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CONTENT
1. Introduction and methodology
2. Key knowledge for Strategic Sourcing category management (inputs)
2.1Sourcing goals and targets
2.2Supply value chains and cost modeling
2.3Supply markets intelligence
2.4Cross-functional alignment
3. Key Strategic Sourcing category decisions and actions (outputs)
3.1Supplier selection and spend allocation
3.2Strategic segmentation
3.3Risk and contract management
3.4Research and re-engineering to reduce costs
3.5Net Working Capital improvements
4. Conclusions

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1. INTRODUCTION AND METHODOLOGY
There seems to be consensus about the basic responsibilities that should be always
accountable for the Purchasing area, which are to ensure continuity of supply, with the best
price and commercial terms, in addition to the right quantity, quality and timing for the
business resource planning (Leenders et al., 2001). However, there is no clear consensus
about the right approach that Strategic Sourcing (SS) specialists should follow to achieve
their goals, which is why this article reunites and synthetizes diverse theoretical approaches
for strategic supply management. Additionally, it provides guidelines for strategic category
management, which is framed within the context of direct materials procurement in fast-
moving consumer goods manufacturing multinationals, which operate in Business Units
such as personal care, home care, packaged foods and beverages, to name a few. This SS
proposal focuses on the key inputs required to develop effective strategic decisions and
actions (outputs) regarding the goals of supply managers. Within this framework, every
decision process takes more than one input as a basis for strategy development, and the
connections between them are clearly mapped and explained along the article. The SS
guidelines are intended to be a practical guide for professionals in charge of procurement
categories in the consumer goods manufacturing industry.
It is important to clarify that the analysis will be oriented towards globalized supply chains,
and will not consider tactical materials; low spend and low value materials which efforts are
mainly oriented towards streamlining the acquisition processes (Cavinato et al., 2001, p. 88-
89). Additionally, the analysis will be focused on direct physical materials utilized in end-
products, rather than indirect purchases or outsourcing services, in which the sourcing
decisions might be delegated to other areas, such as Marketing for publicity or Operations
for contract manufacturing, to name a few. In consequence, this paper will be focused on
those materials providing medium/high value to end products and/or accounting for a
significant portion of direct materials’ spend. The article will also be oriented towards a
category management approach, following the increasingly important trend to assign
specific materials’ families to specialists who can maximize the value provided by their
supply base and leverage external capabilities to improve business performance (Monczka
et al, 2008, p. 747). Finally, the article will emphatically concentrate on global sourcing,
because of the increasing trend towards international procurement alternatives for big scale
buyers, which are facilitated by the progressive reduction of transportation times and the
effective global communication options provided by technology in the 21st century
(Leenders et al., 2001, p. 544-549). Nowadays, multinationals can have easy access to the
lowest cost and higher reliability suppliers in the whole world, and at the same time, exploit
the competitive pressure that global sourcing puts on local vendors.
Methodology and theoretical framework
The SS guidelines were developed based on an extensive literature review about supply
management strategies that was reinforced by a synergetic effect from several insights
attained on discussions with experienced Purchasing managers from a global consumer
goods manufacturer. On the other hand, the literature was reviewed with a deep focus on
direct physical materials procurement and their particulars. The following graphic shows the
theoretical framework of the article:

4
Finally, each one of the inputs, outputs and connections composing the SS guidelines will
be validated from the point of view of an experienced regional Purchasing manager from a
consumer goods multinational manufacturer, who can assess the practical validity of the
proposal for direct materials’ procurement in that industry. All of the recommendations,
critics and appraisals will be included in the conclusions of the article.
2. KEY KNOWLEDGE FOR STRATEGIC SOURCING CATEGORY MANAGEMENT
(INPUTS)
All the key aspects that purchasers must domain about the material category they manage
compose the first section of this article. All of their strategic decisions and actions depend
on two or more of these inputs, which explains the importance that they have on the overall
performance of SS category managers: First, the sourcing goals and targets to measure
their performance must be completely clear to begin with. Second, a deep knowledge about
suppliers’ value chains and costs structures provides key insights to manage the
materials’ category and its negotiations. Third, a clear perspective of the supply markets’
structures, the global supply base and the macroeconomic trends affecting its costs is
essential to reach the most competitive suppliers in the world and manage costly fluctuations
in the global and local economies. Finally, purchasers cannot do their jobs alone as they
rely on a cross-functional sourcing team to develop most of their supply management
strategies.
2.1 Sourcing goals and performance targets
It is essential to have a clear idea of what the Purchasing area, aligned with the business
objectives, expects that SS category managers achieve and which could be the methods to
measure those results. First, the regional scope and product range limit the addressable
spend and potential supply base to be considered. According to Monczka et al (2008), it is
usual to find the following dimensions to measure supply management performance: price
and cost, quality, logistics and delivery, and revenue impact (p. 711-718):

5
Prices and costs can be assessed trough the comparison of the planned cost of materials
(based on historical price indexes) and the actual quoted price, or the best in class prices
achieved in other regions/plants of the company vs. the quoted prices. Of course, purchasing
volumes and leverage must be considered before doing this analysis, as some plants might
produce in a considerably larger scale and possess higher negotiation power, so the
comparison must be conducted between
similar operation scales to avoid distortions.
On the other hand, the category managers’
performance can be evaluated through their
own materials cost index, showing the
evolution of prices over a time period. Their
goal must be to keep it stable and as low as
possible, through a strategic spend and risk
management that will be explained in the SS
decisions and actions section (p. 713-715).
The quality dimension is measured by the
amount of defective deliveries per supplier
and shall be recorded by quality engineers.
Logistics and delivery performance
measurements show suppliers’ ability to meet
customer resource planning requirements,
and in some cases, flexibility and
responsiveness to changes (e.g. lead time
reductions for specific situations) which might
be specially relevant when a business
operates under uncertainty and tends to
experiment high sales forecasting error rates.
Finally, revenue impact shall be evaluated
considering suppliers’ ability to develop
materials under new specifications for new
product introductions, which is reflected on the impact that preferred suppliers have on the
time to market those new products in the buyer company (p. 716-718). These three
dimensions must be balanced with pricing and cost analysis, because trade-offs are likely
to appear when choosing suppliers; the lowest cost supplier might have quality issues or
poor delivery performance records for specific purchasing portfolios. As the evaluation of
those dimensions is usually conducted by other functional areas such as Engineering and
Supply Chain, the following sections of this article will explain in detail the cross-functional
sourcing work that purchasers must conduct to do their job properly. Finally, another
indicator that should be recorded and weighted in SS decisions is the amount of lost sales
due to supplier’s delays or quality rejections, because it clearly shows the impact of
suppliers’ performance on the revenue and service level of the buyer company.
In addition to the direct profit impact of the cost of purchased goods, the Net Working
Capital (NWC) contribution derived from supply management strategies is another financial
dimension that SS managers must consider. First, inventory investments can be reduced
with reliable suppliers offering the lowest delivery times, because safety stocks depend
directly on the forecasted demand during the lead-time period (Cavinato et al., 2000, p. 360-
363). Implementing consignment stock with suppliers minimizes inventory investments as

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the goods are paid only when consumed, however, the cases when this model is feasible
will be explained in the SS decisions section. Finally, accounts payable can be increased
trough the negotiation of longer payment terms with suppliers (Leenders et al., 2001, p. 50).
The longer the payment terms, more cash will be available for the buyer company’s
investments in R&D, mass promotion or any other value adding activity for consumer goods
manufacturers. In conclusion, direct materials’ sourcing decisions not only affect profit
margins, but also contribute to net working capital improvements regarding business
objectives. SS category managers shall have a complete financial perspective to allocate
spend; balancing prices, lead times and inventory impact, and the payment terms offered by
suppliers.
2.2 Suppliers’ value chains and costs structures; technical and logistics aspects for
cost modeling
SS category managers must possess a profound knowledge about their suppliers’ value
chains as a basis to prepare negotiations and to identify savings potential. According to
Leenders et al. (2001), the purchasers should have a clear comprehension of the technical
aspects involved in the whole value chain, beginning with the specific functions to be fulfilled
by the material’s specified attributes. Before quoting materials, the purchasers must check
and assess the key cost drivers in the specification format in order to identify costly over-
specified attributes and challenge engineers whenever this occurs (p.166-156).
Specifications to quote must be compared with the market’s standards, and the
specifications previously used in other regions of the company for the same product.
Second, it is important to check if deviations exist, their respective causes and the overall
impact on materials’ costs. Finally, purchasers must analyze if the materials can be
substituted by lower cost options that can perform the same functions, or if it might be
adequate to quote more than one specification changing certain attributes to compare prices
(e.g. HDPE v. PET bottles for cleaning products).
Through a supplier process analysis,
purchasers can have a clear perspective of
which are the different components of the
materials’ value chains, including
manufacturing technologies and particular
investments (e.g. packaging molds), the
amount of energy and labor involved in
feedstock processing, and the standard
share over the final price for each one them
(Calvinato et al., 2000, p.218). From the
acquisition of feedstock until the packing
and shipping of finished goods, every cost
driver must be clear in order to assess
which factors make individual suppliers
more competitive, and how commodities
and currency fluctuations could affect any
of the costs. Either for packaging or raw
materials, suppliers usually purchase
commodities to be converted and the
international markets’ structure can suffer

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diverse changes that drive costs up or down, thus the purchaser must be aware of them to
define sourcing strategies as it will be explained in detail on the risk management section.
Additionally, suppliers might buy feedstock from foreign vendors and currency fluctuations
can also affect the cost of purchased materials.
Another important component of the sourcing value chains, are the complex logistics
involved in the purchasing process of physical goods in globalized supply chains. In the first
place, it is important to highlight the potential value added by a global supply base, which
can justify that complexity. According to Leenders et. al (2001), global sourcing provides
the following benefits: first, access to the lowest cost sources in the whole globe, which can
put competitive pressure on local suppliers and force them to optimize their manufacturing
processes and reduce costs. However, low labor and processing costs shall always be
balanced with quality and reliability. Second, purchasers can monitor currency fluctuations
and import materials from countries experiencing sustained devaluation trends, to reduce
the cost of materials. Third, it is possible to find foreign suppliers with higher capacity and
productivity, better capital equipment and quality control systems, compared to local
suppliers. Finally, it might be suitable in some cases to bundle up purchasing volumes
across different subsidiaries of the buyer company to gain leverage, reduce prices and
improve commercial conditions (p. 546-549).
The logistic factors, relevant for purchasers, reunite the following dimensions: order
quantities and lead times, transportation modes (maritime, terrestrial, etc.) and costs, other
importation costs and incoterms. Supply Chain managers are supposed to define order
quantities with the objective of attending demand with a specific service level target, while
minimizing inventories and ordering costs (Leenders et al., 2001, p. 264-265). However,
purchasers shall quote materials in several order quantities to evaluate scale pricing; the
higher the order quantities, fixed costs per unit will be reduced and allow suppliers to offer
lower prices. The buyer must also check consistency in the scale pricing offered by vendors.
On the other hand, when benchmarking suppliers in different geographical locations, lead
times are likely to be highly different because of transportation modes and distances, which
will also impact the final cost of goods. Purchasers must understand the cost implications of
foreign sourcing in terms of transportation, and duties as well. Lower EXW pricing from
foreign suppliers can end up losing competitive advantage if importation costs are too high,
which will be reflected on lower DDP prices from local suppliers. Thus, the buyer must
choose the best offering balancing quality, reliability, Minimum Order Quantities (MOQs),
lead times, manufacturing costs, transportation costs and duties, for global sourcing
decisions. To get a clear idea of the real manufacturing competitiveness from suppliers,
purchasers must benchmark EXW prices, separating all the importation costs. Although
local suppliers might enjoy location advantages and be the best option in some cases,
significant differences in manufacturing costs with foreign suppliers shall be assessed to
identify potential areas of improvement using cost modeling techniques.
Finally, the SS category manager must have a clear comprehension of the whole costs
structures from materials in charge to support contract negotiations and develop
quantitative techniques to adjust prices (Calvinato et al., 2000, p.102), which can be
effectively achieved by building costs transparency with suppliers. Monczka et al (2008)
suggest that a detailed split of manufacturing costs should only be developed when the seller
adds significant value to the purchased materials trough labor, conversion processes and
their expertise, and at the same time, have customized specifications from the buyer. Within

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this scenario, the split of costs format to be filled by suppliers must evidence the following
cost drivers: feedstock value, direct labor, production line and machine set up, production
overhead, commercial and administrative costs, specific investments, scrap and waste, and
finally, supplier profit margin (p. 392-415). All of the previous information allow purchasers
to benchmark suppliers in terms of manufacturing efficiency and competitiveness, and then,
to include logistics costs
and duties to see how
importation (or just
transportation for local
suppliers) costs affect the
final price. Unfortunately,
the recollection of such
detailed information might
be challenging, as some
suppliers refuse to provide
this kind of information
because they see it as a
threat for their competitive
advantage, pricing strategy
and profits, or in some
cases, just because they lack a sophisticated accounting system (p. 251). SS category
managers must have different approaches to build costs transparency for different supply
markets; collaboration and partnering might be suitable in some cases, and exploiting
demand power to make it mandatory in others (see segmentation section with a detailed
explanation).
2.3 Supply markets intelligence; market structures, global supply base and
macroeconomic trends
The SS manager must have a clear comprehension of the global supply markets structure
for the material category in charge, to make sure that the most competitive suppliers are
being considered for spend allocation, and as a basis to identify the real negotiation power
and leverage from the buyer company. Cavinato et al. (2000) describe the key information
to be collected about potential suppliers:
- In terms of manufacturing capacity and client base, the purchaser shall know the
current production volumes and utilization rate, the rate utilized by his company,
potential or current bottlenecks, core clients and industries, and their respective weights
over suppliers’ turnover, and finally, the weight over suppliers’ turnover that the buyer
company has, or could have after a reverse auction. All of the previous pieces of
information show the vulnerability level from the buyer company in terms of current or
potential leverage towards the vendor, and suppliers’ current or potential capacity
constraints to attend demand. The purchaser must also assess supplier´s motivation
and ability to increase production volumes for peaks or un-forecasted demand, and
finally, to accept the right inventory management methods and commercial terms for the
buyer’s interests (p. 111-112)
- Regarding competitive, technical and financial capabilities, the buyer must know
suppliers’ strategic goals, supply and macroeconomic risk management, current and
potential product portfolio, current technologies and planned investments, quality

9
assurance methods and certifications, and last but not least, their financial capabilities
and access to capital resources. It is important to clarify that purchasers must
concentrate on finding suppliers with the highest fit with the needs of their material
categories, rather than the ones with the highest technologies and resources. An
excessive relative level of sophistication and technical capabilities shall have an
undesired impact on costs (p. 112-114). Additionally, macroeconomic risk management
strategies from suppliers must be deeply assessed when highly volatile currencies and
commodities are involved in their supply chains. On the other hand, cash flow and
income statements, and borrowing rates must be evaluated to have a clear idea of
suppliers’ financial health, knowing that the higher the borrowing risk, the higher the
interest rate for the suppliers. This information provides insights to stablish financial
methods to improve net working capital in the buyer firm, through the extension of
payment terms with suppliers. These techniques will be explained in detail in the NWC
improvement actions section.
Suppliers’ information can be collected through questionnaires, and then, supplier´s visits to
corroborate the information received on paper when suppliers are likely to be considered for
spend allocation. For Calvinato et al. (2000, p.117), an effective supplier visit must be
conducted by a cross-functional team involving operations engineers, finance and
accounting experts, R&D personnel and quality managers, joining the purchaser to assess
supplier’s facilities. Additionally, the visit must be pre-planned and structured involving the
following key aspects: manufacturing technologies, information systems, warehouse
conditions and capacity, laboratories, certifications, labor conditions, and other aspects that
the team might consider relevant for supplier analysis. On the other hand, previous research
projects to track potential suppliers in new countries and regions for a consumer goods
manufacturer showed that the most effective information sources are online trade
associations and B2B catalogs for each material category, and then, feedstock and machine
suppliers who can refer purchasers to their main costumers. Monczka et al. (2008, P. 238)
provide a useful guide to orientate research efforts per purchasing portfolio in a category:
Research must be intensive if current suppliers have low performance and capabilities, and
the portfolio has a high strategic importance. In contrast, research efforts shall be moderate
if current suppliers present an outstanding performance or/and the portfolio has medium or
low strategic importance. In the segmentation section, the cases when purchasing portfolios
shall be considered of high strategic importance will be explained in detail.
Calvinato et al. (2000, p. 822-823) highlight the importance of understanding the supply
markets’ structure, because it allows the purchasers to know how strong competition is
and how prices are set. In a perfect competition market, there is a large number of suppliers
willing to do great efforts to get the buyer’s businesses, so prices are aggressively stablished
to try to outperform competitors in the marketplace. Imperfect competition occurs when there
is a more reduced number of suppliers willing to get the buyer’s business, but they are still
willing to try to differentiate and offer better prices than their competitors to get the business.
In an oligopolistic market, there is a very limited number of suppliers and they can actually
control prices in their favor, unless there is a price war to take their few competitors out of
the market. In a monopolistic market there is only one supplier, which controls prices to
maximize its profit, but avoids providing incentives for buyers to choose substitutes. It is
important to clarify that purchasers must develop market intelligence and find all the potential
sources in a global supply base, to expand their consideration set of suppliers and put
competitive pressure on local or regional suppliers, which might think they have more power

10
over buyers than they actually do on a global marketplace. Porter (2008) also provides
guidelines to identify the power that suppliers have over buyers. It is supposed to increase
when any of the following conditions exist: supply industry is more concentrated than buying
industries, suppliers have a highly diversified client base, buyers have high supplier
switching costs, the supply industry has a high technical complexity, there are no substitutes
for the materials, and finally, suppliers could attempt to integrate forward. On the other hand,
barriers for new companies attempting to compete on the supply industries are higher, when
any of the following conditions are required to compete: large manufacturing scale and
purchasing volume leverage, consolidated customers’ good will, high capital investments
and inventories, profound competitive know-how acquired from experience and privileged
access to distribution channels.
Finally, SS category managers must be aware of the key macroeconomic trends and
policies from all the locations and currencies involved across the whole supply chain
(Cavinato et al., 2000, p. 106); from supplier’s feedstock acquisition, until materials are
delivered on the buyer’s manufacturing facilities. First, international commodity price trends
must be continuously monitored to have an input for risk management strategies. From the
feedstock used to produce all kinds of packaging materials, such as plastic resins and
aluminum, to the commodities composing the raw materials used to produce chemical
products for consumers, the purchasers must monitor all commodities price trends to assess
supply risks and opportunities for the category in charge. Second, for global supply chains
it is essential to monitor the evolution over time of all the currency exchange rates involved,
either as a function of supply and demand for flexible currencies, or as a result of
government policies in those countries where currencies are fixed or controlled. Third, the
purchasers must be aware of importation tariffs and non-duty barriers for across borders
transactions, and also be able to track beneficial tariff regulations in potential suppliers’
countries, which can reduce the cost of purchased materials. Follow-up of Free Trade
Agreements and commercial partnerships or conflicts between countries, is also useful to
identify supply risks and opportunities. Finally, tax regimes can affect suppliers’ profitability
and log-term sustainability, minimum wage rates are basic manufacturing cost drivers and
central bank´s interest rates can impact local companies competitiveness and investment
level; if the interest rate increases, the access to capital resources will be costlier, and vice
versa.
2.4 Cross-functional sourcing team alignment
As Leenders et al. (2001) emphatically explain it; Purchasing managers must develop,
maintain and improve cross-functional sourcing teams to manage efficiently their supply
base. Annual volumes are the basis to allocate spend, and Supply Chain (SC) planners are
in charge of forecasting those volumes and the right delivery timing for manufacturing. For
the category in charge, the SS managers must rely on those projections to negotiate the
best commercial terms possible with suppliers (p. 48-50). If forecasts have a high error rate,
problems are likely to emerge during the manufacturing operation; if they are above the real
purchasing volumes, suppliers might refuse to maintain prices and try to re-negotiate them.
On the other hand, when forecasts fall way below the real purchasing volumes, the
negotiated prices might be higher than they should and the category manager will be forced
to start a wasteful re-negotiation process with suppliers, or in the worst cases, suppliers
might have capacity constraints to attend the real demand. Whenever uncertainty prevails,
the SS category manager must allocate spend considering this situation and all the

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problematic scenarios that can emerge. It is important to clarify to SC managers, all the
potential costs of modifying the purchasing conditions, either in terms of quantities or in
terms of delivery time. Meanwhile, SC managers record historic service level performance
from suppliers and SS managers must consider it for supplier selection; lowest cost suppliers
with a low service level, might not be suitable for the business and generate more lost sales
due to late deliveries, than savings from low pricing. In conclusion, Purchasing and Supply
Chain roles are inter-dependent and they must work closely together to allocate spend
efficiently and assuring the continuity of supply.
Regarding the development of the technical specifications of purchased materials,
Marketing, Design and Engineering work together to develop the best product to attend
consumer needs. However, SS category managers must use both their supply value chain
knowledge and market intelligence, to warn about complexity or high cost problems, which
can emerge from materials specifications. There is an increasing trend in manufacturing
industries towards Marketing and Purchasing integration, derived from the necessity from
marketers to be aligned and coordinated with the supply side of the value chain while
developing new products. In addition to the necessity from the purchasers to understand the
value provided by purchased materials for the brands and their customers, in order to
stablish the best sourcing strategy to contribute to business objectives (Sheth al, 2009). It is
also important to develop product development and supplier selection teams; the SS
category manager must be capable to provide supply market intelligence and possess a
strong technical background, in order to work closely together with engineers to assess risks
and opportunities regarding materials’ supply (Monczka et al, 2008, p. 118). Engineers shall
have a clear perspective of suppliers’ technical capabilities and constraints, which
purchasers must understand and consider when developing category-sourcing strategies.
In the strategic segmentation section it will be explained in detail, that in some cases might
be better to develop partnerships with high risk suppliers to achieve supply goals, and in
other cases it might be better to change the demanded requirements to avoid supply
bottlenecks.
Purchasers must be proactively involved
in cross-functional sourcing teams to
create synergies, rapidly identify problems
and achieve the different sourcing
objectives. Because the SS category
manager is in charge of supplier selection
and spend allocation, it is his responsibility
to consider the key inputs from SC
managers, marketers, engineers and
designers, which shall be balanced with
prices and other commercial terms offered
by suppliers. According to Monczka et al
(2008, p. 130), purchasers’ success relies
greatly on their interpersonal abilities to
gain “trust and commitment” from internal
stakeholders and suppliers, so they must
make an effort to develop relationship
capital, which is reflected on the ability to
translate supply market intelligence into

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solutions for business problems based on the right connections and internal networking. Of
course, it is important to avoid the potential withdraws that are likely to emerge in highly
cohesive work-teams; Groupthink, or the tendency in groups to achieve consensus by all
means in order to avoid alterations on the team’s harmony, might lead to poor decision
making because the team members suppress opposing proposals which could actually
improve results (Janis, 1982). Studies have concluded that the best performing teams are
those in which cohesion is high, but at the same time, team members demand high
performance from each other, are willing to respectfully argue whenever is appropriate and
are highly goal oriented (Robbins et al. , 2013, p. 289). Business objectives achievement
must prevail over the team’s harmony. From a purchaser’s point of view in the consumer
goods industry, sometimes it will be necessary to argue with marketers about potential costly
investments in packaging development, which might be unjustifiable for the expected sales
volume. Or to warn SC managers about the high costs to request deliveries below suppliers’
lead times or in significantly lower quantities than negotiated (MOQ), both in financial and
relational terms. The relationship with certain types of suppliers must be protected to develop
strong partnerships, as it will be explained in detail in the segmentation section.
Finally, it is important to remark that prices and negotiation power from the buyer are not
strictly associated to purchasing volumes and technical aspects, because suppliers also
weight and charge the costs incurred because of the nature of commercial interactions
(Cavinato et al. , 2000, p. 110). For example, if the buyer company is able to stabilize
demand and reduce forecasting error rates, suppliers will find it easier to plan production
capacity and resources, in order to improve their utilization rates and overall profit derived
from efficiency and productivity improvements. This shall be reflected on lower pricing and
other commercial benefits, and must be clearly explained to sales and SC planners in the
buyer company.
3. KEY STRATEGIC SOURCING CATEGORY DECISIONS AND ACTIONS (OUTPUTS)
This section contains the whole set of strategic decisions that purchasers must make with
the key knowledge they possess as a basis (inputs). For each SS decision, it is specified
which are the key inputs to consider, and each decision aims at achieving one or more of
the sourcing goals described in the first part of the article. First, purchasers must choose
the most competitive supply base and strategically address spend. Second, purchasing
portfolios must be segmented to stablish sourcing strategies for each one of them. It is
important to clarify that segmentation needs to be developed after spend is addressed
because it is based on suppliers’ performance, but afterwards, it turns into a continuous and
interdependent process because segmentation provides guidelines to address spend. Third,
purchasers must manage macroeconomic risks and volatility through a deep trend
analysis and contracts’ development. Fourth, materials’ research and re-engineering
initiatives can lead to achieve significant costs savings while fulfilling the internal
costumers’ needs. Finally, diverse sourcing strategies allow purchasers to improve the Net
Working Capital of their company though inventory and accounts payable management.

13
3.1 Supply base selection and strategic spend allocation
An optimal supply base selection process to address spend, must start with a spend
structure analysis and supply market intelligence (Beall, 2003). Monczka et al. (2008)
propose to do a periodical revision of purchasing category’s spend structure, by checking
which are the main suppliers, which are the main portfolios (preferably divided per
specification group), how many suppliers have been considered for each portfolio, and if
volume bundling opportunities (from different material references or across company’s
regions) to achieve better prices have not been exploited yet. Second, the market
intelligence process shall be completed to assess if the current supply base is the most
competitive with a global perspective, or if recently discovered high potential suppliers have
not been considered for reverse auctions. On the other hand, supplier evaluation and
selection decisions must be conducted for the following emerging situations: new product
introduction, poor supply base performance, end of a contract, entrance to new markets or
acquisition processes, periodical tenders to reduce prices, or purchasing volume increases
that exceed current supply base capacity (p. 196).
To narrow the set of alternatives to award purchasing portfolios, SS category managers
must consider current suppliers’ performance evaluation in terms of quality and delivery,
derived from their cross-functional team’s reports. A Total Cost of Ownership (TCO)
approach goes beyond prices and considers other purchase costs such as the whole set of
administrative and training costs derived from the efforts required to work with a specific
supplier, in addition to the costs of wrong deliveries from suppliers in terms of quality, timing
and quantity (Calvinato et al. , 2000, p. 485-495). A supplier offering the lowest price might
have a record of a significantly higher TCO than the other suppliers, which ends up vanishing
their low-cost competitive advantage. Meanwhile, the purchasers must consider the
following sourcing alternatives: single vs. multiple sourcing, manufacturers vs. distributors,
current vs. potential suppliers, geographical locations and supplier size.
- A single sourcing approach will increase volume leverage and demand power, while
multiple sourcing might provide an improved assurance of supply (Monczka et al., 2008,
p. 244). For Leenders et al. (2001, p. 262-263), single sourcing can provide better pricing
due to scale economies from the selected supplier, and also, lower freight costs derived
from concentrated purchasing volumes. Additionally, unique molds’ construction and
other costly investments can turn single sourcing into a necessity. In contrast, capacity

14
constraints from single suppliers or high volatility and uncertainty in the supply market
make single sourcing too risky.
- Sourcing directly from manufacturers is necessary when the buyer requires materials
under unique specifications, which usually occurs for consumer goods packaging
materials. Distributors can be a useful solution for several standard materials purchased
in low volumes, which can be consolidated with a single distributor to reduce supply
complexity (Leenders et al., 2001, p. 264-265). For large purchasing volumes (relative
to the spend structure of the buyer company) it is recommendable to buy directly from
manufacturers to avoid the additional costs charged by distributors.
- If new high potential suppliers are identified to compete for a big spend portfolio, their
motivation and ability to participate in a bidding process should be evaluated. The
purchaser must make sure that potential suppliers are actually interested to supply
materials within the basic commercial terms required for that bidding process. Then, the
cross-functional sourcing team must assess their technical, manufacturing, distribution
and financial capabilities to ensure continuity of supply with the right quality and service.
Sampling or trial orders are important but not enough to stablish that suppliers will be
suitable for the long run (Leenders et al., 2001, p. 258-259). On the other hand, a low
performing supply base calls for a quest for new sourcing alternatives.
- To stablish the preferred sourcing location, the buyer must align with the cross-
functional sourcing team about the required level of flexibility and responsiveness from
suppliers. An international supply base can provide access to the lowest cost and higher
quality vendors, while a local supply base might offer more responsiveness to the
changing needs of the buyer, make smaller deliveries if needed, and support Just In
Time and other low stock inventory systems. The potential savings derived from an
international supply base must be weighed against additional inventories, and
communication and logistic costs (Monczka et al., 2008, p. 243-244).
- In terms of the supplier size, smaller suppliers usually provide more flexibility and speed
of response, while larger suppliers offer greater stability and resources, while eliminating
or reducing supplier’s dependency on the buyer’s business and disruption risks. Large
suppliers are recommendable for the biggest portfolios, and small suppliers shall be
considered for those niches that large suppliers are unwilling or incapable to attend
(Leenders et al., 2001, p. 266-267).
Having decided the right consideration set for spend allocation, suppliers can be invited for
a reverse auction. In the 21st century, e-auctions have turned into the most common way
to address spend, because it allows an online dynamic interaction between the buyer and
suppliers in any location, competing to supply materials under a specific set of technical
specifications and commercial terms stablished by the purchaser (Beall, 2003, p. 7). A
successful e-auction is the one that provides a reduction of the cost of goods and a better
outcome than the one expected from face-to-face negotiations, and at the same time, the
most successful e-auctions are usually the ones involving several suppliers because it
enhances their competitive efforts (Beall, 2003, p. 50). In contrast, the savings potential is
undermined when a very limited number of suppliers is invited to the e-auction, because of
the low competitive pressure put on them. Regarding the auction process, Leenders et al.
(2001, p. 144-145) propose two modes to conduct it: an open offer in which suppliers can
see the best offers from their competitors, and a private offer in which suppliers receive a
target price from the buyer and submit their offers for as many rounds as the purchaser
considers appropriate. In contrast, Beall (2003, p. 50) recommends that suppliers only see

15
how they rank, rather than knowing the actual prices offered by their competitors, because
this way they have incentives to be ranked as #1 trough the best price they can offer, instead
of just offering a lower price than their competitors. The purchaser decides when to close
the bidding process and award the contract to the most competitive supplier.
Finally, Monczka et al. (2008) emphasize on the importance of determining the optimal
number of suppliers to maintain active, which can be achieved through an extensive
analysis that leads to select the most capable suppliers, in order to keep them in a
rationalized supply base. This shall be a continuous process, beginning with the discarding
of suppliers in charge of small-purchases, awarded by any particular circumstances,
continuing with the replacement of the lowest performing suppliers, and the development of
stronger business relationships with the best ones. The SS category manager must aim to
develop a world-class supply base composed by the lowest cost suppliers providing the
right quality and service level, and opportunities to develop value adding collaborative
relationships. This last aspect is very important for complex new product developments.
The purchaser must also reduce materials’ costs and supply complexity by awarding larger
volumes to a reduced number of key suppliers, which enhances economies of scale, and
reduces distribution costs and variability in terms of quality and delivery performance.
Additionally, a rationalized supply base allows pursuing value-adding strategies such as
“supplier development, early supplier design involvement, just-in-time sourcing and the
development of cost-based price agreements with suppliers”. However, purchasers must
always protect from the potential risks of maintaining few suppliers, such as the following:
Dependency on the buyer company for survival which might result from a highly
concentrated purchasing volume with one vendor, absence of competition derived from
over-reliance on a single supplier, capacity bottlenecks from preferred suppliers, and critical
supply disruptions generated by problems in a supplier’s location concentrating too many
purchase portfolios (p. 316-320).
Once the purchase portfolios have been awarded, the emerging supply risks and exposure
level derived from suppliers’ performance must be considered for the strategic
segmentation process. Later on, the sourcing strategies created based on materials’
segmentation are essential to guide the subsequent spend management decisions, which
is why spend allocation and segmentation are inter-dependent and must be continuously
updated. The following section explains in detail the strategic segmentation process.

16
3.2 Supply base segmentation and sourcing strategies deployment
Based on the right information derived from research and supply market intelligence, every
purchasing category can be strategically classified, and SS literature usually provides
different segmentation approaches to do so. As there are diverse proposals for supply
segmentation presented by different authors, the objective of this section is to synthetize the
most widely accepted theories and to stablish where and how they differ, or complement
each other.
Schuh et al. (2009) use the laws of supply and demand to categorize supply relationships in
terms of the power possessed by each party. High demand power appears when a relatively
big buyer can purchase materials from many competitive suppliers across the globe, being
able to “exploit competition to its own advantage”. High supply and demand power appears
when a relatively big buyer is forced to purchase materials from only a few sources, creating
dependency on each other to achieve business objectives. High supply power occurs when
the buyer has medium or low leverage, and only a few suppliers domain the global supply
markets. Low supply and demand power occurs when the buyer has medium or low
negotiation power, but is able to steer its spend to increase leverage or to find substitute
materials (p. 13-14). The following graphic shows the 4 basic strategies and 16 levers to
choose sourcing methods aimed at reducing costs and increasing value, proposed in
Schuh’s Purchasing Chessboard:
Source: The Purchasing chessboard (Schuh et al., 2009)

17
In contrast, Calvinato et al. (2000, p. 86-95, 304) and Monzcka et al. (2008, p. 211) propose
to segment supply portfolios balancing risks vs. value potential. For Calvinato, the risk or
exposure level increases as problems emerge for the buyer company, such as; very limited
supply options, service and delivery problems, and high complexity or inability to obtain the
demanded quality, to name a few. A low risk situation occurs when the buyer can easily
address spend to good performance suppliers. On the other hand, value potential is
proportional to the spend level and profit impact from purchased materials. Supply risks must
remain perfectly clear for the purchaser trough market intelligence and cross-functional
alignment; the first one allows a clear understanding of the supply market structure and the
second one shows how the current supply base is performing in terms of quality and service.
The following graphic synthetizes how Monzcka and Calvinato propose to deploy supply
strategies for each supply segment:
Both segmentation styles can complement each other, because each demand/supply power
level can be translated into a risk/exposure level:
- High demand power from a leveraged buyer implies a low risk level, but the actual
performance from suppliers can also affect that risk level, either on a positive or a
negative way. For example, a globally recognized manufacturer might have a big
relative level of addressable spend to auction, and many suppliers willing and able to
compete for it. However, during the operation, problems in terms of quality and delivery
can emerge and undermine business performance. While these problems are solved
through supplier switching or development, the risk remains high despite the high
demand power. In a global supply chain, the same purchasing category might be risky
in certain regions and have low risks in others, so the best performing supply regions
should be a reference to improve the lower performing ones. Corporate experience and
best sourcing practices shall be a guide for the SS category manager’s decisions in any
region of the buyer company. In conclusion, despite the fact that both segmentation

18
techniques recommend exploiting competition to achieve savings when demand power
is high, the parameters used to assess the supply risk level are different. The proposal
from Calvinato and Monzcka is more complete as it provides a wider vision of the key
factors to be considered to stablish supply strategies, and emphasizes on the high
importance of continuously monitoring emerging risks, which could eventually force to
change strategies.
- In contrast, a high supply power situation will indistinctively imply high risks for the
buyer company, because the few suppliers dominating regional or global supply markets
don´t have competitive pressure nor rely on purchasing volumes from any particular
client. Thus, the incentives for providing the demanded quality and service, with a
competitive cost-based price are quite low. In consequence, both segmentation
techniques agree on the importance of focusing on reducing supply risk, through the
modification of current demand structure using technical approaches to modify
materials’ specifications and expand the set of supply alternatives, while reducing over-
reliance on few vendors. The previous is applicable on the risk vs. value approach when
value potential is low, because for high value potential materials it gives priority to long-
term partnerships with those powerful suppliers, unless risks can be reduced and the
supply base can be expanded to exploit competition in that material category (moving it
to the leverage segment). It is important to mention that a high value potential category
for a specific buyer shall still be enclosed within a high supply power marketplace,
whenever the purchasing volumes are not enough to equilibrate the negotiation power
between parties.
- When supply and demand power are high, seller and buyer depend on each other,
so the risks/exposure level remains high but is shared by both parties. This is why
partnering, close collaboration and joint value creation are common approaches across
both segmentation techniques for this market structure. For Schuh et al. (2009, p. 28),
the specific strategy depends on the “scope and intensity of the partnership”, which can
range from coordinating operations planning to fully aligning value chains across
companies.
- A low supply and demand power situation implies a medium or high risk level, as
problems are likely to emerge on an unleveraged purchasing category, but at the same
time, market conditions allow the purchaser to steer its own demand to gain leverage or
eliminating risks. Both segmentation techniques propose searching for demand
bundling opportunities, which could increase leverage and value potential at the same
time. However, Schuh et al. (2009, p. 16) recommend to stablish whether if the demand
is justified and necessary, before doing any further analysis. This can be especially
suited for very low value potential materials that should be eliminated from purchasing
portfolios to reduce complexity.
The following graphic shows how supply vs. demand power segments can be merged into
risk vs. value potential segments, and evidences that each approach complements the
other, although slightly differing in those aspects that were explained earlier:

19
To conclude, it is recommendable to merge both segmentation techniques to obtain value-
adding synergies: Monzcka and Calvinato provide a wider understanding of supply risks and
exposure, and at the same time, can benefit from the demand vs. supply power analysis as
an input to stablish risks more precisely. Additionally, they balance the value/profit impact of
purchased materials, to prioritize and develop sourcing strategies, while Schuh does not.
On the other hand, Schuh’s approach does a deep analysis of all the possible supply vs.
demand power relations in order to define a wide set of sourcing methods for each of the 64
generalizable cases that they identified through an extensive research process on diverse
industries. This way, purchasers can explore a rich set of practical and very specific
alternatives to reduce costs and increase value on materials procurement, depending on the
specific level of demand power that comes from supply markets’ structure. Practically
speaking, the SS category manager can place his portfolios in the correspondent risk vs.
value segment and define the fittest sourcing strategy for each case; first, applying the
general guidelines provided by Monzcka and Calvinato, and then finding a specific
applicable method in Schuh’s Purchasing Chessboard. In some cases, the strategic
proposals might be incompatible between the two approaches, so the SS manager must
choose a strategy using his own judgement. Finally, as explained earlier, the sourcing
strategies must be deployed to guide spend management and suppliers’ selection, and then,
must be continuously revised and updated based on preferred suppliers’ performance.

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3.3 Risk and contract management
Having a clear idea of the macroeconomic trends affecting supply value chains and costs
drivers, the purchasers can identify, monitor and protect against those risks that are out
of suppliers’ control but can call for price update negotiations and contractual agreements.
Monzcka et al. (2008, p. 692-694) propose to begin by stablishing the probability and impact
of cost fluctuations; if both of them are high, the purchaser shall concentrate on developing
plans to minimize the negative impact or maximizing the benefits.
Commodities and currencies fluctuations are the most common factors that can affect
prices on global consumer goods manufacturing supply chains. All direct materials are tied
to both risk sources: Raw materials (either chemical or agricultural goods) are directly tied
to international price fluctuations derived from global supply and demand structure, which is
affected but not controlled by any private buyer or seller, thus the impact is specially high
from commodity fluctuations for these materials. Packaging suppliers purchase and process
different types of plastic, paper based or metal commodities, which are directly affected by
international price fluctuations, thus their manufacturing costs suffer an impact, only on
feedstock sourcing, which shall be already weighted by the SS category manager on costs
models. Feedstock has a different impact for each kind of packaging, for example, it tends
to be higher for plastic bottles than for metal packaging. Meanwhile, oil price is always
relevant as it affects the cost of fuel and energy, utilized in most manufacturing facilities, and
is also a component for diverse raw materials utilized in packaging and chemical products.
Additionally, its fluctuations have a high impact on currency exchange markets and oil
dependent economies. Finally, with a global supply base, foreign currency exchange rates’
fluctuations can affect directly the cost of imported goods, and at the same time, affect the
foreign transactions of suppliers.
For example, a purchaser sourcing HDPE bottles from local suppliers in Brazil, where the
economy relies greatly on oil production, should have assessed several risk sources when
the oil price started falling in 2014. At first, energy and fuel used in plastic resins production
and bottles manufacturing, became less expensive. Considering only this aspect, the
purchaser could have negotiated price reductions with suppliers. However, the local
currency (BRL) had significantly less demand because of the oil price fall, while the dollar
(USD) was going up because of several supply and demand factors, mainly driven by the
recovery of the American economy. In consequence, the Brazilian currency suffered more
than 50% devaluation against USD in one year and that increased the cost of foreign plastic
resins purchased in USD (United States is the main source of resins in America). This
example illustrates how macroeconomic trends can conduct materials’ cost drivers up and
down, which is why SS category managers must continuously track them in order to manage
supply risks affecting the cost of purchased goods. Each one of the cost implications are

21
essential to support well-informed negotiations with suppliers, who might try to consider only
the cost-increasing trends to update prices or assigning a higher impact to fluctuations than
they actually have. Cost modeling based on transparency allows purchasers to estimate the
real impact of different fluctuations over the prices of materials.
Fortunately, purchasers can choose among diverse financial instruments and contractual
agreements to manage commodity and currency risks. First, hedging provides the
opportunity to avoid the risk of commodity fluctuations (e.g. aluminum), by purchasing a
material with the simultaneous sale of a futures contract, where gains in one contract will be
offset by losses in the other; this transactions are aimed at stabilizing prices and not at
earning profit, which would be speculative (Calvinato et al., p. 830). The purchaser must
check if the commodity has a futures market to hedge. For currencies, Monzcka et al.
(2008, p. 367-368) provide several techniques to manage risks: First, foreign suppliers can
share the currency risk with the buyer by incorporating a risk factor on the price, while
providing a discount for it. Both parties have the possibility to analyze currency trends to
reach what they estimate will be a beneficial agreement. Second, seller and buyer can agree
on equally splitting the change on negotiated prices due to currency fluctuations between
negotiation and delivery dates, avoiding the definition of risk factors. Third, currency
adjustment clauses can stablish an acceptable fluctuation range; if currency fluctuates
beyond its limits, prices must be renegotiated so both parties can protect against fluctuations
on a high volatility context. Time-triggered clauses are reviewed on specific time intervals
and delivery triggered clauses are reviewed before deliveries. Fourth, hedging is used to
avoid currency fluctuations risk just as it is done for commodities, but only for the case of
currencies, banks issue forward exchange contracts for multinational companies (charging
a fee), which allow purchasers to pay a fixed rate for a currency in the future. For the second
option, the buyer company must deeply assess fluctuation trends and purchasing forecasts
to fix currencies in a beneficial way, considering that these type of contracts allow them to
search the best option for their individual cash and timing needs. Finally, it is important to
work together with the finance and treasury departments, to get advice on the currencies
that should be used for payments and about the most beneficial contractual agreements or
financial instruments to manage risks.
Monzcka et al. (2009) also explain two types of
contracts which cover all of the different cost-
related risks that purchasers assume: Fixed-price
and cost-based contracts.
There are two kinds of fixed-price contracts
applicable to direct materials procurement. In a
firm fixed price contract, the price stated in the
agreement does not change regardless of
macroeconomic and other environmental changes
affecting manufacturing and foreign transactions
costs, during the contract period. This is the
simplest and easiest handling contract, in which
any cost fluctuation, shall represent losses and
gains for either one of the parties. In a high
uncertainty situation, suppliers are likely to charge higher prices to cover potential cost
increases, while the purchaser is exposed to be paying a higher price even if those increases

22
do not occur. For this reason, purchasers shall evaluate market, macroeconomic and public
policy (e.g. wage rates) conditions affecting all of the main cost drivers of suppliers’ value
chains, in order to assess the strategic sense of signing this kind of contract for a specific
period. For long supply periods and higher volatility conditions, it is more appropriate to use
fixed-price contracts with escalation, in which increases or decreases on negotiated
prices are allowed under specific circumstances (as in currency adjustment clauses). This
way, suppliers are more protected against fluctuations and have incentives to offer better
prices under uncertainty conditions. This type of contract is appropriate when price changes
are tied to third party, public and legitimate indexes, to calculate variations on predetermined
cost drivers (p. 507-508).
Cost-based contracts are suitable for high value potential materials that call for cost
transparency, either demanded through purchaser’s negotiation power or built through
partnerships. Cost plus incentive fees contracts determine a base price directly from
supplier’s costs structure and provides the opportunity to share any cost savings at a
predetermined rate, derived from cost fluctuations or efficiency improvements. The pre-
requisite for this kind of contract is that both parties must be certain about the accuracy of
the initial cost-based price, which can only be attained through transparency. When
uncertainty and volatility prevail on suppliers’ value chains, it is better to apply a cost-
sharing contract, in which the expense of costs fluctuations are shared by both parties on
a pre-determined percentage basis. This way, the continuity of supply can be assured even
under high volatility circumstances, in which a firm fixed price contract could potentially
generate major losses for any of the parties (p. 509-510).

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3.4 Research and materials’ re-engineering initiatives for costs reduction
Cost reductions are not limited to competitive bidding and agreements with suppliers,
because SS category managers and their cross-functional sourcing teams possess diverse
areas of research, analysis and decision making to reduce costs without decreasing the
value provided by purchased materials. Leenders et al. (2001) define Purchasing research
as the “systematic collection, classification and analysis of information” that is required for
effective sourcing decisions and it is aimed at reducing costs and increasing the value
provided by purchased materials. Its results depend directly on the conformation of an
effective research and re-engineering team composed by a carefully selected group of
people, in which each member is expected to provide ideas coming from their fields of
expertise. Meanwhile, cost chase initiatives must be prioritized by using the following criteria:
cost savings potential, current product profitability (materials utilized in unprofitable end
products must be deeply assessed), cost volatility (risky products shall concentrate efforts),
availability issues and quality issues. Each of these factors and a possible combination of
them must orientate research efforts; for example, a high cost and high volume material,
used in a critically unprofitable end product, tied to several costly supply risks should be top
priority (p. 509-513).
The concept of value analysis refers to the structured assessment of every technical
attribute in a purchased material, in order to find the lowest cost option that fulfills the
function demanded by the internal costumers (Calvinato et al., 2000, p. 586; Leenders et
al., 2001 p. 514). The output of the analysis can be either a modification on specified
attributes or the identification of substitutes that can fulfill the same function with a lower
cost. In consumer goods products, direct materials have two clearly separate types of
analysis: Packaging materials are supposed to contain the product, while maintaining the
chemical properties that support the value promise, and at same time, must be able to
provide an aesthetical physical appeal on the point of sale that gets consumers’ attention
and increases sales, based on Marketing’s insights. For these materials, the re-engineering
team can assess the type of feedstock utilized on packaging, the printing technologies and
number of colors, to name a few among the highly diverse options that can be evaluated to
reduce packaging costs. The Raw materials, mixed in different proportions according to
products’ formulas, have a specific functional property to support the value promise for
consumers, such as the cleaning properties and appealing fragrances on laundry
detergents. In this case, the sourcing team can evaluate products’ formulas and identify all
the alternative raw materials and mixing proportions, in order to find the lowest cost product

24
that can fulfill the value promise defined by marketers, always considering the current
commodity trends affecting the raw materials. On the other hand, competitors’ products can
be benchmarked to get insights of their cost of goods’ structures and potential relative
advantages; either from packaging materials or formulas. In order to increase the
effectiveness of the value analysis process, preferred suppliers can be involved to provide
financial impact estimations of potential attributes’ re-engineering.
Furthermore, Leenders et al. (2001) propose the following topics of value analysis to achieve
savings: First, research on packaging manufacturing processes and materials to find the
lowest cost alternative to meet requirements. As mentioned earlier, packaging solutions
have diverse materials’ and manufacturing alternatives and the level of technical expertise
from the SS category manager and his sourcing team determines the scope and accuracy
of the analysis. Second, the analysis of unneeded or over-performing specified attributes,
compared to the required level of performance, can lead to simpler and cost efficient
specifications. Third, a quest for options to standardize purchases by using one material to
fill the needs of several, can lead to achieve savings through purchasing volumes’ bundling
that enhances suppliers’ economies of scale (p. 515).
Leenders et al. (2001, 514) also make a distinction between the value analysis and value
engineering concepts: Value analysis is performed for the currently purchased materials’
used on manufacturing and value engineering refers to the quest of the lowest cost
sourcing options during products’ specification stage, before any purchasing order is
generated. This is normally the most
efficient way to achieve savings,
because the profit impact will be
accounted since the beginning of
products’ manufacturing. However,
this engineering analysis is often
skipped or done superficially, because
of the existing time pressures to
launch the products. Calvinato et al.
(2000, p. 601) highlight the strategic
relevance of an intensive supply cost
drivers’ research, in order to contribute
to a low cost yet performing design for products before their respective launches,
considering that usually 70% of the manufacturing costs is determined in the design stage.
Thus, savings potential for a manufacturer is mainly concentrated in the product design
stage, rather than in processing, labor or overhead. The example of molds investments is
quite illustrative, because even if low cost alternatives are discovered after the design stage,
the money invested on molds should be amortized before doing any changes to avoid a zero
sum re-engineering implementation. On the other hand, after the products have been
launched in the marketplace, structural changes in supply markets can affect the main cost
drivers from purchased materials and call for re-engineering alternatives to adapt to the
current economic conditions (Leenders et al., 2001, p. 514). While risk management
approaches aim at identifying and protecting against volatility, these re-engineering
initiatives aim at adapting to un-forecasted and costly fluctuations.
Finally, Calvinato et al. (2000, p. 600) present a useful team approach to generate diverse
savings ideas: A creative brainstorming process aims at incentivizing an inhibited and

25
highly diverse flow of cost chase ideas, where criticism, negative thinking and skepticism
shall be suppressed by all team members. All the ideas and initiatives must be stored to
conduct a feasibility and cost impact analysis, no matter how unconventional or outlandish
they seem at first. The main objective of this approach is to foster creativity and a fluent
exchange of ideas between the sourcing team members, because negative comments and
criticism could undermine the potential contributions of the team members who fear public
ridicule. Being accountable for the cost of purchased materials, the SS manager shall lead
and manage these spaces to formulate savings initiatives, using their relational capital and
internal networking skills to attain an auspicious and collaborative atmosphere that
increases the odds of success.
3.5 Net working capital improvements; inventory and accounts payable
management
Several SS category managers’ decisions affect inventory investments for the buyer
company, and at the same time, they can choose among diverse strategies to reduce those
investments: First, order quantity-price-discounts offered by suppliers, call for larger order
quantities only if it implies a lower total cost for the buyer. This means that lower unit prices
must outweigh the costs of holding additional inventory, to ensure the financial sense of
ordering larger quantities less frequently (Monzcka et al., 2008, p. 595-596). This kind of
decision must be aligned with SC managers and the Business Unit’s cash needs. Second,
the purchaser must choose good-performing suppliers’ in terms of quality and delivery,
knowing that unreliable suppliers will force to increase inventory investments to protect
against quality rejections or late deliveries from suppliers, in order to avoid supply
disruptions. Additionally, longer order cycles and lead times also force the buyer to increase
inventory investments to ensure enough materials’ coverage for production (p. 596-597).
Long order cycles are more frequent with foreign suppliers because of the logistics and
importation delays, which is why purchasers should do a deep analysis of the inventory costs
before choosing low price international vendors, offering significantly longer lead times than
the locals. Whenever the order cycle times are too long with the preferred suppliers, it can
be appropriate to develop a joint work plan to align and improve operations planning
between companies. Another approach to face these circumstances is to work with second-
tier suppliers to find areas of cycle time reduction and performance improvements across
the whole supply chain (p. 612-613). These two approaches could also be applied for low
performing/unreliable suppliers, which the buyer can´t switch easily, in order to reduce
supply risks and exposure.
Moreover, purchasers can negotiate with suppliers to shift inventory management and put
it under their charge. For high inventory holding cost materials, it makes strategic sense to
arrange a supplier managed inventory system in which they will agree to maintain physical

26
and financial inventory, and deliver it when the buyer’s operations planning requires it. Either
the buyer or the supplier can provide the warehouse, according to their respective storage
capacity; if it is located on the buyer’s facilities, then the supplier should have control over a
specific area of the warehouse to manage its own inventory. The other options to reduce
inventories are Consignment and Just-in-Time purchasing models: Consignment
inventory implies that the supplier maintains an inventory bank on the buyers’ facilities and
under the buyer’s control. The buyer is responsible for accounting and reporting the
consumed quantity, and has the obligation to pay it within agreed upon time intervals, and
at the same time, for notifying when stock replenishment is required. It is a win-win situation
for a supplier that is interested on assuring purchasing volumes from the buyer, and for a
buyer that wants to minimize inventory investments for high profit impact materials, and
possesses enough storage capacity and technical capabilities to manage large inventory
banks of the purchased materials. A consignment model is complementary with a quantity-
price-discount model, because suppliers can offer lower prices if stock replenishment is
done for longer periods of coverage in consignment. In contrast, Just-in-Time purchasing
implies that the buyer frequently orders small quantities, in order to maintain low inventories.
Partnerships and close collaboration between the buyer and highly dependable suppliers
are required to ensure the continuity of supply on the right time, quantity and quality using a
JIT model (Leenders et al., 2000, p. 699-700).
A global manufacturer can leverage its purchases across locations with preferred suppliers,
in order to achieve the lowest material costs in terms of pricing and inventory investments.
Global purchase agreements can increase the motivation of powerful suppliers to accept a
consignment inventory system in diverse locations of a core client (Monzcka et al., 2008, p.
612). The SS category manager must identify and assess opportunities to increase leverage
within his purchasing portfolios and regional scope, by doing a deep analysis of the global
category spend structure and identifying those key global suppliers for the company, across
Business Units. Reinforcing the previous proposals for inventory management, Randall and
Farris (2009) propose a supply-chain-inventory optimization model aimed at shifting
inventory-holding costs to the suppliers, in order to reduce inventory investments in the
whole supply chain. The best-case scenario allows the buyers to avoid the financial burden
of transportation and profit margin costs from their suppliers, for as long as possible. The
final objective is to improve the financial performance of the whole supply chain to provide
a lower cost product for the end customer.
The SS category managers can also increase the amount of cash available for business
investments by increasing the accounts payable of the company. This can be achieved
through payment terms negotiation with suppliers, and research has proved that a
consolidated supply base facilitates that the purchasers achieve payment terms extensions,
by exploiting the volume leverage from the buyer company (Hartmann et al., 2012). When
the SS category manager is able to consolidate and bundle purchasing volumes for
competitive bidding processes, the amount of leverage increases and provides the
negotiation power to demand the desired payment terms for the buyer company. As
mentioned in the segmentation section, a leveraged purchasing portfolio with a competitive
supply base that has a consolidated performance (low risk and exposure level), calls for
exploiting competition on the purchaser’s favor not only in terms of low cost and high-
performance sourcing, but regarding the whole set of commercial terms desired by the
buyer, including the payment terms extension.

27
Additionally, based on the market intelligence process, the buyer can have a clear
perspective of the financial conditions of the supply base in order to identify additional
opportunities to achieve financial improvements for the business. Randall and Farris (2009)
highlight the importance of coordinating financial management strategies with key suppliers
in order to improve the financial performance of the whole supply chain, which shall be
reflected on a lower cost of goods for the final costumer. They use financial models to prove
that most of the burden of financing costs must rely on the company with the lower WACC
(Weighted Average Cost of Capital). Never the less, they propose that financially strong
buyers (lower WACC than suppliers) pay for goods in advance to reduce the financing costs
of the supply chain, which is not necessarily and optimal scenario for the purchaser’s NWC
interests. This proposal can be complemented using the Supply Chain Financing model,
patented in the United States in the year 2000 by William R. Hartley Hartley-Urquhart. With
this model, a buyer that has a lower cost of funds (borrowing rate) than its preferred suppliers
can arrange with a financial institution to share its borrowing rate with suppliers, in order to
reduce the financing costs in the supply chain as Randall and Farris propose. Additionally,
the buyer gets the option to extend the payment terms from suppliers without harming their
operating cash flow, because the financial institution pays to the suppliers on the specific
negotiated term and the buyer pays to the financial institution later. The following graphic
shows how a Supply Chain Financing model shall be presented as a clear win-win solution
for both the buyer and the supplier:
4. Conclusions
The SS category management guidelines show how purchasers must prepare themselves
in terms of knowledge about their categories, and then, develop sourcing strategies aimed
at achieving any of their different goals and performance targets. This is a newfangled
approach that focuses on direct materials’ procurement and their particulars in the consumer
goods manufacturing industry, while approaching Strategic Sourcing in a strictly practical
way to guide professional category managers. In summary, the guidelines proposed intend
to highlight the importance of an intensive preparation and specialization process of
purchasers in charge of materials’ categories, in order to provide optimal results to their
companies. None of the key areas of knowledge described in the inputs section should be
left out of a training process, because each one of them is connected to several of the main
decisions and strategic contributions to business performance that SS category managers
could potentially make within the scope of the responsibilities of the Purchasing department,
in any manufacturing company. Given the diversity of the potential contributions from
category managers to their companies’ performance, it results essential to assign a full time

28
professional with enough specialization to manage the whole set of Strategic Sourcing
dimensions for a high value potential and profit impact material category; while leaving the
operational Purchasing tasks and processes to other professionals.
The ability to align and work jointly with a cross-functional sourcing team has a significant
impact on most of the potential contributions that a SS manager can achieve. This is why
teamwork, internal networking and communication skills are essential for purchasers’ work;
the expertise about a material category relies greatly on the experience and knowledge from
colleagues in Engineering, Marketing or Supply Chain and the deployment of sourcing
strategies must be coordinated with several internal stakeholders at the same time. The
category managers are the connections between the supply markets and the manufacturers
in the complex supply chains of multinational consumer goods companies, which distribute
enormous volumes of products across the globe in diverse Business Units. The following
graphic shows the different dimensions of the SS decisions explained earlier and their
respective impact on the performance of a manufacturing company:
Each Strategic Sourcing action can have a significant impact on the financial and service
level performance of a consumer goods manufacturer, and at the same time, trade-offs are
likely to emerge when choosing among diverse sourcing strategies; for example, low cost
sourcing or volume bundling with one supplier could prejudice the assurance of supply in
some cases. In consequence, the SS category managers are constantly facing challenging
decisions in which they must prioritize between the different conflicting implications of a
sourcing decision; thus, their own strategic analysis combined with the cross-functional
alignment process shall guide their final decisions.
Practical recommendations from a Purchasing Manager
Laury Smagghe, an experienced Purchasing manager from Henkel, a German consumer
goods manufacturer with presence in more than 120 countries, assessed the practical
validity of the SS guidelines proposed in this article. Being currently in charge of supervising
the performance of the Purchasing managers for the whole set of packaging materials in
Latin America, she was able to stablish some areas of improvement on the proposal based
on her experience and her knowledge about corporate best practices for Strategic Sourcing:

29
- Sourcing goals and performance targets:
While this article is focused on the general Purchasing goals, she points out that in a
diversified consumer goods manufacturer it is also important to understand the specific
Business Unit objectives. Each BU’s top management can stablish measurable targets to
achieve the desired performance in a specific time interval, and at the same time, a category
manager can have a cross-BU purchase portfolio as it occurs for the plastic bottles category
in personal care and home care units. On the other hand, Purchasing managers often make
a distinction between general goals (which were already explained in this article; e.g. supply
security or best cost level) and specific objectives, which reflect the desired level of
performance in particular sourcing areas (e.g. make portfolios more flexible to ensure back-
up suppliers and exploit commercial leverage). Finally, performance targets can come from
a diverse set of BU/category specific conditions regarding different SS dimensions, such as
service level targets, expected annual savings or supply base consolidation, to name a few.
It is important to clarify that BU and Purchasing executives are in charge of defining the
general goals, specific objectives and performance targets for different product families and
material categories and those demands shall define the priorities of the SS category
managers.
- Cost modeling and risk management:
One aspect that was not considered in the SS proposal is the negotiation of the currency
of invoice with suppliers, which can have a significant impact on the cost of materials when
the local currencies are devaluated: For example, some Mexican packaging suppliers
convert raw materials coming from the United States and invoice in USD for Mexican clients.
However, a cost modeling approach can show the buyer that the currency fluctuations
should only affect a specific portion of the total cost, because the rest of the manufacturing
costs are independent from the USD. In this scenario, the category manager can request
the suppliers to invoice in the local devaluated currency and charge the impact of USD
appreciation only on sourcing costs. Additionally, to revise costs structures with suppliers
for price updates exist diverse commodity indexes and revision mechanisms that should
be stablished through an extensive empiric analysis: Several third party feedstock indexes
are available online and their accuracy and validity must be agreed between the converters
and the buyers of processed materials. For the revision mechanisms, experience and
empiric analysis shall define if the different cost drivers should be based on monthly,

30
quarterly or biannual averages, or with combined weights (e.g. 70% based on a quarterly
average, and 30% based on a biannual average).
Regarding the definition of sourcing risks, the SS proposal was focused on the ones that
were associated with the cost of materials and out of suppliers or buyers’ control. However,
Laury recommends that category managers monitor and manage three different types of
sourcing risks: First, supply risks come from suppliers’ financial health, quality and delivery
performance, potential supply interruptions, and supply/demand risks that could cause
shortages. Second, corporate risks come from regulatory and legal affairs, intellectual
property and sustainability. All of them are monitored in a company like Henkel that aims,
for example, to reduce its carbon footprint while keeping costs under control on the whole
supply chain. Third, the price risks come from currencies and commodities’ fluctuations as
stated in the risk management section, in addition to the dependency on suppliers who can
exploit their advantageous position to charge higher prices than they should.
- Supply base selection for spend allocation:
On the single vs. multiple sourcing decision, she agrees on exploiting economies of scale
with a single supplier, but based on her experience, she thinks it is better to do it with
multiple approvals of suppliers. This means that several suppliers must be approved to
supply key materials because if the awarded vendor fails to supply for any given reason,
the buyer will count on back-up suppliers to ensure the continuity of supply. She highlights
that in these critical situations, prices will be secondary as the assurance of supply will
always be top priority for a business.
- Research and re-engineering initiatives:
She provided some practical recommendations for savings quests, such as getting
samples of finished products from different company’s regions and benchmark the attributes
and components of their materials. This can provide insights to achieve savings in an
underperforming region. The same can be done with competitors’ products, which can have
better performing and lower cost attributes than the ones specified by the buyer company.
She clarifies that suppliers can help the buyer to find areas of improvement based on their
work with several clients in similar industries and with similar requirements; experienced
suppliers can add significant value to their clients because they have a profound knowledge
about materials’ trends and technologic developments in the supply markets.
These recommendations close the Strategic Sourcing category management guidelines
for procurement professionals, which synthetize academic research with practical
experience to attain value-adding synergies from both fields of knowledge. The bottom line
objective was to provide a complete view of the knowledge, decisions and actions that can
ensure a high performance level to direct materials’ purchasers in the fast-moving consumer
goods manufacturing industry.
5. REFERENCES:
- Leenders, M. R., Fearon, H. E., Flynn, A., & Johnson, P. F. (2001). Purchasing and supply
management. McGraw-Hill College.
- Cavinato, J. L., & Kauffman, R. G. (Eds.). (2000). The purchasing handbook: A guide for the
purchasing and supply professional. McGraw-Hill Companies.

31
- Schuh, C., Kromoser, R., Strohmer, M. F., Pérez, R. R., & Triplat, A. (2009).The Purchasing
Chessboard™. Springer Berlin Heidelberg.
- Monczka, R., Handfield, R., Giunipero, L., & Patterson, J. (2008). Purchasing and supply chain
management. Cengage Learning.
- Sheth, J. N., Sharma, A., & Iyer, G. R. (2009). Why integrating purchasing with marketing is both
inevitable and beneficial. Industrial Marketing Management,38(8), 865-871.
- Janis, I. L. (1982). Groupthink: Psychological studies of policy decisions and fiascoes (2nd ed.,
p. 349). Boston: Houghton Mifflin.
- Robbins, S., Judge, T. A., Millett, B., & Boyle, M. (2013). Organizational behavior. Pearson Higher
Education AU.
- Beall, S. (2003). The role of reverse auctions in strategic sourcing (Doctoral dissertation, Arizona
State University).
- Porter, M. E. (2008). The five competitive forces that shape strategy.
- Hartmann, E., Kerkfeld, D., & Henke, M. (2012). Top and bottom-line relevance of purchasing
and supply management. Journal of Purchasing and Supply Management, 18(1), 22-34.
- Randall, W. S., & Theodore Farris, M. (2009). Supply chain financing: using cash-to-cash
variables to strengthen the supply chain. International Journal of Physical Distribution & Logistics
Management, 39(8), 669-689.
- Hartley-Urquhart, W. R. (2000). U.S. Patent No. 6,167,385. Washington, DC: U.S. Patent and
Trademark Office.

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