How to Conduct a Supplier Risk Assessment: Step by Step

Suppliers 

They are the heart of your procurement operations. 

Without a reliable supplier, you wouldn't be able to keep up with the demand from your customers. Whereas you work with suppliers to obtain the materials needed for your products or to carry out daily operations, the importance of finding the right supplier is something that cannot be overlooked.

And yes, knowing if your next or even current supplier could pose a risk for your company at some point, it’s part of the process.

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But where should you start?

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Supplier Risk Assessment: Definition 

You can see supplier risk assessment as the process of identifying, analyzing and mitigating all the risks associated with your company's suppliers. 

Done right,  it can be very useful to evaluate potential vulnerabilities that could harm your operations, finances, compliance, and yes your reputation as well.

Among the most common risks of working with suppliers you'll find: 

• Quality problems, are a serious issue as they can quickly damage your reputation in the market.
• Delivery times, no customer is going to stick around if you can't deliver what you promised on time.
• Financial instability, there's no point in starting a contract with a supplier that's a decision away to fill for bankruptcy.

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Why Is Supplier Risk Assessment Important?

Your suppliers play a crucial role in your success. If they are unable to meet your company’s requirements, you can face problems like the ones we mentioned above. The more proactive you are in your risk assessment strategy, the simpler it will be to spot possible issues so you can address their root cause before it’s too late. 

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Types of Supplier Risk

Operational risks 

Okay so you found a supplier and at first glance, everything seems fine, but have you stopped to think about the stability of their operations? 

Try to give them a score regarding how well they can deliver the products you need.  See if there are any potential issues like delays or poor quality, perhaps they've faced some disruptions in the past. 

If you are already working with them, establish mechanisms to keep an eye on performance levels, wet supplier audits, and maintain open communication so you can be aware if something is about to go wrong.

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Financial risks

Just like you consider your company's financial health, you have to consider how's your supplier doing, financially speaking 

A financially unstable supplier can pose a serious risk to your supply chain. For example, imagine what would happen if one of your main suppliers went bankrupt just when you needed their work the most. 

Messy, right? 

Assessing a supplier’s financial health through credit reports, financial statements, and industry benchmarks can help you determine their stability.

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Compliance risks

Compliance is a huge deal right now. Governments are imposing new regulations on aspects like cybersecurity or sustainability so yes you can see why having a supplier that ignores regulatory compliance would be troublesome.

Your suppliers must adhere to industry standards, labor laws, environmental regulations, and data protection policies.  To make sure this is respected, don’t forget to include it as a condition in the contract. 

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Cybersecurity risks

And speaking of cybersecurity, with increasing digital interactions, it's normal to see why cybersecurity should be a concern. Picture that one of your suppliers has their systems attacked, wouldn't your information or your customers’ information be at risk?  

When assessing a new supplier or evaluating the performance of your current suppliers, take into account their cybersecurity measures, data protection policies and incident response plans. 

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Reputational risks 

Most of the time we can understand people by their social circle. 

Well, it's not that different with businesses.

Your supplier's actions can reflect on your company's image. For example, if they're involved in unethical practices, face public scandals, or fail to meet sustainability standards it can seriously damage the way people see your business. 

So yes, it's always smart to carry out a background check. 

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Sustainability and ESG risks 

And of course, sustainability is another main concern.

Nowadays, we can find ESG factors gaining relevance and as climate change becomes more and more a dangerous reality, nothing seems to indicate that's going to change. Suppliers who engage in unethical labor practices, environmental harm, or governance issues can pose a serious problem for your business. Evaluate their ESG policies and set sustainability goals so your suppliers are aligned with what's important for you and your customers.

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How to Conduct a Supplier Risk Assessment?

Now that you have a better idea of what types of risks exist, let's look at how you can conduct an effective supplier risk assessment.

Define your objectives 

Is it really a plan without goals to follow?

No, at least not one that works.

So begin by setting clear objectives for your risk assessment. What do you need to find?

Sustainable practices? Supplier reliability? Financial health? Security measures?

The more specific you are, the simpler it's going to be.

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Create a supplier risk profile 

Develop a risk profile for each of your suppliers using key indicators that add up to a final score. Remember to use metrics that are relevant to your company so you can make a fair comparison and get accurate results.

Here are some questions that can help you:

• What are the terms agreed to in the contract?
• What's the contingency plan? 
• What's the supplier's capacity to meet your requirements?
• What are the supplier’s labor practices?
• What about their ESG behavior?
• What's the supplier's historical reputation?
• What's their financial record?

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Use risk assessment tools 

Supplier risk management software, automated risk scoring systems, and data analytics can provide real-time insights and improve accuracy so don’t have to worry about getting things wrong. 

Engage stakeholders

Procurement is rarely a one-person effort, so why not include your team in the assessment? Everyone relevant to the process like your procurement analysts, purchasing managers and even compliance departments should collaborate in the risk assessment process. Engaging with stakeholders ensures that you gather diverse insights and address risks from multiple perspectives.

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Implement a supplier risk assessment matrix

Nothing beats a good visual 

A risk assessment matrix helps you categorize risks based on their likelihood and impact.  This tool allows you to prioritize which risks require immediate action and which can be monitored over time. 

Here’s how you can implement an effective matrix:

• Define risk criteria, such as probability and impact levels.
• Assign numerical values to different risk levels to standardize evaluation.
• Map suppliers onto the matrix based on assessment data.
• Identify high-risk suppliers requiring immediate attention.
• Use the matrix to guide risk mitigation strategies and prioritization.

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Develop a mitigation plan

Okay so you know the risks, what's next?

Learning how to develop a solid mitigation strategy 

This could be, for example, embracing diversification in your supply chain, reviewing contracts, setting metrics for performance and implementing monitoring systems.

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Monitor your suppliers 

Contrary to what you might believe risk assessment is not something that you can do once and forget about it. If you want to see your suppliers meeting your expectations and getting ready for potential problems, keep a constant eye on their performance.

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The Role of Communication in Supplier Risk Assessment 

Strong communication with your suppliers can prevent misunderstandings and improve risk management. Regular check-ins, performance reviews, and transparent discussions about potential risks help maintain a productive relationship.

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Risk Levels and How to Handle Them

• Minimal Risk: No immediate action is needed, but it’s still good practice to keep track of supplier performance.
• Low Risk: These risks won’t disrupt your business significantly, so monitoring the supplier is sufficient.
• Moderate Risk: Some steps are required to reduce the risk, such as adjusting policies or requesting additional safeguards from the supplier.
• High Risk: Immediate action is necessary, and you’ll need to decide whether the supplier provides enough value to justify the risk.
• Severe Risk: Suppliers with extreme risks should be avoided altogether to protect your business.

Challenges of Supplier Risk Assessment 

No one-size-fits-all recipe

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This happens in most cases, depending on the size of your business or what sort of industry you belong to, you might face different risks. Maybe you are only starting in the market and your concerns differ from those already established as a large company.  However, the general steps we’ve listed here can help you to develop a roadmap designed for your specific needs. 

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Too complex

Following the case of a start-up that has just begun to work, performing a supplier risk assessment might seem like a task too difficult to handle. You have to not only allocate resources but also time to figure out which one of your suppliers could signify a risk for the company. And yet, as we've seen up till this point, the benefits of doing it are undeniable.

Data issues

Imagine that your supply chain is so large that you've so many suppliers that you don't really know what's happening with their processes or practices. To make things worse, they aren't really happy with sharing their information like financial records and quality metrics.

Lack of resources

To perform an effective supplier risk assessment, you need to develop a strategy and work with the right tools like a risk management or procurement software For some businesses this could be too much to handle. 

Future Trends in Supplier Risk Assessment

Supplier risk management is constantly evolving. Staying ahead of trends can help you prepare for future challenges.

Technology and AI on risk management

Artificial intelligence and automation are transforming supplier risk assessments. Predictive analytics, machine learning, and AI are here to help you be more efficient in your processes and make better decisions based on relevant facts.

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Risks in a globalized supply chain

As supply chains become more global, new risks emerge, such as geopolitical instability, climate-related disruptions, and evolving regulatory landscapes. Adapting your risk management strategies to address these challenges is crucial for long-term resilience.

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