Supplier Segmentation – The First Step of an Effective SRM Programme

We welcome this guest post from Vikash Sharma Manager at GEP, global provider of Procurement Consulting.

Correct supplier segmentation is the initial and integral step for an effective SRM programme. It can help drive and deliver increased value for the supply chain. Many organisations tend to view supplier segmentation as a discrete activity, focusing on specific suppliers and business with those suppliers. Conventional thought is, “If we spend more money with them, they must be important and therefore they are strategic partners.” Of course, all suppliers play a role in helping deliver value to the end customer in terms of products or services they provide. However, only a few stand out and create that competitive advantage for the organisation.

Defining Supply Chain Segmentation

This is the process of segmenting the supplier base to ascertain an appropriate level of engagement with specific suppliers. This also helps define the right level of resources required to manage the supplier at various levels. In addition to business requirements, segmentation also needs to align with category strategy and consider the company’s objectives.

Segmentation tier-level structure and nomenclature vary widely from company to company, but is generally limited to three or four with “strategic” at the top. The lower level has the highest number of suppliers, and interactions (not counting normal day-to-day transactions) and are more of an exception. The middle tier is usually a mix of suppliers which need performance management, with opportunities for continuous improvement. Top-layer suppliers provide goods or services that give competitive advantage or an opportunity to drive revenue growth and increased value.

The four generic levels of segmentation are:

  • Strategic
  • Business essential
  • Leveraged
  • Arm’s length

There are various attributes that determine the supplier’s segment. Each attribute can have many levers that influence segmentation. Below are the most common attributes used by an organisation for segmentation:

  1. Supplier Spend. Annual spend with the supplier becomes a key lever in the segment. The organisation decides spend thresholds for each segment based on their supplier landscape. It’s also important to consider the Y-O-Y spend growth, which provides the futuristic supplier engagement level. There could be a supplier which doesn’t have substantial spend, but the organisation plans to increase their scope and consider them as a strategic partner.

 

  1. Innovation/Collaboration. This attribute measures the level of collaboration and nature of the product/service by supplier. This generally has two levers:
    • Specificity of offering – The supplier has collaborated with the organisation to deliver a unique offering, or they have customised it for the organisation’s need. Some suppliers also sell off-the-shelf or commoditised products/services.
    • Breakthrough offering – The collaboration level between supplier and organisation can provide the company strategic (create new segment, enter new market), competitive (capture market share, provide better service) or operational advantage (cost reduction and process improvement).

 

  1. This helps to understand the level of linkages with key processes that exist between supplier and organisation. Along with that, it assesses sharing of knowledge or critical information that happens between them. There are two key focus areas for the integration to have a lasting impact on the relationship:
    • Linkages with key processes – Supplier and organisation processes affect the intensity of integration and can have any of the following:
      • Provides an advantage to both parties and jointly configures their processes
      • Shares best practices
      • Shares limited information on each other’s process to the extent required for smooth operation
      • Have completely independent/discrete processes
    • Sharing of critical information/knowledge – The kind of information sharing that exists also represents integration scale. There could be a strategic dialogue between parties where they exchange confidential information and IP through senior leaders. Some may indulge in only tactical information through a two-way dialogue. In most of the supplier relations, it’s just one-way instruction, where the organisation provides requirements with little or no information sharing.

 

  1. Supplier Risk. This attribute not only influences segmentation, but also determines organisation sourcing strategies and supply plans. Risk can be viewed through two lenses:
    • Potential Failures – This helps us asses the magnitude of impact on the corporation due to failure of supplier products/services. This can be classified between low to high risk based on the disruption it can cause to organisational operations. There can also be secondary failure associated with the supply disruption.
    • Actual Failures – Here we take cognizance of past incidents/events of supplier failure and the effect it had on business continuity. The frequency of such failures and level of disruption experienced by the organisation will determine the risk level from high to low.

 

  1. Customer Impact. A supplier product/service which enables the organisation to enhance customer experience or increase customer base significantly has very distinctive and direct customer impact. These suppliers will mostly be in the upper tier of the segmentation, versus suppliers who have no impact on organisational interaction with customers. There are also situations where a supplier offering can have an impact on an organisation’s employees and help attract and retain talent, while enhancing the overall employee experience. Internal and external customer impact assessments can be separately rated and included in the segmentation activity.

As it is rightly said,  'a good beginning is half the battle won.' Segmentation is the first step to design and implement a robust SRM work stream. Each organisation has different priority attributes based on their business plan or strategy. Selection and scaling the attribute for supplier segmentation depends on the organisation’s business plan or strategy, but these can be considered an overall framework of segmentation. Accurate segmentation helps to identify the key value drivers, select the appropriate engagement level and decide the supplier engagement frequency.

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