance it can expect. Additionally, delivery performance for the sources being considered will also be measured as the percentage reduction to cycle times to complete the administrative transactions. The cost for administrative services, in this sample case, the cost per payroll processing transaction, will be quantified and used as a performance measurement. The trend toward reducing this cost will also be measured as the percent reduction to the source’s cost per administrative transaction. Using guidelines similar to those shown in Figure 6.1, customer service levels will be determined and measured, by performing a customer service assessment

Figure 6.2 SBS Performance Measurements and Assessment Worksheet: Administrative Services Source Performance Measurements and Assessment Results

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of each source. The customer service measurement is simply the average assessment score assigned to each of the three sources being considered. The financial commitment, as well as the progress being achieved, toward product advancements will be measured for the potential sources. Specifically, the portion of the source’s planned capital investment budget which will advance products that would benefit the sourcing company will be determined and serve as the performance measurement. The historic achievement in making the planned investments will be quantified for each source as the percentage of the planned investments to product improvements historically made as planned. The products of the administrative services sources have been determined and the performance measurements for quality, delivery, cost, customer service, and product advancements have been defined at this point in developing a Strategic Business Source. The sourcing company can now proceed with assessing each source and quantifying performance in the five performance criteria. ASSESSING THE PERFORMANCE OF ADMINISTRATIVE SERVICES SOURCES The next step to developing the Strategic Business Source for administrative services is to assess the performance of the sources being considered. Both internal and external sources need to be evaluated through internal reviews of company departments and on-site visits to outside suppliers. The same guidance that follows applies to assessing both internal and external sources of administrative services, since the assessments must be performed consistently so that results can be compared. To ensure the assessments are performed consistently, the same representatives of the sourcing company should be used to perform the evaluations of all sources being considered. This then permits the results to be directly compared in a later step in the process of selecting a Strategic Business Source for administrative services. Assessing the Quality Performance of Administrative Service Sources The same general approach used to assess sources for the operational areas covered in Part I applies to sources for administrative services. Two methods are used to determine quality performance levels of sources: the source being assessed needs to provide the information, and then the sourcing company’s assessment team needs to verify the reported performance. The performance levels, in terms of the measurements, should be easily attainable from internal departments and external suppliers. As an example, the sources being considered may report quality performance measurements of a transaction yield rate of 99 percent and an annual yield improvement trend of 25 percent; specifically, a 25 percent reduction to inac-

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curate administrative transactions. The source’s administrative records detailing transactions completed for its customers, such as records detailing paychecks issued to customers’ employees and subsequent corrections made to already completed transactions, need to be reviewed to validate the information reported by the source. From these administrative transaction records, the total quantity of transactions completed by the source over a given time period, and the number that later required corrections, can be determined to validate the current reported yield of 99 percent. These same administrative records covering a period of years can be used to verify the 25 percent reduction to inaccurate administrative transactions reported by the source. The administrative transaction yield and yield improvement trend should be determined for the same type of administrative transactions that would be executed for the sourcing company; for example, payroll processing or benefits administration. To show how the information can be derived from administrative transaction records, if only 1,000 of the last 100,000 paychecks issued by the source to its customers’ employees needed to be subsequently corrected, the source’s reported transaction yield of 99 percent is valid (based on 99,000 completed accurately, divided by a total of 100,000, multiplied by 100 equaling 99 percent). If the percentage of paychecks that required corrections reduced from 2 to the present level of 1 percent over the past two years, the source’s claim of a 25 percent annual yield improvement is accurate (based on a 50 percent reduction achieved over the past two-year period).

Assessing the Delivery Performance of Administrative Service Sources Delivery performance of the administrative services sources being considered can also be determined by first requesting each source to provide the information, and then independently verifying the information. By reviewing a sampling of the purchase orders awarded by customers to external sources, and internal documentation for internal sources, the required completion dates for the administrative transactions completed by the sources can be determined. By then reviewing administrative documentation detailing the corresponding completed transactions, the actual delivery performance against the required dates can be determined. Assume a potential source for administrative services reports that it administers benefits within the time period required by its customers 96 percent on time. This can be verified by comparing the purchase order–defined required completion dates to documentation showing the actual completion dates for transactions similar to those that would be performed for the company. Suppose, for example, customer purchase orders and the source’s administrative records indicate that a given source administered the last 96,000 of 100,000 employee benefits within the two weeks required by its customers. The 96 percent on-time delivery performance reported by the source would be verified as accurate (based

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on 96,000 administered, divided by 100,000, multiplied by 100 equaling 96 percent). The cycle time improvement reported by the source can also be independently verified by reviewing the source’s administrative records showing the date a given transaction begins, and the date it is actually completed. The history of cycle times for administrative transactions, such as the time needed to process payrolls or administer pension benefits, will determine the cycle time improvement trend. Assume the source reports a 10 percent annual reduction to benefits administration cycle times. If the source’s administrative documentation from two years ago for similar transactions shows average cycle times of ten days, and the same type of administrative transactions are currently completed in eight days, the source’s cycle-time improvement trend would be verified as a 10 percent annual reduction (based on a 20 percent reduction from ten days to eight, divided by the two-year period). Assessing the Cost Performance of Administrative Service Sources One of the cost performance measurements for administrative services sources is the price per administrative transaction quoted by external sources, and the internal cost per transaction the company incurs for internal departments. This cost measurement would be supplemented by the administrative transaction cost improvement trend, which is the percentage that the cost per transaction has been reduced by the source annually. Both cost performance measurements would be determined by first requesting the source to provide the information, and then reviewing the external source’s quotations forwarded to its customers and the internal department’s costs incurred over a several-year period. From this information, the annual percent cost reduction being achieved can be quantified. For example, by reviewing an external source’s proposals submitted to its customers, it might be concluded that a given source over a two-year period has reduced its costs from $0.80 down to $0.40 per administrative transaction. This would mean the administrative transaction cost improvement trend is 25 percent annually (based on the 50 percent reduction achieved over the two-year period). Assessing the Customer Service Performance of Administrative Service Sources Customer service levels of sources being considered for administrative services would be quantified by the sourcing company’s assessment team using guidelines similar to those shown in Figure 6.1. For example, Figure 6.1 includes criteria for assessing the adequacy of the source’s benefits administration computer systems. The source’s systems may be highly sophisticated, warranting the highest rating of 10.0 for these criteria, as shown in the figure. Once all of the customer service criteria are rated, the average of the ratings would be deter-

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mined and represent the customer service performance measurement for each of the sources being considered. Assessing the Product Advancement Performance of Administrative Service Sources The performance measurements for product advancements are determined by the source’s financial commitment to improving its products, as well as the source’s historic progress being achieved in accomplishing its plans. Again, the source should initially provide the information, informing the sourcing company of its capital investment budget, as well as its historic percent achievement in actually making the investments. The reported figures would then have to be verified by the sourcing company’s assessment personnel. This is accomplished by reviewing the source’s documentation showing planned capital investments targeted to improve its products, as well as the percent progress historically being accomplished. As an example, assume a given source of administrative services reports an annual capital investment budget of $250,000. This can be verified by reviewing the appropriate budget planning documentation. Only the portion of the budget that will be dedicated to advancing the types of administrative transactions that would be performed for the sourcing company should be considered when selecting an administrative services Strategic Business Source. Suppose that, of the source’s total annual budget, $50,000 will be dedicated to advancing administrative processes that will not benefit the sourcing company. For example, the investments could be targeted for improved pension administration, whereas the sourcing company is only interested in finding improved sources for payroll processing. The effective budget in this case is actually $200,000, the amount that will advance products that would be provided to the company (based on the $250,000 total budget, less the $50,000 investment in areas that will not ultimately benefit the company). Suppose the source being assessed by the sourcing company reports that historically 97 percent of its planned capital investments are successfully implemented. If records from the prior year indicate that, of a total commitment of $500,000 planned for capital investments in the past year, only $485,000 was actually invested by year-end, the percent progress would be confirmed as 97 percent (based on $485,000 invested, divided by the planned budget of $500,000, multiplied by 100 equaling 97 percent). A Sample Case of Assessing the Performance of Administrative Service Sources The sample case of a hotel chain considering three sources for payroll processing services will again be used to demonstrate how the sources would be assessed and the performance data collected. The Figure 6.2 SBS Performance

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Measurements and Assessment Worksheet summarizes the measurements that would be used, as well as the results obtained during an assessment of the three sources being considered: an internal source and External Sources ‘‘A’’ and ‘‘B’’. After soliciting input from the source and independently reviewing administrative transaction documentation, the sourcing company’s personnel performing the assessment have determined the administrative transaction yield for the internal department currently handling payroll processing is 98.5 percent. The assessors have concluded this, since of the last 100,000 payroll processing transactions completed, just 1,500 were not accurate and later required an adjustment (based on 98,500 accurate transactions, divided by the total of 100,000 executed, multiplied by 100 equaling 98.5 percent). This quality performance measurement is entered on the Figure 6.2 SBS Performance Measurements and Assessment Worksheet as the administrative transaction yield for the internal source. A review of historic records of administrative transactions shows that the rate of inaccurate payroll processing transactions had reduced from 2.7 percent to the current level of 1.5 percent, or 45 percent, over a three-year period. The annual reduction, 15 percent, is entered on the Figure 6.2 worksheet for the internal source as the administrative transaction yield improvement trend. The sourcing company’s assessment team determined that the internal source completed 97,000 of the last 100,000 payroll processing transactions within the time period required by its customers. This gives an on-time delivery performance measurement of 97 percent (97,000 processed on time, divided by the total of 100,000 executed, multiplied by 100 equaling 97 percent). This figure is entered on Figure 6.2 as the internal source’s on-time delivery performance. The cycle times for these payroll processing transactions were determined by reviewing administrative transaction records to have been reduced from 14 to 12 days over a one-year period, a 14 percent annual improvement as shown on the Figure 6.2 worksheet. From the internal department’s budget records, the cost incurred by the internal source for every 1,000 paychecks processed was determined to be $730.00, or $0.73 per transaction. This figure is entered on the Figure 6.2 worksheet as the administrative transaction cost for the internal source. By reviewing historic budget documentation for payroll processing transactions, this cost has been reduced from $1.11 per transaction to the current cost over the past two years. The reduction from $1.11 to the current cost of $0.73 per transaction is 34 percent, achieved over the two-year period. This gives a 17 percent annual improvement, which is entered on Figure 6.2 as the administrative transaction cost improvement trend. Customer service guidelines similar to those shown in Figure 6.1 were used to assess each potential source for administrative services. The sourcing company’s assessment team evaluated the internal department which handles payroll processing, and the average of the individual ratings assigned to each of the

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customer service criteria was determined to be 9.8. This figure is shown as the customer service performance measurement for the internal source on the Figure 6.2 worksheet. The total capital investment budget that the hotel chain plans to commit to improving its administrative processes was determined to be $350,000. Of this total budget, $290,000 is targeted to improve payroll processing, and the remainder is targeted for process improvements to other administrative functions. The effective annual budget of $290,000 is shown on the worksheet for the internal source. The assessment team compared the historic capital investment budgeting to the actual investments made and concluded that an average of $294,000 of an average annual budget of $300,000 is successfully invested as planned by the hotel chain. The percentage of achieving the planned product advancements is then 98 percent ($294,000 invested on average, divided by $300,000 planned, multiplied by 100 equaling 98 percent). This percentage is shown on the Figure 6.2 assessment worksheet as the internal source’s performance in achieving its planned product advancements. Assessments similar to that described above for the internal department were also performed by the hotel chain’s assessment team for External Sources ‘‘A’’ and ‘‘B’’. The approach used is the same, by first having the source supply the information, and then having the assessment team independently verify that the reported performance is accurate. The results determined for the two external sources being considered by the hotel chain for payroll processing services are also shown on the Figure 6.2 administrative services source assessment worksheet.

At this point in developing the Strategic Business Sources for administrative services, the end products of the sources have been defined, the performance measurements for the five performance criteria determined, and the assessment of the sources completed. The next step is to compile and compare the performance levels of each source and, after considering important immeasurable issues, selecting the optimal Strategic Business Source. The SBS Performance Matrixes and Balanced Performance Summation help assure that the sourcing company bases its selection of the Strategic Business Source on overall performance, considering all five performance criteria. Take as an example Comerica, Incorporated. This company contracted an external source, the Fiserv Human Resource Information Service division, for human resource administration, payroll processing, and even tax filing. Under the partnership with Fiserv, Comerica’s 13,000 employees are able to contact Fiserv regarding human resources and payroll issues. Comerica will benefit by gaining advanced voice response systems technology and improved quality of administrative services for its employees, while incurring less costs as compared to performing the functions internally.

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DEVELOPING THE SBS PERFORMANCE MATRIXES AND SUMMATION FOR SELECTING THE ADMINISTRATIVE SERVICES STRATEGIC BUSINESS SOURCE With the assessment of the sources completed and the performance of each measured in all five criteria, the performance levels need to be compiled and compared. Sources for administrative services can be evaluated using the same method used for comparing the overall, balanced performance levels of sources for operational functions. Strategic Business Source, or SBS Performance Matrixes can be prepared to consolidate and compare the performance levels of the sources under consideration. As with the operational functions, three SBS Performance Matrixes are needed to address quality, delivery, cost, customer service, and product advancements being achieved by the potential sources. The results from the SBS Performance Matrixes are compiled on the SBS Balanced Performance Summation, which will highlight the best-performing source. To illustrate the method used to prepare the SBS Performance Matrixes and Balanced Performance Summation, the previously addressed sample case will be used. Specifically, the case of a hotel chain evaluating three administrative services sources to process its payroll will be discussed. A Sample Case of Developing the SBS Performance Matrixes and Summation for Selecting the Administrative Service Strategic Business Source The performance levels of the sources being considered for administrative services need to be compared in the five criteria: quality, delivery, cost, customer service, and product advancements. The SBS Performance Matrixes, which define the performance of each source in these criteria, will serve this purpose. Figure 6.3 shows the Quality Performance Matrix prepared by the hotel chain to select the Strategic Business Source for payroll processing services. The performance measurements and the actual levels being realized, as determined during the assessment of the internal source and two external sources, are shown. The performance levels are then compared by developing ratios. Specifically, the performance of each source is compared to that of the best-performing source for each criterion. This is done by dividing each source’s performance level by the highest level being achieved by one of the sources being considered. To demonstrate this, Figure 6.3 shows the administrative transaction yield of the internal source, the human resources department that handles payroll processing, to be 98.5 percent. This percentage is divided by the highest level being achieved, in this case, the 99.5 percent being achieved by External Source ‘‘A’’. The result of 0.99 is entered on the SBS Quality Performance Matrix as the administrative transaction yield ratio for the internal source. The administrative transaction yield ratio of External Source ‘‘A’’ is simply 1.00 in Figure 6.3, since it is the best-performing source for this criterion. The 97.4 percent yield

Figure 6.3 SBS Quality Performance Matrix: Administrative Services Source Selection

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of External Source ‘‘B’’ is also divided by the highest level of 99.5 percent, giving a ratio of 0.98. For the remaining quality performance measurement, the administrative transaction yield improvement trend, the performance levels are similarly compared for each source and the ratios entered on the Figure 6.3 SBS Quality Performance Matrix. The ratios entered for each source are then multiplied by the weighting factors assigned by the sourcing company looking for new sources. These weighting factors permit the sourcing company to place more emphasis on certain performance criteria over others, based on which particular areas are most important to the company and its strategy. In Figure 6.3, the most important criterion is the administrative transaction yield improvement trend, which is assigned a weight of ten by the hotel chain. Referring to the internal source, the administrative transaction yield improvement ratio of 1.00 is multiplied by the weighting factor of ten. The result of 10.0 is then entered at the bottom of the matrix. This process is repeated for all of the sources, and for both of the quality performance criteria and ratios. These values are then summed. For example, the sum of the values for the internal source in Figure 6.3 is determined by adding 8.9 and 10.0, for a total of 18.9. The internal source has the highest total weighted points in quality performance, as compared to the 16.3 points for External Source ‘‘A’’ and 17.5 points for External Source ‘‘B’’. Two additional SBS Performance Matrixes are then prepared to cover the other important performance criteria. Figure 6.4 shows one of the additional SBS Performance Matrixes, addressing delivery, cost, and customer service levels for the sources being considered. This SBS Delivery, Cost, and Customer Service Performance Matrix is prepared in the same manner as the Figure 6.3 matrix, compiling and comparing the performance levels from the Figure 6.2 assessment worksheet. Figure 6.4 shows the best-performing source in the criteria of delivery, cost, and customer service is External Source ‘‘A’’ with 46.3 total weighted points, as compared to 44.3 and 46.2 being realized by External Source ‘‘B’’ and the internal source, respectively. The final SBS Performance Matrix, covering product advancements being achieved by the sources is shown in Figure 6.5. This matrix is prepared using the same method as the first two performance matrixes. The best performing source at advancing its products is External Source ‘‘B’’ in the Figure 6.5 matrix with 18.8 total weighted points, as compared to 18.6 and 18.7 being earned by External Source ‘‘A’’ and the internal source, respectively. At this point in developing a Strategic Business Source for administrative services, three SBS Performance Matrixes have been prepared. These three matrixes cover the performance of the various sources in all of the performance criteria. From the total weighted points for each of the performance criteria, the best-performing source is highlighted. The information from each of the three individual SBS Performance Matrixes now needs to be combined to target the strongest performing source overall.

Figure 6.4 SBS Delivery, Cost, and Customer Service Performance Matrix: Administrative Services Source Selection

Figure 6.5 SBS Product Advancement Performance Matrix: Administrative Services Source Selection

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The performance of each source being considered by the hotel chain was quantified and summed at the base of each of the three individual SBS Performance Matrixes. This information can now be consolidated into an SBS Balanced Performance Summation to flag the best overall source. The SBS Balanced Performance Summation prepared by the hotel chain for selecting an administrative services source for payroll processing is shown in Figure 6.6. The total weighted points from the SBS Quality Performance Matrix shown in Figure 6.3 are entered on Figure 6.6 for each of the three sources: 16.3, 17.5, and 18.9 for External Sources ‘‘A’’ and ‘‘B’’ and the internal source, respectively. The values from the Figure 6.4 SBS Delivery, Cost, and Customer Service and the Figure 6.5 SBS Product Advancement Performance Matrixes are also entered on Figure 6.6 for each source. These values are then added together, and the highest value highlights the best overall performing source being considered to perform the hotel chain’s payroll processing. Specifically, the internal department in the Figure 6.6 sample case is flagged as the best-performing source overall, with 83.8 total weighted points, as compared to 81.2 for External Source ‘‘A’’ and 80.6 for External Source ‘‘B’’. Referring to Figure 6.6, the internal source, the bestperforming overall, was actually outperformed by External Source ‘‘A’’ in delivery, cost, and customer service performance, and by External Source ‘‘B’’ in advancing products. However, when all five performance criteria are taken into consideration, the internal source is achieving the best, overall balanced performance. The best-performing source highlighted by the SBS Balanced Performance Summation may ultimately be the best choice as a Strategic Business Source. However, before the Strategic Business Source is selected, other immeasurable issues should be considered. SELECTING THE STRATEGIC BUSINESS SOURCE FOR ADMINISTRATIVE SERVICES The overall performance of each source under consideration was quantified and the best-performing was highlighted. In addition to the measured performance, there are other issues that may need to be taken into consideration before the Strategic Business Source is selected. Considering Immeasurable Issues before Making the Strategic Business Source Decision In many cases, the total score from the SBS Balanced Performance Summation will show an external source for administrative services outperforming an internal department being considered. In many cases, the company will be benefited by selecting the external source over the internal department. However, there are situations where it might be appropriate to upgrade the internal source to the levels being achieved by the better-performing external source. Under this

Figure 6.6 SBS Balanced Performance Summation: Administrative Services Source Selection

*denotes current and best performing source

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scenario, the internal capability to provide the company with administrative services could be retained. This is especially the case when the measured performance of the external source is only slightly better than that of the internal source. In this case, the company may be benefited by upgrading internal performance and continuing use of the internal department to provide its administrative transactions. Immeasurable issues should be addressed before the final decision is made and the Strategic Business Source is selected. Suppose that certain administrative services are very important to a company’s operations. For example, a high-technology company dependent on employee innovation may consider the administrative task of personnel recruitment to be critical. Under this scenario, the company can better control the quality of the employees it recruits by not outsourcing the responsibility to external sources. As another example, companies that depend heavily on proprietary information may not want to employ external sources, since access to proprietary information would be made available to outside parties. There are many cases where administrative services are very important to certain companies, where consideration should be given to upgrading the performance of the internal department as opposed to selecting external sources. After considering the immeasurable issues of importance to the sourcing company, suppose that the conclusion is reached that it would be in the best longterm interest to retain and upgrade the internal administrative department, even though external sources are performing better. The SBS Balanced Performance Summation and individual Performance Matrixes would then need to be reviewed to target the internal performance criteria that need to be improved to meet the levels being realized by the better performing external sources. To demonstrate this, assume the SBS Balanced Performance Summation shows that the internal source was outperformed only at advancing its products, but exceeded external sources in quality, delivery, cost, and customer service performance. The SBS Product Advancement Performance Matrix may reveal that the capital investments planned by the internal source for advancing its products are lower than that of an external source being considered. The company would then need to increase its financial commitments, such as investing in improved computer systems used for administrative transactions. With the focus on improving products internally, and eventually achieving the higher yield of available external sources, the internal source would then be an appropriate choice as the company’s Strategic Business Source. At this stage in developing a Strategic Business Source for administrative services, performance of the internal and external sources being considered have been assessed and measured, and the levels being achieved compared. Immeasurable issues have been considered. The company is positioned to select its Strategic Business Source for administrative services. After the selection, the performance of the chosen source then needs to stay at or above the levels that led to its being selected as the Strategic Business Source. An SBS Balanced

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Performance Matrix can be prepared to monitor the performance of the selected source. DEVELOPING THE SBS BALANCED PERFORMANCE MATRIX FOR MONITORING THE ADMINISTRATIVE SERVICES STRATEGIC BUSINESS SOURCE The Strategic Business Source for administrative services was selected based on its balanced performance in all key criteria. The Strategic Business Source, at the time of its selection, was performing better than the others that were considered. The final step in developing the administrative services Strategic Business Source is to monitor the selected source to ensure that it continues performing at the expected levels. The source’s performance after its selection needs to be compared to the levels demonstrated during its assessment. An SBS Balanced Performance Matrix can be used for this purpose. From the previous sample case, the internal department would be selected as the Strategic Business Source for administrative services. It is the bestperforming source overall, as shown in the Figure 6.6 SBS Balanced Performance Summation. An SBS Balanced Performance Matrix, such as that shown in Figure 6.7, needs to be prepared to monitor the selected source. The measurements for quality, delivery, cost, customer service, and process and product advancements are defined at the top of the matrix, the same measures used to assess the selected source. In the row just below the performance measurements, the source’s actual performance levels for each of these criteria are entered periodically. For example, in Figure 6.7 the performance has been entered through the fourth quarter of the fiscal year. Scales of performance levels are shown below the row defining the source’s actual performance, with the top of each scale showing the levels expected for the internal source. In Figure 6.7, the scale for the administrative transaction yield ranges from 96.0 percent at the bottom, up to 98.5 percent, the yield this source demonstrated during its assessment before being chosen as the Strategic Business Source. All of the performance levels at the top of the scales in the Figure 6.7 SBS Balanced Performance Matrix are taken from the Figure 6.2 assessment worksheet for the internal source. The performance scale of zero to ten at the left side of the matrix permits the use of weighting factors for each performance criterion, allowing the sourcing company to factor in its business strategy and place more importance on some criteria over others. The most important criterion is assigned a weight of ten, and the other areas are assigned weighting factors relative to the highest rated areas. As an example, in Figure 6.7 the actual administrative transaction yield improvement trend for this Strategic Business Source after the fourth quarter of the year is 14 percent, lower than the expected level of 15 percent, the yield demonstrated during its assessment. On the performance scale, this equates to a score of ‘‘8’’, which is multiplied by the weighting factor of ‘‘10’’ assigned for

Figure 6.7 SBS Balanced Performance Matrix for Administrative Services Source Monitoring

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this area. This gives an actual weighted score of ‘‘80’’, as entered at the base of the SBS Balanced Performance Matrix. The other performance levels being achieved by the internal source for the other criteria are converted using the same approach to a score of zero to ten, which is then multiplied by the weighting factors. The results are entered across the base of the matrix in the row entitled ‘‘actual weighted scores.’’ In the row below the actual weighted scores, the planned weighted scores are shown, which are based on the source performing at the level determined during the assessment of the source. Since the source is expected to perform at the levels shown at the top of each performance scale, the planned weighted scores for each criterion are simply ten, multiplied by the individual weighting factors. These values are entered in the row below the actual weighted scores in the Figure 6.7 SBS Balanced Performance Matrix. The rows showing the actual and planned weighted scores are then summed and the totals entered in the single column to the far right of each row. The differences between the actual weighted scores being achieved by the internal Strategic Business Source and the planned weighted scores, for both the individual performance areas as well as the sum, are entered in the bottom row of the SBS Balanced Performance Matrix. Negative values flag the areas of the source’s performance which are below planned levels. For example, in Figure 6.7 the selected Strategic Business Source is performing below planned levels in the criteria of administrative transaction yield improvement trend, 14 percent as compared to a planned level of 15 percent; and customer service, an average rating of 9.7 as compared to a planned level of 9.8. Overall, the source’s actual performance is 40 weighted points below the level which led to its being selected as the company’s administrative services Strategic Business Source. As with the operational areas addressed in Part I, the approach to developing administrative services Strategic Business Sources involves six major steps. First, the products, in this case the administrative transactions performed by the source, are defined. The performance measurements for the products covering all five criteria are then determined. Next, the performance levels of the internal and external sources being considered are assessed. SBS Performance Matrixes for the sources are then prepared, compiling and comparing the measured levels of performance in the five criteria. The SBS Performance Matrixes are then evaluated and, after considering pertinent immeasurable issues, the optimal Strategic Business Source is selected. The last step in developing the Strategic Business Source for administrative services is to prepare the SBS Balanced Performance Matrix. This matrix is used to monitor and improve the overall performance of the selected Strategic Business Source over the long term. The methods used to improve the Strategic Business Source’s performance will be addressed in Part III, which follows.

Summary of Part II

Part II addressed developing Strategic Business Sources for two important corporate functions: finance and administration. Each of the chapters addressing these functions covered the six steps required to develop Strategic Business Sources: defining the products, developing the measurements, assessing the sources, preparing the performance matrixes and summation, considering immeasurable issues and choosing the Strategic Business Source, and preparing the SBS Balanced Performance Matrix for monitoring the selected source. There are many other financial and administrative functions for which Strategic Business Sources can be developed by applying the same six steps. The same six steps are followed regardless of the corporate financial or administrative function being addressed. However, the steps are customized, depending on the types of products or services being provided by the financial or administrative services source. A discussion of how the six steps are tailored to the source for which a Strategic Business Source is being developed is included in the summary of Part I.

PART III

Optimizing the Performance of Strategic Business Sources

Parts I and II covered the six-step approach to selecting Strategic Business Sources for operational, financial, and administrative functions. The last step of this process was to develop an SBS Balanced Performance Matrix for monitoring each of the sources selected, whether an internal department or an external supplier. With each source’s overall performance being monitored, its performance can be further optimized using the technique described in Part III. Specifically, the SBS Balanced Performance Matrix may show that a source is not performing in certain criteria to the levels that led to its choice as the company’s Strategic Business Source. By reviewing the Balanced Performance Matrix, the particular performance criteria can be targeted. With the performance weaknesses highlighted, the specific processes that are impeding performance can be pinpointed using analytical techniques. Once the problem areas are welldefined, the source’s work force can work toward improving the processes impeding performance, leading the company to benchmark performance levels. Chapter 7 will detail approaches to optimizing the quality performance of Strategic Business Sources. Strengthening delivery, cost, and customer service performance of the sources being used by the company will be addressed in Chapter 8. Finally, Chapter 9 will cover improving the Selected Strategic Business Source’s performance toward advancing its products.

CHAPTER 7

Optimizing the Quality Performance of Strategic Business Sources

With the company monitoring each of its Strategic Business Sources with individual SBS Balanced Performance Matrixes, the performance of the selected sources can be improved when performance falls below expected levels. This chapter will address the case where a source’s quality performance levels are lower than planned: less than the levels that led to its being selected as the company’s Strategic Business Source. The principles that are discussed can be used to improve the quality performance of any of the company’s Strategic Business Sources, whether it is performing operational, financial, or administrative functions. The quality performance of any Strategic Business Source can be optimized by first targeting the specific performance criteria that are falling below the sourcing company’s expectations. The specific processes that are causing poorquality performance can then be determined through analyzing the problem areas. With the problem processes pinpointed, the source’s work force can then be focused on improving the processes to achieve benchmark quality performance levels. TARGETING THE SPECIFIC QUALITY PERFORMANCE CRITERIA THAT REQUIRE IMPROVEMENT By referring to the SBS Balanced Performance Matrix used by the company to monitor a given Strategic Business Source, the particular performance criteria in which the source is not performing as expected can be easily determined. The matrix will show each source’s performance in all of the important criteria: quality, delivery, cost, customer service, and product advancements. The specific performance levels that need to be improved are highlighted by the SBS Bal-

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anced Performance Matrix. Specifically, when the actual weighted scores shown at the bottom of the matrix are less than the planned weighted scores, the source’s performance is below the level that led to its being selected as the company’s Strategic Business Source. The company needs to focus the source on improving the targeted weaknesses to return performance to the expected levels. As an example, refer to the Figure 3.7 SBS Balanced Performance Matrix. In this example, the company’s Strategic Business Source for R&D, its own internal R&D department, is not performing as well as planned in quality and delivery performance (delivery performance will be covered in the next section). For the performance criteria, the actual weighted scores less the planned weighted scores are negative values. The particular quality performance criterion that needs improvement is the production specification accuracy, where the source has achieved a weighted score of 64, as compared to a planned weighted score of 100. Through the second quarter of the company’s fiscal year, the production specification accuracy of the internal R&D department is 98 percent, one percentage point below the 99 percent accuracy demonstrated before being selected as the company’s Strategic Business Source. While the small difference may not seem significant, for a large volume of specifications being released by R&D sources, the additional 1 percent of inaccurate specifications could be a significant number being issued with errors for the company’s use. Also, the slight decline in performance could be indicating the beginning of a negative trend, and it should be addressed before performance in this criterion further degrades. PINPOINTING THE PROCESSES IMPEDING IMPROVED QUALITY PERFORMANCE For quality performance, Pareto Analyses are particularly useful in analyzing the weakest processes and understanding the reasons a given source’s quality performance is declining. By definition, a Pareto distribution is an analysis of processes that targets the most significant performance weaknesses. The Pareto Analysis is premised on the 80–20 rule: that generally 80 percent of performance weaknesses are attributable to 20 percent of the processes. The results of the Pareto Analysis are usually presented as a graph showing the types of problems occurring along the x-axis, and the magnitude of these problems along the yaxis. The Pareto Analysis concept will be clarified by addressing the quality weakness shown in the Figure 3.7 SBS Balanced Performance Matrix, the source’s production specification accuracy falling below planned levels. Figure 7.1 shows Pareto Analyses for the production specifications being issued with errors by the company’s Strategic Business Source for R&D services. In this example, the sourcing company prepared these analyses to communicate to the Strategic Business Source the types of problems it is experiencing with the source’s production specifications. Since the R&D source has a production specification accuracy of 98 percent, as shown in Figure 3.7, 2 percent of the

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Figure 7.1 Pareto Analysis of Production Specification Errors Issued by the Research and Development Strategic Business Source

specifications are being issued with errors for the sourcing company’s use. The Pareto Analysis in the top graph defines the production specification errors as a percentage of the total specifications issued, accounting for the 2 percent that are inaccurate. Specifically, 1 percent are drawing errors, 0.5 percent are incorrect assembly procedures, 0.3 percent are bill of material errors, and 0.2 percent are test procedure mistakes. Since incorrect drawings account for most of the production specification errors, the types of drawing errors are analyzed in a second Pareto Analysis shown in the bottom graph of Figure 7.1. This Pareto Analysis shows the types of drawing errors as a percent of the total quantity of drawings with errors issued by the R&D source. Specifically, 45 percent of the drawings issued had wrong

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dimensional tolerances shown, 30 percent had incorrect notes shown, 20 percent had wrong dimensions identified, and the final 5 percent had incorrect materials specified. In the Figure 7.1 example, the most significant problem that the company is having with inaccurate production specifications issued by its R&D Strategic Business Source is with incorrect drawing tolerances. After all, most of the specifications with errors were drawings (from the top Pareto Analysis), and most of the drawing errors were incorrect tolerances (from the bottom Pareto Analysis). The company and source will need to address the actions needed to prevent the problems with drawing tolerance errors. This provides the greatest opportunity to improve the source’s production specification accuracy, and return performance to the expected levels. Methods to improve a source’s quality performance will be covered in the next section. Depending on the level of analysis necessary to pinpoint the source’s problem areas, additional Pareto Analyses can be prepared. For example, a Pareto Analysis specific to the drawing tolerance errors could be prepared, showing whether most are incorrect tolerances on linear dimensions, diameters, angles, and so on. Also, additional Pareto Analyses could be prepared for the other types of specification errors shown in the top graph. Just as the drawing errors were further analyzed to pinpoint incorrect tolerances as the most predominant problem, the assembly procedure, bill of materials, and test procedure errors could be further studied to better define the specific problems with them. In Figure 7.1, the Pareto Analyses are applied specifically to an R&D Strategic Business Source’s production specification accuracy. However, the same approach is equally effective in all quality performance criteria for all Strategic Business Sources. For example, performance problems with a production Strategic Business Source’s delivered product yield, delivered product yield improvement trend, warranty expense, or warranty improvement trend can also be analyzed by preparing Pareto Analyses. Pareto Analyses can be used to pinpoint an R&D Strategic Business Source’s problems with its delivered R&D project yield, delivered R&D project yield improvement trend, production specification accuracy improvement trend, warranty expense, or warranty improvement trend (as well as with its production specification accuracy, previously addressed). Problems with a purchasing Strategic Business Source’s delivered purchased goods yield, delivered purchased goods yield improvement trend, warranty expense, or warranty improvement trend can similarly be analyzed using Pareto Analyses. Pareto Analyses can also be used to better define a financial services Strategic Business Source’s problems with its financial transaction yield or financial transaction yield improvement trend. Problems with an administrative services Strategic Business Source’s administrative transaction yield or administrative transaction yield improvement trend can also be well-defined by preparing Pareto Analyses. Regardless of the specific quality performance weaknesses and the products or services being provided by the Strategic Business Sources, Pareto Analyses

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are particularly useful in pinpointing the processes that are impeding a given source’s performance. With the Pareto Analyses prepared by the sourcing company and communicated to the Strategic Business Source, the parties can then focus their resources on strengthening the targeted processes and improve quality performance to the expected levels. IMPROVING THE TARGETED PROCESSES TO BENCHMARK QUALITY PERFORMANCE LEVELS With the shared objective to improve the quality performance of the Strategic Business Source, the company and source need to work jointly toward eliminating problem areas, such as those flagged by Pareto Analyses. Since the problem areas pinpointed are causing the most significant quality problems, the source most likely needs to assemble a team of personnel to develop the necessary preventive actions and improve its processes. Since the problems have been analytically determined to be the most predominant, it is unlikely that a sustainable improvement to the processes will be made by an individual employee; a team approach will be more effective. Depending on the type of problems being addressed, it may be appropriate for the Strategic Business Source to assemble a process improvement team in a particular department to resolve the quality problems. However, in many cases a cross-functional process improvement team (with representatives from multiple departments) may be needed, when the problems have an impact on more than one department. The need for a cross-functional team has to be determined based on the nature of the quality problems; specifically, whether personnel from multiple departments are needed to improve the problem processes. For example, in the Figure 7.1 case, the R&D source may need to assign personnel from its drafting, engineering, and prototype manufacturing departments to uncover and take actions to remove the root causes of the recurring drawing tolerance errors. For other types of quality problems, such as the assembly procedure errors addressed in Figure 7.1, it may be sufficient for the source to establish an assembly department process improvement team to improve the accuracy of the procedures. It may not be necessary to involve personnel from other departments. Again, the makeup of the process improvement team would have to be determined based on the types of problems being addressed. Also, for some very significant problems, the sourcing company may need to be represented on the Strategic Business Source’s process improvement team. Assume a purchasing source, as an example, has a poor delivered purchased goods yield percentage. Furthermore, suppose it is determined by Pareto Analyses that the low yield is due to porosity in castings procured by the source from a third-party foundry. Personnel from the company, purchasing Strategic Business Source, and third-party foundry may need to work jointly on a process improvement team to resolve the casting porosity problems. In this example, all

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three parties may be needed to address the quality problem; the company may need to change its casting configurations, the source may need to change the specifications it passes on to the foundry, or the foundry may need to change its casting manufacturing methods. The company and its Strategic Business Source need to jointly decide what personnel need to be assigned to a process improvement team to address the quality performance problems defined by Pareto Analyses. Also, the company and its source need to agree on the qualifications of the team’s personnel, and the type of additional training the team members will need to resolve performance weaknesses. With the process improvement team assembled and assigned to address the quality performance problems pinpointed by Pareto Analyses, the team needs to perform five key tasks. These tasks will ensure that the actions recommended and implemented by the team to prevent future quality problems are both effective and sustainable. Specifically, the team should comply with the five key requirements for preventive actions defined by the widely accepted series of international standards for quality management systems, ISO-9000. The ISO9000 series of standards is the most widely accepted worldwide, developed by the International Organization for Standardization to globally standardize quality management system requirements. Regardless of whether a source is maintaining a quality management system in full compliance with ISO-9000, the process improvement team assigned to address quality performance problems needs to comply with the preventive action requirements of this standard. Specifically, the team needs to further analyze the quality problem it is attempting to resolve, possibly by preparing additional Pareto Analyses to further pinpoint the processes causing the problems. For example, the Figure 7.1 Pareto Analyses may lead the team to preparing an analysis showing the most predominant type of drawing tolerance errors, such as mistakes with tolerances specified for angles. Next, the team needs to determine the steps to be taken to prevent the quality problems from recurring; for example, increase training of the source’s drafting personnel on angular tolerancing. The process improvement team then needs to develop and execute a plan to implement these preventive actions; for example, prepare and support a schedule to develop and provide training on angular tolerancing, and then test the drafting personnel. Next, the team needs to put controls in place to ensure the preventive actions are effective; for example, a trial period during which senior drafting personnel review angular tolerancing on drawings could be instituted. Finally, throughout the process improvement effort, the team needs to periodically report the status of its efforts to the management of the Strategic Business Source which, in turn, needs to apprise the sourcing company of its progress. After the preventive actions recommended by the process improvement teams have been fully implemented, the effectiveness of these improvements needs to be monitored by some means. This can be easily achieved through monitoring the performance measurements and related process analyses that originally tar-

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geted the Strategic Business Source’s quality problem area. Specifically, the quality performance measurement and Pareto Analyses that originally flagged the problem areas being addressed by the team need to continue to be monitored. In Figure 3.7, for example, the production specification accuracy should continue to be monitored to verify the source’s performance in this area is improving. Also in Figure 7.1, the quantity of drawing errors (as a percent of total specification errors), and particularly the amount of drawing tolerance errors (as a percent of all drawing errors), should continue to be monitored to ensure the implemented preventive actions are effective and improvement is being achieved. Should performance monitoring indicate that the preventive actions have not been effective, the company and its Strategic Business Source would need to reconvene to discuss and agree on the additional effort needed to improve the source’s quality performance. To summarize, if a Strategic Business Source’s quality performance falls below expected levels, steps have to be taken by the company and its source to improve performance to the expected levels. The particular quality performance criterion that requires improvement needs to be determined by reviewing the SBS Balanced Performance Matrix. The quality problems need to be further analyzed to pinpoint the processes that require strengthening, for example, by preparing Pareto Analyses. After the weaknesses are highlighted, process improvement teams comprised of the appropriate personnel have to be formed to establish and implement preventive actions to prevent the problems from recurring. With the preventive actions implemented, the Strategic Business Source’s quality performance needs to be continually monitored to ensure improvement is being achieved.

CHAPTER 8

Optimizing the Delivery, Cost, and Customer Service Performance of Strategic Business Sources

The SBS Balanced Performance Matrixes for the company’s Strategic Business Sources may show that a given source’s delivery, cost, or customer service performance has fallen below expected levels. This chapter will address the cases where performance in these criteria is lower than anticipated, less than the level that led to the source being chosen by the company as its Strategic Business Source. The guidance that is presented can be used to improve the delivery, cost, or customer service performance of any Strategic Business Source, whether providing operational, financial, or administrative services. First, the specific delivery, cost, or customer performance criterion that is falling below the sourcing company’s expectations is targeted. By analyzing the problem areas, the specific processes that are causing poor performance can then be determined. The source’s work force can then be tasked with optimizing the processes that are impeding performance, with the objective to achieve benchmark delivery, cost and, customer service performance levels. TARGETING THE SPECIFIC DELIVERY, COST, AND CUSTOMER SERVICE PERFORMANCE CRITERIA THAT REQUIRE IMPROVEMENT The SBS Balanced Performance Matrix used by the company to monitor its Strategic Business Sources will show the particular performance criteria in which a given source is not performing well. The matrix defines each source’s performance in all five of the important criteria, and highlights where performance needs improved. Specifically, when the actual weighted scores shown at the bottom of the matrix are less than the planned weighted scores, the performance is below the level that led to the source’s selection as the company’s Strategic

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Business Source. The company needs to work with the source to improve the performance weaknesses and return performance to the expected levels. Targeting the Specific Delivery Performance Criteria that Require Improvement As an example of a source’s delivery performance being below expected levels, refer to the Figure 4.7 SBS Balanced Performance Matrix. In this figure, the company’s Strategic Business Source for purchasing, External Source ‘‘B’’, is not performing as well as planned in delivery performance and at advancing its products (product advancement performance will be covered in a later section). The specific delivery performance criterion that needs improving is the ontime delivery of purchased goods. External Source ‘‘B’’ has a weighted score of 60 versus a planned weighted score of 100 through the third quarter of the sourcing company’s fiscal year. The on-time delivery performance is 93 percent, two percentage points below the 95 percent demonstrated by this source during its original assessment by the company. This small difference may be significant for a large quantity of purchased goods. Also, the decline in performance could be indicating the beginning of a negative trend, and needs to be addressed before the Strategic Business Source’s delivery performance further degrades. Targeting the Specific Cost Performance Criteria that Require Improvement The Figure 2.7 SBS Balanced Performance Matrix provides an example of a Strategic Business Source whose cost performance is below expected levels. In Figure 2.7, the company’s production Strategic Business Source, External Source ‘‘A’’, is not performing up to expectations in cost and quality performance (quality performance was covered in the prior section). The cost performance criterion that needs improving is the cost improvement trend, since External Source ‘‘A’’ has a weighted score of just 40 as compared to a planned weighted score of 100. This source’s cost improvement trend through the first quarter of the company’s fiscal year is a 6.7 percent annual reduction to costs, slightly below the 7 percent annual reduction that was demonstrated by this source during its assessment before being chosen as the company’s Strategic Business Source. This small variance may be significant for a large dollar volume of purchased goods, and needs to be addressed before the source’s cost performance further declines. Targeting the Specific Customer Service Performance Criteria that Require Improvement The Figure 6.7 SBS Balanced Performance Matrix shows a Strategic Business Source whose customer service performance is less than the level demonstrated prior to its being selected as the company’s source for administrative services.

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In Figure 6.7, the company’s administrative services Strategic Business Source, its internal department, is not performing at the expected levels in customer service performance, as well as quality performance. The internal administrative services department has a weighted score of 80 in customer service, in contrast to a planned weighted score of 100. This source’s average score from the customer service assessment performed by the company after the fourth quarter of its fiscal year is 9.7, just below the average score of 9.8 given by the company during the original assessment of this source. The difference in the average customer service assessment score may be due to the source’s performance degrading in an area critical to the sourcing company, and its cause needs to be determined. Whether performance of a given Strategic Business Source is falling below planned levels in delivery, cost, or customer service, the specific processes that are impeding performance need to be determined. Once determined, the company and Strategic Business Source can work jointly toward strengthening the targeted weaknesses and return the source’s delivery, cost, or customer service performance to benchmark levels. PINPOINTING THE PROCESSES IMPEDING IMPROVED DELIVERY, COST, AND CUSTOMER SERVICE PERFORMANCE With the source’s delivery, cost, or customer service performance criteria that are not performing as well as planned determined, the particular processes that are impeding performance need to be pinpointed. The reasons for the poor delivery performance, cost overruns, or unacceptable customer service levels need to be better defined by analyzing the processes that are causing the performance problems. Pinpointing the Processes Impeding Strong Delivery Performance Pie charts are useful in understanding the drivers of poor delivery performance, highlighting the particular areas where a Strategic Business Source’s deliveries are not meeting their customers’ required dates. Pie charts are usually formatted to show a percentage distribution for a given subject. The concept will be clarified by using a pie chart to discuss the delivery performance weakness shown in the Figure 4.7 SBS Balanced Performance Matrix, the source’s on-time delivery of purchased goods falling below expected levels. The pie charts shown in Figure 8.1 analyze the purchased goods being delivered late by the company’s Strategic Business Source for purchasing services. In this example, the sourcing company prepared the pie charts to communicate to the Strategic Business Source the types of problems it is experiencing with purchased goods deliveries. The purchasing source addressed in Figure 4.7 has

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Figure 8.1 Pie Chart Analysis of Late Purchased Goods Deliveries from the Purchasing Strategic Business Source

an on-time delivery performance of 93 percent, meaning 7 percent of purchased goods deliveries are being received late by the sourcing company. The pie chart at the top of Figure 8.1 shows the types of products that are being delivered late. Specifically, 47 percent of the late deliveries are bronze castings, 32 percent are aluminum castings, 13 percent are steel castings, and the remaining 8 percent are iron castings. As Figure 8.1 shows, most of the late purchased goods deliveries were bronze castings. The third-party manufacturers causing the late delivery of these bronze castings are shown on the pie chart at the bottom of Figure 8.1. This pie chart shows the percentage of all bronze casting deliveries being delivered late by each of the source’s suppliers. Specifically, 39 percent of the late bronze casting deliveries were manufactured by Global Castings, 31 percent by Precision Foun-

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dry, 23 percent by Quality Castings, and the remaining 7 percent by World Class Foundry. In the Figure 8.1 example, the most predominant delivery problem that the purchasing Strategic Business Source is having is with the on-time delivery of bronze castings produced by Global Castings. This conclusion is reached since most of the late deliveries of purchased goods to the sourcing company were bronze castings (from the top pie chart), and most of the late bronze casting deliveries were produced by Global Castings (from the bottom pie chart). The company and its Strategic Business Source would need to take actions to prevent late bronze casting deliveries, since this is the best opportunity to improve the source’s on-time delivery performance. Depending on the level of analysis needed to understand the source’s delivery performance problems, additional pie charts can be prepared. For example, a pie chart can be prepared to show whether most of the late deliveries from Global Castings were due to incorrect chemistry, porosity, or poor metallurgical properties. Additional pie charts can also be prepared for the other purchased goods being delivered late, as defined in the top graph of Figure 8.1. Similar to determining that most of the late bronze casting deliveries were produced by Global Castings, the third-party manufacturers of the other purchased goods delivered late—aluminum, steel, and iron castings—can be highlighted by preparing additional pie charts. The Figure 8.1 pie charts were prepared to analyze a purchasing Strategic Business Source’s problems with on-time delivery performance. The same approach can be applied to all other delivery performance criteria for all Strategic Business Sources. Performance problems with a production Strategic Business Source’s on-time delivery percentage or cycle time improvement trend can also be analyzed by preparing pie charts. The pie chart for cycle time would show the percentage distribution of the total cycle time, instead of the distribution of late deliveries prepared to analyze on-time delivery performance. Pie charts can also be used to better define an R&D Strategic Business Source’s problems with on-time R&D project completion or its R&D project cycle-time improvement trend. Problems with a purchasing source’s cycle-time improvement trend can also be analyzed using pie charts (as well as its on-time delivery performance previously covered). A financial services Strategic Business Source’s problems, with its on-time completion of financial transactions or its cycle-time improvement trend, can be pinpointed by preparing pie charts. Also, problems with an administrative services Strategic Business Source’s on-time completion of administrative transactions or its cycle-time improvement trend can similarly be well-defined by using pie charts. Pinpointing the Processes Impeding Strong Delivery Performance Pie charts are also helpful in understanding the reasons behind poor cost performance, defining the particular areas where most of a Strategic Business

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Figure 8.2 Pie Chart Analysis of Costs Incurred by the Production Strategic Business Source

Source’s costs can being incurred. The approach to using pie charts to define opportunities to reduce costs will be explained using the cost performance weakness shown in the Figure 2.7 SBS Balanced Performance Matrix, the production source’s cost improvement trend falling below expected levels. The pie charts shown in Figure 8.2 define opportunities for the production Strategic Business Source to reduce its costs to the levels expected by the sourcing company. In this case, the company required its production source to prepare the pie charts to understand the reasons for the costs not being reduced by the source at the expected rate. The production source, whose performance is detailed in Figure 2.7, is on a pace to reduce its costs by 6.7 percent annually, as compared to the 7 percent annual reduction originally demonstrated during its assessment. The pie chart at the top of Figure 8.2 shows the distribution of the

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production costs being incurred by this Strategic Business Source. Specifically, most of the costs, 44 percent, are incurred purchasing the raw materials needed to produce the sourcing company’s products; 38 percent are incurred machining the products; 13 percent of the costs are incurred performing product assembly operations; and the remaining 5 percent of costs are for product testing. As shown in Figure 8.2, most of the production Strategic Business Source’s costs in this example are for the raw materials it purchases from third-party suppliers for use in producing the company’s products. The pie chart at the bottom of Figure 8.2 shows that, of all of the raw material costs, most are incurred purchasing steel castings. Specifically, of the total material costs, 42 percent is for steel castings, 28 percent is incurred procuring stainless steel bar stock, 18 percent is for carbon steel bar stock, and the remaining 12 percent is incurred purchasing electrical wiring. In the Figure 8.2 example, the most significant cost being incurred by the production Strategic Business Source is for steel castings used to produce the company’s products. This conclusion is reached since most of the production source’s costs are incurred purchasing raw materials, and of the raw material purchased, the expense incurred purchasing steel castings is the greatest. Since this is the largest portion of the source’s costs, the best opportunity to reduce costs would be to reduce the expense incurred purchasing steel castings. The company and its Strategic Business Source need to take action to reduce the costs of steel castings, since this is the best opportunity to improve the source’s cost performance. Depending on the level of detail needed to define the source’s cost performance problems, additional pie charts may need to be prepared. A pie chart, for example, may be prepared to show the particular finished parts that require the most expensive steel castings, which could be redesigned to reduce casting costs. Also, additional pie charts can be prepared for the other elements of the production source’s costs, as defined in the top graph of Figure 8.2. Similar to determining that most of the raw material costs are for steel castings, pie charts can be prepared to define where most of the machining, assembly, or testing costs are being incurred. For example, the pie charts would highlight which particular machined parts, assembly operations, or test methods are causing most of the costs to be incurred. The Figure 8.2 pie charts were prepared to better understand a production Strategic Business Source’s problems with its cost improvement trend, showing where the opportunities are to reduce production costs. The same method can also be used to analyze the makeup of a production Strategic Business Source’s effective costs, if greater than anticipated. Performance problems with an R&D source’s project costs and project cost improvement trend can also be better understood by preparing pie charts. A given purchasing Strategic Business Source’s problems with its costs, whether its direct purchasing costs, purchasing cost improvement trend, purchased goods costs, or purchased goods cost improvement trend, can be analyzed by preparing pie charts. Pie charts can be used

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to define specific problems with a financial services source’s financial transaction costs or cost improvement trend. Also, an administrative services Strategic Business Source’s problems with controlling its financial transaction costs or cost improvement trend can also be studied using pie charts. Pinpointing the Processes Impeding Strong Customer Service Performance To understand the reason that a Strategic Business Source’s customer service performance is lower than the sourcing company expects, the most recently performed customer service assessment results need to be evaluated. By comparing the most recent customer service assessment results with the original results, the areas where the source’s performance is degrading will become clear. This method will be explained using the Figure 6.7 SBS Balanced Performance Matrix that shows an administrative services source with customer service levels lower than demonstrated before being chosen as the company’s Strategic Business Source. The administration Strategic Business Source, as detailed in Figure 6.7, was given an average customer service score of 9.7 after being reassessed by the sourcing company at the conclusion of the fourth quarter of its fiscal year. This rating is lower than the average score of 9.8 assigned by the company to this source during its original assessment before being chosen. As a result, the Figure 6.7 weighted score for customer service is 20 points below expected levels. To determine the particular aspects of the source’s customer service that are not as strong as planned, the results from the reassessment performed by the company would need to be reviewed. The reassessment would have been performed using the same customer service criteria as the original assessment. Figure 6.1 shows the worksheet used by the company to originally assess this source’s customer service level, resulting in its original average score of 9.8. The same customer service assessment worksheet would have been completed by the company at the end of the fourth quarter of its fiscal year, resulting in the source receiving an average score of 9.7. By comparing the two customer service assessment worksheets, the specific criteria that have fallen below their original levels become clear. Some of the customer service criteria would not likely receive a rating during a reassessment of the source that is lower than the original rating. Referring to Figure 6.1, the criteria for administrative computer systems capability would not likely receive a lower rating, unless the source’s computer systems are no longer operational. However, there are several customer service criteria that could degrade over time and receive a lower rating by the sourcing company during reassessments of the source. For example, the rating of the administrative services source’s management in Figure 6.1 may be downgraded during a reassessment if key executives have left and have not been replaced with comparable expertise.

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Whenever the average customer service score entered on the SBS Balanced Performance Matrix is lower than the company assigned during the original assessment of a given source, one or more of the worksheet-defined customer service criteria has been downgraded. A comparison between the original and reassessment customer service worksheets will pinpoint the specific areas of the source’s performance that have fallen below expected levels. The Figure 6.7 SBS Balanced Performance Matrix applies to the customer service levels being provided by a Strategic Business Source for administrative services. The same method of understanding which particular areas of a source’s customer service are degrading can be applied to all Strategic Business Sources, whether providing administrative or financial services, or performing operational functions. The approaches described above will help pinpoint the reasons for a given source’s performance problems, whether weaknesses are uncovered by the SBS Balanced Performance Matrix in delivery, cost, or customer service performance. These methods apply to all Strategic Business Sources. With the problem areas better-defined using these techniques, the company and its Strategic Business Source can then involve their personnel in improving their processes and return delivery, cost, and customer service to the expected levels. IMPROVING THE TARGETED PROCESSES TO BENCHMARK DELIVERY, COST, AND CUSTOMER SERVICE PERFORMANCE LEVELS The approaches to improving the source’s processes determined to be impeding strong delivery, cost, or customer service performance are very similar to those described in Chapter 7 to improve a source’s quality performance. Again, the company and its source would pursue the shared objectives to improve the delivery, cost, or customer service performance. Since the problem areas pinpointed are the most significant performance weaknesses, the source will most likely need to have a team of personnel develop the necessary preventive actions and improve its processes. Since the problems have been concluded to be the source’s most significant, it is unlikely that an individual employee would be able to resolve them; a team approach is more effective for predominant problems. As with quality performance problems, a team of personnel from a particular department of the source may be assembled to improve processes impeding improved delivery, cost, or customer service performance. However, in many cases for significant performance problems, a cross-functional process improvement team (with representatives from multiple departments) would be needed when the problems involve more than one of the source’s departments. The need for a cross-functional team has to be determined based on the types of delivery, cost, or customer service problems being addressed; specifically,

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whether personnel from multiple departments are needed to improve the associated processes. In the Figure 8.1 example, the purchasing source may need to involve its own procurement personnel, representatives from Global Castings (which is providing the majority of late purchased goods deliveries), and possibly engineering personnel from the sourcing company (in the event casting configurations need to be modified to improve delivery performance). For other types of problems, a team from a particular department may be sufficient to resolve performance problems. For example, for the high costs for steel castings shown in Figure 8.2, it may be sufficient for the Strategic Business Source to simply task its purchasing department personnel with negotiating improved pricing for the raw materials. The makeup of the process improvement team, whether formed with representatives from one or multiple functions and organizations, has to be determined on a case basis, as a function of the types of problems being addressed. The company and its Strategic Business Source need to jointly agree on the personnel to be assigned to process improvement teams formed to improve the source’s delivery, cost, or customer service performance. Additionally, the company and its source need to concur on the qualifications of the team’s personnel, and the type of additional training the team members will need to address the performance weaknesses. With the process improvement team assembled and assigned to address the source’s performance problems, the team should perform the five key tasks previously addressed in Chapter 7 for improving quality performance. These tasks will ensure that the actions recommended by the team and implemented by the source are both effective and sustainable. These requirements for preventive action are defined by the widely accepted series of international standards for quality management systems, ISO-9000. Specifically, the team needs to further analyze the delivery, cost, or customer service problems it is attempting to resolve by performing additional analyses to pinpoint the processes causing the problems. For example, additional pie charts can be prepared to better understand the reasons for delivery delays, excessive cycle times, or high costs. Then the team needs to determine the steps to be taken to prevent the delivery, cost, or customer service performance problems from recurring. Next, the process improvement team needs to develop and execute a plan to implement these preventive actions. The team then needs to put controls in place to ensure the preventive actions are effective; for example, increased monitoring of third-party suppliers with chronic problems with ontime deliveries. Finally, throughout the process improvement effort the team needs to periodically report its progress to the management of the Strategic Business Source which, in turn, needs to keep the sourcing company informed of its efforts. After the actions recommended by the process improvement teams have been fully implemented, how effective these improvements are toward enhancing delivery, cost, or customer service performance needs to be determined. This can

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be easily achieved through monitoring the performance measurements and process analyses that originally targeted the Strategic Business Source’s performance problems. Specifically, the delivery and cost performance measurements and pie chart analyses that originally pinpointed the problems addressed by the team need to continue to be monitored. In Figure 4.7, for example, the on-time purchased goods delivery should continue to be monitored to verify the purchasing Strategic Business Source’s overall performance is improving. Also, in Figure 8.1, the on-time bronze casting deliveries need to continue to be monitored, particularly those produced by Global Castings. In Figure 2.7, for example, the cost improvement trend needs to continue to be monitored and, in Figure 8.2, raw material costs require monitoring, particularly the expense being incurred for steel castings. If performance monitoring indicates that the preventive actions have not strengthened the Strategic Business Source’s performance, the company and the source would need to reconvene to establish the additional efforts needed to improve the source’s performance. Summarizing, if a Strategic Business Source’s delivery, cost, or customer service performance falls below expected levels, steps have to be taken by the company and its source to improve performance. The particular performance criteria that require improvement need to be determined by reviewing the SBS Balanced Performance Matrixes. The problems need to be further analyzed to pinpoint processes that require strengthening; for example, by preparing pie charts for delivery or cost performance, or evaluating assessment worksheets for customer service performance. After the weaknesses are highlighted, process improvement teams comprised of the appropriate employees have to be formed to establish and implement actions to prevent the problems from recurring. The Strategic Business Source’s delivery, cost, and customer service performance needs to continue to be periodically monitored to ensure improvement is being achieved.

CHAPTER 9

Optimizing the Product Advancement Performance of Strategic Business Sources

At times, the SBS Balanced Performance Matrix may show that a given source is performing below expectations. This chapter will cover the situation where the source’s performance toward advancing its products is not as strong as anticipated; specifically, less than the level demonstrated during its original assessment by the company that led to its being selected as a Strategic Business Source. The approaches that are covered can be used to improve the product advancement performance of any of the company’s Strategic Business Sources, whether they are performing operational, financial, or administrative functions. A Strategic Business Source’s performance toward advancing its products can be optimized by first targeting the specific performance criteria that are falling below the sourcing company’s expectations. The specific processes that are causing the source’s poor performance in advancing its products can then be uncovered by further analyzing the problem. With the problem processes pinpointed, the source’s work force can then be assigned to improve the processes to achieve the expected progress in advancing its products. TARGETING THE SPECIFIC PRODUCT ADVANCEMENT PERFORMANCE CRITERIA THAT REQUIRE IMPROVEMENT The specific performance criteria in which a given source is not performing as well as planned can be determined by referring to the SBS Balanced Performance Matrix used by the company to monitor the source. The matrix will show the source’s performance in quality, delivery, cost, customer service, and product advancements. The performance levels that need to be improved are highlighted by the SBS Balanced Performance Matrix. Specifically, when the

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actual weighted scores shown at the bottom of the matrix are less than the planned weighted scores, the source’s performance is below the level that led to its selection as a Strategic Business Source. With the performance weaknesses defined, the company needs to focus the source on improving performance to the expected levels. Referring to the Figure 5.7 SBS Balanced Performance Matrix, the company’s Strategic Business Source for financial services, External Source ‘‘A’’, is not performing as well as expected in quality, cost, and product advancement performance (quality and cost performance were covered in Chapters 7 and 8). The particular performance criterion that needs to be addressed is the source’s commitment to product advancements; in this case, advancing its capabilities to perform financial transactions. In this criterion, the source has achieved an actual weighted score of 60, versus a planned weighted score of 100, through the fourth quarter of the company’s fiscal year. The financial commitment for investments to advance the products of External Source ‘‘A’’ has been reduced to $230,000, as shown in Figure 5.7. This is $10,000 less than the $240,000 commitment identified prior to its being selected as the company’s Strategic Business Source. This reduction to its capital investment budget, although small, could be indicating the beginning of a negative trend and it needs to be addressed before the source’s performance in advancing its products further degrades. To improve the source’s product advancement performance, the specific processes that are causing the decline in performance need to be determined, so that they can be addressed by the source’s employees and the source returned to benchmark performance levels. PINPOINTING THE PROCESSES IMPEDING IMPROVED PRODUCT ADVANCEMENT PERFORMANCE When product advancement performance of a given Strategic Business Source is falling below expected levels, discussions between the company and its source need to be held to uncover the reasons. For some reason, the source is not making the same financial commitment to capital investments intended to improve its products, or has not been successful in advancing its products (even though the funding was available to do so). Referring to the Figure 5.7 case, this financial services Strategic Business Source has reduced its commitment to capital investments for improving its products (the financial transactions it performs) by $10,000 (from an annual budget of $240,000, down to $230,000). The company needs to question the source and understand the reason that the investment has been reduced. During this discussion, the source should be requested to identify what particular capital investments, intended to improve the financial transactions it executes for the company, will not be made as planned. The company should learn from the source what alternate improvements will be made that will provide similar enhancements to the source’s capability to perform financial transactions. As an

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alternative, the company can request the source to identify when the originally planned capital investments, for which funding has been cut, will be implemented. In some cases, the Strategic Business Source’s performance toward advancing its products may fall below expected levels, not due to a reduced financial commitment, but due to other problems in making the capital investments. This would be highlighted by the SBS Balanced Performance Matrix if the actual weighted score for achieving product advancements is less than the planned weighted score (the source covered in Figure 5.7 has a product advancement achievement measure of 98 percent, which is actually higher than planned). If the source’s progress in actually achieving its intended product advancements is less than planned, progress in implementing the capital improvements is being delayed. Specifically, the Strategic Business Source needs to explain why, although the funding is available for capital investments, progress being made is slower than expected. Actions then need to be agreed upon between the company and its Strategic Business Source to remove the causes for the delays and restore performance in this criterion to the levels demonstrated during the source’s original assessment. The objective of these discussions between the company and its Strategic Business Source is to convey the message that the source was selected partly because of its historic commitment and progress in advancing its products. The source’s performance in this criterion needs to return to the expected level, to warrant its continued use by the company as its Strategic Business Source. With the conclusions reached from the discussions held between the two parties, the company and its Strategic Business Source can then focus their resources on improving the source’s performance toward advancing its products. The personnel can address any reductions to financial commitments made by the Strategic Business Source, or any delays in implementing capital improvements intended to improve the source’s products. IMPROVING THE TARGETED PROCESSES TO BENCHMARK PRODUCT ADVANCEMENT PERFORMANCE LEVELS The methods of improving the source’s processes that have been determined to be impeding success in advancing products are similar to those described in Chapter 7 to improve quality performance. The company and its source would jointly pursue the shared objectives to improve product advancement performance, and work together to eliminate the source’s problems. The source may need to have a process improvement team of personnel develop the necessary preventive actions and improve the processes that are hindering its ability to advance its products. It is not likely that an individual employee would be in a position to resolve them, since the source’s problems with product advancements are most likely significant.

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Depending on the outcome of the discussions held between the company and its Strategic Business Source to learn the causes of the decline in product advancement performance, a team of personnel from one of the source’s departments may be assembled to address the problems. In some cases, a cross-functional process improvement team (with representatives from multiple departments) might be appropriate. This would depend on what conclusions were reached from the discussions held between the company and its source. Whether a department or cross-functional team is needed has to be determined based on the types of problems the source is having toward advancing its products; specifically, whether personnel from one or multiple departments are needed to resolve the problems. For example, if the source’s financial commitment for capital investments needed to improve its products has been reduced, in all likelihood a cross-functional team of the source’s senior management would need to be assembled to develop recovery plans. If the source’s progress in achieving its product advancements is being delayed due to problems with a third-party supplier of capital equipment, a purchasing department team may be sufficient to work with the supplier and expedite installation of the equipment. The makeup of the process improvement team, whether formed with representatives from one or multiple functions and organizations, has to be determined on a case basis as a function of the types of problems being addressed. The company and its Strategic Business Source need to concur on the personnel to be assigned to the teams formed to improve the source’s ability to advance its products. The company and its source also need to agree on the qualifications of the team’s personnel, and the type of additional training the team members will need. The team should perform the five tasks previously addressed in Chapter 7 for improving quality performance. These tasks will ensure that the actions recommended by the team and implemented by the source are both effective and sustainable. Specifically, the team needs to further study the problems that the source is having advancing its products by gathering whatever additional information is needed to pinpoint the processes causing the problems. Next, the team needs to determine the steps to be taken to prevent the problems that the source is experiencing from recurring. The source’s team then needs to develop and execute a plan to implement the preventive actions intended to resolve the performance problem. Next, the team needs to put controls in place to ensure the preventive actions are effective; for example, more frequent reviews by the source’s management of its progress in implementing its capital investments. Throughout the process improvement effort, the team needs to periodically inform the management of the Strategic Business Source of its progress which, in turn, needs to be communicated to the sourcing company. After the actions recommended by the teams addressing the source’s problems have been implemented, how effective these improvements are needs to be determined. This can be done by monitoring the performance measurements that originally targeted the Strategic Business Source’s performance problems. Spe-

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cifically, the product advancement performance measurements that originally pinpointed the problems need to continue to be monitored. In Figure 5.7, for example, the source’s financial commitment to product advancements should continue to be monitored to verify the Strategic Business Source’s performance is improving. If, by monitoring the source’s performance, it becomes evident that the preventive actions have not improved the source’s performance, the company and the source would need to reconvene to decide what additional efforts are needed to improve the source’s ability to advance its products. To summarize, if a Strategic Business Source’s product advancement performance falls below expected levels, steps have to be taken jointly by the company and its source to improve performance. The particular performance criteria that require improvement need to be determined by reviewing the SBS Balanced Performance Matrix. The problems needs to be further studied to pinpoint the problem areas that need to be addressed. After the weaknesses are highlighted, process improvement teams comprised of the appropriate employees need to be formed to develop and implement actions to prevent the source’s performance problems from recurring. The Strategic Business Source’s product advancement performance then needs to be periodically monitored to ensure that improvement is being achieved.

Summary of Part III

The last of the six steps to developing Strategic Business Sources covered in Parts I and II was to prepare SBS Balanced Performance Matrixes. The performance matrix is used by the company to monitor the performance of the sources it selected, whether an internal department or an external supplier. With the performance of each Strategic Business Source being monitored, its performance can be further optimized using the approaches described in Part III. Specifically, the SBS Balanced Performance Matrix may show that a source is not performing in some areas to the levels that led to its being chosen as the company’s Strategic Business Source. The SBS Balanced Performance Matrix will define the particular performance criteria that need to be addressed. With the specific weaknesses highlighted, the processes that are impeding performance can be pinpointed using analytical techniques, such as Pareto Analyses and pie charts. Once the causes of the problems are highlighted, the company and its source can work toward improving the processes impeding performance. As a result of these efforts, each of the company’s Strategic Business Sources will ultimately achieve benchmark performance levels.

Bibliography

Allred, Don, and Hordes, Mark. Strategic Quality Planning Manual. Milwaukee, Wis.: ASQC, 1993. American Society for Quality Control (ASQC). Supplier Certification Processes. Milwaukee, Wis.: ASQC, 1990. ASQC Quality Costs Committee. Guide for Reducing Quality Costs. 2nd ed. Milwaukee, Wis.: ASQC, 1987. ASQC Quality Costs Committee. Principles of Quality Costs. Milwaukee, Wis.: ASQC, 1986. Bossert, James L. Procurement Quality Control. 4th ed. Milwaukee, Wis.: ASQC Quality Press, 1988. Brewer, Clyde W., and Kleckner, Richard M. ISO Quality Management System Design. Grand Prairie, Tex.: Brewer and Associates, 1990. Crosby, Philip B. Quality Is Free: The Art of Making Quality Certain. New York: McGraw-Hill Book Company, 1979. Crosby, Philip B. Quality Without Tears: The Art of Hassle-Free Management. New York: McGraw-Hill Book Company, 1984. Ernst & Young Quality Improvement Consulting Group. Total Quality: An Executive’s Guide for the 1990s. Homewood, Ill.: Business One Irwin, 1990. Feigenbaum, A. V. Total Quality Control: Engineering and Management. New York: McGraw-Hill Book Company, 1961. Ishakawa, Kaoru. Guide to Quality Control. White Plains, N.Y.: Kraus International Publications, 1982. Juran, J. M. Quality Control Handbook. 3rd ed. New York: McGraw-Hill Book Company, 1979. Juran, J. M., and Gyrna, Frank M. Quality Planning and Analysis: From Product Development through Use. 3rd ed. New York: McGraw-Hill Book Company, 1970. Morse, Wayne J., Roth, Harold P., and Poston, Kay M. Measuring, Planning, and Controlling Quality Costs. Montvale, N.J.: National Association of Accountants, 1987.

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Muller, Eugene W., and Dobler, Donald W., with Page, Harry R. C. P. M. Study Guide. 6th ed. Tempe, Ariz.: National Association of Purchasing Management, 1994. National Institute of Standards and Technology. 1997 Application Guidelines: Malcolm Baldrige National Quality Award. Gaithersburg, Md.: United States Department of Commerce, Technology Administration, National Institute of Standards and Technology, 1996. Tunner, Joseph R. A Quality Technology Primer for Managers. Milwaukee, Wis.: ASQC Quality Press, 1990.

Index

administrative services functions, 147–72 Administrative Service Strategic Business Source, 147–72; assessing the performance of, 156–61; defining the products of, 147–48; determining the performance measurements for, 148–56; developing the SBS Balanced Performance Matrix for, 170–72; developing the SBS Performance Matrixes and Balanced Performance Summation, 162–67; selecting the, 167–70 administrative transaction cost, 151 administrative transaction cost improvement ratio, 164–65 administrative transaction cost improvement trend, 151 administrative transaction cost ratio, 164– 65 administrative transaction yield, 149 administrative transaction yield improvement ratio, 162–63 administrative transaction yield improvement trend, 149–50 administrative transaction yield ratio, 162– 63 AT&T, 1 BellSouth, 1

Chrysler, 44, 69 Comerica, Incorporated, 161 Compaq, 49 Corporate Strategic Business Sourcing, 3– 4 Cost improvement trend: for the Production Strategic Business Source, 21; for the Purchasing Strategic Business Source, 89 Cost improvement trend ratio: for the Production Strategic Business Source, 39; for the Purchasing Strategic Business Source, 104 Cost performance measurements: for the Administrative Service Strategic Business Source, 151, 158; for the Financial Service Strategic Business Source, 122–23; for the Production Strategic Business Source, 19–21; for the Purchasing Strategic Business Source, 88– 90; for the R&D Strategic Business Source, 55–57 Cost: effective, 2; for the Production Strategic Business Source, 19; for the Purchasing Strategic Business Source, 88 Customer Service Assessment Guidelines: for the Administrative Service Strate-

208

Index

gic Business Source, 151–52; for the Financial Service Strategic Business Source, 123–24; for the Production Strategic Business Source, 21–22, 30; for the Purchasing Strategic Business Source, 90–97, 99; for the R&D Strategic Business Source, 58–59, 66 Customer service performance measurements: for the Administrative Service Strategic Business Source, 151–52, 158– 59; for the Financial Service Strategic Business Source, 123–25, 130; for the Production Strategic Business Source, 21–22, 30; for the Purchasing Strategic Business Source, 90–92, 99; for the R&D Strategic Business Source, 58– 59, 66 Customer service ratio: for the Administrative Service Strategic Business Source, 164–65; for the Financial Service Strategic Business Source, 136–37; for the Production Strategic Business Source, 36–38; for the Purchasing Strategic Business Source, 104, 106; for the R&D Strategic Business Source, 72 Cycle-time improvement trend: for the Administrative Service Strategic Business Source, 150; for the Financial Service Strategic Business Source, 122; for the Production Strategic Business Source, 19; for the Purchasing Strategic Business Source, 88 Cycle-time improvement trend ratio: for the Administrative Service Strategic Business Source, 164–65; for the Financial Service Strategic Business Source, 137; for the Production Strategic Business Source, 38; for the Purchasing Strategic Business Source, 107 Delivered product yield, 5, 17 Delivered product yield improvement trend, 17 Delivered product yield improvement trend ratio, 34 Delivered product yield ratio, 5, 34 Delivered purchased goods yield, 85

Delivered purchased goods yield improvement trend, 86 Delivered purchased goods yield improvement trend ratio, 102 Delivered purchased goods yield ratio, 102 Delivered R&D project yield, 52 Delivered R&D project yield improvement trend, 52 Delivered R&D project yield improvement trend ratio, 70 Delivered R&D project yield ratio, 70 Delivery performance measurements: for the Administrative Service Strategic Business Source, 157–58; for the Financial Service Strategic Business Source, 122, 129; for the Production Strategic Business Source, 18–19, 28– 29; for the Purchasing Strategic Business Source, 87–88, 97; for the R&D Strategic Business Source, 54–55, 64– 65 Downsizing, 1 Effective cost, 19 Effective cost improvement percentage, 21 Effective cost ratio, 38 Financial services functions, 119–45 Financial Service Strategic Business Source, 119–45; assessing the performance of, 128–33; defining the products of, 119–20; determining the performance measurements for, 120–27; developing the SBS Balanced Performance Matrix for, 142–46; developing the SBS Performance Matrixes and Balanced Performance Summation, 133–40; selecting the, 140–41 Financial transaction cost, 122–23, 130 Financial transaction cost improvement ratio, 137 Financial transaction cost improvement trend, 122–23 Financial transaction cost ratio, 137 Financial transaction yield, 121–22, 128– 29

Index Financial transaction yield improvement ratio, 134 Financial transaction yield improvement trend, 121–22, 128–29 Financial transaction yield ratio, 134 Fiserv Human Resource Information Service Division, 161 Fisher-Price, 49 General Motors, 1, 44 Hewlett-Packard, 69 IBM, 1,69 Immeasurable issues: for the Administrative Service Strategic Business Source, 167, 169; for the Financial Service Strategic Business Source, 140–41; for the Production Strategic Business Source, 42, 44–45; for the Purchasing Strategic Business Source, 105, 110; for the R&D Strategic Business Source, 75, 77–78 Mattel, 49 On-time delivery ratio: for the Administrative Service Strategic Business Source, 164–65; for the Financial Service Strategic Business Source, 137; for the Production Strategic Business Source, 38; for the Purchasing Strategic Business Source, 102 On-time delivery: for the Administrative Service Strategic Business Source, 150; for the Financial Service Strategic Business Source, 122; for the Production Strategic Business Source, 18; for the Purchasing Strategic Business Source, 87 On-time R&D project completion, 55 On-time R&D project completion ratio, 72 Operational functions, 8–116 Outsourcing, 1 Pareto analysis, 178–81 Performance measurements: for the Ad-

209

ministrative Service Strategic Business Source, 148–56; for the Financial Service Strategic Business Source, 120–27; for the Production Strategic Business Source, 15–26; for the Purchasing Strategic Business Source, 85–95; for the R&D Strategic Business Source, 51–62 Pie charts, 187–92 Process improvement teams, departmental and cross-functional, 181–83, 193–95, 199–201 Product advancement achievement: for the Administrative Service Strategic Business Source, 154; for the Financial Service Strategic Business Source, 125; for the Production Strategic Business Source, 24; for the Purchasing Strategic Business Source, 92; for the R&D Strategic Business Source, 58 Product advancement achievement ratio: for the Administrative Service Strategic Business Source, 164, 166; for the Financial Service Strategic Business Source, 137; for the Production Strategic Business Source, 39; for the Purchasing Strategic Business Source, 104; for the R&D Strategic Business Source, 72 Product advancement commitment: for the Administrative Service Strategic Business Source, 152, 154; for the Financial Service Strategic Business Source, 125, 130–31; for the Production Strategic Business Source, 22; for the Purchasing Strategic Business Source, 92; for the R&D Strategic Business Source, 60 Product advancement commitment ratio: for the Administrative Service Strategic Business Source, 164, 166; for the Financial Service Strategic Business Source, 137; for the Production Strategic Business Source, 39; for the Purchasing Strategic Business Source, 104; for the R&D Strategic Business Source, 72 Product advancement performance measurements: for the Administrative Ser-

210

Index

vices Strategic Business Source, 152, 154, 159; for the Financial Service Strategic Business Source, 125; for the Production Strategic Business Source, 22, 24; for the Purchasing Strategic Business Source, 92–93; for the R&D Strategic Business Source, 58, 60 Production specification accuracy, 53 Production specification accuracy improvement trend, 53 Production specification accuracy improvement trend ratio, 72 Production specification accuracy ratio, 72 Production Strategic Business Source, 13–48; assessing the performance of, 26–33; defining the products of, 13– 15; determining the performance measurements for, 15–26; developing the SBS Balanced Performance Matrix for, 46; developing the SBS Performance Matrixes and Balanced Performance Summation, 33–42; selecting the, 42–46 Purchasing Strategic Business Source, 83– 116; assessing the performance of, 95– 101; defining the products of, 83–84; determining the performance measurements for, 85–95; developing the SBS Balanced Performance Matrix for monitoring the, 111–14; developing the SBS Performance Matrixes and Balanced Performance Summation for, 102– 5; selecting the, 105–10 Quality performance measurements: for the Administrative Service Strategic Business Source, 149–50, 156–57; for the Financial Service Strategic Business Source, 121–22, 128–29; for the Production Strategic Business Source, 16–18, 27–28; for the Purchasing Strategic Business Source, 85–87; for the R&D Strategic Business Source, 52– 54, 63–64 R&D (Research and Development) project cost improvement trend ratio, 72

R&D (Research and Development) project cost ratio, 72 R&D (Research and Development) project cycle-time improvement trend, 55 R&D (Research and Development) project cycle-time improvement trend ratio, 72 R&D (Research and Development) project effective cost, 56 R&D (Research and Development) project effective cost improvement trend, 56 R&D (Research and Development) project yield, 52 Research and Development (R&D) Strategic Business Source, 49–82; assessing the performance of, 62–69; defining the products of, 50–51; determining the performance measurements for, 51–62; developing the SBS Balanced Performance Matrix, 78–79; developing the SBS Performance Matrixes and Balanced Performance Summation for, 69– 75; selecting the, 75–78 Solectron, 69 Strategic Business Source, 2; optimizing the performance of, 175–203 Strategic Business Source, Administrative Service. See Administrative Service Strategic Business Source Strategic Business Source (SBS) Balanced Performance Matrix: for the Administrative Service Strategic Business Source, 170–72; for the Financial Service Strategic Business Source, 142–45; for the Production Strategic Business Source, 46–48; for the Purchasing Strategic Business Source, 111–14; for the R&D Strategic Business Source, 78–79 Strategic Business Source (SBS) Balanced Performance Summation: for the Administrative Service Strategic Business Source, 167–68; for the Financial Service Strategic Business Source, 137; for the Production Strategic Business Source, 41–42; for the Purchasing

Index Strategic Business Source, 102–5; for the R&D Strategic Business Source, 75 Strategic Business Source (SBS) Delivery, Cost and Customer Service Performance Matrix: for the Administrative Service Strategic Business Source, 164–65; for the Financial Service Strategic Business Source, 134, 137; for the Production Strategic Business Source, 36–38; for the Purchasing Strategic Business Source, 104; for the R&D Strategic Business Source, 72 Strategic Business Source, Financial Service. See Financial Service Strategic Business Source Strategic Business Source (SBS) Performance Measurements and Assessment Worksheet: for the Administrative Service Strategic Business Source, 154–56; for the Financial Service Strategic Business Source, 125–26; for the Production Strategic Business Source, 24–26; for the Purchasing Strategic Business Source, 93–95; for the R&D Strategic Business Source, 60–62 Strategic Business Source (SBS) Product Advancement Performance Matrix: for the Administrative Service Strategic Business Source, 164–65; for the Financial Service Strategic Business Source, 137; for the Production Strategic Business Source, 39–41; for the Purchasing Strategic Business Source, 104; for the R&D Strategic Business Source, 72 Strategic Business Source, Production. See Production Strategic Business Source

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Strategic Business Source, Purchasing. See Purchasing Strategic Business Source Strategic Business Source (SBS) Quality Performance Matrix; for the Administrative Service Strategic Business Source, 162–64; for the Financial Service Strategic Business Source, 134; for the Production Strategic Business Source, 34–36; for the Purchasing Strategic Business Source, 102–4; for the R&D Strategic Business Source, 70–72 Strategic Business Source, R&D (Research and Development). See R&D Strategic Business Source Strategic Business Unit, 2 United Auto Workers, 44 Warranty expense: for the Production Strategic Business Source, 17; for the Purchasing Strategic Business Source, 87; for the R&D Strategic Business Source, 53 Warranty expense ratio: for the Production Strategic Business Source, 34; for the Purchasing Strategic Business Source, 102; for the R&D Strategic Business Source, 70 Warranty improvement trend: for the Production Strategic Business Source, 17; for the Purchasing Strategic Business Source, 87; for the R&D Strategic Business Source, 54 Warranty improvement trend ratio: for the Production Strategic Business Source, 34; for the Purchasing Strategic Business Source, 102; for the R&D Strategic Business Source, 70

About the Author KEVIN R. MAROMONTE is a Performance Improvement Consultant. With more than 17 years of experience in various corporate and consulting capacities, he has worked in a wide range of industries, such as industrial manufacturing, automotive, chemical processing, consumer products, defense, and electronics. Maromonte is author of Building the Invisible Quality Corporation: The Executive Guide to Transcending TQM (Quorum, 1996).