The American Chamber of Commerce in China released it’s annual white paper on the state of American business in China and it seems to back up a lot of what we’ve all been hearing lately; the cost of doing business in China is increasing. With 2/3 of US businesses claiming rising labor costs and other inputs are chipping away at China’s competitiveness, it’s no wonder so many companies are reevaluating their low cost country sourcing (LCCS) strategies. For example at the recent Spend Management Town Hall, Whirlpool’s SVP of Global Strategic Sourcing, Mark Brown, said “it’s a jump ball between Mexico [and China] to service the US market” (mp3 available here).

Lower labor costs, followed by access to alternative suppliers and localization strategies for local overseas manufacturing, are the main sources of motivation behind LCCS strategies. However currency fluctuations, extended supply chains, supplier capacity and product quality concerns are critical risk factors that must be managed in any LCCS strategy.

Best in class companies are approaching up to 40% of their direct material spend being sourced in LCCs with an average cost savings near 20%. So there’s certainly still savings to be had, but not without clearly defined goals and strategies. In my experience, these 10 components are critical to ensure your LCCS strategy keeps both your costs and risk low:

• Have a LCCS strategy - Seems obvious…but you’d be surprised. Invest in an analysis of your spend to determine the best country fit by category, realistic cost savings targets and organization requirements to manage your program.
• Total Cost of Ownership - Thoroughly test your savings assumptions based on a TCO framework that includes currency changes, all logistics costs including emergency freight requirements, extended working capital requirements, etc.
• Supplier qualification - Thoroughly prequalify new LCC suppliers, including site visits, and ask yourself what type of supplier you are willing to work with.
• Invest in supplier implementation resources - On the ground, technical sourcing teams will work with suppliers to make sure your identified sourcing savings really stick to your bottom line.
• Low cost may be close to home - Not all categories should be sourced overseas - think near shore (Mexico, CEE)
• Supplier development programs - Work with your suppliers overseas to explore mutually beneficial ways tot take waste out of their production process. These suppliers are typically very receptive to your expertise.
• In country audit and testing - Don’t discover quality surprises at your loading dock. Test your shipments in the LCC country of origin.
• Leverage 3rd parties overseas - Don’t try this all yourself. 3rd party specialists exist to assist you with LCC strategies as well as supplier research, qualification, implementation and development.
• IP - Protect your intellectual property by sourcing sensitive components and assemblies from different suppliers. Don’t rely on the rule of law to protect against potential IP theft.
• Be realistic - LCCS is a journey and it takes time to do it right. There are few quick wins that truly stick to the bottom line, however a diligent approach will permanently restructure your cost base.

David Morgenstern is a Managing Director in Ariba’s Spend Management Services group with extensive experience in establishing strategic sourcing and low cost country sourcing programs. Since joining the company in 1999, David has developed Ariba’s global sourcing practices in Europe, Asia and Canada, and has served the private equity, manufacturing, automotive, consumer and public sectors. David has spent over 11 years working overseas, primarily in Asia, and holds a MBA from INSEAD. David currently leads Ariba’s global private equity and diversified manufacturing practices.

Another day, another story about soft retail numbers. When you subtract inflation and prices at the gas pump from the March data, you end up with flat or downward sloping lines for most categories. But for companies who can utilize Less Than Truckload (LTL) transport, there’s a potential upside to these dour retail numbers. Why?

In a recent post, we looked at the effect the housing decline has had on flatbed trucking. The drop has left a great deal of capacity and a buyers’ market for savvy procurement organizations. In an effort to utilize their fleets (and stay afloat), carriers have been far more willing to work with buyers on price and terms than we’ve seen in several years.

Think of the retail/LTL relationship the same way. Fewer flatscreens moving off store shelves means there’s more room on the trucks that typically carry those plasmas. Some analysts are hoping for a bump in consumer spending as tax refunds and stimulus checks make it into people’s mailboxes. But realistically, I doubt there are many economists who truly believe that a) consumers will spend all of their money on retail rather than rent, and b) that it will be the magic bullet that pulls us out of a recession. It seems more likely these anemic conditions will continue for quite some time, leaving a significant amount of empty space to fill on LTL trucks.

So if you’re an organization that can take advantage of this excess LTL capacity (retail, consumer goods, food services and industrial products for example), now is probably a good time to look at your contracts and consider your sourcing options. And I know it’s easy to focus on short term price. But the bigger opportunity is to look at your contracts more holistically, because there are savings opportunities in several areas, including:

• Rates - An obvious focus, but often limited to short term savings.
• Fuel surcharges - A necessary “evil” brought on by triple figure oil prices. But you might be surprised how many carriers are using surcharge tables that are well above true market rates. Standardizing tables across carriers can lead to major savings for years to come.
• Accessorial charges - The move towards a-la-carte fees for anything above and beyond simple dock pick-up and delivery has become a major driver in the true cost of LTL transport. Including these charges in your assessment of current costs and negotiations of future contracts is a financially prudent move.

Of course it’s important to recognize that LTL carriers are usually more regionally focused than other trucking companies. So potential savings vary by region. For example, the Northeastern corridor has more competitive rates than the Southwest.

FYI: I’ll be diving further into the LTL opportunity in the Transport Category Snapshot of the next issue of SupplyWatch.

Rachel Rutkoski is a Category Manager for Transportation and Logistics in Ariba’s Global Services Organization. Rachel is recognized by the Institute for Supply Management as a Certified Purchasing Manager (C.P.M.) and has several years experience as a supply chain and transportation analyst in Fortune 500 companies.

Earlier this week, we shared a glimpse into the Spend Management Town Hall forum that took place at Michigan State University earlier this month. In this first installment of the Town Hall recap, CPOs from Kellogg’s and Whirlpool shared how the tightening global economy has caused them to retool many of their traditional supply chain strategies. One area both companies have refocused on is devising methods and policies to better understand and manage their company’s business services spending — from temporary labor to commercial printing to consulting and legal services.

Alistair Hirst, Vice President of Global Procurement at the Kellogg Company, began the dicussion on this subject by chiding the audience of procurement and supply chain executives, including himself: “When it comes to [services spend], shame on us that we’ve not really given it the same attention as other areas of spending. It is a huge amount of money when you look at it on a global basis. With inflationary pressures the way they are today, one can’t afford to ignore services spending anymore.”

Mark Brown, Senior Vice President of Global Strategic Sourcing at Whirlpool emphatically agreed: “It’s hard to find anyone that’s not assessing services spend right now.”

The panelists cited three critical components of a successful services spend management strategy:

1. Know what your spending: “It starts with good [spend] data management,” said Brown. “If you don’t have your arms around the data, it is really tough to manage services spend.”
2. Define and ensure the right policies: According to Brown, too many companies can’t answer a simple question: “What is your [services procurement] policy and how is it governed? Good governance and policy definition in this space is as important as anything else you can do.”
3. Forge tight links with the CPOs and the businesses: Hirst attributes the success of Kellogg’s services spend management program to aligning the procurement strategy with the financial and operational goals of the Finance department and the businesses. “We knew we needed the visibility to ensure that the CFO and the businesses could see real savings hitting the P&L,” said Hirst. “Otherwise we knew we would have failed.” MSU Professor Joe Sandor, the remaining Spend Management Town Hall panelist, agreed: “Everybody [in the company] has to have the accountability to have a world-class services supply chain strategy.” He noted that procurement should function as the trusted advisor to help the businesses with getting the most from their services spending.

In a coming post, we’ll examine how Kellogg’s and Whirlpool are managing supply risk in today’s volatile markets. In the meantime, listen to the podcast of the Spend Management Town Hall here. Or download the Spend Management for Business Services platform for additional best practices you can use today.

Last week, we looked at the driving forces behind rising steel prices in the US: surging raw materials, a weak dollar and global consolidation. Those are the Big 3, but there are other long term forces at work here, including greater vertical integration and steel executives with finance (rather than operations) backgrounds.

Global mills are doing a much better job at controlling the global steel price by becoming more vertically integrated. Large integrated mills (which make steel from coke, iron ore, etc in large blast furnaces) are extensively acquiring global mines to better sure up their supply chain of steel-making raw materials. And mini-mills (those smaller, more nimble mills predominantly making steel by melting down scrap steel in electric arc furnaces) are now acquiring scrap dealers in an attempt to better control their raw materials supply and pricing volatility.

This shift towards integration is no coincidence. It’s brought about largely by a new crop of executive leadership in the industry that came from finance/accounting backgrounds rather than operations (case in point - US Steel CEO John Suma). The number crunchers have worked hard to get a handle on steel’s historically rocky supply/demand. Their intentional limiting of supply has had a stabilizing effect, but it’s also contributed to relative scarcity and price hikes.

The reality is, steel suppliers are getting smarter. Market trends coupled with their consolidation, management of supply, and overall approach towards the bottom line have them in the driver’s seat right now on price. That’s not to say there aren’t opportunities to better manage your spend on steel. But, you’ll certainly have to do your homework.

Mike Petro is the Senior Category Manager for Metals in Ariba’s Global Sourcing Organization. Previously, Mike analyzed supply chain options and competitive pricing for US Steel.

Oh what a year it’s been for supply managers. Oil prices are up 79%. The value of the US dollar has dropped 8% against the Euro. And the price of milk (and other key food stocks) frothed up 20-60%.

It’s enough to make a guy want to swap from cream to soymilk in his morning coffee. (That is, if soy prices weren’t off the charts themselves.) It’s also enough to make the global economic situation issue #1 at the inaugural Spend Management Town Hall Forum earlier this month.

The panel of experts assembled for the Michigan State University hosted forum could not have been more representative of the global economic engine. MSU Professor Joe Sandor was joined by CPOs from Kellogg’s and Whirlpool, both of whom are consumer price index (CPI) bellwethers.

Unfortunately, the weather they were reporting was dismal. The panelists freely used the ‘R-word’ when describing the current market dynamics and suggested that the downturn started earlier and may last longer than what is being reported in the ISM index.

“This is a unique recession,” said Professor Sandor. “We feel the downturn, but simultaneously, we see rapidly rising commodity prices.”

Audience members looking for evidence of this conundrum did not have to look much further than Whirlpool. With appliance purchases closely linked to the ailing housing and credit markets, Whirlpool is feeling the pinch of waning consumer demand in the US and rising costs, particularly for commodities like steel and plastic.

“I wouldn’t call it stagflation yet, but we have two big pressures going on in our business,” said Mark Brown, Senior Vice President of Global Strategic Sourcing at Whirlpool. “We’ve seen kind of a perfect storm with the credit markets, tax calls, gas and raw material prices. The cost structure of our machines has radically been impacted by it.”

Alistair Hirst, Vice President of Global Procurement at the Kellogg Company, agreed, noting that inflationary pressures have caused the cereal giant to rethink both its supply chain and business strategies. “[The current economy] puts a lot of pressure on the inputs side, but it has also impacted the pricing side of our business model. Consumers have less disposable income” and that is changing their buying choices.

This lack of pricing power is particularly concerning because, historically, food companies have had more flexibility to pass along price increases to consumers. If consumers won’t swallow food price increases, they won’t accept price increases from other industry segments. That will put added pressure on business to further reduce costs. Yet, the panelists argued that rising fuel and commodity prices leave little room to negotiate savings.

“Nothing beats the market regularly.” said Professor Sandor. “So, the management of costs and the degree of sophistication with which you attack it is ever more important.”

One strategy Kellogg’s is using is hedging on the grain markets. “We’ll hedge out various risks of time depending upon the risk profile.” (This echoes comments from the head of supply chain at a major food service company I met with last month who said they locked into the price of wheat for a full year: “It’s the first time we ever locked into such a long-term contract.”)

Whirlpool is also taking this approach, but in a more limited fashion. “There are no missing links in the supply chain that can’t have predictability driven into it,” said Brown. Although he quickly followed up with a joke, asking if there were anyone in the crowd with any great ideas on hedging steel.

Hedging is just one of the strategies the panel recommended as an antidote to the down economy. Professor Sandor suggested that companies begin to attack new spend on categories that are not directly linked to commodities like oil, gas, metals, or plastic. “Spend management in the indirect space is becoming more critical and a differentiator.”

Later this week, we’ll examine how Kellogg’s and Whirlpool are controlling indirect spending, including business services purchases. In the meantime, listen to the podcast of the Spend Management Town Hall here. Or download the Spend Management for the Economy platform for additional best practices you can use today.

If it’s not the inflation numbers scaring you, it’s the hiring numbers. Or is it the weak dollar? Retail numbers? Fuel costs? Pick your individual poison or mix them all together in a perfect economic storm…one way or another your business is likely either looking to grow revenues or cut costs. But obviously in a weak economy - when increasing revenues is difficult or impossible - increasing efficiency and cutting spend is the logical way to go.

Although there are always internal factors (budgets, goals, executive buy in, etc.) that guide how and how deep your spend management efforts go, we’ve found the most successful programs typically follow these steps:

1. Opportunity Assessment - Without first identifying how much you’re spending and on what, you could be making ineffective or even dangerous decisions. Analyzing spend within each category and identifying areas that offer the best opportunities to realize savings is the right way to start. Opportunities for savings can be triggered by a host of factors including contract expiration, changes in business or legislations, client needs, market forces and supplier relationships. So you want to be certain you are aiming your resources in the direction of the greatest potential savings or improvement.
2. Strategy Selection - You’ve identified where you think the potential opportunities lie, now you need to recheck the numbers with an eye on that category’s complexity to make sure you’re on the right path.
3. Sourcing Negotiation - Identifying, engaging and aligning internal stakeholders before, during and after sourcing events is key to negotiating with your suppliers. In fact, a more collaborative negotiation process is moving out of the realm of idealism and into real world best practices.
4. Implement, Contract & Execute - “Savings” aren’t worth anything if your process lets them slip through the cracks. Your hard work will never make it to the bottom line if your buyers can’t find and use the negotiated prices. So make sure you can search, manage and leverage your contracts.
5. Monitor - Step 1 was all about measuring what you’d done in the past. Now close the loop and make sure your process feeds your quantitative and qualitative data back into the system. Having that visibility into your spend will help you weather this storm…and leave you in great shape to grow when the economy rebounds.

Jon Stevens is the Vice President and General Manager of Ariba Consulting. Before joining Ariba, Jon was a Director in the Consumer Markets and Supply Chain Practices at Arthur Andersen.

A lot of ink has been spilled in attempts to diagnose the recent run up in steel prices. Purchasing.com recently put the blame squarely on the raw materials cost push and strong global demand. Certainly raw material factors are still the primary contributor to the sharp rise in steel prices (iron ore costs up 65% year over year, coking coal costs tripling, scrap prices jumping, high energy costs, transportation vessel shortages, freight fuel charges, etc.), but I have to take issue with the idea that global demand is playing such a pivotal role. Instead, I would argue that the other primary factors influencing the run in US prices are:

1. The weak dollar’s effect on steel imports
2. Global consolidation in the industry

The weak dollar and resulting drop in imported steel outweigh the impacts of global demand. In fact while demand in many US industries is high, the contraction in automotive, housing and appliance sectors is keeping the overall US demand in check. Unlike the period of 2004-2005, when steel-making costs jumped AND demand spiked, this market is marked by high steel-making costs and moderate global demand. The big difference now is that domestic steel mills have been able to charge what they want due to a lack of cheaper-priced imports. In other words, the weak dollar has put the brakes on steel imports.

Global consolidation in the industry is also playing a significant part. In the past, mills stayed within their home regions whenever acquisitions were made (Asian mills buying Asian mills, US mills buying US mills, etc.). Today, global mills are very often acquiring mills in different parts of the world.

Case in point is Mittal Arcelor’s recent success in acquiring shares in Chinese mills, which is a first for non-Chinese organizations. As other low-cost-country regions start to expand their steel production (particularly in Russia, Eastern Europe and Latin American countries like Brazil), I expect the global consolidation pace to increase. Remember, all these increases in steel prices are just building up the cash reserves for global mills to go out and acquire new capacity.

So short of a drop in raw material costs, a stronger dollar or further drop in demand (which I’m not sure many of us would wish on the US economy right now), steel buyers are at the mercy of the market forces and a consolidated supply chain for the foreseeable future. There are other strategic and process changes in the mills themselves, particularly around vertical integration, that are playing a role. But, I plan to dive into that further in a future post as well as the upcoming issue of Supply Watch.

Mike Petro is the Senior Category Manager for Metals at Ariba. Prior to that, Mike analyzed supply chain options and competitive pricing for US Steel.

I spent most of last week at the annual IACCM Americas conference in Scottsdale. The “Collaborate to Innovate” theme was a great way to frame the discussions, which included globalization, risk management, organizational delivery models, and the impacts of automation and technology on contracting and contract negotiation methodologies. Lots of networking, best practices, success stories and of course…cautionary tales. But the speaker who really grabbed my attention and sparked a lot of discussions was Danny Ertel, the co-author of The Point of the Deal: How to negotiate when YES is not enough.

Danny raised some interesting points based on the premise that the very approach most of us bring to contract negotiations hinders innovation - a goal of most organizations. He argued that measuring negotiators by “what did you get?” and “how little did you have to give up?” results in contractual terms and conditions that are not conducive to problem solving and innovation.

Instead, if successful implementation is truly the goal, he recommended six guiding principles to think about in negotiations:

1. The Deal is a Means to an End - If innovation is a goal, we need to reconsider restrictive terms and SLAs. Alternatively, we should be focused on objectives, sharing of information, and how we can get there with our trading partners. While it is a reality for many on the sell-side, closing the deal as quickly as possible is not an option that will maximize success.
2. Broader Consultation Means Better Implementation - Too often, naysayers who are critical to implementation success are excluded from negotiation. Obviously there are limits, but when deciding who to include (and exclude) in negotiations, consider both those that are critical in negotiation decision making as well as those critical to implementation.
3. Making a First Impression - Negotiation is the first, best example of how you will deal with your trading partner. It creates a precedent for how implementation and the ongoing relationship will take place.
4. Airing Nightmares Can Strengthen Relationships - We often attempt to hide past failures in fear that we’ll scare off business. Instead, think systematically about the risks that matter and discuss as openly as possible that which will improve the chances of success this time around.
5. Don’t Negotiate Over-Aggressively - There is no point in getting your trading partners to over commit. It won’t make them, or you, successful. The goal should be a true win-win that benefits both sides.
6. Define the Finish Line - Too often, organizations look at closing a deal as the end. Emerging best practices make transition to the implementation team part of the negotiator’s role. Some organizations are now having joint debriefing meetings with negotiators and implementation teams to this end. This better facilitates collaboration and success, and gives negotiators and implementers a better understanding of the other’s challenges, which will help everyone be successful.

Good food for contracting thought.

Ken Miklos is a Senior Product Marketing Manager for Ariba’s Visibility and Contract solutions.

If you paid $300 million to a company run by a 22 year old CEO and his certified massage therapist VP, would you double check to make sure you got what you paid for? Heck if I ordered a pizza from a couple of characters like that I would look inside the box before ever leaving the counter to make sure they got the toppings right! But in the fox guarding the hen house world of outsourced Department of Defense procurement, skeptics like us need not apply.

News of the US military buying $300 million worth of bad ammunition from a sketchy company is only the latest in a long history of questionable DoD purchasing oversight. As a former employee of the DoD’s Defense Contract Management Command (now DCMA) - who was tasked with making sure the output of what we were spending was actually being fulfilled - I have to say that this case is outrageous by any standards.

There would have to be a complete lack of performance management, QA and other processes to ensure that taxpayers were getting what they paid for. On an individual basis, bullets are a low budget item, which may have contributed to an atmosphere of not needing to monitor compliance with the contract. But when those bullets add up to $300 million, you have to wonder why nobody’s checking up on what they’re getting. And more directly to the point, where was the due diligence in vetting this supplier? Sourcing professionals today know that you have to award by more than price to get the best VALUE. What price have we put on the lives of the people are endangered by being given 50 year old ammunition?

Obviously in the era of Halliburton, no-bid contracts and government incompetence, much will be made of the fact that this happened in a department where 42% of staff are contractors rather than a vetted civilian career workforce. Without the full details it’s hard to tell if this is a case of contractors run amok, or a lack of effective management by the group who hired them. After all, these contractors, like the ammunition company, should be subject to a level of oversight to ensure taxpayer money is being used appropriately. It’s not that contractors have some inherent inability to do the work of the Army’s Contracting Center for Excellence (undoubtedly named without a hint of irony). But in this case, which is certainly bound for Congressional testimony under the Capital Hill kleig lights, someone will be proven corrupt, incompetent or lacking in even the most basic procedural safeguards.

Technology and best practices in this day and age leave no excuse for this type of abuse. Obviously $300 million worth of bad bullets is an extreme case. But the fact that procurement/sourcing abuse occurs among government, contractor or private employees who operate with too little oversight, process or technology should not surprise anyone.

Andy Rubinson is Ariba’s Marketing Manager for Sourcing Solutions. As part of his strategic sourcing and supply chain experience, Andy worked for several years with the DoD as an Acquisition Professional, as well as in the Supply Chain practice of a Big 4 consulting firm.

About a month ago I had dinner with the head of supply chain for one of the world’s most recognized food service brands. We weren’t even through the salad course when he lit into me about previous Supply Excellence posts encouraging buyers to consider alternative fuels, materials, and lighting methods.

“Next time you’re at one of those fancy cocktail parties and folks go on about the benefits of alternative fuels, tell them they’ll pay for it at the dinner table.” He went on to tell the story of how one of his tomato suppliers threatened to plow over its fields and plant corn for ethanol unless he conceded to price increases.

He was right to be angry. But his anger was somewhat misplaced. Ethanol is only one (and, considering limited production and distribution infrastructure, the smallest) of culprits for rising food prices. Rising global food demand, quality scares, and crop hoarding have been at the root of sprouting food prices.

In fact, economist Elizabeth Baatz (editor of the closely watched ICE-Alert) warns that input costs for grains and margin pressures for food processors could send food staples — from rice to tortillas — up more than 20%. In fact, rising rice, corn, soybean, and other crop costs prompted Baatz and her Thinking Cap Solutions team to rank nine food manufacturing sectors on the Top 20 inflation watch list out of the more than 371 U.S. manufacturing industries they track.

According to Thinking Cap’s analysis, food buyers can expect the biggest price boosts in dog and cat food, flour-based mixes and doughs, and rice milling. (Recent reports from The Wall Street Journal last week suggest that the rice crisis may be even worse. Prices for the grain have more than doubled since the beginning of the year, climbing to a record $760 per metric ton. The boost is pegged to increased demand from Africa, crop hoarding in Asia, and a pest outbreak in Vietnam.)

(Click to table to enlarge.)

Ironically, my dinner companion is offsetting some of these increases through sophisticated contract hedging. Yet, other businesses (and consumers) that lack the volume or frequency for food buys will certainly pay more at the checkout. “Consumer staples companies generally do well in an economic downturn and in periods of increased inflation, since they often can pass higher costs on to consumers,” said fund manager Steve Neimeth of AIG SunAmerica Asset Management in a recent BusinessWeek article.