Large enterprises can have thousands of suppliers with lengthy supply chains. These suppliers can be divided into multiple tiers based on their closeness with the customer and end product. This blog explains the difference between tier 1, 2, and 3 suppliers and why visibility into supplier tiers is essential.
Knowing your suppliers and your suppliers’ suppliers gives insights into your business and end product. Such visibility promotes resilient and sustainable business.
Lack of transparency can lead to increased risks, such as delays, quality issues, supply chain disruptions, and poor compliance.
That's why supplier tiering or categorizing your suppliers in relation to your supply chain can be a game changer in understanding risk.
In this article, we'll break down what the supplier tiers mean and how they can increase your resilience.
What are tier 1, 2, and 3 suppliers?
Suppliers can be broken down into three tiers:
Tier 1 Suppliers are your direct suppliers.
Tier 2 suppliers are your suppliers’ suppliers or companies that subcontract to your direct suppliers.
Tier 3 suppliers are the suppliers or subcontractors of your tier 2 suppliers.
Supplier tiering means organizing suppliers into tiers based on their importance and relation to your supply chain.
The concept of supplier tiering started in the automotive industry to identify how far away elements of the supply chain are from the production of the final product.
Why is visibility into the supply tiers important?
You need maximum visibility into your supply base to minimize risks. The risks may realize further down the supply chain, where they may not be immediately apparent.
Supply risk areas include:
Operational risks, such as delays, shortages, and quality control issues.
Governance risks, such as lack of compliance with laws and regulations
Environmental risks, such as CO2 emissions and waste
Social risks, such as human trafficking, child labor, poor working conditions, and low pay
Cybersecurity risks, such as confidentiality breaches
Collaborative business models help mitigate risk and increase proactivity. Relationships with suppliers promote innovation and ensure continuity of supply.
Achieving supply chain visibility
A Deloitte CPO surveyfound that only 15% of CPOs have visibility beyond their tier-one suppliers. Achieving Tier 1 visibility is hard enough.
Visibility into tiers 2 and 3 is even more challenging. Most buying companies don’t know who their suppliers’ suppliers are, what they supply, or where they are located.
For strategic Tier 1 suppliers, it would be vital to understand their suppliers' supply characteristics and behaviors. Supplier data may be spread across multiple systems, locations, and departments and needs to be collected, cleansed, and classified. Supplier data is time sensitive and quickly becomes outdated.
Your Tier 1 supplier may be sourcing materials from a country with sanctions. Their subcontractor may not comply with your supplier code of conduct.
Counting on your Tier 1 supplier to provide evidence of compliance with your guidelines and relevant laws will not be adequate as you might be dealing with hundreds of category suppliers.
How to improve supplier tier visibility?
There are essentially 3 proven strategies to get visibility on all your suppliers.
Create a complete picture of the tiers for each key supplier to improve risk management and identify improvement opportunities.
2. Establish a system of traceability
Track the origin of products and materials throughout the supply chain. Traceability enables truly understanding what your end products are made of. It also helps secure compliance with your key requirements.
3. Foster open communication
Establish formal and informal communication and governance at all levels. Being transparent about the material origin and sourcing information builds stakeholder trust.
The suppliers may resist sharing data that may be proprietary or potentially helpful to their competitors. They may fear that their customers cut them off and source directly from their suppliers.
Procurement teams need to provide a reason to trust their interests. NDAs and non-competition clauses may provide peace of mind. Emphasize that modern business relationships are built on transparency and that collaboration is the only way to survive the in the future.
The power of data
Visibility becomes cloudier as we get deeper into the tiers. It is impossible to track all that data manually. Data collection and analysis can and should be automated.
Essential Supplier KPIs may include supplier inventory, lead times, quality, delivery performance, sustainability performance, and diversity. Difficulties in maintaining service levels may reveal a problem further down the chain.
Software solutions like riskmethods and Supplier.io are making it easier for organizations to map their tier 2 and 3 suppliers and track supplier performance across all the tiers. Real-time visibility can mean a quicker response when serious problems occur.