Table of contents
In case you don't have time to read the whole article, here is a short video summary:
For the past weeks, we’ve shared with you how best-in-class companies approach supplier evaluation. Most organizations leave supplier management to chance, but if you want to determine your company’s current status (and eliminate supplier risk), evaluation is a must. So let’s recap the steps.
First, you need to create a supplier scorecard where you outline your goals and expectations. This is required to ensure you evaluate your suppliers as fairly as possible and determine both the quality of the products/services you’re receiving and the quality of their relationship with you.
Also, keep in mind that you should re-evaluate your suppliers regularly - you need to know whether your suppliers’ performance is improving or degrading. You should evaluate your suppliers at least twice a year, but best-in-class organizations evaluate their suppliers every three months.
Next comes supplier development. Based on each supplier’s individual score, you should outline a plan of action they should follow to improve their performance until the next evaluation. Let’s say a supplier offers you excellent quality products, but their shipments are always late. In the next 3 months, you could work together to reduce (if not eliminate) delays.
Each supplier has its own shortcomings they should work on, and this is where supplier segmentation comes in handy. Shipment delays are very risky because they affect your whole supply chain. On the other hand, a not so great customer relationship doesn’t pose as many risks.
So the last step of supplier evaluation is attributing a supplier risk score to each of your suppliers.
What is supplier risk?
Simply put, supplier risk measures how likely it is that a supplier will fail to deliver their commitments to you. Risk is usually tied to dependency - if your project relies heavily on one supplier, then the risk is high.
That’s why some companies choose to mitigate risk by diversifying their supplier portfolio. If another supplier can get you the product you need when your “main” supplier fails to do so, the impact on your supply chain is minimal.
The consequences of not properly managing supplier risk can result in:
Discontinuity of essential goods or services
Key supplier financial failure
Avoidable cost increases
Product contamination and recall
Critical technology failure or cyberattacks
Environmental pollution or safety incidents
Legal non-compliance, regulatory lapses, or supplier fraud, and more.
Types of supplier risks
Supplier risk can be classified into different categories:
Strategic
Compliance
Geopolitical
Market changes
Legal/regulatory, etc.
Operational
Logistics
Contracts
Quality standards
Delivery
Security, etc.
Financial
Exchange rates
Raw material costs
Labor costs
Competition
Penalties, etc.
Ethical
Health and safety
Resource consumption, etc.
Continuity
Bankruptcy
Natural hazards, etc.
How to develop a supplier risk management plan
Now that we’ve covered why assessing risk is important, let’s move on to how you can mitigate it. There are 3 main steps to developing a risk management plan:
Step 1: Identify the risks
What type of risk is the most detrimental to your organization? How likely is it to happen to you? Defining the most critical risks is usually a team effort.
Step 2: Evaluate the risks
Once you’ve quantified risk, you can evaluate which supplier risks need to be addressed and in how much detail. The decision of whether to accept risk (higher costs, for example) or prevent it (bankruptcy, certifications) is entirely up to you. However, keep in mind that sometimes the cost of mitigating risk is so high it doesn’t make financial sense.
Step3: Build a contingency plan
This is the most important step! Come up with alternative solutions for an adverse event where relevant, according to priority, and include all the details necessary to take action (and the exact steps you need to take).
Supplier risk management best practices
Last but not least, to effectively mitigate supplier risk in your organization, follow these best practices best-in-class organizations apply:
Have a (clear) overview of your total third-party expenditure
Assess key suppliers by their risk level
Pre-qualify new suppliers
Give special attention to sole-source suppliers. Any sole-source contract should have a plan B in place that can be activated with immediate effect.
So here they are, the 4 steps you need to follow to evaluate your suppliers. Are you ready to achieve sustainable procurement by uncovering and removing hidden waste and costs? Try Prokuria today!