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March 20, 2008

PLANE THINKING

Partnering with TMX, Boeing has found a way to control the flow of metals going to its global network of suppliers.

GCM North American Aerospace fabricates parts for the Boeing commercial airplanes unit of the Boeing Company, and lots of them. The supplier provides Boeing with an astonishing array of airplane components—4,000 of them—from wing fittings to door hinges. To make those parts, GCM needs a lot of metal: 1.2 million pounds of aluminum and 10,000 pounds of titanium in 2007, a 30% jump from the previous year.

But even though GCM has long been a major supplier to Boeing—in 2007, Boeing was responsible for 90%, or approximately $35 million, of GCM’s sales—Ron Johnson, GCM procurement agent, says the purchasing process has not always been smooth. Ten years ago, the Kent, Washington-based supplier had to bid for product from some 20 producers and distributors. Prices varied greatly, and delivery times were unpredictable, making it difficult to gauge when orders could be completed.

“It was an unpredictable situation, to say the least,” says Johnson. “Volatility was the name of the game.”

But no more. Now, GCM simply places an order with TMX Aerospace, Chicago-based Boeing’s sole contracted supplier of aluminum and titanium. GCM doesn’t need to bid on the metals, since Boeing owns all the metal TMX supplies and the price is set long before GCM enters an order. And it’s set low: As of January, GCM spent from $2.80 to $2.99 a pound for TMX-purchased aluminum, about half of what it costs today on the open market. All suppliers pay at the same rate, no matter their revenues, no matter the size of their contract with Boeing.

“Negotiating price is a thing of the past for us, as far as our relationship with Boeing is concerned,” says Johnson. “Out in the marketplace, it’s strictly a supply-and-demand game. In here, we make a purchase order out to TMX in care of Boeing and e-mail it to the customer service rep at the nearest TMX warehouse. If that warehouse doesn’t have the metal we need, the rep finds a TMX warehouse that does. We know the price, and we know when the metal will arrive.”

What happens if TMX can’t provide the materials to GCM when it needs them? Boeing issues GCM a waiver, and GCM buys the metals on the open market and submits the receipt to Boeing, which reimburses the supplier.

“Our contract is with Boeing; TMX simply acts as the middleman,” says Johnson. “But TMX is all about Boeing, so it works very hard to make sure Boeing’s needs are well met.”

Clear View

It’s been this way since 1998 for all Boeing suppliers of aluminum and titanium parts. That’s when Boeing teamed with service center Copper and Brass Sales, a division of ThyssenKrupp Materials NA Inc., which took on a new name—TMX—and purpose. Before, Copper and Brass Sales was one of 50 service centers in the United States and overseas that Boeing used to distribute aluminum and titanium. Now, Kent, Washington-based TMX is the sole distributor of those products to Boeing’s global network of more than 500 suppliers, from Tier 1—those that make plane components such as wings and landing gear—to Tier 3 makers of small parts such as bolts.

“Aggregating demand with a single distributor has given us visibility for the first time into how much metal is being purchased to support construction of our airplanes,” says Jeff Hanley, senior procurement manager with Boeing, based at the company’s manufacturing headquarters in Everett, Washington. “That supports not only getting the right amount of metal at the right time, but our pricing strategy, as well. We know exactly what we’ll need in the future, so we can place long-term contracts with mills at a stable price.”

Boeing has 12 full-time employees at TMX’s four warehouses whose primary job is to focus on Boeing’s relationships with contracted mills, from performance to forecasting. They don’t concern themselves with suppliers. That is strictly TMX’s domain. “The responsibility for ensuring that Boeing has the material to build airplanes falls on our shoulders,” says Jeff Luckasavage, vice president of the global supply chain program for TMX. “Boeing doesn’t tell us to stock so many pounds of plate. We do it because we know the demand.”

Boeing’s current 10-year contract with TMX, valued at an estimated $300 million, ends in June, although negotiations are under way to extend it. Based on raw materials demand forecasts and purchase orders from suppliers, TMX manages Boeing’s long-term contracts on a day-to-day basis with five aluminum companies—Aleris International Inc. in Beachwood, Ohio; Kaiser Aluminum Corp. in Foothill Ranch, California; Rio Tinto Alcan in Montreal, Canada; Austria Metall AG (AMAG) in Ranshofen, Austria; and Kamensk-Uralsky Metallurgical Plant (KUMZ) in Kamensk-Uralsky, Russia—and two titanium producers, Titanium Metals Corp. in Denver and Verknaya Salda Metallurgical Production Association in Moscow. Those seven suppliers are down from some 20 prior to the arrangement. TMX also handles aluminum and titanium contracts with Boeing’s far-flung supplier network, which includes suppliers on every continent.

“Using a third-party logistics provider like TMX improves the efficiency of materials flow for Boeing, creates a window into the supply chain—Boeing can see where the material is coming from and where it’s going—and pools risk at the level of the third party,” says Panos Kouvelis, Emerson distinguished professor of operations and manufacturing management at the Olin School of Business and director of the Boeing Center on Technology, Information and Manufacturing, both at Washington University in St. Louis. He contends that a $1 billion company that improves its supply chain process with a program such as Boeing’s can save as much as $60 million annually. By that standard, Boeing Commercial Airplanes, which took in $33.4 billion in revenues last year, a 17% increase from 2006, is saving substantially.

This, despite the fact that Boeing is shipping a large portion of its metal overseas to be made into parts that are then shipped back to the United States for assembly into airplanes. While that certainly adds complexity to the overall supply chain, requiring more effort to manage the logistics of a very complicated system, as well as likely increased logistics costs, it pays off in the end for several reasons.

Lower-cost labor rates in foreign countries can generate savings in excess of increased logistics costs. There’s also the benefit of risk sharing, that is, finding a supplier partner—TMX, in this case—that is willing to invest in a capability it hopes will make it an invaluable link in the supply chain. Often the decision to outsource parts production overseas is strategic, based on a company’s interest in building business in a particular country or influencing a purchasing decision down the road, says John Coykendall, principal with New York-based Deloitte Consulting. “An example could be sourcing certain subassemblies from China in hopes that when the Chinese government or a Chinese company needs to purchase the final product, it chooses your product because you’ve been investing in the country,” he says.

Put simply: Where Boeing ships metals, be it the United States or any one of a number of Asian countries, Boeing intends to sell airplanes.

The supply system has run into some well-documented problems, specifically construction delays of Boeing’s super-sized 787 Dreamliner. The difficulty with that wide-body airliner, however, has not been shipping metals to the appropriate suppliers, but rather on-time delivery of parts to Boeing. By now, Boeing, which failed to anticipate the difficulties of outsourcing so much responsibility to such a far-reaching network, had expected to be well into the flight-test stage of the Dreamliner. Instead, its design team is jetting around the world, helping suppliers, particularly Tier 1, get up to speed.

“TMX is not the problem. It’s a good business model: bundling requirements, increase the use of subsystem platform suppliers, provide a better sightline of the volume of materials needed and mitigate risk,” says James Schwendinger, vice chairman of global aerospace and defense technology with Deloitte Consulting. “The problem for Boeing is that it moved the complexity and risk down the supply chain to some partners who didn’t possess the same skills and management expertise it has.”

Part and Parcel

The TMX model, while complex in terms of sheer volume of metal managed, actually is fairly simple. Based on Boeing’s demand forecasts, TMX orders aluminum and titanium—about 120 million pounds annually—and builds inventory in its four service centers located in Kent; Santa Fe Springs, California; Wichita, Kansas; and Wallingford, Connecticut. TMX ships orders and, when required, cuts, drills, fabricates and packages materials beforehand. The centers manage more than 30,000 part numbers and raw materials codes.

Indeed, a lot of metal goes into the construction of a typical commercial aircraft. The Boeing 747, the first wide-body commercial airliner ever produced and still selling strong, is composed of 147,000 pounds of aluminum—up to 75% of the plane’s flyweight—and 110,000 pounds of titanium, as well as a small percentage of other aluminum and steel alloys. It has 6 million parts, half of which are aluminum fasteners.

Even Boeing’s 787 Dreamliner, half of which is made from carbon composites, still contains 20% aluminum, 15% titanium and 10% steel by weight.

“The relationship with TMX has allowed us to forecast our metals needs more accurately, ensure the mills are on track with production, streamline purchases and eliminate a lot of waste. It’s also allowed us to maintain stability in some very volatile markets,” Hanley says.

There is an additional benefit for Boeing. By offloading the inventory function onto TMX, Boeing focuses on selling airplanes and related services. “They’ve put their efforts into their core competencies,” says Richard Aboulafia, vice president of analysis with Teal Group Corp. in Fairfax, Virginia. “It’s tough to add value if your concentration is elsewhere. The more work you can push to the next tier, the more successful you will be as a company. Get someone else to bear the risk. There’s not much to debate with that model.”

That strategy seems to be working for Boeing, the much-publicized delays of its Dreamliner notwithstanding. In 2007, Boeing’s net orders reached 1,413 commercial jets, up 369 from a year ago. That puts Boeing ahead of rival Airbus, which reported 1,341 in net orders last year. Based on market price estimates by aircraft-valuation firm Avitas, the approximate actual value of Boeing’s net orders is $106 billion, a 49% increase from the previous year.

Out of Control

It’s much different from how it used to work for Boeing. “Before, we had no direct contracts with mills, and typically we’d be ramping up production when mills were in a downturn and taking capacity offline,” says Hanley. “And service centers would always speculate on demand, but it was never directly linked to what we actually needed. As a result, they wouldn’t have the right materials for our suppliers, and pricing would go sky high.”

Mills and supply centers weren’t Boeing’s only roadblocks. Large, deep-pocketed subcontractors often circumvented steps in the supply chain and went directly to mills for raw materials for parts, taking priority for metal over subcontractors with fewer resources and the small shops that build components necessary for initial stages of airplane construction.

The end result: “Boeing was having trouble building planes,” says Luckasavage. “The one challenge was that raw material demand wasn’t directly linked to build rates. Service centers would speculate on what was needed, then buy too much of one item and not enough of another item.”

A difficult position to be in, given Boeing’s status as the world’s No. 1 airplane manufacturer. Revenues were up 20% in 1998—the year Boeing joined forces with TMX—but Boeing still struggled with cost and production issues. A merger with McDonnell Douglas Corp. the previous year had proven more costly than expected. But the more pressing problems were on the production lines, which were overwhelmed by a surge in commercial airplane orders, their own inefficiencies and poor inventory control. Then-chairman and chief executive Philip Condit outlined a series of ambitious goals to transform Boeing into a more financially driven company and cut costs by 30%.

A series of visits to Japan in the early 1990s by top Boeing executives to study that country’s production methods led to an evaluation of how Boeing managed inventory. The results were not encouraging. Its Renton, Washington, plant, where Boeing built its narrow-bodied aircraft, typically had $3.5 billion in inventory on hand, much of it redundant or unneeded. Boeing decided to replace its old system with a just-in-time procedure, in which a single distributor would be given responsibility for getting the right amount of materials to suppliers at the right time. The suppliers would, in turn, ship components to Boeing plants as needed.

“Boeing learned that inventory is a cost, and one of the most effective ways to control that cost is through a vendor-managed inventory program,” says Kouvelis, the Washington University professor.

Air Pressure

Other aerospace companies are now thinking about the single-vendor supply model. Rockwell Collins is in the process of exploring a unified strategy for purchasing metals and hopes to have a contract in place soon with either a metals manufacturer, a large distributor or both. Talks are underway, and a fully established program should be up-and-running by mid-2008, says Mark Greiter, Rockwell Collins commodities manager for metals.

“Finding a way to centralize the supply chain is one of our big activities at the moment,” Greiter says. “We’ve been operating from a very old, decentralized model, which prevents us from forecasting accurately and leveraging costs, and creates what I suspect are huge inefficiencies in the system.”

The Cedar Rapids, Iowa-based aircraft manufacturer has no contracts with mills and employs numerous distributors. It purchases only 15% of its metals internally, which it uses for fabricating parts in its own facility.

Additionally, Rockwell Collins’ suppliers forecast how much metal to purchase via a supplier portal on the company’s intranet. “We’ve relied on them to figure out our demand. We don’t provide them with forecasting, because we don’t have it,” says Greiter. “Most of our suppliers are small shops that procure their materials from local distribution, so it’s all very scattered. They’re very much on their own, which puts all of us out of step.” Indeed, half the distributors are located in the Midwest, 25% are in the West and 25% are in the East.

But putting together a single-source system is no simple task, Greiter notes. “Since 85% of our metals are now purchased externally, this requires us to get into the business of our suppliers and understand their consumption patterns—who they buy from, cost drivers, inventory management and more,” he says. “It’s a long process to pull waste out of the system.”

Rockwell Collins is particularly concerned about its ability to fill market demand for the new higher strength, lower-weight 7075 aluminum used in Boeing’s Dreamliner. Boeing is one of Rockwell Collins’ largest customers. “We have to figure out how to align with Boeing’s purchase of the material,” Greiter says. “They’re all but buying up the 7075 aluminum supply, and we’re focused on creating the leverage in the market to fill the demand for their aircraft. Our new supply chain system should give us the leg up we need.”

One airplane manufacturer that likely won’t be looking at a single-source distribution system anytime soon is Boeing’s No.1 competitor, Airbus. The Toulouse, France-based aircraft manufacturer, a consortium of French, English, Spanish and German governments that was created to compete with U.S. airplane manufacturers, has of late been mired in scandal (alleged insider trading), disputes among its government owners and with Boeing, and production problems (delays to its flagship A380 because of wiring problems and its still-in-the-design-stages A350, the Dreamliner’s competition).

“A streamlined distribution system simply wouldn’t work for Airbus,” Aboulafia says. “It has too many other issues to work out. Unless Airbus gets its act together, Boeing has the international long-haul market locked up for the next decade.”