The Purchasing Chessboard

The Purchasing Chessboard In turbulent times, markets become more volatile and differentiated. What does this mean for companies and industries worldwide? That a one size fits all supply strategy no longer applies. 1

Market turbulence in recent months has caught many buyers off guard. Their procurement strategies are often geared toward specific market conditions, and lack the flexibility to adapt to radical changes, such as those we are experiencing today. Past procurement strategies were largely focused on ways to counter rising raw materials prices and scarce resources, but the current economic crisis has forced a shift toward cost containment. Although market volatility is likely to continue over the next year, one trend is destined to remain: markets will become more differentiated. What does this mean for companies and industries worldwide? That a one size fits all strategy no longer applies. For years, most procurement organisations have operated in supply markets that could be addressed using relatively simple tools and techniques RFIs (requests for information) and RFPs (requests for proposals), bundled products and services and multi-year contracts, among others. Today s supply markets, however, are heterogeneous and require vastly different methods in order to yield benefits from material costs. In turbulent times, buyers must adopt new tools and strategies to compete effectively on a new playing field. To cope with these challenges, A.T. Kearney developed, a framework to address every supply and demand market condition (see sidebar: Applying The Purchasing Chessboard: Five Steps to Success on page 4). Differentiated Approaches for Differentiated Markets The old purchasing strategies of pitting suppliers against each other, or simply requesting price reductions, are no longer sufficient to address today s often consolidating and more volatile supply markets. In a recent A.T. Kearney survey, we discussed the impact of differentiated markets with more than 200 CPOs and managing directors of major companies. One of the most frequent remarks among survey participants was that procurement departments are not up to the challenge. We have a deficit in know-how among our procurement professionals, explains one survey respondent. There is also a lack of knowledge about how to use analytic tools to improve the process. The A.T. Kearney Purchasing Chessboard To help procurement professionals master the tools of their trade, we developed The Purchasing Chessboard a compilation of insights and experience from more than 500 purchasing projects performed worldwide over the past three years, and thousands performed over the past three decades. The Purchasing Chessboard constitutes 64 methods, each representing a stand-alone, differentiating way to work with suppliers to reduce costs and increase value. These methods are derived from 16 approaches and four purchasing strategies (see figure 1 on page 3). The following offers a brief discussion of the four major strategies. 2

Figure 1 Leverage competition among suppliers. The most celebrated and perhaps most frequently employed procurement strategy is competitive tendering or commercial negotiations with a strong focus on price. This is particularly popular when buying in a high-demand, low-supply market, for example component parts. There are four main procurement levers: tendering, leveraging global supplier markets, reviewing suppliers prices, and enforcing target prices. Experience shows that most procurement organizations readily employ the first two levers, but only a few companies focus on pricing and enforcing target prices. With this in mind, we have included a cost regression analysis as a key component of The Purchasing Chessboard. The analysis is performed via a statistical methodology that determines target prices based on the technical characteristics of a module. Once identified, the target price becomes the fact base for renegotiating with existing suppliers. In the past three 3

Applying the Purchasing Chessboard: Five Steps to Success 1. Place specific categories on the Purchasing Chessboard depending on their unique demand or supply conditions. 2. Make sure you are applying relevant purchasing strategies to ca-tegories. Are you conducting cost regression analysis to identify the target price of packaging material? Have you considered a supplier fitness program for molded plastic parts? Would it be financially beneficial to outsource purchasing of indirect materials? When performing a specification assessment wouldn t it make sense to also perform a functionality assessment? 3. Review the competencies of the purchasing function. Can your team play on all relevant fields of the Purchasing Chessboard? In what areas should you broaden your skill sets? 4. Do you have the right composition of cross-functional team members involved when working with categories? Purchasing strategies that fall in the left top corner of the chessboard (innovation breakthroughs) will require deep involvement of engineers whereas the right top corner of the chessboard (value partnership) will require corporate strategy experts. 5. Review and update the position of categories on the Purchasing Chessboard regularly and adjust purchasing strategies accordingly. The world is not static. For example, the supply power of key raw materials such as steel, metals and chemicals has significantly decreased in the past year. years, this analysis has proved successful for procurement professionals in the automotive industry (OEMs and suppliers), mechanical engineering firms, financial institutions and consumer goods, especially for commodities such as castings, hydraulic components, forgings, and also for indirect categories such as IT equipment. Seek joint advantage with suppliers. When buyers and suppliers in a transaction have equal market power, the first strategy will not be sufficient to achieve sustainable cost or value advantages. For example, the automotive industry procures numerous unique modules (for example, engine controls) so simply putting suppliers into competition will not suffice. In these situations, companies must strive to find common advantages with their suppliers. The goal is to build joint cost-value partnerships, an integrated and transparent operations planning process, and joint along the entire value chain. Such partnerships can reduce costs while also generating value. s and buyers work together to spawn ideas for optimizing costs and then agree to share in the respective benefits. What begins as an ad-hoc program could eventually turn into a longer-term strategic alliance between buyer and supplier. Change the nature of demand. In low-demand, high-supply markets where suppliers are in monopolistic or quasi-monopolistic positions due to their technical expertise companies must change the nature of demand. Low-demand markets stem from companies developing long-term partnerships with key suppliers; these suppliers soon become indispensable, particularly in terms of research and development (R&D) or technological expertise. Companies can make the problem worse by not wanting to endure the time and costs associated with shifting to new suppliers. In such markets, the objective is to change the nature of demand. This is done by re-specifications of components, data mining, developing new technical options, and risk. 4

Figure 1 The Chessboard constitutes 64 stand-alone methods High 8 Invention on demand Leverage innovation network Functionality assessment Specification assessment Valuechain reconfiguration Revenue sharing Profit sharing Strategic alliance 7 Core cost Analyslis Design for sourcing Product teardown tiering Design for manufacture Sustainability Project based partnership Value based sourcing 6 Vertical integration Intelligent deal structure Composite benchmark Process benchmark Collaborative capacity Virtual inventory Total life cycle concept Collabrative cost reduction Supply power 5 4 Bottleneck Sourcing community Political framework Buying consortia Product benchmark Cost data mining Complexity reduction Standardization Visible proces organization RFI/RFP process Vendor managed Inventory Expressive bidding development Total costof ownership fitness program Leverage market imbalances 3 Procurement outsourcing Mega supplier strategy Master data Spend transparency market intelligence Reverse auctions Price benchmark Unbundled prices 2 Compliance Closed loop spend consolidation Bundling across generations Make or buy Best shoring Cost regression analysis Factor cost analysis Low 1 Demand reduction Contract Bundling across product lines Bundling across sites Global Sourcing LCC sourcing Cost based price modeling Linear performance pricing A B C D E F G H Low Demand power High Source: A.T. Kearney analysis In The Purchasing Chessboard, we call this invention on demand (see figure 2 on page 5), whereby a company systematically challenges the basic elements of a technical system and searches for alternatives throughout the field of science essentially replacing technical options for modules delivered by suppliers. This approach is particularly relevant for industries where patent-protected components or systems are already successfully employed, for instance, in aviation, engineering and automotive. 5

Manage spend. Managing spend is particularly useful in low-demand, low-supply markets, for example, in most indirect material categories such as maintenance, repair and operations. In these situations, the focus should be on volume bundling, commercial data mining, co-sourcing and demand. Apart from transparency in spend behavior (for example, through IT-based spend-cube solutions) it is a concrete approach to reducing costs and increasing value. A New Purchasing Era The Purchasing Chessboard is a holistic framework that maps each market situation for different purchasing organizations, allowing each to adapt to changing market conditions. The Chessboard is designed to address the challenges in a new age of procurement where purchasing becomes a key contributor to a company's success. Authors Christian Schuh, partner, Vienna christian.schuh@atkearney.com Michael Strohmer, principal, Vienna michael.strohmer@atkearney.com Robert Kromoser, principal, Vienna robert.kromoser@atkearney.com Federico Mariscotti, director, Middle East federico.mariscotti@atkearney.com 6

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