Where is the money made in your business?

Have you heard the saying ‘Know the price of everything and the value of nothing’? The first part has come true through access by customers and consumers to information via the Internet, aided by the growth of digital mobile data.

The second part is more subjective; companies such as Apple and BMW have built a perception of value to justify the price of their products, but the majority of companies are doing well to provide products and services that meet customer’s expectations of quality and availability.

Except in markets with few competitors, knowledge about prices means that price increases are harder to obtain. So, the profitability of your business will have less to do with sales margins.

Instead, improvement in profitability for your business is more likely to be generated from improved procurement and inbound logistics. That is, managing relationships with parties in the supply chains and the total cost of inbound materials, products and services.

Global buying to obtain the lowest price sounds attractive, but your risks increase. Robert Townsend, in his 1970 book ‘Up the Organisation’ wrote that risks increase by the cube of the travel time between your office location and a global supplier location. Faster communication technology may have reduced the figure, but even the square of the travel time is a high figure.

For success, understand your inbound supply chains

The three factors affecting how you view your inbound supply chains are;

1. the variations in order quantities and lead times for items in your core supply chains – that is from placing an order with your tier 1 suppliers until receipt into your business locations
2. the level of power your business exerts in each supply chain or conversely, the level of dependency on a chain
3. the extent that power is used by a business to own, control or influence nodes, flows and links in each supply chain

The majority of businesses are not able to exercise power; they must therefore focus efforts on understanding, measuring, costing and improving inbound order quantity and lead times and the company’s dependent situation on one or more supply chains.

Global buying of engineered products and consumer goods may require orders to be placed six to nine months in advance of the required date. Orders for components and sub-assemblies may require a lead time of three months for ‘make to stock’ (MTS) items and longer for ‘make to order’ (MTO) items.

Of itself, the lead time experienced adds to the complexity of managing your business. Overall, the level of complexity and therefore cost, of your business is governed by three factors:

1. Variability of demand and supply for items over the lead time and forward selling period
2. Uncertainty about demand and supply markets and at customers, contractors and suppliers
3. Constraints in your business – ‘the way we do things’

Reducing complexity requires the ability to capture and employ knowledge and understanding about your supply markets and your supply network’s structure of nodes, flows and links. The ability to apply creative thinking to commercial opportunities in your current and potential supply chains is also critical to profitability.

But is your purchasing or buying department employed to ‘buy things’ and is the role of your logistics department to ‘pick up, move and put down’ things? Marketing and sales have an important role, but to be a successful business, Procurement and Logistics must be managed by ‘thinking and systems’ people with equal recognition to other disciplines in the business.