The world once again got a little smaller with the Big Three’s announced intention to create a joint online trade exchange. This real-time automotive supply marketplace is not a development that came out of the blue, by the way. It was a natural progression in a long-standing trend toward greater interconnectivity within the automotive industry.
The beginnings can be traced back to the formation of the Automotive Industry Action Group (AIAG) in the United States in early 1980s and possibly even further back than that. Industry-wide EDI standards, the multilateral Automotive Network Exchange and many communications codes, processes and technologies have together paved the way for this electronic exchange, which could include everything from catalogue sales to online reverse auctions. Assuming no major anti-trust problems, the economic value added through such an exchange is likely to be tremendous as a whole.
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For OEMs and possibly their preferred suppliers the expected advantages of participating in a trade exchange range from parts cost reductions of 20% or more to order-processing acceleration enabling companies to offer a “build-to-order” car in ten, five or even three days. How? Global price-shopping for one, as well as lowered entry costs for new suppliers, drastically reduced administrative expenses and the introduction of the auction process. Speed, of course, is delivered by virtue of the online connection. An online trade exchange also offers the savvy buyer or seller a new, real-time fact base, which can prove to be an invaluable tool for fashioning negotiations.
For suppliers, participating in a trade exchange will be like entering a fast-forward time warp, especially when online reverse auctions are offered. With RFIs and RFQs now generated in real time, decisions affecting a company’s overall strategy and goals have to be made on the spot – and this requires accurate, up-to-the-minute data on true costs, pricing strategy, capacity planning and other key variables if the decisions are to be sound ones. Getting wired into this data will be especially critical for suppliers of near-commodity products, such as fasteners and molded parts, as well as for material, repair and operations suppliers. These are the suppliers likely to be the first to feel the impact of online auctions.
While the benefits to OEMs are clear, do suppliers stand to gain as well?
Some, definitely. These will be the companies that are lean, those with highly developed manufacturing capabilities and a firm grip on their true costs. They will be those without an army of salesmen or sales engineers and without the resources to expand geographically in the classic sense. Participating in an online marketplace can enable them to develop globally in a cost-effective way because an exchange significantly reduces the OEM’s cost of bringing in new suppliers, especially if the goods are routed through large third-party logistics providers. In addition, the trade exchanges may offer smaller suppliers new economies in raw materials purchases and allow them to pool capital expenditures with other similarly sized suppliers.
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By GlobalDataBut there are some rumblings of concern about the impact of such an exchange on suppliers:
Too much cost transparency? Will across-the-board participation in trade exchanges make it easier for customers to understand suppliers’ cost structures and use this information to their advantage? A possible solution now being considered: The creation of independent or arm’s-length industry-wide trade exchanges.
Too much emphasis on price? While price has traditionally been dominant in many OEM/supplier negotiations, could it expand in importance to the detriment of engineering and manufacturing quality and the like? The jury will be out a long time on this one, but smart buyers are not likely to overlook quality and other important non-price variables.
Harmful to relationships? Will the ability to continuously reassess deals chip away at the new, closer working relationships that some OEMs and suppliers have built? Our call is that strategic supply partnerships will probably remain intact, but for non-strategic suppliers, the going will definitely get tougher.
Facilitating over-commoditization? Will OEMs attempt to further blur the already hazy lines separating commodities and near-commodities from purpose-engineered parts? While many assume that first-tier, high-engineering-content suppliers have less to fear in terms of price pressure, an online exchange could well accelerate the commoditization trend.
In short, the real concern is how the billions of dollars in expected savings will be divided up among the participants – the OEMs, the suppliers, the consumer and the trade exchange itself. For a trade exchange, if not carefully managed, has the potential to become a Machiavellian instrument for squeezing out the last ounce of profit from the automotive supply industry. A look at the industry’s P/Es should convince any doubter of its weakened state. Several major conglomerates also recently exited the business, citing its poor profit prospects.
In light of this, suppliers would be well-advised to:
Explore ways online exchanges can be used to advantage. For the high-performing regional supplier, for example, the opportunities to leverage online purchasing in pursuit of global growth could be significant. Suppliers should also be able to use exchanges to improve target costing, benchmarking and other key operating processes.
Create clearly defined decision rules for participating in online reverse auctions and other online forums. Suppliers must actively manage risk by knowing “when to fold” in a negotiation. One way to better understand the buyer’s perspective is for a supplier to either participate in or to create an exchange to make purchases from its own supply base.
Maintain an activity-based cost accounting system for providing internal and supply chain cost transparency. Many companies find they are ill-prepared to engage in online situations like auctions because their accounting and other systems do not accurately reflect the true costs of doing business and cannot respond quickly enough to changes requested.
Maintain active safeguards to ensure no confidential or proprietary data leaks out of the system, providing buyers with more ammunition than they should have.
Consider investing in online trade exchanges. Such investments would enable the supplier not only to share in the potentially huge value these ventures may generate, but also to more fully understand the underlying dynamics of buying and selling online. It would also ensure them of a say in setting the ground rules of the exchange.
Which will it be? An instrument of destruction or a powerful profit tool? Much depends on whose hands it is in. What is your company planning to do?
About the author
Lance Ealey is a Senior Automotive Expert with the Cleveland office of McKinsey & Company. He has been with the Firm for ten years. Prior to this he was an automotive journalist and has continued to contribute to leading automotive journals worldwide.
Special thanks to Kristina Roegner and Frederic Ramioulle for their contributions to this article.
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