An empirical study of inter-organizational functional integration and total costs

Two prominent concepts in the business logistics literature, integrated logistics management (ILM) and pipeline or supply chain management, are built on functional integration. While functional integration can be studied both within and between firms, the empirical results reported in this paper focus exclusively on interorganizational (between buyer and supplier) functional integration. Functional integration is increasingly discussed as a path to improved logistics performance. However, despite strong interest in functional integration,(1) there is a lack of empirical research that links functional integration to measures of logistics performance.

Total cost analysis (TCA) offers an important logistics performance measure: total costs of performing the logistics functions, such that customer service objectives are achieved. While the TCA literature espouses objective (dollar) measurement of total costs, a recent survey of professional buyers found that only 18% used formal total cost analysis.(2) The current study develops perceptual total cost measures, and conducts an empirical test of the integration/performance relationship. Specifically, the link between inter-organizational functional integration and total costs is tested, using structural equation modeling of survey data. Survey respondents were members of the National Association of Purchasing Management (NAPM).

CONCEPTUAL DEVELOPMENT

INTER-ORGANIZATIONAL FUNCTIONAL INTEGRATION

Utility-producing "functions" are the activities performed to create utility. Production, transportation, storage, and exchange are the classic marketing functions which create form, place, time, and possession utility, respectively. In this work, inter-organizational functional integration is defined as buyer/supplier cooperation in performing activities necessary to create utility. The literature on marketing channel cooperation, ILM, and just-in-time (JIT) logistics provide conceptual background for the functional integration construct.

CHANNEL COOPERATION. Pearson(3) failed to find significant performance (service level and inventory turnover) differences between channel dyads characterized by conflict versus cooperation. Brown(4) found a significant positive relationship between cooperation and inventory turnover, but no such relationship between cooperation and market share or return on investment (ROI). He concluded: "Perhaps channel cooperation is more directly linked to more specific performance measures." Note that total cost is a more specific measure of logistics channel performance. Other authors argue that cooperative behavior brings cost advantages, but note that "there is no evidence of empirical support for this proposition."(S) The current study strives to fill this empirical gap.

INTEGRATED LOGISTICS MANAGEMENT (ILM). ILM involves the coordinated management of logistics functions and collaboration of supply chain participants to reduce total system costs.(6) Shapiro(7) discusses the close connection between ILM and total cost analysis. Integrated computer systems and coordinated logistics are becoming key factors in logistics strategy.(8) Lambert and Stock(9) discuss a case in which ILM resulted in annual savings of about $15 million for the physical distribution function. While successful ILM implementation is said to improve a fin's profitability,(10) a recent survey found only about 12% of 421 CLM members surveyed to be using "fully integrated" logistics systems.(11)

JUST-IN-TIME (JIT). Effective just-in-time (JIT) requires increased coordination between functions and more buyer/supplier interaction.(12) Jackson(13) describes JIT logistics as "a technique which successfully integrates the procurement, manufacturing and distribution loops of the logistics system." Schonberger(14) presents characteristics and benefits of JIT purchasing. Many of these characteristics pertain to inter-organizational functional integration, such as long-term contracts, close relationships between buyer and supplier quality control people, and nearby suppliers. The benefits include higher quality of purchased parts, low inventory carrying costs, low scrap costs, reduced inspection and rework, and administrative efficiency. Avon(15) credits JIT with the following improvements: 40% inventory reduction, 20% reduction in transportation costs, and 7% increase in materials quality.

In summary, the channel cooperation, ILM, and JIT literature suggest the following hypothesis:

H1: More inter-organizational functional integration yields lower total costs.

TOTAL COST ANALYSIS (TCA)

TCA literature lends further support for H1, and provides guidance for total cost measurement. According to a leading textbook, TCA is the basic integrative concept in logistical design.(16) Since costs are incurred in performing the utility-producing functions, a study of functional integration naturally includes analysis of relevant total costs. "Least total cost" purchasing(17) and "total cost of ownership"(18) are two TCA approaches that encourage buyers to look beyond purchase price to see the total cost impact of purchasing decisions. Surprisingly, a recent survey reports rather limited use of total cost models among professional buyers.(19)