Vendor Base Management – A Lean Supply Chain Initiative

The success of Inbound Supply Chain, specifically, depends on the capability of the vendor and a robust procurement process. In the wake of globalization, a new stream of capable and skilled supply sources was made available to organizations globally, which in turn meant more vendors selected and added to the vendor base. The focus was more on adding a new vendor, without managing or rationalizing the existing ones. The issue therefore was, how do I manage my vendor base effectively?

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The Concept of Supply Chain Management

Supply Chain Management attained significance in the late 20th century with organizations becoming aware of the fact that operational efficiency is not limited to the core processes within the organization, but also the processes which extend to vendors and customers. Therefore, certain parameters like vendors’ supply lead time and time to market were considered as measures of performance for the effective design and implementation of the inbound and outbound processes. Inbound means the process of material flow from the vendor to the organization and outbound refers to the process of product flow from the organization to the customer.

Analyzing, specifically, the inbound supply chain, we find two main criteria for the success of procurement:

1. The skills and expertise of vendors in their chosen areas of operation, which are of interest to the sourcing organization and

2. A robust procurement process to enable on time, right quantity, right quality and at the right price

Over a period of time, globalization resulted in geographies becoming virtually borderless which meant increased availability of skills and expertise and thereby increased options for an organization to procure from. While the organizations’ ability to leverage the availability of skilled vendors across borders augurs well for our first criterion (point), it has made the process of procurement itself more complex, with a larger number of vendors to handle. This incidentally adversely affects our second criterion (point).

So long as there is an equilibrium between the numbers of vendors inducted to those eliminated, the organization–vendor interaction system remains balanced. However, if the balance tilts to any one side, the system will be strained with the sourcing organization ending up with more number of vendors or less than that required. So, how do we ensure that an organization has the optimum number of vendors?

Vendor Base Study

Figure-1: Vendor-Stratification-Matrix

The answer lies in analyzing the past performance of vendors existing with the company and future expectations from them. One methodology is to look at the share of the sourcing organization’s procurement value, in currency terms, that the vendor has and vendor’s strength based on the expectation of the organization. So ideally, if we take Vendor’s Business Strength on one axis and Share of Business of the vendors on the other we would end up with a matrix structure as shown in Figure 1.

The obvious requirement then would be to understand how do we compute VBS. This again depends on the industry the sourcing organization belongs to and the expectation from the vendor. VBS typically will have the parameters listed in Table 1. These parameters need to be elaborated further for scoring each criterion.

Table 1 - Elaborated

Table-1: VBS-Parameters

It should be noted that the weights will differ for different parameters depending on the industry the organization belongs to and the objective of vendor management in that organization.

With the availability of information on VBS and share of business of vendors, the vendors can be stratified as shown in Figure 2.

Vendor Base Stratification

Figure-2: Vendor-Base-Stratification

The stratification of vendors into different quadrants help the organization to plan their activities towards the different sets of vendors.

The actions are further elaborated depending on the quadrant that the vendor is present.

A. Strategic Relationship

Vendors exhibiting high business strength and having a higher share of business of the sourcing organization fall in the strategic vendor category. The past performance of such vendors is good and therefore the organization gives more business to them while future expectations are also in line with the sourcing organization’s requirement. Such vendors can be sought for partnership in developing the inbound supply chain. Their inherent strength can be utilized in designing the end product of the sourcing organization, standardization of processes and parts used in the final product, improving cost efficiency and faster response to the market. Ideally, an organization should a have a higher percentage of vendors in the strategic vendor category.

B. Develop/Maintain Vendor

Vendors exhibiting high business strength yet having a low share of business of the sourcing organization, fall into the category of vendors who should be developed or maintained. The future expectations from such vendors are in line with the sourcing organization’s requirement. However, the inherent nature of the material, part or service they provide seem to have a low cost per unit and hence low share of business overall. Such vendors are essential to the vendor base and if possible, business from other vendors providing the same service or product should be routed to them. As a consequence, they can move to the strategic vendor base category based on the business value. In some cases, it is difficult to give them more business and hence it becomes necessary to maintain them. An example from the automotive segment would be vendors supplying nuts, bolts, and washers. They are essential for the system to work, yet their value of the business would not be significant from the sourcing organization’s perspective.

C. Develop Vendor or Develop Alternate Source

These are vendors exhibiting low business strength, yet having a high share of business of the sourcing organization. The past performance of these vendors may not be to the expectation of the sourcing organization but the share of business may be high. There are multiple strategies that the sourcing organization can adopt to deal with such vendors.

In some cases, the vendor is capable but would not have the financial capability to meet all the expectations of the sourcing organization, in terms of systems, geographical reach, and infrastructure. The sourcing organization can then decide to invest in such a vendor if a long-term relationship is a viable and feasible option. As a result, these vendors over a period of time would move to the strategic relationship category.

In some other cases, however, the vendors in this category would ideally not be good in performance either, but due to their early engagement with the sourcing organization, they would have obtained a high share of the business. The organization then should warn such vendors or find alternate vendors, preferably from within the existing vendor base or develop an altogether new vendor. This would result in either such vendors actually raising their performance so that they move into the strategic relationship category or they are eliminated from the vendor base.

D. Eliminate Vendor

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Vendors exhibiting low business strength and having a low share of sourcing organization’s business fall in this category. These are ideal candidates for elimination. A high percentage of vendors in the eliminate category is an indication to the organization that it is spending more on vendors and processes, it could have done without. Business from such vendors should be actively re-routed to either strategic vendors or to vendors in the other two categories. The faster the elimination the better it is for the organization. There would be few exceptions to the rule, as to who would fall in the eliminate category, and they have been discussed under the sub-topic 'Exceptions to Stratification'.

When should Stratification be done?

Vendor base stratification should ideally be conducted at the beginning of the financial year based on the business goals of the organization. This will ensure that there is alignment between the goals of the organization and the procurement strategy for that particular year.

Organizations may choose to conduct stratification once a quarter to actively monitor the progress or deterioration in the performance of their vendors.

Exceptions to Stratification

There would be some scenarios, however, where stratification should not be done or won't be effective. Those areas are elaborated further.

A. Capital Purchase

Stratification of the vendor base should be for vendors from whom the organization procures regularly. These are vendors with whom the organization interacts for a month on month requirements. Capital purchase, on the other hand, in the form of machinery for production, tools or equipment for the production line is high lead time and mostly once in a year purchase. Stratification of such vendors will not provide any action points for the organization, as the purchase itself is over a long period of time. Besides the cost of studying the vendor for stratification may end up being higher in comparison to the possible benefits it can provide.

B. New Vendor Inclusion

Organizations may have to induct new vendors depending on the business needs, like new technology requirement and special processes. Stratification, on the other hand, works for vendors existing in the vendor base over a sufficiently long period of time. If stratification of the vendor base is carried out immediately after the induction of a new vendor, there is a good chance that the new vendor may fall into the eliminate category. Such vendors should be excluded from stratification until they are at least 6 months in the system or sufficiently long, as deemed by the organization, to gauge their performance.

C. New Technology Adoption

If vendors are expected to adopt new technology as per the sourcing organization’s requirement, then the early stages of adoption may see vendors’ performance fall and then improve based on the learning curve. If stratification is conducted during the adoption period, it may lead to incorrect classification.

D. Vendor Supplying Stationery

Vendors supplying stationery are useful for the day to day purchases and requirement. In many cases it wouldn't be prudent to centralize all stationery purchases and therefore, local vendors would be a reality. In such cases, stratification would be counter-productive since we will invariably eliminate the local vendors, because of which the buying organization would have to spend more money to get the required material to the office requiring it.

Normally, the entire group of stationery vendors should not be considered for stratification, since the cost of goods is quite low. Of course, unless the buying organization is a law firm, or organizations in the service industry, where the share of stationery purchase forms a respectable amount of the total

Conclusion

So, this was one way of looking at managing the vendor base and therefore, managing the supply chain. Having knowledge of this mode of vendor management is one thing but putting things into action is an entirely different game. Hope the information was useful to you.