Perspectives of Distribution

THE END USER: Feeling the Pressure

Kelly Anspach is the Houston-based MRO category manager for the corporate procurement division of Chevron Corporation, headquartered in San Ramon, CA.

VM: What key factors drive Chevron's supplier relationships?

Anspach: At Chevron we draft an annual business plan for doing business with each of our distributors. These plans cover objectives, strategies, initiatives, metrics, and targets. But while each plan is customized to each supplier, we expect distributors overall to align with us in several key areas.

The first area, of course, is safety performance for incident-free operation. Then we want our distributors to make optimal use of the global supply chain, in order to assure reliability and material quality, manage material costs and identify lower-cost quality alternatives, standardize where possible, and deliver operational savings.

The need for safety and quality is nothing new. But today, our relationships with valve distributors and manufacturers are governed by intense pressures on end users for low-cost, reliable operations. These pressures are driven by our national partners and by Wall Street investors.

VM: How does the pressure to reduce costs affect Chevron's expectations of its suppliers?

Anspach: The pressures that Chevron encounters translate into more pressures on distributors and manufacturers. At Chevron we're focusing less on tactical purchasing, or simply buying a certain product when a given need arises. Instead, we're focusing more on how to manage our ongoing supplier relationships and supplier performance. As a result, Chevron is making its suppliers more accountable.

We expect suppliers to perform without safety and environmental incidents. Measurements for material performance are tracked and the results acted upon. As for manufacturers, they must either compete on price or find ways to differentiate themselves in some measurable way. In our view, manufacturers also need to take the lead on pushing the limits of testing for severe service conditions and containing fugitive emissions.

Finally, material sourcing has shifted to low-cost countries. Chevron is a global company and, as such, we have a complicated global supply chain. We cannot simply focus on North American sources. Yet it isn't reasonable for us to devote the resources for managing individual relationships with hundreds of international sources. So we've got to consolidate our supply chain. We want distributors to help us optimize the global supply chain and take advantage of these overseas opportunities.

VM: Realizing that relationships work both ways, what is your company willing to do as an end user to build relationships in ways that also meet the needs of suppliers?

Anspach: To build the kind of supply relationships Chevron desires, we're willing to consider different models of integration with our distributors. We believe the more we get our suppliers integrated into our business, the more value Chevron gets.

For example, a distributor could manage our warehouse stocked with its material so that we can purchase products at the point of use. We realize that we're calling on a distributor to maintain specialized inventory in order to serve our needs, so we might be able to provide onsite warehousing where the distributor can optimize material handling and logistics, and ultimately lower its costs.

If warehouse and inventory management is one value-added service that distributors can perform for us, another service is for the supplier to engage with us early in the design process. Our major capital projects cost hundreds of millions of dollars. We want manufacturers and distributors involved early, where they can help us save money through value engineering and by setting realistic budgets at an earlier stage.

The tradeoff for providing more services is that manufacturers and the distributor become preferred suppliers, so that Chevron is in a position to substantially grow our business with them. But the trend is clearly that, as an end user, we need to rely more on our suppliers for technical support and for front-end engineering and design on our capital projects.

Our need for more technical support also includes product development for severe applications, because our production operations are moving toward higher-pressure applications, more handling of hazardous and corrosive materials, and more regulatory restrictions on fugitive emissions in our refining operations. Yet at the same time, we face a highly competitive global market where Chevron faces growing pressures to be a low-cost operator. So, again, we're looking for more alternatives to obtain lower-cost, high-quality material. The good news is that the quality gap between traditional manufacturing countries and low-cost countries is continuing to narrow.

VM: What does the future hold for relationships between end users and suppliers?

Anspach: I would say the overriding goal is to achieve low-cost, reliable operations. That being said, the keys to a successful supply chain can be broken down for each of the three parties.

Manufacturers must either differentiate themselves on reliability and quality-in a measurable way-or they must compete globally on price. Distributors must excel at optimizing the global supply chain and be able to deliver a broad range of reliable material and value-added services. And end users must be low-cost operators who excel at managing relationships with their national partners, suppliers, employees, and investors.

We have a desire to align with fewer suppliers, but to collaborate more closely with them.

So as the end user, we're making the call, rather than the manufacturer, on distributors who can provide the broad range of material needed for our operation. I think the industry will continue to see more consolidation, resulting in fewer but larger distributors and in more integration of the supply chain. But I believe this trend also means that end users, like Chevron, will have closer relationships and alignments with valve manufacturers.

Chevron describes our concept as a "four-plus-one" strategy. We believe that operational excellence, cost reduction, capital stewardship and profitable growth, together with organizational capability, equals superior performance and returns for all parties.

THE DISTRIBUTOR: Collaboration is Key

Gary Ittner is senior vice president of supply management for McJunkin Corporation of Charleston, WV, a provider of integrated supply services and industrial distributor of pipes, valves, and fittings.

VM: Why are supply relationships in the valve industry undergoing so much change today?

Ittner: To understand the evolving roles of the distributor and manufacturer, we need to first understand what is happening with the end user. As I see it, macro factors that are affecting end users are: consolidation in end user industries; the migration of purchasing function to corporate- centered purchasing; competitive environments or intense Wall Street pressure that is creating pressures to reduce costs; and the continued shift of end users' manufacturing operations to lower-cost locations.

With end users facing performance pressures from Wall Street, they've got to take costs out of the supply chain. So distributors at every level-large distributors, small distributors, manufacturer's reps-must show how they also add value. At McJunkin, we're focused on developing ways to measure the value of services we provide as a way of differentiating ourselves.

We're also encouraging and challenging the manufacturers we represent to come up with measurements to differentiate product performance. There really needs to be a methodology to measure lifecycle costs. But with the industry so focused now on first costs, we've got to find ways of getting end users' operations people more involved in measuring product performance.

As for end users, the increased pressure to reduce costs has caused them to react in several important ways. End users have reduced the amount of internal resources they devote to purchasing management and have instead leveraged their corporate buying power to consolidate their purchasing activities. They increasingly are considering materials from source countries that have not traditionally been accepted. And they are requesting additional services, including logistics and inventory management, from their suppliers.

These pressures have also created a certain tension in our supply chain, specifically regarding the nature of the relationship between the end user, valve manufacturer, and distributor.

Traditionally, the hypothetical has been: (1) manufacturer gives wholesale price to distributor; and (2) distributor gives price to end user and provides material handling and technical support. But today the model is moving toward a more collaborative, rather than segmented, set of relationships.

VM: What are some factors that end users, distributors, and manufacturers are challenged with today as they work together more closely?

Ittner: It's hard for a distributor to perform well unless we have "velocity" in our inventory. The economics of distribution require velocity, but that can be difficult if we have to maintain a dedicated inventory for a particular end user. We try all the time to educate end users on the complications of this model.

But we can't turn back the clock on globalization, and we can't remove the cost-reduction pressures that end users face today. So I think all the parties-end users, distributors, and manufacturers-can still win if we all work together.

Today, a world-class supply chain is more complex, but also more powerful, than the traditional relationship. The valve manufacturer and distributor can collaborate on demand planning, order aggregation, and the selling of products and features. The manufacturer and end user can collaborate on engineering, innovation, and product features. And the distributor and end user can collaborate on inventory management, logistics, and product selection. Overall, the three parties all collaborate on the end user's goal of quality, low-cost operations.

To make this relationship work, however, each player has some significant challenges. Manufacturers must improve core competencies in manufacturing, services, and solution-selling; improve their key processes, such as with raw materials, production, and subcontractors; and then develop means to measure the value they offer over the lifecycle of a product.

Distributors need to improve their core competencies, such as in logistics and systems; add more value through solution-selling, information flow, and other means; deliver cost savings to the end user throughout the supply chain; and improve performance measures.

Finally, as end users consolidate their spending with a smaller base of suppliers, they need to seek a balance between technical needs and commercial pressures, and then execute on opportunities to leverage their buying power.

VM: Can product costs continue to be reduced without compromising quality?

Ittner: The proliferation of nontraditional valve manufacturers and their acceptance by end users has become a hot topic in the valve industry, and one that presents challenges throughout the supply chain. Three factors are driving this. First, there's been a shift in decision-making from engineering to purchasing, so that today's emphasis is on the upfront cost of a product. Second, these cost-reduction pressures lead to a broader range of what product quality is considered sufficient and acceptable.

But third, I have to say that quality differences between traditional and nontraditional source countries have narrowed substantially. Every time that manufacturing has shifted to a lower-cost country, the country's manufacturing expertise has grown over time. When valve manufacturing shift-ed to Japan, or then to Korea, each time they eventually learned to make good products. That makes me believe today's low-cost manufacturing countries will also come through.

VM: Supply relationships have already gone through much change. How will they continue to evolve in the future?

Ittner: As I look to the future, I predict the current focus on "first cost" will move toward a realization of a "total cost" over a product's lifecycle. That depends, however, on elevating our ability as distributors and manufacturers to differentiate product performance and services in measurable ways.

Nevertheless, I believe end users could be willing to sacrifice some quality in order to reduce their costs. That means two things. End users will continue to push the envelope as they explore supply chains outside traditional models. And distributors and manufactures must shoulder responsibility for achieving hard-cost savings.

I think the trend toward industry consolidation will continue. So as a distributor, our continued growth at McJunkin depends on waking up every day and finding ways to add value to our customers and contribute to their improved profitability. The cost pressures from our customers are not going to go away.

THE MANUFACTURER: Educating End Users

Steve Twellman is president & CEO of Zy-Tech Global Industries based in Stafford, TX, a VMA member and manufacturer of gate, globe, check, and ball valves.

VM: How are changes in the supply chain affecting you as a valve manufacturer?

Twellman: As a valve manufacturer, our company today must have a two-part focus. The first is making quality products. The second is dealing with the transition in valve manufacturing to low-cost countries. End users are demanding audits of our quality processes, so we spend a lot of time performing these audits. Another factor increasing the time we spend on audits is the desire of many end users to pre-qualify potential manufacturers before one is finally chosen. That means we have to make sure that end users are comfortable with our quality processes.

The cost of conducting audits keeps increasing for us. Our hope is that end users will eventually have the trust and confidence that our quality processes will work, even when we move our sourcing. End users should identify manufacturers they can trust to deliver quality valves, over and over again.

As a manufacturer we must also have the flexibility to be able to supply the end user's chosen distributor. This can be a concern for us, because it means our company cannot always leverage the relationships we've established with certain distributors. As the supply chain is evolving today, we may have to deal with a distributor who has no established relationship with us. And we may have to supply product to that distributor on behalf of only a single end user. By contrast, our established distributors buy in volume for multiple users, and they buy items throughout our whole product line.

The result is that end users wind up paying for increased warehousing costs, which manufacturers and distributors must pass along to them. So in truth, end users are adding costs back into the supply chain rather than cutting costs. Often times, end users only look at the price of a valve. But there's more to it. Logistics and warehousing have to be figured into the price.

VM: How can manufacturers address the challenges confronting them as supplier relationships continue to evolve?

Twellman: End users today are trying to control all aspects of the supply chain. At the same time, consolidation is occurring among end users. So with fewer customers on the street, and with those customers wanting to control all of the relationships, today's marketplace presents some real challenges for valve manufacturers.

Valve manufacturers must do a better job of educating end users, so they'll understand how their practices can actually add costs. As manufacturers we've got to promote a better way of managing the supply chain, rather than today's practice of having to constantly divide our business among many different distributors. After 13 years in distribution and now 22 years in manufacturing, my view is that end users are "dissecting" the supply chain.

VM: What does the future hold for valve manufacturers?

Twellman: I think the future will continue to bring more consolidation among end users, distributors, and valve manufacturers. In the United States, the industrial markets are mature. These markets are only so big, and the size of the pie isn't increasing. At the same time, everyone's objective is to increase their own share of the pie. So consolidation will continue.

MARK WARD, SR. is president of Message Media Group in Greenville, SC. With more than 25 years experience, he has authored seven books and written more than 1,000 feature articles for some 50 trade, professional, and association magazines. Ward can be reached at www.messagemedia.us.