Why you Need to Conduct a Supplier Risk Assessment

An unreliable supplier can cause irreparable damage to middle market businesses. Economic growth or decline, newly imposed tariffs, or issues like the transportation crisis of 2018 can greatly affect your relationship with suppliers, potentially causing your entire supply chain to collapse; which is why business owners and supply chain managers need to determine the risk posed by their supply partners with a supplier risk assessment.

Without contracts in place with your suppliers, risk exists. A supplier risk assessment evaluates the potential of losing a supplier for any number or reasons.

“It doesn’t matter how long you’ve worked with your supplier or how much you trust them, there are factors that are outside of your—and their—control and you have no guarantee that you’ll receive your product,” explains Philip Franz, FortéOne Supply Chain expert. “A risk assessment helps you to understand which risk factors are present in each of your supplier relationships, allowing you to mitigate that risk.”

The benefits of a supplier risk assessment

When it comes to your suppliers, there are a number of risks to be aware of. Your primary supplier could go out of business or decide not to sell to you if for some reason the relationship goes sour. It’s also possible that their prices could increase to the point that it affects or eliminates your profit margins. On the other hand, an economic boom could cause your demand to increase and your suppliers might not be able to keep up with it.

Regardless of what causes the relationship to change, you’re forced to look for a new supplier. And if you don’t have secondary and tertiary suppliers in place, you have to scramble to find a supplier and have no leverage when negotiating costs. You’re left paying outrageous prices in order to get your production back up and running as quickly as possible and the financial recovery from that can take years.

“You need to have a backup plan in place for when your primary suppliers stop selling to you or can’t handle an increase in demand,” says Franz. “It’s important to establish a backup supplier or someone who can handle overflow work and a supplier risk assessment is the place to start.”

How to conduct a supplier risk assessment

A supplier risk assessment requires businesses to look at their supplier base and assess the risk of disruption with primary suppliers. This process can be accomplished in three simple steps, conducted in-house or with the help of a supply chain consultant.

Step 1: Establish criteria

Before looking at your suppliers, you need to decide what it is you’re looking for. Your supply management team should establish a number of criteria, including, but not limited to: Is the quality of the materials sufficient? Does the supplier have the machinery, staff, and space to keep up with my demand as it grows? Do they have access to additional raw materials within their supply chain should my demand grow? Where is the volume coming from? If the overflow is coming from a foreign facility, will that affect shipping costs and lead time? And if so, can I still turn a profit when absorbing those costs?

Step 2: Assign a risk level to all suppliers

Once you’ve created your criteria and questions, you need to gather and analyze the answers. Using the established criteria—and a bit of your own judgement—assign a risk level to each client.

“I recommend sticking with three categories: low, medium, and high,” says Franz. “If any of your clients fall into the ‘high’ category and you feel there’s a great risk of losing that supplier, you need to take action quickly.”

Step 3: Establish a backup plan

Although there’s no need to sever your relationship with high-risk suppliers, you should immediately find secondary and tertiary suppliers and set up contractual relationships with them. It might also be worth your while to send those suppliers a small but steady stream of business. Though it may seem like a lot of effort for a supplier you don’t often use, it safeguards you against paying extremely high spot fees when you’re in a vulnerable position down the road.

Step 4 (optional, but recommended): Invest in an SRM program

While a risk assessment will provide you with great insights and prepare your business for the threat of losing a supplier, a preventative solution will provide far more value. A Supplier Relationship Management (SRM) program is an agreement between your business and third-party suppliers that stabilizes costs, ensures the quality and quantity of goods, and reduces risk to your business.

If your company is in a growth phase and you’ve already conducted a supplier risk assessment, you’ll want to make sure you develop a strategic procurement plan that aligns with your business plan. If you’re planning to grow one area of your business, you need to ensure your supplier can handle the increased demand and that the additional raw material purchases won’t affect your profit margins.

“In short, the only way to protect your profits is to approach your supply chain efforts strategically,” notes Franz. “A supplier risk assessment, SRM program, and strategic procurement plan all work together to future-proof your business.”

If you need assistance conducting a supplier risk assessment, building an SRM program, or optimizing your supply chain efforts, call in the experts at FortéOne. Our consultants have helped countless middle market businesses improve processes to positively impact their bottom line.