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The COVID-19 pandemic, along with Russia’s invasion of Ukraine, has dealt a “one-two punch to original equipment manufacturers’ (OEM) supply chain performance. Suppliers are having difficulty supporting OEM customers with the parts and components they need to manufacture of their products. Even if available, the parts are often late and in lower numbers than the OEM’s schedule requires. And they cost more.
This article will discuss four lessons that—hopefully—OEMs have learned relative to both their sourcing and supply management strategies.
Lesson Number 1:
The war in Ukraine should be recognized for what it is. Namely, a world-changing event that will have a huge impact. One impact will be an increase in supply management challenges, in both type and number.
OEMs that don’t recognize this will become less and less competitive. I’ve heard of OEMs that—relative to COVID-19—believe “things will eventually get back to normal” and because of this, they can maintain their current supply management strategies and practices. One such strategy involves basing their supplier selection almost exclusively on piece-price, which has led to longer and longer overseas supply chains. Re-sourcing from China to Vietnam is not the type of “fix” that is needed.
Some manufacturers—namely, European and Japanese automakers manufacturing in the U.S.—understand the basics of the Toyota Production System. Namely: Manufacture in your primary markets, and source where you manufacture.
Lesson Number 2:
Know your enemies. OEMs have continued doing business with Russian partners --- including the Russian government—despite that country’s nefarious actions around the world. I understand the “pursuit of profits” but believe that ethical firms should take into account the financial benefits of dealing with rogue countries such as Russia. I agree with Ukraine President Volodymyr Zelenskyy when he says that profits companies have made working with Russian firms and the Russian government are tinged with blood, as they have supported the unprovoked rampage Russia is currently conducting in his country.
It might be “pleasant” to imagine the U.S. having a mutually beneficial relationship with Russia “in a perfect world.” It needs to be recognized that this will never happen as long as Russia is ruled by a repressive dictator. Particularly one who has a “world view” based on a long, successful career in the KGB, including as its director.
OEMs need to walk away from Russia until it has had a positive regime change.
Lesson Number 3:
Know your friends. There should be a difference between how OEMs manage their commodity vs. strategic suppliers. Commodity suppliers can quickly and easily be replaced with minimal expense and minimal order-fulfillment risk. Because of this, most OEMs manage them on a commercial basis; i.e., my getting a bigger piece of the financial benefit “pie” means that you get a smaller piece. This is usually done under the assumption that the OEM has the bulk of the negotiating leverage with commodities, which it usually does.
Read more of Paul Ericksen's supply chain management articles.
Strategic suppliers can’t be replaced quickly, and doing so would likely be a costly endeavor, exposing the OEM to quality, delivery and pricing risk. Strategic suppliers often differentiate themselves from commodity suppliers by owning intellectual property and having more effective processing and more capability to respond efficiently to short-fuse changes in their customer’s schedules. Because of this they should be managed as if they were friends and partners. Why? Because in the relationship with strategic suppliers an OEM has significantly less leverage—whether they recognize this or not. Specifically, OEMs should manage strategic suppliers according to the mantra, “if we can jointly figure out how to make the pie bigger, both firms can benefit financially.”
The problem is that all too often OEMs manage all suppliers as if they were sources of commodities, negotiating with them on a “win/lose” basis. I need to point out that during the scramble to deal with COVID-19 related supply chain issues, OEMs expected “partnership” type support from all suppliers, regardless of how they previously had been managed. All too often OEMs take a positional negotiating stance with their suppliers when times are good, yet expect suppliers to “share the pain” during downturns.
Lesson Number 4:
Incremental change to current supply management strategies will not position an OEM to successfully deal with supply chain challenges going forward. For instance, selecting suppliers primarily based on piece-price should have never been—and will not be in the future—the primary for source selection. There are all sorts of factors that OEMs should consider to maximize the positive financial impact of the purchasing function. These include internal OEM overhead as well as the ability to service market dynamics that vary from forecast, i.e., revenue. For instance, the lack thereof may lead an OEM need to have to maintain excessive pre-built finished product inventory to support having acceptable customer fill rates on their products.
To conclude, current OEM purchasing strategies haven’t fundamentally changed since Henry Ford launched the manufacturing revolution in this country. Ford primarily bought actual commodities from which he internally produced the parts and assemblies needed to manufacturing his Model-T. Consequently, most of his purchases were based on piece-price.
As said previously in this column, most OEMs I am familiar with talk a good game about souring based on “Total Cost of Ownership” but don’t take into account important cost factors and risks related to supplier selection.
I understand that changing current OEM supply management strategies will not be easy and require buy-in from an organization’s C-Level executives. In the past, purchasing manager performance has been almost exclusively based on year-to-year purchasing costs. This cannot continue if a company wants to be considered world-class, or produce world-class financial results.
Paul Ericksen’s book is Better Business: Breaking Down the Walls of the Purchasing Silo. Ericksen has 40 years of experience in industry, primarily in supply management at two large original equipment manufacturers.
