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Journal of Operations Management xxx (2005) xxx–xxx

www.elsevier.com/locate/dsw

The supply base and its complexity: Implications for

transaction costs, risks, responsiveness, and innovation
Thomas Y. Choi *, Daniel R. Krause 1
Department of Supply Chain Management, W.P. Carey School of Business, Arizona State University, Tempe, AZ 85287-4006, USA
Received 10 December 2002; received in revised form 5 July 2005; accepted 20 July 2005

Abstract
A supply base is defined as the portion of a supply network that is actively managed by a buying company. The buying company,
referred to as the focal company, manages the suppliers in the supply base through contracts and purchasing of parts, materials, and
services. To facilitate better management of a supply base, we observe ‘‘complexity’’ as a key area of managerial consideration and
apply the literature on complexity to the supply base. Supply base complexity is conceptualized in three dimensions: (1) the number
of suppliers in the supply base, (2) the degree of differentiation among these suppliers, and (3) the level of inter-relationships among
the suppliers. Four propositions have been formulated in terms of four major areas of research within supply chain management—
transaction costs, supply risk, supplier responsiveness, and supplier innovation. Corollary propositions are also stated. Although a
reduction in complexity may lead to lower transaction costs and increased supplier responsiveness, in certain circumstances it may
also increase supply risk and reduce supplier innovation. Therefore, reducing supply base complexity in general may be a cost-
efficient approach, but blindly reducing it may potentially decrease the buying company’s overall competitiveness.
# 2005 Elsevier B.V. All rights reserved.

Keywords: Supply base; Complexity; Supply chain management

1. Introduction The focal company may induce working relation-

All businesses engaged in value-adding activities
purchase goods and services from a group of suppliers
(e.g., Dobler and Burt, 1996; Handfield and Nichols,
1999). This group of suppliers is called the ‘‘supply
base,’’ and the buying company that purchases from its
supply base is referred to as the ‘‘focal company.’’
Structurally, the focal company is at the center of all
suppliers in the supply base, coordinating and control-
ling its activities.
* Corresponding author. Tel.: +1 480 965 6135;
fax: +1 480 965 8629.
E-mail addresses: Thomas.Choi@asu.edu (T.Y. Choi),
Daniel.Krause@asu.edu (D.R. Krause).
1
Tel.: +1 480 965 9859; fax: +1 480 965 8629.
ships among suppliers (Handfield and Nichols, 1999),
while some autonomous relationships may emerge
among the suppliers (Choi et al., 2001). The overall
relationship arrangement between the focal company
and the supply base is depicted pictorially in Fig. 1. The
arrows indicate the direction of influence (e.g.,
coordination and control), and the lines connecting
suppliers indicate the relationships among the suppliers,
whether induced by the focal company or emerged
autonomously (e.g., joint product development, parti-
cipation in common supplier associations, buyer–
supplier relationships between suppliers, etc.).
With the recent trend of increasing levels of
outsourcing, orchestrating activities with suppliers in
the supply base from the perspective of a focal company
has become a top strategic issue (Agrawal and Nahmias,
1997; Dyer, 1996; Fine, 1998). In general, the more of

0272-6963/$ – see front matter # 2005 Elsevier B.V. All rights reserved.
doi:10.1016/j.jom.2005.07.002

OPEMAN-452; No of Pages 16
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2 T.Y. Choi, D.R. Krause / Journal of Operations Management xxx (2005) xxx–xxx
Fig. 1. Focal company and its supply base.
its inputs of production the focal company decides to
buy instead of make, the more dependent it is on the
supply base. More specifically, the higher the percen-
tage of purchased items and services to the total cost of
goods sold, the higher the significance of supply base
management to the company’s bottom line such as
return on investment or shareholder value (Dobler and
Burt, 1996).
In this paper, we propose to take a significant step
toward developing a theory of supply base management.
In reviewing the literature on buyer–supplier relation-
ships and supply base management, we concluded that
further development of a theory of supply base
management is currently being impeded by the lack
of a well-accepted set of terms and definitions. Thus, in
this paper we develop definitions to describe and
differentiate the supply base from other related
concepts. Subsequently, we propose a theory of supply
base management.
To facilitate better management of a supply base, we
posit ‘‘complexity’’ (e.g., Gottinger, 1983; Kauffman,
1993; Waldrop, 1992) as a key managerial issue that
supply chain managers must address (Choi et al., 2001).
Complexity refers to how the members of a system (e.g.,
suppliers in a supply base) are varied and interact with
one another. Whether contemporary supply managers
explicitly think in terms of supply base complexity, or
not, we propose that the degree of supply base
complexity affects transaction costs, supply risk,
Table 1
Key definitions
Term Definition
Complexity The degree of varied elements and their interactions within a system
Supply network All inter-connected companies that exist upstream to any one company in the value system
Supply base A portion of the supply network that is actively managed by the focal company through contracts and purchasing of parts,
materials, and services
Supply base The degree of differentiation of the focal firm’s suppliers, their overall number, and the degree to which they interrelate
complexity
supplier responsiveness, and supplier innovation.
Simply put, if one focal company deals with twelve
suppliers, it will face different problems than a company
with two suppliers. Also, if a company’s suppliers are
all from one industry and using one mode of
transportation, its supply base management effort
would be simpler than one with suppliers in many
different industries using different transportation
modes. Further, if a company’s suppliers interact, it
would create different supply base management
challenges than one with disconnected suppliers. These
seemingly simple illustrations, as we will demonstrate
in this paper, have solid theoretical foundations. We will
demonstrate how supply base management through the
lens of complexity has implications for a company’s
business efficiency and performance.
In the next few sections of the paper, we develop a set
of definitions for the constructs of supply base, supply
network, supply base management, and supply base
complexity. This effort is a necessary prerequisite to
developing a theory of supply base management. Table 1
offers a summary of the definitions of these key terms.
2. System and complexity
Thompson (1967) defined a system as a collection of
inter-related elements that acquires resources from
outside, transforms them, and delivers the products back
to the outside. Many researchers since then have studied
the complexity of a system and recognized it as a key
area of managerial consideration when working with a
system. Gottinger (1983) stressed that to manage a
system the complexity of that system must be under-
stood first; otherwise, interventions would lead to sub-
optimization. In the same vein, Vachon and Klassen
(2002) chose supply chain complexity as the primary
construct impacting the delivery performance across
supply chains. Further, Choi et al. (2001) recognized
supply networks as complex adaptive systems and
suppliers as autonomous actors and discussed how to
manage the complexity of supply networks. Choi and
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Hong (2002), in their study of Honda’s and Daimler-
Chrysler’s supply networks, framed complexity as a
systems-level construct.
In this paper, the system considered is the supply
base, and complexity is viewed from the perspective of
the focal company. Building on the definitions of
complexity used by Kauffman (1993), Waldrop (1992),
and Dooley (2001), we regard supply base complexity
as a factor of the number of suppliers in the supply base,
the level of supplier interaction, and the degree to which
these suppliers vary in terms of organizational culture,
size, location, technology, and so on. In other words, the
greater the number of suppliers, the greater their
variation, and the greater their level of interaction, the
greater the operational ‘‘load’’ borne by the focal
company in managing its supply base. This type of load
entails organizational costs associated with managing a
supply base such as administrating increased frequency
of interactions and devising strategies for a higher level
of uncertainty. In this regard, complexity is a way of
characterizing the supply base, and the load is the
burden borne by the focal company given the level of
complexity in its supply base. Essentially, the level of
supply base complexity has important implications for
the level of transaction costs, supply base risk, supplier
responsiveness, and innovation experienced by the focal
company.
Next in this paper, we frame the topic of a supply
base in the context of broader supply networks. After
that, we proceed with an in-depth discussion of the
supply base. Complexity is then conceptualized,
followed by an articulation of key dimensions for
managing supply base complexity. We formulate a set
of propositions concerning the theoretical implications
of complexity in supply base management and illustrate
these concepts with case examples from case studies we
conducted and of which we have first hand knowledge.
We conclude the paper with a discussion of managerial
and research implications.
3. Supply network and supply base
What is a supply network and how is it related to a
supply base? In the last few years, many authors have
shown interest in supply networks (e.g., Choi et al.,
2001; Choi and Hong, 2002; Lamming et al., 2000;
Stuart et al., 1998). These authors generally espouse the
value of looking beyond immediate suppliers and
considering a supply network as a system. A supply
network is the network of companies that exist upstream
to any one company in the value system (Porter, 1985).
A supply network in this regard includes all companies
3
that take part directly or indirectly in supplying
industrial inputs to a focal company with or without
that company’s knowledge (Choi et al., 2001). Thus, for
example, third- and fourth-tier suppliers with which the
focal firm has no direct contact, and of which the focal
company may not even be aware, are part of the focal
firm’s supply network.
Accordingly, Choi et al. (2001) framed supply
networks as complex adaptive systems (Dooley, 1997;
Goldstein, 1994; Holland, 1995; Kauffman, 1993, 1995;
Waldrop, 1992) and articulated their behavioral
characteristics. One of the key observations these
authors made is that a supply network emerges over
time with no single company deliberately orchestrating
the totality of its design. They argued that because a
supply network evolves spontaneously (e.g., Goldstein,
1994; Waldrop, 1992), much of what occurs in supply
networks is outside the managerial purview of the focal
company. For example, a third-tier supplier may decide
to switch suppliers, unbeknownst to the primary focal
firm, or a supplier may adopt a new technology which
may raise or lower its prominence in the focal
company’s supply chain.
However, there is a group of suppliers that is within
the reach of the ‘‘visible hand’’ of the focal company.
These suppliers are actively managed through contracts
and the purchase of parts, materials and services (See
Fig. 1). This group of supplier companies is collectively
referred to as the supply base of the focal company, and
it is the portion of the supply network that is within the
managerial purview of the focal company. Formally,
this definition (see Table 1) is as follows:
Supply Base: A focal firm’s supply base is defined as
only those suppliers that are actively managed
through contracts and the purchase of parts,
materials and services.
It is important to note here that not all suppliers in the
supply base are first-tier suppliers—a common mis-
perception is that they are all first-tier suppliers.
According to Choi and Hong (2002), depending on a
focal company’s supply base management policies and
strategies, a supply base may include suppliers in
second- and third-tiers. In other words, the suppliers
that are being managed by the focal company, as
depicted in Fig. 1, may not necessarily supply goods and
services directly to the focal company, but instead they
may supply them to other suppliers in the supply base.
This practice is commonly referred to as ‘‘directed
sourcing.’’ According to Choi and Hong’s study (2002),
Honda’s supply base included a much higher number
of second- and third-tier suppliers than that of
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DaimlerChrysler’s. Thus, it appears that different
companies configure their supply bases differently.
Many authors have tried to explain the relationships
between a focal company and its suppliers through the
lens of transaction cost economics (e.g., Dyer, 1996;
Ellram, 1991; Rindfleisch and Heide, 1997; Trent and
Kolchin, 1999; Walker and Poppo, 1991). In our view,
however, the transaction cost is not the only issue that
the managers of a supply base should be concerned
about. It is our intention in this paper to move beyond
the transaction cost perspective by considering supply
risk, supplier responsiveness and supplier innovation to
provide a richer theoretical foundation for explaining
supply base management practices through the lens of
supply base complexity.
4. Supply base management
If we consider the classic definition of management
as planning, organizing, leading, and controlling (e.g.,
Stoner et al., 1995), the term management would be
more appropriately applied to a supply base than it
would to a supply chain or supply network. Whatever is
beyond the managerial reach of the focal company
cannot possibly be planned, organized, led, and
controlled in this classic sense (Choi et al., 2001).
Therefore, it is not surprising to find more examples of
supply base management than supply network manage-
ment. In this section, we review some of the practices
through which focal companies have managed their
supply bases.
During the past decade, the most commonly
observed supply base management practice was focused
on the number of suppliers the focal company
maintained in its supply base. In general, companies
reduced the number of suppliers in their supply base.
This practice, called ‘‘supply base optimization’’ or
‘‘supply base rationalization,’’ consists of increasing or
decreasing the number of suppliers in the firm’s supply
base. The focus of this effort is reduction of
administrative and transaction costs and cost savings
from concentrating greater purchase volumes with
fewer suppliers (Tully, 1995; Handfield and Nichols,
1999). Trent and Monczka (1998) reported how
aggressively companies reduced their supply bases in
the name of supply base optimization during the late
1980s and early 1990s, and they expected this trend to
continue. Other authors (Krause, 1997; Ballew and
Schnorbus, 1994; Bamford, 1994; Raia, 1992) also
reported how large original equipment manufacturers
(OEMs) such as General Motors (GM) and General
Electric (GE) reduced the number of suppliers in their
supply bases. As a consequence, these companies in
general saved a significant amount of corporate
expenditures typically spent for constant haggling with
multiple suppliers for price or deliveries. Instead, they
could focus on longer term strategic issues, such as
developing or sharing of technologies. To this end,
many focal companies now favor a single or dual
sourcing strategy, as opposed to multiple sourcing, for a
given purchase.
One of the natural consequences of supply base
reduction was the focal company’s increased reliance
on remaining suppliers. Issues of supplier capacity (e.g.,
production capacity) and capability (e.g., new product
development capability) became much more salient.
Many focal companies realized that their operations
were now much more closely intertwined with the
operation of the suppliers (Agrawal and Nahmias, 1997;
Ahuja, 2000; Cusumano and Takeishi, 1991; Handfield
and Nichols, 1999). For instance, when Deere embarked
on a strategy to more closely synchronize the
production of its products with seasonal demand, the
critical factor was not inside the company but outside of
it. The managers realized that the suppliers held the key
to becoming more flexible in order to meet fluctuating
demands. According to one manager, ‘‘When we made
the decision to change our factory operations, we found
out that we could not because it was not totally within
our control. It was within the control of our suppliers’’
(Sheridan, 1999, p. 52).
Consequently, many focal companies have chosen to
conduct various forms of supplier development by
improving activities such as reorganization of the
process of work (Hartley and Choi, 1996; Krause et al.,
1998; Watts and Hahn, 1993). In particular, Hartley and
Choi (1996) illustrated supplier development activities
in which the focal company was considered as the
‘‘catalyst of process change’’ (p. 37). Some focal
companies went even further by making significant
structural changes to their supply bases. They promoted
the consolidation of several smaller suppliers into one
large, integrated supplier with higher production
capacity and added capability, such as product
development. Krause and Handfield (1999) noted one
focal company in the electronics industry that first
increased the level of outsourcing and then reduced the
supply base. The company reduced the supply base to
such an extent that 97% of outsourcing expenditures
were going to only about 40 suppliers, with the top 5%
receiving 65% of the total spend (e.g., about US$ 4
billion).
Further, as discussed before, some focal companies
maintain second- or third-tier suppliers in their supply
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bases in order to increase either common parts or
capability (Choi and Hong, 2002). For instance, some of
the suppliers for DaimlerChrysler’s and Honda’s supply
bases appear in the second- or third-tier because they
supply a common part that is used across several
different product lines (e.g., a specific fastener) or they
have a license to develop a particular part (e.g., a
damping mechanism) that is used in the assembly by
another supplier in the supply base. The use of common
parts helps save costs, and the use of an intellectual
property owned by a second- or third-tier supplier
allows the focal company to reduce the time to market.
In general, the success of these suppliers is critical to the
success of the focal company because their parts
eventually go into the product that is sold in the
consumer market. For this reason, Honda articulates
that its parts suppliers at second- and third-tier levels do
not merely make parts but they are in fact making a
Honda.
5. Conceptualization of complexity
Several authors who studied organization design
(e.g., Price, 1972; Price and Mueller, 1986) and social
systems (e.g., Dooley, 2001; La Porte, 1975) have
offered definitions of complexity. Price (1972) defined
complexity as ‘‘the degree of structural differentiation’’
(p. 70). For instance, an organization with lots of
departments would necessarily be more complex than
one with a few departments. La Porte (1975) echoed this
idea by asserting that a complex system has many parts
whereas a simple system has only a few parts. Blau and
Schoenherr (1971) defined complexity as ‘‘the number
of structural components that are formally distin-
guished’’ (p. 302) within the organization. Price and
Mueller (1986) offered a similar definition: ‘‘Complex-
ity is the degree of formal structural differentiation
within an organization’’ (p. 100). The conception of
complexity underlying these definitions is that com-
plexity is associated with the number of elements within
the system and the degree to which these elements are
differentiated.
More recently, scholars from the pure sciences such as
computational physics and evolutionary biology (see
Kauffman, 1993; Waldrop, 1992) have used the term
complexity to characterize self-organizing systems (see
Choi et al., 2001; Dooley and Van de Ven, 1999, for a
synopsis). Implicit in this use of complexity is the inter-
relatedness of the elements within the system; self-
organizing would necessarily require interactions among
the elements. Choi and Hong (2002) and Dooley (2001)
subsequently associated the degree of coupling or
5
interactions among the elements within the system with
the level of complexity. In other words, when the
elements are coupled together and make volitional
choices (Schein, 1997; Senge, 1990) as in the case of
suppliers in a supply base, a new dimension is brought
forth, namely the inter-relationships among the ele-
ments. Simply put, a supply base with two independent
suppliers is less complex than a supply base with two
suppliers inter-related or linked; the inter-relation results
in more complexity for the focal company.
Therefore, from the perspective of a focal company,
the most immediate area of supply base complexity is
the number of suppliers in the supply base. The level of
supply base complexity affects the level of effort, or
operational load, required to manage a system such as a
supply base. This is precisely why many companies
such as GM and GE have worked hard to reduce the
number of suppliers in the supply base. However, based
on our review of the literature on complexity, they
should also consider how differentiated the suppliers are
and how these suppliers are inter-related. The higher the
number of differentiated elements in the supply base,
the higher the load or the corporate resources required
to manage it. Thus, in addition to the number of
suppliers in the supply base, similarity or dissimilarity
of these suppliers and the inter-relationships among
them will affect the amount of organizational resources
and energy a focal company must expend to manage its
supply base. We will consider theoretically how the
level of complexity affects the level of transaction costs
and the level of supply base risk, responsiveness and
innovation.
6. Key dimensions for managing supply base
complexity
It follows from the previous arguments, then, that
there are three dimensions that managers should
consider when managing the complexity of a supply
base: (1) the number of suppliers in the supply base, (2)
the degree of differentiation of these suppliers, and (3)
the level of inter-relationships among the suppliers.
Having arrived at these three dimensions drawing from
various literature sources including organization design,
organization development, and supply chain manage-
ment, it is striking to note that these dimensions in fact
correspond to the variables captured in the ‘‘NK’’ model
of complex system proposed by Kauffman (1993). He
approached complexity from a more mathematical and
technical perspective.
The three variables in the NK model that correspond
with our three dimensions include: ‘‘N’’ sites that exist
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within a complex system, ‘‘A’’ alternative states that
these sites can be in, and ‘‘K’’ number of functional
couplings among the sites. These three variables overlap
quite precisely with our dimensions in that N, A, and K
point, respectively, to the number of suppliers, the
degree of differentiation, and the level of inter-
relationships. Furthermore, in his description of the
complexity of social systems, La Porte (1975) also
proposed similar dimensions from a sociological
perspective. They are: the number of social components
in a social system, the role/position differentiation of
these components, and the degree of inter-dependence
of the functional operations of these components.
Therefore, we feel confident that we have captured three
key dimensions of complexity. We further refine these
terms below.
6.1. Number of suppliers
In the context of supply base management, number of
suppliers refers to the number of current suppliers with
enduring business relations. As was discussed above,
when supply managers state that they have rationalized
or optimized their supply bases, they are often referring
to a reduction of the number of suppliers in their supply
bases; in other words, they have attempted to reduce the
complexity of their supply bases.
As pointed out by Handfield and Nichols (1999),
using multiple suppliers for a single part or component
increases the level of coordination needed to improve
the efficiency of operations. With fewer suppliers, the
focal company can implement a more efficient buyer–
supplier interface through, for instance, more cost-
effective inventory or order control.
6.2. Differentiation of suppliers
Differentiation of suppliers in the supply base can be
defined as the degree of different characteristics such as
organizational cultures, operational practices, technical
capabilities, and geographical separation that exist
among the suppliers in the supply base. It would be
easier for the focal company to coordinate activities
with suppliers if they share a common culture and work
norms and suppliers are in close geographical proxi-
mity. The traditional keiretsu structure in the Japanese
supply networks is a case in point (Nishiguchi, 1994).
This structure refers to the group of companies that have
organized themselves around a powerful focal company
and work together as if they belong in the same clan
(Burt and Doyle, 1993; Womack et al., 1990)—they
share common work norms and communication styles
that enable them to work together efficiently. Also,
these suppliers are typically found in the same
geographical area where the focal company is located.
To summarize, supply base complexity is higher for
a focal company if its suppliers have different
operational practices (e.g., one supplier operates in a
push system and another in a pull system), cross-border
barriers (e.g., different languages are spoken or goods
must travel a long distance), or varying levels of
technical capability (e.g., if some suppliers lag in their
technical capability, the focal company may need to
conduct additional supplier development to make them
more competitive). As Dooley (2001) pointed out, it is
easier to make connections between similar elements
than between dissimilar elements.
6.3. Inter-relationships among suppliers
The supply chain literature has begun addressing the
inter-relationships among suppliers as supplier–sup-
plier relationships (Choi et al., 2002; Wu, 2003).
Although buyer–supplier relations have received ample
attention in the literature (e.g., Cusumano and Takeishi,
1991; Helper, 1991), supplier–supplier relations, that
are also active in the supply networks, in fact have just
started to receive some attention (e.g., Kamath and
Liker, 1994; Wu and Choi, in press).
Indeed, it is not unusual to find working relation-
ships between suppliers in the supply base. For
example, in a supply base of an auto manufacturer, a
plastic molding company may supply plastic parts
(e.g., interior parts) to a metal parts manufacturer, and
this manufacturer can simultaneously supply metal
parts (e.g., connectors) to the same plastic molding
company. It is interesting to note that many of these
reciprocal relationships among suppliers in the same
supply base are often unknown to the focal company.
Further, when the inter-relatedness among suppliers
moves beyond a dyadic context (e.g., one supplier to
one supplier) to a triadic context (e.g., two suppliers
competing against each other to provide products to
another supplier in the same supply base), the
dynamics become much more complex (Smith and
Laage-Hellman, 1992; Wu and Choi, in press). For
instance, in the aerospace industry, groups of
suppliers that used to compete against one another
have now organized themselves into a cooperative-
type, virtual organization to gain more leverage
in contracting with a focal company such as
Honeywell or Boeing; one example of such supplier
organization is Arizona Manufacturing Network (i.e.,
www.azmanufacturing.com).
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In addition to exchange of physical goods, exchange
of information may occur in supplier–supplier interac-
tion. In a typical competitive supplier–supplier relation-
ship, limited objective information about another
supplier (such as predictable demand, competitor’s
product features, and production capacity) can be
obtained from the market research or through the
buying firm. In contrast, more context-rich and
qualitative information may flow in a cooperative
supplier–supplier relationship (Choi et al., 2002). If the
information exchange between suppliers is for better
coordination of product specification, production
quantity, or delivery timing, a focal company may
welcome the supplier–supplier interaction. For exam-
ple, Toyota’s top-tier supplier association, kyoryoku kai,
helps standardize quality control procedures, diffuses
Toyota’s best practices, and supports its long-term
development (Stuart et al., 1998). However, it may not
want its suppliers to exchange information regarding
bidding prices or their experience with the focal
company regarding price policy. Cooperative sup-
plier–supplier relationships can often stray into collu-
sion (Brandenburger and Nalebuff, 1996; Choi et al.,
2002; Hill, 1990). Therefore, inter-relationships in the
supply base present itself as another dimension of
complexity for focal companies to manage.
In general, these three dimensions aggregated
together create the complexity of a supply base.
Therefore, we propose the following definition (see
Table 1):
Supply Base Complexity: The degree of differentia-
tion of the focal firm’s suppliers, their overall
number, and the degree to which they interrelate.
When there are multiple suppliers, higher degrees
of differentiation, and many inter-relationships among
the suppliers in the supply base, the complexity of
supply base is relatively high. Less differentiation,
Fig. 2. Impact of supply base complexity on focal company.
7
fewer inter-relationships, and/or fewer suppliers
equals lower supply base complexity. In the next
section, we will associate the complexity of the
supply base to a few key dependent measures that
have been highlighted in the supply base management
literature.
7. Formulation of propositions
Based on our review of the literature, there are four
key areas of managerial focus when it comes to
managing a supply base. They are: transaction costs
(Dyer, 1996; Ellram, 1993; Trent and Kolchin, 1999;
Walker and Poppo, 1991; Walker and Weber, 1984),
supply risk (Ellram, 1991; Treleven and Schweikhart,
1988; Zsidisin, 2001), supplier responsiveness (Car-
bone, 1999; Celly et al., 1999; Goodman et al., 1995),
and supplier innovation (Ellram and Choi, 2000; Miles,
1984; O’Connor, 1994; Raia, 1992). Managing transac-
tion costs focuses on minimizing the costs incurred at
the interface between a focal company and its suppliers;
managing supply risk refers to minimizing potential
negative events that might occur in procuring the goods
and services from the suppliers; supplier responsiveness
addresses the timeliness of the movement of goods and
services such as on-time delivery and suppliers’ ability
to meet changing requirements; and managing supplier
innovation entails tapping into suppliers’ creativity for
product and process improvements.
We propose the following relationships between
supply base complexity and each of these four
constructs, as shown in Fig. 2. A positive relationship
is depicted with a plus sign, a negative relationship is
shown with a minus sign, and a quadratic relationship is
symbolized by a U-shape sign. These relationships
depict a general trend between supply base complexity
and each of the four managerial focuses as dependent
measures. However, the focal company can emphasize
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8 T.Y. Choi, D.R. Krause / Journal of Operations Management xxx (2005) xxx–xxx
any one of the three dimensions of supply base
complexity and can set up as the strategic thrust any
one of the four dependent measures. In each of the four
sections that follow, we will introduce the general
proposition and, whenever possible, follow that with
more specific and detailed corollaries involving each of
the supply base complexity dimensions and the four
dependent measures.
7.1. Transaction costs
As transaction cost economics deals with the cost
considerations involved in making outsourcing decisions
(e.g., Walker and Weber, 1984), many researchers in the
supply chain management area have shown interest and
have adopted it to facilitate their research (e.g., Trent and
Kolchin, 1999). Based on Williamson’s (1981) definition
of transaction costs as ‘‘economic counterpart of
(physical) friction’’ (p. 552), we view transaction costs
in our context as a frictional cost of doing business with
suppliers (e.g., Walker and Poppo, 1991). The frictions
arise primarily from the focal company’s interaction with
suppliers as external entities to obtain the needed inflow
of materials, parts, and services. There are many sources
of such frictions. Dyer (1996) noted that identifying
qualified suppliers, contracting with suppliers, monitor-
ing suppliers, and enforcing agreements were potential
sources of friction. Ellram (1993) offered a more specific
set of transaction costs, such as order placement and
preparation, transportation of the goods, inspection,
return of parts, and follow-up and correction of orders.
Therefore, the locus of transaction costs is at the
interface between a focal company and its suppliers.
Costs are incurred for ‘‘developing and maintaining an
exchange relationship, monitoring exchange behaviors,
and guarding against opportunism in an exchange
situation’’ (Pilling et al., 1994, p. 239). It follows then
that the larger the number of suppliers in the supply
base, the more the potential for friction and, thus, the
higher the transaction costs. Also, the more differ-
entiated the suppliers and the more inter-dependencies
among the suppliers, the higher the cost of coordination
or frictional cost. For instance, to the extent one
supplier’s operating procedures are different from
another supplier, the frictional costs incurred at the
focal company will be higher. To begin with, the focal
firm may have to cope with two different ways of
keeping documents. Also, to the extent the suppliers
interact closely together, the cost incurred at the focal
company will be higher to guard against suppliers’
opportunistic behaviors as in the prisoner’s dilemma
(e.g., Hill, 1990). This observation is made based on the
basic assumption underlying transaction cost econom-
ics that industrial players necessarily behave opportu-
nistically (Williamson, 1981). Conversely, a less
complex supply base would lead a focal company to
lower transaction costs due to less negotiation, fewer
communication channels, less order placing, and better
tracing of problems. Therefore, we offer the following
general proposition.
Proposition 1.1. Supply base complexity is positively
associated with the total transaction cost the focal
company incurs from interacting with the supply base.
However, in general, many focal companies have
focused primarily on reducing the number of suppliers
in an effort to reduce transaction costs. We have
observed this tendency in major auto companies (e.g.,
Ballew and Schnorbus, 1994; Bamford, 1994) as well as
in high tech companies and aerospace industries
(Handfield et al., 2000). Consider a large electronic
subcontractor referred to here as Electron (Krause and
Handfield, 1999). In an effort to reduce transaction
costs, this company strives to keep the number of its
suppliers down. Electron manufactures electronic
components and sub-assemblies for a wide array of
products including computers, peripherals, and tele-
communications equipment; this is a very cost-
competitive business. Clearly, in order to obtain volume
discount and to reduce administrative costs, Electron
tried before anything else to concentrate its spend to a
few suppliers. Therefore, we have observed, as many
others have (e.g., Ballew and Schnorbus, 1994;
Bamford, 1994; Handfield and Nichols, 1999; Trent
and Monczka, 1998; Raia, 1992), that a company that
focuses on transaction cost seems to take on supply base
reduction before considering the other areas of
complexity.
Proposition 1.2. When a focal company sets the reduc-
tion of transaction costs as a strategic goal, it generally
focuses on reducing the number of suppliers rather than
reducing the level of differentiation or the level of inter-
relationships among suppliers.
Furthermore, many scholars have pointed out how
opportunistic behaviors diminish when the transactions
occur on a repeated basis (Dwyer and Oh, 1988; Hill,
1990). Hill (1990), for instance, illustrated how the
probability of opportunism goes down in repeated
transactions. This observation has a profound implica-
tion for the relationship between the level of inter-
relationship and transaction costs. If the supply base is
reduced sufficiently to warrant long-term relationships
between the focal company and its suppliers who
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T.Y. Choi, D.R. Krause / Journal of Operations Management xxx (2005) xxx–xxx
engage in repeated interactions, then the concern for
opportunism would be reduced and, thus, the cost for
guarding against opportunistic behaviors would also
diminish. What that means is that the focal company
would not have to expend as much resources in
monitoring the inter-relationships among suppliers for
their opportunistic behaviors. Further, a high level of
inter-relationships among suppliers would also reduce
the level of differentiation among the suppliers and
make it easier for the focal company to engage in
transactions with them, thus reducing transactions costs.
Proposition 1.3. Once the supply base is reduced and
repeated transactions occur, the level of inter-relation-
ships among suppliers and transaction costs are nega-
tively associated.
7.2. Supply risk
According to Zsidisin (2001), supply risk is defined
as ‘‘the potential occurrence of an incident associated
with . . . suppliers of the supply [base] in which its
outcomes result in the inability [of a focal company] . . .
to meet [its] customer demand’’ (p. 35). Thus, supply
risk is associated with the negative events that arise
from the supply base that hinder the focal company’s
ability to meet its customers’ demands.
Negative events may come in various ways. For
example, disruption of supply may be caused by fire or
strike at a supplier’s plant. Nishiguchi and Beaudet
(1998) illustrated the strategy taken by Toyota to
alleviate such risk. Also, the supplier may be one of a
few suppliers that have acquired the focal firm’s
technological core knowledge; thus, it becomes a
potential competitor. Bleeke and Ernst (1995) discussed
how Thomson Consumer Electronics was first a
supplier to JVC and then eventually moved into the
JVC’s market as a competitor after acquiring the
technologies from JVC. In a similar context, a different
supplier may attempt to take advantage of the situation
by escalating the price. Also, if the technology that
suppliers bring in is critical to the focal company, there
is a risk related to maintaining access to new technology
required to meet customers’ demand. In this regard, the
risk discussed in this section clearly takes us beyond the
risk due to suppliers’ opportunism discussed in the
previous section. In other words, risk discussed here
arises due to a particular structural arrangement or
managerial decisions, whereas risk discussed in the
previous section comes from the opportunism as an
underlying behavioral assumption.
From a theoretical perspective, complexity and risk
are closely related concepts. According to Luhmann
9
(1995), because complexity usually accompanies high
degrees of freedom in a system from a control-theoretic
perspective, managers cannot attempt to control all
elements in the system simultaneously but need to
address them selectively in an incremental approach. As
soon as the manager engages in an act of selection, this
immediately translates into taking a risk of incurring an
opportunity cost born by the unselected alternatives.
Imagine a supply base that is on the non-complex end
of the complexity continuum. The focal company has
reduced the size of the supply base to the point where it
is using a single sourcing strategy (e.g., Cusumano and
Takeishi, 1991; Treleven and Schweikhart, 1988). The
technology of suppliers within the supply base is
similar, and these suppliers have little interaction
among them. In this case, since all incoming materials
are single-sourced, the focal company is vulnerable to
negative events that may occur at the supplier’s plants
(e.g., Nishiguchi and Beaudet, 1998). It is further
exposed to the risk of not having access to new and
varied technologies. Consequently, the focal company
may be subject to significant risk or the increased
probability of exposure to undesirable events.
On the other hand, a very complex supply base may
also be associated with high supply risk as well. An
increased number of suppliers would increase the
probability of unreliable delivery (Handfield and
Nichols, 1999; Nishiguchi, 1994), because it becomes
more difficult for the focal company to control all
suppliers. The differentiation and inter-relationship
dimensions of complexity would also increase the
difficulty of coordinating with the supply base and the
probability for undesirable events to occur. Indeed,
dense business relations in the supply base may lead to
higher supply risk. For instance, if a supplier of a
supplier is also supplying to the same focal company,
this situation will leave the suppliers vulnerable to
demand fluctuation (Fine, 1998; Lee et al., 1997). If the
demand for the final product increases, the supplier of a
supplier would receive more orders from the other
supplier as well as from the focal company. This
situation would aggravate capacity availability of that
supplier. Furthermore, active information exchange
among suppliers may increase supply risk as well.
When the wall between the suppliers disappears, the
buyer loses the control over ‘‘the flow of information
between the suppliers that it can leverage for its own
benefit’’ and the cooperative relationship may lead to
collusive activities (Choi et al., 2002). Therefore, the
information exchanges among suppliers associated with
a high complexity of supply base would lead to the high
level of supply risk due to the potential for collusion.
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The core issue here is the management of risks.
Overall, it appears then that the level of supply risk is
expected to be high both at the low end and high end of
the supply base complexity level. Since it seems clear
that risk becomes more moderate with the reduction of
the highly complex supply base until its size reaches the
other extreme, the following proposition is offered.
Proposition 2.1. There is a positive quadratic relation-
ship between supply base complexity and supply risk
that the focal company assumes when working with its
supply base.
The following example illustrates how one company
first tried to reduce its supply base to the extreme end of
minimal complexity but then realized the inherent risk
associated with this decision to work back up the
number of suppliers to the moderate level (Krause and
Handfield, 1999). This company, called Computon, is a
manufacturer of electronics for consumer and industrial
applications. The Materials Director noted that the firm
is working hard to improve the proficiency of its
procurement. A few years ago, the company had 84
cable suppliers, and a commodity team traveled the
globe to assess all 84 suppliers. Eventually, the team
identified four preferred suppliers based on the highest
assessment scores. These four suppliers were brought
together to discuss how they, as a group would meet
Computon’s needs.
Computon wanted to minimize the risk of running
out of parts from these suppliers. The four suppliers
were encouraged to be mutually supportive of each
other. Computon fostered contingency planning
among the four to ensure supply in case of emergencies
such as fires and floods. The Materials Director then
noted that, several months after the decision, they
finally came to a realization that the risk of working
with just four suppliers to fulfill all Computon’s cable
needs would be too high. Consequently, Computon
increased the number of cable suppliers to between 10
and 15.
In addition to illustrating the proposition above, this
example brings to the fore an interesting observation. In
its effort to reduce supply risk, Computon focused on
the number of suppliers first and then once the number
was reduced to the desired level it focused on the
increased level of inter-relationship among suppliers.
We make the observation that this trend is more general
beyond this one case of Computon. For instance,
Nishiguchi (1994) pointed out how the focal companies
(e.g., Sony and Toyota) in the post-war Japan first began
working with limited number of suppliers and then
began to forge certain relationships within suppliers.
Therefore, it would be interesting to consider the
relationship between complexity and supply risk once
the number of suppliers is lowered and maintained at a
particular level.
When we developed Proposition 2.1, we considered
all three dimensions of supply base complexity as
moving in the same direction with respect to one
another. For instance, the increase in complexity meant
the increase in the number of suppliers as well as
increased differentiation and inter-relationships. How-
ever, as discussed below, if we were to theoretically hold
constant the number of suppliers, then we might observe
a different pattern emerging between the remaining two
dimensions of supply base complexity (differentiation
and inter-relationships) and supply risk—a curvilinear
and not quite a quadratic relationship and a mixed not
just a positive relationship.
If the level of differentiation were low, then the level
of supply risk would tend to be low, given the fixed
number of suppliers. This is how Toyota manages its
suppliers (Liker, 2004)—it wants its suppliers to learn
the Toyota production system so that it becomes easier
to substitute one supplier for another. With a low level
of differentiation, suppliers would be more susceptible
to the risk reduction strategies where one supplier can
more easily step in for another supplier in case of an
emergency. By the same token, as the differentiation
increases, the risk would also increase gradually, thus
exhibiting a positive curvilinear trend between the level
of differentiation and supply risk. Contrarily, in the case
of inter-relationships, the curvilinear relationship seems
to be negative. Here, a low level of inter-relationships
among suppliers would be associated with a high risk—
with the low level of inter-relationships it would be
difficult for one supplier to step in for another supplier
in case of an unexpected event. But as the inter-
relationships increase, the risk mitigation strategies
could be implemented more readily and, thus, the level
of risk would decrease gradually.
Proposition 2.2. Given a fixed number of suppliers,
there is a positive curvilinear relationship between the
level of differentiation and supply risk.
Proposition 2.3. Given a fixed number of suppliers,
there is a negative curvilinear relationship between the
level of inter-relationships and supply risk.
7.3. Supplier responsiveness
With the advent of just-in-time (JIT) purchasing and
other time-based management strategies, how quickly
and how well suppliers respond to the time-sensitive
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requests of the focal company have become important
issues (Dion et al., 1992; Hendrick, 1994; Schonberger
and Gilbert, 1983). The study conducted by Goodman
et al. (1995) illustrates the importance of the supplier
responsiveness to the focal company to meet its
customer’s expectations. In this context, supplier
responsiveness is viewed as the degree of promptness
and accuracy of the supplier’s response to the focal
company’s requests for new requirements.
At a glance, it may seem that the higher the number
of suppliers, the higher the level of supplier respon-
siveness. This is largely so because more suppliers are
usually associated with more competitive pressures and
more competitive pressures seem to lead to more
supplier responsiveness. However, studies done by
Celly et al. (1999) and Goodman et al. (1995) suggest
that competitive pressure does not play as major a role
as we might expect when the focal company is looking
for supplier responsiveness. A close relationship and
open communication between the focal company and its
suppliers is what really leads to supplier responsiveness
(Liker and Choi, 2004). Most likely, this is the reason
why we observe widespread use of ‘‘preferred’’
suppliers in many industries. By working with a limited
number of preferred suppliers for consolidated pur-
chases, the focal company can be more effective in
communicating its needs and can better induce the
suppliers to be more responsive to its immediate needs.
For instance, in their study of sourcing strategies,
Treleven and Schweikhart (1988) found that single
sourcing is more conducive to supplier responsiveness.
When design changes are required, suppliers are
expected to respond quickly. And in such cases, single
sourcing provided greater responsiveness and flexibility
due to the closer communication links between the focal
company and its supplier. Larson and Kulchitsky (1998)
also found that single-sources were positively corre-
lated with buyer–supplier cooperation which leads to
supplier responsiveness. Handfield and Bechtel (2002)
also suggested that a good relationship between a focal
company and its suppliers is key in improving supplier
responsiveness.
Therefore, regarding the number of suppliers, there
should be a negative, not a positive, association between
supply base complexity and supplier responsiveness.
Furthermore, if we were to argue that the more
differentiated the suppliers are, the more difficult it
becomes for the focal company to maintain a close
relationship, the differentiated aspect of supply base
complexity should also be negatively associated with
supplier responsiveness. Also, a high number of inter-
relationships among the suppliers that are beyond the
11
purview of the focal company would add to the
complexity the focal company must contend with when
dealing with their suppliers. Therefore, it can hinder the
focal company’s ability to work closely and lead to the
reduction of the supplier responsiveness.
Proposition 3.1. Supply base complexity is negatively
associated with supplier responsiveness from the per-
spective of a focal company.
A company called Electronix serves to illustrate how
it engaged in reducing the number of suppliers from its
supply base and its effort to cultivate supplier
responsiveness (Krause and Handfield, 1999). Electro-
nix is a relatively young company and is less vertically
integrated than its competitors. Electronix’s bias is
toward outsourcing any activity that is not a core
competency, which translates into a heavy dependency
on its supply base. The Materials Director discussed
supplier responsiveness in referring to changes in his
company’s supply management practices. In its early
years, Electronix switched frequently among suppliers.
He noted that ‘‘each time we change a supplier, it is a
minimum two-year investment on our side to help a
company understand what it is to be an Electronix
supplier.’’ This company has reduced its supply base in
recent years and has experienced an increase in mutual
relationship and, thus, supplier responsiveness.
As before, it is the number of suppliers that the focal
company focused on over the other two dimensions of
supply base complexity. What this implicates to us is
that these focal companies must believe that to get the
most value for their efforts, they need to focus on the
number of suppliers first. Only then would it make sense
to think about which of the other remaining two
dimensions these companies might think is more
immediate. Between differentiation and inter-relation-
ships, we would think the focal companies would first
prefer inter-relationships among suppliers because then
suppliers can work together to share their capacity and
capability to better respond to the changing requests of
the focal company—as illustrated before, this is
precisely what happened in post-war Japan (Nishiguchi,
1994). If the supply base is high on differentiation, that
means suppliers are very different from one another and
thus would experience more difficulty working together
to meet the focal company’s changing requests.
Therefore, consistent with Proposition 3.1, the
association between supplier responsiveness and each
of the dimensions of complexity would also indicate a
negatively sloping line. However, if we accept the
argument in the preceding paragraph that companies
focus first on reducing the number of suppliers as the
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12 T.Y. Choi, D.R. Krause / Journal of Operations Management xxx (2005) xxx–xxx
most effective means of increasing responsiveness and
then on inter-relationships and lastly on differentiation,
we then also accept the observation that the degree of
the slopes would vary. With supplier responsiveness on
the vertical axis, the association between the number of
suppliers and supplier responsiveness would exhibit the
most steeply sloping line. This is because, at least
theoretically, one unit of reduction in the number of
suppliers would necessarily correspond with a higher
level of responsiveness compared to the other two
dimensions of complexity. By extending this reasoning
to the level of differentiation and the level of inter-
relationships, we also observe that the latter would show
a more steeply sloping association. Another way to
think about this is that given the fixed level of overall
complexity, the number-of-suppliers line should show
the highest level of supplier responsiveness, and then
inter-relationships and differentiation in that order.
Proposition 3.2. For the negative association between
supply base complexity and supplier responsiveness, the
slope of the association would vary in a decreasing
order from the number of suppliers, to the level of inter-
relationships, and to the level of differentiation.
7.4. Supplier innovation
Supplier innovation has been a major contributing
factor in the battle among the automakers where annual
three to five percent cost reductions has been a routine
practice (Liker and Choi, 2004; Liker, 2004). Supplier
innovation has also fueled many product improvement
projects in which value analysis and value engineering
(VA/VE) were used (Liker, 2004). VA/VE approaches
refer to the innovative activities through which the
functionality of parts or subassemblies is maintained or
improved but the cost is reduced (Dobler and Burt,
1996; Ellram and Choi, 2000; O’Connor, 1994).
Ellram and Choi (2000) illustrated how supplier
innovativeness could help improve the product of the
focal company. VA/VE activities involving suppliers
were the major source for leading automotive compa-
nies in the United States, including Honda of America,
to improve the size and functionality of its products
while reducing the cost of its manufacturing (Nelson
et al., 1998, 2001). According to an executive at Honda,
the design of Accord went through a series of
incremental improvements during the mid 1990s.
Through this endeavor, the cost of manufacturing the
Honda Accord was reduced by about 25%, and most of
the innovative ideas for the savings came from the
suppliers working with Honda’s engineers (Liker and
Choi, 2004). In the end, in capitalizing on supplier
innovativeness, Honda was able to produce an Accord
that was bigger in size and loaded with more options but
with a minimal change in its sticker price.
If two suppliers supplying the same focal company
exchange technological information and commit their
resources for joint activities (e.g., product modification,
joint development of new parts, participating in a
learning network), the likelihood of achieving innova-
tion increases (e.g., Sobrero and Roberts, 2002). Ahuja
(2000) found empirical evidence that direct and indirect
ties between a focal company and other collaborating
companies have a positive impact on innovation. This
finding means that networking channels information
facilitates knowledge exchange, and this is significant in
technological innovation. As Ahuja (2000) put it, ‘‘each
additional node that a firm has access to can serve as an
information-processing mechanism, absorbing, sifting,
and classifying new technology developments in a
manner that goes well beyond the information-proces-
sing capabilities of a single firm’’ (p. 430). In this sense,
one would expect less innovative improvement coming
from suppliers in a supply base with low levels of
complexity. A few similar suppliers that do not interact
with each other are less likely to be able to take
advantage of the networking effect explained above.
Several other authors (e.g., Bacon, 1985; Dooley and
Van de Ven, 1999) have argued that autonomy is a
critical factor in innovative activities. More specifically,
in their effort to theorize the behaviors of supply
networks, Choi et al. (2001) made an explicit link
between supplier innovation and supplier autonomy.
They stated, ‘‘. . . the degree of innovation by suppliers
is directly proportional to the amount of autonomy that
suppliers receive in working with customers’’ (p. 361).
Therefore, when working with a supply base, it is clear
that the focal company must allow for enough
autonomy in its supply base in order to promote
innovative activities. The number of autonomous actors,
or suppliers, needs to be high, and they should be
different from each other. A greater number of suppliers
with different cultures and areas of technical expertise
could potentially provide a fertile ground for innovation
(e.g., Dooley and Van de Ven, 1999). In fact, the inter-
relationships that occur among the suppliers without the
intervention of the focal company also would facilitate
supplier innovation. Through their experiment with
complex systems, Kauffman and Macready (1995)
verified that, in a situation with a modest or large level
of inter-dependencies among the actors or groups of
actors within a system, the autonomous behaviors of
these actors and groups lead to more adaptive and
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T.Y. Choi, D.R. Krause / Journal of Operations Management xxx (2005) xxx–xxx
innovative results. Therefore, there should be a positive
association between supply base complexity and
supplier innovation.
However, Bacon (1985) seemed to warn against a
simple linear relationship between autonomy and
innovative activities. He suggested that there is a
tension between the ‘‘free-for-all’’ autonomous activ-
ities and the pressure to integrate some of these
activities with products that already exist. Upon closer
examination, it appears that too much autonomy may
lead to anarchy and disintegration of coherent activities
that could harness innovative thoughts. Dooley and Van
de Ven (1999) echoed this idea; that is, when many
agents in a complex system behave independently, their
aggregate behavior may become unstructured and
random. Further, there is a critical level of inter-
relationships in a system with agents, below which and
above which the impact one agent has another is
progressively less significant (Choi et al., 2001;
Kauffman, 1995). In sum, there should be an inflection
point in the aforementioned positive association
between complexity and supplier innovation. There-
fore, we propose an inverted U-shaped relationship
between supply base complexity and supplier innova-
tion.
Proposition 4. There is a negative quadratic relation-
ship between supply base complexity and supplier
innovation.
8. Discussion and conclusion
Gottinger (1983) surmised that ‘‘the more we are
able to describe the complexity of an object, the more
we are able to . . . learn about . . . the object’’ (p. 4).
Indeed, the understanding of the complexity of a system
is a first step to the understanding of the behavior of that
system (Choi et al., 2001). In this paper, we tried to
understand how varying levels of supply base complex-
ity affect transaction costs, supply risk, supplier
responsiveness, and supplier innovation, and we
articulated them in both linear and non-linear relation-
ships. We would submit that by considering the
complexity of supply base, we were able to paint a
more complete picture of how to manage a supply base.
In particular, non-linear relationships captured in our
propositions offer a novel approach to considering the
supply base management and may play a key role in
extending future studies.
The relationships captured in the four propositions
involving the four areas of managerial concerns may
seem straightforward when considered individually.
13
However, considered collectively, they paint a more
complicated picture. First, it may be true that high
complexity leads to high transaction costs and high
supply risks. Further, a manager may want to reduce the
complexity to increase supplier responsiveness. How-
ever, curvilinear relationships were argued regarding
supply risk and supplier involvement in innovative
activities. Taken together, these observations suggest
that although the reduction in complexity may lead to
less transaction cost, and increased supplier respon-
siveness, it also, at least initially, may reduce supplier
innovation. Also, changing the size of the supply base
has an opposite effect on supply risk and supply
innovation. Thus, blindly lowering the complexity of a
supply base may not always be desirable. Our
propositions suggest that there must be an optimal size
for a supply base in terms of the level of complexity.
Thus, if our propositions regarding supply base
complexity hold up to empirical scrutiny in future
research endeavors, we will be forced to conclude that
previous research efforts were too narrowly focused and
missed some important dependent variables. That is,
looking at the effect of supply base reduction only on
transaction costs, overlooks other effects on supplier
responsiveness, supplier innovation and supply risk,
which may provide a more holistic picture.
The optimal size of the supply base may depend on
the type of the product (e.g., commodities versus
engineered parts) (Kraljic, 1983) or the clock speed of
the product (e.g., computers versus soft drinks) (Fine,
1998). The optimal supply base size may also be
sensitive to changes in the market environment, because
complex systems, such as supply networks, are
embedded in the environment and interact with it
(Choi et al., 2001; Gottinger, 1983). Trying to determine
the optimal size of a supply base is largely uncharted
territory for both practitioners and researchers. We feel
we have only scratched the surface and look forward to
similar studies in the future that will help researchers
better conceptualize and theorize supply base manage-
ment functions and then to propose new managerial
implications and insights.
For future research, we propose that supply base
complexity be treated as a higher order construct and
composed of its second-order constructs—number of
suppliers, level of differentiation, and degree of inter-
relationships among suppliers. From an empirical
perspective, researchers should seek to establish and
refine measures of these constructs such that our
propositions can be tested empirically. Certainly
transaction costs have been investigated empirically,
but these measures should be tested in conjunction with
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14 T.Y. Choi, D.R. Krause / Journal of Operations Management xxx (2005) xxx–xxx
supply risk, responsiveness and innovation as dependent
factors (see Fig. 2).
Researchers should take care to define the supply base
to include only suppliers that are being actively managed
by the focal firm. The supply base is the unit of analysis.
For example, ‘‘number of suppliers’’ could be measured
in terms of whether the focal firm has purchased a product
or service from the supplier over the past twelve months.
Further, a scale addressing ‘‘level of differentiation’’
among suppliers could tap many dimensions including
geographical location, culture, supplier size, unionized or
not, technical sophistication, industry, and so on. ‘‘Inter-
relationships among suppliers’’ may require surveys and
case studies directly with the focal firm’s suppliers. The
existence of supplier associations, annual supplier
awards, trade associations, and similar activities may
provide measures of inter-connectedness among suppli-
ers. With valid and reliable measures of these constructs,
researchers will come to a better understanding of supply
base complexity and its effects on transaction costs,
supply risk, supply responsiveness, and innovation. Such
efforts should provide insights for industry managers as
well. Although supply base complexity is itself a
complex topic, we believe that focusing solely on
transaction costs is short-sighted supply base manage-
ment practice.
Acknowledgement
Funding for this research came from National
Science Foundation (DMI-0075293).
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