But What If the Customer Is Wrong?
But What If the Customer Is Wrong?
Industry Week September 2021
By Rick Bohan and Ron Jacques
We have written recently about the importance of seeing lean manufacturing as a means to improving customer value, rather than simply as a “cost reduction” initiative. Our view is that too tight a focus on cost reduction undermines the success of any lean initiative. We’re also convinced that increasing customer value is a better strategy in the longer run. Competitors can reduce their prices below yours. They can’t easily provide the same value as you do. A focus on improving the value delivered to the customer is sustainable; cutting costs isn’t.
But what if the customer is wrong? What if the customer makes demands that increase your costs and insists that it isn’t willing to cover those costs? It’s conventional wisdom that “the customer is always right,” but each of you can tell a story of customers who wanted diamonds but were willing only to pay for glass. Doesn’t our argument fall apart in those cases?
Our response to that question would be a resounding “No!” In fact, our view is that the benefits of lean principles and concepts are best realized in precisely those circumstances.
Ron once worked for a company that had a customer who insisted that its suppliers hold a year of finished goods for it all the time. The customer represented 10% of the annual revenues of Ron’s employer, so it had significant influence on its finances and operations. The demand that suppliers keep a year of inventory of the goods it ordered was based on its desire to be able to order any quantity at any time and get delivery quickly.
Let’s pause for a moment to reflect on the impasse that Ron seemed to face at this point. On the one hand, he agreed with his boss’s desire to meet the demands of an important customer. On the other, he knew that the hidden and not-so-hidden costs of keeping 12 months of inventory for that customer represented a significant detriment to his company. Any company in that position has several options:
- Drop the customer
- Raise the price to account for the increased cost
- Meet the customer’s demands without raising the price and take the hit on margin
- Improve operations so that the customer’s demands can be met without the increased costs
All four are viable options depending on a variety of factors. The first option might be preferred if the customer’s demands are extreme. The second if the price elasticity of the product is high. The third if price elasticity is low or there are strategic advantages to accepting a lower margin.
The fourth is, of course, the “lean manufacturing” option. It’s not a free or an easy option, but, when successful, it allows the supplier to meet the customer demands at a lower cost. It also builds capabilities within the supplier that can be deployed across the organization, providing a strategic advantage. If Ron’s company could meet the customer’s demands through process improvement that competitors could meet only by keeping large inventories on hand, it would realize an advantage in the marketplace.
Ron’s first step was to figure out the cost of the present method of meeting the customer’s expectations. Included in his calculations were the cost of additional storage, the cost of additional transportation to and from the leased storage. Ron determined these costs to be $6,000 per month, which represented a 2% hit to gross margin. Not included in his calculations were hidden costs that came from disruptions to manufacturing operations caused by the need to stage the product before being transferred to outside storage.
Ron and his colleagues were faced with a dilemma: Could the customer’s demands be met without reducing their own margin? They cut this seeming Gordian knot by applying “lean thinking” rather than simply tossing a few of the usual lean tools at the problem. In other words, they looked at how they could improve the velocity of flow to the customer.
First, Ron contacted the customer to tell them that they’d no longer keep a year of finished goods inventory on hand but that they’d guarantee no stockouts by working more closely with the customer with respect to inventory levels and production goals. After that, his company got rid of the inventory held in 3rd party storage. Finally, Ron made changes to his own warehouse that expanded storage capacity.
Within three months, the 3rd party storage was no longer needed, and picking/shipping productivity at Ron’s own warehouse had improved markedly. Other improvements included:
- More efficient order picking and inventory put-away,
- Better cycle counting (not previously conducted except for annual end of year inventory),
- An implementation of an “excess and obsolete program” to create more storage locations for active product, and,
- Deployment of warehouse housekeeping procedures to raise safety, protect product and maintain all facility related storage equipment.
Before the improvements, stock overflow from Ron’s warehouse had been put onto the shop floor creating significant disruptions to production. As conditions in the warehouse improved, those disruptions to operations were eliminated, which led to improved safety and a 10% increase in throughput. Most important, though, was the $600K in cash that was freed because of reducing inventory from 12 months to 6 months and a sharp reduction in transportation and handling expenses.
A past client of Rick’s was very resistant to the idea of reducing finished goods inventory of saw blades because the founder had based his strategy on a promise to ship within 48 hours of receiving an order, however large. Saber saw blades were offered in a variety of colors and the client kept large inventories of each color on hand. The manufacturing process involved heating and annealing steps that made the overall manufacturing cycle time long, so any thought of “JIT” production was discarded. On the other hand, the last manufacturing step, paint and dry, took only minutes even for large orders. Analysis of orders showed that the inventories of most saber saw blade colors was needlessly high. Inventories of unpainted blades were kept; total inventory of saber saw blades was reduced significantly with no reduction in service performance.
In each of these cases, customer satisfaction was paramount. In neither case, was an option to reduce customer service entertained. In both cases, process improvement was seen as the better and less costly means to meeting customer needs. The notion that managers face a choice between improving customer service and reducing costs is false. Both can be achieved but providing customer value must always come first.