In the last 10 years, automakers have responded to the fiercer pace of competition in many ways. They have targeted new markets and niches. They have focused on building brands. And they have outsourced.
Automakers' decision to purchase parts rather than build them has brought the biggest changes for suppliers. Many have responded by supplying a group of parts, or systems, instead of single parts.
But the promises of that strategy have not always been delivered. Before following it any further, suppliers should ask some vital questions.
Do they have what it takes to be big? Or should they play a smaller yet safer role?
They may find that the road with less glory may be a much more profitable one.
Not long ago, suppliers added 40 percent of the value to a new automobile. Today they account for 60 percent to 70 percent. And within the next 10 years, the average will rise to 80 percent, according to a study by management consultants Roland Berger. In addition, the suppliers' share of development will rise from 33 percent in 2000 to more than 50 percent in 2010. In the same period, the study forecasts, the number of suppliers will fall by one-third.
Against that scenario, survival for most suppliers depends on a combination of greater specialization and globalization. Many suppliers have responded by making the transition from component supplier to system supplier. The idea was that by developing and supplying complete subsystems of components, suppliers would add value and build a close, lasting Tier 1 relationship with the automakers. Suppliers would also enjoy a matching boost in profits.
Automakers supported those efforts. For them, working with a smaller number of large suppliers cut both purchasing and development costs.
But for suppliers, becoming a system supplier brought substantial burdens on three fronts: structural, human resources and financial. In most cases, mergers and acquisitions proved as inevitable as the creation of development capacities and production facilities.
Many system suppliers are still waiting for the payoff. True, many have achieved their primary objective of Tier 1 status, but with no matching improvement in earnings.
A study by Booz Allen Hamilton compared the returns on investment of highly specialized suppliers and broad-based system suppliers with the industry average. For many companies, the time and effort invested in becoming a system supplier failed to produce the desired effect.
The main reason for this failure is that many suppliers have no clear idea of the benefits they should derive by moving from a component supplier to a system supplier. All too often, activities are merely transferred from automaker to supplier with no gain in efficiency. In fact, some tasks of system integration can be handled far more efficiently by the automaker. The automaker, after all, is responsible for the vehicle concept.
One critical scenario is when assembly steps are transferred from automaker to supplier. In times of economic growth, manufacturers turn to suppliers for extra capacity. But when the economy weakens, the outsourced assembly tasks are sometimes withdrawn to take up excess capacity in-house. This simple activity doesn't enable suppliers to acquire the expertise that could benefit their long-term competitive position.
To attain lasting success, suppliers must generate genuine benefits for the customer. Simply put, their products and services must be either better or cheaper. There are two ways to do that - through economies of scale or through integration.
The benefits of combining the needs of several automakers are easy to grasp. With more development projects, there are more learning loops in-house. This fosters a sharper corporate focus on one product.
More difficult to quantify but ultimately more significant is the potential of component integration. The scope for physical integration - combining several components to form a system - has already been largely exploited. The more important role will be played by functional integration: the interaction of what today are autonomous components.
For example, by enabling brake control and damper control units to communicate, we can cut stopping distances. There is no need for additional components, just the appropriate software in the two independent subsystems. Electronics will play a key role.
Any accurate assessment of the potential for integration calls for a vision of where technological development is heading.
If a supplier cannot see any great potential for improving its position, either through economies of scale or through functional integration, it makes no sense to attempt the hazardous transition to system supplier. The outcome is a more complex and less agile operation. In such cases, the wiser route is to specialize in one component.
It may mean never reaching Tier 1 status, but it will lead to greater commercial success.
* Wolfgang Ziebart is deputy chairman of the executive board of Continental AG.