Background
The economic theory of William Edwards Deming is built upon fourteen points, which can be interpreted as a guide businesses can follow to improve operations. The fourth of the fourteen points deals with the concept of cost in the context of short-term and long-term expenses.
In this point, Deming argues that businesses should not base their decisions only upon cost, but consider other factors in addition to the cost to minimize future expenses. Deming expands upon this by claiming that businesses should aim to minimize total cost by increasing quality. It is implied that minimizing the total cost is more complex than just buying the cheapest supplies. Other factors, such as quality to price ratio, are to be considered. Lower quality supplies may increase expenses in the future and thus, increase the total cost. The professor implies that businesses should focus on long-term, rather than short-term, outcomes. A short-term cost reduction may lead to additional expenses in the long term.
Dr. Deming also emphasizes the need to build a long-term relationship with suppliers based on trust and loyalty and argues for a closer alliance between the suppliers and the manufacturers. It is implied that in the long-term, a loyal relationship with a supplier will be more beneficial, than constantly changing short-term contracts.
Current Condition
The business of Costco Wholesale Corporation is based upon the membership warehouse concept. The company’s warehouses are open only to members and their guests and sell a limited selection of items. Dr. Deming’s point has already been partially adopted by the company’s management. Costco achieves lower prices by buying a limited number of brands in higher volumes. While this does mean that the selection of items at Costco is smaller than in other warehouse chains, it also means that prices can be kept low due to a large volume of individual brands bought by Costco.
The smaller number of brands also means that there is a smaller number of supplies, and long-term contracts with these suppliers help Costco achieve the lowest price. Costco also aims to sell high-quality goods at a low price by selling products under its own brand Kirkland Signature. This allows the company to control the cost of the product and also maintain a consistent level of quality since the manufacturing process is performed either by Costco or its subsidiaries.
Target Condition
Costco should focus on a balance between quality and price and establish a long-term strategy for quality improvement. Such a strategy should include actions to increase the quality of goods sold by decreasing the number of suppliers for a single item to one and establishing long-term contracts with suppliers to decrease the total cost. The company should not practice switching between different suppliers for the sake of small, short-term economic gains. Long-term contracts with a limited amount of suppliers will let Costco achieve not only greater control over price, but also a higher level of quality.
Since Costco buys in large volumes, suppliers will be interested in maintaining a consistently high level of quality to extend their contract once it expires. Also, a contract with a single supplier for any one item will allow Costco to increase shipment volume and further minimize long-term expenses. Those suppliers, who compromise the quality of their goods, should not be a part of the Costco business, even if their price is the lowest.