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The following article originally appeared in the GAPConnection,
a quarterly publication of A.T. Kearney's Global Automotive Practice. The
GAPConnection, which is written by A.T. Kearney consultants, explains,
explores and analyzes key issues affecting the automotive industry, including
supply chain management, manufacturing techniques and efficiency, changes
in the retail and distribution system, financial and economic matters,
globalization of the industry and other topics.
If you would like additional information on this article or to receive the GAPConnection, contact Jay Houghton at 248-204-9067, or Sara Hogan at 248-204-9068. by Mike Enright (New York) and Jeff Engel (Southfield)"Lowest purchase price" used to be the typical response from automotive original equipment manufacturers (OEMs) when asked about the effectiveness of their purchasing functions. For the past two decades, however, many OEMs have been leveraging scale to go beyond what they thought was the lowest possible price to get rock-bottom prices from their domestic component suppliers.Today, the North American Big Three - Chrysler, Ford and GM - say the most effective measure of a purchasing function is total system cost (TSC). It is a cost calculated by using the past purchase price as well as expenditures for tooling/equipment, inventory, materials handling, transportation, containerization, purchasing personnel and possibly even engineering and additional in-house manufacturing/assembly. In this article, we will discuss and compare OEMs' level of system integration and supplier development and the ways in which these relate to total system cost. System IntegrationFrom 1995 to 2005, automotive OEMs will shift from purchasing components to purchasing modular systems from system integrators(1). This is one of the key findings of a recent automotive supply chain study conducted by A.T. Kearney and the University of Michigan's Office of the Study of Automotive Transportation. This means that OEMs will no longer purchase just windshield wiper blades, for example, from their suppliers, but complete modular wiper systems that include the arms and motors and are shipped ready-to-assemble to vehicle assembly plants. The findings also indicate that the number of system integrators and indirect suppliers(2) in the automotive industry will increase substantially, while the number of direct component suppliers will decrease noticeably.What is the driving force behind this trend? Our findings indicate it is OEMs' desire to focus resources on their core competencies - vehicle performance and design. System integrators, whose core competencies are in system design and engineering, will naturally assume more engineering responsibility for the components within a system. OEM engineering resources can then be devoted to speed up the development of the vehicle or core systems, for example, the powertrain. This will significantly reduce product development time and make "top notch" supplier design expertise available to the OEM, which will ultimately reduce total system cost. But it requires early supplier involvement in product development - well before drawings exist. OEMs' increasing dependence on system integrators dramatically reduces the number of supplier relationships managed by the OEM as well as the number of ready-to-assemble parts. OEM inventory levels go down and fewer resources are necessary to manage the supply base. But purchasing systems instead of components will not be an easy transition for North American OEMs because of the impact on unionized workers who are manufacturing components for the suppliers. Nonetheless, Chrysler and Ford have been successful in outsourcing a significant portion of their component manufacturing, while a variety of labor issues at GM have hampered its ability to outsource. How the Big Three measure upChrysler purchases more modular systems than its competitors - a distinction that has resulted in a consolidated supply base and, therefore, a reduction in supply chain complexity. With less intricacy, Chrysler is able to focus on building strong alliances with fewer suppliers while operating leaner.Ford, although similar in its degree of vertical integration, primarily sources components as opposed to entire systems. As does GM, which sources 55 percent of its components. Although each company's supply base varies in size, both Ford and GM have a more complex supply chain to manage and more suppliers per vehicle than Chrysler. Supplier DevelopmentThe shift from purchasing components to purchasing modular systems dramatically increases the workload and responsibilities of system integrators. A successful transition lies in an effective supplier development process in which resources of suppliers and OEMs are combined to improve the supplier's processes, their shared processes and overall product costs.An effective supplier development process establishes a fluid line of communication between the supplier and the OEM. It is a means for sharing knowledge and technology while jointly identifying and capturing design and process cost savings. And it's a useful measure of the purchasing practices of OEMs regardless of whether they are purchasing modular systems or components. In either case, the process creates a strong supplier relationship and establishes a mindset and framework for reducing total system cost. There are two elements of supplier development:
Optimizing supplier selectionGiven the commercial and technical issues involved in supplier selection, an effective supplier quotation process involves engineering and purchasing at the OEM, and sales and engineering at the supplier. These functions are closely linked from the beginning of the process to ensure delivery of a single, concise message to (and from) the supply base. In short, OEMs must give suppliers a clearly defined and consistent point-of-contact.To optimize the OEM's supplier selection process, both purchasing and engineering should be involved in the selection of potential suppliers. Selecting two to five suppliers for each modular system guarantees a healthy competitive situation (even within strategic partnerships) in which the OEM is assured of obtaining competitive prices. It also enables the OEM to gain access to the latest technology and optimize total system cost. Forming strategic relationships with two to five suppliers has far reaching implications in some areas of the procurement process, for example, product development. Here, if the supplier selection process is unnecessarily cumbersome it can add precious time to the product development process in an era when North American automotive OEMs are desperately seeking to reduce time to market. Among the best practices applied in this area is pre-assigning new model introduction to two to three strategic supply partners in equal or pre-negotiated parts. After product development of the model is completed and the selected supply partner has created all necessary drawings, the other strategic suppliers are allowed to quote the production work. This keeps pre-selected suppliers honest. If the quotation results show that the pre-selected supplier is significantly out of line (and discrepancies cannot be resolved) then the OEM might assign the business to one of the other partners. How the Big Three measure upChrysler is the most successful in establishing and utilizing powerful supply partnerships. As recent A.T. Kearney studies show, the company not only optimizes total system cost but also achieves top notch component or system prices matched only by Toyota. Clearly, the challenge for Chrysler is to either motivate established supply partners to go global as the OEM moves into Brazil, Argentina, China, India and other countries, or to restructure the supply partnerships.Also, Chrysler has done the most to involve its component or system suppliers in the product development process. The company allows its suppliers to operate autonomously during the design phase of product development - a method that works because of an active, ongoing dialog between Chrysler and the supplier and because of Chrysler's philosophy of "trusting" the supplier's design to be functionally sound. Ford, which has had some success in shortening its quotation process by consolidating suppliers, still has lengthy procedures for cost estimating and technical reviews. Its supply base appears to be more regional than global and modular systems thinking is only in an embryonic state. While the company has come a long way in involving its suppliers in component product development, its suppliers still participate more in the design process rather than perform the design. Also, Ford, which has yet to adopt Chrysler's "trusting" philosophy, requires a lengthy design review that entails a bureaucratic approval process and numerous design changes. GM's Worldwide Purchasing Process has been highly successful at establishing benchmark global prices. However, the process requires 12 suppliers to participate in initial rounds followed by successive rounds of bidding until GM is comfortable that the lowest price has been achieved. This process is effective in achieving low short-term prices, but has its drawbacks: It is cumbersome to the supply base; takes a lot of time; rarely makes the latest technology available to GM; and it may cause lengthy and costly product development redundancies as well as higher product and process validation costs. Identifying and capturing cost savingsAn effective supplier development process requires a set procedure for identifying and capturing design and process cost savings. The method has two main components: opportunity identification and cost saving realization.The ideal process for opportunity identification encourages active dialog between suppliers and OEMs. This can be done either through formal joint brainstorming sessions or, if the OEM is amenable, through informal sessions. There are advantages and drawbacks to both. For instance, the formal approach facilitates instant dialog between the supplier and OEM, but may hinder the supplier from working on its own to seek out opportunities for improvement. And it might be logistically difficult to set up the session. The informal approach, on the other hand, does not provide an easy platform for dialog but leaves the supplier unencumbered to search out improvement opportunities on its own. In either approach, the most effective process identifies issues beyond manufacturing and product design - incorporating elements of the entire supply chain to reduce total costs and not just component or system costs. Incentives go a long way in encouraging suppliers participation in the process; motivating its staff to actively search out cost saving opportunities. Incentives can either be sharing the benefits of cost saving opportunities or guarantees of future business. A streamlined approval process enables the company to realize cost savings from the opportunities identified. The OEM's purchasing function champions the process; involving engineering and manufacturing when necessary. Cost saving opportunities identified by the supplier must be considered a high priority. (This is readily achieved by making "identified and approved cost saving opportunities" a category in the performance measurement process.) Next, a timely decision on the viability of the opportunity is communicated to the supplier as well as a fact-based reason for the decision - details make the decision look less arbitrary and more fundamentally sound. If the opportunity is approved, the feedback also includes explicit "next steps" with assigned responsibilities for implementing. How the Big Three measure upChrysler's SCORE program for identifying and capturing cost reduction opportunities is the benchmark. SCORE is designed to encourage suppliers to bring process or design improvement ideas to Chrysler's attention. The company reviews the suggestions and either approves or disapproves them. SCORE shares the gains from the opportunities implemented, a course of action that motivates suppliers to work on Chrysler's behalf. Moreover, the company makes it a priority to provide timely and informative feedback.GM's PICOS program is also very successful in identifying cost saving opportunities. The initial set-up of the PICOS program was supposed to share identified savings three ways: one-third for the supplier, one-third to the customer, and GM would keep one-third for itself. Ford's TCM system has proved effective in identifying many cost saving opportunities but has not been successful in realizing the potential cost savings. For instance, viable opportunities are identified in joint OEM/supplier meetings but a long and cumbersome approval process hampers the company's ability to proceed. The supply base has come to believe that opportunities will not be approved, and even if they are, Ford does not share its gains with its suppliers. (see figure 4) ConclusionChrysler takes the lead in reducing total system cost by creating a world class purchasing function. The com-pany has effectively extended its overall enterprise to include its suppliers and its suppliers work harmoniously toward the same end; creating low cost, world-class designs. Although currently not global in scope, Chrysler has developed a process that can be easily expanded beyond U.S. borders to include partners throughout the world.GM is global in scope but has not been as progressive as Chrysler in outsourcing or in supplier partnership development. While GM's purchasing process often provides the industry benchmark in short-term pricing, the company's total costs are often higher because it is not using its suppliers' resources effectively, which leads to higher internal costs. Ford is generally regarded as the most difficult OEM to serve. On the surface, the company has effective tools such as TCM to establish solid and constructive relationships with suppliers, but the Ford buying community is focused solely on purchase price - reducing prices by any means necessary. Ford does not effectively utilize its suppliers to perform engineering work, which leads to higher total costs.
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