In 1983, the world was introduced to The Kraljic Matrix. But is it still as relevant to procurement today?
September 1983: Peter Kraljic publishes an article that will deeply change both the working methodology and concept of many Procurement departments.
The article, published in the Harvard Business Review was titled “Purchasing must become Supply Management”. It introduced a concept that has been a key tool for procurement ever since: The Kraljic Matrix.
In this article, Kraljic advocated and argued for the need for profound transformation of the Purchasing Department into a much more strategic role. He included several examples of large organisations that had already done so, and achieved excellent results.
In order to support the required change to a more strategic role, Kraljic introduced a decision matrix. In this article, we will explain how the matrix works, and how organisations can apply it in their procurement department.
Defining The Kraljic Matrix
The Kraljic Matrix classifies the sourcing scope (also known as acquisition perimeter) from a company according to two factors.
1. Financial Impact
Measures the impact on both the manufacturing costs of the product and its impact on the profit margin.
Look at the example of manufacturing a Lego brick. Plastic would have a high financial impact, both because it accounts for most of the product cost, and because the current volatility of oil (the price of which impacts directly on plastic cost) greatly affects the profit margin.
2. Complexity of Supply
Sorts the market complexity to achieve a stable and uninterrupted supply. In this case, we must consider whether there are monopolies, logistic issues, volatility, or impact of technological changes.
An example of highly complex supply would be the chipset manufacturer for mobile phones Qualcomm. The company took over Intel and Nvidia, giving them a monopoly on the market, and the ability to refuse to supply certain organisations.
Whereas some organisations, like Samsung, chose to manufacture their own chipsets. However, not all companies can do the same.
By combining both factors, we produce a chart with four perfectly differentiated groups:
Standard commodities with an abundant source of suppliers. They are usually highly standardised, and easily available, products. Supply risk is low, though there is a high impact on costs and benefits. For example, plastic or raw material for Lego bricks.
These are critical products for a company, and are the key focus for the Procurement team. There is high risk against supply, and a high impact on cost. For example, the Qualcomm chipsets for mobile phones.
Those products that have a low impact on costs, and the supply of these is low in complexity. A good example would be, for example, standard screws in a computer factory.
These are products with limited source of supply. Their supply risk is high, but do not have a major financial impact. For example, an integral part of technology hardware, the power pack for a laptop.
Analysis and Strategy
Once you have classified the products, you can define the strategies to be applied on each group in order to optimise supply. While each item will likely have it’s own specific strategy, the categorisation in The Kraljic Matrix points to a common direction and goal for each, and shows common pros and cons for each group.
We are in a so-called “buyer’s market”. Because of this, we need to negotiate to achieve the best supply conditions from a dominant position. Procurement can do this through the use of tenders, reverse auctions, setting specific target prices, or framework agreements.
In this case, the need to mitigate risk is mutual between the supplier and the buyer. The goal here is to ensure long-term availability. Therefore, procurement needs to consider suppliers as an equal and look for a “win-win” negotiation that benefits both parties.
In these cases supplier development strategies, partnerships, and supplier innovation are recommended.
There are products with low economic impact and low complexity of supply. This makes them usually the lowest priority in a sourcing strategy.
Habitually supply agreements are negotiated based on high volumes, or Kanban type solutions are implemented. A good example is the screws in the computer factory described above. These would be bought in bulk, but have a variety of suppliers available in the market.
These are the opposite to Leveraged Items – we are in a “Supplier’s Market.”
In this case two parallel strategies must be followed. The first is to secure supply through framework agreements, providing for penalties for the supplier due to lack of supply while maintaining good relationships with existing suppliers.
The second, which should be done at the same time, is for procurement to work with R&D or Engineering departments to establish alternative products that can be used. This enables the organisation to reduce supply risk, turning bottleneck items back to non-critical items.
Some Advice to Heed
Although the information provided by The Kraljic Matrix may seem very generalised, it’s purpose is to help set up a basis of supply strategy.
By classifying sourcing activities using the Matrix, organisations can get a clearer picture of its available resources, priorities for negotiations, and objectives it wants to achieve.
The article wouldn’t be complete without some advice. The Kraljic Matrix is a dynamic tool – it changes, so it needs to be reviewed frequently. Markets have become more dynamic, and the supply situation can change significantly in short time periods.
Being able to adapt to these changes is a critical success factor for Procurement. Therefore the tools used to develop strategies must also be dynamic and flexible, which is why the Kraljic Matrix can provide great value for organisations.