Supply Chain Management: A Guide To Best Practice (Management Briefings Executive Series)

Supply Chain Management

Prentice Hall FINANCIAL TIMES

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Supply Chain Management A guide to best practice

ANDREW COX, PAUL IRELAND, CHRIS LONSDALE, JOE SANDERSON AND GLYN WATSON

Prentice Hall FINANCIAL TIMES

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First published in Great Britain in 2003 © Andrew Cox, Paul Ireland, Chris Lonsdale, Joe Sanderson and Glyn Watson 2003 The right of Andrew Cox, Paul Ireland, Chris Lonsdale, Joe Sanderson and Glyn Watson to be identified as authors of this work has been asserted by them in accordance with the Copyright, Designs and Patents Act 1988. ISBN 0 273 66270 8 British Library Cataloguing in Publication Data A CIP catalogue record for this book can be obtained from the British Library. All rights reserved; no part of this publication may be reproduced, stored in a retrieval system, or transmitted in any form or by any means, electronic, mechanical, photocopying, recording, or otherwise without either the prior written permission of the Publishers or a licence permitting restricted copying in the United Kingdom issued by the Copyright Licensing Agency Ltd, 90 Tottenham Court Road, London W1T 4LP. This book may not be lent, resold, hired out or otherwise disposed of by way of trade in any form of binding or cover other than that in which it is published, without the prior consent of the Publishers. 10 9 8 7 6 5 4 3 2 1 Typeset by Monolith – www.monolith.uk.com Printed and bound in Great Britain by Ashford Colour Press Ltd, Gosport, Hants. The Publishers’ policy is to use paper manufactured from sustainable forests.

About the authors

Andrew Cox is Professor and Director of the Centre for Business Strategy and Procurement at Birmingham Business School, University of Birmingham in the UK. He is also Chairman and CEO of Robertson Cox Ltd a UK and US based consultancy. Andrew can be contacted at: [email protected] Paul Ireland is a research fellow in the Centre for Business Strategy and Procurement at Birmingham Business School, University of Birmingham in the UK. Paul can be contacted at: [email protected] Chris Lonsdale is a lecturer in Supply Chain Management in the Department of Commerce and the Centre for Business Strategy and Procurement at Birmingham Business School, University of Birmingham in the UK. Chris can be contacted at: [email protected] Joe Sanderson is a lecturer in Supply Chain Management in the Department of Commerce and the Centre for Business Strategy Land Procurement at Birmingham Business School, University of Birmingham in the UK. Joe can be contacted at: [email protected] Glyn Watson is a lecturer in Supply Chain Management in the Department of Commerce and the Centre for Business Strategy and Procurement at Birmingham Business School, University of Birmingham in the UK. Glyn can be contacted at: [email protected]

v

Contents

List of figures

ix

List of tables

x

Preface

xi

1

2

3

Supply chain management and ‘best practice’ sourcing

1

Introduction The four basic sourcing options Which of the options is ‘best practice’ for the buyer? The key enablers of SCM implementation Conclusions References

3 4 8 9 12 13

Is supply chain management the best strategic sourcing option?

15

Introduction Selecting the right sourcing strategy Internal investments and the make–buy decision External investments and the four generic sourcing strategies Selecting strategic sourcing options Conclusions References

17 18 19 24 27 34 35

Is supply chain management feasible operationally? 37 Introduction Internal success factors External success factors Conclusions References

39 40 51 62 63

vii

Contents

4

5

Implementing supply chain management initiatives

65

Introduction The three competitive market and SCM strategy options A framework for developing competitive market and SCM strategies Creating a physically efficient (lean) supply chain Creating an innovative and market-responsive (agile) supply chain Market differentiation and cost leadership with an innovative and process efficiency supply chain strategy Conclusions: the conundrum of knowledge and understanding References

67 67

Software and Internet tools for effective supply chain management Introduction The theoretical benefit of software and Internet tools for SCM initiative The major e-sourcing software applications The major Internet sourcing applications A framework for analyzing the utility of software and Internet-based tools and SCM initiatives Conclusions References

viii

71 75 89 94 97 99

101 103 103 107 110 116 119 120

Figures

1.1 The four sourcing options for buyers

5

1.2 The Power Matrix between buyers and suppliers

10

1.3 Internal opposition and support for SCM strategies

11

2.1 The 5-step model to proactive supply chain management

17

2.2 Calculating and allocating costs

27

2.3 Calculating post-contractual risk

31

2.4 Calculating the return

32

3.1 Customer portfolio framework: what type of customer is the buyer?

43

3.2 Knowing your enemies and your friends

50

3.3 The attributes of buyer and supplier power

54

3.4 The competence and congruence matrix

57

3.5 Hypothetical idealized power regimes in supply chains

59

3.6 The power regime for in-flight re-fuelling equipment

61

4.1 The three competitive market and supply chain strategy options

68

4.2 Functional and innovative demand profiles

72

4.3 Physically efficient and market-responsive supply chains

73

4.4 Matching supply chains with products/services

75

4.5 An example of big picture mapping

79

4.6 An example of process activity mapping

81

4.7 Strategies for cycle time reduction

92

4.8 Understanding the scope for successful implementation of market and SCM strategies

98

5.1 Internal and external enterprise process flows

108

5.2 The e-enabled internal and external enterprise process flows

111

5.3 The operational use value of software and Internet-based applications 116

ix

Tables

x

3.1 Actors involved in the organizational sourcing process

41

3.2 Key tools and techniques for SCM

42

3.3 Potential demand management problems

45

3.4 Rating the power of different functions involved in the sourcing process

49

Preface

The work that has supported the production of this short practitioner volume has been underway for a number of years. It began in the mid-1990s with the publication of a book that challenged much of the received orthodoxy in procurement and supply management in particular and business thinking in general. Since the publication of that book – Business Success (1997) – the work of the Centre for Business Strategy and Procurement in Birmingham Business School at the University of Birmingham has been devoted to testing empirically the theoretical arguments first outlined in that volume, and then latterly in two companion volumes – Power Regimes (2000) and Supply Chains, Markets and Power (2002). The latter two volumes were based on work that was generously supported by a research grant from the Engineering and Physical Sciences Research Council (EPSRC) (Project No: GR/L86395). This latest volume has been based on work into ‘Competitive Advantage through Supply Chain Management’ that has also been generously supported by the EPSRC (Project No: GR/N34161/01). We would like to express our gratitude to the EPSRC and also to the collaborating public and private sector organizations involved in these two research projects. This is because many of the findings outlined here could not have been made without the generous support – both financial and time – that has been provided to the research team. There will be a companion volume to this particular offering in the near future exploring the link between types of buyer and supplier power structures and alternative forms of relationship management. When this is completed we will have finished the current empirical testing of our original hypotheses about the ways practitioners can manage business-to-business relationships – whether they are buyers or suppliers. We hope that, if nothing else, this body of work will challenge our readers to think logically about how to manage their business relationships and, hopefully, provide them with some clues as to how they might maximize whatever valued outcomes they desire from their business interactions with others.

xi

Contents

List of figures

ix

List of tables

x

Preface

xi

1

2

3

Supply chain management and ‘best practice’ sourcing

1

Introduction The four basic sourcing options Which of the options is ‘best practice’ for the buyer? The key enablers of SCM implementation Conclusions References

3 4 8 9 12 13

Is supply chain management the best strategic sourcing option?

15

Introduction Selecting the right sourcing strategy Internal investments and the make–buy decision External investments and the four generic sourcing strategies Selecting strategic sourcing options Conclusions References

17 18 19 24 27 34 35

Is supply chain management feasible operationally? 37 Introduction Internal success factors External success factors Conclusions References

39 40 51 62 63

vii

Contents

4

5

Implementing supply chain management initiatives

65

Introduction The three competitive market and SCM strategy options A framework for developing competitive market and SCM strategies Creating a physically efficient (lean) supply chain Creating an innovative and market-responsive (agile) supply chain Market differentiation and cost leadership with an innovative and process efficiency supply chain strategy Conclusions: the conundrum of knowledge and understanding References

67 67

Software and Internet tools for effective supply chain management Introduction The theoretical benefit of software and Internet tools for SCM initiative The major e-sourcing software applications The major Internet sourcing applications A framework for analyzing the utility of software and Internet-based tools and SCM initiatives Conclusions References

viii

71 75 89 94 97 99

101 103 103 107 110 116 119 120

2 Is supply chain management the best strategic sourcing option?

■

Introduction

■

Selecting the right sourcing strategy

■

Internal investments and the make–buy decision

■

External investments and the four generic sourcing strategies 24

■

Selecting strategic sourcing options

■

Conclusions

■

References

17 18 19

27

34 35

15

Is SCM the best strategic sourcing option?

INTRODUCTION As we saw, the issue of whether to undertake SCM or to pursue alternative approaches to external relationship management has become a significant topic for most companies. This is because, faced with increased international competition, firms have come under intense pressure to cut costs in order to survive and sustain double-digit returns on investment. In seeking to achieve this, firms have looked for world-class practices wherever they can be found. One of the sources of inspiration has been proactive Japanese lean manufacturing and supply chain practice (Womack and Jones, 1996). This practice can be distilled into a simple 5-step model that companies should follow as shown in Figure 2.1. Fig. 2.1

The 5-step model to proactive supply chain management

1. Concentrate on core competencies. 2. Outsource all non-core competencies to suppliers. 3. Consolidate all supply inputs into categories of spend. 4. Concentrate internal resources on a limited number of long-term collaborative relationships with preferred suppliers. 5. Improve supplier and supply chain performance through proactive supply chain development activities.

As we noted in the preceding chapter, however, any firm has a choice of four generic supply strategies and not one. The strategic choice that a company has to make, therefore, is whether or not SCM (as summarized in the 5-step model in Figure 2.1) is the most strategically relevant approach, rather than supplier selection, supply chain sourcing or supplier development. Deciding on which of these approaches makes sense for any company depends on two major variables. First, practitioners must understand the constraints to be overcome when trying to implement any strategy. It makes little sense to develop a plan of action that has almost no hope of garnering support from either internal stakeholders or external suppliers. Consequently, a detailed account of the operational constraints facing managers follows in the next chapter. Second, prior to consideration of operational issues, it is necessary to understand whether there is a strategic case for the adoption of a SCM approach. Whether this approach should be developed depends largely on the strategic economic and commercial case that can be made. This is because sourcing decisions – like business management decisions more generally – require companies to pick the option that offers the greatest possible

17

Supply Chain Management

pay-off (and/or imposes the smallest possible costs). This chapter is therefore divided into four sections that allow practitioners to understand whether a supply chain management approach offers a strategically viable choice for their company: ■

section 1 describes the basic principles behind make–buy selection and provides a decision-making framework;

■

section 2 explains when a firm should insource particular supply chain resources as a core competence;

■

section 3 outlines how SCM approaches are more ambitious investment decisions for the firm than the other three sourcing options because of the demands they make on managerial time;

■

section 4 concludes by showing how this basic framework can be operationalized through the use of three strategic sourcing decision-making templates.

SELECTING THE RIGHT SOURCING STRATEGY Management decisions are investments because they carry with them costs that are expected to yield returns. This is true even if the cost is the time that it takes to perform a task. Time, like everything else, is a scarce resource. If companies spend it pursuing unprofitable activities, then they lose the opportunity to do something more profitable. The return that a company receives from any investment is highly variable. It depends upon what the action is intended to achieve. The yield may take the form of the firm getting ‘the right man for the job’ in the case of a human resource manager properly chasing up references. Alternatively, it may take the form of reduced production downtime in the case of an operations manager putting in place a rigorous programme of repair and maintenance. For the sourcing manager adding-value means receiving the right products or services from vendors on time, or streamlining operational and logistical processes, or obtaining simple cost savings. It could also, of course, be a combination of all three of these potentially beneficial outcomes. As with all investments, however, the attainment of any of these goals is speculative because risk is involved in their achievement. Time spent trying to develop a supplier may take weeks or even months of effort but offer very little by way of tangible return. Consequently, strategic sourcing competence specifically requires that sourcing managers take the options that offer the firm the best investment return ratio – after risk has been factored into the equation.

18

Is SCM the best strategic sourcing option?

INTERNAL INVESTMENTS AND THE MAKE–BUY DECISION When a firm insources it is using investor’s capital to develop productive capabilities within the organization that will offer the firm a return in the form of an increased revenue-generating capacity. Whether the investment actually pays-off in practice depends upon two major factors: ■

Does the firm’s enhanced internal resources lead to the creation of new (or enhanced) products and services for which there is a demand that leads to acceptable returns? Business history is replete with examples of new products that failed to find favour with the public, and up to 80 per cent of all new product offerings fail to either capture sufficient market share or sustain profitability over time.

■

Does the firm’s investment provoke a competitive reaction that squeezes margins? When new products and services come to market, if they are successful, the normal response by competitors is to develop copycat items. When this occurs the margins achieved by the first mover will be squeezed by competition.

Companies, therefore, have to think seriously about whether it is sensible to insource activities or whether they should discontinue them. If activities are essential to corporate strategy, and there is fierce competition, it may be necessary to find cheaper ways of delivering required (but currently internally unprofitable) activities by outsourcing these to external suppliers. Through outsourcing in this way a company may be able to achieve competitive advantage by finding lower cost or more efficient suppliers than its competitors. In this way the company may increase its own internal margins, as well as offering customers better value and/or lower cost products and services. In recent years many firms have assumed, therefore, that less is more. There is a widespread belief that there are significant competitive gains to be obtained from redrawing the boundary of the firm so that suppliers handle more of the production, with the outsourcing company focusing on strategy, marketing, sales and supplier contract management. One survey indicated that 73 per cent of respondent companies were contemplating outsourcing their printing services; over 63 per cent were considering outsourcing travel services; and nearly 60 per cent wanted to outsource pensions. More significantly, however, 26 per cent believed that marketing and research and development could be safely outsourced (3i, 1994). In a similar survey 12 per cent, 27 per cent and 34 per cent of respondents respectively felt that manufacturing, legal services and IT services would be outsourced by 2001(PA Consulting Group, 1996).

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Supply Chain Management

The motives behind these initiatives can be highly varied. Three key drivers behind the outsourcing phenomena have, however, been isolated (Lonsdale and Cox, 1998): 1. Cost reduction. Cost reductions are obtained from reducing internal headcount or through the vendor offering greater efficiency in its production or servicing techniques. A firm that specializes in a particular activity is often able to consolidate its clients’ spend to obtain significant economies of scale. 2. Converting fixed to variable costs. The move to quarterly results focused on double-digit returns has forced many companies to seek the approval of investors by outsourcing currently in-house competencies that are required only occasionally, or for which the company is not able to undertake the necessary internal investments to retain state-of-the-art capabilities. 3. Improve time to market/plug the competitive gap. In industries subject to rapid technological change, the ability to maintain a cutting-edge across the board can be problematic. As a result, delays in new product launches may occur that can undermine a firm’s competitiveness. The ability of a firm to outsource part of the innovation process to suppliers (who possess the complementary resources that it lacks) can plug this competitive gap. The first two drivers outlined often make short-term commercial sense for companies, assuming that they understand the contractual risks in outsourcing non-core activities. The third driver is more problematic because it touches on issues that go to the very heart of a company’s revenue-generating capabilities. Companies need to be concerned not just with the costs of ownership but also with the risks of non-ownership of key supply chain resources. Some resources are essential to wealth creation. Transferring ownership of these resources to a supplier not only threatens to de-skill the company but also imposes substantial sourcing costs on the firm in the long term. The scale of these risks can be illustrated by considering the case of IBM and Microsoft, quite possibly the biggest outsourcing mistake in contemporary business history (Case study 2:1). Case study 2.1

The IBM/Microsoft case IBM invented the PC and made the theoretical basis of the architecture transparent by publishing the basic details of how it worked. This allowed new entrants to develop competing products. The most successful of these was Apple, who were able to reverse engineer and produce a more customer-focused PC than IBM. The Apple PC had a monitor and a windows-style software operating system. This was preferred by customers to the cumbersome IBM system because, at that time, it did not have a monitor or a ‘click and move’ software operating system.

20

Is SCM the best strategic sourcing option?

This forced IBM, who was taking considerable time to develop a customer-focused operating system, to find a quick-fix for its own products so that it could compete with Apple, who was winning large market shares. IBM believed that the operating system that it was perfecting (and that would become known as OS2) would eventually be superior to anything that currently existed in the marketplace and that it needed to find a competent supplier with a reasonable operating system until its own system was perfected. IBM firmly believed that once its operating system was available it would be state of the art and that everyone would switch to it. IBM then sourced its initial operating system from a small fledgling company called Microsoft but used a short-term royalty-based contract, under which Microsoft retained the intellectual property rights in the software, because IBM assumed that it would purchase a maximum of 100 000 units. The contract was not exclusive to IBM and Microsoft was allowed to sell the operating system to anybody else. Eventually, when IBM’s operating system was available, it discovered that nobody wanted to switch to its new OS2 system from the now industrial standard operating system owned by Microsoft. In effect IBM had outsourced the critical asset in the supply chain – the operating system – to one of its suppliers. The problem for IBM was that when it came to market, nobody would pay the switching costs of retraining their staff to the new OS2 system. This was because they were all standardized on the original IBM operating system that, unfortunately for IBM, did not belong to them but to one of their suppliers – Microsoft. The rest is history. Microsoft is now a much more profitable and successful company than IBM, which no longer makes double-digit returns, unlike its supplier – Microsoft.

The point of this case study is to demonstrate that companies must be very careful when they pursue SCM approaches that require them to focus on their core competencies. One key requirement is that they do not outsource the critical assets in their supply chains to their suppliers (Cox, 1997). Deciding what should be insourced and what can be safely outsourced is, therefore, no simple matter. This is a key strategic decision that requires a company to consider the following issues relating to the external commercial environment as it thinks about what its core competencies should be: ■

Is there a demand for the products and services that the firm is trying to develop? Is the product capable of satisfying a value proposition that customers want or need?

■

Is demand effective? Is there a constituency that will not only like the product but will also be prepared to pay for it (and in sufficient numbers and at the right price)?

■

Do other firms already offer similar, better or cheaper products? Is there a gap in the market that the firm can profitably fill or is the marketplace saturated with too many competitors?

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Supply Chain Management

Internally, the firm must also consider: ■

Of the resources and capabilities necessary to bring the product or service to market that are critical to the process of competitive differentiation and revenue creation, which must be insourced at all costs and which are noncritical and can be safely outsourced?

The answer to this question depends on what is the basic strategy of a company. Traditionally there has been a view that companies have only two basic choices about business strategy (Porter, 1985). We believe, however, that there are in fact three basic strategic options available that companies can attempt to pursue: ■

A firm can pursue a competitive strategy of product differentiation by creating products that perform better than those of its rivals. This could take the form of bread that is more white or brown, softer or more granular. In the IT market differentiation might take the form of computer chips that process data faster. Alternatively, in a pharmaceutical market, differentiation might focus on drugs that cure more people, more quickly and with fewer side effects.

■

On the other hand, if a market has become commoditized, and there is little scope for further product differentiation, it may be necessary to pursue a strategy of cost leadership. This involves a company seeking to increase its market share by producing more cheaply than its direct competitors.

■

A third option is to pass value to customers on a continuous basis by pursuing product differentiation and cost leadership at the same time. This is the general approach of Japanese car companies, like Toyota and Honda. These companies seek to provide greater use value to the customer and at a consistently lower cost and on a continuous basis. Dell is currently attempting to do the same in the PC marketplace.

The problem with this latter approach is that the company may win market share but with only relatively low profit margins. This problem also exists for those pursuing cost leadership strategies. It is only those able to differentiate that can normally achieve higher than normal profits because they are able to provide some mechanism by which competitors are not able to replicate their activities. It is interesting to note, however, that it is those companies that have historically pursued the strategy of passing value to the customers, and those that have to pursue cost leadership, that have been the most active in outsourcing and SCM approaches. Product differentiating companies do not necessarily have to pursue these strategies, although they may a still seek to maximize their profitability by retaining all the cost reductions that they can generate from their supply chains. Cisco is a company that has been able to achieve product differentiation while at

22

Is SCM the best strategic sourcing option?

the same time pursuing SCM approaches, especially, in their case, by using the latest Internet and e-business technology. Regardless of whether a company is pursuing product differentiation, cost leadership or the passing of value to the customer it must at all costs retain in-house all those activities that set it apart from the competition. If a company’s advantage lies in R&D and marketing, then it may be safe to outsource manufacturing. If the firm’s advantage lies in the internal efficiency of its production capability, then it would not be safe to outsource this competence. Finally, when considering what is core or non-core to its business, a company must understand whether its differentiator(s) can be defended. Critical resources and capabilities should be sustainable. It is necessary, therefore, to consider the barriers to competitive imitation (Rumelt, 1997): ■

Information impactedness. This means that the knowledge on which an advantage is based remains largely tacit and uncodified. Unless key personnel within the organization opt to defect to a competitor, it is hard for the competitor to determine the causes of success.

■

Causal ambiguity. This arises when the processes leading to differentiation are especially complex and difficult to unravel by the differentiators themselves.

■

Reputation effects. This arises when products are difficult for the customer to evaluate prior to purchase, making them risk averse. In such circumstances customers often purchase on the basis of brand and reputation, regardless of whether the competition can provide better alternatives.

■

Buyer costs of switch. The reluctance of customers to switch from one supplier to another may go beyond a simple case of risk aversion. It may be because once a customer has bought into a supplier’s technologies it finds itself locked into them.

Clearly companies considering SCM approaches that require them to outsource non-core activities will need to be cognizant of the key issues outlined above. Key learning point 2.1 ■

The lesson from companies successfully pursuing SCM approaches is that they always understand which skills and capabilities (competencies) are critical assets for their own competitive advantage, and these are always retained in-house.

■

Only those skills and capabilities (competencies) that are not critical to competitive advantage should be outsourced and managed by external suppliers.

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Supply Chain Management

EXTERNAL INVESTMENTS AND THE FOUR GENERIC SOURCING STRATEGIES Just as the question of what should be insourced and outsourced is an investment decision, the same can be said of the choice a company makes about which of the four generic external sourcing strategies – supplier selection, supply chain sourcing, supplier development and supply chain management – it should adopt. Clearly, a company must choose that approach which is the most profitable for it to adopt. Even the most reactive short-term strategy requires an investment. This can be as minimal as the time required to research and negotiate a contract and place an order. For some of the more ambitious proactive strategies available to the outsourcing company, however, the investments required can be substantial. These can cover internal administrative costs as well as any dedicated investments that must be made to mange suppliers effectively. Generally reactive strategies represent a cheaper option for the firm than proactive strategies because the up-front investments are largely administrative. By contrast, in proactive strategies the investment process involves the product development process as well. Reactive and proactive strategies also differ in respect to the benefits to be realized. With reactive strategies the return normally takes the form of the negotiation of better deals from suppliers. In the case of supplier selection these gains are confined to the first tier; while in supply chain sourcing they extend into the supply chain. Proactive approaches normally involve additional benefits such as continuous waste reduction and/or product development, either at the first tier or throughout the supply chain. As a result, when considering proactive strategies it is also necessary to think about the ownership of exploitable technologies. Sourcing strategy choices also carry with them an element of risk. For example, a manager might spend many hours researching a supply market in an attempt to obtain a better deal, only to find that the firm already receives the best possible price. Similarly, many proactive strategies can involve the outlay of considerable sums of money with no observable return. In the defence industry, governments often discover that weapons systems do not materialize, or are late and/or over budget, despite considerable efforts by the buyer to develop the supplier and their supply chains. There is an additional factor that must be considered when selecting one of the four sourcing strategies. Sourcing strategies are necessarily co-operative undertakings because they require two separate organizations (the buyer and the supplier) to interact. At the same time, because they involve two separate organizations that

24

Is SCM the best strategic sourcing option?

normally seek to pursue their own corporate interests, an element of conflict must exist in any relationship, with each side attempting to maximize its potential gain. This insight leads us to conclude that power must impact on this process, because the relative power resources of the buyer and supplier will determine which side (if any) assumes the majority of the risk in any relationship and which side (if any) will obtain the majority of the subsequent gains. Generally speaking, in an ideal world, it is better to be powerful (in a position to assign risk and appropriate the maximum share of value) than to be weak and dependent in any sourcing exchange relationship. The basic framework that informs the strategic choice about sourcing strategies is outlined below: 1

Firms need to understand the cost-reward ratios associated with each strategic option if they are to make the right choice. The best strategy is the one that offers the greatest gain for the smallest investment.

2

In this context, the basic rule of thumb is that proactive strategies are more resource intensive than reactive strategies.

3

This is because they require not only administrative investments but may also require direct financial contributions in order to realize any prospective gains.

4

The potential gains may or may not be greater for proactive sourcing, it depends upon the particular case. However, the gains tend to be wider in their scope. They involve product development and process improvement as well as basic price reduction.

5

Complicating the decision-making process is the concept of risk. It may make more sense to pursue a low-cost strategy that has a high probability of delivering modest gains than to pursue a high-cost strategy that offers a potentially big pay-back, but with only a small probability of success.

6

Complicating the decision-making process is the question of power. This is because power determines which party will assume the risk and which party will appropriate the benefits. For example, an advantageous power position may enable a buyer to pass the risks to the supplier while disproportionately appropriating the benefits.

A simple hypothetical example can be used to illustrate this decision frame (see case study 2.2). Case study 2.2

Choosing between supplier selection and supplier development In this example a supply manager is asked to choose between Option A (Supplier Selection) and Option B (Supplier Development).

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Supply Chain Management

In the case of Option A, the buyer is operating in a weak power relationship with its supplier. In the case of Option B, the buyer starts from the same power position but understands that, as a result of investments that both parties must make in the relationship, both parties will move to a situation of interdependence. In Option A the firm believes that its supplier is padding costs. For this reason the company wishes to increase competition by bidding the business to force the incumbent supplier to reduce their costs. This approach requires an investment in management time costing £1000. Given the volume of business that the firm has with the supplier, it has been calculated that there is a reasonable probability that, through this initiative, the firm can save £4000. The expected pay-off for the firm can be calculated easily enough by multiplying the expected return and then subtracting the up-front cost. In this instance the expected pay-off would be £4000 less £1000 = £3000. Supplier selection is not, however, the only option available to the buyer because it can also pursue Option B (Supplier Development) with the incumbent supplier. What the firm needs to know is which of the two strategies offers the better return. Supplier Development is a more expensive alternative because it will require not only the administrative costs of £1000 but also an additional investment to augment the supplier’s manufacturing capability. This cost of dedicated investments in the relationship is estimated at £4000. It has been calculated that the subsequent gain will, however, generate savings of the order of £24 000. What is the pay-off in this instance? Under conditions of interdependence, buyers and sellers can be expected to share the risks and rewards of any initiative. Since the buyer’s administrative costs are £1000 and its share of the dedicated investments are £2000 (50 per cent of £4000), its exposure totals £3000. The costs for the supplier are the same at £3000 for administrative costs and dedicated investments. If the initiative works, it will deliver gains of £24 000 but the buyer and supplier will each have to find £3000 (= £6000) and share the net gains (£24 000 less £6000). This leaves both parties with a half share of £18 000 = £9000 each. Consequently, the case for a strategy of Supplier Development appears, in this situation, much stronger than that for Supplier Selection.

Key learning point 2.2 The attractiveness of particular sourcing options is likely to be highly sensitive to changes in four key variables. These are: ■

the level of investment required;

■

the returns anticipated;

■

the risks that may arise from adopting a particular option;

■

the power of the buyer and supplier to assign risk and reward on the other party.

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Is SCM the best strategic sourcing option?

SELECTING STRATEGIC SOURCING OPTIONS In practice, selecting the appropriate sourcing strategy is an art rather than a science. Often it is not possible to obtain accurate data on the costs, returns and risks surrounding any sourcing investment. As a result, most managers have to fall back on collecting data that are indicative of what is likely to result from the adoption of a particular option. What follows is a series of templates designed to assist managers in making comparisons between the four sourcing options available. Figure 2.2 allows managers to understand the cost side of the equation. Figure 2.3 allows managers to analyze the risk elements and Figure 2.4 does the same for the returns/rewards. When considering any category of spend that it may be deciding to outsource to the supply market, it is essential that the buying company undertakes the following analysis for each of the four sourcing options that it might pursue.

Calculating and allocating costs

Calculating and allocating costs

Fig. 2.2

Phase I

Phase II

Nature of the investment

Relative demand that investment would make

Investment type

Buyer H/M/L

Cost

Supplier H/M/L

Phase III

Phase IV Allocation of cost

Structure of power

Upfront cost

Ultimate cost

Buyer Supplier Buyer Supplier

Administrative

Dedicated

Other

Phase I: The nature of the investment In Phase I it is necessary to identify and collect data on the various types of cost associated with the planned strategy. This includes data on the different

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Supply Chain Management

administrative tasks that the firm must perform, plus data on any dedicated investments that the initiative requires. The table calls for cash figures whenever possible. Consequently, if the initiative will take one full-administrator’s time for two months and the administrator’s salary is £2000 a month, then a figure of £4000 would be entered into the column. Similarly, if the initiative requires one or either of the two parties to invest in specialized investments in support of the relationship, then this combined total should also be recorded.

Phase II: The relative demands made by the investment required The methodology asks the company to calculate any necessary investments but it is important to remember that there are a number of other issues at stake. Any investment is relative to the resources that a firm has at its disposal. Companies in a cash-rich industry (like pharmaceuticals) can often afford to throw money at a problem. A small company working in the fourth-tier of an automotive supply chain may not have the personnel or time to consider a proactive initiative of any sort. Consequently, managers need to consider not just what the upfront cost is but also what extent the activity is likely to divert scarce resources away from more productive uses. Generally speaking, therefore, supplier development or supply chain management tend to be reserved for either major items of spend (i.e. areas that the firm spends a lot of money on) or commercially sensitive areas (i.e. areas that contribute to, but are not necessarily essential for, the maintenance of the firm’s core competencies). For this reason the template provides in Phase II the opportunity to record data pertaining to the relative demands of the investment on both the buyer and the supplier. If the firm wishes the initiative to work, it must be sensitive to the demands that it makes on its own and the supplier’s time and resources. If the supplier is overextended, they may not wish (or indeed be able) to deliver.

Phase III: The structure of power Phase III allows the company to record data relating to the structure of power that exists between the buyer and the supplier. For further details refer to the discussions in Chapters 1 and 3 where the Power Matrix (Figure 1.2) can be used to understand the current power situation. For the reasons already covered, different power structures will allow costs, risks and rewards to be divided in different ways. In the case where the supplier is dominant, for example, the buyer can expect to foot most of the bills up-front – regardless of the ultimate success of the relationship. In an interdependent relationship, both parties would expect to take a more equitable share of the risks and rewards.

28

Is SCM the best strategic sourcing option?

Phase IV: The overall allocation of costs Phase IV allows managers to allocate the expected division of cost between the buyer and the supplier. This includes the up-front as well as the final costs (regardless of whether or not the initiative is successful). However, managers also have to be able to calculate the costs to their organization should something go awry. Contingency planning, after all, is part and parcel of good management. It is possible, for example, that the administrative effort required has been under or overestimated. It is also possible that the commitment for dedicated investments has to be revised in the light of new developments in technology or because of a misunderstanding of the true costs of the initiative before project commencement. Whatever the reason, should the costs spiral the additional expenditures need to be allocated. Furthermore, how they are allocated will determine just how profitable the initiative proves to be in the long run.

Calculating post-contractual risk Firms have to be particularly careful because proactive strategies can expose them to significant contractual risk (what some analysts refer to as moral hazard). Sustaining the commitment of a supplier depends upon a firm’s ability to motivate them. Motivation can take the form of a carrot (bonuses for good performance) or a stick (the cancellation of the initiative or the whole contract if the performance is poor). In order for the incentive structure to work it must be credible. This means being able to monitor the supplier to see if they are complying with the terms of the deal and having the ability to punish the supplier (by invoking penalties or by threatening exit) if they are not. The buyer must, therefore, be able to spot those areas where there is significant scope for opportunism by the supplier (in this case in the form of trying to renegotiate the risk–reward allocation) and be able to craft safeguards against the risk. Where contractual safeguards cannot properly be introduced, then the firm is probably better to retain the competence within the organization rather than to outsource it. Moral hazard is frequently a problem in supply management because effective monitoring is always an issue. However, sometimes the risks are particularly acute. Contracting that takes place in a highly volatile or uncertain environment is difficult because it raises the issue of renegotiation. Buyers attempt to draft contracts in as complete a fashion as possible, but when an environment is particularly volatile, specifying all the terms of an agreement in advance is likely

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Supply Chain Management

to prove next to impossible. This in itself need not present a difficulty unless the firm becomes locked-in to its outsourced provider. If this happens, the supplier may choose to renegotiate on terms that benefit it rather than its customer. Contractual lock-in occurs if the contract requires the buyer to make some form of highly specialized investment in the relationship. The investment might take the form of time. An organization that has spent months negotiating and implementing an outsourced relationship might be reluctant to write-off all of this hard work – especially if re-sourcing means repeating the effort with no greater chance of success next time around. Alternatively, firms might have made substantial and non-fungible investments in specialized training or equipment (otherwise known as asset specific investments). Less creditably, though, firms are often reluctant to call time on a poorly performing supplier if the managers who negotiated the contract have a significant reputational investment in the deal. Calling a halt to the affair means admitting that they got it wrong, and nobody likes doing that. Whatever the form of the lock-in, the effect is the same: the firm loses its capacity to impose costs on the supplier and thus its ability to impose discipline. Of course, just because a contract presents the firm with a risk, it does not follow that the risk cannot be managed. For example, one strategy often pursued by buyers involves unbundling a contract. This means separating out those elements that pose a risk from those that do not. The highly risky elements are retained in-house and only the less risky elements are outsourced. The supplier may even be asked to post a bond, or share the costs of the dedicated investments, as a sign of its good faith (i.e. to show that its word of honour and commitment to the relationship is credible). The purpose of Figure 2.3 is to record and analyze the risks described above by dividing the issues into four broad phases of analysis.

Phase I: The pre-contractual power position Phase I simply records the pre-contractual power situation and this can be taken from the analysis shown in Figure 2.2.

Phase II: The risks of lock-in and dependency Phase II itself divides into four parts. The first allows the manager to describe the nature of the investment required to support the relationship. This description can be transferred from Phase I of Figure 2.2. It is then necessary to indicate the extent to which the investment required is asset specific (i.e. necessary to make this relationship work). If it is, then it is necessary to record which of the contracting parties (buyer and/or supplier) is commercially exposed.

30

Is SCM the best strategic sourcing option?

Fig. 2.3 Phase I

Calculating post-contractual risk Phase II

Phase III

Phase IV

Confidence in Lock-in-risk PrePostinvestment plan contractual contractual structure structure Is this Is the Is of power Investment cost of power H/M/L Revise Revise firm vendor type up down sunk? locked-in? locked-in?

Net gainer/ loser from the revised investment plan

Phase III: The post-contractual power position If the investments on both sides are small, it is unlikely that the power relationship will have changed at all, however, if they are substantial and asymmetric, a shift may well have taken place. Phase III records the post-contractual power situation once the required investments have been made. Again the matrices linked to the Power Matrix in Chapters 1 and 3 can be used to ascertain whether the selected sourcing strategy is likely to lead to a power shift. This is most likely in proactive approaches because these relationships often require dedicated investments that do not always come with adequate safeguards against post-contractual lock-in.

Phase IV: Understanding contractual uncertainty Phase IV requires a consideration of contractual uncertainty. Companies need to indicate the level of confidence (high/medium/low) they have that their initial investment estimates will be valid. Should confidence be low, it will be necessary to indicate whether the costs will ultimately be revised downwards (or more importantly) upwards. If it is concluded that there is a significant risk that estimates regarding one of the more substantial areas of investment are soft, then it will be necessary to

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Supply Chain Management

allocate this exposure between the buyer and supplier. If it is likely that the initiative will lead to the company being locked into a relationship, and the cost figures are also considered soft, it may well be that the strategy does not make commercial sense. If the gains from the investment justify the initiative, it may make more sense to internalize (insource) the activity within the firm.

Calculating the return Figure 2.4 allows companies to think about the returns from any investment. How some of these gains may be calculated operationally is covered in Chapter 4, which deals with the operationalization of SCM techniques. Figure 2.4 is restricted to recording projected gains and losses. Fig. 2.4

Calculating the return Phase I

Generic nature of change in product offering

Phase II Value of change

Phase III Confidence in change

Type of change Positive Negative Neutral

H/M/L

Revise Revise up down

Projected gain/loss from initiative

Reactive Price and/or functionality change Proactive Price and/or functionality change Proactive Efficiency (total costs of ownership change Proactive Revenue generating opportunities

This is not straightforward because the concept of Value for Money (VFM) must be understood by linking functionality with cost options. Improving VFM can be achieved in the following obvious ways:

32

■

improving functionality while reducing cost;

■

improving functionality while maintaining cost;

■

maintaining functionality while reducing cost.

Is SCM the best strategic sourcing option?

However, it can also be achieved in a number of less obvious ways: ■

improving functionality while increasing cost (where the functionality increase is greater than the cost increase);

■

reducing functionality while reducing cost (where the fall in functionality is less than the fall in cost).

It is not, therefore, necessary for all the elements of a deal to improve in order for the deal itself to improve. Figure 2.4 attempts to capture this through three phases of analysis.

Phase I: The expected changes in functionality and costs of ownership In Phase I the company must describe the changes that are expected to arise as a result of the adoption of the chosen strategy. These may conceivably fall into one of four broad options: ■

If the strategy is essentially reactive, then it is likely that changes in performance by the supplier will be linked either to the initial purchase price and/or to increases in functionality of the product or services offered to the buyer.

■

If the strategy is proactive, there are potentially three major changes possible. The first is a change in the initial purchase price and/or functionality. The second arises from a change in the total costs of ownership through supply chain efficiency gains (this is only possible when supply chain initiatives are being undertaken). The third is an increase in revenue generating capability, as a result of innovations from the initiative that generate isolating mechanisms that contribute to competitive advantages in market closure and/or sustainable increases in profit margins.

Phase II: The value of the change Phase II requires that the value of the change for the buyer is recorded. Three options are available: ■

Positive. The initiative either results in value for money benefits for the buyer such as reduced prices and margins from the supplier; improved efficiency; improved functionality, or delivers exploitable new technologies.

■

Negative. The initiative provides value for money benefits for the supplier and undermines the current value received by the buyer.

■

Neutral. There is no discernible change in value for money for the buyer.

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Supply Chain Management

Phase III: Mapping uncertainty Phase III allows uncertainty to be mapped. First, it is necessary to indicate the degree to which the probability (high, medium or low) of the projected estimates of achievable outcomes will occur or not. If the probability is medium or low, it is then necessary to indicate whether the gains/losses estimated have been over- or under-stated. Following from this it will be necessary to record a revised projection of the anticipated reward structure.

CONCLUSIONS Having completed each of the figures for a specific category of sourcing requirement, and for each of the four sourcing options available, it should now be possible for companies to make a judgement about which of the four sourcing options available for this category of spend appears to be the most strategically beneficial. Key learning point 2.3 ■

Any of the sourcing options available is worth pursuing if the projected gains exceed the projected costs, after the pattern of risk has been factored into the equation.

■

The strategy that is optimal is, however, likely to be that approach which results in the greatest pay-off when all the four alternative sourcing approaches are compared against one another for a particular category of spend.

It is clear that this approach to sourcing strategy selection may well result in an answer that says a proactive SCM approach is simply not the most optimal solution for the buying company. In such circumstances our view is that the sensible company should opt to undertake the sourcing approach that is most conducive for its commercial success. Obviously, if the analysis leads to the conclusion that SCM is optimal, then the buying company should pursue this option vigorously. There is one additional caveat that must be addressed before such an approach is adopted. Identifying what may be the most commercially profitable sourcing option is not the same thing as identifying a strategy that will work operationally. Before embarking on any sourcing strategy it is necessary to understand, first, whether there are any major internal and external constraints that will so affect implementation that the strategy cannot be made to work in practice, despite the clear commercial benefits that may be achieved strategically. These issues are discussed in the next chapter in relation to SCM strategies only.

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Is SCM the best strategic sourcing option?

REFERENCES Cox, A. (1997) Business Success. Helpston: Earlsgate Press. Lonsdale, C. and Cox, A. (1998) Outsourcing: A Guide to Business Risk Management Tools and Techniques. Helpston: Earlsgate Press. PA Consulting Group (1996) Strategic Sourcing: International Survey. London: PA Group. Porter, M. (1985) Competitive Strategy. New York: Free Press. Rumelt, R. P. (1997) ‘Theory, strategy and entrepreneurship’, in D. Teece (ed.) The Competitive Challenge. New York: Harper & Row. Womack, J. and Jones, D. (1996) Lean Thinking. New York: Simon & Schuster. 3i (1994) Outsourcing. London: 3i.

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1 Supply chain management and ‘best practice’ sourcing

■

Introduction

■

The four basic sourcing options

■

Which of the options is ‘best practice’ for the buyer?

8

■

The key enablers of successful SCM implementation

9

■

Conclusions

■

References

3 4

12 13

1

Supply chain management and ‘best practice’ sourcing

INTRODUCTION In recent years there has been considerable debate amongst consultants, practitioners and academics about what constitutes ‘best practice’ for those involved in sourcing. For many this debate has led to the conclusion that supply chain management (SCM) constitutes ‘best practice’ in the search for improved value for money relationships with suppliers. The evidence for this viewpoint is the increasing frequency with which old purchasing, procurement and logistics departments have begun to re-brand themselves as supply chain management functions. We have also witnessed the development of SCM practices in all the major consultancy companies and the creation of dedicated MBA and undergraduate degree programmes, as well as departments of SCM within major American and European Universities. Over recent years we have taken something of a contrary view about the appropriateness of this view of ‘best practice’ (Cox, 1997a, 1997b, 1998; Cox et al., 2000a). Much of our criticism of the SCM bandwagon has in the past been based on deductive reasoning about the logical approaches to sourcing that must be made under different circumstances of power between buyers and suppliers. At the same time we have undertaken research into how power regimes create opportunities, as well as problems, for buyers and suppliers as they seek to implement particular sourcing approaches in changing circumstances of power (Cox et al., 2000b, 2001). Some of this empirical research has been reported already and it demonstrates clearly that there are some circumstances in which buyers can pursue SCM approaches successfully, but also that there are many, many more circumstances when they cannot. Cox et al., 2002 Despite this general conclusion it is clear that SCM practices – when properly conceived and implemented – can provide one of the most powerful mechanisms currently available for buyers to transform the supply offerings they receive from their supply chains. This short volume has, therefore, four major tasks: ■

to help practitioners understand whether or not it is appropriate for them to undertake SCM strategically;

■

to help practitioners to understand if it is possible to undertake SCM strategies operationally within their own organization, and with the suppliers within their external supply chains;

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Supply Chain Management

■

to help practitioners understand how to implement SCM strategies successfully;

■

to help practitioners understand whether there is any software and Internetbased tool(s) that will facilitate the successful implementation of SCM strategies.

It is important for the reader to understand at the outset, however, that the general argument of this book is that while SCM can be regarded as a ‘best practice’ approach for organizations under some circumstances, it is rarely ‘best practice’ for companies in most or all of their external sourcing circumstances. Given this, the first issue to be addressed is not what is the most effective way to undertake supply chain management, but if it is not always appropriate, what sourcing choices do managers have? The best way to address this issue is by first understanding, logically, the ways in which buyers can work with any supplier and the scope of their activities within a supply chain. By doing this it is possible to define four basic sourcing approaches that are always available for buyers to select from when they seek to manage their supply relationships.

THE FOUR BASIC SOURCING OPTIONS

Ways of working for buyers and suppliers As Figure 1.1 demonstrates, buyers have two basic choices about the ways they can work with suppliers. These are as follows.

Proactive ways of working In this way of working the buyer independently (or jointly with the supplier) designs and specifies in detail the ‘stretch’ improvements in functionality and cost of ownership that the supplier is expected to deliver now and in the future. The buyer will obviously select the most competent suppliers available and undertake robust and rigorous measurement and management of performance against predetermined ‘stretch’ targets. The buyer will also be heavily involved in developing the skills and capabilities of the supplier to deliver the required targets through close and collaborative relationship management.

Reactive ways of working In this way of working the buyer’s role is much more circumscribed since it is normally the supplier who determines what the supply offering to the buyer will be. The buyer is, therefore, rarely directly involved in the design and specification of functionality and costs improvements. Here the buyer normally sources at arm’s

4

Supply chain management and ‘best practice’ sourcing

length and relationship management is confined to short-term interactions, based on the selection of the most appropriate supply offering and given the available choices provided by currently available suppliers in the market. The buyer does not directly drive innovation in this approach but encourages market contestation so that, over time, competition provides innovation in functionality and cost. Fig. 1.1

The four sourcing options for buyers

Proactive

Supplier development

Supply chain management

Reactive

Supplier selection

Supply chain sourcing

First-tier

Supply chain

Focus of buyer relationship with the supplier

Level of work scope with supplier and supply chain

The scope and level of buyer involvement with supply offerings Figure 1.1 also demonstrates that to achieve improved leverage of supply inputs, buyers also have to make decisions about the scope of their involvement within the supply chain that must be created for the delivery of particular goods and services.

First-tier relationship management In this approach the buyer lacks the internal capabilities and/or external power resources to direct innovation from the extended network of suppliers. The buyer, therefore, can only work with suppliers at the first-tier. The buyer can, of course, choose either short-term arm’s length or longer-term collaborative relationship management styles when sourcing at the first-tier.

Supply chain relationship management In this approach the buyer has both the internal capabilities and the external power resources to drive innovation on its own, or jointly, with the extended network of suppliers within the supply chain (this can be in the total chain or within significant elements of it). Here the buyer works beyond the first-tier

5

Supply Chain Management

supply relationship to improve functionality and/or reduce costs on a continuous basis, normally using long-term collaborative relationships.

The four sourcing options facing the buyer Figure 1.1 further demonstrates that putting these four basic variables together provides the buyer with four basic sourcing options. These are differentiated on the basis of the level of external complexity and internal resource intensity that must be managed by the buyer.

Supplier selection This option is the one most commonly used by buyers in all types of organization. Supplier selection implies that the buyer’s role is confined primarily to reactive sourcing at the first-tier. This means that the buyer normally selects products and /or services from the supply offerings made by suppliers currently operating in the market, with analysis of the power and leverage opportunities between the buyer and supplier confined only to the proximate supplier of the finished product or service being sourced. It is the supplier who designs and specifies requirements, with the buyer’s role confined to market analysis of supplier offerings and, using robust supplier selection procedures, the sourcing of the best value for money supplier(s). This approach also normally requires robust performance measurement in order that the buyer can determine whether the supplier has delivered what was expected. If it has been, then the supplier may expect to receive further orders from the buyer, assuming no other suppliers can offer a better value proposition to the buyer when contracts are reviewed. Of all of the four options available to a buyer, supplier selection makes the least demands on internal resources and requires the least commitment to long-term collaborative external sourcing relationships.

Supply chain sourcing The supply chain sourcing option is similar in many ways to the supplier selection option. The major difference is that, instead of the supplier assessing the suitability of suppliers at the first-tier, the buyer is now involved directly in understanding the structure of the supply chain through which products and services are created. This approach requires, therefore, that buyers develop rigorous and robust source plans in order that the current power structures between buyers and suppliers within the total supply chain can be understood. Once again, however, the buyer’s role is confined to market intelligence (but now within the total supply chain) rather than the detailed design and specification of

6

Supply chain management and ‘best practice’ sourcing

supply offerings. The buyer’s motive in undertaking source planning is to understand whether there are opportunities for effective leverage within the totality of the supply chain relationships, rather than merely at the first tier. The buyer does not, however, undertake a proactive role with the supplier or supply chain. The buyer in fact simply assesses the scope to use the current leverage that is available if sourcing is undertaken in the supply chain beyond the first-tier. This approach makes more demands on the internal resources of the buying company than supplier selection because it involves the development of competence (and therefore the expending of scarce internal resources) on supply chain not just first-tier information search and analysis. It also involves the development of more supply relationships externally and, therefore, more external performance measurement and relationship management responsibilities.

Supplier development Supplier development refers to a process by which, having undertaken the same initial type of analysis and selection as that outlined under Supplier selection above, the buyer works on a continuous basis with the supplier to transform the current trade-off between product or service functionality and the overall cost of ownership. The key difference with supplier selection is that the buyer is now heavily involved, not only in selection and assessment but also in the fundamental design and specification of the product and service offering that the supplier will provide now and in the future. Clearly, depending on the respective resources and capabilities of the buyer and the supplier, this will either be determined by the buyer or it will have to be a joint effort. It is clear that this approach makes much greater demands on the internal resources, as well as upon the external relationship management skills, of the buyer than the two more reactive options outlined above. In this approach the buyer has to commit considerable internal resources to the design and specification process, as well as to external relationship management. Furthermore, this approach requires that buyers and suppliers must normally develop longer-term relationships. This is because, if both parties have to make dedicated investments in the relationship to make it work, neither side is likely to do this without some longer-term commitment. It is also essential that the power structure is favourable to the buyer since it is unlikely that dominant suppliers will be willing to respond positively to the design and specification requirements of buyers.

Supply chain management The final option available to buyers is the most demanding of both internal resources and external relationship management. The approach is similar in all respects to supplier development except that, having first undertaken source planning, the buyer

7

Supply Chain Management

now assesses the scope to undertake proactive supplier development linking together all the buyers and suppliers in the chain. The aim of this network relationship management is to encourage the players in the chain to dedicate their business strategies to the delivery of improved functionality and lower costs of ownership for the ultimate customers in the chain. It is self-evident that this approach, which incorporates the same selection and performance measurement tools and techniques as outlined under the reactive approaches provided earlier, is the most difficult for buyers to implement. The reason being that two major enablers must be in place before any buying organization can implement this approach. First, the buying company must have the internal capabilities to shape the ‘stretch’ design and specification requirements for the chain as a whole and have the internal resources to embark on the complex and time consuming role of developing all the buyers and suppliers within the chain. Second, there must be a power structure that is conducive to buyer-led supply chain improvement. Obviously, depending on the power relationships within the chain, it may be necessary for the buyer to work jointly with the buyers and suppliers within the chain or, if the buyer has sufficient internal resources and power over the players in the chain (or a substantial proportion of them), it may be possible for the buyer to dictate what they will do.

WHICH OF THESE OPTIONS IS ‘BEST PRACTICE’ FOR THE BUYER? Our research and consulting activities over the last ten years have continually reinforced one conclusion: whatever the hype, most buying organizations do not in practice do very much SCM (Cox et al., 2001; Cox et al. 2002). The reason for this is self-evident. Few buying organizations have either the internal resources or the external power circumstances that are conducive to longterm and continuous collaborative buyer and supplier relationship management. This implies that, whatever proselytizers of SCM argue about it being ‘best practice’, for the bulk of their spend, most practitioners will never be in a position to implement it because the achievable gains are not worth the internal and external efforts required. This is not to deny that SCM is a most effective and appropriate thing to do if the buyer is in circumstances conducive for its implementation. Unfortunately, however, the empirical evidence seems to confirm that most buyers will only ever have the internal resources and external power opportunities to undertake reactive sourcing options. It is imperative, therefore, that managers recognize this fact and that organizations begin to analyze the objective circumstances they are in, so that they can properly

8

Supply chain management and ‘best practice’ sourcing

understand whether they have proactive and/or reactive sourcing opportunities and which of the four options outlined here is likely to be the most efficacious for improved leverage in the future for any particular category of spend. This is because our work with many companies over the last ten years has indicated clearly that, while SCM may be possible and desirable in some industries – like automotive, food retailing, process construction, personal computer manufacturing, chemical refining and aluminium (to mention just a few) – this does not mean that this approach is the most appropriate for buyers to adopt in all circumstances. Indeed our research has demonstrated quite clearly that not only is it impossible for the majority of organizations to adopt SCM approaches but also, and perhaps more to the point, companies pursuing SCM approaches in their direct, revenuegenerating supply chains often find it impossible to do so in their indirect, non-production areas of spend. In these circumstances even SCM-focused companies are often forced to adopt supplier development, supplier selection and supply chain sourcing options for some of their categories of spend. Key learning point 1.1 ■

‘Best practice’ cannot be about the development of any one particular sourcing approach.

■

Rather ‘best practice’ must be the ability to understand which of the four sourcing options available is the most appropriate in any given circumstance.

THE KEY ENABLERS OF SCM IMPLEMENTATION Our work has led us to conclude, therefore, that there must be circumstances when SCM strategies can work and there must be circumstances when they are unlikely to do so. It is interesting that most SCM strategies seem to operate well in circumstances in which the buyer has high volume and fairly regular and constant demand relative to a supply market in which there are many suppliers, all of whom have similar capabilities, and who are normally highly dependent on the buyer in one form or another. It is worth noting that many of the industries in which SCM strategies have been pioneered – the automotive, the aluminium, the chemical refining, process manufacturing and process construction – have these demand and supply characteristics. But there are also circumstances where SCM strategies based on longer-term collaborative relationship management approaches do not work well.

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Supply Chain Management

It is interesting that SCM strategies do not appear to work well in circumstances where the buyer has low volume and infrequent or ad hoc demand, and in which there are dominant suppliers who are not dependent on the buyer in any form. It is highly unlikely, therefore, that a buyer (individual or corporate) could currently force Microsoft or Cisco to adopt SCM strategies against their will, or seek to appropriate for themselves most of the increased value from working together. The reason for this is self-evident. From a dominant supplier’s perspective, unless a buyer has sufficient volume relative to its alternative customers and unless that demand is constant, there is no reason why it should work with any particular buyer to create value-adding activities. Furthermore, there is no reason why it should want to share any value created with its customers if it can keep such value for itself. This is just another way of saying that demand and supply variables create a situation of power and leverage between buyers and suppliers at all points in a supply chain – we refer to this as the creation of power regimes within the complex networks of buyer and supplier exchange that exist in any and all supply chains for products and services (Cox et al., 2000b). Unless managers understand the ways in which the power circumstances between buyers and suppliers create opportunities for, and obstacles to, the development of potential SCM strategies, then there is a significant risk that managers will be pursing external sourcing approaches that are impossible to implement. Given this, as Figure 1.2 demonstrates, the ability of managers to undertake SCM strategies will be heavily dependent on the power relationships that exist between buyers and suppliers within the supply chains that must be managed if SCM strategies are to be implemented effectively. In deciding whether it is strategically or operationally possible for buyers to undertake SCM strategies, much of the initial decision will have to be made by understanding where the buyer and supplier sit in The Power Matrix outlined in Figure 1.2. Fig. 1.2

The Power Matrix between buyers and suppliers

High

Buyer dominance

Inter-dependence

Low

Independence

Supplier dominance

Low

High

Relative utility and scarcity of buyer’s resources for supplier

Relative utility and scarcity of supplier’s resources for buyer

Source: Cox, A. et al., Power Regimes, Helpston: Earlsgate Press (2000b) p. 18

10

Supply chain management and ‘best practice’ sourcing

As Figure 1.2 indicates there are four objective power situations that buyers and suppliers can find themselves in: ■

Buyer dominance means that the buyer can control the relationship with the supplier and can fix the price and quality trade-offs in the buyer and supplier relationship.

■

Interdependence means that the buyer and the supplier are both heavily dependent on one another and they must work together and jointly decide on price and quality trade-offs in the relationship.

■

Independence means that neither the buyer nor the supplier have any resources to determine and shape the specific relationship and both receive price and quality on the basis of market competition and contestation.

■

Supplier dominance means that the buyer is in no position at all to shape the relationship with the supplier and must receive quality and price decisions that are dictated by the supplier.

The significance of external power relationships for the effective implementation of SCM strategies is outlined in far more detail in Chapter 3 where the second major operational enabler is also discussed. This enabler is the issue of internal capability. As Figure 1.3 demonstrates, there are always power circumstances at play within organizations, as well as externally with suppliers. Our research has led us to conclude that effective SCM strategies cannot be undertaken unless there is clear support within an organization to make them work. Fig. 1.3

Internal opposition and support for SCM strategies

Understand what SCM is

Enemies

Confirmed allies

Don’t understand what SCM is

Zombies

Potential allies

Don’t want to help SCM implementation

Do want to help SCM implementation

Once again we discuss these issues in more detail in Chapter 3. It is worth stressing, however, that unless there are more confirmed allies and potential allies than enemies and zombies internally within an organization, it is unlikely that such SCM approaches can ever be made to work successfully – however conducive the

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Supply Chain Management

external power relationships with suppliers. Attention to internal buy-in for SCM strategies by those managing external resources is clearly a critical success factor. Key learning point 1.2 There are two major enablers of successful supply chain management strategies: ■

buy-in from a significant proportion of those within the organization who have the capability to stop effective implementation;

■

conducive external power structures in the supply chains to be managed – normally of extended buyer dominance or interdependence – that allow the buying organization to drive (or significantly shape) quality and price trade-offs.

Both of these enablers must be in place for a successful SCM strategy to be attempted. But even these two factors, while necessary, are not a sufficient cause of success. For ultimate success to be achieved, the buying organization must be able to implement their SCM strategy appropriately given the internal and external power circumstances they face – both pre- and post-contractually.

CONCLUSIONS SCM strategies can be highly successful mechanisms for the leverage of improved value for money from suppliers. But it is also necessary for successful implementation that buying organizations do not fall into serious errors of judgement when they consider which of their resources and capabilities they should manage using longerterm collaborative relationships. This is another way of saying that it will not always be appropriate for buyers to use SCM strategies for all their supply requirements. On many occasions supplier selection, supply chain sourcing and supplier development approaches may be far more appropriate mechanisms by which to leverage value for money than SCM strategies, and for most buyers these three approaches may well be their most frequently used sourcing tools. Having said that, it is also worth stressing again that when SCM strategies can be used they are an extremely powerful mechanism for leveraging improved value for money from suppliers and their supply chains. Nevertheless, even when there is a supportive internal and external environment for the successful implementation of SCM approaches (as described in Chapter 3) sometimes these strategies are not adopted successfully. The major reasons for this are threefold and will be discussed later in some detail.

12

Supply chain management and ‘best practice’ sourcing

First, as indicated in Chapter 2, buying organizations sometimes outsource the wrong skills and capabilities to suppliers and do not understand what are core and non-core competencies. Buying organizations also often misperceive the preand post-contractual power circumstances they are in and, over time, find that they become victims of post-contractual lock-in to suppliers who were once in the buyer dominance or interdependence power situations. As result of poor practice, it is possible for the buying organization to find that during implementation the power situation reverts to supplier dominance. This error of implementation must be guarded against at all costs. Sometimes it is also necessary that, whatever the perceived benefits of SCM approaches, organizations do not outsource their internal competencies at all. Second, buying organizations often fail to understand how to implement their SCM strategies appropriately, because they fail to recognize the differences between the types of products and services that must be managed, as well as the focus of their SCM initiative. In Chapter 4 we outline in detail how SCM strategies must be aligned with the types of products and services (and their underlying demand and supply structures) if SCM approaches are to be implemented effectively. We differentiate primarily between SCM initiatives aimed at cost reduction through process efficiency and those directed at achieving market differentiation through product and service innovation. Third, Chapter 5 outlines some of the major software and Internet-based tools available for those developing SCM strategies. In this discussion we provide managers with a series of templates to enable them to understand whether any of these tools can provide them with significant benefits. At the same time we ask whether any of these tools can create an unacceptable risk of post-contractual lockin that makes effective exit difficult for the buyers or the suppliers in the chain. Having addressed these issues, we hope that practitioners will be in a better position to understand when SCM approaches make sense for them strategically and operationally and, if they do, how they can be implemented successfully.

REFERENCES Cox, A. (1997a) Business Success. Helpston: Earlsgate Press. Cox, A. (1997b) ‘On power, appropriateness and procurement competence’, Supply Management, 2 October, pp. 24–7. Cox, A. (1998) ‘Clarifying complexity’, Supply Management, 29 January, pp. 34–6. Cox, A. et al., (2001) ‘The power perspective in procurement and supply management’, Journal of Supply Chain Management, (37) 2, 4–47.

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Supply Chain Management

Cox, A., Ireland, P., Lonsdale, C., Sanderson, J. and Watson, G. (2002) Supply Chains, Markets and Power: Mapping Buyer and Supplier Power Regimes. London: Routledge. Cox, A., Sanderson, J. and Watson, G. (2000a) ‘Wielding influence’, Supply Management, 6 April, pp. 30–3. Cox, A., Sanderson, J. and Watson, G. (2000b) Power Regimes: Mapping the DNA of Business and Supply Chain Relationships. Helpston: Earlsgate Press.

14

3 Is supply chain management feasible operationally?

■

Introduction

■

Internal success factors

40

■

External success factors

51

■

Conclusions

■

References

39

62 63

37

Is supply chain management feasible operationally?

INTRODUCTION The previous chapter developed a framework for identifying when it is strategically and commercially sensible to implement a strategy of SCM. In this chapter we address the question of whether a buying company can operationally implement SCM strategies in any chosen supply chain. The answer to this question is essentially a function of two interrelated success factors. Each of these success factors must be present both within the buying company and within the supply companies in the extended supply chain if SCM strategy is to be effective. There is an internal dimension and an external dimension to the effective operational delivery of an SCM approach. The first success factor is the need to have competent managers, who possess a solid understanding of the technical, operational and commercial tools and techniques of SCM. Beyond this operational understanding, however, competence also requires companies to understand how their particular organizational functions (be it sales and marketing, production or procurement) must operate to support such a strategy. The requirement to have competent managers is equally critical both within the buying company and within the supplier organizations in the extended supply chain that has to be managed. The reason for this is that the deployment of SCM strategies requires co-ordinated managerial effort in a number of interconnected organizations. No single organization can, nor indeed should, try to manage a supply chain on a unilateral basis. This is impractical and would imply a greater degree of direct intervention in the affairs of other companies than is possible without vertical integration. Another important internal factor in SCM initiatives is the willingness of key organizational actors, both within the buying company and in the supply chain, to commit the necessary time and resources. Many companies are so focused upon making SCM work and, therefore, concerned with matters of managerial competence, that they fail to ask a vital prior question: ‘What incentive, if any, do key internal organizational actors have to make the necessary commitment?’ SCM initiatives tend to fail not because there is a lack of managerial understanding or competence but because internal and external actors are not prepared to commit the substantial resources that are needed (Sanderson et al., 2001; Cox et al., 2002). It will be important, therefore, to explore what determines the willingness of internal and external organizational actors to be supportive and to make the necessary investments. The second critical success factor, therefore, is the availability of supportive power structures. It is clear that intra- and inter-organizational power structures are crucial in understanding the incentives of key managers.

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Supply Chain Management

It follows, therefore, that an understanding of the resources underpinning these structures, and a capacity to manipulate these resources, must lie at the heart of a successful SCM strategy. Key learning point 3.1 There are two basic success factors for successful SCM strategies, both of which must be present in the buying company and in the supply organizations in the extended supply chain to be managed. These are: ■

managerial competence and understanding. This includes an awareness of the operational tools and techniques used in SCM strategies and an understanding of what is required of particular organizational functions to manage demand effectively;

■

an appropriate alignment of intra- and inter-organizational power and incentives. SCM strategies require substantial dedicated investments, both by the buyer and by their suppliers in the extended supply chain. These investments are only likely to be forthcoming if internal and external actors have an incentive to make them. Incentives are a function of power.

INTERNAL SUCCESS FACTORS Managerial competence and understanding in your organization It is clearly important to be aware of the competence of those managers working within the sourcing function, but it is also necessary to be aware of the competence of managers working within other functions that have an impact upon sourcing decisions. Studies of organizational buying demonstrate that the buying decision usually involves a number of actors from several different functions (Webster and Wind, 1972; Sheth, 1973). Each of these actors has a specific role to play within the buying process and each, therefore, influences particular aspects of the relationship between the buyer and its suppliers. Consequently, the likely success of SCM strategies is crucially dependent upon the managerial competence and understanding present within the different functions involved in the sourcing process. These various decision roles and aspects of influence are summarized in Table 3.1.

40

Is supply chain management feasible operationally?

Table 3.1

Actors involved in the organizational sourcing process

Role

Influence on buying process

Functional examples

User

Initiates the buying process by recognizing a requirement; often involved in writing the specifications for specialist, technical products or services; may also be involved in supplier development activity

CEO; Strategy; Strategic Business Units; Finance; Marketing; R&D; Engineering; Production and Operations; HR; Legal; Environmental;Shared Services; Facilities and Estates; Logistics etc.

Influencer

Provides information and opinions used for evaluating alternative suppliers/products; reviews specifications

As above

Gatekeeper

Affects the search for information by distributing or screening marketing materials and supplier bids

Normally Procurement, SCM, Logistics; R&D; Engineering; Production and Operations

Approver

Authorizes the proposed expenditure

As above under User (if they are budget holder)

Buyer

Selects and develops suppliers; negotiates, manages and monitors contracts; monitors supplier performance

Normally Engineering; Production and Operations; Logistics; SCM; Procurement

There are normally two broad categories of managerial competence and understanding that are crucial to the success of SCM strategies. The first is operational competence. This is an understanding by managers in the organization of the various tools and techniques that exist to support the implementation of SCM strategies. The most important of these tools and techniques are listed in Table 3.2. While the majority of these tools are likely to be used by the gatekeepers of the sourcing functions, it is still vital for the other functions involved in the sourcing process to be aware of what they can achieve. This is because, as Table 3.1 suggests, functions such as engineering and production and operations can have a direct impact upon the effectiveness with which these tools are implemented. They might do this either by acting directly in the sourcing role or by providing information (such as supplier performance data) that the procurement, logistics or SCM function uses in the development of strategy. The tools and techniques shown in Table 3.2 are discussed in detail in Chapter 4. The remainder of this section is devoted, therefore, to the second main category of internal competence and understanding: demand management competence.

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Supply Chain Management

Table 3.2

Key tools and techniques for SCM

■

Lean Thinking

■

Pareto Curve Approach

■

Agile Thinking

■

Surge and Base Approach

■

Critical Asset Thinking

■

The Supply Chain Response Matrix

■

Seven Principles of Muda

■

The Production Variety Funnel

■

JIT Production and Supply

■

Quality Filter Mapping

■

Big Picture Mapping

■

Demand Amplification Mapping

■

Value Stream Mapping

■

Decision Point Analysis

■

Vendor Managed Inventory

■

Physical Structure Mapping

■

Cycle Time Reduction

■

Supplier Associations and Networks

Demand management competence means that each function involved in the buying process understands the need to configure the organization’s demand in a way that makes it attractive to current and potential suppliers. Demand management is an important competence because the more attractive the buyer is perceived to be by its suppliers, the more willing those suppliers will be to invest in SCM initiatives. The willingness of suppliers to make the necessary investments is a function of their incentives to do so, and those incentives are in turn a function of the power structures that exist between the buyer and each of its suppliers. One key power resource is the attractiveness of the buyer’s expenditure for particular suppliers. In short, the more attractive or important the buyer is as a customer, the more likely a supplier is to co-operate with their SCM initiatives. Presented in Figure 3.1 is a simple Customer Portfolio Framework that can be used to assess how attractive the buyer’s business is to each of its suppliers. As Figure 3.1 shows there are two main factors to consider when analyzing the relative attractiveness of the buyer’s business to a supplier. The first is the ease with which a supplier can service the buyer’s requirements and, by extension, how costly it is for that supplier to work them. The key costs incurred by suppliers in servicing their customers’ requirements fall into two main categories: ■

Transaction costs. These are the costs incurred by a supplier in drawing up, managing and monitoring its contract with the customer, in particular the costs of invoicing and ensuring that payment is made. The fewer invoices that a supplier is required to send out and the more prompt are a customer’s payments, the lower these transaction costs will be.

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Is supply chain management feasible operationally?

■

Production costs. These are the costs incurred by a supplier in the production of goods or services to meet the buyer’s requirements. The less standardized/the more bespoke or unique are the buyer’s requirements, the higher these costs are likely to be because the product or production process will have to be redesigned. Equally, if the buyer requires a supplier to produce a product or service at short notice, these costs are likely to rise because the supplier will be forced to make unplanned demands on its own production processes and to acquire material inputs from its suppliers without a significant lead time.

Fig. 3.1

Customer portfolio framework: what type of customer is the buyer?

Ease of servicing buyer’s business

High

Development customer (win more business)

Key customer (aim to please)

Low

Nuisance customer (ignore)

Leverage customer (take advantage)

Low

High

Value of buyer’s business to supplier

Clearly, all else being equal, a supplier is likely to prefer a customer that is relatively easy and therefore inexpensive to service, because its profit margin is likely to be more substantial. It is possible that customers that are difficult/expensive to service will see any additional costs being passed on in the price that they pay. Market competition dictates, however, that this is not always possible. The second main factor is the value of your business to the supplier. The issue of value can be understood in a number of ways: ■

the size of buyer expenditure with the supplier relative to their overall turnover;

■

the regularity and predictability of buyer expenditure;

■

the prestige/marketing value of the supplier’s association with the buyer;

■

the supplier’s association with the buyer leads to product innovations that they can sell to other customers, or process innovations that reduce their costs/improve their profitability.

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Supply Chain Management

Putting these two factors together (ease of servicing and value of business) creates four basic types of customer as shown in Figure 3.1. As the figure suggests, the most attractive, or key customer, is one which is relatively easy to service and whose business is highly valuable to the supplier. This type of customer is likely have substantial power or influence over its supplier. Consequently, a key customer should expect its supplier to be willing to invest and participate in SCM initiatives. At the other end of the spectrum of attractiveness lies the nuisance customer. This is a customer whose demands make it difficult/costly to service and whose business is not particularly valuable to the supplier. Consequently, a nuisance customer is unlikely to receive support from its supplier for costly SCM initiatives. The remaining two types of customer, the development customer and the leverage customer are in intermediate positions. It seems likely, however, that a development customer would receive greater support from its supplier for SCM initiatives given the supplier’s desire to increase the volume and regularity of business that it receives from such a customer. A supplier servicing a leverage customer will not have to pursue such initiatives, but it may if it feels there is some benefit for itself from going along with the customer’s wishes. Exercise 3.1 Locating suppliers in the customer matrix It is clearly vital, therefore, to understand how suppliers view the buyer before embarking upon SCM initiatives. The matrix shown in Figure 3.1 allows a buyer to locate each of its suppliers by asking two key questions: 1 How easy is it for the supplier to service the buyer’s business? 2 How valuable is the buyer’s business for the supplier? It is also vital to understand that it is the configuration and management of the buyer’s internal demand that will dictate the type of customer that suppliers perceive the buyer to be. There are five main potential problems to be considered when thinking about the way in which the buyer manages the demand for everything that it buys from external third parties. These are shown below in Table 3.3 with a brief explanation of the impact they might have on the buyer’s attractiveness as a customer. As can be seen from Table 3.3, each of the five demand management problems can have a serious negative impact on the buyer’s attractiveness as a customer and, by extension, the willingness of suppliers to support SCM initiatives. The key question that arises, therefore, is ‘what are the primary causes of these problems, and what, if anything, can you do about them?’ At least some of these

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Is supply chain management feasible operationally?

problems will have purely technical or operational causes, such as a lack of comprehensive and compatible information technology, or the demand for rigorous safety standards from the buyer’s own customers. It is less often understood, however, that a good many of these demand management problems arise as a result of the political struggles that go on between different functions within an organization. Table 3.3

Potential demand management problems

Demand management problem

Impact on customer attractiveness

Over-specification

Makes the buyer’s requirements more difficult/costly to service, which may impact on the supplier’s profitability (nuisance or leverage customer)

Unplanned changes in specification

May require the supplier to make costly lastminute alterations to the product/production process (nuisance or leverage customer)

Poor demand information

Makes it difficult for the supplier to pre-plan its production activities and may require the supplier to pay a premium for its supply inputs (nuisance or leverage customer)

Fragmentation of expenditure

Each separate transaction undertaken with a supplier will be of limited value, and multiple interactions will increase transaction costs (nuisance customer)

Maverick buying

Diminishes the volume/value of business awarded to approved suppliers (nuisance or development customer)

Intra-organizational power and incentives This section explores the idea that organizations are a political battleground. This is because individual functions within an organization have a tendency to pursue their own interests and objectives and to interpret the overall goals of the organization in light of those interests and objectives. It is the pursuit of these individual agendas by different functions that often causes the demand management problems discussed above. One of the key internal challenges facing anyone in trying to implement SCM initiatives is to persuade those functions causing these problems that they should change their behaviour and support the initiative.

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Supply Chain Management

Two important questions arise as a result of this line of argument: ■

What creates the ability to persuade other organizational functions to change their demand management behaviour in support of SCM initiatives?

■

What is the attitude of other organizational functions to SCM initiatives? Have they been co-operative historically or unco-operative?

The ability to persuade other functions to support SCM initiatives, or any other sourcing initiative for that matter, is largely determined by the power of one function relative to that of other functions. With this in mind a simple predictive model of intra-organizational power is provided based on three factors in the sourcing process: ■

the ability of different functions to cope with uncertainty in the sourcing process;

■

the centrality of different functions to the process;

■

the substitutability of different functions in the process.

This simplified ‘strategic contingencies’ model (Hickson et al., 1971; Pettigrew, 1973; Pfeffer and Salancik, 1974) explains which functions are most powerful in the sourcing process and which are less influential in decision-making. By combining this information with that on their attitude to cross-functional initiatives, it is possible to categorize each function and decide whether the internal balance of power is conducive to SCM initiatives. In short, it is possible to assess whether there are too many ‘enemies’ or whether there are sufficient ‘allies’.

Uncertainty Uncertainty means that decisions are taken about suppliers and their products and services where there is limited information about future outcomes. In other words, supply alternatives and their possible outcomes in terms of value for money can often be highly unpredictable. This problem of supply uncertainty is particularly acute in the outsourcing of complex IT services (Lonsdale and Cox, 1998; Audit Commission, 2001). There is evidence that there are significant cost overruns and operational delays associated with buying such services. Moreover, these problems can often become much more than an irritation for the buying organization, because information processing is now fundamental to so many activities. Uncertainty might contribute to such difficulties in one of two main ways. ■

The buying organization might suffer from needs uncertainty. This means that the buyer is unable to provide the supplier with a full and detailed statement of requirements, because it is uncertain as to how its needs might change over the life of the contract. Consequently, even if the supplier acts in good faith, it

46

Is supply chain management feasible operationally?

might still be forced to charge more or to fall behind in delivery of the customer’s requirements, because these requirements change in radical and unforeseen ways. ■

The buying organization might also suffer from means uncertainty. This implies that the buyer has a fairly clear understanding of its needs, but that it is uncertain as to the means by which those needs might best be fulfilled. In this case, there is a very real danger that the supplier might act opportunistically and fulfill the buyer’s needs in ways that allow it to earn more money than is strictly necessary.

It is clear that these different types of uncertainty can have an enormous impact upon the value for money that buyers are able to achieve. Consequently, those functions within a buying organization that are best equipped to help the organization cope with or manage such uncertainty will have a critical power resource in the sourcing process. Coping with uncertainty in the sourcing process could mean: ■

Prevention. A function could prevent needs uncertainty by providing expert advice that enables the organization to plan its requirements over an extended period;

■

Information. A function could provide technical/operational information on alternative methods of fulfilling a requirement to help the buying organization overcome means uncertainty;

■

Absorption. A function could react to supplier opportunism by helping to develop and implement an exit strategy.

Centrality Centrality refers to the importance and closeness of a particular function to the sourcing process. There are two key variables that can affect the centrality of a function to any sourcing decisions. The first variable is the extent to which a particular function performs activities in the sourcing process that impact directly upon the sourcing activities or decisions of other functions. For example, in many manufacturing organizations it could be said that the production and R&D departments enjoy a high degree of centrality in the sourcing process, because they are key players in recognizing and defining the organization’s need and in drawing up the original specification. These decisions are fundamental in driving the activities of all other actors involved in sourcing. In contrast, we might argue that the sales and marketing function has a high degree of centrality in the sourcing process of a service sector organization,

47

Supply Chain Management

because it defines the market offering and thereby determines the organization’s input requirements. Finally, it might be argued that in all types of organizations the finance function enjoys a high degree of centrality by virtue of its capacity to veto or approve major items of expenditure. The second variable that determines a function’s centrality to the sourcing process is the extent to which the function performs activities that are deemed essential to the successful completion of the process. In other words, if an organization were unable to buy any products or services without an input from a particular function, then that function would be deemed to possess a high degree of centrality. Conversely, a function would have a lower degree of centrality if it only had an involvement with the buying of certain categories of goods or services, or if it was only active when certain types of buying decisions were being taken (i.e. buying a new item from a new supplier). This is an important point, because it emphasizes that the centrality of a particular function to the sourcing process is likely to be variable and context specific. Indeed, on many occasions the procurement function itself might have no involvement in the buying process. For example, it is not unusual for an organization’s procurement department to have no involvement in capital expenditure, with these items being handled instead by Business Units or production functions.

Substitutability Substitutability is the third factor that determines the power of a particular function in the sourcing process. This refers to the ease with which the activities performed by that function can be performed equally well by other actors, either inside or outside the organization. If a function has no substitute in the process because it is a repository of tacit and therefore non-transferable skills and understanding, it has a critical power resource. For example, certain engineers in the oil industry gain a power resource from the fact that they are part of a select band that understand the way in which the drilling equipment interacts with different geological environments. As a consequence of this knowledge these engineers are non-substitutable actors when an oil company’s requirements for equipment and maintenance services are being specified. Conversely, if one or more other actors, either internal or external, can perform a function’s activities equally well, then its power resources in this dimension are limited. This issue of substitutability has become particularly topical in recent years with the increased use of outsourcing. The outsourcing trend has inevitably caused those functions faced by the threat of transfer to a third party to argue that they are non-substitutable, because they understand the historical legacy and idiosyncrasies of the organization.

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Is supply chain management feasible operationally?

On occasion such arguments win out, but more often the pressure for headcount reduction and cost efficiencies takes precedence. It might be argued therefore that non-substitutability has been significantly eroded as a basis of internal power by the increased willingness of organizations to shift their external boundaries. Key learning point 3.2 An understanding of the relative power of different functions in the sourcing process can be acquired by considering three factors: ■

the ability of different functions to cope with uncertainty in the process;

■

the centrality of different functions to the process;

■

the substitutability of different functions in the process.

A highly powerful function, therefore, will be characterized by a significant ability to cope with uncertainty, a high degree of centrality in the sourcing process, and by non-substitutability. Conversely, a function that is relatively lacking in power will display an opposite set of characteristics. Table 3.4 presents in summary form the relationship between different combinations of these variables and the commensurate degree of intra-organizational power. This table can be used as a quick checklist to rate the relative power of different functions within any organization. Table 3.4

Rating the power of the different functions involved in the sourcing process

Coping with uncertainty

Centrality

Substitutes

Power rating

Good

High

None

Very High

Good

High

Many

High

Good

Low

None

High

Poor

High

None

High

Good

Low

Many

Medium

Poor

High

Many

Medium

Poor

Low

None

Medium

Poor

Low

Many

Low

The power of different functions within the sourcing process is a necessary but not sufficient factor in any decision as to whether the internal environment of a company is conducive to SCM initiatives. The insights that are gleaned from the above analysis

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Supply Chain Management

must also now be combined with information on the historical attitude of different functions in an organization to sourcing initiatives. It is necessary to ascertain whether a particular function has tended to be co-operative in the past or whether they have had a tendency to act as a brake on new SCM initiatives. The reason for doing this, as can be seen in Figure 3.2, is to create a categorization that differentiates between a powerful and co-operative function and one which has power but is unco-operative. Figure 3.2 also brings back into the picture the managerial competence issues discussed earlier. We argued that each of the functions involved in the sourcing process must have two different competencies if SCM initiatives are to be successful. These are an operational understanding of the tools and techniques used in SCM initiatives and an understanding of how internal demand should be configured to make the organization attractive to its suppliers.

Categorizing functions The basic categorization shown in Figure 3.2 divides functions into those with a high level of competence and those with a low level of competence. The former are those functions with a solid grasp of both the operational and the demand management requirements of SCM. The latter are those functions that have neither of these competencies or where they are significantly under-developed. Fig. 3.2

Knowing your enemies and your friends

Attitude of function to procurement initiatives Co-operative

Unco-operative

Power of function in procurement process Low–medium

High–v. high

Low–medium

High–v. high

High

Ally

Key ally

Enemy

Key enemy

Low

Potential ally

Potential key ally

Irritant

Loose cannon

Competence of function

The primary managerial benefit of categorizing the functions in an organization as shown in Figure 3.2 is that it enables managers to decide what kind of strategies

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Is supply chain management feasible operationally?

they need to follow to build a coalition of support for SCM initiatives. This point is illustrated in the following exercise. Exercise 3.2 Linking management styles to SCM initiatives Use the above matrix to categorize the various functions involved in sourcing in the organization and then answer the following questions: ■

What type of managerial style should be adopted with each function based on its position in the matrix – conciliatory, confrontational, mentoring, avoidance?

■

How might each type of function fit into a strategy to build support for SCM initiatives?

EXTERNAL SUCCESS FACTORS The success of SCM initiatives has both an internal and an external dimension. The remainder of the chapter discusses the key external factors that must be present if SCM is to be successfully implemented. These key external factors are an exact mirror image of those discussed about the internal context: a high level of managerial competence and understanding in the organizations in the supply chains to be managed; and, an appropriate alignment of inter-organizational power and incentives. We can summarize these two factors by asking whether the organizations in the supply chain that you want to manage are both competent and congruent (Cox, 1999). We turn first to the issue of competence.

Managerial competence and understanding in supply chain organizations When managers ask questions about the competence of their suppliers, they are usually interested in whether they can deliver effectively on specified quality, cost and delivery (QCD) requirements. Indeed, it is these three factors, in combination with the financial stability of a supplier, that form the basis of the vast majority of supplier assessment and selection procedures. This definition of supplier competence is, however, far too narrow if the aim is to select suppliers to be part of SCM initiatives. To achieve proper alignment with suppliers in SCM initiatives it is necessary to consider whether a supplier is also competent in the two spheres that we discussed earlier in the internal context.

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Supply Chain Management

Do suppliers have an operational understanding of the tools and techniques that underpin SCM, and do they understand how to manage their demand effectively so that their own suppliers view them as attractive customers? In short the buyer should be interested in whether a supplier is competent not only to meet QCD requirements but also to improve upon them through the deployment of SCM tools and techniques and the effective alignment of its own internal demand. The exercise below provides a simple checklist that can be used to assess the competence of suppliers on these two important measures. To be truly competent a supplier must demonstrate a robust understanding of both the operational and the demand management requirements of SCM. Exercise 3.3 Are suppliers competent for SCM? Name of supply chain organization Operational competence How much knowledge/experience does the supplier have of the following SCM tools and techniques?

Demand management competence To what extent does the supplier exhibit the following demand management problems?

Tools Substantial Limited None Problems Over specification Lean thinking Unplanned changes Agile thinking in specification Critical asset thinking Seven principles of Poor demand Muda information JIT Big picture mapping Process activity mapping

Substantial Limited

None

Fragmentation of expenditure Maverick buying Other (specify)

Value stream mapping Vendor managed inventory Cycle time reduction Supplier association and networks Pareto Curve approach Surge and Base approach Supply chain response matrix The production variety funnel Quality filter mapping Demand amplification mapping Decision point analysis Physical structure mapping

Clearly, the checklist shown in Exercise 3.3 provides only a fairly basic insight into the competence of the organizations in the supply chain that has to be managed.

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Is supply chain management feasible operationally?

That said, this analysis should enable managers to take a view on whether a particular supply chain organization already understands what is required and how to do SCM, or whether it needs to be educated. Moreover, if a supplier is deemed not to be competent, a judgement must also be made about whether it can be persuaded to commit the time and resources needed to bring its competence up to the required level. This issue is important because it is illogical and impractical to suggest that a supplier could ever be forced to develop its competence. A supply chain organization must be willing to learn what is necessary to participate in any SCM initiative. This question of persuading other actors to support the initiatives of the buyer requires a consideration of power and incentives. This requires consideration of the inter-organizational power circumstances in which a supplier might be expected either to improve its competence or, if already competent, to use what it knows in support of a buyer’s SCM initiative. Equally, those power circumstances in which a supplier is unlikely to be willing either to improve or to deploy its SCM competence must be considered.

Inter-organizational power and incentives When selecting suppliers to be part of SCM initiatives it is not enough to think solely about their competence. It is also necessary to understand whether a particular supply chain organization has an incentive to make the substantial investments that are needed to be part of such an initiative. These investments are of two basic types. ■

The first type of investment relates to developing and improving the required operational and demand management competencies. The focus here is primarily on management education to promote knowledge and understanding of SCM tools and techniques and the commercial implications of poor buying behaviour.

■

The second type of investment relates to the organizational change process that might be necessary to make SCM initiatives effective. For example, a supply chain organization might be required to redesign its internal production process, alter its capacity planning/allocation, introduce a new management information (ERP) system, or reorganize its in-bound and out-bound logistics to create a synergy with any SCM initiative. All these organizational innovations will carry a substantial cost in terms of managerial and financial resources.

The key question is, therefore, under what inter-organizational power circumstances would a supply chain organization be willing to make such substantial up-front investments? Before this question can be answered the range of power circumstances that might exist between a buyer and any supplier must be identified. These issues were

53

Supply Chain Management

discussed in Chapter 1 but, as Figure 3.3 shows, the four basic buyer–supplier power circumstances have key attributes for buyers and suppliers. This model provides a simple checklist of criteria that you can use to assess your power relative to particular suppliers (Cox et al., 2000; Cox et al., 2001). The same criteria can also be used to assess the relative power positions of buying and selling organizations further upstream in the supply chain that the buyer is seeking to manage.

The attributes of buyer and supplier power

Fig. 3.3

Buyer dominance (>) ■ ■ ■

High

■ ■ ■ ■ ■ ■

Attributes of buyer power relative to supplier

Few buyers/many suppliers Buyer has high % share of total market for supplier Supplier is highly dependent on buyer for revenue with few alternatives Supplier’s switching costs are high Buyer’s switching costs are low Buyer’s account is attractive to supplier Supplier’s offering is a standardized commodity Buyer’s search costs are low Supplier has no information asymmetry advantages over buyer

■ ■ ■ ■ ■ ■ ■ ■ ■

Few buyers/few suppliers Buyer has relatively high % share of total market for supplier Supplier is highly dependent on buyer for revenue with few alternatives Supplier’s switching costs are high Buyer’s switching costs are high Buyer’s account is attractive to supplier Supplier’s offering is relatively unique Buyer’s search costs are relatively high Supplier has moderate information asymmetry advantages over buyer

Independence (0) ■ ■ ■ ■

Low

Interdependence (=)

■ ■ ■ ■ ■

Supplier dominance (<)

Many buyers/many suppliers Buyer has relatively low % share of total market for supplier Supplier has little dependence on buyer for revenue and has many alternatives Supplier’s switching costs are low Buyer’s switching costs are low Buyer’s account is not particularly attractive to supplier Supplier’s offering is a standardized commodity Buyer’s search costs are relatively low Supplier has very limited information asymmetry advantages over buyer

■ ■ ■ ■ ■ ■ ■ ■ ■

Many buyers/few suppliers Buyer has low % share of total market for supplier Supplier has no dependence on buyer for revenue and has many alternatives Supplier’s switching costs are low Buyer’s switching costs are high Buyer’s account is not particularly attractive to supplier Supplier’s offering is relatively unique Buyer’s search costs are very high Supplier has substantial information asymmetry advantages over buyer

Low

High Attributes of supplier power relative to buyer

© Robertson Cox Ltd, 2000 All Rights Reserved. Source: Adapted from Cox et al. (2001) p. 14.

As Figure 3.3 shows, a buyer’s power position relative to a particular supplier is a function of how dependent they are on one another: ■

buyer dominance, represented by a greater than symbol (>), implies that a buyer has little or no dependence on a particular supplier, whilst suppliers are highly dependent upon the buyer’s business;

■

supplier dominance, represented by a less than symbol (<), is characterized by precisely the reverse situation.

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Is supply chain management feasible operationally?

In the remaining two categories, the level of dependency is balanced: ■

interdependence, represented by an equal sign (=), occurs when both buyer and supplier are highly dependent on the other;

■

independence, represented by a zero (0), the level of dependence is low on both sides.

The Figure 3.3 also shows that relative dependency can be understood as a function of three important attributes: ■

Scarcity. How many comparable suppliers/customers are there for each side to do business with?

■

Utility. How important/attractive is a particular supplier/customer in the context of an organization’s overall business objectives?

■

Switching and information costs. How difficult/costly is it for a supplier/customer to find and switch to an alternative source of revenue/supply? Exercise 3.4 Managing in different power circumstances Use the checklist of criteria shown in Figure 3.3 to assess your power position relative to a number of your suppliers and answer the following questions: ■

What might you do to improve your power position relative to a dominant supplier?

■

Would you manage interdependent relationships differently than those in the buyer or supplier dominant situation?

■

What might you do to protect a position of buyer dominance?

Clearly, the incentives necessary for a supplier to make the investments necessary to support SCM initiatives will be strong both where there is a position of buyer dominance and where the interdependence occurs between the buyer and the supplier. In each case the supplier is highly dependent upon the buyer for business, it has few comparable alternative customers, the buyer’s account is highly attractive, and the costs of finding and switching to alternative customers are prohibitive. In combination these factors suggest that the supplier would be willing to make sacrifices and investments in order to maintain a good working relationship with the buyer. This is what can be described as a highly congruent supplier. There is, however, an important difference between these two power circumstances in terms of the way in which the buyer can manage the relationship with the supplier to ensure that the necessary investments are forthcoming.

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Supply Chain Management

■

In the case of buyer dominance, there is room for the buyer to direct and to provide leadership for the supplier’s activities.

■

In the case of interdependence, however, a more negotiated, bilateral style of management is appropriate, because this is a relationship of equals. Key learning point 3.3 ■

The important differences between power circumstances are often overlooked by buyers and suppliers in their eagerness to get on with the task of managing their relationships, often with disastrous consequences.

■

It can be equally damaging for a dominant buyer to give a dependent supplier too much control as it can be for a buyer to attempt to direct a supplier in a situation of interdependence.

■

This emphasizes the vital importance of having a clear idea of which power circumstances are being managed before launching SCM initiatives.

The two other power circumstances illustrated in Figure 3.3, supplier dominance and independence, provide little or no incentive for a supplier to support SCM initiatives. Supplier dominance is a situation in which the buyer is only one of many alternative customers, whose account is not particularly attractive, where the costs of finding and switching to alternative customers are negligible. The buyer, on the other hand, is highly dependent upon the supplier and would find it difficult and costly to switch to an alternative. Consequently, it is highly unlikely that such a supplier would be willing to support any SCM initiative that a buyer might suggest. It is possible that such a supplier might launch SCM initiatives of its own, requiring its customers to fund all the up-front investment while it retains the bulk of the benefits in the form of a higher profit margin. In the case of independence the supplier lacks an incentive to support any SCM initiatives, because it has little or no dependence on and therefore commitment to the buyer’s business. The buyer is one of many easily interchangeable customers and their business is not particularly attractive. The buyer’s level of dependence on the supplier is equally low, however, which suggests that this power circumstance is too unstable for either party to undertake the substantial dedicated investments required by SCM initiatives. Given the ease of switching, neither the buyer nor the supplier can be sure that the relationship will last long enough for the initiative to bear fruit. In this case and in the case of supplier dominance, therefore, the level of supplier congruence is relatively low.

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Is supply chain management feasible operationally?

Key learning point 3.4 It is clear, therefore, that the selection of a supplier to participate in any SCM initiative should ideally be based on both a high level of competence and an appropriate alignment of power and incentives, or what is called congruence. The ‘Ideal Supplier’ Quadrant in Figure 3.4 illustrates this point.

Fig. 3.4

The competence and congruence matrix

High

Competent supplier (Improve congruence)

Ideal supplier (Select)

Low

Worst case (Avoid)

Congruent supplier (Develop competence)

Low (0/<)

High (=/>)

Supplier competence

Supplier congruence

© Robertson Cox Ltd, 1998 All Rights Reserved. Source: Adapted from Cox (1999) p. 31.

Figure 3.4 also illustrates the three other possible combinations of competence and congruence and suggests how the buyer should proceed in each of these situations. ■

Clearly, the second most attractive type of supplier in the matrix would be one exhibiting a high degree of congruence, but a low degree of competence. The reason for this is that such a supplier would have a very strong incentive to improve its level of competence and would be much easier to manage than a supplier with a lower level of congruence.

■

A buyer might consider selecting a supplier that is highly competent, but not highly congruent, with the objective of improving over time the power position relative to this supplier. This represents a high-risk strategy, however, and should be pursued only if a more congruent supplier cannot be found.

■

Finally, those suppliers that are neither competent nor congruent should be avoided at all costs.

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Supply Chain Management

Key learning point 3.5 ■

The extent to which SCM strategies can be implemented in a particular supply chain is determined by how far along that chain the competence and congruence of suppliers are appropriately aligned.

■

In other words, if the buyer is seeking to cascade SCM strategies right back to the raw material stage of a particular supply chain, this will require the companies operating at every intermediate stage to be both highly competent and highly congruent.

Supply chain power regimes The concepts of power, and relational competence and congruence, can be applied not only to dyadic buyer and supplier exchange relationships but also to the extended network of exchange relationships within the total supply chain (Cox, 1999; Cox et al., 2000). When this is done it sometimes becomes apparent that companies attempting to implement SCM initiatives will not always be operating within a commercial environment that is conducive. The best way to explain this point is for us to consider how the analysis of power can be applied to simple supply chain circumstances. Let us assume that a company is seeking to manage a simple supply chain. This supply chain has four participants that are arranged in a sequential physical flow. Let us then apply all four of the power relationships to this chain in an idealized manner. This can be seen in Figure 3.5. What might be expected to happen in each of these four situations commercially and operationally if the focal company was attempting to implement SCM initiatives? Scenario 1: A buyer dominated power regime. In this scenario a situation exists where each relationship is characterized by buyer dominance. In this scenario we might expect that company A will be able to use its influence over its supplier B to ensure collaboration both operationally and commercially in its SCM initiatives. This is because the buyer is likely to be a major source of business to the supplier and, as a result, the supplier will be keen to keep the buyer happy and, thus, be willing to invest management time and other scarce resources in creating a closer relationship. In turn, B will be able to use its influence to ensure that C also becomes involved in these collaborative SCM initiatives and the same in the case of C in its relationship with D. A supply chain characterized by a series of buyer dominant relationships, therefore, is normally highly conducive for buyer-led SCM initiatives, in which the original buyer (A) can determine the commercial and operational outcomes of the extended supply chain relationships. 58

Is supply chain management feasible operationally?

Fig. 3.5

Hypothetical idealized power regimes in supply chains

>

Scenario 1:

Buyer dominant power regime

A

A

Supplier dominant power regime

A

C

B

D 0

C <

B

D =

0

<

Scenario 4:

C

B

A

>

=

0

Scenario 3:

Independence power regime

B =

Scenario 2:

Interdependent power regime

>

D <

C

D

Scenario 2: An interdependent power regime. In this scenario the prospects for effective SCM initiatives are also promising. Here the interdependence of the four companies in the chain will again provide an incentive for collaboration. In a situation of interdependence, both parties are highly dependent upon one another because there is a lack of other options. Under these circumstances, the relationships are likely to last beyond the short term and the companies involved are more than likely to realize that their destinies are tied together. If there is, therefore, a perceived need for the chain to collaborate to improve its prospects of meeting end-customer expectations, there is a commercial and operational incentive structure that is likely to be facilitative. The major difference here is that any commercial and operational outcomes will have to be negotiated and shared between all the parties in the chain rather than appropriated by the dominant buyer at the head of the chain as in scenario 1. Scenario 3: An independence power regime. In this scenario the situation is somewhat different because all the relationships in the chain are characterized by buyer–supplier independence. This means that in each of the relationships neither the buyer nor the supplier is particularly important to the other party. The purchase 59

Supply Chain Management

for the buyer is of low value and it has many other potential sources of supply. The sale for the supplier is also of low value and it has many other customers. Under these circumstances there is little incentive for any of the companies to put in the resources necessary to create successful collaborative relationships – such an investment would not be justified by the importance of the transaction. Each of the relationships will be characterized by ‘market’ behaviour, where each is looking for short-term tactical advantage. This type of supply chain will not, therefore, be conducive for highly collaborative and integrated forms of SCM. Scenario 4: A supplier dominance power regime. In this scenario there is also a relatively low prospect of effective SCM initiatives. In this case it is because in each of the relationships the buyer is a relatively unimportant customer to the supplier. Therefore, while the supplier is important to the buyer, and the buyer may wish the supplier to take part in performance improvement initiatives, the supplier will often not consider the relationship sufficiently important to warrant the deployment of management resources and the making of dedicated investments. This is unless the buyer is willing to pay a significant premium. Yet, paying such a premium normally does not make sense because all the benefits achieved are normally appropriated by the supplier rather than by the buyer. There are in practice few, if any, supply chains in the real world that conform in their entirety to this ideal alignment of power. What tends to happen instead is that supply chains are made up of a combination of zones or sub-regimes, some of which are conducive to SCM initiatives and some that do not support its implementation at all (Watson, 2001). As a consequence, the majority of supply chains contain what might be called management breakpoints or sub-regimes of power. The existence of these suggests that the best that can be achieved is partial SCM. The case example given below illustrates the existence of a management breakpoint in an aerospace supply chain and the impact that this had on the attempted implementation of one SCM initiative (Cox et al., 2002). Case study 3.1

Managing the supply chain for in-flight re-fuelling equipment This case study provides a sketch of the power regime currently operating in an aerospace industry supply network and explains how this regime has impacted on the relationship management choices of particular focal firms. For reasons of commercial confidentiality, none of the firms in this case are identified by name. Figure 3.6 shows the current power regime in the supply network that delivers in-flight re-fuelling equipment to military end customers. The figure reveals that even a limited supply network can have enormously complex power dynamics. For the purposes of this brief

60

Is supply chain management feasible operationally?

discussion, attention is focused on the power structures that exist between the tanker converter (A), the equipment assembler (B) and the supplier of sub-assemblies (C).

Fig. 3.6

The power regime for in-flight re-fuelling equipment

B>D

A=B A

C
B
C

D0E D

E

B0C C0E B0E

Key:

A – Tanker converter B – Equipment assembler C – Sub-assembler

D – Bespoke component manufacturer E – Generic component manufacturer

Source: Adapted from Cox et al. (2002) p. 156.

It is immediately obvious that the interdependent power structure between A and B might be expected to provide these firms with a basis on which they can successfully co-ordinate their relationship. This interdependence is essentially a function of the fact that, for various cost and technological reasons, the markets on either side of this exchange relationship are highly restricted. It might also be expected, however, that any efforts by A and B to co-ordinate the supply network beyond their own relationship are likely to fail. The problem is that B has a combination of dependence and independence in its relationship with C, depending on which particular sub-assembly is being supplied. The equipment assembler is dependent upon its supplier for those sub-assemblies that exhibit a high degree of asset specificity (Williamson, 1985). An independent relationship exists between B and C for those sub-assemblies that are generic and that are bought by a wide range of customers from other industries. Moreover, even if C could be persuaded to participate in SCM initiatives, its dependent and independent relationships with D and E make it unlikely that these firms could be brought into the initiative. The operation of this supply network is intimately linked to the price sensitivity of the military end customer. The commercial problem for the tanker converter and, by extension, the equipment assembler is that their revenues from in-flight re-fuelling equipment are at

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present restricted by the relatively high price of this product as compared with the groundbased alternative. An obvious solution to this problem, and one that has been championed by the Supply Chain Relationships in Aerospace (SCRIA) initiative, is for the members of this supply network to work more closely together to reduce costs and improve lead times. Logically, if such an initiative was successful one might expect all, or at least most, members of the network to benefit from a greater demand for their products. Despite this seemingly flawless logic, however, the SCM efforts of both the tanker converter and the equipment assembler have been focused solely on their own relationship. In recent years there has been a number of joint initiatives aimed at reducing both costs and lead times. These have focused both on the internal operations of the equipment assembler and on the assembler’s relationship with the tanker converter. There is a limit, however, to the impact that these efforts can have on the total cost of the equipment, because approximately 70 per cent of the unit cost lies in the subassemblies and their constituent parts. Repeated efforts have been made by both the assembler and the converter to involve the suppliers of various sub-assemblies in these initiatives, but these appeals have fallen largely on deaf ears. From the perspective of most of these sub-assemblers the expenditure of the equipment assembler is of relatively little importance. Sales of these sub-assemblies to this particular supply network are just a small portion of the business activities of what are generally very large multinational engineering and electronics companies. Moreover, as we have noted, the equipment assembler’s demand for these sub-assemblies is relatively low and very irregular. Consequently, the equipment assembler is considered by the sub-assemblers to be a ‘nuisance’ customer. According to the standard marketing literature a firm should give such customers a low priority, even at the risk of losing their business. The evidence presented here shows that several of the sub-assemblers in this supply network have taken this advice to heart. A senior manager from the equipment assembler reported that the sub-assemblers are very difficult to negotiate with, that they show little interests in becoming involved in supply chain management initiatives and that, in some cases, they insist on having lead times that are four or five times longer than those for which the assembler has been asking.

CONCLUSIONS It is clear that deciding whether it is possible to undertake SCM initiatives successfully depends on many operational factors and it is not just a matter of deciding that someone else has done it so anybody can. The major factors that must be considered are as follows: ■

internally within both the buying and supplying organizations in the chain there must be managerial competence and understanding of SCM tools and

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techniques, the ability to manage demand effectively and a supportive internal power structure; ■

Externally there must be a supportive power structure – normally of buyer dominance and/or interdependence – and the capability on both sides to make either or both of these relationships work effectively.

Having outlined the salient factors that provide for the successful initiation of any SCM initiative it is now necessary to explain how to make them work in practice, so that the anticipated benefits in terms of sustained cost reductions and improvements in functionality can be achieved. This is the subject matter of the final two chapters.

REFERENCES Audit Commission (2001) Report on the NIRS2 Contract Extension. London: HMSO. Cox, A. (1999) ‘Improving procurement and supply competence’, in R. Lamming and A. Cox (eds) Strategic Procurement Management: Concepts and Cases. Helpston: Earlsgate Press. Cox, A. et al. (2000) Power Regimes: Mapping the DNA of Business and Supply Chain Relationships. Helpston: Earlsgate Press. Cox, A. et al. (2001) ‘The power perspective in procurement and supply management’, Journal of Supply Chain Management, (37) 2, pp. 4–47. Cox, A. et al. (2002) Supply Chains, Markets and Power: Mapping Buyer and Supplier Power Regimes. London: Routledge. Hickson, D. J. et al. (1971) ‘A strategic contingencies theory of intra-organizational power’, Administrative Science Quarterly, (16) 216–29. Lonsdale, C. and Cox, A. (1998) Outsourcing: A Business Guide to Risk Management Tools and Techniques. Helpston: Earlsgate Press. Pettigrew, A. M. (1973) The Politics of Organizational Decision-Making. London: Tavistock. Pfeffer, J. and Salancik, G. (1974) ‘Organizational decision-making as a political process’, Administrative Science Quarterly, (19) 135–51. Sanderson, J. et al. (2001) ‘Power regimes: a new perspective on managing in supply chains and networks’, 10th Annual IPSERA Conference, Jonkoping, Sweden. Sheth, J. N. (1973) ‘A model for industrial buyer behaviour’, Journal of Marketing, (37) 50–6. Watson, G. (2001) ‘Sub-regimes of power and integrated supply chain management’, Journal of Supply Chain Management, (37) 2, 36–41.

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Webster, F. E and Wind, Y. (1972) Organizational Buying Behaviour. Englewood Cliffs: Prentice Hall. Williamson, O. E. (1985) The Economic Institutions of Capitalism. New York: Free Press.

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■

Introduction

■

The three competitive market and SCM strategy options 67

■

A framework for developing competitive market and SCM strategies 71

■

Creating a physically efficient (lean) supply chain

■

Creating an innovative and market-responsive (agile) supply chain 89

■

Market differentiation and cost leadership with an innovative and process efficiency supply chain strategy 94

■

Conclusions: the conundrum of knowledge and understanding 97

■

References

67

75

99

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INTRODUCTION Supply chain management refers to a situation where the buyer (or the buyer and its suppliers jointly) proactively seeks to drive performance improvement in value for money throughout the totality of a supply chain. This co-ordination is achieved through the development of longer-term and highly collaborative working relationships between buyers and suppliers within the chain. One of the key problems in successfully implementing SCM initiatives like this is understanding exactly what the focus of activity is that all players in the supply chain must be driving towards. Our research has demonstrated that there is often significant misunderstanding during the implementation stage of SCM initiatives about what the players in the chain should be focusing on, as well as how to do so effectively. It is clear, therefore, that one of the critical success factors in implementing SCM initiatives is clarity about the competitive market and supply chain strategy being pursued, and then the development of the requisite operational tools to implement the strategy effectively. In this chapter we address these issues in detail by first explaining the three major competitive market and supply chain choices available to practitioners involved in implementing SCM initiatives, and then outlining the major tools and techniques available for effective implementation.

THE THREE COMPETITIVE MARKET AND SCM STRATEGY OPTIONS In the implementation phase, assuming that the strategic and operational enablers discussed in Chapters 2 and 3 are already in place, SCM initiatives are normally directed towards three major competitive market and supply chain strategic objectives. These are outlined in Figure 4.1. As the figure demonstrates, the three basic market and supply chain strategies that can be pursued are as follows. Market differentiation, with supply chain innovation. This is sometimes referred to in the literature as the responsive, innovative or agile SCM approach (Fisher, 1997; Christopher, 2000). This refers to a situation where the focal company driving a supply chain initiative wants to find ways of differentiating itself from its competitors by being more responsive, agile or innovative in the ways in which it provides products or services to its customers. By proactively working on R&D internally and throughout its supply chains, the focal company hopes to find innovative ways of increasing the functionality

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that customers receive from its market offerings and, by so doing, it expects to close the market to its competitors and achieve higher than normal returns. Obviously the speed with which competitors can replicate the innovations that are made will determine the frequency and regularity with which these types of innovation will have to recur. Fig. 4.1

The three competitive market and supply chain strategy options

The three competitive market strategy options

The three aligned supply chain management strategies

1

Market differentiation

Supply chain management strategy focuses on product/service innovation, without major concern for cost reduction through the removal of unnecessary waste and inefficiency in processes.

2

Market cost leadership

Supply chain management strategy focuses on the active removal of all unnecessary waste and inefficiency in processes, without major concern for product/service innovation.

3

Market differentiation and cost leadership

Supply chain management strategy focuses equally on product/service innovation and the removal of unnecessary waste and inefficiency in processes.

It is clear under this approach that cost reduction through the removal of unnecessary waste and inefficiency in operational processes is not a key determinant of competitive success. The reason for this is normally because the profit margins that can be made from these types of products/services are relatively high, even though they may (or may not) be short-lived, depending on the speed of competitive imitation in both the market and the supply chain. Market cost leadership, with supply chain process efficiency. This is sometimes referred to in the literature as the functional or lean SCM approach (Womack and Jones, 1996; Fisher, 1997). This approach implies that the competitive market strategy of the focal company driving SCM initiatives is directed towards cost leadership rather than differentiation. This normally suggests that technological innovation for product or service differentiation is difficult to achieve and/or that any innovations that can be made will be quickly replicated. This is because the product or service is already well understood and many alternative companies can provide it to the end customer. In such circumstances the focal company must compete by providing the same products or services but now at a lower cost than its competitors. The focal company must now direct its efforts internally to the removal of all unnecessary waste and inefficiency in its own internal processes.

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Implementing supply chain management initiatives

Obviously, an enlightened company will recognize that focusing on internal process efficiencies can only take it so far. A company may recognize that it can only hope to achieve cost leadership if it focuses not only on its own internal process improvement opportunities but also those available to it by working closely with its immediate suppliers and their suppliers in the total supply chain. In this way the focal company may wish to compete on cost leadership by engineering a much more efficient and low waste producing SCM process than its competitors are able to do. One way of doing this is by outsourcing all non-core activities to lower cost suppliers and managing their own and their supplier’s supply processes proactively. It is clear, therefore, that supply chain process efficiency will become a major imperative for those companies that have already outsourced a high proportion of their manufacturing and production processes to their suppliers and their supply chains. In such circumstances the focal company’s own internal process efficiency activities are likely to have only a minimal impact on cost reduction and efforts must be directed towards the suppliers in the supply chain. The major problem with this approach is that even when successful it normally does not generate above normal returns. This is because the cost savings generated from both internal and external process improvement are generally passed on to the customer in the form of lower prices, rather than retained as higher levels of profitability. The major benefit for the successful company, however, is that they obtain a larger market share, until others catch up and replicate the same internal and external supply chain process efficiencies. Market differentiation and cost leadership, with supply chain innovation and process efficiency. In this final approach the focal company is directing the most ambitious approach to competitive market and SCM strategy. This approach focuses on both differentiation and cost leadership relative to competitors and, at the same time, seeks to drive product/service innovation through the supply chain, as well as internal and external process efficiency. There is little doubt that this approach, which requires the fusion of two very different ways of thinking about market and supply chain management strategy, is rarely adopted in practice. The reason for this is because those companies having the opportunity to differentiate their market offerings normally do not need to pursue process efficiency strategies to generate above normal returns. Thus, even though they could generate even more profit if they also developed internal and external process efficiency strategies, most successful differentiating companies do not see the need to do so. It is interesting to note – although much of the lean literature has focused primarily on process efficiency improvements internally and externally within supply chains – that the original focus of Toyota (from which the lean ideas on

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SCM have been developed) has always been focused on the development of both differentiation and process improvement. The major problem for Toyota (and any other car manufacturer for that matter) is that product differentiation is difficult to sustain against competitive imitation in this industry, forcing the potential innovator to fall back on to lean and efficient process efficiency in its supply chains as the only mechanism by which to compete effectively. It is interesting to remark on this because the basic approach of Toyota as a company strategically has been to continuously pursue innovation and cost reduction at the same time. This approach – which we refer to as the customerfocused market and SCM approach – is not in our view the same as the lean approach. This is because lean implies that the basic strategy of the focal company will always be on process efficiency, internally and externally. There is some debate about this because proponents of lean argue, quite correctly, that process efficiency may also require difficult to replicate innovations in supply chain processes, if not in the ultimate products or services being delivered. Nevertheless, companies that seek to operate so that they pass all the value from product/service innovations and from process efficiencies to the customer must learn to develop a bifurcated approach to SCM. This is because they have to fuse process efficiency and innovation strategies together, and this can be quite confusing for suppliers as well as mangers to manage. Whatever one thinks about these issues, it is transparently obvious that the major problem facing any company that wishes to adopt SCM initiatives must be to understand exactly which type of strategic and operational focus – process efficiency and/or innovation, or a combination of both – it should be driving through its supply chain relationships, as well as how to do so effectively. This latter point is also of major significance because the ways in which suppliers will need to be managed will also be a function of the power structures (regimes and sub-regimes of power) that exist within particular supply chains. As a result, there may well be circumstances when firms will need to operate a different strategy in different parts of the same supply chain. Key learning point 4.1 Managers must understand that there are three very different ways of developing market and supply chain strategy. These can be defined as: ■

market differentiation/ supply chain innovation;

■

cost leadership/ supply chain process efficiency;

■

market differentiation and cost leadership/supply chain innovation and process efficiency. Continued

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Implementing supply chain management initiatives

Managers must not only understand which of these three market and supply chain strategies is the most appropriate to pursue, but also the specific tools and techniques needed to implement any of these strategies effectively. In this chapter, the different ways of managing differentiation/innovation and cost leadership/process efficiency market and supply chain strategies will be discussed in detail, with advice given on how to match strategy with circumstance. First, we provide a framework that practitioners may find useful in determining whether they should be pursuing differentiation/innovation or cost leadership/ process efficiency SCM strategies. After that we describe some of the key tools and techniques used in SCM initiatives to create innovation and process efficiency.

A FRAMEWORK FOR DEVELOPING COMPETITIVE MARKET AND SCM STRATEGIES One of the most common mistakes managers make is to believe that their problems are so unique that they require a unique solution. While any management solution must be tailored to the firm(s) concerned, it is also the case that across firms and industries there are many common sources of problems to which generic frameworks can be applied. This is undoubtedly the case in the development of SCM strategies. In order to understand whether an innovation or process efficiency approach is to be adopted, it is first necessary to understand the structure of demand that drives customer requirements (Fisher, 1997). There are three factors that practitioners will need to consider once they have already ascertained that SCM initiatives are strategically and operationally practical: ■

identify the demand profile for your own product/ service;

■

understand the three generic types of SCM approach that can be created;

■

link your product/ service to the right supply chain type.

Each of these is discussed below.

Identifying product/service demand profiles In order to clarify the complexity of the products/services that firms have to manage, Fisher has provided a simple classification of the demand patterns. Products/services can either be predominantly functional or predominantly innovative. Functional items are those with a stable demand pattern and a long life cycle, whilst innovative items have a volatile demand pattern and a short life cycle, as outlined in Figure 4.2.

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Fig. 4.2

Functional and innovative demand profiles

Aspects of demand

Functional (Predictable demand)

Innovative (Unpredictable demand)

Product life cycle

more than 2 years

3 months to 1 year

Contribution to margin

5% to 20%

20% to 60%

Product variety

Low (10 to 20 variants per category)

High (often millions of variants per category)

Average margin of error in the forecast at the time production is committed

10%

40% to 100%

Average stockout rate

1% to 2%

10% to 40%

Average forced end-of-season markdown as percentage of full price

0%

10% to 25%

Lead time required for made-to-order products

6 months to 1 year

1 day to 2 weeks

Source: Reprinted by permission of Harvard Business Review. Fisher, T. (1997) ‘What is the right supply chain for your product’, Harvard Business Review, March–April, p. 107. © 1997 by the Harvard Business School Publishing Corporation. All rights reserved.

An example of a classic functional product is Campbell’s soups. Each year, only 5 per cent of Campbell’s product line is new. The sales of existing products are highly predictable, with their life cycles in many cases running into decades. An example of a classic innovative product is Sport Obermeyer fashion skiwear. In contrast to Campbell’s soups, 95 per cent of Sport Obermeyer’s product range is new each year. Furthermore, demand forecasts for these products are often wrong by as much as 200 per cent. The product life cycle for such fashion products is only a matter of months (Fisher, 1997).

Understanding the nature of supply chains Having identified the nature of demand for a product/service, the next task is to consider the nature of supply chains. Supply chains fulfil two distinct functions: ■

providing a physical function (that is it transforms raw materials into finished goods or services);

■

providing a market mediation function. The nature of this function is to ensure that the variety of products reaching the end market matches what the consumers in that market want to buy.

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Implementing supply chain management initiatives

Fig. 4.3

Physically efficient and market-responsive supply chains Physically efficient process

Market-responsive process

Primary purpose

Supply predictable demand efficiently at the lowest possible cost

Respond quickly to unpredictable demand in order to minimize stockouts, forced markdowns and obsolete inventory

Manufacturing focus

Maintain high average utilization rate

Deploy excess buffer capacity

Inventory strategy

Generate high turns and minimize inventory throughout the chain

Deploy significant buffer stocks of parts or finished goods

Lead-time focus

Shorten lead time as long as it does not increase cost

Invest aggressively to reduce lead time

Approach to choosing suppliers

Select primarily for cost and quality

Select primarily for speed, flexibility and quality

Product-design strategy

Maximize performance and minimize cost

Use modular design in order to postpone product differentiation for as long as possible

Source: Reprinted by permission of Harvard Business Review. Fisher, T. (1997) ‘What is the right supply chain for your product’, Harvard Business Review, March–April, p. 108. © 1997 by the Harvard Business School Publishing Corporation. All rights reserved.

Each of these two functions incur costs: ■

the costs associated with the physical function are the costs of production, the costs of distribution and the costs of storage;

■

the costs associated with the market mediation function are what can be called marketability costs. These are the costs of not being able to meet demand – stock out costs – and the costs of holding obsolete stock (Harrison and van Hoek, 2002).

Depending on the nature of the product concerned, the dominant focus of management attention should be on one type of cost rather than the other. Where demand is stable, the risk of incurring heavy marketability costs is low. Therefore, managers can focus on making the supply chain as efficient as possible by reducing the supply chain’s physical costs. However, where demand is unstable the risks of incurring heavy marketability costs are high. Therefore, managers should

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focus on trying to avoid such marketability costs, even if it means incurring additional physical costs (Fisher, 1997). From this, two broad types of supply chain can be defined: ■

those that are predominantly concerned with being physically efficient;

■

those that are predominantly concerned with being market responsive.

A fuller description of the features of these two types of supply chain can be seen in Figure 4.3. When the objective is physical efficiency, managers can work with customers and suppliers on lean SCM strategies to remove waste from the supply chain – like excessive inventory or process duplication. When the objective is market responsiveness, managers can work with customers and suppliers on agile or responsive SCM strategies – like reducing the time it takes for the supply chain to get a new product or service into the marketplace by using time compression tools and techniques.

Matching products/service to types of supply chain strategies The final part of this approach is to match products/services with supply chain types. It can be argued that functional products should be produced through a physically efficient and lean supply chain because the nature of the product/services will normally mean a highly competitive end-market. Innovative products, on the other hand, should be produced through an innovative or market-responsive supply chain. In this type of market it will normally be possible to pass on to the end-customer the costs associated with ensuring market-responsiveness as the product will, initially, have no direct competition (Fisher, 1997). The framework in Figure 4.4 allows managers to answer one of the key questions that they must address for successful implementation of SCM initiatives, namely: ‘Does the product or service concerned require a supply chain management strategy that is based on efficiency (lean) or responsiveness (innovation)?’ Having answered this question, the next step is to understand more fully what is required to develop these two types of supply chain effectively. To achieve this, first the tools and techniques that have been developed to create physically efficient supply chains will be outlined. These tools are aimed at reducing waste in supply chains and are, perhaps, better known as lean supply tools and techniques. Second, the tools and techniques that have been developed to create market-responsive supply chains will be described. These tools are known as agile supply tools and techniques.

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Implementing supply chain management initiatives

Fig. 4.4

Matching supply chains with products/services

Functional products

Innovative products

Physically efficient supply chain

Match

Mismatch

Market-responsive supply chain

Mismatch

Match

Source: Reprinted by permission of Harvard Business Review. Fisher, T. (1997) ‘What is the right supply chain for your product’, Harvard Business Review, March–April, p. 109. © 1997 by the Harvard Business School Publishing Corporation. All rights reserved.

CREATING A PHYSICALLY EFFICIENT (LEAN) SUPPLY CHAIN Physical efficiency is about reducing waste in processes, such as unnecessary production, distribution and storage costs. The exemplar company that pioneered this way of thinking about process efficiency was the Toyota Motor Corporation. In the 1970s and 1980s Toyota emerged as a serious competitor to the Western automotive assemblers. A key reason for this was Toyota’s rejection of mass production thinking and the adoption of just-in-time thinking. The just-in-time production and supply chain system that Toyota employed is very effective in reducing waste and as a result has been branded by observers as lean (Womack and Jones, 1996). The principles and techniques behind lean production and SCM are an essential toolkit for those pursuing waste reduction initiatives within supply chains aimed at supporting physical/process efficiency and cost leadership market strategies.

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Why is supply chain waste reduction so important? Over the past two decades, the level of competition in many business sectors has increased significantly due to advancing technology and domestic and global deregulation. For those working in the public sector, financial pressures have also increased as governments around the world have sought to reduce government expenditure. One response to such circumstances is an attempt to reduce internal sources of waste in order to increase the efficiency of existing management processes. When seeking to reduce waste in processes most organizations focus their attention on their internal operations. However, although this internal focus is necessary, it has been recognized that it may not be sufficient for success. Rather, it has become clear that waste reduction initiatives must also focus on the supply chain as whole. This should not be surprising because IBM, for example, has 70 per cent of the cost of the goods it sells outsourced to its suppliers. This means that IBM spends around $40 billion with external suppliers (Fletcher, 2000). This is not untypical in manufacturing firms, especially after a decade in which many firms have pursued an aggressive outsourcing policy. As a result, many practitioners have turned to waste reduction tools and techniques in order to improve both internal and external process efficiency. The starting point in understanding how to improve supply chain process efficiency is to understand the different types of waste that need to be removed.

The seven supply chain wastes The Japanese word for waste is muda. Toyota identified seven different types of muda in its production processes (Ohno, 1988; Hines et al., 2000): ■

Overproduction. This is regarded as the most serious waste as it interrupts the smooth flow of goods and services through the chain and can delay the detection of defects.

■

Waiting. This refers to the time when the product or service is standing idle within the chain, rather than being worked upon or transported.

■

Transportation. This is when the distances the product travels is greater than the minimum necessary. Excessive movement will cause delays and increase the likelihood of the goods becoming damaged.

■

Inappropriate processing. This is the application of complex solutions to simple problems. An example of this would be the adoption of a level of technology that is not necessary to complete the particular production task.

■

Unnecessary inventory. When communication is poor within the supply chain, a natural tendency is to hold inventory. However, high levels of inventory cause

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Implementing supply chain management initiatives

high storage costs and inhibits the rapid identification of problems within the chain. Holding high levels of inventory only serves to put off the day when the chain’s problems are properly addressed. ■

Unnecessary motion. This waste is essentially related to the ergonomics of the production process. Unnecessary motions can affect both the productivity and the health of the worker and lead to quality problems.

■

Defects. This waste leads to additional costs through the need to undertake remedial action or discard the defective products.

Reducing supply chain waste – the principles of lean thinking Having identified the different types of waste that can exist within production processes and supply chains, it is now necessary to design a strategy to eliminate it. This strategy can be based upon the principles of lean thinking, as follows (Womack and Jones, 1996): ■

specify value from the customer perspective, not the perspective of any of the supply chain participants;

■

identify the value stream that delivers the value proposition to the customer;

■

identify those activities within the value stream that add-value, are non-valueadding but necessary or are non-value-adding;

■

make those actions that create value flow without interruptions or impediments;

■

only make what is pulled by the customer. The value stream should be operating a just-in-time pull system, rather than a producer-focused push system;

■

create transparency of strategies and costs within the supply chain. The issue of competitive advantage must be understood at a supply chain level rather than at the individual firm level;

■

constantly pursue perfection – the process of reducing waste never ends.

In the rest of this section each of these principles is explained in more detail to show how waste reduction can be achieved in practice. The place to start is with the customer.

Specify value from the customer perspective Organizations are divided into a number of sub-units; for example, marketing, human resources, purchasing and manufacturing. Managers in each of these subunits have performance targets that they are expected to meet. However, these targets are often unrelated to the real needs of the business.

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In the case of the manufacturing function, targets are often focused on machine and employee utilization. As a result, many firms manufacture goods that, at that time, are not demanded by any customer. Although the manufacturing manager will not be simply making products at random, the result may still be a stock of finished goods or components that may never be sold. This approach is anathema to lean thinking. In a lean manufacturing environment business decisions are customer driven, not undertaken for the convenience of manufacturing or any other business unit within the business or supply chain. The whole of the supply chain responds to the requirements of the customer and tries to satisfy that end customer demand in the most efficient manner possible.

Identifying and improving the value stream Having identified the customer’s value proposition, the supply chain participants can then focus on how to deliver that value proposition most efficiently. The starting point for this is to understand what is happening at the moment – the current state. A useful way of doing this is to map all the processes necessary to deliver the product or service to the customer. It is recommended that this be done in two stages. First, managers need to map the supply chain (or value stream) descriptively. This overview is meant to highlight, at a high level, the main areas that require attention. This type of mapping is often called big picture mapping (Rother and Shook, 1998). The second stage is much more detailed. Here individual processes identified within the value stream are broken down to a level that records each individual activity. These activities are mapped as a process flow. This more detailed form of mapping is often called process activity mapping (Hines and Rich, 1997). In Figure 4.5 an example is given of big picture mapping that contains: ■

a mapping of the physical flows;

■

a mapping of the information flows;

■

the linkage between the two;

■

a timeline showing the length of the process.

The purpose of big picture mapping is: ■

to help managers visualize the overall flow of the chain – from raw materials to finished goods;

■

to help managers identify the main areas of waste that require attention;

■

to allow managers to agree a way forward, both in terms of what to do and who should be involved.

78

Supplier

Source: Hines and Taylor (2000) p. 24.

Value adding = 9.75 hours

Production lead time = 26–110 hours

Q

1.5 hours

Trolley=160

0.75 hours

1 shift

Up-time 80%

45min/batch

I

3 hours

0.5 hours

1 piece flow output

24 trays of 10 4 hours

3 shifts

Up-time 95%

Variable batch

Target rate=160/hour

3 shifts

Up-time 85%

Variable batch

Target rate= 120/hour

Trolley=240

1–5 hours

8–32 hours

Bin size=4000

I

3 hours

Right 1st time=low

3 shifts

Up-time 95%

Variable batch

Target rate=122/hour

Trolley=240

5–14 hours

Assembly

Q

3 shifts

3% rejects

10% retest

I

Multiples of pack quantity

Returnable packaging

Own transport

4.30 daily

3–21 hours

Pack and despatch

100%

Q

x 5 daily shipments

Variable

Rate=180/hour

3 min cycle

1–6 hours

Test

100%

Q

2 days stock

Variable quantity

Customer

Variable

I

Rework loops

Weekly order (daily call-off)

Long-term forecast

Managed

Honing and wash

100%

Pollard

Variable

I

Q

Customer schedule

20 hours

Daily priorities shop floor supervision

Manufacture planning

Variable

Rate=160/90min

1–6 hours

Wash and lubrite

100%

Plan to eliminate?

Supplier confidence low

Random arrival

Variable

I

Shortages

Shortages

Material planning

26 hours

160/hour

1–10 hours

4–12 hours

2–4 hours

3 Days

Variable

Q Vacqua blast

I

I

Rejects

Material inspect

?

Q

Material receipt

x2 weekly

Daily expedites

Weekly schedule

Long-term forecast

An example of big picture mapping

Box size = 800

Fig. 4.5

I

Supply Chain Management

Having identified the main problem areas in the big picture mapping exercise, managers have to resolve them. Some of the problems in the value stream will be of a macro nature. There may be obvious flaws in the operations layout, for example. Other problems, however, will require more detailed attention. This is where process activity mapping comes into play. When using this tool, managers select a process in the value stream that appears to be weak and map the individual activities in the process in detail. An example of the level of detail required is shown in Figure 4.6. The focus here has changed to individual parts of the value stream and the minutiae of activities involved therein. There are five stages to process activity mapping from the initial identification of activities to their reconfiguration (Hines and Rich, 1997): ■

the study of the flow of activities – there are four types of activity: operation, transport, inspection and storage;

■

the identification of waste – the activities are divided into value-adding (in terms of the customer value proposition), non-value-adding and non-value adding but necessary for operational sustainability;

■

a consideration of whether the process can be rearranged into a more efficient sequence;

■

a consideration of a better flow pattern involving different flow layout or transportation routing;

■

a consideration of whether everything that is being done at each process is really necessary and what would happen if superfluous tasks were removed.

Taken together, these two mapping tools allow managers to understand where there is waste and inefficiency in their value stream or supply chain. However, there are other tools that can be used that also focus in more detail on the identification of the seven supply chain wastes (Hines et al., 2000). These are: The supply chain response matrix. This tool provides a diagrammatic representation of the cumulative lead-time required for a particular process, as well as how much cumulative inventory is held in the process. The production variety funnel. This tool provides mangers with a descriptive flow map of the production supply chain from raw materials to end product presented in a way that allows them to understand the similarities and dissimilarities between different types of production process and supply chain. Some have limited raw materials with many products (V plants); some have the same raw materials and same products (I plants); some have a wide range of products manufactured from a restricted range of sub-components (T plants); and, others have many raw materials with limited products (A plants).

80

Step

Source: Adapted from Hines et al. (2000) p. 38.

Operations Percentage operations

Outside/office Office Office/outside Outside Outside/bay Bay Splitting Splitting Splitting Outside/office Office Splitting Splitting Quantification Quantification Quantification Inspection/lift Lift to WIP Lift top Lift top Floor Floor To office To packing Packing Packing Packing Packing Packing to conveyor To crane Crane Crane/store Store

Area

489.5

75

12 150

2 0.5

25 10

2 10

3 5

20

20

25

30

Distance (m) 50 10 50

Time (min) 0.5 1 0.5 1 1 15 1 20 10 0.5 3 120 50 1 240 10 2 0.3 5 2 1 2880 15 2 15 0.1 0.1 30 0.5 5 5 1 155.4 33.6 158.8 84.1 51.1 322 mpm 4 13.8%

29

1

1

1 (1)

1 1

1 1

1 1

2 1

1 1(+1) 1 1 1 1 1(+1) 2(+1) 1 1 1(+1)

People

Key: O – Operation; T – Transportation; I – Inspection; S – Store; D – Delay

T I T O T D T D D T I D O T D I T T D T T D T T D O T D T T D T D

Flow

An example of process activity mapping

Driver takes paperwork to office Check booked in/issue ticket Driver to vehicle Open back of truck Back onto bay Wait for pump truck Unload lorry Wait for total unloading Wait for paperwork Driver to office for paperwork Get paperwork Delay to start splitting Splitting Move pallet to quantification Delay to quantify Quantify Move to lift and load Move to WIP Delay Remove from lift Place in storage area Storage Collect production order Pull stock to production area Delay Load machine and cycle Place in tote Wait for batch Load conveyor Travel to crane Wait for crane Put into main store Store

TOTAL

1. 2. 3. 4. 5. 6. 7. 8. 9. 10. 11. 12. 13. 14. 15. 16. 17. 18. 19. 20. 21. 22. 23. 24. 25. 26. 27. 28. 29. 30. 31. 32. 33.

Fig. 4.6

O O O O O O O O O O O O O O O O O O O O O O O O O O O O O O O O O

T T T T T T T T T T T T T T T T T T T T T T T T T T T T T T T T T

I I I I I I I I I I I I I I I I I I I I I I I I I I I I I I I I I

S S S S S S S S S S S S S S S S S S S S S S S S S S S S S S S S S D D D D D D D D D D D D D D D D D D D D D D

D D D D D D D D D D

O T I S D

Hand pump Set up

Pump truck

10 pallets Driver (total 30)

(Driver)

Comments

Supply Chain Management

Quality filter mapping. This tool enables managers to identify whether they have any of three different types of quality problem in their supply chains and production processes. These are: product defects; service defects; and internal scrap. Demand amplification mapping. This tool allows the manager to understand the mismatch between actual demand (often sales) against the orders placed within the supply chain between buyers and suppliers and the actual production of goods and services that is either held as inventory or unconsummated demand. This tool allows mangers to identify what is called the ‘Forrester Effect’ so that the gap between actual and planned activities can be understood to see if anything can be done to eradicate excess or inadequate orders or excess or inadequate stocks. Decision point analysis. This tool allows mangers to understand the point within the production process or supply chain that actual demand-pull gives way to forecast driven push. In other words it explains where products are being made, not against actual sales but on the basis of forecasts about potential sales. Knowing this is important, because it allows managers to develop future scenario plans about moving the decision point to see if a more efficient and effective supply chain can be constructed with less waste. Physical structure mapping. This tool is used to analyze and describe the structure of the industry in which a firm is operating. It normally involves description of two structural elements: cost and volume. The aim is to determine whether there may be ways of restructuring the industry in such a way that unnecessary waste and inefficiencies can be eradicated. Key learning point 4.2 ■

It is worth stressing that all the tools outlined here may be of useful heuristic value for managers in understanding what is happening in an industry, in a supply chain and/or in a company.

■

But while it is one thing to understand what causes waste and inefficiency, it is altogether another thing to be in a position to restructure buyer and supplier relationships within an industry and supply chain so that unnecessary waste and inefficiency can be eradicated.

■

That is why attention to the structures of internal and external power in business relationships is always of equal, if not more, importance in first defining and, then, effectively implementing market and SCM strategies.

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Only make what is pulled by the customer A further principle of lean thinking is just-in-time (JIT), which is a key element of the whole lean philosophy. JIT refers to a method of production where a process only operates when a customer signals a need for more parts from that process. When a JIT production process is working effectively, goods or services are produced and delivered just-in-time to be sold. This philosophy needs to operate all the way along the supply chain, so that finished goods are produced just in time to be sold to end-customers, but sub-assemblies are also made and delivered just-in-time to be assembled. Likewise, components are produced and delivered just-in-time to be fitted into the sub-assemblies and so on (Harrison and van Hoek, 2002). This philosophy is in contrast to the traditional push system of manufacturing. Here products are pushed through the process to the next stage regardless of whether the next process requires those products. Push production systems have been popular for two reasons. First, they allow managers in parts of the value stream to maximize the utilization of their capacity. If a machine is idle it can be utilized, even if what is being produced is not currently required and might never be. Under this system managers are able to meet production targets, but the firm potentially suffers from very high levels of inventory. Second, many managers believe that the holding of high levels of inventory is a good thing as it insures the firm against delays and quality problems. The problem with this view is that it assumes that what is held in safety stocks will be what the customers eventually require. In any case, holding high levels of inventory as safety stock only delays the time when the firm must address the root cause of its production problems.

Just-in-time manufacturing in practice The ideal for a JIT system is for materials to be flowing at a controlled and coordinated rate through the supply chain in line with end-customer demand (Harrison and van Hoek, 2002). To understand how a JIT system can be made to work we need to follow a hierarchy of cause and effect. This starts with inventory. If a JIT system is working effectively, it requires the firm to hold a minimum of inventory. This is potentially beneficial to the firm because it frees capital, reduces storage costs, reduces the chance of materials becoming damaged, allows the firm to recognize process problems more quickly and minimizes the risk of stock becoming obsolete.

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Supply Chain Management

However, in order for a firm to feel confident about holding a minimum of inventory, a production system must be created where there is a minimum of delays. This leads to the issue of the causes of delays. There are two main causes: defects and unplanned downtime. Defects can cause delays because they lead to a need for the reworking of defective products. They can also lead to increased production to make up for the fact that many products have had to be scrapped. Unplanned downtime occurs when machinery breaks down. This can be avoided if a culture is established within the firm and supply chain that sees the checking and maintaining of machinery as a continuous task. A further cause of inventory is high changeover times. This problem can be illustrated with an example. A production unit produces a range of products. Each product requires different moulds to be used in a part of the production process. As a result, there is a need for tooling to be changed at that part of the process. If the time it takes to effect a changeover is high, then there will be a temptation to have long production runs. Where a mould takes, say, five hours to change, the production run may last for five days at a time. This will lead to a high level of inventory across all the different products. The aim in a JIT system, therefore, is to reduce changeover times to a minimum. If this is achieved, then batch sizes can be reduced, hopefully to a point where they can be aligned to actual customer demand. The practices discussed above are underpinned by three further elements (Harrison and van Hoek, 2002): 1

An effective JIT system will include an optimal operations layout to limit transportation levels and increase the visibility of the production process.

2

The machinery in a JIT system will be designed to facilitate efficient repair and maintenance.

3

A JIT system will also benefit from a way of thinking about product design that considers the implications of design for production efficiency. Lean product design will consider the number of parts and the type of materials used, the potential for creating features that aid assembly and modular designs to facilitate upgrade during the product life cycle.

The ultimate aim of a JIT system is single piece flow. This refers to a situation when the production process is so efficient and flexible that it is able to pull through from production a customer’s demand for a single item. This is an ideal but the identification of an ideal provides direction to managerial efforts to create a more lean production system.

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Pursue perfection The struggle to reduce waste never ends. As new technology emerges, new efficiencies and new ways of organizing processes become possible. A lean system is based therefore on the principle of never-ending continuous improvement.

Creating a physically efficient supply chain through collaboration For a physically efficient supply chain to be created it requires that the participants in that chain work together. In particular, there is a requirement that supply chain participants should share the same objectives. In this section the nature of collaborative relationships is explored from a lean perspective directed towards the creation of a physically efficient supply chain. First, we look at how a buyer and a supplier can collaborate to create a system of vendor-managed inventory. Second, we look at how a number of supply chain participants can come together to form a supplier association. There are many interpretations of what constitutes a collaborative relationship. Perhaps the most helpful contribution has come from Cannon and Perrault (1999). They argue that buyer–supplier relationships consist of four elements: ■

product/process information exchange;

■

operational linkages;

■

co-operative norms;

■

relationship-specific adaptations.

For Cannon and Perrault, the nature of a buyer–supplier relationship depends on the degree to which the two parties are active with regard to each of these four elements. Relationships where there is little activity with regard to those four elements can be considered arm’s length. On the other hand, relationships where there is considerable activity with regard to those four elements can be considered collaborative. The four elements are described in more detail below. Product/process information exchange. The first element refers to the sharing of proprietary information, the sharing of cost information, the sharing of forecasting information and mutual involvement in product development meetings. Operational linkages. The second element refers to a situation where the systems, procedures and routines of the buyer and supplier are, to a lesser or greater extent, linked to facilitate the flow of goods, services or information. These linkages can operate across many participants within the chain.

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Co-operative norms. The third element refers to the terms of engagement that are developed by a buyer and a supplier. It is important in a collaborative relationship for the two parties to work out an agreed set of expectations about how each of the two parties should behave in the relationship. The two (or more) parties can also establish rules and systems for dealing with any problems that might arise during the relationship. Relationship-specific adaptations. The final element refers to the investments that might be made during a buyer–supplier relationship. Specifically, it refers to investments in adaptations to process, products or procedures that are nontransferable to relationships with other suppliers. These can be made by one or both parties and will affect the ability of the parties to exit the relationship. If the supply chain is to be capable of creating physical efficiencies, it is critical that the relationships within the chain contain significant levels of product/process information exchange, operational linkages, co-operative norms and relationshipspecific adaptations. An example of an activity that contains these elements is the practice of vendor-managed inventory.

Buyer-supplier collaboration in practice: vendor-management inventory Vendor-Managed Inventory (VMI) is an approach whereby the supplier is responsible for the management and replenishment of inventory. This process works by the supplier gaining access to the sales and inventory information of its customer. This enables it to replenish the customer’s stocks on an ongoing basis. For the customer to be willing to give the supplier access to such information trust has to be established between the two parties. This is a key concept in all collaborative relationship theories (Lamming, 1993; Hines, 1994; Christopher, 1998, although it is disputed by others Williamson, 1985; Cox, 1997). The aim of VMI is to avoid the traditional trade-off between product availability and inventory. Traditionally, if the supplier were to provide its customer with a high level of product availability, it would have to hold a significant level of inventory, so as to provide a buffer against sudden orders. However, by having access to the customer’s demand and inventory information it can square the circle. As Harrison and van Hoek (2002, p. 158) comment: Having the supplier take the decision on replenishment aims to minimize the impact of demand amplification. This critical problem erodes customer service, loses sales and increases costs. The ability to dampen demand amplification caused by infrequent, large orders from customers is key to the success of VMI. The surplus capacity and excess finished goods held by suppliers to counteract such variation can then be reduced.

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Implementing supply chain management initiatives

Particular attention should be paid here to the concept of demand amplification. Poor demand information within the supply chain leads to suppliers holding excess stock to cover possible future customer requests. If there are ten tiers in a supply chain and it is the case that all the suppliers in these tiers are all insuring themselves against sudden, unexpected orders from customers, it is easy to see how inefficiencies can be amplified through the supply chain. VMI can allow suppliers to see demand coming in advance, thus obviating the need for such safety tactics. Using VMI the supply chain can, by replicating such practices throughout the chain, gradually develop a pull capability, whereby the supply chain meets the demand of the customer out of production rather than stocks. An important point to note, therefore, is that even for products with a stable demand pattern, poor supply chain management and poor supply chain information can create uncertainty and, as a consequence, lead to supply chain inefficiency.

Supplier associations: developing a collaborative supply network VMI is an example of how buyer–supplier collaboration can be used to create physical efficiencies in the supply chain. As was mentioned previously, the idea with supply chain integration is that such a collaborative initiative is not an isolated incident but part of a series of collaborative relationships all the way through the chain. The impact of the lean techniques will be much reduced if it creates only ‘islands of excellence’. One mechanism that allows participants to deal with supply chain challenges as a collective is the supplier association. Again originating in Japan, under the name kyoryoku kai, a supplier association is a formal or informal group that meets to plan and implement supply chain improvement projects. The association will usually consist of the key suppliers in the chain, for example, the first tier and key players in the second tier. The role of the supplier association is sixfold (Hines et al., 2000): ■

to develop and devolve strategy throughout the supply chain;

■

to create a common mission on the part of supply chain participants;

■

to strengthen the relationships and develop trust between the supply chain participants;

■

to share knowledge and technical expertise;

■

to facilitate joint learning and provide learning to smaller firms that are not able to afford the training programmes that are taken for granted by the larger firms in the chain;

■

to work on specific projects that will improve supply chain performance.

When working upon specific projects, the supplier association will use lean tools and techniques. Therefore, a supplier association could undertake big picture mapping,

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Supply Chain Management

or focus on a specific process using the process activity-mapping tool. Other meetings will commonly concern quality problems or other pressing concerns of the time.

Summary: creating the physically efficient supply chain When the demand for a product is relatively stable, firms within the supply chain are at a relatively low risk of incurring high marketability costs – those costs associated with missing fleeting sales opportunities and being left with obsolete or cut-price stock. As a result, firms in such supply chains can focus on reducing the physical costs being incurred within the chain – i.e. production, distribution and storage. To achieve these cost reducing and physical process improvements the principles of lean thinking would normally be utilized. These principles start with customer need and, through the development of a pull production system, point the way to the gradual reduction of the seven supply chain wastes. Being successful in reducing waste is obviously critical in those markets and supply chains where excess costs cannot be passed onto the end-customer because of the intensity of competition. In such circumstances cost leadership strategies may dictate the need, not only for internal cost reduction and process efficiency initiatives but also for their extension throughout the supply chains that support the focal company’s activities. It goes without saying that, as we discussed in some detail in Chapters 2 and 3, these initiatives cannot be undertaken unless there is an internal and external power structure conducive to successful implementation. Even though it may be necessary in practice to pursue cost leadership through process efficiency in the supply chain, when there is a non-supportive internal and external power environment then it may be wisest for practitioners not to bother at all. If the internal and external power structures are conducive, then cost leadership and process efficiency initiatives may provide some temporary advantage to a first mover and we would recommend that practitioners pursue such opportunities aggressively whenever they exist. For many practitioners it may also be necessary, when the internal and external power structures are conducive, to pursue such a strategy even when they are playing ‘catch-up’ with the current innovator in process efficiency and cost reduction. This is because if they do not, they may find that they are not able to compete at all. Many car companies have found themselves playing ‘catch-up’ to Toyota in this regard in the past. However, not all supply chains are characterized by the type of stable demand that is normally found when functional products are being produced in normally highly contested markets with many potential customers and suppliers. Demand in some supply chains is volatile and there are sometimes opportunities for suppliers to innovate in ways that provide for significant short-term competitive advantages.

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Implementing supply chain management initiatives

In these circumstances, as we noted earlier, there is a need for a different type of approach to supply chain management. This alternative approach focuses on innovation and market responsiveness.

CREATING AN INNOVATIVE AND MARKET-RESPONSIVE (AGILE) SUPPLY CHAIN In this section the basic principles of innovative and market-responsive SCM strategies are described.

Why is innovation and market responsiveness so important? The impact of lean thinking on SCM thinking cannot be underestimated. Nevertheless, the demand patterns for products and services can vary quite widely, and companies must not always focus their strategic and operational efforts only on cost efficiency. Companies must also look at ways of innovating so that the functionality of what they sell allows them to differentiate themselves from their competitors. This strategic and operational need will also impact upon the way practitioners think about SCM initiatives. This is doubly important to understand because if a supply chain strategy that is suited to functional items is applied to innovative items, then the chances are that the strategy will do more harm than good. Why is this so? Surely it can never be damaging to reduce the physical costs being incurred in a supply chain. To answer this question we need to return to the two types of costs incurred within supply chains, which are, as we discussed earlier: ■

marketability costs, the costs of missed market opportunities;

■

holding obsolete stock and physical costs, the costs of production, distribution and storage.

On some occasions, even when firms are managing innovative goods, addressing both of these two costs will not be in conflict. However, on some occasions there will be a very real conflict. This is because any efforts made to reduce the physical costs in the chain (for example, by reducing inventory) might significantly reduce the responsiveness of the chain to market demand. In this way the strategy might increase the marketability costs incurred by the chain. When firms are managing innovative products, the main risks lie with marketability costs. If the customer’s demand is volatile and provides the supply chain with only a small window of opportunity to sell a certain product, or version of a product, all the efforts of the supply chain need to be focused on

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ensuring that the window of opportunity is not missed. This is not least because of the high profit margins that are often only temporarily available. It needs to be remembered that the reason why the reduction of physical costs is so important to the management of functional products is that the end markets for such products are usually highly competitive. This means that profits in such markets will tend towards zero. Firms cannot pass additional cost on to the end-customer because the end-customer is price-sensitive. The markets for innovative products are very different. By their very nature, innovative products do not have competitors and so are able to command a premium. But, given the volatility of demand, the strategic window of opportunity is small. In such circumstances it could, therefore, be beneficial to incur extra physical costs in order to avoid incurring potentially punitive marketability costs.

Creating innovation and market-responsiveness: the principles of agile supply chain management thinking The ability to create a supply chain that is innovative and able to respond quickly to volatile customer demand has become known as agility. Agility has been described as ‘a business-wide capability that embraces organizational structures, information systems, logistics processes and, in particular, mindsets.’ (Christopher, 2000, p. 37). The concept originally emerged out of work undertaken into flexible manufacturing systems. In this section the way in which an innovative, market-responsive (agile) SCM approach can be created is outlined.

Accepting the uncertain demand pattern of innovative goods The first step in creating an agile supply chain is to accept that uncertainty for this type of product is inevitable. Firms that for many years produced functional products have a great deal of difficulty in adapting their mindset in this respect. Only when managers have accepted the inherent uncertainty of their environment can they plan their response appropriately. This response should be based upon three co-ordinated strategies (Fisher, 1997): ■

uncertainty reduction;

■

uncertainty avoidance;

■

hedging against uncertainty.

Uncertainty reduction Managers can reduce uncertainty by finding new sources of information about customer demand. The more the supply chain can operate on the basis of actual

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demand rather than forecasts, the greater the scope for creating agility. The key here is that the demand information is shared with the whole supply chain and pushed up the supply chain as far as possible. This will allow the inventory in the chain to be held in a generic form rather than in the form of finished goods. To understand how this works we need to consider the concept of the de-coupling point. The de-coupling point is the point at which real demand penetrates upstream in a supply chain (Christopher, 2000). If demand information penetrates right up to the point of manufacture, then inventory can be held in the form of generic components or raw materials. If, on the other hand, demand is only visible at the end of the chain, close to the endcustomer, then the inventory will have to be held in the form of finished goods. As one proponent of agile has noted: ‘The aim of the agile supply chain should be to carry inventory in a generic form – that is, standard semi-finished products awaiting final assembly or localization.’ (Christopher, 2000). The practice of holding inventory in this form, only undertaking final assembly when the specific customer demand is known, is referred to as postponement. The practice of postponement also requires a second uncertainty reduction tactic. This is a product design strategy based upon simplification and modularization. Firms can reduce uncertainty if they design products so that they share common components, thus making the demand for those products more predictable. Given the importance of information for uncertainty reduction, it goes without saying that information technology plays a critical role in this supply chain integration strategy. Whilst firms have for some time used EDI, the advent of the Internet in the 1990s has potentially reduced the costs of linking firms in the supply chain. It is now possible, therefore, for firms within the supply chain to obtain information like Electronic Point of Sale (EPOS) data. Uncertainty avoidance A second strategy for responding to uncertainty is avoidance. The supply chain can avoid uncertainty by reducing lead times and increasing flexibility. This will lead to avoidance as reduced lead times and increased flexibility will allow the supply chain to produce to order or, at the very least, produce at a time when demand can be forecast more accurately (Fisher, 1997). Mason-Jones and Towill (1999) have identified four ways in which lead times can be reduced. These are shown in Figure 4.7. Hedging against uncertainty Having reduced and avoided uncertainty as much as possible, the remaining degree of uncertainty can be dealt with using a third strategy. Hedging in this context

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means the holding of inventory. Where the inventory will be held will depend on the quality of the demand information that is held by the supply chain (see above). The holding of inventory will act as a buffer against the remaining unpredictability. Fig. 4.7

Strategies for cycle time reduction

Tactics adopted

Engineering procedure

Elimination

Removing a process

Compression

Removing time within a process

Integration

Re-engineering interfaces between successive processes

Concurrency

Operating processes in parallel

Source: Reprinted from Mason-Jones, R. and Towill, D. (1999) ‘Total cycle time compression and the agile supply chain’, International Journal of Production Economics (62) p. 65.

Another way in which the agile supply chain can hedge against uncertainty is by holding excess capacity. Firms within the supply chain, rather than placing orders, will reserve capacity with suppliers within the chain. How this capacity is utilized will depend on the demand information that is received at a later date.

Innovation in functionality: the ghost in the machine of market responsive supply chains It can be seen from the discussion of the three factors outlined previously that an innovative and market responsive SCM approach will largely be dictated by the scale and frequency of the demand signals emanating from customers. Often the agile approach is required operationally because the supplier, and the supply chain supporting this focal company, is unable to predict demand signals with sufficient scale and volume to be able to engineer a continuous process for supply chain cost reduction and efficiency. In such circumstances operational reality imposes agility on the players in the supply chain. But there is another dimension altogether when one thinks about a market responsive supply chain. This is the strategic dimension associated with innovation around the utility functions that customers use when deciding to purchase any good or service. To be truly successful strategically, companies must innovate in terms of the functionality (quality and service levels) of the goods and services they provide to customers, as well as the costs of delivery. The agile approach outlined above explains how SCM strategies can be constructed in an environment where there is significant uncertainty about when, and in what form, any goods and services will be required by the customer. In this

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circumstance the functionality desired by the customer is responsiveness, and the customer may be prepared to pay a premium to have the goods or services delivered when required. To stay this is to state the obvious, namely, that one key to business success is the ability to understand the utility functions of customers and the value propositions that they bring to market. This implies that when market differentiation is the chosen strategy of the focal company, it requires that the company and its chosen supply chain partners focus their R&D activities continuously on innovations in the functionality of what the customer requires from specific goods and services, rather than focusing primarily on cost reductions through process efficiency. Obviously, many companies understand the need to undertake this activity internally within their own R&D functions. To be truly innovative and market responsive it may also be necessary – especially in industries and markets in which there is rapid and continuous technical innovation – to develop SCM initiatives that allow the company to focus continuously on new technical innovations within the supply chains that support its own and its customers’ value propositions. In scanning the supply chain for technological innovation (or any other market closure advantages that it may be possible to engineer) it will be imperative for the focal company to understand the strengths and weaknesses of its own R&D capability. But it will also be necessary to understand the areas within the supply chain where newly emerging start-up and/or established companies are innovating in ways that will provide for non-replicable and difficult to imitate innovations. In other words, when such innovations are discovered, it will then be necessary for the focal company to be able to understand the significance of critical asset thinking (Cox, 1997). The aim of critical asset thinking is to understand how to own and/or control those supply chain resources that provide a competitive advantage for the focal company. The most effective source of control is nearly always ownership through the insourcing of the competencies that provide a critical supply chain asset. Sometimes, however, a company is not in a position to own particular supply chain resources and must seek all other means available to control those resources and to deny them to their direct competitors. This control is normally achieved through the development of preferential external sourcing relationships. This implies that companies must understand how to mange their external supply and supply chains using joint ventures and single-sourced, longer-term collaborative relationship management approaches with newly emerging technology companies, or with other similarly advantaged suppliers within particular supply chains (Cox, 1996). Clearly, this type of approach is a far cry from market and SCM strategies focused exclusively on process efficiency and cost reduction. In this approach the major aim may be to deny information to others and to minimize trust and openness in business-

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to-business relationships. This is because buyers and suppliers are combining to sustain their competitive advantage and to limit this to a few preferential relationships to the exclusion of all other players in an industry or supply chain. Key learning point 4.3 ■

When developing an innovative and market responsive SCM strategy, it is likely that the underlying imperatives in buyer and supplier relationship management may be diametrically opposed to many of those found in a cost leadership and process efficiency SCM strategy.

■

Cost leadership and process efficiency approaches make a premium of the sharing of information and the development of openness and trust in business-to-business relationship management.

■

This is because there is no basis, other than through working on process efficiency improvements with suppliers, that competitive advantage can be achieved. In such circumstances it makes sense for buyers and suppliers to collaborate openly together – especially if the suppliers are never a threat to the supply chain position controlled by the buyer.

■

Innovative and market responsive strategies may require very different enablers. This is because the whole purpose of this approach is the search for sustainable differentiation with higher profit margins rather than just an increase in market share.

■

Thus, innovative and market responsive strategies may well require the use of ‘self-seeking interest with guile’ on the part of buyers and suppliers with one another or, if they do collaborate together for mutual benefit, against all other players within an industry and supply chain.

MARKET DIFFERENTIATION AND COST LEADERSHIP WITH AN INNOVATIVE AND PROCESS EFFICIENCY SUPPLY CHAIN STRATEGY As we discussed earlier most SCM literature focuses primarily on the debate between lean and agile approaches. It is our view, however, that there is an ideal situation that all companies should aspire to, but which few appear to even understand. This ideal state is the ability to differentiate and to pursue cost leadership simultaneously in the marketplace. In seeking to achieve this it is also essential for the focal company to seek – whenever internal and external power structures permit – to achieve innovation, well as process efficiency, in their supply chains.

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This is because even a company able to sustain differentiation and achieve higher than normal returns would make higher profits if it were able to continuously reduce its costs of ownership through process efficiencies. Given that few companies appear to be able to understand when, and how, to adopt either lean or agile SCM strategies, it is no surprise that there are even fewer companies that have the capability to undertake the complex task of managing these very different SCM approaches simultaneously. It is worth stressing, however, that when Toyota initially developed its production and supply management system it did so in an attempt to undertake both tasks. Indeed, the Toyota model was always based on the idea that its products should be: ‘The Car in Front’ – to quote one of their famous advertising slogans. This implies that Toyota’s business model was based on ‘passing value to the customer’ by focusing on innovation in product and service functionality. In this way Toyota’s competitive market positioning strategy was always to provide the customer with more value for money (quality and service), while at the same time reducing cost on a continuous basis. To achieve this – given that it was heavily outsourced for the delivery of the product – Toyota also had to drive this twintrack approach of product and process innovation down its supply chains on a continuous basis. This is not the same as saying that Toyota simply tries to take cost out if its processes, which is the somewhat mistaken impression that has been developed about both the Toyota model and its approach to SCM by the proponents of the lean school. By choosing the concept ‘lean’ to describe the Toyota model, we believe that Womack and Jones have led far too many practitioners to believe that SCM is focused on nothing more than operational efficiency and that reducing process costs is the be all and end all of supply chain management thinking. Clearly, as we have argued here, this is far from the case. It is due to Toyota that most of us drive better cars than we ever did in the past, and at a lower cost of ownership. This could not have been achieved merely by focusing on process innovations directed at efficiency and cost reduction. On the contrary, Toyota and their emulators in the car industry have been competing not just on cost leadership but also on improvements in the functionality (higher quality and service levels) of the finished product. In other words the functionality experienced by the end-customer has been increased as a result of product and service innovation, while the total cost of ownership has been reduced as well by process innovation. This demonstrates clearly that Toyota has always pursued a bifurcated competitive market and SCM strategy. The problem for Toyota has been, however, that its ability to create sustainable differentiation has been limited due to the ease with which its direct competitors have been able to replicate both its product and service, as well as its process, innovations. This does not mean that Toyota has been wrong to pursue a combined

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differentiation and cost leadership strategy, it is just that the competitive circumstances in the car industry make it difficult to create a sustainable closure of the market in favour of the product/service or process innovator. That said, it is clear that most companies struggle when it comes to managing together these two types of market and SCM strategy. The challenge for managers, however, if they wish to be successful over time, is the ability to develop the competence to understand when they should adopt either or both of these market and SCM strategies, and how to implement them effectively within specific market and supply chain circumstances. Key learning point 4.4 ■

The true test of competence in SCM is the ability to understand the difference between cost leadership and process efficiency strategies, and those focused on differentiation through innovation and market responsiveness.

■

Beyond this distinction competence also requires that the manager is able to understand when either approach is necessary and how to implement each one effectively.

■

The most capable managers and companies are those who are able to manage both types of strategy at the same time.

A simple operational example can illustrate how there is often a need for a bifurcated approach even within the same supply chain. To understand this we need to recognize that within supply chains there is often a de-coupling point. Before that point production will be based upon forecasts about anticipated demand. After that point it will be based upon real or effective demand. The further effective demand information penetrates up the supply chain towards raw materials, the more it is possible for players at each stage in the chain to hold inventory in the form of generic components because they have certainty about demand signals. For the production of these generic components it is obvious that a lean approach can be adopted. For the tasks after the de-coupling point, when players have to rely on anticipated demand, it is likely that a more agile approach may be necessary. This is because there is far less certainty about demand signals for the players at this point in the chain. This bifurcated strategy has been adopted by Hewlett-Packard to customize its products as late as possible. For example, its ‘basic’ printer is made in a generic form using lean methods. The customization of this basic model is then undertaken using agile methods, once the actual demand for the specific product has been received from the customer (Harrison and van Hoek, 2002). There are two other ways by which managers can combine these two SCM strategies. The first method is through the adoption of the Pareto Curve Approach.

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The product range within many firms will obey the Pareto ‘80:20’ rule – that is 20 per cent of the products account for 80 per cent of the firm’s turnover. Under these circumstances, managers may wish to manage the high volume products using a lean approach and the low volume products using an agile approach. The second method is the Base and Surge Approach. Under this approach the two strategies can be used operationally to cope with surges in demand. The base demand that is steady throughout the year is dealt with using the lean approach; whereas the surge demand is dealt with using agile methods (Harrison and van Hoek, 2002).

CONCLUSIONS: THE CONUNDRUM OF KNOWLEDGE AND UNDERSTANDING It is clear, therefore, that the most strategically and operationally aligned organizations, and the most competent managers, will be those that can develop and sustain the implementation of both differentiation and cost leadership market and supply chain strategies. Few companies appear to be able to do this successfully but the problem of competence goes much deeper than this singular failing. All too often in our experience there appears to be a failure by managers to understand that, just because something can and has been done by others, does not mean that it is an appropriate thing for them to do as well. This is particularly true in the area of SCM because, in recent years, too many practitioners appear to have been caught up in the mistaken belief that lean SCM is ‘best practice’ sourcing for everyone. What has been worrying about this is that many practitioners have failed to recognize that lean is only one way of thinking about SCM and, even though it is a highly appropriate strategy for some companies to undertake in some circumstances, it may not be an appropriate strategy for all managers and companies to pursue in all circumstances. In putting this short volume together it was our hope that we would be able to meet this problem head on. By describing the different ways that SCM can be tackled and implemented and also, before that, explaining how a company might decide whether it is an appropriate sourcing option to pursue, we hope that we will have demonstrated the range of sourcing choices that are available for managers. By way of conclusion we provide in Figure 4.8 a decision framework to allow managers to understand which type of SCM strategy they should be pursuing, and whether the internal and external power circumstances are in place to allow them to implement such a strategy successfully. In the final chapter we provide a short analysis of the currently available software and Internet-based tools that are available to assist managers with the implementation of their SCM strategies.

97

Fig. 4.8

10

6 12

8

Not supportive

11

7

3

4

Internal capability and power

Supportive

9

5

Differentiation/ product and service innovation strategy

Pass value to the customer (bifurcated strategy)

1

Cost leadership/process innovation strategy

2

l c we rna d po e t Ex an

y Not supportive ilit ab p Supportive a r

Differentiation and product/service innovation strategy unlikely to succeed. Bifurcated strategy possible. Bifurcated strategy only possible if the right external partners can be found. Bifurcated strategy only possible if internal capabilities and supportive power structures can be developed. Bifurcated strategy unlikely to succeed.

9 10 11 12

Differentiation and product/service innovation strategy possible if internal capabilities and supportive power structures can be developed.

Differentiation and product/service innovation strategy only possible if the right external partners can be found.

Differentiation and product/service innovation strategy possible.

Cost leadership and process innovation strategy unlikely to succeed.

8

7

6

5

4

Cost leadership and process innovation strategy only possible if internal capabilities and supportive power structures can be developed.

Cost leadership and process innovation strategy only possible if the right external partners can be found.

2 3

Cost leadership and process innovation strategy possible.

1

Is the implementation strategy viable or not?

Understanding the scope for successful implementation of market and SCM strategies

Market and supply chain strategies

Implementing supply chain management initiatives

REFERENCES Cannon, J. and Perrault, W. (1999) ‘Buyer-seller relationships in business markets’, Journal of Marketing Research, (36) 439–60. Christopher, M. (1998) Logistics and Supply Chain Management: Strategies for Reducing Cost and Improving Service: London: Financial Times/Pitman. Christopher, M. (2000) ‘The agile supply chain: competing in volatile markets’, Industrial Marketing Management, (29) 37–44. Cox, A. (1996) ‘Relational competence and strategic procurement management: towards an entrepreneurial and contractual theory of the firm’, European Journal of Purchasing and Supply Management, (2) 1, 57–70. Cox, A. (1997) Business Success. Helpston: Earlsgate Press. Fisher, M. (1997) ‘What is the right supply chain for your product’, Harvard Business Review, March–April, 105–16. Fletcher, T. (2000) Creating Best in Class Procurement Management. IBM Company Presentation. Harrison, A. and van Hoek, R. (2002) Logistics Management and Strategy. Harlow: Pearson. Hines, P. (1994) Creating World Class Suppliers. London: Pitman. Hines, P. and Rich, N. (1997) ‘The seven value stream mapping tools’, International Journal of Operations and Production Management, (17) 1, 46–64. Hines, P. and Taylor, D. (2000) Going Lean, Cardiff: Lean Enterprise Research Centre. Hines, P., Lamming, R., Jones, D., Cousins, P. and Rich, N. (2000) Value Stream Management: Strategy and Excellence in the Supply Chain. Harlow: Pearson. Lamming, R. (1993) Beyond Partnership. New York: Prentice Hall. Mason-Jones, R. and Towill, D. (1999) ‘Total cycle time compression and the agile supply chain’, International Journal of Production Economics, (62) 61–73. Ohno, T. (1988) The Toyota Production System: Beyond Large-Scale Production Portland: Productivity Press. Rother, M. and Shook, J. (1998) Learning To See: Value Stream Mapping to Add Value and Eliminate Muda, Brookline, MA: The Lean Enterprise Institute. Williamson O. E.(1985) The Economic Institutions of Capitalism. New York: Free Press. Womack, J. and Jones, D. (1996) Lean Thinking: Banish Waste and Create Wealth in Your Corporation. New York: Simon and Schuster.

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5 Software and Internet tools for effective supply chain management

■

Introduction

■

The theoretical benefit of software and Internet tools for SCM initiative 103

■

The major e-sourcing software applications

■

The major Internet sourcing applications

■

A framework for analyzing the utility of software and Internet-based tools and SCM initiatives 116

■

Conclusions

■

References

103

107 110

119 120

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INTRODUCTION In this final chapter the scope for software and Internet-based tools to assist with the effective implementation of SCM initiatives is discussed. The chapter provides an initial theoretical discussion of the ways in which software and Internet tools can impact upon SCM initiatives, as well as providing a summary overview of some of the major software and Internet-based tools available. A final section provides a decision-making framework to allow managers to understand whether software and Internet-based applications will be beneficial in implementing particular types of SCM initiatives. The discussion demonstrates that, while there are some tools that may assist SCM initiatives, many of the current tools available are not necessarily directly relevant. Furthermore, those that are relevant tend to assist primarily with process efficiency initiatives associated with the eradication of waste resulting from poor information flow.

THE THEORETICAL BENEFIT OF SOFTWARE AND INTERNET TOOLS FOR SCM INITIATIVES The first question that a practitioner must ask when considering the relative utility of any software or Internet tool for SCM initiatives concerns the purpose of the SCM initiative itself. This is an important question because there has been tremendous hype in recent years (not least from potential application providers) about how the Internet and software applications will enable companies to ‘optimize’ the efficiency of their supply chains. At the outset, therefore, it is imperative that we understand theoretically and practically what any SCM initiative is seeking to achieve, and only then consider the ways in which any software and Internet based tools can assist with such initiatives. As we saw earlier, SCM initiatives can be focused on three very different (if sometimes inter-related) areas: 1

Process efficiency to reduce costs in the delivery of existing goods and services.

2

Innovations to change the functionality of the goods and services produced.

3

Achievement of both these desired outcomes at the same time.

It is clear, therefore, that at the outset practitioners must be sure about the real purpose of any SCM initiative and fundamentally understand how any particular software or Internet-based tool will, or will not, assist with the delivery of any specifically desired outcome.

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A few theoretical examples may serve to explain this point. We look at two hypothetical examples here: a process efficiency case study and a product/service innovation case study. Case study 5.1

A hypothetical process-efficiency SCM case The major benefit that many companies aim to achieve from the development of SCM initiatives devoted to process efficiency is twofold. First they expect, by reducing the number of suppliers they have to deal with and developing longer-term relationships with them, to reduce their internal and external transactions costs associated with the normal practice of organizing competitions and constantly having to source and select new suppliers. Second, related to this, by working closely and over a longer period of time with preferred suppliers, one major aim is to develop the level of trust and commitment on both sides so that management processes are inter-locked in such a way that information is shared openly between both parties, thus eradicating inefficiencies that might arise due to any mistrust. This example shows that by reducing the need to continuously select suppliers, the buyer reduces transaction costs and the supplier may also reduce transaction costs because of not having to incur marketing costs. These actions may, ultimately, reduce the costs of producing goods and services and allow the two parties to achieve a competitive advantage in the market. Similarly, by working closely together and by providing timely and accurate information it may be expected that many of the process inefficiencies that arise through demand amplification problems (Forrester Effects) can also be eradicated. Furthermore, it may also be possible to optimize lean production and supply models based on JIT thinking and take out unnecessary waste and inefficiency within processes between the buyer and the supplier. Clearly, if there is a continuous and orderly linkage between all the buyers and suppliers within the total supply chain, the scope for total optimization of information flow is enhanced and, in theory at least, so is the scope for process efficiency. Any software and Internet tools that can assist with the eradication of poor and untimely information may, therefore, be seen as a major benefit for the effective implementation of SCM initiatives focused on process efficiency.

It is important to understand, however, that these optimization benefits only occur if the key problem in the supply chain is one associated with a lack of timely and accurate information – and all the players in the chain are signed up to the same information management software systems. While there are clearly major problems of this nature in supply chains, one has also to recognize that many of the problems that SCM initiatives are trying to resolve (even within process efficiency focused approaches) may not relate to information flow at all. It may be that the major benefits of an SCM initiative arise as a result of bringing together all the players in the supply chain through supplier networks or supplier association meetings. In such meetings the supply chain players may

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develop a common understanding of physical operational problems and not just those created by the flow of order-related information. Indeed, one can argue that much of the best practice in SCM arises from the development of this common understanding amongst participants about the suboptimal physical processes that exist within companies and the ways in which they operate internally. The benefits of SCM initiatives may then arise due to the willingness of participants to work together to redesign processes and systems to allow optimization through a common understanding of problems. In such circumstances it is a sharing of problems rather than having timely and accurate information that will be the basis on which the SCM initiative succeeds, not the availability of the latest software or Internet-based systems and processes to link information flow. There is also another problem that relates to the lock-in problem that faces any buyer when it selects and installs particular software or Internet–based applications. While recognizing the significance of accurate and timely information flow for supply chain optimization, it is also essential that practitioners understand that buying IT applications has unique problems in its own right. This is because, while there may be many suppliers of IT software applications pre-contractually, once a sourcing decision has been taken to use one supplier a buyer is often inadvertently committed to a situation of post-contractual lock-in to one application supplier. In other words, what may be a competitive market pre-contractually, rapidly becomes one of single sourced supplier dominance postcontractually. This can also create immense problems operationally if the buyer is not careful since the buyer is not just being locked into a long-term relationship with the IT infrastructure/application provider, but may also be potentially locked into a permanent relationship with operational suppliers of goods and services. The reason for this is that software and IT costs make heavy demands on the budgets of all companies, and it is highly likely that once dedicated investments in software and IT infrastructure systems have been made, the buyer may find it extremely difficult to exit from the operational supply relationships that have been created. This may not be a problem if the buyer is working with the best suppliers possible, but it could become a major issue if, over time, new and more innovative potential suppliers become available who cannot make the dedicated software and IT investments that a buyer may wish them to make, or if the switching costs for the buyer to move to them are also too high because of incompatible IT systems. It may be the case that far-sighted suppliers (both of software application systems and of operational goods and services) understand this problem of post-contractual supplier dominance and are keen to encourage buyers to become locked-in to particular infrastructure systems and software tools, so that switching later will become difficult (Lonsdale, 2001).

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The buyer of software and Internet-based tools must, therefore, think carefully about exit from existing applications over the long term and not just focus on the immediate short-term benefits that can be achieved from the initial optimisation of SCM process efficiencies. If they do not, then they may find later that they are in a sub-optimal supply chain relationship. The problem of power must be considered carefully here and must always be factored into any specific supply chain software and Internet-based sourcing decision. Nevertheless there definitely appear to be some circumstances in processefficiency SCM initiatives when software and Internet-based tools will provide significant benefits. The benefits from types of these applications are perhaps less apparent when one considers product/service innovation SCM initiatives. Case study 5.2

A hypothetical product/service innovation SCM case In this type of SCM initiative the buyer is normally seeking to find ways to increase the functionality of the goods and services currently being produced by itself and in conjunction with its supply chain partners. In this scenario there are two potential sub-categories of innovation. In the first case, that associated with market responsiveness where the buyers and suppliers are attempting to provide goods and services in a timely manner to the end-customer, the case for software and Internet-based tools will be much the same as in the circumstances of process efficiency improvements discussed previously. In such cases the need for accurate and timely information flow will be equally imperative and critical to success. There is, however, a very different category of cases associated with product/service innovation where the major focus of improvement is on new R&D initiatives aimed at increasing the utility value of particular goods and services to the end-customer. In this scenario it is unlikely that timely and accurate information flow will be one of the major problems that the SCM initiative is attempting to resolve. On the contrary, the initiative itself may be focused on the need to brainstorm new ideas, or to come up with new technological means of solving problems. In this environment, while having access to the R&D processes of supply chain partners (through innovations like CAD-CAM systems) may be beneficial, it is more than likely that the brainstorming activity will be most assisted by close working relationships on a continuous and regular basis by all the relevant parties. The hope here might be that the close proximity of working relationships, rather than the timely and accurate flow of information assisted by the latest software tools and techniques, would provide for a fortuitous development of serendipitous innovation. In such circumstances software and Internet-based tools are unlikely to provide anything other than a minor support to the major purpose of the SCM initiative – the brainstorming of new ideas.

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It follows from this discussion that ‘all that glitters is not gold’ when it comes to the relative utility of software and Internet-based tools and techniques. Sometimes the tools will help and sometimes they will not. The task for managers is to know which tools are available and to understand whether they can assist them with their SCM initiatives. In the next section we describe and analyze some of the major SCM and e-sourcing tools currently available on the market. Key learning point 5.1 ■

Software and Internet-based tools can provide a major benefit to the development of SCM initiatives, but sometimes they are of little value whatsoever.

■

In general terms one might expect software and Internet-based tools to be of major significance for SCM initiatives focused on process efficiency, especially where one of the major problems affecting supply chain optimization is a lack of timely and accurate order processing information.

■

In product/service innovation SCM initiatives the benefits of software and internet-based tools are less apparent because timely and accurate information flow may not be the major problem that the initiative is attempting to resolve.

■

When a product/service innovation strategy is directed towards market responsiveness, it is likely that software and Internet-based tools will be of value.

■

When considering the use of any software and Internet-based tools, practitioners must always understand the pre- and post-contractual risks they are running when they decide to source a particular IT infrastructure or software system.

THE MAJOR E-SOURCING SOFTWARE APPLICATIONS There are essentially four major elements in the e-sourcing software industry.

ERP software ERP (Enterprise Resource Planning) software is the internal technological hub of the organization. It is used to support existing business strategies and provides the company with the flexibility required to improve customer responsiveness (the demand-side) and to better manage production needs, inventory and the

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procurement of inputs (the supply-side). It is also the ultimate tool for allocating scarce resources. Using ERP, a company can create a new information foundation (that is organized, consistent, codified and standardized) by replacing the existing diverse legacy systems. ERP software tools took the concepts of MRP (Materials Requirement Planning) and attempted to integrate other departments and functions that were outside the manufacturing-planning arena but were still related. Essentially, ERP systems are the software infrastructure that facilitates the flow of information between all functions in a company (e.g., manufacturing, finance, HR, sales and marketing, logistics and procurement). When combined with Internet-based technology, the company’s internal information infrastructure can also be extended into the external environment. The internal and external processes that require the efficient flow of information within the supply chain are shown in Figure 5.1. Fig. 5.1

Internal and external enterprise process flows

Customer

Organization

Delivered orders (outbound logistics)

Order fulfilment process

Customer forecast

Supplier Manufacturing process

Planning and forecasting processes

Returns and repairs

After sales and support process

Customer orders

Order capture process

Design and specification requirements

Procurement and sourcing process

Support processes (including design, finance, etc.)

Invoices and payments

Production materials (inbound logistics)

Forecast requirements

Procurement requirements

Design and specification requirements Invoices and payments

ERP systems can be visualized as huge database applications for storing transaction data driven by software that connects the components of the company. When data becomes available at one point in the business, it courses its way through the software, which automatically calculates the effect of the transaction on other areas such as manufacturing, inventory, logistics, procurement, invoicing and booking the sale to the financial ledger.

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For example, when the sales department receives an order, it enters the order into a computer. This should then generate either an order in the shipping department (if there are stocks) or in the manufacturing department so that it can be produced. This may require the ordering of specific inputs from suppliers through the procurement department. Additionally, each step to the receipt of revenues from the customer has accounting implications (e.g., debit the accounts receivable account). ERP deals with a highly complex problem – organizing and executing the millions of transactions that are required to efficiently operate a modern business. ERP software companies see sourcing as a data processing and database management problem, not as a mathematical modelling and supply chain optimization problem. However, while these systems are not oriented towards problem solving, ERP vendors have purchased vendors in the other markets to provide modelling/solving capabilities. ERP software companies are very well known. The industry is led by SAP AG and Oracle – two of the world’s largest software companies – and also includes Baan, PeopleSoft and JD Edwards. This market plays host to about 60 other suppliers. Despite the power of the leading players, the intensity of competition is forcing ERP software companies to rethink their products’ role within the organization. They are seeking ways to broaden functionality by incorporating front-end technology, to create trading communities through portals and to forge collaborative associations with Internet-based technology and other suppliers.

Supply chain management solutions Although sometimes misperceived as a niche, ERP specialty market SCM solution providers focus primarily on matching supply with demand, rather than tracking individual transactions. Most of these applications are based on sophisticated forecasting methods for demand planning, a production planning and scheduling module for supply planning, and some analysis tools for examining supply-demand match-ups. The best SCM tools turn on their ability to gather and synthesize point-of-sale data and turn it into useful demand data, while pulling together actual supply information (inventory information, production schedule status, etc.) relevant to decision making. The leaders of the SCM solution market include Ariba, Manugistics and i2, with a few other suppliers occupying industry-specific niches. This area has seen significant growth in recent years, as companies that have implemented ERP systems to facilitate better internal management information have realized the significant benefits that SCM solutions may provide in the management of their

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internal and external supply chain operations. As a result of the growing market, the leading ERP software suppliers have developed SCM tools to add functionality to their well-established offerings.

Optimization tools Another technique used by some of the tools is ‘constraint-based’ optimization. This is a heuristic, or rules-based approach, to finding solutions to very complex problems while it still early enough to do something about them. Put simply, these tools use operations research and mathematical techniques to solve issues such as transportation resource optimization, vehicle routing and scheduling, inventory allocation and manufacturing schedule optimization. These tools generally have direct links into most ERP systems, allowing users to extract key data.

Analysis tools The final ‘set’ of tools have very few interactions with the tools discussed previously. They are used largely for analysis and understanding of system dynamics, or as strategic design tools. Like optimization tools, they rely on complex mathematical techniques.

Conclusion The previous discussion has demonstrated that while there are four distinct types of e-sourcing software that all claim to do supply chain analysis and optimization, it is clear that the companies operating in these different categories and their tools do remarkably different things. This same logic applies when we consider the major tools developed as Internet-based solutions.

THE MAJOR INTERNET SOURCING APPLICATIONS The use of the Internet in business-to-business supply chain applications has grown rapidly in recent years. From basic use in the area of transportation and warehousing, the Internet is now being used to manage key supply chain activities including raw materials inventory management, sophisticated warehousing, finished goods inventory management, production scheduling, purchasing, procurement and customer service. New tools in the areas of e-Procurement, e-Requisitioning, e-Auctioning, e-Markets, e-Fulfilment, e-Design and Manufacturing, e-supply chain collaboration and synchronization, e-real-time event monitoring, e-optimal pricing and e-logistics

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co-ordination expand the operational and strategic options available to firms in the area of sourcing in general and SCM specifically. Even with the caveats introduced in our earlier discussion, the benefits of the use of e-applications in the field of sourcing and SCM can be multi-dimensional. In addition to improving the quality of information flows and speeding up communication between buyers and their suppliers at all stages of the supply chain, their use may also lead to lower transaction costs, lower purchase prices, increased levels of service, enhanced asset productivity, reduced logistics costs and increased operational flexibility in terms of delivery and response time. Until the advent of the Internet, the ability of firms to achieve these goals was limited, since the communication and knowledge links in the existing supply chains did not bring together all the key databases. Also, there was, and in some cases still is, justifiable reluctance on the part of firms in the supply chain to share data with each other. This hesitancy is due to a variety of factors, including the perceived threat of giving away competitive advantage to other firms, the sharing of sensitive information such as inventory levels and production schedules with other channel members and the potential of losing customers to other competitors. Figure 5.2 shows the impact that e-applications and the Internet can have on the key internal and external information and process flows within the organization, but only when a company has decided that the benefits of e-Enablement far outweigh the risks that may occur from implementation. Fig. 5.2

The e-enabled internal and external enterprise process flows

Customer

Organization

Delivered orders (outbound logistics)

Order fulfilment process

eFulfilment

Customer forecast

Supplier Manufacturing process

eDesign

Production materials (inbound logistics)

eManufacturing

Planning processes (including demand and supply forecasting)

Order capture process

Customer orders

Procurement and sourcing process

CRM and eCommerce Returns and repairs

Forecast requirements

Procurement requirements

eProcurement

After sales and support process

ePurchasing

eContracting

eDesign Design requirements

Design requirements Support processes (including design, finance, etc.) Invoices and payments

Invoices and payments

ERP system

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To understand how the Internet provides additional sourcing and SCM tools, we discuss potential applications in five major areas: ■

procurement;

■

inventory management;

■

transportation planning;

■

customer services;

■

production scheduling.

Procurement on the Internet The use of the Internet for purchasing has developed rapidly over the last ten years. It has fundamentally streamlined the function and is now used for a variety of key purchasing activities including communication with suppliers, checking and comparing supplier price quotes and making purchases from suppliers’ catalogues. General Electric, for example, has reduced its purchasing staff by more than 50 per cent and permits on-line purchasing from supplier catalogues by each department. The paperwork flows have been reduced, and order-cycle times – the time from when the order is purchased to the time it is delivered to the company – has decreased by 40 per cent. Arguably the most popular use of the Internet within the procurement department is in e-applications that facilitate order placement, approval and order status. Indeed, e-Requisitioning has dramatically reduced the costs of order processing, which before the Internet accounted for approximately 18–20 per cent of the total cost of managing a supplier relationship. A major component of this cost saving is the reduction of paperwork involved in traditional order processing systems. Another advantage of the Internet in order processing is the speed and accuracy at which orders can be processed. The reduction in order-cycle time has been reduced by as much as 50 per cent. Errors can now be detected more easily (e.g., through out-of-stock notifications) and corrected more quickly (e.g., through the efficient handling of returned goods). The Internet has also proven itself to be an important tool for communicating and negotiating with suppliers. Face-to-face negotiations are not used as frequently because the negotiations can be effectively conducted through the Internet. E-Procurement, e-Contracting and e-Auction applications have all been found to be beneficial in aspects of the buyer–supplier bargaining process. Another important factor in supplier relations is the ability of a buyer to rate and compare the performance of its suppliers, based on the key elements agreed to in their negotiated contracts. Inherent within many e-Procurement applications, the benefits of these evaluating systems improve the overall quality of supplier

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performance, lower purchasing costs, and improve the productivity of supplier operations. This information enables companies to form the appropriate strategic supplier relationships based on solid informational bases developed from Internet monitoring systems. Despite the benefits that may arise from the use of Internet-based applications there is considerable confusion surrounding the different offerings from the various B2B, e-Business and e-Procurement application providers. Notwithstanding the confusion amongst practitioners, there appear to be five major categories of applications within the procurement and supply chain field: ■

e-Procurement software (including e-Auctions, e-Catalogues and other ‘content’ creation, management and aggregation);

■

e-Marketplaces and Internet exchanges (including additional services);

■

e-Marketplace-making technology;

■

e-Marketplace aggregators or ‘intelligent agents’;

■

integration software (to integrate front-end e-Procurement or e-Sales systems with back office ERP or other legacy systems).

Much of the confusion amongst practitioners about the strengths and weaknesses of these applications stems from the fact that few of the companies offering solutions categorize themselves so neatly. For example, e-Marketplace makers frequently sell themselves as providers of ‘hosted’ e-Procurement software. Another source of confusion is that some application providers may have started operations in one segment of the market and have now moved into another – with some becoming more precisely focused, and others becoming less so. The primary task for managers is to understand in detail what the strengths and weaknesses are of these particular applications (which tend to deal primarily with the dyadic buyer–supplier exchange relationship rather than with the total supply chain that may need to be managed) and how (given this) any of them can assist with the development of a particular type of SCM initiative. We discuss how practitioners may begin to think about this issue in a structured way for all of their potential applications in the final section of this chapter.

Inventory management and the Internet One of the most costly aspects within supply chains is the management of inventory. These costs can potentially be reduced by the effective use of the Internet to inform relevant parties when problems with stock availability may arise. Through the use of e-fulfilment applications, firms are able to inform their suppliers that raw material inventory levels are low, or inform their customers that finished product inventory levels are low.

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The Internet has also enabled companies to institute EDI programs with their customers more quickly. Prior to the development of the Internet, EDI took considerable time to implement in a supply chain. In addition, each player had to invest heavily in IT, software and training before EDI systems could be made operational. Since the introduction of the Internet, EDI systems (and their JIT counterparts) can be developed and put into operation more quickly. The Internet potentially provides mangers with the opportunity to improve the quality and speed of information available for inventory management so that inventory levels are kept low, overall holding costs are reduced, while still providing high levels of customer service.

Transportation and the Internet Another popular use of the Internet is in the management of transport logistics. Transportation typically is the second highest cost component in many supply chains, accounting for approximately 25 per cent of overall operating costs. The monitoring of pickups at regional distribution centres by carriers is one of the most popular Internet applications in this area. This is particularly important since tracking shipments to regional depots provides the firm with data on the reliability performance of the carriers being used. It also provides managers with the information they need to inform carriers of shipment delays as they occur and allows them to take immediate corrective action. The examples below provide an indication of some of the benefits that companies have received from the use of Internet-based transport logistics applications: ■

General Electric, in its appliance division, uses the Internet to schedule shipments out of centrally located warehouses in metropolitan areas. The goal is to allow the company to deliver its products on time and more cost effectively. The numbers of deliveries per hour has increased significantly while transportation costs per order have dropped dramatically.

■

The Ford Motor Company uses the Internet to track small quantities of spare parts shipped to customers on a daily basis.

■

PPG Industries, Inc. utilizes the Internet to monitor the weekly route performance of carriers from its main production plants. The company also uses the Internet to track long-haul deliveries across the country.

■

Air Products and Chemicals Inc. uses the Internet in its global sourcing process. The Internet informs the firm of which delivery terminal and which plant is the best for servicing the customer.

■

Weyerhauser uses the Internet to monitor vessel-shipping while taking into consideration the stop-off costs for the sites.

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Customer service and the Internet An important function that the Internet can offer a firm is the creation and maintenance of excellent relationships with its customers. The Internet has provided customers with another way to contact the firm regarding service issues. Companies may use the Internet to receive customer complaints, emergency notifications and provide customers with 24-hour access to a company’s service department, enabling customers to notify companies immediately of any service issues or problems that may arise. The overall effect can be reduced response times and rapid resolution of customer service problems. The Internet can also improve the two-way flow of communication between firms and their customers. Companies are using the Internet not only for service issues but also for selling their products and services as well. This two-way communication capability can have a profound effect on cementing customer–firm relationships. Experience with Internet service systems shows that those customers whose service issues are dealt with quickly, and to their satisfaction, are more likely to purchase the firm’s products again. The Internet can build strong product and service loyalty if used appropriately in the customer service area.

Production scheduling and the Internet Production scheduling has traditionally been one of the most difficult problems in SCM initiatives. The reasons for this include: ■

the high level of inaccuracy of sales forecasts;

■

the lack of raw material information from suppliers;

■

the general paucity of information regarding fluctuations in supplier-stock levels and customer demand.

The Internet can help firms to minimize these difficulties in their production scheduling by improving the information flow and communication between suppliers and buyers at all stages of the supply chain. Indeed, firms may use the Internet to co-ordinate their JIT programmes and co-ordinate their production schedules with their suppliers. While the issue of customer demand analysis using the Internet is not discussed directly here, the application of the Internet to order processing (by linking EPOS data with production scheduling) provides firms with real-time information on the sales of their products and services. This can result in more accurate sales forecasting, which in turn can significantly improve production and inventory scheduling.

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A FRAMEWORK FOR ANALYZING THE UTILITY OF SOFTWARE AND INTERNET-BASED TOOLS FOR SCM INITIATIVES Clearly, there is tremendous ‘noise’ (or lack of clarity about means and ends) in the sourcing area around software and Internet-based tools. The reason for this ‘noise’ is simple enough to understand. Many practitioners are operating with ‘bounded rationality’. This simply means that they do not fully understand the utility of particular applications for the specific sourcing and SCM initiatives that they are attempting to implement, nor do they understand the technology and its implications for their own legacy-based IT systems and processes. In addition they do not understand the change management costs over the long term that will need to be incurred to implement many of the software and Internet solutions being offered to them (Cox et al., 2001). Despite this, as we have shown above, there is considerable evidence that the judicious use of software and Internet-based applications can have a significant impact on some sourcing and SCM initiatives. The key task for practitioners, therefore, must be to understand whether any particular applications will materially assist the development of their sourcing and SCM initiatives. To assist practitioners in their task of understanding the costs and benefits of particular software and Internet-based applications for their SCM initiatives we provide a decision-making framework in Figure 5.3. We have found this framework to be of value when working with companies that have had to understand whether particular applications can provide them with significant benefits. Fig. 5.3

The operational use value of software and Internet-based applications

B A

D C

High

Impact on process efficiency and reduction in transaction costs

F

Low

E Low

H G

t/ uc rod tion p n va t o no ac e in p Im rvic se

Low High

Impact on reliability and quality of information flow

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High

Software and Internet tools for effective SCM

As can be seen from Figure 5.3, when thinking about the utility of particular software and Internet-based applications, it is essential for companies to understand the impact of an application on three major variables: ■

process efficiency and transactional cost reductions;

■

reliability and quality of information flow;

■

product/service innovation.

Clearly any application may have a high or low impact on any of these variables, but the way these three variables interact will provide an early indication for which type of sourcing and SCM initiatives the application may be best suited. This is indicated below with reference to the eight scenarios A–H outlined in Figure 5.3. Scenario A. In this scenario an application will have a high impact on process efficiency and offer scope for a significant reduction in transaction costs, but with only a low impact on the reliability and quality of information flow and with only low impact on product and service innovation. This would seem to suggest that the application may have some value for a cost leadership/process efficiency SCM initiative but not for a differentiation/product and service innovation initiative. Scenario B. In this scenario there is high impact in both the process efficiency/cost reduction and in the product/service innovation areas but low impact on the quality of information flow. This implies that applications in this area may be of some value for differentiation/innovation strategies, as well as for cost leadership/ process efficiency strategies, but they will not be as potentially valuable as those applications in Scenario D (for all strategies) or in Scenario C (for cost leadership/ process efficiency strategies) or Scenario H (for differentiation/ innovation strategies). Scenario C. In this scenario there is a high impact on process efficiency and cost reduction opportunities and a high impact on the quality and reliability of information flow, but a low impact on product and service innovation. This implies that this type of application will be of significant benefit for a cost leadership/process efficiency initiative, and it may also be of value for a market responsive differentiation strategy. It is, however, unlikely to be of much value for an R&D product/service innovation strategy. Scenario D. In this scenario an application has a high impact in all three areas. This implies that it must be the most valuable application whether for cost leadership/process efficiency or for differentiation/innovation SCM initiatives, as well as for bifurcated strategies.

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Scenario E. In this scenario the impact is low in all areas of potential benefit. This would imply that the application is of little value for any type of SCM initiative. Scenario F. In this scenario there is a low impact in both the process efficiency and the information areas, but high impact in the product/service innovation areas. This implies that an application in this area would have some value for a differentiation/product and service innovation strategy, but perhaps not on an innovation strategy focused on market responsiveness and certainly not for cost leadership/process efficiency strategies. Scenario G. In this scenario there is low impact on process efficiency and product/service innovation, but high impact on information flow. This implies that applications in this area may be of some value for differentiation strategies based on market responsiveness rather than on product/service innovation. There is likely to be little of value here for process efficiency and cost leadership initiatives. Scenario H. In this scenario it is clear that the impact on cost leadership and process efficiency is very low, but that there is high impact for both information flow and product and service innovation. This means that applications in this area would be of high value for differentiation strategies based on both product/service innovation and market responsiveness. As the analysis above demonstrates, there are clearly some applications that will have more value than others for particular sourcing and SCM initiatives. Key learning point 5.2 ■

Applications in Scenario D are the ideal solution for all types of initiative, and especially for bifurcated SCM strategies.

■

Applications in Scenarios A, B and C will be of most value for cost leadership/process efficiency strategies.

■

Applications in Scenarios C, G and H will be of most value for differentiation strategies based on market responsiveness.

■

Applications in Scenarios B, F and H will be of most value for differentiation strategies based on product/service innovation.

■

Applications in Scenario E are of little value at all.

It is important to recognize here one final issue when applying this logic to SCM initiatives. The analysis above can be applied to software and Internet-based tools that impact on simple dyadic exchange relationships between buyers and suppliers, and this may be of significant value in any sourcing relationship. The point to keep

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in mind when considering SCM strategies is that applications must also be assessed on the basis of their capability to provide improvement within the total supply chain of buyer and supplier relationships, not just at the first-tier. It follows, therefore, that when considering the value of particular applications sensible companies, especially those pursuing SCM initiatives that involve more than first-tier buyer and supplier relationships, must assess the capability of applications to provide benefits within the supply chain as a whole.

CONCLUSIONS Although there are many potential benefits from the application of software and Internet-based tools to buyer and supplier, as well as supply chain, relationships, it is imperative that buyers do not simply accept the marketing hype of application providers. There has been far too much of this in the past, and it is clear that companies must become more sophisticated about the relative costs and benefits of particular applications for specific types of SCM strategy. This is, however, a conclusion that needs to be made and this refers not only to the sourcing of SCM software and Internet-based applications. Our final conclusion is that there is a need for companies and their managers to become smarter at understanding the answers to five basic questions listed in Key learning point 5.3 that this volume has tried to address. Key learning point 5.3 1

Does the company understand what supply chain management is, and how it differs from other sourcing approaches that the company might consider for the leverage of improved value for money?

2

Is supply chain management the best strategic option available when compared with other sourcing approaches that might be adopted by the company?

3

Is supply chain management operationally feasible both internally and externally?

4

Does the company understand what type of supply chain management strategy it is adopting, and is it fully aware of the tools and techniques that will be necessary to implement such a strategy effectively?

5

Does the company fully understand the full costs and benefits of any software or Internet-based tools that might be used to assist with the implementation of its supply chain management strategy?

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If this volume assists practitioners and their companies in answering these questions, so that future SCM strategies are more successful in the future than they have been in the past, then it will have served its purpose.

REFERENCES Cox, A., Chicksand, L. and Ireland, P. (2001) The E-Business Report. Helpston: Earlsgate Press. Lonsdale, C. (2001) ‘Locked-in to supplier dominance: on the dangers of asset specificity for the outsourcing decision’, Journal of Supply Chain Management, (37) 2, 22–7.

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