Supplier Development in aGlobal Market<br />“The Principles of External Economies”<br />September 2010<br />
Supplier Development in aGlobal Market<br />External economies of scale (ES) occur outside of a firm, within an industry ....
Supplier Development in aGlobal Market<br />. . . when an industry’s scope of operations expands due to, for example, the ...
Supplier Development in aGlobal Market<br />Example: since some economies of scale may require a larger market than is pos...
Supplier Development in aGlobal Market<br />With external Economies of Scale, all firms within the industry will benefit.<...
Supplier Development in aGlobal Market<br />Facing challenges such as rising fuel costs, in which the decision to maintain...
Supplier Development in aGlobal Market<br />. . . versus developing strategic satellite clusters in which a portion of the...
Supplier Development in aGlobal Market<br />. . . can potentially increase the risk in key areas such as quality control (...
Supplier Development in aGlobal Market<br />While the principles of external economies have traditionally been associated ...
Supplier Development in aGlobal Market<br />. . . the emergence of clustering and the global value chain has in effect red...
Supplier Development in aGlobal Market<br />Ironically, the idea of looking beyond the “localized” or “regionalized” struc...
Supplier Development in aGlobal Market<br />was first presented by E.G. Robinson in 1931 and expanded upon in his book The...
Supplier Development in aGlobal Market<br />The question according to Robinson is one of immobility versus mobility.<br />
Supplier Development in aGlobal Market<br />Robinson defined an immobile external ES as one which “require the firms to be...
Supplier Development in aGlobal Market<br />The Risks:  according to experts, the absence of a dedicated private and publi...
Supplier Development in aGlobal Market<br />Case Reference:  The Associated Manufacturing Marketing Group (AMMG)<br />
Supplier Development in aGlobal Market<br />The Problem: In the case of the AMMG, its formation was predicated by the chal...
Supplier Development in aGlobal Market<br />The Solution: A joint “venture” of what the AMMG web site refers to as “five w...
Supplier Development in aGlobal Market<br />The Solution: AMMG is a private initiative which seeks to develop a collaborat...
Supplier Development in aGlobal Market<br />Conversely, “external economies of scale which are available to firms located ...
Supplier Development in aGlobal Market<br />One example of external ES which Robinson cited in the 1930s as being mobile w...
Supplier Development in aGlobal Market<br />The Key: with the emergence of the global value chain, it is critical to reali...
Supplier Development in aGlobal Market<br />The Key: The policies that define the buyer supplier relationships, including ...
Supplier Development in aGlobal Market<br />What are the relationship parameters or structures?<br />
Supplier Development in aGlobal Market<br />Humphrey and Schmitz* identified “three possible types of governance . . .<br ...
Supplier Development in aGlobal Market<br />a) network implying cooperation between firms of more or less equal power whic...
Supplier Development in aGlobal Market<br />b) quasi-hierarchy involving relationships between legally independent firms i...
Supplier Development in aGlobal Market<br />c) hierarchy when a firm is owned by an external firm.<br />
Supplier Development in aGlobal Market<br />The Questions: Does your organization operate under a immobile versus mobile E...
Supplier Development in aGlobal Market<br />The Questions: Under what governance model does your current External ES opera...
Supplier Development in aGlobal Market<br />Case Reference:  Tesco control of the production of mangetout (snow peas or sn...
Supplier Development in aGlobal Market<br />Case Specifics:  Tesco was clearly calling the shots, even though it did not o...
Supplier Development in aGlobal Market<br />The Fallout:  Tesco endured adverse publicity surrounding a TV documentary abo...
Supplier Development in aGlobal Market<br />Case Reference:  Wal-Mart and Vlasic Pickles<br />
Supplier Development in aGlobal Market<br />Case Specifics:  “Young remembers begging Wal-Mart for relief. “They said, ‘No...
Supplier Development in aGlobal Market<br />Case Specifics: “The story is that Vlasic, a premium pickle brand, agreed to s...
Supplier Development in aGlobal Market<br />Case Specifics: Finally, Wal-Mart let Vlasic up for air. “The Wal-Mart guy’s r...
Supplier Development in aGlobal Market<br />Wal-Mart – a pattern of predatory practices . . .<br />
Supplier Development in aGlobal Market<br /><ul><li>On balance, firms that derive less than 10% of their sales through Wal...
This trend is most pronounced in the apparel-and-accessories category, where average gross margin drops from 48.7% for com...
In all, only 25 of 333 companies managed to beat their sector gross-margin average while generating at least 10% of their ...
While Wal-Mart squeezes margins of suppliers of all sizes, it’s still true that smaller companies tend to feel a tighter p...
Supplier Development in aGlobal Market<br />Referencing Humphrey and Schmitz once again, “The main reason for specificatio...
Supplier Development in aGlobal Market<br />Process parameters are established and enforced when there are “potential loss...
Supplier Development in aGlobal Market<br />One possible reason for breakdowns such as with the Mattel situation is linked...
Supplier Development in aGlobal Market<br />Based on the existence of this gap, both Keesing and Lall  stressed that “para...
Supplier Development in aGlobal Market<br />While challenges may arise in those circumstances where the gap “has to be clo...
Supplier Development in aGlobal Market<br />The Questions: In your opinion, why did Mattel fail to enforce the proper para...
Supplier Development in aGlobal Market<br />The Questions: To what degree should the gap between domestic market requireme...
Supplier Development in aGlobal Market<br />The Questions: If you choose to invest in developing a few selected suppliers ...
Supplier Development in aGlobal Market<br />The Questions: Being apprised of the fallout associated with Tesco’s control o...
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eWorld Cluster Development & the Globalized Supply Base (2010)

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eWorld Masterclass Presentation
September 28th, 2010
London, UK

One of the greatest challenges faced by both the private and public sectors in terms of driving best value decision-making, is supply base erosion. Almost irreparably damaged through ill-advised initiatives such as supply base rationalisation and low cost country sourcing (to name but two), many supplier development, engagement and utilisation programs are little more than exercises in futility. This session aims to dramatically increase your chances of success, by explaining the new dynamics of the global economy and how you can drive sustainable value through your supplier relationships.

Speaker: Jon Hansen, Procurement Insights

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eWorld Cluster Development & the Globalized Supply Base (2010)

  1. 1. Supplier Development in aGlobal Market<br />“The Principles of External Economies”<br />September 2010<br />
  2. 2. Supplier Development in aGlobal Market<br />External economies of scale (ES) occur outside of a firm, within an industry . . .<br />
  3. 3. Supplier Development in aGlobal Market<br />. . . when an industry’s scope of operations expands due to, for example, the creation of a better transportation network, resulting in a subsequent decrease in costs for a company working within that industry, external economies of scale are said to have been achieved.<br />
  4. 4. Supplier Development in aGlobal Market<br />Example: since some economies of scale may require a larger market than is possible within a particular country — for example, it would not be efficient for Liechtenstein to have its own car maker, if they would only sell to their local market. A lone car maker may be profitable, however, if they export cars to global markets in addition to selling to the local market.<br />
  5. 5. Supplier Development in aGlobal Market<br />With external Economies of Scale, all firms within the industry will benefit.<br />(What Are Economies of Scale? By ReemHeakal, January 2003)<br />
  6. 6. Supplier Development in aGlobal Market<br />Facing challenges such as rising fuel costs, in which the decision to maintain the manufacturing process within the “partners” home region can result in either a diminished profit or reduced competitiveness . . .<br />
  7. 7. Supplier Development in aGlobal Market<br />. . . versus developing strategic satellite clusters in which a portion of the manufacturing process leverages local resources as a means of levelling the playing field . . .<br />
  8. 8. Supplier Development in aGlobal Market<br />. . . can potentially increase the risk in key areas such as quality control (i.e. the Mattel tainted paint nightmare)<br />
  9. 9. Supplier Development in aGlobal Market<br />While the principles of external economies have traditionally been associated with the manufacturing industry . . .<br />
  10. 10. Supplier Development in aGlobal Market<br />. . . the emergence of clustering and the global value chain has in effect redrawn the boundaries of its applicability.<br />
  11. 11. Supplier Development in aGlobal Market<br />Ironically, the idea of looking beyond the “localized” or “regionalized” structure normally associated with external Economies of Scale, is a concept that is not new . . .<br />
  12. 12. Supplier Development in aGlobal Market<br />was first presented by E.G. Robinson in 1931 and expanded upon in his book The Structure of Competitive Industry in 1958.<br />
  13. 13. Supplier Development in aGlobal Market<br />The question according to Robinson is one of immobility versus mobility.<br />
  14. 14. Supplier Development in aGlobal Market<br />Robinson defined an immobile external ES as one which “require the firms to be in close proximity to one another” for benefits to be realized.<br />
  15. 15. Supplier Development in aGlobal Market<br />The Risks: according to experts, the absence of a dedicated private and public sector policy regarding the development of localized clusters prompting speculation on whether the clusters built through the national or international lead firms success will consolidate into a self-sustainable and durable regional specialization.<br />Note: Lead firms according to Gereffi “undertake the functional integration and coordination of international dispersed activities.”<br />
  16. 16. Supplier Development in aGlobal Market<br />Case Reference: The Associated Manufacturing Marketing Group (AMMG)<br />
  17. 17. Supplier Development in aGlobal Market<br />The Problem: In the case of the AMMG, its formation was predicated by the challenged New Brunswick economy which created a vacuum in terms of supplying traditional “central” enterprise clients.  In short, you have a group of companies that have core competencies which ranks amongst the best in the world, but lacked the necessary regionalized client base that is essential to ensuring the collective long-term viability of the sector.<br />
  18. 18. Supplier Development in aGlobal Market<br />The Solution: A joint “venture” of what the AMMG web site refers to as “five well-established manufacturing firms,” this innovative, privately funded consortium’s main objective is to develop new business on a cooperative basis both domestically as well as internationally.<br />
  19. 19. Supplier Development in aGlobal Market<br />The Solution: AMMG is a private initiative which seeks to develop a collaborative, full-service supply chain network as a means to effectively identify and service viable export markets.<br />
  20. 20. Supplier Development in aGlobal Market<br />Conversely, “external economies of scale which are available to firms located well beyond the territory in which they are provided” Robinson defined as being mobile.<br />
  21. 21. Supplier Development in aGlobal Market<br />One example of external ES which Robinson cited in the 1930s as being mobile was the Liverpool cotton exchange of the early 1900s, which could be utilized by firms both locally as well as globally to the apparent benefits of all stakeholders.<br />
  22. 22. Supplier Development in aGlobal Market<br />The Key: with the emergence of the global value chain, it is critical to realize that the “value chain perspective” extends beyond the realm of manufacturing to include “other activities in the supply of goods and services, including distribution and marketing.<br />
  23. 23. Supplier Development in aGlobal Market<br />The Key: The policies that define the buyer supplier relationships, including the role of local government is a key to success.<br />
  24. 24. Supplier Development in aGlobal Market<br />What are the relationship parameters or structures?<br />
  25. 25. Supplier Development in aGlobal Market<br />Humphrey and Schmitz* identified “three possible types of governance . . .<br />* Governance in global value chains by John Humphrey and Hubert Schmitz<br />
  26. 26. Supplier Development in aGlobal Market<br />a) network implying cooperation between firms of more or less equal power which share their competencies within the chain;<br />
  27. 27. Supplier Development in aGlobal Market<br />b) quasi-hierarchy involving relationships between legally independent firms in which one is subordinate to the other, with a leader in the chain defining the rules to which the rest of the actors have to comply and . . .<br />
  28. 28. Supplier Development in aGlobal Market<br />c) hierarchy when a firm is owned by an external firm.<br />
  29. 29. Supplier Development in aGlobal Market<br />The Questions: Does your organization operate under a immobile versus mobile External ES structure?<br />
  30. 30. Supplier Development in aGlobal Market<br />The Questions: Under what governance model does your current External ES operate? <br />
  31. 31. Supplier Development in aGlobal Market<br />Case Reference: Tesco control of the production of mangetout (snow peas or snap peas) in Zimbabwe<br />
  32. 32. Supplier Development in aGlobal Market<br />Case Specifics: Tesco was clearly calling the shots, even though it did not own the farms or the packing facilities.<br />In reality, Tesco only takes ownership of the product when it arrives at the chain’s regional distribution centres in the UK.<br />But this does not prevent Tesco from influencing what happens at earlier points in the chain.<br />
  33. 33. Supplier Development in aGlobal Market<br />The Fallout: Tesco endured adverse publicity surrounding a TV documentary about the conditions for workers growing mangetout in Africa, exported to the supermarket chain.<br />The retailer was also criticized regarding concerns surrounding the perceived threat it poses to small businesses due to the monopoly it imposes over products.<br />
  34. 34. Supplier Development in aGlobal Market<br />Case Reference: Wal-Mart and Vlasic Pickles<br />
  35. 35. Supplier Development in aGlobal Market<br />Case Specifics: “Young remembers begging Wal-Mart for relief. “They said, ‘No way,’ ” says Young. “We said we’ll increase the price”–even $3.49 would have helped tremendously–”and they said, ‘If you do that, all the other products of yours we buy, we’ll stop buying.’ It was a clear threat.” Hunn recalls things a little differently, if just as ominously: “They said, ‘We want the $2.97 gallon of pickles. If you don’t do it, we’ll see if someone else might.’ I knew our competitors were saying to Wal-Mart, ‘We’ll do the $2.97 gallons if you give us your other business.’ ” Wal-Mart’s business was so indispensable to Vlasic, and the gallon so central to the Wal-Mart relationship, that decisions about the future of the gallon were made at the CEO level.” o from influencing what happens at earlier points in the chain.<br />
  36. 36. Supplier Development in aGlobal Market<br />Case Specifics: “The story is that Vlasic, a premium pickle brand, agreed to sell a gallon jar of pickles in Wal-Mart for an absurdly cheap price. What happened is fairly predictable. Why would consumers buy a small jar for $3.00 when they could get a gallon for the same price? Yet the margin on the gallon jar was incredibly thin, so despite the increased volumes, the pickle maker took in less and less, especially when you factor in Wal-Mart’s insistence (stated up front) that suppliers lower their prices each year.”<br />
  37. 37. Supplier Development in aGlobal Market<br />Case Specifics: Finally, Wal-Mart let Vlasic up for air. “The Wal-Mart guy’s response was classic,” Young recalls. “He said, ‘Well, we’ve done to pickles what we did to orange juice. We’ve killed it. We can back off.’ “Vlasic got to take it down to just over half a gallon of pickles, for $2.79. Not long after that, in January 2001, Vlasic filed for bankruptcy.”<br />
  38. 38. Supplier Development in aGlobal Market<br />Wal-Mart – a pattern of predatory practices . . .<br />
  39. 39. Supplier Development in aGlobal Market<br /><ul><li>On balance, firms that derive less than 10% of their sales through Wal-Mart averaged 39.1% in gross margin, the percentage of profit realized before items such as fixed costs and interest expense are considered. For those falling between 10% and 20%, gross margin was 36.2%. Above 20%, and margin dipped a little bit more, to 35.4%.
  40. 40. This trend is most pronounced in the apparel-and-accessories category, where average gross margin drops from 48.7% for companies generating less than 10% of sales through Wal-Mart to 28.7% for those selling 20% or more. Food and beverage also shows a big disparity, where the same breakdown shows average gross margins dropping from 39% to 22%.
  41. 41. In all, only 25 of 333 companies managed to beat their sector gross-margin average while generating at least 10% of their revenue through Wal-Mart. Only 7 that sold more than 20% there did it</li></li></ul><li>Supplier Development in aGlobal Market<br /><ul><li>The numbers show that company size has little to do with Wal-Mart dependency at least once you get past the top handful. The 10 companies that sell through Wal-Mart in the highest percentages, a list that includes apparel maker Jaclyn and personal-care company CCA Industries average a relatively paltry $107 million in market cap (CCA is the only top 10 member whose gross margins beat its sector average). Past the top 10 companies that generate at least 10% of their sales through Wal-Mart carry an average market cap of $5.9 billion, more than the $4.9 billion average of those firms that sell less than 10% there.
  42. 42. While Wal-Mart squeezes margins of suppliers of all sizes, it’s still true that smaller companies tend to feel a tighter pinch. For example, beverage company Cott, even with a market cap in excess of $1.2 billion doesn’t have the brand strength of Coca-Cola or PepsiCo, whose products are in more demand at supermarkets, convenience stores and other outlets. So Cott, whose primary business is producing and distributing company-brand carbonated soft drinks, turns to Wal-Mart for 38% of its sales, compared with less than 10% for the two beverage titans. The result? Cott’s gross margin of 12.4% last year was about a third of the industry average, while Coke and Pepsi both registered more than 50%.</li></li></ul><li>Supplier Development in aGlobal Market<br />Why are the relationship parameters or structures also referred to as “chain governance” important?<br />
  43. 43. Supplier Development in aGlobal Market<br />Referencing Humphrey and Schmitz once again, “The main reason for specification process parameters along the chain is risk.”<br />
  44. 44. Supplier Development in aGlobal Market<br />Process parameters are established and enforced when there are “potential losses arising from a failure to meet commitments re delivering the right product on time or, a failure to ensure that the product conforms to the necessary standards (re think Mattel paint scandal).<br />
  45. 45. Supplier Development in aGlobal Market<br />One possible reason for breakdowns such as with the Mattel situation is linked to what Keesing and Lall referred to as the “gap between the capabilities required for the domestic market and those required for the export market.”<br />
  46. 46. Supplier Development in aGlobal Market<br />Based on the existence of this gap, both Keesing and Lall stressed that “parameter setting and enforcement may be required to ensure that products and processes meet the required standards.”<br />
  47. 47. Supplier Development in aGlobal Market<br />While challenges may arise in those circumstances where the gap “has to be closed quickly,” the suggested course of action would be to “invest in a few selected suppliers and help them to upgrade.”<br />
  48. 48. Supplier Development in aGlobal Market<br />The Questions: In your opinion, why did Mattel fail to enforce the proper parameters in relation to the paint incident?<br />
  49. 49. Supplier Development in aGlobal Market<br />The Questions: To what degree should the gap between domestic market requirements and export market requirements influence your organization’s decision to use suppliers from within a specific foreign cluster?<br />
  50. 50. Supplier Development in aGlobal Market<br />The Questions: If you choose to invest in developing a few selected suppliers in an effort to quickly close the capability gap, at what risk are you of running into the problems referenced earlier pertaining to diminished profit or reduced competitiveness?<br />
  51. 51. Supplier Development in aGlobal Market<br />The Questions: Being apprised of the fallout associated with Tesco’s control of the production of mangetout, at what point does the nature of your “influence” over suppliers cross the line?<br />
  52. 52. Supplier Development in aGlobal Market<br />The Questions: Based on these as well as other elements of establishing a globalized supply chain, and if possible, does it make more sense to deal with domestic or close proximity foreign suppliers (re like Canada and the United States)?<br />

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