From Cost-Cutting to Value Creation: The Evolution of Strategic Sourcing
Imagine a scenario: your company relies on a single supplier for a critical component. Suddenly, that supplier experiences a production delay, leaving you scrambling to find alternatives. This is just one example of the potential consequences of inadequate strategic sourcing.
Strategic sourcing is an approach to supply chain management that iteratively evaluates an organization’s relationship with its suppliers. At the same time, it enables the organization to go beyond a price focus to uncover the best possible values in the market price. The goal is to achieve and maintain a competitive position in the Total Lifecycle Cost—sometimes called Total Cost of Ownership—of acquisition and usage of a product or service while mitigating against supply risk.
Lifecycle Cost has a somewhat broader context than Total Cost of Ownership because it includes social and sustainability impacts; e.g., child labor, areas of conflict, disposal consequences at the end of use, waste generation, recycling and so forth. The focus is on the long-term supplier relationship, and as a result, suppliers become more than third-party entities; they become true partners that empower the organization to complete effectively against another supply chain. To accomplish this, strategic sourcing leverages spend analysis, supplier evaluation, supplier relationship management, and detailed market research.
To ensure successful strategic sourcing use, leverage and deployment, an organization must have skilled personnel and relevant technology platforms and tools that offer a single point of truth.
Advantages of Strategic Sourcing
Overall Competitiveness & Margin Improvement
Margin improvement is an obvious benefit from a strategic sourcing approach. However, all too often, inadequate care and thought is applied to determining and assessing the Total Lifecycle Cost of an acquired product or service. As a result, decisions are made solely through a focus on unit pricing.
The focus really should be on derived value, which may not be immediately or easily monetized. By identifying and working with the right partners, an organization should achieve higher margins, build reputation and improve customer experience outcomes. Nurturing relationships usually results in “win-win” contractual agreements between the parties.
Efficacy
By fostering a more collaborative environment with shared objectives, innovation is spurred. That leads to shorter lead-times through the supply chain, as well as faster response times in developing new-to-market products and solutions.
Capabilities, Agility, Responsiveness and Supply Risk Mitigation
Analyzing and reviewing the organization’s spend and conducting thorough market research to find suitable suppliers informs future business decisions. Additionally, it helps procurement teams identify the biggest risk factors. These actions often lead procurement teams to diversifying their suppliers’ locations and implementing contingency strategies. Aligning supply arrangements and outcomes with your organization’s business strategy is a vital and ongoing action.
Ethics
Ensuring suppliers are meeting or exceeding compliance and regulatory requirements is a given in today’s trading environment. An equally important consideration is repetitional damage. Reputation can become irreparably impaired when it becomes apparent that an acquisition derived from the supplier’s exploitation of child labor, poor labor practices or its instigation or funding of geopolitical instability. Similarly, environmental conditions and logistics enter into the ethics discussion; e.g., the disposal of a product at end of use that may present a significant environmental or safety hazard.
10 Action Step To Ensure Success
- Address Scope and Data Clean-up
All too often a sourcing initiative, no matter how well intended, is impaired by the quality, or lack thereof, of available data. The insight, understanding, and visibility of the goods and services being procured is vital to execute a successful sourcing strategy. Unless the sourcing team knows and understands the dynamics, function and purpose of the product and/or service being sought, how can they assess whether the bids received are fit for purpose and competitive?
- Develop Spend Analysis
Define your market-required detail, analyze your spend and prepare activity-based analysis. This effort will provide bidders with adequate detail to provide a fit-for-purpose proposal. All too often stringent specifications, even if they read well and sound good, lead to significant and avoidable cost; for instance, the product could be over engineered. Equally important is an understanding of future requirements and any constraints either within the organization or the supply market; e.g., if the organization is sourcing a scarce product or service. In this case, strategy and risk mitigation to ensure continuity of supply might easily become the overriding factor.
- Determine Requirements
Review the spend detail and identify the buying points. Understand, rank, and weight the required characteristics. It is important to go through this exercise before receiving bids to ensure that the determination of the outcome is not unduly influenced by any bid received (for example, the avoidance of becoming unduly influenced by a well-presented package.) Importantly, you need to validate the requirements with the application or intended community to ensure they are fit-for-purpose and usable.
- Solidify Your Decision Approach
Complete the initial sourcing matrix and category templates, and recommend and get support for your approach:
• Exploit Buying Power
• Create Competitive Advantage
For the Create Competitive Advantage approach, a multi-disciplinary team must evaluate and develop the Request for Information, Request for Proposal and the subsequent steps to get organizational buy-in, and acceptance with accountability. This team effort is essential to deliver Contract Compliance and avoid off-contract buying behavior.
- Market Analysis
Define the supply market, including the analysis of trends, competition for the product or service being sourced, number of potential suppliers and the supply market capacity, as well as factors influencing the supply base. By doing so, you can understand whether there is a market dynamic that supports purchaser buying power or provides the supplier with bargaining power.
- Decision: Validate
Propose and obtain agreement for the approach to be used and build critical support to agree to the scope of the sourcing project. Then execute the agreed communication and stakeholder strategy.
- Complete Vendor EvaluationsThis phase is launched with a Request for Information, inviting vendors to present their capabilities and confirm their interest. Once this step is complete and vendor ratings are established to match the organization’s needs, a short list is made, and a Request for Proposal is issued. On receipt of the proposal, results are analyzed and technical and commercial risk assessments are completed.
- Develop Category Strategy
The development of the Category Strategy is the most critical phase of any Strategic Sourcing initiative. It is during this process that decisions will be made that will directly inform the outcome of the exercise, including the form of, go-no-go, and the potential for success of the arrangements to be implemented.
Identify options
Review and ensure that Request for Quote details meet the intended scoping and objectives of the sourcing program. Also identify and evaluate outcomes that have been offered that may increase value proposition beyond what was originally intended. Careful consideration also must be given to those aspects that might be exclusionary; e.g., areas of social or environmental consequence or onerous restrictive requirements like exclusivity and non-compete clauses.
Cost Benefit Analysis
Complete a comprehensive cost benefit analysis that is Total/Lifecycle appropriate and that may require mitigation. Examples are foreign exchange exposure or financial viability of the vendor, especially when guarantees are an important aspect of the potential arrangement.
Governance
Review all aspects of the bids made and options with the governance structure of the business, ensuring that there is executive and business support for any prospective award. Nothing is more damaging to the reputation of both the business and the professional reputation of the individual than indicating an outcome to a vendor and later having it overturned. This essential step ensures that should a vendor lodge a formal complaint seeking arbitration, the business and the executive are fully aware and support the original bid and recommendation made.
Category & Negotiation Strategy
Having received the backing of the business and the executive, it is now time to develop and agree upon the strategy for the implementation of the selected bid, which includes a final negotiation round. All too often, businesses accept the bid as the final price without any negotiation. Most vendors actually anticipate a round of negotiations and accordingly, buffer the commercial terms to give themselves some wriggle room. That said, it is also prudent to have a plan B if the negotiation fails, so that other vendors and options can still be considered.
An often-underestimated element of this step is the definition and agreement of Service Levels and Key Performance Indictors that will establish the backbone for review and compliance. This is the mechanism used by both the vendor and the customer to evaluate success and progress of the sourcing program.
Final Review & Signature Once the final negotiation is concluded, a final review with governance is recommended and a formal signature of the agreement is executed. Depending on corporate culture and the importance of the agreement, signing may include a ceremony to underpin the implementation of and compliance expectations.
- Deploy and Implement
Identify Key Users The users or consumers of the agreed arrangement are an essential component of delivering the value for the business. It is this community that helps drive contract compliance, which is often an important requirement and KPI in the service agreement.
Develop a communication plan Communication throughout the business, in particular the business value sought and the outcomes and compliance aspects envisioned, is foundational in ensuring a successful implementation.
Develop reporting and compliance Regular reporting of the compliance and progress against KPI’s is crucial. So is a regular review of the arrangements in the appropriate governance structures of the business.
- Measure and Communicate
Ongoing measurement and communication is important to underpin compliance, transparency and alignment across the business. It ensures that the objectives and value fits that were originally identified are fully realized.
