Historically, organizations teach, incentivize, and reward procurement professionals based on their annual savings or cost avoidances, in essence, rewarding the lowest costs they could attain. While cost is still king today, we as a procurement community need to be more conscious of the bigger picture and get away from the “lowest-cost, best-option” mindset that is currently attained mostly through reducing suppliers’ profit margins. While the lowest-cost option may provide the best value short term, it will not necessarily be the lowest-cost option for the long term.
Analysis of the total cost of a supply opportunity is critical. Too many qualified suppliers are overlooked early on in a sourcing decision because most procurement professionals only focus on cost alone. Thus, procurement executives should teach their teams to think long term and look at the bigger supply picture. A low piece cost may be similar to a shot of adrenaline, but it should also raise questions for the “other” costs that will inevitably surface as “surprises” later in the relationship.
This alternative perspective, to move beyond focusing on piece price alone, may be a major culture change, but procurement executives must teach, incentivize, and reward their teams based on the number of true supply partners they develop and partner with to drive cost out of the supply chain.
Supplier development is the key to setting up your company for long-term success. Not only will it give you better overall costs in the long-run, but it also gives you trusted partners to do business with, and trusted suppliers understand your requirements (commercial, quality, shipping etc.).
Teaching, incentivizing, and rewarding your procurement team members for properly developing suppliers should be the number one priority of an organization’s procurement leader. Creating a plan and process on day one with your team, along with any new members in the future, will be fundamental to sustaining a successful sourcing strategy and supplier development plan. Teaching your team and making sure they understand the following supplier development techniques will put you and your company in a great position to succeed.
Procurement leaders should ensure their teams have a “supply partner” mindset, in contrast to that of a “supplier” mindset, where they are incentivized and rewarded based on the number of suppliers they develop, and the resulting costs reduced in the supply chain, instead of being motivated to reduce costs from suppliers’ profit margins. Focusing on total cost of ownership, supplier performance, and developing partnerships will ensure the proper development of suppliers, which are key areas that each procurement team member should be understand.
Total Cost of Ownership
A primary factor in selecting and developing the right supplier for your company is overall value. Remember, cost should not be the only driver for supplier selection. Instead, a procurement team should focus on the total cost of ownership when it comes to a supply opportunity where an organization is looking to source a new supplier. Total cost of ownership includes both qualitative and quantitative factors that should be considered when selecting the right partner. The right supplier for your organization may be completely different than the right supplier for an organization down the road.
Keep in mind every organization has different categories that make up their total cost of ownership. When analyzing the total cost of ownership of a supply opportunity to source a new supplier, a procurement team should be well-versed in the following areas:
- Payment terms
- Supplier location (in relevance to your facility)
- Quality processes and certifications
- Customer service
- Responsiveness and communication
- Lead time commitments
- Shipping requirements
- Cost optimization and resource saving
- Pricing and costs
Selecting a supplier on cost alone will only get you into trouble as time goes on. Do not be afraid to delay a sourcing decision if you are not comfortable moving forward with a supplier due to poor performance in other areas, even if their pricing is the best.
Another important step that a sourcing team should be cognizant of in the supplier development process is developing audit and assessment tools. These tools allow your team to analyze a supplier’s total cost of ownership in greater detail. Best-in-class organizations conduct audits throughout multiple stages of the manufacturer/supplier relationship, not just at the beginning. However, the first audit(s) and assessment(s) are likely the ones that will determine whether a supplier is worth the risk of developing.
A procurement professional and/or quality representative should always be present at the first supplier audit and should always conduct an audit before any commitment or purchase order is issued to a supplier. This first audit will confirm that the supplier does not have any significant compliance or quality system failures that could affect the ability to produce top-quality products. Another reason to conduct the audit beforehand is to understand the supplier’s strengths and weaknesses before the relationship becomes official. Even after the contract is signed, a procurement professional and/or quality representative should continue auditing and assessing, based on the importance of items within your relationship.
Another tool procurement professionals should utilize with new suppliers is a self-assessment survey or questionnaire. The supplier self-assessment can be used to identify high-level misconceptions and performance gaps, as well as discover how the supplier understands their own operation.
Have your team discuss metrics and/or KPI’s with the potential supplier up front so they are agreed upon at the beginning of the relationship, leaving no room for surprises, at either end, later in the relationship. Examples of these metrics include on-time delivery, rejected lots, perfect shipments, and documentation errors. The metrics selected should measure the total cost of ownership and improve performance toward the finished product.
The ultimate goal for your organization and team would be to develop all your suppliers into partners. As mentioned before, your team should have the “supply partner” mindset, as opposed to a “supplier” mindset. Ultimately, the overall relationship is at its best when a strategic partnership is formed, allowing full disclosure of sources, processes, lead times, suppliers, and costs, ensuring continuous high-quality supply. With a strong business partnership, a supplier is more likely to anticipate what is needed from your organization and begin to take the leadership role in communication; notify your organization if problems occur that limit production availability, or if a quality issue has been identified; and communicate production delays when downtime or maintenance is required. This is a strategic partnership, once properly developed, that allows for an increased understanding and mutual benefits for both parties. This partnership will cultivate stronger commitments and encourage a greater interest in success for material and finished goods.
There will also be a common goal to drive out costs in the supply chain via Kaizen events through closer collaboration. Suppliers appreciate an organization more and will be more likely to work with it (on a multitude of fronts) if they know they have a respected partner that desires to improve both organizations.
The key to developing strategic partnerships is transparency and communication. Communicate, communicate, communicate. This cannot be emphasized enough. Communication will create transparency for both sides and prevent hiccups or missteps, like an incorrect inventory count or missing purchase orders. Having the right tools in place that allow both internal and external teams to quickly communicate and share documents (along with other information) will help facilitate a more transparent, balanced conversation.
In summary, teaching, incentivizing, and rewarding a procurement team to develop suppliers to drive cost out of the supply chain is of utmost importance to an organization. It is not all about cost, in fact, cost is only a small factor in the entire equation. Teach your team to develop suppliers by analyzing the total cost of ownership, identifying and maintaining supplier performance metrics, and developing strategic partnerships through transparent communication. Instill a “supply partner” mindset in your procurement team and eliminate the “supplier” mindset; your organization needs strategic partners, not suppliers.