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Suppliers Face Potentially Grave Challenges Dealing With B2B Exchanges

BY MICHAEL ROTHSCHILD

"Caveat Emptor" — let the buyer beware — is a phrase filled with meaning, even after the creation of the Consumer Product Safety Commission, the passage of "lemon laws" and "cooling off periods." The onus has always been on the buyer to check what he is getting. In today’s world, the Internet has changed all that.

When the big companies in each industrial sector start their online exchanges the market has to come to them. All the manufacturers have to do is post a notification of the products they want to buy on the exchange so suppliers can offer them their best price. Buyers can select the lowest price and watch the saved dollars drop straight through to their bottom line. As an added bonus, they get rid of those vendors taking their purchasing managers out to lunch every day.

Everybody’s doing it. The Big Three automakers have joined to form Covisint, a major exchange, as have retailers, airlines, hotels, steel manufacturers and even the poultry industry. The automobile exchange promises to have the most widespread economic impact, buying hundreds of billions of dollars worth of parts every year, forcing more than 60,000 suppliers to drastically change the way they do business.

From the buyer’s viewpoint, price is everything. Getting instant online feedback to their RFQ reduces the cost of transactions, eliminates the middleman and reduces the barriers to entry that have historically kept small, unknown suppliers out of the game. DaimlerChrysler chairman Juergen Schrempp has been quoted as saying that online purchasing could save as much as $1,000 per vehicle.

But how exactly is all this going to help the suppliers? The operative phrase today should be "Caveat Vendor" — let the seller beware!

From the viewpoint of the supplier selling parts to DaimlerChrysler, things are more complex, and more dangerous. Online pricing removes the protective barriers of inefficiency — delays, incomplete information and the costs of finding competing suppliers. Salespeople can no longer "feel around" an opportunity, talking to purchasing and specifying engineers. No matter what they say, buyers will decide on price first, moderated by the supplier’s technical competence, past relationship with the seller, and of course product quality.

But in the final analysis, pricing will still dominate the decision process. Bids will have to be made in hours, not weeks, which means suppliers will have to know every aspect of their costs on an up-to-the-minute basis. Not easy. For example, the automakers have already discovered that tire suppliers are reluctant to participate in their planned exchange. Tire makers are not sure they can accurately price the wide array of products that they provide. Their cost accounting processes are historical records, designed for a pre-Web world, not real-time tools for daily bidding. The old feedback loop is too long — way too long.

Accurate, profitable pricing in any industry depends on feedback and on up-to-date information. Each major reduction in the cost of information shortens feedback loops and makes them more efficient. For example, when banks had tellers, the average transfer between accounts cost $1.27 and was not posted until the next day. With ATMs, the transaction cost dropped to $.27 per transaction. With online banking, transactions take place instantly and cost about a penny.

The same is true for the use of information technology in manufacturing. Time is often more important than materials. But the computer systems installed throughout manufacturing were never intended to provide tire companies with feedback on which is more profitable, a small number of high priced, specialized 17-inch tires for luxury SUVs or a large number of 14-inch tires for compacts. These systems measure tons, not precious time. To price individual products properly, suppliers need to factor in the impact on profit caused by time-driven factors such as difficult set-ups and product time-in-process. This is very complicated. Caveat Vendor.

With online marketplaces, buyers will measure success in reduced prices, better service and shorter transaction cycles. Sellers may well wind up measuring success by their continued existence. Winning will not only require an aggressive acceptance of the online environment, it will also require a complete understanding of what it actually costs to make each product.

As the electronics industry moved to a "virtual manufacturing" model, the number of suppliers dropped dramatically. Only those with a complete understanding of their costs survived. Many of the failed companies could not accurately analyze their profit at the manufacturing level and thus could not strategically, accurately and competitively price their products. And all this was before the new pressures of bidding online.

In the brave new world of online marketplaces, no matter how much the vendors protest, the game will be won or lost on price. Real-time precision bidding will be vital to success...and survival. How many of those 60,000 auto suppliers are prepared to compete in this new game? "Caveat Vendor" indeed.

--Michael Rothschild is president and CEO of Maxager Technology, a five-year-old San Rafael, Calif.-based company that produces manufacturing software that analyzes the profitability of bidding in real-time environments. He can be reached at 415-454-1000.