industry value chain strategies

July 2009

Successful Supply Management: Its About How the Relationship Is Defined

by Jane Barrett

hile traditional supply chain processes focus on efficient transactions, value chain networks are built on effective relationships. The difference is not trivial, and it challenges deep-seated traditional supply chain paradigms. In fact, it has shaped winners and losers in the automotive market today. To test our assumption, we turned to Dave Nelson, a renowned expert in supply management with experience in transforming value chains at Honda, Deere & Company, and Delphi Corporation, for insight.

While traditional supply chain processes focus on efficient transactions, value chain networks are built on effective relationships. The difference is not trivial, challenging deep-seated traditional supply chain paradigms. In fact, it has shaped winners and losers in the automotive market today. To test this assumption, AMR Research turned to Dave Nelson, a renowned expert in supply management with experience in transforming value chains, for insight.

and positions Mr. Nelson had held. But whats more important to our readers is how he transformed both companies supply management organizations and supply bases for massive, ongoing savings. What kind of savings are we talking about exactly? In 2000, he spent $7M on supplier development reengineering at Deere. The hard dollar return was $22M, but there were also powerful side benefits, such as reduced inventory and floor space. In maintenance, repair, and overhaul (MRO) alone, Deere reduced the number of suppliers from 1,675 to 20 and cut costs by 13%. But the greatest benefits stemmed from building deep, loyal, trust-based relationships with suppliers. In our interview with Mr. Nelson, we were struck by how simple it is, or can be, if its done right. While we expected him to describe a high-powered supply management strategy, he talked instead about the basics of honesty and integrity, cooperative spirit, and long-term relationships. Its not about advanced technology the building blocks are training and mentorship to develop the right organizational talent. We searched for the silver bullet only to find the true gold in focused leadership. Here are some excerpts from one of the most refreshing and enlightening discussions weve experienced in our coverage of supply management.

The man, the myth, the accomplishments

We have always been impressed by Mr. Nelsons work in supply management, but for those unfamiliar with him, lets start with a little background. Early in his career, he spent 30 years with global automotive supplier TRW, holding positions in manufacturing, procurement, distribution, quality, sales and senior management. He then moved on to Honda of America as a vice president of purchasing and became a member of the board of directors. After 10 years, Deere & Company lured Mr. Nelson back to his roots (he grew up as a farm boy raising horses) to run its supply management organization. Later, he moved on to Delphi Corporation. Under his leadership, both Honda and Deere were awarded Purchasing magazines Medal of Professional Excellence, and we can list numerous other accolades

Industry Value Chain Strategies | July 2009

2009 AMR Research, Inc.

AMR Research: What changed that enabled these companies to achieve such a payback? Mr. Nelson: Decades ago, auto manufacturers were vertically integrated, and only 30% to 40% of the product cost was sourced. Companies owned their own foundries, press shops, and machine shops. Today, 70% to 80% of a product is sourced. Think about it. Only 20% or 30% of the cost of the products is impacted by your company, including all the capital expenditures in factories, machinery, employee pay and benefits, R&D, and facilities. This is a major shift. Step back and think about the focus of investments in lean, Six Sigma, and continuous improvement initiatives. They have been focused on manufacturing. So a 20% improvement on 20% of the cost of a product is honorable, but what about focusing on improving the other 80%? The greatest win lies with supplier relationships. AMR Research: What is the most important factor in developing a world-class supply management organization? Mr. Nelson: Deep knowledge of every aspect of the process: procurement, engineering, costing, equipment, standards, quality, and logistics. When I joined Honda, most parts were sourced from Japan, and I had to build a procurement organization for local sourcing. I hired over 200 undergraduates from the best schools. We brought 62 experts covering every aspect of the business from Japan who mentored these youngsters for 10 to 12 years. They are now masters, and some have gone on to be procurement leaders in other large organizations. The depth of learning in the Honda or Toyota philosophy is so deep it cannot be compared to other companies. If you use a scale of 1 to 10 in deep knowledge, where Honda and Toyota are 10, the domestic automakers are at about 2. Well, maybe Ford is advancing. Since Mulally took over, he has focused Ford on becoming lean and developing better supplier relationships. I always said the Big 3 will go bankrupt sooner or later, unless they change their ways. AMR Research: Looking back at your accomplishments and where most companies are today, where should they start on this supplier development journey? Mr. Nelson: First, you need to decide on your top 100 suppliers, where you will source 90% of volume. Make this decision collaboratively and cross-functionally with operations, quality, and engineering teams.
2 2009 AMR Research, Inc.

At Honda, we had a chart with 12 attributes for supplier selection, but the criteria that outweighs all others is management attitude. The selected supplier would become a Honda company. This isnt to say it couldnt sell to others, but most of its sales would be to Honda. We would have a handshake agreement regarding costs, and the company would agree to make parts for our cost target. Why did they agree so readily? Honda ensures they make money. If a supplier cannot make a part for the cost target, we would send in a lean team to help it reduce costs. If we couldnt help the supplier with being profitable, it meant we missed the boat. We would pay it more to ensure profitability, but this almost never happened. AMR Research: You talk about working together with other groups like engineering and operations to select the top suppliers. Getting consensus is hard, so who has the last say? Mr. Nelson: Working cooperatively and finding suppliers with the right attitude is most important. I remember once we were assessing suppliers and engineering really wanted to keep one on the top 100 list. This supplier had a great attitude, but fell far short in operations. But I knew I could send in a lean team to fix that, so we chose that supplier, and engineering was happy. The relationship with engineering was more important than winning that battle. AMR Research: How does Honda continue to take costs out of its processes? Mr. Nelson: Its relentless about cost reduction through cooperative methods. Each time a part changed, we would take 30% of the costs out. Sometimes you cant get that in metal, but you can in electronics. Suppliers help find those savings. We used to have supplier study groups, which was learned from the Japanese, where we would get groups of suppliers together each quarter in one of their plants to share ideas and focus on how to become more competitive without the presence of Honda. These suppliers were often competitors. One once said to me, So you want me to call in my competition and share my propriety information? Never! He attended a study group at another supplier location, and nine months later he called me and admitted he made an ass of himself and offered to have the next meeting at his factory.

Industry Value Chain Strategies | July 2009

AMR Research: How long does this journey take in a large organization? Mr. Nelson: Four years. It takes time, and heres an example why. We talked about management attitude being the most important criteria for selecting a supplier. At Honda, we were looking for a stamping supplier and selected eight potential partners. We sent their CEOs to Japan to look at dies, and during this trip, we got to know them. One CEO was the epitome of integrity, and we selected his company. I explained how things would work and that we needed an open-book policy. Well, this guy went whitehe said he couldnt do that. He didnt even have an open book with his wife. But because of his integrity, we selected him. He developed confidence in us as our engineers helped him improve his operations and make money. Three years later, he called me to say he was ready to work open book. I knew it would come someday. Sometimes you cant force things. Well, you do in a way, but you dont let anyone know you are. You need to have a cooperative spirit and get teams to work together. Engineering and purchasing sat in the same room in every engineering center at Honda. AMR Research: What about 2009? So many suppliers are in financial difficulty. Mr. Nelson: These are times the likes of Honda and Toyota have never seen before, so there is grave concern. First, they will beef up communications with suppliers and constantly know where they are financially. If supplier volume has dropped 50%, the OEM will step in and help because they have a commitment to the supplier in good times and bad. And their suppliers will cut to the bone and do whatever it takes. Theyll cut profit for Honda and Toyota because they know it will come back in the long term.

But in all economic times, you need to be close to your suppliersvery close. We used to have an annual halfday meeting with senior management on our side and the suppliers. We would walk through their shops and give constructive criticism. Wed then go through 47 elements that included financial, cost, quality, delivery, and other metrics, focusing on year-versus-year performance as well as the next three years. We needed to be sure they could grow. We looked at their factory capabilities and hiring plans. If it looked like they were potentially getting in trouble anywhere, we would go in and help them. AMR Research: Can you comment on sourcing from Asia versus local supply? Mr. Nelson: Almost 100% of the time, the costs to buy from China are outrageous. Delphi bought parts from Asia, and the cost of sending engineers across could be three times more than planned savings. But many times U.S. manufacturers are too slow and expensive. For example, in tooling, we brought in four small U.S. toolmakers and taught them how to be competitive. People questioned me when tooling is so cheap from China. But now these guys are so competitive, they sell stuff to China. The Japanese know tooling, and these guys learned how to build it fast, like in a week rather than months.

The wake-up call

Mr. Nelson wrapped up the interview by saying, I believe that in many companies today, the capability of the supply base affects their competitiveness more than any other single factor. As we step back and view the automotive value chain from a macro perspective, there could not be a truer statement. The difference between GM and Chryslers transactional approaches to procurement versus Hondas focus on building true value in supply relationships has redefined the competitive landscape. AMR Research agrees with Mr. Nelsonit should be a wake-up call.

Industry Value Chain Strategies | July 2009

2009 AMR Research, Inc.