In Next Generation Supply Management the metrics used to assess performance are based on all costs associated with the conduct of business with a supplier—in other words, total cost. That probably doesn’t seem like too radical of a concept until you consider how many suppliers feel they are measured today. Suppliers I’ve talked to over the years tend to believe that while many of their OEM customers “talk a good game” about applying a more holistic point-of-view rating to their suppliers, when it comes right down to it those ratings are based more on whether the targeted piece-price reductions were delivered than anything else. Suppliers hitting a customer’s price reduction bogey get a good rating. Suppliers not hitting that bogey get rated poorly, regardless of what else they may have done to positively impact their customer’s business.

The interesting thing is that I’ve heard a very similar complaint from supply management employees related to their performance ratings. Again, regardless of all of the other beneficial impacts a purchasing employee may have had on his company—such as getting supplier input into design that increases product functionality or reduces manufacturing costs—if their suppliers don’t deliver the targeted price downs many feel they won’t receive a good rating. By the way, neither group—suppliers nor employees—feels that being rated in this way drives the most productive behavior, at least over time.

Believe it or not, I agree strongly with one characteristic of the above approach to performance measurement. Specifically, I believe that suppliers and the supply management employees responsible for their management should be evaluated on similar metrics. If supplier performance improves, both they and their OEM supply management contact should get credit for that improvement. On the other hand, lack of improvement—or regression in performance—should not only count negatively against a supplier’s rating, it should also be a black mark for the supply management personnel they work with.

Evaluating suppliers and supply management employees primarily on piece-price reductions is a strategy that should only be used where total cost and piece-price are largely synonymous—in other words, with “true” commodities. Focusing on piece-price across the board in managing suppliers of all product types may result in some short-term benefit but, over the long run, leads to counter-productive results. To get positive total cost impact from your non-commodity suppliers and employees requires performance metrics based on a total cost approach.

Next Generation Supply Management metrics are based on two basic premises:

  1. All costs—not just piece-price—that are part of doing business with a supplier are considered in the rating assessment. If they go up, that’s bad. If they go down, that’s good.
  2. Supply Management employees are evaluated based on the total cost performance of their supplier. If a supplier’s total cost performance trends positively, the employee gets a good rating. If the supplier’s performance trends negatively, they don’t.

I’m not going to review in this column all of the reasons why engineered products need to be managed differently than commodities since I’ve harped on this issue in previous columns. The bottom line is that with commodities, piece-price can be the primary factor in supplier total cost while, with engineered products, piece-price is only one of many important factors. So what are some of the factors that in addition to piece-price should be used in evaluating overall supplier performance? Here are some that should be considered.

Costs:

  • Receiving Inspection costs. This involves the activities needed to approve purchased parts for production use. Ideally, OEM customers shouldn’t have to inspect supplier parts to verify they are in-spec.
  • Part Replacement/Rework costs. When purchased parts are found to be out-of-spec—in receiving or on the production Line—OEM customers either need to expedite replacements or coordinate/conduct rework to minimize production downtime.
  • Non-Conformance Processing. Rejected parts usually require OEM involvement in processing and root-cause assessment to ensure that specific types of problems do not repeat.
  • Supplier Development Fire-Fighting support. Suppliers having production issues often receive tactical assistance from OEM customers to minimize production downtime.
  • Production Downtime. OEM production efficiencies are negatively impacted when lack of usable purchased parts cause production interruptions. Sometimes these interruptions negatively affect the OEM’s ability to satisfy customer demand.
  • Safety Stock Inventory. This is required when a supplier has inconsistent delivery performance and/or to provide some level of scheduling flexibility to account for excessively long supplier MCTs (“true” lead-times).
  • Expedited Shipments. These are needed when supplier order fulfillment capability cannot keep up with either standard schedules or the changing demands of an OEM’s market.
  • Warranty. When purchased parts are found out-of-spec on product already in dealer or customer hands, they must be repaired.
  • Product Recalls. When defective purchased parts are not identified prior to customer sale, the OEM needs to conduct field modification programs.

The above shouldn’t be regarded as a complete list of total cost add-ons. All of them are typically tracked within OEM organizations by part number such that they can be accumulated, assigned to specific suppliers and quantified in terms of standard part cost, i.e., count as a piece-price additive.

Benefits:

  • Supplier Managed Inventory. On-site supplier management of the parts they supply their customer typically increases OEM inventory turns and reduces indirect employee cost.
  • Returnable Containers. Their use reduces material handling and packaging disposal costs.
  • Supplier order fulfillment agility. This allows OEM customers to react to and financially benefit from unanticipated customer demand, i.e., realize incremental profits.
  • Suppliers that participate in the OEM Product Development Process and Early Supplier Involvement can reduce product cost through contributing knowledge of feature/processing cost trade-offs.
  • Early Supplier Involvement participants can also create value through suggestions that result in more functional parts without adding cost.

Again, this shouldn’t be regarded as a complete list of total cost deductions. As with costs, these benefits are routinely quantifiable in terms of standard cost and so can be related to piece-price impact.

The main point here is that supplier performance as well as its management involves much more than managing piece-price and additional factors should be considered in performance ratings. Some of the cost factors outlined above can far offset obtained piece-price reductions while some of the benefits can far outweigh them. Not taking them into account in evaluation of either supplier or supply management employees is not “giving credit where credit is due” and in the long run can be counter-productive.

The next column will continue on in the same vein as this one by discussing differences in tactical versus strategic performance and impacts.