The use and abuse of power in supply chains

The Use and Abuse of Power in Supply Chains Charles L. Munson, Meir J. Rosenblatt, and Zehava Rosenblait

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he ability of groups of companies to perform the spectrum of supply functions more efficiently than one company alone has given rise to supply chains. As with any other type of multi-organizational network, the effectiveness of a supply chain depends to a large extent on the relationships among its members. But often one company in a chain may attempt to influence other members in order to achieve its own goals and promote its own interests. The organizationalpower theoretical framework we use to investigate such power-wielding has gained importance and relevance in research as interdependence among firms grows, caused in part by the tendency of some to shrink and become less integrated. As companies become smaller, they are more likely to externalize tasks, including supply functions (as exemplified by the increasing prevalence of outsourcing). This trend toward externalization increases inter-unit and interfirm dependence. Organizational studies have recognized the effect such interdependence has on network forms. In the case of supply chains, increased externalization results not only in dependence but also in a structural imbalance in the network position of individual members. Although firms in a supply chain depend on each other and work together for mutual benefit, the relationships among them are rarely symmetrical. Supply chains often have channel leaders or “channel captains” that may exert tremendous influence on the other firms in the chain. These strong companies have numerous opportunities to exploit their relative advantages, and their choices can have significant long-term consequences on the overall health of the supply chain. Organizational power is defined most simply as “potential force.” It is the ability to get things done, to achieve desired goals and outcomes. Power is exercised through corporate politics by using various tactics or political games, such as The I3e and Abuse of Power in Supply

Chains

“alliance building,” that influence opponents and build power bases. Early studies on the sources of power explored personal attributes (such as expert and referent power) and positional attributes (such as reward, coercive, and legitimate power). These notions of power were originally applied to key decision makers and were later adopted to the organizational level of analysis. In a supply chain, for example, a company has expertpower if it maintains sole ownership of knowledge and expertise in the relevant content domain; it has referentpower if other decision makers in the chain perceive its management as prestigious enough to publicly identify themselves with. A firm has rewardpower if its management can help other channel members achieve their goals; with coercivepower, it can threaten other channel members. And a company with legitimatepower has a handle on a formal leverage, such as a monopoly on producing or selling a popular product. According to Pfeffer (1992), a supply chain member is powerful if (1) other members of the chain depend on it for their essential needs, (2) it has control over financial resources, (3) it plays a central role in the chain, (4) it is not substitutable, or (5) it has the ability to reduce critical uncertainty. However, dependent members of the supply chain can also resort to using power. When under pressure, they can try to influence stronger members by using various retaliatory measures. The use of information is a major determinant of power for both strong and weak partici-

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pants in a power “game.” When a party withholds or distorts information, its power base may be increased, at least in the short run. Alternatively, the receiving party may be empowered when information is shared (or leaked). Under certain circumstances, this may prove costly to the sharing party. More often, however, information sharing increases trust and cooperation, to the benefit of both parties. The way in which power is used can lead to ethical problems, created when an action taken by one company causes harm to others. Even when a company’s tactics are legal, they can be ethically controversial when motivated by narrow interests or a one-sided set of values while ignoring the rights and interests of others. Power, then, may be not only used, but also abused. Armed with these notions, we shall examine the poweroriented interrelationships among supply chain members, focusing on five areas of interaction: (1) pricing control, (2) inventory control, (3) operations control, (4) channel structure control, and (5) information control. Prlclng

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Using the power derived from their market centrality and dominance, large companies expect and demand lower prices or quantity discounts from their suppliers. The media have recently focused on Wal-Mart as a notorious “hardball” player demanding “rock bottom” prices from its suppliers. Wal-Mart uses its position as the world’s largest retailer to full advantage, aware that many suppliers simply cannot afford not to sell to its huge customer base. The world’s largest automobile manufacturer, General Motors, has also begun squeezing margins from its suppliers in recent years. Moreover, by purchasing in bulk and using only one or two suppliers for a given medical condition, HMOs have been able to garner discounts as high as 60 percent from pharmaceutical companies. Not all beneficiaries of reduced prices or quantity discounts must be large corporations. A small firm may still be a major customer for some of its suppliers. Alternatively, a small supplier may possess unique knowledge and expertise, leading to an expert power base. In addition, small companies can gain buying power by joining formal or informal purchasing coalitions. Hospitals and pharmacies commonly form purchasing groups, especially with other parties that are not seen as a competitive threat. Manufacturers are interested not only in the wholesale prices they set but also in the retail prices charged to consumers. Retail price may greatly affect the perceived quality of the product. Makers of designer clothing often do not want their products selling at discount store 56

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prices. Even though it is generally illegal in the U.S. for manufacturers to stipulate retail prices, powerful manufacturers do try to influence the final price to better manage consumer demand, respond to competition, and send the appropriate quality signal. Books, snacks, and greeting cards have prices printed on them, thus representing the legitimate power of the manufacturers. Simply changing wholesale pricing habits can upset members of the channel. Partly in response to companies like Wal-Mart, Procter & Gamble has angered certain retailers by eliminating many of its trade discounts in exchange for “lower everyday prices.” Retailers can no longer offer as many specials on popular P&G products as a marketing tool to draw customers into their stores. Sometimes middlemen have pricing power, particularly in certain foreign countries. Poor craftsmen in the Mixtec region of Mexico receive little pay for their work. Their lack of power is due to the distance to final markets, lack of transportation infrastructure, limited knowledge of market needs, and absence of information about prices. Taking advantage of these conditions, middlemen set prices in both markets and boycott producers that try to circumvent the distribution channel. In Japan, strong manufacturers dominate channels, discourage price-based competition, and impose suggested retail prices. Historically, the Japanese /zeiretsu system has made it difficult for small foreign and domestic firms to enter the market. And if these firms upset the harmony of adverthe keiretsu with negative or comparative tising or price wars, they may find themselves dropped altogether. Example 1 illustrates a pricing inefficiency that develops when individual members of a supply chain maximize their own profits instead of cooperating to maximize the total supply chain profits. Specifically, the retailer sets a higher price than the wholesaler desires, stifling demand. The relative power of the firms may dictate how they can eliminate this inefficiency. Inventory Control and JIT Just-In-Time (JIT) production policies have had a big impact on the inventory levels of some companies The concept revolves around reducing inventory levels by only receiving orders just before they are needed in the production process. The introduction of JIT also obligates suppliers to deliver smaller orders more frequently. Depending on the relative power of the companies, a manufacturer may be able to demand JIT delivery. or it may have to pay a surcharge to receive it. Rainbird Inc. pays Connor Formed Metal Products Co. an additional 2c per unit for JIT delivery of springs. In return, Rainbird has The IJse and Abuse

of Power

in Supply Chains

been able to halve its inventory costs for springs. JIT delivery may be impossible in some cases. Allen-Edmonds Shoe Corp., a small manufacturer, had trouble implementing such a system because its suppliers would not cooperate. The Japanese were the first to use JIT on a wide scale. However, we usually only hear about the positive results that occur when strong manufacturers such as Toyota insist on JIT delivery from suppliers. Small firms have no choice but to offer it in order to keep their customers, despite potential added costs and inventory levels. JIT delivery requirements have also been a barrier to foreign firms that otherwise would like to enter the Japanese market. Some retailers request that manufacturers ship goods on consignment. The goods remain the property of the manufacturer until sold, even though they are physically located with the retailer. Consignment allows retailers to return unsold goods, which places additional risks on manufacturers. Uncertainty of demand frequently determines the existence of consignment. Jewelry distributors often sell on consignment because of the seasonal&y and faddish nature of jewelry. Power position may also determine consignment agreements above and beyond market factors. Kmart has asked many of its toy vendors to sell on consignment. Some have complied for fear of losing such a large customer. For packaging efficiency, some firms deliver only in preferred container sizes and refuse to sell single units. On the other hand, purchasing firms sometimes request or demand customized packaging. This is particularly true with warehouse clubs such as Costco. In either case, restricting container sizes may place inventory control burdens on other parties in the chain. Example 2 illustrates a lot-sizing inefficiency that develops when individual members minimize their own costs instead of cooperating to minimize the total supply chain costs. Specifically, the size of the retailer’s orders causes the manufacturer to spend too much money on setup costs. Again, the firms’ relative power may dictate how this inefficiency can be eliminated. Operations Control The Japanese are known for their emphasis on quality, and suppliers of strong manufacturers like Toyota must meet stringent quality standards. Powerful U.S. manufacturers have imposed similar requirements on operations practices. As they continue to slash their supplier bases, strong companies are demanding quality improvements from vendors. In many cases, they will use only suppliers that have passed the expensive and timeconsuming IS0 9000 certification. In a survey of 126 mid-sized firms, Emshwiller (1992) reported 57

that 76 percent had eliminated suppliers that could not or would not adopt higher quality control standards. Quality standards have become formalized in many cases, as shown by Ford’s Ql award bestowed on high-performing suppliers. Suppliers are not the only supply chain members that get pressured by production companies. Manufacturers also place requirements on their dealers. Michelin Tires bypassed its dealers by selling a line of tires only through warehouse clubs, while still expecting the dealers to service the tires. Fanning (1988) reports that Snap-On Tools regularly sends its dealers unordered shipments of promotional tools, which must be paid for within a week or returned for credit up to one month later. One dealer complained that SnapOn allegedly pressured him to extend credit to certain customers he felt were a bad credit risk. Strong retailers also impose operations requirements on other supply chain members. They exert power through slotting allowances, shelf space allocation, and private label competition. In the 198Os, retailers forced manufacturers to provide UPC symbols on packages to allow for electronic scanning at the checkout line. Electronics suppliers complain nowadays that big retailers are accepting returns for electronics too easily and sending them back as defective. Consumer fraud significantly drives up the costs for these manufacturers. Large retailers are dictating to their vendors what should be made, in what colors and sizes, and how much to ship and when, threatening to drop vendors that do not comply. A Duracell manager explains his position as a vendor: “With customers of Wal-Mart’s size, we will package, distribute, and serve in a customized fashion to meet their needs” (Gillis 1996). As the world’s largest retailer, Wal-Mart has received considerable attention recently over its strong-arm tactics: demanding discounts, telling producers what to make and how to act, requiring customized marketing plans, bypassing middlemen. Vendors comply because the potential customer base is too important. But Wal-Mart is taking advantage of its size and market centrality to gain a competitive edge and promote its interests to the exclusion of smaller members’ interests. Channel conflict also occurs in marketing arrangements. Retailers routinely demand cooperative advertising allowances from suppliers, as well as assistance in the form of in-store selling, stockkeeping, and reimbursement for the cost of fixtures to help the stores promote the suppliers’ merchandise. In large distribution networks, such as Subway Sandwich Shops and auto dealerships, the franchisers and manufacturers desire mostly national advertising, whereas the franchisees and dealers want advertising dollars spent locally. The carriers of advertising exert their power as well. Television networks screen ads for con58

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tent and refuse to air those that fail to conform to certain standards of decency. Recently, cable TV companies in Latin America threatened to discontinue carrying networks that were advertising direct satellite systems during their programming (because satellite systems are substitutes for cable TV). Most networks eliminated the satellite advertising because their only pipeline into most homes was through the local cable companies. Control over the Channel Structure Franchisers or manufacturers distributing through dealer networks face the challenging task of allocating sales areas to their distributors. Adding distributors increases the potential customer base but may reduce the number of customers allocated to individual distributors, which must sell enough to stay in business. The distributors bear most of the risk of oversaturation of distribution outlets. Subway Sandwich Shops has alienated franchisees by opening them very close together. In one case, reports Marsh (1992), Subway allegedly pressured a store owner to buy a new planned shop less than a mile away, implying that it would be sold to a different owner if he didn’t. In another instance, says Fanning, SnapOn Tools allegedly pressured a dealer to split its territory with another. Taco Bell pulled customers away from current franchisees when it acquired and converted 66 Pup ‘N’ Taco restaurants into company-owned Taco Bells. Beyond opening similar outlets, companies sometimes alienate distributors by opening new channels of distribution. Kentucky Fried Chicken has placed outlets in nontraditional locations, such as Sears stores. Levi Strauss upset small retailers when it began selling jeans to large stores. After Taco Bell opened low-cost burger chains, sales and profit margins at its Mexican restaurants dropped. Channel structure may become destabilized when companies bypass links in the supply chain altogether. Retailers such as Wal-Mart, CatalogerFingerhut, and Builder’s Square have refused to deal with manufacturers’ representatives, desiring direct contact with the manufacturers themselves. On the other hand, in an effort to reduce idle capacity, reach new customers, and improve profit margins, some manufacturers are undercutting their retailers by opening factory outlet malls. Lens Express sells replacement contact lenses directly through the mail. ATK, a rebuilder of Japanese car engines, originally entered the U.S. market by exporting its products through U.S. engine rebuilders. Eventually, however, it began to sell directly to wholesalers (the U.S. rebuilders’ main customers) and even to individual mechanics and installers, eliminating exclusive territory rights. As a result, fierce The Use and Abuse of Power

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competition sprang up between ATK and its original customers. Sometimes manufacturers go so far as to try to limit competition by “monopolizing” their retailers. Bovke et al. (1995) reports that Hallmark Cards has allegedly pressured retailers not to sell the products of a competitor, Blue Mountain Arts. John Deere and Company, says Rose (1992), has also tried to restrict the freedom of its dealers to sell products from other companies. Conversely, strong retailers have an incentive to limit the number of competitors that sell their vendors’ products. In May 1996, the Federal Trade Commission filed a suit against Toys ‘R’ Us, alleging that the toy retailer was inflating prices and constraining competition by refusing to purchase toys from manufacturers that sold identical items to discount stores and warehouse clubs. Ultimately, companies can control the channel structure through vertical integration. In Examples 1 and 2 presented earlier, each firm could explore vertical integration in an effort to eliminate the inefficiencies resulting from the current lack of coordination between the companies. Information Control Companies can gain power by obtaining information, and strong ones can obtain information by using their power. Economists have studied asymmetric information models (such as “principal-agent” models) that illustrate the resulting consequences when parties interact but their levels of knowledge differ. Supply chains may be viewed as consisting of networks of principalagent relationships. One form of information exchange that has prevailed in recent years is electronic data interchange (EDI). Firms have eliminated paperwork by transmitting standard business documents via EDI. Northern Telecom reports reductions in purchase order processihg costs due to ED1 by as much as 47 percent. Despite international standards for EDI, companies develop their own interpretation of the standards, and smaller firms must customize their ED1 systems for each of their large trading partners. Worse yet, some ED1 requirements differ not just between firms but between different plants within the same firm. Often, the costliest element when initiating ED1 is recruiting partners with which to share information. Many small firms are reluctant to undertake ED1 because of the significant costs of training, testing, changing accounting procedures, purchasing or developing software, establishing network access, and so on. The recruitment process is easier for powerful firms that can demand ED1 compliance. According to Davis (1995), a 1994 survey by the ED1 Group reported that 55 percent of respondents started using ED1 because

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their principal customer or supplier forced them to do so. In 1990, Wal-Mart and Kmart set deadlines for their suppliers to have ED1 capability, with the threat of lost business as a penalty for noncompliance. Even more far-reaching than that, reports Davis, Ford told all of its first-tier suppliers in 1995 that they must be performing ED1 with their own suppliers by January 1997. Suppliers that perform vendor-managed inventory @MI) manage the inventory levels of their products at their customers’ locations. VMI shifts power to the suppliers because the suppliers have more decision-making responsibility and can obtain cost and inventory information about their customers without necessarily offering their own in return. In fact, VMI failures can occur when the suppliers are not given enough information. The VMI program at Spartan Stores, a’Midwestern regional grocery distributor, failed partly because the firm was not providing its vendors with information on upcoming promotions, so the vendors’ forecasts did not accurately reflect the effect of the promotions. Like VMI programs, other information links can shift power to suppliers. A firm that requires computer-aided design (CAD) equipment from its major suppliers to link directly with its own CAD installation greatly increases its own switching costs and its dependency on those suppliers. Companies can use information systems as powerful marketing tools because other firms want access to those systems. Once those firms are “hooked,” the switching costs can be substantial. American Hospital Supply quickly dominated its market with the help of its electronic ordering system, which included inventory management software for its customers. Hospitals enjoyed the easy purchasing procedures; once they became accustomed to the American Hospital Supply system, they didn’t want to learn other systems. In addition, the company gained negotiating power with its vendors because its system provided more information about the hospital supply market than the vendors could obtain. Diagnosing Supply Chain Power The diagnostic questionnaire on the following page can help managers quantify the impact of other chain members on their own firms. Based on the framework and examples we have de60

scribed here, the questionnaire can be modified to reflect company-specific situations. RETALIATORYMEASUitES

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ompanies cannot expect to wield their channel power without meeting resistance. Abused firms can retaliate in many ways: boycotting, competing directly, increasing the dependence of channel leaders, forming coalitions with other firms in the same position, and seeking legal solutions. A powerful but potentially costly way to fight against the demands of a strong firm is to boycott by ending part or all of the relationship with it. After Procter & Gamble eliminated many of its trade discounts in exchange for everyday low pricing, a number of retailers retaliated by dropping certain sizes and types of P&G products. Others added surcharges to the remaining products or reduced their promotion of P&G’s brands. After Goodyear started selling its tires through Sears, hundreds of independent dealers adopted additional (especially private label) brands. In response to manufacturers opening factory outlet stores, JCPenney and Saks Fifth Avenue have threatened to cancel orders when the same items appear at outlets, and Yaring’s and Gold’s have boycotted producers with outlets. Retaliatory measures such as these may reframe the relationships among supply chain members. Large discount retailers often annoy manufacturers by slashing the retail prices of their goods, such as when using them as “loss leaders.” Price is one signal of quality, and manufacturers want some control over the retail prices of their products. Some manufacturers, like BrenCon Energy Products Inc. and Sashco Sealants, boycott by refusing to sell to mass merchandisers. Others, such as the lawn care products maker Scotts Co., sell certain items exclusively to independent lawn and garden stores. Wal-Mart has used toys as “loss leaders” in the past, so Step 2 Corp. does not sell to Wal-Mart or warehouse clubs. Step 2 has agreements with its retailers not to use its products as “loss leaders.” Sometimes damaged companies not only boycott but fight back by selling competitors’ products. In response to factory outlet malls, Macy’s, Saks, Wal-Mart, Bloomingdale’s, and other retailers have opened their own retail outlets containing damaged, outdated, unsold, or overstocked goods that often sell for deeper discounts than those at the factory outlets. When Kroy Inc., a small office equipment company, dropped its 1,000 dealers in favor of direct selling, the dealers began selling competitors’ products. When Kroy cut back on its direct selling and tried to retain the dealers again, only about half of them accepted Kroy back. Business

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Diagnosing the Power Impact of Your Supply Chain Partners In.structions Identify those companies that are major players in your supply chain. For each one identified, evaluate its strategic importance and power relative to your firm with respect to the five major areas presented below. To help guide your assessments, we have identified some attributes for rating within each area. Other attributes specific to your situation can, of course, be added. Each area, and the attributes within it, require two assessments through the following scales (if not applicable. just ignore that item or assign a zero value to its importance): l

l

Strategic importance to your firm:

Power relative to your firm:

VeN low 1

2

3

Moderate 4

5

6

high 7

verv low 1

2

3

Moderate 4

5

6

VeN high 7

EN

The product of these two factors provides a comprehensive understanding of the overall potential impact on your firm by the organization being rated. Rate each of the attributes using the scale above according to their degree of importance (from very low to very high) and degree of power (from very low to very high) with respect to your firm. If you prefer, you can undertake this rating process for a specific division or product line within the organization. Importance (I) 1......7

Area and Attributes

Power (P) l......?

(0 x (P)

1. Pricing Control Demands lower prices. Demands quantity discounts. Influences retail prices. Other. 2. Inventol?; Corltrol Demands just-in-time production process. Demands goods on consignment. Demands preferred containers/packaging. Demands unique lot sizes. Other. 3. Operations Demands Demands Demands Demands Demands Other.

Control quality improvements and/or IS0 certification. special service. easy return policies. unique forms of customization. special marketing/advertising allowances,

4. Control over the Channel Structure Uses or threatens allocation of sales areas, Uses or threatens new channels of distribution. IJses or threatens direct customer contact, Dcnrands exclusive relationship with your firm, Uses or threatens vertical integration. Other. 5. Information Control Uses asymmetric information. Demands electronic data exchange. Demands the use of CAD systems resulting in increasing costs, Other. scoring Multiply the importance (I) and power(P) scores together for each row (resulting in numbers between 1 and 49). Considerable information with respect to the power game can be garnered by analyzing each item independently. Nevertheless, if an aggregate score is desired, one way to obtain it is as follows. For each of the five areas, add over all of the rows and divide this sum by the number of rows in that area (excluding rows with “zero” importance). Add over the “averages” of all five areas and divide by 5. Take the square root of this result (which will be a number between 1 and 7). The closer the value is to 7 (or 1). the more (or less) impact this company has on your own firm.

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Because channel influence often depends on relative power, one way to gain influence is to increase one’s power by increasing the dependence of channel leaders. In Japan, manufacturers have historically dominated channels; however, large supermarkets have recently begun to challenge the manufacturers’ power by controlling new information technologies, which allows them to perform such channel functions as risk handling and inventory planning. The Japanese manufacturers have also lost power because the supermarkets have successfully sold private label products and imports. In another example, small suppliers create dependence (hence retaliatory power) when they become JIT suppliers, because any disruption in the supply process can be pervasive, immediate, and costly. JIT also entails relative difficulty in substituting the actors in the production process (especially if sole suppliers are being used). Joining trade associations represents another way to increase power. The National Sporting Goods Association and the National Shoe Association have urged boycotts against manufacturers with factory outlet stores. According to Ruffenach (19921, the 3,000 members of the Association of Kentucky Fried Chicken Franchisees threatened to sue the franchiser when it announced its decision to open outlets in nontraditional locations. Nationwide Insurance abandoned its plan to sell through banks after the Independent Insurance Agents’ Association of Ohio applied pressure. And several New York apparel vendors share strategies on how to cope with retailers’ demands. Legal action is a powerful retaliation tactic for fighting channel bullies. Not only can companies sue, they can also lobby legislators. Lawrence (1992) reports that the Manufacturers’ Agents National Association lobbied the FTC to investigate Wal-Mart after the retailer announced that it would negotiate with a manufacturer’s agent only after speaking with a principal of the manufacturing firm. Recent events in the travel industry have prompted a combination of retaliatory measures from travel agents. By early 1995, most of the major airlines had imposed a limit on payments to travel agents of $25 and $50 for a domestic one-way and round-trip ticket, respectively. The previous policy had been an unbounded 10 percent commission on the ticket price. In response, a group of travel agents and associations, including the American Society of Travel Agents (ASTA), filed collusion charges against the participating airlines (which had adopted their caps within days of each other). As a result, ASTA convinced TWA to eliminate its caps in return for dropping the lawsuit against the company and a promise to increase bookings compared to the other airlines. Travel agents agreed to try to divert as many 62

sales as possible away from any airlines that continued imposing commission limits. All these various retaliatory tactics represent mostly hostile responses that add little to the joint effectiveness of the supply chain. They exacerbate conflicts and sharpen differences in interests and goals among channel members. In other words, they follow a “win-lose” pattern of conflict resolution rather than a “win-win” pattern. An alternative approach, cooperation, can be far more satisfactory for all supply chain members. COOPERATION: THE LONG-TERM ALTERNATIVE

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he Japanese keiretsu philosophy emphasizes long-term relationships between channel members. The philosophy, however, does not necessarily eliminate the abuse of channel power. To avoid potential retaliatory measures or ethical problems, strong companies should consider more cooperative approaches based on trust for achieving their goals. Trust between channel members can entail tangible benefits to the parties, as illustrated in a 1996study of a major manufacturer of automobile parts and 429 of its retailers (Kumar 1996). Using a “holistic” set of evaluative questions to measure performance, the investigators determined that, when compared to low-trusting retailers, the retailers with a high level of trust in the manufacturer (1) generated 78 percent more sales for the manufacturer, (2) were I2 percent more likely to carry the manufacturer’s products in the future, (3) were 22 percent less likely to have developed alternative sources of supply, and (4) “performed” 11 percent better. Strong firms can often maintain solid channel relationships by including other channel members in the decision-making process and/or providing concessions to eliminate potential losses from new directives. Individual car dealers have consociated to have a voice in the advertising policies of the automakers. When Rubbermaid increased its number of distribution outlets by 67 percent, it simultaneously improved cooperative advertising plans and increased channel members’ margins. Kentucky Fried Chicken introduced a “pass-through” royalty to franchisees equal to 2 percent of sales from new outlets opening near them. Meanwhile, some large firms have subsidized the ED1 start-up costs for their small trading partners. Companies can often benefit by broadening the perspective of their competitive environment. In many cases, they should consider their own supply chain members as allies in competing against other supply chains. Information sharing can play a crucial role in this context. The “Beer Game,” which is played by students in many Business

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business and engineering schools, is a production simulation game in which a retailer, a wholesaler, a distributor, and a factory make decisions based on incoming orders but without knowing what the other supply chain members are doing. Despite a relatively stable demand pattern, the game often results in large inventory and/or large backorder levels, which could be slashed if the players shared information. The apparel industry provides two recent examples of information sharing in the supply chain. First, a fiber producer (Du Pont), a textile mill (Milliken & Co.), an apparel manufacturer (Robinson Mfg.), and a retailer (JCPenney) formed an alliance to jointly identify market needs and develop a brand new product line. The unprecedented relationship included almost daily communication among the parties. Second, more than 1,500 retail stores of The Limited, Inc. have partnered with the major credit bureaus to develop an electronic information-sharing system that offers a 29-second approval procedure-pared down from eight minutes-for customers who wish to establish credit at the stores. This new procedure has increased the stores’ business and provided the credit bureaus with a new product to market. Cooperative efforts can be particularly valuable when the new policies would increase channel profits as a whole. Companies that share data through ED1 or other means improve forecasts and eliminate paperwork throughout the channel. Hewlett-Packard uses a mathematical program to determine inventory levels for some products at dealer stores as well as for its distribution centers, thereby minimizing inventory levels at all locations while maintaining target customer service levels. Federated Department Stores asked suppliers to upgrade the hangers on which they shipped clothes so it would not have to change hangers in its stores. Suppliers’ costs increased by a nickel per unit, but Federated saved a dime. The retailer was w-illing to compensate the suppliers for their increased expenses, and the channel as a whole saved five cents per unit. The numerical examples presented earlier can be treated in the same way. In both cases, total channel profits would increase if the two firms made decisions as though they were one combined company. In Example 1, a wholesale price of $280 and a quantity discount of $75 per unit for purchases of 100 units would maximize channel profits and evenly split the increased profits between the two companies. Table 3 shows the after-discount profits for both parties under various discount amounts. The discount ultimately used may depend on the comparative power of the parties; nevertheless, any discount between $50 and $100 will improve the financial position of both parties-a win-win situation. The Use

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Table 3 After-Discount Profits for Example 1 Per-Unit Quantity Discount $50 $60 $75 $90 $100

PROFIn (Net of Discount) Wholesaler Total System Retailer $20,000 $5,000 $15,000 $6,000 $14.000 $20,000 $12.500 $20,000 $7,500 $11,000 $20,000 $9,000 $20,000 $10,000 $10,000

The wholesale price is $280 and the selected quantity discounts offered from the wholesaler to the retailer apply to orders of 100 units.

Table 4 After-Discount Costs for Example 2 Per-Unit Quantity Discount 9a 16a 22Q 284 35a

SETUP G HOLDING COSTS (Net of Discount) Retailer Manufacturer Total System $16,200 $5,355 $10,845 $2,520 $90 -$2,340 -$5.175

$13,680 $16,110 $18.540 $21,375

$16,200 $16,200 $16,200 $16,200

Costs are for selected quantity discounts offered from the manufacturer to the retailer for ordering 1,800 units per order.

In Example 2, a quantity discount of 22 cents per unit for orders of 1,800 units would (approxi-

mately) split the $10,800 of decreased channel costs equally between the two firms. Table 4 shows the after-discount costs for both parties under various discount amounts. Any discount between 9 and 35 cents creates a win-win situation. Interestingly, the manufacturer can still improve its position even after providing a quantity discount larger than the retailer’s total current annual setup and holding costs. In both examples, the quantity discounts would more likely be offered and accepted if the two firms shared information, cooperated in the development of the discount schedules, and agreed to split the increased profits/cost savings equitably.

B

eyond legal restrictions, companies do not have to follow any rules of fair play when dealing with other members of their supply chains. As a consequence, ethical problems arise, such as the question of whether weaker members in a chain are pushed to act against their own interests, or whether achieving the goals of the more powerful members defeats those of the less powerful. Strong firms can (and do) make decisions that can be detrimental to other channel members. The injured parties can (and do) take actions, legal or otherwise, to fight back. 63

The extent of conflicting versus cooperative actions by strong firms likely mirrors their respective time horizon orientations. Those with a shortterm perspective may indeed benefit from the use of coercive power tactics because weaker supply chain members may have no immediate means of redress. In the long term, though, conflict-generating actions prove inefficient and damage trust, lessening the chain’s total effectiveness and competitiveness. Long-term stability is founded on the profitability of the entire chain, even though one partner can exact premiums in the short run. Scholars have argued that U.S. firms in the 1970s and 1980s lost industry leadership positions to foreign companies because their short-term emphasis on profits precluded them from making long-term investments. World-class companies today recognize that developing strong supply chain partnerships should also be considered a long-term investment. Supply chain interrelationships are based on power. And when power is used cooperatively, it promotes, rather than hinders, the general utility of the chain. Cooperative measures may reduce the level of power abuse and create a stronger supply chain, engendering rewards that can be shared by all members. 0

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The

LJse

and Abuse of Power in Supply Chains

Charles 1. Munson is an assistant professor of management and decision sciences at Washington State University, Pullman, Washington. Meir J. Rosenblatt is the Myron Northrop Professor at the John M. Olin School of Business, Washington University, St. Louis, Missouri, and a professor at the Davidson Faculty of Industrial Engineering and Management, Technion-Israel institute of Technology, Haifa, Israel. Zehava Rosenblatt is a lecturer at the Faculty of Education, University of Haifa, Israel.

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