The warning signs have been there for a couple of years, according to industry expert John Henke. “Toyota relations (with suppliers) have dropped precipitously during the past two years. New people hired in North America in the last three years or so have not learned ‘the Toyota way’. As a result, supplier relations are not as close today as they were for years.”
John Henke was commenting on the recent recall crisis that has dented the Toyota image. He was talking to me on an IACCM ‘Ask The Expert’ interview, where we discussed supplier relationship management (recording of the full interview available at www.iaccm.com) John knows what he is talking about. As a Professor of Marketing and President of Planning Perspectives Inc., he has undertaken studies of manufacturer – supplier interfaces in the automotive industry for almost 20 years. Throughout the last decade, he consistently warned the big US OEMs that their market behavior was destroying supplier trust and loyalty … but of course, they chose not to listen.
In the interview , John outlined the ‘Working Relation Index’, a method he has developed to test the health of supplier relationships. “Toyota still has relatively good supplier relations,” he observes. “But in recent times, there has been more evidence of an iron fist. There is still a sense that if you meet requirements, you can be a supplier for life. There is still a sense of the kindness that if you fail once, you will get help to restore and maintain performance.” But that kindness seems to be eroding, with the culture moving towards cost-cutting and some of the more aggressive practices that are typical in the United States.
Market conditions demanded rapid actions on cost reduction and this led to ‘heavy-handed’ actions which have been noticed by suppliers. “The issue is ‘adversarialism'”, says John. “A study in 2008 showed that price reduction pressure in itself has no impact (on relationships), it is the manner in which it is done that matters.”
The way that the relationship is structured and negotiated is key to setting expectations – and therefore contracting and terms and conditions really matter. Good performance depends on a sense of fairness, on good communications, on mutual opportunities to make money. John listed examples such as shared benefit from supplier-created savings, visible rewards for doing a good job (for example, more business), a sense of partnership in raising quality or efficiency. Without these characteristics, there comes a time when the supplier asks “Is it worthwhile doing business with this customer?”
John observed that within most companies, there are dramatic differences in supplier satisfaction, varying between geographies or business divisions. Yet few companies are good at analyzing or sharing this information, in order to understand and adopt improved practices enterprise-wide. The growth of interest in Supplier Relationship Management as a discipline is in part a response to this inconsistency and also to the need to better manage risk. However, there is no agreement on the form that SRM should take. For example, is it a special program restricted to a select few suppliers? Is it an extension of Procurement or a separate businesss discipline?
I will write more on John Henke’s opinions and research on those topics shortly.
Many who emphasize the importance of good relationship management are dismissive of the role of contracts. Even those who acknowledge their significance often take the view that the importance of the contract diminishes over time. For example, an article I read in the Financial Times last week took the line that ‘Contracts matter at the inception of a relationship, but steadily fade over time’. And in some cultures, the contract is variously seen as irrelevant, purely a legal instrument, or a Common Law intrusion.
I sympathize with these perspectives. After all, many companies have flourished without spending time or money on creating contracts. They built and managed satisfactory supplier and customer relationships without a need for lots of legal mumbo-jumbo.
But times have changed; business models are quite different from the way they were 20 or 30 years ago; organizational structures are flatter and leaner; relationships are more global and frequently more volatile; the demands of society, shareholders and regulators have altered. And whether or not we like these changes, they are forcing us to adapt the ways we establish and govern trading relationships.
Much of the complexity we face today is due to the fact that we are dealing increasingly with the unfamiliar (new markets, new partners, new technologies etc) and also with a greater speed of change. In combination, these factors create fascinating opportunities for success – but they also represent a source of major risk. This blog has highlighted both extremes in recent articles.
There is no question that the quality of relationships and their management is key to business success. After all, trade depends upon some level of trust and this in turn implies an appropriate relationship. I am also firmly of the view that many aspects of the traditional contract do become less significant over time, as a relationship matures. But at IACCM, we have always differentiated between the ‘passive’ areas of contract (the parts such as liabilities, indemnities, force majeure that require no day to day oversight), versus the ‘active’ clauses, such as change management, payment terms, service levels etc. It is in these active areas that the potential for misunderstanding arises; and with the increasing volatility of markets and business requirements, there is always a need for a relationship – no matter how strong it is – to have good governance procedures. These include the need for clarity and communication between the trading partners and within their organization.
So in my opinion, 21st century business depends on more formal methods to establish and oversee the performance and value of trading relationships. Commitments and obligations need to be recorded and monitored far more rigorously than they were in the past. As many of us know, if these activities rely on informal procedures, they do not work well – and tend to lead to either under-performance or dispute.
This is why – in my view – we are seeing a growing integration between relationship management and contract management. Successful business relationships require clarity, mutual understanding and agreed channels for performance and change management. Whether or not we choose to think of the capture, communication and recording of commitments and obligations as ‘contractual’, the truth is that good business relationships depend upon the disciplines that result from sound contracting practices.
The subject of cycle times is – quite rightly – a source of regular debate for our community. After all, one of the most common user complaints is that we are too slow, that the process takes too long.
“Ah yes”, is the regular response, “but the cycle time is out of our control”. A recent IACCM member question gave a couple of excellent examples: “Naturally there are numerours factors to be considered during the process, including but not limited to, should long periods of inactivity from the Supplier be included within the measurement, should scope changes reset the clock”.
Similar comments come from sales contracting groups, with the customer of course depicted as the culprit.
These attitudes miss the point of benchmarking – and represent a lost opportunity for contracts and procurement groups to show their value to the business. The issue here is that time equals lost opportunity and increased risk. As I observed in my reply: “In the end, the factors you mention are part of the process and like other steps, they must be open to improvement. But of course they will not be improved unless they are measured, so I strongly recommend that you treat these ‘exception areas’ as the red herring that they are. The cycle time is the cycle time. If it turns out that supplier delays are making you uncompetitive or unresponsive to business need, you should be thinking how to fix this quality problem, not to use it as an excuse for poor performance. For example, what is to stop you adding a ‘speed of response’ metric into your bid criteria? This is, after all, an important issue; if suppliers really don’t care to be responsive when they are trying to win your business, what will they be like once the contract is signed?”
The issue of scope changes is also very interesting. Who controls scope? In my experience, it is not usually the contracts or procurement groups. So if it regularly changes (and we all agree that is not a good thing), then why is that happening? Our role should be to force an investigation into the causes of poorly defined scope and to promote improvement. We should be assisting the real culprits to improve – or otherwise highlighting the issue to executive management.
If we fail to grasp opportunities to take ownership and responsibility for business improvement, our value will always be open to question. We will always be the victims of claims by others that WE are the cause of avoidable delay – and no matter how loud our protestations, the mud will often stick.
“Why aren’t there more contract management leadership roles available in the market place (even when the economy has improved)? If anything the need should be greater when the economy is as it is now in much of the world. The role is needed in many companies, yet I am thinking most companies believe that law departments typically cover this responsibility. I believe most law departments do not address this need. What are your thoughts?”
This was a recent question I received from a (clearly frustrated) senior manager from the contract management world. So here are my thoughts – and I would welcome the opinions and experiences of others.
“I agree with your observation (about the lack of openings). I suspect you are to some extent right about the fall-back to law departments. Certainly they are not in themselves adequate to deal with contracting, although we see a growth in more enlightened GCs who take an interest – and responsibility – for overseeing the development of market competitive terms and ensuring that there is a program to develop ‘commercial competence’ across the organization.
But in many places, that enlightenment has yet to strike; and in others, there are still significant contracts groups. So who leads them? Often, we find it is by appointments from within. I guess one of the key issues for such groups to be effective is the need for people who really understand business process and organization. It is hard to step in to the contracts organization in the top spot without a solid understanding of the specific business and firm relationships with key stakeholders. When there are exceptions to this, it is usually because of the need for dramatic change and reengineering.
However, as an ancillary observation, I must refer back to a blog I wrote a few weeks ago, highlighting the challenge for our community in producing leaders. Leaders are people with vision and belief, people who want to execute change and who can inspire others to support them. Part of the problem for contract management is that too many senior practitioners are focused on the status-quo, they concentrate on individual deals, not the broader areas of contracting strategy and value. So unfortunately, when the chips are down and cuts are to be made, it doesn’t seem like contract management groups would be a particular loss.
And without a contract management group, there is no need for a leadership role.”
In the end, contracting competence is critical to any company. But there are various ways that the competence can be established – and unless there is evidence that contract management professionals are truly leaders, it may be executed elsewhere.
What is your change and improvement agenda for 2010?
Recently I participated in a planning workshop with one of IACCM’s Corporate Members and, after I had provided an outline of the trends we are observing, the meeting moved into the detail of their priorities. I thought it would be interesting to share much of this and to see whether their agenda strikes a chord – and hopefully you might add some comments to outline your 2010 projects and goals.
Things to do:
- Based on this groups use of the IACCM Maturity Assessment, they had input that there was confusion among their internal customers over their precise role. So they needed to 1) improve communication; 2) focus on tools that empower service users, while collecting oversight data (become a true ‘center of expertise’) and 3) ‘do less, enable more’
Things to stop doing:
- Stop focusing on unit cost at the expense of understanding value
- Stop hiring people without real subject experience
Overall priorities and goals for 2010:
- Improve integration with line management / business units. Improve on perceptions of being ‘too remote’ and ‘not enough consultation on issues such as change management’
- Address internal sense of leadership weaknesses
- Raise quality of contracting disciplines and skills – escape perception of being driven solely by ‘the rules’ and compliance
- Create more flexible service delivery model to address perceptionsof slow response times
- Ensure a smaller number of initiaitves and that those which are announced are seen through
- Improve functional learning – look at areas of excellence and seek to replicate
- Simplify processes and make results visible to all
Of course, this list led to robust debate over the methods and the metrics that would be used to acheive these goals. Those plans are now in place and the clock is ticking. IACCM will be back next year, to measure progress and provide a score sheet to management.
So tell us what improvements are on your agenda and how you will ensure they are delivered.
The Financial Times last week carried the story of a remarkable report by Mactavish, “an entrepreneurial research business acting as a risk analyst and catalyst for change in the insurance industry”.
Under the headline ‘Risks Taken In Recession Threaten Business’, the article proceeds to detail eight categories of risk that have resulted from the pressures of the recession. Most of these risks relate to commercial decisions that were driven by two tactical imperatives – the need to maintain revenue and the need to cut costs. But in many instances, it appears that the tactical responses had little oversight and there was limited review or understanding of their consequences. The resultant extra risks include:
- Moving into unfamiliar product areas and territories (including taking on new and untested contractual commitments or trading / distribution partners)
- Speeding up product launches (creating unknown quality or liability issues, internally and with suppliers)
- Weakening supply chains and increasing vulnerability in order to reduce costs (for example by cutting the number of suppliers and distribution centers, or by relying on lowest cost suppliers regardless of their reliability or capability to sustain claims)
- Increased outsourcing to unknown or high risk locations (pushing down unit cost at the probable expense of quality and reliability)
- Acceptance of extra contract liabilities in sales bids and negotiations (warranties, recall costs, indemnities etc.)
- Reducing supervision in key areas such as health and safety or contract oversight (driven by ‘suicidal’ bidding practices)
Although this report was based upon a study of UK companies, the list will be familiar to many of us across the globe. I had the chance to discuss it with Bruce Hepburn, CEO of Mactavish (who we will shortly interview on an IACCM Ask The Expert program). I made the point to Bruce that management has to weigh up the immediate risks of going out of business versus the longer term risks of building new capabilities. Therefore, the downturn has left many with limited choice about the incremental risks they have taken on.
Bruce accepted this point, but suggested that there was often far too little awareness in the Boardroom about the nature or extent of the risks being adopted and there is a naive assumption that these will be covered by a third party insurer. He highlighted several examples where sales or procurement has followed approaches that put the company at severe risk, yet those commmitments were not even included in the risk register, let alone actively managed. He also made the telling point that many times management is relying on an insurer to protect them when things go wrong, but based on the undeclared risks he is observing, he believes it is highly questionable whether the insurer would pay against the policy.
There are many implications to this story. Among them is the question of the role of commercial staff in the risk process. Based on Mactavish’s findings, groups like Procurement are adding to risks by their unilateral focus on unit cost reduction (if you don’t believe me, listen to the examples that Bruce Hepburn will discuss in the interview). But more broadly, if executive management is unaware of the extent and nature of the risks being adopted, then where were we during this process? In my view, Commercial Management is not only about alerting management to risk; it is also about enabling the business to find ways to accept and manage more risk. But in this case, it seems that we were not only often silent, but that we have not been taking steps to prevent or protect against unpleasant outcomes.
I know this situation is not universal. From IACCM’s work in benchmarking commercial process, we can list a range of companies that are generally handling market and commercial risks extremely well. But the gap between those leaders and ‘the rest’ appears to be growing. It is time for commercial, legal and procurement groups to wake up and realize their broader responsibilities – and opportunities – in generating good and responsible governance. Otherwise, we may find that the insurance industry starts to make those decisions for us. Indeed, in their comments on the study, PwC made the observation:
“Insurers and insurance intermediaries need to fundamentally rethink how risk is assessed, how companies are insured and how to keep pace with an increasingly complex, uncertain and fast-changing risk landscape”. Sounds familiar? Perhaps it is time to look back at your mission statement – because this is precisely the role that any high-value commercial group should be performing.
Technology is a great enabler. But there are times when we must ensure it does not become a disabler.
The contracts community has been relatively slow in its efforts to understand and adopt contract management software. Even its advocates have been inconsistent in their goals and expectations, resulting in hybrid implementations and confused messages to developers.
One issue at the heart of this confusion is the extent to which the software should focus on compliance, versus the delivery of value. The answer of course should be a balance between the two, but increasingly I am observing how too much emphasis on one (compliance) can actually result in the loss of both.
Contracts are complex instruments and they capture a multitude of commitments and obligations. Armed for the first time with software tools, it can be tempting for management to seek detailed oversight of every aspect of compliance. Yet this is a mistake and risks sabotaging the entire implementation.
While contract management applications should support improved compliance, they must also increase efficiency and reduce operational workload. They must free up the the time of contract managers to add value through better intelligence and proactive risk avoidance. If instead they simply overwhelm the contracts and project staff with action items, they will fail on all counts.
My observations are made because of several recent examples where management did not take time to assess the volume of reminders and ‘ticklers’ being sent out by the system. And more importantly, they failed to grasp the relative priority of these different messages. Some are truly critical to success; others are indicators that should only be accessed on demand, or appear in summary reports.
In one case, contract managers on complex deals were receiving up to 40 system outputs per day – with the result that the system itself lost credibility. Staff were inevitbaly ignoring the outputs and reverting to previous manual methods of management. Far from being a tool, the software had become a burden.
Business intelligence is a great thing – so long as we use our intelligence in its design!
So Walmart is embarking on a fresh round of globalization ‘to cut billions from supply costs’ (Financial Times, January 4th, 2010).
The plan is to consolidate purchasing across national borders and increasingly to deal direct with manufacturers, eliminating third parties. The expectation is that costs will be cut by 5 – 15%.
In many ways, the most surprising element of this news is that it has taken so long in coming. Buying cross-border is certainly not new, nor is direct sourcing (though interestingly the FT observes that direct sourcing is today far more common in Europe than it is in the US).
So why have Walmart managemet waited so long to make this move? The answer is most likely because of the organizational disruption that it involves and the challenge it represents to existing skill sets. Walmart simply lacked the imbedded commercial competence to oversee global supply chains.
An article in the current edition of Industry Week (From Managing The Supply Chain To Orchestrating A Global Operational Network) co-incidentally sums up the challenge – by no means unique to Walmart: “Rather than managing the supply chain, companies need to deftly ‘orchestrate’ its many interconnected resources and participants. The classic concept of the supply chain is fast becoming obsolete … a far better image for the 21st century is a global operational web or network.”
This is a concept that IACCM has been arguing for several years, along with leading academics such as Professor Rob Handfield, head of the supply chain program at NCSU. But success will depend on a number of key attributes. Among these are:
- An holistic approach to market management.
- An ability to understand and manage relationships.
- Integrated supply chain technology.
Traditional Procurement behavior and metrics will not address these issues. Successful management of global supply chains demands the ability to understand and respond fast to shifting market needs and competitive actions (so a strong connection to the market). Developing loyal, responsive and innovative suppliers demands a readiness to understand values beyond the lowest price and to factor relationship cost into the buying decision. And global operations demand sophisticated applications that links supply and demand with excellent performance management.
Developing capabilities such as these requires major investment in systems and skills. Industry Week summarizes seven success factors:
- Involving partners early
- Transparency via technology
- Networking across the network
- Modeling for momentum (business intelligence)
- Relationships really matter
- An adaptive infrastructure
- Global product lifecycle management
There is perhaps an eighth characteristic that will be critical for Walmart – and that is to find suppliers capable of matching its commercial design.
Once more, this story illustrates how developing and managing the right commercial model is key to business success. Our community should be watching Walmart to observe whether it truly has developed the systems and skills that will enable ‘orchestration of a global operational network’ – or in other words, the emergence of true commercial competence that embraces both buy-side and sell-side operations?
As a footnote, if Walmart’s primary objective is to leverage spend purely to drive down prices, it should beware of growing political resistance. For example, the UK’s Office of Fair Trading has recommended the creation of an Ombudsman to oversee abuses by major supermarket retailers – and it appears probable that Government action will be taken to put this in place.
As the name of this blog implies, I believe that commitment matters. The nature of the commitments we make, and how we then go about performing them, are fundamental to trust and reputation. I think it is time for the contracts community – Legal, Procurement, Contract Management – to engage in debate over the ethics of contracting and our role in safeguarding trust and reputation.
Contracts represent an interesting dichotemy in the commitment process. Clearly they contain commitments, but at the same time they limit the extent of obligations or potential recourse. This dual purpose results in some confusion about the role of contracts professionals. Should they be advocates for ethics and fairness, or should they be seeking to minimize the effect of promises offered?
In many organizations, there is a divide between sales and marketing (who make promises) and the contracts staff (who write conditions that limit any resulting obligations). Indeed, this habit of protection can be so ingrained that even the intentions of executive management may be undermined by the terms and conditions that appear in the contract.
While it is right for those in Legal, Procurement and Contract Management to protect their business against unreasonable loss, I believe they must think in bigger terms than individual deals. Surely we should be considering the reputational impacts of our contracting practices and the extent to which these cause others to be reluctant or wary when doing business with us? Regardless of any ethical implications, have we at least understood the potential financial consequences of our trading terms?
Over the last year, the recession gave rise to many examples of declining standards. Companies used power to impose unilateral changes in contract terms. There was a decline in readiness to justify policies or negotiating positions and a growth in the ‘because we can’ attitude. This erodes relationships – and as relationships weaken, there is a knock-on effect in the quality of performance.
It sometimes seems that we are caught in a trap where the criteria for winning business have reduced to unit price and risk allocation. In such an environment, both buyers and sellers are constantly watching out for opportunities to gain advantage or limit losses, rather than worrying about the quality of their performacne or the value they are delivering. And this leads to dissatisfied end users who rightly question the effectiveness of those who prepared and negotiated the contract.
End users are not the only ones who are paying attention. In our networked world, there are growing opportunities for both government and non-governmental organizatiosn to observe what is happening – and to take action. If companies cannot find a better way to self-regulate, then we must expect more pressure from outside – including a tougher regulatory regime.
IACCM has become stadily more involved in these debates. For example, we are active in debates over ‘fairness’ in payment terms (the European Union has already stated it will legislate in this area). We also joined the Business Travel Coalition in its efforts to shift airline policy in the United States regarding hours that passengers could be held ‘on the tarmac’ (the US administration announced new rules will come into effect in April 2010). And this year, we will be participants in a global initiative for consumer contracting principles, seeking to develop more consistent approaches to the way that businesses deal with consumers (the US State Department, the Organization of American States and UNCITRAL are all pushing for changes in this area).
Change will occur. Once more, our community has a choice. We can be by-standers, waiting for others to define the policies and procedures that represent acceptable ethical approaches to the negotiation and management of commitments; or we can be active participants in the debate, within our organizations and beyond.
The global economy demands new standards. I hope that we will contribute to these by working together to propose codes of conduct, both for ourselves as a body of practitioners and as a recommendation for the way that business should operate.
What do you think?
As we start 2010, there are many encouraging signs that contract and commercial management are on the ascendancy. I have always been hesitant about claims that the function / profession / process has ‘made it’ onto the executive agenda. I have observed the regular assertions by the Procurement media – as well as functions like Project Management or the CIO community – that they have now ‘reached the top table’, when quite evidently they have not.
Whether those in contracts or commercial make that top table will depend a lot on future organizational design and decisions. And to be honest, a Board position is not necessarily the accolade we should be seeking. It is far more important that we drive understanding of the role and contribution of contracting and commercial policy to business and organizational success.
My optimism is not simply because at last there is widespread academic acknowledgement that contracts and the selection of terms and conditions matter (though certainly that helps). Nor is it because we are starting to have tangible measures of the value that comes from superior contracting (though that will be key in gaining management attention). My optimism is because I am observing a community that is at last ready for professionalism and the demands that places on us as individuals.
For 10 years, since the inception of IACCM, I have observed many talented individuals, yet few believed in the possibility of becoming a true profession. They were not ready to work together to agree a core and consistent ‘body of knowledge’ or establish the professional standards and practices that are fundamental to status and recognition. Without these commitments, it was not possible to create the hallmarks of a profession – training programs that would support a career path from graduate entry onward; recruitment specialists that would promote excellence; substantive peer review bodies that would define the ethics and standards of practice for our community.
Steadily, the situation has changed. IACCM itself has grown to a membership of almost 15,000 and is adding more than 100 new members a week. It has off-shoots in countries around the world, all subscribing to the central standards of certification and training set forth at the global level. And last month, when I went to a group of experts from the field of contracting and commercial management, more than 80 immediately volunteered their time to work on confirming the worldwide ‘body of knowledge’ for this community, to support publication of a book series later this year.
This week, I will meet with two European business schools to finalize the development of university and business school programs in contracts and commercial. These will build from IACCM training programs and enable practitioners to achieve externally recognized qualifications at diploma, MSc and MBA level. Similar developments will follow in other world regions.
IACCM’s research is also another bedrock of the change that has been happening. No practitioner is a professional unless they can point to robust and on-going research that both validates and improves their work. Now, with so many studies undertaken on a regular basis and many more commissioned by our Corporate Members, we can point to the fact that contracts and commercial management are no longer areas of personal opinion and judgment, but have a solid basis in global research, both by the Association and by a growing academic community.
So the year begins with real confidence that we are indeed ‘getting on the map’ – and the reason, quite simply, is because we now have an enthusiastic and excited group of practitioners who want to get there, who want to achieve, and who are united under the worldwide banner of IACCM.
Commitment Matters 