Deere & Company Case Summary

Deere & Company (Deere) has been experiencing a decrease in its profit margins for one of its aftermarket resale products, specifically the gatherer chain, over the past couple of years. Currently, the cost-price ratio is at 80% compared to last year’s 50%. The purchase cost for the gatherer chain has been steadily increasing, while the aftermarket price has been decreasing. Deere has been budgeting its price to match that of a major competitor, which has been causing the decrease. The company’s main supplier of its gatherer chain is Saunders Manufacturing, with which Deere has established a long term relationship. The owner of Saunders has a reputation of being a tough negotiator, and is someone who is known for not willing to share financial information about the company. However, the U.S. Department of Commerce has provided financial estimates in Saunders’ industry as follows: material spend, 42%; direct labor, 16%; indirect labor, 6%; Overhead, 20%. These percentages are helpful to Deere because they can be used in the negotiation process with Sanders. Since Sanders will not share any specific cost information, Deere is able to use these estimates as a way to justify Sanders reducing its prices. Using these estimates during the negotiations might also incentivize Sanders to provide accurate numbers for its specific manufacturing costs.

One option that Deere has is to negotiate a Cost-plus-incentive-fee (CPIF) contract where both Deere and Saunders agree on a target cost.

Saunders would get an incentive for going below target and profits would be penalized if costs go above. For example, if the agreed upon target cost is $150,000 and Saunders meets the target, Saunders would get a $10,000 incentive. If the actual cost goes below target, let’s say $145,000, Saunders would receive an extra $5,000 in addition to the $10,000 incentive. This would, in theory, motivate Saunders to lower the price on the gatherer

chains.
Another suggestion would involve Deere & Company buyers using activity-based costing as a tool to reduce supplier costs. Since the organization offers such a broad range of equipment, this will allow managers to categorize appropriate ABC levels. This occurs through eliminating non value-adding activities, reducing activity occurrences, and reducing the cost driver rate. To be successful Deere must gather data from suppliers on activities, cost drivers, cost driver rates, also the units of the cost driver. With this information the buyer can determine which product or items add value versus those who do not. Even if a product is labeled as value-adding, by reducing the number of times the activity occurs, you reduce overall costs. For instance, inspections are generally considered a value-adding part of any process, but by reducing the overall number of inspections, total costs can be reduced.