Most companies that buy in China use the same approach – they try to negotiate low prices by putting many suppliers in competition. And it used to work well, particularly up to around 2009.
Here CMC explores the 5 levels of best practices in procurement from Chinese suppliers here, so you can start re-evaluating your procurement policy...
Over the past few years, however, extracting lower prices has become very hard. It might be time to reconsider your company’s approach – for example working on reducing total costs rather than the purchasing price, reorganizing the purchasing department by wide categories or by projects, and collaborating with suppliers to create value together.
In order to do so, let's look at best practices in procurement...
5 Levels Of Best Practices In Procurement
Here are 5 levels of maturity, from worst to best practices in procurement. As you read through them, ask yourself: ‘Could this apply in our company, for certain product lines?’
Note: the classification I laid out above is nothing new. A McKinsey consultant, Mark Keough, described it more than 20 years ago. But it has proven its value in many companies and offers a very helpful grid for analysis and exploration.
Type 1: purchasing clerks take no decision and have no weight in the buying process (e.g. buying office supplies from a catalogue).
- Pros: very little time spent by the buying organization.
- Cons: price might not be competitive; a one-time purchase might lead to high inventory; quality issues might be discovered years later; no planning and frequent shortages.
Type 2: purchasers use competition to get suppliers to drop their prices (e.g. getting 20 quotes on the Canton Fair for the same product). This is how most companies purchase goods in China.
- Pros: most professional purchasers are experienced in this approach; reductions of purchasing prices often reach 10-20% with limited effort.
- Cons: adversarial relationships with suppliers; consideration of the purchasing price, not the total cost of ownership; quality risk increases; constant risk that a key supplier goes out of business.
Type 3: purchasers adopt a new strategy (consolidation of the supplier base) to reduce costs while at the same time avoiding hidden costs.
- Pros: consolidation of the buying power in each category (across countries) can result in higher savings; purchasers take into account quality costs, shipment costs, etc.; dealing with fewer suppliers means they are easier to follow; ‘supplier development’ efforts make sense.
- Cons: suppliers are told to “make their profit on volume” but this is quite dangerous – any mistake hurts badly when margins are very thin (for example GM pushed Delphi into bankruptcy with this approach).
Type 4: the whole company works more closely with key suppliers and involves them in long-term planning and decisions.
- Pros: working with suppliers and integrating the supply chain (developing common standards, developing products together…) can decrease total cost.
- Cons: purchasers typically need to be engineers with industrial experience; many purchasers have trouble changing their mindset and working collaboratively with suppliers; each side of the table has KPIs that are not always aligned.
Type 5: the company collaborates with key suppliers based on a framework that aligns each party’s objectives. Here we are describing truly best practices in procurement.
- Pros: a long-term relationship allows for joint investments in new materials, technologies, and products; goals are to add value to customers and reduce total costs.
- Cons: purchasers need serious industrial experience; top management need to support the strategy fully and win over the skeptics.
Is it idealistic? Not at all. Some organizations have reached the 5th level. Our COO, David Collins, worked as plant manager for Chrysler when the SCORE system was in place (before Daimler bought the company and imposed its own way of working). The SCORE system gave points to suppliers who suggested ways for Chrysler to improve its processes or save money. In exchange, the supplier could charge a higher price and still get new business.
Potential Obstacles To Expect
Now, let’s say it makes sense for your company to go up one or two levels. What are the main obstacles you should expect?
- Bad sourcing decisions – for example the supplier is too large and won’t listen to you.
- Poor supplier management system – you have established a deeply antagonistic relationship with your suppliers and any suggestion for collaboration will be met with skepticism.
- Resistance from some department(s) in the buying organization – this will probably happen, especially if top management is not exerting strong leadership.
To sum up, it might make sense for you to change your procurement policy. You can’t jump to so-called ‘best practices’ right away. It might actually not make sense, especially if your products are simple and labor-intensive. You need to consider the challenges carefully and do a pilot test with 1 or 2 suppliers first.
Have you tried some of these approaches to procurement? Did you have any success, or conversely, were you disappointed? Share your experiences in the comment form below!