Industryweek 14801 Next Generation Newsletter White Bkgrnd

The Strategy Behind Choosing Strategic Suppliers

Sept. 16, 2014
The strategy OEMs should employ with strategic suppliers is to develop an extended enterprise type of relationship with them.

In my previous blog, I introduced a non-traditional definition of strategic supplier. This definition is important as it provides the basis for Next Generation Supply Management’s categorization and management of suppliers. Specifically, NGSM’s four supplier categories are based on where a supplier is positioned along the spectrum of “strategic-ness,” per that definition. Suppliers at the high-end fit to a T the definition of strategic supplier, namely: Resourcing business from a strategic supplier exposes a purchaser to excessive cost or order fulfillment risk.

Not surprisingly, suppliers in this category are labelled strategic. Suppliers further down the spectrum of strategic-ness represent those that can be resourced from with less exposure to cost or order fulfillment risk, per the following:

  • Key suppliers are those where alternatives exist but resourcing would expose a purchaser (assume OEM) to above average cost or order fulfillment risk. Key suppliers are less “strategic” than strategic suppliers.
  • Approved suppliers are those where alternatives exist and resourcing exposes an OEM to average cost and order fulfillment risk. Approved suppliers are less strategic than key suppliers.
  • Basic suppliers are those where alternatives exist and resourcing exposes an OEM to only routine cost and order fulfillment risk. These suppliers are non-strategic.

It is important to be highly disciplined such that suppliers are categorized solely based on the potential for negative financial impact that resourcing from them presents, not by the type of products they supply. People familiar with traditional supply management supplier categories may look at NGSM’s basic supplier category and try to relate it to commodity products (e.g., fasteners, work gloves, rock salt, etc.). This is wrong. Some suppliers of products commonly labelled “commodities” may in fact more appropriately fit in the approved or key categories in terms of how they should be managed.

For instance, have you ever tried to purchase rock salt for your company parking lot at the end of a long, snowy winter? If you consider it a commodity that you buy solely based on price, you may be in trouble. Resourcing from your long-term reliable rock salt supplier to save a few pennies in October may mean that in March you can’t find anyone who will sell you rock salt at any price, as suppliers hoard whatever stocks they have remaining to service their “regular” customers. On the other hand, many traditional commodity-type product suppliers may be considered basic under NGSM. Regardless, every supplier situation should be evaluated individually before being assigned.

Following are the basic rules for managing each of the four Next Generation Supply Management supplier categories.

Strategic Suppliers

OEM dependence on strategic suppliers usually creates an uneasy alliance since these suppliers have something the OEM needs and can’t readily purchase elsewhere. This can put the supplier in a position of relative power with their customer. Lack of control in a supplier relationship is something most OEMs aren’t used to and in my experience don’t handle very well. This is especially true given that the standard OEM fallback to lack of leverage—resourcing—is not an option. In this case, what’s to be done?

Under Next Generation Supply Management the strategy OEMs should employ with strategic suppliers is to develop an extended enterprise type of relationship with them. As defined in the previous blog, this entails: OEMs providing strategic suppliers the same level of technical support they would receive if they were internal factory departments.

This can occur in a variety of ways but usually occurs by the OEM introducing suppliers to strategies and tools that they would otherwise likely be unaware of and/or unable to implement on their own. Over time, this type of thing can create mutually beneficial co-dependence, which is what extended enterprise is all about. In this type of relationship each party understands they need the other one in order to maximize success. Creating this kind of environment also allows for development of executive level personal relationships, which can help smooth things out when challenges arise.

Management of strategic suppliers is resource-intensive. Fortunately, suppliers in this category typically represent only a relatively small fraction of an OEM’s overall supply base; 5% is typical, although 10% to 15% is not unusual. Realize that the percentage of overall “buy” sourced from these strategic suppliers will usually be much higher. If your percentage of strategic suppliers exceeds that 10%-15% range, you have above-normal dependence on your supply base. This should be regarded as a “red flag” that traditional OEM supply management strategies are not appropriate for your supply base situation.

Key Suppliers

There is one basic rule relative to key suppliers. Namely, they tend to either transition up (to strategic) or down (to basic) the supplier category spectrum. You might ask, “If they are key, there are already alternatives, so how do they transition up the spectrum to strategic?” Good question. The answer is that they introduce support “above and beyond” what is traditionally expected. For instance, they may:

  • Deliver to point of use.
  • Own OEM raw material until use.
  • Work directly and provide engineering support, becoming indispensable in that way.

Or any number of other things that make them special. The point is that in one way or another they have woven themselves into the fabric of their OEM customer’s operation and in doing so have increased that OEM’s dependence on them, even though there may be alternative sources for the product they sell.

Unless a decision has been made to develop a strategic relationship with a key supplier, supply management personnel should always work to move key suppliers to the approved category by identifying and/or developing alternatives. This development of alternative sources may very well facilitate the OEM facilitating their development of those same “above and beyond” support activities provided by the current source. At first blush this may seem a bit benevolent and/or counter-productive since you are helping a supplier weave themselves into your operational fabric. On the other hand, it increases competition by reducing the dependence on a single supplier by increasing flexibility in sourcing.

Approved Suppliers

There are alternatives to approved suppliers. Business is sourced to them initially based on competitiveness. Business remains with them only if their performance meets expectations and they remain competitive. When that competitiveness or performance lags and isn’t corrected, business should be resourced from approved suppliers.

The costs associated with this resourcing are limited to things like moving tooling; revising tooling; building and holding a safety stock of material to ensure supply during the transition period; re-allocating milk-runs, etc. These are activities that should be on every supply management department’s checklist and be considered routine tasks by supply management personnel.

Basic Suppliers

There are also alternatives to basic suppliers. As with approved suppliers, business is initially awarded to basic suppliers initially based on competitiveness and retained based on their attaining certain performance levels. What differentiates basic suppliers from approved suppliers is that the cost and order fulfillment risk associated with resourcing from them are almost non-existent. Again with resourcing from approved suppliers, there needs to be checklists and processes in place to assure consistency, but when basic suppliers fail to perform or lose competitiveness, their business should be resourced.

The level of strategic-ness is the basis of these categorizations. The next blog entry will discuss in more detail how to work with strategic suppliers. This lesson can then be applied to the other supplier categories based on their distance from the strategic category on the categorizations spectrum.

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