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Partnership among Finnish manufacturers
~
Pergamon
European Journal of Purchasing & Supply Management, Vol. 2, No. 4, pp. 161-167, 1996 Copyright (~) 1996 Elsevier Science Ltd Printed in Great Britain. All rights reserved 0969-7012/96 $15.00 + 0.00
S0969-7012(96)00011-1
Partnerships among Finnish manufacturers Ulla Lehtinen Industrial Engineering and Management Laboratory, University of Oulu, PO Box 444, FIN-90571 Oulu, Finland This paper discusses the development of supplier networks and supplier--customer relationships among Finnish manufacturers, based on several case studies. The purpose of the paper is to add to the body of knowledge of intercompany relationships, and to point out additional issues for further discussion. The findings of the study show that there has been a significant shift towards stable, commitment-based supplier-customer relationships among Finnish manufacturers. The supplier structure identified could be described as a horizontal network rather than hierarchical tiers. The management of the material and information flow both in the network and within companies appears to be essential for the success of partnerships. Copyright © 1996 Elsevier Science Ltd Keywords: partnerships, subcontracting, supplier structure
Over recent years, there has been a significant shift in the way many companies approach supplier-customer relationships. Today, the concept of supplier-customer partnerships is being adopted at an increasing rate by US and European, including Finnish, companies. Along with the just-in-time concept this 'new' philosophy of supplier-customer interorganizational relationships, based on the Japanese supplier policy, was introduced in the early 1980s. Schonberger (1986, 155-156) explains that supplier development means making the supplier 'like family', the relationship being cost-prohibitive, unless there is a clear intent to stay with the supplier for a long haul. In O'Neal's (1989) words, the linkage between the supplier and the customer has many attributes of a (positive) marriage relationship, including careful choice of the marriage partner, extended time horizon, partner interdependence, closeness or intimacy of the partners, openness in communication, and provision of support activities to maintain the positive relationship. Ellram (1995) defines 'partnering' as a two-way relationship involving a mutual exchange of ideas, information and benefits. Lamming (1993, 195) presents the lean supply model of supplier-customer relationship. Lean supply goes beyond partnership and the Japanese model, requiring the supplier to develop technologies and form strategies for global cover separately from the requests of its customers. The supplier may become the technology leader - the 'pushy' partner.
The main elements of the partnership model are widely documented (Womack et al, 1990, 138-168; Lamming, 1993, 194) and, to a notable extent, a precondition for successful implementation. They are: • • • • • •
long-term business agreements; single or dual sourcing; target costing; integrated R&D; JIT delivery practice; open sharing of technical and commercial information; • joint problem solving; • continuous quality improvement.
Supplier structure
Design of the supplier structure can be divided into two issues: the way the suppliers are organized, and the number of suppliers. The supplier structure favouring the partnership model is described in the literature as a multi-tier structure (Figure 1). This model is based on the Japanese subcontracting system, which is especially used in the automobile industry, and has been widely documented (Nakamura, 1984; Sato, 1984; Smitka, 1989; Blenkhorn and Noori, 1990; Womack et al, 1990, 146). There is close communication and coordination between the original equipment manufacturer (OEM), or the parent firm, and the first-tier suppliers (primary subcontractors). In the Japanese model, the first-tier 161
U Lehtinen
[•
OEM First-tiesruppe il r
~
~
~ ~
S ir suepcpoe ilnrsd-te Third-tiesruppe il rs
Figure 1 Model of a hierarchical supplier structure suppliers have been given responsibility for product development, systems undertakings and JIT deliveries. These suppliers are each highly specialized in production and development in their own component area. Second-tier suppliers are smaller, have less expertise, generally specialize in a narrower range of products, and work with production and/or processing. Third-tier suppliers are even less sophisticated in terms of competence and activities (Gadde and Hhkanson, 1993, 44). In the Japanese subcontracting system the supplier associations have been central for both sharing information and the diffusion and administration of system-wide management techniques among suppliers on the lower tiers (Smitka, 1989, 150). Lamming (1993, 186-190) argues that the terms 'first-tier' and 'second-tier' could be used to indicate the degree of influence that the supplier exerts on the supplier chain, rather than some fixed position in a hierarchy. Thus first-tier suppliers are ones that integrate systems for direct supply to the OEM, or have a significant technical influence on the OEM while supplying indirectly. Lamming also points out that the tiers in the industry represented by the post-Japanese model are not quasi-ownership tiers, nor are they fixed company classifications. They are groupings formed by collaboration for specific supply purposes. Companies may be first- and second-tier at the same time, even relative to the same customer. Lamming emphasizes the responsibilities of first-tier suppliers, which are research and development, management of subcontractors, true just-in-time supply, customer-dedicated staff, and responsibility for warranty. In both the Japanese and the post-Japanese supplier structures there are not only vertical relationships, but also strong and more common horizontal formal and informal relationships between the suppliers, linking them through technology and product development, joint ventures, etc (Lamming, 1993, 180; Hines, 1995). A distinct trend towards a substantial reduction of 162
the number of suppliers has been recognized among Western automobile and other companies during the past decade (Lindberg and Trygg, 1991; Gadde and Hfikanson, 1993, 41-42). There are three ways in which the OEM can reduce the number of suppliers. Firstly, it can 'tier' suppliers by assigning whole components to a first-tier supplier. Second, the OEM can cut the number of suppliers by reducing the parts count in components. Third, the OEM can single-source parts that previously had two or three suppliers. OEMs go to single sourcing (one supplier per product or product type) to get longer production runs of a single component and to avoid duplication of tooling (Womack et al, 1990, 158). Apart from single sourcing, two other approaches - dual sourcing and network sourcing have also been presented in the partnership model. Dual sourcing is used when one supplier is unable to provide all the volume required, the variety required or the delivery needs (Lamming, 1993, 171). In the network-sourcing system, more than one source is used per product type, with only one used for a single product or code number (Hines, 1995, 19).
Methodology and research environment Methodology The findings described in this paper are based on studies on subcontracting systems and strategies of subcontracting manufacturers conducted since 1988. The term subcontracting is used to refer to the supply of customized semifabricated products (parts, components, modules) or services. The first research project was carried out in 1988-1991. The ongoing follow-up study focuses on the issues of development of the supplier structure based on the long-term partnerships. The case study methodology has been used. In earlier research (Lehtinen, 1992), the business and purchasing strategies and relationships of 16 subcontractors and 8 OEMs were studied using multiple methods, such as personal interviews, quantitative data and questionnaire surveys. The companies studied formed supplier chains: ie there were business relationships between the OEMs and the subcontractors. In the present study, the companies studied formed a supplier network of OEMs, and both vertical and horizontal relationships were studied. Most of the OEMs and subcontractors participating in the study had also taken part in the earlier research, providing an excellent possibility for studying the development of partnerships in the long run. The approach of the study is both practical and theoretical. The findings presented in this paper, which is a review of the present research, are not yet based on the empirical data, but on personal experience and interviews. Research environment The Finnish manufacturing companies studied are operating in industrial markets characterized by
Partnerships among Finnish manufacturers
material flow information f l o w
• .....
Figure 2 Model of a horizontal supplier structure based on material and information flow customized final products, small orders and low repetitive production. Even though the final products, such as industrial machinery, telecommunications, and industrial automation systems, are customized, the components manufactured by the subcontractors could be standard ones, including a wide range of options and variants. Both the final products and the subcontracted components are usually made to order, and very small stocks are kept by the subcontractors. The subcontractors studied were small and mediumsized companies operating in home markets, which means a rather limited customer base. In the late 1980s, the subcontractors' profitability in Finnish manufacturing industry was rather poor on average compared with that of the OEMs, which was a consequence of high investment costs compared with productivity. While demand in the metal products industry decreased during the recession in the early 1990s, the markets for the electrical and electronics industry have rapidly grown the production volume of the industry has doubled during the 1990s.
Findings of the study Development of supplier structure In the development of the supplier structure, three distinctive stages were identified. In the first stage, the OEM reduced the number of suppliers by assigning subassemblies to certain suppliers, which became firsttier suppliers or system suppliers, as they are called in Finland. The number of suppliers was also cut by using fewer suppliers per product type, ie by moving from network sourcing to single sourcing. Especially in electronics, the change of product structure towards more
standardized modules has reduced the number of subcontracted parts, and the number of suppliers has therefore also decreased. In some cases an in-house manufacturing unit changed to be a subcontractingbased manufacturer, and adopted the role of a first-tier supplier. Typically, the material flow changed before the contract-based structure emerged: ie either material flow or information flow in the supplier chain of an OEM was not convergent with the contract-based structure. In the second stage, the first-tier suppliers took responsibility for coordinating the inbound material flow from the lower-level suppliers. In the third stage, the structure of the supplier chain became more stable, and the subcontractors took a more active role in the product development process. The subcontractors studied have quite a large customer base, even though 20% of the customers, ie 3-6 customers for first-tier suppliers, usually bring over 80% of the sales. The common rule that one customer or supplier should not contribute more than 25% of the purchases or sales is well known. Thus the subcontractor is usually a 'member' of several supplier networks. On the basis of the present findings, the importance of the purchasing function - the ability to supply parts and materials as well as to cooperate with other companies - appears to have increased among the subcontractors. Especially in the electronics industry, the first-tier suppliers have rapidly grown along with their OEMs, and have taken responsibility over sub- and final assembly. In spite of that, the supplier structure can be described as a stable horizontal network consisting of heterogeneous, independent manufacturing companies making up the value chain for manufacturing the final products (Figure 2). This structure resembles more the model described by Lamming than the Japanese hierarchy (Figure I), although the role of a first-tier supplier in both logistics management and product research may be of lesser importance than suggested by Lamming (1993).
Adoption of the partnership model The development of the supplier structure would not have been possible without simultaneous changes in supplier-customer relationships. The study shows that long-term relationships have always been relatively common among companies, even though the contracts for supply have been short term. Furthermore, in spite of network sourcing, single sourcing has also been quite common in order to obtain lower tooling and set-up costs as well as a secure and reliable source. The changed issue in supplier-customer relationships is the increased interdependence between partners. Subcontractors try to serve the main partners as well as possible, while the stable customer base enables them to plan their business in the long run. On the other hand, subcontractors are aware of how costly it is for customers to change long-term suppliers, especially in a situation where the domestic supplier markets are 163
U Leh~nen limited. The reasons why domestic or local suppliers have been preferred are not based on delivery aspects, but rather on cultural factors. Cooperation and problem solving have been easier when both parties speak the same language and are able to visit each others' factories during one day. Furthermore, the interdependence has growth, because the volume and importance of outsourcing has increased. The reasons causing a weakening or breaking up of long-term relationships are usually changes in the demand of an OEM or the manufacturing strategy of a supplier. It is seldom that any operational or personal problem has broken down a settled relationship. In practice, if a part manufacturer invests in a new machine, the capacity is first offered to the main customer. If the main customer is not able to allocate the capacity beforehand, it is offered to other customers. Afterwards, the first customer cannot claim the capacity for itself, because it has already been allocated to others for a long time. The study also showed that the subcontractors' role in the product development process used to be insignificant, although the involvement of the suppliers in the production preparation stage has increased. The cooperation between customer and supplier has mostly concentrated on maintaining product quality and keeping to delivery schedules. Furthermore, informal cooperation between non-competing subcontractors, with similar sizes and business cultures, has become more common as a consequence of the consolidation of the network structure.
Main problems perceived by OEMs and suppliers The main problems perceived by OEMs and subcontractors have been related to delivery performance. The OEMs are most concerned about the suppliers' ability to deliver in time, while the subcontractors consider the short delivery lead times and unpredictable order changes most problematic. This situation is due to many factors. First, small subcontractors without inventories often find it very difficult to purchase components and materials at short notice, particularly from big multinational companies. Second, there is little or no experience of purchasing management in the subcontracting firms. Third, the suppliers seldom get reliable, real-time information from the OEMs about the orders at hand or the marketing situation in the long run. The findings emphasize the importance of information sharing and good communication between the OEM and the suppliers. In order to achieve better delivery performance, the material flow and capacity of the supplier chain should be planned and controlled carefully by the OEM and/or the first-tier supplier. Partnership between an OEM and a first-tier supplier: a case example This case study describes the relationship between an OEM and a new first-tier supplier from the customer's 164
point of view. The focus of interest was to compare the supplier policy with the partnership model discussed previously. This case analysis deals with the relationship between Nokia Telecommunications (OEM) and the Scanfil Oulu factory (supplier) in 1992. The Access Systems Division of Nokia Telecommunications has a production unit in Haukipudas, near Oulu. The Haukipudas factory manufactures advanced transmission products, which are customized systems needed in telecommunication networks. The supplier, Scanfil, is one of the leading Finnish mechanics subcontractors for the electronics industry. In 1992, Scanfil had two factories at Sievi and Oulu. The Oulu factory was started in 1990, and it has an FMS automated production line and surface treatment lines. The business relationship between the Haukipudas factory and Scanfil had started in 1985. The case analysis was divided in three parts: (1) The purchasing strategy and policy of the Haukipudas factory (OEM) was analysed. (2) The contacts and information flow between the parties were examined. (3) The supply chain and material flow of the most important subassembly were studied.
Purchasing strategy The purchasing organization of the Haukipudas factory was situated mainly in Espoo, near Helsinki. The purchasing unit was responsible for contracts, supplier selection and evaluation. The duties of the logistics unit consisted of logistics development and sourcing. The production planning and quality divisions were situated in Haukipudas. The quality division was responsible for the development of the suppliers' quality and also participated in the suppliers' quality audits. The purchasing strategy was defined by the purchasing manager and the director of the Haukipudas factory. The suppliers were divided into three categories: (1) The main suppliers were able to supply systems and repetitive parts. A close partnership relationship was established with these suppliers. (2) The secondary suppliers may have had a production technology similar to that of the main suppliers, but a more limited production volume. They supplied small orders. (3) The third-category suppliers were specialized in parts or standard components. Single sourcing was used in categories 1 and 2, while dual sourcing was always used in category 3.
Contract policy The supply contracts were agreed on yearly. In these contracts the unit price was defined on the basis of a yearly forecast of volume. If the supplier had to keep extra buffer stock, compensation was paid by the OEM.
Partnerships among Finnish manufacturers Pricing policy The price level of a newly supplied item was first defined by tenders. After the supplier had been selected, the company had to present the full cost structure of the item. Total manufacturing costs were calculated as a sum of the costs of outsourced material, production costs divided by manufacturing steps and profit. The costs of special tools were paid separately. The price was checked yearly; changes in the outsourced materials costs or the production volume also had an influence on the price. Target costing was not used, even though suppliers were favoured if they were able to reduce the price. The principle of sharing the profit (Womack et al, 1990, 150), achieved through continued improvements, was unfamiliar to the company.
Suppliers' involvement in product development Traditionally, suppliers were only involved in product development at a late stage. In addition to this, some compensation was paid to subcontractors for spending time to work on the development process. In the early 1990s, the suppliers' personnel could take part in product development meetings after the beginning of the process. The practice of integrated product development was not adopted by the OEM, because the supplier could not be 100% sure of getting the contract after the product development project had been completed.
Contacts between parties The contacts could be classified in terms of daily, weekly, monthly and yearly shared information. Information about delivery calls was exchanged daily. If some quality problems were found, the quality personnel of the OEM informed the supplier weekly. A monthly meeting was held between the purchasers and the manager of the supplier's factory. Some meetings could also be held concerning new product developments. Contract negotiations were arranged annually, and the executive managers of the companies also met. Some of the shopfloor workers were advised by the OEM's quality personnel concerning quality matters, but no shared education was organized. There was no 'supplier association of Nokia', but a 'suppliers day' for the main suppliers was arranged once a year. In these contacts the OEM was the active partner, and direct horizontal contracts were promoted. An interesting issue with regard to information flow is the different organization structure and size of the OEM and the supplier. The Scanfil Oulu factory had a very 'lean' organization, with only a few managers and no supervisory staff. In practice, only a few persons in the factory had actual contacts with the OEM. If only a limited number of personnel in the companies have direct contacts with each other, it is crucially important to decide how the information flow is managed intern-
ally in the companies. Thus, in what way is the supplier able to get market information from the OEM's marketing department? How could the workers of the supplier advise the design engineer of the OEM on the manufacturability of parts? How are joint development projects organized?
Material flow in the supplier chain At the third stage of the study the material flow of the main supplied subassembly system was analysed. Earlier, this subassembly was assembled in the OEM's factory and the circuit board assembly was also made in house (Figure 3). After the Scanfil Oulu factory was started, the production of this subassembly was transferred to the supplier. The supplier chain and delivery lot sizes are presented in Figure 4. The Scanfil Oulu factory delivered the system to the Haukipudas factory prepackaged. In the OEM's factory, only quality checks were made before the subassembly was shipped as part of the final product to the customers. The supplier chain consisted of three tiers of suppliers. The first-tier supplier, Scanfil Oulu, 'inherited' most of the part suppliers from the OEM, although Scanfil could freely award the deliveries to new part suppliers. Most of the lower-level suppliers also delivered directly to the OEM: the circuit board manufacturer, for example, was also a very important first-tier supplier to the OEM. The contacts between the firsttier supplier and the other suppliers were insignificant. The production volume of the subassembly system varied yearly; the maximum level was less than 5000 pieces, including six different versions. The delivery practice of the OEM was based on an MRP system, the delivery lead time given to the supplier was 2-3 weeks, and the lot size was constant. The system was manufactured on the basis of orders in the supplier's factory. The supplied parts were considered as C items and were ordered in large quantities.
Conclusions from the production point of view The analyses of process steps and the interviews of employees confirmed the assumption that a pricing policy based on yearly volume was unrealistic from the production point of view. The system did not encourage the supplier to make improvements. The production costs were also quite independent of the yearly volume, because the batch sizes were constant. Furthermore, the manufacturability of the system was already decided by the OEM at the process development stage, and the employees were unable to make improvements that could have reduced the production costs to a significant extent. Both target costing and joint product development projects were found to be useful tools in achieving product cost reductions. The bottleneck of the supplier chain was the material flow between the first-tier supplier and the electronics parts manufacturers. Delivery delays were caused by 165
U Lehtinen
Finoalmers I Cust I FinalIproduct Nokia] --subassembl y y printedboardassembl al PC ~Sheet m[e.tal Package I I ~ I ~ IMechanicparts .~b°ardc°mp°nen+ --] Customitssed .
.
.
..........................
.
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i ....................................
Standard materiand al components
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Figure 3 Supplier chain before changing over to system delivery
the difficulties of the motherboard manufacturer in supplying PC boards on time. The first-tier supplier also lacked experience of managing the ordering system based on visual control. These problems were hardly identified by the OEM. When the total lead time of the subassembly from the beginning of production to delivery to the final customers was analysed, it turned out that the subassembly was stored in the inventory of the OEM for a very long time. It was obvious that not enough attention was paid to scheduling. By reducing lead times, considerable financial benefits could be achieved in the short run. The JIT delivery concept could also be applied to the process. Though the first-tier supplier could be responsible for the material flow, a direct information flow would be required between the OEM and the electronics parts manufacturers in order to manage delivery and variant changes. Conclusions and discussion The present findings show that there has been a significant shift towards stable, commitment-based supplier-customer relationships among Finnish OEMs and subcontractors. The supplier structure in a production environment characterized by low repetitiveness, a wide variety of products and customized design can be described as a horizontal network, similar to a team of players with different skills and experiences, rather 166
than as hierarchical tiers surrounding an OEM. There may be several best practices for creating supplier networks, depending on the nature of the products and the stage of development of the suppliers. In the future, the suppliers might themselves set up small networks for partnering with selected OEMs. In order to achieve a prompt response to the final customers' demand, the managerial focus should be on issues concerning the material and information flow in the network and within the companies. As a consequence of the new supplier structure the purchasing function has become more important among small and medium-sized subcontracting firms. Shared education and other mutual development projects are needed between an OEM and the supplier team as a means to overcome problems in purchasing and production management. In spite of long-term relationships and openness between customers and suppliers, partnerships involving integrated research and development, development projects and mutual sharing of strategic visions appear to be rare. The emphasis in the development of supplier relationships towards real strategic partnership should be both on improving effectiveness at the shopfloor level and on strengthening cooperation at top management level. Shared new product development projects involving all the strategically important players of the network are of utmost importance, not only to achieve lower production costs, but to consolidate the trust and informal cooperation between the parties.
Partnerships among Finnish manufacturers
Final Customers I
Final product (L=1-27) I
Other subassemblies
I S u b a s s e m b l y (k=144)
l
Scanfil Oulu I
- subassembly - sheet metal parts production I I
Sheet material
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Mechanical pa rts (L=1000-10000)
Package (L=3000)
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PC- board Customised components (L=I 00)
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Standard material and comoonents Figure 4 Supplier chain after changing over to system delivery. L is the lot size of delivery References Blenkhorn, D L and Noori, A H (1990) 'What it takes to supply Japanese OEMs' Industrial Marketing Management 19 21-30 Ellram, L M (1995) 'Partnering pitfalls and success factors' International Journal of Purchasing and Materials Management 31(2) 36-44 Gadde, L-E and Hfikansson, H (1993) Professional Purchasing, Routledge, London Hines, P (1995) 'Network sourcing: a hybrid approach' International Journal of Purchasing and Materials Mangement 31(2) 18-24 Lamming, R (1993) Beyond Partnership: Strategies for Innovation and Lean Supply Prentice-Hall, Hemel Hempstead Lehtinen, U (1992) 'Alihankintayritys ja strateginen yhteistyo' Research paper 1/1992, Industrial Engineering and Management
Laboratory, University of Oulu Lindberg, P and Trygg, L (1991) 'Manufacturing strategy in the value system' InternationalJournal of Operations & Production Management 11(3) 52-61 Nakamura, H (1984) 'Subcontractor system in Japanese industry', JMA Newsletter 20 4 O'Neal, C (1989) 'JIT procurement and relationship marketing' Industrial Marketing Management 18 55-63 Sato, Y (1984) 'The subcontracting production (Shitauke) system in Japan' Keio Business Review 21 25 Schonberger, R J (1986) Worm Class Manufacturing The Free Press, New York Smitka, M J (1989) 'Competitive ties: subcontracting in Japanese automotive industry' PhD thesis, Yale University, 217 Womack, J P, Jones, D T and Roos, D (1990) The Machine That Changed the Word Harper Perennial
167
Pergamon
European Journal of Purchasing & Supply Management, Vol. 2, No. 4, pp. 161-167, 1996 Copyright (~) 1996 Elsevier Science Ltd Printed in Great Britain. All rights reserved 0969-7012/96 $15.00 + 0.00
S0969-7012(96)00011-1
Partnerships among Finnish manufacturers Ulla Lehtinen Industrial Engineering and Management Laboratory, University of Oulu, PO Box 444, FIN-90571 Oulu, Finland This paper discusses the development of supplier networks and supplier--customer relationships among Finnish manufacturers, based on several case studies. The purpose of the paper is to add to the body of knowledge of intercompany relationships, and to point out additional issues for further discussion. The findings of the study show that there has been a significant shift towards stable, commitment-based supplier-customer relationships among Finnish manufacturers. The supplier structure identified could be described as a horizontal network rather than hierarchical tiers. The management of the material and information flow both in the network and within companies appears to be essential for the success of partnerships. Copyright © 1996 Elsevier Science Ltd Keywords: partnerships, subcontracting, supplier structure
Over recent years, there has been a significant shift in the way many companies approach supplier-customer relationships. Today, the concept of supplier-customer partnerships is being adopted at an increasing rate by US and European, including Finnish, companies. Along with the just-in-time concept this 'new' philosophy of supplier-customer interorganizational relationships, based on the Japanese supplier policy, was introduced in the early 1980s. Schonberger (1986, 155-156) explains that supplier development means making the supplier 'like family', the relationship being cost-prohibitive, unless there is a clear intent to stay with the supplier for a long haul. In O'Neal's (1989) words, the linkage between the supplier and the customer has many attributes of a (positive) marriage relationship, including careful choice of the marriage partner, extended time horizon, partner interdependence, closeness or intimacy of the partners, openness in communication, and provision of support activities to maintain the positive relationship. Ellram (1995) defines 'partnering' as a two-way relationship involving a mutual exchange of ideas, information and benefits. Lamming (1993, 195) presents the lean supply model of supplier-customer relationship. Lean supply goes beyond partnership and the Japanese model, requiring the supplier to develop technologies and form strategies for global cover separately from the requests of its customers. The supplier may become the technology leader - the 'pushy' partner.
The main elements of the partnership model are widely documented (Womack et al, 1990, 138-168; Lamming, 1993, 194) and, to a notable extent, a precondition for successful implementation. They are: • • • • • •
long-term business agreements; single or dual sourcing; target costing; integrated R&D; JIT delivery practice; open sharing of technical and commercial information; • joint problem solving; • continuous quality improvement.
Supplier structure
Design of the supplier structure can be divided into two issues: the way the suppliers are organized, and the number of suppliers. The supplier structure favouring the partnership model is described in the literature as a multi-tier structure (Figure 1). This model is based on the Japanese subcontracting system, which is especially used in the automobile industry, and has been widely documented (Nakamura, 1984; Sato, 1984; Smitka, 1989; Blenkhorn and Noori, 1990; Womack et al, 1990, 146). There is close communication and coordination between the original equipment manufacturer (OEM), or the parent firm, and the first-tier suppliers (primary subcontractors). In the Japanese model, the first-tier 161
U Lehtinen
[•
OEM First-tiesruppe il r
~
~
~ ~
S ir suepcpoe ilnrsd-te Third-tiesruppe il rs
Figure 1 Model of a hierarchical supplier structure suppliers have been given responsibility for product development, systems undertakings and JIT deliveries. These suppliers are each highly specialized in production and development in their own component area. Second-tier suppliers are smaller, have less expertise, generally specialize in a narrower range of products, and work with production and/or processing. Third-tier suppliers are even less sophisticated in terms of competence and activities (Gadde and Hhkanson, 1993, 44). In the Japanese subcontracting system the supplier associations have been central for both sharing information and the diffusion and administration of system-wide management techniques among suppliers on the lower tiers (Smitka, 1989, 150). Lamming (1993, 186-190) argues that the terms 'first-tier' and 'second-tier' could be used to indicate the degree of influence that the supplier exerts on the supplier chain, rather than some fixed position in a hierarchy. Thus first-tier suppliers are ones that integrate systems for direct supply to the OEM, or have a significant technical influence on the OEM while supplying indirectly. Lamming also points out that the tiers in the industry represented by the post-Japanese model are not quasi-ownership tiers, nor are they fixed company classifications. They are groupings formed by collaboration for specific supply purposes. Companies may be first- and second-tier at the same time, even relative to the same customer. Lamming emphasizes the responsibilities of first-tier suppliers, which are research and development, management of subcontractors, true just-in-time supply, customer-dedicated staff, and responsibility for warranty. In both the Japanese and the post-Japanese supplier structures there are not only vertical relationships, but also strong and more common horizontal formal and informal relationships between the suppliers, linking them through technology and product development, joint ventures, etc (Lamming, 1993, 180; Hines, 1995). A distinct trend towards a substantial reduction of 162
the number of suppliers has been recognized among Western automobile and other companies during the past decade (Lindberg and Trygg, 1991; Gadde and Hfikanson, 1993, 41-42). There are three ways in which the OEM can reduce the number of suppliers. Firstly, it can 'tier' suppliers by assigning whole components to a first-tier supplier. Second, the OEM can cut the number of suppliers by reducing the parts count in components. Third, the OEM can single-source parts that previously had two or three suppliers. OEMs go to single sourcing (one supplier per product or product type) to get longer production runs of a single component and to avoid duplication of tooling (Womack et al, 1990, 158). Apart from single sourcing, two other approaches - dual sourcing and network sourcing have also been presented in the partnership model. Dual sourcing is used when one supplier is unable to provide all the volume required, the variety required or the delivery needs (Lamming, 1993, 171). In the network-sourcing system, more than one source is used per product type, with only one used for a single product or code number (Hines, 1995, 19).
Methodology and research environment Methodology The findings described in this paper are based on studies on subcontracting systems and strategies of subcontracting manufacturers conducted since 1988. The term subcontracting is used to refer to the supply of customized semifabricated products (parts, components, modules) or services. The first research project was carried out in 1988-1991. The ongoing follow-up study focuses on the issues of development of the supplier structure based on the long-term partnerships. The case study methodology has been used. In earlier research (Lehtinen, 1992), the business and purchasing strategies and relationships of 16 subcontractors and 8 OEMs were studied using multiple methods, such as personal interviews, quantitative data and questionnaire surveys. The companies studied formed supplier chains: ie there were business relationships between the OEMs and the subcontractors. In the present study, the companies studied formed a supplier network of OEMs, and both vertical and horizontal relationships were studied. Most of the OEMs and subcontractors participating in the study had also taken part in the earlier research, providing an excellent possibility for studying the development of partnerships in the long run. The approach of the study is both practical and theoretical. The findings presented in this paper, which is a review of the present research, are not yet based on the empirical data, but on personal experience and interviews. Research environment The Finnish manufacturing companies studied are operating in industrial markets characterized by
Partnerships among Finnish manufacturers
material flow information f l o w
• .....
Figure 2 Model of a horizontal supplier structure based on material and information flow customized final products, small orders and low repetitive production. Even though the final products, such as industrial machinery, telecommunications, and industrial automation systems, are customized, the components manufactured by the subcontractors could be standard ones, including a wide range of options and variants. Both the final products and the subcontracted components are usually made to order, and very small stocks are kept by the subcontractors. The subcontractors studied were small and mediumsized companies operating in home markets, which means a rather limited customer base. In the late 1980s, the subcontractors' profitability in Finnish manufacturing industry was rather poor on average compared with that of the OEMs, which was a consequence of high investment costs compared with productivity. While demand in the metal products industry decreased during the recession in the early 1990s, the markets for the electrical and electronics industry have rapidly grown the production volume of the industry has doubled during the 1990s.
Findings of the study Development of supplier structure In the development of the supplier structure, three distinctive stages were identified. In the first stage, the OEM reduced the number of suppliers by assigning subassemblies to certain suppliers, which became firsttier suppliers or system suppliers, as they are called in Finland. The number of suppliers was also cut by using fewer suppliers per product type, ie by moving from network sourcing to single sourcing. Especially in electronics, the change of product structure towards more
standardized modules has reduced the number of subcontracted parts, and the number of suppliers has therefore also decreased. In some cases an in-house manufacturing unit changed to be a subcontractingbased manufacturer, and adopted the role of a first-tier supplier. Typically, the material flow changed before the contract-based structure emerged: ie either material flow or information flow in the supplier chain of an OEM was not convergent with the contract-based structure. In the second stage, the first-tier suppliers took responsibility for coordinating the inbound material flow from the lower-level suppliers. In the third stage, the structure of the supplier chain became more stable, and the subcontractors took a more active role in the product development process. The subcontractors studied have quite a large customer base, even though 20% of the customers, ie 3-6 customers for first-tier suppliers, usually bring over 80% of the sales. The common rule that one customer or supplier should not contribute more than 25% of the purchases or sales is well known. Thus the subcontractor is usually a 'member' of several supplier networks. On the basis of the present findings, the importance of the purchasing function - the ability to supply parts and materials as well as to cooperate with other companies - appears to have increased among the subcontractors. Especially in the electronics industry, the first-tier suppliers have rapidly grown along with their OEMs, and have taken responsibility over sub- and final assembly. In spite of that, the supplier structure can be described as a stable horizontal network consisting of heterogeneous, independent manufacturing companies making up the value chain for manufacturing the final products (Figure 2). This structure resembles more the model described by Lamming than the Japanese hierarchy (Figure I), although the role of a first-tier supplier in both logistics management and product research may be of lesser importance than suggested by Lamming (1993).
Adoption of the partnership model The development of the supplier structure would not have been possible without simultaneous changes in supplier-customer relationships. The study shows that long-term relationships have always been relatively common among companies, even though the contracts for supply have been short term. Furthermore, in spite of network sourcing, single sourcing has also been quite common in order to obtain lower tooling and set-up costs as well as a secure and reliable source. The changed issue in supplier-customer relationships is the increased interdependence between partners. Subcontractors try to serve the main partners as well as possible, while the stable customer base enables them to plan their business in the long run. On the other hand, subcontractors are aware of how costly it is for customers to change long-term suppliers, especially in a situation where the domestic supplier markets are 163
U Leh~nen limited. The reasons why domestic or local suppliers have been preferred are not based on delivery aspects, but rather on cultural factors. Cooperation and problem solving have been easier when both parties speak the same language and are able to visit each others' factories during one day. Furthermore, the interdependence has growth, because the volume and importance of outsourcing has increased. The reasons causing a weakening or breaking up of long-term relationships are usually changes in the demand of an OEM or the manufacturing strategy of a supplier. It is seldom that any operational or personal problem has broken down a settled relationship. In practice, if a part manufacturer invests in a new machine, the capacity is first offered to the main customer. If the main customer is not able to allocate the capacity beforehand, it is offered to other customers. Afterwards, the first customer cannot claim the capacity for itself, because it has already been allocated to others for a long time. The study also showed that the subcontractors' role in the product development process used to be insignificant, although the involvement of the suppliers in the production preparation stage has increased. The cooperation between customer and supplier has mostly concentrated on maintaining product quality and keeping to delivery schedules. Furthermore, informal cooperation between non-competing subcontractors, with similar sizes and business cultures, has become more common as a consequence of the consolidation of the network structure.
Main problems perceived by OEMs and suppliers The main problems perceived by OEMs and subcontractors have been related to delivery performance. The OEMs are most concerned about the suppliers' ability to deliver in time, while the subcontractors consider the short delivery lead times and unpredictable order changes most problematic. This situation is due to many factors. First, small subcontractors without inventories often find it very difficult to purchase components and materials at short notice, particularly from big multinational companies. Second, there is little or no experience of purchasing management in the subcontracting firms. Third, the suppliers seldom get reliable, real-time information from the OEMs about the orders at hand or the marketing situation in the long run. The findings emphasize the importance of information sharing and good communication between the OEM and the suppliers. In order to achieve better delivery performance, the material flow and capacity of the supplier chain should be planned and controlled carefully by the OEM and/or the first-tier supplier. Partnership between an OEM and a first-tier supplier: a case example This case study describes the relationship between an OEM and a new first-tier supplier from the customer's 164
point of view. The focus of interest was to compare the supplier policy with the partnership model discussed previously. This case analysis deals with the relationship between Nokia Telecommunications (OEM) and the Scanfil Oulu factory (supplier) in 1992. The Access Systems Division of Nokia Telecommunications has a production unit in Haukipudas, near Oulu. The Haukipudas factory manufactures advanced transmission products, which are customized systems needed in telecommunication networks. The supplier, Scanfil, is one of the leading Finnish mechanics subcontractors for the electronics industry. In 1992, Scanfil had two factories at Sievi and Oulu. The Oulu factory was started in 1990, and it has an FMS automated production line and surface treatment lines. The business relationship between the Haukipudas factory and Scanfil had started in 1985. The case analysis was divided in three parts: (1) The purchasing strategy and policy of the Haukipudas factory (OEM) was analysed. (2) The contacts and information flow between the parties were examined. (3) The supply chain and material flow of the most important subassembly were studied.
Purchasing strategy The purchasing organization of the Haukipudas factory was situated mainly in Espoo, near Helsinki. The purchasing unit was responsible for contracts, supplier selection and evaluation. The duties of the logistics unit consisted of logistics development and sourcing. The production planning and quality divisions were situated in Haukipudas. The quality division was responsible for the development of the suppliers' quality and also participated in the suppliers' quality audits. The purchasing strategy was defined by the purchasing manager and the director of the Haukipudas factory. The suppliers were divided into three categories: (1) The main suppliers were able to supply systems and repetitive parts. A close partnership relationship was established with these suppliers. (2) The secondary suppliers may have had a production technology similar to that of the main suppliers, but a more limited production volume. They supplied small orders. (3) The third-category suppliers were specialized in parts or standard components. Single sourcing was used in categories 1 and 2, while dual sourcing was always used in category 3.
Contract policy The supply contracts were agreed on yearly. In these contracts the unit price was defined on the basis of a yearly forecast of volume. If the supplier had to keep extra buffer stock, compensation was paid by the OEM.
Partnerships among Finnish manufacturers Pricing policy The price level of a newly supplied item was first defined by tenders. After the supplier had been selected, the company had to present the full cost structure of the item. Total manufacturing costs were calculated as a sum of the costs of outsourced material, production costs divided by manufacturing steps and profit. The costs of special tools were paid separately. The price was checked yearly; changes in the outsourced materials costs or the production volume also had an influence on the price. Target costing was not used, even though suppliers were favoured if they were able to reduce the price. The principle of sharing the profit (Womack et al, 1990, 150), achieved through continued improvements, was unfamiliar to the company.
Suppliers' involvement in product development Traditionally, suppliers were only involved in product development at a late stage. In addition to this, some compensation was paid to subcontractors for spending time to work on the development process. In the early 1990s, the suppliers' personnel could take part in product development meetings after the beginning of the process. The practice of integrated product development was not adopted by the OEM, because the supplier could not be 100% sure of getting the contract after the product development project had been completed.
Contacts between parties The contacts could be classified in terms of daily, weekly, monthly and yearly shared information. Information about delivery calls was exchanged daily. If some quality problems were found, the quality personnel of the OEM informed the supplier weekly. A monthly meeting was held between the purchasers and the manager of the supplier's factory. Some meetings could also be held concerning new product developments. Contract negotiations were arranged annually, and the executive managers of the companies also met. Some of the shopfloor workers were advised by the OEM's quality personnel concerning quality matters, but no shared education was organized. There was no 'supplier association of Nokia', but a 'suppliers day' for the main suppliers was arranged once a year. In these contacts the OEM was the active partner, and direct horizontal contracts were promoted. An interesting issue with regard to information flow is the different organization structure and size of the OEM and the supplier. The Scanfil Oulu factory had a very 'lean' organization, with only a few managers and no supervisory staff. In practice, only a few persons in the factory had actual contacts with the OEM. If only a limited number of personnel in the companies have direct contacts with each other, it is crucially important to decide how the information flow is managed intern-
ally in the companies. Thus, in what way is the supplier able to get market information from the OEM's marketing department? How could the workers of the supplier advise the design engineer of the OEM on the manufacturability of parts? How are joint development projects organized?
Material flow in the supplier chain At the third stage of the study the material flow of the main supplied subassembly system was analysed. Earlier, this subassembly was assembled in the OEM's factory and the circuit board assembly was also made in house (Figure 3). After the Scanfil Oulu factory was started, the production of this subassembly was transferred to the supplier. The supplier chain and delivery lot sizes are presented in Figure 4. The Scanfil Oulu factory delivered the system to the Haukipudas factory prepackaged. In the OEM's factory, only quality checks were made before the subassembly was shipped as part of the final product to the customers. The supplier chain consisted of three tiers of suppliers. The first-tier supplier, Scanfil Oulu, 'inherited' most of the part suppliers from the OEM, although Scanfil could freely award the deliveries to new part suppliers. Most of the lower-level suppliers also delivered directly to the OEM: the circuit board manufacturer, for example, was also a very important first-tier supplier to the OEM. The contacts between the firsttier supplier and the other suppliers were insignificant. The production volume of the subassembly system varied yearly; the maximum level was less than 5000 pieces, including six different versions. The delivery practice of the OEM was based on an MRP system, the delivery lead time given to the supplier was 2-3 weeks, and the lot size was constant. The system was manufactured on the basis of orders in the supplier's factory. The supplied parts were considered as C items and were ordered in large quantities.
Conclusions from the production point of view The analyses of process steps and the interviews of employees confirmed the assumption that a pricing policy based on yearly volume was unrealistic from the production point of view. The system did not encourage the supplier to make improvements. The production costs were also quite independent of the yearly volume, because the batch sizes were constant. Furthermore, the manufacturability of the system was already decided by the OEM at the process development stage, and the employees were unable to make improvements that could have reduced the production costs to a significant extent. Both target costing and joint product development projects were found to be useful tools in achieving product cost reductions. The bottleneck of the supplier chain was the material flow between the first-tier supplier and the electronics parts manufacturers. Delivery delays were caused by 165
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the difficulties of the motherboard manufacturer in supplying PC boards on time. The first-tier supplier also lacked experience of managing the ordering system based on visual control. These problems were hardly identified by the OEM. When the total lead time of the subassembly from the beginning of production to delivery to the final customers was analysed, it turned out that the subassembly was stored in the inventory of the OEM for a very long time. It was obvious that not enough attention was paid to scheduling. By reducing lead times, considerable financial benefits could be achieved in the short run. The JIT delivery concept could also be applied to the process. Though the first-tier supplier could be responsible for the material flow, a direct information flow would be required between the OEM and the electronics parts manufacturers in order to manage delivery and variant changes. Conclusions and discussion The present findings show that there has been a significant shift towards stable, commitment-based supplier-customer relationships among Finnish OEMs and subcontractors. The supplier structure in a production environment characterized by low repetitiveness, a wide variety of products and customized design can be described as a horizontal network, similar to a team of players with different skills and experiences, rather 166
than as hierarchical tiers surrounding an OEM. There may be several best practices for creating supplier networks, depending on the nature of the products and the stage of development of the suppliers. In the future, the suppliers might themselves set up small networks for partnering with selected OEMs. In order to achieve a prompt response to the final customers' demand, the managerial focus should be on issues concerning the material and information flow in the network and within the companies. As a consequence of the new supplier structure the purchasing function has become more important among small and medium-sized subcontracting firms. Shared education and other mutual development projects are needed between an OEM and the supplier team as a means to overcome problems in purchasing and production management. In spite of long-term relationships and openness between customers and suppliers, partnerships involving integrated research and development, development projects and mutual sharing of strategic visions appear to be rare. The emphasis in the development of supplier relationships towards real strategic partnership should be both on improving effectiveness at the shopfloor level and on strengthening cooperation at top management level. Shared new product development projects involving all the strategically important players of the network are of utmost importance, not only to achieve lower production costs, but to consolidate the trust and informal cooperation between the parties.
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Standard material and comoonents Figure 4 Supplier chain after changing over to system delivery. L is the lot size of delivery References Blenkhorn, D L and Noori, A H (1990) 'What it takes to supply Japanese OEMs' Industrial Marketing Management 19 21-30 Ellram, L M (1995) 'Partnering pitfalls and success factors' International Journal of Purchasing and Materials Management 31(2) 36-44 Gadde, L-E and Hfikansson, H (1993) Professional Purchasing, Routledge, London Hines, P (1995) 'Network sourcing: a hybrid approach' International Journal of Purchasing and Materials Mangement 31(2) 18-24 Lamming, R (1993) Beyond Partnership: Strategies for Innovation and Lean Supply Prentice-Hall, Hemel Hempstead Lehtinen, U (1992) 'Alihankintayritys ja strateginen yhteistyo' Research paper 1/1992, Industrial Engineering and Management
Laboratory, University of Oulu Lindberg, P and Trygg, L (1991) 'Manufacturing strategy in the value system' InternationalJournal of Operations & Production Management 11(3) 52-61 Nakamura, H (1984) 'Subcontractor system in Japanese industry', JMA Newsletter 20 4 O'Neal, C (1989) 'JIT procurement and relationship marketing' Industrial Marketing Management 18 55-63 Sato, Y (1984) 'The subcontracting production (Shitauke) system in Japan' Keio Business Review 21 25 Schonberger, R J (1986) Worm Class Manufacturing The Free Press, New York Smitka, M J (1989) 'Competitive ties: subcontracting in Japanese automotive industry' PhD thesis, Yale University, 217 Womack, J P, Jones, D T and Roos, D (1990) The Machine That Changed the Word Harper Perennial
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