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International Journal of Logistics Research and Applications

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Logistics of low cost country sourcing

Naveen Kumar a; Dan Andersson b;Jakob Rehme c
a
Department of Management and Engineering, Division of Logistics Management, Linköpings
University, Linköping, Sweden b Department of Technology Management and Economics, Division of
Logistics and Transportation, Chalmers University of Technology, Göteborg, Sweden c Department of
Management and Engineering, Division of Industrial Marketing, Linköpings University, Linköping, SE,
Sweden

Online publication date: 24 March 2010

To cite this Article Kumar, Naveen , Andersson, Dan andRehme, Jakob(2010) 'Logistics of low cost country sourcing',
International Journal of Logistics Research and Applications, 13: 2, 143 — 160
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 International Journal of Logistics: Research and Applications
Vol. 13, No. 2, April 2010, 143–160

Logistics of low cost country sourcing

Naveen Kumara *, Dan Anderssonb and Jakob Rehmec
a Department of Management and Engineering, Division of Logistics Management, Linköpings University,
SE-581 83 Linköping, Sweden; b Department of Technology Management and Economics, Division of
Logistics and Transportation, Chalmers University of Technology, SE-412 96 Göteborg, Sweden;
c Department of Management and Engineering, Division of Industrial Marketing, Linköpings University,
SE 581 83 Linköping, Sweden
Downloaded By: [Linkopings University] At: 06:50 29 March 2010

(Received 15 October 2007; final version received 15 December 2009 )

Increasing globalisation creates new possibilities for sourcing from low cost countries (LCC), but also
comes with a range of logistics challenges and issues to be dealt with. The purpose of this paper is to
investigate how logistics and its impacts are considered in LCC sourcing decisions. An exploratory multiple
case study of industrial product companies engaged in distant LCC sourcing serves as an empirical base.
Findings reveal that firms do not explicitly take logistics into account during LCC sourcing decisions. Even
if logistics is considered, it is generally in a reactive way and takes a transactional cost focus. Instead, we
propose a framework to proactively consider logistics factors in the early stages of LCC sourcing. This is
done through identifying product and supplier related logistics factors and their impact on pre-transaction,
transaction and post-transaction elements in the Total Cost of Ownership model.

Keywords: global sourcing; international logistics; low cost country; sourcing decision; total cost of
ownership; industrial products

1. Introduction

In recent years globalisation has had a significant impact on supply-chains. Instead of procuring
from nearby suppliers, Western corporations are increasingly buying from companies in low cost
countries (LCC) (Rehme et al. 2006). Sourcing from suppliers in the same or nearby countries
has many differences when compared to sourcing from Asian countries such as China and India
(Schary and Skjøtt-Larsen 1995). The principles of lean supply chain management, close relation-
ship with suppliers and flexible manufacturing are considered to be in conflict with long supply
chains from distant suppliers (Levy, 1997). Apart from the obvious purchasing challenges in LCC
sourcing, there are also a number of logistical challenges in terms of distance, time, inventory
requirement, demand volatility, documentation and customs barriers (Babbar and Prasad 1998,
Handfield 1994, Levy 1997, Murphy and Daley 1994, Schary and Skjøtt-Larsen 1995). How-
ever, general purchasing literature and international purchasing literature seem to be focused on

*Corresponding author. Email: [email protected]

ISSN 1367-5567 print/ISSN 1469-848X online

© 2010 Taylor & Francis
DOI: 10.1080/13675560903557841
http://www.informaworld.com
 144 N. Kumar et al.

the purchasing aspects of LCC sourcing, such as determining product specifications, finding and
selecting suppliers and negotiating with them (Carter and Narasimhan 1990, Motwani et al. 1999,
Kumar and Rehme 2008), and neglecting the logistics perspective during the LCC sourcing deci-
sion. Logistics factors such as on-time delivery and cost are considered only when the actual
sourcing begins (Van Weele 2002).
The increased volume and value of products with a longer lead time in the distant supply
chain compels for good logistics planning capability in the early stages of LCC sourcing decision
making (Fawcett et al. 1997). An LCC is generally characterised with low logistics maturity
(Arvis et al. 2007), making logistics issues important in LCC sourcing decisions. It is also argued
that international logistics and purchasing strategies must complement each other, and that they
are critical for success in LCC sourcing (Babbar and Prasad 1998, Trent and Monczka 2005).
Babbar and Prasad (1998) note that there are very few firms engaged in international business
that have well defined or integrated strategies for international purchasing and logistics. Although
previous research has addressed some logistics issues in international purchasing (see, e.g., Zeng
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and Rosetti, 2003, Fawcett et al., 1997, and Fraering and Prasad, 1999), such research is still
fairly limited and does not explicitly deal with logistics in relation to LCC sourcing (Kumar and
Rehme 2008). Given these challenges, the question must be posed as to what extent logistics is
considered when LCC sourcing decisions are made.
The purpose of this paper is to investigate how logistics issues and their impacts are considered
in LCC sourcing decisions. The scope of this paper will deal with the first two steps of the
purchasing process, i.e., determination of specification and selecting supplier in the sourcing
stage as defined by Van Weele (2002), and the interplay with logistics factors influencing these
two steps in LCC sourcing.
There are many similar terms used to depict the situation when companies start to buy products
from other countries. Different definitions are used in varying contexts and are termed in various
ways such as international purchasing, global sourcing, import sourcing and offshore sourcing
(Arnold 1989, Trent and Monczka 2005, Swamidass 1993, Farrell 2004). Cost benefit emerges
as a common motive in many studies about international purchasing (Birou and Fawcett 1993,
Handfield, 1994, Frear et al. 1992, Trent and Monczka 2005). From a purchasing literature per-
spective, sourcing is a part of the purchasing process that deals with the planning phase rather
than the implementation phase (Van Weele 2005). LCC sourcing is a specific case of international
purchasing and needs a different approach to understanding and decision making. An LCC is a
country where some factor prices (often labour) are lower than the international average. An LCC
of today may not stay low-cost in the future, making the search for LCCs a constantly moving tar-
get. In this constant search for cost reductions and relocation of suppliers or production facilities,
companies will face a variety of logistics challenges.
The next sections cover a theoretical frame of reference followed by the methodology of data
collection. Case companies are illustrated followed by analysis and discussion. A summary of the
results and the conclusion is presented in the final section.

2. Theoretical frame of reference

There are a number of decisions and analyses that must be made in sourcing from LCC. Decision
stages include need definition, product identification, supplier evaluation and management of
operations (Carter and Narasimhan 1990, Motwani et al. 1999, Zeng 2003). These stages are
similar to those in the general purchasing process.
The first three steps in the purchasing process are labelled sourcing and the subsequent steps
labelled supply (Van Weele 2005, p. 13). Quantity and on time delivery reliability are the logistics
 International Journal of Logistics: Research and Applications 145

factors involved in the sourcing phase of the purchasing process and other logistics factors such
as ordering policy, inventory control, order expedition and follow up and monitoring delivery
reliability are included in the supply phase (Van Weele 2005). In the sourcing stage there is a
need to analyse which products are suitable for LCC sourcing (Christopher et al. 2006, Fraering
and Prasad 1999, Smith 1999, Lee 2002, Nellore et al. 2001, Van Weele 2005). There is a clear
need to verify supplier availability, supplier selection and how logistics factors influence/affect
the supplier selection criteria (Min 1994, Motwani et al. 1999).
Given the significance of logistics in LCC sourcing, it is imperative to look at the two steps of
product selection and supplier selection with a logistics focus. Studies in international sourcing
indicate that cost reduction is an important criterion in sourcing from LCCs (Birou and Fawcett
1993, Trent and Monczka 2005, Handfield, 1994, Dornier et al. 1998). Since our focus is on the
logistics issues during sourcing stages, the interest is to look into various logistics factors that
influence landed cost. The total cost of ownership (TCO) approach is a good way to gain a clear
understanding of the logistics costs and their impacts on the LCC sourcing decision. Moreover,
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TCO is a generic tool used in many purchasing decisions and also in international purchasing
decision making (Fraering and Prasad 1999). The TCO analysis of LCC sourcing is approached
from a logistics perspective.
The next sections will discuss three areas in the context of LCC sourcing;

(1) Product Selection

(2) Supplier Selection
(3) Logistics influence on TCO.

Figure 1 schematically represents the theoretical framework used in this paper.

2.1. Driving forces behind international purchasing

Previous studies point to three main drivers behind international sourcing: price, quality and
availability of goods and services (Trent and Monczka 2003, Birou and Fawcett 1993). Swamidass
(1993) has two broad categories for the drivers of international purchasing: cost factors and
non cost factors. Cost factors, such as reduced material prices, labour cost, cost competition,
exchange rates and cost of capital affect the amount of sourcing from LCC. Influential non cost
factors include new market growth opportunities, product or process technology involved in the
procured product, better quality, better delivery performance, improved supplier relationship and
flexibility (Birou and Fawcett 1993, Dornier et al. 1998, Swamidass 1993, Trent and Monczka
2003, Handfield 1994).

Product selection Supplier selection

Logistics Factors
Interaction

Total Cost of Ownership

Figure 1. Logistics interplay with purchasing process.

 146 N. Kumar et al.

2.2. Product characteristics and their influence on logistics

Smith (1999) has identified different criteria of product selection for international purchasing. The
logistics parameters for item selection for LCC sourcing include demand volatility, cost of delivery,
rate of change (in process, specification and product technology), complexity of the product and
the risk associated with failure. Fisher (1997) helps us to understand the relationship between
product type based on demand characteristics and supply chain strategy. Product characteristics
(standard or special), demand (stable or unstable) and replenishment lead time (short or long)
parameters seem to critically influence the selection of the products for LCC sourcing and also
the supply chain strategy (Christopher et al. 2006, Lee 2002).
Nellore et al. (2001) suggest that LCC sourcing is not preferred for complex products that
require early supplier involvement and intensive engineering collaboration. Levy (1997) suggests
that components that need JIT delivery, low inventory levels, lower lead time and flexible manu-
facturing are not ideal candidates for sourcing over long distances. Pope and Prasad (1998) point
out the importance of considering aspects that influence the inventory and logistics such as the
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demand pattern of the product, shelf life and nature of the product. In summary, product charac-
teristics that affect logistics in an LCC sourcing setting include volume sourced, the nature of the
product (e.g., standard or specified), inventory and demand volatility.

2.3. Supplier characteristics and its influence on logistics

Previous research has a strong focus on multi-national sourcing through subsidiaries and the need
for appropriate supply chain configuration (Kumar and Rehme 2008). Literature suggests that on-
time delivery, delivery reliability and lot size/batch quantity are the influential logistics criteria
in supplier selection and that international supplier selection is different from domestic supplier
selection (Motwani 1999, Min 1994). Logistics factors such as delivery reliability depend on
supplier country/region specific factors such as transportation infrastructure and availability of
logistics services (Murphy and Daley 1994). Country specific infrastructure has a great impact on
delivery lead time and uncertainty, hence influencing the logistics cost especially through increased
inventory (Pope and Prasad 1998). Pope and Prasad (1998) offer a very broad interpretation of
infrastructure related parameters including roads and railroads, communication, availability of
suitable transportation, industrialisation, and availability of employable labour and wage rates.
The country in which the supplier is present also affects the supplier selection process in terms of
cultural closeness and the ability to understand the value of time and interpretation of information
(Min 1994, Murphy and Daley 1994). In summary, supplier characteristics that influence logistics
include on-time delivery reliability, cultural closeness, batch size, country-specific factors and
transportation infrastructure.

2.4. Total cost of ownership

In order to analyse and evaluate logistics consequences of increased purchasing from LCCs,
it is important to understand the basic economic underpinnings. According to Nelson and Sisk
(2005), the term “low cost country” has been closely connected to countries with low labour
costs; however, they argue that when making this categorisation all costs need to be considered.
Therefore, it is vital to include the total cost of ownership (TCO) in the decision making framework
and understand logistics impact on TCO.
However, in addition to including a wider range of costs the focus of logistics has over the last
few decades been on issues such as flexibility, better service, time, increasing revenue and partic-
ularly on logistics as a way to compete. From a total cost of ownership and logistics perspective,
the aim is to reduce the total logistics cost while achieving a given service level and TCO helps to
 International Journal of Logistics: Research and Applications 147
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Figure 2. Proposed model for analysis.

show logistics performance (Lambert and Burduroglu 2000). TCO is suited for supplier selection
and supplier evaluation decisions (Ellram 1995). Even though the total cost systems approach
has been used in purchasing for a long time, very few companies have been successful in captur-
ing the total cost in LCC sourcing (Trent and Monczka 2005). A TCO categorises the total cost
in three different areas based on the stage in which they occur: pre-transaction, transaction and
post-transaction.

• Pre-transaction elements include costs such as need identification, source verification, adding
the supplier to the internal system, educating the supplier and adding new competence to the
firm (Ellram 1993).
• Transaction elements include price, order placement or preparation, delivery/transportation,
tariffs/duties, billing/payment, and inspection cost (Ellram 1993). Zeng (2003) has listed a
number of logistics related elements to be included: consolidation charges, cost of urgent
shipment, transfer fee, inventory holding (pipeline inventory, safety stock and warehousing
cost), handling and packaging.
• Post-transaction elements include defective finished goods, repair/replacement costs, loss of
customer goodwill and reputation. McGowan (1997) emphasises that the logistics cost and con-
trol in international purchasing is dependant on the ownership of the goods. He also emphasises
the importance of lost business and the cost associated with the risk in international logistics.

The proposed model in Figure 2 shows product characteristics and supplier characteristics that
influence logistics along with the total cost of ownership elements. Literature evidences of
logistics cost elements that affect total cost of ownership in each of the three stages i.e. (1)
pre-transaction (2) transaction and (3) post-transaction are also depicted in the picture.

3. Methodology

International purchasing is considered a young research field requiring empirical in-depth explo-
ration and theoretical borrowings from adjacent fields (Quintens et al. 2006). Given the specific
research focus of how logistics issues are considered in LCC sourcing, exploratory research is
 148 N. Kumar et al.

Table 1. Context variables of the case companies.

Firm A Firm B Firm C

Size of the company Small/medium scale Medium/large scale Large scale

Demand management Customer order based Assemble to order Forecast based
LCC sourcing from India, Taiwan and China China, Korea and India
potentially India
Market presence Global corporate presence Global Global
Customers Tier 2 & Tier 1 End user Tier 1
Sourcing organisation Agent based (International International purchasing International purchasing
purchasing office in the office and sourcing office and sourcing
future) through subsidiaries in through subsidiaries in
LCC LCC
Nature of product sourced Commodity type Bottleneck, commodity, Strategic, bottleneck,
(See Kraljic (1983) for leverage commodity, leverage
typology explanation)
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required. Case study based research using an explorative semi-structured questionnaire was used,
focusing on LCC sourcing decision making. We have chosen to focus on Swedish industrial prod-
uct companies engaged in LCC sourcing of semi manufactured goods from Asia, especially China
and India. Such industrial products, which have higher logistics and coordination complexity, are
a sector of rapid increase in LCC sourcing in Sweden from distant Asian economies (Rehme et al.
2006). Three case companies in the sector sourcing from distant LCCs were selected. There are
variations in terms of the company size, demand dynamics and which stages of LCC sourcing
the case companies have reached. One case company has had a long evolution of sourcing from
LCC and could be considered very successful. The other two case companies are at different
stages of LCC sourcing (refer Table 1). The reasons behind choosing companies with varying
characteristics are that it helps to capture the different dynamics and the importance of logistics
in different stages of LCC sourcing, and also because it increases the generalisability of results.
Two individual in-depth interviews with Firm A and Firm B and two in-depth interviews with
the manager at Firm C’s purchasing office in India were conducted. Secondary sources of material
were collected in order to understand the context of each company before conducting the inter-
views. Respondents represented corporate purchasing and divisional purchasing and had been
associated with the LCC sourcing decision making process since its initiation. The questionnaire
was sent before the actual interview and the respondents’ supplemented secondary internal doc-
uments during the interview. Each interview lasted for 1.5 to 2 hours and was recorded and then
transcribed into case descriptions. These descriptions of cases ranged from between 10 and 20
pages each and were sent to the case companies for verification and correction. Such case descrip-
tions help to increase the construct validity of such research (Yin 1989, Ellram 1996). During
the data validation the respondents supplied additional information and identified a few minor
corrections to the case descriptions. Open and axial coding techniques of breaking down the data
for analysis, conceptualisation, categorisation and creating connections across categories were
used during analysis (Ellram 1996). Within-case analysis and cross-case analysis was performed
iteratively and the results were compared with conflicting and similar literature according to the
recommendations of Eisenhardt (1989).

4. The three firms and their experience in the logistics of LCC sourcing

4.1. Firm A – The multinational component supplier

Firm A is part of a large multinational company and is a second tier supplier of components for
the automotive and industrial products sector. There is a strong corporate directive to rationalise
 International Journal of Logistics: Research and Applications 149

purchasing and to source from LCC. LCC sourcing is used as a way to introduce competition
into the existing supply base. Customers have also pressured the company into sourcing from
LCCs as a part of the continual improvement of cost competitiveness. Simple components with
no design changes and standard specifications are sourced from LCCs. Most of the components
sourced are commodity products. The product selection is made internally, but supplier selection
and logistics coordination with suppliers is made through other corporate divisions present in
the LCCs themselves. Sometimes LCC sourcing was also done by agents, though there are plans
to set up an international purchasing office in the future. Third party logistics companies help
in coordination of the goods and take part in transporting goods only to the factory in Sweden.
The logistics cost is roughly calculated as 10–15% of the total cost as a rule of thumb and no
detailed analysis is being done. The transportation cost and the customs cost are the other logistics
elements included in the TCO analysis. When demand planing is not done in close collaboration
with customers, Firm A has to have a huge amount of stocks. This increases the inventory and
warehousing requirements and also makes Firm A inflexible to demand fluctuations.
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4.2. Firm B – Load handling solution manufacturer

Firm B offers load handling solutions with a wide product range and has a global market presence.
LCC sourcing is considered because of cost reduction possibilities and future market development
potential in LCC. Purchasing is regarded as professional and global in nature. The LCC sourcing
practices of competitors havealso motivated an increased sourcing in LCC. Based on the product
characteristics, a cost savings of about 15 to 40% is being targeted. Low volume, low demand
uncertainty and simple products are sourced initially to test the supplier and then volumes are
planned to increase in the later stages. LCC sourcing is not used for bulk products with a low
value density or for complex products. Firm B evaluates on time delivery from suppliers on the
basis of purchasing Ex Works in LCC, as does Firm A. Other supplier logistics capabilities are
seldom a qualifying criterion for supplier selection. The International Purchasing Office present
in the LCC takes care of the logistics of moving goods from the supplier’s factory in LCC to the
facilities in Europe. The focus at the time of the study was on finding and building supplier quality
capability, and logistics will be considered explicitly in the near future as the volumes increase.
Transportation and customs cost are the logistics costs included in the total cost analysis. The
major challenges include the inflexibility to sudden customer order changes and the inability of
the existing lean production system to handle large batches involved in LCC sourcing.

4.3. Firm C – The 1st tier OEM

Firm C is a first tier OEM manufacturer and has been a pioneer in sourcing from LCC. The
firm has long-established procedures for managing sourcing and logistics activities and could
be considered successful in LCC sourcing activities. Firm C is convinced of the potential cost
reduction in LCC sourcing for corporate global operations and is also motivated by the market
presence perspective. The quality level available in LCCs further motivates Firm C. The com-
pany has an international purchasing office in India, which has a clear understanding of the
purchasing and logistics requirements of their various global facilities through cross-functional
and cross-locational efforts in decision making. The first phase of sourcing starts with simple
time-insensitive, low volume, constant demand and less complex products, and later moves on
to high volume constant demand products. These initial stages allow the company to understand
the supplier quality level and simultaneously set up logistics capabilities for sustainable LCC
sourcing. Bulk low value products that are non stackable are avoided even if the unit cost is sub-
stantially lower. Low volume products are also avoided because of increased logistics coordination
costs. During the sourcing process Firm C understands the technical capability of the supplier and
 150 N. Kumar et al.

the feasibility of the purchase. Firm C shares detailed volume plans both with the supplier and
simultaneously with Third Party Logistics (TPL) providers. Once the technical capability of the
supplier is proven and established, the TPL company coordinates the demand planning information
and material from the supplier to Firm C’s individual global factories. The TPL company ensures
timely delivery and logistics facilities such as warehousing, transportation, customs handling are
also taken care of. The TCO includes a sophisticated list of logistic cost elements. Challenges
include reduced flexibility to demand fluctuations, cultural problems, inland transportation infras-
tructure, handling, special packaging requirements and warehousing space requirements. There
is a high internal resistance to sourcing from LCCs for the company since it is a tier 1 supplier
and the logistics capabilities are perceived difficult to judge internally.

5. Analysis and discussion

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There are a number of decisions and supporting analyses that have to be made before a company
can be supplied with goods from a low cost country. First, the company has to make a strategic
decision whether or not to get involved in LCC sourcing, and a series of decisions follows. In the
three case companies the final decision whether or not to source from LCC was not made until
the actual supplier selection was made and a product was selected for testing the supplier. All
the companies have changed some of their suppliers from a close location to suppliers located
in a distant LCC. Except for Firm B, the case companies have previously purchased (rather than
made in-house) the products and, hence, it was not a question of a make or buy decision that
these companies were facing but a decision to source from locations nearby or from distant LCC
locations.

5.1. Motives for low cost country sourcing

In all the cases it was shown that the move to low cost country sourcing was made in order
to achieve different strategic benefits. Primarily, it was to increase competitiveness by cost
reduction but also to gain access to LCC markets. Among the case companies the following
factors influenced sourcing decisions from LCC:

• Cost reduction
• Market opportunities to sell in LCC
• Demands from different stakeholders

Literature suggests various motives underlying sourcing from other countries. Swamidass (1993)
and Monczka and Trent (1991), for example, suggest both cost and non cost factors. Many of
the motives listed by these authors are in line with the motives stated in the cases, with cost
being the dominant factor in sourcing from LCC. However, access to new processes or product
technology—better material and quality—which may be a motive for international purchasing
(Trent and Monczka 2005, Handfield 1994) are not the motives for the case companies, although
all the companies want to maintain the quality level. Considering the potential cost benefits, all
the case firms revealed that purchasing from LCC was a clear directive from the corporate side
and also that there was a clear need to establish the companies in LCC markets for future market
growth. To some extent, introducing competition and also making suppliers more responsive (as
mentioned by Monczka and Trent, 1991) is present in gaining. The most important driving forces
for purchasing have been cost reduction (20–40%) and gaining access to new markets. These cost
reductions and sustained market attractiveness are the reasons to clearly move into LCC sourcing.
 International Journal of Logistics: Research and Applications 151

Drivers for LCC sourcing include owner or corporate manager directives to move into LCC
sourcing, the fact that purchasing is becoming more global, professional and coordinated,
competitor practices, and increasing pressures to source from LCCs from customers.

5.2. Product characteristics and its influence on logistics

The case companies categorise products based on value and complexity and not predominantly
on logistics factors. Firm C sources only commodity raw material based products and the other
two firms have a wide range of potential products to source from LCCs. On a product level
characteristics such as value density, degree of customisation, demand volatility, readiness to
assemble and shelf life affect logistics. The case companies believe that products with a high
value to volume ratio, a low level of design changes, large volumes and regular demand patterns
seem to drive LCC sourcing decisions. Each clearly company has distinct product characteristics
and experience in LCC sourcing. This can be clearly understood from Figure 3. Though there are
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various product characteristics involved, as illustrated in Figure 3, we will explain some of the
critical product characteristics and their influence on the logistics of LCC sourcing.

• Value density. The increase in value density proportionally reduces the logistics cost per unit
and impacts LCC sourcing decisions. From Figure 3 it is evident that all the case companies
sourced components that had a high value density. In the case studies the LCC price advantage
would be eroded through higher transport costs and warehousing costs if goods were bulky and
of lower value density.
• Standardisation. The degree of standardisation affects both order lead time and delivery reliabil-
ity. Customisation levels not only increase product variety but also increase process or product
design changes on the supplier side, thereby increasing the lead time and causing logistic uncer-
tainties. Firm B works in an assemble-to-order setting and their customer delivery lead time is
more than a month, but the company allows their customer to change the specifications until
a week before the delivery of the product. When the transportation lead times are more than
40 days (minimum) for the components to be moved from LCC in Asia, such a high degree of
customisation either increases inventory or necessitates rush orders to be sent by air freight, or
else it is necessary to reduce the customisation level for customers. Potential quality problems
increase because of higher product/process changes and also because of improper communica-
tion and understanding of these design changes. Firm C sources products with a high potential

Figure 3. Product characteristics influencing logistics friendliness.

 152 N. Kumar et al.

for quality problems but has good logistics coordination to reduce uncertainties. Standard items
with little customisation are easier to source from LCCs rather than non-standard items, which
involve product and process changes (Nellore et al. 2001).
• Demand stability. For large volumes with high demand stability it is possible to establish
efficient logistics systems, and especially if the transport efforts are efficient due to high fill
rates as in the case of Firm C. For Firm A and Firm B lower volumes will require less than
full container loads, which will result in a higher cost per item and potential service reductions
(and damages due to additional handling). Large volumes with high demand variations increase
financial risk because of a stock out situation and therefore, additional safety stock must be
added, increasing the cost. Demand volatility increases logistics costs; therefore, products with
low demand uncertainty and high volume are preferred from LCCs. Products with high demand
uncertainty increase risk through increased inventory and obsolescence. This was the case for
Firm C where the initial LCC sourcing began without considering shelf life and it resulted in
obsolescence.
• Order processing speed. In the cases there are two distinct order lead time elements: manufac-
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turing lead time and transportation lead time. Complex engineering products involve a number
of stages resulting in longer manufacturing lead times. Manufacturing lead time is increased
if there is increased customisation. Transportation lead time also affects the shelf life of the
component and increases finished product inventory. If the shelf life is not long after taking
into account the total lead time, then products run the risk of obsolescence.
• Packaging. Packaging should contribute to increased value density whilst maintaining the ability
to transport effectively with low risk. The use of pallets for packaging influences the container
fill rate, reducing transportation costs and risk of damage. But the case companies studied
have not taken into account the influence of packaging after transport. When products like
castings and forgings are transported by sea they need additional operations such as unpacking,
cleaning and sorting, which increase the logistics costs and leadtime and may cause delays.
In this paper the process of unpacking, cleaning and sorting is referred to as the ‘ready to
assemble’ character of the product. Both Firm B and Firm C have a higher need for performing
these ready to assemble operations involving additional logistics and increased lead time before
the products can actually be used.
All three case companies exhibit similarities in having product characteristics of high value den-
sity, product/process design standardisation and shelf life characteristics. This could be because
they are all industrial product companies and are at least fairly experienced in sourcing. In Figure 3
it can be seen that Firm A and Firm C have sourced products with characteristics that have higher
logistics friendliness than Firm B. Firm A has products that fit sourcing from LCCs but the volume
is rather low, hence the batch quantity and supplier selection choice becomes an issue in making
LCC sourcing viable. Firm B is in the situation where it is unsure of the product characteristics
and their influence on LCC sourcing decisions. For Firm B, aspects such as demand stability and
potential quality problems coupled with long lead time are issues of concern because Firm B
operates in an assemble-to-order environment and the volumes are not very high. We can see that
the interacting effects of different elements determine the degree of logistics friendliness based
on product characteristics and that no single product characteristic alone can determine logistics
friendliness.

5.3. Supplier characteristics and its influence on logistics

Matching supplier characteristics to the product needs is a natural next step in LCC sourcing after
product selection. The case companies started with simple commodities to test and understand
the supplier capability. If the consistency of supplier quality is assured, complex products are
 International Journal of Logistics: Research and Applications 153

sourced in the later stages as in the case of Firm C. Logistics friendliness in supplier selection is
dependent on three broad areas, which include supplier capability, TPL company capability and
the logistics characteristics of the country in which the products are sourced from. These affect
on-time delivery reliability and also the lead time of sourcing from LCC.

• Supplier characteristics. Suppliers for all firms are selected based on a technical capability
evaluation and logistics is seldom taken into account. The logistic maturity of the suppliers in
terms of ability and awareness seems to be rather low in our case studies of LCC sourcing.
Despite this, the firms are still dependent on the logistic capability of the supplier to deliver. The
sooner the firm takes control over the products the more control the company has in managing
logistics cost and service level (McGowan 1997). In our case, company factors such as cultural
differences and order execution cycle time affect the logistics lead time. Firm C ensures that
the suppliers have excess manufacturing capacity because this enhances their ability to handle
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emergency orders and cope with demand volatility. The suppliers undergo a stringent selection
process because of the stakes involved, but most of the evaluation is focused on the quality of
the products and not on the logistics capability of the suppliers.
• TPL company. All case companies have used third party logistics (TPL) companies to handle the
logistics of their supplies and to have a predictable delivery schedule. The reason for using TPL
companies is that they provide the required coordination with suppliers for delivery schedules
and information at cost effective levels (Fawcett et al. 1993). Firm A and Firm B argue that
since the supplier has poor logistics awareness it is imperative to use a TPL company that
has a global reach. Moreover, the TPL companies have control over transportation operations,
especially in the LCC, which is seen as critical by all the firms in the case study. This is
critical because knowledge about logistics in LCCs is limited at the case study companies. All
the case companies bought TPL services, which include documentation, coordination/control,
information services, consolidation, carrier selection, warehousing, customs clearance and an
understanding of local regulations. However, Firm C is planning more closely with the TPL
companies and the suppliers for future warehousing requirements, demand coordination with
suppliers and information transparency between all parties, which is considered to be critical
for sustainable LCC sourcing.
• Macro characteristics. Macro level logistics factors are aspects to consider when choosing
between supplier alternatives. The case companies face logistics challenges based on the coun-
try they are sourcing from and also specific regions in that country. On a country level, broad
estimates can guide sourcing decisions. Murphy and Daley (1994) use logistics friendliness
or unfriendliness from a country level perspective on logistics issues and discuss the impact
of infrastructure on international sourcing. This aspect, though crucial, is not often used by
companies in their LCC sourcing decision making. Transportation infrastructure affects logis-
tics lead time, modes of transportation and uncertainty associated with them (Pope and Prasad
1998). Customs lead time affects the total cycle time and also the warehousing time required in
the LCC. Understanding macro factors will help them design better logistics solutions taking
into account the challenges of infrastructure in LCCs. Some of the case firms have not taken
macro level logistics factors into account during sourcing. Logistics cost structures in LCCs
differ substantially and the data was seldom readily available to perform adequate analysis on
a macro level. Recent research by the World Bank (Arvis et al. 2007) has made it possible to
access logistics information at a country level enabling macro level factors to be included in
sourcing decision making process. Measures such as customs clearance efficiency, information
infrastructure for logistics, ease and affordability for international shipments, competence of
the local logistics industry, domestic logistics cost, ability to track international shipments and
timeliness of shipments are used to arrive at a logistics performance index at a macro level,
 154 N. Kumar et al.
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Figure 4. Supplier characteristics influencing logistics.

which can be used in making sourcing decisions. Firm C had detailed estimates and an under-
standing of the macro level factors and hence, they were able to manage the sourcing in a better
planned way.

Figure 4 on supplier characteristics and the influences on logistics illustrates that Firm C is better
positioned than both Firm A and Firm B. One reason for this is that Firm C is more experienced and
also has focused on working closely with suppliers and TPL to develop the importance of logistics.
When it comes to macro level factors such as transportation infrastructure, export procedure and
documentation, all firms experience the same problems; however, Firm C interacts and works
closely with its TPL company to have better control over logistics issues. Simultaneously, Firm C
chooses suppliers who are involved in supplying globally to reduce the differences that arise
because of culture.

5.4. Total Cost of Ownership

Total Cost of Ownership (TCO) is a tool used by companies to evaluate LCC sourcing. However,
Firm A and Firm B performed only a cost analysis rather than a comprehensive TCO. All case
companies expect a cost saving ranging from 10 to 30% in line with previous research (Frear et al.
1992). Logistics affects pre-transaction, transaction and post-transaction aspects of TCO, but the
transaction components are the most frequently cited by the case companies. In practice, the costs
considered are mostly from product-related factors and not from supplier-related characteristics,
even though both product- and supplier-related characteristics, influence the total cost. Logistics
costs are extremely dependent on product characteristics and volume and these logistics costs are
difficult to calculate using TCO. Moreover, companies find that it is hard to predict the volume of
business before the sourcing operations begin and evolve over time. Table 2 shows an overview
of the logistics costs considered by the case study companies. Different companies have shown
differences in understanding and using the TCO model and its different steps (pre-transaction,
transaction and post-transaction).

• Pre-transaction: Though all cases show that there are pre-transaction costs, they are not clearly
documented. Most pre-transaction costs are related to the organisation of LCC sourcing activi-
ties. For instance, setting up the international purchasing office, agent based sourcing systems,
 International Journal of Logistics: Research and Applications 155

Table 2. Logistics cost elements in total cost of ownership.

Firm A Firm B Firm C

Pre-transaction cost
Structural change in supply chain (international purchasing office, agent based X
sourcing, subsidiary based sourcing etc..,)
Supplier and TPL investigation and evaluation cost X X
New competence cost (purchasing and logistics skills with local LCC knowledge) X X
Travel and communication cost X X X
New supplier switching cost (training and setting up of logistics planning activities X
and procedure)
Cost of LCC sourcing organisation (with cross functional and cross locational X
team for decision making)
Transaction cost
Transportation cost X X X
Warehousing cost X
Inventory carrying cost X
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Customs X X X
Packaging cost X X X
Ready to assemble cost (unpacking, cleaning and sorting/sequencing for assembly) X
Risk and damage cost (insurance etc.) X X X
Administrative cost X X X
Inspection and monitoring cost X X X
Post-transaction cost
Lost sales and opportunity cost
Obsolescence cost
Cost of salvage/disposal (for defective goods) X X

the acquisition of new competencies, etc., but they are not documented. Moreover, these pre-
transaction costs occur as a result of trying different alternatives of sourcing over a period of
time and the companies do not have a fixed strategy for LCC sourcing. For example, companies
start with agent-based sourcing and subsidiary-based sourcing and gradually move towards the
formation of an international purchasing office. Many firms, including the case companies stud-
ied, believe they have had considerable costs during the set-up phase for travel, communication
and training and development of the suppliers. These costs are closely related to selecting the
right supplier and the TPL company for handling logistics services. Set-up costs include inves-
tigation costs for finding possible suppliers as well as analysing them and improving their level
of logistics operation. Further, the pre-transaction costs consist of negotiating costs as well
as the building of new competencies to be acquired in the international purchasing office. All
case companies agree that local knowledge about logistics and operations in LCC is critical,
hence the requirement of new competencies. Though there are many pre-transaction costs, only
Firm C has considered them proactively. The pre-transaction costs that are considered here are
in line with previous research as in the case of Firm C (Zeng 2003). We can see that most
pre-transaction costs are driven by supplier characteristics.
• Transaction: In our case studies, most of the total cost analysis focused on transactional costs.
As long as a price advantage of 15–40% is maintained in the portfolio of purchased goods from
the LCC, purchasers in the case companies believe it is not necessary to study the logistics
cost in detail. Two case companies arrived at a conclusion that generally the logistics cost is
about 10–15% of the unit price. Hence, logistics costs seldom guide the decision making of
import sourcing from LCCs. In the transaction costs, transportation costs and customs duty
and packaging costs are considered because they add directly to the purchasing price of the
component and they are generally readily available.
Since the value of the products initially sourced is low, the rise in inventory cost at a later stage
is neglected. But when the sourcing of high value items begins, the inventory costs and handling
 156 N. Kumar et al.

costs have to be taken into account, though purchasers find it hard to calculate the inventory
cost in their long distance LCC supply chains. From the case studies we also understand that
it is critical to inspect the components both in the LCC and also in the country of destination.
But case companies have not captured the inspection cost. The cost of inspection is related to
supplier characteristics in terms of maturity and capability. Firm C chooses the supplier who
can deliver high quality consistently to reduce the inspection cost.
Packaging is critical in international sourcing to reduce damage and, according to the
purchasers, needs careful attention. Packaging aspects – both unit packaging and the con-
tainerisation of loads – influence the total cost. Firm C agreed that packaging costs depend
on palletisability and containerisation and that it was very difficult to calculate the packaging
cost before volumes really picked up. Most of the time such industrial product companies are
receiving packaged and coated products that need further processing such as cleaning before
they can be finally used in assembly. This leads to added logistics costs and longer lead times.
An important element of transaction costs that all the companies either failed to include
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in TCO or underestimated was warehousing costs. Some companies are moving from a lean
production mechanism (such as JIT, Two Bin System, Kanban) to full container supply, but the
companies have not yet analysed the increase in warehousing cost in their approach to LCC
sourcing. The lack of time to make through analysis, lack of information, and poor internal
coordination in the initial stages could lead companies to exclude warehousing costs in total
cost analysis. Warehousing is clearly a logistics activity and logistics are dealt only in the
implementation phase of LCC sourcing in a reactive fashion. The move from contemporary
cost focused supply principles (e.g., lean, JIT) to consolidated full container shipment handling
affects many cost and service parameters (warehousing, inventory cost, shelf life concerns,
etc.).
• Post-transaction: It is clear that although the firms studied are very much aware that costs
can arise during the post-transaction stage because of defective products or failed on-time
delivery, those cost elements seem not to have been explicitly considered. Post-transaction
costs are being mitigated through strict quality controls in supplier selection and development
of suppliers; however, the costs that can occur have not been quantified. Longer lead-times
on the supply side, the need for an agile/short lead-time on the product side, and possi-
bly shorter product life cycles could result in obsolescence. The opportunity costs of lost
sales because of failed deliveries or defective products are seldom considered. These have
not been incorporated explicitly in the TCO analysis. This could be because the compa-
nies that have been studied were from the industrial products category and these costs are
more important in industries such as the fashion industry, as suggested by previous research
(Christopher et al. 2006).

At this juncture, it is important to relate to the product and supplier characteristics and their
influence on TCO. When sourcing functional products with low demand volatility and low vol-
ume, the pre-transaction cost will reduce the potential LCC sourcing cost benefits. Therefore,
functional products with very low volume offer no viable LCC sourcing solution though they
can be used to test supplier capability. Apart from the pre-transaction components, administra-
tion costs and transport costs are also aspects that offset the sourcing price benefit. When a
functional product with a high volume is being sourced from LCC the focus is more on the
efficiency of the system. An innovative product with high demand volatility bought in high vol-
ume is associated with the risk of obsolescence and inventory cost and the cost of lost sales,
rendering these types of products less favourable for LCC sourcing. The coordination cost to
get product customisation and the logistics complexity involved in the adopting of the design
changes critically affect the logistical total cost in LCC sourcing. Though the pre-transaction
costs are poorly documented we can clearly see that the cost elements are driven by the supplier
 International Journal of Logistics: Research and Applications 157

characteristics. Firm C, for instance, makes efforts during the pre-transaction stage to develop
logistics capability so that it can reduce logistics cost and enhance logistics planning and control
during the transaction and post-transaction stages. Firm B and Firm C perform vigorous sup-
plier selection and monitoring as a means to reduce negative impacts on logistics due to supplier
characteristics. Warehousing costs, ready to assemble costs, and handling and packaging costs
are the costs that need to be looked into, and it is important to determine how the suppliers are
able to support these logistics aspects. Product and supplier characteristics together affect TCO,
but in practice only product characteristics and transaction costs are taken into account in cost
analysis.

6. Summary and Conclusion

LCC sourcing decisions require us to take a combined approach to include logistics factors in both
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supplier selection and product selection. However, purchasing decisions include logistics issues
only to a limited extent in the early planning stages of LCC sourcing. Even if they are included,
these are in a limited way based on product characteristics affecting transaction costs. Supply side
lead time increases in comparison with sourcing from a nearby supplier, and this is occurring at
a time when the customer order lead time is under pressure to be reduced. As stated in previous
literature (Lee 2002), all case companies find that demand uncertainty or lack of flexibility creates
a major hurdle in LCC sourcing.
Aspects such as flexibility, customisation and country level factors are difficult to include in a
TCO analysis. The study has shown that the logistics factors in LCC sourcing involve more than
just looking into quantity and on-time delivery prerequisites, which are considered during the
supplier selection phase. Large price reductions in combination with the perception that logistics
costs are relatively low explain the current lack of focus on logistics issues of LCC sourcing and
the lack of explicit TCO analysis. For an effective LCC sourcing decision analysis logistics should
be integrated in both product selection and in supplier selection stages.
Logistics has a broader impact than just transaction cost and on-time delivery. Logistics
affects the total cost of ownership across pre-transaction, transaction and post-transaction. How-
ever, logistics factors are mainly considered from a transactional perspective alone and seldom
include pre-transaction and post-transaction. Companies that consider logistics proactively have
a better understanding and control of logistics and costs. Logistics factors such as customis-
ability, demand volatility, cultural difference across suppliers, and logistics capability of the
country could not be evaluated with the TCO model. Though TCO is a dominant model for
sourcing decisions from LCCs, not all logistics factors can be translated into cost aspects
for TCO.
Though costs such as obsolescence costs and lost opportunity costs exist in literature they seem
to be given less importance in practice, calling for proactive inclusion of logistics using cross
functional teams. The reason could be that the case companies belong to the industrial products
category. These would have been more appropriate from a fashion goods industry perspective.
We have refined the model to understand the logistics of sourcing from LCC. The modified
model for analysing logistics factors in LCC sourcing is developed in Figure 5. In summary the
conclusions are made:
(1) Purchasing needs to emphasise logistics factors much more strongly early in the sourcing
decision. Because of low unit prices of products up until now, logistics has not been regarded
as crucial in sourcing decisions. However, companies need to understand landed costs before
making the product determination, since there are a number of cost-adding factors that will
affect the unit cost.
 158 N. Kumar et al.
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Figure 5. Logistics of LCC sourcing.

(2) Logistics is affected by characteristics across products and supplier (also see Figure 5):
a. Product characteristics influencing logistics cost and service include: value density, cus-
tomisation, quality, rate of change (of product and process), readiness to assemble, demand
volatility, volume, packaging, cycle time and shelf life.
b. Supplier characteristics influencing logistics cost and service include: on-time delivery,
logistics ability and awareness, TPL service, warehousing, transportation infrastructure,
export procedure, cultural closeness and ITsystems.
(3) Presently, logistics is considered reactively in LCC sourcing decision models and is considered
from a transactional perspective based on product characteristics. Logistics is better addressed
proactively, taking both product and supplier selection on pre-transaction, post-transaction
and transaction levels. Figure 5 lists the different costs at different stages affected by product
and supplier characteristics.

Although logistics has not been seen as imperative to analyse prior to making the final sourc-
ing decision, the actual logistics issues will become evident when sourcing turns into supplies
i.e. deliveries. There are various aspects that can add to the understanding of LCC sourcing of
components for manufacturing or final assembly. One is that when sourcing is made purely based
on lowering costs, logistics will have a greater impact on the sourcing decisions in the future.
Questions that become important for companies regarding this are: 1) What is happening in the
infrastructure development in the LCC in terms of road, harbour and logistics facilities? 2) How
will the individual LCC companies develop their logistics management and strategy, and will they
develop from being “production sites” towards supply chain companies? 3) How will develop-
ments in the shipping sector affect bottle-necks for container traffic (number of ships, containers,
as well as routing and time planning to avoid the build-up of queues in harbours, etc.)? 4) How will
the receiving companies manage the receiving logistics in terms of planning for longer lead-times
 International Journal of Logistics: Research and Applications 159

as well as accommodating larger shipments with more storage facilities? If these developments
happen, international LCC sourcing could develop well beyond the present level. Of course, there
are issues that go outside of this scope; for instance, in terms of political development and global
market growth, but also increases in factor prices, such as fuel, raw material and labour costs.
However, when companies start developing sourcing practices not only for cost reasons but also to
get close to LCC markets the rationale is different. The costs of doing business in these countries
can in such instances be seen as a market investment, where logistics costs are of less importance.
Instead, building up relationships and getting an understanding of the market environment, and
establishing presence are aspects that become more important.

Acknowledgements
The authors would like to thank the Swedish Governmental Agency for Innovation Systems (VINNOVA) for funding this
study and the participating companies for their support. The authors are most grateful for the three anonymous reviewers
for their constructive comments that helped to improve the clarity and presentation of the paper.
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