‘Trust and transparency in the supply chain’ is in many industries a phrase with the same credibility as ‘the cheque’s in the post’, and ‘I’ll still respect you in the morning’. But, like the latter two, it might sometimes even be true.
An oft-touted technique for creating trust and transparency is ‘open book costing’ (or ‘accounting’); but a recent survey suggested that, while 28 per cent of industry buyers want to trade open book with at least half their suppliers, very few had managed to get more than 10 per cent of them on board. And there is much anecdotal evidence to suggest that where open book has been introduced, it is typically in the form of a buyer-imposed initiative to drive prices down, rather than, as it is supposed to be, a joint attempt to identify the cost drivers in the whole supply chain and do something about them.
Indeed, this distortion of open book has become so marked that researchers at Bath University’s Centre for Research in Strategic Purchasing and Supply, in their recent ‘Transparency Project’, draw a distinction between open book and transparent relationships. Open book they characterise as one-way – the customer demands sensitive information from the supplier but gives nothing except scheduling data in return; the supplier has to reveal costs without the customer having to show why. And the benefits are unbalanced – the customer gets lower prices, the supplier may just get to keep the business on a lower margin.
But in fact, customer-imposed open book doesn’t necessarily even yield lower prices: suppliers will inevitably ‘corrupt’ sensitive data to hedge the risk to their profit margins. In sectors such as civil engineering, suppliers routinely quote, with full cost disclosure, on the strict basis of the specification, and naturally neglect to mention any elements that the client has forgotten to include in the ITT – these become lucrative ‘extras’.
A crude approach
And a crude approach to open book can work the other way – it can reveal that the supplier has been undercharging some elements, (perhaps because the contract has been riding on the back of another at marginal cost, rather than fully apportioned overhead) or providing ‘free’ services.
What results very often is a vicious cycle of pricing – as explained at a recent Institute of Grocery Distribution conference in London by the multinational contract caterers Compass and one of their specialised logistics service providers 3663 Foodservice. Unrealistic recovery rates (for example, the same margin, rather than cash amount, on low value goods as on high) leads to excessive cost-cutting; which produces operational ‘wobbles’ (there’s no cash left in the system to buy your way out of difficulties); hence poor customer service; leading to expensive service recovery measures and everyone including clients, distributors and, in this case the poor saps in the works canteen, are unhappy and out of pocket. The relationship resulting from this ‘one way’ open book working is almost bound to be unco-operative, adversarial, and inefficient.
The over-arching problem is that most buyers don’t distinguish between open book, and a cost-plus contract (which is really what we have been describing). In the latter case, the buyer uses any means at his disposal to find the lowest possible base cost and then graciously allows a profit margin (typically, lower than the supplying business needs to do anything more than simply survive).
A proper open book relationship – what the Bath researchers call a transparent relationship – is less concerned about what costs are and more about what costs should and could be. This requires a two-way relationship; one where both parties’ requests for information are justified to each other’s satisfaction. The process would be focused on specific opportunities to reduce cost, time and waste. The results could include truly shared risk, less incentive for cheating or creative accountancy by either party, and cost-effectiveness: both because ‘fiddle-factors’, margin massaging, and all the waste involved with spotting and challenging these things can be stripped out, and because an analysis of real costs and their justification, on both sides, will almost certainly point to areas for improvement.
Logistics and transport should be a natural initial arena for these transparent business arrangements – there tends to be a greater degree of mutual interdependence anyway. How could this look in practice? To take the Compass/3663 case again, the relationship depends on, on the one hand, the distributor receiving agreed and signed off data from the client – volume, range, seasonality, delivery profile, average drop size and (crucially) equivalent relevant information on the client’s own suppliers. In return, the distributor offers a budget based on KPIs reflecting people, wages, vehicle costs, phones, shrink wrapping and so on, plus a management fee. The process then requires negotiation and agreement of the budget and KPIs, and also (in this case) daily and weekly reporting (both ways), accounts, reconciliations etc plus an ongoing programme of cost reduction projects, and debates on service and cost.
In terms of work – of management outlay in time and money – this true open-book arrangement is about a light-year from the one-sided ‘let’s see how his costs break down; can we screw him on this; can we cherry-pick the profitable bits and bring them in house?’ approach. Buyers that claim to want an open book arrangement with half or more of their suppliers are therefore either lying or they don’t understand what the benefits of a real open book relationship are.
- Open book is supposed to be a two-way process for mutual improvement. This is not the same as a client demanding information solely in order to impose lower prices on a supplier.
- Customer-imposed open book deals often have perverse effects, encouraging creative charging and prompting charges for services previously provided gratis. A true open book arrangement only makes sense for significant contracts that are likely to be long term.
- There will almost always be areas where open book can’t go: generally because it would require a supplier to breach another client’s confidentiality.