SUPPLY CHAIN MANAGEMENT

Module-2

Strategic Sourcing Outsourcing

By
Dr. Renukananda K H

Assistant Professor
Dept. of Mechanical Engineering.
RVITM-Bangalore

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 Supply Chain Management
(18ME653)

Course content
 

Teaching Hours/Week (L:T:P): CIE Marks: 40

(3:0:0)
Credits: 03 SEE Marks:60
Exam Hours: 03 Total: 100

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 Content
• Strategic Sourcing Outsourcing – Make Vs buy - Identifying
core processes - Market Vs Hierarchy - Make Vs buy
continuum -Sourcing strategy - Supplier Selection and
Contract Negotiation. Creating a world class supply base-
Supplier Development - World Wide Sourcing.

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 Introduction:
Make Versus Buy
• The decision of a firm to perform its activities internally or
get those activities done from an independent firm is
known as the make versus buy decision. It involves the
following key decisions:
• What activities should be carried out by the firm and what
activities should be outsourced?
• How to select the entities/partners to carry out outsourced
activities and what should be the nature of the relationship
with those entities?
• Should the relationship be transactional in nature or
should it be a long-term partnership?

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 Make or Buy

Make Proprietary
Product
Technology
Protection
Buy
Lower costs Facilitating Strategic
specialized flexibility
investments
Offsets
Lower
Improved costs
scheduling
Trade-offs

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 Make Versus Buy:
Strategic Approach
• We classify all supply chain activities as primary
activities and support activities.

• Primary activities consist of inbound logistics,

operations, outbound logistics, sales and service.
• Secondary activities involve procurement,
technology development, human resource
management and firm infrastructure
management.

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 Make Versus Buy:
Strategic Approach
• The make versus buy decisions look at each of
these activities critically and ask the question:
• Should this activity be done internally or can it be
outsourced to an external party?
• Once the decision to outsource has been taken, the
firm has to choose among competing suppliers and
also decide on the nature of the relationship it
would like to establish with the supplier firm.

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 Make-or-Buy Decisions
Reasons for Making

1. Maintain core competence

2. Lower production cost
3. Unsuitable suppliers
4. Assure adequate supply (quantity or delivery)
5. Utilize surplus labor or facilities
6. Obtain desired quality
7. Remove supplier collusion
8. Obtain unique item that would entail a prohibitive
commitment for a supplier
9. Protect personnel from a layoff
10. Protect proprietary design or quality
11. Increase or maintain size of company

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 Make-or-Buy Decisions
Reasons for Buying

1. Frees management to deal with its core competence

2. Lower acquisition cost
3. Preserve supplier commitment
4. Obtain technical or management ability
5. Inadequate capacity
6. Reduce inventory costs
7. Ensure alternative sources
8. Inadequate managerial or technical resources
9. Reciprocity
10. Item is protected by a patent or trade secret

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 Make/Buy Considerations
Reasons for Making Reasons for Buying
1. Maintain core competencies 1. Frees management to deal
and protect personnel from with its primary business
layoff 2. Lower acquisition cost
2. Lower production cost 3. Preserve supplier
3. Unsuitable suppliers commitment

4. Assure adequate supply 4. Obtain technical or

5. Utilize surplus labor and make management ability

a marginal contribution 5. Inadequate capacity

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 Bharti Airtel: Outsourcing
of Network Operations

• Network Management to Ericsson, Nokia and

Siemens

• IT Management to IBM

• Customer service call centers to Hinduja TMT,

Mphasis, IBM Daksha and Teletech India

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 Identifying Core Processes

• As exemplified by Bharti Airtel, the decision to

identify selected processes as core processes and
focus on improving those can have a significant
impact on the performance of a firm.

• The identification of core processes is a crucial

decision.

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 Microsoft’s Entry Into
Video Game Business
• When Microsoft decided to get into the business of
video games in the mid-1990s, it decided that it would
not carry out manufacturing and distribution activities
in-house.
• Microsoft wanted to ensure that the Xbox was on the
retailers’ shelves in October 2001 and was sold for $400.
• Microsoft was very clear that it would focus only on the
software part of the Xbox and leave the hardware
design and manufacturing to Flextronics, a large
electronics manufacturing service provider
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 The Business Process Route

• For any firm, three core and high-level business

processes include

• Customer Relationship,

• Product Innovation

• Supply Chain Management.

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 The Business Process Route
• Customer relationship focuses on acquiring new
customers and building relationships with existing
customers.

• Product innovation focuses on developing new products

and services.

• While supply chain management focuses on fulfilment of

customer orders.

• It is possible to un-bundle the three business processes

and a firm can afford to outsource two of these business
processes. 15
 The Business Process Route
• Some researchers have argued that a firm must identify and ensure
that it builds core capabilities in-house in at least one of these areas.
• Firms like HP and high-end pharmaceutical firms focus on product
innovations. Firms like Nike and Benetton focus on brand building
and customer relationships.
• Firms like Wal-Mart and Dell Computers focus on supply chain
management capabilities. Of course, within the identified core
business process, firms can examine each activity and probably
outsource those activities that are of the commodity type.
• For example, within supply chain management, firms might
outsource the warehousing or transportation functions.
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 Product Architecture Route

• In the product architecture approach, the focus is

on sub-systems and components and the make or
buy decisions are made at that level.
• A product like a car can be divided into sub-systems
such as engine, chassis and transmission.
• The engine sub-system can be divided into
components such as power cylinder, fuel system
and engine electronics.

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Product Architecture Route

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 Product Architecture Route

• In a product, first the sub-systems are classified as

strategic and non strategic.
• A sub-system is strategic if it involves technologies
that change rapidly, if it requires specialized skills
and technologies.
• If it can significantly impact the performance of the
product on attributes that are considered
important by the customer.

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 Outsourcing

 Transfers traditional internal activities

and resources of a firm to outside
vendors
 Utilizes the efficiency that comes with
specialization
 Firms outsource information
technology, accounting, legal, logistics,
and production

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 Strategic
Outsourcing Process

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 Strategic
Outsourcing Process
• Tata Motors realized that in diesel engine
technology it was far behind its suppliers and
will never be in a position to catch up with them.
• So it decided to buy diesel engines from Fiat and
treat Fiat as a strategic partner.

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 Strategic
Outsourcing Process
• Cummins discovered that pistons were part of a
strategic sub-system but that its suppliers were far
ahead in the relevant technologies and therefore
decided to buy pistons rather than make them
internally.
• Honda might treat engine technology a strategic sub-
system, while Nissan might treat transmission as a
strategic sub-system.
• Of course, once Tata Motors decided to source the
design of diesel engine sub-systems from the supplier,
it ensured that in the other systems kept in-house, it
maintained the position of a leader. 23
 Supply Chain Strategies
 Negotiating with many suppliers
 Long-term partnering with few suppliers
 Vertical integration (streamline its operations
by taking direct ownership of various stages of
its production process)
 Keiretsu (business network made up of
different companies)
 Virtual companies that use suppliers on an as
needed basis
 Many Suppliers

 Commonly used for commodity products

 Purchasing is typically based on price
 Suppliers compete with one another
 Supplier is responsible for technology,
expertise, forecasting, cost, quality, and
delivery
 Few Suppliers
 Buyer forms longer term relationships with
fewer suppliers
 Create value through economies of scale and
learning curve improvements
 Suppliers more willing to participate in JIT
programs and contribute design and
technological expertise
 Cost of changing suppliers is huge
 Market
Versus Hierarchy
 The make versus buy decision is also known as the market
versus hierarchy decision in economics literature.
 The key issue here is to coordinate the chain so as to provide a
bundle of goods and services at the lowest cost for a given level
of service required by the customer.
 The costs involved in control and coordination of internal supply
is termed agency costs in economics.
 When a firm uses market mechanisms to procure the necessary
inputs, it may be able to take advantage of economies of scale
and also choose the supplier that supplies goods and services at
lower prices. 27
 Market
Versus Hierarchy
• There are costs incurred in the control and
coordination of the external supplier and are
termed as transaction costs in economics.

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 Economies of Scale

• Economies of scale are cost advantages reaped by

companies when production becomes efficient. 
• Companies can achieve economies of scale by
increasing production and lowering costs.
• This happens because costs are spread over a
larger number of goods.
• Costs can be both fixed and variable.

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Economies of Scale

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 Economies of Scale

• An important part of economies of scale to

understand are fixed costs. These can take up a
significant part of a business’s expenditures.
• Fixed costs do not change with increases/decreases
in units of production volume, while variable costs
fluctuate with the volume of units of production.

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 Economies of Scale

 For example, the airline industry has significant

fixed costs.
 It must pay for the airplane, the hire of the
airport, and contracted salaries.
 Its costs are the same whether it has one
passenger or 200.
 So when an airline grows bigger, it is able to
attract more customers and thereby reduce the
cost per customer.

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 Higher Volume
• Higher volume allows a firm to spread its fixed cost over a larger
volume of operations.
• Any manufacturing or logistics process will involve investments in fixed
costs.
• A firm with higher volume is able to spread its fixed costs over a higher
output and thus has lower cost of operations.
• For example, the cost of a truck trip from Mumbai to Bangalore is more
or less fixed because major costs like driver cost, bulk of fuel cost and
administrative cost are independent of the load carried by the truck.
• Similarly, when a firm sets up its manufacturing unit, the set-up cost is
the same, irrespective of the volume of production. So a firm with
bigger batch sizes will have lower costs of operation.
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 Higher Volume

• Higher volume allows a firm to choose more efficient technologies.

• Higher volume allows a firm to invest in technologies that are capital
intensive but result in lower fixed and variable costs per unit of output.
• In the semiconductor industry, capital-intensive technologies capable of
handling wafers of diameter 300 millimetres allow firms to obtain twice
as many chips per wafer compared to older technologies, which could
handle wafers only with diameters up to 200 millimetres.
• This allows a semiconductor manufacturing firm, willing to invest in
more capital-intensive technologies, to bring down the cost per chip.

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 Pooling of Buffer
Capacities and Inventories
• If firms keep their activities in-house, they have to
keep buffer capacities and inventories to take care of
the uncertainties in demand.
• A supplier, on the other hand, is able to pool
uncertainties over a larger number of customers and
as a result needs much lower levels of buffer capacity
and safety inventory.
• A supplier can also ensure utilization of high capacity
by pooling demand across customers who have
different demand profiles.

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 Learning Curve Effect

• The learning curve captures the impact of

cumulative production on the average cost of
production.
• The management and the workers are able to
improve their performance based on experience
gained through the cumulative production of a firm.
• In several industries, it is found that with doubling
of cumulative production the average cost declines
by 10 to 20 per cent.

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 Various Costs Involved

 Agency cost
 Transaction cost
 Incomplete contract

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 Agency cost

• The costs involved in control and coordination of

internal supply is termed agency costs in
economics.

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 Transaction cost

• There are costs incurred in the control and

coordination of the external supplier and are
termed as transaction costs in economics. . It
includes

• Search and information cost

• Bargaining and contracting cost
• Policing and enforcing cost
• Cost incurred because of loss of control

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 Incomplete contract
• In theory, it is possible to write a complete contract that
stipulates each party’s responsibilities and rights for each and
every contingency that could conceivably arise during the
transactions. Unfortunately, in practice, it is impossible to
write a complete contract.
• The reasons why contracts are not complete are as follows:

• Bounded rationality
• Difficulties in specifying or measuring performance.
• Asymmetry of information.

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 The Make-Versus-Buy
Continuum
(a) Tapered integration, where a firm both makes
and buys a given input.

(b) Collaborative relationship, which could be a

formal contractual relation or a long-term informal
relationship, based on trust. In some cases, it can
lead to alliances or joint ventures.

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 Tapered Integration

 Tapered integration represents a mixture of

market and vertical integration. A firm makes
part of the requirement in-house and procures
the rest from the market.
 Firms like Pizza Corner and Madura Garments fall
in this category, wherein they own some retail
outlets and depend on franchisee or other
models for the rest of their sales.

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 Collaborative relationship

• In a collaborative relationship, the supplier is an

extension of the firm. The firm treats its suppliers as
strategic partners and usually a supplier is assured
of business for a reasonably long period of time.
• The firm does not indulge in competitive bidding
every year and does not change its supplier to get
the small price reduction offered by a competing
supplier. Information is shared freely across firms,
and the supplier is willing to invest in relationship-
specific assets.

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Sourcing Strategy:
Portfolio Approach

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 Negotiation with
Supplier and Source of Selection
1. Negotiation
2. Before Negotiation ,during & after
3. Process of Negotiation
4. Factors Affect Negotiation
5. Qualities of good Negotiator
6. Types Of Negotiation
7. Sourcing' or 'Selection
8. Successive Stages of Source Selection
9. Source selection
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 Negotiation with
Supplier and Source of Selection
Negotiation refers to the communication between buyer and
the seller. The basic purpose of negotiation is to discuss the
various terms and conditions and state everything clearly so
that there is no scope of any doubts.
The Purpose of negotiations may be any one/more of the
following:
1.Best Price
2.Best Quantity
3.Time of Delivery
4.Terms of Payment
5.Best Quality
6.Place of Delivery 46
 Before Negotiation
1.Product Knowledge
2.How to Search
3.Person of the same Trade
4.Call your Vendor in the last
5.Go to Manufacturer, Behave like a Whole seller

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 During Negotiation
1.Don’t make the first offer
2.Don't be in a hurry
3.Excepting an expensive price ? Quote first
4.Be a good observer
5.Don’t let him read you
6.Be firm
7.Be a good communicator
8.Don’t speak too much
9.Never accept the first offer
10.Don’t bluff 48
 After Negotiation
Put it in Writing •Write down the details of what you have agreed on. Both
of you should review it to be sure the agreement says what you intended.
Make sure that you are both OK with what the agreement says. You can
write your agreement simply, using ordinary words. Putting things in writing
will increase the chances that your agreement will be followed by both of
you.
Stay Positive
•At the end of the session, express positive feelings about the agreement
you have reached. This was probably a difficult process for both of you. As
hard as it was to get to agreement, share your feelings about the fact that
you both succeeded.
•“I feel better about this now that we are talking.”
•“I appreciate this.”
•“I am glad that we were able to work this out together.”
•“Thank you.” If Prices are More : Don’t cancel the deal If Prices are Less :
He may back out Don’t show your happiness 49
 After Negotiation
Put it in Writing •Write down the details of what you have agreed on. Both
of you should review it to be sure the agreement says what you intended.
Make sure that you are both OK with what the agreement says. You can
write your agreement simply, using ordinary words. Putting things in writing
will increase the chances that your agreement will be followed by both of
you.
Stay Positive
•At the end of the session, express positive feelings about the agreement
you have reached. This was probably a difficult process for both of you. As
hard as it was to get to agreement, share your feelings about the fact that
you both succeeded.
•“I feel better about this now that we are talking.”
•“I appreciate this.”
•“I am glad that we were able to work this out together.”
•“Thank you.” If Prices are More : Don’t cancel the deal If Prices are Less :
He may back out Don’t show your happiness 50
Process of Negotiation

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 Factors Affecting
Negotiation
• PLACE: Familiarity with surrounding helps in
boosting confidence.
• TIME: Time should be adequate for smooth
exchange of ideas & securing agreement before it is to
late .
• ATTITUDE: Attitude of both parties should be
positive, i . e, willingness to make an agreement or
deal.
• SUBJECTIVE FACTORS: Like relation of two parties
involved, status difference, information & expertise.

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Types of Negotiation

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Types of Negotiation

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 Top 5
Successive Source Selection
1. Searching
2. Selection
3. Negotiations
4. Trial order
5. Rating.

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 Successive Stage
# 1 Searching
 The need for a material is the starting point.
 The search is on to find out the most suitable
supplier.
 This process begins with the finalization of
specifications in consultation with technical
departments.
 The identification of the sources of supply needs I
exhaustive initial survey.

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 Successive Stage
# 2 Selection
 The buyer is now provided with adequate
information as to the sources of suppliers.
 The more intimate knowledge of the supplier is
necessary for right selection.
 So, specific information on the supplier’s financial
strength, quality, facilities, efficiency, industrial
relations, technical excellence and position in
industry have to be collected.

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 Successive Stage
# 3 Negotiation
 The process of negotiations starts after the
completion of screening and selection of the
suppliers.
 The negotiations or regular basis and personal
contacts and sometimes conferences with the
suppliers ensure correct and cordial relations
between the buyer and the supplier and his is very
essential for mutual cooperation

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 Successive Stage
# 4 Trial Orders
 Through negotiations when both the parties — the
buyer and the vendor — come to mutual
understanding, trial orders are placed, formally the
trial orders do not exceed more than a month’s
requirements.
 This is done with a view to test the vendor’s
capability in meeting the buyer’s needs.

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 Successive Stage
# 5 Rating
 Since there are a number of vendors usually, the
question of rating irises.
 On the basis of various considerations, the buyers
has to apportion his requirements among the
because on the correct rating of the vendors
depends there retention or rejection.

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 Source Selection

1. Financial soundness of the supplier: The supplier to

be chosen should have a sound financial position.
2. Flexibility: The supplier to be chosen should be one
who is flexible
3. Size of the Supplier: Large supplier with huge
capital are greatly interested in technological
improvements.
4. Past association : In case some supplier is there
with whom the organization is having old
association, the relationship with the same
supplier must be continued
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 Source Selection

1. Current price buying : also called market condition

buying, refers to the general method of purchasing
in minimum quantities to replace stock
2. Contract buying: it refers to the policy of the
supplier undertaking to deliver agreed quantities
at intervals over the period specified in the
contract
3. Bargain buying: it refers to the policy of buying in
bulk at ‘bargain prices’.

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 Supplier
Characterization Matrix
High
Special Attention Long-Term
Low spend - high risk Relationship
High spend - high risk
Risk

Transactional Contractual
Low spend - low risk High spend - low risk
(Easily substituted)

Low High
Annual Spend
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 Supplier Improvement
 Supplier Evaluation - Involves finding
potential suppliers and determining the
likelihood of their becoming good partners.
 Supplier Development - May include
everything from training, to engineering and
production help, to formats for electronic
transfer.
 Negotiations - Are of three classic types:
cost-based model, market-based price
model, and competitive bidding.

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Suppliers
• Choosing suppliers
• Evaluating sources of supply
• Supplier audits
• Supplier certification
• Supplier partnerships

MTSU Management 362 16-65

Considerations When Choosing a Supplier
• Lead times and on-time delivery
• Quality and quality assurance
• Flexibility
• Location
• Price
• Product or service charges
• Reputation and financial stability
• Other accounts

MTSU Management 362 16-66

Evaluating Sources of Supply
• Vendor analysis: Evaluating the sources of supply
in terms of price, quality, reputation, and service

Vendor Score Sheet

Vendor A Vendor B Vendor C

Price
Quality
Service
Reputation
MTSU Management 362 16-67
 Supplier Audits
• Means of keeping current on suppliers’ performance
• Factors covered in an audit
• management style
• quality assurance
• materials management
• design process used
• process improvement policies
• procedures for corrective action and follow-up

MTSU Management 362 16-68

Supplier Certification
• Detailed examination of the policies and
capabilities of a supplier
• Verifies that a supplier meets or exceeds the
requirements of a buyer
• Use of certified suppliers can eliminate much or
all of the inspection and testing of delivered
goods
• ISO 9000

MTSU Management 362 16-69

 Supplier as a Partner

Aspect Partner Adversary

Number of suppliers One or a few Many; play one off
Length of Long-term others
relationship Moderately important May be brief
Low price High Major consideration
Reliability High May not be high
Openness Insured at the source Low
Quality High Buyer inspects
Volume of business Proximity may be May be - many suppliers
Location stressed for short lead Widely dispersed
times
Flexibility Relatively high Relatively low

MTSU Management 362 16-70

Supplier Partnerships
• Ideas from suppliers could lead to improved
competitiveness
• Reduce cost of making the purchase
• Reduce transportation costs
• Reduce production costs
• Improve product quality
• Improve product design
• Reduce time to market
• Improve customer satisfaction
• Reduce inventory costs
• Introduce new products or services

MTSU Management 362 16-71

 Strategic Sourcing
 Strategic Sourcing
 Identifying ways to improve long-term business
performance by better understanding sourcing needs,
developing long-term sourcing strategies, selecting
suppliers, and managing the supply base.

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 1. Assets Opportunity
 Spend Analysis - The application of quantitative
techniques to purchasing data in an effort to better
understand spending patterns and identify
opportunities for improvement.
 What categories of products or services make up
the bulk of company spending?
 How much are we spending with various suppliers?
 What are our spending patterns like across different
locations?
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 2. Profile Internally
and Externally
 Two approaches to creating profiles:
 Category profile –Understanding all aspects of a
particular sourcing category that could ultimately
have an impact on the sourcing strategy.
 Industry Analysis – Profiling the major forces and
trends that are impacting an industry, including
pricing, competition, regulatory forces,
substitution, technology changes, and
supply/demand trends.

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 3. Develop the
Sourcing Strategy
 The Make-or-Buy Decision - A high-level, often strategic,
decision regarding which products or services will be provided
internally and which will be provided by external supply chain
partners.
 Insourcing – The use of resources within the firm to provide products or services.

 Outsourcing – The use of supply chain partners to provide products or services.

 Total cost analysis – A process by which a firm seeks to identify

and quantify all of the major costs associated with various
sourcing options.
 Direct costs – Costs tied directly to the level of operations or supply chain activities.

 Indirect costs – Costs that are not tied directly to the level of operations or supply
chain activity.

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 Adv and Disadv of
Insourcing and Outsourcing

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Direct & Indirect Costs

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 3. Develop the
Sourcing Strategy
 Portfolio analysis – A structured approach used by decision
makers to develop a sourcing strategy for a product or service,
based on the value potential and the relative complexity or
risk represented by a sourcing opportunity.
 The Routine Quadrant – Readily available products or services
representing a relatively small portion of a firm’s purchasing
expenditures.
 The Leverage Quadrant – Standardized and readily available products
or services representing a significant portion of spend.
 The Bottleneck Quadrant – Products or services with unique or
complex requirements that can be met only by a few potential
suppliers.
 The Critical Quadrant – Products or service with unique or complex
requirements coupled with a limited supply base.
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 3. Develop the
Sourcing Strategy
 Single sourcing – The buying firm depends on a single
company for all or nearly all of a particular item or service.
 Multiple sourcing – The buying firm shares its business across
multiple suppliers.
 Cross sourcing – The buying firm uses a single supplier for one
particular part or service and another supplier with the same
capabilities for a different part or service.
 Dual sourcing – The buying firm uses two suppliers for the
same purchased product or service.

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 4. Screen Suppliers and
Create Selection Criteria
 Qualitative criteria to evaluate suppliers include:

 Process and design capabilities

 Management capability

 Financial condition and cost structure

 Longer-term relationship potential

80
 5. Conduct Supplier
Selection
 Weighted-point evaluation system
 Assign weights to performance dimensions.
 Rate the performance of each supplier with regard
to each dimension.
 Calculate the total score.

81
 6. Negotiate and
Implement Agreements
 Competitive bidding – A request for bids from
suppliers with whom a buyer is willing to do
business.
 Request for quotation – A formal request for the
suppliers to prepare bids, based on the terms and
conditions set by the buyer.
• Description by market grade/industry standard
• Description by brand
• Description by specification
• Description by performance characteristics
82
 6. Negotiate and
Implement Agreements
 Negotiating – A more costly, interactive approach to final
supplier selection. This is used best when:
 The item is a new or technically complex item with only
vague specifications.
 The purchase requires agreement about a wide range of
performance factors
 The buyer requires the supplier to participate in the
development efforts.
 The supplier cannot determine risks and costs without
additional input from the buyer.

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 6. Negotiate and
Implement Agreements
 Contracting – The process of creating a detailed purchasing
contract to formalize the buyer-supplier relationship.
 Fixed-price contract – Stated price does not change.
 Cost-based contract – Price of the good or service is tied to
the cost of some other key input(s) or other economic
factors.
 Ordering
 Purchase order – A document that authorizes a supplier to
deliver a product or service and often includes key terms
and conditions such as price, delivery, and quality
requirements.
 Follow-Up and Expediting 84
 6. Negotiate and
Implement Agreements
 Follow-Up and Expediting
 Receipt and Inspection
 Statement of work (scope of work) – Terms and conditions
for a purchased service that indicate, among other things,
what services will be performed and how the service
provider will be evaluated.
 Settlement and Payment
 May be paid through Electric Funds Transfer (EFT)
 Records Maintenance

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 Sustainable Supply
 Becoming more conscious of the importance of being
environmentally friendly and using environmental
performance in selecting suppliers.
 Ensuring compliance with regulations.
 Reducing packaging, promoting recycling, and
reducing costs while being good for the environment.

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 Supply Chain Disruptions
 Caused by natural disasters, economic or political
events.
 Cause a big threat to revenue streams.
 Lead to increased risk due to outsourcing to global
suppliers.

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 Global Sourcing
 Original strategy was to reduce production
costs.

 Changing focus of global purchasing includes

 local content / market access
 product availability
 technology
 delivery
 lead times
 labor availability and quality.

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 Global Sourcing
 Firms do not compete only against global competitors, but
against their competitors’ supply chains.
 To keep up with global competition and tap into the abilities
of world-class suppliers, many companies have put in place
global sourcing systems.
 Advances in information systems have served as a catalyst
for global sourcing efforts.
 Global sourcing applies to services and business processes,
as well as manufactured goods.

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 Global Sourcing
Trent and Monczka* distinguish between international
purchasing and global sourcing and identify seven features that
characterize organizations which are effective in global
sourcing.
 International purchasing involves a commercial transaction
between a buyer and a supplier located in different
countries.
 Global sourcing, on the other hand, involves integrating and
coordinating common items, materials, processes,
technologies, designs and suppliers across worldwide
buying, design and operating locations.

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 Global Sourcing
Seven features of organizations which are effective in global
sourcing:

 Executive commitment to global sourcing

 Rigorous and well-defined processes
 Availability of needed resources
 Integration through information technology
 Supportive organizational design
 Structured approaches to communication
 Methodologies for measuring savings

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 Global Sourcing Benefits

 Cost Savings
 Availability
 Quality
 Innovation
 Entry to new markets

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 Global Sourcing
• Global sourcing is the procurement of products or
services from foreign suppliers

• Global sourcing has become a major international

business activity.

• A firm can outsourc from independent suppliers,

company-owned subsidiaries and affilates, or a
combination of both.
Drivers of Global Sourcing
1) Technological advances, particularly Internet connectivity
and broadband availability

2) Decrease in transportation and communication costs

3) Increased access to information and a rise in connectivity

between suppliers and their customers

4) Entrepreneurship and rapid economic changes in emerging

markets.
 Characteristics of Global Sourcing
• Services are more difficult to outsource than manufacturing
• Difficult to judge quality of services
• Need to develop a trusting relationship

• Location decision
• Eastern Europe, India, China & Latin America

• Main motive of outsourcing is to cut costs, however it often

is more costly than planned

• International laws do not fully protect confidentiality of

customer information
 Global Sourcing
A manufacturer may be in a difficult situation if its contract
manufacturer (CM) becomes its competitor.*

To avoid such a situation, the OEM should do the following:

o Modesty about revealing one’s secrets.

o Caution about whom one consorts with.
o A judicious degree of intimacy, loyalty, and generosity toward
one’s partners and customers.
o Use surplus intellectual property to enter markets beyond
those for their core products.

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 Global Sourcing
A manufacturer may be in a difficult situation if its contract
manufacturer (CM) becomes its competitor.*

To avoid such a situation, the OEM should do the following:

o Modesty about revealing one’s secrets.

o Caution about whom one consorts with.
o A judicious degree of intimacy, loyalty, and generosity toward
one’s partners and customers.
o Use surplus intellectual property to enter markets beyond
those for their core products.

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Two Key Decisions Regarding Global Sourcing

• Decision 1: Outsource or not

 Decide whether each value-adding activity should be
conducted in-house or by an independent supplier
 Known as the ‘make or buy’ decision
 Firms usually internalize activities that are part of their core
competence or that involve the use of valuable intellectual
property

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Two Key Decisions (cont.)

• Decision 2: Where in the world should value-adding

activities be located?
 Firms configure their value-chain activities in specific
countries to cut costs, reduce transit time, access favorable
factors of production, and access competitive advantages
 Can explain migration of manufacturing from developed to
emerging markets

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Drivers Growth in Global Sourcing

1. Technological advances in
communications, especially the
Internet and international telephony

2. Falling costs of
international business

3. Entrepreneurship
and rapid economic
transformation in
emerging market countries

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 Scope of Global Sourcing

• Many jobs in the services sector cannot be separated from their

place of consumption, such as retailing
• Other services are consumed locally, such as those provided by
doctors, lawyers, and accountants
• The firm’s reputation can be harmed by having jobs performed
abroad
• Labor union contracts often restrict global sourcing
• Easily outsourced jobs tend to be in industries:
– That benefit from efficiency & low cost
– That have uniform processes & customer needs
– In the service sector; labor intensive jobs
– Where outputs are easily transmitted via the Internet

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Two Key Decisions Regarding Global Sourcing

• Decision 1: Outsource or not

• Decide whether each value-adding activity should be
conducted in-house or by an independent supplier.
• Known as the ‘make or buy’ decision.
• Firms usually internalize activities that are part of their core
competence or that involve the use of valuable intellectual
property.
• Decision 2: Where in the world should value-adding
activities be located?
• Firms configure their value-chain activities in specific countries
to cut costs, reduce transit time, access favorable factors of
production, and access competitive advantages.

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Example of Worldwide Value Chain Configuration

• Automaker BMW employs 70,000 factory personnel at 23

sites in 13 countries to manufacture its vehicles.
• The Munich plant builds the BMW 3 Series and supplies
engines to other BMW factories abroad.
• The South Carolina plant makes 500 vehicles daily.
• A plant in NE China makes cars in a local joint venture.
• A plant in India makes BMWs for the Asian market.
• BMW configures sourcing to minimize costs (by producing in
China), access skilled personnel (by producing in Germany),
and remain close to key markets (by producing in China,
India, and the United States).
Global Sourcing of Manufacturing
 Business Process Outsourcing (BPO)

• Outsourcing of business functions, such as accounting,

human resource functions, IT services, and customer
service, to independent suppliers
• BPO includes:
 Back-office activities, including internal, upstream
business functions such as payroll and billing
 Front-office activities,
including down-stream,
customer-related services
such as marketing or
technical support

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Business Process Outsourcing
 Global Sourcing from
Subsidiaries Versus Independent Suppliers

• In global sourcing, the focal firm has two major

choices. It can source from:
(1) Independent suppliers, or
(2) Company-owned subsidiaries and affiliates.
• Global sourcing from independent suppliers involves
outsourcing production to a third-party provider
abroad.
• Captive sourcing is sourcing from the firm’s own
production facilities located abroad. Production is
carried out at a foreign facility that the focal firm fully
or partly owns through direct investment.
 Contract Manufacturing

Arrangement in which the focal firm contracts with an

independent supplier to manufacture goods according
to well-defined specifications; e.g., Nike, Ikea
Example
Patheon is a leading contract manufacturer in the
pharmaceutical industry, providing drug development
and manufacturing for pharmaceutical and biotechnology
firms worldwide. It operates 11 factories in North America
and Europe, producing over-the-counter drugs and
numerous top prescription drugs for leading
pharmaceutical firms.
 Offshoring

• A natural extension of global sourcing, it refers to the

relocation of a business process or entire
manufacturing facility to a foreign country.
• MNEs shift production of goods or processes to foreign
countries to enhance their competitive advantages.
• Common in the
Example
service sector, Large legal hubs have emerged in India,
including banking, which provide services such as drafting
software writing, contracts and patent applications.
Because lawyers in North America and
legal services, and Europe can cost $300 an hour or more,
customer service Indian firms can cut legal bills by 75
activities. percent.
Nature of Global Sourcing
Thank you

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 Global Sourcing
o Procurement decisions in the era of globalization are no
longer based entirely on an understanding of direct purchase
costs or on easily observable transaction costs, such as
transport expenses and import duties, but on many other
types of transaction costs as well, including those related to
cultural, institutional and political differences.*

o An over dependency on first-tier suppliers is dangerous for

OEMs (original equipment manufacturers). It weakens their
control over costs, reduces their ability to stay on top of
technology developments and shifts in demand, and makes it
difficult to ensure that their suppliers are operating in a
socially and environmentally sustainable fashion.**

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