Avoid the Pitfalls in Supplier Development

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Avoid the Pitfalls in Supplier DevelopmentRobert B. Handfield,Daniel R. Krause,Thomas V. Scannell &Robert M. MonczkaReprint 4123MassachusettsInstitute of TechnologyWinter 2000Volume 41Number 2MITFirms gain com-petitive advantageby improving theperformance ofsuppliers and bysidestepping thesnares common tosuch efforts.Sloan Management ReviewWinter 2000Handfield Krause Scannell Monczka37Avoid the Pitfalls in SupplierDevelopmentRobert B. Handfield Daniel R. Krause Thomas V. Scannell Robert M. MonczkaRobert Handfield is the Bankof America University Distin-guished Professor of SupplyChain Management, College ofManagement, North CarolinaState University. DanielKrause is assistant professor,Department of BusinessAdministration, Utah StateUniversity. Thomas Scannell isassistant professor, Departmentof Management, WesternMichigan University. RobertMonczka is Professor Emeritus,Michigan State University,and research professor,Arizona State University.As manufacturing firms outsource moreparts and services to focus on their owncore competencies, they increasingly ex-pect their suppliers to deliver innovativeand quality products on time and at acompetitive cost. When a supplier is inca-pable of meeting these needs, a buyer hasthree alternatives: (1) bring the outsourceditem in-house and produce it internally,(2) change to a more capable supplier, or(3) help improve the existing supplierscapabilities.All three strategies can work. The choiceoften depends on price, volume, or thestrategic nature of the procured item. Forlow-value-added, nonstrategic commodi-ties, the cost of changing to a new suppli-er is low, and switching may be the bestoption. At the other extreme, when anunderperforming supplier provides aninnovative product or process technology(that may be of sustainable long-termadvantage to the buyer), the buyer maywish to protect this potential advantageand bring the work in-house by acquiringthe supplier. In those cases that lie be-tween these two extremes and even attimes including these extremes the bestoption may be supplier development.We define supplier development as anyactivity that a buyer undertakes to improvea suppliers performance and/or capabili-ties to meet the buyers short-term or long-term sup-ply needs. Buying firms use a variety of activities toimprove supplier performance, including assessingsuppliers operations, providing incentives to improveperformance, instigating competition among suppli-ers, and working directly with suppliers, eitherthrough training or other activities.1Supplier development requires both firms to commitfinancial, capital, and personnel resources to the work;to share timely and sensitive information; and to cre-ate an effective means of measuring performance.Thus, this strategy is challenging for both parties.Buyer executives and employees must be convincedthat investing company resources in a supplier is aworthwhile risk. Supplier executives must be con-vinced that their best interest lies in accepting directionand assistance from their customer. Even if the twocompanies mutually agree that supplier developmentis important, success is not a foregone conclusion.Although difficult, supplier development can be animportant cornerstone in the deployment of a trulyintegrated supply chain. The average manufacturingfirm spends over 50 percent of its revenues on pur-chased inputs.2 With companies continuing to increasethe volume of outsourced work across industries,3this percentage is likely to rise. Consequently, suppli-ers will have a greater impact on the quality, cost,technology, and delivery of a buying companys ownproducts and services, and thus on its profitability. Thedirect effect of supplier performance on a buyersbottom line highlights the importance of optimizingsupply-chain performance. Thus, we propose thefollowing.Continuous long-term improvement of supplier per-formance is only achieved by (1) identifying wherevalue is created in the supply chain, (2) positioningthe buyer strategically in line with value creation, and(3) implementing an integrated supply-chain manage-ment strategy to maximize internal and external capa-bilities throughout the supply chain.We believe that improved supplier performance willnot be realized or sustained unless buyers recognizeprocurement and supply-chain management (SCM) assources of competitive advantage and align their SCMstrategy with their overall business strategy.4 Any per-formance improvements gained without this strategicalignment are likely to be short term and perhapsonly tactical in nature. Some companies with success-ful supplier-development programs suggest that firstSloan Management ReviewWinter 2000Handfield Krause Scannell Monczka38It is best to view supplier developmentas a long-term business strategy that isthe basis for an integrated supply chain.Real-Life Supplier-DevelopmentExperiencesOur findings are based on a survey funded bythe Global Procurement and Supply ChainBenchmarking Initiative (GEBN) at MichiganState University and case studies funded jointlyby the Center for Advanced Purchasing Studies(CAPS) in Tempe, Arizona, and the Center forInternational Business Education and Research(CIBER) at Michigan State University.The GEBN study examined processes thatorganizations use to develop suppliers, as wellas the obstacles to success. Approximately200 companies participated in a long-termresearch initiative that involves responding toa series of benchmarking surveys. These sur-vey efforts focused on critical procurementand supply-chain-management strategy areas.The response rate for the supplier develop-ment study was 41.5% (83/200) and includedfirms from the following industries: industrialproducts (38%), services (14%), consumerdurable goods (13%), consumer nondurablegoods (8%), capital goods (2%), and other(25%). The surveys varied in length, but gener-ally required between 10 and 20 hours to com-plete. Survey questions were qualitative(requiring in-depth descriptions of companypractices) and quantitative (including Likert-type scales and categorical questions). Toaddress survey questions comprehensively,responding managers needed to consultdesign and production engineers, buyers, qual-ity managers, inventory controllers, and others.CAPS and CIBER funded detailed case studiesof the problems encountered during supplierdevelopment. The researchers conductedinterviews with purchasing executives, engi-neers, quality managers, and operations man-agers in several organizations worldwide. Thisfacilitated comparing supplier-developmentpractices within the same industry, but in dif-ferent countries. The study targeted electron-ics/electrical and automotive industries,because they are highly competitive, experi-ence high rates of technological change thatshorten product life cycles, and have largeglobal firms that produce multinationally.These characteristics contribute to their needfor world-class suppliers and force participat-ing firms to continuously improve productquality and reduce product costs. The collected data was diverse, soresearchers constructed a "meta-matrix" tosummarize each major process associatedwith each code and concept for each site.They refined these conceptual linkages inorder to develop recommendations for avoid-ing the pitfalls described in this article.addressing easy-to-fix supplier problems helps buildmomentum. This is true. However, it is best to viewsupplier development as a long-term business strate-gy that is the basis for an integrated supply chain.The first step, therefore, is to successfully implementsupplier-development programs. This study addressesthe pitfalls that impede such efforts.This article presents survey data and examples drawnfrom case studies of electronics and automotive com-panies in the United States, the United Kingdom,Japan, and South Korea. These examples illustratespecific supplier-development practices and examinehow these companies avoided or mitigated commonpitfalls in assisting their suppliers. (For details of thestudy, see Real-Life Supplier-DevelopmentExperiences.)We begin by describing a process map that manyfirms intuitively employ. We found that, althoughmost firms are able to identify suppliers requiringdevelopment, relatively few are completely successfulin their supplier-development efforts. Then weexplore the most significant pitfalls in supplier devel-opment and present strategies used to avoid them.Our goal is to provide general guidelines for supplier-development efforts.A Process Map for Supplier DevelopmentAfter scanning supplier-development strategies usedin more than sixty organizations, we developed thefollowing seven-step generic process map for deploy-ing these initiatives.5 Other case studies of supplier-development efforts describe variations of this model.6Most of the organizations studied deployed the firstthree or four steps, but they were less successful withthe remaining steps.Step 1: Identify Critical CommoditiesNot all companies need to pursue supplier develop-ment. Some may already be sourcing from world-class suppliers because they have made effectivesourcing decisions and supplier selections. Or theirpurchases may be so small in proportion to totalcosts or sales that investing in suppliers is neitherstrategically nor financially justifiable. Therefore, man-agers must analyze their situation to determinewhether supplier development is warranted,7 and, ifso, which purchased commodities and services requirethe most attention.To focus the effort, a corporate-level executive steer-ing committee must assess the relative strategicimportance of all goods and services that the compa-ny buys and produce a portfolio of critical com-modities (products or services essential for success ina targeted industry segment). This assessment is anextension of the companys overall corporate-levelstrategic planning and should include participantsfrom the functions affected by sourcing decisions(finance, marketing, information technology, account-ing, production, and design). (See Figure 1, a matrixused to assess the relative importance of companypurchases.) After classifying commodities accordingly, the result-ing portfolio consists of clusters of noncritical sup-plies, bottleneck supplies, leverage supplies, andstrategic supplies. Commodities in the strategicsupplies category are considered strategically impor-Sloan Management ReviewWinter 2000Handfield Krause Scannell Monczka39The underlying axiom is that 20 percentof suppliers is responsible for 80 percentof the poor performance.Figure 1Commodity Portfolio MatrixLow-Volume Purchases High-Volume PurchasesHigh-Opportunity, Higher-Risk CommoditiesLow-Opportunity,Lower-Risk CommoditiesBottleneck Supplies Substitution difficult Monopolistic markets High entry barriers Critical geographic or political situationNoncritical Supplies Availability adequate Standard specifications of goods and services Substitution possibleLeverage Supplies Availability adequate Alternative suppliers available Standard product specifications Substitution possibleCritical Strategic Supplies Strategically important Substitution or alternatesupplier difficult to find Of major importance for purchasing overallDevelopment Warranted Sloan Management ReviewWinter 2000Handfield Krause Scannell Monczka40tant, difficult to substitute or purchase from alterna-tive suppliers (often due to an oligopolistic market),important to purchasing overall, and purchased inrelatively high volumes. These commodities becomethe targets for individual study by dedicated com-modity teams. Step 2: Identify Critical SuppliersNext, managers must assess how suppliers of strategicsupplies are performing to determine which ones todevelop. A common approach involves a Paretoanalysis of current supplier performance (see Figure 2).In this case, the underlying axiom is that 20 percentof suppliers is responsible for 80 percent of the poorperformance. Thus, Pareto analysis is useful in identi-fying suppliers with potential for development, aswell as those that are underperforming, low-volumesuppliers.Identifying poorly performing suppliers requires sys-tematically analyzing supplier performance data. Manyleading companies monitor supplier performance ona plant-by-plant basis, ranking suppliers from best toworst. They target suppliers that fail to meet minimumperformance objectives in quality, timely delivery, cost,technology, or cycle time for analysis and eventualsupplier development. The buying firm meets withsupplier representatives to determine the cause of theproblem(s) and the required corrective action(s). Ifsupplier development is warranted, both firms mustharness the resources to drive the improvements. Ifimprovement is not forthcoming, the item(s) may besourced from an alternate supplier. Step 3: Form a Cross-Functional TeamBefore approaching suppliers to ask for improvements,a buyer must first develop internal cross-functionalconsensus for the initiative. Such consensus shows thesupplier a unified front and ensures that all buyerfunctions send the supplier consistent messages. Pur-chasing executives continually emphasize that im-provements begin from within throughbuyer-focusedactivities. A buyer must have its own house in orderbefore expecting commitment and cooperation fromsuppliers. Furthermore, to optimize supplier contribu-tions, a buyer must first establish its supply-chainstrategies and roles of procurement so that its busi-ness objectives are clear. Step 4: Meet with Supplier Top ManagementNext, the buyers cross-functional commodity teamapproaches the suppliers top-management group andestablishes three keys to supplier improvement:strategic alignment, measurement, and professionalism.Strategic alignment requires not only an internal busi-ness-technology alignment but also buyer-supplieralignment that focuses on each customers requirementsthroughout the entire supply chain. Supplier mea-surement requires a total cost focus as well as credi-bility and participation of purchasing and other keytechnical functions (such as engineering, quality,information systems, and manufacturing) in bothorganizations. Approaching a suppliers top managerswith a good business case for improvement sets aprofessional tone that reinforces the relationship, fos-ters communication, provides specialized expertise,and develops trust.Step 5: Identify Key ProjectsAfter identifying promising opportunities, managersmust evaluate them in terms of feasibility, resourceand time requirements, and potential return on invest-ment. The goal is to decide whether they are achiev-able, and if so, what the goals should be. Additionalcriteria used to evaluate opportunities include willing-ness and ability of supplier (and buyer) to implementchanges, duration of product/service life, strategicimportance of the product/service and its impact onthe business, return on investment, impact analysis,and standardization.Figure 2Pareto Analysis of Supplier PerformanceHighLowCritical Commodity ACritical Commodity BCritical Commodity CSupplier PerformanceSuppliers WarrantingBuyer DevelopmentHigh PerformanceEliminate EliminateSloan Management ReviewWinter 2000Handfield Krause Scannell Monczka41Step 6: Define Details of AgreementAfter identifying a potential improvement project, theparties need to agree on the specific metrics for mon-itoring its success. The metrics may include percentof cost savings to be shared, percent of qualityimprovement to be achieved, percent of delivery orcycle-time improvement desired, key product or ser-vice performance targets, technology availability, andsystem implementation targets. The agreement alsomust specify milestones and deadlines for improve-ments as well as the role of each party who isresponsible for the projects success, and how andwhen to deploy the allocated resources. Upon reach-ing an agreement, the project begins.Step 7: Monitor Status and Modify StrategiesTo maintain momentum in the project, managers mustmonitor progress and constantly exchange informa-tion. Revisiting objectives after attaining a milestonemay bring to light the need for new or revised objec-tives. The parties may need to modify the originalplan because priorities may change and additionalresources may be needed. In short, the strategy mustbe revisited to stay in sync with events.Falling Short of the ModelEighty-four companies (in the fields of telecommuni-cations, automobiles, electronics, computers, services,chemicals, consumer nondurable goods, and aero-space) participated in our supplier-development sur-vey (see Real-Life Supplier-Development Expe-riences). Our evidence indicates that supplier devel-opment works some of the time. We asked man-agers to describe the benefits realized from their mostsuccessful supplier-development efforts. The distribu-tion of the percentage increases in buyer satisfactionclearly indicated that not all supplier-developmentefforts were equally successful. While most buyingfirms reported increased satisfaction in such areas astotal cost, quality, delivery performance, productinnovation, and cycle time, a few reported that sup-plier development actually led to decreased satisfac-tion and those projects were their most successfulefforts!To better understand these results, we interviewedmanagers of several electronics and automotive com-panies in the United States, the United Kingdom,Japan, and South Korea. We found thatmany hadidentified the critical commodities and suppliers re-quiring development, and, in many cases, had formedcross-functional teams to initiate supplier-developmentefforts. However, the efforts fell short of their expect-ed outcomes because of pitfalls they encountered inthe final three stages of the generic process outlinedearlier that is, identifying key projects, defining thedetails of the agreement, and monitoring status andmodifying strategies when necessary. On the basis of our survey of 84 companies as wellas the field interviews, we divide these pitfalls intothree categories: supplier-specific pitfalls, buyer-spe-cific pitfalls, and buyer-supplier interface pitfalls. Weelaborate on each next.Supplier-Specific PitfallsWe found that six of the top ten pitfalls fell into thesupplier-specific category. Failure to implementimprovements stems chiefly from the suppliers lack ofcommitment or lack of technical or human resources.Lack of Supplier CommitmentIn early meetings with a suppliers top managers, abuyers team must clearly delineate potential rewardsfor the supplier organization; otherwise, suppliermanagement may not be fully committed to the effort,unconvinced that development will benefit their orga-nization. They may even agree to initial proposalsbut fail to implement them due to this insufficient de-dication. The following are solutions companies haveused to avoid this lack-of-commitment pitfall.Show Them Where They Stand. Varity Perkins is aproducer of diesel engines used in automotive andconstruction vehicles. Previously, Perkins sent suppli-ers a 100-point quarterly report that assessed theirperformance in the areas of quality, delivery, andprice competitiveness. Perkins did not, however, usethe data in any manner, and suppliers did not takethe assessments seriously. Perkins recently revised its supplier-evaluation systemto show suppliers areas needing improvement. Thenew report shows a suppliers performance history ineach area, its performance as compared to otherPerkins suppliers, and its deviation-from-the-meanFailure to implement improvements stemschiefly from lack of commitment or lackof technical or human resources.performance. The report also includes graphs andother visual media. Perkins changed the metrics toreflect what it considers more important.For example, to illustrate the impact of a suppliersperformance on Perkins daily operations, Perkinsmoved from weekly to daily delivery performancemeasurements. In one case, the average on-time per-formance for one supplier had ranged from 90 percentto 95 percent. However, daily measurements revealedthat on-time performance dropped to 26 percent. Notlong after implementing the new report, this suppliersdaily on-time delivery rose to 90 percent.Tie the Business Relationship to PerformanceImprovement. Perkins reporting system became thefoundation for its supplier-development program,which concentrates on results. By allowing suppliersto view their performance relative to competitorsperformance, Perkins expects suppliers to recognizethe potential benefits of supplier development. How-ever, if a suppliers performance does not improve,Perkins considers reducing orders from that supplier.Solectron is a contract manufacturer serving majororiginal equipment manufacturers (OEMs) such asIBM, Hewlett-Packard, Sun Microsystems, and Cisco. Solectron ensures that its suppliers know the criteriaused to measure their performance and that theyunderstand the level of performance required tomaintain their business relationship. The specificimprovement targets set in a supplier-developmenteffort become the primary measures for determiningwhether the business relationship will continue.Solectron employs set measures used to gauge sup-ply-chain excellence: reliability, mean time betweenfailures, fulfillment lead time, just-in-time performance,schedule flexibility, commodity allocation, inventoryrisk reduction, and cost. When a supplier andSolectron cannot make progress on jointly developedimprovement targets, Solectron either reduces oreliminates its business with that supplier.Illustrate Benefits First-Hand. Varity Perkins suppli-er-development efforts are closely integrated withkaizen events focused shop-floorbasedimprovement projects designed to realize significantoperational results in a short time at minimalexpense. Perkins managers will not plan a kaizenevent with a supplier unless the supplier is fully com-mitted to the process. To gauge commitment, Perkinsinvites the suppliers managing director to one ofPerkins weekly internal kaizen events. If the directoris enthusiastic after the event, Perkins arranges tohold a kaizen awareness session for the supplierssenior managers at the suppliers facility.In general, commitment for supplier development atPerkins means: 1) the supplier is committed to con-tinuous improvement, 2) both parties agree on cost-reduction targets, and 3) both identify specific oppor-tunities for a kaizen event within the suppliers man-ufacturing process. Perkins asks the supplier to com-mit its workforce to the project typically eight toten operators for 1 week.Perkins also will not run a suppliers first kaizen eventuntil the supplier agrees on benefits sharing. Perkinsno longer requires an equal split on savings, becausetrue savings often cannot be determined for 6 months.Instead, Perkins requires that a supplier agree not toraise prices the following year unless it experiences anincrease in raw material prices. To foster supplier commitment, the teams generallychoose a project that is fairly simple and likely tosucceed for the first kaizen. Often, it is where theycan obtain the biggest quick fix and the greatestgood. To illustrate the potential benefits, in one un-usual case, Perkins actually performed a kaizenassessment on a competitors area in a suppliers plant.Honda of America Manufacturing uses anotherapproach to garner supplier commitment by illustrat-ing benefits: target pricing to identify cost-savingopportunities. Honda breaks down costs to the com-ponent level, then asks suppliers to provide a detailedbreakdown of their costs, including raw materials,labor, tooling, packaging, delivery, and administration.By comparing cost breakdowns, Honda suggests wayssuppliers can improve performance and therebyreduce costs. Honda jointly develops cost tables withsuppliers and uses them to find differences (line itemby line item) across all cost elements. Potential bonesof contention are generally the suppliers profits andits overhead. Honda expects suppliers to receive afair profit, of course, but the level may depend onSloan Management ReviewWinter 2000Handfield Krause Scannell Monczka42Specific improvement targets become theprimary measures for determining if therelationship will continue.Sloan Management ReviewWinter 2000Handfield Krause Scannell Monczka43the size of the purchase; no fixed profit level is usedin negotiations. The purchasing department then aggregates the costsand compares them to the target cost. If total costexceeds target cost, the design requires change toreduce the cost. Although the suppliers profit marginsmight be an easy place to look for cost savings, Hondarealizes that doing so would squander any trust it mayhave earned. Therefore, Honda generally does not tar-get supplier profits as an area for cost reduction.Ensure Follow-Up through a Supplier Champion.Johnson Controls Inc. (JCI), an automotive interiorcomponents manufacturer in the United States, foundthat many suppliers attending its training sessionsfailed to implement the tools and techniques present-ed. Therefore, JCI initiated a Supplier ChampionsProgram (SCP) to ensure that suppliers become profi-cient in areas important to JCI customers. In the SCP,one supplier employee is designated as the supplierchampion. That champions job is to understand JCIexpectations, demonstrate an acceptable level ofcompetence in the tools and techniques, and be cap-able of disseminating that knowledge to the rest ofthe organization. If a champion moves out of his orher role, the supplier must designate a new champion,who trains with the outgoing champion and becomescertified in the appropriate training sessions. Certifi-cation generally requires a champion to submit sever-al improvements undertaken by the supplier, such asprocess-flow mapping, failure-mode-effects analysis,quality-control planning, best-practice benchmarking,or process auditing.Insufficient Supplier Resources Some suppliers lack the engineering resources, equip-ment, information systems, employee skills, or trainingrequired to implement the improvement ideas identi-fied in a supplier-development exercise. To surmountthis potential pitfall, many companies we studiedinvested significant effort in boosting their suppliersinfrastructures using the following techniques.Keep Initial Improvements Simple. To minimize sig-nificant investments, Varity Perkins initial supplier-development efforts focused on high-impact areas thatcould be improved quickly. Each kaizen effort waslimited to 1 week, was constrained to moving only aspecific number of machines, and generally involvedonly about eight machine operators. Because Perkinsmanagers believe that optimal solutions are neverreached in the first effort, they feel it is more impor-tant to perform a kaizen event quickly. Even though further improvements might be possible byallocating additional time and resources, spendingsignificant funds on capital equipment is contradictoryto the kaizen philosophy of striving for simple, effective, and low-cost solutions. Kaizen events last-ing more than 1 week become production reengi-neering that might yield significant benefits.However, undertaking many small kaizen eventsoften uncovers significant benefits without majorresource commitments.Draw on the Buyers Resources. Managers fromNational Computer Resources Corporation reportedthat timely and accurate information was critical todecision making and, ultimately, to improving suppli-er performance. Thus, an important focus of NationalComputer supplier-development efforts has been topersuade suppliers to commit to electronic data inter-change (EDI the electronic transmission of databetween supplier and buyer using a strict format).National Computer has helped suppliers that producelower-level components (but are without the resourcesto implement EDI themselves) by getting them online,providing training, and making hardware and soft-ware recommendations.IBM managers reported in our interviews that, becauseof high risk and short product-development cycles,the company needed to expand its efforts to helpsuppliers ramp up for production more quickly.However, rather than use supplier-development inter-vention, IBM expedites support. For example, thismeans that it assists second-tier suppliers in reducingtheir delivery lead times to first-tier IBM suppliers.IBM even buys parts for first-tier suppliers and sellsthem to the suppliers at cost.Solectron renegotiates contracts every 6 monthsbecause of rapidly changing technologies and a highlycompetitive environment, even though the firm con-siders suppliers long-term partners and they assumethat their contract will be renewed. The renegotiationhas two goals. One is to inform the suppliers ofUndertaking many small kaizen eventsoften uncovers significant benefitswithout major resource commitments.probable order quantities 6 months in advance; theother is to garner price decreases from them. Solectron plans to write price-adjustment clauses intothese contracts to capture supplier cost decreasesautomatically during the contract period, rather thanat the beginning of each new contract. However, thefirm has not implemented this change, because sup-pliers information systems are not integrated withSolectrons. Therefore, Solectron is considering pro-viding suppliers with access to its databases. Bydoing so, Solectron will be able to forego frequentrenegotiations and will expect to receive real-timeprice reductions from suppliers.Offer Personnel Support. Bavarian Motor Works(BMW), the car manufacturer, does not provide finan-cial support to suppliers; however, it has providedthe services of its employees when suppliers requestassistance. BMW has sent maintenance engineers andprocurement, logistics, and quality personnel to sup-pliers sometimes for several weeks at a time.During its initial start-up in the United States, BMWhad to focus on problem-driven projects. It still relieson a Pareto-driven approach to assisting suppliers. Itidentifies problems early and prevents them fromworsening, which minimizes expending a suppliersresources and the need for BMW to undertake sup-plier improvement efforts.Hyundai Corporation, the large Korean automotivemanufacturer, realized that smaller suppliers with lim-ited resources could not consistently recruit and retainthe most-skilled engineers. Therefore, most Hyundaikaizen processes focus on small suppliers. Hyundaisends engineers from its own shops to essentially liveat supplier facilities, performing time/motion studiesand teaching layout design to improve the suppliersproductivity. Hyundai encourages these suppliers tolearn, apply, and eventually teach their own suppliersthe knowledge that Hyundai transfers to them. Honda invested significant resources in its supplier-support infrastructure. Of the 310 people in Hondaspurchasing department, fifty are engineers who workexclusively with suppliers. In one case, a small plastics supplier did not have the capacity to producethe required volume, so the quality of their partsbegan to deteriorate. Honda sent four people to thesupplier for 10 months, at no charge to the supplier;additional services were even offered as needed. Thesupplier improved and became a well-establishedHonda supplier. Although engineering support hasplayed a large role in the success of Hondas supplier-development program, the company generally doesnot invest directly in a suppliers equipment. In somecases, however, Honda will own a percentage of asuppliers equipment for capitalization purposes andallow the supplier to repay the investment over time.Build Training Centers. To fulfill suppliers traininginadequacies, JCI built a facility dedicated to provid-ing extensive training to internal groups, suppliers,and customers. JCI requires that all potential supplierstake JCIs Supplier Principles Program; hundreds ofpeople have completed the program. During the first11 months of 1997: Suppliers spent 765 hours at Principles Programclasses at the JCI facility. JCI Supplier Development engineers spent 1,283hours involved in management and process trainingat suppliers facilities. Supplier-development personnel spent 573 hourssolving technical problems at supplier sites.Occasionally, a government may even lend support forindustry collaboration. The cost of Hyundais trainingcenter (which provides specialized supplier training) isshared evenly between Hyundai and suppliers, but theKorean government provides tax benefits for buildingsuch centers and makes the shared training fees tax-deductible. The Korean government prohibits signifi-cant investment by a company in its supply base, soHyundai only directly invests in supplier improvementin rare circumstances. However, the company is per-mitted to make machinery and equipment that it man-ufactures available to suppliers at a good price, facili-tating the exchange of advanced technology.Buyer-Specified Pitfalls Buyers are reluctant to fully commit to supplierdevelopment primarily when they see no obviouspotential benefits. Small-quantity purchases fromSloan Management ReviewWinter 2000Handfield Krause Scannell Monczka44BMW has sent maintenance engineersand procurement, logistics, and qualitypersonnel to suppliers sometimes forseveral weeks at a time.numerous suppliers may not justify the investment inone particular supplier. Or a supplier may not beimportant enough to justify such an investment. Lackof immediate monetary benefits or the wavering sup-port of top management may also lower a buyerscommitment. Finally, lofty expectations that go unre-alized may reduce enthusiasm for future supplier-development efforts. Following are some tactics foravoiding such buyer-centric pitfalls.Consolidate to Fewer Suppliers. One way to illustratethe value of investing in a supplier-development effortis to consolidate to fewer suppliers, thus making theremaining few more important to the buyers success.Several purchasing managers noted that one way toincrease the order size with key suppliers is to stan-dardize parts, even for design-to-order operations. Forexample, IBMs Networking Hardware Division, whichproduces customized networking solutions for custom-ers, constantly strives to increase parts commonality.Currently, over 50 percent of purchased componentsfor each major network hardware project is standarditems. IBM personnel only order unique componentrywhen it will provide market advantage; otherwise,they standardize to leverage purchases worldwide. Concurrent with the drive to standardized parts, manypurchasing managers optimize their supply bases anduse single suppliers to achieve economies of scale. Forexample, Daewoo Corporation uses single sourcingwhenever possible. It only turns to two or more suppli-ers when labor disputes are likely. Similarly, NationalComputer, Doosan Corporation of Korea, HondaAmerica Manufacturing, and Rover have made, or areplanning, moves toward single sourcing within productplatforms, while maintaining multiple sources acrossproduct lines. This strategy allows them to leveragepurchasing volumes globally while simultaneouslyreducing the risk of insufficient supply. Reducing sup-pliers lowers administrative costs and provides theincentive to conduct supplier-development efforts withthe fewer remaining suppliers.Keep a Long-Term Focus. Solectrons competitivestrategy relies heavily on its supply-chain-managementcompetencies. Thus, Solectron looks beyond the priceof the goods it purchases and examines how its mostimportant suppliers impact the quality and technologyof its own products. Solectron requires suppliers toprovide black box designs that can be integratedinto Solectron products by its designers. Solectron usestotal cost and long-term strategic impact as criteriafor justifying investments in its suppliers. Currently,Solectron is developing an integrated information sys-tem across suppliers, OEMs, and distributors, which itcalls World-Wide Materials System. This system willallow commodity managers to better identify and jus-tify supplier-development opportunities because it willhelp them better manage supplier-performance align-ment, measurement, commodity team analysis, andsupplier negotiations and reviews.Determine Cost of Ownership. Many companies westudied use total-cost-of-ownership data to measurethe cost of doing business with a particular supplier.For example, Sun Microsystems measures supplierperformance in quality, lead time, delivery, flexibility,process and technology investments, and level ofsupport provided to Sun. The total points achievedby a supplier across these categories is multiplied bya price index, which compares the suppliers perfor-mance to the price-reduction goals set by Sun. Thebest score a supplier can receive on the price indexis 1.0. A total-cost-of-ownership final score of 1.36implies that the supplier costs Sun $1.36 for every$1.00 worth of value Sun receives from that supplier.By identifying where and how suppliers add (ordetract from) value, Sun makes supplier-developmentdecisions on the basis of total cost rather than pur-chase volume or monetary value alone. Set Small Goals. Varity Perkins initial supplier-development efforts were relatively unsuccessful,partly because of unrealistic expectations. Thus,Perkins focused its kaizen improvement efforts on asmaller group of suppliers to garner a series of smallwins. The effort was rewarded with incrementalimprovements that ultimately renewed the commit-ment of all parties. The goals for the supplier kaizenstrategy were to: Highlight waste within a suppliers processes anddemonstrate how incremental improvements could bemade quickly through joint improvement activities. Achieve cost reductions at Perkins as a direct resultof kaizen activities and share the benefits with thesuppliers.Sloan Management ReviewWinter 2000Handfield Krause Scannell Monczka45Lofty expectations that go unrealizedmay reduce enthusiasm for future supplier-development efforts.Sloan Management ReviewWinter 2000Handfield Krause Scannell Monczka46 Familiarize Perkins purchasing, logistics, supplierquality assurance, and cost engineering staff withsuppliers products, processes, and training by havingthem participate in kaizen activities. This exposurethen provided the basis for extending the improve-ment initiatives outside of kaizen.Make Executive Commitment a Priority. Many of themanagers we interviewed for this study reported thattop management became convinced of the value ofsupplier development only when profits improvedalong with supplier performance. For companies suchas Honda, which spends nearly 80 percent of cost ofgoods sold on purchased goods and services, such anargument is easy to make; for companies with lowerpercentages, the argument may be more difficult.Proving a specific relationship between supplier per-formance improvement and profits may not be easy;however, considering the total cost of not movingforward, there is a solid business case in terms ofavoiding late deliveries, line shutdowns, andcustomer-warranty costs. Managers reported that opti-mizing their supply bases, together with parts stan-dardization, freed up some resources over the longterm and made supplier development more feasible.In addition, taking the total-cost approach to measur-ing supplier performance proved effective in demon-strating the cost of poor supplier performance. Thus,many of the strategies used by companies to avoidtheir own buyer-specific pitfalls to supplier develop-ment are complementary.Buyer-Supplier Interface PitfallsPitfalls may also originate in the interface betweenbuyers and suppliers, in areas such as interorganiza-tional trust, alignment of organizational cultures, andineffective communication of potential benefits. Lack of TrustOne of the biggest challenges in supplier developmentis cultivating mutual trust. Suppliers may be reluctantto share information on costs and processes; the needto release sensitive and confidential information maycompound this hesitation. Ambiguous or intimidatinglegal issues and ineffective lines of communicationalso may inhibit the trust building necessary for a suc-cessful supplier-development effort.Delegate an Ombudsman. To overcome suppliersreluctance to share information, Honda has supplierombudsmen who deal with the soft side of the busi-ness the human resource issues that are not asso-ciated with cost, quality, or delivery. Honda has dis-covered that often suppliers are more open withthese ombudsmen because they are not involved inthe contract negotiations. If a supplier approaches anombudsman with a problem caused by poor commu-nication or misunderstanding between the two com-panies, the ombudsman is able to communicate thesuppliers perspective to Hondas personnel whilemaintaining confidentiality as much as possible. Overtime, suppliers come to trust the ombudsmen andappear more willing to share information in all areas,including costs a sensitive area.Keep Confidential Information Exclusive. Sharingconfidential information is especially difficult whendealing with new suppliers in high-technology areas.Thus, many companies require nondisclosure agree-ments and even exclusivity agreements (i.e., the sup-plier provides a specific product only to one buyer),especially when dealing with technologicallyadvanced products that contribute to the buyerscompetitive edge. Motorola, for example, has madeconfidentiality a part of its supplier-developmentagenda. The company even helps suppliers segregateMotorola product manufacturing from their otheroperations to prevent Motorolas competitors fromseeing how these parts are manufactured.Spell It Out. Since it does not plan a kaizen eventunless a supplier fully commits to a relationship,Varity Perkins first insists on a signed agreement.Although some procurement staff at Perkins prefer agentlemans agreement, kaizen leaders believe theonly way to gain a suppliers trust is through writtenand signed terms, especially for the first few kaizenevents. Perkins recently spent 8 months trying to con-vince a key supplier to consider a kaizen; the suppli-ers managers were reluctant because another compa-nys recent kaizen failed to yield significant improve-ments. The lack of trust was compounded by Perkinsreputation for arms length relationships with sup-pliers, which manifested in Perkins frequently switch-ing suppliers on the basis of price. Perkins is nowaggressively trying to reverse this perception throughOften suppliers are more open withombudsmen because they are notinvolved in the contract negotiations.Sloan Management ReviewWinter 2000Handfield Krause Scannell Monczka47its new purchasing philosophy, which emphasizescooperative relationships with key suppliers and well-defined purchasing objectives beyond purchase price.Minimize Legal Involvement. JCI views suppliers asextensions of its company. The company formsalliances with key suppliers and develops close rela-tionships between the two firms senior executives.Alliance agreements include broad statements ofoperating principles and specify the roles each partyshould play, so formal contracts are rarely used.Instead, open purchase orders are employed on 90percent of orders, and JCI commits to a certain vol-ume of business. In interviews, the JCI team empha-sized that they use only a single legal adviser toestablish these relationships, and their contracts arewritten only for a supply agreement a memoran-dum that outlines general expectations and commit-ments. The only legal issues involve patent and intel-lectual-property agreements. So an important underly-ing success factor distinguishing JCI from its competi-tors is its continual emphasis in its corporate cultureon its relationship-based strategy. JCIs purchasingmission statement states:Purchasing will provide products and services of thehighest caliber . . . . To achieve these results we willwork in a relationship-building environment thatfocuses on the value chain through target cost sav-ings, full-service suppliers, and innovative supply-management practices. Collaborative relationships arevital to the success of JCI. To build and preserve ourinternal and external relationships, we will maintainimpeccable moral and ethical standards in an aggres-sive, professional environment. We embrace proactiveactivities that ensure predictable results of the highestmeasure in product quality, cost, and delivery on aglobal basis.Poor Alignment of Organizational Cultures Occasionally, when conditions change, a once-successful supplier-development approach is nolonger viable. Changes in supply chains or plant loca-tions, or ambiguous expectations that do not takeinto account changing conditions, may adverselyaffect supplier development.Adapt to Local Conditions. When setting up produc-tion in South Carolina, BMW quickly realized it wouldhave to change its supplier-development approach toconform to North American supply conditions. InGermany, BMW uses a process consulting approach,analyzing suppliers processes for errors and insuffi-ciencies. This approach works well in a mature sup-plier relationship, in which the supplier intuitivelyunderstands what the customer wants because theparties have worked together for many years. In theUnited States, however, BMWs new U.S. suppliershad difficulty understanding BMWs requirements forquality and continuous improvement; this misunder-standing resulted occasionally in strained relationships.Consequently, BMW spent a great deal of time com-municating with suppliers and showing them whatBMW needed. Further, BMW had to change the mes-sage it sent to suppliers by emphasizing Your prob-lems are our problems. You have good products, butyou have to do better, and we are here to help you.BMW also found that, although a given supplier mightbe considered excellent in Europe, the suppliers sub-sidiary in the North America might be incapable ofmeeting the same standards. For example, bumpers andbody panels initially purchased in the United Statesoften had small scratches and other minor imperfec-tions that BMW considered defects. In setting expec-tations, BMW emphasized that it was not just a matterof right versus wrong, but a matter of effectivelycommunicating quality criteria. Thus, BMW asked thesuppliers to hold parts at certain angles under a lightto look for scratches. For suppliers to understandthese expectations and to align their business cultureswith BMWs required face-to-face discussions withBMW.Create an Expectations Road Map. BMW strives tobe 20 percent above the industry average in severalquality-performance categories; management believessupplier development is a key contributor in thiseffort. One of the best ways to achieve this level ofquality is to communicate BMWs expectations effec-tively. Thus, BMW recently published a SupplierPartnership Manual and held seminars for suppliersto present their Road Map to Quality. This manualclearly delineates supplier responsibilities and expec-tations and is geared toward improving alignmentbetween the corporate cultures. Such road maps are an increasingly common way tospur buyer/supplier organizational alignment. Theyattempt to show companies where they are todayand project where they should be in the short, medi-um, and long term. IBMs networking hardware divi-sion and personal computer operations share roadmaps with suppliers. Similarly, Sun Microsystemsshares road maps with suppliers to drive their invest-Sloan Management ReviewWinter 2000Handfield Krause Scannell Monczka48ment strategies, which will, in turn, drive Suns sup-plier selection strategy. The alignment of a supplierstechnology and Suns technological needs are thebasis for guaranteed future business with Sun.Insufficient Inducements to the Supplier Buyers may ineffectively communicate potentialbenefits for investing in supplier-developmentefforts, thus losing a suppliers full commitment. It may be necessary to convey more motivating incentives.Offer Financial Incentives. Hyundai Motor Companyuses financial incentives to motivate suppliers toimprove. The company rates supplier performancefrom 1 (highest) to 4 (lowest). Class 1 suppliers arepaid in cash, Class 2 suppliers are paid net 30 days,Class 3 suppliers are paid net 60 days, and Class 4suppliers are paid net 60 days and receive no newbusiness. Because suppliers know how Honda evalu-ates performance, they take steps to ensure high lev-els of performance. This motivator has been especial-ly important during the recent financial crisis facingAsian industries. Design In Motivation. Although Solectron is nowgenerally able to offer large orders to suppliers, thiswas not always the case. To gain supplier coopera-tion in the low-volume years, Solectron emphasizedthat a supplier could become designed in to itsproducts and thus have a greater potential for futurebusiness. Designing a suppliers product into aSolectron product provides enough motivation formost suppliers to participate in supplier-developmentefforts. Soletron still uses this approach as a motiva-tional incentive. Offer Repeat Business as an Incentive. Several com-panies interviewed were surprised to hear that a lackof special inducements was a pitfall to supplier per-formance improvement. For example, JCI managersbelieve that properly managed relationships requireno explicit rewards or incentives for suppliers toimprove their performance. JCI noted that its suppli-ers are not promised anything, but they expect con-tract renewal. If a supplier meets JCI expectations, itwill continue to be a JCI supplier.Lessons LearnedAlthough we gained many valuable insights whileconducting this study, we summarize several that areparticularly relevant to this discussion.Most Pitfalls Occurred in Steps 47 of the ProcessModel. If we were to view the major pitfalls in termsof stages of the process model, we would see thatsignificant problems often arise: during meetings of buyer and supplier manage-ment teams, when defining key projects, when defining agreement terms and determiningmetrics for success, and when monitoring project status and subsequentlymodifying strategies.Thus, to avoid these pitfalls, the parties should open-ly address initial doubts and resolve the issues assoon as possible. Target projects that are too complexresult in poor follow-through, either due to lack ofresources or lack of commitment; firms must addressthis problem early. Furthermore, a buyer that doesnot commit sufficient resources for its proposeddevelopment effort is unlikely to convince suppliertop management. So buyers must understand, sup-port, and make clear their side of the bargain earlyon. Determining which costs to bear and which toshare is also important. Finally, establishing metricsand timelines that provide a basis for follow-up andjoint problem solving is critical to a projects comple-tion. Confronting such difficult topics promptly canhighlight the weaknesses in a poorly planned devel-opment project.Unsupportive Managers Are a Common Pitfall.Many of the interviewed managers stated that suppliersare sometimes unwilling to accept help in the form ofsupplier development. Perhaps they are too proud.Perhaps they do not see the value in improving qual-ity or delivery performance. Or perhaps they do notrecognize they have a problem. Acknowledging thatunsupportive managers are a potential pitfall, buyerscan devise remedies, perhaps based on our findings,which provide the greatest overall benefits. Manage-Establishing metrics and timelines that provide a basis for follow-up andjoint problem solving is critical to aprojects completion.Sloan Management ReviewWinter 2000Handfield Krause Scannell Monczka49ment attitudes significantly affect the success of asupplier-development effort, so they must be moni-tored and addressed continually.Strategic Emphasis Is Required on Purchasing andSupply-Chain Management. A strong purchasing mis-sion statement reflects and drives strategic emphasisand alignment. Consider the purchasing mission state-ment of a U.K. auto parts manufacturer: We arecommitted to procure goods and services in a waythat delivers our aims and objectives of becoming themost successful auto parts business in the world.This company pursues its mission through: (1) devel-oping a world-class supplier base capable of meetingcurrent and future needs; (2) obtaining the highestquality, most cost-effective goods and services in atimely manner; and (3) establishing long-term relation-ships with supply partners that meet company stan-dards, are committed to the manufacturer, and striveto continually improve in all areas. A strong supplier-development effort leads to improved strategic align-ment between organizations and results in importanttransfers of tacit expertise and advanced technology.Pitfalls May Be Related. A theme that underlies thefindings in our survey and field interviews is that ascompanies work toward solving one supplier-devel-opment problem, they may concurrently progresstoward avoiding other pitfalls. Although pitfalls maynot correlate with each other in every case, it becameincreasingly clear during the field interviews thatexperiencing the pitfalls of one category (supplier,buyer, or interface) frequently had direct or indirecteffects that led to other pitfalls as well.8Relationship Management Is Critical to Success. Useof specific tools and processes (such as total-costanalysis, volume leveraging, resource support, formaland informal communication, linked information sys-tems, incentives, and agreement on goals and objec-tives), can develop and strengthen relationshipsbetween buyers and their suppliers.Initiating supplier-performance improvement is not aneasy task. The objective is to transform suppliers sothat continuous improvement becomes an integral partof their capabilities. Our findings suggest that such anaccomplishment takes time and is only achieved bypatient relationship managers who are tenaciousenough to pay follow-up visits to suppliers and con-tinually enforce a strong program of supplier evalua-tion and performance feedback.References 1. D.R. Krause, R.B. Handfield, and T.V. Scannell,An Empirical Investigation of SupplierDevelopment: Reactive and Strategic Processes,Journal of Operations Management (forthcoming);D.R. Krause, Supplier Development: CurrentPractices and Outcomes, International Journal ofPurchasing and Materials Management, volume 33,number 2, 1997, pp. 12-19; and K. Bhote, Strategic Supply Management ABlueprint for Revitalizing the Manufacturing-Supplier Partnership (New York: AmericanManagement Association, 1989). 2. B. Burnes and P. Whittle, SupplierD.R.Development: Getting Started, Logistics Focus,volume 3, number 1, 1995, pp. 10-14; and S. Tully, Purchasings New Muscle, Fortune, vol-ume 131, 1995, pp. 75-83. 3. T. Peters, Thriving on Chaos: Handbook ofManagement Revolution (New York: Knopf, 1988);J. Quinn, P. Anderson, and S. Finkelstein,Leveraging Intellect, Academy of ManagementExecutive, volume 10, number 3, 1996, pp. 7-27;andA. Taylor, The Auto Industry Meets the NewEconomy, Fortune, volume 130, number 5, 1994,pp. 52-60. 4. M. Fisher, What is the Right Supply Chain forYour Product? Harvard Business Review, volume75, March-April 1997, pp. 105-116. 5. For a detailed description of the methodologyand validation of this process model, see:Krause et al. (forthcoming). 6. For example, see:J.P. MacDuffie and S. Helper, Creating LeanSuppliers: Diffusing Lean Production through theSupply Chain, California Management Review, vol-ume 39, number 4, 1997, pp. 118-151; orC. Watts and C. Hahn, Supplier DevelopmentPrograms: An Empirical Analysis, InternationalJournal of Purchasing and Materials Management,volume 29, number 2, 1993, pp. 11-17. 7. B. Burnes and P. Whittle, SupplierDevelopment: Getting Started, Logistics Focus, vol-ume 3, number 1, 1995, pp. 10-14; andWatts and Hahn (1993). 8. K. Fitzgerald, For Superb SupplierDevelopment Honda Wins! Purchasing, volume119, number 4, 1995, pp. 32-40.Reprint 4123Copyright 2000 by the Sloan ManagementReview Association.All rights reserved.ReprintsTo order reprints, or requesta free reprint index, pleasecontact:Sloan Management ReviewReprints, E60-10077 Massachusetts AvenueCambridge, MA 02139-4307Telephone: 617-253-7170Fax: 617-258-9739E-mail: smr@mit.eduCopyright PermissionTo request permission tocopy one or more articles,please contact:Sloan Management ReviewPermissions, E60-100 77 Massachusetts AvenueCambridge, MA 02139-4307Telephone: 617-258-7485Fax: 617-258-9739E-mail: pfitzpat@mit.eduMIT