It’s no secret that the pressure to reduce input costs has led prime aerospace manufacturers to reexamine each element in the supply chain for both military and civilian aircraft. Aerospace gear manufacturers are no exception to the scrutiny. What seemed to be an elite element of aircraft in the last century is no more than a “commodity” now, subject to the same pricing pressures as more mundane, non-critical components. Benchmarked commodity prices are used by supply chain managers (i.e. buyers) who may have no experience with gears or even with machined parts.
The preferred strategy for reducing supply chain costs is to pressure suppliers to cut their prices, followed by a continued reduction of the supplier base. Supply chain managers who wring out price reductions from suppliers are retained, while those who don’t obtain “productivity gains” from their shrinking supplier base are soon dismissed. The stress of arguing their need for the gear supplier to reduce prices in the face of mounting production costs takes its toll on many of these mid-level commodity managers. An adversarial relationship is set up rather the “team” concept which was espoused at supplier seminars throughout the 80s and 90s.
Where is this trend leading, and what tactics can be employed by small to medium aerospace gear suppliers to move ahead?
No Let-up in “Productivity Gain” Demands
It has been said that “80 percent of the answers to your industry’s problems lie outside your own industry, and outside of conventional wisdom.” Assuming that is the case, looking at the automobile industry may give aerospace gear suppliers clues to the trends and strategies to put in place for keeping their “valued supplier” position with aircraft customers.
From 1997 to 2003, the overall average price reduction request coming from the Big Three automakers has risen from 3.7 percent in 1997 to 6.3 percent in 2003. Ford and DaimlerChrysler have been the most demanding, with requests averaging 7.6 percent and 7.5 percent, respectively, in 2003. Aircraft manufacturers learned from the automakers that they, too, could develop “strategic relationships” with suppliers and make annual demands for price reductions.
The terms of these relationships, or partnerships, generally provide for a quality system approval process, financial review, and pricing parameters that include absolute delivery dates and quantities. The annual demands for price reductions are often called “productivity gains,” with reported requests of 5 to 8 percent which, if taken to their logical conclusion, would mean the supplier would eventually charge “zero” for parts within 12 to 14 years. The auto industry has not demonstrated a sustained commitment to achieving lower input costs by any method other than by making demands. It is unlikely that aircraft manufacturers will provide methods for the supplier to find the ways and means to meet the pricing demands, and they will continue to make U.S. gear suppliers nervous with the possibility of moving their gear purchases offshore. In the auto industry, however, these pricing demands have led the Big Three to pare their supplier bases to only those demonstrating full compliance with all parts of the manufacturing process: engineering, production planning, pricing, delivery, and inventory management. U.S. aerospace is following suit.
A new study has found that European aerospace and defense companies have been struggling in this area during the last five years. According to Antoine Gelain, director and founding partner of High Strategy Ltd.–a London and Paris-based consultancy group which studied five years of financial and cost data–“Productivity gains seem to have stalled, while recent initiatives such as outsourcing, downsizing, and consolidation have not yet delivered the expected cost-efficiency improvements.” The data also revealed that pricing pressures from customers have led 30 percent of the European aerospace/defense companies to establish as their top priority cost reductions of 20 to 30 percent by 2006. This is greater than what U.S. gear suppliers are currently being asked to provide, so the handwriting is on the wall.
Increasing Demands for Supplier-held Inventory
Inventory models using some form of “just-in-time” delivery go back as far as Henry Ford at River Rouge. JIT fell by the wayside in America, but the Japanese reinvented it in the fifties. It wasn’t until the seventies that America got back into it with the auto industry, recognizing that predictability and repeatability were needed for profits to get off the inventory shelves and back into the bottom line.
As recently as a decade ago, “total quality management” and JIT were adopted by aerospace primes and sub-primes with requirements that their supplier base follow the quality and delivery bandwagon. Many gear suppliers fell off the bandwagon when they were not able to comply with the new demands. For years, they had made gears in quantities which allowed for setup time to be justified by delivery of the entire order at once. Payments were 30 to 45 days. The same order for 100 gears 10 years ago may now be 10 gears with one-piece delivery each month. The cost of processing and delivering the order has increased by a factor of 10, while the price has been reduced by 20 to 40 percent, and payments extended 60 to 90-plus days.
Increasing Movement of Gear Manufacturing Offshore
The recent World Gear Summit, held in conjunction with Gear Expo in Columbus, revealed some data indicating the extent of gear manufacture in Europe, Asia, and South America. Unlike the United States, specific gear types and quantities produced are tracked by agencies on those continents. In the U.S., gear manufacturing is part of aggregate manufacturing data. It doesn’t take statistical regression analysis to know that U.S. order numbers are decreasing, quantities per order are decreasing, and RFQs for aerospace gears are decreasing. Data for 2003 indicate that Airbus garnered 58 percent of worldwide aircraft orders, and 70 percent of the revenue. U.S. manufacturers are far behind the power curve at this point, with obvious consequences for the aerospace gear industry.
Gear machine tool dealers provide anecdotal data regarding the demand for their products overseas. The U.S. market is becoming less than secondary. The demand for gear machine tools is apparently unrelenting in Asia, and particularly in China. With gear fabricating technology in place, and with low-cost labor and government support, it would seem foolish for aerospace primes not to take advantage of the cost savings offshore. However, recent news reports of infrastructure problems in China may cause manufacturers to rethink some of their aggressive repositioning of contracts offshore. In the computer industry, customer service failures have resulted in a return of functions to the U.S. after units which were moved offshore demonstrated a lack of understanding of the “U.S. culture” when providing service.
Increasing Costs of Doing Business in the U.S.
U.S. gear companies are subject to a plethora of costs not encountered by firms in China and the former Eastern European countries. Escalating health-care premiums, workers’ compensation premiums, property insurance premiums, and ever-increasing creative taxes disguised as “fees” are present, to some extent, with all gear manufacturers. For aerospace gear suppliers, the cost drivers include increasing costs of documentation, increasing costs of quality audits and certifications, and daily diminishing margins for the gear portion of a part. For some gears, 100 separate and distinct forms and certifications may be required. These records may need to be retained for up to 30 years. As the OEMs pursue their separate quality standards requirements and business process automation models, the small to medium supplier is left trying to emulate and integrate each customer’s protocol into the supplier’s limited asset base.
As an example, one aerospace OEM’s Web site has listed the characteristics of a preferred supplier: (author’s interpretation italicized in parentheses)
1) ACE and lean manufacturing are in place and visible (You need to build it cheaply, using the latest methods)
2) Cost-competitive culture
- Commitment to year-over-year regressive pricing (You must sell it for less each year)
- Provide alternatives to reduce cost/add value (You must tell us how you make it cheaper and better)
- Understand the value of low-cost sourcing (You must use the cheapest suppliers so you don’t pass the costs on to us)
- Flexible cash terms (You must accept our slow pay)3) Short cycle times (You must rev up the speeds and feeds to cut costs)
4) Financially stable (You need to finance our inventory)
5) Progressive management, and clear and visible metrics (You give us the data we want, when we want it)
6) Provides on-time, defect-free products and services (You make every part perfect and deliver it when we want it)
7) Understands and utilizes Web-based paperless systems (It’s cheaper to use the Web, so get up to speed on B2B)
8) Registered to Aerospace quality specifications (You pay the auditor, you pay the registrar, and you pay for the annual renewal; we don’t survey you anymore, but you’d better be registered to the standards we require)
9) Strong commitment to environment, health, and safety (Don’t get mixed up with any OSHA or EPA problems because it would be bad for us)
10) Proactively seeks solutions to problems without customer intervention (If you mess up, you fix it–don’t bother us with it)With multiple customers who each have their own written requirements, the cost of compliance may seem daunting to a small gear manufacturer.Trend #5:
A Critical Drop in R&D Funding for New Military Aircraft Design
The Rand Corporation has concluded in a new report that “the most serious risk facing major prime manufacturers is not enough new military aircraft design and development work beyond the second half of this decade.” In light of this, the top three companies–Boeing, Lockheed Martin, and Northrop Grumman–won’t have the business to sustain an adequate core of engineers and technical managers to conduct technology development, prototype development, and tests of future system concepts. To keep all three alive, Rand researchers contend that new programs must be started soon. Without new projects, it is not clear that all three would maintain complex system-integration skills.
The interpretation of this trend for gear manufacturers is mixed. If older aircraft continue to be built, gear design will remain similar, with few steep learning curves. The crystal ball is clear, to the extent of the fallout from Rand’s predictions coming true: fewer projects, fewer new prototype gears and, ultimately, fewer production orders.
A Change in the Civil-Military Cycle of Orders
Following 9/11, the decline in commercial aerospace orders was staggering, while it was postulated that military orders would begin to make up the shortfall. According to the Aerospace Industries Association, for the first time since 1994, military orders are expected to exceed civil orders. Since military cycles are usually of longer duration than civilian cycles, the upward trend in military orders is likely to endure at least as long as the decline of the early 1990s.
Current scandals surrounding Boeing–ostensibly the largest U.S. aerospace manufacturer–will impact its receipt of military orders. This in turn will cause a domino effect to take place, with gear suppliers suffering from the fallout. Defense was Boeing’s most profitable business, and Boeing is angering its biggest customer. The new CEO has been called out of retirement and is committing himself to repairing that relationship. If he is successful, and Boeing receives the previously anticipated military tanker order, gear suppliers will benefit. If he is not successful, and Boeing’s weak financial performance and quality control problems in its commercial space division continue, aerospace gear suppliers to Boeing and its sub-tiers will suffer also.
A Permanent Change in How People Work and Machinery is Organized
Technology is becoming the unseen partner of every gear technician and gear business owner, with decisions at every step of the manufacturing and business processes becoming driven by data. In order to gather, report, and analyze this data, even the smallest manufacturer requires advanced tools and highly-trained personnel. The metrics or markers chosen to reveal progress (or lack of it) toward a goal may be individualized but should reflect the chosen metrics of the customer base.
Team-based processes for problem solving are moving from the classroom to the gear machine manufacturing floor, while in-station process control gives operators the responsibility to ensure defect-free products. Geopolitical changes and changing societal demographics have altered the face of the workforce. Multiple languages may be spoken in one plant, making the in-house education of a gear technician a costly challenge.
Ultimately, the trends give a glimpse of the future, but handling the pricing demands of today will be the greatest challenge of the aerospace gear supplier. Strategies to survive would include taking another look at the automotive industry data of supplier reactions to customer demands over a five-year period. Rationale that helped suppliers protect their positions included:
- Being the low-cost supplier–a great position to be in, but not one that many can claim.
- Use of a unique manufacturing technology that makes comparison difficult.
- Critical components embedded in complex systems–harder for OEM to re-source.
- Existence of previously negotiated multiyear contracts with annual price adjustments downward-compromise on the amount of decline from an average of 2.1 percent in 1997 to 3.6 percent in 2003. Refusing to reduce prices resulted in repercussions.
- Credit for de-contenting of the product toward annual price reduction.
- Steel tariffs, required sourcing, volume alterations, and rising insurance rates were factors in the negotiation but did not result in fewer demands for price reductions by the customers.
- In some cases, suppliers were able to use rationale which protected their position. Individual transactions may not follow the macro path.This is where gear suppliers may have the best chance to retain their place in the customer’s vendor base, by keeping relationships with any customer representative positive and collegial. Business is still a people-to-people venture, but in aerospace gears, the precision and pricing requirements are not negotiable unless the supplier has a unique advantage. Sometimes that advantage may be skilled employees who interface with customers in a manner that yields outcomes outside the required parameters.Often overlooked as a key tactic for survival with large customers is the strategy of modeling manufacturing processes after a customer perceived to be the most successful. That may mean outsourcing more of the part including those processes you considered your core competency. New skills of supply chain management and enterprise resource planning are needed and require top-down management commitment in order to leverage the scarce resources of a small shop.Manufacturers who are in rigorous pursuit of cost-cutting opportunities will find the game to be a draw, if not a win-win situation. There is room for true productivity gains in every activity, from the shop floor to the Web site. Using internal metrics and training all members of the team–operators as well as middle and upper management–in the ratios which show profitability will translate into activities which mean success. Sales per employee, profit per gear, and percentage of reduction in outside costs on the same part over the previous lot all reveal a trend for growth. For companies to fully implement the structural changes that are needed, they will have to begin using different models, or “levers,” and this will require them to adopt new approaches to managing their costs. The goal should not be to improve on existing industry cost curves, but to reach new cost curves altogether.
Automation, technology, training, material-flow analysis, ERP, and negotiation training all play a part in this new objective restructuring. Recognizing the complexity of the supply chain for aerospace means there are no “quick solutions” to the trends of today. Competitive differentiation requires time and analysis, and a willingness to try new tactics. A capable, competitive supplier who uses all available technology and knows his firm’s strengths and weaknesses is well along the path to “premium supplier.” As the futurist Alvin Toffler wrote, “The illiterate of the 21st century will not be those who cannot read and write, but those who cannot learn, unlearn, and relearn.” These are words that we should all keep in mind in our quest for continued success.