Supplier Relationships: A New Angle Using Common Sense
David J. Hoover, C.P.M.
David J. Hoover, C.P.M., Purchasing & Contracting Manager, Aeroquip Corporation, Jackson, MI 49203-1972, 517/789-2711
81st Annual International Conference Proceedings - 1996 - Chicago, IL
The Issue. Since the mid-1980's, experts have identified "partnerships" as the leading edge technology within the field of purchasing and materials management. These closer relationships provide an opportunity for a heretofore unrealized level of value added by the supplier with which a partnership is forged. As this thinking has become more contemporary, purchasers are left with new challenges. How does one formulate partnerships? When? With which suppliers? Simultaneously, there appears to be a growing perception that if a buying organization is not seeing its relationships "evolve" into partnerships, something is radically wrong. It is important that the partnership be recognized for what it is: a tactical business tool purposely incorporated into an overall supply strategy for the purpose of resolving supply issues which pose obstacles to maximizing the buying firm's value.
Definition. For the purpose of understanding partnerships, it is important to recognize what procurement really is, as simple as that may seem. Purchasing is not the act of buying parts, materials and services at the best price, etc. Rather, more broadly, purchasing is the acquisition of assets, both tangible and intangible, which the firm cannot or chooses not to furnish itself. The assets acquired may include technology, access to new customers or markets, access to distribution or process competency. The most important aspect of the development of a supplier relationship is for purchasing to understand which assets are required by its firm from the supply firm.
The "Axioms". Three assumptions or axioms which are rather simplistic (and perhaps controversial) provide the framework for the development of supplier relationships relative to the assets one seeks to acquire:
- A firm deserves the suppliers it has
- Suppliers will be as good as they have to be
- The best way to get more is to ask for more
These axioms imply that it takes time and hard work to get the highest possible amount of value added from a supplier. The supplier will be willing to work within the relationship under the assumption that value will be added to its firm, e.g. more business, higher return on assets, new supply opportunities. But, for example, if the supply firm's objective is to increase business with its customer, it is unlikely that it will spend any more resources than absolutely necessary to achieve that objective. Other resources are better deployed elsewhere. Therefore, it is the absolute obligation of the buyer to challenge the supplier and encourage the supplier to reciprocate that challenge.
The Traditional Supplier Relationship Model. The traditional model of supplier relationships has at opposite poles the "adversarial" approach and the partnership with some hybrid relationship(s) in between. Historically, written articles and other forms of presentation of the concept of partnerships have tended to present a linear model of these relationships. That is, it depicts these relationships as a hierarchy with the assumption that the practitioner is responsible to oversee the evolution of each relationship from one level to the next until the partnership level is reached. As aforementioned, this is the common error in the study of supplier relationships. The danger is the implication that unless firms are actively developing dozens or more partnerships, that they have somehow been left behind, are missing something. This type of thinking endangers the success of the traditional, adversarial approach at a time when it is still very often the most appropriate relationship for a given procurement.
The Adversarial Supplier. Typically associated with commodity type items, the adversarial relationship is still appropriate when the assets required from the supply firm are simply a cost competitive, high quality part/material on time. This relationship offers the obvious benefit of having flexibility among multiple sources and an ability to utilize leverage to reduce the cost of the part/material. It is only necessary for that relationship to "evolve" if there compelling reasons for evolving it.
The "Cooperative" Relationship. Perhaps the buying firm needs assets beyond simply the part or material. Perhaps as a result of having to quote firm pricing to its customers over a long contract period, stability in material pricing is viewed as an asset. Or maybe in particular commodity areas, the reduction of the cost of administration is a specific objective, thereby initiating supplier rationalization. Within the context of these events, it is appropriate to work more closely with specifically chosen supplier to obtain these "assets". While typically manifested in the form of a long term contract, this development almost certainly cannot be accomplished by the purchasing department alone. Rather, information gathering must take place during which the new relationship will become validated or invalidated as a consensus is reached regarding which assets are necessary. It is important that Purchasing facilitate and lead this analysis.
The cooperative relationship is a higher maintenance relationship than the transactionally oriented adversarial type. They also can be more complicated as more people become involved, requiring that the effect of individual egos and agendas be mitigated. Summarily, the advantages derived from this type of relationship do not come free. Purchasing must be able to weigh the cost of acquiring assets versus the value of the asset in order to ensure the selection of the correct supplier for development. Most important, if the procurement situation is one within which only quality parts delivered on time at a fair price are required, a cooperative is likely unnecessary. Moreover, it is likely inappropriate. Cost should not be squandered developing the relationship further. Rather, the assets which would be utilized to develop a relationship for which no additional value added is required are better used elsewhere.
The Partnership. The development and use of partnerships represents perhaps the largest paradigm shift in supply management history. While taken nearly to the point of ruin in some industries, they are generally considered to be the most advantageous relationship to have with a supplier. However, they are only the most advantageous when the assets necessary to be acquired are such that a partnership is the best method tactically of acquiring them. No firm has (or should have) the necessary resources or interest in developing partnerships for partnerships' sake.
Partnerships, like cooperative relationships, do not evolve naturally. They require a substantial, sometimes exhaustive, investment in human resources. The development of goals sharing, resource sharing in the form of cross-functional teams and risk sharing require significant research and negotiation. The "evolution" which has taken place is that it is no longer price which is the focal point of the negotiation, but rather the basic parameters of the relationship. It is important to recognize that the partnership is not simply a long-term contract, the terms of which can be identified and negotiated up front. The fact that a partnership is part of the continuum of a purposeful evolution, by definition, implies that new issues will arise between the partners as the relationship develops synergistically.
What supply firm assets are so attractive to generate the interest in dedicating resources to the development of a partnership relationship with a supplier? It may be that the targeted supplier provides a part/material which is important strategically; strategic from the standpoint that it involves a technological expertise for which there exists no aptitude within the buying firm or it is the only supplier or one of few suppliers. Perhaps the product is similar to one of the supply firm's offerings and the result of process re-engineering at the supply firm is desirous. Alternatively, a partnership may be desirable because access to new markets is provided through the supplier. For example, a manufacturer of industrial compressors may seek partnership with a motor manufacturer for the purpose of utilizing the motor supplier's organization as a quasi sales arm for its own product, i.e. the compressor-motor "package" can be marketed to a customer base otherwise inaccessible to the compressor OEM for any number of reasons. As speed becomes a primary competitive weapon, it may be advantageous to develop a partner which has mastered the theory of zero set-up times, or is recognized as an industry leader in speed to market for new offerings.
Note that none of the above examples had anything to do with price, quality or other basic metrics. These are assumed. In fact, partnership should only be sought with a supplier which positions itself to be in synch with your firm's short-term and long-term objectives and has as its specific mission, a corporate desire to make your firm prosper.
The Risks of Partnership. The colossal investment of capital in the development of supplier partnerships is not without risk. The risks are, at a minimum, significant and have the potential to be catastrophic. A common failure is not having sufficient resources with which to support the partnership. Upper management cannot afford to lose interest. Teams must not be allowed to disintegrate. If one side or the other is not able to support the relationship, the other party will obviously not receive the expected value it anticipated from the relationship's formation.
Expert due diligence is required as a partnership begins to develop. This means both process and financial due diligence. The styles of management must be compatible so that a consensus can be maintained which defines which and how risks and rewards are to be shared. A supplier which cannot support itself financially is obviously not an attractive candidate as a partner unless within the framework of the partnership, the buying firm is willing to make an investment in the supplier. The investment may be financial or take the form of counsel necessary for the supplier to recover. Again, these decisions are made as a function of the desirability of the assets available to the buyer from the supplier as a result of the partnership.
The most advanced development of a partnership may involve cross-ownership, cooperative factories and the sharing and/or blending of technologies. Then legal issues such as anti-trust become an important consideration.
Finally, it is possible, despite all the research and development which takes place to facilitate the partnership, to simply miscalculate and select the wrong supplier.
"Divorce". Firms usually do not invest in the development of a partnership relationship with specific expectations that the arrangement will fail any more than a couple in love plans their wedding day with the expectation that the union will terminate in divorce. While some may consider the pre-nuptial agreement rather tacky, it must be recognized that a business organization has a mission to satisfy many stakeholders and its actions therefore cannot be driven by emotion. Common sense dictates not only that contingencies be developed for the possibility of a failure within a supplier partnership but that the essence of the partnership mandates that the partner be a part of that process, i.e. a "pre-nuptial agreement".
It is ironic that partnerships tend to fall apart for the same reasons as do marriages:
No more common interests/changes in priorities (the relationship gets "stale") Irreconcilable differences Infidelity
Within a partnership, it is possible that the monetary benefits expected at the outset do not materialize or that one party begins to make financial demands which are unacceptable to the other. Agreement cannot be reached on the most profitable deployment of capital. It is also possible that unanticipated or unpredictable changes in the marketplace or technology require one or both parties to move into a new direction, diminishing the value of the partnership to the level at which its benefits are exceeded by its costs. It is possible that an incompatibility of managements can develop, the relationship becomes (or is perceived to become) too one-sided or that one side is not living up to its end of the relationship (e.g. taking shortcuts which potentially compromise product quality or not sharing technology as promised). And finally, the introduction of a new, more attractive supplier with which to flirt can potentially lead to the abandonment of the partnership if it is determined that the new supplier has more to offer at a similar or lower cost.
The Bottom Line. The most important idea to understand is that it is inappropriate to conceptualize each buyer/supplier relationship as a continuum. It is entirely appropriate for some relationships to evolve into partnerships. It is equally appropriate that some do not. Given the investment required in the development of partnerships, it is most likely that a large number of a given firm's supplier relationships will be correctly adversarial in nature, some will be, by design, more cooperative and a very small minority will be partnerships. The type of relationship will be dictated by the assets sought by the buying firm. A partnership is simply a tactical approach to a total supply strategy. It is not itself the strategy.
The Role of Purchasing. It is because the above is true that Purchasing must be a strategic rather than tactical organization. The skill set of the purchaser, however, must be such that it provides strategic rather than only tactical value. The buyer must be able to contribute to the identification of assets which are vital to the firm and available either exclusively or at a lower cost, from a supply partner. Rather than execute a strategy defined by others, Purchasing must position itself to choreograph the acquisition of assets via the utilization of its own unique expertise. What tools should populate the buyer's toolbox?
Beyond the expected commercial knowledge such as the law which governs commercial transactions, ability to judge supplier competency, import/export procedures, cognizance of pending legislation, traffic/logistics considerations and others, the buyer requires at least two other important attributes:
- Complete product knowledge of the "products" available within the supply base and
- The ability to finesse/influence/negotiate/facilitate/broker
The word products is shown in quotation marks because the ability to find the right source for a part is no longer an adequate skill. The buyer, based upon the knowledge of his/her firm's strategic direction, must be able to identify and cultivate suppliers which possess all of the assets which are desired by the firm. If the asset is, for example, technological and as a result, beyond the level of expertise of the buyer, the buyer must be willing and able to lead or facilitate a supplier selection team. In addition, Purchasing must take the lead role in the identification and development of new opportunities for increased value added within existing suppliers regardless of the type of tactical relationship within which the supplier is engaged. Value added results, rather than simply effort, will drive Purchasing's elevation to the strategic level.
It is also expected that Purchasing should lead the development of the relationship and should strive for a win-win partnership. The skill of the purchaser is the ability to understand, in detail, the supplier's motivation for partnership. Recall, that the supplier must have specific motivation for its participation in this tactical arrangement since the supplier will only be as good as it has to be in order to meet its own objectives. The attribute which separates the professional buyer from others is the ability to maximize value by best understanding the minimum requirement for a supplier "win". Using a cost reduction generated by the supplier's continuous improvement effort as an example, the purchaser must be skilled at ascertaining whether more present and future value is added to the relationship and therefore his firm by:
- Splitting the savings 50%-50%
- Using some other split formula or allowing the supplier to keep all of it
- Assuming all the savings in exchange for a different contribution by the buyer (e.g. investment in new equipment to accelerate the savings relative to the sale of product to the supplier's other customers thereby increasing their profits)
- Keeping the savings in exchange for additional business opportunities
Obviously, the four possibilities listed above are a tiny subset of a myriad of options. The point is that under the correct circumstances, any of those or others can constitute a "win" for the supplier from the supplier's perspective. The buyer must be able to communicate to management, within its facilitation of the relationship, which disposition of the savings is appropriate given current conditions.
Summary. As most people engaged in procurement understand, the nature of the profession is no longer "three quotes and a cloud of dust". The value of the purchasing professional no longer is a function of an ability to quickly process paperwork. On the contrary, most contemporary organizations' purchasing department are outsourcing the transaction via purchasing cards or other mechanisms. As complicated as it has become, the essence of the process remains quite simple: the acquisition of assets which the firm cannot or chooses not to furnish itself. It is up to Purchasing to lead the identification of possible assets, appropriate apply the correct tactical approach for their acquisition then provide strategic management for all of the asset acquisition. Only then will Purchasing maximize its value added and only then will it reach its full potential within the organization.