Inspire your suppliers

Sometimes even the most robust supplier compliance program just isn't good enough. Such programs may indicate how well a supplier is adhering to tactical supply chain requirements such as shipping and ordering. But they often fail to provide a complete picture of suppliers' performance or foster suppliers' commitment to long-term, strategic relationships. This was the conclusion that electronics retailer Circuit City Stores Inc. reached in 2002.

"Our compliance program was good at getting to the minimum level of performance with basic shipping and ordering requirements; however, it was not helping us align our overall objectives with our suppliers," explains David Marks, manager, supply chain for Circuit City. "For example, our compliance program gave us only a partial view of how a supplier's performance was impacting customer service levels, logistics efficiencies, and supply chain improvements—all of which were strategic to helping Circuit City have a more solid supply chain."

Article Figures

[Figure 1] Examples of scorecard metricsEnlarge this image

[Figure 2] Adoption lifecyle for retail industryEnlarge this image

[Figure 3] Examples of scorecard alignment with corporate goalsEnlarge this image

[Figure 4] Synchronization of scorecard and compliance policyEnlarge this image

[Figure 5] How does your supplier performance management practices stack up?Enlarge this image

[Figure 6] Calculating the perfect-order indexEnlarge this image

[Figure 7] Example of scorecard metrics split into four business attributesEnlarge this image

Circuit City was not alone in recognizing that it needed a more robust program for managing suppliers' performance. Sixty percent of respondents to a 2004 Aberdeen Group survey reported that improving the way they connect to, coordinate with, and monitor suppliers' performance is one of their top five supply chain priorities.¹ Supplier management is on their priority list because they have recognized that it gives them advantages over their competitors in terms of speed, reliability, and agility.

Other research efforts support this perception. A 1999 study by Alberto De Toni and Guido Nassimbeni found that a long-term relationship increases the intensity of buyer?supplier coordination.² This higher level of coordination can lead to significant benefits. For instance, in their 1999 Journal of Operations Management article, Amelia Carr and John Pearson argue that strategically managed long-term relationships with key suppliers have a positive impact on a company's financial performance.³

Yet for many retailers, supplier performance management has largely consisted of tactical efforts. Historically, retailers have managed supplier performance by using a type of penalty known as a deduction, or chargeback. If a supplier fails to adhere to a retailer's compliance guidelines, the retailer deducts money from the supplier's invoices.

For trading partners to realize the potential competitive advantage of closer coordination, the nature of their relationships must change from tactical to strategic. In our view, retailers can bring about this shift by focusing on the development and integration of supplier "scorecards." A scorecard is a performance measurement tool that summarizes a supplier's key performance indicators (KPIs) and metrics and provides a concise picture of that supplier's overall performance.

You can think of a scorecard as being analogous to your car dashboard, which has the critical indicators you need to get from Point A to Point B, such as your speed and your fuel level, as well as early-warning indicators (leading indicators, in effect), such as the "check engine" light. Like a dashboard, a supplier performance scorecard clearly and simply conveys a great deal of information in a small space.

While a good bit of data supports it, the scorecard itself usually contains only a handful of key performance indicators or process measurements. KPIs can include such measures as fill rate, orders satisfied, total demand, or even supplier creativity. The most effective scorecards will include both leading indicators, or forward-looking metrics (such as customer satisfaction), and lagging indicators, or historical metrics (such as return on investment). Figure 1 shows some examples of scorecard metrics currently in use.

While a supplier's monthly compliance deductions can provide clues as to how a retailer views its performance, the scorecard is a much broader performance measure. Scorecards will present the impact of all transactions for the period in categories that are important to the customer. Scorecards can also be customized to focus on the business value each supplier brings to the partnership, and they can include metrics that focus on broader strategic issues, such as enhancing customer service. This will enable greater strategic alignment between suppliers and retailers, which can be turned into a significant competitive advantage. Circuit City, for one, adopted this approach five years ago and has since seen a host of operational and financial benefits. (See the sidebar for the entire story.)

Beyond compliance programs
We are not saying that compliance programs should be discarded completely. Compliance programs clearly have had a positive effect on supplier performance, and retailers have seen better compliance rates. Even in 2003, a time when suppliers' sentiment against compliance was at its height, the Vendor Compliance Federation's "Compliance Readiness and Impact Assessment" member survey found that 77 percent of supplier respondents believed that compliance programs benefited their companies to some degree. The top improvements cited were greater focus on operational efficiency, forced technology investment, and improved customer responsiveness.

Yet compliance policies often are granular, change frequently, and vary from retailer to retailer. Typically the programs are only manageable for suppliers that limit the size of their customer base. Moreover, retailers claim that despite the adoption of compliance policies, the vast majority of suppliers still do not take a strategic, customer-centric approach to trading partner relationships.

Part of the problem may be the compliance programs themselves. The punitive nature of chargeback policies, plus yearly changes to the underlying guidelines, chip away at suppliers' confidence in their ability to invest in long-term relationships with retail customers. This leads retailers to perceive suppliers as being indifferent to long-term relationships.

Compliance policies can continue to play an important role in effective performance management programs. But companies should strive to use compliance programs and chargebacks on a limited basis, reducing the complexity of the program and focusing it on a few critical issues that truly drive up the cost of doing business with the noncompliant supplier.

By implementing a scorecard program in addition to their compliance policies, retailers will focus their performance management programs in ways that will foster long-term, collaborative relationships with their suppliers. Whereas compliance policies and associated deductions keep vendors thinking about such tactical concerns as whether they used the right type of hanger for a particular shipment of apparel, scorecards provide a mechanism for engaging suppliers in a manageable set of strategic priorities. By their nature, scorecards keep vendors focused on achieving near-term goals that are clearly linked to retailers' strategic priorities. And let's not forget that scorecards offer a concise, clear picture of customers' satisfaction or dissatisfaction.

Over the years, scorecarding has been gaining traction in certain industry segments, such as automotive, pharmaceutical, and software. According to another 2004 Aberdeen Group survey, 43 percent of respondents reported that supplier scorecards were a common practice at their companies, and an additional 37 percent said they were planning to implement supplier scorecards within the next 10 months.⁴

In the retail industry, however, the utilization of supplier scorecards is a relatively new phenomenon, and adoption rates are far below those in other industries. But as Figure 2 on Page 49 suggests, scorecard adoption is beginning to increase within the retail industry.⁵ That trend, moreover, appears to be picking up speed. In a June 2007 Retail Compliance Council survey of retailers, 78 percent of respondents that did not have scorecards indicated that they plan to introduce them in the next two years.

Over the past several years, a number of large retailers have introduced supplier scorecards. These retailers have recognized that compliance policies alone do not drive competitive advantage or lasting supplier partnerships. They are leading the retail industry into a new phase of strategic supplier management, where scorecards are but one tool used in supplier performance management.

Essential scorecard elements
As retailers implement supplier scorecards, they should make sure that they contain certain essential elements. Research indicates that scorecards should:

• Cascade from a company's corporate strategy.
• Provide a clear vision of what the company wants from its suppliers and how the suppliers' actions affect corporate objectives and goals.
• Link to customer-facing metrics. Scorecards should illustrate how suppliers' performance affects the retailer's ability to serve its customers.
• Measure critical functions across a broad group of business attributes. Examples include measuring the impact of out-of-stocks on customers and monitoring the retailer/supplier partnership by measuring totalcost trends.
• Synchronize with compliance policies and goals. Many companies have found it particularly beneficial to align supplier scorecards with corporate strategy and objectives. If, for example, the company's objective is to be the number one choice of its top customers, it might choose to measure customer satisfaction rates. A scorecard that supported this corporate strategy would link a supplier's perfect-order metric to the company's ability to fill its own customers' orders.

Figure 3 gives some examples of how corporate objectives can align with supplier scorecard metrics. This example is based on Ralph Kaplan and David Norton's "balanced scorecard" framework. A balanced scorecard is a performance measurement tool that integrates financial and process metrics to provide a comprehensive view of supplier performance. This view contains four key elements, or quadrants: financial, process, customer, and learning. Together, they provide a balanced view of the supplier.

What's involved in developing a scorecard? First, the retailer should ensure that everyone who is assigned to the project is intimately familiar with the company's corporate strategy and objectives. The scorecard team should also consider the most challenging issues that the retailer faces in its performance management program because those attributes will pose the biggest potential roadblocks to meeting corporate goals. For example, when home improvement retailer Home Depot implemented its scorecard program, it chose to use KPIs that focused on compliance with shipment requirements. These metrics emphasize the importance that Home Depot places on supply chain excellence, as outlined in the business guidelines it provides to its suppliers.⁶

The team should also synchronize compliance policies with the supplier scorecard where applicable. It is not uncommon for scorecard metrics to have corresponding compliance requirements. For example, advance ship notice (ASN) accuracy (or correct ASNs as a percent of total orders received) may be a scorecard metric, and the corresponding compliance measurement may be "carton content that doesn't match ASN," or "order received without ASN," or other specific requirements related to ASNs. As illustrated in Figure 4, scorecards typically utilize broader metrics than do compliance policies, which tend to focus on very narrow measures.

Our research shows that early adopters tend to have less than 35 percent of their compliance categories synchronized with their scorecards. As scorecards evolve, the number of compliance categories will be reduced and the two performance tools will become better aligned. The ideal would be to have greater than 75 percent of the compliance program synchronized with the scorecard.

Next, the scorecard implementation team should ensure that the scorecard's measures correspond with the needs of the retailer's end customers. These might be drawn from performance measures that the retailer has established with its customers, from customer surveys, or even from industry standards and benchmarks. This is important because poor supplier performance undermines the retailer's ability to meet its own customers' expectations

The team should also look at what internal processes need to be developed to support a scorecard initiative. For example, in order to have the data needed for measuring performance, the company's information systems may have to be modified and employees trained in how to gather, report, and use the data. A traditional "SWOT" analysis can be utilized to help identify strengths, weaknesses, opportunities, and threats in evaluating these internal processes. Figure 5 on Page 52 provides an initial benchmark that companies can use to assess how their performance management processes compare to best practices.

What and how much to measure
Following those steps will help a retailer figure out which KPIs to include on their scorecards. Because every retailer is different and has its own unique set of strategic objectives, different retailers' scorecards will include different measures and will assign varying levels of importance to those measures. Recent surveys, however, have shown that the most popular scorecard metrics track the following areas:⁷

• on-time delivery
• quality of goods and services
• service capability and performance
• price-competitiveness
• compliance with contract terms
• response
• lead time
• technical capability
• environmental, health, and safety performance
• innovation

Most retailers choose to focus on five to seven KPIs. But there's no need to stop there. Gottschalks, a regional department store chain, has expanded its scorecard to include more than 100 different measures, says Vice President of Distribution Marc Elmo. In order to manage this large number of measures, however, Gottschalks had to automate the evaluation process. "In the past, we only had 12 measures forvendor compliance," he explains. "But by putting automated processes in place, we now have over 100 … which allow our buyers to really see how a vendor is doing."⁸

Most retailers would probably agree that a supplier scorecard should address, at a minimum, the most challenging issues of supplier performance management, which include:

• Reliability in fulfilling orders on-time and complete;
• Ability to provide accurate, timely information for in-transit orders;
• Ability to electronically integrate orders and shipments to/from the supplier and retailer;
• Lead times; and
• Willingness to meet specific guidelines.

Just as there are no "right" KPIs or "wrong" KPIs, there also is no one "right" format for a supplier performance scorecard. However, all good scorecards have some similar traits that make them successful. Good scorecards are:

• Easy to read. They often use red-yellow-green color-coding, or a "traffic light" approach, as a quick way to rate performance against a target or goal.
• Cross-functional. Executive-level dashboards, in particular, need to look across multiple functions. For instance, a supplier scorecard may include metrics that monitor procurement, transportation, and warehousing activities.
• Balanced. They typically measure performance from multiple viewpoints.
• Reviewed regularly. Managers should update and look at scorecards at least once a month.

Start with the perfect order
From a practical standpoint, creating a scorecard that measures the attributes of the "perfect order" can be an effective starting point and provide a basic template for the development of vendor scorecards.

A perfect order is characterized as being on time, complete, damage-free, and having accurate documentation. While retailers often look for a variety of performance attributes, almost all agree that these four are the most critical, and almost all of them include perfect-order criteria in their compliance policies.⁹

Once a company has put its perfect-order metrics in place, it might want to consider creating a perfectorder index. The perfect-order index (POI) is established by multiplying scores for all components of the perfect order.

The traditional approach of looking at each KPI separately often gives organizations a false sense of good performance. For example, a particular customer's orders might have arrived on time 99 percent of the time, but if they were not all complete orders, the customer would still have been dissatisfied. By focusing on a more holistic approach, the retailer can calculate the total effect of a supplier's performance. In the example shown in Figure 6, a supplier has achieved 95-percent performance in each of the four perfect-order attributes. Total performance, however, falls to 81.4 percent when the four attributes are viewed together. Or to put it another way, only 81.4 percent of the orders received were on time, complete, damage-free, and had accurate documentation.

One company that has seen the relevance of the perfect-order index is Stage Stores, a specialty department store retailer. One key aspect of Stage Stores' scorecard initiative is a vendor-education program that reinforces the importance of the perfect-order measures and the vendors' responsibility to meet the perfect-order objectives. The company has developed a "vendor set-up" form that informs the supplier of the requirements for effectively conducting business with Stage Stores, including how the supplier will be measured against the perfect-order index, according to Gough Grubs, senior vice president of distribution and logistics.

While the perfect order serves as a good starting point, most companies will find that there are additional aspects of their suppliers' performance that they need to track. Supplier scorecards tend to categorize metrics into the following business attributes, as shown in Figure 7:

• Partnership or relationship metrics that seek to track the supplier's alignment with the retailer's objectives, such as their willingness to be cost-competitive and to provide innovative products and solutions. These metrics may also track joint supplier-retailer initiatives, such as joint process improvement, collaborative education and training, and improvements to technology.
• Customer-facing metrics that measure the impact of the supplier's performance on the retailer's customers. These metrics may include perfect order, stocking levels, and shelf-level fill rates.
• Merchandising and supply chain-related metrics that track the supplier's responsiveness and support of promotions and seasonal events.
• Compliance metrics that track how well the supplier is meeting critical performance measures that support the retailer's operations and whether the supplier lives up to agreements and guidelines.

Into the future
Designing a solid scorecard is only one step in a performance measurement effort; effective execution is equally important. A successful scorecarding effort requires continual attention and frequent revision. It also needs attention at the top, not just at the operating level. In other words, to prevent a scorecarding program from becoming just another proposal that was never implemented, retailers must have executive support within their organizations. It is very important, moreover, for the retailer to designate a passionate "champion" who can drive the process and prevent the scorecarding initiative from meeting an early demise. As milestones are reached during the scorecard implementation, it will be important to share this information throughout the retailer's organization to help maintain momentum.

Retailers increasingly are recognizing that a robust scorecard process can provide a clear competitive advantage. An effective scorecard will lead to more strategic supplier relationships, and it will reinforce those processes and attributes that are most important for the retailer. By using a scorecard to measure key supplier metrics, a retailer can align its processes to meet— as well as exceed—its customers' expectations, and thus provide a totally satisfying customer experience.

Endnotes
1. The Quiet Revolution in Supplier Management, Aberdeen Group, 2004.
2. A. De Toni and Guido Nassimbeni, "Buyer- Supplier Operational Practices, Sourcing Policies and Performance: Results of an Empirical Research," International Journal of Production Research, vol. 37, no. 3 (1999): pp. 597-619.
3. A.S. Carr and J.N. Pearson, "Strategically managed buyer-supplier relationships and performance outcomes," Journal of Operations Management, vol. 17, no. 5 (August 1999): pp. 497-519.
4. Supplier Performance Management: What Leaders Do Differently, Aberdeen Group, 2004.
5. Mark Jones, Managing by Scorecards—Digging Deeper, Trading Partners Collaboration, March 21, 2006: slide 8.
6. Home Depot Web site: https://suppliercenter.homedepot.com
7. Retail Compliance Council, Supply Chain Visions, Georgia Southern University, and Compliance Networks, Benchmarking the Perfect Order: A Comprehensive Analysis of the Perfect Order in the Retail Industry, 2005.
8. Retail Compliance Council et al: pp. 9-10.
9. Much of this section is adapted from Benchmarking the Perfect Order: A Comprehensive Analysis of the Perfect Order in the Retail Industry, a joint report by Retail Compliance Council, Supply Chain Visions, Georgia Southern University, and Compliance Networks.