Knowledge How To

Relationship Management

As the world becomes more

competitive, firms are increasingly
seeking more innovative ways to create
value and improve their levels of
efficiency and effectiveness

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Relationship Management - Knowledge How To

The Chartered Institute of Purchasing and Supply (CIPS) commissioned Professor Paul Cousins
at Manchester Business School to produce a white paper to discuss theories, concepts and
applications of inter firm relationship management.

1. Introduction
As the world becomes more competitive, firms are increasingly seeking more innovative ways
to create value and improve their levels of efficiency and effectiveness 1. Traditionally firms
have focused on improving their internal processes, in recent years this focus has changed and
increased attention has been centred on the management of the firm’s supply activities. Figure
1 demonstrates, by taking a simple systems view of the firm as an input, transformation,
output model how competition has changed over the last twenty years.

These paradigmatic changes have changed the way that firms think about managing their
internal and external organisational processes (both manufacturing and service industries)
consequently this has increased the visibility and importance of ‘relationship’ management.

Figure 1: the Development of Manufacturing Paradigms

2. The evolution of manufacturing paradigms and their effect on SCM

The 1980s (see Figure 1) witnessed a drive towards becoming what was known then as ‘world
class’. Enshrined within the world concept is the idea of benchmarking; measuring a firm’s
performance against what is termed the ‘best in class’. This method uses a range of
performance indicators to assess process capability. During this time period manufacturing
organisations in particular were under increasing pressure from Japanese manufacturers who
were producing better quality, lower priced products, with improved technology cycle times

1
Please note efficiency is how quickly a firm does something; effectiveness is how well a firm performs.

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and delivery schedules 2. In short, Western manufacturing with its inefficient production
systems, poor supply management, lack of a quality focus and ignorance of customer
demands, was simply unable to compete. The ‘wake up’ call came from the automobile
manufacturing industries who were one of the first sectors to feel the pressure of a more
‘globally’ based competitive environment. This was short lived as competition spread into
aerospace, construction, computer/technology industries and it is now prevalent in the service
sector. In short, Western business was under ever increasing pressure to improve its levels of
productivity, quality and performance.

In the 1980s academics and managers adopted what might be termed ‘if you can’t beat them,
join them’ approach to management restructuring. Studies of Japanese and Far East
manufacturing firms were conducted by a host of academics and consultancies in an attempt
to reverse engineer their success 3. The Toyota Production System (TPS) was hailed as the way
forward for UK auto manufacturing, along with a tidal wave of other techniques including the
adoption of “new” inventory management techniques such as Just-In-Time(JIT) 4, Total Quality
Management (TQM), cellular manufacturing and so on. The key focus here was improving the
‘transformation’ system i.e. the way goods and services are made and delivered. Whilst this
approach of the focused factory had some success, Western firms were still unable to
adequately compete with their Far East adversaries.

This lack of success is often attributed to several issues; firstly whilst Western firms
successfully copied Japanese manufacturing techniques, they focused more on the hard
systems issues i.e. procedures and less (if at all) on the softer cultural management issues. It
was these implicit management systems that were seen as the glue holding together the
successful Japanese manufacturing systems. In fact, Toyota and Nissan would offer tours to
their competitors of their plants, safe in the knowledge that their competitive advantage was
‘ambiguous’ i.e. difficult or even impossible to replicate 5. Secondly, and also associated to this
point, is the fact that all of these manufacturing transformation techniques require a supply
chain input e.g. JIT requires demand signal management, TQM requires working closely with
the supplier so that quality is built in as opposed to inspected into the system. Therefore, in
order to make the system work effectively and efficiently, it requires a combination of ‘hard’
techniques as well as ‘soft’ management systems, these should incorporate a focus on both
the transformation as well as the input systems.

The 1990s saw the resolution of this situation with the development of the lean
’manufacturing paradigm. Lean manufacturing grew out of the ideas of the Toyota Production
System (TPS) which was first introduced in the late 1940s; it translated the basic concepts and
techniques of TPS into a Western focus – the key issue with Lean was that it focused on both
the transformation process and also the input or supply side processes.

The Lean paradigm’s central philosophy can be summarised as ‘making more for less’. In
essence the concept is concerned with reducing waste, or muda as it is known in Japanese.
Five principles are espoused within the philosophy; value creation, the value stream, flow, pull

2
See Womack, Jones and Roos (1990)The Machine That Changed The World. Also see Lamming (1993)
Beyond Partnership for a detailed discussion on these competitive issues and their effect on the auto-
motive industry.
3
See Hines (1994) CreatingWorld Class Suppliers.
4
Just-In-Time was actually part of the Toyota Production System (TPS) design and was originally devel-
oped in 1947
5
This phenomenon is known as ‘causal ambiguity’ in the Resource Based View literature.

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and perfection. Within the concept of lean’s original development in the book “The Machine
That Changed The World” came the development of a second concept known as ‘Lean Supply’
which was developed and popularised by Richard Lamming in his book ‘Beyond Partnership:
Strategies for innovation and lean supply’. Here Professor Lamming discusses in detail the
concept and theory of ‘Lean Supply’ and how it applies to the automotive industry.

Lean Manufacturing and Lean Supply set the foundations in place for today’s businesses that in
the mid 1990s followed strategies of outsourcing, modularisation and supply chain
disintermediation as ways of focusing their businesses, improving value and reducing waste,
thereby increasing their customer base and making larger profits through increased sales as
well as cost reduction programmes. The story however does not end here. Whilst the ideas
espoused by the proponents of Lean and their more recent text ‘Lean Thinking’ have been very
well received by industrial practitioners and academics, globalisation and competition would
appear to be pushing firms to adopt and adapt to different organisational structures and
approaches.

The final paradigm (see Figure 1) occurred at the beginning of the 2000s and is currently seen
as a logical development of Lean. The word that probably best summarises the approach of
today’s leading firms is ‘responsiveness’. Firms in the 2000s in order to be able to compete on
the world stage have to be agile and responsive to market changes and dynamics. In the late
1990s new business models began to emerge that not only took account of an efficient
transformation and supply side process, but that also realised that they were supplying to an
end customer; something hitherto which was largely ignored. In the mass production systems
customers were seen as people who consumed what they were given, rather than having an
influence over the production process.

This type of close customer interaction would be more akin to ‘craft’ manufacturing e.g.
specifically tailoring the part for customer needs and wants; and this is expensive! These
customers were complicated, they had needs and demands. The old system of mass
production was not going to satisfy these customers. Increasingly customers were demanding
specific (or tailor made goods) at mass production prices; add to this the rise of the super
economies of China and India, with low labour rates and highly motivated workers, Western
firms were beginning to find themselves in a highly precarious position. This situation has
brought about strategies referred to as outsourcing and more specifically ‘offshoring’. In order
to combat these competitive pressures, to retain and grow their customer bases, Western
firms needed to find a new basis of competition. The business model that firms appear to be
adapting for the 2000s is known as Mass Customisation (MC).

The term MC is a tautology; it argues that firms need to produce on a mass production
platform, but tailoring their products for specific customer groups. Naturally, Henry Ford (the
father of today’s modern production line) would not have thought that this was possible – as
he famously once said, eloquently illustrating the flexibility of the mass process “…you can
have any colour you like, as long as it is black.” Unfortunately this inflexible approach is no
longer possible in today’s highly competitive world, firms now have to offer any colour, variety
or specification you want – the customer is king.

Companies such as Dell, Levi Straus, Nike, to name but a few, have embraced the mass
customisation (MC) business model with much success. Its secret lies in the ability of the firm
to break their product down into component modules, which can then be assembled in a
variety of ways to create new product configurations. There are a variety of degrees of MC
from partial modularisation to a fully modularised product. Naturally the extent of MC will

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depend on customer demands and the ability of the firm to be able to implement this
approach.

The implementation ability is not only concerned with the development of modules but also
the management of supply companies to deliver these modules. Furthermore, when firms
move from Mass production to Mass Customisation they will have to transition through a
supply base restructuring programme. This involves identifying key or ‘first tier’ suppliers who
have the capability to provide and coordinate the development of essential modules. As one
large auto manufacturer surprisingly commented when asked about supplier tiers and the
movement towards modularity“…if I knew then, what I know now, I would never have gone
through the process.” This attitude appears to be very at odds with the current thinking. The
literature would argue that the move to modularity and tier structures is a sensible strategy to
follow. However, on further investigation it was apparent that the move from a mass system
to an MC system is not at all easy from both a technical as well as strategic perspective.
Technically, the modules must be built in such a way that they are fully interchangeable.

The evolution of the manufacturing paradigms from a unitary focus on transformation to a

much more holistic business focus has dramatically increased the complexity of the
management process. Furthermore, it has increased the role that supply chain management
must play in organising and co-ordinating these complex business networks. Supply Chain
Management (SCM) has had to move away from a purely process role towards a much more
strategic network co-ordination process approach. In order for MC to operate effectively, firms
need to strategically manage their supply chain process. The change in manufacturing
paradigms has also focused firms on their ability to manage and co-ordinate supply. The trend
has been a movement towards supply base rationalisation resulting in fewer, but more
strategically powerful suppliers.

These suppliers (or indeed portfolio of suppliers) need to be managed strategically. This means
developing a clear understanding of how to manage inter (between) and intra (within) firm
relationships.

3. The move towards strategic supply chain management

Inter organisational networks have spread rapidly reflecting a shift towards a global business
environment, characterised by escalating R & D costs, increasing product complexity, reduced
product life cycles, difficulties in managing technological change and a greater amount of
resources and knowledge required to innovate. Firms have been forced to rethink the scope of
their organisational boundaries, with many using collaborative relationships with external
entities as a cornerstone of strategy.

This blurring of the organisational boundaries can be seen across many industries, for example,
in pharmaceuticals where close alliances are forged with major supplier partners to share the
costs of development and trials, the automotive industry and in the personal computing
industry. Since sources of innovation are not found exclusively within firms, but also at “the
interstices between firms, universities, research laboratories, suppliers and customers”
(Powell, Koput, & Smith-Doerr, 1996:118), relationships within a firm’s network, particularly
with suppliers, can become a valuable source of innovation and profits.

Supplier integration in new product development is one area of inter-organisational networks

that is receiving increasing attention in the literature. Effective supplier integration can lead to
vast improvements in quality, cost and new product development cycle times. Early

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participation of suppliers in the design process also helps firms select the best components
and technologies, and choose between different solutions and cost-performance trade-offs.
Although the internal processes associated with effective product development performance
have been investigated and empirically supported, there is comparatively little research
investigating the processes required to integrate external entities, such as suppliers, into the
new product development process. Further research is required to investigate these issues.

Indeed, despite being a relatively under-researched area empirically, supplier integration is

ranked as an increasingly important strategic issue for companies. The difficulties of involving
suppliers are particularly important in the context of knowledge based activities. The simple
involvement of suppliers in product development does not automatically guarantee that the
transfer of new knowledge and subsequent capability development will occur. New knowledge
is often fragmented, vague and widely dispersed throughout the organisation. Successful
integration requires processes which facilitate the utilisation, and transfer of supplier
knowledge, into the new product or service. High levels of supplier integration improves
coordination, increases interactions among various groups involved in the innovation process,
encourages joint problem solving, cross-learning and leads to successful technology
commercialisation.

4. The development of supply chain and relationship management

SCM is now well established within the literature and is becoming more recognised by firms as
a strategic business function. Whilst there are a variety of definitions used to describe what
supply chain management actually is, perhaps the most succinct definition is provided by
Lambert et al who refer to SCM as “…the integration of business processes from end user
through original suppliers that provides products, services, and information that add value for
customers” (p504). Lambert et al develop the argument that whilst there is a range of
definitions with varying detail, the common factors are supply chain actors or institutions, such
as suppliers and customers.

Further elaboration in the literature has led to the development of the definition of ‘strategic
supply’ management. Ellram and Carr (1994) point out that the literature takes three distinct
themes: First, specific strategies employed by the purchasing function; second, purchasing’s
role within those strategies; and lastly, purchasing as a strategic function within the firm. This
research found that whilst there was a reasonable amount of literature on the subject most of
it was of a conceptual nature and lacked empirical rigour. In a recent paper Tan (2001)
explores the development of the supply chain literature and argues that there is a convergence
of two areas: logistics and purchasing. The conclusion is that there is a variety of ‘buzzwords’
but with little empirical substance. It is clear that the development of supply chain
management requires more rigorous, empirical work.

Other authors (Farmer,1972;Reck & Long,1988) have put forward four and five stage models
to show how organisations can attain ‘strategic status’, whilst others (Carr et al,1997) have
taken a more pragmatic view analysing the constituent ingredients required to make supply
strategic. Carr and Smeltzer (1997) argue that its status, knowledge and skills, risk and
available resources directly influence the level of strategic supply within the organisation. The
overall consensus is that supply should be seen as ‘strategic’, as integral to the decision making
mechanisms of the firm although more rigorous empirical work is required.

The research on supply management tends to either base itself in the transaction cost
(Richardson, 1994; Williamson, 1975), resource based views or in the marketing literature.

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Some authors have put forward the view that the firms should be seen as a ‘nexus of contracts
and that the firm should manage its resources to maximise advantage for the business;
relationships are seen as a key resource of the business. Others see the management of supply
as part of the wider production system.

The implications of managing supply strategically are debated in the literature. It is widely
agreed that the involvement of purchasing in a strategic context can enhance a company’s
financial performance and improve the firm’s overall competitive position. Others argue that
the integrations of strategic purchasing practices can directly affect manufacturing
performance and therefore added value to the customer. This integration manifests itself in
the selection of sourcing strategies for technological innovation as well as in the design of the
appropriate business network within which to manage the supply strategy.

Regulating the relationship is an integral component of managing sourcing strategies. Authors

argue this point from a variety of perspectives, some from the view point of the relationship in
a general behavioural sense e.g. Moss-Kanter refers to successful partnerships being needed
to manage the relationship and not just a focus on the business deal; she calls it becoming best
PALs (pooling, allying and linking).

Other scholars argue that the move towards relationship management will change the very
role and strategies of how firms behave, moving them away from their traditional structures
and towards ‘hub and spoke’ focussed organisations. Other writers see relationship
management from a much more economic viewpoint, utilising game theory to demonstrate
how various strategies and relationships can be aligned. This discourse clearly shows that there
are a variety of ways of viewing relationship management, however the key question appears
to remain the same: how should a firm organise to manage its complex relationships?

5. Relationship definitions and misconceptions: towards a management

model
Whilst this question sounds very simple the answer is very complex. This complexity is in part
caused by the fact that relationship strategies are only one dimension of a much more
sophisticated management system. Figure 2 is known as the supply wheel, it was developed
from a large research project which examined the strategic supply issues of 750 firms. The
outcome was an overarching model which shows the main supply foci and their inter-
relationships.

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Figure 2: the Strategic Supply Wheel

The model outlines six key factors 6 that need to be considered simultaneously by the supply
strategist. The Supply Wheel begins by suggesting that it is imperative to maintain an
alignment of corporate and supply policies. Whilst this might sound intuitively obvious it is
rather surprising when interviewing Purchasing Directors how many are unaware or not
connected in any way to the policy and goal setting priorities for the firm. This lack of
connectivity makes it extremely difficult, if not impossible, for purchasing professionals to set
their own polices, goals and strategies that reflect the needs, wants and direction of the firm
itself. For example, one Purchasing Director of a large multi-national manufacturing firm who
was interviewed was totally unaware of his firm’s strategic priorities and goals. When he
attempted to discover what these goals and policies might be, he was told that this was a
secret and the Corporate Planning Director refused to divulge the information. Whilst some of
the goals and objectives are reasonably obvious these are mainly those that are transmitted to
the market.

However, there could be a range of issues e.g. environmental policy, technology policy,
competitive policy etc. that are of great importance to the firm, and which supply
management could play a pivotal role if only it was consulted and involved in the process.
Firms that are cost focused will require the supply activity to deliver a range of business and
marketing benefits that will put the firm into a stronger cost management position (i.e.
savings). The firm is not interested in supply forming closer working relationships, or
implementing complex sourcing strategies, rather, it is interested in short/medium term direct
business benefits. The key focus for the firm has to be on competing based on cost reduction.
Supply in these organisations will undoubtedly be seen as an important function, with the key
focus on purchasing as a tactical weapon as opposed to a strategic process. For supply to be
seen as important within this type of firm it must deliver savings.

6
For a detailed discussion of this model, see Cousins,P.D. (2002) ‘Conceptual Models of Inter-
Organisational Relationships. See also Cousins,P.D., Lamming,R.,C., Lawson,B., Squire,B. (2006) Strategic
Supply Management: Theories,Concepts andApplications. Prentice-Hall.

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Differentiation focused firms on the other hand have a more enlightened and long-term view
of the business. They will tend to view supply as strategic to their business organisation. Their
competitive advantage is gained from manipulating their competencies and capabilities and
supply will be seen as a core capability. Differentiated firms will compete by using a
differentiated approach .This could focus on improving time-to-market, increased innovations
within the firm and co-makership. Differentiated firms will see supply as a strategic activity to
achieve these aims. Supply may achieve these business aims through supply tiers (delegated
and/or parallel sourcing), outsourcing and co-design agreements.

These approaches will require more complex collaborative approaches utilising strategic
collaborations. Firms following this approach can expect to achieve higher visibility of the
partner’s business through cost transparency and information sharing. The development of
risk and reward sharing agreements, which divide the level of risk and return between the
strategic partners, will generally focus on major collaborations such as technology
development programmes and customer and/or market development activities. Relationship
development outcomes will also deliver improved integration of business processes, with a
view to improving efficiency and overall levels of effectiveness of these processes. Finally,
relationship development outcomes will also allow the partner firms to develop joint shared
capital investment projects such as development of new factories, warehousing etc. In short,
the differentiated approach requires a much broader and more strategic view of supply’s role
within the firm.

The model shown in figure 3, the Strategic Focussed Outcomes Model (SFOM) indicates which
strategies should be followed dependent upon the strategic approach taken by the firm. The
emphasis here is appropriateness and allocation of resources. If the firm sees its competitive
advantage in a cost focused approach then supply has the opportunity to follow two strategic
approaches, (these are illustrated in quadrants A and B) which are Operational Collaboration
or Market Collaboration.

Figure 3: The Strategic Focussed Outcomes Model (SFOM)

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This SFOM model was developed from a two year research project examining a range of
medium to large sized firms. The research indicates that a short-term strategy would only
allow for what is termed ‘Operational Collaboration’ to be achieved. This strategy consists of
actions such as sharing operations planning information, developing and sharing demand
forecasts, linking order management systems, usually via an intranet and joint capacity
planning management systems to align operational flows. Should supply want to develop
longer term relationships with the suppliers under the cost focused approach, they have the
ability to develop what is termed ‘Market Collaborations’ (see quadrant B). Market
Collaborations are concerned with tactics such as shared merchandising, co-branding, joint
selling and management of distribution channels. These types of collaboration tend to be more
long term; however their main focus is firmly embedded in the activity of cost reduction. The
SFOM illustrates the available strategic alternatives to match the strategic focus on the firm. If
supply is aligned in cost focused organisations it should peruse both operational and market
collaborations.

Firms that have a ‘differentiation’ focus will firstly tend not to have any short-term strategic
foci. Their main concern will be to develop long-term sustainable business outcomes, based
around Strategic Collaborations (see quadrant c). Strategic Collaborations are concerned with
aligning the customer requirements with the supplier, the sharing of technological processes
and products to enhance offerings to existing and new customers which may lead to new
product development activities.
Furthermore, this type of collaboration will also focus on sharing production engineering
resources, developing joint capital investment and expenditure plans; these are typically in the
shape of risk and reward sharing agreements between the buyer and supplier. Firms that have
a differentiation focus will require supply to align its approach to achieve the various goals and
objectives outlined above. Failure to do so will result in a misalignment of the strategic focus of
the organisation and supply management and will undoubtedly lead to tensions and non-
achievement of the firm’s organisational focus.

6. Development of a relationship management approach

The concept of a “relationship” is much discussed and generally misunderstood. A vast array of
this confusion comes from not understanding the unit of analysis and indeed not really
considering what a ‘relationship’ is in a practical sense. Most purchasing professionals tend to
think of a relationship as an entity (a thing), they will often refer to“…the relationship that
exists between us and Supplier X.” Often in discussions with purchasing professionals they tell
of away days to discuss “the relationship” between buyers and suppliers. Whilst there are
some socialization benefits to be gained from this, there is no clear evidence that these events
enhance the relationship between the two firms. This is because it is unclear to both parties
what the relationship actually is.

To put it another way, think of the relationship that exists between Buyer A and Supplier B as a
business process (or course of action). This process will lead to some type of output. For
example, communication is a process or course of action, which leads to the communicator
delivering (via a medium) a range of information. It is deemed to be successful if, when tested
the recipient has clearly understood the message. If managers think about relationships as a
process or course of action, then their role is to deliver some sort of business outcome. This
could be in the form of price reduction, cost information exchange, technology or innovation
exchanges and so on. In other words, relationships need to focus on business deliverables;
they need to deliver something if they are deemed to be successful.

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This is an important point and worth recapping, relationships can be thought of as a process or
course of action, which should be designed to deliver business outcomes. Now building on this
point, in order to deliver business outcomes, relationship processes need to focus at the level
of the product or service (and not the firm). For example, some products and services that are
bought from suppliers will require a relatively simple relationship process to achieve a
relatively simple business outcome i.e. negotiation to achieve price reduction.

Other business outcomes may be much more complex, for example, innovation exchange, long
term joint cost reduction targets, these will require much more complex relationship processes
in order to deliver them. Therefore, the type of business outcome will dictate the level of
relationship process or detail of course of action required to achieve it. Again this is another
important point. Taking this to its logical conclusion, this will mean that there will probably be
a portfolio of relationships with any particular supplier depending on what business outcomes
are required from the various products and services procured from that supplier. Furthermore,
both buyers and suppliers need to be aware that when they develop a relationship strategy
they focus the relationship process on the delivery of business performance outcomes.

7. The complexities of relationship management

Managing inter firm (buyer/supplier) relationships is a complex task. Figure 4 shows the key
issues when dealing with relationship management. These include the management of
dependencies between the buyer and supplier, the management of risk or certainties, the
frequency of exchange and bounded rationality. The focus here is on internal (intra-firm)
relationships as well as external (inter-firm) relationships and the wide range of issues that
need to be considered.

Each of the elements contained within Figure 4 will now be discussed in detail, thus building an
overview and understanding of relationship management processes.

Figure 4: the Complexities of Relationship Management

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8. The management of dependencies and certainties

Managing inter-firm relationships is a difficult task, which as previously discussed is made
much more difficult when practitioners have to consider the range of issues involved in using
the relationship to achieve significant business success. Figure 5 builds on the previous
discussion and presents a model for thinking about the management of inter-firm
relationships. The model considers two key variables for the management of relationships:
Dependency and Certainty.

Dependencies are defined as mechanisms that create a reliance on either the buyer/supplier
or both. There are four key dependencies (see Cousins, 2002) Economic, Historic,
Technological (product and process) and Political, these dependencies are not mutually
exclusive i.e. all, some or only one of these may be in effect at a particular point in time. These
are defined as follows:

Dependency Description
Historic The parties have had previous interactions with each other; this has built up a
level of knowledge and shared experiences. These could be positive as well as
negative and will act to inform the parties on what they can expect in the
future from the relationship.
Economic Economic dependencies refer to what is traditionally termed ‘switching costs’.
These are the costs incurred of moving the supply relationship from one
supplier to another. These costs are generally easy to quantify
e.g. tooling costs, investment in labour, training, patents, investment in plant,
machinery and so on. By investing in these types of costs the buyer and
supplier become dependent on each other for the delivery of the product or
service. Naturally, the higher the level of investment the more difficult it
becomes to switch from one supply source to another.
Technological Technological dependencies refer to dependencies centred on technological
(product competencies and capabilities. These could either be product based i.e. a
and/or physical technology of some description (or software) or process based.
process) Process technologies would refer to knowledge based competencies such as a
consultancy firm. These dependencies are very powerful and also
demonstrate that dependencies can be created on other aspects of business
and are not confined to purely economic size. For example, large multi-
nationals can be highly dependent on small software houses for development
and maintenance. This can represent a significant supply chain risk if it is not
managed carefully.
Political Political dependencies are interesting and often highly influential often
ignored by practitioners; these can be in the form of a large ‘P’ or small ‘p’.
They can have a large influence over which suppliers are selected and
deselected and how the relationship is managed. Government policy in some
industries (particularly military and aerospace applications) can have a
significant impact on which suppliers are chosen for particular contracts (large
‘P’). Internal politics can also drive supplier selection and management.
Suppliers can become quite adept at playing the ‘political’ game (small ‘p’).
This is another very good reason to manage the internal organisational
relationships.

These dependencies can be identified by both the buyer and supplier firms as drivers for the
development and manipulation of the relationship. In order to use these to gain business

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success the firm must take a strategic stance. The aim of either side would be at worst to
create ‘inter-dependence’ (or mutual dependency) this occurs when the buyer and supplier
are equally dependent upon each other. This would be an equilibrium situation, neither party
will try to gain advantage over the other as they each have as much to lose as the other. This
situation is often referred to as ‘win/win’, however, as is obvious from this illustration it is
effectively ‘lose/lose’ as neither party can gain substantial advantage over the other, they in
effect suboptimise.

Another strategy, which might be referred to as the ‘best’ or optimal approach for creating or
maximising value, occurs when either the buyer or supplier creates a one-sided dependency
on the other i.e. the supplier is dependent upon the buyer or the buyer is dependent upon the
supplier. This situation will allow the dominant party to exploit their relationship position. This
naturally has a time limitation, if one party over dominates then the other will tend to search
for either a new source of supply or customer. However, there are a variety of strategies that
can be executed around this approach. For example, the dominant party might only use its
dominant position in situations when maximum advantage can be gained, this would leave the
other party tolerating the relationship without being prepared to divest it.

The level of dependencies within the relationship is, however, only one aspect of the
management of these complex processes. The other aspect that needs to be considered is the
level of ‘risk’ that is involved with the management of this interaction. The term ‘risk’ is used
here instead of the usual term ‘trust’. In the interests of brevity this report will not go into a
long discussion on this issue, however a brief explanation is required. The concept of ‘trust’ is
extremely difficult to understand. Durkhiem who was a famous philosopher in the 1950s
referred to trust as “…blind faith” furthermore, trust is often used as a construct to explain
behaviours between individuals. Firms, and more importantly relationships as a unit of
analysis, tend to involve a variety of people pursuing a mix of aims and objectives.

The best that can be hoped for in this business situation is to minimise risk. Economists often
refer to the concept of risk as levels of certainty. This definition has been used to construct the
second variable that should be considered when managing inter-firm relationships; these are
certainties or risks.

Building on the work of Mari Sako (1992) who explored differing contractual mechanisms such
as Arms-Length (adversarial) and Obligation Exchanges (collaborative) four levels of certainty
have been defined: contractual, competence, goodwill and political. These are described as
follows:

Certainties Description
Contractual How certain are the parties that one or other will perform to the specifications
and standards of the contract.
Competence How certain are the parties that one or other has the capabilities to perform to
the contract e.g. the required levels of skills, competencies and capabilities.
Goodwill How certain are the parties that the one or other will be willing (or not)
to go beyond their contractual duties and go beyond the straight contractual
terms and conditions should they need it.
Political What is the political risk or gain of dealing with the party either from an
internal or external perspective.
The balancing out of dependencies and risks will yield a variety of possible relationship
management strategies. These are illustrated in Figure 5, the Strategic Relationship Positioning

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Model (SRPM). The available strategies are: Adversarial, Opportunism, Tactical Collaboration
or Strategic Collaboration.

Figure 5: Strategic Relationship Positioning Model

The SRPM uses the previously discussed concepts of dependency and certainty as a
mechanism for developing relationship management strategies at the product/service level. It
offers a range of available relationship strategies. The key point to remember here is that
either the buyer or the supplier should choose the most appropriate strategy for them to
follow i.e. the strategy that will achieve the most value. This will naturally depend on the time
horizon (i.e. whether it is seen as a short, medium or long term game) and also on the amount
of value (or expected value) that is to be gained from the relationship.

The four key generic strategies that have been identified will now be briefly discussed.
Adversarial strategies refer to Arms Length contractual relationships. These are where there
are low levels of dependency (independent) and low levels of risk (generally due to multiple
sources and the product or service has low technology).

Opportunism occurs where either the buyer or the supplier is dependent (one-sided) on the
other party. This will allow the dominant partner to take advantage of this situation (if that
party desires to use the situation in this way). Opportunism will only generally take place if the
dominant partner believes that they are in a position to sustain this additional value over time
and if the interaction is relatively short term and discrete i.e. project type environments. The
management process here is around dependencies. Opportunism occurs where dependency is
one-sided and levels of certainty are low i.e. contractual terms may be short (this will allow the
other party to see this as short term and therefore take advantage of the situation),
competencies are undefined, goodwill is unproven and the level of political ‘fall out’ is also
low.

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The two remaining strategies deal with varying degrees of collaboration activity; these are split
into tactical and strategic collaboration. Tactical collaboration occurs when the levels of
mutual dependency have increased; this may be, for example, because a modularity strategy
or supply base reduction strategy has been followed. In addition, certainties have also
increased; this may be through offering long term contracts, development of some risk and
reward sharing arrangements etc. Whilst these relationships do not represent what has
become known as ‘partnership’ arrangements, they do represent a significant level of
collaborative activity.

The final strategy available is ‘strategic collaboration’. This occurs where there are high levels
of mutual dependency (or inter-dependency) and high levels of certainty. These collaborations
focus both parties on working the relationship for mutual gain; these would consist of risk and
reward sharing arrangements, co-makership, and joint product and technology development
teams and so on. They require a large amount of investment, with large returns for both
parties involved.

Having outlined the key relationship strategies, it is now important to see where they fit into
the overall sourcing process. Figure 6 offers an ‘alignment’ model to help consider this
approach. As previously discussed relationship strategies should be focussed at the level of the
product or service being purchased. The Alignment model in Figure 6 shows in the interaction
between the relationship focus, the type of product and service being purchased and the
strategic nature of the supply function.

Figure 6: Alignment of Strategies, Relationships and Skills (click to enlarge)

The model also shows the link between skill and competence development. The argument
being that firms need to align all of these issues if they want to maximise value from their

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inter-firm relationships and more importantly that these relationships are built up from
interactions at the product/service level. In other words, a buyer may have any number of
different relationships with a supplier depending on the importance of the product, the
amount of risk that is being taken and the balance of power/dependency within the
relationship.

The point that should be emphasised here for the firm is that the choice of the relationship
approach or strategy should be based on focusing the appropriate relationship type to the
outcomes required from the business transaction. These are indicated from the various
linkages within this model. Furthermore, in order to operate these relationships the model
indicates that the firm will need to have the requisite skills and competency mix and
performance measurement systems. Practitioners should refer back to the Supply Wheel at
this stage to remind themselves of the broad and inter-related issues that need to be
considered.

9. Frequency of exchange
The frequency of exchange refers to the type and amount of interactions within the
relationship. The previous discussion introduced the problem of Opportunistic Behaviour. This
is linked to exchange frequency, for example, if the frequency is low and dependency is high,
the dominant party will be likely to resort to opportunism. If, however, dependency is high and
frequency transactions are high, the dominant party may be less likely to resort to this action
because of the fear of missing out on future business.

Frequency exchange is an important mechanism for managing inter-firm transactions. The

greater the exchange, the more information and learning is passed between the parties, the
less likely it is for opportunism to take place.

10. Bounded rationality, socialisation and information asymmetry

The concept of Bounded Rationality was first established by Herbert Simon in 1958. Simon’s
idea, put simply, was that humans viewed problems within their own individual context which
was established by their systems of values and beliefs. So for example, an engineer would view
a problem differently than say a commercial person.

As well as their own belief systems there is also the effect of organisational performance
measurement systems. Generally in firms, different functions are measured on different
performance targets. An example would be that design are measured on how well (and
quickly) they design a certain item; this might be by comparing it to the conformance to the
customer specification. The tendency here would be for design to exceed the customer
specification if possible i.e. to exceed their measure. However, purchasing may be measured
on a ‘target cost basis, i.e. achieving cost targets based on predetermined cost models. If
Design have ‘over designed’ the part (and generally specified the supplier) it will be extremely
difficult for Purchasing to achieve their targets. Thus measurement systems can be (and often
are) diametrically opposed to each other.

These measures also cause individual functions to behave in a specific manner – causing
functional rationality i.e. making decisions based on the functions measures and outputs and
not considering the wider implications of these actions. Figure 7 below illustrates this problem
between the pull of functional and organisational goal maximisation. In academic terms we call

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this ‘goal incongruence ’which is a mismatch of goals and objectives between elements or
functions of the organisation, in this example between Design and Purchasing.

Figure 7 Inter and Intra Firm Bounded Rationality

This is a very important concept for managers to consider. Earlier in this paper I referred to the
term ‘intra-organisational’ relationships. These are relationships that exist within the firm;
these are internal relationship management issues. I would contend that these intra
organisational relationships are, to some extent, more important that external (inter)
relationships. Without these relationships working effectively and efficiently, the firm cannot
hope to encourage and engender deep inter-firm relationships.

Therefore, when re-engineering external relationships, the first place to start is with the
internal dynamics of both the buyer and supplier organisations. Figure 6 suggests a way of
thinking about the management of these relationships within various sourcing groups. There
are a variety of processes that can be used to pull together disparate groups within the firm.
They may take the form of cross-functional teams and one method of assessment and
selection. This has the effect of involving the group in the decision making process and forming
one bound of rationality 7. These relationships should also be output focused. They should be
concerned with business improvements i.e. focused on tangible business outcomes. A further
document will focus on these implementation techniques.

11. Implications for managers

There are several management implications that should be drawn from this report:
1. The management of inter-firm relationships is complex, it is not sufficient to simply set up
an agreement, action plans need to be followed to instigate change. The Supply Wheel
demonstrates the complexity of areas that need to be considered simultaneously.
2. It is important to consider what a ‘relationship’ is, i.e. defining the term. In this report,
relationships are referred to as processes that drive or facilitate changes in behaviour.
Naturally these can be positive or negative depending on how they are used.

7
There are a range of tools available for this, generally employing AHP (Analytical Hierarchy Processing)
which is a weighting and scoring system.

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3. It is important to consider relationships at the level of the product or service and not at the
level of the firm e.g. it is impossible to say that the relationship with firm x is good, bad or
indifferent, there will be as many views on this as there are people involved. The point is
that firms need to consider strategically what they buy and then apply the appropriate
relationship which will deliver the maximum value for their business. Milton Friedman’s
famous quote, “the business of business is business” applies here.
4. Inter and Intra firm relations. Relationship management should not begin with changing the
way a firm manages its suppliers. It should start with how the buyer firm interacts with
itself (intra firm relationships). It is vitally important that relationships are aligned internally
first before any attempts are made at changing, enhancing or refocusing existing inter-firm
relationships.
5. Building a business case. There must be a business benefit from refocusing relationship
approaches. Firms (both buyers and suppliers) need to think clearly through what these
benefits are, and also if the costs of getting them outweigh the actual benefits. Whilst this
may sound obvious, it has certainly become apparent during this research with major firms,
how few consider these important decision drivers. Firms tend to reduce supply bases with
little cost knowledge, move towards higher dependency relationships without performance
measurement or skill changes and so on. The point here is that if a firm is going to adopt a
different way of working then it must consider all of these aspects and build a business case
for doing so.
6. Relationship strategies are dynamic, they need to be thought through and managed over
time. At different stages they may require different people/skills to manage them. It is
important that firms choose appropriate relationships to deliver the maximum value for
their transaction. This can be achieved through manipulating and managing the
dependency/certainty mix.

12. Summary and conclusions

The objective of this report was to review changes in manufacturing and examine how inter-
firm relationships might play a role in influencing and adding value to the firm. This study
presents theories, models, tools and techniques to allow practicing managers to consider the
strategic complexities of managing inter and intra firm relationships.

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