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Global sourcing: broadening your supply horizons.

Over the last few years, the pressures of globalized business, combined with countless sourcing bargains in previously untapped regions of the world, has driven many companies to expand their purchasing efforts beyond traditional domestic and international supply bases. Should you? This article will help you answer that question by explaining what global sourcing is and how to know if you need it.

ABC Ltd. is headquartered outside Tokyo but owned by a triumvirate of Japanese, British and German interests. The Tokyo office is administrative only - no factory, no warehouse. The main plant is in Mexico City, where labor is inexpensive and access to materials is ensured. Other major plants are in Glasgow, Cleveland and Prague.

ABC's international bent doesn't stop there; it sources raw materials and components globally. Each plant executes a purchasing strategy that ensures it gets the best deal, wherever in the world that may be: rubber from Singapore; fabricated metals from Galati, Hungary; steel from Venezuela; and more.

ABC claims the payoffs only start with reduced costs. It expects even more benefits in the next decade as cooperation among the members of the supply chain increases.

Closer Supplier/Customer

Relationships

Every company needs a successful supplier program. With purchased material typically the largest category of cost in many products, it is impossible to gain and sustain a competitive advantage without a vigorous sourcing program. That's why effective purchasing professionals aggressively pursue the best value for their companies.

During the 1980s, the focus of many purchasing strategies was to narrow the supplier base, establishing single sources of supply and creating supplier partnerships. These strategies were rooted in a number of significant advantages that are still valid.

Partnerships allow original equipment manufacturers to exploit the engineering, quality improvement, cost competitiveness and technology of their suppliers. They allow the two companies to jointly seek programs that will reduce the total cost of the product to the ultimate end user.

Single sourcing also allows establishment of close communications, using technologies such as electronic data interchange to link production and delivery schedules between customer and supplier. This makes it easier to forecast requirements and creates the opportunity to reduce total system inventory. It also eliminates hordes of expediters tracking parts around the country.

Using fewer sources can also result in reduced administrative expense associated with ordering, invoicing, receiving, inventory control and other activities. Obviously, the fewer the number of suppliers, the less paperwork that needs to be processed.

Yet even these well-intentioned programs have risks. They are not guaranteed to always reduce the total cost of the product. Problems that have been observed include customer/supplier price negotiation gravitating to a focus on cost-and-profit margin without price competition. Most companies have their hands full managing their own operating cost, and the extra task of ensuring that suppliers are managing theirs is burdensome. It is just one piece of analysis that never gets done.

Also, implementing initiatives such as supplier partnerships and single sourcing often becomes the purchasing organization's prime objective and, like all simplistic goals, can result in lost business perspective. For example, while implementing a global sourcing program, a company identified a new supplier for a key engine part at half the cost, at better quality and with more than $1 million annual savings. The sales representative from the newly identified supplier was asked why he hadn't knocked on the door years earlier. He answered, "I couldn't get an appointment with the buyer because our company isn't on your approved supplier list."

So how does a company today balance all these elements to establish an effective and efficient purchasing function?

According to an A.T. Kearney study, best practice companies have been successful in consistently reducing the cost of their purchased products. In fact, best practice companies consistently achieved a 20 to 30 percent improvement over the past three years. Figure One shows the strategies those companies employed and the range of cost savings achieved from each. Global sourcing yielded one of the highest returns.

What Global Sourcing Is - and Isn't Primarily, global sourcing is re-examining purchasing strategies for the majority of a company's purchased material cost base to determine whether the sourcing should change in light of global supply economics and a global supply base. This expanded supply base includes not only domestic suppliers - the current suppliers and those yet untapped - but also the major alternatives outside the domestic marketplace. Global sourcing initially concentrates on parts currently purchased but ultimately encompasses the design and engineering phases, in which sourcing decisions are made for new components. Its goal is to seek out premier suppliers worldwide on the basis of price, quality, technology and delivery reliability. It is a systematic, open and fact-driven process. It bypasses sacred cows, tradition, lethargy and resistance to change.

Global sourcing is not an exercise in finding cheap sources of supply or suppliers of questionable quality in the backwaters of the world. It is a process companies can use to select the suppliers that offer the best value.

In fact, to the surprise of many skeptics, 50 to 60 percent of savings in global sourcing programs are the result of existing suppliers improving their price to world-class levels. Global sourcing does not automatically mean companies must switch to lower cost suppliers offshore, but it provides the leverage to renegotiate price, quality and service with current suppliers.

Another 10 to 20 percent of the savings result from shifting to higher quality, lower cost suppliers locally. By searching far and wide, companies may find their best suppliers around the corner. The global sourcing process lets current and potential suppliers know their bids will be seriously considered, and contracts will be awarded based on thorough business analysis. It's not a market test to get competitive prices to use in discussions with current suppliers.

The buyer is in a strong position, knowing the world price/quality level for the exact components under negotiation. The process employs additional negotiating strategies that further increase the buyer's leverage in negotiations, including bundling part families to gain scale benefits and multiyear commitments.

Global sourcing exposes buying decisions previously made deep within the organization, forcing multidisciplinary participation from everyone from purchasing, engineering and manufacturing through upper management. It also regulates these decisions by feeding them through a logical path. But global sourcing does not stop with decisions; it follows them through sample testing, acceptance and into production, identifying and correcting impediments to timely realization of the expected savings.

McCormick's Experience

For example, McCormick & Co. redesigned its spice purchasing system primarily to ensure high quality products and satisfied customers. The system incorporates elements of total quality management and supplier partnering as it follows each raw material from planting to sale. By choosing suppliers for quality and performance and then working with those suppliers to control costs and increase efficiency, McCormick both improved and stabilized its sourcing needs. Thus far, the company sources its spices in China, Morocco, India, Spain, Turkey, Israel, Egypt, Pakistan, Mexico and Indonesia. It has a different kind of arrangement with its supplier in each country - from joint venture to consultant - and remains deeply involved at each step in processing and delivery. McCormick believes the $1 million annual increase in procurement budgets - as well as the collateral expenses of travel and technology - more than pays off in terms of improved materials, delivery performance and quality.

Despite its name and reputation, global sourcing acknowledges that, given the realities of logistics and the host of elements that contribute to total costs, the balance is heavily in favor of domestic and local suppliers. Current suppliers are further favored by the time and cost involved in tooling and bringing on-stream new suppliers. That's why offshore sourcing in most companies has been limited to situations in which the local supply base has fallen behind its offshore competition in manufacturing effectiveness or technology.

Finally, and perhaps most important, global sourcing isn't easy. It's a time-consuming and laborious undertaking for any organization. All the data collected - and there are millions of pieces of information needed to effectively manage a program like this even in a midsize company - must be organized in databases. These databases are used in purchasing systems and engineering; to screen candidate parts based on volume, testing time, technology, transportation costs and other "filters;" to track the status of parts launched into the process; and more. For example, an automotive business that wanted to undertake a truly global search for components would need to assemble a database of more than 10,000 automotive suppliers.

Key Factors

The opportunity to improve competitiveness using global sourcing depends on location, the products purchased, the competitive nature of the supply markets for those products, and the strategies employed to reduce total costs. It clearly helps to be in economies that facilitate global sourcing and to target products with high potential for value improvement, but the company that never asks for concessions will never get them!

The economies in which global sourcing has been given a real boost are those that have seen their borders change. For example, global sourcing has taken off in the European Community, in China, among Latin American countries that have reduced trade restrictions such as Brazil, and in the former Eastern Bloc countries.

In the 1990s, the Brazilian government is dismantling many of its trade barriers and moving toward a free market system. The effect on manufacturers in Brazil has been devastating. For example, after years of protectionism, a manufacturer's purchasing department was unprepared to globally identify low-cost, high-quality parts. It isn't simply a matter of finding foreign suppliers to lower costs; the company had to start by equipping the purchasing staff with the tools necessary to do that, such as language, management and negotiating skills, and information systems and procedures. Thus far, on parts secured globally the company is saving an average of 30 percent of landed costs, including tariffs, logistics, etc. That adds up to around $1,50 million annually. Kearney estimates many manufacturers in Brazil could save at least 10 to 15 percent of total purchasing costs by sourcing globally, and companies operating in other countries could garner similar or even greater savings.

Ripe for Global Sourcing

Combining new world trade opportunities with certain structural characteristics within a company increases the success of reducing costs through global sourcing. Companies that have reaped the most benefits have the following characteristics:

* A high percentage of costs in purchased materials (often more than 55 percent of manufacturing costs]

* Complex bills of materials and a large volume of individual parts

* A sudden opportunity to expand the market base - for example, a new free market economy or the removal of trade restrictions or tariffs

The magnitude of the opportunity will depend on three main factors: type of material purchased and demand and supply dynamics.

Type of material purchased - Good candidate parts for global sourcing are high volume, low value added, standardized components with a high variance tolerance. Weak candidate parts are low volume, high value added special products that are made to tight company specifications.

Demand dynamics - parts with long life cycles, predictable demand and dozens of sources have high global sourcing potential. Parts with short life cycles, erratic demand and very few sources have considerably smaller potential.

Supply dynamics - Globally sourced parts should be part of a competitive market. Also, the higher the current supplier's profitability, the more likely a price concession can be realized. On average, for every low- to medium-technology component, there are at least five suppliers around the world offering comparable quality at lower (as much as 20 percent) landed net cost.

The auto makers and associated industries are so far the most ambitious global sourcers. The glass-smooth bumpers on the Porsche Carrera couldn't have been practicable, cites their maker, DuPont, without global sourcing initiatives. The difference was that the bumpers could actually be profitable - not a costly experiment to lure new business. DuPont sourced the polymers for the state-of-the-art bumpers in Luxembourg and compounded them in Belgium, developed and tested prototype molds in Detroit, conducted chemical tests in Delaware and Japan and finally made the bumpers in several German custom shops.

The electronics, computer, international apparel and pharmaceutical industries are others leading the pack in committing to global sourcing. A General Electric unit in Massachusetts established a division specifically to ensure a global and integrated focus to product development, marketing programs, and resource procurement and deployment worldwide. In the pharmaceutical industry, Baxter Healthcare formed an international trade management division to develop international business relationships, including suppliers.

Prerequisite to Successful

Global Sourcing

Obviously, not every company is prepared to conduct an effective global sourcing program. Some companies have not yet developed the structure, perspective or even the need for that kind of investment.

To help a company determine its readiness for growth, A.T. Kearney has developed a framework for business analysis called "Stages of Excellence." Based on a series of diagnostic steps, the stages provide a means of evaluating the overall current positioning of a company or function, where it needs to be and a road map for getting there.

One aspect of this framework considers the purchasing function. It identifies the four stages corporations traverse on the way to world-class performance. A variety of factors - from supplier training and assessment to quality programs to contract negotiation - is evaluated and ranked in each stage (Figure 21.) The results help position the purchasing function within the four stages.

The company's strengths and weaknesses in each category are then assessed, and the work needed to develop from one stage to another is determined. Experience shows that a function doesn't move from stage to stage overnight. Typically, it progresses slowly by formulating and executing a visionary strategic plan designed to get the company from here to there. For example:

* To ensure standardization and supplier reliability, a Stage I purchasing organization may establish guidelines for acceptable quality and price that must be adhered to by its "preferred suppliers."

* To enhance the organization's service to customers, a Stage II purchaser may request the participation of suppliers early-on in the design and engineering phases.

* To achieve and sustain a value-added role in the organization, Stage III purchasers may actively search for ideal partner/suppliers globally with which they can share data through EDI and share responsibility for quality, cost and customer satisfaction.

Based on this framework, establishing a global sourcing program is associated with Stage II. That means a company does not have to have a leading supplier management program in place before benefiting from sourcing globally. However, Stage III and IV companies can combine these benefits with others throughout the firm for more integrated overall savings.

An Important Concept

Consider that 55 to 65 percent of the average manufacturer's total costs are represented by purchased materials. But currently only 5 to 10 percent of materials are sourced globally. The other 90 percent, probably bought from a supplier with a 10-year or longer history of serving the company, are either not competitively purchased or tested only against randomly chosen suppliers. The savings potential within that 90 percent is significant, even if the company doesn't change suppliers!

Although global sourcing appears to directly contradict the popular and valid concepts of supplier partnering and single sourcing, experience has shown that it is a complementary program. If a company is partnered with the right suppliers, global sourcing efforts will confirm the partnership. But without competition, partnering tends to favor the supplier, and global sourcing programs can provide the necessary balance and leverage. Global sourcing uncovers the best partners for each part family or component with which a company can build mutually beneficial partnerships for the future.*

LAWRENCE F. KOHN is a vice president of A. T. Kearney, Inc., a global management consulting firm based in Chicago, Illinois. He specializes in purchasing and global sourcing, logistics, operational and organizational effectiveness, and customer service and profitability.
COPYRIGHT 1993 California State University, Los Angeles
No portion of this article can be reproduced without the express written permission from the copyright holder.
Copyright 1993 Gale, Cengage Learning. All rights reserved.

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Title Annotation:efficacy of purchasing from worldwide supply sources
Author:Kohn, Lawrence F.
Publication:Business Forum
Date:Jan 1, 1993
Words:2639
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