The Economist magazine’s recent Special Report: Global Supply Chains highlights a multitude of changes impacting multinational companies and their supply chains.* As companies search for incremental profitability the roles of engineering and procurement departments will have to coordinate how they work with suppliers and advisers in order to deliver results.

For example, opportunities to dramatically reduce costs exist when engineers find valid solutions that reduce the number of parts and/or processes required to fasten components. However, if procurement is myopically focused on per-part costs they may fail to consider that one option will eliminate several parts and processes and significant associated costs, while another less expensive but seemingly similar part will not allow this advantage. This myopia can lead to missed opportunities for enhanced profitability and the creation of incremental shareholder value.

This doesn’t happen in the real world. Or does it?

Imagine a hypothetical scenario where a procurement professional has a portfolio of 4 products:

  • Bolt - $.04 per part
  • Threaded Nut - $.02 per part
  • Lock Washer - $.01 per part
  • Adhesive - $.01 per part
  • Total Cost of Parts = $.08

And now imagine he or she gets paid a bonus based on lowering per-part costs 5% for all remaining parts. Their target is:

  • Bolt - $.038 per part
  • Threaded Nut - $.019 per part
  • Lock Washer - $.0095 per part
  • Adhesive - $.0095 per part
  • Total Cost of Parts = $.076 (5% cost reduction)

However, might they be excited about a solution that involves a better technology where a genuine TAPTITE® thread forming fastener eliminates the need for a threaded nut, lock washer and adhesive? What if the new costs were -?

  • Bolt - $.045 per part (12.5% more than old bolt)
  • Unthreaded Nut - $.015 per part
  • Lock Washer (Eliminated)
  • Adhesive (Eliminated)
  • Total Cost of Parts = $.06 (25% cost reduction, but 0 reported savings on remaining parts)

Will the procurement professional get paid a bonus? It would appear not.

But wait, there’s more… this doesn’t capture the real savings available from simpler processes, reduced inventory, SKU and ERP simplification, real estate footprint reduction and so many other savings areas. These additional savings provided by the family of genuine TAPTITE® thread forming screws dwarf the hard costs of eliminating parts in the assembly. The net result is significantly more savings from framing the problem differently with the benefit of a better available total solution, not a lower-priced part.

This example also highlights the advantage of engineering and procurement working closely together in both new product design and value engineering. A keen understanding of the customer and market needs as well as a cost and pricing strategy for new and existing products can help these groups explore the full range of options available for achieving a desired result. When the only tool available in the toolbox is hammering the lowest possible price out of your suppliers, options for major gains will be limited. The impact engineering can have on the final product costs can be enormous if components and processes are considered in its entirety. Silo thinking centered on per-part costs will be counterproductive by comparison.

In summary, a simple bolted joint is an example of how thinking strategically about the interface between value engineering and procurement can help create shareholder value.

One strategy some smart global manufacturing companies employ is incorporating globally licensed products with enough non-exclusive licensees to meet their manufacturing needs.

Licensing programs can fall between the ends of the competitive spectrum defined by perfect competition in commodity markets at one end and complete monopolies with no substitutes at the other. An exclusive license to make, market and sell a given product may result in near monopoly profits for a sole licensee for a product for which there is high demand and no reasonable substitutes. Conversely, a non-exclusive license issued to every conceivable licensee with no licensing fees or ongoing royalties might result in a commoditized market structure.

A good example in this case are manufacturing companies that mainly focus on national or global standards like DIN 7500/ ISO 7085/ SAE J1237 and refuse to use licensed products. This might work for certain products whose ability to drive cost out of an assembly are insignificant, but not for those products like thread forming fasteners that can eliminate many parts and processes. Such standards may include the performance and standards of licensed products but also must consider the weakest product of potential non-licensed product suppliers. This creates a wide field of tolerances between the low and high performing products that can result in a variation of the assembly process, quality of the final product and possibly post-sale warranty or recall costs.

Procurement focused on non-exclusive licensed products with strong technical support from the licensor and licensees can be the best option. Why?

When customers engage with licensors and licensees of non-exclusively licensed products, they can get assistance from the licensor who wants to support end users, regardless of which licensee gets the order. Licensees will compete to earn the customer’s business by providing non-price value as well as competitive pricing. Licensed products also have manufacturing and quality standards and licensors provide quality auditing of licensees. This provides an outside resource to consult / assist if quality or process issues arise that are potentially related to the licensed part. Licensors and licensees often provide end-users with non-price value in the form of application engineering, technical assistance, training, quality assurance, inventory management solutions and other services and solutions not easily accounted for in the product price.

Astute customers will forge long-term relationships with licensees of products that are non-exclusively licensed and that improve quality and lower cost. These companies would presumably not have invested in the license and pay the ongoing royalty costs for products that do not uniquely add value. These licensees often understand the customer’s business quite well and can provide value-added ideas directly and indirectly related to the products they sell. Since licensees of proven products tend to be more established companies, they often operate globally, have capabilities to produce standard products at many locations and present less risk as a supplier.

Think back to the example above where the TAPTITE® thread forming fasteners eliminated the need for threaded nuts, lock washers and adhesives. Paying for these ideas through loyal supplier arrangements is a good idea when the suppliers’ non-price value exceeds the price difference. The only problem is that with procurement operating independently and with bonuses based on negotiating per-part cost reductions, these end users run the risk of becoming the least attractive clients for the best suppliers. Procurement policies that reflect the value of application engineering that saves $10 in direct and indirect costs per assembly by eliminating 3 parts and 4 processes, by paying an extra $.005 for a licensed, branded fastener adds a lot more to operating profits and returns on capital than saving $.002 by continuing the use of the previous style of fastener. The term penny-wise, pound-foolish applies here and must be avoided in product design, supply chains and procurement.

As pointed out in The Economist’s Special Report: Global Supply Chains, supply chains are in transition due in part to global trade tensions. Astute senior executives will begin to see the wisdom in making procurement a more strategic function and one that works directly with design, engineering, manufacturing and trusted outside suppliers to achieve significant cost savings. Suppliers of non-exclusively licensed products have a strong incentive to help create this value through both non-price and price-driven competition. Senior executives would be wise to encourage the use of these resources in parallel with internal engineering and procurement professionals.

*Special Report: Global Supply Chains (2019, July 11). The Economist