Logistics: What Buyers Must Know
Mark S. Miller, C.P.M.
Mark S. Miller, C.P.M., Purchasing Manager, CASE CORPORATION, 700 State St., Racine, WI 53404, (414)636-6565.
James P. Weber, C.P.M.
James P. Weber, C.P.M., Team Purchasing Manager, CASE CORPORATION, 700 State St., Racine, WI 53404, (414)636-6656.
80th Annual International Conference Proceedings - 1995 - Anaheim, California
Logistics is often considered a function of the traffic department.
Recently it has been recognized that purchasing plays a critical role in
logistics. NAPM (National Association of Purchasing Management) selected as
the theme for the 1993 International Purchasing Conference "Logistics:
Navigating The Future.,, We will discuss the basics buyers should know about
logistics and three important areas in which purchasing can help reduce the
cost of logistics.
Logistics Basics. Logistics is the study of all the activities involved
in the cycle of getting the product to the right place at the right time. All
movement of product in the pipeline should be considered: the raw material
movement from the supplier to the plant, processing at the plant, warehousing
and packaging, traffic movements between locations, the distributor and
delivery to the customer. The Council Of Logistics Management defines
...The process of planning, implementation, and controlling the
cost-effective flow and storage of raw materials, in-process inventory,
finished goods, and related information from point of origin to point of
consumption for the purpose of conforming to customer requirements ...
The key focus of logistics is measuring the cycle time speed of each
element in the pipeline and the cost trade-offs involved. Management is
recognizing the importance of logistics, because of the profit opportunities
that exist. Logistics in the United States are estimated to cost $375
billion, or 8% of the average company's sales (source: Cass Logistics). These
costs broken down into categories are:
- 32% - Inventory carrying costs
- 23% - Transportation costs
- 20% - Warehouse costs
- 18% - Order processing costs
- 7% - Administration costs
Now we will review, three major areas of logistics in which a buyer
plays an important role: reducing cycle times, establishing third party
logistics partners, and establishing in-house supplier personnel.
Purchasing and Cycle Time Reduction. The definition of cycle time is:
"The elapsed time between the beginning and completion of a task." The
definition seems simple; but the reduction of cycle time is a main priority
for purchasing professionals today. In the 180's , the main driving force was
quality; in the 190's it is quality plus speed. Customer expectations
continue to rise, and service levels must rise to meet these expectations.
Today, customers are demanding that we eliminate all non- value added cycle
time. working with suppliers, purchasing can dramatically reduce cycle times
in two areas: reducing leadtimes and improving on time delivery performance.
- Reducing Leadtimes. Leadtime reductions allow for carrying less backup
inventory and at the same time providing superior customer service despite
forecast changes, unusual demand or pipeline disruptions. Lower leadtimes
translate into less inventory and therefore reduced logistics costs.
One method we've found that successfully reduces leadtimes is to offer
the supplier a tradeoff. The supplier reduces leadtimes through efforts to
improve his processes or by simply carrying more backup inventory for us. In
exchange we will negotiate firm volumes guarantees so the supplier doesn't
risk eating the extra stock.
Another strategy we've used is to work with suppliers to reduce order
entry cycle time. we found we were only releasing schedules to suppliers once
a month and mailing the documents. By switching to weekly releases and
establishing electronic links with suppliers, we reduced our order entry
leadtimes by almost a month.
- Improving Supplier On Time Delivery. Another way to speed up the
efficiency of the logistics pipeline is to improve supplier on time delivery.
As a result of poor supplier delivery (as low as 50% late in 1991), we were
carrying a large amount of safety stock inventory in order to keep the
production line running and to maintain acceptable service levels to our
An investigation of the root causes of our poor supplier delivery showed
that many of the problems were being caused by us--not the suppliers:
- Suppliers didn't understand our schedule documents
- We were making too many schedule changes
- Suppliers weren't aware of our delivery requirements.
Purchasing worked closely with suppliers to improve delivery
performance. We held meetings and explained our expected delivery
requirements (three days early to the due date). We walked suppliers through
our scheduling documents and made sure the people who were processing the
forms understood them. Improvements were made to our forecasting and
scheduling system which reduced the number of short lead time schedule changes
On time delivery has become a key supplier rating factor. It has also
become a key performance measurement for our buyers. Buyers are rated on
major supplier performance, starting each year with a benchmark for each
supplier, with a goal of continuous improvement throughout the year. Each
month a letter is sent to the supplier's management reviewing, in detail, the
previous month's delivery performance. Finally, awards are given annually to
recognize suppliers who have maintained superior delivery performance for the
Establishing Third Party Logistics Partners. Many firms have found
that major cost reductions and cycle time improvements can be achieved by
outsourcing nonprimary operations to third party logistics firms. It is
estimated that $10 billion of logistics (2.5%) is currently outsourced
(source: Cass Logistics), but logistics outsourcing is increasing at a rate of
10* a year. Among the activities often resourced are: traffic management,
expediting, warehousing, receiving, inspection and inventory management. We
are currently using a third party to handle our receiving, line filling, some
inspection, packaging, painting and running five of our part warehouses. We
have found there are several advantages to using third party firms:
- Concentrate on Primary Business. Companies are integrating resources to
focus on key products, manufacturing processes and markets. Logistics
is one area that is a noncore operation to most companies, and therefore
is a prime candidate to be outsourced. Most companies realize that they
do not want to invest substantial resources in noncore operations.
- Expertise. The major third party logistics firms are experienced experts
in logistics. It is their core business. They have developed
systems and transportation networks that private companies cannot afford to
duplicate. They can also share the newest and best ideas that have
worked with other customers.
- Flexibility. By outsourcing to a third party the logistics operation
overhead moves from a fixed cost to a variable cost. A third party can
flex the work force and warehouse space with other customers to react
to peaks and valleys of volume changes. Third parties can use part time
and contract labor so labor costs are often times much less.
- Cycle time improvements. The third party firm can help to improve the
velocity of moving goods to the customer. These improvements in cycle
time will help replace inventory with information.
- Avoid Capital Costs. A third party firm can arrange for warehouse space,
furnish equipment, have computer hardware and software used that doesn't
require an up front capital investment from your company. A big
advantage of outsourcing is that instead of capital that is fixed cost,
they turn into variable costs that can be raised or lowered upon demand.
In most companies there is a general reluctance to consider using a
third party logistics company. This reluctance stems from among the following
- Loss of Control - Any function that is outsourced means some level of
control is lost.
- Uncertainty of Third Party Capabilities- The third party firm is an
unknown entity and thus will cause uncertainty.
- Fear of Job Loss - outsourcing usually causes a reduction of head
count and a resulting fear of job loss.
- Admitting Internal Incompetence - Too often outsourcing is associated
with internal failure to adequately perform the function internally.
- Resistance to Change - Any major change within an organization causes
a natural resistance that must be overcome.
Selection of the right third party firm should help resolve these issues.
Following are the areas that purchasing should investigate when selecting a
third party logistics source:
- Financial Stability - one of the major benefits of a third party
logistics firm is investing in capital and systems components.
Purchasing must insure the third party firm has the financial resources
to make required investments.
- Information Management System - A third party firm is usually depended
on to build system interfaces to your system, put in RF bar coding and
use Electronic Data Interchange. The suppliers system department is
- Experience - You are looking for a firm who has expertise your firm
does not have--and this comes from experience.
- Customer References - Talking to other existing customers is the
quickest way to analyze a potential third party firm.
- Customer Service Commitment - Purchasing should investigate (by
customer references) the supplier's customer service commitment.
Once the source has been selected, the contract purchasing negotiates
with the third party should include:
- Cost Structure. A clear understanding of how costs and prices will be
established is a key factor for purchasing. We have established
arrangements that include a monthly fee to cover fixed costs and a
variable fee that is based on transactions processed.
- Termination. Both parties need to agree on the conditions under which
the agreement can be terminated. Under what condition and with how much
notice can the outsourcing arrangement be dissolved. If the third party
firm has leased space, purchased a system, or bought equipment on your
behalf, the responsibility regarding these items at termination must be
- customer service/quality requirements. Benchmarks for throughput, cycle
time and accuracy should be included in the contract. The type of
function outsourced will dictate the appropriate customer service and
quality requirements to be included.
In-house Supplier Support and Logistics. An alternative to outsourcing
to improve logistics is to move supplier personnel into your office.
Functions that can be performed by suppliers include: expediting, resolving
quality/inspection problems, scheduling, and inbound traffic routing. When we
first purposed in-house supplier support, there were many issues we had to
address including: selection, confidentiality and internal issues.
- Selection. The first step was to establish ground rules regarding how
suppliers would be selected as candidates for in-house support. We
choose to limit in-house support to suppliers that had been chosen as
the sole, preferred supplier for a product. This solved many of the
questions that were raised regarding security. There was no longer a
competitive situation that needed to be protected. We keep careful
records documenting the criteria by which these suppliers had been
selected. Each time the long term contract was due to expire purchasing
does a new evaluation to insure the agreement should be extended.
- Confidentiality. We established a confidentiality agreement that we
required in house supplier personnel to sign.
- Internal items. The hardest part of establishing in-house supplier
support was selling our own management on the idea. Items such as
workmen's compensation liability, office and phone availability,
password security, liability, union issues, defining job functions and
supervision has to be established. Each objection was addressed. In
the end we eliminated duplicate resources, improved communication with
suppliers and reduced our logistics costs by establishing in-house
The advantages of having in-house supplier support are:
- Cycle Time Improvements - With the in-house supplier personnel placing
orders and expediting the normal cycle time is reduced.
- Communication Improvement - With suppliers working next to you in your
office, communications are improved.
- Supplier ownership of Goals - We assign inventory and shortage goals
to the in-house personnel.
- Less Cost Than Permanent Employees - Functions previously performed
by company personnel are now performed by suppliers.
- Loss of Competitive Leverage - One supplier is selected for the business
so competitive leverage is lost.
- Additional Training/Supervision - In-house supplier personnel must be
trained and supervised by company staff.
- Loss of Internal Control - More internal control is involved with
in-house supplier personnel than with outsourcing, but some control
is still lost from when your own people were doing the function.
- Office Space - office space is needed for in-house supplier personnel.
This has been a big challenge for us.
Summary. It's important for the buyer to understand logistics and how
he can directly impact logistics costs. The buyer can work with his suppliers
to reduce leadtimes and improve on time delivery. Purchasing has an important
role in selecting and negotiating contracts with third party logistics firms.
Supplier in-house support should be investigated as another tool to reduce
logistics costs. By understanding logistics and the critical part purchasing
plays in it, we all have an opportunity to gain management recognition and
make our companies more successful.
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