Master Thesis Supply Chain Management

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Master Thesis Supply Chain Management

University of Groningen

Buyer-supplier relationships: The impact of power and

interdependence on the interaction between relational and

contractual governance.

Author: Derk Massink

Student number: s1907522

Supervisor University of Groningen: Prof. Dr. Ir. Kees Ahaus

Co-assessor University of Groningen: Dr. J.T. van der Vaart

August 14, 2015

Word count: 12.120

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Abstract

The purpose of this paper is to gain better insights in the interplay between relational and contractual governance in buyer-supplier relationships. Several scholars have shown the importance of both governances, however their interplay remains ambiguous. Therefore we investigate important

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1. Introduction

Buyer-supplier relationships have changed the last two decades from a relation merely dominated by the buyer to a strategic relation. In literature much attention has been devoted how to manage these inter-organizational relationships to achieve competitive advantage. Two main types of governance are at play in inter-organizational relationships, contractual and relational governance. However, the interaction of these mechanisms seems to be quite complicated.

It has been proven in practice and theory that supply chain coordination and integration can improve firm performance and attain competitive advantages (Mackelprang & Nair, 2014). Supply chain integration is broadly associated with the level to which a firm strategically links and aligns processes with suppliers and customers (Jayaram et al., 2010). For effective supply chain integration, it is desired that supply chain members behave coherently to achieve channel coordination. Firms involved by the integration could employ multiple mechanisms. These mechanisms are used by managers to regulate and facilitate the exchange among partners in order to achieve competitive advantage (Liu, Luo and Liu, 2009). These mechanisms have a legal origin (formal contracts) or a social origin (relational norms) (Heide & John, 1990). Formal contracts and relational norms are both important in mitigating opportunistic behavior and improving relationship performance in inter organizational agreements (Liu, Luo and Liu, 2009).

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5 factors. Power and interdependence are generally considered to be important concepts for understanding buyer-supplier relationships (Caniels & Gelderman, 2007). However, how these factors influence the governances isn’t investigated yet, therefore looking from these perspectives contributes to a better understanding of how contractual and relational governance emerge and interact. In the end, we shed light on the discussion how relational and contractual governance interact, by incorporating power and interdependence as moderating factors. We do this by answering the following research question:

How do power and interdependence influence the interaction of contractual and relational governance in the metal assembly and processing industry?

The contribution of this study is twofold:

First, we provide empirical evidence for the interaction between contractual and relational governance if they complement or substitute each other. Second, we investigate the impact of the external factors interdependence and power to react on the inconsistent findings in literature which have been largely ignored so far.

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2. Theoretical background

In the theoretical background the different constructs and their inter-relationships will be declared. In the literature of supply chain management the interplay of relational and contractual governance and there relation to performance has been an ongoing debate. How these governances are influenced by factors such as power and dependence will be discussed in this section.

2.1 Inter-organizational relationships

There are many different forms of inter-organizational relationships between firms. The type of buyer-supplier relationships can vary from adversarial to cooperative. Adversarial buyer-buyer-supplier relationships are characterized by purchase transactions where the items are low in priority and there are numerous sources of supply. A cooperative relationship refers to the process of working together, over an extended period of time, for the benefit of both firms (Ring & Van de Ven, 1992). To govern these relationships, firms make use of contract management. Contract management refers to the activities that both buyer and supplier comply with the terms and conditions of the established contract (Cao & Lumineau, 2014). While a contract sets the goals, the management of the contracts makes sure that the goals are achieved. Goals refer to objective performance which is linked-to operating performance measures such as on-time delivery, product quality and satisfaction with the supplier’s role (Johnston et al., 2004). To get these desired outcomes, managers need to obtain contractual arrangements with minimal costs that ensure the delivery of the desired quantity and quality of the supplier’s service (Poppo & Zenger, 2002). The manager has to take into account the exchange conditions during governance arrangements, to minimize exchange hazards. These exchange hazards originate from: asset specificity (relationships require significant relationship-specific investments, through threats parties may withdraw these investments), measurement difficulties (to what degree is it easy to measure performance) and technological uncertainty (uncertainty arising from rapidly changing technology) (Poppo & Zenger, 2002). When uncertainty increases, the need for more coordination and complex contracts arise. In other words the contractual governance increases, how relational governance responds to this can be very interesting for this research.

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7 inter-organizational exchange. Governance of inter-firm exchanges involves more than formal contracts, namely relational governance (Noordewier et al., 1990). The distinction between these governance mechanisms is best described by (Poppo & Zenger, (2002). Contractual governance highlights the importance of contracts between companies and its formal rules to safeguard against opportunism and conflict. Contractual governance may define outputs to be delivered, specify monitoring procedures, and detail duties, and rights (Mesquita & Brush, 2008; Ryall & Sampson, 2009). While relational governance is to mitigate exchange risks associated with uncertainty and transaction-specific investments (Noordewier et al., 1990; Uzzi, 1997). In literature, trust and relational norms are the most frequently discussed relational governance types (Cao and Lumineau, 2014). In this paper trust is inherently relational, because we are interested in studying the role of trust in economic exchanges. Therefore we use the definition of trust from inter-organizational literature: confidence or predictability in one’s expectations about another’s behavior, and confidence in another’s goodwill (Ring & Van de Ven, 1992).

The interplay of relational and contractual governance has had a lot of attention in literature, opposing arguments have been advanced. One group argues that the two governances substitute each other; when trust and relational governance are well developed contractual governance is redundant (Gulati, 1995; Wang et al., 2011). In contrast, another stream of studies has supported the complementary relationship between contractual and relational governance; that is, the use of one type of governance facilitates the other type (Huber et al., 2013). A third stream argued that it depends on the content of contracts and contextual factors if the relationship is either complementary or substitute (Woolthuis et al., 2005; Zaheer and Harris, 2006).

However, these scholars do not take into account the moderating effect on the relationship type. The relationship type is important to understand firm behaviors in the inter-organizational cooperation (Albers et al., 2014). While different types of inter-organizational relationships have been investigated, there is little knowledge on how the different relationships impact the contract-trust interplay (Ebers & Oelemans, 2014; Mayer & Teece, 2008). Cao & Lumineau (2014) stated that in vertical inter-organizational relationships (buyer-supplier and manufacturer-distributor) the complementary effects may be greater than the substitute effects due to higher interdependence which requires partners to share information and make mutual adjustments, thus reducing uncertainty and facilitating relational governance. Due to the exploratory nature of their findings, further examination is needed. The role of interdependence will be discussed in the next section.

2.2 Power and interdependence

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9 Table 2.1 Aspects that compose buyer’s dependence and supplier’s dependence

The different aspects will be discussed briefly. With the buyers dependence on logistics is meant that the buyer is interested in receiving the goods just in time, therefore depending on reliable suppliers. The need for supplier’s technological expertise is determined by the essentiality of the resources, whether the buyer can do it without the supplier. Companies rely more and more on technologically advanced (key) suppliers. The availability of alternative suppliers requires no further explanation. The switching costs are related to specific investments made in the supplier. The supplier’s dependence deviates in one aspect namely financial magnitude, which is the financial dependency on the buyer.

2.3 Conceptual model

Based on the theory discussed in the theoretical background, a conceptual model is developed for this research. We expect that power and dependence moderate the relationship between contractual and relational governance. Trust is considered as part of relational governance, wherein negotiations are an integral part of trust. The complexity of contracts determines detailed duties and rights of contractual governance. The conceptual model is displayed in figure 2.3.

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3. Methodology

In order to empirically investigate how contractual and relational governance interact in buyer-supplier relationships, we executed a multiple case study. Because there is no clear consensus how relational and contractual governance interact, identifying the underlying mechanisms is important. Since a case study is the most appropriate way to analyze a phenomenon in its natural setting in depth (Yin, 2009), it’s a suitable research method for our study. In order to provide a more objective dataset which helps against observer bias, a multiple case study is carried out (Yin, 2009). In total four cases where selected, which is the minimum number of cases Eisenhardt (1989) suggest in order to get robust evidence. Rich data is gathered by semi-structured interviews and in-depth analysis of contractual documents. Due to investigating a buyer-supplier relationship, it might be helpful to gather data at both the company and the supplier. Unfortunately this was not possible due to time restrictions. There are several challenges in conducting case research: it is time consuming, it needs skilled interviewers, and care is needed in drawing generalizable conclusions from a limited set of cases. Despite this, the results of a case study can have significant impact (Voss, 2009).

3.1 Case selection

In order to collect the necessary case data, we have selected six companies from the metal assembly and processing industry that were willing to participate and are part of the NEVAT network. Despite the commitment of two companies they weren’t able to participate due to priority issues. Due to the fall out of these companies we were forced to reduce the case selection till 4. NEVAT is a network of ambitious suppliers in the Netherlands that organize business events. Because NEVAT stimulates innovation and cooperation between buyer and suppliers, this may result in more complex contracts and relationships which strengthen the possibility of finding rich data. For the case selection we wanted some variety in sub-industry, company size and resources and possibly relate the findings to one of these features. We applied theoretical replication (Voss, 2009), by choosing cases in different sub-industries, number of full time employees (FTE) and yearly turnover. Table 3.1 shows per case the characteristics. Because we were not able to interview both buyer and supplier, we asked the buying firms to take a supplier in mind that supplies a critical item with high supply risk (Kraljic, 1983) to answer the related questions.

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11 (PPP) unites, as a sector group, 30 NEVAT member companies who are suppliers of components with added value: they are the highly-valued problem-solvers within the industry. GVN is a Dutch abbreviation of Heavy Machining sector Group. The Dutch Heavy Machining Sector Group unites NEVAT member companies who supply heavy machine processes, or alternatively manufacture products using heavy machine process techniques. The size of the product that the client wishes to have processed plays an important role in this.

Table 3.1 Selected and participating case companies

3.2 Data collection

To collect the appropriate data we conducted a semi-structured interview in combination with a document study. Every interview took place face-to-face at the participating firms between May and June, 2015. Because of the 24hours rule, we recorded and transcribed the interview within one day (Eisenhardt, 1989). The interview was divided into five parts; Part A and B gain insight into the two types of trust, part C is about negotiations, part D is about interdependence, part E is about power within the relation. Interviewing with this standard and logic pattern was done to encourage detailed responses to uncover specific insights (Voss, 2009). The interview protocol can be found in appendix A. These interviews help to provide insightful information on the specific case study targets (Yin, 2009). Studying the contracts served to give clarity about the contractual governance, especially the safeguards used to control the buyer-supplier relationship. This additional document study is used to achieve reliable data and will enhance data triangulation, which helps to improve the content validity of this study (Voss, 2009). The questions of the document study can be sorted in different groups, namely clarity of the roles, information and privacy, and terms determined. The document study protocol is based on literature and can be found in appendix B.

Company A Company B Company C Company D

Sub-Category GPI PPP GPI GVN

Number of employees

50-100 50-100 >100 <50

Strategic Supplier

Supplier W Supplier X Supplier Y Supplier Z

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12 The interviewed positions of the buying firms are the general manager and purchasing manager. Because the companies have more or less the same company size we assumed that the positions of the interviewee’s within firms will be the same. The reason to interview the general manager of the company lies in the fact that he will have common knowledge about the market and some insights into contracts. These insights can give an explanation for the type of relation described by the purchasing manager or may raise questions. The purchasing manager is interviewed because he’s responsible for the contracts with the suppliers, in which we are quite interested. An overview of the interview details can be found in table 3.2 below.

Table 3.2 Interview details

3.3 Data analysis

After completing the data collection, the next step was to analyse and make sense of the obtained data. The interviews were analysed following Eisenhardt’s (1989) cross-case pattern analysis, where within group similarities are coupled with intergroup differences across several dimensions. Before performing the cross-case analysis, we performed a within-case analysis for each participating company. The purpose of performing the within-case is to get familiar with the results per case. A conclusion per case was drawn and written out in a case narrative, using the data from the interviews and the document study. After performing the within case analysis, a cross case analysis was started. The cross case analysis is based on ―pattern seeking‖, which mainly consists of searching for repeated themes, causes/explanations, interpersonal relationships, and theoretical constructs (Miles and Huberman, 1994). The most important patterns related to our research question were picked out and discussed. In order to give value to the variables in the empirical setting, we conducted a ―coding tree‖ in which the descriptive codes from literature were translated into interpretive codes, based on the quotes that represent the codes best within the empirical setting. The coding tree can be found in table 3.3. The interpretive codes give the common meaning of the descriptive codes in this empirical setting. We conducted a cross case comparison of the interpretive codes in order to describe what the

Case A Case B Case C Case D

Interviewee positions -General manager -Purchasing manager -General manager -Purchasing manager -General manager (also involved in purchasing) -General manager (also involved in purchasing)

Location Company A Company B Company C Company D

Total time recorded

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13 interpretive codes mean per case and to find differences among cases. The cross case comparison can be found in Appendix C.

Relational governance consists of the variables organizational-trust, inter-personal trust and negotiations. We analysed trust on two different levels because we wanted to make sure that the source of trust is not entirely based on the relationship between managers but also applies for the entire relationship between organizations. Negotiations are also part of relational governance, since the amount of haggling and the numbers of bargaining sessions are well established indicators of relational governance. Contractual governance is measured by the complexity of the contracts, increasing exchange hazards encourage more complex contracts, resulting in more contractual governance (Poppo & Zenger, 2002). Interdependence is divided into five descriptive codes: dependence on logistics, supplier’s technological expertise, alternative suppliers, switching costs and financial magnitude. With these constructs we can determine the relative buying power of the company and so far as possible the dependence of the supplier’s. The supplier’s dependence is restricted to the construct financial magnitude since the buying companies can’t provide more information about the supplier’s dependence. Power is subdivided into two variables namely coercive and reward power. These sources of power are found to be mediated by the buyer, which makes them more relevant to study in relation to the other types of power mentioned in the theoretical background.

Descriptive labels Quotes that represent codes Interpretive labels Relational governance

Inter-organizational trust “I have great confidence in the company; I

know how they are financially structured.”

Resource-based trust

Inter-personal trust “You try to reduce the risk together, so the

price must be competitive, but this should not be at the expense of quality and reliability.”

Relational trust

Negotiations “During negotiations prices are determined

and secondly strategic elements are discussed.”

Price-driven negotiations

Contractual governance

Complexity of contracts “Most of the time there is a lower limit in

quantity which we must meet.”

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14 3.3 Coding tree

4. Results

4.1 Within case analysis

In this section the results are displayed by means of a within-case analysis. The sequence of the discussed concepts is as follows: first relational governance will be discussed, subsequently contractual governance, interdependence and power.

Interdependence

Dependence on logistics “The supplier must deliver on time; therefore

we share our forecast with key suppliers”.

Delivery reliability

Suppliers technological expertise

―Sometimes we support our supplier with

technical knowledge.”

Basic knowledge

Alternative suppliers ―The supplier is replaceable, but it will take

some time to get to same quality level.”

Replaceable dependence

Switching costs “We invested time and money in the

relationship, but no dedicated investments in machines or equipment.”

Switching costs

Financial magnitude “If we drop out as customer, the supplier has a

big problem because we generate 30% of their revenue.”

Supplier’s dependence

Power

Coercive “You can get purchasing benefits out of it and

minimize risks through not paying until the use of the product.‖

Reducing risks

Reward “I reward key suppliers by allocating more

volume.”

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Case A

The relation between Company A and supplier W may be named as strategic. The strategic item in question has a long lead time, and is quite specific. There are a few competitors who possible could supply the same products but these competitors can’t deliver it in the way supplier W does. The trust between these parties is quite high; an important reason for this high amount of trust is the duration of the relationship, namely more than 40 years. In all these years company A paid always on time, company A stated that this gives them competitive advantage “During financial distress, we were a

preferred customer of supplier W because we always paid on time and in return we were assured of supply, whereas other customers of supplier W were left without supply”. Furthermore, to reduce risk

and be sure of supply, there is a contract between the parties in which is stated that Supplier W maintains a safety stock for company A. Company A can call off products whenever they want. As mentioned by the buyer “we have an outstanding relationship with our supplier, and are assured of

supply for the long-term”. The purchase manager of company A spends a lot of time in controlling the

stock of supplier W. Despite the large amount of trust, three years ago some big problems arose when supplier W switched from supplier without telling company A, resulting in huge problems for the customer of company A. The general manager of company A also told us that “At a certain moment

something happens within the organization, which changes something, and suddenly they can’t

perform as they used to, it’s ridiculous, because we count on them”. The contractual governance of the

relationship can be called minimal. Prices, quantities and delivery dates are mentioned in the contract, and are fixed. However causes for not achieving objectives, information exchange or privacy issues are not included in the contract. Company A is very dependent on supplier W “If Supplier W goes

bankruptcy we have a big problem”. Company A relies on the technical expertise and the delivery

reliability of the supplier, additionally there are no other suppliers producing the strategic item currently. Switching to another company will not incur costs, since there are no investments made in the supplier. Supplier W is not very dependent on company A, although the company is among the 50 most important customers of supplier W, making them a bit preferred above ordinary customers. Despite the huge difference in dependence, company A stated that there is balance of power between parties “You would say they have a dominant position and they can do whatever they want, but that’s

not the case”. Company A is also purchasing other product groups at supplier W which they can

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Case B

The market which company B is operating at, is a very open market “I can say to my supplier I want it

for that price, if he says I can’t do it, I will go to another supplier”. This way of doing business

highlights how important prices are for company B. The relation between Company B and supplier X can be characterised with inter-organizational trust, “I have a lot of trust in delivering on long-term, I

know how they are financial structured and that there are more customers”. This is the same for the

inter-personal trust;‖ it’s a very open relationship in which you can say what you intend to”. Face-to-face meetings take place about four times a year, in which the business get evaluated. The inter-personal relationship is good but there are some limitations “If I need something with speed he will be

there for me, but against a fair price. “ Without huge quality differences, the price will determine who

will get the job. Contractual governance is comparable with the previous case; prices, quantities and delivery dates are determined. However, company B differentiates in dealing with the contracts “It’s

not that a contract is leading, I don’t have that feeling, most of the time a dialogue is started first”.

The interdependence of the parties is unbalanced. Company B has 100 substitute suppliers what makes him quite independent, while company B is the most important customer of supplier X with

approximately 30% of the revenues. Specific investments are not addressed in this relationship but time and effort are‖ On cost and quality-level there is discussion; we discuss a technic, which way we

want to go”. Supplier X has little technical expertise to offer for company B. The just in time delivery

of supplier X is important and supported by sharing forecasts. Company B uses some power tactics to gain more advantage, which can be considered as coercive. He forces the supplier to have the product on stock, resulting in decreased stock costs. Furthermore the company makes proposals wherein the supplier will get the whole package if he lowers the price. The purchase manager describes it as follows ―I say to my supplier, you are too expensive, if you lower your price you will get the whole

package‖. The fact that the buyer will get a lower price and the suppliers get the whole job creates a

power-balance. But within this ―power-balance‖, company B is leading. Concluding, the powerful position of company B makes him able to negotiate about the price by means of a dialogue. Hence rights are obtained by relational norms and negotiations.

Case C

Company C picked supplier Y as a strategic supplier because he is one of the few suppliers with a 3D cutter. There are competitors, but only a few for this specific item. The manager knows supplier Y well, and calls it a financial reliable partner. Despite the longer throughput time for non-strategic items, because of success of supplier Y, the general manager expresses his confidence ―We are

confident that our supplier can provide the strategic item in time and for the long-term“. The

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“As strategic partners you want to move forward, so there is mutual interest”. In the past some

problems occurred, but these problems were solved together. The manager of company C argued that

“It’s a chain in which you have to collaborate to get competitive advantage; it’s in the interest of both parties to solve problems and serve customers.” The negotiation about the strategic item is therefore

face-to-face; involving the customer of company C for an order to find a favourable solution for all the parties, is the purpose. When the discussion about the solution is done, renegotiations take place and parties determine the price. When the prices are determined, only the strategic parts of the negotiations need to be discussed. The manager of Company C state that “The strategic supplier isn’t very open

with his calculations during negotiations”. The reason for no open calculations is mainly due to

competing on component level, handling open calculations will directly lead to revelation of his profit margin. In this case, the document study shows that terms are very determined. Furthermore, this case differs in setting prices “First we try to come up with a solution, during the re-negotiations we talk

about the price”. Prices are therefore more flexible in the contract, and negotiations determine the

actual prices. The dependence on supplier Y concerning delivery reliability is quite high, supplier Y needs to deliver just in time. The MRP system is supporting the supplier with information when to deliver which material. Supplier Y has little technical expertise and replacing him will take some time to meet the quality level of supplier Y “it’s a utopia to say you can’t buy the strategic item elsewhere,

but at another supplier you have to build up the delivery reliability and the quality level”. However,

company C would like to continue doing business with supplier Y and vice versa, which makes them mutually dependent. In terms of power, the general manager expressed to have some leverage over his supplier. Anyway, he was careful with the use of the power. “You have to use the power but not too

much, it’s a game that everybody knows, but I’d rather trade fair”. The manager prefers to help each

other instead of going against each other. He only uses power to minimize risks. Concluding, due to joint problem solving and the intention to grow together by serving the end customer as good as possible, a win-win mind-set is created. This mutual understanding and trust facilitates the contracting process. In this case that implicates, setting the right price in a way that everybody benefits from it.

Case D

The most strategic purchase item of company D is steel. There are several suppliers that deliver this item to company D, resulting in a competing market. There is trust concerning the long-term delivery and trust within the market. “You can see that it’s a quite professional market, the prices are in line

with the market, no outliers”. The inter-personal trust between buyer and supplier is good as well, the

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“Mostly one or a few days, sometimes suppliers are involved in negotiations with our customer”.

Sometimes suppliers do some preparations in advance, not knowing if they definitely will get the contract. The openness during these negotiations is best described by the general manager “We are

very open with negotiations, it can go two ways, or you wait until everything is definite and then write out an order, which makes you less flexible and causes that you can deliver late or you write out an order earlier based on expectations”. The latter option is preferred by Company D, this makes the

company more flexible because lead times will decrease. The document study of this case is similar to previous cases, terms are very determined. It turned out that also case D preferred joint problem solving. However the manager of company D referred to some problems in the past with a strategic supplier, who neglected contractual terms. The lead time of the purchased item was agreed to be 26 week, but it took the supplier 1,5 year to actually deliver the strategic item. Company D started a legal process, which had no impact. The manager learned from this event and emphasized the need for relational governance during conflicts because contracts lack the problem solving capacity. The dependence of both parties is rather low; there are 10 competing suppliers and supplier Z is only for 10% dependable on company D. There can be switched from supplier without problems , it may take some time until the same delivery reliability and quality level is reached, due to the newness of the relationship. Furthermore, supplier Z has little technical expertise. Power in this relationship is based on reward systems, suppliers are rewarded with more volume if they perform well. The supplier obtains power when he can deliver fast and big quantities. Concluding, the project-based nature of the business in which company D is involved, requires joint problem solving and mutual dependence. If company D doesn’t get the job assigned, neither will supplier Z. Relational governance is needed to solve conflicts and maintain the relationship, since contracts have limited problem solving capacity.

4.2 Cross case analysis

The insights from the within case gave clarity about how contractual and relational governance interact and the role of interdependence and power per case. The cross-case will provide patterns among cases related to the discussed constructs.

Contractual and relational governance

In this study we would like to bring some clarity about the roles of the two governance types. What became clear after performing the document studies was the low complexity of the contracts, only prices, quantities, duration of the contract and delivery dates were determined. However, no specific quality standards or causes were included in the contracts. The use of simple contracts is common at this stage of the supply chain, higher in the supply chain contracts will be more complex. The main reason mentioned by the managers for the use of simple contracts is trading on component level. The role of contracts, to guarantee committed performance is best described by the manager of company C

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and we see that supplier X is less reliable in delivering these items as promised”. The contract ensures

that both parties adhere to the agreements, which establishes trust. However, the determined terms in the contracts were not followed strictly during conflicts and turbulent times. The managers stated that during conflicts they prefer a form of dialogue instead of taking contractual actions. Due to difficulties in supply of raw materials during crisis, lead-times or purchasing prices might increase. As long as the change in lead-time or purchasing prices can be declared and is market conform, it will be accepted by the managers of the companies A, C and D. The manager of company D referred to last year, when all the metal suppliers declined their stock levels due to the crisis, resulting in long lead-times. Therefore switching from supplier had no impact since everybody declined their stock. Concerning relational governance, all the managers expressed their trust in the suppliers for the long term. Inter-organizational trust is basically based on the financial reliability of the suppliers. The manager of company C expressed this very clear “The supplier is a healthy firm where odd things are not likely to

happen”. The trust in the contact persons is characterised by frequently visits and open relationships.

Various arguments have been made by the manager to declare this trust ―We have good relations

with the people that frequently visit our company”. The trust derived from the financial well-being of

the suppliers and the good relation with the managers is very important. However, the delivery reliability and product quality in other words the performance factors also influence the trust between parties. This became clear when the manager of company A confessed that if other suppliers where able to deliver the strategic item they might considering switching supplier if supplier W is performing poorly. The trust derived from the long existing relationship with supplier W for over more than 40 years is strongly influenced by the performance. Returning to the interaction between contractual and relational governance, figure 4.1 shows how these mechanisms interact. We will briefly explain the figure. The basic contract determines: quantities, duration of the contract, lead-time and prices, which are followed during normal circumstances by the cases A, C and D. However, when change and conflict arise, relational governance becomes a necessary complement to the limits of contracts. The relational value of solidarity promotes the exchange for the future. Dialogues and good faith create this solidarity in the cases A, C and D, these managers have a kind of solidarity to their suppliers which is expressed in the blue boxes in figure 4.1. Company B makes use of dialogues to obtain better conditions then agreed in the contract, and therefore complements the contract with minimum relational governance. The following propositions are developed:

Proposition 1.1 Contractual governance is complemented by relational governance when change and conflict arise

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20 Figure 4.1 Interplay of relational and contractual governance

Interdependence

The degree of interdependence between buyer and supplier seems to have a significant impact on the buyer-supplier relationship. The pattern we found was that the selected cases tried to minimize dependence by searching for alternative suppliers to be assured of supply and reduce risk. The dependence of the buyer side among cases is best described by the number of substitute suppliers, in other words how easily can be switched to another supplier. The supplier’s dependence is best measured by the financial magnitude. Generally, the relationship of Case A can be considered as the most interdependent, while the relationship of Case D can be seen as the most independent( buyer and supplier have both little relative dependence). Therefore we will highlight these two cases to explain the role of interdependence in buyer-supplier relationships. The manager of company A stated that

“We have a very good relation with our supplier, we don’t say today we will purchase at supplier X and tomorrow at another company”. This statement is strengthened by the length of the relationship “It goes extremely well, we have a relation for more than 40 years”. Buying at another supplier isn’t

possible since supplier W is currently the only one producing the strategic item. The bargaining position of company A is poor, the supplier determines the price. Supplier W decided to switch from supplier without informing company A, which led to some quality problems. The expression of the manager ―It took more than a year to get back on the old quality level”, indicates the impact of this decision. Because company A was fully dependent on supplier W regarding the strategic item, there was no possibility to switch to another supplier. Therefore trust was needed in order to maintain the relationship and to gain the required product quality. The general manager of company A mentioned that if they could switch from supplier during the conflict, they would consider it heavily. Company D expressed his confidence in all the suppliers of steel. This confidence is needed since the company is involved in project-based business where joint problem solving and cooperation are needed. However,

Basic contract

“Good reason is

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21 despite the project-based business, when a supplier is handling undesirable it’s likely that the relationship will be terminated. When company D turned into a conflict with a supplier about exceeding lead-times extremely, this was the case. Normally company D prefers a conversation in order to come to a solution. But the extremely exceeded lead-time in combination with the supplier’s attitude forced company D to take legal actions. Despite the fact that this didn’t work out well company D had alternative suppliers, what made it possible to put the supplier on the blacklist. The consequences for the company after losing this supplier are according to the manager ―little or

nothing‖. The insights are translated into the following propositions:

Proposition 2.1 Rely on relational governance in turbulent situations is not necessary when interdependence is low

Proposition 2.2 High interdependence increases risk of supply and is detrimental for the bargaining position

Power

First, the use of power will be described briefly; subsequently the relation between the use of power and relational governance is made. Using power in this industry has two purposes namely reducing risk and create a win-win situation. Forcing the supplier to have the strategic item on stock is used to be assured of supply. Delay the payment date is used to minimize the financial risk. However, creating a win-win situation by means of rewarding power seems to be the most common form of power in this industry. Creating a win-win situation is done by allocating more volume to key suppliers if they lower the price. Company B, considered as the most powerful company (low dependency on the supplier while supplier is quite dependent on company B) does not favor the use of power “I don’t

support the use of punishment or rewarding, I believe this can’t solve the problem”. Company C is neither a supporter of the use of power “in different situations everybody has some source of power, in which everybody needs to interact normally”. Despite the fact that company B discourages the use of

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22 survived some conflicts which even strengthen the relationship in the end. The following proposition represents this idea:

Proposition 3.1 Imbalanced relationships discourage the use of relational governance, the length and intensity of the relationship reduces this effect.

The proposed propositions are derived from data of the metal assembly and processing industry, since a lot of factors influencing the described relationships it’s not very useful to generalize. In the discussion section we will discuss the propositions with our findings to see if there are differences or similarities.

5. Discussion

In the discussion section we will discuss and interpret the results in light of what already was known about the subject of the investigation. The research question contained in the introduction will be discussed. Furthermore, the limitations of the research will be discussed in this section, in order to provide the reader with insights how to interpret the discussion of the results.

5.1 Discussion

Proposition 1.1 Contractual governance is complemented by relational governance when change and conflict arise

Companies prefer to work with financial reliable suppliers that can supply for a long period. To realize a long relationship wherein both buyer and supplier are satisfied and willing to depend on each other isn’t always that easy. Under normal circumstances buyer and supplier adhere to the formal contract upon agreed, evaluation meetings serve to discuss the agreed terms and the performance of both. However, the constrained capacity of managers to foresee and contractually specify potential future contingencies makes contracts unable to manage the relationship alone during turbulent times. Relational governance can complement contractual governance by creating a new contractual mind-set (Bastl et al. 2012). In general the companies adhere to the formal contract, but when strong arguments suggest it’s really necessary to deviate from the contract, this will happen. Therefore the contracting process seems to increase mutual understanding and improve trust to create a ―win-win‖ mind-set (Blomqvist et al., 2005; Lumineau et al., 2011). Arguments from (Ghoshal & Moan, 1996; Malhotra, 2009) suggest that contractual governance is substituted by relational governance and that contracts may signal a lack of trust. In this industry trading goods with contracts is the standard, and definitely not a lack of trust. A good conversation during turbulent times can lead to a change of the agreements in the contract, but certainly not replace it.

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23 What also became clear in the result section was the lack of contractual governance. The several managers stated that it was normal to do business with this kind of contracts. Downstream the supply chain contracts probably were more complex they told us. In literature Poppo & Zenger (2002) stated that more complex contracts are only needed when asset specificity, measurement difficulty and technological uncertainty exists. The companies argued that it’s unusual to make special investments in product or process development. Furthermore, the performance of the items are easy to measure, just with prices, quantities and observable quality-checks. The strategic items are characterized by relatively low technical complexity (e.g. steel) and are not subjected to rapid changes; therefore our findings are in line with the literature.

Proposition 2.1 Rely on relational governance in turbulent situations is not necessary when interdependence is low

The cases A and D have shown some differences in interdependence and in dealing with conflicts. The quite independent company D prefers joint problem solving, however when a supplier seems to be unreliable and is not willing to cooperate the relationship is terminated, in extreme cases even legal actions are taken. The highly dependent company A handles a more soft policy to continue the relationship which is quite necessary for the firm. During these conflicts, dialogues and new agreements are made. This contracting process could be valuable in facilitating mutual understanding and improving trust (Woolthuis et al., 2005). The manager of company A argued that it goes extremely well after the conflict, wherein new agreements are made. However, he also told us that if there was the possibility to switch from supplier after such a critically event, he will consider it heavily. This strongly substantiates that the companies don’t want to rely on relational governance, but when they are forced to it works quite well. Zaheer & Venkatraman (1995) argue that supply chain partners in a committed relationship engage in relational governance, including investment in transaction-specific assets and a high level of organizational trust. This is in line with our findings, regardless of the fact that in our cases no investments in transaction-specific assets are made.

Propositon2.2 High interdependence increases risk of supply and is detrimental for the bargaining position

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24 reductions (Tuten & Urban, 2001). The trust in the suppliers is probably lower than expressed otherwise they won’t stand aside from being interdependent. The literature argues to build a dense relationship with the suppliers of strategic items, while the cases prefer a state of independent. There is a clear difference between literature and practice. It can be concluded that the firms should not be afraid of being interdependent and bring out the expressed trust in the suppliers by creating dense relationships.

Proposition 3.1 Imbalanced relationships discourage the use of relational governance, the length and intensity of the relationship reduces this effect.

We have analyzed the relative dependence of the buyer-supplier relationships and found two power imbalances. A power imbalance is described by Pfeffer (1981) as follows‖ if A depends on B more than B depends on A, then B has power over A‖. We believe that being relative independent and focusing on prices harms the development of trust which is strongly associated with relational governance (Heide & John, 1990; Zaheer & venkatraman, 1995). Focusing on prices and being relative independent is possible due to the power obtained by the imbalanced relationship. However, the relationship of company A with supplier W is characterized with well-developed relational governance. As relationship length increases, cooperative parties will have more interactions and accumulate experience in dealing with each other (Mayer & Argyas, 2004; Mesquita & Bush, 2008). Other scholars have argued that the length of the relationship negatively influence relational governance because it’s likely that the frequency of conflicts will increase (Ring & Van de Ven, 1994). Our findings reject these arguments, since the relationship between company A and supplier W has improved after the few conflicts that occurred.

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5.2 Managerial implications

The findings of our study contributed to a better understanding of the interplay between contractual and relational governance, and how to combine those mechanisms to improve buyer-supplier relationships. Developing trust and is very important, especially for continuing the relationship during conflicts and turbulent times. Furthermore, contracts are limited in reducing opportunism, even if rights are stated in the contract, having rights and getting rights are not the same. The influence of power and interdependence may help managers to value which type of governance type is most effective. Being interdependent can have big advantages, especially when trust and relational norms are needed in a relationship.

5.3 Limitations and suggestions for further research

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6. Conclusion

Altogether, the contracts are used to satisfy the transaction, while relational governance serves to build some relational trust and mutual understanding. During turbulent times relational governance gets really important for continuing the relationship. Contracts can’t manage the relationship alone because unforeseen events leading to situation which aren’t determined in the contract. Relational governance complements this gap by means of a conversation and new negotiations. The built confidence in the supplier is very essential in this for accepting changed conditions by the buying firm. However, relational governance can neither manage the relationship alone; contracts are needed to safeguard interests and specify expected conditions. The relationship between contractual and relational governance is therefore complementary. Interdependence positively moderates the interaction between contractual and relational governance, however the negative feeling the managers have from being interdependent inhibits the influence on the relation. Supply chain partners in a committed relationship engage in relational governance, interdependence positively influence this commitment. Power gained from relative dependence has more impact on the relationship than the use of rewarding or coercive power. However, power imbalances can negatively impact the development of relational governance, because the relative independent position gained may lead to egoistic behavior and limits the trust in the relationship. The length and intensity of the relationship can ensure that relational governance will be developed. The better understanding and experience in dealing with each other are the main reasons for this development.

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Appendix

Appendix A: interview protocol

Interview protocol

Bedrijfsinformatie Bedrijfsnaam: ... Adres: ... Postcode: ... Plaats: ... Contactpersoon Naam: ... Functie: ... Telefoonnummer: ... E-mail: ... Informatie geïnterviewde Naam: ... Functie: ... Leeftijd:... Aantal werkzame jaren binnen het bedrijf:

...

Opleiding/ aantal jaren werkervaring:

...

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Open vragen bestemd voor de inkoop manager.

Ten eerste vragen we naar een strategisch inkoop-item voor het bedrijf om vervolgens de relatie met de leverancier en de inkoper van dit product centraal te stellen voor het interview. Nadat alle vragen over het strategische item zijn beantwoord, vragen we naar de relatie met een leverancier van een niet-strategische item. We vragen dan per onderdeel (A tm H) hoe de antwoorden in grote lijnen verschillen met de antwoorden van het strategische inkoop- item.

A. Inter-organisatorisch vertrouwen

De vragen in dit gedeelte gaan over het vertrouwen dat er is tussen de organisaties als geheel handelend, niet op persoonlijk niveau. Met deze vragen willen wij onderzoeken hoe hoog het vertrouwen is tussen de partijen en het effect hiervan op de relatie die is ontstaan tussen beide partijen en of er bij een organisatie meer vertrouwen is dan bij de andere organisatie.

1. In hoeverre hebt u vertrouwen in de organisatie van leverancier X als het gaat om:

1a. Continuïteit van leveren op de langere termijn

1b. Nakomen van afspraken die zijn gemaakt

1c. Wederzijds belang (handelen in het belang van beide partijen)

1 d. Eerlijkheid

Vragen voor de CEO:

1. Hoe hoog is het vertrouwen in de markt tussen uw organisatie als koper en leverancier in deze markt?

B. Interpersoonlijk vertrouwen

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33 1. Hoe vindt u uw contactpersoon van leverancier X handelen tijdens onderhandelingen?

2. Wat doet u als de prestaties van uw contactpersoon bij leverancier X beneden verwachting zijn?

3. Denkt u dat uw contactpersoon er alles aan doet om uw belangen te behartigen, ook als hier veel tijd en geld aan gebonden zijn? Waarom wel/ niet?

Vragen voor de CEO:

1. Zijn er in het verleden vertrouwens kwesties geweest met leveranciers? Hoe zijn jullie hiermee omgegaan? Wat was de invloed van de relatie hierop?

C. Onderhandelingen

De vragen die gesteld worden in het gedeelte onderhandelingen gaan over veranderingen die toegepast worden die financiële gevolgen hebben voor de contractuele relatie dan wel sociale relatie. Hiermee wordt bekeken wat voor effect onderhandelingen hebben op de relatie en deze vragen bepalen mede de verantwoordelijkheid die bedrijven tonen ten opzichte van dergelijke veranderingen.

Vragen voor de CEO:

Wat is de gebruikelijke manier van onderhandelen in de markt? Op uitnodiging, offertes of andere manieren?

1. Hoe makkelijk/snel gaan onderhandelingen tussen uw bedrijf en de leverancier X wanneer nieuwe plannen besproken moeten worden?

2.Wat valt er te zeggen over de openheid van beide partijen om items te heronderhandelen, indien daar behoefte voor is?

3. Als er veranderingen doorgevoerd moeten worden, in hoeverre delen beide partijen de verantwoordelijkheden en risico’s?

D. Onderlinge afhankelijkheid

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34 Vragen voor de CEO:

1. Hoe groot is de concurrentie op de markt van uw leverancier? 2. Zijn er in deze markt specifieke investeringen nodig in leveranciers? 3. Hoe afhankelijk is de leverancier van u als klant?

1.Hoe lastig is het om leverancier X te vervangen?

2.Wat voor significante investeringen hebben jullie gedaan in leverancier X en hoe heeft dat de afhankelijkheid beïnvloedt?

3.In hoeverre is jullie productie systeem afgestemd op de producten van leverancier X? (Bijv. switching costs bij overstappen naar een andere leverancier)

4.Hoe benut leverancier X de onderlinge afhankelijkheid die er in de relatie is?

E. Gebruik van macht in een relatie

De vragen die gesteld worden in dit gedeelte gaat over de machtspositie die bestaat tussen de twee belanghebbende partijen die bestaan uit een koper en een leverancier. Deze vragen zullen verduidelijken waar en wie relatief gezien de meeste macht heeft en wat voor effect deze machtspositie heeft op de relatie tussen de twee partijen.

De definitie van macht kan gezien worden als het vermogen om invloed uit te oefenen op keuzes die gemaakt worden in de relatie.

Er zijn diverse soorten macht die van toepassing kunnen zijn op het gebied van buyer-supplier relationships: kennis en expertise, positieve relatie, rechtmatige macht (op basis van contract), beloningen, uitdelen van boetes.

1. Er zijn diverse soorten macht waar een bedrijf voordeel van kan hebben, van welke soorten macht denkt u voordeel te hebben en hoe gebruikt u deze?

2. Wat kan leverancier X gebruiken om een beter voordeel te verkrijgen bij onderhandelingen? Wanneer dit gebeurt, hoe wordt dit duidelijk gemaakt? Waarbij gedacht word aan het gebruik van een macht beschreven in gedeelte A.

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Appendix B: Document study protocol

Item Outcome Measurement

Determined terms 1. Are the rights of

the buyer and supplier determined? Very determined Not determined 2. Are delivery quantities determined?

Very determined, fixed quantities

Less determined, flexible quantities

3. Are the prices

determined?

Very determined, fixed prices

Less determined, flexible prices

4. Are the timing

of payments determined?

Fixed timing in payment Flexible payment terms

5. Which audit

rights are determined for both parties?

Very determined Less determined rights

6. If goals aren’t

met, what are the effects?

Coercive effects Joint problem solving

7. Long or short

term agreement?

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Information and privacy 8. What

information is shared?

Little or irrelevant information sharing Critical and frequent information sharing

9. How are privacy

issues determined?

Very determined with high privacy protection Less determined with low privacy protection

10. At what interval

results are exchanged?

Results are not frequently exchanged, yearly

Results are frequently exchanged, monthly Clarity of roles 11. Which party is in control of planning and production?

One party is solely in control

Both parties jointly engage in planning and production

12. Are there

investments involved?

No investments Investments from both sides

13. How and by

whom are results measured?

Results are measured on frequent basis by one party

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37 progress Financial incentives 14. Is there any revenue sharing or risk sharing mechanism involved between both parties? 15. Is there a policy that safeguards the buyer and/or supplier against demand uncertainty?

16. Are price and

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Appendix C: Cross case comparison

Cases/Variables Case A Case B Case C Case D

Resource-based Trust

Well-established company

Very healthy firm Know their financial structure

Consistency for the long-term

Relational trust Frequently visits with the company

Direct contact with management Very open relationship Honest and customer-oriented supplier Price driven negotiations Negotiations about the conditions of the strategic item Making the supplier aware of the market prices

During negotiations prices and strategic elements are discussed Supplier is involved in project design Complexity of contracts Prices, quantities, delivery and duration are determined Prices, quantities, delivery and duration are determined Payments, flexible prices, duration and delivery causes Prices, quantities, delivery and duration are determined Delivery reliability

The supplier can deliver fast and constant, that’s a huge advantage of this supplier

The supplier must deliver on time, therefore we share our forecast with key suppliers

The supplier must deliver just in time supported by the MRP system. The suppliers deliver in time, there is confidence in the delivery reliability

Basic expertise Technological expertise about the strategic item

There is no technical expertise There is no technical expertise There is no technical expertise Replaceable dependence No other suppliers for strategic item

There are 100 substitute

suppliers

Replaceable, take some time to get to same quality level.

Replaceable, take some time to get to same quality level

Master Thesis Supply Chain Management