Purchasing’s role in the supply chain

1. Purchasing’s role in the supply chain • Purpose - manager of external operations (processes) • Design • Acquiring inputs • Information systems

2. Drive shaft case • Key issues: • Influence of purchasing decisions on entire supply chain • Quality • Price • Leadtime • Customer service and perceptions • Background • Purchase costs as percentage of COGS – this is typical • Decentralized purchasing – we have hit on this before • International sourcing – same quality / price 40-60% less / 30 day delivery lead time

3. Driveshaft case • What is the problem? • Whose fault is the problem • What are you going to do right now? • What are you going to change in the future?

4. What is the problem ?

5. Poor purchasing management

6. What to do now

7. Longer term

8. Case conclusions • Note importance of a single purchasing decision on the entire chain • Effected quality • Price and costs • Lead time • Customers • Etc. • Note how the decision making process had as much to do with the problem as the suppler did.

9. Why focus on purchasing ? • Traditional view • Materials as a percentage of sales: • Today close to 60% and increasing • Chrysler outsources 70% of a car • Virtual corporations • Contribution to the bottom line • Cost example • Other places to contribute

10. Example

11. Other contributions • Suppliers / partners can lower the amount we spend on inputs. • They can also: • improve technology – mountain bike article • improve quality • decrease lead time to customer • make a supply chain more flexible • speed up designs • Therefore companies who manage this process strategically have an advantage over companies who view the purchasing function as a cost center – Stallkamp and Chrysler articles

12. What does purchasing do to help gain a competitive advantage 1) Provide an uninterrupted flow of goods, services and information to keep the production system operating. 2) Ensure that processes performed today and in the future provide the maximum value to customers. • minimize total costs to maximize value • cost of quality • cost of late orders • cost of inventory (having or not having) • cost of unreliable suppliers • cost of bad relationships with suppliers • environmental costs and risks

13. Specifics to maximize value • Uninterrupted flow of goods, services, and info: without this nothing else matters. • Buy wisely - total cost • is wise the same for every company ? • Minimize inventory investment • what are inventory costs ? • Develop and maintain the supply base • why build trust ? • Integration across firm

14. Purchasing as a boundary spanning function • External • upstream members of supply chain: purchasing is the means to communicate with the world of suppliers. • customers: purchasing helps translate the voice of customers (internal or external) to suppliers. • Internal • works with operations, engineering, finance, logistics and marketing • Often referred to as managing external manufacturing - or if you will managing external processes • how about logistics

15. What does purchasing do - design • Note: companies who are practicing supply chain management (well) do the following: • design products and processes concurrently • involve all pertinent supply team members in the design of products and processes • leverage suppliers in the design process • Note 2: because purchasing’s role is to span internal and external boundaries they are best suited to ensure that we actually include and leverage suppliers and internal capabilities to the fullest (much more so than operations)

16. General design questions • When a company pursues a new concept they need to ask the following questions: 1) can we sell the product / service? 2) can we design the product / service? 3) can we make the product / service ? • at a reasonable cost ! • If the answer to any of these questions is no, we generally should not pursue the concept (there are always exceptions)

17. Specific purchasing questions • Remember purchasing manages external processes. So purchasing should be asking: can our suppliers provide the process (make it) ? • Not only make it, but: • can they lower total costs and or increase value if: • we change specifications • we change materials • we change suppliers • we let suppliers develop the product or process

18. Traditional design process Product design Process design Concept Supply base Production

19. Problems with the traditional approach • General problems • When do we find out if we can make the product ? Sell it ? • How long does this process take ? • what happens if you can not buy a needed input ? • Purchasing specific problems • Not involved until it is “to late” • cost of changes • time to change • Strategic ?

20. Early Supplier Involvement (ESI) • ESI is a process whereby we make suppliers part of the design process from the beginning. This is done to increase the value of our products while lowering total costs. However, do we do ESI with all suppliers ? • For key inputs (strategic, large costs, etc.) we involve suppliers in the entire process including generation of specifications. • Standard products (commodities) may develop specs (hence design) independent of suppliers.

21. The next step in design – reverse logistics • An issue many firms are just starting to grapple with is end of life product management • Driven by customers and regulation (especially in EU) • Some firms are treating this as a cost to be minimized • Others are trying to gain competitive advantage through closed loop chains • So what – why mention this when talking about design?

22. What does purchasing do - Acquiring inputs • Regardless of their participation in the design of a product or process, one of the key functions performed in a supply chain is the actual purchase of an input. • This should be a total cost decision • supply chain managers who make decisions based purely on price tend to lose (as do most managers)

23. Total costs • Once more total costs are the sum of all direct and indirect costs associated with a given process or product. Another way of looking at this is that total costs are more than just price. • Go back to Lopez • Pick on my Father and car insurance • Determining the total costs of a product or process is a key and difficult task

24. A first step • Trying to determine if a price is reasonable / fair ? • Number of qualified bidders • did you get numbers from 1 or 50 organizations • Exclusions - • are the bids for the requested work ? • Independence / fraud ? • evidence of collusion / competition • Is the price reasonable / near or at your target ? • price to low ? Tony’s Rebar and my finger

25. More ways to determine costs • Historical prices / costs: often a good starting point • inflation: even at 2% this can be insidious • changes in technology ? • even with adjustments for inflation it is hard to compare today’s computers with 5 year old models. • learning • production time and costs decrease as we make more units • 80% learning curve vs. a 90% learning curve • Independent estimates – our “rebar guy”

26. Cost data from suppliers • Suppliers are often reluctant to share cost information (especially if they have a serious competitive advantage or just do not know) • Requires trust • may be much more accurate if request is made after reward of contract. • can not share this information • Lopez shopping bids !!!! • Buyer must have some specific knowledge (a bs detector) • suppliers may fudge overhead, profits and the like • But they know more than us in many cases

27. Some cost specifics we often miss • Tooling costs - tools are expensive !!! • injection molds, stamping dies, special cutting tools and the like take months to make and can cost anywhere from a few thousand to over a million dollars. • as tooling costs increase buyers are more likely to maintain ownership of the tools. • risk reduction - Chrysler changing stamping companies / GM manifold supplier • future spare parts • do not have to pay supplier’s overhead on purchase • Examples of tooling in services and high tech? • Basically set-up costs

28. More cost specifics: indirect costs • Engineering overhead: • as our expectations for design from our suppliers increase, this cost will increase as well. Note that GM has traditionally done most of their own design . • Materials overhead: • movement, storage, shrinkage and the like • Manufacturing overhead • General administrative costs • Selling costs

29. Even more specifics: discounts • Trade discounts: basically discounts to various distribution channel members for adding value. • the more you buy, the closer you want to get to the producer. Why ? • Quantity discounts: price breaks • can be spread over multiple products • if you buy more than one thing from a supplier you should get this if possible • can be dollar volume rather than units (see above) • Purchasing in Packs

30. What have we been doing so far ? • Defining what type of costs • direct / indirect / obvious/ not so obvious • all tangible costs • A good supply chain manager will define what other types of costs ? • Why are intangible costs so important ? • Late delivery in JIT means what? • Poor quality supplies have costs associated with them as well • A cheap supplier with yesterday’s technology may hurt us in many ways

31. Intangible costs - the obvious • We need to examine a potential supply chain members ability to • deliver on time • deliver expected quality levels • be able to change (be flexible) • control their costs • Comply with regulation- avoid negative impacts on communities and the environment • Nike / Cathy-Lee and Wal-Mart / Wal-Mart and their Janitorial suppliers • remain in business • etc.

32. Intangible costs - the less obvious • Micro-soft is always buying small software companies. Why ? • What is access to the latest technology (process/ product / service) worth ? • Perhaps the most important question - the nature of the relationship • how well do (can) we work with this organization • how much do they care about the relationship • what are the costs of ending the relationship (switching costs)

33. Cost summary • A key role played by purchasing is determining what it will cost to perform a specific process in a specific way. • Another key role is managing the supplier selected to perform the role so that actual costs and benefits match expected costs and benefits • The next issue is managing these relationships

34. What does purchasing do - Managing suppliers • Some other issues we need to consider are: • Communication • Certification • Measurement • Being a good customer (chain member)

35. Communication • EDI and other electronic means • Fast • Usually accurate • Tend to be mainly for routine information • Problem solving and prevention generally requires actual humans interacting and collaborating • We have talked about this before – try to create collaborative real time communication • Imagine how hard this is across organizations • What can we do to make it happen?

36. Supplier certification • Many companies require their suppliers to be certified - often as a minimal requirement for being considered for work. • Big three have certification programs for all suppliers - moved to a single program(QS 9000) but in past each had their own. • Caterpillar • Motorola • Landol (Marysville) and BAE systems (Wichita) • Concept is to be aware of what suppliers can and can not do - before either company wastes time. • Note strong link to determining cost

37. Certification continued • Started as quality programs • six sigma • ISO 9000 • Baldridge award • Q1 • Penstar • Has grown to encompass many other elements of value - but most certification programs still start with quality • Home Depot buying forest products • ISO 14000

38. Why certify ? • Companies have moved toward certification as a formal way to determine which suppliers can meet their needs. • are quality systems in place ? • Is an environmental management system in place ? • does the supplier have the needed communication abilities such as CAD/CAM or EDI ? • Is the supplier financially sound ? • And many other questions that sound a lot like total costs. • Key difference is that with certification we are determining what they could do - not what they are doing - we may have to work with them to lower total costs.

39. Certification examples • Relying on third parties – • http://www.wincor-nixdorf.com/internet/com/Purchasing/NewSuppliers/SupplierCertification/Main.html • Expanding supplier expectations • http://www.hp.com/hpinfo/globalcitizenship/environment/supplychain/compliance.html • A hybrid system – certifying the certified • http://www.boeing.com/companyoffices/doingbiz/prefsup.pdf

40. Measurement • A certified supplier who is also the lowest cost supplier of an input still needs to be measured • you get what you measure • you want to reward some behaviors - so you need to identify them • you want continuous improvement - for which you must have measures • sometimes you need to get rid of a supplier - measurement should tell you when

41. What do we do with our measures ? • Motivation and or elimination from supply base • for measures to have value they need to direct action. • supplier non-conformance • bill back - supplier pays for non-conformance • other types of remediation • elimination from supply base • motivation - rewards for good performance • supplier conferences and recognition • Why does recognition (say a non-monetary award) have high value? • identify developmental needs !!!!

42. Article in course pac • Do we measure the same things for all suppliers? • Do strategic / core suppliers require an additional set of measures? • What might the be • Does that we ignore things like delivery reliability, quality and the like?

43. Being a good customer • As a supply chain member we are asking our suppliers to: • trust us enough to share information • work toward an optimized chain -even if their short term needs suffer • work with us to constantly lower costs to increase end customer value • We must then • walk the talk - which means what ?

44. Purchasing conclusions • We have just scratched the surface with purchasing • No matter what we call it every supply chain needs to have people capable of managing external processes • this is similar to the boundary spanning role marketing plays -and it is just as important • TOTAL COST ! • Note- this is just an introduction- we will discuss specific decisions (such as supplier selection) later in the term