Leading organizations on the path to high performance are accelerating their global sourcing strategies, driving more aggressive cost reductions, and looking to contract manufacturing to leverage and expand the value of their brand. Most significantly, these organizations plan to double their spend on low-cost country sourcing in the next three years, as the graphs in Exhibit 1 shows.

• Source more direct materials globally and in low-cost countries as part of a strategy to improve gross margins.

• Combine low-cost contract manufacturing and “buy-brand-sell” strategies to cut costs on low-margin products and to fuel new growth by extending into complementary product lines.

• Elevate procurement to a strategic function so as to increase overall supply chain reliability and minimize total landed costs.

• Integrate purchasing earlier in the product-development process to take maximum cost out of the product design.

• Deploy consistent processes and tools across business units and operating companies to aggregate and standardize spend data and improve compliance.

Many companies do not yet view procurement as a strategic function and source of value. Instead, they take a fragmented approach to procurement, which leaves individual operating units to pursue autonomous procurement policies and procedures with largely domestic suppliers. These companies typically take a traditional view of procurement as an order-taking activity. Many, especially smaller and mid-size companies, are reluctant to risk using new and untested global suppliers for direct-material components. They believe that they lack the scale and skill set to undertake a global sourcing program. And because they fail to appreciate the full potential of a strategic, global approach, they foreclose on sourcing savings opportunities.

We know from experience, however, that you do not have to be huge to have a successful global sourcing program. Consider the case of American Standard, a $10 billion global manufacturer of plumbing systems, heating and air conditioning equipment, and vehicle control systems. American Standard realized more than $300 million in materials-management savings during a 5-year global program that leveraged the company’s collective buying power on a global basis and moved both production and sourcing to low-cost regions.

American Standard’s success is not unique. The impact of global sourcing on profitability for a typical industrial products company can be substantial—$100 million to $200 million in annual savings. Using the example of a $5 billion company operating at a 10 percent EBIT (earnings before interest and tax) margin and sourcing 40 percent of direct-material spend globally, a 15-percent savings in global sourcing will drive an additional $150 million annually to the bottom line (EBIT increase of 30 percent). 

The time is right for companies to take a close look at expanding their global sourcing efforts. Global sourcing of direct materials is no longer an option. It’s a competitive necessity—thanks to the rapid rise of emerging low-cost nations as both sources and consumers of direct materials. In fact, newly industrialized countries are now both the world’s biggest manufacturers and consumers of steel. China, for example, is an infrastructure giant in terms of both supply and demand. The country’s current five-year plan calls for the construction of an additional 3,728 miles of rail track, 124,274 miles of road, 141 deepwater ports, and 57 airports. China’s projected energy requirements will necessitate an additional 500 gigawatts of capacity—or 80 percent of Great Britain’s current energy capacity—every year for the next 10 to 15 years.

Growth at this speed and on this scale spells enormous opportunities for global industrial products manufacturers as well as for potential domestic suppliers and competitors.

For many, the decision to “go global” has two strategic goals: To take advantage of cost-reduction opportunities and to boost revenues from developing markets. General Motors recently broke ground on a green-field assembly pant in St. Petersburg to capitalize on the rapidly expanding market for automobiles in Russia. By increasing domestic Russian assembly capacity, the new Chevrolet facility will not only lower GM’s cost to serve but also increase the automaker’s supply in a market where GM posted record sales over the past year. DaimlerChrysler, meanwhile, plans eventually to have 40 percent of its procurement volume and the same proportion of its manufacturing located in low-cost regions. And by sourcing steel and iron castings, forging, and nonmetallic components from China, a global construction-equipment manufacturer has cut 30 percent from its total landed costs.

The savings from global sourcing extend to a wide range of business sectors. In a range of projects for the industrial products and automotive industries, we have calculated the expected net direct-material cost savings from global sourcing at 10 to 20 percent, with an average net savings of about 15 percent. Moreover, because high-performance businesses clearly understand their total landed cost, they are much more likely to realize their target margins and experience less margin leakage throughout the supply chain.

Additionally by using low-cost contract manufacturing, you can change the underlying economics of low-margin products. If it is no longer cost effective to manufacture your own products, consider outsourcing production to a contract manufacturer in a low-cost region. Then brand these products as your own and sell them on to your customer through your existing distribution channels rather than exiting the products completely. This “buy-brand-sell” strategy helps you protect current revenue while improving margins. At the same time, it prevents competitors from stealing market share and gaining a foothold with your established customers.

Buy-brand-sell strategies can also help you tap into the power of your brand to fuel growth by adding complementary products without incurring the usual product-design and development costs and attendant time-to-market delays. Complementary items for the aftermarket service of your products may be good candidates for this strategy. We know of one global manufacturer that sources and rebrands the consumable supplies that are used for servicing its aftermarket parts. This effort effectively extends its product offering. Everyone wins in this scenario. The customer gets a set of products he or she needs from a company he or she trusts; the third party gains access to an established distribution channel; and the manufacturer provides richer solutions and generates new revenues.

For a global sourcing program to be successful, procurement must be elevated to a strategic function. When a procurement team ceases to be just an order-taking activity and becomes part of a cross-functional team on a par with engineering and product development, supply chain, and logistics, true category expertise in direct materials can be developed and leveraged. Procurement’s prominence, moreover, becomes more pronounced as the company’s capability in global sourcing strengthens.

Consider, for example, procurement’s role in managing of critical strategic commodities. Leading companies dedicate a small but highly skilled team of managers—people who really know all about both the manufacture and use of steel, for example—to take responsibility for a specific commodity. These commodity mangers lead efforts to standardize the grades and codes of steel used in the products. This standardization concentrates the company’s steel buy and allows it to gain greater leverage with steel suppliers. The commodity managers also extend the benefits of their steel purchasing power to their suppliers and contract manufacturers to lower the costs of their finished components. And by revisiting their contracts to sell scrap, they ensure that the scrap price per ton rises in line with their steel raw-material price increases.

When procurement is a strategic function, it can drive component and module standardization as well. High-performance businesses maximize not only their own use of standard components but also their strategic partners’ and suppliers’ use of standard components. One global truck manufacturer, for example, realized total savings of more than $55 million and a 36 percent reduction in its supplier base as a result of standardization initiatives in which procurement worked side by side with engineering to reduce the number of component variations across multiple platforms. Standardization is a critically important capability in industries where many direct-material purchases support new products, platforms, or projects that require custom engineering.

Indeed, because it shares equal status with product development, the procurement function in a high-performance business can play a pivotal role in decisions about how product should be designed. For example, if procurement drives more supplier involvement in the design process, then suppliers will better understand the customer problems that the company is trying to solve. By involving their suppliers, companies can gain fresh design ideas and access to their suppliers’ latest technologies. The upshot: The product is easier to manufacture, assemble, deploy, and service in the field.

As key technical services like design and engineering (the “crown jewels” of many industrial products companies) become candidates for outsourcing, procurement’s function becomes more strategic still. The Boeing Company, for example, contracted out the technical design and engineering work on the new 787 Dreamliner to 1,600 Russian engineers—a clear recognition of that country’s unparalleled expertise in titanium technologies.

The aircraft manufacturer also is a striking example of how integrating purchasing early in the product-development process can optimize global sourcing opportunities. The wing of Boeing’s new 787 is being designed and manufactured in Japan—leaving the aircraft manufacturer with little more than an assembly role in the production of the aircraft. Yet by taking maximum advantage of supplier collaboration, Boeing has improved the product’s features and reduced overall costs.

Another key characteristic of high-performance global sourcing programs is deploying consistent processes and tools across business units and operating companies. Doing so provides companies with the foundation for aggregating spend data. Common processes and tools can build the fact base that allows companies to understand instantly what they are spending on major categories as well as just how fragmented or concentrated their supply base actually is. Capturing accurate spend information is critical to understanding a company’s exposure to one supplier. Aggregated spend data supports fact-based negotiation and helps reduce the company’s strategic supplier base (and associated costs).

Once the strategic supply base has been consolidated, consistent processes and tools can help ensure that the company buys the right product from the right supplier at the right time. Consistent processes and tools drive those responsible for requisitioning toward standard items from approved or preferred suppliers.

The use of consistent front-end processes for requisitions, approval, purchase orders, and change orders helps ease back-end processes as well. Standardized processes limit the leakage of purchases to nonapproved suppliers or for nonstandard items. They also reduce the cost of managing the number of items. Finally, by easing access to contract terms, they help ensure compliance with those terms.

Procurement capabilities across the board are enhanced because consistent tools and processes boost efficiency and reduce risk. Procurement professionals are free to focus on high-value activities like supplier performance management. Moreover, the performance of these professionals is likely to improve thanks to greater job satisfaction.

High-performance businesses in your industry are already boosting gross margins by implementing best practices in global sourcing. And here’s their payoff:

• Combining low-cost contract manufacturing with buy-brand-sell strategies has helped companies not only tackle the problem of low-margin products but also boost growth by enabling profitable expansion into complementary product lines.

• Making procurement a strategic function—equal in stature to engineering, product development, logistics, and supply chain—has helped these high performers to minimize total landed costs and increase the overall reliability of their supply chains.

• Integrating purchasing earlier into the product-development process has allowed companies to slash the cost of product design.

• Deploying consistent processes and tools across the business has significantly improved compliance.

The opportunities for substantial savings in terms of both margin improvement and revenues from these capabilities are real. Isn’t it time you joined the industry leaders on the path to high performance?