SUPPLY CHAIN: You’re part of it, not just your business; long-term relationships are key

New Mexico State University’s Arash Azadegan, Ph.D., has strong opinions about the supply chain, more so through this region’s proximity to Mexico and the economic ties reaching south of the rio Grande. When it comes to cost advantages regarding Mexico, Azadegan urged a look beyond the time-tried emphasis on labor. Total costs consider much more.

He also addressed the single-sourcing versus multiple-sourcing issue and supply-chain collaboration in this interview:

PLEASE DEFINE SUPPLY CHAIN — WHAT IS INCLUDED. HOW APPARENT IS IT TO A BUSINESS PERSON AS TO WHETHER THEY ARE IN THE SUPPLY CHAIN?

Arash Azadegan, Ph.D., assistant professor, Department of Management, New Mexico State University: A supply chain is a system of organizations, people, information and resources involved in moving a product or service from supplier to the ultimate consumer. It really isn’t that apparent for those of us to think that we are in a supply chain. But from the cereal we eat for breakfast to the mattress we sleep on at night, everything we consume essentially has a supply chain and we are part of that chain.

A MANUFACTURER MAY SINGLE OR MULTIPLE SOURCE FOR MATERIAL. FOR THE SUPPLIER WHO IS THE SINGLE SOURCE, WHAT ARE THEIR RESPONSIBILITIES FOR REMAINING COMPETITIVE THEMSELVES AS WELL AS ASSURING THE CUSTOMER REMAINS COMPETITIVE?

There has been a great deal of discussion about single sourcing during the past few years. Some believe it’s the right thing to do for both parties, but many manufacturers have a hard time “getting there.” Single sourcing means that the manufacturer is placing their trust in the hands of one supplier. It is a lucrative place to be for a supplier, since there is guarantee of continued business. Also, being a sole supplier to a brand name company means a lot for the supplier’s reputation. But all of this comes at a price. The supplier has a lot of responsibility, to uphold their end of the bargain.

It needs to be flexible in delivery, volume and even product type. It also needs to stay on top of technological change and make sure they are meeting and exceeding the buyer’s expectation. Many others would like to be in the supplier’s place and there will be a lot of enquiries. It is like getting married to someone rich and famous, it’s great fun but you have to uphold her expectations.

IN THE CASE OF THE SUPPLIER WHO IS ONE OF SEVERAL – THE “MULTIPLE SOURCE” – FOR A GIVEN RANGE OF MATERIAL, WHAT MUST THAT PERSON DO TO IMPROVE COMPETITIVENESS AND GROW THE MARKET SHARE FROM THE CUSTOMER?

When customers multiple source, they are afraid to give control to just one supplier. They also want to have the ability to play the market and keep the suppliers competitive and don’t want to be too dependent on one or few. For the suppliers this could mean a lot of hard work and continued contractual negotiations. But, it can also be a great way to increase business.

If a supplier gets “their foot in the door” of a major buyer, even with a small order, they can prove themselves and get a larger order over time. Also, notice that the main reason for multi-sourcing is to avoid what academics call “shirking,” or for a supplier to take advantage of a situation. So, a supplier’s answer should be to show trust and reliability to the buyer. Over time, if the buyer realizes that “he is in good hands,” it is very probable that a large portion of their demand could go to that one supplier.

Remember, ultimately it is easier to deal with one supplier than many. Given a competitive price, good quality, innovation and reliability most manufacturers would rather deal with one supplier than having to juggle many.

WHEN WE STUDY THE SUPPLY CHAIN GOING INTO MEXICO FROM THE U.S., WHAT ARE SOME CONSIDERATIONS OR OPPORTUNITIES THAT U.S. SUPPLIERS TEND TO MISS?

Many manufacturers think of moving to Mexico as a way to reduce their internal or plant costs. They think they are going to save money on their direct labor and perhaps some of their indirect costs like warehousing and utilities.

But operating costs for a typical manufacturer are somewhere between 10 and 20 percent of cost of goods sold. These don’t add to a whole lot. What many U.S. manufacturers can benefit from is by getting their supplies locally in Mexico. Remember that a typical manufacturer’s “spend” (or purchasing cost) is around 50 to 80 percent of their cost of goods sold. So buying their supplies in Mexico, which can be a lot cheaper, can put a good “dent” into the spend amount. This is the hidden value of moving to Mexico or other low cost countries that is not well recognized.

A DECADE AGO, SEVERAL SUPPLIERS COMPLAINED TO ME THAT THE LARGER U.S. MANUFACTURERS IN MEXICO TENDED TO FAVOR SUPPLIERS FROM HOME STATES SUCH AS MICHIGAN AND OHIO. TO WHAT EXTENT DO YOU SEE THAT CONTINUING? WHAT INROADS ARE THIS REGION’S SUPPLIERS MAKING INTO THAT SUPPLY CHAIN?

Some of the favoritism can be justified. After all, it takes a long time to develop industrial relationships and you can’t change that after just a few months. Other supply decisions are because of the technical expertise that the folks in the mid-West may have had in the past. Finally, there is the matter of trust. Trust is the most important element in industrial purchasing. Needless to say, knowing the culture, language and expectations of the manufacturer that just moved to Mexico from mid-West puts an advantage to those from that area.

But, these are all opportunities that can be exploited by local suppliers. Over time, being exposed to local suppliers can change the manufacturer’s perceptions. Local suppliers can build personal trust by visiting the manufacturer, by going to events like supply chain conferences and by meeting at local professional events. As the manufacturers get established they also get to know the suppliers and become familiar with their capabilities.

Finally, the main competitive advantage of the local suppliers is distance. Being “local” drops transportation costs, allows for better lead times and can improve flexibility and responsiveness. The locals really need to hammer these three factors and explain how each of these helps the manufacturer’s bottom line. Perhaps flexibility is even more important than the other two. Being local means you can take the buyer to lunch and find out how you can improve! The guys in the mid-West won’t be able to do that as easily.

IN YOUR ANALYSIS OF THE BUYERSUPPLIER RELATIONSHIP, WHAT DROVE THE SHIFT FROM THE LOWEST PRICE FOCUS PREVALENT MORE THAN A DECADE AGO TO WHAT YOU TERM “TOTAL COST OF OWNERSHIP?” PLEASE DEFINE “TOTAL COST OF OWNERSHIP.”

Total cost of ownership as related to purchasing was underscored heavily by a very close colleague and mentor of mine, Dr. Lisa Ellram. Dr. Ellram suggested that, beyond the price that you pay for an item, you have to consider the costs before the purchase has taken place and after it.

Imagine purchasing a car. Total cost of ownership suggests that the total cost of “owning” the car includes all the expenses before the purchase: the cost of searching for the right car, the costs of going to dealers and “wasting” days upon days negotiating with tough-skinned car sales-people, and the costs of driving to and from the dealers. Total costs of ownership include the cost of the car, financing, plates and all the extras — yes, including the famous undercoating that no-one thinks is worth it.

But once you are done with the purchase, there are other costs. There is the fuel cost, insurance cost, maintenance cost and even car wash! There is a reason why people are buying more Priuses. Its total cost is lower, even though the actual price can be higher to a comparable non-hybrid.

The same is happening in industrial purchasing. As it becomes easier to calculate total cost of ownership, and as industrial buyers become savvier, they will buy based on total cost of ownership. In short, total cost of ownership is really about the economic value of an acquisition.

YOU POINT TO THE IMPORTANCE OF COLLABORATION IN VALUE CHAINS. WHAT MAKES THAT EVEN MORE IMPORTANT CONCERNING THE SUPPLY CHAIN FROM THE U.S.
INTO MEXICO?

Let me first define what I mean by collaboration. Collaboration in supply chains is a mutually beneficial agreement between two or more partners where their resources, knowledge, and capabilities are shared with the objective of enhancing the competitive position of both. There are many benefits to collaboration, which is why we are seeing more and more of it. First, collaboration helps better understand and cope with uncertainty in the environment. As the business market becomes more complicated and more volatile, buyers and suppliers working together is just the right thing to do.

Second, collaboration helps identify and create synergies between organizations. This means a group of firms can focus on their core competencies while letting the others do the other activities. This way they can broaden their market reach like Renault-Nissan do, become stronger in the face of competition like Sony-Ericsson do in facing Nokia and can expand their capabilities like Dell and EMC do. Third, collaboration between manufacturers and suppliers is important because the unit of competition is no longer the company, but is the supply chain of companies working together.

Collaboration between U.S. and Mexican manufacturers already has these synergies that can help companies. The manufacturing, marketing and logistics expertise of U.S. firms combined with the low cost production and reliable work-force in Mexico really set the stage. Added to that is the geographic proximity. It is much harder to have the same collaboration with companies in distant lands and in opposite time zones. So combined, US and Mexican and Canadian manufacturers can develop a chain of production firms that can be competing effectively against other chains from different parts of the world.

IN SUPPLY CHAIN PLANNING, WHAT ARE THE BETTER TACTICS TO AVOID “COMPLEXITY?”

Complexity in supply chains is inevitable.Globalization and open trade means that different parts and components come from different corners of the world. My example of complexity is how a pair of denim jeans actually has to travel to 19 different locations in different countries around the world to be manufactured. Now imagine the complexity involved in producing all the components that go into a car, or a laptop or a cell phone. Mind you that a car has around 2,000 components.

Managing complexity is important in a globalized supply chain. Companies need to have first-hand information about the network of complex relationships between them and their suppliers, their suppliers and their suppliers. They also need to know how to quickly react to change and events in this web of relationships. So information and agility in decisions is important.

You may be familiar with the company Li & Fung in Hong Kong. They run an amazingly complex network of hundreds of buyers and suppliers in clothing and other manufacturing industries. But they have been very successful at managing this complex web, even though they hardly make anything! Their new book explains how they manage complexity, it’s called “Competing in a Flat World: Building Enterprises for a Borderless World.”

YOU EMPHASIZE LONG-TERM VERSUS THE SHORT-TERM. WHAT FACTORS MAKE LONG-TERM THE BETTER APPROACH IN SUPPLY CHAIN MANAGEMENT?

Long term partnerships minimize transaction costs which help both parties. They reduce replacement costs and help ensure that quality expectations are kept. We all like long term contracts. It’s just easier to sleep at night when you have a reliable source of supply or a consistent source of income.

But long term doesn’t mean “autopilot.” Long-term relationships require maintenance and continued nurturing. Some of the most important elements that we see in the success of long term relationships are consistent and specific feedback on performance of both, formal and established communication processes, mutual profitability and commitment to each other’s success.

Long-term relationships have to be designed for a “win-win” from the start.