TOPIC 10

Purchasing and procurement

 Materials management defined
Raw materials

Subassemblies Spare parts

Materials
Manufactured In-process
parts inventory
Packing
materials
 The importance of Materials management

- The decisions, good or bad made in the materials

management portions of the logistics process will have a
direct effect on the level of customer service offered,
the ability of the firm to compete with other companies and
the levels of sales and profits achieved in the marketplace
- The manufacturing process cannot produce products at
the desired price and at the time they are required for
distribution to the firm’s customer.
 Materials management –past , Present and Future
Past Present and Future
Market Seller’s market Buyer’s Market
Low competition Keen competition
Restricted export Global orientation
Products Small assortment Wide assortment
Long life cycle Short life cycle
Low technology High technology
Production Full capacity load Full capacity load
Low flexibility High flexibility
Large lot sizes Low lot sizes
Long lead times Short lead times
Low cost Lows cost
Service level Make instead of buy Buy instead of make
High service level High service level
High inventories Low inventories
Slow logistics process Quick logistics process
Slow transport time Quick transport time
Information technology Manual data processing Electronic data processing
Paper administration Paperless factory
Enterprise stratergy Production-oriented Market oriented 2
Scope of materials management activities

Anticipating materials requirements

management activities
Scope of materials

Sourcing and obtaining materials

Introducing materials into the organization

Monitoring the status of materials as a

current asset

2
 Purchasing and procurement
• Refers to the raw materials, component parts,
and supplies bought from outside organizations
to support a company’s operations
• Procurement costs often range between 60%-
80% of an organization’s revenues
 Company objectives

Objectives of materials
management

Low costs: High level of Quality Low level of Support of

To optimize service: assurance: tired capital: other
materials To optimize To maintain To optimize functions:
costs, capital response and improve capital tired To support
costs, and toward the quality of up in sales and
overhead production material inventories design/deve
expenses and markets lopment
 Purchasing and procurement
• Currently has a more strategic orientation in
many organizations
• Procurement manager may have responsibility
for:
– Reducing cycle times
– Playing an integral role in product development
– Generating additional revenues through collaboration
with the marketing department1

1 John Hyatt, “The Rise and Rise of Procurement,” CFO 28, no. 4 (2012): 57–59.
 Purchasing and procurement
• “Procurement” and “purchasing” are sometimes
viewed as synonymous terms
• Supply management is viewed as a relational
exchange approach involving a limited number of
suppliers.
 Purchasing and procurement

Purchasing generally refers to the actual buying

of materials and those activities associated with
buying process.

Procurement is broader in scope and

includes purchasing, traffic ,warehousing
and receiving inbound materials.
 6 major products
categories that were
purchased by most
companies

1. Components parts
2. Raw materials
3. Operating supplies
4. Support equipment
5. Process equipment
6. Services
1.Identify needs 12.Conduct
postpurchase
11. Use
evaluation
2.Establish
specifications 10. Buy

12 steps in buying
3.Search for process 9.Negotiate with
alternatives suppliers

4.Establish 8.Evaluate specific

contacts alternatives

5.Set purchase 6.Evaluate

and usage alternative buying 7.Determine
criteria actions budget availability
 Supplier Selection and Evaluation
• One of procurement’s most important
responsibilities
• Involves stating an organization’s needs and
determining how well various potential suppliers
can fulfill these needs
Figure 6.1: Supplier Selection Framework
 Supplier Selection and Evaluation
• Steps to supplier selection and evaluation
– Identify need for supply
– Situation analysis
– Identify possible suppliers
– Select suppliers
• Single source approach
• Multiple sourcing approach
– Evaluate decision
• Process based approach
• Performance based approach
 Supplier Selection and Evaluation
• Evaluate decision
• Process based approach
– Is an assessment of the supplier’s service and/or production
process (supplier audit)
• Performance based approach
– Is focused on the supplier’s actual performance on a variety of
criteria including cost and quality
– Many companies use supplier scorecards to report
performance information
 Evaluation procedure

Step 1
Identify all potential suppliers for the items being purchased

Step 2 Develop a list of attribute by which to evaluate each suppliers

Once attributes have been determined, the performance of individual Suppliers
should be evaluated on each attribute ex: product reliability. Price.... A Five
scale is used.

Step 3
Determine the importance of each of the attribute to the firm
For example product reliability was of paramount importance to the firm that
attribute would be given the highest importance rating. If price was not as
importance as product reliability, management would assign price a lower
importance rating
 Evaluating suppliers in a Typical Manufacturing firm
Factor Rating of supplier X Importance of attribute = Weighted composite
(1 = worst rating, 5 = to your firm rating ( 0 =minimum
highest rating) (1= worst rating, 5 – 25 = maximum)
12345 highest rating)
Supplier A
Product reliability
Price
Order Convenience
--
-
-
After sale service
Total for supplier A
Supplier B
Product reliability
Price
Order Convenience
--
-
-
After sale service
Total for supplier B
 Evaluating suppliers in a Typical Manufacturing firm

Factor Rating of supplier X Importance of = Weighted composite

(1 = worst rating, 5 = attribute to your firm rating ( 0 =minimum
highest rating) (1= worst rating, 5 – 25 = maximum)
12345 highest rating)

Supplier c
Product reliability
Price
Order Convenience

--
-
-
After sale service
Total for supplier c

Decision Rule: select the supplier with highest composite rating

 Checklist of cost factors
Cost savings
associated
with volume
buying
Costs associated with volume
buying include:
- Lower per unit purchasing prices
- Lower transportation costs
- Lower warehouse handling cots
- Lower order processing costs
- Lower production lot quantity cost
- Lower stock out costs
Inventory
carrying
cost
Costs of carrying inventory
include:
Capital costs associated with the
inventory investment
- Inventory service costs
(insurance and taxes)
- Storage space costs
- Inventory risk costs
 Procurement
• Electronic commerce continues to bring many
changes to the procurement discipline including
– Electronic procurement
§ Procurement cards (p-cards)
– Reverse auctions
 Procurement
• Procurement cards (p-cards)
– Similar to Visa and MasterCard, but used for an
organization’s buying needs
– Number of authorized employees is limited
– Detailed statement is provided each month
– Can implement control processes that
§ Measure usage
§ Identify procurement trends
§ Limit spending during a procurement cycle
§ Block unauthorized expenditures
 Procurement
• Benefits of procurement cards (p-cards)
– Reduction in the number of invoices
– Firm will make one payment each month
regardless of the number of p-card holders
– Allows employees to make purchases in minutes
vs. days
– Generally allow suppliers to be paid in a more
timely fashion
 Procurement
• Challenges of procurement cards (expansion
overseas)
– Currency differences
– Availability of technology
– Difference in card acceptance
– Cultural issues with the program
 Procurement Objectives
• Supporting organizational goals and objectives
• Managing the purchasing process effectively and
efficiently
• Managing the supply base
• Developing strong relationships with other
functional groups
• Supporting operational requirements
 Procurement Portfolio Approach
• Within the “situation analysis” step for
supplier selection and evaluation,
procurement managers must be continually
aware of the supply and demand
characteristics of the
– Raw materials
– Component parts
– Purchased supplies
 Procurement Portfolio Approach
• Kraljic’s Portfolio Matrix1
– Used to classify corporate purchases in terms of
their importance and supply complexity
– Goal is to minimize supply vulnerability and
getting the most of the firm’s purchasing power

1Peter
Kraljic, “Purchasing Must Become Supply Management,” Harvard Business Review 61, no. 5 (1983):
109–117.
Procurement Portfolio Approach
 Supplier Development
(Reverse Marketing)
• Refers to aggressive procurement involvement
not typically part of supplier selection
• Can include:
– Purchaser initiating contact with supplier
– Purchaser establishing prices, terms and
conditions, and other behaviors
 Supplier Development
(Reverse Marketing)
• Motivation to adopt supplier development
include:
– Numerous inefficiencies associated with suppliers
initiating marketing efforts toward purchasers
– Purchaser may be aware of important benefits
which are unknown to the supplier
– Compel suppliers to meet necessary requirements
to achieve competitive advantage in the supply
chain
 Global Procurement (Sourcing)
• Refers to buying components and inputs
anywhere in the world
• Driven by:
– Factor-input strategy (organization is seeking low-
cost or high-quality)
– Market access strategy (organization is sourcing in
markets where it plans to do significant business)
 Global Procurement (Sourcing)
• Components of Global Sourcing Development
model:
– Planning
– Specification
– Evaluation
– Relationship management
– Transportation and holding costs
– Implementation
– Monitoring and improving
 Global Procurement (Sourcing)
• Challenges in establishing a successful global
sourcing strategy include understanding hidden
costs as supply bases are expanded
• Examples of hidden costs:
– Increased costs of dealing with suppliers outside the
domestic market
– Duty and tariff changes that occur over supply agreement life
– Increased inventory-related costs associated with global
supply chains
– Rising levels of logistics cost volatility (e.g. ocean freight
rates)
 Sustainable Procurement
• Refers to the integration of social and
environmental considerations into all stages of
the purchasing process
• Goal is to minimize the impact of procurement
activities on human health and the
environment
 Socially Responsible Procurement
• Consists of the following five dimensions:
– Diversity
– The Environment
– Human Rights
– Philanthropy
– Safety
 Socially Responsible Procurement
• Ethical considerations
– “win at all costs” philosophy can exacerbate unethical
behavior
• Areas of ethical concern in procurement:
– Gift giving and receiving
– Bribes and kickbacks
– Misuse of information
– Improper methods of knowledge acquisition
– Lying or misrepresentation of the truth
– Product quality (lack of)
– Misuse of company assets
– Conflicts of interest
 Investment Recovery
• Identifies opportunities to recover revenues or
reduce costs associated with:
– Scrap
– Surplus
– Obsolete
– Waste materials
• Often the responsibility of the procurement
manager
 Investment Recovery
• Can provide an organization the opportunity to
simultaneously increase revenues (through cost
reduction) while addressing selected
environmental considerations
 Investment Recovery
• Even the best managed organizations generate:
– Excess (surplus)
• Stock materials that exceed reasonable requirements
– Obsolete
• Materials not likely to ever be used again
– Scrap
• Materials that are no longer serviceable, have been
discarded or are a by-product of the production process
– Waste
• Materials that have been spoiled, broken, or otherwise
rendered unfit for further use or reclamation (have no
economic value)