Author: Abhirup Das, Debesh Majumdar, Devdut Saha, Ungratwar Sujeeth
Sourcing
The company decides to outsource the materials when it cannot produce it in-house or has insufficient in-house capacity. The different types of sourcing possible are
Companies follow one of the two sourcing strategies-single sourcing or multiple sourcing. Single sourcing is fulfilling all the needs of organization of a particular purchased item from one vendor by choice. When there is monopoly of the vendor then it is called as sole sourcing. In sole sourcing the company does not have choice but is forced to purchase from that vendor. There are many vendors in the market place in case of single sourcing but the company chooses just one of them to satisfy its requirements of a particular item. Multiple sourcing is fulfilling the requirement of a particular purchased item from more than one source. When a particular item is purchased from two sources then it is a special case of multiple sourcing called as dual sourcing.
In Deming’s 14 point for management, the fourth point requires that companies should purchase from single source rather than multiple sources. The Deming’s fourth point states “End the practice of awarding business on the basis of price tag. Instead minimize total cost. Move towards a single supplier for any one item, on a long term relationship of loyalty and trust” This has motivated some firms to follow single sourcing.
Single Sourcing
Some of the definitions of single sourcing are given below:
· Single sourcing is purchasing all the needs of the organization from a single production facility.
· Single sourcing is point of establishment of a relationship.
· Single sourcing is fulfillment of all the needs of the organization of a particular item from a single vendor.
· Single sourcing is having one source by choice while sourcing is having one source as no other option is available.
Many firms have started using single sourcing after getting influenced by the Deming’s 14 points for management. However selection of inadequate supplier can produce disastrous results for a firm which has decided to purchase all its needs from this supplier. Some of the advantages and disadvantages of single sourcing are discussed below
Single Sourcing Advantages
Advantages of single sourcing are
· Better pricing through higher volumes: By following single sourcing strategy one will be placing the entire order to only one supplier. The supplier will provide discounts or provide the items at a lower cost because of the increased order size.
· Inventory and Scheduling: The ability of the organization to schedule the delivery purchased item increases as the number of suppliers reduces to one. Improvement in scheduling of deliveries helps the organization to carry fewer of each item in the inventory.
· Quality Improvement: Managers recognize this as the main reason for moving towards single sourcing. Due to single sourcing quality is improved in various ways. Quality improves during the selection process and due to the stringent quality requirements of the vendee.
· Build long term relationship: As there is only one supplier the communication between the two will increase leading to better coordination. This will help in building long term relationship.
Single Sourcing: Disadvantages
The disadvantages of single sourcing are
· Price escalation: Price escalation is the most common risk in single sourcing. Vendor increases price once it becomes the single source of the vendee.
· Default Risk: The vendee can default because of one of the following reasons-fire, strike, natural disaster, vendor prerogative, etc. This will cause disruptions in the vendee organization. This may bring the operations in the vendee organization to a halt.
Selection Criteria for Single Sourcing
Classification of items/material:
A purchased item can impacts in terms of the volume purchased, percentage of total purchase cost, criticality on final product assembly or business growth. Availability, number of suppliers, competitive demand, make-or-buy opportunities, and storage risks and substitution possibilities are the parameters for assessing supply risk. Using these criteria, the company sorts out all its purchased items into the categories: strategic (high profit impact, high supply risk), bottleneck (low profit impact, high supply risk), leverage (high profit impact, low supply risk), and noncritical or commodity (low profit impact, low supply risk).
The purchasing approach of organization is not same across the type of item it purchases. The company may need to support supply decisions of strategic items with a large battery of analytic techniques, including market analysis, risk analysis, optimization models, price forecasting and various other kinds of microeconomic analysis. Bottleneck items may require specific market analysis and decision models for resolution, while vendor and value analysis, price forecasting models, and decision models may come into play on issues affecting leverage materials. Where commodity items are concerned, simple market analyses, decision policies, and inventory optimization models will normally suffice. Alteration in supply or demand patterns can alter a material’s strategic category. In many companies over the past few years, for example, coal has graduated from noncritical to strategic. Therefore, any purchasing portfolio classification is not static, rather dynamic in nature.
Market Analysis:
Subsequently the company weights the negotiation power of suppliers against its own strength as a customer It systematically reviews the supply market, assessing the availability of strategic materials in terms of both quality and quantity, the relative strength of existing vendors as well as its own needs and supply lines to gauge its ability to get the kind of supply terms it wants. Some of factors considered here:
Suppliers’ capacity utilization: This criterion indicates volume commitment and the risk of supply bottlenecks.
Supplier’s break-even stability: A supplier that achieves break-even at below 70% capacity utilization can ultimately deliver at lower cost than one who breaks even at 80% utilization. For the same reason, however, the first supplier will prove a tougher bargainer, for it can more easily delay negotiations and accept capacity underutilization.
Uniqueness of suppliers’ product: This is a function of natural scarcity (as in certain strategic metals and minerals), high technological sophistication, and/or entry barriers.
Annual volume purchased and expected growth in demand: Volume, the main determinant of the company’s overall bargaining power, is critical because economies
of scale in purchasing often yield a decisive competitive cost advantage.
Other Criteria:
A study (conducted with 2000 members of the National Association of Purchasing Management, US, representing wide range of industries) which examines the supplier selection criteria of purchasing managers who have a preference for single sourcing and those who have a preference for multiple sourcing. The study shows that dependability and price are composite criteria have significant importance for choosing single sourcing over multiple sourcing. As firms rely on only one supplier, supply risk increases. Firms must be certain that the supplier can be depended upon. Within the dependability criterion, technical support available was a significant attribute. Also, purchasing managers having preference for single sourcing, place more emphasis on product reliability than those who prefer multiple sourcing. In single sourcing, relationship oriented attributes become more important than issues such as low price.
Not-so-significant attributes are product related attributes like ease of operation, impact on energy utilization, Cost of service contract; availability related attributes like breadth of product line, geographic proximity, warranties etc. Lowest price alone or previously proved ability to keep delivery promise also does not matter much for the proponent of single sourcing.
Figure: Significant Criteria for Single Source
Decision Making:
In the short term, for strategic items where the supplier’s strength outweighs the company’s and the indicated strategy is diversification, the company should consolidate its supply position by concentrating fragmented purchased volumes in a single supplier, even with a high price, and cover the full volume requirements through supply contracts. Same decisions apply for bottleneck items also; but to reduce the long-term risk of dependence on a single source, the company should also search for alternative suppliers or materials or even consider back-ward integration to permit in-house production. On the other hand, if the company is stronger than the suppliers, it can spread volume over several suppliers, exploit price advantages, increase spot purchases, and reduce inventory levels; these are the suitable policy for other two kinds of items.
Hindrances in Single-sourcing
The single sourcing procurement is a difficult procurement process to be implemented. There are certain hindrances in implementing a single source procurement initiative. These are as follows:
· Corruption: The single sourcing procurement may lead to corruption. There is no competitive bidding process and hence the supplier chosen can be a bias. The buyer’s procurement department needs to show discipline in selecting the right supplier to single source the items. There are examples worldwide about the corruption involved in the single source supplier selection mainly in the government bodies like defense. It is very essential that the respective departments like engineering, manufacturing and procurement takes a unanimous decision on the selection of single source.
· Large purchase volumes: One of the underlying ideas behind the single source is to order large volume to get the price advantage that would have been there in case of competitive bidding. The volume here refers to the total sales of the single source supplier to the buyer. The sales can be high if the no. of units ordered are high or the item is a complex one and hence expensive. The absence of large volume will not make the supplier motivated to become single source.
· Skilled supplier: The single source supplier should be of high skilled to undertake the manufacturing of complex items. The skill is also required to produce the desired quality required which is the right product at the right price. The supplier should be able to cut down the cost of the production over time. The search and availability of such supplier is difficult and most of the time the companies had to undertake the vendor development process.
· Time required for vendor development: Most of the time the companies had to undertake the vendor development process to develop the single source. The process takes long time and investment from the buyer side also. This process is not suitable for companies who are not doing well financially. Vendor development also requires expertise in the relevant field from the buyer side.
· Total reliance on single source: The buyer has to rely fully on the single source for the supply of the items. Any setbacks to the supplier in terms of financial or natural calamities like earthquakes, fire, flood etc will have direct impact on the buyer which may result in loss of sales.
Characteristics of the single source
Single sourcing demands some characteristics from the supplier to make the process successful. The characteristics of the single source are listed below:
· Motivated and committed: The single source process design should have enough for the supplier to gain so that he is motivated and committed to the relationship. The motivation comes from the acknowledgement of the effort put in by the supplier and commitment of sales volumes. The relationship between the buyer and the seller should be a long term based on trust.
· Flexibility in production: The order from the purchaser to the seller may vary in different periods and hence the single source supplier is expected to absorb the variation in the order with the flexibility in its production.
· Innovation capabilities: The single source is expected to possess innovation capabilities which will help in improving the quality of the items produced and should be able to suggest improvements regarding the items procured by the buyer from him.
· Reduce cost over time: The cost of the production should be reduced by the single source continuously over time. This will benefit both the buyer and the seller. This requires the involvement of the buyer also with the expertise or know how and information and financial support to the single source.
· Take manufacturing of other related parts: Over a time the single source should be able to take the production responsibility of the other related parts. This will reduce the follow up required by the buyer with the different vendors and will also benefit the single source supplier with the increased revenue.
Transformation from Multiple sources to Single source
This section provides a checklist for transformation from the multiple sources to the single source procurement model. The following steps need to be done:
Ø The buyer must be able to identify the materials/items for which they want to go for single sourcing. This must take into account the cost-benefit analysis of multiple sources and single source for the items to be procured.
Ø The vendors must be identified on the basis of their present capability and future potential. The best fit vendor should be chosen from the available set.
Ø Sometimes the item may be a complex one and the vendors may not be available in the market. In such cases, the vendor must be developed by the buyer. The vendor should be technically competent and add to the competitive advantage.
Ø The single source vendor should be given support from the purchaser. These support can be classified into the following:
o Emotional/ Handholding: The buyer should have faith on the capabilities of the supplier and should have patience till the supplier develops.
o Information/know how: The buyer should pass on the information related to the items and the processes to the supplier.
o Financial: The single source supplier should be given financial support to develop its capabilities so that it can add competitive advantage to the buyer.
o Technical: The technical expertise of the buyer regarding the items should be shared with the supplier so that the quality requirements are met.
o Market: The buyer should be able to commit sales for the supplier so that it keeps the supplier interested in the relationship. The motivation of the single source is very essential in developing this procurement strategy.
References
- Wilson, Scott and Pyman, “The extent of single sourcing and attendant corruption risk in defense procurement”
- http://www.purchasing-procurement-center.com/single-source-procurement.html
- http://www.defenceagainstcorruption.org/diagnosis/single-source
4. Swift, C. “Preferences for Single Sourcing and Supplier Selection Criteria”,
Busnres 1995. 32.105—111
- Kraljic, P.” Purchasing Must Become Supply Management”, Harvard Business Review September-October 1983
- Mark, T and Sharon, B“A Risk /Benefit Analysis of Sourcing Strategies: Single vs. Multiple sourcing” Journal of Operations Management, vol 7, no 4, December 1998
