Chapter 7 Supplier Evaluation and Selection

PURCHASING & SUPPLY CHAIN MANAGEMENT, 6e
Supplier Evaluation
and Selection
Chapter 7
© 2016 Cengage Learning. All rights reserved. May

not be scanned, copied or duplicated, or posted to
a publically accessible website, in whole or in part. SOUTH-WESTERN CENGAGE LEARNING
Chapter Overview
 Supplier evaluation and selection

process
 Key supplier evaluation criteria
 Developing a supplier evaluation and
selection survey
 Reducing supplier evaluation and
selection cycle time

2
a publically accessible website, in whole or in part. Purchasing & Supply Chain Management, 6e
Evaluation and Selection Process
 There is no “one best way”

 Overall objective is to reduce sourcing
risk and maximize value to buyer
 Need to select suppliers for long-term
 Can involve intensive effort and major
commitment of resources
 Many issues and decisions

3
Selection and Evaluation Process
Recognize need for supplier selection
Identify key sourcing requirements
Identify potential supply sources
Determine sourcing strategy
Limit suppliers in selection pool
Determine method of supplier evaluation and selection
Select supplier and reach agreement

4
When do Evaluation and Selection
Decision Arise?
 Internal users submit requisitions

 New product development
 Poor internal or external supplier
performance
 End of contract period
 Buying new equipment
 Expanding into new markets or
products lines
5
When do Evaluation and Selection
Decision Arise?
 Performing market tests
 Faced with countertrade requirements
 Outsourcing analyses
 Consolidating volumes across a business
 Issuing a RFQ or conducting a e-RA (reserve
auction)
 Current suppliers have insufficient capacity
 Reducing the supply base

6
Identify Key Sourcing Requirements
 May be determined by internal and

external customers within the value
chain
 Supplier quality
 Cost
 Delivery performance
 Vary widely from item to item

7
Identify Potential Supply Sources
 How well existing suppliers can satisfy

cost, quality, or other performance
variables
 Strategic importance of purchase
requirement
 Technical complexity of purchase
requirement

8
Information Search Requirements
High Capability Low Capability

of Suppliers of Suppliers
High Strategic
Minor to
Importance Major
to Buyer
moderate
Low Strategic
Minor to
Importance Minor
moderate
to Buyer

9
Sources of Information
 Current suppliers  Organizational

 Preferred suppliers knowledge
 Sales  Trade journals
representatives  Trade directories
 Internet searches  Trade shows
and social media  2nd-party or indirect
 Informational information
databases  Internal sources

10
Determine Sourcing Strategy
 No single strategy will satisfy all situations

 Purchasing strategy for particular item
Influences the approach taken
 The environment changes
 Market conditions
 User preferences
 Corporate objectives
 Reevaluate as necessary

11
Sourcing Alternatives
 Manufacturer vs. distributor
 Size of purchase
 Manufacturer’s policies on direct sales
 Storage space available
 Extent of services required
 Supplier-managed inventory
 Integrated supply
 Local, national, or international suppliers
 International and national suppliers may offer the best price and
technical service. They may provide opportunities for dramatic
price saving.
 Local suppliers are more responsive. JIT is used more with local
suppliers
12
Sourcing Alternatives
 Large vs. small suppliers

 Capability
 Variety of products offered
 Locations
 Dependency
 Multiple vs. single vs. sole sourcing
 Overall trend to rationalize supply base
 Leverage vs. assurance of supply

13
Supplier Categories
 Preferred supplier
 One that consistently satisfies the
performance and service standards as
defined and responds to unexpected
changes
 Certified supplier
 Have had quality systems extensively
audited and are capable of consistently
meeting or exceeding quality needs
14
Supplier Categories
 Partnered supplier
 Limited to a select group who provide
critical high value items
 Disqualified supplier
 No longer meet buyer’s standards and will
not be considered for future business until
problems are corrected

15
Benefits of Single Sourcing
 Optimum leverage and power over

supplier
 Ability to develop closer relationships
 Development of value-adding programs
such as supplier stocking, process
improvement, etc.

16
Benefits of Multiple Sourcing
 Improved assurance of supply

 Check against price increases
 Active competition that motivates
suppliers to perform effectively

17
When to Use a Sole Source
 Supplier holds a patent

 Only 1 company is licensed or holds
the IP rights
 Only 1 company has the most efficient
process, making it less expensive
 You hold patent or IP rights that need
to be carefully guarded

18
Evaluate Critical Issues
 Size relationship
 Risk/Reward issues
 Sustainability and diversity objectives
 Competitors as suppliers
 Offshore suppliers and countertrade

19
Limit Suppliers in Selection Pool
 Supplier risk analysis
 Financial risk management
 Operational risk management
 Evaluation of supplier performance
 For prior or existing suppliers
 Evaluation of supplier-provided
information
 Entry qualifiers
 RFIs, RFPs, or RFQs
20
Entry Qualifiers
 Financial strength
 Proven manufacturing or service
capability
 Capable and supportive management
 Adequate facilities
 Skilled professional and technical staff

21
Determine Method of Supplier
Evaluation and Selection
 Evaluation from supplier-provided
information
 Supplier visits
 Use of preferred, certified, or partnered
suppliers
 External or third-party information
 Domestic vs. international suppliers

22
Key Supplier Evaluation Criteria
 Primary criteria
 Cost or price, quality, and delivery
 Management capability
 Employee capabilities
 Cost structure
 Total quality performance, systems,
and philosophy
 Process and technological capability
23
Key Supplier Evaluation Criteria
 Sustainability and environmental
compliance
 Financial stability
 Scheduling and control systems
 E-commerce capability
 Supplier’s sourcing strategies, policies,
and techniques
 Longer-term relationship potential

24
Management Capability
 What is top management’s vision,
strategy, and plan?
 Has management committed to TQM
and continuous improvement?
 How high is management turnover?
 What are professional experience and
educational background of key
managers?

25
Management Capability
 Is management customer-focused?
 What is history of labor-management
relations?
 Is organization making necessary
capital investments?
 Is organization prepared to face future
competitive challenges?
 Does management put priority of
supply chain management?
26
Employee Capabilities
 Degree of commitment to quality and

continuous improvement
 Overall workforce skills and abilities
 Employee-management relations
 Frequency of work stoppages
 Worker flexibility

27
Employee Capabilities
 Employee morale
 Workforce turnover
 Willingness of employees to contribute
to improved operations

28
Cost Structure
 Total cost perspective
 Direct labor costs
 Indirect labor costs
 Material costs
 Manufacturing or process operating costs
 General overhead costs
 Caveat
 Supplier may not fully understand its own
costs in detail
29
Challenges of Cost Analysis
 Supplier’s unsophisticated cost
accounting system
 Cost data is considered proprietary
 Buyer’s knowledge of costs may
undermine supplier’s pricing strategy
 Competitors may have access to buyer’s
cost data
 Supplier is concerned about potential
misuse of its cost data
30
Total Quality Performance, Systems,
and Philosophy
 Degree of management commitment
 Use of SPC techniques
 Level of defects
 Safety, training, and facilities
 Equipment maintenance
 Use of MBNQA and ISO 9000:2008
criteria

31
Process and Technological Capability
 Level of technology, design, methods,

and equipment used to manufacture
products or deliver services
 Current vs. future technological capabilities
 Review capital expenditure plans
 Resources committed to R&D
 Supplier design capabilities

32
Sustainability and
Environmental Compliance
 Ongoing sustainability practices and
top management support
 Corporate Responsibility Report
 Current and projected CO2 emissions
 Attainment of ISO 14000:2004
certification
 Evidence of measuring or requiring
sustainable practices in supply base
33
 1/10/2021

34
Sustainability and
Environmental Compliance
 Formal hazardous and toxic waste
reduction programs exist
 Purchasing recycled materials
 Encouraging recycling and reuse
internally
 Disclosure of environmental infractions
 Programs to control or eliminate ozone-
depleting substances
35
Financial Stability
 Often used as screening process in

initial selection phase
 Risks of financially weak supplier
 Supplier will go out of business
 Insufficient resources to invest in
improved plant, equipment, and research
 Supplier may become too financially
dependent on buyer
 May be indicator of other problems
36
Interpreting Financial Ratios
Liquidity Ratios Interpretation
Current ratio = Should be > 1.0, but look at
Current assets ÷ Current liabilities industry averages
Quick ratio = At least 0.8 if supplier sells on credit;

(Cash + Receivables) ÷ Current liabilities Low means cash flow problems
Interpretation
Activity Ratios
(compare to industry average)
Inventory turnover = Low means slow inventory or possible
COGS ÷ Inventory cash flow problems
Fixed asset turnover = Too low means supplier may be

Sales ÷ Fixed assets inefficient using its fixed assets
Total asset turnover = Too low means supplier may be

Sales ÷ Total assets inefficient using its total assets
Days sales outstanding =

Too high hurts cash flow;
(Receivables x 365) ÷ Sales
a publically accessible website, in whole or in part. Too low shows restrictive credit policy
Interpreting Financial Ratios
Interpretation
Profitability Ratios
Net profit margin =
Represents after-tax return
Profit after taxes ÷ Sales
Return on assets = Represents the return earned on what a

Profit after taxes ÷ Total assets company owns
Return on equity = Represents return on shareholders’

Profit after taxes ÷ Equity investment
Interpretation
Debt Ratios
Debt-to-equity =
> 3 means highly leveraged
Total liabilities ÷ Equity
Current debt-to-equity = Too high means supplier may be unable

Current liabilities ÷ Equity to pays its bills
Interest coverage =
Should be > 3; low may mean difficulty
(Pretax income + Interest) ÷ Interest
a publically accessible website, in whole or in part.
in paying creditors
Scheduling and Control Systems
 Does supplier use MRP or MRP II?

 Does supplier track material, product,
or service cycle times?
 Can supplier support buyer’s delivery
requirements?
 What are supplier’s real lead times?
 What is supplier’s on-time delivery
performance?
39
E-Commerce Capability
 Web-based B2B vs. EDI systems

 Does supplier have CAD capability?
 Does supplier use bar coding or RFID?
 Can supplier provide ASNs or accept
EFT transfers?
 Does supplier communicate via e-mail?
 Does supplier use social media for
business purposes?
40
Supplier’s Sourcing Strategies,
Policies, and Techniques
 Track supply base performance of Tier
1 vs. Tier 2 vs. Tier 3 suppliers
 Sharing of information
 Extent of supplier development
activities in its own supply base

41
Longer-Term Relationship Potential
 Is supplier willing to participate or
commit?
 Can supplier commit necessary
resources?
 Does supplier have requisite technical
expertise?
 How is supplier unique?
 Can supplier participate in joint
problem solving and improvement?
42
 Will there be free and open information

sharing?
 Will supplier engage in and share
future planning?
 Can supplier maintain buyer’s need for
confidentiality?
 Is corporate culture similar to buyer’s?

43
 How well does supplier understand

buyer’s industry and business?
 Will supplier share cost data?
 Is supplier willing to share innovations
with buyer first?
 Can supplier dedicate exclusive capacity
to buyer?
 What is overall commitment level?
44
Developing a Supplier Evaluation
and Selection Survey
 Survey should …
 Be comprehensive and include important
performance categories
 Be as objective as possible
 Include reliable items and measurement
scales
 Be flexible
 Be mathematically straightforward and
simple to understand
45
Steps in Developing a Supplier
Evaluation and Selection Survey
Identify supplier evaluation categories
Assign a weight to each evaluation category
Identify and weigh subcategories
Define scoring system for categories and subcategories
Evaluate supplier directly
Review evaluation results and make selection decision
Review and improve supplier performance continuously

46
Initial Supplier Evaluation
Score Weighted
Category Weight Subweight (1 - 5 scale) Score Subtotal
Quality Systems 20
Process control systems 5 4 4.0
17.4
Total quality commitment 8 4 6.4
PPM defect performance 7 5 7.0
Management Capability 10
Management/labor relations 5 4 4.0 8.0
Management capability 5 4 4.0
Financial Condition 10
Debt structure 5 3 3.0 7.0
Turnover ratios 5 4 4.0
Cost Structure 15
Costs relative to industry 5 5 5.0
14.0
Understanding of costs 5 4 4.0
Cost control/reduction efforts 5 5 5.0
Delivery Performance 15
Performance to promise 5 3 3.0
9.0
Lead-time requirements 5 3 3.0
Responsiveness 5 3 3.0
Technical/Process Capability 15
Product innovation 5 4 4.0
14.0
Process innovation 5 5 5.0
Research and development 5 5 5.0
Information Systems Capability 5
EDI capability 3 5 3.0 3.0
CAD/CAM 2 0 0.0
General 10
Support of minority suppliers 2 3 1.2
© 2016 Cengage Learning. All rights reserved. May 8.2
Environmental compliance 3 5 3.0
aSupply base
publically management
accessible website, in whole or in part. 5 4 4.0
Total Score 80.6
Sample Recommendation Form
Company Name Foster Industries Survey by: Manufacturing Commodity Team
Address P.O. Box 1256 Accompanied by: Quality Assurance

Stroudsburg, PA
City, State, & Zip 18370
Initial Survey Resurvey
Phone 570-619-5411 Survey Date: 9/14/2015
Supplier Code Foster Contact: Mr. Robert Jones
Supplier Score 80.8 Minimum Required Score: 65
Recommendations
Supplier has potential to become a critical partner. However, limited design/development capability
prevents continued growth. Foster will embark on implementing and upgrading design/development
function for our business.
Action Plan Is Due By: 2/1/2016
Supplier
Acknowledgement John Weaver Date: 9/15/2015

48
Reducing Supplier Evaluation and
Selection Cycle Time
 Map current evaluation and selection
process
 Integrate with internal customers
 Utilize data warehouse software with
supplier information
 Engage third-party support

49
Reducing Supplier Evaluation and
Selection Cycle Time
 Integrate technology into organizational
design
 Commodity CFTs
 Product families or groups of products
 Supplier categorization
 Electronic tools
 Predefined contract language and
shorter contracts
50
A Good Supplier Does the Following
 Builds quality into the product, aiming

for zero-defects
 Makes delivery performance a priority
 Willingness to make short and frequent
deliveries to point-of-use
 Demonstrates responsiveness to
buyer’s needs
 Works to reduce lead times
51
A Good Supplier Does the Following
 Provides buyer with information

regarding capability and workload
 Creates the future, rather than fears the
future
 Reinvests part of its profits into R&D,
takes a long-term view, and is willing to
spend for tomorrow
 Meets stringent financial stability criteria
52

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PURCHASING & SUPPLY CHAIN MANAGEMENT, 6e

© 2016 Cengage Learning. All rights reserved. May

 Supplier evaluation and selection

© 2016 Cengage Learning. All rights reserved. May

 There is no “one best way”

© 2016 Cengage Learning. All rights reserved. May

Identify key sourcing requirements

Identify potential supply sources

Determine sourcing strategy

Limit suppliers in selection pool

Determine method of supplier evaluation and selection

Select supplier and reach agreement

© 2016 Cengage Learning. All rights reserved. May

 Internal users submit requisitions

© 2016 Cengage Learning. All rights reserved. May

 May be determined by internal and

© 2016 Cengage Learning. All rights reserved. May

 How well existing suppliers can satisfy

© 2016 Cengage Learning. All rights reserved. May

High Capability Low Capability

© 2016 Cengage Learning. All rights reserved. May

 Current suppliers  Organizational

© 2016 Cengage Learning. All rights reserved. May

 No single strategy will satisfy all situations

© 2016 Cengage Learning. All rights reserved. May

 Large vs. small suppliers

© 2016 Cengage Learning. All rights reserved. May

© 2016 Cengage Learning. All rights reserved. May

 Optimum leverage and power over

© 2016 Cengage Learning. All rights reserved. May

 Improved assurance of supply

© 2016 Cengage Learning. All rights reserved. May

 Supplier holds a patent

© 2016 Cengage Learning. All rights reserved. May

© 2016 Cengage Learning. All rights reserved. May

© 2016 Cengage Learning. All rights reserved. May

© 2016 Cengage Learning. All rights reserved. May

© 2016 Cengage Learning. All rights reserved. May

© 2016 Cengage Learning. All rights reserved. May

 Degree of commitment to quality and

© 2016 Cengage Learning. All rights reserved. May

© 2016 Cengage Learning. All rights reserved. May

© 2016 Cengage Learning. All rights reserved. May

 Level of technology, design, methods,

© 2016 Cengage Learning. All rights reserved. May

© 2016 Cengage Learning. All rights reserved. May

 Often used as screening process in

Quick ratio = At least 0.8 if supplier sells on credit;

Fixed asset turnover = Too low means supplier may be

Total asset turnover = Too low means supplier may be

Days sales outstanding =

Return on assets = Represents the return earned on what a

Return on equity = Represents return on shareholders’

Current debt-to-equity = Too high means supplier may be unable

 Does supplier use MRP or MRP II?

 Web-based B2B vs. EDI systems

© 2016 Cengage Learning. All rights reserved. May

 Will there be free and open information

© 2016 Cengage Learning. All rights reserved. May

 How well does supplier understand

Assign a weight to each evaluation category

Identify and weigh subcategories

Define scoring system for categories and subcategories

Evaluate supplier directly