Chapter III:

Strategic Sourcing and Supplier Relationship

Management
1) Defining of Strategic Sourcing
2) The sourcing Strategy
3) Strategic Supplier Selection
4) Supplier Relationship Management

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 3.1. Defining Strategic Sourcing
• Sourcing decisions and purchasing activities
serve to link a company with its supply chain
partners.
• Sourcing decisions- High level, often
strategic decisions regarding which products
or services will be provided internally and
which will be provided by external supply-
chain partners.

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 The Sourcing Decision
Sourcing decisions are high-level, often strategic
decisions that address:
What will use resources within the firm
What will be provided by supply chain partners

• Insourcing –
The use of resources within the firm
to provide products or services Make-or-Buy
• Outsourcing – Decision
The use of supply chain partners
to provide products or services

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 Cont’d...
• Once the decision has been made to outsource
a product or service, firms will typically use a
process known as strategic sourcing to decide
to whom to outsource the product or service,
as well as the structure and type of
relationship that should be established.

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 Cont’d....
• A sourcing strategy is typically focused on a
category of products or services, and for that
reason, the strategy is sometimes called a
category strategy.
• A category strategy is a decision process used to
identify which suppliers should provide a group
of products or services, the form of the contract,
the performance measures used to measure
supplier performance, and the appropriate level
of price, quality, and delivery arrangements that
should be negotiated.
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 Cont’d...
• A typical category may include many smaller
subcategories. For example, a category around
information technology may include
subcategories such as laptops, desktops, servers,
and keyboards.
• If a firm outsources accounting services, the
category strategy may include tax accountants
and managerial accountants.
• The strategic sourcing decision is typically made
by a cross-functional team, composed of sourcing
professionals, operations managers, finance, or
other stakeholders for the product or service.

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 Cont’d...
…it is ,thus,a procurement process that
continuously improves and re-evaluates the
purchasing activities of an organization.
It is an analytical acquisition approach to
achieve best value through standardization and
leverage that results in significant savings and
fulfillment of socio-economic and environmental
requirements.

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 Cont’d...
• It can be defined as ‘ satisfying business needs
from markets via the proactive and planned
analysis of supply markets and the selection of
suppliers with the objective of delivering
solutions to meet pre-determined and agreed
business needs’.
• Strategic sourcing requires the application and
interpretation of sophisticated strategic sourcing
tools and techniques such as relationship
management, by suitably authorized and
competent professionals.

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 Cont’d...
• Strategic Sourcing -- the collaborative
and structured process of critically
analyzing an organization’s spending
and using this information to make
business decisions about acquiring
commodities and services more
effectively and efficiently.

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 Cont’d...
A disciplined analysis of purchases,
markets and suppliers to identify
opportunities for savings by negotiating
contracts and employing new tools and
practices that lowers costs and/or adds
value while maintaining goods and
services.

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Strategic Sourcing Primary Objectives

– Reduce the costs of goods and services

– Capture resulting savings
– Create contractual alliances with suppliers to
support the long-term goals of the
orgnaization.
– Maintain and improve product quality
– Improve business functions
– Optimize the total purchasing process

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 Business Requirement Analysis
• The firs step when developing a sourcing
strategy is to fully understand the purchase
requirement relative to the business unit
objectives.
• Also involved in this step is a thorough
supplier spend analysis to determine past
expenditures for each commodity and
supplier, as well as the total expenditures for
the commodity as a percentage of the total.

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 Discovering potential Suppliers
• Supplier website
• Supplier information files
• Supplier catalogs
• Trade registers and directories
• Trade journals
• Phone directories
• Filing of mailing pieces
• Sales personnel

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 Cont’d
• Trade shows
• Company personnel
• Other supply management departments
• Professional orgnaizations

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 ...sum up....
• To make an informed decision about sourcing,
several pieces of information are needed:
• Information on total annual purchase volumes.
• Interviews with stakeholders to determine their
forecasted requirements.
• External market research identifying information
on key suppliers, available capacity, technology
trends, price and cost data and trends, technical
requirements, environmental and regulatory
issues, and any other data that is available.
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 Sum...Supplier Search..
• Some of the key elements that should be documented and
included in a comprehensive supplier analysis study include
the following:
• Cost structure
• Financial status
• Customer satisfaction levels
• Support capabilities
• Relative strengths and weakness
• How the buying company fits in their business
• How the company is viewed
• Core capabilities
• Strategy/future direction
• Culture

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 3.2. The Sourcing Strategy
Development
• Once the team have educated themselves to the point
that they feel they know enough about the supply
market conditions, the forecasted spend, and the user
stakeholder requirements, they are faced with a
different challenge. The team must convert all of this
data into meaningful knowledge and apply some
meaningful tools to structure the information so that it
will render an effective decision.
• Two tools are most often used in this process: a
portfolio analysis matrix (sometimes called the
strategic sourcing matrix), and the supplier evaluation
scorecard.

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 Cont’d....
• A firm can organise its supply process using a
variety of sourcing strategies.
• The choice of these different approaches is
contingent upon a variety of factors, such as
the importance of a good or service to the
firm and the competitiveness of the supply
marketplace. Firms must also consider the
technical complexity of the product.

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 Cont’d...
• To help Buyers formulate appropriate sourcing
and competitive strategies, Kraljic (1983)
developed a simple positioning matrix based
on these factors.
• Virtually every Purchasing department and
consultancy firm uses this matrix today and it
is the main strategic positioning tool for
thinking about supply management decisions.

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 Cont’d...
• Kraljic identified four key purchasing
approaches or strategies (see fig below).

• He suggested that selecting the best supply

strategy is a function of the level of supply
exposure, technical risk and the strategic
nature of the product or service (i.e. its value
or cost to the buying firm).

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 Portfolio Analysis
• Portfolio analysis is a tool to structure and
segment the supply base, and is used as a
means of classifying suppliers into one of four
types. The objective is to categorize every
purchase or family of purchases into one of
four categories. The premise of portfolio
analysis is that every purchase or family of
purchases can be classified into one of four
categories or quadrants: (1) Critical, (2)
Routine, (3) Leverage, and (4) Bottleneck

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 Cont’d...
• By effectively classifying the goods and
services being purchased into one of these
categories, those responsible for proposing a
strategy are able to comprehend the strategic
importance of the item to the business.
• The results of this analysis can then be
compared to the current sourcing strategy for
the category group, and tactics and actions
defined for moving forward.

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 Kraljic’s Portfolio Analysis
High Leverage : Best Deal Critical: Cooperation
(high profit impact, low supply risk) (high profit impact, high supply risk)
•Unit cost management is important •Customer design or unique
Impact of Business (internal issue)

because of volume usage. specification

•Substitution possible •Supplier technology important
•Competitive supply market with •Changing source of supply difficult
several capable suppliers or costly
•Substitution difficult
Routine: Efficiency Bottleneck: supply Continuity
(lower profit impact, lower supply (low profit impact, high supply risk)
risk) •Unique specification
•Standard specification or •Supplier’s technology important
“commodity” type items •Production based scarcity due to
•Substitute products readily low demand and/or few sources of
available supply
•Competitive supply market with •Usage fluctuation not routinely
many suppliers. predictable
Low •Potential storage risk

Low Supply risk/supply market complexity (external issues) High

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 Bottleneck
Strategy Tactics Actions
Ensure Supply •Decrease •Widen specification
Continuity uniqueness •Increase competition
of suppliers •Develop new suppliers
•Manage •Medium-term contracts
supply •Attempt competitive
bidding

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 Critical
Strategy Tactics Actions
Form Increase role of •Heavy negotiation
Partnerships selected suppliers •Supplier process
with Suppliers management
•Prepare contingency plans
•Analyze
market/competition
•Use functional
specifications

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 Leverage
Strategy Tactics Actions
Maximize •Concentrate •Promote competitive
Commercial business bidding
Advantage •Maintain •Exploit market
competition cycles/trends
•Procurement coordination
•Use industry standards
•Active sourcing

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 Routine
Strategy Tactics Actions
•Simplify •Increase role of •Rationalize supplier base
Acquisition systems •Automate requisitioning, e.g.,
Process •Reduce buying EDI, credit cards
effort •Stockless procurement
•Minimize administrative costs
•Little negotiating

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 Supply market complexity
• The horizontal axis is concerned with the
supply-side risk that occurs due to external
supply market issues and the complexity of
the market.
• Supply Strategists should consider factors such
as power relations, the availability of supply
and substitution possibilities that will have a
fundamental effect on risk.

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 Impact on business
• The vertical axis of Kraljic’s matrix is
fundamentally concerned with the impact on
profit or the value obtained from the sourcing
group. Whereas the horizontal axis shows market
exposure risks that are ‘external’ to the firm, the
impact on business factors can be thought of as
‘internal’ to the firm.
• Determining what product and service categories
fall into this group is reasonably difficult, owing to
the contradictory nature of the terms on this axis;
for example, a product could be low cost, but
high value.

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 Strategic directions for managing
category spends
• The matrix itself forces firms to consider
categories of spend based on their level of
supply market exposure and internal risk and
cost.
• It is worth emphasising at this point that the
matrix does not allow for the positioning of
companies, but rather spend categories. These
categories may well be spread across a range
of suppliers. The model offers buyer firms four
distinct strategies that they can follow:
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Strategy 1: Routine.
• This strategy is aimed at a spend
category known as routine items. The
recommended approach here is to follow
a strategy based on efficiency.
• This quadrant contains products or
services of low value or cost and low
technical or supply risk.

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 cont’d...
• The recommendation is that these should be
sourced from the most efficient suppliers.
• The objective is to pay the most competitive
price for the product, whilst maintaining
delivery and quality standards.
• As switching costs are low and the market is
highly competitive, buyers would negotiate on
price.

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Strategy 2: Bottleneck.
• This strategy is aimed at the spend category
known as bottleneck items. These are items
that can seriously affect the delivery of the
buyer firm’s product or service.
• They tend to be relatively low value but are
relatively rare in terms of the supply market. A
good example of this may be computer chips.

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 Cont’d....
• These don’t cost a great deal compared to the
total unit price, but they are essential to the
running of the product.
• Here the strategy is to maintain supply
continuity by, for example, establishing long-
term contracts containing liquidated damages
clauses.
• The buyer will tend to focus on total cost
rather than simply on purchase price.

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Strategy 3: Leverage
• This strategy is aimed at the spend category
known as leverage. The focus of this strategy is to
obtain the best deal possible.
• This strategy occurs when the buyer perceives
market exposure to be low yet the cost or value
of the item is high (e.g. foam for car seats at an
automotive assembler).
• The buyer can obtain the best deal by using
‘leverage’ strategies (Porter, 1980) where the
buyer power is high and the supplier power is
low.
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 Cont’d...
• Leveraging involves pulling together a range of
similar products – sometimes the same product
bought at different locations throughout the firm
– to increase contract size and therefore buyer
bargaining power.
• An automotive manufacturer might source two
models of car seat using a single supplier rather
than multiple suppliers.
• This may achieve economies of scale for the
buyer, providing a stronger negotiation position.
Firms pursuing a cost reduction strategy
consistently follow this strategy.

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Strategy 4: Critical
• This strategy is aimed at the spending category
known as critical. The suggested strategy for
buyers in this quadrant is ‘cooperation’, because
these suppliers are both high risk and can have a
high impact on the buyer firm’s profitability.
• Suppliers that fall into this segment of the model
provide products or services which are
characterised by high supply risk and having a
high impact on the business in terms of value or
cost.

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 Supply structure and design
• Each quadrant of the Kraljic matrix suggests a
sourcing strategy which in turn dictates a
related sourcing or supply structure.
• It is important to choose the structure that is
suitable for the strategy and the sourcing
category.
• There are four primary sourcing structures
that can be used (with some amount of
variation): single, multiple, delegated and
parallel.
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 Cont’d...
• The complexity of the various sourcing
approaches ranges from the simplest structure,
single or sole sourcing, to the more complex
structures of delegated and parallel sourcing.
• It is the role of the Supply Strategist to decide
when and where to apply each of these
structures.
• This decision will be dependent upon the needs
and wants of the firm, the type of relationship
desired, the acceptable level of dependency for
both buyer and supplier and the nature of
market-based competition.

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 Single sourcing
• This structure characterises a buyer with only
one source of supply for a particular good or
service. It may be the result of a deliberate
choice by the Buyer, perhaps because of the
high cost of the item or its strategic
importance to the end product.
• Alternatively it may occur because the final
customer has explicitly required the firm to
work with a particular sub-supplier’s product
in the completed product.

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 Cont’d...
• By definition these relationships tend to be
much more long term in focus, allowing firms
to spend time focusing on the development of
the relationship, i.e. a feeling that they are
both committed.

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 Cont’d...
• Single sourcing

Buyer Supplier 1

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Multiple sourcing
• Multiple sourcing describes securing multiple
supply sources to supply the product or service.
The Buyer will have a range of suppliers to choose
from, and will carefully balance capacity
constraints with individual supplier performance
when placing orders.
• The old adage, ‘don’t put all your eggs in one
basket’, is often used to describe this supply
structure. Buyers will also frequently use so-
called ‘Dutch auctions’ to play suppliers off
against each other to achieve the best price.
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 Cont’d...
• This is often viewed as an adversarial approach
and prevails in marketplaces where there are a
high degree of competition, low switching costs
and low levels of technological competence.
• This structure would tend to appear in the
‘Routine’ quadrant of the strategic positioning
matrix and applies to the low-level type of
purchase. Buyers using this structure will tend to
focus on purchase price rather than total cost.

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 Cont’d...
• Multiple Sourcing S1
S2

Buyer

S3

S4

S6 S5

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Delegated sourcing strategy
• Delegated sourcing strategies have grown in popularity
since the mid-1990s, across a wide range of industries.
• This sourcing configuration involves making one
supplier responsible for the delivery of an entire sub-
assembly as opposed to an individual part. The
customer delegates authority to a key supplier who
becomes known as a first-tier supplier.
• The customer’s objective is to work with one supplier;
the supplier in turn works with all other suppliers that
provide parts to complete the product.

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 Cont’d...
• Delegated sourcing has a number of
advantages for customer and supplier.
• Focusing on one supplier enables the Buyer
to work closely with that one supply source to
reduce day-to-day transaction costs.
• The increased dependence on one supplier
results in the buyer and supplier exchanging
more detailed information, particularly
around cost issues.

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 Cont’d..
• The process of delegated sourcing tends to create
‘mega’ suppliers that may evolve into a potential
threat. Suppliers can become very powerful and
exert their power over the buyer, usually in the
form of price increases.
• It is vitally important for the buyer to understand
and manage all the dependencies when these
arrangements are put in place. This strategy is
often found initially in the ‘leverage’ quadrant of
the matrix, moving to ‘critical’ quadrant in the
medium term due to the high dependency and
high switching costs.

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 Cont’d..
• Delegated Sourcing: Buyer

S3

S4
S1

S2

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Parallel sourcing
• The concept of parallel sourcing is a little more
complex. Richardson (1993) developed the concept
using game theory to optimise supply for the buyer.
• Richardson suggests that the supply structure provides
the buyer with the advantages of sole and multiple
sourcing whilst excluding the disadvantages of these
strategies.
• Parallel sourcing allows the buying firm to work on a
single or sole-sourced basis with each component
supplier within a product group while maintaining a
multiple-sourced relationship across product groups.

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 Cont’d..
• Sourcing structures provide the means for
implementing supply strategy. As such, they
must be aligned to the requirements of the
organisation.
• For these strategies to work effectively they
need to sit within an appropriate
organisational structure and be measured in
the correct manner.

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 Cont’d...
• Model 1 Buyer
Model 2

S2
CA
S1
CA
S4
CB S3
CB

• CA- component A, CB- component B

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 Sourcing Strategy and Sourcing
Structure
• Fig. Critical
Leverage All except Multiple
Delegated Structure structure

• The detail Read more ,,,,,,,,,,,,,,

Routine Bottleneck
Multiple Structure Single Structure

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