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 / Third Quarter 1996 / Issue 4(originally published by Booz & Company)


Systems, Modules or Components? New Light on Purchasing

Alternatively, the supplier may be asked to take on a subassembly project. In this case, the supplier can create value by making trade-offs between the different components in the subassembly operation. Often, the supplier can save money by delivering larger modules to the customer, which minimizes inventory and handling costs. However, we have observed that this route can be difficult, because it puts more focus on the supplier's manufacturing capability than on innovation and customer understanding.

Both broad paths -- the fastener-solutions provider path, which focuses on the greatest opportunity for product innovation, and the major-subassembly producer path, which focuses on delivery stream integration -- are logical options for the supplier-customer relationship. However, each will tap a different set of opportunities and requires a different set of capabilities of the supplier. The challenge is to select the option that provides the greater opportunity for value creation.

Complicated Set of Trade-Offs

When it comes to finding the optimal solution to the supplier-customer relationship, we have observed that few companies systematically define the trade-offs that are essential to the process. Although the bolt supplier example makes the issue look fairly straightforward, reality is quite different and often more complicated.

In our work with dozens of clients, and in our survey of the literature, we have observed three major pitfalls in defining optimal scope boundaries:

1) Using historical boundary definitions, rather than rethinking new boundaries that can create more value.

2) Defining broader responsibilities, but continuing to manage the supplier at a narrower level.

3) Developing overlapping boundaries among suppliers, or between the company and the suppliers, that generate sub-optimal trade-offs.

At worst, the first pitfall avoids change -- at best, it allows change simply to happen without it being actively managed.

The second pitfall is common for companies that are trying to make the philosophic shift to broader boundaries. Unfortunately, the transition is difficult because it requires relinquishing traditional responsibilities to suppliers.

The third pitfall is far more subtle and is only just beginning to surface at leading companies. These companies have broadened the suppliers' scope boundaries but now see conflicts and overlaps and are finding that defining the optimal boundaries is an increasingly complex task. As the bolt example illustrates, even for a simple product, there are a wide variety of options.

Exhibit II captures the findings from some recent field work. The quotations show why moving from historical boundaries is so difficult: There is no consensus about where or how to move the boundaries. Even within the organization of one original equipment manufacturer, we found major disagreements about what to do.


In the second pitfall, companies define broader scope boundaries, but continue to manage the suppliers as component sources. Exhibit III illustrates a common symptom: continuing to control the second-tier sources while encouraging a first-tier source to step up to a broader role.


Although the vehicle manufacturer in the exhibit has re-thought boundaries and positioned a select set of suppliers as first-tier "brake system integrators," it still requires these suppliers to source from a complex set of pre-selected component suppliers. To truly capture the value of a system integrator, key decisions and trade-offs -- like second-tier source selection -- should be left to the first-tier supplier.

Finally, even when companies get over the inertia of tradition, they find that new scope boundaries can create a complicated series of overlaps between their own operations and those of suppliers, as well as between suppliers themselves.

Again, using an automotive industry example, vehicle manufacturers have been broadening the scope boundaries of major suppliers. Consider the case of A.O. Smith, which was traditionally a "metal bender," providing a variety of components stamped or forged from steel. Now the company provides entire rear-axle assemblies to vehicle manufacturers, complete with brakes, steering knuckles and major suspension subassemblies. This broader boundary has far more components and provides many opportunities for A.O. Smith to create value.

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