You've just been handed the 1999 business plan, and as the head of purchasing you discover that you have a 10-percent material cost-reduction task, a 25-percent supplier quality-improvement target, and a mandate to reduce your overhead budget by 10 percent. Do you update your resume now, or is there hope?

The Winter 1998 issue of Supply Chain Management Review ¹ outlined many of the opportunity areas that might help you reach these goals. But how do you pull all of the elements together, and how do you gain the organizational support necessary to make it all work? The answers may be out there already. Some of the largest buying organizations in the world (and even some of the smallest) have found a way to integrate a total procurement strategy into their business planning process.

This article, based on the author's own work experience, highlights how leading companies in the automotive industry have successfully pursued an integration strategy. It also offers insights and observations on the strategic purchasing process from the purchasing professionals themselves in these organizations. Though the examples are mainly industry-specific, the underlying principles can be applied to virtually any supply chain professional seeking to enhance the value provided by the procurement function.

Anyone who doubts the powerful potential of strategic purchasing need only look at Ford Motor Company. In 1997, Ford recorded record quarterly and annual profits. Volumes were up as well, adding to the rosy performance picture. Ford's combined profits for all divisions in 1997 were $6.9 billion.² Net income from worldwide automotive operations was $4.7 billion, and from U.S. automotive operations $3.7 billion. During the same period, Ford production purchasing reached an annual material-cost—reduction goal of approximately 3 percent.... Ford's total 1998 North American automotive cost reduction, including material savings, equaled $3 billion.³

These savings happened not by luck, but rather by an aggressive supplier-development strategy and cost-control initiatives championed by Carlos Mazzorin, Ford's vice president of purchasing. The road to these cost-reduction goals was paved with effective supplier-selection techniques, process-improvement initiatives, aggressive consolidation activities, and an integrated approach to supply chain management. Assuming a gross profit at Ford of 20 percent, the material savings generated by these purchasing-centered initiatives would have translated to additional sales of $11 billion, an 8-percent increase in total sales.

Material costs at Ford are equal to 52.5 percent of sales, or approximately 65 percent of total cost—a typical ratio for many U.S.-based manufacturers.⁴ Recognizing the magnitude of this number, many companies now are positioning purchasing as a critical determinant of business success. That's a far cry from the "administrative" order-placement pigeonholing of the function not all that many years ago. Yet while it's true that purchasing increasingly is seen in a strategic light, it is also unfortunately true that many managers working in this field lack the skills to creatively and decisively assume a lead strategic role. All can readily discern the low-priced supplier from the high-priced. But many are unable or unwilling to select the right low-cost supplier.

Selecting the right supplier really means determining who will provide the greatest total value. Evaluating total value begins with "hard" cost items, such as material price and logistics costs. But it doesn't end there. Sourcing decisions also must carefully consider the "soft" elements—the supplier's ability to support design needs, pricing targets, quality requirements, and so on. Each element has a cost impact that can and must be evaluated. Unfortunately, the evaluation of these soft factors occurs haphazardly—and usually after a pricing-based selection has been made.

To illustrate, nearly all major manufacturing organizations have a supplier-development and -certification scheme.⁵ However, the activities associated with these programs typically are employed after the supplier has already begun to ship parts. To drive cost from the system at inception, suppliers must be chosen based on their ability to deliver the needed performance characteristics to the buyer. This analysis must be done before any part is shipped, or any purchase order written.

With a clear understanding of the dollars involved and an appreciation of the advantages of value at low cost over low cost alone, managers can embark on their journey toward purchasing integration. Importantly, as they do so, they also need to learn how to think "holistically." This means looking beyond the short-term price-related reductions toward longer-term, sustainable supply improvements in both cost and quality. It also means creating a formalized action plan. Companies that have been able to create and execute an effective plan have recorded both short- and long-term successes.

The Donnelly Corporation provides an instructive example. In 1995, the company began the task of centralizing its three independent U.S.-based purchasing operations in an effort to leverage opportunities resulting from increased industry sales. Although posting less than $1 billion in sales at the time, Donnelly was significantly increasing its presence in the Tier One automotive world. Under the decentralized structure, the material costs typically were rising at the rate of inflation, and some limited savings were being realized.

In 1996, Donnelly's newly centralized purchasing activity created its first strategic plan, the "Donnelly Procurement Plan." By the end of 1997, the company was able to see a 5.2-percent swing in projected materials cost, a 25-percent improvement in supplier quality measures, and was on target for a 50-percent reduction in the size of its production supply base. The procurement plan through which Donnelly achieved these improvements mirrored that of its major customers, including Chrysler, Ford, and other automotive industry leaders.

The strategic plan adopted by these companies incorporated five key components: supply-base development, supplier quality/development, cost management and control, logistics and material management, and organizational structure. Each of these elements is discussed below.

Supply-Base Development

As every buyer knows, selecting the lowest-priced supplier is easy; the challenge is to select the right supplier. The right suppliers are identified through benchmarking and comparative analysis. Cross-functional teams consisting of representatives from purchasing, supplier quality, design engineering, and program management define the characteristics necessary to support current and future business needs, while eliminating problem areas that may have been experienced in the past.

These characteristics include design and development capability, manufacturing know-how and flexibility, product and process quality practices, program management and launch capabilities, management depth and knowledge, financial stability, and, of course, cost competitiveness. By defining the standards in each of these areas, the teams are able to preselect suppliers who will add the highest value to the relationship while contributing to bottom-line profitability.

This systematic process, often referred to as supplier benchmarking analysis, has been used successfully at Ford. In mid-1989, Ford Purchasing Agent Dave Stevens developed a "soft metrics" supplier review methodology to select key long-term injection-molding vendors for the automaker's interior trim operation. Through this process, Ford was able to reduce the supply base from more than 125 suppliers to 12. "Commodity drivers will structure the way in which the benchmarking process is approached," says Stevens. "The team decides what needs are most important and adapts its score weighting to reflect those commodity needs. Why pay for something in the suppliers' cost structure when it may not be necessary for a particular commodity?"

More recently, the core purchasing activity in which Stevens currently works has reduced the stampings supply base from 150 suppliers to 11. Of those 11, seven are minority owned, supporting Ford's supplier diversity efforts. The stampings operation, by the way, is responsible for more than $2 billion in purchases.

Similarly, Donnelly used the same benchmarking process to reduce its injection-molding supply base from more than 35 to 5, and its stampings supply base from 21 to 6.

Supplier Quality/Development

This component of the strategic plan is really an extension of supply-base management. Whereas the benchmarking metrics applied in supply-base development are "soft," the measures to evaluate and improve ongoing supplier performance are "hard." The strategy behind supplier quality or supplier development is not one of addressing tactical quality problems, but rather of building a "best in class" level of quality expectations, measures, and performance.

The defined quality metrics, such as parts per million (ppm) reject rates, delivery performance measures, quality certifications, and other quantifiable expectations facilitate ongoing supplier stratification. Strategic supplier development is geared toward "systemic" supplier quality improvement and problem resolution, rather than resolving day-to-day issues. Through the use of quality planning tools, such as Advanced Product Quality Planning (APQP), Quality Functional Deployment (QFD), and root-cause problem analysis, strategic supplier-development engineers can effectively function as technical consultants to resolve recurring supplier quality issues.

In enhancing quality performance, a supplier stratification methodology focuses on specific, prioritized needs by supplier—a rifle approach versus a shotgun approach. A stratification methodology used successfully in the automotive industry defines four categories of suppliers:

1. Preferred Partner: Supplier who meets all supplier standards, launch performance requirements, quality specifications, and so forth.
2. Associate Partner: Supplier is generally consistent and predictable in performance with occasional quality issues.
3. Probationary Partner: Supplier with quality problems that has acceptable improvement plans.
4. Transition Supplier: Supplier with deficit performance and no development plans in place.

Each of the performance metrics is applied to this stratification methodology, the final level being determined by the lowest rating. For example, if the supplier's ratings for delivery, technical support, and commercial support all fall in the preferred partner category, but the quality rating falls in the probationary category, that supplier would be classified as a probationary partner. Depending on the supplier's stratification category and any problem areas that need to be addressed, individualized corrective action plans are initiated.

Importantly, all sourcing decisions are based upon the stratification levels. Only preferred and associate suppliers are eligible for new business sourcing; probationary suppliers may retain current business; and transition suppliers are phased out of the supply base. "The use of supply-base stratification forces the suppliers to focus on all areas of their business," says Steve Lambert, director of materials for Donnelly North America, which uses this technique. "With stratification, our suppliers clearly understand the standards they must meet to receive new business—the standards that affect our success."

Use of industry standards simplifies the issue of supplier quality performance vs. expectations. In the case of my own company, for example, Automotive Industry Action Group (AIAG) standards will be used as the basis for all supplier quality standards. This approach ensures compliance with varying customer requirements through the common standards. These standards also facilitate an annual review process through which senior management can clearly understand the status of quality-related issues as well as the progress being made. They also provide a common reference for the approval and entry of new suppliers when necessary to ensure a "dynamic" supply base.

Exhibit 1 illustrates the supply-base development process. It is led by the "soft" metric benchmarking and consolidation activities and then followed by the "hard" metric stratification and supplier approval process.

Cost Management/Cost Control

Most purchasing activities concentrate on—and are measured against—this element. Through the integration of cost management and control as part of a procurement plan, normally disconnected cost-containment practices can be institutionalized and linked to drive total value chain management. Most successful sustained cost-management (long-term savings) and cost-control (immediate-term savings) plans include a formal commodity- and supplier-review scheme.

A successful strategic plan for 1998, for example, might incorporate the following cost-management and cost-control components:

1. Supplier cost-management plan. This tool simplifies the planning and tracking of cost savings in support of the company business plan. Key features of the supplier cost-management plan, depicted in Exhibit 2, would focus on the following activities:
   
   • Set long-term supplier agreements, derived from complete benchmarking studies, to establish base committed savings levels.
   • Match company business plan requirements to committed savings level to define total required material savings.
   • Review commodity market data and historical cost-reduction patterns.
   • Analyze supplier and commodity savings in light of market and business-plan expectations.
   • On a quarterly basis, review suppliers or commodities falling short of requirement; take appropriate corrective actions to close gaps identified.
2. Cost target setting. This technique facilitates strategic shifts in sourcing decisions. The development of price-based targets for component costs allows "presourcing" based upon preferred supplier status, without competitive quotes and without firm designs. The related activities are:
   
   • Set price-based costing/target to achieve customer price and meet internal profitability rates.
   • From a surrogate component database, apply a 90-percent solution to eliminate "reinvention" of components or costing models.
   • Use design for assembly (DFA) and design for manufacturing (DFM) estimating models to verify 10-percent refinement to meet total customer needs.
   • Apply logic-based detail quote analysis and pricing techniques to verify final design cost and target conformance.
3. Value management. Value management is a culmination of a series of "cost reduction/value enhancing" tools for near- and long-term cost improvements. By integrating value management thinking as an ongoing procurement initiative, "bookshelf" experience becomes available to avoid future cost penalties. Value management typically centers on product design and engineering specifications. Activities associated with value management include the following:
   
   • Applying value-engineering (VE) and value-analysis (VA) tools to uncover additional savings opportunities.
   • Developing a linkage methodology to capture lessons learned for use with future products.
   • Using VE/VA data to forecast savings implementation.
   • Establishing individual commodity and supplier value management goals.
4. Process improvement. What value management is to product design savings, process improvement is to "shop flow" initiatives. This is probably the least pursued of the available cost-saving techniques. Design savings are easiest to realize because they are geared to optimize performance in a known manufacturing environment. Process improvement is more difficult to achieve, however, because it demands a whole new way of thinking to break through traditional manufacturing paradigms and assumptions. Using formal process-improvement methodologies vs. a one-time manufacturing engineering assessment provides for ongoing adjustment savings. Many leading Japanese companies emphasize process improvement. The Toyota production system, for example, is based on continuous process refinement and improvements.

Process improvements can be achieved through the following actions:

• Utilizing supplier-directed process-improvement techniques such as Kaizen and other lean manufacturing techniques.
• Institutionalizing process improvement mentality and effectiveness measurement techniques.
• Linking process-improvement gains with design for assembly/design for manufacturing modeling and logic-based costing.

Logistics and Materials Management

Often overlooked as a strategic cost driver, logistics and materials management is a critical element of the strategic procurement plan. Most purchasing organizations, including the senior management in those organizations, are unaware of the total logistics costs of their material purchases. These go well beyond inbound transportation costs alone. They also include the costs associated with manufacturing downtime and inefficiencies that may result from supplier performance—or, more accurately, lack of performance. Manufacturing's ability to cost effectively meet customers' time requirements is heavily dependent on the suppliers' logistics performance.

In the automotive supply base, for example, inbound transportation costs of 2 percent of purchase cost generally are considered competitive. However, there is little quantification of cost standards for such activities as handling, storage, and dunnage disposal.

Integration of the related functions can help companies get a handle on these costs. Donnelly Corporation, to cite one successful example, has integrated its purchasing, supplier development, and logistics management into one functional area. The company has developed customer-based logistics teams to manage logistics and material handling in support of the marketing and operational organizations.

Beginning in 1996, Donnelly began restructuring its logistics organization based on lean manufacturing principles. By applying pull system methodologies, fixed inventory locations, storefronts, min/max inventory markers, and other techniques, it improved order-fill—rate time by 35 percent. The resulting labor and facility efficiencies let the company focus more intensely on cost-saving opportunities. Donnelly's inbound transportation costs in 1997 improved to 0.8 percent of purchased part costs. Utilization of the private over-the-road fleet (14 rigs) exceeded 98 percent for the year. Inventory accuracy and inventory turns on incoming materials improved to the extent that shortships caused by suppliers had been virtually eliminated.

Donnelly's efforts centered on two basic initiatives.

1. Inventory Flow and Storage
   
   • Establish "visual factory" inventory management and control.
   • Establish min/max Kanban pull methodologies to manufacturing and suppliers.
   • Optimize "milk run" delivery lanes for maximum fleet utilization.
2. Fleet Utilization
   
   • Evaluate total inbound cost characteristics vs. industry benchmark.
   • Streamline material flow and lean lane methodologies to eliminate redundant move and handling activities.
   • Manage milk run allocations by product drive demands.
   • Evaluate dedicated in-house ship and space lease vs. common carrier costs.
   • Assess supplier ship point locations vis-à-vis manufacturing use point.

Other industry leaders have pursued similar initiatives as they work to maximize the effectiveness of their logistics and materials-management operations. The readily identifiable cost drivers and savings opportunities typically center on freight terms, supplier payment terms, discount schedules, freight consolidation and cross-dock initiatives, returnable-dunnage opportunities, and backhaul opportunities.

Organizational Structure

This final element of the strategic plan is critical because a limited number of professional resources will be tasked with accomplishing a comprehensive strategic initiative. The responsibility for skills verification and development cannot be delegated to corporate human resources. Instead, it must be owned and managed by the key purchasing managers. Broad improvement efforts focusing on specific skill sets need to be developed. These skills cannot be geared toward transactional administrative task management. Instead, they must respond to the supply base and cost-management elements identified as part of the overall strategic purchasing plan.

Organizational plan elements should primarily look at structure and people-based requirements. The structure evaluation needs to do one simple thing: access the resource deployment in support of the strategic plan initiatives.

Traditional hierarchical organizational structures do not support the expansive thinking necessary to grow long-term initiatives while at the same time meeting daily operational demands. This is especially true in multidivisional or multinational companies. What's needed is a matrix organization with a designated leader. This structural approach not only provides a shared ownership or responsibility, but also clearly identifies lead accountability to deliver results. Exhibit 3 represents a matrix organization used by one automotive supplier for its global commodity development. Similar structures exist in both North America and Europe for regional commodity development. Lead and support buyers are located at various sites within these regions to support product development and program launch.

The organizational analysis also should address the deployment of tactical and strategic support for production purchasing and supplier development/quality. Though this tactical/strategic balance is difficult to achieve while maintaining existing staffing levels, it can—and must—be accomplished. Being internally responsive is particularly important because only satisfied internal customers will be willing to embrace the transformation to a strategic organization.

Global procurement strategies and non-production purchasing needs also must be part of the organizational assessment. Non-production buys can exceed 30 percent of the total production purchases. Yet few companies have developed strategies to reduce cost, manage the supply base, and improve performance of these types of buys.

The people side or organizational assessment focuses on the "soft side" attributes. Practices like team participation, employee empowerment, pay for performance, skills gap analysis, career planning, and succession planning all are soft attributes that must be formalized. In many of these areas, targeted training programs may have to be developed.

Finally, a focused effort on the people side of the organization instills a feeling of excellence in expectation and performance. When purchasing people (or any other professionals, for that matter) feel valued, they take pride in their efforts. They are more likely to step up to a higher level of performance and produce superior results.

The purpose of the strategic procurement plan is to recognize the central role that purchasing and supplier development plays in total business success. However good a plan may be, though, its true measure lies in the implementation.

A number of implementation approaches exist, each of which has its own strengths. One that has worked especially well in my experience is Hoshin Planning. This approach keeps the objectives in front of the staff every day, and closely monitors progress to validate the contributions being made. Hoshin Planning ties daily actions and performance to departmental initiatives—and ultimately to overarching company objectives.

By applying various prioritization and management tools, Hoshin Planning strives to cascade the "stakeholder" expectations (returns on equity, assets, and sales; customer satisfaction requirements; employee measures, and so forth) to tangible and meaningful actions that employees can impact on a daily basis. This approach establishes a clear linkage between efforts and targeted results. It also ensures that the vision and direction are clear at all levels of the organization.

A technique called "key measures tracking" monitors goal attainment. These key measures are developed through a process known as "Catchball." This means involving all team members of an organization in the creation and deployment of targets and action plans. Management-by-planning tools can be applied here to keep these action items visible at all discussions. Such tools include affinity diagrams, impact/difficulty charts, interrelationship digraphs, matrix diagrams, radar charts, and relationship matrices.⁷

Expansive thinking is needed to accurately target actions that will achieve the overarching objectives. Gap analysis and problem-resolution ideas must be specific in nature and stated as problems so that solutions can be defined. Barriers to solutions must be identified as gaps to be closed.

Once the gap analysis has been completed, the individual activities are tied back to departmental objectives—and ultimately the corporate objectives. Exhibit 4 gives a goals and actions tracking matrix showing the interrelationship between the corporate stakeholders' overarching objectives, the departmental strategic objectives, and the local actions. Exhibit 5 is a backing chart, showing individual performance for a key measure. Included here is a trend chart indicating historic performance vs. goal, a Pareto chart showing the primary issues for non-attainment, and a countermeasures summary.

Each of the key measures contained in the goals and actions matrix is backed by a similar summary chart along with a summary matrix. These summaries not only facilitate management reviews, but also serve as valuable guides in management planning sessions to address gaps in customer satisfaction. (Note: The approach described here is a synthesis of measuring techniques used as part of the Toyota Production System (TPS) and the Ford Quality Operation System (QOS) methodology developed by past Ford Electronics Division supplier quality-assurance manager Fred King.)

Applying the strategic approach and tools described in this article, you as head of the purchasing group have a fighting chance of meeting those ambitious objectives outlined in the annual operating plan. Time, however, can be an enemy of the implementation process. The components of the strategic procurement plan often build upon each other in a sequential manner. Development of a strategic vision and plan comes first. In a tactically based organization, it may take six months to a year to formulate, edit, revise, and gain concurrence for the plan. Supply-base benchmarking typically will take in excess of 18 months to complete for all commodities. Consolidation of the supply base, which begins in the midst of benchmarking, can take up to two years to accomplish.

Institutionalizing presourcing adherence to affordable cost targets; living and breathing supplier product and process improvement; and refining the implementation takes three to five years.

Yet even with the extended times, important near-term benefits can be achieved. Successes must be recognized and celebrated along the way. When others in the organization begin to see the benefits of a strategic procurement plan, they become believers and supporters.

There are clear examples of successful strategy-based procurement organizations. Companies like Chrysler, Motorola, Ford, Sun Microsystems, and Allied Signal are just a few of the leaders using procurement to gain strategic advantage. Each differs in the exact methods employed, but all have adopted an integrated planned approach. Borrowing and adapting the approaches used by these leaders in your own organization can give you a jump start in reaching your goals.

In my case, I gained knowledge of benchmarking and Kaizen while at Ford, learned TPS and Hoshin Planning at Donnelly, and now have incorporated "aspiration-based" planning in my current position at TRW. This last technique is particularly interesting. Company leadership decides on the performance characteristics that exemplify the industry leader in a particular business segment. Objectives arise from those aspirations, and methods are developed to meet those goals. By strategically structuring procurement practices around that methodology, the company now has the ability to achieve the "best in class" standard and create a true competitive advantage based on purchasing strength.

As a senior purchasing manager, your key to developing a successful procurement plan lies in integrating the learned and borrowed into a unified approach that makes the most sense for your organization.