Procurement Glossary
Vertical integration: definition, significance and strategic application
November 19, 2025
The depth of value added describes the proportion of service provision that a company carries out internally instead of commissioning external suppliers. This strategic decision has a significant influence on the procurement strategy and determines which activities are produced in-house or purchased. Find out below what vertical integration means, what methods exist for optimization and how current trends affect procurement decisions.
Key Facts
- Depth of added value determines the relationship between in-house performance and external procurement
- High vertical integration means more internal control, but higher fixed costs
- Low vertical integration increases flexibility, but also dependencies
- Make-or-buy decisions are key instruments for optimization
- Digitalization enables new hybrid value creation models
Contents
Definition: vertical integration
The vertical integration describes the degree of vertical integration of a company and indicates what proportion of the entire value chain is handled internally.
Core aspects of vertical integration
The depth of value added comprises various dimensions of service provision:
- Vertical integration: proportion of components manufactured in-house
- Depth of development: scope of internal research and development
- Depth of service: Degree of in-house provision of services
- Logistics depth: proportion of transportation and warehousing services performed in-house
Depth of added value vs. outsourcing
While high vertical integration relies on internal service provision, alternative procurement takes the opposite approach. The balance between the two strategies determines the optimal configuration of the value chain.
Importance of vertical integration in Procurement
For Procurement , the depth of added value is a key control parameter. It influences demand management, supplier selection and the procurement strategy. A well thought-out vertical integration optimizes costs, quality and flexibility in equal measure.
Methods and procedures
Optimizing vertical integration requires systematic analysis methods and structured decision-making processes.
Make-or-buy analysis
The make-or-buy decision is at the heart of value chain optimization. This analysis systematically evaluates the advantages and disadvantages of in-house performance versus external procurement:
- Cost comparison between internal production and external procurement
- Evaluation of strategic factors such as core competencies
- Risk analysis regarding dependencies and control
- Capacity and resource analysis
Value added analysis
A detailed analysis of the entire value chain identifies optimization potential. The market analysis supports the evaluation of external alternatives and supplier markets.
Strategic valuation models
Modern valuation approaches integrate quantitative and qualitative factors. Stakeholder management ensures that all relevant interest groups are taken into account in value creation decisions.
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Important KPIs for depth of added value
Measuring and managing vertical integration requires specific key figures that cover both quantitative and qualitative aspects.
Quantitative key figures
Measurable indicators for assessing the depth of value creation:
- Vertical integration ratio: proportion of components manufactured in-house
- Own work ratio: ratio of internal to external costs
- Supplier concentration: number and distribution of suppliers
- Make-or-buy cost ratio: cost comparison of internal vs. external services
Qualitative evaluation criteria
Strategic factors complement the quantitative analysis. The capital commitment period has a significant influence on the evaluation of investment decisions in vertical integration.
Performance monitoring
Continuous monitoring of vertical integration through regular benchmarks and trend analyses. Benchmarking in Procurement enables comparison with industry standards and best practices.
Risk factors and controls for vertical integration
Determining the optimal vertical integration entails various risks that must be minimized through suitable control mechanisms.
Strategic risks
An unbalanced vertical integration can cause long-term competitive disadvantages:
- Loss of core competencies due to excessive outsourcing
- Inflexibility with high vertical integration
- Dependence on critical suppliers
- Technological backlogs in outsourcing
Operational risks
The implementation of vertical integration decisions brings with it operational challenges. Effective claim management helps to overcome conflicts with suppliers.
Risk minimization
Systematic risk controls include regular assessments of the value chain configuration and the development of alternative scenarios. Supply chain resilience management strengthens resistance to external disruptions.
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Practical example
An automotive manufacturer analyzes its vertical integration for electric motors. The make-or-buy analysis shows: in-house production costs 15% more than external procurement, but secures strategic control over key technology. The company opts for a hybrid solution: core components are developed and manufactured in-house, standard parts are procured externally. This strategy reduces costs by 8% while maintaining the ability to innovate.
- Cost analysis: comparison of internal vs. external production
- Strategy evaluation: Core competence analysis carried out
- Hybrid implementation: optimal balance between control and efficiency
Current developments and effects
The depth of added value is subject to continuous change due to technological innovations and changing market conditions.
Digitalization and AI integration
Artificial intelligence is revolutionizing vertical integration decisions. AI in Procurement enables more precise analyses and automated optimizations:
- Predictive analytics for make-or-buy decisions
- Automated supplier evaluation and selection
- Real-time optimization of the value chain configuration
Reshoring and nearshoring
Geopolitical uncertainties are encouraging the relocation of production activities. Nearshoring and reshoring increase the regional depth of added value and reduce supply chain risks.
Hybrid value creation models
New forms of cooperation are emerging between full integration and complete outsourcing. These hybrid approaches combine the advantages of both strategies and create flexible, adaptable value creation structures.
Conclusion
The depth of added value is a key strategic lever for companies and plays a decisive role in determining their procurement strategy. The optimal balance between in-house services and external procurement requires continuous analysis and adaptation to changing market conditions. Modern technologies such as AI and new cooperation models open up innovative approaches to optimizing the configuration of the value chain. A well thought-out vertical integration strengthens the competitiveness and resilience of companies in the long term.
FAQ
What is meant by vertical integration?
Vertical integration refers to the proportion of the value chain that a company handles internally. It includes production, development, service and logistics. A high level of vertical integration means more in-house work, a low level means more external procurement. The optimum depth depends on strategic goals, costs and market conditions.
How is the optimum vertical integration determined?
This is determined by make-or-buy analyses that evaluate costs, quality, risks and strategic factors. Core competencies should remain in-house, standard activities can be outsourced. Market analyses, supplier evaluations and capacity considerations support the decision-making process for the optimal configuration.
What advantages does a high level of vertical integration offer?
A high level of vertical integration offers better control over quality, deadlines and costs. It protects against supplier dependencies and ensures strategic flexibility. It also enables direct access to innovations and know-how. However, it requires higher investments and can limit the ability to react to market changes.
What risks arise with low vertical integration?
Low vertical integration can lead to critical dependencies on suppliers. Risks include quality problems, delivery delays and price increases. The loss of core competencies and technological expertise threatens long-term competitiveness. In addition, coordination efforts and potential communication problems arise in the supply chain.
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