Strategic Sourcing

Dollar Volume Does Not Equal Strategic Value

Arm’s length or the arm? Most companies now use portfolio analysis to map their categories/items of expenditure and are aware that a supplier isn’t “strategic” just because a large amount of money is spent on one particular item.

In general supplier relationships fall into four categories, depending on how close they are to your company and its operation:

• Competitive leverage
• Preferred supplier
• Performance partnership
• Strategic alliance

Categorizing suppliers helps you understand the importance of a particular supplier to the business and helps the supply manager choose appropriate strategies for negotiation. It is important to note that, at times, a business may want to change a supplier’s categorization because of changing market conditions, to send the supplier a message, or other notable reason.

Relationships with suppliers range from arm’s length (distant) to being a part of the body (extremely close). It is important to understand that a business will have many more competitive leverage suppliers (distant relationship) than suppliers with whom they have strategic alliances (close relationship). It is the company’s decision as to what kind of relationship to have with each supplier.

Relationships are not static and strategies can be implemented to move suppliers from distant to close and close to distant as appropriate. There is no “goal relationship” to which an organization should strive to have all their suppliers. The goal, however, is to manage sound relationships with suppliers and determine which categories suppliers should be assigned.

Competitive Leverage

Most supplier relationships typically fit the “competitive leverage” classification. Suppliers in this category are one of many available in the market and actively competing for your business. Typical tactical negotiation skills used with these suppliers are:

• Logical reasoning
• Positional bargaining
• Use of emotion
• Power, threat and coercion

Relationships with these suppliers are typically guarded and distant (at arm’s length). Look ahead as you use these tools because you may not want to use persistent power and threat against a supplier that may be strategic in the future.

Preferred Suppliers

Place suppliers in this category if the supplier is one of several, but within a supply market with fewer choices available. Relationships with these suppliers are closer than with competitive leverage suppliers.

To stay on your list, preferred suppliers must consistently meet your standards for quality, service and cost. Placing suppliers in this category means you have assessed the risks of doing close business with these suppliers and have reasonable confidence in their performance and in the market. This includes conducting a supply-market analysis to determine categories for suppliers.

Performance Partnerships

Significantly fewer suppliers typically fit into this relationship. They are here because there are very few sources for the commodity. Performance standards are important in these relationships; suppliers are expected to provide high quality service and cost management. Relationships with these suppliers are close, long-term and have expectations on both sides for continuity. Such expectations enable supply managers to negotiate better service and costs.

Performance partnerships also have the following qualities:

• The supply manager’s company and the supplier combine their operations where necessary
• They share technology, data, people and risk
• The supply manager obtains a high quality of response from these suppliers

Strategic Alliances

Only a select few suppliers would typically meet the requirements of a strategic relationship. Suppliers are placed in this category because they are the only source for that commodity, making them a dedicated resource. Some companies have created subsidiaries to provide supplies or have invested in suppliers to the point of partial ownership of the supplier.

The purchaser and the supplier work very closely together in this relationship. Members of the supplier’s organization may even be co-located at the purchaser’s site.

Strong strategic alliances are characterized by an interdependency and synergy between purchaser and supplier. This includes possessing complementary core competencies and contributing expertise to their joint business opportunities.

Performance partnerships and strategic alliances are both principle-based relationships and this is often even more important than any cost-reduction arrangements. The principles below can deliver a competitive advantage and should be included in any contracts or supply agreements you create.

• Best-in-market pricing
• Access to innovation
• Dedicated resource and expertise
• Continuous improvement
• Transfer of expertise
• Excellent response time

Categorizing Suppliers

As you consider what kind of relationship each supplier deserves, these additional factors often weigh into the decision, how much so depends on your business goals and priorities:

• Competence and skills
• Management attitude
• Business culture
• Nature of the market
• Continuity of staff
• Resource allocation
• Business value
• Internal relationships
• Required deliverables
• Common goals
• Performance expectations
• Quality of feedback

It is important to ensure that suppliers are cost effective suppliers, but it is to no one’s advantage to simply consolidate a supply base through leverage. After all, suppliers are extensions of your capability. The goal is to minimize supply chain costs, while leaving the chain intact. The trick is managing the supply chain from your customer back to the starting supplier developing supplier relationships at each level that best achieve long-term business goals.

Case in Point – The Danger of Over-Leveraging

“The David Company,” a $50 million company, is supplier to “Goliath Auto Maker.” In 2000, Goliath Auto Maker accounted for more than 75% of The David Company’s sales. The David Company had worked hard to reduce costs, become lean, supply JIT and had invested in new capital. Instead of rewarding David with a greater share of business, Goliath Auto Maker used the threat of delisting as leverage to get price reductions in 2000 and 2001, including a demand in late 2001 for a retroactive 3.5% price reduction.

Goliath’s constant de-list threat gave The David Company 20/20 vision – it moved its commitment to quality, innovation and customer service to focus on getting new customers. In less than a year of concentrated effort, Goliath represented less than 50% of The David Company’s business. Goliath, despite acknowledging The David Company as a valuable supplier, still uses the “give us X% price reduction or else” ultimatum, but David now has the choice to either take the business if it can still turn a profit, or take its work to another buyer.