Northline Instruments: A Tender Won Before Supply Was Consulted
Northline Instruments builds patient monitors. Its custom ASIC costs $52 and is sole-sourced from Amtel with a 26-week lead time. The contract makes Northline liable for 80% of the value of any order cancelled inside 16 weeks. Sales has just won a tender for 12,000 units at a 22% gross margin, promising delivery in seven months. The forecast approved by the S&OP committee three weeks earlier showed 6,500 units for the same period. Amtel's allocation to Northline is 7,000 units over the next 12 months, based on the old forecast. Amtel says it can add 5,000 units only with a 12% expedite premium and a firm 12-month commitment. Northline holds 900 ASICs in inventory. The tender penalty is 3% of contract value per month late, capped at 15%, and the selling price per monitor is $900. Finance has said that any inventory commitment above $4M needs CFO sign-off.
1. Should Northline accept the tender as signed and commit to Amtel's terms? Show the arithmetic behind your recommendation.
Read the worked answer
Requirement. 12,000 units over seven months against 900 units on hand and 7,000 allocated = a shortfall of 4,100 units.
Cost of the Amtel option. Premium on 5,000 units: $52 x 12% = $6.24 per unit, or $31,200 in total. Commitment value: 12,000 x $52 = $624,000 of ASIC purchases, well below the $4M CFO threshold. Against a contract value of 12,000 x $900 = $10.8M, the expedite premium is 0.3% of revenue. The penalty exposure is far larger: 3% of $10.8M = $324,000 for the first month late, capped at $1.62M.
So the arithmetic says accept and expedite - the premium is trivial relative to the penalty and the 22% margin. But the arithmetic is not the decision.
The real exposure is the 12-month firm commitment. Northline would be committing to 12,000 ASICs against a tender that has not yet been awarded as a firm order, and the cancellation liability is 80% inside 16 weeks. If the customer defers or cancels, Northline holds roughly $624,000 of a sole-sourced part with limited alternate use, plus cancellation exposure to Amtel.
Recommendation: accept, but restructure before signing. (1) Make the customer contract back-to-back: firm commitment, no cancellation inside 16 weeks, and a deposit or letter of credit covering the ASIC commitment. (2) Ask Amtel for a staged commitment - 5,000 units released in two tranches tied to customer milestone acceptance - in exchange for a longer overall agreement or a slightly higher premium. (3) Escalate to the CFO with the $624,000 figure, which is below the threshold but should still be disclosed because it is a new liability, not routine inventory.
2. What should procurement do in the next 10 working days, and in what order?
Read the worked answer
Days 1-2: Establish the facts and freeze further commitments. Get written confirmation from Sales of the customer's award status, delivery schedule by month, and cancellation terms. Confirm Amtel's allocation in writing, including whether the 5,000 units are additive to the 7,000 or a re-phasing of it - the difference changes the whole plan.
Days 3-4: Convene an S&OP exception meeting. The forecast was 6,500 and the tender is 12,000; that is a process failure, not a procurement problem. Bring Sales, Finance, Operations and Supply Chain into one room with one number. Do not let procurement absorb a decision made without it.
Days 5-6: Negotiate the customer contract. Push for a firm schedule, milestone-based acceptance, a cap on delay liability that matches Northline's own exposure to Amtel, and a deposit. The 3%-per-month penalty is acceptable only if the supply plan supports the dates with buffer.
Days 7-8: Negotiate Amtel. Trade a 12-month volume commitment for staged releases, an extended premium payment schedule, or vendor-managed inventory at Amtel's site. If Amtel insists on a firm 12-month commitment, seek a right to defer delivery by 90 days without charge.
Day 9: CFO briefing. Present the commitment, the back-to-back protection, and a downside case in which the tender slips by two quarters. Ask for a decision, not a signature.
Day 10: Publish the revised plan. One integrated schedule covering ASIC release dates, build plan, and customer milestones, with a named owner for each.
3. How would you prevent this situation from recurring? Recommend specific process and governance changes.
Read the worked answer
Gate tenders through supply before bid submission. Any bid above a defined threshold - say $2M or any requirement exceeding 50% of forecast volume - requires a signed supply feasibility check from procurement covering lead time, allocation and capacity. Sales cannot submit without it. This is the single highest-value change: the failure happened at bid, not at order.
Make forecast accuracy a managed metric, not an assumption. Track MAPE by product family and review it monthly in S&OP. A 6,500 versus 12,000 gap is an 85% error and should have triggered an exception long before award. Publish the error so Sales and Supply see the same number.
Set a lead-time buffer policy. For parts with lead times above 20 weeks, define a minimum strategic inventory expressed in weeks of coverage, with a documented owner and funding. For a sole-sourced ASIC at 26 weeks, three to four weeks of coverage on the forecast is defensible and cheap relative to a $324,000 monthly penalty.
Address the sole source. Qualify a second ASIC source or a drop-in alternate, and negotiate a capacity reservation with Amtel priced as an option rather than an expedite. A 12% emergency premium is a symptom of buying capacity at the worst moment.
Align contracts internally. Customer terms and supplier terms should be reviewed together: cancellation windows, liability caps and delivery windows should nest. Add a standard clause requiring customer commitment before a supplier commitment is made.
Report the right metric. Move from purchase price variance to supply-driven revenue at risk, and review it alongside OTD and forecast accuracy in the monthly business review.