A Novel Framework for International Sourcing

Applied to the Emerging Chinese Supply Market

1. Introduction.......................................................................................124

1.1 Global Sourcing........................................................................125

1.2 Global Integration.....................................................................128

1.3 Internationalization Strategies for Sourcing .............................130

2. Application of the International Sourcing Framework to the

Emerging Chinese Supply Market....................................................137

2.1 The Chinese Supply Market .....................................................138

2.2 Three Approaches to China Sourcing.......................................141

3. Conclusion and Outlook ....................................................................147

References................................................................................................148

 

1. Introduction

The idea of Global Sourcing is surely one of the most popular concepts in

the field of supply management. Unfortunately, many applications of

Global Sourcing are limited to a rather operational view focusing on the

identification and utilization of foreign suppliers and thus ignore the potential

benefits of a more strategic and integrated approach (Samli/

Browning/Busbia, 1998). While there is a trend of using purchasing for

strategic reasons as companies have to deal with intensifying global competition

(Swamidass/Kotabe, 1993) and the need to address the strategic

perspective of Global Sourcing has been identified a long time ago (Arnold,

1989), academic discussion has failed to deliver satisfying results

concerning its implementation (Trent/Monczka, 2003).

In the light of the ever increasing importance of global business strategies

it should be welcomed that recently both academic research and industry

practice have begun to focus their attention not only on marketseeking

international expansion strategies but also on resource- or efficiency-

seeking strategies. Consequently, the interest in resource- and efficiency-

seeking expansion strategies such as Global Integration is growing

fast (Kaufmann/Panhans, 2004).

When designing resource- and efficiency-seeking international expansion

strategies companies have to consider the issue of Global Sourcing.

We follow the definition of Global Sourcing by Monczka and Trent (1991,

2003). This view clearly distinguishes Global Sourcing from International

Purchasing as well as from Local Sourcing for a foreign production site.

We argue that Global Sourcing is an important cornerstone of the ongoing

trend towards Global Integration. Furthermore, we will show that Global

Sourcing represents an evolution of sourcing activities towards a truly strategic

and global level.

The first level of internationalization in sourcing is coined by opportunity-

seeking imports. The second level is dominated by the idea of adding

Local Sourcing activities to foreign production sites. Global Sourcing, as

we argue in this article, represents a step towards the globally integrated

company, which according to Hedlund (1986), Barlett and Goshal (1989),

and White and Poynter (1990) is characterized by globally distributed but

interdependent sources and activities. The third level of internationalization

of sourcing is thus one of consolidation and enhancement of existing

international purchasing activities.

Following this introduction, we will briefly review the concept of Global

Sourcing and then establish a conceptual foundation of the internationalization

of sourcing as a key function for the global expansion of the company.

We will then discuss the options available for an effective organizational

design of Global Sourcing. For reasons of illustration we will apply

our findings to the example of China Sourcing. The article concludes with

a discussion of recommendations for future research.

1.1 Global Sourcing

The discussion about the meaning of Global Sourcing has produced many

more or less different positions which can be placed on a continuum between

two extreme poles: the one view characterizes Global Sourcing just

as purchasing items from many different foreign suppliers, the opposite

view sees Global Sourcing as an all-dominant business function similar to

past developments in marketing (Arnold, 2002). We advocate the view of

Global Sourcing as being an integral part of a company’s global strategy

by enabling the company to leverage its own unique competencies and at

the same time benefit from the locational advantages of various countries

(Kotabe, 1998; Petersen/Frayer/Scannell, 2000).

Global Sourcing is considered to be highly relevant for achieving competitive

advantage (Carter/Narasimhan, 1996). Many researchers, especially

towards the end of the 1980s and in the beginning of the 1990s,

made efforts to better understand the potential benefits of internationalizing

sourcing (Monczka/Trent, 1991; Birou/Fawcett, 1993). Commonly

identified benefits of the internationalization of sourcing were reducing

unit prices, gaining better access to product and process technology, higher

quality, and introducing competition to the suppliers at home (Trent/

Monczka, 1998). According to Arnold (1990) Global Sourcing transfers

the strategic tasks of sourcing to the international context. These strategic

tasks include: strengthening the innovative power of the company, supplier

development, standardization and modularization of items, and managing

purchasing alliances.

But how should this strategic quality that distinguishes Global Sourcing

from International Purchasing be understood? Trent and Monczka (2003)

argue that International Purchasing relates to the actual international purchase

and the related difficulties whereas Global Sourcing surmounts this

level of complexity: “Global Sourcing involves proactively integrating and

coordinating common items and materials, processes, designs, technologies,

and suppliers across worldwide purchasing, engineering, and operating

locations”. The development of new supply markets and their integra-

tion into the existing supply management processes represent crucial elements

of comprehensive internationalization strategies for purchasing.

However, just this task of integrating and coordinating the supply management

processes across geographically dispersed locations and functions

turns out to be a major roadblock for most companies on their way to applying

truly strategic Global Sourcing.

Naturally, Global Sourcing as defined in this article cannot be achieved

over night. It represents a sophisticated level of Worldwide Sourcing activities

that is reached only after going through some preceding lower levels.

Monczka and Trent (2003) distinguish five levels of Worldwide

Sourcing: Level I represents the base case of engaging in domestic purchasing

exclusively. Reacting to changes in the business environment –

e.g. supply disruptions or new competitive pressures – companies progress

to level II, which can be characterized as International Purchasing performed

on a reactive basis. Together with level II level III corresponds to

what has been identified as International Purchasing. In level III Worldwide

Sourcing is treated more strategically but still rather isolated and thus

lacks global coordination. Level IV has to be considered as an advanced

level of sourcing strategy development. Single Global Sourcing strategies

are coordinated and integrated across worldwide locations. As Monczka

and Trent point out integration primarily has a cross-locational rather than

a cross-functional character. The highest level of Worldwide Sourcing,

level V, adds the aspect of coordinating and integrating “common items,

processes, designs, technologies, and suppliers across worldwide purchasing

centers and with other functional groups, particularly engineering”.

This form of collaboration between functions allows to effectively involve

suppliers early in the new product development phase. Figure 1 summarizes

the possible levels of Worldwide Sourcing and shows the current positioning

of 162 mainly large companies (average annual sales of $1.5 billion)

who participated in the exploratory research carried out by Monczka

and Trent (2003).

Percent of Firms

N = 162

0

10

20

30

40

50

13.4

7.8

21.3

7.8

31.0

14.3

18.2

15.6

16.1

54.5

Currently

In 3-5 Years

Level I

Engage in

Domestic

Purchasing Only

Level II

Engage in

International

Purchasing as

Needed

Level III

International

Purchasing as

Part of Sourcing

Strategy

Level IV

Integration and

Coordination of

Global Sourcing

Strategies across

Worldwirde Buying

Locations

Level V

Integration and

Coordination of

Global Sourcing

Strategies with Other

Functional Groups

International

Purchasing

Global Sourcing

Figure 1: Current and Expected Worldwide Sourcing Levels (Trent/

Monczka, 2003, p. 29)

The need for Global Sourcing differs across companies and industries.

According to Porter (1986) global industries are characterized by the need

to coordinate and integrate activities on a worldwide basis in order to

achieve competitive advantages. Thus, each company must determine the

appropriate level of internationalization of its businesses’ sourcing processes,

preferably at firm level within a specific industry (Monczka/Trent,

1992).1 Traditionally, internationalization strategies were clearly marketing-

driven. Considering the perceived weakness of some local commodity

sources and growing worldwide shortages this fact may be surprising (Arnold,

1990). Already in 1980 Davidson stated that “sourcing activities will

play a dominant role in a company’s global strategy”. Equally, Pausenberger

(1984) discussed the possibility that sourcing issues could be drivers

for overall internationalization of companies.

The relationship between the company’s approach to international expansion

and the internationalization of sourcing is not part of Monczka and

Trent’s framework. We think that examining this relationship in more

depth will further benefit the discussion about the internationalization of

sourcing by clarifying its outstanding role for the realization of internationalization

benefits.

In order to better understand the role of Global Sourcing for internationalization

strategies at the business and/or firm level we will briefly discuss

a novel framework of international expansion strategies developed by

Kaufmann and Panhans (2004). Based on this framework and our understanding

of Global Sourcing we will then present a framework that shows

strategies for the internationalization of sourcing and how these support

the overall internationalization of the firm.

1.2 Global Integration

As was mentioned in the introduction the interest in global business strategies

and especially in resource- or efficiency-seeking strategies such as

Global Integration is growing fast. Global Integration is characterized by

foreign operations that have strong resource-interdependencies with the

parent or other corporate group members. In order to exploit locational

advantages the value chain is deconstructed and each process step is placed

at the ideal location and the entire volume is processed there. Thereby

firm-specific and country-specific advantages are combined (Rugman/

Verbeke, 2003). Locational advantages may be low factor costs,

qualifications and externalities, or proximity to natural resources, suppliers,

and other strategic resources.

Kaufmann and Panhans (2004) argue that Global Integration represents

a third wave of internationalization. A first wave was dominated by market-

seeking exports: Highly national production systems were squeezed

for efficiency and learning effects. These scale effects allowed aggressively

priced exports. Toyota’s production system and export strategy to

Europe and the U.S. is a typical example of this approach, which could

mainly be observed in the 1980s. The market-seeking transfer of businesses

coined the second wave of internationalization: Largely independent

businesses were created by replicating entire business processes in foreign

markets in order to exploit firm-specific core competencies. The

business transfer strategy was helpful in overcoming trade barriers and efA

Novel Framework for International Sourcing 129

fective in assuring customization to local needs. The third wave is Global

Integration as described above.

These three internationalization strategies can be classified using two

approaches to international expansion: exports and foreign value creation.2

As figure 2 shows a simple base case called National Focus is added to the

three international expansion strategies: Export Orientation, Business

Transfer, and Global Integration.

Business Transfer

– Market expansion

– Economies of scope

National Focus Export Orientation

– Market expansion

– Economies of scale

– Economies of scope

Global Integration

– Economies of location

– Economies of scale

– Market expansion

– Economies of scope

Local

Home Abroad

Value

creation

Sales

Exports

Figure 2: Framework for International Expansion Strategies

The actual internationalization strategy of any firm can be a mix of the

above four pure strategies. The rationale behind applying one or more of

these strategies is to expand the potential sales market and exploit advantages

of internationalization such as economies of scope, economies of

scale, and economies of location. All three approaches give access to

economies of scope. Different markets share common competencies

and/or overhead. Reducing unit costs by realizing economies of scale is a

characteristic of Export Orientation and Global Integration as with Business

Transfer only national volume is processed. By definition, economies

of location can only be exploited by Global Integration as this means performing

steps of the value creation at the place of the absolute locational

advantage.

Every company has to choose the internationalization strategy (or mix)

most appropriate for reaching its goals. As we have pointed out, we consider

sourcing to be a crucial function for implementing international expansion

strategies. Depending on the overall internationalization strategy

sourcing must be adapted accordingly. In the following chapter we will

develop a similar framework for the internationalization of sourcing as was

developed for the business-level by Kaufmann and Panhans (2004).

1.3 Internationalization Strategies for Sourcing

Two approaches to international expansion are used to construct our

framework: Foreign value creation from a global business strategy perspective

and imports from a sourcing perspective. Foreign value creation

can be performed through franchises, joint ventures, and subsidiaries. Imports

include intra- and extra-firm trade.

Figure 3 shows the four resulting sourcing strategies: Domestic Local

Sourcing, Import Orientation, Local Sourcing Abroad, and Integrated

Global Sourcing. Domestic Local Sourcing is characterized by low to no

imports for home-based value creation. Although it represents a more or

less trivial base case, it serves well as a starting point for strategy development.

Local Sourcing Abroad

– Supply market expansion

(to a lesser degree)

Import Orientation

– Supply market expansion

Integrated Global Sourcing

– Supply market expansion

– Maximize purchasing power

Domestic

Domestic Abroad

Location of

Own Value

Creation to

be

supported

by

Sourcing

Location of Supply Sources

Abroad

Hurdles

Barriers to Foreign Value

Creation

– Coordination complexities

– Knowledge stickiness

Trade Barriers

– Tariffs, quotas

– National

regulations

– Transportation

and

communication

costs

– Heterogeneous

market

preferences

Domestic Local Sourcing

– Facilitated early supplier

integration

Figure 3: Benefits and Hurdles of International Sourcing Approaches

The case of Import Orientation reflects an international expansion of the

target supply market: As described by Monczka and Trent (1991) companies

are often driven towards increasing their international purchasing volume

in the form of imports by triggering events, such as supply disruptions,

etc. So to say international purchases are mostly a reaction – a “defensive

measure” – to increasing competitive pressure with the goal of realizing

short-term cost reductions, quality improvements, access to technology,

and delivery enhancement. Imports may be managed through different

supply channels, e.g. interaction with a foreign supplier (Kaufmann,

2001). Imports may also be supported by setting up IPOs in key supply

markets (Leenders et al., 2002). In the case of Import Orientation the

company does not source from own intra-firm offshore sources as can be

seen from the lack of foreign value creation activities.

Local Sourcing Abroad is characterized by low intra- and extra-firm imports:

As it is integrated with foreign value creation activities it can be regarded

as a replication of Domestic Local Sourcing in a foreign market.

Strictly spoken, Local Sourcing Abroad is not Global Sourcing as crossborder

flows of inputs do not play a prominent role here. It is thus lacking

the extensive need for coordination of global purchasing requirements.

Nevertheless, setting up sourcing activities in a foreign market is part of

the internationalization of sourcing. Local Sourcing Abroad is often

driven by local opportunities such as low labor cost. Moreover, in many

foreign sales markets local content requirements make Local Sourcing a

mandatory prerequisite for profitable operations. However, it has been a

difficult task in many industries until today. Developing sourcing strategies

that “fit” foreign investment as well as local business strategies represents

a challenge not to be neglected (Kotabe/Zhao, 2002). Foreign supply

markets often were and in some cases still are not capable of meeting quality

or quantity requirements of foreign companies, which fuelled a development

of bringing along known suppliers from home markets (Kaufmann,

1995). In many cases Local Sourcing remains limited to the purchasing

of basic components and indirect materials. Technologically

complex purchasing items were or are still sourced and shipped from established

supply markets to foreign production and assembly facilities

(Kaufmann/Carter, 2000).

Finally, high levels of imports and foreign value creation require the

strategy of Integrated Global Sourcing: Globally dispersed value creation

and purchasing locations must be integrated and coordinated in the context

of Global Sourcing to unfold the full potential of Global Integration. The

key challenge is to coordinate company-wide demand to maximize purchasing

power while simultaneously addressing all relevant supply markets

in order to solicit the best possible quotes (Hausmann/Kaufmann,

2002). The integration of different functional requirements in the course

of the Integrated Global Sourcing process addresses the need for a crossfunctional

perspective on sourcing.

Arnold (2002) underlines the importance of viewing Global Sourcing

not as an isolated strategic concept but combined with organizational implementation.

He approaches the question of organizing Global Sourcing

from a transaction cost perspective and proposes three distinct organizational

designs: a hierarchy approach, a market approach, and a hybrid approach.

The hierarchy approach requires to centralize control over purchasing

spend in order to reduce internal coordination and transaction cost.

However, Arnold recommends this approach only to companies that have

little international activities, which is not the case for Global Integration.

The market approach may be especially attractive for highly internationalized

companies with a low degree of centralized control. For companies

that need to exercise central control while leveraging their global capabilities

Arnold recommends a hybrid approach, which is designed to combine

the benefits of hierarchal control and autonomy (market) for the best of

global coordination. This approach is needed to overcome the challenge of

concurrently pooling demand (central control) and assuring global supply

market reach (autonomy).

The next question is then how to create processes that support such a

hybrid-coordinative approach to Global Sourcing. Hausmann and Kaufmann

(2002) recommend a flexible but disciplined Global Sourcing process,

which consists of four main steps:

− First step: Local Purchasing Teams (LPTs) are appointed to specific regions

(or purchasing items).

− Second step: Lead Buyers or Corporate Supply Management pool demand

for pre-determined items.

− Third step: The information on purchasing requirements is transferred to

LPTs, who sent out Requests-for-Quotation (RFQs) to suppliers in their

respective regional supply markets. In the course of a competitive bidding

process offers are compared to quality and cost targets.

− Fourth step: A Central Sourcing Committee (CSC) makes the final decision

concerning supplier selection. Before this decision is reached several

negotiation loops may take place.

Figure 4 illustrates the structure of the Global Sourcing process.

Corporate SCM

(CSCM) or Lead Buyers

(LB) pool demand

across plants/divisions

Info transferred to LPTs

who send out RFQs in

their region

Corporate Sourcing

Committee (CSC)

decides final supplier

selection

Local Purchasing

Team (LPT) appointed

for each region

CSCM/LB

CSC

LPTs LPTs

Corporate

demand

Figure 4: Generalized Global Sourcing Process

At Germany’s prominent carmaker Volkswagen (VW) such a Global

Sourcing process was successfully installed. Through process standardization

and obligatory participation, weekly meetings of the CSC, and joint

decision-making it was possible to improve the effectiveness of Global

Sourcing. Purchasing responsibility was given to production locations,

which are assisted by the LPTs. These locations and the LPTs were integrated

into the sourcing processes across the entire group. The LPTs were

established in key sourcing areas and used their local procurement skills

also for analyzing trends and innovations, carrying out surveys, establi-

shing the supply base, and acting as the first point of contact for new suppliers.

The importance of the cross-functionality of the Integrated Global

Sourcing process must be clear to all parties involved. Only by integrating

other functional groups, such as research and development, logistics, production,

etc. early in the sourcing process, will it be possible to realize

many of the potential benefits of Global Sourcing (Arnold, 1990). Setting

up cross-locational sourcing teams is a common practice to improve coordination,

which is the central prerequisite for the pooling of purchasing

demand. Cross-functional teams improve the integration of purchasing

needs across functions, which is the prerequisite for supplier involvement

in the new product development process and thus a key to managing purchasing

cost as long as they are not fixed in a final design. Furthermore,

teams also create continuity in buyer-supplier relationships and thus help

to build trust as the potential negative effects of fluctuation can be reduced

(Kaufmann/Carter, 2000). Other approaches to supporting the integration

of supply management with other functional groups and suppliers are: extensive

top management support, i.e. in the form of regular meetings with

all parties involved in the cross-functionally integrated process (Petersen/

Frayer/Scannell, 2000), the use of sophisticated purchasing-related ITsystems,

which lower the costs of communication and transaction (Kaufmann/

Carter, 2000), and the proactive development of capabilities that enable

the persons involved in the process to work together efficiently and

effectively, e.g. job rotation programs, intercultural and language trainings

(Menze, 1992).

Typically, the main focus of sourcing strategies is still on cost reduction.

 The internationalization of sourcing assists this goal in different

ways. Expanding the supply market gives access to more and usually also

cheaper suppliers. However, applying a total cost perspective may reveal

that fewer international sources than expected offer really advantageous

conditions. Supply market expansion may also reduce cost by introducing

competition to the local supply base or by giving access to better quality

purchasing items. Import Orientation and Integrated Global Sourcing benefit

from this effect. Local Sourcing Abroad may lead to finding cheaper

suppliers as compared to the home market but the expansion of the supply

market is by definition limited to one additional market. The second approach

to cost reduction is the worldwide coordination and pooling of purchasing

volumes which leads to higher purchasing power and – hopefully

When talking about cost we refer to purchasing cost and not the cost of performing

purchasing.

– better negotiation results. This second effect can only be realized by Integrated

Global Sourcing.

Certainly, there are not just potentially positive effects of internationalization.

There are two kinds of hurdles that correspond to the dimensions

of the framework as depicted in figure 3. The first, trade barriers, includes

such frictions as tariffs, quotas, national regulations, transportation, communication

costs, and search cost as well as specificity in terms of heterogeneous

market preferences. The second hurdle, barriers to foreign value

creation, includes the difficulties of transferring knowledge and complexity

of managing a dispersed organization.

It is important to understand that the supply management function is not

independent in shaping its International Sourcing Strategy. Focusing on

Domestic Local Sourcing or expanding the supply market by following the

Import Orientation approach represent decisions that are mainly driven by

supply management considerations. But when corporate management decides

to replicate or disperse value creation steps, supply management will

need to accommodate such a change. Some of the following examples will

show that any upward movement in the framework as depicted in figure 4

is originally determined by decisions outside supply management. On the

other hand this close connection of international expansion strategy and international

sourcing strategy shows the importance of involving supply

management in this kind of strategic decision-making.

Approaches to international sourcing mainly driven by supply management

decisions:

− Domestic Local Sourcing may support a National Focus approach by assuring

proximity or even co-location between buyer and supplier(s),

which can foster innovation success in R&D-intensive businesses.

− Import Orientation may help to counter limited capacities in the domestic

supply market or price pressures in the domestic sales market, which

may be obstacles for a successful National Focus approach.

− Domestic Local Sourcing in combination with Export Orientation offers

the buying company to potentially benefit from economies of scale realized

by the supplier.

− Import Orientation may be needed to fulfill countertrade agreements or

natural hedging needs, which can be a result of Export Orientation (for

an overview of possible countertrade agreements please refer to Monczka/

Trent/Handfield, 2002, p. 357-360).

International sourcing approaches mainly driven by corporate management

decisions related to the positioning of value creation steps:

− Local Sourcing Abroad becomes necessary, when a Business Transfer

strategy is pursued.

− Supply management will need to implement an Integrated Global Sourcing

approach, when corporate management decides to disperse value

creation steps while establishing close links between these steps.

So far, we have discussed two important dimensions of the international

expansion of sourcing activities: (1) the location of value creation steps to

be supported by and integrated with sourcing activities and (2) imports,

which represent resource-interdependencies between different locations.

Now we would like to raise the issue of ownership. As figure 5 shows,

adding ownership to our framework provides us with four variations of the

described sourcing strategies.

Local Sourcing Abroad

Domestic Local Sourcing Import Orientation

Integrated Global Sourcing

Domestic

Domestic Abroad

Supply Sources

Abroad

Procurement Process

Outsourcing Abroad

Domestic Procurement

Process Outsourcing

Import Partnering

Global Sourcing Spin-off

100 %

Ownership

0 %

100 %

Ownership

0 %

100 %

Ownership

0 %

100 %

Ownership

0 %

Location of

Value

Creation to

be

supported

by

Sourcing

Figure 5: International Sourcing Framework

Outsourcing Domestic Local Sourcing to a third party creates the case of

Domestic Procurement Process Outsourcing (PPO). Domestic PPO is feasible

when processes can be standardized and do not relate to the sourcing

of strategic items. Companies that apply outsourcing free up resources to

A Novel Framework for International Sourcing 137

focus on strategic sourcing projects and may benefit from economies of

scale realized by a third party procurement service provider.

Import Partnering corresponds to the strategy of Import Orientation outside

the firm. Experienced import agents take over the main part of the international

sourcing activities. In this case we also speak of indirect imports.

Although sourcing through an import agent may actually represent a

national purchase for the buyer – which is the case if the agent is located in

the same country – it is different in terms of supply risk, which is a result

of the underlying cross-border trade. Import Partnering may be an attractive

alternative to Import Orientation in the early phases of foreign supply

market development as required management capacity is reduced and external

know-how is provided by the agent (Leenders et al., 2002).

Procurement Process Outsourcing Abroad is again a replication of the

domestic case. Outsourcing the local procurement function or procurement

processes in a foreign country to a (local) third party service provider

may give access to crucial market know-how and accelerate the build-up

of foreign value creation activities.

Taking into account the complexity of outsourcing of Global Sourcing

this option may seem infeasible at first. How could the tasks of coordinating

and integrating be handed over to a third party? A possible way of

outsourcing Global Sourcing (or parts of it) is to create a spin-off of the

Global Sourcing function. Global Sourcing activities would then be

“bought” by the firm’s businesses. By spinning-off and not simply outsourcing

to a “regular” third party some of the complexity involved in such

a procurement outsourcing decision could be eliminated, as a spin-off is

more likely to understand the specific needs of coordination and integration

(Kaufmann/Buchholz, 1998). Siemens Procurement & Logistics Services

(SPLS) is a well-known example of a spin-off that today serves customers

within and outside the Siemens corporation.

2. Application of the International Sourcing Framework

to the Emerging Chinese Supply Market

In this chapter we will first give a brief overview about the development of

the Chinese supply market in general before applying the International

Sourcing Framework and deriving requirements for the implementation of

different forms of China Sourcing.

2.1 The Chinese Supply Market

The popularity of China as a location of export processing facilities and a

source for both components and finished goods bound for overseas markets

is well known. According to the Federal Statistical Office German

imports from the People’s Republic of China (PRC) grew by 17.3 percent

in 2003 as compared to the previous year to reach an annual total worth of

€25 billion. Since 1998 imports from the PRC to Germany have been

growing on average by 17 percent per year, which made the PRC the biggest

low cost country importer into Germany. The Chinese government

reported that overall exports grew by 35 percent in 2003 to approximately

$438 billion. This development of exports shows that Chinese manufacturers

continue to improve their capability of accommodating the needs of

foreign buyers. One third of U.S. imports come from low cost countries

such as China, whereas in Germany only about a sixth of total imports can

be attributed to low cost countries. 4 This gap shows the high probability

of a further increase of China-related sourcing activities of German companies.

As these figures only give a first, general impression of the dynamism

in the Chinese supply market a more detailed analysis is required.

When evaluating the attractiveness of the Chinese supply market four

main criteria have to be taken into account: cost structures, performance

characteristics, structure of competition, and market specific risks:

2.1.1 Cost

Cost is the one all-important factor that gives China its advantageous position.

The low labor costs, which have attracted significant foreign direct

investment (FDI) in the past, seem to remain sufficiently attractive to

guarantee investments in the future. High estimated unemployment rates,

as well as strong migration movements from the interior parts of China to

the industrialized coastal areas and overcapacities in some industries, slow

down the convergence of salaries. The current wage level ranges around

4-8 percent of the German wage level. However, well-educated engineers

and managers receive much higher salaries. Labor productivity in China is

competitive due to high technological standards and more working days

per year as well as lower levels of absenteeism. Non-wage labor costs and

taxes are lower than in Germany. Anecdotal evidence showed savings of

up to 45 percent for purchases of electronics, ceramics, and castings.

2.1.2 Performance

Chinese factories are now steadily producing export-quality electronics,

machinery, and appliances. The educational level of the Chinese work

force is constantly increasing. The annual number of graduates in engineering

is far higher than in the U.S. The high amount of FDI and the

well-qualified but relatively cheap manpower make China increasingly attractive

for the offshoring of production and product development.5

Knowledge and competencies in several special industries – among them

automotive, high technology, apparel, and consumer products – add to

China’s advantageous position. The accession of the World Trade Organization

(WTO) and investments in infrastructure and electronic communication

systems (e.g. Enterprise Resource Planning systems) create the

foundation for a further positive development in the future. Nevertheless,

supplier and quality management were identified as two of five main problem

areas for manufacturing companies in a cross-case analysis carried out

by Zhang and Goffin (1999). The importance of the quality issue is also

reflected by the order of selection criteria applied by foreign manufacturers

in China: First quality, then delivery and only then price. Especially variability

of quality posed significant problems. The absence of competent

suppliers sometimes renders it impossible to meet local content requirements

(Kaiser, 1998).

2.1.3 Competition

The intensification of competition in most Chinese markets is another

widely known fact. However, as a the booming Chinese economy is characterized

by high capacity utilization rates in many industries some suppliers

are in the comfortable situation of having immense bargaining power

and thus refuse to negotiate volumes below a certain minimum level. The

WTO accession has fuelled another interesting development: A virtual

flood of medium and small foreign manufacturers is moving capacity to

the PRC in order to cut costs and follow the relocation moves of their major

customers. Issues of intellectual property protection and supply reliability

are increasingly solved by means of acquiring high quality Chinese

suppliers. As a result the number of capable suppliers is growing quickly

in many industries. Consequently, the intensity of competition in the Chinese

supply market, which impacts on the relative bargaining power of the

buying organization, has to be analyzed on a case-by-case basis. The in-

fluence of state-owned-enterprises is another important aspect that has to

be taken into account.

2.1.4 Risks

Kaufmann (2001) recommends analyzing the additional risks of sourcing

from a foreign market along four axes: economic, communication, sociocultural,

and political-regulatory risks. Discussing all risks of sourcing

in and from China in depth would certainly surpass the possibilities of this

article. Hence, we content ourselves with briefly naming the most prominent

risks involved:

− Lead time extension, e.g. it takes six weeks on average to overcome the

distance between Shanghai and Hamburg,

− the underdeveloped Chinese infrastructure still leads to logistics delays,

− unforeseen increases in transportation cost, e.g. ocean freight container

prices have surged in recent months,

− integrated Supply Chain Management is often not applicable due to the

lack of IT-Infrastructure,

− long term currency risk (currently the Renminbi is pegged to the Dollar),

− intellectual property protection is hardly enforceable, therefore extensive

due diligence and ongoing monitoring become necessary,

− missed quality standards (as described above),

− language barriers (although English is the business language spoken in

China),

− higher search costs due to lacking information infrastructure, e.g. market

data about potential suppliers,

− cultural problems, difficult access to Chinese decision-makers due to

lacking Guanxi6,

− regulatory system is at times opaque, if not even arbitrary,

− and intervention by authorities, e.g. pressure to collaborate with a specific

supplier (Zhang/Goffin, 1999).

2.2 Three Approaches to China Sourcing

In order to determine the appropriate international sourcing approach for

China we have to determine the underlying driving factor. Is it an importbased

expansion of the supply market, primarily initiated by supply management?

Or is a corporate level decision of implementing a Business

Transfer strategy that requires the build-up of local sourcing within China?

Or is the corporate decision about applying Global Integration, which requires

the build-up of China Sourcing activities and their integration into

group-wide sourcing activities?

This last possibility of addressing China in the context of Global Integration

is far from being hypothetical: China’s importance as a sales market

is beyond question. Because of the lowering of trade and investment

regulations – e.g. in the course of the WTO accession – China has become

a more attractive candidate for locating value creation steps and hence, inclusion

in Global Integration strategy. Moving assembly or manufacturing

activities to China has proven to be an effective way to reduce cost for

many companies by exploiting locational advantages. With the increasing

capabilities of human resources new opportunities to relocate steps of the

value chain to China arise. Especially the offshoring of R&D-intensive activities

is becoming increasingly attractive.

Figure 6 shows the three possible approaches to China Sourcing and

highlights four transition steps.

Local Sourcing within China

(Intra-China Sourcing)

Imports from China

(Sourcing ex China)

Integrating China

Sourcing into Groupwide

Global Sourcing

Activities

Domestic

Domestic Abroad

Location of

Own Value

Creation to

be

supported

by

Sourcing

Location of Supply Sources

Abroad

Domestic Local Sourcing

A

B

Y

Z

Figure 6: Three Approaches to China Sourcing and Transition Steps

We will explore the requirements that have to be fulfilled in order to progress

from the case of Domestic Local Sourcing to Imports from China (A)

and/or Local Sourcing within China (Y) as well as to progress from these

cases to integrating China Sourcing into group-wide Global Sourcing activities

(B, Z). The focus will be on transition steps B and Z, because establishing

this level of China Sourcing supports the implementation of

Global Integration. We will describe the transition steps by three categories

of requirements for designing sourcing activities in China: organizational

infrastructure, purchasing information systems, and personnel capabilities

(Monczka/Trent, 1992; Kaufmann/Carter, 2000).

2.2.1 Case A – the build-up of Sourcing ex China

Using China as a supply source is especially interesting for items with a

high labor cost content and low demand variability (e.g. used in many

product lines). Technologically mature items are also interesting as maturity

reduces the potential detrimental effects of the violation of intellectual

property rights. Sourcing high volumes that appeal to high quality suppliers

facilitates leveraging the potential of the Chinese supply market. In order

to communicate with suppliers and send out RFQs the buyer will need

to formulate purchasing requirements and specifications that match the

technical and language standards in the Chinese supply market.

The requirements concerning the organizational infrastructure depend

on the chosen supply channel for importing. The three main alternatives

for importing from China are: using direct suppliers, setting up International

Purchasing Offices (IPOs), or outsourcing to a service provider

(Burt/Dobler/Starling, 2003). Appointing a domestically located buyer for

importing directly from Chinese suppliers offers the cost reduction potential

of cutting out middlemen but requires investment in travel, communication,

and logistics. Considering the significant risks involved in working

with suppliers from emerging markets across long distances without means

of control or assistance, this option can only be recommended for uncritical,

standard purchasing items. To respond to this problem of lacking control

and communication with the local Chinese supply base an IPO can be

set up. The proximity of the IPO to the supply base should improve the

flow of information and help to build up local market expertise in terms of

optimal purchasing processes and reliable suppliers and thus benefit the

sourcing process through continued learning. IPOs may engage in supplier

development efforts if necessary. However, anecdotal experiences show

that Chinese suppliers may be very reluctant to accept the offer of participating

in supplier development programs, as they fear knowledge leakage.

Although it is common practice that IPOs charge a markup of around two

percent on purchase price, additional corporate funding will be necessary

to cover the cost of operating in the Chinese supply market (Goh/Lau,

2002). Search cost, staff training, and quality inspection cost are likely to

be higher than in more developed supply markets. Outsourcing the actual

China Sourcing activity to service providers such as import merchants,

commission houses, agents, import brokers, or trading companies may add

significant cost but in return eliminate unforeseen problems or mitigate

risk, especially concerning logistics.

Import Orientation activities in China can be effectively supported by

IT-systems and E-Commerce applications such as an own purchasing website

in English and Chinese language, which enables Chinese suppliers to

contact the potential importer proactively. Moreover, use should be made

of B2B-plattforms for China Sourcing. IT is also needed to support the

complex logistics within China and overseas shipments. The demands on

personnel capabilities depend on the purchased items. If imports are limited

to uncritical standard items, the need for highly specialized personnel

is low. On the other hand complex purchasing items result in complex negotiations,

which can only be mastered by competent staff that is able to

handle cultural challenges, language barriers, risk management, business

and technical issues.

2.2.2 Case Y – the build-up of Intra-China Sourcing

The start of manufacturing activities in China to exploit factor cost advantages

may require the build-up of local sourcing activities. Especially standard

direct and indirect materials need to be sourced locally to avoid high

cost of transportation. The big difference as compared to Sourcing ex

China is that Local Sourcing within China aims at supplying operations

with all required inputs, whereas Sourcing ex China represents “cherrypicking”.

The scope of purchasing activities to be covered by the local

purchasing staff is thus broader than for an IPO for Sourcing ex China.

Kaiser (1998) describes the gradual implementation of local sourcing activities:

In the case of Braun Electric (Shanghai) Co. Ltd in the beginning

of operations sand had to be imported from Germany to perform sandblasting

for molding. Volkswagen Shanghai required about ten years to move

from importing standard kits to close to one hundred percent local content.

This was achieved by establishing precise standards, bringing in home

country suppliers, choosing adequate locations, and monitoring logistics

closely (Story, 2003). In terms of organizational infrastructure this means

that a local purchasing function is established that works closely with suppliers

and other functions such as engineering. IT-systems are needed for

market research and order tracking. Electronic data interchange (EDI)

technology is becoming more common with Chinese suppliers and may

thus be used to implement optimal delivery frequencies. Proximity with

Chinese suppliers opens up new possibilities for close collaboration. For

example Zhang/Goffin (1999) report of positive examples of successful

Western-Sino collaboration on innovation projects. Consequently, purchasing

staff needs a high level of technical expertise and cross-functional

skills. The local purchasing function has to be able to dedicate a significant

part of its time to careful supplier evaluations. Apart from quality and

reliability issues, the analysis of suppliers must focus on their potential to

achieve or sustain cost leadership. Suppliers that may develop into competitors

must be identified and eliminated from the selection process.

2.2.3 Case B and Case Z – the integration of existing

approaches to China Sourcing into the group-wide

Global Sourcing process

Managing this transition needs top management commitment, e.g. in the

form of regularly scheduled meetings of corporate and business unit executives

with purchasing managers, which represent an excellent opportunity

to jointly discuss the progress of implementing Global Sourcing. Issues

of coordination and integration thus receive high visibility and supA

Novel Framework for International Sourcing 145

port, which is crucial for successful transition (Palaniswami/Lingaraj,

1994).

The prerequisite for the integration of a new supply market into an existing

Global Sourcing process is the systematic stabilization of the existing

sourcing process in that market. Stabilization means that LPTs must be in

place that have a sound understanding of the local supply market and that

dispose of sufficient resources to carry out the important tasks of supplier

pre-selection, quality control, and supplier development (including monitoring).

Existing IPOs and/or Local Sourcing staff take over the role of LPTs in

the Global Sourcing process. The Chinese LPT should report directly to

corporate purchasing. Its major tasks apart from representing the “one

face to the supplier” include: spotting adequate suppliers in the assigned

regional supply market, manage the RFQ process, keep track of shipments,

carry out or assist negotiations, support information exchange between

buyer and seller, dedicate resources to problem solving related to engineering,

design and quality (Monczka/Trent, 1991). A representative of China

Sourcing has to be included in the Central Sourcing Committee (CSC). In

the CSC representatives of the different global purchasing locations get together

and jointly define a strategy for the commodity, product group, etc.

and decide on appropriate suppliers. Thus, knowledge about the Chinese

supply market is exchanged and taken into account when selecting items

for Global Sourcing initiatives.

Acting as a gatekeeper to the group-wide sourcing network, the Chinese

LPT needs technical equipment for quality control, e.g. laboratories. Carrying

out reliable quality control locally represents an enormous advantage.

The risk of discovering quality problems only at the manufacturing

site and thus incurring significant costs of delay or even downtime can

thus be eliminated or at least reduced significantly. Quality standards for

purchasing items must be tested with the same reliability across all purchasing

locations before these items enter the Global Sourcing process.

Costly duplication of quality control efforts could thus be avoided, too.

The existing (local) IT-systems must be integrated with the worldwide

purchasing information system in a way that international purchasing locations

become interlinked and thus able to efficiently share information

concerning material requirements among each others, functions, and suppliers.

Setting up such a sophisticated information system is problematic

due to several obstacles, e.g. the high set-up cost involved may be regarded

as reducing the independence of the buyer (Kaufmann/Carter, 2000), compatibility

of diverse software standards, the lack of reliable data input in

many intransparent supply markets, and data protection issues. Due to the

underdeveloped IT-infrastructure of some Chinese suppliers this element

of integration may represent a major challenge. However, investments in

appropriate IT-systems by Chinese companies have been rising constantly

through recent years.

The need for sophisticated international sourcing skills increases with

the complexity of the item-related purchasing process which is reflected in

more complex negotiations including, co-development projects, incoterms,

etc. (Kaufmann/Carter). Furthermore, LPT members need to develop more

profound strategic capabilities. They have to develop the local supply base

in the context of a global supply strategy. Training programs and employee

reward systems are considered to be a way to develop the necessary skills

(Petersen/Frayer/Scannell, 2000). Job rotation may be applied to foster the

ability to work in cross-functional teams.

In order to give the LPT the necessary time to establish a stable and

transferable sourcing process it seems recommendable to initially keep

China Sourcing out of the Global Sourcing process and manage it separately.

One-time projects on selected purchasing items can be used to test

the transferability and gradually approach full integration. Such projects

will allow learning effects at relatively low risk.

Figure 7 summarizes the main requirements for the four transition steps.

Transition

steps

Transition

requirements

A

From Domestic

Local Sourcing

toImporting

from China

Y

From Domestic

Local Sourcing

to Local

Sourcing within

China

B, Z

From Importing

from China/

Local Sourcing

within China to

integrating

China in the

Global

Sourcing

process

Organizational

infrastructure

IT-Systems/

E-commerce

Personnel

capabilities

I. Buy directly from suppliers

II. Set up IPO in China

III. Source through 3rd party

service providers

English/Chinese Website

B2B-Plattforms

Track shipments

Development of Chinaspecific

skills (culture,

language, risk mgmt.)

depending on complexity of

purchases/need for

interaction

Set up local purchasing

function that collaborates

with other local functions

and suppliers

Closer collaboration

requires technical and

relationship-building skills

as well as sophisticated

supplier selection

Set up LPTs or transform

existing IPOs/local

purchasing function

Install China representative

in Corporate Sourcing

Committee

Regular review meetings

with top management to

assure progress of transition

If necessary, adapt China

Sourcing data base to

group-wide standard for

purchasing information

Integrate Chinese data base

with group-wide purchasing

information system

Process RFQs

Focus on cross-functional

skills

Provide resources for

reliable quality inspection

Ability to develop local

supply base in the context of

global strategic perspective

English/Chinese Website

B2B-Plattforms

Track shipments/ Use EDI

to coordinate deliveries

Figure 7: Requirements for Transition of China Sourcing Approaches

3. Conclusion and Outlook

In this article we have presented a novel framework for the classification

of internationalization strategies for sourcing and how these sourcing

strategies relate to the overall internationalization approach of the company.

Thereby we have identified Integrated Global Sourcing as the most

promising way of supporting the current trend of Global Integration. Challenges

of implementing Global Sourcing were addressed with the example

of the emerging Chinese supply market.

The presented framework provides top management and purchasing executives

with a helpful tool to clarify their approach to the internationalization

of sourcing. If they can identify the appropriate way of supporting the

overall internationalization of the company, they will be able to determine

the necessary sourcing processes and capabilities to be developed. Management

should try to anticipate the future need and path of international

expansion and include these analyses in their planning.

When developing an emerging supply market executives should take

into account the specific challenge of “enabling” this market to become

part of the Global Sourcing process. Stabilizing the sourcing process in

this emerging market is the key task to be addressed.

Research concerning the internationalization of sourcing activities is in

a development stage. Empirical research is much needed to further explore

the issues raised in this article. The most urgent research topics include the

empirically founded verification of the proposed framework of international

expansion strategies for sourcing and further exploratory research on

the design of Global Sourcing processes. Especially mid-size MNCs seem

to be attractive for empirical research as many of them are in a current

move towards Global Integration and Global Sourcing, whereas big MNCs

may have completed these moves already and interview partners are likely

to have changed positions.

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