Chrysler

Summary of the article

In the 1990`s there was a growing trend among U.S. manufactures to copy Japanese supplier practices in order to cut their production and component costs. By reducing their number of suppliers, focusing on just in time deliverances and quality control with the remaining, they experienced large improvements in efficiency and cost saving. However, most manufacturers still continued to have adversarial relationships with their suppliers. Suppliers where picked on the basis of price through a competitive bidding process, and had little or none influence on the manufacturers design process. The relationships where limited to short Ð'- term contracts, with no agreement of further cooperation beyond the set period.

Automobile manufacturer Chrysler realized that in order to obtain even greater benefits from their supplier arrangements, the suppliers had to be involved in the production design. To manage this Chrysler Corporation had to alter the nature of the relationship with their suppliers. The result was a modified form of the Japanese keiretsu model.

In the mid 1980`s Chrysler was on the verge of a crisis. Financial problems and cars which lacked appeal in the target group meant that something had to be done. By benchmarking their Japanese competitors, and using the experience of new acquisition American Motor Corporation (AMC), Chrysler where able to identify a better way to organize their supplier arrangements. This meant a closer and more equal relationship to their suppliers. They started to involve their suppliers deeper in the production and design process, giving each a clearer responsibility for their own component in the system. In order to cooperate, Chrysler had to start paying attention to their suppliers' wants and needs. In this regard the SCORE (Supplier Cost Reduction Effort) program was implemented. The goal of this program is to help both suppliers and Chrysler to reduce system wide costs without hurting suppliers' profit. This program in addition to better communication and coordination routines makes it possible for Chrysler's suppliers to engage in long term contracts with increased profits in comparison to the previous supplier agreements. The new supplier Ð'- management practices have been a success, helping Chrysler in several ways; Shortened the product development cycle, reduced the overall costs of the vehicle program, reduced the transactions costs and increased the market share and profitability.

What problems did Chrysler meet with its previous supplier arrangements, and why did those problems arise?

With their previous supplier arrangements Chrysler relied on market governance. The suppliers where picked through a competitive bidding process, where the supplier offering the lowest purchasing price won the contract. The contracts given where short Ð'- term, and the coordination and communication between the parties where kept at a minimum. The suppliers had sole responsibility for their components and had no further part in the production process. This government mechanism proved to be inadequate for Chrysler in their situation. The lack of cooperation with the suppliers resulted in a long and expensive production process, which consequently meant that Chrysler lost money and market share.

When using a competitive bidding system in order to achieve low purchasing prices other costs might be overlooked. There exists cost, which in some cases might be substantial, associated with using the pricing system. These costs have ultimately to be recovered through the price (Biong and Silkoset 2006). By consequently choosing the lowest bidder and further ignore other aspects regarding the choice of supplier, Chrysler ended up with high overall costs of the vehicle program, which they failed to cover through the low supplier prices.

Transaction Cost Theory is built on the assumption that market governance is more efficient than vertical integration due to the benefits of competition. However, certain dimensions of transactions raise transaction costs and combine to create "market failure", making vertical integration more effective than market governance. These dimensions are asset specificity, uncertainty and transaction frequency (Geyskens, Steenkamp and Kumar 2006). In regard to the Chrysler situation asset specificity is an especially important aspect; In order to make their cars Chrysler relies on specific physical assets from their suppliers. These are parts that are customized to a particular Chrysler model and have little value outside the suppliers' relationship with Chrysler. Under its old system when the suppliers where separated from the actual development process Chrysler often encountered problems having to change parts after altering the prototype. This meant that the suppliers had to make changes on components already produced, or that Chrysler their self had to manufacture parts they had not designed. In order to safeguard these problems Transaction Cost theory suggests vertical integration prior to market governance.