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
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Purchasing overview
Purchasing cycle
Purchasing function
Make or buy decision
Purchasing techniques
JIT purchasing
Supply chain management
Outsourcing
Ethics in Supply chain
Purchasing Overview
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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
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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
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Determining purchasing specifications: quality,
quantity, delivery
Selecting suppliers
Negotiating terms and conditions of purchase
Issuing and administering purchase orders
Purchasing Cycle
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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
Receiving Cycle
(one week)
Receiving
Incoming inspection
Inventory control receives
order, updates records,
and notifies department
Supplier Cycle
(one to many weeks)
Supplier receives and
enters order
Supplier manufactures
or “picks” order
Supplier ships order
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
Reasons for Making
1.
2.
3.
4.
5.
6.
7.
8.
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
9. Protect personnel from a layoff
10. Protect proprietary design or quality
11. Increase or maintain size of company
Make-or-Buy Decisions
Reasons for Buying
1.
2.
3.
4.
5.
6.
7.
8.
9.
10.
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
Make/Buy Considerations
Reasons for Making
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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
Reasons for Buying
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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
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Technical ability
Manufacturing capability
Reliability
After-sales service
Supplier location
Price
Other considerations
Supplier Relations
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The supplier should be treated as an extension of the
company.
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Long-term, close relationships with a few suppliers is best
for many critical products.
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The supplier should be committed to helping the purchaser
improve its product and win orders.
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Suppliers can also be a source of ideas about new
technology, materials, and processes.
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A good supplier relationship is like a marriage.
Supplier Relations
The following characteristics have been
proven to be present in good relationships.
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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
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Desire for Diversification.
– Supplier is concerned about all business stemming from
single customer.
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Poor Customer Scheduling.
– Supplier is concerned that customer will not be able to
develop smooth, consistent schedule.
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Engineering Changes.
– Supplier is concerned that customer will promulgate
frequent engineering changes with inadequate lead time.
Supplier Concerns in Just-in-Time Purchasing
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Quality Assurance.
– Supplier may consider production with zero defects
unrealistic.
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Small Lot Sizes.
– Many suppliers are unaccustomed to working with small
lot sizes.
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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
1. Transportation vendors
2. Credit and cash transfers
3. Suppliers
4. Distributors
5. Accounts payable and receivable
6. Warehousing and inventory
7. Order fulfillment
8. 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 Share market
to changing
research;
requirements
jointly develop
and demand to
products and
minimize
options (e.g.,
stockouts (e.g.,
Benetton)
Dell Computers)
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
characteristics
Maintain high
average
utilization
Invest in excess
capacity and
flexible
processes
Modular
processes that
lend
themselves to
mass
customization
Inventory
characteristics
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
characteristics
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
Productdesign
characteristics
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
All industry
Automobile
Food
Lumber
Paper
Petroleum
Transportation
% Purchased
52
67
60
61
55
79
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
2
4
6
8
10
30%
$2.78
$2.70
$2.63
$2.56
$2.50
40%
$3.23
$3.13
$3.03
$2.94
$2.86
50%
$3.85
$3.70
$3.57
$3.45
$3.33
60%
$4.76
$4.55
$4.35
$4.17
$4.00
70%
$6.25
$5.88
$5.56
$5.26
$5.00
80%
$9.09
$8.33
$7.69
$7.14
$6.67
90%
$16.67
$14.29
$12.50
$11.11
$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
1.
Avoid the intent and appearance of unethical or compromising
practice in relationships, actions, and communications
2.
Demonstrate loyalty to the employer by diligently following the
lawful instructions of the employer, using reasonable care and
granted authority
3.
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
4.
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
5.
Handle confidential or proprietary information with due care
and proper consideration of ethical and legal ramifications and
government regulations
6.
Promote positive supplier relationships through courtesy and
impartiality
7.
Avoid improper reciprocal agreements
Principles and Standards for Ethical Supply
Management Conduct
8.
Know and obey the letter and spirit of laws applicable to
supply management
9.
Encourage support for small, disadvantaged, and minorityowned businesses
10. Acquire and maintain professional competence
11. 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
12. Enhance the stature of the supply management profession
End of Lecture 15