Tesla Procurement Strategy

The paradigm shift involving the movement of the procurement function from passive to reactive strategic role is becoming increasingly common in organizations that have a global reach. In today’s globalized economy, strategic procurement evaluates and forecast changes in the source markets, ensure optimal material specification, collaborate with the suppliers, identify the source of critical materials as well as substitutes and establish material sourcing and contingency plan to support the operations of the company in the global market (Agus, 2015). An effective procurement strategy enables an organization to secure essential resources necessary to support operational capacity to establish a sustainable competitive advantage. Tesla’s current procurement strategy has enabled the company to build trust and credibility with suppliers of critical materials that have supported its rapid growth; however, developing strategic partnerships with key suppliers is essential to lower production costs.

Background

Tesla is an American automotive company that specializes in the design and manufacture of electric vehicles and clean energy storage products. The company is based in Palo Alto, California, and has several assembly and production factories in California, Nevada, New York, and Shanghai China (Tesla, 2017). The company was founded to address consumer concerns about the impact of gasoline-powered vehicles on the environment. The company gained traction and free publicity after launching the first all-electric sports car, the Roadster. The company had improved and perfected lithium-ion batteries to provide sufficient power to drive over 200 miles.

The Roadster was the first all-electric car by the company that demonstrated that it was possible to switch to renewable energy sources. The success of the Roadster encouraged the company to design and manufacture an electric luxury car. Tesla Model S was launched in 2012 for the high-end market (Tesla, 2017). The new model was a success as it became the world’s best-selling plug-in vehicle for two years in a row. The success of the company was attributed to its lean and reactive procurement strategy.

Lean and Reactive Procurement Strategy

Tesla’s procurement strategy since its inception focused on outsourcing the majority of the materials required to support its production amid rapid growth in global demand. The company adopted a lean and reactive procurement strategy to achieve two specific goals. The first goal was to lower the cost of handling raw materials by only manufacturing the essential parts of the electric cars (Albarune & Habib, 2015). In this context, the essential parts of an electric car are the charger, battery pack, and the electric motor. The second goal was to enable the company to react to changes in the target market (Dhaul & Yücesan, 2011). Therefore, the company established strategic relationships with key suppliers of peripheral parts of an electric car, such as brakes, windshields, and acoustic dampers. Across the United States and in Europe, they are number and suppliers of these parts as many are used in gas-powered vehicles. Thus, the company manufactured the basic electric components of the electric car, namely the charger, the battery pack, and the electric motor (Debord, 2015). The rest of the parts were sourced from suppliers across the United States, Asia, and Europe. There are over two dozen suppliers that support production across all the five assembly and manufacturing plants.

In the production of an electric car, the source of electric current is the main source of competitive advantage because the rest of the parts are similar to the ones used in gas-powered vehicles (Smyth, 2017). Car parts such as brakes, windshields, power seats, acoustic dampers, power steering mechanism, the dashboard, and lights have numerous supplies across the United States. Therefore, the focus of the company’s procurement strategy was to secure critical raw materials needed to manufacture battery packs for electric cars.

The company is well aware of the cut-throat competition that is inherent in the automotive industry, hence moved with speed to secure essential raw materials that would lead to its dominance in the electric car industry sector. Electric cars have existed since the late 19th century but had a limited driving range owing to the low-charge capacity of the batteries used to power them (Clover & Ju, 2017). Elon Musk and his team understood this challenge and sought to create a sustainable competitive advantage by perfecting and improving the technology.

While incumbent automotive companies had failed in their attempt to develop a viable electric car model by using individual large battery cells, Tesla worked with Panasonic to develop a better alternative. For years, Panasonic supplied lithium-ion batteries to consumer electronics manufacturers across the world. Tesla approached Panasonic to secure a steady supply of lithium-ion battery cells to support the production of the battery pack (Shirouzu & Lienert, 2020). The partnership has proved vital to the success of Tesla because Panasonic is bound by a contractual agreement to only supply lithium-ion battery cells to the company. This effectively locked out the competition as new entrants and incumbents are struggling to develop viable sources of renewable electric power for their electrical models 

Besides securing critical raw materials that are needed in the production of electric cars, the company was able to build trust and establish credibility with key suppliers through the successful launch of the Roadster and Model S. The company was able to demonstrate its legitimacy, ability to meet deadlines as well as guarantee production volumes to ensure a smooth supply chain (Dubey, 2014). This enabled the company to renegotiate terms with key suppliers of essential materials, particularly regarding Model 3. One of the key terms that were renegotiated was the cost of essential materials used in the fabrication of the powertrain. The company was able to get favorable quotations for essential materials as it increased its annual production to over 100,000 electric cars. In addition, the company’s increasing legitimacy in the electric power sector has also influenced the behavior of key suppliers (Shirouzu & Lienert, 2020). Once the company demonstrated that it was a reliable consumer, several suppliers began relocating nearby to improve supply logistics. At least 10 of tesla’s key suppliers have relocated to its production and assembly plant located at Fremont, California (Shirouzu & Lienert, 2020). Others are following the trend in other locations across the United States as well as in Shanghai, China.

Improvement Recommendations

Strategic Sourcing and Outsourcing

            The company can sustain its dominance in North America and Europe as well as Asia through strategic sourcing and outsourcing. When the company was established in 2003, strategic sourcing in the domestic market enabled the firm to secure a stable source of critical materials needed in the design and manufacture of the powertrain; electric motor, charger, battery pack (Debord, 2015). Panasonic has worked with a company since then to enable the firm to become the leading manufacturer and retailer of electric cars in North America and Europe. At the annual general meeting held in December 2019, the company announced that it had eclipsed the one-million target of electric vehicles that can connect and share power with the grid in North America and Europe as well as Asia. This represents 20% of electric cars in the market.  It is a major milestone for a company that started with production estimates of hundreds of cars and eventually achieved the current annual production of 100,000 electric cars.

            In the backdrop of this achievement is increasing competition from new entrants and incumbents. Incumbents such as Volvo, Mercedes, General Motors, and Nissan are launching electric car models of comparable features and capabilities (Lyon, 2017). New entrants such as Google and Apple present a formidable threat in the domestic market. New entrants such as Audi and Hyundai present a threat in foreign markets, especially Asia. Therefore, it is time for the company to change its approach to support strategic partnerships (Agus, 2015). Rather than merely sourcing raw materials from the suppliers, the company should begin working with suppliers to come up with innovations that can extend his competitive advantage.

            The company should continue working with China Contemporary Amperex Technology Limited (CATL) to improve its storage capacity and power density, as well as the cost of electric car batteries. Working with CATL will enable the company to develop electric car batteries that have a driving range of 1 million miles (Shirouzu & Lienert, 2020). The collaboration which began two years ago has led to a prototype that will revolutionize the electric car industry sector. The battery is an improved version with greater storage capacity and energy density at a significantly lower cost. It will help to address consumer concerns about the current drive range of electric cars as it is currently half that of gas-powered vehicles (Gitlin, 2017). Introducing the new low-cost long-life battery in all its electric car models will significantly lower the cost of electric vehicles. It is estimated that the cost of an electric car will fall to levels comparable to gas-powered vehicles.

Sustainable Procurement

            The significantly high price of electric cars in comparison to gasoline-powered vehicles is attributed to expensive raw materials used to manufacture batteries for electric cars. Expensive metals such as cobalt, nickel, and lithium are key components used in the manufacture of electric car batteries currently in use in all Tesla electric car models (Kamath & Saurav, 2016). The high cost of these elements has been a prohibitive factor in the adoption of electric car models. The inclusion of these elements in the production process significantly increases the price of Tesla electric car models in comparison to gasoline-powered vehicles.

The company should also start recycling and recovering these expensive metals in order to lower the production cost as well as promote sustainable utilization of limited resources. Besides recycling and reusing expensive metals, the company should consider using electric vehicle batteries increase storage systems as second-life applications (Shirouzu & Lienert, 2020). Already there is a pilot project in South Australia where electric vehicle batteries are used to provide electricity to businesses and consumers via grid storage systems.

The company should also finalize talks with CATL to switch to lithium-iron-phosphate batteries as a way of lowering the production cost as well as the price of Tesla electric car models. Lithium-iron-phosphate batteries are a cheaper alternative to nickel-cobalt aluminum batteries currently provided by Panasonic (Shirouzu & Lienert, 2020). Eliminating cobalt, which is the most expensive metal in the production of electric vehicle batteries, will significantly lower the cost of production and the price of electric vehicles.

Supply Risk

            As the global electric car market rapidly expands with the entry of new players as well as a change of tactics by the incumbent, the company is set to experience increased competition for key resources and raw materials in the domestic market. The northern American and European markets are the focal points of incumbents switching to electric vehicles (Gitlin, 2017). Already, General Motors, Volvo, and Mercedes have plans to launch electric car models in these markets to compete with Tesla. In addition, the contractual agreement with Panasonic to supply the company with lithium-ion batteries is set to expire next year. This will expose the company to increased competition for essential materials required in the production of electric car batteries (Debord, 2015). Therefore, the company should establish a long-term contract with CATL to ensure the “1 million miles” battery developed by the company is only supplied to Tesla.

Conclusion

Tesla’s current procurement strategy has enabled the company to build trust and credibility with suppliers of critical materials that have supported its rapid growth; however, developing strategic partnerships with key suppliers is essential to lower production costs. Tesla’s lean and reactive procurement strategy has enabled the company to secure essential resources and materials to support its production processes. The strategy has enabled the company to lower the cost of handling raw materials by only manufacturing the essential parts of the electric cars and react to changes in the target market. The company manufactures the basic electric components of the electric car, namely the charger, the battery pack and the electric motor and outsources the rest of the parts from suppliers across the United States, Asia, and Europe. However, the company can sustain its competitive advantage by changing its approach to support strategic partnerships. Rather than merely sourcing raw materials from the suppliers, the company should begin working with suppliers to come up with innovations that can extend his competitive advantage. To further lower the production costs, the company should also start recycling and recovering these expensive metals to lower the production cost as well as promote sustainable utilization of limited resources. Lastly, the company should establish a long-term contract with CATL to ensure the “1 million miles” battery developed by the company is only supplied to Tesla

References

Agus, A. (2015). Supply Chain Management: The Influence of SCM on Production Performance and Product Quality. Journal of Economics, Business, and Management, 3(11), 1046-1053.

Albarune, A. R., & Habib, M. (2015). A Study of Forecasting Practices in Supply Chain Management. Int. J Sup. Chain. Mgt, 4(2), 55-60.

Clover, C., & Ju, S. F. (2017, October 26). China says it is in talks with Tesla to build a factory in Shanghai. Retrieved from Financial Times: https://www.ft.com/content/716178e4-933b-324c-8195-1070411142ab

Debord, M. (2015, September 17). Tesla is moving to secure the critical resource it needs for its future. Retrieved from Business Insider: http://www.businessinsider.com/tesla-is-moving-to-secure-the-critical-resource-it-needs-for-its-future-2015-9?IR=T

Debord, M. (2016, October 10). Tesla’s critics are ignoring one of the company’s biggest strengths. Retrieved from Business Insider: http://www.businessinsider.com/tesla-critics-are-ignoring-a-crucial-strength-2016-10?IR=T

Dhaul, B., & Yücesan, E. (2011). Supply chain management: seven winning tips that every salesperson should know. New Delhi: Vikas Publishing House.

Dubey, R. (2014). Supply Chain and Operations Management Journal’s: An Overview and Need for a New Journal in Supply Chain Management. Journal of Supply Chain Management Systems, 3(3), 1-5.