Project Management Software

Incentives and the management of suppliers

The final set of operational issues facing supply managers concerns the management of the chosen vendor itself. Supply management involves two issues:

relationship management and

contracting.

Relationship management concerns how the buyer and seller are going to interact on a day-to-day basis. Is the association between the two essentially going to be an arm's length one, or is something closer going to be called for? If the firm has opted to pursue a value-adding relationship then presumably close interaction is required. The contracting parties will need to trade information, mutually adapt their processes, etc, so the maximum value-adding potential is achieved. At the same time, relationship management will also involve managing the tensions that exist between the two. Some forms of cooperation, for example, might be deemed neutral in the sense that they add value to the relationship without disturbing the commercial balance within it. Other forms of cooperation, however, are far from neutral. For example, if the buyer calls for the supplier to open its books, then the buyer is acquiring a considerable advantage over its supplier in that it now knows just how much money the supplier is making from the deal. Bother buyers and sellers, therefore, want to manage the relationship so that it adds value but does not tip the balance of power the wrong way.

In contrast to relationship management that tends to contain a value-adding element as well as a controlling element, contracts are primarily about control. They are about specifying in a legally binding way the manner in which buyers and suppliers are to work together, ie who is responsible for doing what. They are also about specifying (again in a legally binding way) the outputs of the relationship ' what the supplier is expected to deliver, what the buyer is expected to pay and which party owns the rights to any exploitable technologies or processes should they emerge from the association.

Conventional contracts take two main forms: tight and flexible (Williamson, 1985). The shift from tight to flexible contracts tends to occur as the risk within the relationship increases. Risk, in this context, has a very specific meaning. It refers to events that can be foreseen but that have a probability of occurring of less than one but greater than zero. Where the probability is one or zero (ie the outcome is certain), this means that an element of a deal can be specified (or ignored) with total confidence. This allows the parties to use a tight contract. For example, if an Project requires laptops for a hundred employees, it is relatively easy for it to specify when it wants the machines, what it will pay and what level of after-sales support it will need.

By contrast, where there is a lack of clarity surrounding particular aspects of the deal, but where the lack of clarity falls within clearly defined limits (ie where the probability is between one and zero), the parties may seek to include a flexible element to the contract to take account of this ambiguity. This allows the requirement/reward relationship to be adjusted in a predictable way. For example, an Project requiring the development of a new piece of software may know what is needed but may not know how long it will take to develop the new product. Because the Project is aware, however, that the main variable driving cost will be the labour hours required to develop the software, the terms of the contract are set out to reflect the range of potential effort levels.

However, some events are genuinely uncertain in the sense that they were not or could not have been anticipated prior to reaching the original agreement. Such events may range from occasional but devastating acts of God (or people) to the more mundane. For example, many IT agreements are entered into before the requirement has been properly worked out. Under such circumstances it is simply not possible to draft a contract flexible enough to take account of all future possibilities. In the place of contracts, therefore, firms must use relational agreements. The purpose of such agreements is to provide a structured framework within which the terms of a deal can be renegotiated as the future becomes clear.

Although a buyer'supplier relationship may largely consist of one of these control mechanisms, on occasion it can contain elements of all three. For example, short-term, arm's length relationships tend to call for tight contracts but may include a subsidiary element. Longer-term arm's length relationships tend to require the flexible element to increase. Long-term cooperative relationships (whether they are adversarial or non-adversarial) tend to call for all three.

Of course, while contracts aim to serve as instruments of control, whether in fact they succeed in this function depends on the ex post power balance. As we saw in our discussions on outsourcing and contractual risk, if the buyer loses his or her power then the contract may not be worth the paper that it is written on. As the political philosopher Thomas Hobbes once put it, 'contracts without the sword are but empty breath'. In the case of a tight or flexible contract the threat of the courts is only credible if they can be accessed at relatively low cost and if plaintiffs believe that they have a good chance of winning. Where fault is ambiguous or where an agreement has been poorly drafted, then the use of a contract as an incentive mechanism will start to break down. The reluctance to use this mechanism may then be further eroded by the fear that, if a plaintiff fails to make an effective case, the plaintiff will also be saddled with the costs. In addition, the party may also have to manage a disintegrating relationship while a replacement is found ' assuming that one can be found in a timely manner.

In the case of relational agreements, where there may be no contract or at least where the terms of the contract do not cover the issues in question, the courts may not be an option at all. Neither might be the termination of the agreement. This is because the incidence of significant sunk and switching costs in arrangements that are likely to require a relational agreement tends to be quite high.

Conclusion Note:

Exchange takes place in the first instance because it is mutually profitable. Closer forms of cooperation occur because they can increase this level of profitability. However, mutually profitable exchange is not the same as equally profitable exchange. Buyers and sellers are competitors as well as collaborators. Consequently it is important for supply chain managers to understand the following things. First, they must understand when it is not sensible to exchange (that is, when exchange imposes unacceptable levels of strategic and contractual risk). Second, they must also understand (when it is sensible to exchange) how to craft the incentive structures that will maximize the return to their Projects. Obviously, such structures need to cover relationships between buyer and supplier. However, they are also needed to regulate relationships within the Project. This is because poor demand management can have significant knock-on effects. Consequently, managers within an Project need to be encouraged (through the threat of sanction or the promise of reward) to engage in activities designed to maintain the Project's control over its external environment. At root, therefore, the study and practice of supply chain management is the study of managerial and contractual incentives.

Gautam Koppala,

POME Author

About the Author:
GAUTAM KOPPALA, With over   a decade, track record of successful leadership, excellent results through strategic skills in driving revenue and profit growth. Demonstrated ability to identify and trouble shoot critical issues impacting productivity, cost, distribution, marketing, Strategic positioning, sales and financial operations, with innate ability to build and maintain strong client relationships in operations. Expert in distilling and managing processes, enhancing internal structures, and promoting multi-skilled team competencies via nurturing mentorship and inspirational leadership. Engagements have spanned operational, strategic, technological and change management roles. Academically, I am a cum laude graduate with a Bachelor of Technology degree in Electrical and Electronics Engineering (B-Tech E.E.E.) and a post graduate in Masters in Human Resources Management (M.H.R.M.) and Masters of Foreign Trade (M.F.T.). As you will see my Post Graduation's were been studied part-time, as well as working full-time as an Engineer. I feel that this demonstrates my ability to maintain dedication, motivation and enthusiasm for a project management over a long period of time. In addition, balancing full-time work with study has perfected my time-management and organizational skills. I believe that my college degrees and gamut certifications in combination with my extensive broad-based work experience along with my drive, resourcefulness and determination, would make me an excellent candidate for a senior management position with any company. Highlights of my background include Operations related Commercial, Supply chain, Sales with a magnificent experience in Project management, technically oriented towards Automation and Security Systems in Industrial and Building sectors. Presently, writing a book on Projects and Operations Management (comprise of 12 volumes, 6K pages), and awaited for the reputed publications. These books can be checked in Google books and other search engines too.

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