Nukiesoft Purchasing Management System (PCH) is designed as an integrated management system for optimizing and control of all procurement processes using Information Technology (IT) solutions. NukiePCH application is software solution built to effectively and efficiently manage all procurement processes of companies and organizations, the system manages all vendor and order related data and to control all procurement process activities to enable project done with optimum results . For management overview the system is facilitated with a dashboard display both on graphical and numbers presentation of various data related to procurement process and tracking every detail and status etc. Details report and analysis data in both graphical and numbers are also available for other functional modules, such as user transaction data, Visitor Data etc. NukiePCH procurement lifecycle management application is designed to suite all procurement process related to companies or organizations that meets most of these requirements. The e-procurement capabilities of the NukiePCH for B2B solution portfolio provide a fully integrated, comprehensive solution for Internet-based electronic procurement enabling the company or organizations to streamline processes, reduce costs, spotlight spending patterns, and more effectively negotiate and collaborate with suppliers/vendors. Supporting the reengineering of today’s companies and organizations through improved processes and automated workflows, NukiePCH e procurement system helps you find the new value and procure new efficiencies throughout the purchasing life cycle. NukiePCH is the Solutions
NUKIESOFT “Procurement and Purchasing Management System (PCH)” is designed as an integrated management system for optimizing and control of all procurement processes using Information Technology (IT) solutions.
PCH application is web based software solution built to effectively and efficiently manage all procurement processes of companies and organizations, the system manages all vendors and order related data and to control all procurement process activities to enable project done with optimum results .
For management overview the system is facilitated with a dashboard display both on graphical and numbers presentation of various data related to procurement process and tracking every detail and status etc. Details report and analysis data in both graphical and numbers are also available for other functional modules, such as user transaction data, Visitor Data etc.
PCH procurement lifecycle management application is designed to suite all procurement process related to companies or organizations that meets most of these requirements.
The e-procurement capabilities of PCH for B2B solution portfolio provide a fully integrated, comprehensive solution for Internet-based electronic procurement enabling the company or organizations to streamline processes, reduce costs, spotlight spending patterns, and more effectively negotiate and collaborate with suppliers/vendors. Supporting the reengineering of today’s companies and organizations through improved processes and automated workflows, PCH e procurement system helps you find the new value and procure new efficiencies throughout the purchasing life cycle. PCH is the Solutions
Traditional systems are insufficient to handle these unprecedented challenges. Organizations need solutions that can eliminate the inefficiencies of traditional procurement processes, find new sources of value, and slash procurement expenses.
Technology that integrates the entire procurement process into overall project plan and procurement management structure, providing transparency throughout all procurement processes, systems that take full advantage of the purchasing power of companies and organizations, meeting the challenges of increased competition and global markets.
The choice for company and organization having high volume of procurement transaction is clear: the need for e-procurement capabilities that provides a comprehensive, end-toend solution for both ad hoc and strategic procurement. The e-procurement capabilities of PCH support electronic buying and requisitioning and automate business transactions over the Internet. With PCH, you gain a strategic emanagement framework along with a highly transparent, streamlined, and integrated purchasing process that can increase your procurement efficiencies, spotlight new sources of value, and enhance decision making about suppliers, products, and contracts.
High volume of procurement process and transaction at most of the companies or organizations is really as complicated process and the management needs to track every step of these processes accurately. PCH focus on the development of quality and time to delivery software solution for procurement management, combined with an innovative core workflow framework using industry standard components such as Microsoft Windows Workflow as our middleware built around a web based framework.
Our off the shelf workflow solutions, can be quickly configured and customized and implement workflow solutions that automate & speed up your business processes. We provide our customers with competitive advantage through quicker time to market and time savings through streamlined automated process.
Traditional Workflow solutions are expensive to deploy and cumbersome to manage. PCH provides web based solution that helps you of the need to purchase hardware, upgrade environments and install software. PCH have innovated and built a core web workflow frame work that is highly configurable.
We have implemented several workflow-based applications using our core platform and using agile development processes to map our customer requirements that are delivered on a hosted or software service model. We have over 20 years of experience in business process mapping for the entire industries value chain that can manage complex business lifecycles.
Our order and procurement management solution provides the flexibility of workflow fulfillment, provisioning integrated with vendor facing order management all on the web 24x7 working time.
PCH Order Management and Procurement solutions have helped the companies and organization to provide dedicated branded order channels online to vendor, Integrate fulfillment, provisioning capabilities through workflow process management.
Provide transparency of the order provisioning process, to all stakeholders and reduce disputes, Control costs and optimize resources through multiple provisioning process requirements for each product type, enable the order processes with a Web-enabled system. Provides all detailed information of vendor order data, monitoring of all progress details, provide online ordering channel when the system is connected via the internet.
The module manage vendor data, vendor contact data and any related vendor document management system, and handles ordering process including request for quotation (RFQ) to vendor, vendor quotation, order to vendor, bid evaluation, quote negotiation, provisioning and acceptance, as well as invoice and payment tracking. When integrated with SMS gateway system, the system also provides function to deliver SMS message directly to the vendor contact data in line with all procurement process.
Combining more than 20 years of IT experience with the boundless potential of the Internet, We understand how to modernize your procurement operations. It’s the power of integrated solutions procuring new efficiencies throughout your organization.
The e-procurement capabilities in PCH provide the only complete and integrated solution with end-to-end support for all purchasing activities in B2B sector. The e-procurement functions in PCH significantly increase your purchasing efficiency by lowering costs, revealing new sources of value, and enabling you to meet the challenges of increased competition.
You can procure both direct and indirect goods using the same e-procurement solution. Automated purchase-order generation and mobile access to all data and applications is available through devices such as laptops.
• Self-service procurement enables procurement staff using online procurement processing support and execution support of component planning for projects.
• Plan-driven procurement empowers the professional procurement, and it integrates with project planning and budgetary.
• Centralized contract management supports national and global purchasing activities, helping you manage strategic suppliers across geographic entities (such as counties or cities) or organizational strata (such as departments or groups). You can use bidding and reverse auctions to drive down costs on commodity items.
• Purchasing analytics provides extensive reporting capabilities to allow purchasers and managers to perform both operational and strategic analyses. By monitoring vendors and procurement trends, allowing analysis of contracts, and providing comparisons among vendors for specific items and prices, these functions help you negotiate more effectively and collaborate with suppliers as well as make timely adjustments based on buying behaviors.
• Project Plan and Budget Integration – Because of integration among procurement and backoffice applications such as budget execution, you can earmark funds for specific purchases. When your buyer makes a purchase, the system checks the budget to ensure that funds are available for this item – preventing budget overruns – and updates the budget with the new expenditure.
• Role-based approval and release – You can tie procurement-related approvals and releases to organizational roles and automate the review and sign-off processes. The process considers all required legal provisions and administrative regulations. You can accelerate approvals and releases using integration-specific workflow processes.
• Decreased errors, increased savings – In addition to generating savings with the basic eprocurement functionality, vendor evaluation and selection, outline agreements, and price comparisons, for example, can be standardized using foundation documents and processes, reducing workload, decreasing errors, and improving data consistency.
• Invoicing and payment status control – The software automatically verifies the content, calculations, prices of incoming invoices, and it provides information of the status as outstanding for payment or closed payment.
• Information flow – Integrated e-procurement makes it easy to find or track information about any purchase at any time. And because information flows from the procurement transactions to other systems, you can easily and cost-effectively monitor and extract information about orders, goods receipts, invoices, and vendor information such as price history, quantity, reliability, compliance, and quality.
• Reduced transaction costs – By automating previously manual procurement tasks such as creating and approving purchase orders, generating invoices, and processing payments you significantly reduce the cost of each transaction. The easy-to-use Web interface means that users require no special training, so your organization can begin generating savings without incurring additional expenses for training.
The following modules simplified the descriptions of PCH’s functionalities that each procurement processes are grouped in the usual and structured model.
Vendor Management: Manage vendor database that hold all necessary information related to vendor information. Allow your vendor with authorized access to your systems when connected through the internet, and provide one-click vendor own information management, as well as accessing their own order and procurement process information. With its inbuilt workflow configuration you can quickly provision multiple types of order to vendors.
Project Planning Manager: Allow organization of the company to define project and budgetary planning that accessible for further procurement process, the project owner can fully track and monitor of its procurement progress stage as reminder that the project run as it is planned and scheduled.
RFQ Handling Manager: Allow procurement department to create Request for Quotation (RFQ) from the project plan to several listed vendor that vendor can then see and confirm to this RFQ.
Quotation Manager: Allow your vendor with authorized access to your systems and provide one-click order and procurement management. With its inbuilt workflow configuration you can quickly provision multiple types of order to vendors.
Quote Evaluation Manager: Allow procurement management to have on line evaluation that can be communicated among all other team member to see all related quotation information for individual vendor, and check its details of the proposal Quote Negotiation Manager: The management can perform on line negotiation with selected vendor for further procurement process.
Order Manager: Purchase/Service order or contract may be created and submitted to the selected vendor.
Provisioning and Acceptance Manager: Provides on line notification and document of provisioning and acceptance.
Vendor Invoice Handling: Controls of all incoming invoice from Vendor for each project completion and acceptance Vendor Payment Handling: Provides information and control of outstanding and closed payment status of incoming and confirmed invoices.
Messaging Communication provides users with the office messaging function to deliver memo message, files and photos between users which is secured because it is stored in own server storage only not like email message, the messaging also manage SMS messaging through SMS Message Server, so that the user, sales and marketing, as well as procurement staff and other related persons in the organization can deliver an urgent and important message through SMS, PCH can optionally support these possibilities when integrated with the “SMS Message Server”.
System Administrator: Provides function for user management access properties, each user may be assigned level of authorities using the application, and the system administrator may display various reports of the user transaction logging.
Executive Reporting Manager: The Executive Reporting Manager helps the each level management to measure, monitor and compare the actual performance of business with pre-set goals through regular information reports, at the various levels of customer ordering, scheduling and manufacturing stages. It helps in ensuring better operations, thereby, helping the business remain fit in a competitive environment. Reporting Manager is built in PCH’s proprietary web-based. Users can select data columns, order data, and export data to Microsoft Excel. User can save reports, share reports.
As the CSX story illustrates, the development of progressive purchasing approaches and strategies can help a company maintain or improve its competitive position. In reality, it is only recently that managers would even place the words “progressive” and “purchasing” in the same sentence.
Not so long ago, the life of a purchasing professional was comfortable and predictable. When someone required something, a buyer sent a request to suppliers for competitive bids, awarded short-term contracts based on price, enjoyed a free lunch or ball game with salespeople, and figured out how to meet not-too-demanding performance measures.
Although the buying position did not carry much prestige, it was a good way to earn a pension. This model worked relatively well until new competitors from around the world showed there was a better way to manage purchasing and the supply base. New and better methods helped these competitors achieve dramatic reductions in cost, exponential improvements in quality, and unheard-of reductions in the time it takes to develop new products.
This new model featured closer relationships with important suppliers, performing due diligence on suppliers before awarding long-term contracts, conducting worldwide Internet searches for the best sources of supply, and participating with suppliers during product and process development.
Furthermore, executive managers began to require purchasing professionals to achieve demanding performance improvements. What really changed the purchasers’ comfortable world, and ended the era of free lunches, was global competition. Borrowing a phrase from Thomas Friedman, the world is flat and competition is now 24/7, anywhere and anytime.
As is illustrated in the CSX story, global sourcing is a requirement and no longer a luxury for most firms. This chapter introduces the reader to the changing world of purchasing and supply chain management. It is a world that has changed more during the last 15 years than the previous 150 years combined.
The first section of this chapter describes the new competitive environment where we now operate—an environment that affects every major industry. We next present the reasons why purchasing has taken on increased importance. Third, we clarify the confusing terminology that surrounds purchasing and supply chain management. The next sections present the activities that are part of supply chain management, discuss the four enablers of purchasing and supply chain excellence, and review the historic evolution of purchasing and supply chain management. The last section outlines the contents of this information.
The new millennium features increasing numbers of world-class competitors, domestically and internationally, that are forcing organizations to improve their internal processes to stay competitive. Sophisticated customers, both industrial and consumer, no longer talk about price increases—they demand price reductions! Information that is available over the Internet will continue to alter the balance of power between buyers and sellers. An abundance of competitors and choices have conditioned customers to want higher quality, faster delivery, and products and services tailored to their individual needs at a lower total cost. If a company cannot meet these requirements, the customer will find someone who is more accommodating.
Throughout the 1960s and 1970s, companies began to develop detailed market strategies that focused on creating and capturing customer loyalty. Before long, organizations also realized that this required a strong engineering, design, and manufacturing function to support these market requirements. Design engineers had to translate customer requirements into product and service specifications, which then had to be produced at a high level of quality at a reasonable cost.
As the demand for new products increased throughout the 1980s, organizations had to become flexible and responsive to modify existing products, services, and processes, or to develop new ones to meet ever-changing customer needs. As organizational capabilities improved further in the 1990s, managers began to realize that material and service inputs from suppliers had a major impact on their ability to meet customer needs.
This led to an increased focus on the supply base and the responsibilities of purchasing. Managers also realized that producing a quality product was not enough. Getting the right products and services to customers at the right time, cost, place, condition, and quantity constituted an entirely new type of challenge. More recently, new technology has spawned a whole set of time-reducing information technologies and logistics networks aimed at meeting these new challenges. The availability of low-cost alternatives has led to unprecedented shifts toward outsourcing and offshoring.
The impact of China as a major world competitor poses tremendous challenges for U.S. firms in both the manufacturing and services sectors. Because the services sector now accounts for over 70% of the Gross Domestic Product, new strategies are required for effective supply management in this sector. All these changes have made 21st-century organizations realize how important it is to manage their supply base. They must be involved in the management of (or at least take a serious interest in) the suppliers that provide materials and services. They must also be concerned with the network of downstream firms responsible for delivery and aftermarket service of the product to the end customer.
From this realization emerged the concept of the supply chain and supply chain management. Several factors are driving an emphasis on supply chain management. First, the cost and availability of information resources between entities in the supply chain allow easy linkages that eliminate time delays in the network. Second, the level of competition in both domestic and international markets requires organizations to be fast, agile, and flexible.
Third, customer expectations and requirements are becoming much more demanding. Fourth, the ability of an organization’s supply chain to react rapidly to major disruptions in both supply and downstream product or services will lessen the impact on lost sales. As demands increase, organizations and their suppliers must be responsive or face the prospect of losing market share. Competition today is no longer between firms, it is between the supply chains of those firms. The companies that configure the best supply chains will be the market winners and gain competitive advantage.
As companies struggle to increase customer value by improving performance, many companies are turning their attention to purchasing and supply management. Consider, for example, CSX, the company featured at the beginning of this chapter. Over 40% of the total sales of CSX is expended with suppliers for the purchase of materials and services. It does not take a financial genius to realize the impact that suppliers can have on a firm’s total cost. Furthermore, many features that make their way into final products originate with suppliers.
The supply base is an important part of the supply chain. Supplier capabilities can help differentiate a producer’s final good or service. In the manufacturing sector the percentage of purchases to sales averages 55%. This means that for every dollar of revenue collected on goods and services sales, more than half goes back to suppliers. It is not difficult to see why purchasing is clearly a major area for cost savings. However, savings come in different forms; the traditional approach is to bargain hard for price reductions.
A newer approach is to build relations with suppliers to jointly pull costs out of the product or service. A three-year study within the automobile industry studied the extent to which major producers emphasized relationships. The results showed a clear difference in the approach taken to managing suppliers.
When suppliers were asked to rate their automobile customers, the Japanese transplants Toyota, Honda, and Nissan were all above the median on their “Supplier Relations Working Index” score, whereas Chrysler, Ford, and General Motors were rated below the median. This says something about how suppliers perceive the dominant purchasing philosophy of these large automobile companies.
The 17-category index measured key supplier relationship parameters including relationship development and communications. Out of a maximum score of 500, Toyota was first with an index score of 399, while General Motors was last with a score of 144.
The superior management of supplier relationships has helped give Japanese automobile producers a cost advantage over Detroit’s Big Three.2 Purchasing and supply management also has a major impact on product and service quality. In many cases, companies are seeking to increase the proportion of parts, components, and services they outsource in order to concentrate on their own areas of specialization and competence.
This further increases the importance of the relationships between purchasing, external suppliers, and quality. The following example illustrates this important link between supplier quality and product quality. Heparin is a main ingredient in products for patients requiring dialysis and medicines that prevent blood clots during surgery and thin the blood.
Heparin has recently come under suspicion in the deaths of four Americans and allergic reactions from another 350 patients who obtained heparin from Baxter International. Interestingly, more than half of the world’s heparin comes from China. The recent deaths have highlighted the need to control sourcing accountability. One of the key ingredients in the process of making heparin is pulp extracted from pig intestines, which is then heated in large vats. This key ingredient is widely sourced in small, poorly regulated Chinese factories. For example, one Chinese firm, Yuan Intestine and Casing Factory, also manufactures sausage casings. Baxter buys its heparin from Scientific Protein.
The president of Scientific Protein says it can’t trace its supplies in China as well as it can in the United States. The example illustrates the importance of the supplier selection process and its role in the entire supply chain, from raw material to finished product. This example further illustrates how lapses in managing supplier quality can potentially tarnish a firm’s reputation.3 Purchasing, acting as the liaison between suppliers and engineers, can also help improve product and process designs. For example, companies that involve suppliers early, compared to companies that do not involve suppliers, achieve an average 20% reduction in materials cost, 20% improvement in material quality, and 20% reduction in product development time.
Development teams that include suppliers as members also report they receive more improvement suggestions from suppliers than teams that do not involve suppliers. Thus involving suppliers early in the design process is a way purchasing can begin to add new value and contribute to increasing their competitiveness. Many executives will agree that a focus on effective purchasing has become a critical way to gain competitive advantage. An indication of this enhanced reputation and recognition is the higher salaries that are being paid to purchasing professionals.
The most recent purchasing magazine salary survey showed an average annual income of $84,611. Interestingly, those with responsibility for sourcing services are among the highest earners in the profession, with an average annual compensation of $104,110. Purchasers who buy IT goods and services make $101,104, and those purchasing logistics services are compensated $97,802. Additionally, the survey found that purchasers continue to make more when compared to their colleagues in other related fields, such as logistics and engineering. Eighty percent of purchasing executives made over $100,000, with bonuses averaging over 13% of base salaries.
Anyone who has written about purchasing and supply chain management has defined the various terms associated with these concepts one way or another, making confusion about the subjects a real possibility. How, for example, is purchasing different from supply management? Are supply chains and value chains the same? What is supply chain management? What is an extended enterprise? It is essential to define various terms before proceeding with this book.
We need to recognize the differences between purchasing and supply management. Purchasing is a functional group (i.e., a formal entity on the organizational chart) as well as a functional activity (i.e., buying goods and services). The purchasing group performs many activities to ensure it delivers maximum value to the organization. Examples include supplier identification and selection, buying, negotiation and contracting, supply market research, supplier measurement and improvement, and purchasing systems development.
Purchasing has been referred to as doing “the five rights”: getting the right quality, in the right quantity, at the right time, for the right price, from the right source. In this text we will interchange the terms “purchasing” and “procurement.” Supply management is not just a new name for purchasing but a more inclusive concept. We feel supply management is a strategic approach to planning for and acquiring the organization’s current and future needs through effectively managing the supply base, utilizing a process orientation in conjunction with cross-functional teams (CFTs) to achieve the organizational mission.
Similar to our definition, the Institute for Supply Management defines supply management as the identification, acquisition, access, positioning, and management of resources and related capabilities an organization needs or potentially needs in the attainment of its strategic objectives.
5 Exhibit 1.1 depicts the key elements in our definition of supply management. Supply management requires pursuing strategic responsibilities, which are those activities that have a major impact on longer-term performance of the organization. These longer-term responsibilities are not pursued in isolation, but should be aligned with the overall mission and strategies of the organization.
These strategies exclude routine, simple, or day-to-day decisions that may be part of traditional purchasing responsibilities. The routine ordering and follow-up of basic operational supplies is not a strategic responsibility. The development of the systems that enable internal users to order routine supplies, however, is considerably more important. Supply management is a broader concept than purchasing.
Supply management is a progressive approach to managing the supply base that differs from a traditional arm’s-length or adversarial approach with sellers. It requires purchasing professionals to work directly with those suppliers that are capable of providing worldclass performance and advantages to the buyer.
Think of supply management as a progressive and supercharged version of basic purchasing. Supply management often takes a process approach to obtaining required goods and services. We can describe supply management as the process of identifying, evaluating, selecting, managing, and developing suppliers to realize supply chain performance that is better than that of competitors. We will interchange the terms “supply management” and “strategic sourcing” throughout this book.
Supply management is cross-functional, meaning it involves purchasing, engineering, supplier quality assurance, the supplier, and other related functions working together as one team, early on, to further mutual goals.
6 Instead of adversarial relationships, which characterize traditional purchasing, supply management features a long-term win-win relationship between a buying company and specially selected suppliers. Except for ownership, the supplier almost becomes an extension of the buying company.
Supply management also involves concrete, on-site, and frequent help to suppliers in exchange for dramatic and continuous performance improvements, including steady price reductions. In short, supply management is a new way of operating, involving internal operations and external suppliers to achieve advances in cost management, product development, cycle times, and total quality control.
Organizationally, leading and coordinating strategic supply management activities has largely become the responsibility of the functional group called purchasing. Practicing professionals often use the terms “supply management” and “purchasing” interchangeably. Through the above discussion we have sought to clarify some of the differences while recognizing that good purchasing and supply management practices can have significant impact on the organization’s overall performance.
Supply Chains and Value Chains Over time, researchers and practitioners have developed dozens of definitions to describe supply chains and supply chain management. One group of researchers has indicated that defining supply chain management both as a philosophy and as a set of operational activities
7 creates confusion. These researchers break down the concept into three areas and separate supply chain orientation from supply chains and from supply chain management.
A supply chain orientation is a higher-level recognition of the strategic value of managing operational activities and flows within and across a supply chain. A supply chain is a set of three or more organizations linked directly by one or more of the upstream or downstream flows of products, services, finances, and information from a source to a customer.
Supply chain management, then, endorses a supply chain orientation and involves proactively managing the two-way movement and coordination of goods, services, information, and funds (i.e., the various flows) from raw material through end user. According to this definition, supply chain management requires the coordination of activities and flows that extend across boundaries. Organizations that endorse a supply chain orientation are likely to emphasize supply chain management.
8 Regardless of the definition or supply chain perspective used, we should recognize that supply chains are composed of interrelated activities that are internal and external to a firm. These activities are diverse in their scope; the participants who support them are often located across geographic boundaries and often come from diverse cultures. Although many activities are part of supply chain management (which a later section discusses), an improved perspective visualizes supply chains as composed of processes rather than discrete, often poorly aligned activities and tasks.
A process consists of a set of interrelated tasks or activities designed to achieve a specific objective or outcome. New-product development (NPD), customer-order fulfillment, supplier evaluation and selection, and demand and supply planning are examples of critical organizational processes that are part of supply chain management.
Recent product recalls of consumer products such as toys, peanut butter, and dog food have placed increasing emphasis on a new supply chain concept: the reverse supply chain; its goal is to rapidly identify and return these tainted products back through the supply chain. Conceiving of supply chains as a series of systematic processes makes sense for a number of reasons. Almost by definition, processes usually move across functional boundaries, which aligns well with a supply management and supply chain orientation.
Well-communicated processes also accelerate learning as participants become familiar with a defined process. Furthermore, formal supply chain processes can “build in” best practices and knowledge that enhance the likelihood of success. Perhaps most importantly, organizations can document, measure, and improve their supply chain processes. A question that often arises, and one that has no definite answer, involves the difference between a value chain and a supply chain. Michael Porter, who first articulated the value chain concept in the 1980s, argues that a firm’s value chain is composed of primary and support activities that can lead to competitive advantage when configured properly.
Exhibit 1.2 presents a modified version of Porter’s value chain model. This exhibit also defines some important supply chain–related terms and places them in their proper context. One way to think about the difference between a value chain and supply chain is to conceptualize the supply chain as a subset of the value chain. All personnel within an organization are part of a value chain. The same is not true about supply chains.
The primary activities, or the horizontal flow across Exhibit 1.2, represent the operational part of the value chain, or what some refer to as the supply chain. At an organizational level, the value chain is broader than the supply chain, because it includes all activities in the form of primary and support activities. Furthermore, the original value chain concept focused primarily on internal participants, whereas a supply chain, by definition, is both internally and externally focused. To reflect current thinking, we must expand the original value chain model, which focused primarily on internal participants, to include suppliers and customers who reside well upstream and downstream from the focal organization.
Multiple levels of suppliers and customers form the foundation for the extended value chain or the extended enterprise concept, which states that success is a function of effectively managing a linked group of firms past first-level suppliers or customers. In fact, progressive firms understand that managing cost, quality, and delivery requires attention to suppliers that reside several tiers from the producer. The extended enterprise concept recognizes explicitly that competition is no longer between firms but rather between coordinated supply chains or networks of firms. Notice that Exhibit 1.2 identifies purchasing as a support activity. This means that purchasing provides a service to internal customers.
Although purchasing is the central link with suppliers that provide direct materials, which is the upstream or left hand side of Exhibit 1.2, purchasing can support the materials and service requirements of any internal group. (Direct materials are those items provided by suppliers and used directly during production or service delivery.) Purchasing is becoming increasingly responsible for sourcing indirect goods and services required by internal groups.
Examples of indirect items include personal computers, office and janitorial supplies, health care contracts, transportation services, advertising and media, and travel. Although indirect items are not required for production, they are still vital to the effective running of an organization. The right-hand side of the model illustrates the customer, or downstream, portion of the supply chain. Because meeting or exceeding customer expectations is the lifeblood of any organization, it should become the focal point of supply chain activities.
Exhibit 1.2 presents a relatively straightforward and linear view of the value and supply chain, which is often not the case. First, the flows of materials, information, funds, and knowledge across a supply chain are often fragmented and uncoordinated. The “hand-off” points from one group to the next or from one organization to the next usually provide opportunity for improvements. Second, the value chain model shows suppliers linking with inbound logistics and then operations. Although this is usually the case with direct materials, indirect items and finished goods sourced externally can result in suppliers delivering to any part of the supply chain.
The increasing importance of supply chain management is forcing organizations to rethink how their purchasing and sourcing strategies fit with and support broader business and supply chain objectives. Supply chains involve multiple organizations as we move toward the raw material suppliers or downstream toward the ultimate customer. Simple supply chains pull materials directly from their origin, process them, package them, and ship them to consumers. A good example of a simple supply chain involves cereal producers (see Exhibit 1.3).
A cereal company purchases the grain from a farmer and processes it into cereal. The cereal company also purchases the paperboard from a paper manufacturer, which purchased the trees to make the paper, and labels from a label manufacturer, which purchased semi finished label stock to make the labels. The cereal is then packaged and sent to a distributor, which in turn ships the material to a grocer, who then sells it to an end customer. Even for a simple product such as cereal, the number of transactions and of material and information flows can be considerable. The supply chain for the cereal manufacturer features an extensive distribution network that is involved in getting the packaged cereal to the final customer.
Within the downstream portion of the supply chain, logistics managers are responsible for the actual movement of materials between locations. One major part of logistics is transportation management, involving the selection and management of external carriers (trucking companies, airlines, railroads, shipping companies) or the management of internal private fleets of carriers. Distribution management involves the management of packaging, storing, and handling of materials at receiving docks, warehouses, and retail outlets. For products such as automobiles, which feature multiple products, technologies, and processes, the supply chain becomes more complicated.
The materials, planning, and logistics supply chain for an automotive company is shown in Exhibit 1.4 on p. 14, which illustrates the complexity of the chain, spanning from automotive dealers back through multiple levels or tiers of suppliers. The automotive company’s supplier network includes the thousands of firms that provide items ranging from raw materials, such as steel and plastics, to complex assemblies and subassemblies, such as transmissions, brakes, and engines. Participants in a supply chain are willing to share such information only when there is trust between members.
Thus, the management of relationships with other parties in the chain becomes paramount. Organizations are effectively forming new types of relationships (sometimes called “partnerships” or “alliances”) that require shared resources. For instance, organizations may provide dedicated capacity, specific information, technological capabilities, or even direct financial support to other members of their supply chain so that the entire chain can benefit.
When the pieces come together, can assuming a supply chain orientation with the right kinds of activities really produce the results envisioned by proponents? Consider the rebirth of Apple Computer, which had BusinessWeek asking in 1997, “Is Apple mincemeat?” Apple made a great comeback through an impressive, steady stream of new and innovative products such as the iPod, iPod Nano, and iPhone. Apple has reengineered itself from being considered “mincemeat” to now once again being the “darling of Wall Street.”9 Facilitating this turnaround was Apple’s pursuit of an impressive array of purchasing and supply chain activities to manage product demand, inventory investment, channel distribution, and supply chain relationships.
The company reduced its product line by almost half, forecasted sales weekly instead of monthly with daily adjustments to production, and relied on suppliers to manage inventory for standard parts and components. Apple also formalized a partnership with a supplier to build components close to Apple facilities with just-in-time (JIT) delivery, created a direct ship distribution network through the Web, and simplified its finished goods distribution channel. Because of these activities, Apple now rivals, and sometimes exceeds, Dell Computer in terms of supply chain performance.
Purchasing and supply chain management today reflects a growing emphasis concerning the importance of suppliers. Supplier relationships are shifting from an adversarial approach to a more cooperative approach with selected suppliers. The activities that the modern purchasing organization must put in place are quite different from just a few years ago.
Supplier development, supplier design involvement, the use of full-service suppliers, total cost supplier selection, long-term supplier relationships, strategic cost management, enterprise wide systems (enterprise resource planning, or ERP) and integrated Internet linkages and shared databases are now seen as ways to create new value within the supply chain. Purchasing behavior is shifting dramatically to support the performance requirements of the new era.
It is possible to reach three conclusions about 21st-century purchasing. First, the reshaping of purchasing’s role in the emerging global economy is under way, in response to the challenges presented by worldwide competition and rapidly changing technology and customer expectations. Second, the overall importance of the purchasing function is increasing, particularly for firms that compete in industries characterized by worldwide competition and rapid change.
Third, purchasing must continue to become more integrated with customer requirements, as well as with operations, logistics, human resources, finance and accounting, marketing, and information systems. This evolution will take time to occur fully, but the integration is inevitable. The history and evolution of purchasing and supply chain management provides an appreciation for the growth, development, and increased stature of the profession over the last 150 years. Each historical period has contributed something unique to the development of purchasing, including the events that have shaped today’s emphasis on integrated supply chain management.
This book comprises 20 chapters, divided into six parts including this introduction. The remainder of this book addresses the major tasks and challenges facing the modern purchasing professional operating within the context of a dynamic supply chain. Part 2, Purchasing Operations and Structure, Chapters 2 through 5, provides a basic understanding of the functional activity called purchasing. Without a solid understanding of basic purchasing processes and organization, appreciating the important role that purchasing has within a supply chain is difficult. With this understanding, Part 3, Strategic Sourcing, considers how purchasing evaluates, selects, manages, and improves supplier performance. Chapters 6 through 10 present strategic sourcing activities, which are activities that can affect the competitiveness of a firm. The ability to realize advantages from our purchasing and supply efforts requires shifting our view of purchasing from a tactical or clerically oriented activity to one that focuses on strategic supply management.
Part 4, Strategic Sourcing Process, recognizes that purchasing professionals must play a major role in improving supply chain performance. Chapters 11 through 15 present an assortment of tools, techniques, and approaches for managing the procurement and sourcing process, including an understanding of contracting and legal issues. Part 5, Critical Supply Chain Elements, deals extensively with the critical elements of integrated supply chains from supplier through customer. The activities and topics presented in Chapters 16 through 19 may or may not be a formal part of the purchasing organization.
They are, however, integral stepping stones to effective supply chain management. The last part, Future Directions, contains a single chapter that presents future directions identified during research and experience with many organizations. The trends identified in Chapter 20 help us identify how the field of purchasing and supply chain management is changing, what is behind these changes, and how best to respond. As we move further into the 21st century, this section must change on a continuous basis to reflect the dynamic changes occurring in purchasing and supply chain management.
Functional groups carry out certain duties on behalf of the organization. We refer to this as a function’s responsibility or span of control. Purchasing must have the legitimate authority to make decisions that fall within their span of control. Span of control is established through senior management policies and support. Although internal customers influence many important decisions, final authority for certain matters must ultimately be assigned to the purchasing department. This section details those decision areas that are rightfully part of purchasing’s operating authority in most organizations. (Further details on the factors that influence how senior management determines purchasing’s span of control
Perhaps the most important duty of purchasing is the right to evaluate and select suppliers—this is what purchasing personnel are trained to do. It is important to retain this right to avoid maverick buying and selling—a situation that occurs when sellers contact and attempt to sell directly to end users (purchasing’s internal customers). Of course, this right does not mean that purchasing should not request assistance when identifying or evaluating potential suppliers. Engineering, for example, can support supplier selection by evaluating supplier product and process performance capabilities. The right to evaluate and select suppliers also does not mean that sales representatives are not allowed to talk with non-purchasing personnel. However, non-purchasing personnel cannot make commitments to the seller or enter into contractual agreements without purchasing’s involvement. A trend that is affecting purchasing’s right to select suppliers is the use of sourcing teams with purchasing and non-purchasing representation. The selection decision in sourcing teams requires that the members reach a consensus in selecting suppliers.
The authority to review material specifications is also within purchasing’s span of control, although engineering sometimes disputes this right. Purchasing personnel work hard to develop knowledge and expertise about a wide variety of materials but must also make this knowledge work to an organization’s benefit. The right to question allows purchasing to review specifications where required. For example, purchasing may question whether a lower-cost material can still meet an engineer’s stress tolerances. The right to question material specifications also helps avoid developing material specifications that only a user’s favorite supplier can satisfy. A review of different requisitions may also reveal that different users actually require the same material. By combining purchase requirements, purchasing can often achieve a lower total cost.
Purchasing departments historically have maintained a policy that suppliers have contact only with purchasing personnel. Although this makes sense from a control standpoint, some firms today are beginning to relax this policy. Today, we recognize that purchasing must act as the primary contact with suppliers, but that other functions should be able to interact directly with suppliers as needed. Involving multiple people enables the communication process between internal customers, purchasing, sales, and the suppliers’ internal functions to be more efficient and accurate. Although purchasing must retain the right to be the primary contact with suppliers, involving other people can improve the transfer of information and knowledge between buying and selling organizations.
An important area of control is that purchasing has the right to determine how to award purchase contracts. Will purchasing award a contract based on competitive bidding, negotiation, or a combination of the two approaches? If purchasing takes a competitive bidding approach, how many suppliers will it request to bid? Purchasing should also lead or coordinate negotiations with suppliers. Again, this does not mean that purchasing should not use personnel from other functions to support the negotiation process. It means that purchasing retains the right to control the overall process, act as an agent to commit an organization to a legal agreement, and negotiate a purchase price.
In this section, we examine in detail the purchasing process, which includes all the steps that must be completed when someone within the organization requires some product, material, or service. As stated in the chapter introduction, purchasing is a process made up of all activities associated with identifying needs, locating and selecting suppliers, negotiating terms, and following up to ensure supplier performance.
This term includes all of the steps required, from the initial identification of requirements, to the procurement/purchasing of the item, through the receipt of the goods, and finally, to the payment of the supplier once the goods are received.
There are two things to keep in mind as we describe the purchasing process. First, how much effort a company spends on these activities will differ greatly from one situation to the next. This section presents the purchasing process as a cycle consisting of six major stages:
1) Forecast and plan requirement
2) Need clarification (requisition)
3) Supplier identification/selection
4) Contract/purchase order generation
5) Receipt of material or service and documents
6) Settlement, payment, and measurement of performance
These stages may vary in different organizations, depending on whether purchasing is sourcing a new or a repetitively purchased item, and also whether there is a detailed approval process for purchases that exceed a specific dollar amount. New items require that purchasing spend much more time up front evaluating potential sources. Repeat items usually have approved sources already available.
Exhibit 2.1 illustrates a typical purchasing process used in many enterprises, with some typical contingency elements shown. The process flow shown in Exhibit 2.1 is often called the procure to pay process, as it documents all of the stages from the initiation of a need, through to the payment element. A document flow accompanies the movement of orders and material throughout the procure to pay process.
Historically, preparing and managing the proper purchasing documents has been a timeconsuming process. Most firms have streamlined the document flow process to reduce the paperwork and handling required for each purchase. The suite of tools used to achieve efficiency in purchasing transactions is broadly defined as e-procurement. Companies are using eprocurement tools to manage the flow of documents by (1) automating the document generation process and (2) electronically transmitting purchase documents to suppliers. The benefits of electronically generating and transmitting purchasing-related documents include the following:
1) A virtual elimination of paperwork and paperwork handling 2) A reduction in the time between need recognition and the release and receipt of an order 3) Improved communication both within the company and with suppliers 4) A reduction in errors 5) A reduction in overhead costs in the purchasing area 6) A reduction in the time spent by purchasing personnel on processing purchase orders and invoices, and more time spent on strategic value-added purchasing activities The electronic documents often used in the process are represented in Exhibit 2.1 by boxes, which we shall now discuss
The purchasing cycle begins with the identification of a need (a requirement). In most cases, procurement personnel have an annual or biannual planning process, whereby they will review the spending pattern for the organization (through a spend analysis, discussed later in the chapter), and prepare a forecast of what will be purchased. In some cases, there may be a whole set of new requirements that have not been planned for (such as for new product introductions).
In such cases, purchasing personnel meet with internal customers to discuss their needs for the coming year. In many firms today, purchasing is the primary vehicle for obtaining external inputs (products or services) from suppliers, so that means that purchasing personnel have to work with a large number of internal customers, which will often include marketing, operations, finance, information technology, and other internal customers.
Through a structured dialogue, purchasing will understand and plan for what these customers will be buying and translate this into a forecast that is shared with suppliers. (In the next chapter, we will discuss the sourcing process that takes place to identify which suppliers are to receive the business associated with fulfilling this need.)
A projected need may take the form of a component, raw material, subassembly, or even a completely finished item. In other cases, the need may be a service, such as the need to contract with an ad agency for a new marketing campaign, or a food service to provide lunches at the company cafeteria. Because purchasing is responsible for acquiring products and services for the entire organization, the information flows between the purchasing function and other areas of the organization can be extensive.
Of course, not all needs can be forecasted ahead of time. There are situations that arise when an internal customer has a need that comes up suddenly, which is not planned for and for which there is no pre-existing supplier identified to provide the product or service required. Such needs are often handled through a spot buy approach, which is also discussed within the context of the P2P process.
For example, marketing may need to purchase a set of pens and cups for a special promotion and may alert purchasing on sudden notice of this need. If it was not planned for, then purchasing must work with marketing to quickly identify a supplier to provide these products on short notice at the lowest possible cost with an acceptable level of quality and delivery time.
When creating a forecast for a needed product or service, internal customers may not always be able to express exactly what it is they will need at a single point in time. For example, a chemical plant maintenance group may say that they will need replacement parts for their equipment, but they might not be able to provide details on the exact nature of the specific parts they will need, nor the exact time they will need them. In such cases, purchasing may negotiate agreements with distributors of parts that can provide a whole different set of products that can meet that need. In other cases, an internal customer may say that they need to work with a specific service provider for temp services, consulting services, or software programming, but they cannot express exactly what type of service they will need in advance. Purchasing will then go off and attempt to secure a contract with predefined costs for different classes of workers who can provide these services on short notice
At some point, however, internal customers identify their need for a product or service and communicate to purchasing exactly what it is they need and when it is required. Internal users communicate their needs to purchasing in a variety of ways including purchase requisitions from internal users, forecasts and customer orders, routine reordering systems, stock checks, and material requirements identified during new product development. Let’s take a closer look at these electronic (or paper) documents that communicate internal customer requirements to purchasing Purchase Requisitions/Statement of Work
The most common method of informing purchasing of material needs is through a purchase requisition. Users may also transmit their needs by phone, by word of mouth, or through a computer-generated method. Although there are a variety of purchase requisition formats, every requisition should contain the following:
Description of required material or service Quantity and date required Estimated unit cost Operating account to be charged Date of requisition (this starts the tracking cycle) Date required Authorized signature
Although varieties of formats exist, at a minimum a purchase requisition should include a detailed description of the material or service, the quantity, date required, estimated cost, and authorization. This form of communication for a specific need is called a requisition. A requisition is an electronic or paper form that provides some critical information about the need. A typical requisition will provide a description of the product, the material and color, the quantity required, the intended purpose to be used in a maintenance project for equipment, and the required date for delivery.
Sometimes a service is required. For instance, marketing may want to purchase an advertising campaign, R&D may need a clinical trial, or human resources may need to print a brochure. In this case, the user will complete a statement of work (SOW) that specifies the work that is to be completed, when it is needed, and what type of service provider is required.
A standard purchase requisition or SOW is used most often for routine, noncomplex items that are increasingly being transmitted through online requisitioning systems linking users with purchasing. An online requisition system is an internal system designed primarily to save time through efficient communication and tracking of material requests.
Users should use these systems only if they require purchasing involvement. It is possible that users have access to other systems that will allow them to purchase an item directly from a supplier, such as a corporate procurement card. In that case requisitions forwarded to purchasing are unnecessary.
There are wide differences across organizations in the quality and use of electronic purchase requisition systems. A system that simply requires users to submit to purchasing what they require for electronic transmission is similar to electronic mail. This type of system provides little added value except to speed the request to purchasing. Conversely, one system studied was so complex that users were afraid to use it. They bypassed online requisitioning and relied instead on the phone or intra company mail.
Exhibit 2.3 provides further details regarding how a purchase requisition is approved, converted into a purchase order, and ultimately prepared for delivery and payment. Although the user may suggest a supplier, purchasing has final selection authority. For routine, off-the-shelf items, the requisition may contain all the information that purchasing requires. However, for technically complex or nonstandard items, purchasing may require additional information or specifications with the requisition. Examples of such specifications include the grade of material, method of manufacture, and detailed measurements and tolerances.
Purchasing may send an acknowledgment of the receipt of the purchase requisition to the requestor. This acknowledgment often takes the form of a confirming order requisition. The acknowledgment may be a separate form notifying the user that purchasing has received and is processing the requisition, or it may be a copy of the original requisition. The confirmation verifies the accuracy of the user’s material request.
Material needs are also communicated through a traveling purchase requisition—a form consisting of a printed card or a bar code with information about whom the item is purchased from. This method is used primarily for very small companies that have not automated their purchasing or inventory management processes. Information on the card or the database entry associated with the bar code can include the following:
Description of item List of approved suppliers Prices paid to suppliers Reorder point Record of usage
A traveling requisition can be helpful because it can conserve time when reordering routine materials and supplies. When stock levels reach a specified reorder point, an employee notifies purchasing by forwarding the traveling requisition maintained with the inventory, or by electronically scanning the bar code into the ordering system.
The employee notes the current stock level and desired delivery date. To eliminate the need to research information, the traveling requisition includes information required by a buyer to process an order. This system saves time because it provides information for the item on the card (or in the database) that otherwise would require research by a buyer. For example, the traveling requisition can include a list of approved suppliers, prices, a history of usage and ordering, and lead-time information. Historical ordering information is noted directly on the record over a period of time. As inventory systems continue to become computerized (even at smaller companies), traveling requisitions are used less frequently. With an automated system, clerks simply enter the order requirement and the system generates a purchase requisition or automatically places an order.
Customer orders can trigger a need for material requirements, particularly when changes to existing products require new components. Customer orders can also signal the need to obtain existing materials. As companies increasingly customize products to meet the needs of individual customers, purchasing must be ready to support new material requirements. Market forecasts can also signal the need for material. An increasing product forecast, for example, may signal the need for additional or new material. If a supplier is already selected to provide that material, then an automated ordering system such as a material requirements planning (MRP) system may forward the material request to suppliers automatically.
A reorder point system is a widely used way to identify purchase needs. Such a system uses information regarding order quantity and demand forecasts unique to each item or part number maintained in inventory. Each item in a reorder point system, which is usually computerized, has a predetermined order point and order quantity.
When inventory is depleted to a given level, the system notifies the materials control department (or the buyer, in some organizations) to issue a request to a supplier for inventory replenishment. This signal might be a blinking light on a screen, a message sent to the materials control department’s e-mail address, or a computer report.
Most reorder point systems are automated using predetermined ordering parameters (such as an economic order quantity, which considers inventory holding and ordering costs). Electronic systems (such as material requirements planning systems) can instantly calculate reorder point parameters. Most systems can also calculate the cost tradeoffs between inventory holding costs, ordering costs, and forecast demand requirements. Reorder point systems are used for production and nonproduction items. An automated reorder point system efficiently identifies purchase requirements. This type of system can routinely provide visibility to current inventory levels and requirements of thousands of part numbers. The reorder point system is the most common method for transmitting routine material order requests today, particularly for companies that maintain spare-part distribution centers.
Stock checks (or cycle counts) involve the physical checking of inventory to verify that system records (also called the record on hand, or ROH) match actual on-hand inventory levels—also called the physical on-hand (POH) levels. If the physical inventory for an item is below the system amount, an adjustment to that part’s record can trigger a reorder request for additional inventory. Why might physical inventory be less than what the computerized system indicates should be on hand? Placing material in an incorrect location, damage that is not properly recorded, theft, and short shipments from the supplier that receiving did not notice all can contribute to the POH being less than the ROH. For example, at one major hardware retailer, missing inventory on the shelf may be located in another area of the store, or may simply be missing because of a problem with the incorrect item being entered into the system.
Smaller firms that rely on standard, easy-to-obtain items often use stock checks to determine material ordering requirements. In this environment, the stock check consists of physically visiting a part location to determine if there is enough inventory to satisfy user requirements. No purchase reorder is necessary if there is enough inventory to cover expected requirements.
When users contact purchasing with a specific need, we say that purchasing is operating in a reactive manner. When purchasing works directly with internal customers to anticipate future requirements, such as during new-product development, purchasing is being proactive. What does it mean to anticipate a requirement? If purchasing is part of new-product development teams, then the opportunity exists to see product designs at early stages of the process.
Purchasing can begin to identify potential suppliers for expected requirements rather than reacting to an engineering requirement at a later date. Anticipating requirements can contribute to faster product development cycle times and better supplier evaluation and selection. As firms continue to be forced to reduce the time required to develop new products, cross-functional interaction will increasingly be the means through which organizations identify, and hopefully anticipate, material requirements in the purchasing process cycle.
However the need is clarified, the point here is that a requisition document is completed by a requisitioner. A requisitioner is someone who is authorized by purchasing to complete the needs clarification process. In some cases, the person who expresses the need can also be the requisitioner. This occurs in cases where the supplier has already been qualified, and the individual who has the need can go to a supplier’s online catalog, order the product or service directly (e.g., through Amazon), and pay for the item using a company purchasing credit card. In such cases, the item is typically low cost, and it is not worth the expense and trouble of completing an entire requisition and going through the entire P2P cycle.
Within the requisitioning process, it is important to include a description of what is to be sourced. Why? If the time is not spent to describe the product or service, purchasing will have no idea of what to go out and purchase! How purchasing accomplishes this will differ dramatically from one situation to the next.
Description by market grade or industry standard might be the best choice for standard items, where the requirements are well understood and there is common agreement between supply chain partners about what certain terms mean.
Description by brand is used when a product or service is proprietary, or when there is a perceived advantage to using a particular supplier’s products or services. A builder of residential communities, for example, might tell the purchasing staff to purchase R21 insulation, an industry standard, for walls, and to buy finish-grade lumber, a market grade, for the trim and fireplace mantels. In addition, it might also specify brands. As you can see, brand names, market grades, and industry standards provide purchasing with an effective and accurate shortcut for relaying the user’s needs to potential suppliers.
More detailed and expensive methods of description will be needed when the items or services to be purchased are more complex, when standards do not exist, or when the user’s needs are harder to communicate. Three common methods include description by specification, description by performance characteristics, and prototypes or samples. In some cases, an organization may need to provide very detailed descriptions of the characteristics of an item or service.
We refer to such efforts as description by specification. Specifications can cover such characteristics as the materials used, the manufacturing or service steps required, and even the physical dimensions of the product. The assumption is that the supplier will know the best way to meet the customer’s needs. Firms often develop prototypes or samples to share with their suppliers.
Prototypes can provide critical information on the look or feel of a product or service. Such information is often difficult to convey in drawings or written descriptions. Note that prototypes or samples are not limited to physical products. An excellent example is a prototype information system that a company might share with potential software vendors. The prototype may include sample output screens and reports. Through the prototype, the company can give its software vendors a clearer idea of how the company expects its users to interact with the system.
Once the need and the description of the need are identified, one of two things can happen:
1) The need is fulfilled by a supplier that has an existing contractual relationship with the buying company. 2) The need is fulfilled by a new supplier that is not currently qualified to provide products and services to the firm.
In the first case, the P2P process moves quite smoothly. Through the need forecasting process, purchasing personnel have already identified which suppliers will be used to source the need, and they have already taken steps to evaluate and prequalify the supplier. Qualification is important, as the purchasing firm must ascertain that the supplier meets several criteria and evaluate whether it is qualified to do business and meet the needs of their internal customers in a satisfactory manner.
This evaluation process is described in some detail in the next chapter. In the second case, where a supplier is not identified, or when the internal customer requests that the need be fulfilled by a specific supplier of their choosing, purchasing face a more difficult challenge. Because there is no existing contract with the supplier, they may balk at approving the need fulfillment from this supplier.
When internal customers purchase directly from nonqualified suppliers and try to bypass purchasing in the process, this is known as maverick spending. That is, customers are acting as a maverick, in that they do not wish to use suppliers already deemed by purchasing as qualified to fulfill the need.
Although some level of maverick spending is always going to occur in an organization, there are significant risks that can occur when it reaches high proportions. We will discuss some of these risks later in the chapter. Maverick spending is acceptable when there is little risk associated with the purchase.
For example, if someone needs to purchase a box of copy paper, there is little risk when an internal customer goes to the local Staples store and purchases a box using the company procurement card. In fact, purchasing will often encourage them to do so, as this does not represent a productive use of their time in managing these types of expenses.
However, when high levels of maverick spending occur repeatedly throughout the company, it can result in major lost opportunities to control cost and also expose the firm to undue risk and loss of control over the purchasing process. Let’s assume for the moment that a qualified supplier is able to provide the product or service, and that the supplier has been through the evaluation process.
For some items, firms may maintain a list of preferred suppliers that receive the first opportunity for new business. A preferred supplier has demonstrated its performance capabilities through previous purchase contracts and therefore receives preference during the supplier selection process. By maintaining a preferred supplier list, purchasing personnel can quickly identify suppliers with proven performance capabilities.
In cases when there is not a preferred supplier available, purchasing must get involved in selecting a supplier to fulfill that need. Final supplier selection occurs once purchasing completes the activities required during the supplier evaluation process. Selecting suppliers is perhaps one of the most important activities performed by companies. Errors made during this part of the purchasing cycle can be damaging and long-lasting. Competitive bidding and negotiation are two methods commonly used for final supplier selection when there is not a preferred supplier.
Identifying potential suppliers is different from reaching a contract or agreement with suppliers. Competitive bidding and negotiation are two methods commonly used when selecting a supplier. Competitive bidding in private industry involves a request for bids from suppliers with whom the buyer is willing to do business. This process is typically initiated when the purchasing manager sends a request for quotation (RFQ) form to the supplier.
The objective is to award business to the most qualified bidder. Purchasers often evaluate the bids based on price. If the lowest bidder does not receive the purchase contract, the buyer has an obligation to inform that supplier why it did not receive the contract.
Volume is high enough to justify this method of business. The specifications or requirements are clear to the seller. The seller must know or have the ability to estimate accurately the cost of producing the item. The marketplace is competitive, which means it has an adequate number of qualified sellers that want the business. Buyers ask for bids only from technically qualified suppliers that want the contract, which in turn means they will price competitively Adequate time is available for suppliers to evaluate the requests for quotation. The buyer does not have a preferred supplier for that item. If a preferred supplier exists, the buyer may simply choose to negotiate the final details of the purchase contract with that supplier.
Buyers use competitive bidding when price is a dominant criterion and the required item (or service) has straightforward material specifications. In addition, competitive bidding is often used in the defense industry and for large projects (e.g., construction projects and information system development). If major non price variables exist, then the buyer and seller usually enter into direct negotiation. Competitive bidding can also be used to narrow the list of suppliers before entering contract negotiation. Negotiation is logical when competitive bidding is not an appropriate method for supplier selection.
When any of the previously mentioned criteria for competitive bidding are missing. For example, the item may be a new or technically complex item with only vague specifications. When the purchase requires agreement about a wide range of performance factors, such as price, quality, delivery, risk sharing, and product support. When the buyer requires early supplier involvement. When the supplier cannot determine risks and costs. When the supplier requires a long period of time to develop and produce the items purchased.
This often makes estimating purchase costs on the part of the supplier difficult. As firms continue to develop closer relationships with selected suppliers, the negotiation process becomes one of reaching agreement on items in a cooperative mode. One thing is certain: The process that buyers use to select suppliers can vary widely depending on the required item and the relationship that a buyer has with its suppliers.
For some items, a buyer may know which supplier to use before the development of final material specifications. For standard items, the competitive bid process will remain an efficient method to purchase relatively straightforward requirements. The bid process can also reduce the list of potential suppliers before a buyer begins time-consuming and costly negotiation. After bids have been received or the negotiation has taken place, the sourcing team will select a supplier and then move on to authorize the purchase through the purchase approval process.
If the requisition requests an item for a higher dollar amount with no existing supplier, then purchasing may obtain quotes or bids from potential suppliers. Purchasing forwards a request for quotation to suppliers inviting them to submit a bid for a purchase contract. The form provides space for the information that suppliers require to develop an accurate quotation, including the description of the item, quantity required, date needed, delivery location, and whether the buyer will consider substitute offers. Purchasing can also indicate the date by which it must receive the supplier’s quotation.
The supplier completes the form by providing name, contact person, unit cost, net amount, and any appropriate payment terms. The supplier then forwards the request for quotation to the buyer for comparison against other quotations. The normal practice is for a buyer to request at least three quotations. Purchasing evaluates the quotations and selects the supplier most qualified to provide the item.
If the requested item is complex or requires an untested or new production process, purchasing can include additional information or attachments to assist the supplier. This might include detailed blueprints, samples, or technical drawings. In addition, buyers can use requests for quotation as a preliminary approach to determine if a potential supplier even has the capability to produce a new or technically complex item. A buyer must identify suppliers with the required production capability before requesting detailed competitive bids. Further quotation and evaluation can then occur to identify the best supplier.
If the purchase contract requires negotiation between the buyer and seller (rather than competitive bidding), purchasing sends a request for proposal (RFP) to a supplier. In many firms, RFQs and RFPs are synonymous. However, in the latter case, the item’s complexity requires that a number of issues besides price need to be included in the supplier’s response.
When the size of the purchase dictates that a detailed evaluation is required for a new purchase, supplier evaluation may be required. The potential evaluation of suppliers begins after determining that a purchase need exists (or is likely to exist) and the development of material specifications occurs. For routine or standard product requirements with established or selected suppliers, further supplier evaluation and selection is not necessary, and the approval process may be generated.
However, potential sources for new items, especially those of a complex nature, require thorough investigation to be sure that purchasing evaluate only qualified suppliers. The source evaluation process requires the development of a list of potential suppliers.
This list may be generated from a variety of sources, including market representatives, known suppliers, information databases, and trade journals. For some items, companies may maintain a list of preferred suppliers that receive the first opportunity for new business. A preferred supplier has demonstrated capability through past performance.
Relying on a list of preferred suppliers can reduce the time and resources required for evaluating and selecting suppliers. Buyers use different performance criteria when evaluating potential suppliers. These criteria are likely to include a supplier’s capabilities and past performance in product design, commitment to quality, management capability and commitment, technical ability, cost performance, delivery performance, and the ability to develop process and product technology.
These factors are weighted in the supplier evaluation process. Final evaluation often requires visits to supplier plants and facilities. Because the resources to conduct such visits are limited, the purchaser must take great care in deciding which suppliers to visit. In recent years, firms have also begun to utilize an electronic competitive bidding tool called a reverse auction or an e-auction.
These mechanisms work exactly like an auction, but in reverse. That is, the buyer identifies potential qualified suppliers to go online to a specific website at a designated time and bid to get the business. In such cases, the lowest bid will often occur as suppliers see what other suppliers are bidding for the business and, in an effort to win the contract, bid it lower. Although they are somewhat ruthless, reverse auctions have been found to drive costs much lower when there is adequate competition in a market.
After the supplier is selected or a requisition for a standard item is received, purchasing grant an approval to purchase the product or service. This is accomplished through several different approaches, depending on the type of system in place.
The drafting of a purchase order, sometimes called a purchase agreement, takes place after supplier selection is complete. Purchasing must take great care when wording a purchase agreement because it is a legally binding document. Almost all purchase orders include on the reverse side of the agreement the standard legal conditions that the order (i.e., the contract) is subject to. The purchase order details critical information about the purchase: quantity, material specification, quality requirements, price, delivery date, method of delivery, ship-to address, purchase order number, and order due date. This information, plus the name and address of the purchasing company, appears on the front side of the order.
Approximately seven to nine copies typically accompany the purchase order. In computerized environments, a file containing a copy of the PO is sent to each department’s computer mailbox. The supplier receives the original copy of the purchase order along with a file copy. The supplier signs the original and sends it back to the buyer.
This acknowledges that the supplier has received the purchase order and agrees with its contents. In legal terms, the transmittal of the purchase order constitutes a contractual offer, whereas the acknowledgment by the supplier constitutes a contractual acceptance. Offer and acceptance are two critical elements of a legally binding agreement. Purchasing forwards a copy of the purchase order (either electronically or manually) to accounting (accounts payable), the requesting department, receiving, and traffic. Purchasing usually keeps several copies for its records. There are good reasons for allowing other departments to view purchase orders and incoming receipts:
The accounting department gains visibility to future accounts payable obligations. It also has an order against which to match a receipt for payment when the material arrives. The purchase order provides the requesting department with an order number to include in its records. The requestor can refer to the purchase order number when inquiring into the status of an order. Receiving has a record of the order to match against the receipt of the material. Receiving also can use outstanding purchase orders to help forecast its inbound workload. Traffic becomes aware of inbound delivery requirements and can make arrangements with carriers or use the company’s own vehicles to schedule material delivery. Purchasing use their copies of the purchase order for follow-up and monitoring open orders. Orders remain active in all departments until the buying company acknowledges receipt of the order and that it meets quantity and quality requirements.
Note that firms are increasingly using computerized databases to perform these processes and are moving toward a paperless office.
purchase order—an open order, usually effective for one year, covering repeated purchases of an item or family of items. After a buyer establishes a blanket order with a supplier, the ordering of an item simply requires a routine order release. The buyer and seller have already negotiated or agreed upon the terms of the purchase contract. With a blanket purchase order, the release of material becomes a routine matter between the buyer and seller.
Almost all firms establish blanket purchase orders with their suppliers. In fact, blanket orders have historically been the preferred method for making the purchasing process more efficient and user friendly. Buyers usually prefer a purchase order for initial purchases or a one-time purchase, which purchasing professionals may also call a “spot buy.” Blanket purchase orders are common for production items ordered on a regular basis or for the routine supplies required to operate. A maintenance supplies distributor, for example, may have a purchase order covering hundreds of items. It is not unusual for the buyer or seller to modify a purchase order to reflect new prices, new quantity discount schedules, or the adding or deleting of items.
The blanket purchase order is similar to the purchase order in general content and is distributed to the same departments that receive a copy of a purchase order. The major difference between a purchase order and a blanket purchase order is the delivery date and the receiving department. This information on the blanket order remains open because it often differs from order to order. When negotiating a blanket purchase order, the buyer and supplier evaluate the anticipated demand over time for an item or family of items. The two parties agree on the terms of an agreement, including quantity discounts, required quality levels, delivery lead times, and any other important terms or conditions.
The blanket purchase order remains in effect during the time specified on the agreement. This time period is often, but not always, six months to a year. Longer-term agreements covering several years are becoming increasingly common with some firms. Most buyers reserve the right to cancel the blanket order at any time, particularly in the event of poor supplier performance. This requires an escape clause that allows the buyer to terminate the contract in the event of persistently poor quality, delivery problems, and so on.
Buyers use material purchase releases to order items covered by blanket purchase orders. Purchasing specifies the required part number(s), quantity, unit price, required receipt date, using department, ship-to address, and method of shipment and forwards this to the supplier. Purchasing forwards copies of this form to the supplier, accounting, receiving, and traffic.
Purchasing retains several copies for its records. The copy to the supplier serves as a notification of a required item or items. Accounting receives a copy so it can match the quantity received against the quantity ordered for payment purposes. Receiving must have visibility of incoming orders so it can compare ordered quantities with received quantities. As with other forms, this part of the process is increasingly becoming electronic. Different types of material releases exist.
Organizations often use the material release as a means to provide visibility to the supplier about forecasted material requirements as well as actual material requirements. One U.S. automobile producer provides suppliers with an 18-month forecast for replacement parts. The first three months of the release are actual orders. The remaining nine months represent forecasted requirements that help the supplier plan.
In other cases, a more detailed contract is required above and beyond a simple purchase order. A contract is typically required if the size of the purchase exceeds a predetermined monetary value (e.g., $1,000), or if there are risks associated with doing business with a supplier where the potential for conflict and problems is not negotiated prior to the purchase. Because purchasing professionals buy products and services as a career, it is not surprising that they deal regularly with contracts.
It is therefore critical that purchasing managers understand the underlying legal aspects of business transactions and develop the skills to manage those contracts and agreements on a day-to-day basis. Once a contract has been negotiated and signed, the real work begins. From the moment of signing, it is the purchasing manager’s responsibility to ensure that all of the terms and conditions of the agreement are fulfilled. If the terms and conditions of a contract are breached, purchasing personnel are also responsible for resolving the conflict. In a perfect world, there would be no need for a contract, and all deals would be sealed with a handshake.
However, contracts are an important part of managing buyer-supplier relationships as they explicitly define the roles and responsibilities of both parties, as well as how conflicts will be resolved if they occur (which they almost always do). Purchasing contracts can be classified into different categories based on their characteristics and purpose. Almost all purchasing contracts are based on some form of pricing mechanism and can be categorized as a variation on two basic types: fixed price and cost-based contracts.
Fixed-Price ContractsThe most basic contractual pricing mechanism is called a firm fixed price. In this type of purchase contract, the price stated in the agreement does not change, regardless of fluctuations in general overall economic conditions, industry competition, levels of supply, market prices, or other environmental changes. This contract price can be obtained through a number of pricing mechanisms: price quotations, supplier responses to the buying organization’s requests for proposal, negotiations, and other methods. Fixed-price contracts are the simplest and easiest for purchasing to manage because there is no need for extensive auditing or additional input from the purchasing side.
If market prices for a purchased good or service rise above the stated contract price, the seller bears the brunt of the financial loss. However, if the market price falls below the stated contract price because of outside factors such as competition, changes in technology, or raw material prices, the purchaser assumes the risk or financial loss. If there is a high level of uncertainty from the supplying organization’s point of view regarding its ability to make a reasonable profit under competitive fixed-price conditions, then the supplier may add to its price to cover potential increases in component, raw material, or labor prices. If the supplier increases its contract price in anticipation of rising costs, and the anticipated conditions do not occur, then the purchaser has paid too high a price for the good or service. For this reason, it is very important for the purchasing organization to adequately understand existing market conditions prior to signing a fixed-price contract to prevent contingency pricing from adversely affecting the total cost of the purchase over the life of the contract.
Cost-based contracts are appropriate for situations in which there is a risk that a large contingency fee might be included using a fixed-price contract. Cost-based contracts typically represent a lower level of risk of economic loss for suppliers, but they can also result in lower overall costs to the purchaser through careful contract management. It is important for the purchaser to include contractual terms and conditions that require the supplier to carefully monitor and control costs. The two parties to the agreement must agree on what costs are to be included in the calculation of the price of the goods or services procured.
Cost-based contracts are generally applicable when the goods or services procured are expensive, complex, and important to the purchasing party or when there is a high degree of uncertainty regarding labor and material costs. Cost-based contracts are generally less favorable to the purchasing party because the threat of financial risk is transferred from the seller to the buyer. There is also a low incentive for the supplier to strive to improve its operations and lower its costs (and hence the price to the purchaser). In fact there is an incentive, at least in the short run, for suppliers to be inefficient in cost-based contracts because they are rewarded with higher prices.
This phase of the purchasing cycle involves the physical transmittal of purchase requirements and should be a fairly routine, although not necessarily the most efficient, part of the purchasing cycle. Some organizations transmit orders electronically, whereas others send material releases through the mail or by fax. Purchasing or materials planning must minimize the time required to release and receive material. Electronic data interchange (EDI), which involves the electronic transfer of purchase documents between the buyer and seller, can help shorten order cycle time. EDI transactions, particularly through the Internet, will increase over the next several years. Also, better relationships with suppliers can support a just-in-time (JIT) ordering system. In some companies, once a contract is negotiated, internal end users may be directly responsible for releasing material orders covered under the terms of the contract, and purchasing personnel are no longer involved until the contract is renewed.
Purchasing or a materials control group must monitor the status of open purchase orders. There may be times when a purchaser has to expedite an order or work with a supplier to avoid a delayed shipment. A buyer can minimize order follow-up by selecting only the best suppliers and developing stable forecasting and efficient ordering systems. The receiving process should also be made as efficient as possible by using bar code technology to receive and place supplier deliveries in inventory. The shipping and receiving processes require several other important documents that also can be electronic, including the material packing slip, the bill of lading, and the receiving discrepancy report.
The material packing slip, which the supplier provides, details the contents of a shipment. It contains the description and quantity of the items in a shipment. It also references a specific purchase order and material release number for tracking and auditing purposes. A packing slip is a critical document when receiving material at a buyer’s facility. The receiving clerk uses the packing slip to compare the supplier packing slip quantity against the actual physical receipt quantity. Furthermore, the packing slip quantity should match the material release quantity. The comparison between material release quantity and packing slip quantity is critical. It determines if suppliers have over- or under shipped.
Transportation carriers use a bill of lading to record the quantity of goods delivered to a facility. For example, the bill of lading may state that ABC carrier delivered three boxes to a buyer on a certain date. This prevents the purchaser from stating a week later that it received only two boxes. The bill of lading details only the number of boxes or containers delivered. Detailing the actual contents of each container is the supplier’s responsibility; that information appears on the packing slip.
The bill of lading helps protect the carrier against wrongful allegations that the carrier somehow damaged, lost, or otherwise tampered with a shipment. This document does not necessarily protect the carrier against charges of concealed damage, however. A user may discover concealed damages after opening a shipping container. Responsibility for concealed damage is often difficult to establish. The receiving company may blame the carrier. The carrier may blame the supplier or maintain that the damage occurred after delivery of the material. The supplier may maintain total innocence and implicate the carrier. While all this goes on, the buyer must reorder the material as a rush order. This can affect customer service or commitments.
A receiving discrepancy report details any shipping or receiving discrepancies noted by the receiving department. It is often the job of purchasing or material control to investigate and resolve material discrepancies. Material discrepancies usually result from incorrect quantity shipments. They can also result from receiving an incorrect part number or a part number incorrectly labeled.
Just-in-time purchasing and manufacturing allows firms to eliminate most receiving forms. This, assumes that if its production line does not shut down it must have received its scheduled shipments from its suppliers. The accounts payable department makes payment unless informed otherwise.
This JIT system eliminates the need for packing slips and inbound material inspection. The system also eliminates the need to examine, file, and forward multiple copies of each packing slip to various departments. If a receipt does not arrive on time or is not damage free, it realizes this within minutes. With this system, no news means the shipment arrived and is production ready. Other similar system called back flush accounting. In this system, suppliers are paid only for the quantity of components that are used in each week’s production runs. In the event that parts are tossed aside on the production line because of defects, the firm does not pay for them. Someone (typically purchasing or materials personnel) must monitor the status of open purchase orders.
There may be times when the buying firm has to expedite an order or work with a supplier to avoid a delay in a shipment. A company can minimize order follow-up by selecting only the best suppliers and developing internally stable forecasting and ordering systems. When the order for a physical good arrives at the buyer’s location, it is received and inspected to ensure that the right quantity was shipped and that it was not damaged in transit. Assuming that the product or service was delivered on time, it will be entered into the company’s purchasing transaction system.
Physical products delivered by suppliers then become part of the company’s working inventory. In the case of services, the buyer must ensure that the service is being performed according to the terms and conditions stated in the purchase order.
For services, the user will typically sign off on a supplier time sheet or other document to signal purchasing that the service was delivered as promised, on time, and according to the conditions stated in the initial SOW. That may mean checking with the actual users within the organization who requested the service in the first place and ensuring that all is going as planned. Deviations from the statement of work must be noted and passed on to the supplier, which in some cases may require modifications to the original PO or contracted SOW (often called a change notice when this occurs).
Once the item or service is delivered, the buying firm will issue an authorization for payment to the supplier. Payment is then made through the organization’s accounts payable department. This is increasingly being accomplished through electronic means. Suppliers are more often being paid through electronic funds transfer (EFT), which is the automatic transfer of payment from the buyer’s bank account to the supplier’s bank account. More and more organizations are moving to integrated systems where all purchase orders, receipts, and payments are made electronically.
After the product or service has been delivered and the supplier paid, a record of critical events associated with the purchase is entered into a supplier performance database. The supplier performance database accumulates critical performance data over an extended period, helping purchasing identify trends or patterns in supplier performance. Why is it important to capture the transaction-level data associated with all purchasing processes? This answer is discussed in the next section. Specifically, from time to time the firm must identify opportunities for savings through a process known as a spend analysis. Spend analysis becomes a critical input into building sourcing strategies
One way to identify the best suppliers is to track performance after awarding a contract. Supplier measurement and management is a key part of the purchasing cycle, buyers should not assume that the purchasing cycle ends with the receipt of an ordered item or the selection of a supplier. Continuous measurement is necessary to identify improvement opportunities or supplier nonperformance. This section simply summarizes the key points about this phase of the purchasing cycle. A desired outcome from performance measurement is improved supplier performance. If no formal evaluation takes place, a buyer has little insight into supplier performance over time, and tracking any performance improvement that results from supplier development efforts is not possible.
Without a measurement and evaluation system, a buyer lacks the quantitative data necessary to support future purchase decisions. A major issue when evaluating supplier performance is the frequency of evaluation and feedback. For example, should a buyer receive a supplier quality performance report on a daily, weekly, monthly, or quarterly basis? Although most firms recognize the need to notify suppliers immediately when a problem arises, there is little consensus about the frequency for conducting routine or scheduled supplier evaluations. For many firms, this overall evaluation may occur only one or two times a year. Regardless of the reporting frequency, supplier performance measurement is an important part of the purchasing process cycle.
Many companies have P2P processes that are in disrepair and are focused on improving the P2P cycle. In the re-engineering the procure to pay process, suppliers and experts recommend that executives apply the following approach
1) Secure top management support for the initiative and budgeting for the project. Develop a list of key benefits and deliverables that will occur as a result of the improvements. Document the cost of leaving the system “broken” in its current state. 2) Map existing processes and problems with the P2P cycle. Identify where the breakdowns are occurring and why they are occurring. 3) Understand the needs and requirements of the user groups. Many of the people involved— maintenance, planning, project management, supplier’s accounts payable, buyers, and so on—have specific issues that prevent them from using the existing system. Also, many of the specific sites may have issues that need to be considered in designing the new system. 4) Team redesign workshops should be used to bring together key subject matter experts (SMEs) from each of the business units. Suppliers should also be invited to attend and participate, as they may have solutions they have adopted with other customers that may prove to be efficient and simple to use (“why reinvent the wheel?”). 5) Explore existing technology solutions with ERP systems, as well as bolt-on applications. Map out the business requirements and ensure they are aligned with the technology solutions that are available. Begin to estimate cost of deployment, and ensure that adequate planning and due diligence is taken at this step. 6) Following the workshops, define the new process, and begin to pilot using a planned technology. Ensure that it takes place in a real environment, with actual non trained users involved in the pilot before cutting over to the next process. 7) Train and deploy other users based on the new processes and systems. Be sure to make the training appropriate to the specific functional unit and user groups. 8) Monitor, update, and improve the system, ensuring that catalogs are kept up to date. Hold periodic meetings with suppliers and user groups to solicit input and identify problems with the systems.
As technology and business requirements evolve, the P2P cycle will probably need to be revisited from time to time to ensure it is meeting the needs of internal customers and that suppliers are satisfied with the system.
Organizations buy many different goods and services. All purchases represent a tradeoff between what an organization can make itself versus what it must buy externally. For many items, the make-or-buy decision is actually quite simple. Few firms could manufacture their own production equipment, computers, or pencils. However, all firms require these items to support continued operations. The challenge is deciding which suppliers offer the best opportunity for items an organization must purchase externally. The following sections outline the variety of goods and services a typical purchasing department is responsible for buying. Please note that for each category, organizations should establish measures that track the amount of goods in physical inventory.
The raw materials purchase category includes items such as petroleum, coal, and lumber, and metals such as copper and zinc. It can also include agricultural raw materials such as soybeans and cotton. A key characteristic of a raw material is a lack of processing by the supplier into a newly formed product. Any processing that occurs makes the raw material saleable. For example, copper requires refining to remove impurities from the metal. Another key characteristic is that raw materials are not of equal quality. Different types of coal, for example, can differ by sulfur content. Raw materials often receive a grade indicating the quality level. This allows raw materials purchases based on the required grade.
Semi finished products and components include all the items purchased from suppliers required to support an organization’s final production. This includes single part number components, subassemblies, assemblies, subsystems, and systems. Semi finished products and components purchased by an automobile producer include tires, seat assemblies, wheel bearings, and car frames.
Managing the purchase of semi finished components is a critical purchasing responsibility because components affect product quality and cost. Hewlett-Packard buys its laser jet printer engines, which are a critical part of the finished product, from Canon. HP must manage the purchase of these engines carefully and work closely with the supplier. Outsourcing product requirements increases the burden on purchasing to select qualified suppliers, not only for basic components, but also for complex assemblies and systems.
All organizations purchase finished items from external suppliers for internal use. This category also includes purchased items that require no major processing before resale to the end customers. An organization may market under its own brand name an item produced by another manufacturer. Why would a company purchase finished items for resale? Some companies have excellent design capability but have outsourced all production capability or capacity. The purchase of finished products also allows a company to offer a full range of products. Purchasing (or engineering) must work closely with the producer of a finished product to develop material specifications. Even though the buying company does not produce the final product, it must make sure the product meets the technical and quality specifications demanded by engineering and the end customer.
Maintenance, repair, and operating (MRO) items include anything that does not go directly into an organization’s product. However, these items are essential for running a business. This includes spare machine parts, office and computer supplies, and cleaning supplies. The way these items are typically dispersed throughout an organization makes monitoring MRO inventory difficult. The only way that most purchasing departments know when to order MRO inventory is when a user forwards a purchase requisition. Because all departments and locations use MRO items, a typical purchasing department can receive thousands of small-volume purchase requisitions.
Some purchasers refer to MRO items as nuisance items. Historically, most organizations have paid minimal attention to MRO items. Consequently, (1) they have not tracked their MRO inventory investment with the same concern with which they track production buying, (2) they have too many MRO suppliers, and (3) they commit a disproportionate amount of time to small orders. With the development of computerized inventory systems and the realization that MRO purchase dollar volume is often quite high, firms have begun to take an active interest in controlling MRO inventory. This allows purchasing to be free of the burden of tracking office supply requests. Instead, Staples provides a website listing all supplies with prices; users can point and click on the items they need, and the supplier will deliver to the user’s location the next business day.
Production support items include the materials required to pack and ship final products, such as pallets, boxes, master shipping containers, tape, bags, wrapping, inserts, and other packaging material. Production support items directly support an organization’s production operation; this is a key distinction separating production support and MRO items. Services
All firms rely on external contractors for certain activities or services. An organization may hire a lawn care service to maintain the grounds around a facility or a heating and cooling specialist to handle repairs that the maintenance staff cannot perform. Other common services include machine repair, snow removal, data entry, consultants, and the management of cafeteria services. Like MRO items, the purchase of services occurs throughout an organization. Therefore, there has been a tendency to pay limited attention to them and to manage the service purchases at the facility or department level. As with any purchase category, careful and specialized attention can result in achieving the best service at the lowest total cost. More and more, companies are negotiating longer-term contracts with service providers just as they would with other high-value purchase categories.
Capital equipment purchasing involves buying assets intended for use over one year. There are several categories of capital equipment purchases. The first includes standard general equipment that involves no special design requirements. Examples include general-purpose materialhandling equipment, computer systems, and furniture. A second category includes capital equipment designed specifically to meet the requirements of the purchaser. Examples include specialized production machinery, new manufacturing plants, specialized machine tools, and power-generating equipment. The purchase of these latter items requires close technical involvement between the buyer and seller. Several features separate capital equipment purchases from other purchases.
First, capital equipment purchases do not occur with regular frequency. A production machine, for example, may remain in use for 10 to 20 years. A new plant or power substation may remain in operation over 30 years. Even office furniture may last over 10 years. A second feature is that capital equipment investment requires large sums of money. This can range from several thousand dollars to hundreds of millions of dollars. High-dollar contracts will require finance and executive approvals.
For accounting purposes, most capital equipment is depreciable over the life of the item. Finally, capital equipment purchasing is highly sensitive to general economic conditions. Buyers can rarely switch suppliers in the middle of a large-scale project or dispose of capital equipment after delivery because of dissatisfaction.
Furthermore, the relationship between the buyer and supplier may last many years, so the buyer should also consider the supplier’s ability to service the equipment. The consequences of selecting a poorly qualified supplier of capital equipment can last for many years. The reverse is also true. The benefit of selecting a highly qualified capital equipment provider can last many years.
Transportation is a specialized and important type of service buying. Few purchasing departments involved themselves with transportation issues. It was common for suppliers to arrange shipment to a purchaser and simply include the transportation cost as part of the purchase cost. Purchasing personnel have become involved with transportation buying and the management of inbound and outbound material flows. It is now common for purchasing personnel to evaluate and select logistics providers the same way they evaluate and select suppliers of production items. Buyers are also selecting suppliers that are capable of providing coordinated transportation and logistics services for an entire company, including warehousing, packaging, and even assembly. Because many carriers now provide service throughout the United States, a buyer can rely on fewer transportation carriers. The cost savings available from controlling and managing logistics are significant.
Most companies spend too much time and too many resources managing the ordering of goods and service, particularly lower-value items. Some purchasing departments spend 80% of their time managing 20% of their total purchase dollars. How can organizations create value through their purchasing process when they spend more time processing orders than what the orders are worth? How organizations are improving the purchasing process by reducing the time and effort associated with obtaining lower-value goods and services. The methods or approaches that organizations expect to emphasize over the next several years to improve the low-value purchasing process. The following sections summarize the approaches and methods presented in the exhibit.
Online requisitioning systems are internal systems designed primarily to save time through efficient and rapid communication. Users should use these systems only if they require purchasing involvement to support a material or service need. If users do not require assistance, they should have access to other low-dollar systems that do not require purchasing involvement.
Advanced organizations are much more likely to allow users to request low-value purchases through internal electronic systems when the need requires purchasing involvement. Organizations that have made less progress managing low-value purchasing use company mail or the phone to receive user requests. Users should rely on efficient requisitioning systems for items that require purchasing involvement. A longer-term focus should be to create systems and processes that empower users to obtain low-value items directly from suppliers rather than involving purchasing.
Electronic purchasing commerce through the Internet refers to a broad and diverse set of activities. Using the Internet to conduct purchasing business is not extensive today, although commercial Internet usage by purchasers should currently increase dramatically and over the next several years. The highest expected growth areas in e-commerce purchasing include the following:
Transmitting purchase orders to suppliers Following up on the status of orders Submitting requests for quotes to suppliers Placing orders with suppliers Making electronic funds transfer payments Establishing electronic data interchange capability
Longer-term purchase agreements usually cover a period of one to five years, with renewal based on a supplier’s ability to satisfy performance expectations. These agreements can reduce the transactions costs associated with lower-value purchases by eliminating the need for timeconsuming annual renewal. Furthermore, once a purchaser and a supplier reach agreement, material releasing responsibility should shift to user groups. Ideally, material releasing becomes electronic rather than manual, even for lower-value items. Although the two approaches are conceptually similar, differences exist between a blanket purchase order, which purchasers routinely use, and longer-term purchase agreements. Both approaches rely on a contractual agreement to cover specific items or services; they may be for extended periods; they are legal agreements; and they are highly emphasized ways to manage lower-value purchases. However, blanket purchase orders are typically used more often for lower-value items than for longer-term agreements. Longer-term agreements are usually more detailed in the contractual areas they address compared with blanket purchase orders.
Online ordering systems involve direct electronic links from a purchaser’s system to a supplier’s system, often through a modem or other web-enabled technologies. A major feature of online ordering systems is that suppliers often bear the responsibility for developing the software required to link with a customer’s system.
Online ordering is a logical approach once an organization has established a blanket purchase agreement or longer-term contract with a supplier. The strategic part of the sourcing process involves identifying, evaluating, and selecting suppliers. Online ordering systems allow purchasing or users to place orders directly into a supplier’s order-entry system.
Immediate visibility to back-ordered items Faster order input time, which contributes to reduced order cycle times Reduced ordering errors Order tracking capabilities Order acknowledgment from the supplier, often with shipping commitment dates Ability to batch multiple items from multiple users on a single online order Faster order cycle time from input to delivery
Suppliers establish online ordering systems so purchasers can have dedicated access to the supplier’s order-entry system. The system creates a seamless tie-in or linkage between organizations.
Purchasers are increasingly using this approach in conjunction with other low-dollar purchase systems. For example, one organization allows its user to identify supply sources through the Internet and then use a procurement card to process the order. The key benefit of using electronic catalogs is their powerful low-cost search capability and, if users order directly instead of relying on purchasing, reduced total cycle time and ordering costs.
Perhaps the greatest drawback to online ordering is the limited number of suppliers that offer electronic catalogs, along with questions about security of electronic ordering and control issues. Allowing Users to Contact Suppliers Directly
This general method or approach involves different kinds of low-dollar systems. Procurement cards technically qualify as a system that allows users to contact suppliers directly. Online ordering systems also allow users to contact suppliers directly, or the system may involve nothing more than a multiple part form, such as a limited purchase order, that users complete as they initiate an order.
Approaches that allow users to contact suppliers directly shift responsibility for the transaction from purchasing to the user. Even for items with no established supplier, purchasing still may have limited or no involvement unless the requirement reaches a predetermined dollar or activity level. If an item becomes a repetitive purchase, then purchasing may determine if the item warrants a blanket purchase order. Blanket purchase orders usually allow users to contact suppliers directly when a need arises for material
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