Sourcing and Sourcing Decisions
Sourcing and Sourcing Decisions
Purchasing or procurement is the process by which companies
acquire raw material, components, products, services or other
resources from suppliers to execute their operations.
Sourcing is the entire set of business processes required to
purchase goods and services.
For any supply chain functions, the most significant decision is
whether to outsource the function or to perform it in-House
In-house or Outsource
The decision to outsource is based on the growth in supply chain surplus
provided by third party and the increase in risk incurred by using a third party.
A Firm should consider outsourcing if the growth in surplus is large with a
small increase in risk. Performing the function in-house is preferable if the
growth in surplus is small or the increase in risk is large
Third Party increase supply chain surplus by
Capacity aggregation
Inventory aggregation
Transportation aggregation
Warehousing aggregation
Procurement aggregation
Information aggregation
Receivables aggregation
Relationship aggregation
Lower costs and higher quality
Risks of using a third party
The process is broken
Underestimation of the cost of coordination
Reduce customer / Supplier contact
Loss of internal capability and growth in third party power
Leakage of sensitive data and confidential information
Ineffective contracts
Key Sourcing Related Processes
1. Supplier scoring and assessment.
2. Supplier selection and contract negotiation.
3. Design collaborations
4. Procurement
5. Sourcing, planning and analysis.
1. Supplier scoring and assessment
Supplier performance should be compared based on the impact of total cost, quality of service and
other benefits to the firm’s supply chain management
Factors to be considered in Supplier scoring and assessment are a follows:
Replenishment lead time
On-time performance
Supply flexibility
Delivery frequency/minimum lot size
Supply quality
Inbound transportation cost
Pricing terms
Information coordination capability
Design collaboration capability
Exchange rates, taxes and duties
Supplier viability
2. Supplier selection and contract negotiations
The selection of suppliers is done using a variety to Mechanisms,
including offline competitive bids, reverse auctions or direct negotiations.
No matter, what Mechanism is used, supplier selection should be based
on the total cost of using a supplier and not just the purchase price.
The purpose of auction is to get bidders to reveal their underlying cost
structure so that the buyer can select the supplier with the lowest costs.
3. Design collaborations
It is essential for a manufacturer to collaborate with suppliers during the
design stage if product cost are to be kept low.
Design collaborations can lower the cost of purchased material and also
lower logistics and manufacturing costs.
Design collaboration is also important for a company trying to provide a
lot of variety and customisation, because failure to do so can significantly
raise the cost of variety
4. Procurement process
The procurement process for direct materials should focus on improving
coordination and visibility with the supplier.
The procurement process for indirect material should focus on decreasing
transaction cost for each order.
The procurement process for both cases should considerate orders to take
advantage of economies of scale and quantity discounts
5. Sourcing planning and analysis
Periodically, each firm must analyse it’s procurement spending and
supplier performance and use this as input for future sourcing Decisions.
Procurement spending should be analysed by part and supplier to ensure
appropriate economies of scale
Supplier performance analysis should be used to build a portfolio of
suppliers with complementary strengths. Cheaper but lower performing
supplier should be used to supply the base demand, whereas higher
performing but more expensive suppliers should be used to buffer against
variations in demand and supply from the other source.
Benefits from effective sourcing Decisions
Better economies of scale can be achieved if orders within a firm are aggregated
More efficient procurement transactions can significantly reduce the overall cost
of purchasing.
Design collaborations can result in products that are easier to manufacture and
distribute, resulting in lower overall costs
Good procurement processes can facilitate coordination with the supplier and
improve forecasting and planning.
Appropriate supplier contracts can allow for the Sharing of risk resulting in
higher profits for both supplier and buyer.
Firms can achieve a lower purchase price by increasing competition through the
use of auctions.
