Lecture 15 Purchasing and Supply Chain Books Introduction to Materials Management, Sixth Edition, J. R. Tony Arnold, P.E., CFPIM, CIRM, Fleming College, Emeritus, Stephen N. Chapman, Ph.D., CFPIM, North Carolina State University, Lloyd M. Clive, P.E., CFPIM, Fleming College Operations Management for Competitive Advantage, 11th Edition, by Chase, Jacobs, and Aquilano, 2005, N.Y.: McGraw-Hill/Irwin. Operations Management, 11/E, Jay Heizer, Texas Lutheran University, Barry Render, Graduate School of Business, Rollins College, Prentice Hall

Objectives Purchasing overview Purchasing cycle Purchasing function Make or buy decision Purchasing techniques JIT purchasing Supply chain management Outsourcing Ethics in Supply chain

Purchasing Overview Purchasing The acquisition of goods and services. Purchasing Activity Helps identify the products and services that can be best obtained externally; and Develops, evaluates, and determines the best supplier, price, and delivery for those products and services.

Purchasing Objectives Obtaining goods and services of the required quality and quantity. Obtaining goods and services at the lowest cost. Ensuring the best possible service and prompt delivery by the supplier. Developing and maintaining good supplier relations and developing potential suppliers.

Purchasing Functions Determining purchasing specifications: quality, quantity, delivery Selecting suppliers Negotiating terms and conditions of purchase Issuing and administering purchase orders

Purchasing Cycle Receiving and analyzing purchase req’s. Selecting suppliers Determining the right price Issuing purchase orders Following up to assure delivery dates are met Receiving and accepting goods Approving supplier’s invoice for payment

The Typical Procurement Cycle Order Cycle (one to three weeks) Order Request Verification by inventory control Purchasing researches suppliers, obtains quotes, etc. Signatures obtained Order mailed Supplier Cycle (one to many weeks) Supplier receives and enters order Supplier manufactures or “picks” order Supplier ships order Receiving Cycle (one week) Receiving Incoming inspection Inventory control receives order, updates records, and notifies department

Purchasing Terminology Purchasing Agent Has legal authority to execute contracts on behalf of the firm. Make or Buy Decision Choosing products and services that can be advantageously obtained externally or produced internally depending on which is best for the company. Vertical Integration Developing the ability to produce goods or services previously purchased, or actually buying a supplier or a distributor.

Make-or-Buy Decisions Maintain core competence Lower production cost Unsuitable suppliers Assure adequate supply (quantity or delivery) Utilize surplus labor or facilities Obtain desired quality Remove supplier collusion Obtain unique item that would entail a prohibitive commitment for a supplier Protect personnel from a layoff Protect proprietary design or quality Increase or maintain size of company Reasons for Making

Make-or-Buy Decisions Frees management to deal with its core competence Lower acquisition cost Preserve supplier commitment Obtain technical or management ability Inadequate capacity Reduce inventory costs Ensure alternative sources Inadequate managerial or technical resources Reciprocity Item is protected by a patent or trade secret Reasons for Buying

Make/Buy Considerations Reasons for Making Reasons for Buying Lower production cost Unsuitable suppliers Assure adequate supply Utilize surplus labor and make a marginal contribution Obtain desired quantity Remove supplier collusion Obtain a unique item that would entail a prohibitive commitment from the supplier Lower acquisition cost Preserve supplier commitment Inadequate capacity Reduce inventory costs Ensure flexibility and alternate source of supply Product improvements may be difficulty because it is a sideline

Purchasing Terminology Keiretsu The Japanese word to describe a company coalition with long-term contracts with the firm; members of the Keiretsu function much like partners would.

Supplier Relations Three aspects of supplier relations Supplier Evaluation - Involves finding potential suppliers and determining the likelihood of their becoming good partners. Supplier Development - May include everything from training, to engineering and production help, to formats for electronic transfer. Negotiations - Are of three classic types: cost-based model, market-based price model, and competitive bidding.

Sourcing Sole sourcing implies that only one supplier is available. Multiple sourcing is the use of more than one supplier for an item. Single sourcing is the selection of one item for an item when several sources are available.

Factors in Selecting Suppliers Technical ability Manufacturing capability Reliability After-sales service Supplier location Price Other considerations

Supplier Relations The supplier should be treated as an extension of the company. Long-term, close relationships with a few suppliers is best for many critical products. The supplier should be committed to helping the purchaser improve its product and win orders. Suppliers can also be a source of ideas about new technology, materials, and processes. A good supplier relationship is like a marriage.

Supplier Relations The following characteristics have been proven to be present in good relationships. Commitment Communication Working through change / improvement Principles centered relationship Spending time together Appreciation / recognition / feedback

Supplier Relations Negotiation Strategies Cost-Based Model - Requires the supplier to open its books so that the purchaser can determine actual costs. Market-Based Price Model - Based on a published price or index such as exists for many metal and paper suppliers. Competitive Bidding - Appropriate where suppliers are not willing to discuss cost or where near perfect markets do not exist.

Negotiations and Product Type Commodities: Contracts for future prices. Standard Products: May negotiate large purchases. Items of Small Value: Minimize cost of ordering. Negotiate ordering system. Made-to-order items: Can be negotiated.

Purchasing Techniques Blanket orders Invoiceless purchasing Electronic ordering and funds transfer Electronic data interchange (EDI) Stockless purchasing Standardization

Purchasing Techniques Blanket Orders A contract to purchase certain items from a vendor, although they all may not be delivered until requested by the purchaser. Invoice-less Purchasing Appropriate where substantial trust exists between the purchaser and supplier and deliveries are made on a regular basis and are easily verifiable.

Purchasing Techniques Electronic Ordering and Fund Transfer Reduces cost by reducing paperwork; also increases the speed of ordering. Stockless Purchasing Developing with the supplier, a means of reducing inventory costs by the supplier holding inventory. Standardization A technique for reducing purchases for specialized items when in fact a very similar standard product is commercially available.

Supplier Concerns in Just-in-Time Purchasing Desire for Diversification. Supplier is concerned about all business stemming from single customer. Poor Customer Scheduling. Supplier is concerned that customer will not be able to develop smooth, consistent schedule. Engineering Changes. Supplier is concerned that customer will promulgate frequent engineering changes with inadequate lead time.

Supplier Concerns in Just-in-Time Purchasing Quality Assurance. Supplier may consider production with zero defects unrealistic. Small Lot Sizes. Many suppliers are unaccustomed to working with small lot sizes. Proximity. Delivery of small lot sizes over long distances may not be economical.

The Supply Chain’s Strategic Importance Supply chain management is the integration of the activities that procure materials and services, transform them into intermediate goods and the final product, and deliver them to customers Competition is no longer between companies; it is between supply chains

Supply Chain Management Important activities include determining Transportation vendors Credit and cash transfers Suppliers Distributors Accounts payable and receivable Warehousing and inventory Order fulfillment Sharing customer, forecasting, and production information

A Supply Chain for Beer

Global Supply Chain Issues Supply chains in a global environment must be able to React to sudden changes in parts availability, distribution, or shipping channels, import duties, and currency rates Use the latest computer and transmission technologies to schedule and manage the shipment of parts in and finished products out Staff with local specialists who handle duties, freight, customs and political issues

How Supply Chain Decisions Impact Strategy Low-Cost Strategy Response Strategy Differentiation Strategy Supplier’s goal Supply demand at lowest possible cost (e.g., Emerson Electric, Taco Bell) Respond quickly to changing requirements and demand to minimize stockouts (e.g., Dell Computers) Share market research; jointly develop products and options (e.g., Benetton) Primary selection criteria Select primarily for cost Select primarily for capacity, speed, and flexibility Select primarily for product development skills

How Supply Chain Decisions Impact Strategy Low-Cost Strategy Response Strategy Differentiation Strategy Process charact-eristics Maintain high average utilization Invest in excess capacity and flexible processes Modular processes that lend themselves to mass customization Inventory charact-eristics Minimize inventory throughout the chain to hold down cost Develop responsive system with buffer stocks positioned to ensure supply Minimize inventory in the chain to avoid obsolescence

How Supply Chain Decisions Impact Strategy Low-Cost Strategy Response Strategy Differentiation Strategy Lead-time charact-eristics Shorten lead time as long as it does not increase costs Invest aggressively to reduce production lead time Invest aggressively to reduce development lead time Product-design charact-eristics Maximize performance and minimize costs Use product designs that lead to low setup time and rapid production ramp-up Use modular design to postpone product differentiation as long as possible

Supply Chain Economics Supply Chain Costs as a Percent of Sales Industry % Purchased All industry 52 Automobile 67 Food 60 Lumber 61 Paper 55 Petroleum 79 Transportation 62

Supply Chain Economics Dollars of additional sales needed to equal $1 saved through the supply chain Percent of Sales Spent in the Supply Chain Percent Net Profit of Firm 30% 40% 50% 60% 70% 80% 90% 2 $2.78 $3.23 $3.85 $4.76 $6.25 $9.09 $16.67 4 $2.70 $3.13 $3.70 $4.55 $5.88 $8.33 $14.29 6 $2.63 $3.03 $3.57 $4.35 $5.56 $7.69 $12.50 8 $2.56 $2.94 $3.45 $4.17 $5.26 $7.14 $11.11 10 $2.50 $2.86 $3.33 $4.00 $5.00 $6.67 $10.00

Outsourcing Transfers traditional internal activities and resources of a firm to outside vendors Utilizes the efficiency that comes with specialization Firms outsource information technology, accounting, legal, logistics, and production

Ethics in the Supply Chain Opportunities for unethical behavior are enormous and temptations are high Many companies have strict rules and codes of conduct that define acceptable behavior Institute for Supply Management has developed a detailed set of principles and standards for ethical behavior

Principles and Standards for Ethical Supply Management Conduct LOYALTY TO YOUR ORGANIZATION JUSTICE TO THOSE WITH WHOM YOU DEAL FAITH IN YOUR PROFESSION

Principles and Standards for Ethical Supply Management Conduct Avoid the intent and appearance of unethical or compromising practice in relationships, actions, and communications Demonstrate loyalty to the employer by diligently following the lawful instructions of the employer, using reasonable care and granted authority Avoid any personal business or professional activity that would create a conflict between personal interests and the interests of the employer

Principles and Standards for Ethical Supply Management Conduct Avoid soliciting or accepting money, loans, credits, or preferential discounts, and the acceptance of gifts, entertainment, favors, or services from present or potential suppliers that might influence, or appear to influence, supply management decisions Handle confidential or proprietary information with due care and proper consideration of ethical and legal ramifications and government regulations Promote positive supplier relationships through courtesy and impartiality Avoid improper reciprocal agreements

Principles and Standards for Ethical Supply Management Conduct Know and obey the letter and spirit of laws applicable to supply management Encourage support for small, disadvantaged, and minority-owned businesses Acquire and maintain professional competence Conduct supply management activities in accordance with national and international laws, customs, and practices, your organization’s policies, and these ethical principles and standards of conduct Enhance the stature of the supply management profession

End of Lecture 15