The way to make money as a partner

A major medical supplies supplier is going from bad to worse. The company makes and sells a variety of medical supplies, but its mainstay products are relatively lackluster and are often subject to price wars. For example, a liter of regular intravenous fluid costs about $1, but to get a five-year subscription contract, it depends on whether the offer is $0.97 or $1.03.

Company sales representatives visit hospital pharmacists and buyers who are obsessed with keeping prices down, and rarely deal with hospital executives.

Once, several hospitals asked the president of the business unit to consider whether they could become a general supplier, that is, a "main supplier" that organizes the supply of goods from multiple parties, interfaces with the hospital through a warehouse base, and issues invoices together. The president assembled a small team and asked them to track the flow of products in several large hospitals from the point of receipt at the hospital to the point of actual consumption by the patient.

When the team mapped the system's channels, it found that the supply channels were fragmented and duplicated. In the first part of the process, the company takes the hospital order, selects the product, packs the product, sends it to the hospital, and issues an invoice. In the second part, the hospital signs the order, collects the goods, unpacks, places the goods in the storage room, and pays the fee. In the third part of the process, the ward of the hospital asks the storage room for the goods and places it in reserve.

The team conducted in-depth research on several major hospitals, mapped product flows and measured hospital operations. When the team put together the real-world scenarios, they found that if a product sold for $1 at the hospital's receiving office, when it was "delivered" to a patient's bedside, the total cost of the product became about $5. Of the extra $4, the hospital's internal supply chain costs accounted for about half, and other factors accounted for the other half.

This presents a disturbing scenario: More than 80% of the company's business is outside its traditional operating boundaries. The company has assumed that the boundary of its supply chain is the receiving point of the hospital, and has always assumed that this business definition is correct. But through communication and computer technology, and by extending the boundaries into customers' operations for mutual benefit, the company has seen more than 30 percent sales growth among its most mature and profitable customers.

The above is a real-world example of an operational partnership with a client. A "customer operating partnership" is a series of agreements between customer-suppliers that encompass an extended supply chain that is closely linked. The partnership also highlights a fact that many businesses overlook: that different customers contribute differently to profits. In most businesses, 20%-30% of the business provides most of the profits, but 30%-40% of the customers, products and transactions lose money. The key question is how to identify it.

Client-operating partnerships can generate significant benefits, including the following:

● Can generate 20%-35% market share growth even among the most mature and profitable client groups.

●Even companies that have become ordinary commodity suppliers due to frequent price wars can change their strategic positioning and become suppliers with distinctive service characteristics.

● Establish direct sales relationships with value-oriented account executives rather than price-oriented account purchasing managers.

●Build a competitive position with strong defense through switching costs.

Four Benefits of Partnering

The ideal customer is looking for a closer operational partnership with a smaller but more capable supplier. Price is no longer the primary deciding factor. This creates a huge opportunity to develop and deliver these collaborations.

Most businesses have the ability to develop this type of collaboration with their most profitable customers, however, it is critical to understand that appropriate governance must be in place.

In the previous example, the team found that by eliminating redundant steps and inventory, and changing the pickup, material management, and information processing systems, there was a huge potential for hospital-company economic collaboration. One-third to one-half of the hospital's in-house material costs can be eliminated, while the level of service provided to the hospital can still be significantly improved.

After negotiating with the target hospitals, the team built an initial operational partnership model, which they called a "no inventory system." As a first step, the team analyzed product usage patterns in each ward and identified inventory requirements. Next, they implemented the following steps: Company employees on-site took stock of each ward every day or every few days; the employees communicated this information to the company, which generated replenishment orders and packed the goods for exclusive use in each ward. Containers; then, the goods are delivered directly to the ward, where employees of the company place them in reserve; finally, the company issues an invoice to the hospital.

The "No Inventory System" had a huge impact on the company: it expanded the scope of value creation across the lengthened value chain, allowing the company to shift its sales focus from negotiating a price of $0.97 or $1.03 to creating large scale much more common value. It gives companies the ability to establish new competitive positions and become suppliers with distinctive service characteristics.

The "No Inventory System" brings huge strategic benefits to the company in four areas: cost reduction, increased sales, relationship with the CEO, and competitive advantage.

Cost Reduction The "No Inventory System" greatly reduces costs for both channel partners. The hospital eliminated several steps in the supply chain, greatly reducing inventory levels. Valuable space is freed up, and hospital personnel turn to tending patients. The company achieved unexpectedly large operational benefits, as the "no-stock system" eliminated the instability of hospital orders. Also, the "No Inventory Systems" business unit was hired to take over orders previously processed by Customer Service.

Increasing sales of sales companies, even to highly sophisticated customers, has grown substantially. The direct driver of this growth is the corresponding operational relationship formed between the ward head nurse and the company's ward coordinator. These coordinators are likable warehouse base shopping guides, not sales reps; near-perfect service levels allow reps to focus on selling new products rather than solving supply chain problems.

Relationships with Heads The business unit presidents were able to develop close working relationships with the CEOs of major hospitals, as the "no inventory system" involved huge cost savings and major changes, which led to several new and important initiatives.

Competitive Advantage Companies instantly build a strategic advantage over their competitors, enabling them to secure their largest and most profitable customers. A "no inventory system" operational partnership relies on four fundamental elements: customer confidence; demonstrated performance capabilities; company commitment and resources; end-to-end business agreements and corresponding operational relationships. Once the company has established this new way of doing business, it will be difficult for competitors to follow suit.

Five Steps to Partnering

Both companies and hospitals must make major changes in five areas, namely: customer selection, customer coordination, marketing non-stock systems, operations and management.

Company management realized early on that customer choice was critical to success. They have to choose their partners very carefully because the relationship is very close. Top managers carefully screen and prioritize their clients based on willingness to change, potential benefits, and operational fit.

In the old model, sales reps were the customer's primary point of contact, sales plans were confidential, and operations staff were often excluded. In the new relationship, business unit presidents formed a series of multifunctional account teams to plan and develop partnerships with key target customers. Once this client planning process is stable, he invites the client's manager to participate. Client planning no longer has a hostile content, but becomes a coordinated process to jointly advance the partnership.

The process of pitching an operational partnership to a hospital CEO is very different from the usual product sales process. As the partnership accompanies a new type of customer-supplier relationship, it requires close ties between the CEOs. The company made its first sale to a small hospital run by a particularly creative CEO, and then had other hospitals come to see the "demonstration." At one point, the division president convened a caucus of hospital CEOs and asked them to advise on how to market a "no inventory system."

Operational change is required in several areas. First, operations managers are fully involved in developing new operational processes and estimating benefits. They must even know the inner workings of the hospital better than the hospital staff. Second, operations staff must learn to manage the sensitive and discrete operational activities in the customer's business area. Third, supply channels must be reformed to deliver near-perfect service without incurring additional costs, requiring "stockless systems" free from intrusion by the rest of the company, or even large strategic customers. Fourth, operations must become more flexible to accommodate changing customer-partnership mixes, and operations managers must navigate complex dual distribution systems. Finally, operations teams must learn to participate in the multi-functional account planning process.

Since the "no inventory system" represents a new way of doing business, company management must take the lead in developing new, more open relationships with key customers. Operational partnerships increase the risk and cost of management because relationships are more complex, standards are more stringent, and a single failure can mean the loss of a major customer. Significant changes in management controls and sales incentives are required, as the "no inventory system" eliminates the end-of-quarter sales driver, which reduces inventory levels and short-term sales, which requires new incentives to encourage operations People are involved in sales.

The case of this large medical supplies company illustrates how customer operational partnerships can dramatically increase a business' market share among its ideal customers, improve its strategic positioning, and even enhance its asset productivity. Once a company has consolidated its key customers with operational partnerships, it is very difficult for competitors to cannibalize, and profits are not easily lost.

Significant changes are required. To be successful, companies must carefully segment their customer base, understand that only a few partners can develop close relationships, and systematically qualify target customers, while explicitly embracing a multi-level customer relationship system. They must also understand that the company's sales, operations and management processes must change in parallel.

The original text is reproduced with permission from Profit from Customer Operating Partnerships, HBS Working Knowledge, January 6, 2003. Copyright 2003 by Jonathan Byrnes (jlbyrnes@mit.edu).

Translated by Lian Qingsong.

Jonathan Byrnes is a Senior Lecturer at MIT and President of Jonathan Byrnes & Co., a professional consulting firm.