Inside Supply Management Magazine
Success Tips for Strategic Contracts: Know Your Sourcing Business Model
By Kate Vitasek
Last month, Inside Supply Management® Weekly published “Implementing a Successful Supplier Sourcing Contract,” which highlighted why strategic supplier relationships need to use every tool in the contracting tool kit. This article is the first in a series that will explore each of the 10 elements that craft successful buyer-supplier contracts, as highlighted in the book The Vested Outsourcing Manual.
One of Vested’s foundational rules is to focus on outcomes, not transactions. Thus, it makes sense that the first step is to determine the sourcing business model that is the best fit for your situation.
Why? Many companies have not aligned their intentions with their sourcing business model. The result is a company that, while seeking innovation and transformation, is stuck with a contract that only buys transactions, leading to the “activity trap.” The activity trap occurs when a service provider is paid for every transaction — whether it is needed or not. The more transactions performed, the more money for the service provider. So, the provider has no incentive to reduce the number of non-value-added transactions, because a reduction of transactions would result in a reduction of revenue.
As your grandmother likely said, “You get what you pay for.” So, it’s important to understand the sourcing business model most suited to meet your needs.
There are seven sourcing business models that fall into three categories along a sourcing continuum (detailed in the book Strategic Sourcing in the New Economy: Harnessing the Potential of Sourcing Business Models in Modern Procurement).
Two sourcing business models fall under transactional sourcing:
●A basic provider model (simple transactional commodity suppliers that often use automated purchasing mechanisms with a purchasing order or p-card)
●Approved provider model (commodity suppliers that are pre-approved because of known quality/cost savings).
Three models are under relational sourcing:
●Preferred provider model (emerging supplier collaboration with a goal of supplier value add)
●Performance-based/managed services model (significant collaboration, with a shift to an output-based economic model linking a supplier’s payment to performance)
●Vested business model (highly collaborative, with a shift to an outcome-based model emphasizing the buyer and supplier work together to drive innovation and transformation).
The investment area has two models:
●Shared services model (using internal resources as a supplier)
●Equity partnership model (for example, acquisitions, joint ventures and subsidiaries).
The models differ from a risk/reward perspective and should be evaluated in the context of the product procured or service offered. As organizations shift along the continuum, the way they contract with their suppliers should change. For example, more strategic, performance-based and Vested supplier agreements should begin to include relational contracting components in the contracting process.
So how do you determine the sourcing business model that’s best for you? Start by completing a business-model map. This will help the buyer and supplier make an informed decision — together — about the sourcing business model best suited for them.
Future articles in this series will explore how each of the other contractual elements change as organizations shift up the continuum to more strategic relational contracts.
Kate Vitasek is an international authority on the Vested business model for highly collaborative relationships. She is the author of six books on the Vested model and a faculty member at the University of Tennessee in Knoxville, Tennessee.