Practical Applications
The usefulness of the purchasing portfolio approach
in a variety of industrial situations can be seen in
the diverse experiences of four large companies. Not
long ago a welding materials producer with plants
and sales operations all over Europe found its profits
squeezed by increased competition and slackening
market growth. Searching for ways to improve
the picture, the company found that supplies were
critical to the production of its welding wires and
electrodes. Together, just five out of the 470 different
items it purchased accounted for more than 60%
of the company’s total purchasing volume of $135
million. Taking into account demand growth, quality
standards, and logistics, the company then analyzed
the European market for these five items in
light of its own plant-by-plant requirements. A third step determined the company’s position against a
wide range of individual suppliers and assessed the
risk of increasing the share sourced from each one.
Finally, the company developed several strategic
supply scenarios, each involving a different mix of
suppliers and different assumptions about price, volume,
and risk. The scenarios ranged from very low
risk (total dependence on well-established sources)
to very high (most purchases from lesser-known, geographically
dispersed suppliers). Cost-benefit analyses
of each enabled management to pinpoint several
opportunities for substantial improvement. On one
key item alone, electrode wire, the company’s potential
annual savings ranged from $1.5 million to $6.3
million, or 3% to 12% of the total cost. Supply strategies
the company worked out for other key items
resulted in an overall saving of 10% on purchased
materials, adding some 3% to 4% to the company’s
pretax profits. Action plans and decision and monitoring
rules developed for each item enabled buyers
to implement the new sourcing strategy and permitted
management to monitor purchasing activities
regularly, in some cases on a day-by-day or bidby-
bid basis.
A large U.S.-based maker of electrical equipment
categorized castings as a key strategic purchased item
and systematically analyzed its own demand in terms
of the annual volume and relative complexity of each
type of casting. It assessed, foundry by foundry, the
capabilities of each potential supplier and decided,
by comparing alternative supply scenarios, which
was the best fit. The resulting new mix of outside
suppliers reduced the company’s outlays for castings
by 5% to 15% and significantly improved its competitive
cost position.
Anxious to reduce the risks associated with current
sources of feedstock supply, a multinational
chemical company revamped its entire purchasing
strategy and organization. Out of more than 5,000
purchased items, the company defined 75 as strategic
or bottleneck feedstocks. Detailed analysis of both
demand and supply confirmed that, thanks to the
sheer volume of its purchases, the company enjoyed
a strong position in most feedstock supply markets.
Its risk profile, however, gave real cause for concern.
Accordingly, the company spread its hydrocarbons
procurement among petroleum- and coal-based feedstocks;
balanced its geographic base among Middle
Eastern, African, North Sea, North American, and
Latin American sources; changed its contracts-tospot-
purchases ratio; optimized its make-or-buy mix
by integrating backward; and began to rely on wholly
owned subsidiaries for a bigger share of its feedstock
requirements. In addition, a corporate-level review
revealed attractive trade-off and substitution opportunities,
which the corporation soon set about exploiting,
once it had changed and upgraded its purchasing
organization and systems in order to do so.
Faced with sharp rises in the labor and overhead
costs of producing high-precision parts in-house, a
Europe-based heavy-equipment maker decided to
review its make-or-buy strategy. Examining the supply
market, it identified a group of obscure, small
manufacturers of precision parts that had begun to
use dedicated, numerically controlled equipment.
Thanks to low overhead and economies of scale achieved
through specialized production, they could supply
high-quality parts at prices 10% to 20% below the
cost of in-house production. In consequence, the company
shifted from making the parts to buying them.