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Quality Improvement Incentive Strategies in a Supply Chain

Nowadays, firms commonly focus on their core competencies while outsourcing other functions to the suppliers that possess particular technical and cost advantages. This outsourcing trend has yielded various forms of supply chain. In a typical buyer-supplier relationship such as an OEM (original equipment manufacturer)-CM (contract manufacturer) supply chain or a final assembler- supplier supply chain, the buyer determines the design specification of the product and delegates the production to a supplier. Therefore, the supplier should ensure compliance with the design specification of the product while the design quality of the product is specified by the buyer. However, the more sophisticated the competition among supply chains becomes, the more the buyers need to rely on their suppliers to keep up with the changing needs of consumers by improving time-to-market and operational efficiency. Therefore, the recent outsourcing trend does not allow suppliers to only focus on the quality compliance of their production process but requires them to also engage in product design, which entails investing in their own R&D capabilities. For example, Nike cooperates with its suppliers in product design while almost 100% of shoe production is outsourced. Similarly Boeing delegated complete control of the design and production of their parts to approximately fifty suppliers in order to reduce the development time and cost of its 787 Dreamliners. Apple has also involved many suppliers including Foxconn, LG and Samsung at the product design and development stages. Likewise, many of the store-brands or private-label products of retail and grocery chains are designed and made by agricultural and food manufacturers. Under these circumstances, a buying firm needs to find effective and efficient ways to control the supplier’s quality decisions, which affect customer demand and subsequently the performance of the overall supply chain.

The traditional supply chain a buyer is responsible for product design and maintains a transactional relationship with a supplier while a supplier is responsible for meeting the buyer’s design specification. Thus, in traditional supply chain quality management, the buyer typically uses a penalty scheme to control the conformance to design specifications in production. The recent supply chain trend in which the supplier is responsible for not only production but also collaboration with the buyer on product design, it is difficult for the buyer to maintain a short-term transactional relationship and furthermore difficult to impose a penalty scheme that is based on quality of conformance to the design specifications. In this situation, the more appropriate control mechanism may be a reward scheme that proactively facilitates the supplier’s quality investment and long-term creative efforts in design activities, rather than reactively punishing according to a penalty scheme.

Buyer needs to find a way to facilitate the supplier’s quality investment. Therefore, reward (or incentive) strategies that differ from the previous methods and addressing supply chain quality management. Moreover, it is rational and effective to impose a penalty to control the supplier’s failure to confirm with the specification.

However, we need to note that imposing a penalty can make the relationship adversarial and thus only proper when the buyer just maintains a short-term, transactional relationship with the supplier. On the other hand, if a buyer needs to build a long-term, mutually-beneficial relationship with a supplier as a strategic partner, not only a penalty but also a reward for the supplier’s high quality performance should be also taken into consideration.

Managerial insights and practical guidelines for implementing quality management in the supply chain are mentioned hereunder:

  1. When the market size is sufficiently large, the consumers’ expectation on product quality is not sufficiently high or the supplier’s marginal profit is not sufficiently high, the buyer can be motivated to provide the financial support to the supplier for quality improvement.

  2. Any incentive offerings enhance the overall performances of a supply chain. Regardless of whether the strategy includes a target quality level or not, any reward strategies will yield better quality, market and profit performances than a basic wholesale price contract lacking incentives for quality.

  3. When the buyer sets a target quality level to incentivize the supplier’s effort, the incentive offer makes the supplier respond to the market changes when making its decision on product quality.

  4. Using the reward strategy incorporating a target allows better market performance.

  5. Reward strategy with a target enhances the overall profit performances of the supply chain and helps to enhance and maintain the overall capabilities of suppliers in the context of long-term relationships.

  6. The target reward strategy is also more appropriate when consumers prefer a high-class product and when a market expands, consumers are more sensitive to product quality.

Overall, incentive strategies can help enhance overall supply chain performances. Reward strategies for better facilitating the supplier’s quality improvement efforts and furthermore improving overall supply chain performance in a buyer-driven supply chain should be devised to meet the expectation of stakeholders and remain competitive in the market.

Azhar Qadri

Supply Chain Expert | Operational Intelligence | Smart Manufacturing & Excellence | Supply Chain Optimization | Consultant and Trainer


Trainer and Consultant - SMEDA

Executive Member - SCAP

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