Strategic Sourcing
Dr. Ron Lembke
Operations Management
Old View of the World
One company does all
processing, from raw
material through delivery
Vertical Integration
Henry Ford’s River Rouge Plant
Owned forests, iron mines, rubber plantation, coal
mines
Ships, railroad lines
Dock facilities, blast furnaces, foundries, rolling
mills, stamping plants, an engine plant, glass
manufacturing, a tire plant, its own power plant,
and 90 miles of RR track
1927 Model A Production begins
15,000,000 cars in 15 years
120,000 employees in WWII
Supply Network View of the
World
• Integrated international networks
of companies process, produce
and distribute products.
Spring Hill, Tennessee
Saturn Layout
Computer Example
Wacker Siltronic makes silicon wafers:
buy sand
grow into long crystals
slice into thin wafers
Chip Production
Chip burned in a $2b “wafer fab”
Wafer cut into chips and
“packaged”
CD Drive
Chip stuffed onto board by
Flextronics, Celestica, etc.
CD drive assembled by
separate contract
manufacturer
Green Printed Circuit Board
from different supplier
CD drive, with a brand
name on it, sold to Gateway
Apple and Foxconn
EMS elect mfg services
Foxconn:
Shenzhen, mile square
1 million workers
Largest private employer in China
90 million iPhones
Global CE industry = $150b
Foxconn = 40% = $60b
Headline Risk
10 hour days, crowded dorms
Terry Gou:Clean, affordable
Good food
17 suicides in 10 yrs
¼ rate US college students
9 in March-May 2010
Below national average
HK ngo:12hr*13days iPad?
Counseling, outsource dorms
10,000 horses galloping
Supply Chain Designs
Supply
Low
Uncertainty
High
Demand Uncertainty
Low
High
Efficient
Responsive
Risk-Hedging
Agile
Efficient – economies of scale
Risk-Hedging – pooled resources, multiple
sources of supply, share inv., need good IT
Responsive – Changing consumer needs,
mass customization, build-to-order
Agile – responsive to changing needs,
pooled resources
Modular Components
Take advantage of modules: parts or
products previously prepared
Restaurants: prepared ingredients,
assembled to order
Suppliers can develop new, interesting
products to use more quickly, cheaply
Variety is gained by different
combinations of same components
Bullwhip
Effect
Lack of information sharing can cascade
through the supply chain.
Small changes at retail level lead to huge
swings at manufacturing, like a bullwhip
Several retailers order all at once, distributor
thinks sales have jumped, orders a much
bigger order, etc.
Better: sales info shared along “Value Chain.”
Graph: Disney & Towill, 2006, Supply Chain Mgt: An Intl J
Electronic Data Interchange
My computer talks to yours, tells you exactly
what I want to order, when
You fill out a form, very compressed message
sent, viewed as form
Software, hardware expensive to implement
Sample Purchase Transaction
ST88850*1
BEG*00*NE*00498765**010698
PID*X*08*MC**Large Widget
P01**5*DZ*4.55*TD
CTT*1
SE*1*1
Transaction Set identifier
Beginning of Segment
Description of Product
Baseline Item Data
Transaction Totals
End of Segment
XML
e
Xtensible Markup Language
Perfect for E-Business
XML provides self-describing information.
Easier to implement or modify than EDI.
Expected to eventually, replace EDI, but not
nearly as fast as was expected.
Standardization through RosettaNet efforts
XBRL
Standardized set of tags for financial
transaction
Identifies data as being Q3 EBITDA, 2011,
for WidgetCo.
No rekeying, fewer errors, easier research
2009 - SEC required for external
reporting, 500 largest public cos.
XBRL.org
Strategic Sourcing
Has to be feasible to outsource
Assembly line balancing – probably not a
step in the middle
Figure out what to buy from whom
What do we want to accomplish?
More effective!
More efficient!
Continuous Process Improvement?
Outsourcing - What is it?
Transfer activities to outside providers
Outside providers do activities
Resources: people, facilities, equipment
Decision-making responsibility
OEM = Original Equipment Manufacturer
name on the product, does not produce
Flextronics/Solectron, Foxconn makes it for
you
Outsourcing – Why do it?
Organizationally-driven reasons
Focus on what you do best
More flexible capacity
Employees: career paths
Improvement-driven reasons
Better quality & productivity, cycle time
Gain skills not otherwise available
Associate with superior providers
Financially-driven reasons
Reduce assets, improve ROA
Lower fixed costs
Cash from selling capital equip.
Make or Buy Decision
Reasons to Make
DIY: Lower cost
No capable
suppliers
Inadequate supply
Competitive Issues
Core competencies
Specialization
Reasons to Buy
Low purchase cost
Lack of capacity
Want to gain skill
Reduce inv. costs
Management focus
Patent issues
Other Factors
Degree of coordination with other
activities
Relationship-specific investments
Easy to copy technologies, or low IP
(intellectual properties) protection
Second-tier sub-suppliers
What to not Outsource
Core activities
Key to the business
Do not confer competitive advantage
Strategic activities
Key source of competitive advantage
X-box – Microsoft never considered making
Flextronics in Guadalajara
$5 / hr vs. $1 in Doumen, China
A CautionaryTale
In 1981, IBM ‘PC’.
Consumers care about
hardware
No one cares about the
software that lets them
talk to the processor.
Outsourced the OS to
whom?
Anybody heard
of “Microsoft?”
UCSD Pascal $450
CP/M
$175 IBM: 2005 Lenovo $1.75b
MS: 2010 After Tax $18b
MS-DOS
$60
Outsourcing in the News
The World Is Flat
Bandwidth glut of dot-com boom
IT & telecommunications changes
Nobody can tell you’re calling India
White collar jobs – now it’s serious
Educated workforces
Call centers, programmers
Privacy / security concerns
Mass Customization
Highly customized
Integrate design, processes, supply network
Supply components cheaply to production
points
Fast, responsive production, quick
delivery
Higher weight, lower value
Supply Chain Technologies
ASN -- lets customer know exactly what
has been sent
Drop Shipping -- Supplier sends directly
to the store, not to store’s warehouse
Computer sent to house via UPS
3PL: Third-party Logistics Provider
Trucking companies, manage inventories,
anything you don’t want to do
Managing the Supply Chain
Postponement -- withhold any
modification until as long as possible.
Keep product generic “vanilla”
HP
Benetton
Home Depot paint department
Channel Assembly -- have distributor
assemble products from components
HP Inkjet Printers
Printers made in Vancouver, sent via
ship through Panama Canal to Europe
Europe warehouse stocks inventory by
country
physically different-- power supply
manuals different languages
Substitution not allowed
Re-supply time very long
Euro Plugs
No standardized
power supplies
for Europe
Different power
supply for every
country.
HP Inkjet Printers
Redesigned printers so that power supply
added in Europe
Re-engineer product, power supply
Assembly done in a warehouse (Quality?)
Manuals added in Europe
Many expensive changes
Store ‘vanilla’ boxes – one pile
Piles of power supplies & manuals
Cheaper to store than printers
Postpone point of differentiation
25% cost reduction
Hau Lee, Corey Billington, Brent Carter, Interfaces, 1993
Delayed Customization
Before
Production Storage
After
Shipping
Storage
Benetton
Sweaters of undyed wool, dyed once demand is
known
Dyeing LT much faster than production
How many undyed sweaters to make?
How many Red, Green, Blue, also, if this production
process is cheaper, and you know you’ll sell some
minimum amount?
Behr Paints
Small # of bases
Small # tints
Unlimited # combinations
Keep stock colors on hand?
How many gallons?
Which ones?
Lower labor costs
Higher inventory costs
Supply Chain Performance
Inventory Turnover (turns) =
Cost of goods sold / Average inv. Value
Annual sales = $3m at cost, avg inv $500k
Turns = $3m/$500k = 6.0
Fill Rate = Percentage of orders
shipped on time
Shipped 1500 orders last month, 1462 left
on time, in full
Fill Rate = 1462/1500 = 0.9747
Weeks of Supply
Weeks of supply (annual avg) =
(Avg Inv Value / Annual CoGS )*52 Weeks
Annual sales = $30m, CoGS=$25m, Avg Inv
= $2.5m
Turns = $25m/$2.5m = 10.0
Weeks of Supply = $2.5m/$25m*52=5.2wks
Weeks of Supply-Real Time
Predicted sales(at cost) over next
month
Weeks Supply =
Current Inventory $ at cost
Forecasted Sales per week at cost
sales next month=$4m, at cost=$3.2m
weekly CoGS=$0.8m
Current Inv (at cost) = $2.2m
Weeks Supply = $2.2m/$0.8m = 2.75 wks