Managing The Supply Chain: The MRO Distributors' Role In Removing Redundancies
Tom C. Reid
Tom C. Reid, Vice President/General Manager, Industrial Supply Division, Briggs-Weaver, Inc., Dallas, TX 75235, 214/631-3600.
79th Annual International Conference Proceedings - 1994 - Atlanta, GA
And Reducing Costs
Recent changes in the industries that industrial distribution serves have expanded the conventional role of the distributor. Buying, inventorying, and selling will no longer meet the requirements of many customers.
As customers focus on the main functions of their companies and reduce expenses and employees, the opportunity for distribution to expand its role has never been greater.
In the past, many customers have built and supported elaborate procurement and internal distribution systems for MRO supplies. The number of transactions in this area coupled with elaborate systems have utilized resources at ratios greater than their value. 80% of procurement activity and cost, versus 20% of the value of all procurements is not unusual.
Not only has the ratio been unfavorable, but the cost of procuring MRO supplies has continued to increase.
The Supply Chain from manufacturer through distribution to the customer and ultimately to the end user (requisitioner) is changing. The shift that is occurring can transfer more responsibility to the distributor. The thrust of this shift is determined by the channels perception of the most efficient productive method of moving material through the channel -- The determination of what is required by the end user and the elimination of duplicity and redundancies will yield cost savings and increased potential for continuous cost improvements.
Customers realizing the true cost of materials management for MRO supplies have elevated cost savings in this area to a top priority. By focusing on developing techniques, significant costs can be realized.
Through a sluggish economy, vendor reduction and ongoing margin squeeze, the distribution industry is consolidating. Distributors involved in partnering alliances and other forms of integrated supply are gaining market share and relationships that support future growth. These distributors must be prepared to take a leadership role, make significant investments and change methods currently accepted and expected in the distribution of MRO supplies.
Customers and distributors who accept the task of managing the supply chain rather than just working the existing system have the opportunity to realize productivity and savings that the present system cannot achieve.
FROM THE CUSTOMERS' PERSPECTIVE
In considering the supply chain, it is obvious that costs include much more than just acquisition costs that are developed in the Purchasing Department. Transportation, storage, handling, packaging, ordering, invoicing, paying and inventory ownership and other operational and administrative functions contribute costs.
When many suppliers are involved in the chain, these costs are paid by every participant and added to the price of the products. This realization and the emphasis that the Quality Process has provided on reducing variability in processes has lead to the current effort to reduce vendors. As customers prepare to place more business with the chosen distributors, they expect the distributor's role to change. The distributor must be prepared to take on new and expanded responsibilities in inventory ownership, material handling, paperless methods and in-plant deliveries.
To continue to improve, the customer expects the distributor to take the role of a consultant in cost savings. The typical adversarial role caused by the conservative bid buy method must be replaced with a joint management of the channel focused on reducing total costs.
There are many areas that must be considered to improve the efficiencies and reduce costs associated with managing the supply channel. Purchasing, store rooms, inventories, delivery, communications, products, pricing --- are some items that are usually significant.
Purchasing Departments are associated with the management of the supply chain and often don't have the authority to control many of the aspects that cause the costs. In future relationships, the management of this channel has the opportunity to change the MRO buyer from a clerk to a manager and expand the authority by being the key customer contact for the supplier. The two areas that Purchasing must consider are how will the needs of the end users be communicated and the resulting service monitored. Prices for products and services will be an integral part of Purchasing's value/cost analysis. Inventory reduction and services provided the end users will be key indicators to the productivity and quality of the channel management.
Store rooms and inventories must be reviewed. if the distributor can own the merchandise and furnish employees to operate these areas, costs may be reduced or eliminated. Often inventories can be kept at the distributor's location freeing up space when timely and consistent deliveries to the end user are established.
Deliveries to the end user by the distributor, bypassing Receiving and store rooms, not only saves customers' employees effort, but in many cases results in more timely service.
Communications from end user to distributor via EDI through third party or from computer to computer removes many steps in the ordering functions. Controls on order size and supervisor approvals can be built in to control and manage the process. Efficient management of these electronic systems can result in paperless systems that include invoiceless electronic funds transfer, etc.
Products that are involved can be cataloged and analyzed for standardization and duplications. As brand names become less important and quality is assured, the number of SKU's can be reduced.
Pricing distributor revenue is a major concern in the overall reduction of total procurement costs. Expectations of lower prices can be met by many of the techniques involved in the management process. Management fees for value added services is a practical way to unbundle cost and analyze the value of the services that generate the costs. Product prices and management fees can be managed to form the basis of a risk and reward cost reduction process. This process can be developed to identify the distributor to perform continuous cost improvements in order to earn more. This approach moves the distributor from the conventional how can we sell more at a higher price, to how can we lower the customer's cost so that we can make a higher return. This shared goal to lower the customers cost should be the essence of the customer/ distributor's management approach in a true alliance.
THE DISTRIBUTORS PERSPECTIVE
In the future distributors that have an objective to grow must consider the trend toward partnering alliances, integrated supply and similar arrangements. In the past, most industries were growing and expanding and a distributor could realize satisfactory growth by getting their share "of the market served." This is not the case today. Many industries are downsizing and consolidating. This, coupled with more productive products, has effectively eliminated much of the growth as we have known it in the past.
The distributor that grows will approach the market with a strategy that addresses distributor involvement in the management of the MRO supply channel.
A distributor must be in a position to respond to new and innovative approaches to:
- Computer Software Systems
- Delivery Systems
- Warehouse Resources
- Pricing Concepts
In many of these areas, the new approach will require significant investments.
A closer relationship with the customer involving inventories will generally require more investment, additional skills, new brands, and even the addition of commodity groups. When the redundancies of inventory are addressed, it is often necessary for the distributor to purchase the customer's existing inventory. The distributor must have the resources financially and the systems to manage the customer's inventory needs.
With the added responsibilities taken on by the distributor, it may be necessary to add people for these new duties. These additional personnel will often require skills not associated with usual distribution activities (i.e. inspection, in-plant delivery, and consultive selling approach to identify cost saving opportunities, etc.) Studies have shown that distributor personnel usually can afford a savings in salaries of 15% to 20% compared to plant personnel performing the same function when total salary and benefits are considered.
COMPUTER SOFTWARE SYSTEM
The degree of management and control afforded through modern distribution software is generally not available in customer systems. Order processing and inventory optimization are the primary goals of distribution software. When these features are incorporated through EDI or other communication techniques, the customer benefits. The investment necessary to develop these communication systems between customer and distributor can be costly but the productivity gains in the future may easily justify the effort and expense.
Delivery costs can be transferred from the customers to the distributor and the resulting increase in equipment and personnel can be included in the cost of the product or as an additional fee.
Warehouse space can be a significant savings for the customer and, in many instances, not increase the space required by the distributor since many of the items sold to the customer are already in stock at the distributor. In the event that new and additional products increase the need for more warehouse space, this can be justified through a comparison of the cost of space between a distributor warehouse and manufacturing space dedicated to MRO store rooms.
Pricing concepts associated with these new relationships can be the most innovative aspect of the agreement. To charge for services rather than just product, forces the distributor to know what the internal costs are. This information and an understanding of the customer's requirements can lead to meaningful pricing concepts. To put part of the revenue available at risk based on cost savings and/or performance is a challenge that is relatively new in the distribution industry. Not all distributors are equipped to install and manage this approach but those who expect to be involved in the management of the supply channel must develop this approach. As the alliance matures and extends into the future, customers will expect continuous improvement of the cost reduction process. The distributor must be able to perform in these areas through lower prices and increased productivity.
There is opportunity to change the paradigm and cultures associated with the procurement and ownership of MRO Supplies. End users and distributors alike are gaining knowledge on how these changes can be implemented. By forming an alliance to jointly manage the supply chain the MRO Distributors can be an important part of removing redundancy and reducing costs.