INOM
EXAMENSARBETE INDUSTRIELL EKONOMI, AVANCERAD NIVÅ, 30 HP
STOCKHOLM SVERIGE 2017,
Strategic Sourcing
A Supplier Selection Framework for the Swedish Installation Industry
EMMY GERVARD INGRID JOHANSSON
KTH
’
Strategic Sourcing: A Supplier Selection Framework for the Swedish
Installation Industry
by
Emmy Gervard Ingrid Johansson
Master of Science Thesis INDEK 2017:87 KTH Industrial Engineering and Management
Industrial Management SE-100 44 STOCKHOLM
Strategiskt inköp: Ett ramverk för leverantörsval inom den svenska
installationsbranschen
av
Emmy Gervard Ingrid Johansson
Examensarbete INDEK 2017:87 KTH Industriell teknik och management
Industriell ekonomi och organisation SE-100 44 STOCKHOLM
Master of Science Thesis INDEK 2017:87
Strategic Sourcing: A Supplier Selection Framework for the Swedish Installation Industry
Emmy Gervard Ingrid Johansson
Approved
2017-06-09
Examiner
Lars Uppvall
Supervisor
Jannis Angelis
Commissioner
Bravida
Contact person
Camilla Jonzon
Abstract
Within the Swedish installation industry there is a tradition of purchasing materials from a few well- established national wholesalers. Due to how the market is structured, with a high service level and internal rigidity, has led the Swedish installation companies into a position where they found it difficult to negotiate the price levels. The complexity of changing the purchasing strategy in the national market has resulted in an interest of investigating the possibility of international sourcing and, thus, how an international supplier could be implemented in the daily procurement business.
The purpose of this study is to identify a solution to this problem and to provide an understanding of what aspects that impacts the implementation of an international purchasing strategy specifically for this industry. Due to the lack of knowledge that exists regarding international trading, initial focus must be given to strategic and also appropriate selection of supplier. In order to achieve this goal, all criteria that somewhat affect the selection of supplier must be identified. In addition, it is also necessary to consider how to take these criteria into account and, thus, in which extent they affect the selection of an international supplier.
Our study has resulted in a framework that can be used to facilitate the existing complexity of choosing an international supplier. Our results show that quality, price, delivery and service are the four key criteria that have the greatest impact on the selection. In addition to this, it is also necessary to have an understanding of how these are correlated to each and how this should be taken into account. With regard to our result, this is shown depending on the degree of relevance of the respective criterion. This provides valuable information about what to consider, and to what extent, in order to enable a reliable and appropriate selection of supplier. In addition, the framework also provides an opportunity to evaluate a supplier with regard of multiple criteria simultaneously and, thus, gives a comprehensive understanding of the supplier’s ability to meet certain requirements.
Key-words: Strategic sourcing, supplier selection, methods for supplier selection, the Swedish installation industry
Sammanfattning
Den svenska installationsindustrin har man en tradition av att köpa material från ett fåtal väletablerade nationella grossister. Däremot har marknadsstrukturen, med hög servicenivå och intern rigiditet, medfört att de svenska elinstallationsbolagen hamnat i en position där de har svårt att förhandla om konkurrenskraftiga prisnivåer. Komplexiteten i att förändra inköpsstrategin på den nationella marknaden har skapat ett intresse att undersöka möjligheterna för import. För att lyckas med en sådan förändring krävs god förståelse för hur man kan implementera en internationell leverantör i den dagliga inköpsverksamheten.
Syftet med denna studie är identifiera en lösning på denna problematik och skapa förståelse för vilka aspekter som väger in vid implementering av en internationell inköpsstrategi specifikt för denna bransch. Till följd av den okunskap som finns angående internationell handel ställs initialt fokus på ett strategiskt och lämpligt val av leverantör. För att uppnå syftet måste samtliga kriterier som på något sätt påverkar valet av leverantör identifieras. I nästa steg krävs också hänsyn till hur dessa ska beaktas och i vilken utsträckning de påverkar valet av internationell leverantör.
Vår studie har resulterat i ett ramverk som kan användas för att underlätta den komplexitet som finns i att välja en internationell leverantör. Våra resultat visar att kvalitet, kostnad, leveranssäkerhet och service är de fyra huvudkriterier som har störst påverkan i valet. Utöver detta krävs också kunskap för hur samtliga kriterier är korrelerade med varandra och hur de skall tas hänsyn till. Baserat på våra resultat, påvisas detta av kriteriernas respektive grad av relevans. Från detta ges värdefull förståelse om vad som måste beaktas, och i vilken utsträckning, för att göra ett tillförlitligt val av leverantör.
Ramverket bidrar även med möjligheten att bedöma en internationell leverantör med hänsyn till flera kriterier samtidigt, och således ges en tydlig helhetsbild över leverantörens möjlighet att möta särskilda krav.
Nyckelord: Strategiska inköp, leverantörsval, metoder för leverantörsval, den svenska Examensarbete INDEK 2017:87
Strategiskt inköp: Ett ramverk för leverantörsval inom den svenska installationsbranschen
Emmy Gervard Ingrid Johansson
Godkänt
2017-06-09
Examinator
Lars Uppvall
Handledare
Jannis Angelis
Uppdragsgivare
Bravida
Kontaktperson
Camilla Jonzon
Acknowledgements
First of all, we would like to thank the employees at Bravida’s Purchasing Department for believing in us and for giving us the opportunity to perform this Master Thesis. Additionally, we would like to address a special thanks to our supervisor at Bravida, Camilla Jonzon, whose knowledge and guidance have constantly created possibilities for us to develop and improve our work. We would also like to thank all the persons that participated in our inquisitive interviews and answered our questionnaire.
Secondly, we would like to thank our supervisor at KTH, Associate Professor Dr. Jannis Angelis, for all advice he has given us during the research process. His guidance has been a valuable support in the research process and has encouraged many new ideas.
Last but not least, we would like to address our deepest gratitude to our families that have supported us through this education, and not least this Master Thesis. This would not be possible without you - Thank you.
Stockholm, June 2017
Emmy Gervard and Ingrid Johansson
Table of Contents
1. Introduction 1
1.1 Background 1
1.2 Problematization 2
1.3 Purpose 2
1.4 Research Question 3
1.5 Delimitations 3
1.6 Disposition 4
2. Introduction to the Swedish Installation Industry 5
3. Literature and Theory 8
3.1 Supply Management 8
3.1.1 Sourcing Strategies 8
3.1.2 Worldwide Sourcing 11
3.2 Supplier Selection 13
3.2.1 Problem Definition 15
3.2.2 Formulation of Criteria 15
3.2.3 Qualification 18
3.2.4 Final Selection 18
4. Research Method 23
4.1 Research Process 23
4.1.1 Literature Review 24
4.2 Data Collection for Building the Supplier Selection Framework 25
4.2.1 Pre-study 26
4.2.2 Interview 27
4.2.3 Questionnaire 28
4.2.4 Weighting of Key Criteria 30
4.2.5 Weighting of Sub-Criteria 31
4.3 Process for Applying the Framework for Supplier Selection 32
4.3.1 Selecting the Case 32
4.3.2 Primarily Investigations 32
4.3.3 Data Collection 33
4.3.4 Data Analysis 34
4.3.5 Writing the Report 35
4.4 Research Quality 36
5. Empirical Results and Analysis 38
5.1 Criteria for Supplier Selection in the Installation Industry (RQ1) 38
5.1.1 Problem Definition - Underlying strategic choices 39
5.1.2 Formulation of Key Criteria 42
5.1.3 Formulation of Sub-Criteria 44
5.1.4 Qualification 52
5.2 Weighting of Criteria for Supplier Selection (RQ2) 53
5.2.1 Method for Supplier Selection 54
5.2.2 Weighting of Key Criteria 55
5.2.3 Weighting of Sub-Criteria 57
5.3 Application of Supplier Selection Method 61
6. Conclusion 64
6.1 Summary 64
6.2 Discussion 65
6.3 Reflection of the Developed Framework 67
6.4 Application of the Framework 70
6.5 Contribution 71
6.6 Limitation and Future Research 73
References 74
Appendices 78
Appendix I: Semi-structured interview questions 78
Appendix II: Reference list of interviewees 79
Appendix III: Questionnaire 80
Appendix IV: Data for pairwise comparison of key criteria 88
Appendix V: Weighting of sub-criteria 90
Appendix VI: Interview questions to German wholesalers 91
Appendix VII: Scoring of German wholesalers 93
Table of figures
Figure 1. Kraljic’s matrix (Kraljic, 1983) ... 9
Figure 2. Levels of worldwide sourcing. (Trent & Monczka, 2002) ... 11
Figure 3. The purchasing process. (van Weele, 2010) ... 13
Figure 4. The supplier selection process adapted from de Boer et al. (2001) ... 14
Figure 5. Illustration of criteria for the supplier selection. (Moser, 2007) ... 16
Figure 6. Overview of the research process. ... 24
Figure 7. Illustration of the process for building the supplier selection framework. ... 25
Figure 8. The framework for supplier selection including all criteria. ... 38
Figure 9. Overview of internal challenges, as a result of existing supplier- and buyer power. ... 39
Figure 10. Kraljic’s matrix applied on international purchases of standard material ... 41
Figure 11. The completed framework for supplier selection. ... 53
Figure 12. Weights of the key criteria. ... 56
Table of tables Table 1. Methods for supplier selection (1.de Boer et al., 2001; 2. de Boer et al., 1998; 3. Monczka et al., 2005; 4. Pal et al., 2013; 5. Tavana et al., 2012). ... 22
Table 2. Overview of pre-study interviews. ... 27
Table 3. Overview of semi-structured interviews. ... 28
Table 4. Overview of case study interviews. ... 34
Table 5. Scoring system for evaluating supplier performance. ... 35
Table 6. Pairwise comparison of key criteria. ... 55
Table 7. Scoring system of pairwise comparison of key criteria. ... 55
Table 8. The corresponding mean-value and weight to each sub-criterion. ... 57
Table 9. The mean value of the sub-criteria related to cost distributed on work assignment. ... 59
Table 10.Additional results related to the key criterion of delivery. ... 59
Table 11. The German wholesalers’ scores in each sub-criteria and their final result. ... 61
Table 12. Results from the data collected in the product lists. ... 62
1. Introduction
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The first chapter covers the background and problematization behind our research. Further, we also present the purpose and the research questions as well as a disposition illustrating the different chapters in this report.
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1.1 Background
Swedish installation companies, providers of technical installations and services (Bravida, 2017), are strongly dependent on the wholesaler's role in the value chain (SOU 2000:44). Even though the services, distribution and range of products provided by the wholesalers is extremely valuable (Statskontoret, 2009:6), it puts the installation companies in a position where they find it difficult to negotiate about prices. This results in a complex situation, where continuously rising prices is a threat against declining profit margins and the ability to maintain competitiveness. New and more attractive sourcing alternatives are desirable, which in turn requires an increased focus on methods that ensures a strategic supplier selection.
The Swedish Installation industry consists of a few big and many small local players (Bravida, 2016), and thus have the characteristics of being very fragmented. There are no specific entry barriers that prevent new players (SOU 2000:44), neither national nor international, from entering the market (Bravida, 2014). In addition, the industry relies on traditional working methods and is often classified as rigid and conservative. Changes occur rarely and even small adjustments tend to be difficult to implement without major challenges and the industry is overall seen as relatively averse to changes (Statskontoret, 2009:6). As of today, the companies operating within this industry purchase most of the material from wholesalers, whose total service solutions are of high quality and thus highly valuable. That has resulted in the rooted habit and convenience that today characterises these companies when purchasing installation materials from wholesalers.
In a study conducted by Boverket (2005), it is stated that the cost of material in the installation industry constitutes approximately 40-50% of the total cost. The high cost for material is mainly because of the several steps in the value chain, where the installation companies purchase material from wholesalers that in turn have purchased it from the manufacturer. The obtained price from the wholesalers is difficult to negotiate and the discount system that permeates this industry creates a low price transparency. (SOU, 2015:105) However, in line with a more global and information-rich society, the conditions in this relative traditional market have started to change (EIO, 2014).
According to Monczka et al. (2005) and van Weele (2010), high-qualified purchasing strategies have become a more attractive possibility to compete. Due to how this market is structured, new strategies for purchasing are needed in order to reduce cost. This is necessary in order to achieve a solution that ensures that the cost for materials are kept as low as possible, whereas increased attention has been put to strategic sourcing in terms of international purchasing.
1.2 Problematization
New strategies are required in order for the Swedish technical service and installation providers to find a solution to the unsustainable situation with continuously rising purchasing prices. What complicates the situation is the rooted praxis that you buy from the closest supplier in the supply chain, which are the wholesalers. Since the wholesalers have tied up the link towards the manufacturers in the supply chain (SOU, 2015:105), there is a limited possibility for the installation companies to improved purchasing strategies on a national level. Therefore, alternative sources that make the Swedish companies less dependent to the national wholesalers must be found. This has led to an increased interest in international purchasing of standard material. To import material from an international wholesaler is seen as an opportunity to get around the lock-in effect that characterises the Swedish market. In addition, there is a hope that international actors are able to provide similar products to a more attractive price and that cost savings then can be achieved. Especially since the price for material is higher in the Nordics compared to the rest of Europe.
The traditional processes and working methods that characterise the installation industry is an obstacle to new game-changing strategies. A rigid and conservative attitude is also visible at Bravida, which is the company that this study has been conducted at. The company has a tradition of purchasing standard materials from a few but established wholesalers, which has resulted in practices that today permeates the entire company. The high standard of services and logistics that Bravida is used to is one of the biggest challenges with an international switch. Additionally, Bravida wants to keep its just-in-time philosophy and low stock level, despite a shift in purchasing strategy, which leads to an increased complexity. This due to the fact that Bravida is located in more than 150 locations in the north, which makes is difficult to store material in-house without starting their own wholesale business.
To increase Bravida’s potential to achieve a successful transition towards international sourcing it is necessary to carefully consider the aspects that somehow affect its success. This puts pressure on the selection of supplier, which in this case is an international wholesaler. The difficulty lies in how this will be implemented and which criteria that must be prioritised and how. To ensure a supplier selection that suits Bravida, all impacting criteria must be identified and considered.
1.3 Purpose
The purpose of this study is to investigate how selection criteria affect the supplier selection when a local company within the installation industry purchase standard material from international wholesalers. This given the degree of importance of each criterion and thus their respectively impact on the supplier selection. By criteria we refer to all those requirements a potential supplier must achieve in order to be considered as an appropriate supplier to the buying company.
1.4 Research Question
The research question has evolved with regard to the purpose and the problematization of the study.
The complexity in the market space and the rigidness that Swedish installation industry is characterised by, results in a difficulty to ensure an adapted and successful supplier selection. With this study, we want to achieve a greater understanding of which criteria that are needed to consider and to which extent. From this, the following Main Research Question (MRQ) is investigated:
MRQ: How should international suppliers be selected?
To answer this main research question, two operationalized research questions were asked in the process. In order to get an understanding of how suppliers within the installation industry are selected, we must identify which criteria that influence the selection. This, in turn, leads to the first Research Question (RQ1) below:
RQ1: What are the supplier criteria when purchasing materials from wholesalers?
To understand how the criteria are used, it is important to capture how different criteria are used in the selection. This, in turn, leads to the second research question (RQ2) below:
RQ2: How are different criteria weighted?
To fully understand how different criteria impact the supplier selection, we must know its weight of importance. This because how a certain criterion is weighted affects its significance in the supplier selection. By answering these two research questions it is possible to answer the main research question, and thus fulfil the purpose of this study.
1.5 Delimitations
The study has been limited to the case company´s interest and priorities. The case company is a Nordic player but this study has been limited to only focus on the possibilities to increase the share of international purchases of standard material for the Swedish division. This as the divisions has individual market conditions and to some extent also different product demand. Overall, there are significant changes between the different Nordic markets.
On behalf of the case company and its preferences, the study was performed with a focus on import from the German market. The German market is seen as a strategic and logic possible market for the case company to take advantage of and create a business relationship in a close future. Furthermore, a limitation has been drawn regarding where in the supply chain the materials will be purchased from, as we only have been focusing on purchases from wholesalers. This in order to easier follow the existing business model, where wholesalers provide most of the material.
To get a more targeted scope, the study has a focus on the category of electrical products as its technical area since that is the largest part of the company's businesses (Interviewee B). Additionally, the product basket was fixed and had a limited number of standardised products and consisted of only standard materials.
Last but not least, we have also made certain limitations regarding what criteria that have been taken into consideration and not in the framework created for supplier selection. A variety of criteria must be considered when a company are in the process to choose one or several suppliers to enter an agreement with. In order to create such a niche and company-specific framework as possible to Bravida, consideration has only been given to those criteria that have been identified by analysing the information conducted from the interviews, combined with the criteria that have been highlighted as most important in the literature. This means, for example, that shall requirements suppliers to Bravida must achieve and which are not negotiable, have not been taken into account in the framework. An example of such shall requirements are financial stability, Bravida's code of conduct, legal aspects as well as other company-specific requirements and standards.
1.6 Disposition
Chapter 2 - Market Introduction to the Swedish Installation Industry
In this chapter, we provide an introduction to the Swedish installation industry and its purchasing conditions. Further, the characteristics that reflect the purchasing decision is presented. Finally, we give a brief introduction to Bravida, which this study has been conducted at, as well as an introduction to their business and interest of international purchases.
Chapter 3 - Literature and Theory
In this chapter, we present literature within the two broad fields of supply management and supplier selection. The knowledge obtained from the respective area has been necessary in order to answer the research questions of this study. Within each field, a deeper presentation of underlying subjects is also presented.
Chapter 4 - Research Method
In this chapter, the research process and methods used to conduct the supplier selection framework is presented as well as the process of applying the framework in reality. This is followed by a discussion of the research methods validity, reliability and ethics.
Chapter 5 - Empirical Results and Analysis
In this chapter, all the obtained results are presented and analysed. The chapter is structured with regard to the underlying research questions, whereas we start with our findings regarding the formulation of criteria. After finding the criteria for supplier selection at Bravida, the next step was to identify their impact on the selection. This is illustrated by respectively weight given to each criterion, which are presented and analysed in the second part of this chapter. Last but not least, we present our findings from applying the conducted framework in practise.
Chapter 6 - Conclusion
In this chapter, we present the conclusions drawn from our finding, which enable us to answer the research questions. This is followed by a recommendation on how to use the framework. This chapter also includes discussions of the different parts included in this study, both how regarding how the framework as developed and the information gained from applying it in reality. Last but not least, we summarises the empirical and theoretical contribution, followed by the limitation and recommendation of future research.
2. Introduction to the Swedish Installation Industry
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Chapter two contains an introduction to the Swedish installation industry; how the market is structured and its purchasing situation. The purchasing strategy is highly depending on the industry’s characteristics, whereas the aim of this chapter is to give an introduction and a holistic view of its most important components.
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The Swedish installation industry is an important part of the building industry. These companies are responsible for service and installation of technical solutions within areas such as ventilation, electricity, heating and plumbing in all types of buildings (Bravida, 2017; SOU, 2002:115). The industry is dominated by tailor-made projects, with projects ranging from case to case, depending on the building site and the client’s preferences (Botrygg, 2015). Generally, these projects often involve multiple players, where the installation companies only are one part. This contributes to a complex situation where all players relies on each other and their respective working processes. In order to coordinate all parts and to enable an as smooth process as possible, these projects are driven by fixed deadlines. (Statskontoret, 2009) The deadlines are often tight and in a case of delays, the individual players have to pay a compensating fee if causing delays to someone else and the project in general.
Additionally, there are often few possibilities to store material close to the project area. As a result of these conditions, the installation industry generally faces a complexity in establishing a well-oiled purchasing strategy of having the right amount of material available at the right time. (Interviewee I)
The Purchasing Process
The purchasing process within the installation industry contains four main steps. The chain starts with the client, who is the customer of the project and who often has specific preferences on the final result. In the next step, the client looks for a suitable installation provider by putting out the project for open bidding. The installation companies then compete on the ability to offer the best solution, which involves the material that matches the client's preferences to the best possible quality and to the most attractive price. (Interviewee H) This is characterised by high competition, not least because of the fragmented market and many small and local players (Bravida, 2016; Interviewee B). This, in turn, puts a lot of pressure on the strategy of purchasing material, since an attractive bidding price is important to increase competitiveness and to win projects (Botrygg, 2015). A challenge to this is the fact that the cost of material generally stands for 40 % of the total price (Boverket, 2005; Interviewee B). In Sweden, the company that wins the project purchase most of the material from wholesalers, which in turn has purchased the material from the manufacturer (Interviewee H; Andersson &
Ohlsson, 2007).
A wholesaler can be explained as a company that buys large quantities of material from multiple sources and manufacturers, both national and international, and resell them to retailers. They do not approach the end customer directly, as they rather focus on providing service to the middle segment in the supply chain. (Andersson & Ohlsson, 2007) In the installation industry, this service consists of storage thousands of different products and transports the ordered goods directly to the building site (Interviewee D; SOU, 2015:109). The wholesalers provides a high service level with quick delivery channels, which makes it possible to order material in the afternoon and receive the delivery in the morning the day after (Interviewee I; Interviewee K). As a result of the service provided when purchasing from wholesalers, they do not have to put any effort or extra capital in solving the
transportation and handling of the unknown need of material in advance. Due to the characteristics of this industry, low standardisation and a well-established just-in-time approach, the purchasing process becomes complex. Hence, the wholesalers solve the complexity of purchasing. From this, it is possible for the installation companies to focus on their core competence, which is giving the customer the best installation on the market. Additionally, the wholesalers also offer technical and administrative support. All the services provided by the national wholesalers are of great value to the installation companies. (Interviewee B)
The Market Structure
There are few Swedish wholesalers and the oligopoly situation is characterised by increasing prices (Statskontoret, 2009). However, it is difficult to eliminate the wholesalers in the chain since they have bound the link between the installation companies and multiple manufacturers. (Interviewee B) This makes it impossible for installation companies to approach the manufacturers directly and exclude the wholesaler's profit margin. Further, the situation has created a path dependency due to the internal rigidity in the installation companies, which has getting used to the wholesaler’s great services, product assortment and quick delivery (Interviewee H).
Despite the high competition in the installation industry, where all players purchase material from the same wholesalers, it is still characterised by a low price transparency in the material cost. The price for material obtained from the wholesaler is highly individual for each company. This because the price levels depend on discounts and other benefits that is negotiated before and agreement is written.
(Botrygg, 2015; SOU, 2015:113) The discount could, for example, be based on the quantity of ordered goods, number of orders and deliveries. This brings benefits for companies that buy large volumes, as it is an opportunity to take advantage of economies of scale. The Swedish competition authority also states that the wholesaler’s discounts in the installation industry are a problem for the overall competition. The discounts create a low price transparency on the market, which makes it difficult to compare prices between different suppliers, and the buyers will therefore always choose the same preferred suppliers. Out of a competition view, they further means that discounts can lead to a rigid path dependency which makes it difficult for new players to enter the market. (SOU, 2015:113)
In 2013, the European Union introduced a new regulation within the construction industry, with the purpose to increase the competition and international movement of products. The new regulation states that all construction products with a harmonised standard should be described, judged and have the same CE marking within EU. This makes it easy for the buying company to find appropriate products, regardless of where the products are produced or the seller's nationality. However, there are still many countries that have their own national descriptions and CE markings. The EU commission is aware of the problem and has started working on a solution.. Despite this, the Swedish competition authority claims that the ability for international purchases depends on individual items. They mean that some products are characterised by national standards, preferences of domestic demand and the international economy, which increase the complexity of purchasing them internationally. (SOU, 2015:109) Further, some items demand a larger transport alternative, as a result of their big volume or size, whereas it might be costly to transport them long distances. International purchases are also difficult due to the local characteristics of the industry, with informal barriers such as company culture and established contact networks. According to The Swedish Agency for Public Management, this situation indicates that the established market participants, by using discounts and stated lock-in effects, try to preserve the current company structure and roles in the sector. (Statskontoret, 2009:6)
Introduction to Bravida
This study is conducted on behalf of Bravida, a premier multi-integrated supplier of technical installation and service of buildings and constructions. With a turnover of about 15 billion SEK and more than 10 000 employees (Bravida, 2017), Bravida is one of the biggest players within the installation industry in the Nordic market. The company provides a wide range of services and operates within three main technical areas; Electrical, Heating and Plumbing and HVAC (Bravida, 2016), in which electrical installations and services is the largest part (Interviewee B).
As of today, 60-70% of all the installation materials at Bravida are purchased from wholesalers (Interviewee B). In the end of 2014, Bravida declared that they began a long-term project with the goal to reduce the purchasing cost by 10 % (Bravida, 2016). According to the company, an important element to reach this goal is to increase international purchases. This since there is not much that distinguishes Bravida from its competitors in terms of efficiency, which has led to a desire to achieve better prices for the purchased material. (Interviewee B)
3. Literature and Theory
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This chapter presents the literature that has been relevant to perform this study. The first part covers supply management, which gives a holistic view of the literature of sourcing strategies, worldwide sourcing and the purchasing process in general. In the second part the focus is scaled down to supplier selection. This is the main focus area in the thesis and covers an introduction to supplier selection, its process, key criteria and evaluation methods.
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3.1 Supply Management
Supply management is the broader concept for all activities that must be coordinated in connection with a company’s purchases and inbound flow of material (van Weele, 2010). This means that the concept includes all activities related to supplier selection, risk management and material planning and control (Kraljic, 1983; Harrison et al., 2014). By understanding the concept, it is possible to achieve a holistic view to the methods, processes and strategies related to purchasing.
The general interest for supply management has increased and in 2010, van Weele (2010) argued that this is a result of a more transparent and fast changing society. He believes that the increased accessibility to information has contributed to this as well as it has enabled a competition on a global scale. This has also been highlighted by Monczka et al. (2005), who argues that the access to information has changed the conditions in the industry. The changed conditions have made it possible to obtain the right products at the right time and to a competitive price. In addition, it has also become something that today’s customers expect, which explains why an increased focus on supply management is required. (Gordon, 2009) For companies to stay competitive, they are forced to constantly improve the value of their products and services. This, in turn, puts high pressure on how to handle the purchasing processes (Monczka et al., 2005) which additionally has contributed to an increased focus on strategic sourcing (Harrison et al., 2014). Further on, the global era expands the limits, which has led to a focus of managing sourcing on a global scale.
3.1.1 Sourcing Strategies
One essential part of a company’s supply management is to choose a suitable sourcing strategy. The importance of supply management has also been emphasised by Kraljic (1983), who argue that supply management is a critical factor when the supply market is complex and the purchased material is of big importance. Kraljic (1983) argues that the matrix could be a useful tool when one should plan and develop a sourcing strategy that considers both the importance of purchasing compared to the complexity of the supply market. Ever since Kraljic's matrix was invented for 30 years ago, it has been the most discussed and frequently used methodology for companies with the aim to establish an appropriate sourcing strategy (Cox, 2015; IIAPS, 2017; O’Brien, 2009; Monczka et al., 2005).
When a company should allocate their resources in a manner that helps them to achieve their objectives, it is important to create a sourcing strategy with regard to the characteristics of the purchased products. This in order to allocate the company’s resources in a manner that helps them achieves their objectives (Cooper et al., 2001; Gelderman & van Weele, 2003). Kraljic’s matrix captures this importance and divides products in different categories depending on their
their specific supply risk and impact on profit. The profit is related to the importance of the purchase, where each item is measured with regard to the volume purchased and its percentage of the total costs.
Further, the degree of importance of a particular purchase also depends on its impact on product quality and future business growth. The supply risk, on the other hand, reflects the complexity in the supply management. This is measured by the items short- and long-term availability of the product and how the market is structured, which corresponds to a number of potential suppliers. Further, the supply risks evaluate the make-or-buy opportunities, competitive demand, substitution possibilities and the risk associated with storage. From the combination of these criteria, the products are positioned in this matrix within one of the four groups: materials-, supply -, purchasing- and sourcing management, seen in figure 1. (Kraljic, 1983)
Figure 1. Kraljic’s matrix (Kraljic, 1983)
Each of the four different categories included in the matrix requires an individual purchasing approach. Regarding non-critical items, it is normally enough to apply simple decision policies such as, for example, market analysis and inventory optimization models. This helps companies to get a good market overview, by only using forecast of short-term demands. When having products classified as leverage items, the company must focus on finding substitutes, both regarding alternative suppliers and products. It is also important to exploit the power of the purchase, by examining the vendor selection and potential substitute of the product. This requires reliable market data, with short- to medium-term demand planning and price forecasts. According to Kraljic (1983), the most important products are the ones that are classified as bottleneck- or strategic items. Bottleneck items have a high complexity in the supply market but can usually be obtained to a low price, whereas they tend to have a low impact on the profit. If the purchased products have the characteristics of being bottleneck items, a company should focus on having an inventory to secure the volume and create potential backup plans. This requires medium-term supply and demand-forecasts, very good market data and knowledge of inventory costs. The strategic items, on the other hand, have a big impact on the company's future success whereas decisions regarding these products often are made at a top level.
For these product is it essential to establish long-term supply relationships with the supplier. Further, these items requires high level analysis, which should include both forecasts and potential risks, to enable a detailed market research and thus receive information about the long-term supply and demand trends. (Kraljic, 1983)
Since Kraljic (1983) published his purchasing portfolio analysis, it has become a well-known and
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commonly used guidance technique for how to develop a managerial action plan and how to perform supplier segmentation (Cox, 2009; Gordon, 2008). However, a more recent methodology for management of strategic sourcing has been developed by A.T. Kearney, which is known as the Purchasing Chessboard. (Schuh et al., 2009) They describe strategic sourcing as a process where the purpose is to reduce cost and increase value, which in turn needs consideration of both management of the supply chain and purchasing strategies. The initiative behind this methodology was the identified shift in power, where the power has shifted from the buyer to the seller. From this, Schuh et al. (2009) criticised previous methodologies such as Kraljic’s matrix, as they argued that this shift made them inapplicable. The basic concept of this new methodology is the balance between supply and demand. The recommendation is then that companies should develop their strategic sourcing strategies in regard of where the needed products or materials are positioned in the matrix. Schuh et al. (2009) argue that this results in a simple and clear model, as these are concepts that most managers and other influencers already are familiar with. (Schuh et al., 2009)
Despite that Schuh et al. (2009) presents the Purchasing Chessboard as a more sophisticated methodology with a new approach to strategic sourcing, Cox (2015) argues that there are several similarities between this methodology and Kraljic’s matrix. Even though the focus of the analysis differs between them, Cox (2015) means that both methods focuses on the degree of importance of specific products and that the recommendation to managers regarding how to develop strategic sourcing is similar. Cox (2015) criticises them both and argues that the methodologies have a too strong focus on cost reduction and tactical spend management. Further, he means that it is necessary to have a greater focus on value for money. Gordon (2008) also criticises the use of segmentation matrices, especially Kraljic's matrix. This since he means that it is too difficult to categorise different suppliers in regard to the, according to him, too imprecise terms. Gordon (2008) further argues that the use of segmentation matrices is limited and that they only should be applied in the initial phase of the supplier selection process. When the purpose is to investigate if other potential suppliers exist, rather as a decision tool to facilitate the final selection. However, Schuh et al. (2009) states in the Purchasing Chessboard report that a company’s purchasing strategy not only should be seen as one part of the overall business strategy. Instead, they mean that strategic sourcing is what drives a company’s strategy and what makes them competitive (Schuh et al., 2009), which in other words results in creating value for the company (van Weele, 2010).
Despite the critic directed to the models, Gelderman & van Weele (2003) highlights the importance of managing different products with different strategies. As earlier mentioned, the overall interest for sourcing strategies has increased (van Weele, 2010). The valuable overview of the purchasing condition that Kraljic’s model provides makes it possible to develop differentiated purchasing and supplier strategies (Gelderman & van Weele, 2003; de Boer et al. 2001). Gelderman & van Weele (2003) further points to the recognition of Kraljic’s model and states that his theory is the general approach to multiple sectors when handling the purchasing portfolio management. However, they want us to bear in mind that choosing the right strategy is complex, and that it cannot be solved by only using two-dimensional matrixes. The choice of strategy is highly sensitive and based on more factors that the models do not cover, such as the overall business strategy, the situation on the supply market and the individual suppliers capacity and intentions. The models obtained from the literature are therefore not applicable without performing any adjustments, but could be helpful when creating a segmentation of different products and developing differentiated strategies. (Gelderman & van Weele, 2003). Schuh et al. (2009), the creators of the Purchasing Chessboard, also states that the importance of strategic sourcing has increased. They explain this as a result of the globalisation, which has
companies to sell and purchase material on a worldwide basis. (Monczka et al., 2005) This, in turn, increases the complexity of choosing the right purchasing strategy, which further enhances the need of a holistic model. (Schuh et al., 2009)
3.1.2 Worldwide Sourcing
Worldwide sourcing has become a strategy for companies that want to take advantage of the benefits available outside the national market (Monczka et al., 2005; Schuh et al., 2009). A worldwide sourcing approach is primarily common in industries with the goal to take advantages of lower unit costs. (van Weele, 2010) However, to enable a shift from domestic to international purchases, the activities linked to the purchase must be evaluated. In this shift, Trent & Monczka (2003) explains different types of stages occurring when a company adapts to worldwide sourcing, which are described in figure 2 below. Their model includes five different stages, where each stage indicates to which extent the company has applied a worldwide sourcing strategy. As the company’s integration and coordination evolve, the company’s strategy is considered to reach the next level. (Trent &
Monczka, 2003)
Figure 2. Levels of worldwide sourcing. (Trent & Monczka, 2002)
The first and initial step towards worldwide sourcing is international purchases, which means ordinary purchase of goods but from another country. The final step is global sourcing, in which the purchasing activities, such as materials, processes and designs, are integrated and coordinated with suppliers across the world. (Monczka et al., 2005) Regardless of how far in these levels the company precedes its worldwide sourcing strategy, the goal is still the same, to find efficiencies in the purchase of material and services abroad (Schuh et al., 2009). This is primarily done when international differences in price levels exist and when the offers from the local suppliers are not satisfying (Bedey et al., 2008).
Already in 2003, Trent & Monczka (2003) predicted that companies most probably would move up in the levels towards global sourcing, as a result of the need for global integration in the supply management. Since then, the prediction has turned into reality and company’s increased movement towards global sourcing has been clarified in multiple studies. (van Weele, 2010; PWC, 2010) The overall gain of approaching global sourcing is that the close business relationships and coordination
plans create an ability to achieve a trustworthy and well-functioning supply. However, Trent &
Monczka (2003) conclude that it is important to understand the differences between international purchases and global sourcing and to what extent it suits the business, before implementing such strategies within the company. In addition, global sourcing is related to several risks and comes with both positive and negative aspects (van Weele, 2010).
The advantages and disadvantages related to global sourcing are frequently discussed in the literature (Monczka et al., 2005; O’Brien, 2009; van Weele, 2010). As mentioned earlier, the interest for global sourcing is often based on its potential contribution to cost efficiencies. The opportunity to achieve costs advantages from worldwide sourcing is due to multiple factors, for example, inexpensive labour and lower unit cost of purchased material. In addition, a global sourcing strategy can be applied in order to put more pressure on existing suppliers or to stimulate competition on the national market.
(van Weele, 2010) Except the advantages already mentioned, sourcing worldwide also creates an opportunity to take advantage of resources that are not available locally, creating a competitive base by using an alternative supplier and increase the overall capacity of total supply. (Bedey et al., 2008;
Monczka et al., 2005)
Although there are several advantages with implementing a global sourcing strategy, it is also highly important to be aware of the risks and disadvantages of such a strategy. Monczka et al. (2005) state that the biggest challenge with worldwide sourcing is the ignorance of international standards and processes related to purchasing. Additionally, Kotabe & Murray (2004) means that sourcing plans, distribution channels and service networks must be fully established to succeed. Further, they also highlight the risk of only seeing the possibilities and not see how surrounding costs and risks can results in higher total cost and disadvantages later on. One surrounding cost is related to the longer distance between a company and its supplier, which result in increased transportation costs, lead times and risk of delays. (Kotabe & Murray, 2004) Van Weele (2010) also highlights the risks and disadvantages related to global sourcing and agrees with Kotabe & Murray (2004) that on-time delivery and quality assurance are two of the most problematic areas when applying a global sourcing strategy. In addition to these direct costs, there are also hidden costs that are difficult to identify at the beginning of the process. These are the costs that could occur due to cultural- or language differences, the risk of changing of politics in the country, losing intellectual property and an increasing cost of monitoring. (Bedey et al., 2008; Monczka et al., 2005) Furthermore, the trend of reducing cost and provide a higher quality has increased the need of a just-in-time production, as well as it leads to a desire to always achieve better, cheaper and faster solutions (O’Brien, 2009). This philosophy requires a close working relationship that places big responsibility on the top management and the purchasing managers know-how. (Kotabe & Murray, 2004; Monczka et al., 2005).
3.2 Supplier Selection
One of the six steps within the purchasing process is the supplier selection (van Weele, 2010). A more global marketplace places new demands on the industry and this has resulted in increased focus on supplier selection and strategically purchasing methods since conscious choices within theses two areas have become a way to keep a competitive edge. (Moser, 2007) With an increased focus on how to source strategically, and not least by worldwide sourcing, has the interest for maintaining a good purchasing process followed the same path. Below follows a description of van Weele’s (2010) approach to the purchasing process, in which he highlights the supplier selection as one out of six important steps in the purchasing process.
Figure 3. The purchasing process. (van Weele, 2010)
Even though all steps are closely connected and individually important to reach a good result (van Weele, 2010), Petroni & Braglia (2000a) found the second step in the process, the supplier selection, to be more important. In the report “A quality assurance-oriented methodology for handling trade-offs in supplier selection“, Petroni & Braglia (2000a) highlights a trend that the supplier selection in the purchasing process is undergoing a lot of pressure to reach a higher quality. This has, in turn, led to an increased interest in the subject. Van Weele (2010) also highlights the importance of performing a conscious selection of supplier, not least since mistakes in this process can have devastating consequential effects, such as bankruptcy and inability to meet important requirements. Due to the importance of supplier selection, companies should evaluate their suppliers regularly to be able to keep the supplier that best meets the requirements. (Petroni & Braglia, 2000a)
Roger Moser (2007) has in his book, “Strategic Purchasing and Supply Management”, defined supplier selection as follows;
“Supplier selection is part of supplier management and includes all activities necessary to select a specific supplier for basic materials, products or services on a long-term or short-term basis based on
a supplier’s respective capabilities and offerings in order to generate competitive advantages.”
(Moser, 2007:24)
These activities that Moser points out in the definition of supplier selection is further elaborated by van Weele (2010). Van Weele (2010) means that the activities include to determining the method for subcontracting, how to evaluate the preliminary qualification of suppliers and drawing up the list of bidders. The following activities are preparations of the request for quotation and finally the analysis of the received bids. As described in the purchasing process, figure 3, and worth mentioning again is that the quality of the purchase depends heavily on each step. From this, the activities in the supplier selection process will have a great impact on the final result and it is, therefore, important to describe its process. (van Weele, 2010)
In a study conducted by de Boer et al. (2001), they present a framework that could be applied in the supplier selection process. The framework shows how the supplier selection could be executed. This
Determination of purchasing
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ensure an ultimate selection of a supplier. The framework was developed with inspiration and knowledge gained from previous sourcing strategies conducted by Kraljic (1983) and Faris et al.
(1967). (de Boer et al., 2001) Kraljic’s matrix divides different sourcing strategies depending on the items supply risk and profit impact (Kraljic, 1983). Faris et al. (1967) classify three types of purchasing situations, depending on how often the purchase takes place. With these strategies in mind, the framework is able to handle different typical supplier selection situations and methods for how the selection can be made. (de Boer et al., 2001)
The framework, illustrated in figure 4 below, are divided into four main areas; the problem definition, the formulation of criteria, the pre-qualification and the final selection. In these stages, the supplier selection process handles both the complexity of purchasing as well as the extent of importance of different internal criteria. (de Boer et al., 2001) This process could also be compared to the approach provided by O’Brien (2009), who explained the supplier selection process as a funnel, where potential suppliers decrease along the way. The supplier’s performance will be evaluated and those suppliers that do not meet the requirements will be eliminated. An evaluation of each supplier’s performance will take place after every activity, which in the end ultimately will help to identify which supplier or suppliers that are or are not appropriate for the company to continue with. (O’Brien, 2009)
Figure 4. The supplier selection process adapted from de Boer et al. (2001)
As illustrated in the figure 4 above, the framework for the supplier selection process conducted by de Boer et al. (2001) contains four different and separate parts. Although there are clear differences between the different steps, each part still plays a central role in the processes of selecting a supplier.
In addition, it is also extremely important that all steps are connected to each other and follows the same path. (de Boer et al., 2001) In the following sections follows a more detailed description of each of the four different steps.
Problem Definition
Formulation of Criteria Qualification
Final Selection
3.2.1 Problem Definition
In the first step, the problem definition, a company must decide which strategic approach they should follow. Additionally, the focus is also to formulate what expectations on the performance a company has on a certain supplier. It is important that the company considers multiple purchasing alternatives, for example, whether they should make or buy and how many suppliers they should involve. By evaluating different purchasing alternatives, the decision makers gain a holistic view of all possible solutions. From this, they will be able to perform a conscious choice of strategy that suits the company, its vision and future goals. When the strategic approach is chosen and when the decision makers has a clear view of what they want to achieve with the supplier selection, the process moves on to locate all potential suppliers. (de Boer et al., 2001)
3.2.2 Formulation of Criteria
In the second step, the buying company should identify the criteria that somehow affect the company’s willingness to buy. These criteria are the aspects the buyer must consider when selecting a suitable supplier for the chosen problem definition. (Monczka et al., 2015) The capabilities of different suppliers vary. To enable a consistent evaluation between them it is, therefore, important to formulate all criteria in the beginning of the selection process. What complicates the step of formulation of criteria is that there are no specific guidelines regarding how this should be performed since this is highly individual for different companies. (de Boer et al., 2001) However, the criteria should be defined according to the company’s strategic approach. The three criteria of cost, quality and delivery are frequently highlighted as the most important criteria (Dulmin & Mininno, 2003; Pal et al., 2013). These criteria are often seen as obvious, but since they tend to affect the success of the purchase in the biggest extent and accordingly, have the greatest influence on the purchase (Monczka et al., 2005).
When all criteria that affect the purchasing have been identified, the buyer can evaluate the supplier in multiple categories. The advantage of having a broad approach is that it creates a possibility to evaluate the supplier’s ability to accomplish all the criteria simultaneously. (de Boer et al., 2010) However, it is difficult to find a supplier that meets all requirements perfectly, whereas a selection of supplier usually requires a trade-off between different criteria. (Dulmin & Mininno, 2003; Moser, 2007) Except that the criteria works as indicators regarding what the company is valuing in a potential supplier, the company must also find a way to understand their degree of importance on the selection.
Depending on the importance of the purchase and the characteristics in the industry, the buying company needs to perform a systematic categorisation of the importance of each criterion. This since suppliers have different types of capabilities and the buyer must evaluate the trade-off between criteria. (van Weele, 2010) This has to be done by each company individually since their yield varies depending on the specific situation and internal preferences (de Boer et al., 2001).
Criteria for Supplier Selection
This section gives an in-depth explanation of different criteria that are important in the supplier selection. As mentioned before, how the company choose to formulate the criteria will have a crucial role in the supplier selection (Pal et al., 2013). Since the purpose is to evaluate potential suppliers only with regard to the criteria that have been stated, and from this decide which company to partner with.
Even though the overall objective of supplier selection is to minimise risk and maximise value, there is no standard way of how this should be done. However, by defining the criteria according to the
sourcing strategy and using them consistently make it possible to evaluate the suppliers on rightful terms. (Monczka et al., 2011; Pal et al., 2013)
Multiple studies have been performed within the subject, in which criteria that generally requires consideration when choosing supplier have been presented. (de Boer et al., 2001; Kannan & Tan, 2002; Katsikeas et al., 2004; Swift, 1995) Although there are many different opinions about which criteria that require consideration and not, the three quantitative criteria price, quality and delivery are frequently mentioned as the most important criteria for supplier selection. (Dulmin & Mininno, 2003;
Kannan & Tan, 2002; Narasimhan et al., 2001; Petroni & Braglia, 2000b) Except for these commonly highlighted criteria in supplier selection, service is also routinely seen as an important criterion (Kannan & Tan, 2002; Pal et al., 2013). Although quantitative aspects are usually emphasised, non- quantitative and softer aspects are not to be forgotten (Moser, 2007).
Moser (2007) has combined his own findings with previous knowledge and from this he has summarised the, according to him, most relevant criteria within supplier selection. Further, Moser (2007) argues that by evaluating potential suppliers with respect to the enlarged number of criteria in his list, it is possible to more accurately see their strategic value. Below follows a figure including Moser’s (2007) list of the most essential and frequently used criteria related to supplier selection.
Figure 5. Illustration of criteria for the supplier selection. (Moser, 2007)
Cost management is the criterion that is most widely applied in the evaluation and has always been rated as important. That lower price levels are desirable is a fundamental fact within purchasing.
However, Moser (2007) highlight that its high importance could be out-dated since it might be based on traditional purchasing strategies, where lower prices adds value. This is not always equivalent with today's values. In order to change from traditional purchasing, the criterion of cost management is not just depending on the price. Instead, Moser (2007) describes cost management as competitive pricing and willingness to continuous cost cutting by improving the production and processes. (Moser, 2007)
Criteria for Supplier Selection Cost management
Delivery
Short-term flexibility Quality management
Long-term flexibility
Innovative capabilities
Collaborative capabilities Risk management
Marketing support Financing support
According to Kannan (2002) should quality management be the most prioritised criterion in the supplier selection. Quality is, however, a term that is difficult to explain as this criteria is heavily depending on the industry. In addition, there is a distinct difference between an operational definition of quality and what the customer see as quality. Ultimately, it is the customer that sets the preferences and the customer-oriented quality definition is often the most controlling parameter. (Moser, 2007)
When companies outsource activities to the supplier, they put a lot of dependency in the delivery and that the supplier are able to provide a qualitative solution of logistics. If the supplier’s performance in this criterion is reliable, it enables that the buying company can keep a continuous flow of supply and thus control the level of inventory. (Moser, 2007) A well-functioning and high qualitative delivery solution is an especially important criterion for companies that wants to achieve a just-in-time philosophy. (Kotabe & Murray, 2004)
The criterion surrounding flexibility gives an indication of the supplier ability to respond to change.
short-term flexibility shows if the supplier can react to changes in a near future in factors such as product mix, volume, the options of delivery time and new product development. The other criterion, long-term flexibility, refers to the ability to make changes of more strategic nature, which are important for the supplier’s long-term competitiveness. To be flexible in a changing environment and ability to match buyer's future interest is highly valued in supplier selection. However, flexibility as a criterion can be difficult to measure since it is based on future potential. (Moser, 2007)
The criterion innovation capabilities have increased and show the supplier’s capability to be innovative. This is highly relevant in industries that are characterised by fast-changing climate and that, therefore, are in need of high R&D development. The supplier criterion that is needed is, therefore, connected to the supplier financial investments in R&D, independent new product development and their identifications of innovation in the supply chain. The general goal of this criterion is to find a supplier that is in the front edge of development and that actively is contributing to new materials and technical solutions. (Moser, 2007)
Collaborative capabilities refer to integrating the vertical chain and increase the support between suppliers and buyers. (Moser, 2007) High integration makes it possible to work efficiently towards a common goal and by combining interest find efficiencies in process, production and innovations. (van Weele, 2010)
The three final criteria are risk management, marketing support and financing support. Risk management has to do with the increased risk of not having full control and follows the whole process, from making the product to delivery. The criterion of marketing support refers to the information provided by the supplier and how the given knowledge can improve the buying company’s services and products. Finally, the criterion of financial support evaluates the financial stability of the supplier. (Moser, 2007)
