CASE STUDY: INTEGRATING GLOBAL ENGINEERING AND PROCUREMENT
AT AIR PRODUCTS
Air Products, an industrial chemical producer headquartered in the U.S., designs, builds, and operates air separation facilities worldwide. Unfortunately, industrial buyers increasingly view the company’s primary products as commodity items, which, along with intense global competition, have created extensive downward price pressures. Product prices in real terms are equivalent to levels not seen since the early1980s. This has created the primary challenge that Air Products faces—margins are declining yet the company has made strong performance commitments to investors and financial analysts. Executive management has concluded that the company must lower facility-related costs by 30% to meet financial and operating targets.
Air Products has historically operated as an engineer-to-order company, which implies a great deal of design work customized to each new project. New facilities have largely been engineered without considering previous designs or leveraging commonality across the company’s two major design and procurement centers. The company’s objective has now shifted to entering the global marketplace as a single integrated company. Pursuing this objective resulted in the development of an integrated engineering and procurement process involving U.S. and European centers. Even if the U.S. and Europe required a similar or same item (which was often the case) or designed the same facility in terms of process technology, each would have separate material specifications and contracts developed by engineers and procurement specialists who did not coordinate their efforts.
During the latter part of 1999 Air Products introduced a global process that proactively integrates and coordinates common items, processes, designs, technologies, and suppliers across two worldwide buying and engineering centers (North America and Europe). This case reports on the efforts of Air Products to pursue a globally integrated approach to engineering and procurement.
Development of the Air Products Global Engineering and Procurement Process The primary driver behind Air Products global engineering and procurement process is the need for cost reduction. This process evolved as senior engineering managers expressed a desire to gain advantages from “globalization” but were not sure what this meant or required. The vice president of engineering believed that the potential benefit of standardizing component designs and then using the procurement process to realize performance gains through leveraged sourcing with global suppliers could be significant. Recognizing the important linkage between engineering and procurement resulted in the development of the Air Products global engineering and procurement process.
Responding to the call to “globalize” engineering and procurement, a director of global projects and logistics supply assembled a leadership team to develop, sell internally, and launch a global process. This leadership team has evolved into a committee with a full-time globalization manager assigned to oversee the process. A major part of the process development effort involved several procurement managers working together to define the concept of globalization and assume responsibility for creating a global engineering and procurement process, which required 3-4 months.
The global process at Air Products involves more than identifying similar items or commodities that have a global application. Each project involves an extensive analysis between the U.S. and European design centers to determine areas of commonality and synergy. A cross-locational team, with members from the U.S. and Europe participating, develop specifications that satisfy the needs of both design centers. While the process started with focused commodities, subsequent projects have become broader in scope once the cost-saving possibilities became obvious. Although the primary focus of the global sourcing effort involves commodities associated with plant and technical processes, telecommunications, travel, and some purchased chemicals are now part of the global process. Exhibit 1 highlights the main features of Air Products’s nine-step global engineering and procurement process.
Air Products has several advantages that increased the chances of global engineering and procurement success. This company has historically organized its purchasing group by commodity with a strong central focus. Although it operates facilities around the world, the practice of making decisions at one or several locations is not usually resisted. Decentralization, which often affects how well global sourcing contracts are accepted at site locations, is fortunately not a concern at Air Products.
Air Products is also quite effective at sourcing and supply chain measurement. The company assesses the effectiveness of its global engineering and procurement process in four ways: direct savings realized from global agreements, ratings of global supplier performance, supplier ratings of Air Products as a customer, and evaluations of team members and team performance.
Global Engineering and Procurement Contracts The first round of global projects involved twenty agreements, ranging in value from several hundred thousand dollars to $5 million, with total annual expenditures of $25 million. These agreements, which are three-year single source contracts, are providing 20% cost savings on average compared to previous contracts. Managers view the global process as continuous because agreements will be renewed on a predictable basis. The company’s aggressive three-year goal at the start of the process was to reach 20, 50, then 80 new global agreements over a three- year period.
Organizational Support MechanismsThe Air Products global engineering and procurement process has been successful due to the organizational support mechanisms put in place to guide the process. An executive steering committee, an operating steering committee, a globalization manager’s position, and cross-locational teams have all been established to support the process. The executive steering committee consists of senior managers from engineering, procurement, and operations with a finance representative participating as required. This committee, which brings higher-level commitment and exposure to the process, has responsibility for allocating the budget that supports the globalization manager’s staff along with travel and living expenses for team members incurred during the development of global agreements.
A full-time globalization manager, a procurement manager (who commits 15% of his time to the global process), and a director of worldwide sourcing (who commits 50% of his time to the global process) comprise the core operating steering committee. This committee is joined in a weekly teleconference by a capital equipment supervisor from the U.S., a control systems (instrumentation) supervisor from the U.S., a capital equipment supervisor from Europe, and the globalization manager’s counterpart in Europe. Global sourcing project teams do not talk with the committee at this time—this meeting involves the internal steering committee only. Committee members maintain that this group has a good fit between the managers and areas represented. While the group communicates formally each week, informal communication occurs daily to address a broad range of issues.
Consensus exists throughout Air Products concerning the importance of the globalization manager, a position created specifically to oversee the global engineering and procurement process. This manager, who is also the operating steering committee leader, is a well-respected engineer, not a procurement manager, with 25 years of experience. He reports to the vice presidents of engineering in Europe and the U.S. This is important since the two design centers must work closely during global projects. He has located his office and staff with the procurement group at U.S. headquarters, which facilitates teamwork and trust between functional groups. The manager’s salary, along with that of his staff, is charged directly to the globalization manager’s account number. While his account also pays team member travel and living expenses incurred during a project, member salaries remain an obligation of the members’ procurement or engineering group. The budget committed to support the global process has recently doubled as the number of new projects increases dramatically.
Air Products relies extensively on cross-functional/cross-locational project teams to support its global projects. Teams are formed and chartered by the operating steering committee to develop global strategies and contracts. These teams, each consisting of 4-6 members, have responsibility for determining which suppliers will receive formal proposals or bids and then proposing and negotiating a global sourcing strategy. An engineering representative from the U.S. and one from Europe, called specifiers, work full-time to develop standardized specifications between design centers. Time commitment can be an issue for the two buyers since team assignments are in addition to regular job responsibilities.
The globalization manager solicits team participation through each member’s functional manager, a responsibility that he feels is one of his most important duties. If a steering committee selects a commodity for a global sourcing project, then the buyer and engineer closest to the commodity are invited to become team members. Engineering is responsible for developing specifications and evaluating the technical responses from suppliers while procurement evaluates the commercial issues.
Each project team works directly with the globalization manager to develop milestones and expected completion dates. Teams meet face to face on a monthly basis, which is impressive considering that each team has members from two continents. At these meetings, and informally throughout the process, teams update their milestones. Updates may also occur through team conference calls. A steering committee member receives regular team updates and reports the status of each project on the Air Products intranet.
Project teams perform supplier site visits as necessary using an ISO 9000 procedure and internal support documents to guide these visits. Perhaps the most important responsibility performed by these project teams is the development of a hypothetical best material cost model that identifies where savings can be realized. Savings occur primarily in three areas: material design savings, currency savings, and savings due to leveraging and opening the commodity to competition. The on-line manual available through the company’s intranet provides a cost reduction methodology to support this exercise.
Project teams disband after negotiating a global agreement. At that point the buyer who is closest to the commodity has responsibility for executing and maintaining the agreement. This buyer may have been a part of the team that crafted the strategy. Disbanding a team at this point of the process is not unusual. Many of the companies visited during this research assigned another group or manager the task of executing and managing the global agreements.
Use of Information Technology The global engineering and procurement process has benefited directly from information technology support. Project teams can easily retrieve historical purchase data for a commodity from a data warehouse and evaluate volumes given new plant requirements, alleviating some of the data collection burden typically faced during global aggregation efforts. Air Products has been recognized as a world leader in its innovative use of information technology systems.
The operating steering committee, with support from information technology personnel, has placed a number of global sourcing support documents on the Air Products intranet. A sample of these on-line documents include a global engineering and sourcing process outline; a procurement strategy development template; a contract terms and conditions checklist; a global status report on completed, in-process, authorized, and future ideas; a request for proposal template; and currency risk-management guidelines.
Global Engineering and Procurement Risks and Benefits Managers who are most familiar with this process have identified some major benefits and risks to global engineering and procurement. The primary benefit, of course, is material cost savings that are averaging 20% compared to regional agreements. Managers also argue that transaction costs savings, not easily measured like material costs savings, have been realized due to maintaining fewer suppliers and less competitive bidding and analysis over the three-year agreements. Furthermore, engineering design savings are being realized as the process fosters a common set of specifications between design centers. Part number specifications are also becoming better known as they are communicated throughout the company. This allows site users to order requirements directly from suppliers without procurement involvement, allowing procurement to focus on other value-added activities.
The communication and integration required during a global project has positively changed the perspective of the European design and procurement center. The Europeans now examine initiatives in terms of cost reduction, supplier accountability, and procurement process productivity, which are the three criteria used by the U.S. center. Previously, the European center took a more limited cost perspective.
Global engineering and procurement also presents risks. Shifting from a regional to a global perspective almost always results in the use of supply sources that are unfamiliar to some or all of the company. These agreements often feature a change of supplier, which requires the development of new supply chain relationships. Furthermore, transitioning from one supplier to another, or from one set of part numbers to another, requires time and creates administrative and transaction costs. The company is also increasing dramatically the number of global projects it expects to undertake, which some managers fear will be difficult to support. Finally, it is also not unusual for companies to budget anticipated savings from global contracts when developing capital plans for future facilities. What are the effects if the savings are not realized at the budgeted or anticipated level?
Those involved with the development of global agreements have found that a higher level of learning is required to initiate a process as complex as this one. Global agreements demand greater expense and time to prepare for and negotiate, contain additional terms and conditions, require detailed analysis of supplier proposals, and require a major effort to standardize and communicate specifications between worldwide design and procurement centers.
Even with these issues executive leadership at Air Products considers this process to be one of the key internal processes the company has in place today. This perception has elevated senior management’s expectations, which partly explains the aggressive global sourcing improvement targets established for 2004 and beyond.
Assignment Questions
1. Describe Air Products global engineering and procurement process.
2. When forming cross-functional/cross-locational teams, what are some of the planning and team formation issues that Air Products executive managers must consider?
3. What will it take for Air Products to achieve its aggressive target in terms of new global contracts?
4. Discuss how Air Products Chemical has used information technology to support its global efforts.
5. Create a job description for the globalization manager’s position. Be sure to be explicit about his or her responsibilities.