Thomas Stallkamp: "Instead of demanding another round of price rollbacks from our suppliers, we told them that we realized there were problems and inequities throughout the system."
In this excerpt from his new book, SCORE! A Better Way to Do Busine$$, Stallkamp talks about auto parts procurement and what led to the creation of SCORE.
How the game is played
The automotive procurement organizations are large bureaucratic activities that until recently were based on business transactions. Their job is to contain the commercial aspects of the relationships to their authority and to isolate the engineering, manufacturing and marketing people from the "taint" of the commercial aspects. In theory, that works fine, but it also isolates, insulates and builds protection systems into the companies.
The purchasing departments are aligned by the various systems and commodities in a car: electrical, body, powertrain, and raw materials. Typically, in any one of the Big Three automakers there might be more than 250 to 300 buyers working at one time, each responsible for managing a small aspect of the parts or services that go into the vehicle.
In addition to buyers, the purchasing areas are staffed with legions of financial analysts whose job is to monitor the suppliers' status. These analysts also have the assignment of pressuring suppliers for margin reductions by auditing their quotes and critically reviewing their overheads. This is all done under the friendly-sounding term "open book pricing." When a buyer has a problem negotiating the initial price for placement, a team of financial analysts descends on the supplier like hawks on a rabbit. The result is much the same.
These procurement departments are still primarily driven by piece or unit price of the item they are buying. When you consider that a company might make 3 or 4 million vehicles, and each vehicle might use several of the same thing, such as five tires, 20 switches or hundreds of fasteners, it is easy to see why the difference of a penny per part quickly adds up into large sums. Therefore, negotiation and concentration is placed upon the per piece price of a part, to minimize production costs. This drives the whole organization into a transaction-based mindset that makes the current variable cost more important than longer-term issues such as warranty, engineering and development cost, and, sadly, often quality. This preoccupation with the short run is a major problem in all auto companies; it is further reinforced by the finance department's staff and the outside analysts who look at the quarterly profit as a primary guidepost of success and stability.
This short-run attitude often makes the companies and their procurement people miss the larger picture, and this trend downplays strategy in favor of cost control and cost containment. Each company's buying areas are measured on how much they spend and, more recently, upon how much they reduce the current cost instead of what they might be saving in the future for their respective companies. This sole focus on the current variable cost can have an immediate favorable effect on a firm's profit and loss statement. However, it ignores larger cost-reduction opportunities that are building in future costs, such as warranty, development, tooling and capital equipment. These structural costs are often more important for a firm to control because they impact both current cash and the cost levels for products that are introduced in the future.
A horrible result of this current focus is the elaborate "game" that has developed with the suppliers. Because the business is decided and based upon current costs, new business often is awarded based on the lowest quoted cost. The supply base participants quickly figured out that a low quote was the major deciding factor and often bid at cost or even below cost to secure the business. They recovered their profits over time because the development process each of the U.S. companies used was so lengthy and convoluted that each part was changed several times, each time providing a chance for the supplier to increase its price for the design change. Suppliers often padded these design changes, but because the business was based on the initial quote, little was done to move to another supplier because switching cost time, caused disruption and possibly produced quality issues. The suppliers figured out the rules of the game and adapted to it so significantly that they had little reason or motivation to bring new ideas or concepts to their clients. All they had to do was wait for the inevitable changes to come so they could increase their margins. It was as if the serfs in our feudal example had figured out how to trick the king into thinking they were subservient to him, while they made more money than he did off the wares they produced for him.
This whole scene resulted in both a frustrated procurement department that thought it wielded the power but that lost control because the auto company could not efficiently manage changes, and an equally frustrated supply base that looked for every possible change to increase margins to protect itself. The game was frustrating and difficult, but it was played successfully for years because the car companies could annually increase the price of the vehicles to the final consumer and recover some of the economics they had to pay out to the supply base. Like all good things, the game was played too long and ended when competition forced a change in the rules. This is even more true today. In an effort to stimulate the nervous economy immediately after 9/11, General Motors introduced significantly higher cash incentives to entice customers back to the showroom and to buy new cars. Their "Get America Rolling Again" campaign is credited with helping revive the total market and restore consumer confidence during that troubled time. The problem is that customer cash incentives are truly like drugs: easy to get hooked and very difficult to get off. Cash incentives have been a feature of the domestic auto industry for the past two decades. The "game" still hasn't changed.
Chrysler's idea of coexistence
While the game of power and leverage was being played far too long, situations at Chrysler brought about a fundamental change to the auto industry's approach to business. It was based on the realization that companies exist on relationships with other companies much in the way people interact with other people. Instead of concentrating just on the short-term aspects, a longer-term view proved much more beneficial to both sides.
In September 1980, just before the Loan Guarantee was approved, the stage was set for a change in the whole industry. Chrysler was just launching the new K car, its hope for their future. Production of the new model was just beginning, and its older models were still bringing in revenue, although not enough to support the company. We were literally days from going bankrupt. In fact, we were technically bankrupt - what saved us were the suppliers who we convinced to continue to manufacture and ship parts for us to put into cars without being paid. We ran up staggering bills that we promised to pay when the government approved the loan. But until then, the suppliers were shipping on good faith and their belief that the company would not fail.
One supplier, Goodyear Tire and Rubber Co., continued to ship tires and built up an unpaid account of several hundred million dollars. Goodyear was one of Chrysler's oldest, largest and most supportive suppliers. They were in a "damned if you do, damned if you don't" situation. If they stopped manufacturing and shipping, their revenue would instantly drop, creating their own set of negative financial problems. If they continued to ship, they were adding to an account receivable that was questionable, at best.
The Wall Street Journal and other business press had a front-page article every day about our shaky financial picture, predicting that we would (and some said should) fail. But Goodyear and all the other major suppliers continued to ship. We actually printed the checks as if we had money, but, of course, we could not send them. Each morning, during that period of a couple of months, we met with our treasurer, who announced how much we could allocate that day in partial payment to keep the supply base supporting us. Many of the suppliers were in nearly as bad a shape as we were. Management had to work 24/7 to keep the company afloat and working. It was a scary and fascinating time.
Everyone in the company acknowledged that the reason Chrysler survived and eventually prospered was the supplier support during those dark days. The suppliers literally saved the day and the firm. It was a turning point in relationships in the industry. It opened the door to a new philosophy on how to manage suppliers, dealers and employees. It also showed that every company in the supply chain was dependent upon each other and that this mutual co-dependence was a source of strength. And it helped to be in a crisis so that people were galvanized into action instead of sitting on the sidelines. To this day, people are still debating whether government assistance to industry is warranted, but Chrysler paid back the loan within seven years, with the company, its jobs and its future intact.
During the decade of the 1980s, we reverted to operating like the other companies in the industry, with the exception of continuing the close communication and contact with our suppliers and dealers. Then in 1990, the same things almost happened again.
Because of the sudden drop in demand and the country heading into a recession, Chrysler's volume dropped to a point that its fixed costs were hardly being covered. We were unable to compete in cost, quality or speed to market against increasing competition from the Japanese automakers. It looked to many that we were back in the financial soup again, only this time we could not and did not want to look to the government for help. Because that alternative was unavailable, we looked again to suppliers for help.
This time pressure for a rapid solution required soliciting the supply base for cost-reduction ideas. The suppliers accounted for more than 70 percent of the costs of a vehicle at Chrysler because of its heavily outsourced component level. The top 100 supplier companies were divided into five groups, and each group was assigned to one of our top five corporate officers to personally meet and ask for advice. In this way, the CEO and the president, as well as the CFO and the head of marketing, were dragged into the equation, even though they felt at the time that they were too far removed from the commercial aspects to help. Each officer held private lunches with the CEOs of our top 100 suppliers. Because of our size and leverage, these turned out to be some of the largest companies in the United States. The list included Motorola, Goodyear, ITT, U.S. Steel and other well-known large firms.
The output of these informal lunches was amazing. Instead of offering piece price reductions, each company outlined how the cost of doing business in our adversarial economy was inflating our mutual costs. They complained that Chrysler itself was adding to the confusion and hurting its own profits by making the process of doing business with us so difficult and expensive. They showed how the Japanese were particularly easier and more streamlined in their business approach, without being any softer on competitive pricing. These executives independently confirmed that our commercial system, which was at that time similar to that of Ford and GM, was the place where major improvement needed to be made.
SCORE is born
As a result of what was revealed to us at those luncheon meetings, we formulated a plan to follow up on each cost-saving suggestion. The Big Three automakers had previously only paid lip service to these kinds of suggestions because it ran against their ego to believe that an outsider, a supplier, could actually understand their complicated system well enough to offer meaningful suggestions for improvement. It was a classic issue of self-centered control and ego. But this time, we felt that we had no choice other than to listen to the suppliers and to show that we were serious about improving our own situation as well as theirs.
It didn't hurt that at the same time Chrysler was struggling with its own cost problems, General Motors introduced the "Lopez Element" into the equation. We had the perfect foil to use to help institute our new idea of closer relationships. While (J. Ignacio) Lopez was creating havoc in our common supply base (as the head of global purchasing for GM), we decided to forge ahead by showing that we could listen to our suppliers and actually improve our mutual situations.
During this time, Chrysler formalized its collaborative approach under the label of the Supplier Cost Reduction Effort, or SCORE. This unique approach got widespread recognition in the business community for producing results in an atmosphere of cooperation. Other companies, including Motorola, John Deere and many others, copied it. SCORE remains the single most successful program that improved both the cost structure and relationships between companies. From 1991 to 1998, Chrysler lowered its costs by more than $5 billion solely through the SCORE program. More important, many suppliers improved their profit margins on the Chrysler business and devoted increased funding to technology that supported the new vehicle that returned Chrysler to profitability during this period.
In the past, suppliers had an understandable tendency to run and hide whenever one of their clients began talking about cost-reduction programs. But this time, instead of demanding another round of price rollbacks from our suppliers, we told them that we realized there were problems and inequities throughout our system.
The bombshell we dropped was asking them what we could do to improve it. After years of being browbeaten, whipped and otherwise maligned by all of the Detroit automakers, it is easy to see why suppliers were a bit surprised by this change of attitude at Chrysler. Actually, they were shocked - there just wasn't any other word for their reaction. But once they became convinced that we were making a sincere effort to lower our joint costs, we began receiving some very positive feedback. And not long afterward, we began to see some bottom-line results.
Excerpted with permission from Pearson Education Inc., publishing as Wharton School Publishing from SCORE! A Better Way to Do Busine$$ by Thomas T. Stallkamp. Copyright 2005.