Resources | Supply Chain Management | September 28, 2022

Boost Efficiency and Innovation With Supplier Segmentation

Supply chain management isn’t a one-size-fits-all situation.

Supply chain management isn’t a one-size-fits-all situation.

It sounds obvious, but all suppliers are not alike. Some are essential to your success while others might be one-time suppliers. So why should your company spend the same amount of time and energy interacting with each one? With supplier segmentation, you don’t have to. 

Instead, procurement teams can tailor their interactions with suppliers to make them more effective and efficient, all based on the supplier’s importance to the supply chain. It’s a foundational strategy for supply chain management — and one that you should put to work in your operations.  

What is supplier segmentation? 

Supplier segmentation is the process of classifying suppliers into categories so that you can better dedicate the right level of outreach and resources to those relationships.   

As stated above, not all suppliers are alike. Some are longtime partners; others might work with you just a few times. One might require regular check-ins with your team to keep on track. Another could be so reliable that you’ll go weeks without talking. 

So, for example, you might create Supplier Group A, a list of suppliers that your team has standing orders to call frequently.

Your account managers have the time for more frequent calls because you’ve also created Supplier Group B, the suppliers that need less contact.

And that’s just one very basic type of segmentation. There are multiple ways you can group your suppliers — you could weigh the amount that you spend with them, the risk they present to your company, growth potential and more.

What are the benefits of supplier segmentation? 

Greater efficiency in supply chain management 

Time is in short supply for most procurement teams. Segmentation can help by highlighting which suppliers require more attention from your organization. Let’s say one supplier segment specializes in a commodity product — something that you can get practically anywhere without much trouble. Your team might schedule less frequent touchpoints with those suppliers so the team can spend more time with suppliers that need more attention. 

Preventative approach to supply chain breakdowns 

If you know which suppliers present the highest risk to your organization — maybe they make a critical component for your product — you can communicate more frequently with them. That extra attention can either help those suppliers stay on track or give you early warning about delays and other problems. It can also prompt you to look for additional suppliers for the same product, so you can reduce risk. 

Increased opportunity for innovation 

When you identify your highest-performing suppliers and nurture those relationships, those suppliers will be more likely to suggest improvements and innovations because they know your organization is interested in them. Strategic suppliers may also be open to collaborating with you on the development of new products or features. 

Supplier segmentation models

Kraljic matrix for supplier segmentation

The Kraljic matrix is one of the most common tools for segmenting suppliers. Suppliers are sorted into one of four groups based on their impact and their level of risk.

Those four groups are:

  • Strategic: High impact on profits, high risk to the company. These tend to be some of the most valuable and important suppliers you have. Many companies make a point of treating their strategic suppliers more like partners — they collaborate closely on strategy and planning.

  • Leverage: High impact on profits, low risk to the company. These suppliers are important to the value your company creates, but they could be replaced if necessary because others provide the same goods or services they do. You won’t communicate with these suppliers as often as you do with strategic suppliers. When you do, you’ll probably be talking about pricing and trying to negotiate a better deal. 

  • Noncritical: Low impact on profits, low risk to the company. Like the name suggests, these are suppliers that can be replaced relatively easily and, thus, don’t require as much attention as the other groups.

  • Bottleneck: Low impact on profits, high risk to the company. These are usually the only suppliers that make a certain product or part. If you didn’t have them, your operations would hit a choke point. Frequent check-ins are recommended so you can ensure these suppliers are able to continue delivering on time and in the quantities you need. 

When assessing a supplier’s impact, you could ask:

  • How much does the supplier contribute to our overall sales and revenue? 

  • Does the supplier contribute to new innovations and features?

  • Does the supplier have the potential to become a more important partner? 

For risk, you could ask:

  • How would your operations be impacted if the supplier suddenly weren’t available and, if so, how long would it take you to recover?

  • Does the supplier have the potential for reputational or financial risk? 

  • Does the supplier operate in an area where an external event (like war or natural disaster) could potentially take the company offline?  

Assessing impact vs. risk is one way to create a Kraljic matrix. Some people prefer to categorize suppliers by value vs. spend. You could structure your own type of matrix based on other factors that you choose — for example, a supplier’s potential for growth. 

Supplier pyramid

A supplier matrix isn’t only your only option. You could classify your suppliers using a supplier pyramid. 

On the bottom are transactional suppliers. As the single biggest category, it’s made up of suppliers that have less impact and can be replaced relatively easily.

The next level is made up of important suppliers — companies that play a key role in your operations, but if push came to shove, alternative suppliers are available. 

The top of the pyramid is reserved for the strategic suppliers. It’s the smallest group, but the one with the greatest impact on your business, requiring the highest level of coordination and outreach.   

Best practices for supplier segmentation

  • Suppliers change. You should regularly reevaluate and reclassify them to make sure they’re in the correct segment.

  • Use segments to boost ESG efforts. If your organization has goals for supporting diverse- or women-owned businesses, it can also be helpful to create segments for suppliers in those groups, so you can easily inform them about any special programs or training that you provide.

  • Don’t overlook qualitative measures. It’s easy to judge a supplier’s relative importance based on how much you spend with them or how frequently they meet delivery deadlines. But culture fit and product quality matter, too.

  • Look for ways to create a win-win situation with suppliers. One way to do that is to offer financial support in the form of early payment, either through dynamic discounting or supply chain finance. These early payment options should be seen as an investment in the overall health of your supply chain. They can help solidify your relationship with strategic suppliers, who will appreciate being paid early, and give bottleneck suppliers access to badly needed capital, so they can complete their next order. 

The bottom line on supplier segmentation

Businesses need healthy, effective relationships with their suppliers, but “healthy” and “effective” will look different depending on the individual supplier. Supplier segmentation — through the use of a Kraljic matrix or some other tool — allows procurement teams to create classes of suppliers, so those teams can direct their time and resources to the suppliers that deserve them. 

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