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How to Change your Strategy to Reduce Costs in Your Supply Chain

Updated: Oct 1, 2022

Even if you’re doing all the usual things to reduce your TCO(Total cost of ownership), it’s probably not enough. Here’s how to optimize your supply chain.

These days, purchasers need to think bigger and more inclusively when it comes to cutting total costs. There are better areas to focus on than reducing the supplier’s profit and creating a win-lose situation in your contracts. There are things you can do in addition to asking for a lower price that'll bring incrementally significant savings to your supply chain.

Asking for the Lowest Price is an Obsolete, Antiquated Strategy

Purchasing professionals are accustomed to the usual methods of reducing the total cost of operations (TCO), including:

  • Aggregating spending

  • Working with specialists rather than generalists

  • Transitioning to e-purchasing

  • Utilizing science-based negotiation strategies

  • Creating cost models

  • Benchmarking

  • Bidding with suppliers

These strategies are common and useful, and you're already using them. But it's not enough.

Today’s purchaser-supplier relationships have normalized the win-lose negotiation, creating contracts where nobody walks away totally satisfied. But to make a dent in the supply chain costs, purchasers must look at the bigger picture, which is that the supply chain is made up of real people with legitimate needs, concrete skills, and goals to meet.

Optimizing your supply chain is not just about cost reduction; it’s about building solid relationships with innovative suppliers who can help you succeed and grow. When purchasing professionals use aggressive tactics to gain the upper hand in negotiations, the supplier goes on defense and is not likely to care whether you succeed in your cost reduction strategy.

The goal is to get them to help you cut costs in a way that makes them feel satisfied for doing it.

How Purchasers Can Build Profitable Relationships with Suppliers

If you were squeezed out of every penny of profit, how hard would you work for that purchaser or customer, especially when other purchasers or customers are willing to pay the regular price?

When the relationship between purchasers and suppliers starts with “just give me the lowest price,” it's already on rocky ground. The supplier hears, "I don't care if you make little to no profit; I need to cut costs. You don't matter."

This is an unhealthy start and likely to deteriorate over time. If that supplier gives you the price you want but makes nothing from it, they’re going to bill you for everything you ask for outside of the contract, and they’re going to let you add to your total costs without saying a word. There’s no commitment or loyalty from the supplier in these scenarios.

The supplier cost is a single small leak in the supply chain. There are more areas of the company you could be addressing that are creating higher costs.

When you focus most of your cost-cutting strategy on reducing the supplier's profit, you're not actually taking costs out of the supply chain. You're just pushing it down the chain. It doesn’t make the supply chain more agile, competitive, or helpful.

The goal is to take the costs out wholly

Purchasers should never stop asking for the lowest price, but here are a few other strategies to add to the request:

  • Find a way to help the supplier succeed. Work with them to reduce inventory and pass-through. You don’t want to have to pay for built-up inventory.

  • Check costs associated with quality assurance. Are the quality requirements way over what the customer and industry expect?

  • Reduce customizations and standardize product development as much as possible to improve the manufacturing process and reduce costs.

  • Teach suppliers to come to you with concerns that you’re making the request too complex and costly. Suppliers have been taught that customers are always right. But sometimes, purchasers are wrong, and that can be expensive.

  • Motivate current suppliers to help you find cost savings. Tell them they’ll be more competitive, have a better stronghold in your business, and it’ll be easier for them to get business from other customers. Urge them toward their goals by getting them to help you reach yours.

It’s tough to know where to start when you’re not in control of the entire supply chain. Start with where you are in line.

Changing Strategies for Deep Cost Savings in the Supply Chain

Cutting costs isn’t easy, but good supply chain planning and management can help you balance the budget and improve the company’s bottom line.

Eventually, supply chains will be competing against each other. Therefore, it’s vital to strengthen your proposal requests and contract negotiation tactics.

Here are a couple of strategies to create a win-win situation in your contract negotiations with suppliers:

  • Send out two RFPs with an explanation. The first should be precisely what you asked for, and the second should be what you should’ve asked for.

  • Take ego and assumption out of the process. Tell suppliers, “I’m not always right. Tell me if what I’m asking for will increase the total cost or if there's a better way." Suppliers know their industry. Trust them.

Referenced from - Prof. Omid Ghamami, University of Calfornia, Intel Corp

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