Every year, supply chains are plagued by numerous risk factors that can disable operations and frustrate internal processes. Some global events, like the pandemic, create circumstances that are nearly impossible to ignore – around 73% of companies across the world experienced supply chain disruptions in 2020.
Yet, many of the leading procurement risk factors are easier to identify ahead of time. Effective procurement risk factor management allows businesses to mitigate disruptions and construct a resilient supply chain.
Source – Factors contributing to supply chain issues.
With economic, environmental, political, and labour procurement risks across the entire supply chain, businesses need to understand how to best manage and overcome them. Without effective supply chain procurement risk management, a business could face operational disruptions, reputation damages, and an increase in business costs.
In this article, we’ll explore procurement risk, outlining the common sources of risk in the modern supply chain, as well as leading strategies for effective procurement risk management.
What Are Procurement Risks?
Procurement risks are any potential factors in a supply chain which can directly impact a company’s operations, reputation, and financial health. Risks could vary from logistical failures that interrupt delivery to a failure to comply with certain regulations, leading to business fines.
Simply put, procurement risks are any factors that could cause your products, raw materials, or resources to fail to deliver. Major supply chain procurement disruptions can occur seemingly out of nowhere—supply chain disruptions like COVID-19 and the war in Ukraine caused a total loss of over €920 billion in 2021 and 2022.
While certain procurement risks are less predictable, the vast majority are factors that companies can identify, prepare for, and mitigate ahead of time. Here are some of the most common types of procurement risk:
- Supply chain disruptions: Procurement risks in the most traditional sense relate to supply chain disruptions, like logistical errors, shortages, and shipment delays. All of these issues can halt the production of your products and impact your delivery schedules, increasing the likelihood of missed shipment deadlines and customer dissatisfaction.
- Financial risks: Price volatility, radical currency fluctuations, and credit risks can serve as prominent procurement risks. Without effective planning, businesses could face major financial repercussions.
- Compliance risks: Compliance risks emerge when your business or a supplier fails to meet the regulatory compliance frameworks that are set by your industry or the geographical area in which you operate. Failure to meet compliance obligations can result in legal repercussions and even the inability to place goods on certain markets.
- Operational risks: Operational risks are another extremely common type of procurement risk. These relate to human errors, process failures, and other inefficiencies that disrupt day-to-day operations. While you can create failsafe mechanisms, you cannot eradicate operational risks entirely.
- Strategic risks: Some procurement risks stem from poor organisational planning and decision-making. Badly managed contracts, a lack of innovation, and a misalignment between supplier and company goals can create disruptions.
Any one of these typical procurement risks can fracture a company’s supply chain, severely reducing its ability to operate efficiently and generate profi
Common Sources of Procurement Risk
Procurement risks typically stem from a few select sources. Each of these sources can create problems in a certain area of a company’s supply chain, impacting its ability to keep up with demands and deliver products at an expected rate.
There are five central sources that cause the majority of procurement risk in a supply chain:
- Supplier reliability: A supplier’s general reliability is a reflection of their ability to consistently deliver goods or raw materials in a timely manner. When businesses rely on a small handful of suppliers, any failure in this chain can create a disaster event for the supply chain. To avoid supplier reliability issues, businesses should diversify their portfolio of active suppliers, thus reducing dependency. Businesses can also conduct extensive supplier risk analysis to determine which suppliers are more susceptible to failure.
- Market volatility: Financial causes can underpin many of the central procurement risks that a business may face. Rapid shifts in market prices or economic conditions that are out of the hands of a company can shift purchase and distribution costs and impact a supply chain’s stability.
- Regulatory changes: Changes in regulation or new legislation coming into force can radically shift the obligations that a company has to comply with. For example, the recent EU Deforestation Regulations for Sustainable Trade will significantly affect the products that businesses in the EU can put onto the market. Businesses must understand the regulatory landscape and make changes ahead of time to avoid these alterations becoming a procurement risk.
- Natural disasters: Natural disasters result in losses of over $200 billion USD each year, with major events significantly impacting a supplier’s ability to produce resources and move supplies through an area. Especially if suppliers are located in regions prone to natural disasters, it’s advisable to diversify contracts to include providers in more stable areas.
- General instability: Economic and geopolitical instabilities worldwide are factors that can contribute to supply chain disruptions. Economic fluctuations, recessions, and political instability can affect the procurement process and disrupt planning. Monitoring instability is crucial for businesses conducting supply chain risk assessments.
Across the board, these five sources cause the vast majority of supply chain disruptions. However, if a business understands each source, it can take proactive steps to decrease their potential impact on its supply chain.
Importance of Procurement Risk Management
Effective procurement risk management significantly reduces both the likelihood and the impact of a disruption event. By enhancing visibility into a company’s supply chain, organisations can better understand the potential risk of each supplier—and take steps to mitigate threats ahead of time.
Procurement risk management is vital as it provides the following benefits to a business:
- Cost savings: On average, in the USA, a supply chain disruption will cost around $228 million. By conducting risk assessments and identifying risks ahead of time, businesses can prevent costly disruptions, reduce wastage, and optimise procurement spending.
- Operational continuity: Businesses that invest in risk identification and management can reduce the likelihood of disruptions occurring. Effective procurement risk management provides a level of preparedness that minimises impact on operations and helps businesses maintain delivery schedules.
- Reputation management: When customers don’t receive products on time, they begin to feel dissatisfied with a business. Maintaining a reliable supply chain will help to build trust with a company’s base of customers and enhance the organisation’s reputation over time.
- Strategic advantage: Companies with a strong and stable supply chain will have a significant advantage. When disaster strikes, your company’s level of preparedness and supply chain resilience will put you in a favourable position, giving you a competitive edge.
Your supply chain impacts the entire business. If a company is unable to produce or deliver products, no matter how well marketing or sales are performing, it will reach a standstill and will be unable to generate profit. Protecting your supply chain with procurement risk management will create a more stable foundation for your business.
Strategies for Effective Procurement Risk Management
Effective procurement risk management begins with achieving full and comprehensive visibility across your supply chain. Without transparency in your internal processes and supplier operations, your business cannot identify risks and develop strategies to mitigate them.
Building strong relationships with suppliers and investing in technological solutions that offer visibility into deep tiers of your supply chain, such as Prewave, will help establish a robust foundation for enhancing procurement risk management strategies.
As the technology sector continues to advance and innovate, we can expect to see more strategies emerging in the future. For instance, AI in procurement is already becoming a primary tool for predictive analytics and demand forecasting. Similarly, there is a rising demand for sustainable procurement practices, which will increasingly influence the strategies adopted by companies.
That said, to help supply chain businesses prepare for future challenges, here are some of the leading procurement risk management strategies that your business can implement immediately.
Risk Assessment
Regularly conducting risk assessments on suppliers is one of the most important strategies to employ when working toward effective procurement risk management. Risk assessments will help to identify potential vulnerabilities in a company’s supply chain – whether that’s a mounting political circumstance in a supplier’s country or the shifting price of oil.
Identifying risks as early as possible through thorough risk assessment gives companies the ability to proactively react and define effective mitigation strategies. Additionally, businesses can categorise risks into different levels based on the likelihood of their impact on the business. This allows companies to prioritise actions and address the most critical risks promptly.
Supplier Management
Building relationships with suppliers is another effective component of maintaining a resilient supply chain. By fostering close connections with your suppliers, you can establish a higher level of transparency.
Transparency with your suppliers also helps identify areas where it might be advantageous to establish a network of secondary or backup partners. Creating a diversified pool of suppliers eliminates single points of dependency in your supply chain, thus mitigating risk. Even the most reliable supplier can encounter unexpected challenges. Diversifying suppliers reduces this risk significantly.
Technology Integration
New technologies are vital to the constant improvement of your supply chain. As we mentioned before, AI in procurement is rapidly becoming a favoured technology for analytics and prediction. Beyond this, the ability of ML tools to analyse vast quantities of data can also turn toward risk assessment and detection. Levels of risk rarely stem from one factor. By computing millions of distinct data points across all sources of risk generation, ML tools can better identify suppliers with a high-risk profile.
Compliance Monitoring
Compliance is the cornerstone of effective supply chain management. Operating within a country or broader region such as the EU requires thorough awareness and adherence to local regulations. Without comprehensive compliance monitoring and adaptation, businesses risk facing substantial fines or being unable to continue operations in a market.
Beyond just keeping your own company up to date with emerging regulations like the CSDDD and the CSRD, you should also extend this monitoring to your suppliers. Conducting audits ensures that your suppliers are also compliant with the necessary regulations.
Crisis Management Planning
Crisis management planning allows a business to directly identify the steps it will take if a disaster occurs.
Whether that disaster is a cyberattack or a supply chain disruption, a comprehensive contingency plan will let leadership and employees know exactly how to act. Training your staff to understand and implement the strategies you outline in these contingency plans will make for a highly effective threat response.
While these other strategies should help to mitigate the chance of a disruption occurring, crisis management will keep you covered even if they do occur.
Final Thoughts – Moving Toward Successful Procurement Risk Management
Identifying and implementing effective procurement risk management strategies can lead to operational enhancements, cost-savings, and prevention of reputational damage for your business. The strategies outlined above will guide your business towards proactive supply chain management, fostering resilience moving forward.
Supply chain businesses can leverage Prewave to get advanced insight into supply chain operations and vendor risk levels. Our 360-degree risk assessment technology can identify risk outliers in your supply chain operation, recommending strategies to mitigate the risk and create a strong supply chain.
