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10/06/2010

Procurement Remains Under Pressure

According to a Kerkhoff study, purchasing managers at suppliers are facing a great many challenges after the 2009 crisis year.

By Klaus-Dieter Flörecke

How are purchasing conditions at suppliers, and what are the challenges the industry is facing? On behalf of the Düsseldorf-based consultancy Kerkhoff Consulting, the Institut für Demoskopie (Institute for Public Opinion Polls and Research) in Allensbach interviewed a total of 106 persons responsible for purchasing in medium-sized and major supplier companies in Germany in July 2010. The comparison showed that the majority of those polled estimates that the challenges for the entire sector of the industry are greater than for their own company. Take product piracy, for example: It's true that 62 percent of those polled consider it to be a growing problem for the industry, but only 32 percent see it as a problem for their own company. A scientific commentary to the study by the staff of the Chair for Logistics Management at the University of St. Gallen as well as the Kerkhoff Competence Center of Supply Chain Management explains the different perception such that the higher risk ranking for the sector might be due, among other things, to the "overrated focus on product piracy in the media".

With regard to the size of the suppliers polled, the minimum parameter was a workforce of 50 people, or annual sales of € 10 million. Altogether 43 of the companies interviewed turn over more than € 100 million annually and thus formed the largest individual group in the investigation. There was a great spread in terms of the number of subcontractors. About one third of the investigated suppliers are working with a maximum of ten vendors – thus the result by the Institute from Lake Constance. In contrast, about 15 percent have 100 and more vendors.

After 2009 which had been a very difficult year for many companies, many suppliers are again looking more optimistically into the future. Almost three quarters of those responsible for purchasing expect the industry to get better in the coming twelve months. Only two percent of those interviewed are afraid of an economic downturn. Expectations for their own company tend to be even more optimistic.

Overall, the purchasing managers at suppliers in Germany expect that conditions in procurement will change in many respects in the next decade. A total of 87 percent of those queried expect significantly increasing raw material prices, and 84 percent significantly increasing energy prices. Also, 86 percent expect rising price pressures on the part of car manufacturers; and 83 percent of the suppliers polled by the Allensbach institute expect more intense purchasing competition due to emerging markets.

About three quarters (76 percent) of the purchasing managers are convinced that it will become much more important to make sure that their own suppliers comply with social standards; thus, for example, that they do not use any child labor. Moreover, 72 percent expect that, in the future, they will increasingly procure materials and supplier parts from countries and regions in which they had no vendors until now. Currently, medium-sized and major suppliers procure just under two thirds of their purchasing volume domestically. Eleven percent are purchased in Asian countries.

Suppliers are worried about the subject of financing. Nearly two thirds of the industrial buyers expect that the banks' more restrictive lending policies will render procurement processes more difficult (65 percent); also, that there will be an oligopoly development among their suppliers (64 percent) and that product piracy is turning more and more into a problem for the industry (62 percent). In addition, half of those polled can see increasing difficulties to ensure on-time delivery by their own suppliers.

But what will be the consequences of the changed framework conditions for the suppliers? When asked about the biggest strategic challenges for procurement in the industry over the next decade, those responsible for purchasing most frequently indicate costs and prices (25 percent) as well as the globalization and internationalization of purchasing (24 percent). Prevailing on the market is indicated as the biggest challenge by 16 percent, and 15 percent indicate new technologies to be adjusted to, such as electric propulsion systems. Additionally, other strategic challenges are indicated as being central by significantly smaller percentages of those interviewed. Overall, the market researchers from Allensbach note that nominations are more widely scattered than in comparable investigations in other sectors of the industry. According to information by the institute, purchasing executives seem to have a less clear and less uniform perception of the central strategic challenges than, for example, their counterparts in the mechanical engineering industry.

Also, those interviewed consider as the greatest strategic challenges for the purchasing department in their own company especially the rising costs and prices (23 percent) as well as the globalization of purchasing (18 percent). Then follows securing raw materials on the procurement market (16 percent), maintaining sales markets (14 percent) and the increasing price and/or cost pressure on the customers' part (11 percent).

However, it depends on the size of the company which challenge is considered to be bigger by those responsible for purchasing. Companies with over € 50 million in sales indicate significantly more frequently globalization and internationalization of purchasing as a challenge which concerns them directly, more than the smaller suppliers. The institute in Allensbach accordingly assumes "that the problem awareness in terms of this issue is still far less developed in small companies". In contrast, enterprises with annual sales of under € 50 million indicate more frequently – as future challenges – cost and price increases, increasing cost pressures, as well as the necessity of holding their own on the markets.

But what are companies doing to prepare their purchasing staff for such challenges to come? According to the study, one crucial element is the qualification of employees through advanced vocational training measures. About 60 percent of the purchasing executives consider such measures "very important"; another 37 percent "important". Only three percent consider better qualification "less important". Overall, 88 percent of the companies offer training measures for their employees.

In medium-sized and large suppliers, 80 percent of the buyers can fall back on a purchasing strategy laid down in writing as the basis for their daily work; but there are still 20 percent of the companies without any procurement strategy fixed in writing. Moreover, 22 percent of the suppliers have not defined any concrete procurement objectives. The institute from Allensbach established that any results control was missing in 43 percent of the companies with less than € 50 million in sales. Conditions are similar with regard to risk management. While 47 percent of large suppliers have a systematic risk management, the comparison figure for medium-sized companies is only 16 percent. Nearly every third medium-sized supplier with annual sales of under € 50 million is doing entirely without any measures for limiting procurement risks.

To achieve cost objectives in procurement, three quarters of the companies rely on renegotiations with suppliers about existing contracts. Two thirds of the suppliers respectively work with a specification of cost reduction targets or, respectively, with value and inventory analyses. Here, especially suppliers with more than € 50 million in sales are the ones to specify cost reduction targets to their subcontractors and also rely on value and inventory analyses. In contrast, buyers in smaller companies more frequently renegotiate existing contracts.

According to Allensbach, the majority of suppliers is working with key vendors. In dealing with their suppliers, the companies rely on standardized supplier evaluations (85 percent), 70 percent on systematic controls of the companies and 63 percent on strategic partnerships. In contrast, only 38 percent of the suppliers have so far implemented a direct link of suppliers to their own data processing system.

Almost every second purchasing department (44 percent) is provided with a "cost breakdown tool", i.e. software by means of which the costs of a supply part can be calculated on the basis of its individual parts and the prices demanded by the supplier can thus be checked.
And even 61 percent of the major companies are using this instrument.

Cooperations with other companies in the field of procurement are not very popular among automotive suppliers. Only 18 percent of the companies work together "closely" or "very closely" in purchasing by forming buyers cooperations, for example. In the area of transport and logistics, the rate of cooperating companies is lower yet.  Here, only about one of every nine companies is working "closely or very closely" together with others. Overall however, the majority of suppliers is convinced that buyer cooperations will become more relevant in the future (52 percent). Among them, 15 percent even expect a major increase in importance. This conviction prevails especially among those responsible for purchasing at major suppliers.

Gerd Kerkhoff, founder and chairman of the executive board of Kerkhoff Consulting, also expects that cooperations in the supplier industry will increase because they are "the result of logical considerations". Cost pressures in this sector would also contribute to it. According to estimates by purchasing executives, the purchasing department in the company is of "great" (52 percent) or "very great" importance (34 percent). However, about half of the purchasing departments currently consider themselves "much less" or even "hardly or not at all" involved in the product development of their company. For the future, the large majority of purchasing managers expects their departments to be rated higher within the company. Only one percent fears that purchasing will lose in importance.

The scientific commentary to the study indicates that the perception of the purchasing departments' poor integration into the product development process, together with purchasing executives attributing great importance to their department, is overrating their actual importance within the company.

To be prepared for future challenges, a clear majority of purchasing departments of medium-sized and major suppliers either have taken measures already (30 percent) or are planning concrete steps (22 percent). However, altogether 38 percent of the purchasing managers think that the precautions taken are not sufficient. But only 19 percent of the purchasing executives see a fundamental need for change in their department; another 74 percent assume that smaller changes will be sufficient. Currently, suppliers generally spend only a "small" (30 percent) or not such a big (40 percent) part of the budget of their purchasing department to adjust to new challenges. However, about half of the purchasing managers at large supplier companies expect that budget shares will increase in the future.

Overall, the differences between medium-sized and large suppliers suggest that widespread uneasiness is actually palpable among the purchasing executives of medium-sized suppliers because they feel not yet set up for future functions and duties. But a clear strategic view to the challenges beyond the operative subject of prices and cost pressures, and an understanding for the necessity of consequences are much less pronounced than among the purchasing managers of major companies. Yet, the buyers' time budget is sufficient in only very few cases to be able to properly deal with future challenges.

According to the statements by the authors of the scientific commentary, the most important recommendations are as follows for buyers at supplier companies:
•    The challenges for the supplier sector should not only be considered a problem for the "others" but also a chance for one's own company. Especially in times of great challenges, companies can realize competitive advantages through anticipatory actions.
•    To develop additional cost savings potential, cross-company measures of supply chain management should be strengthened –- such as, for example, purchasing cooperations or cross-company collaboration in transport and logistics.
•    Tying the purchasing department into development and production should be intensified in many companies. Here, the materials structure can be positively changed in the long range by using so-called cost breakdown tools.
•    For handling future challenges, purchasing executives are to be provided with sufficient time and budgets. Purchasing in the automotive supplier industry must be attributed the importance to which it is, in fact, entitled due to its leverage on sales.

Gerd Kerkhoff is convinced that the relationship between suppliers and car manufacturers has changed due to the economic crisis. "Car manufacturers have become aware that, due to excessive terms and conditions, they jeopardized the survival of suppliers which are, in fact, absolutely indispensable for their own production processes." However, the head of the consultancy is skeptical whether such rethinking will really be a lasting force in the sector of the industry. According to him, it might definitely be possible that, in the future, some buyers will become aware again of their purchasing power in terms of "worming out" advantages for their company.

But overall, Kerkhoff detected that many suppliers are more aware of their strength vis-à-vis the car manufacturers than before the crisis and that, accordingly, they will be fortified upon entering price negotiations. Freely according to the principle: As a supplier, I cannot survive without orders from car manufacturers, but without a healthy contribution margin for suppliers, the manufacturer will also end up with a problem.