Outsourcing in Supply Chain Management

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Sourcing in Supply Chain

The Role of Sourcing
in a Supply Chain
Sourcing is the set of business processes
required to produce goods and services
Sourcing processes include:
– Supplier scoring and assessment
– Supplier selection and contract
negotiation
– Design collaboration
– Procurement
– Sourcing planning and analysis

Benefits of Effective
Sourcing Decisions
 Better economies of scale can be achieved if
orders are aggregated
 More efficient procurement transactions can
significantly reduce the overall cost of
purchasing
 Design collaboration can result in products that
are easier to manufacture and distribute,
resulting in lower overall costs
 Good procurement processes can facilitate
coordination with suppliers
 Appropriate supplier contracts can allow for the
sharing of risk
 Firms can achieve a lower purchase price by
increasing competition through the use of
auctions.

Two question arises…during
outsourcing..
Will the third party increase the supply
chain surplus relative to performing the
activity in-house?
To what extents do risks grow upon
outsourcing?

Third party increase SC Surplus
Capacity Aggregation
Inventory Aggregation
Transportation Aggregation
Warehousing Aggregation
Procurement Aggregation
Information Aggregation
Lower costs and higher quality

Risks of using a Third Party
The process is broken
Underestimation of the cost of
coordination
Reduced customer/supplier contact
Leakage of sensitive data and
information

Third and Fourth Party Logistics
Providers
A 3PL provider performs one or more of the
logistics activities relating to the flow of
product, transportation,warehousing and
information technology within the supply chain.
A 4PL targets management of the entire
process, whereas 3PL targets a function.

Supplier Scoring and Assessment
Supplier performance should be compared on
the basis of the supplier’s impact on total
cost
There are several other factors besides
purchase price that influence total cost

Supplier Assessment Factors
 Replenishment Lead
Time
 On-Time Performance
 Supply Flexibility
 Delivery Frequency /
Minimum Lot Size
 Supply Quality
 Inbound Transportation
Cost

 Pricing Terms
 Information
Coordination
Capability
 Design Collaboration
Capability
 Exchange Rates,
Taxes, Duties
 Supplier Viability

Supplier Selection- Auctions and
Negotiations
Supplier selection can be performed
through competitive bids, reverse auctions,
and direct negotiations
Supplier evaluation is based on total cost
of using a supplier
Auctions:
– Sealed-bid first-price auctions
– English auctions
– Dutch auctions
– Second-price (Vickery) auctions

Contracts and Supply Chain
Performance
Contracts for Product Availability and
Supply Chain Profits
– Buyback Contracts
– Revenue-Sharing Contracts
– Quantity Flexibility Contracts
Contracts to Coordinate Supply Chain
Costs
Contracts to Increase Agent Effort
Contracts to Induce Performance
Improvement

Contracts to Coordinate
Supply Chain Costs
Differences in costs at the buyer and supplier can lead
to decisions that increase total supply chain costs
Example: Replenishment order size placed by the
buyer. The buyer’s EOQ does not take into account
the supplier’s costs.
A quantity discount contract may encourage the buyer
to purchase a larger quantity (which would be lower
costs for the supplier), which would result in lower
total supply chain costs
Quantity discounts lead to information distortion
because of order batching

Contracts to Induce
Performance Improvement
A buyer may want performance improvement
from a supplier who otherwise would have
little incentive to do so
A shared savings contract provides the
supplier with
a fraction of the savings that result from the
performance improvement
Particularly effective where the benefit from
improvement accrues primarily to the buyer,
but where the effort for the improvement
comes primarily from the supplier

Design Collaboration
50-70 percent of spending at a manufacturer
is through procurement
80 percent of the cost of a purchased part is
fixed in the design phase
Design collaboration with suppliers can result
in reduced cost, improved quality, and
decreased time to market
Important to employ design for logistics,
design for manufacturability
Manufacturers must become effective design
coordinators throughout the supply chain

The Procurement Process
 The process in which the supplier sends product in response to
orders placed by the buyer
 Goal is to enable orders to be placed and delivered on schedule
at the lowest possible overall cost
 Two main categories of purchased goods:
– Direct materials: components used to make finished goods
– Indirect materials: goods used to support the operations of a firm

 Focus for direct materials should be on improving coordination
and visibility with supplier
 Focus for indirect materials should be on decreasing the
transaction cost for each order
 Procurement for both should consolidate orders where possible
to take advantage of economies of scale and quantity discounts

Product Categorization by Value
and Criticality

Criticality

High
Critical Items

Strategic Items

General Items

Bulk Purchase
Items

Low
Low

Value/Cost

High

Sourcing Planning and Analysis
 A firm should periodically analyze its procurement
spending and supplier performance and use this
analysis as an input for future sourcing decisions
 Procurement spending should be analyzed by part and
supplier to ensure appropriate economies of scale
 Supplier performance analysis should be used to build
a portfolio of suppliers with complementary strengths
– Cheaper but lower performing suppliers should be
used to supply base demand
– Higher performing but more expensive suppliers
should be used to buffer against variation in
demand and supply from the other source

The Role of IT in Sourcing
Design Collaboration
Source
Negotiate
Buy
Supply Collaboration

Making Sourcing
Decisions in Practice
Use multifunction teams
Ensure appropriate coordination across
regions and business units
Always evaluate the total cost of
ownership
Build long-term relationships with key
suppliers

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