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35A00210Operations Management

Lecture 3

Purchasing and supply

managementPurchasing

Distribution and supply chain management

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Company

PurchasingMaterial mgmt .

and inventoryDistribution

Markets

Purchasing and distributionlink the company to outside world

Information flow

Material fl ow

Financial flow

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Lecture 20Purchasing and Supply Chain Mgmt

Purchasing

Purchases have a big role in theindustry - Total sp end as a % of sales/revenue

Aerospace

47%

Utilities40%

Pharmaceuticals

43%

Construction/engineering

43%

Source: Caps benchmarking reports 2008-2012

Industrial

manufacturing47%

Financial services

18%Semiconductorindustry

43%

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Purchasing includes everything wi than invoice - buying, leasing, renting -

Raw materials

Semi-manufactured products

Components

Trade goods Investment goods

MRO materials

Services

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Raw material purchases can behuge! - McDonalds potato & raspberry purchases

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More than 350 kg potatoes a year

Not enough raspberries in the world

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Only about half direct purchases!OM2013 - 20 9

Firms have many reason to buyfrom outside

Want to concentrate on core competencies- we cannot do everything by ourselves

Attempt to improve effic iency- you have to buy from where you get the lowest price

- globalization of production forces

Attempt to improve flexibi li ty- e.g. balancing external capacity much easier than internal

Divide risk- e.g. when expanding capacity

Market requirements force- e.g. trade political restrictions

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Purchasing

Procurement

Tactical focu s

Supplier

Sourcing

Strategic focus

Vendor

There are two sides in purchasing

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How well

What

Why

Who

How muchand when

Where

How

Purchase

Buying criteria

Purchasings strategic side isemphasized

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Purchasing strategy: key questions

What you are buying- traditional make or buy thinking, negotiation position

- raw materials, production, services, support functions

- customized vs. standard solutions, role and depth of outsourcing

How much and when to buy- inventory levels, roles and and ownership issues

- pricing and protection against risks

Who buys- centralized vs. decentralized, outsourcing purchasing

- buyers skill development

What cri teria used in buying- balancing price, quality, service and risks

- price vs. functionality, ethics and green values, buy vs. lease

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Purchasing strategy: key questions

Where you are buying from- local, regional, domestic, continent, global

- large vs. small suppliers, single vs. multiple suppliers

- amount, nature and development of cooperation

How you are buying- Long vs. short contracts, negotiations vs. competitive bidding

- transparency of orders, sharing risks and information

- systems and processes, IT development

How well you are buying- internal and external efficiency, developing measures

Why you are buying- company focus and core competency, buyers skills

- product liability questions and customs orders etc.

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Lots to develop i n everydaypurchasing

Participation in product development

Accurate specif ication of purchasing needs

Search for suppliers and setting selection cri teria

Preparing requests for quotations (RfQ)

Supplier evaluation and selection

Negotiations and cont racting

Ordering and delivery management

Supplier evaluation based on gathered data

Purchasing performance evaluation

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Need Search Selection Negotiation Order Follow-up Evaluation

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Analysis of alternatives requi resskill

Company factors- company size and

finances

- customer base

- capacity and location

- research skills

- managerial competence

Product factors- quality, characteristics

- reliability

- price, warranty

- packaging

Selection

decision

Service factors- delivery issues

- technicalsupport

- solving problems

Sales factors- knowledgeof salesmen

- number of contacts

- level of service

Most important! etc.

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Not all purchases are equivalent

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What product iscustomer buying?

how important

how easy to get

what is price level

what are volumes

How is product purchased?

what is maximized

nature of contracts

how is price determined

nature of co-operation

procurement area

Supplier selection?

comparison of possible

suppliers

measurements and

their relative weights

Purchasing portfolio an importanttool

Company has different interests towards suppliers, thisshould be taken into account in behaviour

- developed from the sales portfolio (Peter Kraljic 1983)

Two-by-two matrix; relative purchasing power andpurchase risk (Finland)

- power can be consideredbig if purchases exceed 1% of suppliers sales- dimensions canalso be total purchases, total costs...

- purchase risk relates to number and distance of potential suppliers

- technical complexitysometimesused as this dimensions...

Based on spend analysis and knowledge of suppliers- often employees perceptionsof product location in the matrix differ

- how is power distributed between buyer and seller

Location in matrix affects purchasing strategy- clarifies what buyers should spend their time on!

- movements within the matrixpossibledue to value analysis, standardization...

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Strategic

develop cooperation

Volume (A,B)

consider purchasing policies

Bottleneck

ensure availability

Ordinary products (C,D)

be efficient

Volume 40

Items 15000

Suppliers 350

Purchasing portfolio as an everydaytool - case German electronics firm -

200

20000

600

VolumeLow High

Availability

Low

High

Volume 10

Items 4370

Suppliers 200

Volume 70

Items 380

Suppliers 33

Volume 80

Items 250

Suppliers 17

21

Forgings16

Purchasing portfolio as aneveryday tool - case Sikorsky Aircraft -

Rawmaterial106

Fasteners97

Majorsubs66

Castings16

Bearings21

Avionics172

< 25 per y. 25-50 per y. 50-100 per y. over 100 per y.

Gears21

Machinedparts61

Electrical115

Sheetmetal40

Fluids73

Composite34

VolumeLow High

Availability

Low

High

600

838

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Volumeconsider purchasing policies

utilizing purchasing power

choosing suppliers negotiation tactics

target pricing

Ordinarybe efficient

product standardization

developing routines comparing bids

blanket agreement

automatic ordering

Volume

Availability

Low

High

Low High

Purchasing portfolio as aneveryday tool

Bottleneckensure availability

building relationships having safety stock

making back-up plans

finding replacements continuous supplier evaluation

Strategicdevelop cooperation

investing on relationships long-term sourcing contracts

accurate need forecasts

make/buy and risk analysis possible safety stocks

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Sometimes you do not have achoice

Number of suppliers

ManySole(only 1 available,sole sourcing)

One(chooce 1 from many,single sourcing)

Suppliers

geographicalfocus

Global

Regional

Local

Kingsupplier

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Should a company make or buy?

Vertical integration less popular t han in the past- a lot of talk about the obligation to buy due to increased competition

- concentration, productivity, flexibility, focus on customers

Several variables have to be considered- current know-how and know-hows development plans

- forecasted demand of an item and own capacity situation

- cost, quality, delivery reliability and flexibility

- who would be able and willing to supply certain product?

- external, internal and personal influencing factors

- meaning/importance of independence, employment, company size

Buying is suppor ted by focus ideology and costs- company doesnt want to / isnt able to produce a certain product

- avoiding commitment, unwillingness to invest in developing technology

- product can easily be bought from effective market

- buying a cheaper alternative (when it comes to costs)

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Make or buy -cost curves

Cash flow make

Time

Cashflow

Cash flow buy

Time

Cashflow

Totalcosts

Volume

Make

Buy

Also remember : learning curve volume discounts capacity utilization

etc.

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Make or buy -example

A company is considering whether a products instruction manual should be made in

house or contracted out to an external operator. Supplier A has offered to make the

manuals if the company leases a computer and a printer for him for one year.

Before making the decision the company got a rival offer from Supplier B. The

costs of the alternatives are the following:

Which of the following options is correct?1) the instruction manual is recommendable to always do in house2) supplier Bs offer is accepted with a annual volume over 14 000 items

3) buying and making are as expensive with annual volume of 9 500 items

4) the offer from supplier A wins when the annual volume is 13 000 items

5) more than one of the arguments is true

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Make or buy example

The correct answer is number 4Supplier As off er is 82,90 cheaper per year than supplier B s

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Many hidden costs in addition toprice

Admi nis trat ion

Control

Inventory

Handling

Transportation

Purchase

Price

Capital

OrderQuality

Reliability

Planning

Choosing

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Latest trends in purchasing

Strategic role has increased- fountain of competitive advantage (speed, costs, quality etc.)

Internal importance has improved- e.g. works more and more with engineering

Number of suppliers is decreasing- closer collaboration with remaining few (e.g. product development)

- suppliers are expected to improve also customers processes

Long-term contracts importance has grown- outsourcing and partnership -ideology

Internal measurements are developed andsupplier minimum requirements are heightened

- internal and external efficiency

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Development trend is a lot like JIT

Purchasing more often partnership-based- moving away from just cost-based tendering

New operating methods are taking over- multicriteria supplier selection, few partners, joint goals, long-term

contracts, loose product specifications, small order quantities,

supplier is in charge of quality, time has grown in importance etc.

Competing as supply chains agains othersupply chains

- trying to minimize suboptimization by individual companies

Offers many advantages to companies- constant quality, saves resources, lower price, extra attention, loyalty

etc.

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Lecture 20Purchasing and Supply Chain Mgmt

Distribution and supply chainmanagement

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What is distribution about?

Channel

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How does a distr ibution channeladd value?

Serviceand repairs

Sharesinformation

Takes careof logistics

Guaranteesquality

Offersselection

Securesavailability

Breaksbulk

Customizes

Channelused

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Company

Product

Channel D

Channel managements mainquestions

Pursued customersegments?

Each segments needs fromthe channel

Customer

Channel C

Channel B

Who are our partners in thischannel?

How are tasks divided?

Channel A

There is not just one right channel!38 OM2013 - 20

DistributionSo ur cin g Pr od uc tio n

These days supply chains arecomplex

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What is supply chainmanagement? - focus on material flows -

Supply chain is a connected series of activities, which is concerned

with planning, coordinating and controlling materials, parts and

finished goods from supplier to customer. It is concerned with two

distinct flows (material and information) through the organization.

e.g. Stevens (1989)

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Importance of Supply ChainManagement

In 2010, US com panies spent $1,2 trilli on (8.3% of GNP) on supp ly-relatedactivities (movement, storage, and control of products across supplychains). Source: State of Logistics Report

Eliminating inefficiencies in supply chainscan save millions of $.

Tier 1

Supplier

Manufacturer Distributor Retailer Customer

Inefficientlogistics

Highstockouts

Ineffectivepromotions

Frequent Supplyshortages

High landedcosts to the shelf

High inventoriesthrough the chain

Low orderfill rates

Glitch-WrongMaterial, Machine is

Down effectsnowballs

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Information issues in the center ofSCM - case bullwhip effect -

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Production plan

Ordervo

lume

Time

This is what management wants...

Customerdemand

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Customerdemand

Production plan

Ordervo

lume

Time

this is what they get...

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Ordervo

lume

Time

Retailorders

Wholesaleorders

Production plan

Customerdemand

and others are not much betteroff either!

Order variance increases when moving backward in the chain

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Bullwhip effect in supply chains

Main contributing factors- demand signal processing

- order batching

- price variations

- rationing and shortage gaming

Some ways to attack information distortion- avoid repeated forecasting

- e.g. vendor managed inventory, direct selling

- break order batches

- e.g. role of quarterly or annual quotas, FTL/LTL

- stabilization of prices

- e.g. every day low prices, purchase contracts

- allocation based on past sales, sharing of supply and demand

information, penalties

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Customer

Over 50% from inventories are inwholesale and retail level

Information problems cause higherinventories

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What if information is notavailable?

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Postponement

Principles- delay customization closer the time when the product is sold

- differentiate product as close as possible to the pull phase of the

supply chain as possible

Different forms- resequencing operations reversal

- standardization decrease in product variety

- modularity differentiation e.g. by retailers

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Curse of product variety- case Hewlett-Packard deskjet printers -

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Production and total processredesigned

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Many burning question in SCM

Role and opportuni ties of information- EDI, ECR, Quick & Accurate Response etc.

SCM strategies and their applicability- Postponement, mass customization, risk pooling, VMI etc.

Service outsourcing (third-party logisti cs) and

coordination issues- fourth-party logistics (coordinator)- in charge of coordinating the 3rd parties, who owns the supply chain

Considering networks in decision-making (customerscustomer etc.)

Electronic commerce and its effects- calue creation (number of tiers), ownership etc.

Balancing between suppl y chain length, inventories,delivery times and distributi on

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Many th ings impact value chains- manufacturer supporting customer strategy

Dollar Generalis currently Dawns

second biggest seller!

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Can ro les be re-thought?

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As the economy changes, as

the competition becomes more

global, its no longer companyversus company but supply

chain versus supply chainHarold Sirkin (Vice President of the Boston Consultin g Group)