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Centralizing Purchasing: Is It a Bad Idea?

Feb. 14, 2020
Be on the lookout for one-trick ponies.

In a previous column, I took a shot at the strategy of centralizing purchasing. I received various feedback on this column, as well as a question.  Namely, “Should supply management employees—and suppliers—regard it as a “red flag” when a corporation makes a decision to centralize procurement?”  My gut answer to this question was a resounding yes.  However, thinking about it further, I would revise my answer to sometimes and sometimes not, depending on the basis for the change.

First, let me say that I have personal experience with such a decision, as I worked for a company that took this plunge by hiring a Supply Management VP from another company that had a reputation for working with suppliers in a collaborative manner.  This position was new in our company—we were highly decentralized, with the factory material manager having the bulk of purchasing responsibility.

The hiring of a VP with overall responsibility for procurement seemed to signify two things. First, that the leaders of the corporation were (finally) starting to realize the importance and potential of the purchasing function. Second, putting a person with a history of collaborating with suppliers in that position would mesh very well with our company’s current strategy of working with suppliers as partners. We had a lot of reason to believe this.  For instance, the company where this person previously oversaw purchasing was considered to have a best-in-class supplier development function to assist suppliers become better manufacturers.

Shortly after this change was initiated, however, I started having concerns. For instance, the new VP hired a team of directors from outside of our company to handle the transition to what would be our strategy for working with suppliers going forward. Furthermore, some of these new directors came from companies with a reputation for uber-leveraging their suppliers. In other words, they were used to doing what was needed to impose their company’s will on their sources. In fact, none of the new directors was from inside the company.  And because of this, none of them understood our company values, our industry or had worked with the bulk of suppliers we currently dealt with.

In the shorter term, this led to a lot of dissatisfaction from the existing supply management leadership.  We asked questions among ourselves such as, “Doesn’t the new VP think any of us are competent and/or ready to assume higher authority positions?” Overall, we got the impression that our new leader felt that that our company hadn’t been competently led in the purchasing function prior to his hiring. As you can assume, this was quite demoralizing.

The new corporate management team’s central strategy seemed to be consolidating company purchases to increase our overall leverage, either with our current suppliers or their replacements. You may ask, “What is the problem with that?” First, this change generated a lot of concern within our supplier base that they would lose business. This became an immediate challenge to the existing collaboration. It also assumed the company’s four divisions produced and marketed similar products requiring suppliers with similar processing capabilities.

And it turned out, the leverage strategy that was introduced wasn’t only the central strategy. It was, for all intents and purchases, the only strategy.  In others words, the new purchasing management seemed to be a one-trick-pony.

I’ll use an example to explain how this strategy wasn’t sound. Three of our company’s four divisions produced mobile products that required wheel assemblies, and the new management team thought this could be the basis for increasing leverage. The division I worked in produced products that for the most part weighed either hundreds or a few thousand pounds. The wheel assemblies themselves weighed between 10 and forty pounds, were between 12 and 18 inches high, and overall cost typically under $100.

The weight of products produced by the other two wheel-assembly divisions could be in the tens of tons. To support this weight and be able to perform in their end-user’s work environment, they were on average 5 to 6 feet in height and needed a significant amount of structural integrity. Their cost was in the thousands of dollars.

Read more of Paul Ericksen's supply chain management articles

Tire assemblies were one of the product types that the new team immediately wanted to centralize procurement of. The annual production volumes of our products companywide were over a million in a good year, while those of the other two wheel-assembly divisions were only in the tens of thousands.  It was felt that through combining all wheel assembly purchases, the higher volumes would significantly increase our leverage, positioning us to deliver large price-reductions on the commodity group.  Again, you may ask “What could be wrong with that?” 

The issue, as you probably suspected from the specifications outlined above, was that the tires used in our division’s products were manufactured in significantly different ways from those used in the other divisions. Additionally, the materials used in their manufacture weren’t the same; the processes used to manufacture them weren’t the same, and; believe or not there was no tire manufacturer in the world that currently manufactured both types of classes of tires! Hmmm.

 In the end, the procurement of tire assemblies was centralized, but since there had been no real increase in leverage, the resulting price reductions resulted in just so much chump change.  Prior to centralization, wheel assembly suppliers were treated as producers of engineered products, while afterwards they were treated as commodities. I need to say the new management team seemed to think that pretty much all of the products our company bought were commodities—at least that’s how they acted.  The impact of this was the materials managers at the manufacturing facilities could no longer rely on the type of supplier support we had previously received, which increased our operational costs.

In the end, the centralized procurement group got credit for a price reduction while the overall impact of the consolidating wheel assemblies to the corporation went up, at least in the division I worked in.  In fact, our division’s factories had to hustle to reduce costs to offset the change in business relationship so that our profitability goals would be met. And to do so, we had to add overhead.

 There ought to be a law.

My last column addressed the issue of purchasing consultancies, and I wasn’t very complimentary.  Why did I take this position?  First and foremost, they primarily focus on what must be done to gain leverage over suppliers. Second, they have little experience in the industry and markets their customers participate in. Finally, they don’t understand and don’t try to take into account the culture of the company they are taking on as a client. In fact, they pretty much use a cookie-cutter approach regardless of their client’s varying situations.  Sound familiar?

I could go on and on, but it’s probably pretty noticeable that the comparison I’m making between companies that staff their centralized purchasing initiative primarily with outsiders—as was done in our case—is like bringing in a consultant.

And I think you can see that this is not the way to introduce centralization to a company.  Using existing resources at least gives you a chance to gain the benefits of centralizing some purchases while not destroying existing relationships.        

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