Supply chain: Strategic suppliers

While security of supply is important, there are many more factors involved in selecting strategic suppliers, says George F. Brown, Jr.

The major business implication of the earthquake and tsunami in Japan a year ago was a renewed awareness of the importance of security of supply. Soon after the March 2011 disaster, the business press began to report supply chain problems. We read of new car model introductions being delayed, multiple plants shuttered because of shortages of parts, and lengthening lead times for many products. Such problems have extended far beyond the electronics, auto, machinery, and chemicals industries where problems were first predicted.

The spotlight on security of supply was already there for many firms that were experiencing broken supply chains as a result of business failures and cutbacks during the 2008 to 2009 recession.

At a recent meeting, a senior executive with responsibility for the supply chain commented that his CEO had “clearly drunk the security of supply Kool-Aid”. When describing the priorities that were communicated to him as part of the annual planning process, he said the message to his organization was the equivalent of “Don’t even look at your cards, just go ‘all-in’.”

Suppliers are clearly important and the attention to security of supply is warranted, but going ‘all-in’ is as much of a mistake as failing to recognize the value that suppliers contribute. There are many approaches to security of supply, ranging from multiple source relationships to increased inventories.

Some supplier relationships are so critical that going ‘all-in’ with them is an appropriate decision. But security of supply is only one among many factors that define the rationale for such strategic supplier relationships. Rather than just pushing all of the chips to the middle of the table, the relationship should be managed in a way that motivates the best contributions of these strategic suppliers, asking far more of them than simply security of supply.

Getting to the shortlist
The first step in the process must be selecting suppliers of strategic importance. In experience after experience, we’ve found that the list of truly strategic suppliers is short, even for Fortune 100 firms. There may be many ingredients for which it is important to ensure security of supply, but most likely there are only a few instances in which establishing a strategic relationship with a supplier is the right route to that goal.

In CoDestiny, we provide a framework for identifying which of a firm’s suppliers are of strategic importance. Some achieve that stature as a result of their significance to the company’s strategy and operations. Others achieve it as a result of the importance placed on the supplier’s ingredient by the customer’s customers. A few suppliers score highly on both of these criteria. Among the metrics that go into the assessment of strategic importance are ones that assess the implications of supply disruptions, the availability of alternatives to the ingredients sourced from that supplier, and the impact on margins from price increases associated with such ingredients. 

The increased attention of C-level executives on the supply chain creates an opportunity for a comprehensive determination of which suppliers are strategically important. Supply chain executives should take advantage of this period of heightened attention to review suppliers and implement new relationship plans for those which make it onto the leaderboard in terms of strategic importance.

For the suppliers chosen as strategically important, the objective should be to motivate stronger contributions along the metrics that make them strategically important. In most instances, those metrics involve contributions that go far beyond the cost of their products and services or their ability to ensure an ongoing stream of on-time, in-full deliveries. 

The strategic contributions of suppliers span many dimensions. We have seen suppliers whose contributions are critical to their customer’s ability to shorten product development cycles and get new products to market quickly. We have seen suppliers that have helped their customers achieve breakout gains in energy efficiency and others who have enabled their customers to meet new environmental targets. We have seen still other suppliers play a vital role in helping their customers to enter a new geographic market with unique requirements due to regulation, culture, or other factors. The list of contributions involving factors other than product cost or security of supply is nearly endless, and it is in fact a rare corporation whose executives are unable to tell a ‘supplier success story’ in which a supplier contribution made a major difference to the customer’s market position and profitability.  

Yet unleashing the creativity of strategic suppliers challenges many firms. One reason is that the majority of suppliers are not strategic, so the processes developed to manage these relationships are often inconsistent with motivating collaboration with strategic suppliers. It often takes a new and unfamiliar approach by the supply chain organization to take strategic supplier relationships to a higher level. This is another reason why the ‘all-in’ approach must only be implemented with a carefully selected group of suppliers, those where an investment in a new approach to the relationship is likely to yield major rewards for the company’s shareholders. 

Implementing an ‘all-in’ relationship
The ‘all-in’ approach to the relationship with strategic suppliers is not a business-as-usual recommendation. Asking for more from suppliers, and getting it, poses some very real challenges that will task both of the organizations involved in the relationship. Reaching a new, higher level of contribution from suppliers will require new modes of behaviour and a new focus to many relationships.

Best practice approaches to strategic supplier relationships offer tremendous potential, however. One of the most effective practices involves taking a broader view of the supplier’s impacts on the customer organization. In various consulting projects, we’ve systematically mapped the way a supplier’s product connects to the customer’s operations and processes, trying to identify and quantify the ‘adjacency costs’ that are connected to the supplier’s product. In many instances, this mapping process has uncovered the reality that the adjacency costs are substantially larger than the price paid for the supplier’s product itself.

Such adjacency costs fall in many categories, depending on the industry and processes involved. Some of them are obvious—logistics, inventory, manufacturing costs tied to use of the supplier’s product and the quality control process costs associated with the supplier’s product. Other adjacency costs are a bit further removed—warranty and post-sale service costs linked to the supplier’s product, for example.

It takes imagination and hard work to trace all of the adjacency costs associated with a supplier’s product, but the rewards can be substantial. When these costs are understood, they provide a basis for a collaborative effort on the part of the supplier and the customer to find ways to ‘take these costs out’.

The opportunity generates excitement in suppliers. In one interview, a supplier commented that “We’ve been working for over a decade with this customer to try to find ways to continue to reduce the cost of a $10 component they buy from us. Now we are working with them to find out how to achieve savings in a $200 bundle of adjacency costs. For the first time in a long while, I think we can make some major contribution.” The perspective contained in this supplier’s comment underscores the benefits that can be realized. ‘All-in’ relationships are two-way commitments, and the supplier that wants to sustain a strategic relationship has a responsibility to bring value to the customer.

Often an immediate reaction to this concept is that the responsibility to manage these adjacency costs lies with the customer, not the supplier. This is shortsighted. In project work, we frequently see a supplier tell its customer that “We’ve seen that before in another application, and here’s what we can do to solve the problem”. A greater level of optimization is possible when a full system perspective is taken, and this is one of those instances. Involving the supplier in collaboration to reduce adjacency costs is just good business. It opens the door for greater contributions. 

Ensuring security of supply will challenge most businesses over the next few years. It will require an evaluation of which suppliers are truly strategic, and which are not, with security of supply being one among many factors involved. It will open the potential to elevate strategic relationships to an even higher level, solving not only the problem of security of supply, but also asking strategic suppliers themselves to go ‘all-in’ and begin to take actions that can contribute to growth and profitability for years to come. The payoff for both organizations from a fresh approach to the supplier-customer relationship can be enormous.

George F. Brown, CEO of Blue Canyon Partners, Inc. With extensive experience and unique perspectives about growth strategy, he has helped clients achieve global market presence and reach decisions relating to segmentation strategies, pricing, channel management, and major customer relationship management. He is the co-author of CoDestiny: Overcome Your Growth Challenges by Helping Your Customers Overcome Theirs.