1. Sourcing Decisions

2. Chapter Objectives Be able to:
Discuss the various strategic issues surrounding sourcing decisions and identify some of the key factors favoring one approach over the other.
Perform a simple total cost analysis.
Explain what a sourcing strategy is, and show how portfolio analysis can be used to identify the appropriate sourcing strategy for a particular good or service.
Show how multicriteria decision models can be used to evaluate suppliers, and interpret the results.
Discuss some of the longer-term trends in supply management and why they are important.
© 2008 Pearson Prentice Hall --- Introduction to Operations and Supply Chain Management, 2/e --- Bozarth and Handfield, ISBN:

3. Introduction The sourcing decision Sourcing strategies
Supplier evaluation
Trends in supply management
© 2008 Pearson Prentice Hall --- Introduction to Operations and Supply Chain Management, 2/e --- Bozarth and Handfield, ISBN:

4. Focus
Sourcing decisions and purchasing activities serve to link a company with its supply chain partners
Sourcing decisions – High level, often strategic decisions regarding which products or services will be provided internally and which will be provided by external supply-chain partners
Purchasing – discussed in Chapter 11 The activities associated with identifying needs, locating and selecting suppliers, negotiating terms, and following up to ensure supplier performance
© 2008 Pearson Prentice Hall --- Introduction to Operations and Supply Chain Management, 2/e --- Bozarth and Handfield, ISBN:

5. The Sourcing Decision
Sourcing decisions are high-level, often strategic decisions that address:
What will use resources within the firm
What will be provided by 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
The sourcing decision defines responsibilities of operations and supply chain managers:
Insourcing – determine required capacity and resources
– determine appropriate manufacturing or service processes to use
– determine information systems required
– manage and coordinate operations
Outsourcing – identify the most qualified suppliers
– manage the buyer-supplier relationship
Make-or-Buy Decision
© 2008 Pearson Prentice Hall --- Introduction to Operations and Supply Chain Management, 2/e --- Bozarth and Handfield, ISBN:

6. Advantages and Disadvantages of Insourcing
High degree of control
Ability to oversee the entire program
Economies of scale and/or scope
Disadvantages
Required strategic flexibility
Required high investment
Loss of access to superior products and services offered by potential suppliers
© 2008 Pearson Prentice Hall --- Introduction to Operations and Supply Chain Management, 2/e --- Bozarth and Handfield, ISBN:

7. Advantages and Disadvantages of Outsourcing
High strategic flexibility
Low investment risk
Improved cash flow
Access to state-of-the-art products and services
Disadvantages
Possibility of choosing a bad supplier
Loss of control over the process and core technologies
Communication and coordination challenges
“Hollowing out” of the corporation
© 2008 Pearson Prentice Hall --- Introduction to Operations and Supply Chain Management, 2/e --- Bozarth and Handfield, ISBN:

8. Factors Affecting the Decision to Insource or Outsource
Favors Insourcing
Favors Outsourcing
Factor
Environmental uncertainty low high
Competition in the supplier market low high
Ability to monitor supplier performance low high
Relationship of product/service to high low buying firm’s core competencies
© 2008 Pearson Prentice Hall --- Introduction to Operations and Supply Chain Management, 2/e --- Bozarth and Handfield, ISBN:

9. 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 that are 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
© 2008 Pearson Prentice Hall --- Introduction to Operations and Supply Chain Management, 2/e --- Bozarth and Handfield, ISBN:

10. Insourcing and Outsourcing Costs
Insourcing Outsourcing
Direct material
Direct labor
Freight costs
Variable overhead
Price (from invoice)
Supervision
Administrative support
Supplies
Maintenance costs
Equipment depreciation
Utilities
Building lease
Fixed overhead
Purchasing
Receiving
Quality control
Direct costs
Indirect costs
Determining the actual cost of a product or service is a complicated task requiring both good judgment and the application of sound quantitative techniques. For example, how should design cost be assigned among current products and future products? Also, what is the impact of the expected time frame of the purchasing decision?
© 2008 Pearson Prentice Hall --- Introduction to Operations and Supply Chain Management, 2/e --- Bozarth and Handfield, ISBN:

11. Complexity or Risk Impact
Portfolio Analysis
High
Bottleneck
Critical
Routine
Leverage
Complexity or Risk Impact
Low
Low
High
Value Potential
© 2008 Pearson Prentice Hall --- Introduction to Operations and Supply Chain Management, 2/e --- Bozarth and Handfield, ISBN:

12. Critical Quadrant Critical to profitability and operations
Few qualified sources of supply
Large expenditures
Design and quality critical
Complex and/or rigid specification
Strategy
Form partnerships with suppliers
Tactics
Increase role of selected suppliers
Actions
Heavy negotiation
Supplier process management
Prepare contingency plans
Analyze market/competitions
Use functional specifications
© 2008 Pearson Prentice Hall --- Introduction to Operations and Supply Chain Management, 2/e --- Bozarth and Handfield, ISBN:

13. Bottleneck Quadrant
Complex specifications requiring complex manufacturing or service process
Few alternate productions/sources of supply
Big impact on operations/maintenance
New technology or untested processes
Strategy
Ensure supply continuity
Tactics
Decrease uniqueness of suppliers
Manage supply
Actions
Widen specification
Increase competition
Develop new suppliers
Medium-term contracts
Attempt competitive bidding
© 2008 Pearson Prentice Hall --- Introduction to Operations and Supply Chain Management, 2/e --- Bozarth and Handfield, ISBN:

14. Leverage Quadrant High expenditures, commodity items
Large marketplace capacity, ample inventories
Many alternate products and services
Many qualified sources of supply
Market/price sensitive
Strategy
Maximize commercial advantage
Tactics
Concentrate business
Maintain competition
Actions
Promote competitive bidding
Exploit market cycles/trends
Procurement coordination
Use industry standards
Active sourcing
© 2008 Pearson Prentice Hall --- Introduction to Operations and Supply Chain Management, 2/e --- Bozarth and Handfield, ISBN:

15. Routine Quadrant Many alternative products and services
Many sources of supply
Low value, small individual transactions
Everyday use, unspecified items
Anyone could buy it
Strategy
Simplify acquisition process
Tactics
Increase role of systems
Reduce buying effort
Actions
Rationalize supplier base
Automate requisitioning, e.g., EDI, credit cards
Stockless procurement
Minimize administration costs
Little negotiating
© 2008 Pearson Prentice Hall --- Introduction to Operations and Supply Chain Management, 2/e --- Bozarth and Handfield, ISBN:

16. Sourcing Strategies
Single sourcing – The buying firm depends on a single company for all or nearly all of an item or service
Multiple sourcing – The buying firm shares its business across multiple suppliers
Cross sourcing – Using a single supplier for a certain part or service and another supplier with the same capabilities for a similar part
Dual sourcing – Using two suppliers for the same purchased product or service
Cross sourcing has the advantage of providing for a backup supplier in case the primary supplier cannot provide the required volume.
Dual sourcing is typically split 70% – 30% so that the dominant supplier will lose business if performance suffers.
© 2008 Pearson Prentice Hall --- Introduction to Operations and Supply Chain Management, 2/e --- Bozarth and Handfield, ISBN:

17. Multicriteria Decision Models in Sourcing and Purchasing
How do we evaluate alternatives when criteria include both quantitative measures (such as costs and on-time delivery performance) and qualitative factors (such as management stability and trustworthiness)?

18. Weighted-Point Evaluation System - I
Purpose:
Evaluating potential suppliers
Tracking suppliers’ performance over time
Ranking current suppliers
The Process:
Assign weights to performance dimensions
Rate the performance of each supplier with regard to each dimension
Calculate the total score
© 2008 Pearson Prentice Hall --- Introduction to Operations and Supply Chain Management, 2/e --- Bozarth and Handfield, ISBN:

19. Weighted-Point Evaluation System - II
Summary Data for Alternative Suppliers
Performance Dimension
Aardvark Beverly Conan the Electronics Hills Inc Electrician
$4/unit
$5/unit
$2/unit
5% defects
1% defects
10% defects
95% on time
80% on time
60% on time
Price
Quality
Delivery reliability
© 2008 Pearson Prentice Hall --- Introduction to Operations and Supply Chain Management, 2/e --- Bozarth and Handfield, ISBN:

20. Weighted-Point Evaluation System - III
Criteria Weights
WPrice = 0.3
WQuality = 0.4
WDelivery = 0.3
5 = excellent
4 = good
3 = average
2 = fair
1 = poor
Scoring Scheme
© 2008 Pearson Prentice Hall --- Introduction to Operations and Supply Chain Management, 2/e --- Bozarth and Handfield, ISBN:

21. Weighted-Point Evaluation System - IV
Performance Values for Alternative Suppliers
Performance Dimension
Price
Quality
Delivery reliability
Aardvark Beverly Conan the Electronics Hills Inc Electrician 4 3 5 1 2
© 2008 Pearson Prentice Hall --- Introduction to Operations and Supply Chain Management, 2/e --- Bozarth and Handfield, ISBN:

22. Weighted-Point Evaluation System - V
Total Scores for Alternative Suppliers
Score Aardvark = (4 x 0.3) + (3 x 0.4) + (4 x 0.3) = 3.6
Score Beverly = (3 x 0.3) + (5 x 0.4) + (2 x 0.3) = 3.5
Score Conan = (5 x 0.3) + (1 x 0.4) + (1 x 0.3) = 2.2
Aardvark should improve their quality Beverly Hills should improve their delivery and price Conan is out of the running as a potential supplier
© 2008 Pearson Prentice Hall --- Introduction to Operations and Supply Chain Management, 2/e --- Bozarth and Handfield, ISBN:

23. Trends in Supply Management
Sustainable Supply*
Supply Base Reduction
Global Sourcing
Supply Chain Disruptions
Supply Chain Capacity
Transportation Costs
*Referred to as Environmentalism in the text.
© 2008 Pearson Prentice Hall --- Introduction to Operations and Supply Chain Management, 2/e --- Bozarth and Handfield, ISBN:

24. Case Study in Sourcing Decisions
Pagoda.Com