2012 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part.*LEARNING OBJECTIVESYou should be able to: Understand the role of supply management and its strategic impact on an organizations competitive advantage Have a basic knowledge of the manual purchasing process, e-procurement, public procurement, and green purchasing Understand and know how to handle small value purchase orders Understand sourcing decisions and the factors impacting supplier selection

2012 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part.

2012 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part.*LEARNING OBJECTIVES (Continued)You should be able to: Understand the pros and cons of single sourcing versus multiple sourcing Understand the pros and cons of single versus multiple sourcing Describe opportunities and challenges of global sourcing and its impacts on supply management Understand and compute total cost of ownership

2012 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part.

2012 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part.*CHAPTER OUTLINEIntroductionA Brief History of Purchasing TermsThe Role of Supply Management in an OrganizationThe Purchasing ProcessSourcing Decisions The Make or Buy DecisionRoles of Supply BaseSupplier SelectionHow Many Suppliers to UsePurchasing OrganizationInternational Purchasing/Global SourcingProcurement for Government/Non-Profits Agencies

2012 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part.

Purchasing Obtaining merchandise, capital equipment, raw materials, services, or maintenance, repair, and operating (MRO) supplies in exchange for money or its equivalent. - also it is the key business function for acquiring materials, services, & equipment

Merchants Wholesalers and retailers who purchase for resale purpose.

Industrial Buyers Purchase raw materials for conversion, services, capital equipment, & MRO supplies. (e.g. manufacturers)A Brief History of Purchasing Terms2012 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part.*

2012 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part.

A Brief History of Purchasing Terms (Continued)Contracting - term often used for the acquisition of services

Supply Management - a newer term that encompasses all acquisition activitiesInstitute of Supply Management defined supply management as the: Identification, acquisition, access, positioning, and management of resources an organization needs or potentially needs in the attainment of its strategic objectives.

2012 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part.*

2012 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part.

The Role of Supply Management in an OrganizationThe primary goals of purchasing are:Ensure uninterrupted flows of raw materials at the lowest total cost, Improve quality of the finished goods produced, and Maximize customer satisfaction. Purchasing contributes to these objectives by: Actively seeking better materials and reliable suppliers, Work closely with and taking advantage the expertise of strategic suppliers to improve quality and materialsInvolving suppliers and purchasing personnel in new product design and development efforts.2012 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part.*

2012 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part.

The increasing use of outsourcing noncore activities has elevated the role of purchasing in a firm. In addition to affecting the competitiveness of a firm, purchasing also directly affects profitability.

Therefore, firms should focus on financial significance of supply management.2012 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part.*The Role of Supply Management in an Organization (Continued)

2012 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part.

The Role of Supply Management in an Organization (Continued)The Financial Significance of Supply ManagementProfit-Leverage EffectMeasures the impact of a change in purchase spend on a firms profit before taxes, assuming gross sales and other expenses remain unchanged. Or a decrease in purchasing expenditures directly increases profits before taxes (assuming no decrease in quality or purchasing total cost).Return on Assets (ROA) EffectIs a financial ratio of a firms net income in relation to its total assets. ROA indicates how efficiently management is using its total assets to generate profits. A high ROA suggests that the management is capable of generating large profits with little investment.2012 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part.*

2012 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part.

Inventory Turnover Effect Shows how many times a firms inventory is utilized and replaced over an accounting period, such as a year.Increased inventory turnovers indicate optimal utilization of space and inventory levels, increased sales, avoidance of inventory obsolesce

2012 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part.*The Role of Supply Management in an Organization (Continued)

2012 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part.

The Role of Supply Management in an Organization (Continued)The Financial Significance of Supply ManagementProfit-Leverage Effect

2012 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part.*

2012 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part.

Sheet1

Profit Leverage Effect

Simplified P&LIncrease Sales 10%Decrease Cost 10%

Gross Sales1,000,0001,100,0001,000,000

- Cost of Goods Sold (50%)(500,000)(550,000)(450,000)

= Gross Profit500,000550,000550,000

- Sales, General, & Administrative (45%)(450,000)(495,000)(450,000)

= Profit Before Tax50,00055,000100,000

Change in Profit10%100%

Sheet2

Sheet3

Sheet4

The Role of Supply Management in an Organization (Continued)The Financial Significance of Supply ManagementReturn on Assets (ROA) Effect

2012 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part.*

2012 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part.

Sheet1

Profit Leverage Effect

Simplified P&LIncrease Sales 10%Decrease Cost 10%

Gross Sales1,000,0001,100,0001,000,000

- Cost of Goods Sold (50%)(500,000)(550,000)(450,000)

= Gross Profit500,000550,000550,000

- Sales, General, & Administrative (45%)(450,000)(495,000)(450,000)

= Profit Before Tax50,00055,000100,000

Change in Profit10%100%

Return on Assets Effect

Simplified P&LIncrease Sales 10%Decrease Cost 10%

Gross Sales1,000,0001,100,0001,000,000

- Cost of Goods Sold (50%)(500,000)(550,000)(450,000)

= Gross Profit500,000550,000550,000

- Sales, General, & Administrative (45%)(450,000)(495,000)(450,000)

= Profit Before Tax50,00055,000100,000

Assets500,000500,000500,000

Return on Assets10%11%20%

Sheet2

Sheet3

Sheet4

The Purchasing Process Manual Purchasing (older system)Step 1- Material Requisition/Purchase Requisition Stating product, quantity, and delivery date. May originate as a planned order release from the MRP system. Traveling requisition used for repeating orders.Step 2- The Request for Quotation (RFQ) Buyer identifies suppliers and issues a request for quotation (RFQ) for routine items or a Request for Proposal (RFP) for a complicated and high technical component part. Supplier Development is used to develop supplier capabilities, quality, delivery and cost performance.Step 3- The Purchase Order (PO) It is the buyers offer and becomes a binding contract when accepted by supplier. When initiated by the supplier on their own terms, the document is a sales order. The Uniform Commercial Code (UCC) governs the purchase and sales of goods in the U.S., except Louisiana.2012 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part.*

2012 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part.

The Purchasing Process Manual PurchasingFigure 2.12012 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part.*

2012 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part.

The Purchasing Process Manual Purchasing (Continued)Figure 2.22012 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part.*

2012 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part.

Figure 2.3The Purchasing Process Manual Purchasing (Continued)2012 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part.*

2012 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part.

The Purchasing Process e-ProcurementStep 1- Material user inputs a materials requisition Relevant information such as quantity and date needed. Step 2- Materials requisition submitted to buyer At purchasing department (hardcopy or electronically). Step 3- Buyer assigns qualified suppliers to bid Product description, closing date, & conditions are given. Step 4- Buyer reviews closed bids & selects a supplier2012 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part.*

2012 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part.

Figure 2.4The Purchasing Process e-Procurement2012 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part.*

2012 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part.

Advantages of the e-Procurement SystemTime savingsCost savingsAccuracyReal time (once the purchase requisition is processed, the buyer can post the bid immediately, instead of waiting to contact all the suppliers individually to alert them of the bids.)MobilityTrackabilityManagement (summary statistics and supplier performance reports can be generated for management to review and utilize for future planning.)Benefits to the suppliers (lower barriers to entry to market conditions)The Purchasing Process e-Procurement (Continued)2012 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part.*

2012 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part.

Small Value Purchase OrdersProcessing costs for small value purchases are minimized through:Procurement Credit Card/Corporate Purchasing Card (P-card)Blanket or Open-End Purchase Orders (covers a variety of items and is negotiated for repeated supply over a fixed time period)Blank Check Purchase Orders (special purchase order, usually signed blank check attached at the bottom of the purchase order)Stockless Buying or System Contracting (requires the suppliers to maintain a minimum inventory level)Petty Cash (a small cash reserve maintained by a midlevel manager or clerk)Standardization & Simplification of Materials & ComponentsAccumulating Small Orders to Create a Large OrderUsing a Fixed Order Interval (to group materials and supplies into categories and set fixed order intervals for each category)2012 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part.*

2012 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part.

Sourcing Decisions The Make or Buy DecisionOutsourcing Buying materials and components from suppliers instead of making them in-house. The trend has moved toward outsourcing. Backward vertical integration Refers to acquiring sources of supply (upstream suppliers)Forward vertical integration Refers to acquiring customers operations (downstream customers)

The make or buy decision is a strategic decision2012 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part.*

2012 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part.

Reasons for Buying or OutsourcingCost advantage Especially for components that are non-vital to the organizations operations, suppliers may have economies of scaleInsufficient capacity A firm may be at or near capacity and subcontracting from a supplier may make better senseLack of expertise Firm may not have the necessary technology and expertiseQuality Suppliers may have better technology, process, skilled labor, and the advantage of economy of scaleSourcing Decisions The Make or Buy Decision (Continued)2012 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part.*

2012 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part.

Reasons for MakingProtect proprietary technology No competent supplier (or capable and suitably skilled suppliers)Better quality controlUse existing idle capacityControl of lead-time transportation, and warehousing cost (since management controls all phases of the design, manufacturing and delivery processes.) Lower cost (for large quantity of the components on the continuing basis)Sourcing Decisions The Make or Buy Decision (Continued)2012 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part.*

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The Make-or-Buy Break-Even Analysis Sourcing Decisions The Make or Buy Decision (Continued)2012 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part.*

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The Make-or-Buy Break-Even Analysis Find break-even point Q by setting the total cost of the two options equal to one another and solving for Q:

Total Cost to Make = Total Cost to Buy

25,000 + 5Q = 500 + 7Q 7Q 5Q = 25,000 500 2Q = 24,500 Q = 12,250 units = Break-even pointSourcing Decisions The Make or Buy Decision (Continued)2012 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part.*

2012 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part.

Sheet1

Profit Leverage Effect

Simplified P&LIncrease Sales 10%Decrease Cost 10%

Gross Sales1,000,0001,100,0001,000,000

- Cost of Goods Sold (50%)(500,000)(550,000)(450,000)

= Gross Profit500,000550,000550,000

- Sales, General, & Administrative (45%)(450,000)(495,000)(450,000)

= Profit Before Tax50,00055,000100,000

Change in Profit10%100%

Return on Assets Effect

Simplified P&LIncrease Sales 10%Decrease Cost 10%

Gross Sales1,000,0001,100,0001,000,000

- Cost of Goods Sold (50%)(500,000)(550,000)(450,000)

= Gross Profit500,000550,000550,000

- Sales, General, & Administrative (45%)(450,000)(495,000)(450,000)

= Profit Before Tax50,00055,000100,000CostsMakeBuy

Assets500,000500,000500,000Fixed$25,000$500

Return on Assets10%11%20%Variable$5$7

Annual Requirements15,000

Sheet2

Sheet3

Sheet4

The Make-or-Buy Break-Even Analysis Total Cost for both options at the Break-even Point TCBE = 25,000 + 512,250= 86,250 dollars

Total Cost for the Make Option at 15,000 units; TCMake = 25,000 + 515,000= 100,000 dollars

Total Cost for the Buy Option at 15,000 units;TCBuy = 500 + 715,000= 105,500 dollars

Cost Difference =TCBuy TCMake= 105,500 100,000= 5,500 dollarsSourcing Decisions The Make or Buy Decision (Continued)2012 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part.*

2012 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part.

Sheet1

Profit Leverage Effect

Simplified P&LIncrease Sales 10%Decrease Cost 10%

Gross Sales1,000,0001,100,0001,000,000

- Cost of Goods Sold (50%)(500,000)(550,000)(450,000)

= Gross Profit500,000550,000550,000

- Sales, General, & Administrative (45%)(450,000)(495,000)(450,000)

= Profit Before Tax50,00055,000100,000

Change in Profit10%100%

Return on Assets Effect

Simplified P&LIncrease Sales 10%Decrease Cost 10%

Gross Sales1,000,0001,100,0001,000,000

- Cost of Goods Sold (50%)(500,000)(550,000)(450,000)

= Gross Profit500,000550,000550,000

- Sales, General, & Administrative (45%)(450,000)(495,000)(450,000)

= Profit Before Tax50,00055,000100,000CostsMakeBuy

Assets500,000500,000500,000Fixed$25,000$500

Return on Assets10%11%20%Variable$5$7

Annual Requirements15,000

Sheet2

Sheet3

Sheet4

Roles of Supply BaseSupply Base - list of suppliers that a firm uses to acquire its materials, services, supplies, and equipmentFirms emphasize long-term strategic supplier relationship unifying volume into one or fewer suppliers, resulting in a smaller supply basePreferred suppliers supply:Product and process technology and expertise to support buyers operations, particularly in new product development and value analysisInformation on latest trends in materials, processes, or designsInformation on the supply market such as shortages, price increases, etc.Capacity for meeting unexpected demandCost efficiency due to economies of scale2012 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part.*

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Supplier SelectionProduct and process technologiesWillingness to share technologies & information Early supplier involvement (ESI)Concurrent engineering (CE)QualityServiceCost Total cost of ownership or acquisitionReliability Order system & cycle timeCapacityCommunication capabilityLocationThe process of selecting suppliers, is complex and should be based on multiple criteria:2012 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part.*

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Supplier Selection (Continued)Total cost of ownership or acquisitionFigure 2.62012 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part.*

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How Many Suppliers to UseReasons Favoring a Single SupplierTo establish a good relationshipLess quality variabilityLower costTransportation economiesProprietary product or processVolume too small to split (if the requirement is too small, it is not worthwhile to split the order among many suppliers)Reasons Favoring Multiple SuppliersNeed capacitySpread risk of supply interruptionCreate competitionInformationDealing with special kinds of business Single-source - a risky proposition. Current trends favor fewer sources.2012 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part.*

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Purchasing Centralized vs. Decentralized Purchasing Organization is dependent on many factors, such as market conditions & types of materials requiredCentralized Purchasing - purchasing department located at the firms corporate office makes all the purchasing decisionsDecentralized Purchasing - individual, local purchasing departments, such as plant level, make their own purchasing decisions2012 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part.*

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Advantages - Centralization Concentrated volume- Leveraging purchase volume Avoid duplication Specialization Lower transportation costs No competition within units Common supply base (thus make it easier to manage and to negotiate contracts.)Advantages - DecentralizationCloser knowledge of requirementsLocal sourcingLess bureaucracyPurchasing Centralized vs. Decentralized (Continued)2012 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part.*

2012 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part.

2012 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part.*Purchasing Centralized vs. Decentralized (Continued)A hybrid purchasing organization: Allows the firms to take the advantages of both the centralized and decentralized systems.

Decentralized-centralized (large multiunit organizations)- decentralize purchasing at the corporate level and centralize the procurement at business unit levelCentralized-decentralized (large organizations with centralized control) centralize large national contracts at the corporate level, but decentralize buying at the business unit level

2012 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part.

International Purchasing/Global SourcingReasons for Global Sourcing Opportunity to improve quality, cost, and delivery performancePotential Challenges Global sourcing poses challenges that purchasing must know how to handle effectively:the complexity and costs involved in selecting foreign suppliers and dealing with duties, tariffs, custom clearance, currency exchange and political, cultural, labor and legal problems present sizable challenges for the international buyer.2012 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part.*

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Procurement for Government & Non-Profit AgenciesPublic Procurement or Public Purchasing purchasing & supply function for government & non-profit sector such as educational institutions, hospitals, Public Procurement is characterized by:Competitive bidding - contract is usually awarded to lowest priced bidder determined to be responsive & responsible by the buyer.Sealed Bids are used to satisfy the Invitation for Bid (IFB) when the requirements are clear, accurate and complete, and are opened in public displayBid or Surety Bonds guarantee the work of the successful bidder will accept contractPerformance Bonds guarantee the work of the successful bidder meets specifications and in the time statedPayment Bonds protect the buyer against any third-party liens not fulfilled by bidder2012 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part.*

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Procurement for Government & Non-Profit Agencies (Continued)Rules that often govern Government & Non-Profit Procurement:Federal Acquisition Streamlining Act (1994) Removed restrictions on bids less than $100,000. Micro purchases (less than $2,500) can be made without biddingBuy American Act (1933) Mandates US government purchases and third-party purchases that utilize federal funds to buy domestically produced goods, if the price differential between the domestic product and an identical foreign-sourced product does not exceed a certain percentage amount.Green Purchases Variety of federal, state, and local initiatives to include environmental and human health considerations when making purchases2012 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part.*

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