Understanding ‘what’ you buy is as important as ‘what price’ you pay for it.
There is no denying that outsourcing of finished parts is here to stay. It has proved to be a highly successful and winning strategy for most Original Equipment Manufacturers (OEMs) to reduce their cost structure and increase flexibility. It has also served as a means to defray the significant non-recurring investment associated with the design, development, and manufacture of new or “non-core” parts and assemblies. However, a common but unintended trade-off of this model has been the loss of visibility and control over the “material- inputs” that go into OEM parts. Many companies have aggressively gone down this path without first considering the longer term implications and operational realities. The fact is, what you no longer purchase, you no longer see or control. Material-inputs (e.g. bar, sheet, plate, etc.) and other purchased details (fasteners, bearings, wires, etc.) can account for 30-75% of the cost of the average metallic part or assembly and in some cases even greater. Through the outsourcing process OEMs have effectively delegated responsibility for source selection and purchase for a significant finished part cost driver to their supply base.
To fully appreciate the impact of this, consider the fact that on average, more than half of the parts that go into most OEM products are purchased from external suppliers. Moreover, the planning and efficiency with which raw material inputs are produced and delivered by material sources or mills and distributors to an OEM’s external supply chain (something OEMs have historically had little or no visibility or control over), requires significant complex planning that relies heavily on multiple external entities to communicate lead times that are consistent with an OEM’s finished goods schedules. Since many or all of these sub-tier suppliers have multiple customers, they may in turn make decisions that do not always take down-stream impact on manufacturing cycle times and on-time delivery into consideration.
There is more than enough anecdotal evidence to support a business case for re-establishing visibility to the finished part bill of material, irrespective of where parts and assemblies are manufactured. We are not recommending or even suggesting that visibility to all part-material details must be captured. This is a boil-the-ocean-strategy that would prove to be an insurmountable endeavor. But instead, intelligently identifying the population of critical parts that may be subject to constrained raw material supply, extreme price volatility, or limited transformation capacities is the strategy and approach that delivers maximum value. Capturing actual data where possible in combination with intelligent algorithms allows us to help our clients build a sufficiently accurate picture of their aggregate demand that supports analysis, informed decision making, and the actions necessary to mitigate risk while delivering sustainable, recurring cost reductions.
There are many strategic benefits along with hard dollar savings that can be achieved by systematically pursuing this strategy. From our experience, OEM’s have dedicated countless resources and exhaustive efforts building should-cost models with their external part suppliers. While this is a necessary strategy and process that must have one or more chapters in the ‘How to Outsource Production Parts’ Handbook, the emphasis is all too often limited to the transformation cost components such as labor, overhead, machining rates and tooling costs, and not on materials. For metallic parts, the input materials can represent anywhere from 30 to 70 percent of the cost. It stands to reason that such an important cost driver demands greater focus and represents one of the most frequently overlooked and underestimated frontiers for efficiency and cost reduction, and source of competitive advantage.
Figure 1: Example of a Should Cost Analysis
With an understanding of the key material attributes, such as form, dimension, grade, specification; relationship to finished goods and to the sourcing market dynamics, there are significant cost savings opportunities and benefits for stakeholders throughout the value chain. Click here to learn more about how we can help transform your extended supply chain into a sustainable competitive advantage.