Intermediation in Global Sourcing

Posted in Operations & IT Articles, Total Reads: 1918 , Published on 14 October 2013
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With the advancement in IT and improved transportation the world has drastically shrunk and the companies have started thinking globally in all aspects of business, be it procurement of raw materials or sales of finished goods. This has given the companies an opportunity to source its raw materials from anywhere in the world and thus obtaining the best quality product at the cheapest possible option.

image:jscreations;freedigitalphotos.net

But sourcing globally isn’t as simple as local procurement. It involves various considerations and also involves higher risks.

  1. Following parameters must be considered in global sourcing
  2. Country competitiveness in production of particular raw material
  3. Country exports of particular commodities
  4. Currency risks involved
  5. The proximity of the source
  6. The relations and trade barriers between the source and destination countries
  7. Having high market intelligence about the source country
  8. Having boots on the ground at the source for quality control
  9. Having good relations with freight forwarders

Generally having high market intelligence and local know-how in all the parts of the world is difficult to possess for a company finding sourcing opportunities for its raw materials. The companies also generally don’t have enough scale or required volumes to take advantage of global sourcing. This has created opportunities for intermediaries to step in and facilitate the companies for procuring from the best source globally and also earn a margin. Intermediation is dealt in detail in the next section.

Termed as middle men, intermediary is traditionally considered as a disadvantage and it is always advised to by-pass any kind of intermediation. But in Global Sourcing, it is inevitable to bring in intermediation.One perspective that boils down on this idea is that the companies should focus on their core competency and outsource all other activities in order to be competitive in the market. This stems from the idea of specialization and division of labour. The other perspective explains the advantages the intermediary gain in comparison to a company sourcing directly.

Both the perspectives are explained below

Focus on Core Competency:

In this era of outsourcing and off-shoring, more and more companies are outsourcing their non-value added tasks to other companies who can perform those tasks better and at a cheaper cost. The companies are centralizing all their activities and focussing on their core-competency. For instance, most of the companies in the US have outsourced their call centre services to the companies operating in the developing countries like India and China. Similarly manufacturing firms concentrate on optimising their manufacturing capabilities and outsource the other activities like marketing, sales and sourcing. By outsourcing global sourcing, we mean buying from the traders who source the commodities globally and sell locally.Hence the companies do not have to take the burden or spare their resources on global sourcing, they generally are trending to buy from the traders who do the job for them.

Opportunistic sourcing and the degree of control:

The other perspective is about the advantages that the intermediary establishes as compared to a company sourcing directly. Intermediaries usually establish high scale and they have sourcing capabilities and sales offices world-wide.

Thus they interact with large number of buyers and suppliers. This is depicted in the following diagram



This provides them with two important benefits

  • Opportunistic sourcing: Global sourcing involves a lot of dynamism owing to following reasons:
    • Changing productions of commodities in a particular country owing to bad climate or calamity
    • Change in the amount of export/import from a country owing to change in domestic consumption or government policy
    • Changing trade laws among different countries. Signing of Free-Trade Agreement or imposing antidumping duty on particular commodities imported from particular country are examples of such changes

In such cases the intermediary has options to source from the best possible source which is generally not possible for a company sourcing directly as they also need to establish a long term relationship with the supplier and hence end up paying higher prices. The intermediary generally has high volumes to source and hence it sources maximum volume from the cheapest source and distributes rest of the demand among the remaining suppliers thus maintaining relationship with all the suppliers. This kind of sourcing wherein the intermediary redistributes the quantity to be sourced among the suppliers is called opportunistic sourcing.

  • High degree of control: The intermediaries generally have a large sourcing team having its presence at the source for exercising high control on the supplier to keep check on the quality and to ensure that the environmental norms are followed. Moreover having high sourcing team provides them with higher local knowhow and predicting capabilities by meticulously considering all the market parameters.

Owing to this, it brings out the following benefits for all:

For Suppliers:

  • Intermediary provides high volumes to suppliers due to aggregated demand from the buyers
  • Intermediaries provide constant business to the suppliers thus helping them to be in the business for a long time
  • They provide global reach to the suppliers owing to their buyers world-wide. This is substantially important to new suppliers
  • They also possess a large repository of information regarding the global demand of the buyers and thus can help the supplier gauge the requirement and make the necessary changes to become a preferred supplier.

For Buyers:

  • Buyers get customized products and packaging as per their requirements
  • The risk of the product from the source, in transit and in the warehouse is of the intermediary and hence the buyer’s risk is mitigated as compared to direct sourcing
  • Intermediaries provide vendor managed inventories and thus buyers can get the commodity on JIT basis
  • Intermediaries have boots on the ground at the source and thus have better know-how of the suppliers and higher market intelligence

For intermediaries:

  • Intermediaries get a business by just facilitating the sourcing
  • They charge high margins to the small buyers for customized products and packaging
  • They provide constant business to the suppliers and thus establish high negotiating power

Challenges that lie in the presence of the intermediary

  • Due to the high negotiating power of the intermediaries with the suppliers, they establish binding agreements with the suppliers so that they do not supply directly to the customer and also maintain the secrecy of the pricing information thus not allowing the buyer to know the actual price of the commodity and thus charging high margins to the buyers
  • Moreover certain traders have their presence world-wide and not allowing the buyer to know the source of the commodity
  • Intermediaries tend to aggregate the demand from all the buyers and thus creating a monopolistic buying environment.
  • Over time, with the increase in the size and scale of operations of an intermediary, the benefits of the buyers and sellers starts to decline while the intermediaries tend to increase their profits by charging higher margins

All these challenges can be overcome in case of total transparency of information throughout the channel. Thus if the intermediary doesn’t misbehave, it is always beneficial to source globally by having an intermediary who can optimise the process.


The article has been authored by Soham Vaghela and Abhijeet Parikh, MDI Gurgaon


References

http://www.insead.edu/facultyresearch/research/doc.cfm?did=48174

http://www.sfu.ca/~schmitt/intermediaries.pdf

http://wiki.answers.com/Q/Advantages_and_disadvantages_of_using_intermediaries

http://mba.tuck.dartmouth.edu/pages/faculty/andrew.bernard/IIT.pdf


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