STRATEGIC SOURCING AND

PROCUREMENT
OBJECTIVES

• To understand the strategic sourcing process

• To understand the procure to pay cycle
STRATEGIC SOURCING VS TACTICAL
PURCHASING ACTIVITIES

• Commodity managers at a manufacturer might follow a strategic sourcing

process to identify and negotiate three-year agreements with two major steel
suppliers.
• Purchasing and materials managers at the manufacturer’s three plants would
then follow tactical procure-to-pay procedures to coordinate orders and
shipments with these suppliers.
STRATEGIC SOURCING VS TACTICAL
PURCHASING ACTIVITIES

• Sourcing
• The sourcing process is involved in the selection, certification, and
evaluation of suppliers and, in general, the management of supply contracts.

• Purchasing
• Buying in materials and services.
THE STRATEGIC SOURCING PROCESS
• Strategic sourcing is concerned with identifying ways to improve long-term business
performance by better understanding sourcing needs, developing long-term sourcing
strategies, selecting suppliers, and managing the supply base.
• Steps of the strategic sourcing process
• Step 1: Assess Opportunities
• Step 2: Profile Internally and Externally
• Step 3: Develop the Sourcing Strategy
• Step 4: Screen Suppliers and Create Selection Criteria
• Step 5: Conduct Supplier Selection
• Step 6: Negotiate and Implement Agreements
THE STRATEGIC SOURCING PROCESS
THE STRATEGIC SOURCING PROCESS

• Step 1: Assess Opportunities

• To assess the sourcing opportunities different tools can be used.
• Spend analysis: The application of quantitative techniques to purchasing data in an effort to
better understand spending patterns and identify opportunities for improvement.

• Spend analysis can be used to answer a wide variety of questions.

• For example, management might want to know:
• What categories of products or services make up the bulk of company spending?
• How much are we spending with various suppliers?
• What are our spending patterns like across different locations?
 THE STRATEGIC SOURCING PROCESS
• It analyses what the firm is buying, from whom, in what quantities and at what price.
• In a large firm purchasing is typically very dispersed.
• There may be a central purchasing office at corporate headquarters, purchasing at various
divisions or facilities and purchasing located internationally.
• A spend analysis takes data from all of these locations and consolidates spending by product
type, supplier, prices, and amounts.
• As a result, some unusual patterns may be found. For eg: One possibility is that a particular
supplier is being used by several different locations and provides several different types of
products. As a result, price concessions may be obtained from that supplier for volume
purchasing.
• Another example is the many different models of laptops bought at multiple locations from
the same supplier, but no special pricing has been negotiated.
THE STRATEGIC SOURCING PROCESS
• Step 2: Profile Internally and Externally
• Decision makers often need to develop a more detailed picture, or profile, of the internal needs of the
organization, as well as the characteristics of the external supply base.
• Two approaches that sourcing managers use to create these profiles are category profiles and industry
analysis.
• Category Profile
• The main objective of a category profile is to understand all aspects of a particular sourcing category
that could ultimately have an impact on the sourcing strategy.
• For example, a manufacturer looking at the spend category “purchased components” might break this
down into electrical, mechanical, and molded components; components purchased for plants in Asia,
the United States, and Canada; components used in production versus those used as spare parts; and
components provided from the company’s internal sources versus those purchased from external
THE STRATEGIC SOURCING PROCESS
• Category profile seeks to provide a better picture of internal needs.
• Industry Analysis
• It profiles the major forces and trends that are impacting an industry, including pricing,
competition, regulatory forces, substitution, technology changes, and supply/demand trends.
• For example, how many potential suppliers are there? Who are the major suppliers? Is the
supply base growing or shrinking? What are the technological trends facing the industry?
Where does negotiating power lie—with the suppliers or with the customers?
• Industry analysis can require highly specialized knowledge.
• As a result, buying firms might choose to meet with a key supplier that is an industry expert
or hire an external consultant who specializes in studying certain markets (e.g., chemicals,
resins, IT providers).
• Secondary data sources can also be used such as databases, reports, e- catelogues and Web
THE STRATEGIC SOURCING PROCESS

• Step 3: Develop the Sourcing Strategy

• This is devided into three parts
• (1) the make-or-buy decision, (2) total cost analysis, and (3) portfolio analysis.
• The Make-or-Buy Decision.
• Make or buy decision : A high-level, often strategic, decision regarding which products or
services will be provided internally and which will be provided by external supply chain
partners.
• Insourcing/backsouring: The use of resources within the firm to provide products or
services.
• Outsourcing: The use of supply chain partners to provide products or services.
THE STRATEGIC SOURCING PROCESS

• Companies should try to insource processes that are core competencies—organizational strengths
or abilities, developed over a long period, that customers find valuable and competitors find
difficult or even impossible to copy. Products or processes that could evolve into core
competencies are prime candidates for insourcing.
• Advantages of Insourcing
• Insourcing gives a company a high degree of control over its operations. (This is particularly
desirable if the company owns proprietary designs or processes.)
• Insourcing can also lower costs but only if a company enjoys the business volume necessary to
achieve economies of scale.
THE STRATEGIC SOURCING PROCESS

• Disadvantages of Insourcing
• Insourcing can be risky because it decreases a firm’s strategic flexibility. (Making a product or
providing a service internally often requires a company to make longterm capacity
commitments that cannot be easily reversed.)
• If suppliers can provide a product or service more effectively, managers must decide whether
to commit scarce resources to upgrading their processes or to outsource the product or service.
(Attempting to catch up to suppliers technologically can be an expensive proposition that
could restrict a firm’s ability to invest in other projects or even threaten its financial viability.)
THE STRATEGIC SOURCING PROCESS

• Advantages of outsouring
• Outsourcing typically increases a firm’s flexibility and access to state-of-the-art products and
processes.
• As markets or technologies change, many firms find changing supply chain partners easier
than changing internal processes.
• With outsourcing, less investment is required up front in the resources needed to provide a
product or service.
THE STRATEGIC SOURCING PROCESS
• Disadvantages of outsourcing
• Suppliers might misstate their capabilities: Their process technology might be obsolete, or
their performance might not meet the buyer’s expectations. In other cases, the supplier
might not have the capability to produce the product to the quality level required.
• Control and coordination are also issues in outsourcing : Buying firms may need to create
costly safeguards to regulate the quality, availability, confidentiality, or performance of
outsourced goods or services. Coordinating the flow of materials across separate
organizations can be a major challenge, especially when time zone differences, language
barriers, and even differences in information systems come into play.
• Companies that outsource also risk losing key skills and technologies that are part of their
core competencies. To counteract such threats, many companies oversee key design,
operations, and supply chain activities and keep current on what customers want and how
their products or services meet those demands.
THE STRATEGIC SOURCING PROCESS
• Co sourcing or selective sourcing
• Another variation of the outsourcing
• Co-sourcing refers to the sharing of a process or function between internal staff and an
external supplier.
• In this arrangement, firms will retain the more strategic activities while outsourcing the more
resource-intensive, non-value-adding activities.
• The firm is thus able to retain control over the most vital parts of a product or service.
• Co-sourcing gives a firm the flexibility to decide what areas to outsource, when, and for how
long.
• This also can be an appealing option for companies that have yet to create long-term
supplier relationships, are in transition because of a merger or acquisition, or are facing
financial problems.
THE STRATEGIC SOURCING PROCESS
THE STRATEGIC SOURCING PROCESS

• Total Cost Analysis

• Total cost analysis : A process by which a firm seeks to identify and quantify all of the major
costs associated with various sourcing options.
THE STRATEGIC SOURCING PROCESS

• Direct costs are costs that are tied directly to the level of operations or supply chain
activities, such as the production of a good or service, or transportation. Eg: raw material
cost
• Indirect costs are costs that are not tied directly to the level of operations or supply chain
activity. Eg: building lease payments and staff salaries
• To understand the true total cost of insourcing or outsourcing, managers must allocate
indirect costs to individual units of production.
• Eg: Suppose managers are trying to decide whether to make a product in-house or outsource
it. They estimate that they will need to spend $600,000 just to design the new product. If
they plan to produce 200,000 units, they might assign the design cost as follows:
$600,000 / 200,000 units = $3.00 per unit
THE STRATEGIC SOURCING PROCESS

• But what if the results of the design effort could be applied to future products? Should part
of the design cost be assigned to those future products, and if so, how? Because of problems
such as this, outsourcing costs are usually easier to determine than insourcing costs.
• With outsourcing, the indirect costs are included in the direct purchase price shown on the
supplier’s invoice.
• The only additional costs that need to be considered in the outsourcing decision are inbound
freight (a direct cost) and administrative costs associated with managing the buyer–supplier
relationship (such as purchasing and quality control).
THE STRATEGIC SOURCING PROCESS

• Managers must also consider the time frame of the make-or buy decision when deciding the
total cost analysis.
• If an insourcing arrangement is expected to be of relatively short duration, as it might be for
a product with a limited life cycle, then perhaps only direct costs and some portion of the
indirect costs should be applied.
• However, if managers expect an insourcing arrangement to become part of ongoing
operations, they should consider all relevant costs that might reasonably be incurred over the
long term, including all indirect costs.
THE STRATEGIC SOURCING PROCESS

• Portfolio Analysis
• A structured approach used by decision makers to develop a sourcing strategy for a product
or service, based on the value potential and the relative complexity or risk represented by a
sourcing opportunity.
• The products or services to be sourced are assigned to one of four strategic quadrants, based
on their relative complexity and/or risk impact to the firm and their value potential.
THE STRATEGIC SOURCING PROCESS
• The “Routine” Quadrant.
• Products or services in the routine quadrant are readily available and represent a relatively
small portion of a firm’s purchasing expenditures.
• Eg: office supplies, cleaning service
• The sourcing strategy therefore becomes one of simplifying the acquisition process, thereby
lowering the costs associated with purchasing items.
• Automating the purchasing process, reducing the number of suppliers used are possible to
apply for this type of goods or services.
THE STRATEGIC SOURCING PROCESS
• The “Leverage” Quadrant
• Products or services in the leverage quadrant tend to be standardized and readily available,
and they represent a significant portion of spend.
• The sourcing strategy therefore focuses on leveraging the firm’s spending levels to get the
most favorable terms possible.
• Preferred suppliers are frequently awarded business, with the understanding that they will
reduce the cost of supplying these items in return for significant order volumes and multiple-
year contracts.
• A high level of service is also expected, which may include such services as on-site
inventory management by the supplier and e-purchasing.
• Preferred supplier :A supplier that has demonstrated its performance capabilities through
previous purchase contracts and therefore receives preference during the supplier selection
process.
THE STRATEGIC SOURCING PROCESS

• The “Bottleneck” Quadrant.

• “Bottleneck” products or services have unique or complex requirements that can be met only
by a few potential suppliers.
• In this case, the primary goal of the sourcing strategy is to not run out; in effect, the goal is
to ensure supply continuity.
• This might involve carrying extra inventory to protect against interruptions in supply or
contracting with multiple vendors to reduce supply chain risks.
THE STRATEGIC SOURCING PROCESS

• The “Critical” Quadrant.

• Like bottleneck items, products or services in the critical quadrant have complex or unique
requirements coupled with a limited supply base.
• The primary difference is that these items can represent a substantial level of expenditure for
the sourcing firm.
• In cases such as this, the sourcing firm will spend considerable time negotiating favorable
deals and building partnerships with suppliers, as well as preparing contingency plans in
case of an interruption in supply.
THE STRATEGIC SOURCING PROCESS

• An important part of any sourcing strategy is determining how many suppliers to use when sourcing
a good or service.
• Single sourcing : A sourcing strategy in which the buying firm depends on a single company for all
or nearly all of a particular item or service.
• Multiple sourcing : A sourcing strategy in which the buying firm shares its business across multiple
suppliers.
• Cross sourcing: A sourcing strategy in which a company uses a single supplier for one particular
part or service and another supplier with the same capabilities for a different part or service, with
the understanding that each supplier can act as a backup for the other supplier.
THE STRATEGIC SOURCING PROCESS
• In this strategy, a company uses a single supplier for one product or service, and another
supplier with the same capabilities for another, similar product or service.
• Each supplier is then awarded new business based on its performance, creating an incentive
for both to improve.
• This also provides for a backup supplier in case the primary supplier cannot meet a
company’s needs.
• Dual sourcing: A sourcing strategy in which two suppliers are used for the same purchased
product or service.
• Typically, the split of the business is 70% to Supplier A and 30% to Supplier B. In this case,
Supplier A knows that if performance suffers, it will lose business to Supplier B. Dual
sourcing combines the volume benefits of single sourcing with the added protection of
multiple or cross sourcing.
THE STRATEGIC
SOURCING
PROCESS
THE STRATEGIC SOURCING PROCESS

• Sourcing strategies
• Verticle integration
• Joint Ventures/long-term partnerships
• Virtual companies
• Working with many suppliers
• Working with few suppliers
THE STRATEGIC SOURCING PROCESS

• Vertical Integration
• Vertical integration : developing the ability to produce goods or services previously
purchased or to actually buy a supplier or a distributor.
• Vertical integration can take the form of forward or backward integration.
• Backward integration suggests a firm purchase its suppliers, as in the case of Apple deciding
to manufacture its own semiconductors.
• Apple also uses forward integration by establishing its own revolutionary retail stores.
• Vertical integration can offer a strategic opportunity for the operations manager. For firms
with the capital, managerial talent, and required demand, vertical integration may provide
substantial opportunities for cost reduction, higher quality, timely delivery, and inventory
reduction.
SOURCING STATEGIES
• Vertical integration appears to work best when the organization has a large market share and
the management talent to operate an acquired vendor successfully.
• The relentless march of specialization continues, meaning that a model of “doing
everything” or “vertical integration” is increasingly difficult.
• Backward integration may be particularly dangerous for firms in industries undergoing
technological change if management cannot keep abreast of those changes or invest the
financial resources necessary for the next wave of technology.
• Research and development costs are too high and technology changes too rapid for one
company to sustain leadership in every aspect of their product.
• Most organizations are better served concentrating on their own specialty and leveraging
suppliers’ contributions.
SOURCING STATEGIES
SOURCING STATEGIES
•Joint Ventures/long-term partnerships
•Because vertical integration is so dangerous, firms may opt for some form of formal collaboration.
•Firms may engage in collaboration to enhance their new product prowess or technological skills.
•But firms also engage in collaboration to secure supply or reduce costs.
•One version of a joint venture is the current Daimler–BMW effort to develop and produce standard
automobile components. Given the global consolidation of the auto industry, these two rivals in the
luxury segment of the automobile market are at a disadvantage in volume. Their relatively low
volume means fewer units over which to spread fixed costs, hence the interest in consolidating to
cut development and production costs.
•As in all other such collaborations, the trick is to cooperate without diluting the brand or conceding
a competitive advantage.
SOURCING STATEGIES
•Virtual Companies
•Virtual companies rely on a variety of good, stable supplier relationships to provide services on demand.
•Suppliers may provide a variety of services that include doing the payroll, hiring personnel, designing
products, providing consulting services, manufacturing components, conducting tests, or distributing
products.
•The relationships may be short- or long-term and may include true partners, collaborators, or simply
able suppliers and subcontractors.
• Whatever the formal relationship, the result can be exceptionally lean performance.
•The advantages of virtual companies include specialized management expertise, low capital investment,
flexibility, and speed.
•The result is efficiency.
SOURCING STATEGIES

• The apparel business provides a traditional example of virtual organizations. The designers of
clothes seldom manufacture their designs; rather, they license the manufacture. The
manufacturer may then rent space, lease sewing machines, and contract for labor. The result is
an organization that has low overhead, remains flexible, and can respond rapidly to the
market. A contemporary example is exemplified by Vizio, Inc., a California-based producer of
flatscreen TVs that has fewer than 500 employees but huge sales. Vizio uses modules to
assemble its own brand of TVs. Because the key components of TVs are now readily
available and sold almost as commodities, innovative firms such as Vizio can specify the
components, hire a contract manufacturer, and market the TVs with very little startup cost. In
a virtual company, the supply chain is the company. Managing it is dynamic and demanding.
SOURCING STRATEGIES
• Many Suppliers
• With the many-suppliers strategy, a supplier responds to the demands and specifications of a “request
for quotation,” with the order usually going to the low bidder.

• This is a common strategy when products are commodities.

• This strategy plays one supplier against another and places the burden of meeting the buyer’s
demands on the supplier.

• Suppliers aggressively compete with one another.

• This approach holds the supplier responsible for maintaining the necessary technology, expertise, and
forecasting abilities, as well as cost, quality, and delivery competencies.

• Long-term “partnering” relationships are not the goal.

SOURCING STRATEGIES
•Few Suppliers
•A strategy of few suppliers implies that rather than looking for short-term attributes, such as low cost, a buyer is better off forming a long-term
relationship with a few dedicated suppliers.
•Long-term suppliers are more likely to understand the broad objectives of the procuring firm and the end customer.
•Using few suppliers can create value by allowing suppliers to have economies of scale and a learning curve that yields both lower transaction
costs and lower production costs.
•This strategy also encourages those suppliers to provide design innovations and technological expertise.
•Ford chooses suppliers even before parts are designed. Motorola evaluates suppliers on rigorous criteria, but in many instances has eliminated
traditional supplier bidding, placing added emphasis on quality and reliability. On occasion these relationships yield contracts that extend through
the product’s life cycle. The British retailer Marks & Spencer finds that cooperation with its suppliers yields new products that win customers for
the supplier and themselves.
THE STRATEGIC SOURCING PROCESS

• Step 4: Screen Suppliers and Create Selection Criteria

• Identifying the “best” supplier for a new product or service or evaluating past supplier
performance is a difficult task.
• This is especially true when the criteria include not just quantitative measures (such as costs, on-
time delivery rates, etc.) but other, more qualitative factors, such as;
• Management capability: Different aspects of management capability include management’s
commitment to continuous process and quality improvement, overall professional ability and
experience, ability to maintain positive relationships with the workforce, and willingness to
develop a closer working relationship with the buyer.
THE STRATEGIC SOURCING PROCESS

• Longer-term relationship potential : In some cases, a buying firm may be looking to develop
a long-term relationship with a potential supplier. Perhaps the supplier has a proprietary
technology or foreign market presence that the sourcing firm wants to tap into.
• Financial condition and cost structure: Selecting a supplier that is in poor financial condition
presents a number of risks. First, there is the risk that the organization will go out of
business, disrupting the flow of goods or services. Second, suppliers who are in poor
financial condition may not have the resources to invest in required personnel, equipment, or
improvement efforts.
THE STRATEGIC SOURCING PROCESS

• Organizations often use a request for information (RFI) to gather data about potential
suppliers.
• Request for information (RFI) : An inquiry to a potential supplier about that supplier’s
products or services for potential use in the business. The inquiry can provide certain
business requirements or be of a more exploratory nature.
THE STRATEGIC SOURCING PROCESS

• Step 5: Conduct Supplier Selection

• The objective of the supplier selection is to identify a short list of suppliers with whom the
buying firm will engage in competitive bidding or negotiations.
• Multicriteria decision models: Models that allow decision makers to evaluate various
alternatives across multiple decision criteria.
• Multicriteria decision models are especially helpful when there is a mix of quantitative and
qualitative decision criteria, when there are numerous decision alternatives to be considered,
and when there is no clear “best” choice.
THE STRATEGIC SOURCING PROCESS

• The Weighted-Point Evaluation System: A common multicriteria decision model.

• In this model, the user is asked up front to assign weights to the performance measures
(WY), and rate the performance of each supplier with regard to each dimension
(PerformanceXY).
THE STRATEGIC SOURCING PROCESS

• Step 6: Negotiate and Implement Agreements

• The strategic sourcing process does not end until the buying firm has reached a formal
agreement with one or more suppliers regarding terms and conditions such as the price to be
paid, volume levels, quality levels, and delivery performance.

• If firms maintain a list of preferred suppliers that receive the first opportunity for new
business.

• When there is no preferred supplier, competitive bidding and negotiation are two methods
commonly used to select a supplier.
THE STRATEGIC SOURCING PROCESS

• Competitive bidding
• Competitive bidding entails a request for bids from suppliers with whom a buyer is willing to
do business.

• The buying firm sends a request for quotation (RFQ) to qualified suppliers.
• The RFQ is a formal request for the suppliers to prepare bids based on the terms and conditions
set by the buyer.
• In contrast to an RFI, an RFQ often includes a detailed description of the products or services to
be purchased.
THE STRATEGIC SOURCING PROCESS

• Description by market grade or industry standard might be the best choice for standard items,
where the requirements are well understood and there is common agreement between supply
chain partners about what certain terms mean.
• Description by brand is used when a product or service is proprietary or when there is a
perceived advantage to using a particular supplier’s products or services.
• A builder of residential communities, for example, might want to purchase R21 insulation (an
industry standard) for the walls and finish-grade lumber (a market grade) for the trim and
fireplace mantles. In addition, he might specify brands such as Georgia-Pacific’s Catawba
hardboard siding, Kohler faucets, and TruGreen-Chemlawn lawn treatment for all the homes.
THE STRATEGIC SOURCING PROCESS

• More detailed and expensive methods of description are needed when the items or services to be
purchased are more complex, when “standards” do not exist, or when the user’s needs are more difficult
to communicate.
• Insome cases, the buyer might need to provide potential suppliers very detailed descriptions of the
characteristics of an item or a service (description by specification).
• Specificationscan cover such characteristics as the materials used, the manufacturing or service steps
required, or even the physical dimensions of the product.
• In contrast, description by performance characteristics focuses attention on the outcomes the buyer wants,
not on the precise configuration of the product or service.
• The assumption is that the supplier will know the best way to meet the buyer’s needs.
THE STRATEGIC SOURCING PROCESS

• Competitive bidding is most effective when:

• The buying firm can provide qualified suppliers with clear descriptions of the items or services to be purchased.
• Volume is high enough to justify the cost and effort.
• The buying firm does not have a preferred supplier.
• When price is a dominant criterion and the required items or services have straightforward specifications.

• Competitive bidding can also be used to identify a short list of suppliers with whom the firm
will begin detailed purchase contract negotiation.
• In recent years, firms have also begun to use electronic competitive bidding tools such as
reverse auctions/e-auctions.
THE STRATEGIC SOURCING PROCESS
• E-Auctions/reverse auction
• In a reverse auction, a company posts contracts for items it wants to purchase that
suppliers can bid on.
• The auction is usually open for a specified time frame, and vendors can bid as often
as they want in order to provide the lowest purchase price.
• When the auction is closed, the company can compare bids on the basis of purchase
price, delivery time, and supplier reputation for quality.
• Some e-marketplaces restrict participation to vendors who have been previously
screened or certified for reliability and product quality.
• E-auctions are not only used to purchase manufacturing items but are also being
used to purchase services.
THE STRATEGIC SOURCING PROCESS

• For example, transportation exchanges hold reverse auctions for carriers to

bid on shipping contracts and for air travel.
• Google has over 60,000 suppliers and negotiates about 20% of its total
supply spending with e-auctions, saving an estimated 18% on prices and
saving time, taking only 50 minutes to complete a live auction.
THE STRATEGIC SOURCING PROCESS

• Sometimes companies use reverse auctions to create price competition among the suppliers it
does business with; other times companies simply go through a reverse auction only to
determine the lowest price without any intention of awarding a contract.
• They only want to determine a baseline price to use in negotiations with their regular suppliers.
• Companies that award contracts to low bidders in auctions can later discover their purchases are
delivered late or not at all and are of poor quality.
• Suppliers are often able to see online their rank in the bidding process relative to other bidders
(who are anonymous), which provides pricing information to them for the future.
THE STRATEGIC SOURCING PROCESS
THE STRATEGIC SOURCING PROCESS
THE STRATEGIC SOURCING PROCESS
• Advantages of reverse auctions: to the buyer
• Savings over and above those obtained from normal negotiations as a result of competition –
on average, the auction process drives down supplier process by11 per cent, with savings
ranging from 4 to 40 percent

• Reductions in acquisition lead times

• Access to a wider range of suppliers
• A global supply base can be achieved relatively quickly
• Sources of market information are enhanced
• Auctions conducted on the Internet generally provide total anonymity so time is not wasted
on seeing suppliers’ representatives.
THE STRATEGIC SOURCING PROCESS

• Advantages of reverse auctions: to the supplier

• An opportunity to enter previously closed markets, which is particularly important for
smaller companies

• Provision of a good source of market pricing information

• Clear indications of what must be done to win the business.
THE STRATEGIC SOURCING PROCESS
• Disadvantages of reverse auctions
• can cause an adverse shift in buyer–seller relationships as the supplier may feel exploited
and become less trustful of buyers
• can have long-term adverse effects on the economic performance of both suppliers and
purchasers as:
– some suppliers may not be able to sustain sharp price reductions in the long term
– suppliers that cannot compete at the lower price levels may be removed, or ask to be
removed, from the purchaser’s approved supplier list so those purchasers eventually have
reduced supplier bases
THE STRATEGIC SOURCING PROCESS

• If major nonprice variables exist, then the buyer and seller usually enter into direct
negotiation.

• Negotiation is a more costly, interactive approach to final supplier selection.

• Negotiation is best when:
• The item is a new and/or technically complex item with only vague specifications.
• The purchase requires agreement about a wide range of performance factors.
• The buyer requires the supplier to participate in the development effort.
• The supplier cannot determine risks and costs without additional input from the buyer.
THE STRATEGIC SOURCING PROCESS
• Contracting.
• A detailed purchasing contact is required to formalize the buyer–supplier relationship.
• A contract can be required if the size of the purchase exceeds a predetermined monetary
value (e.g., $10,000) or if there are specific business requirements that need to be put in
writing.
THE PROCURE-TO-PAY CYCLE

• Procure-to-pay cycle
• Once the buyer and supplier have agreed to enter into a relationship and a contract has
been signed, the buyer will signal to the supplier that delivery of the product or service
is required.
• This begins what is known as the procure-to-pay cycle.
• Procure-to-pay cycle : The set of activities required to first identify a need, assign a
supplier to meet that need, approve the specification or scope, acknowledge receipt, and
submit payment to the supplier.
THE PROCURE-TO-PAY CYCLE

• In contrast to the strategic sourcing process, the procure-to-pay cycle is decidedly

tactical in nature:
• It involves day-to-day communications and transactions between the buyer and
supplier, and it is completed once the goods or services have been received, the
supplier has been paid, and the information has been recorded into the database.
THE PROCURE-TO-PAY CYCLE

• The five main steps of the procure-to-pay cycle

• 1. Ordering
• 2. Follow-up and expediting
• 3. Receipt and inspection
• 4. Settlement and payment
• 5. Records maintenance
 THE PROCURE-TO-PAY CYCLE
•Ordering
•Ordering step begins is through the release of a purchase order
•Purchase order (PO) :A document that authorizes a supplier to deliver a product or service and often includes
key terms and conditions, such as price, delivery, and quality requirements.
•For an item or group of items ordered repetitively from a supplier, purchasing may issue a blanket purchase
order—an open order, usually effective for one year, covering repeated purchases of an item or family of items.
•Blanket orders eliminate the need to issue a purchase order whenever there is a need for material.
•After a buyer establishes a blanket order with a supplier, the ordering of an item simply requires a routine order
release.
•The buyer and seller have already negotiated or agreed upon the terms of the purchase contract.
•With a blanket purchase order, the release of material becomes a routine matter between the buyer and seller.
THE PROCURE-TO-PAY CYCLE
• Buyers usually prefer a purchase order for initial purchases or a onetime purchase, which purchasing
professionals may also call a “spot buy.”

• Blanket purchase orders are common for production items ordered on a regular basis or for the routine
supplies required to operate.

• The major difference between a purchase order and a blanket purchase order is the delivery date and
the receiving department.

• This information on the blanket order remains open because it often differs from order to order.

• When negotiating a blanket purchase order, the buyer and supplier evaluate the anticipated demand
over time for an item or family of items.
THE PROCURE-TO-PAY CYCLE
• The two parties agree on the terms of an agreement, including quantity discounts,
required quality levels, delivery lead times, and any other important terms or conditions.
• The blanket purchase order remains in effect during the time specified on the agreement.
• This time period is often, but not always, six months to a year.
• Most buyers reserve the right to cancel the blanket order at any time, particularly in the
event of poor supplier performance.
• This requires an escape clause that allows the buyer to terminate the contract in the event
of persistently poor quality, delivery problems, and so on.
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• Material Purchase Release

• Buyers use material purchase releases to order items covered by blanket purchase orders.
• Purchasing specifies the required part number(s), quantity, unit price, required receipt
date, using department, ship-to address, and method of shipment and forwards this to the
supplier.

• Purchasing forwards copies of this form/make it visible to the supplier, accounting,

receiving, and traffic.
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• Different types of material releases exist. Organizations often use the

material release as a means to provide visibility to the supplier about
forecasted material requirements as well as actual material requirements.
• One U.S. automobile producer provides suppliers with an 18-month forecast
for replacement parts. The first three months of the release are actual orders.
The remaining nine months represent forecasted requirements that help the
supplier plan.
 THE PROCURE-TO-PAY CYCLE
•Ordering
•Ordering step begins is through the release of a purchase order
•Purchase order (PO) :A document that authorizes a supplier to deliver a product or service and often
includes key terms and conditions, such as price, delivery, and quality requirements.
•Follow-Up and Expediting
•Someone (typically purchasing or materials personnel) must monitor the status of open purchase
orders.
•There may be times when the buying firm has to expedite an order or work with a supplier to avoid
shipment delays.
•The buying firm can minimize order follow-up by selecting only the best suppliers.
THE PROCURE-TO-PAY CYCLE

• Receipt and Inspection

• When the order for a physical good arrives at the buyer’s location, it is received and
inspected to ensure that the right quantity was shipped and that it was not damaged in transit.

• If the product or service was provided on time, it will be entered into the company’s
purchasing transaction system.

• Physical products delivered by suppliers then become part of the company’s working
inventory.
 THE PROCURE-TO-PAY CYCLE
• In the case of services, the buyer must ensure that the service is being performed according to the
terms and conditions stated in the purchase order.

• For services, the user will typically sign off on a supplier time sheet or another document to signal to
purchasing that the supplier satisfied the conditions stated in the statement of work, or scope of work
(SOW).

• An SOW documents the type of service required, the qualifications of the individual(s) performing the
work, and the outcome or deliverables expected at the conclusion of the work, among other things.

• Deviations from the SOW must be noted and passed on to the supplier and in some cases might
require modifications to the original agreement.
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• The material packing slip, which the supplier provides, details the contents of a shipment.
• It contains the description and quantity of the items in a shipment.
• It also references a specific purchase order and material release number for tracking and auditing
purposes.

• A packing slip is a critical document when receiving material at a buyer’s facility.

• The receiving agent uses the packing slip to compare the supplier packing slip quantity against the
actual physical receipt quantity.

• Furthermore, the packing slip quantity should match the material release quantity.
• The comparison between material release quantity and packing slip quantity is critical. It
determines if suppliers have over- or undershipped.
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• Transportation carriers use a bill of lading to record the quantity of goods delivered to a facility.
• For example, the bill of lading may state that ABC carrier delivered three boxes to a buyer on a
certain date.

• This prevents the purchaser from stating a week later that it received only two boxes.
• The bill of lading details only the number of boxes or containers delivered.
• Detailing the actual contents of each container is the supplier’s responsibility; that information
appears on the packing slip.
 THE PROCURE-TO-PAY CYCLE
• The bill of lading helps protect the carrier against wrongful allegations that the carrier somehow damaged, lost, or
otherwise tampered with a shipment.

• This document does not necessarily protect the carrier against charges of concealed damage, however.

• A user may discover concealed damages after opening a shipping container.

• Responsibility for concealed damage is often difficult to establish.

• The receiving company may blame the carrier.

• The carrier may blame the supplier or maintain that the damage occurred after delivery of the material.

• The supplier may maintain total innocence and implicate the carrier.

• While all this goes on, the buyer must reorder the material as a rush order.

• This can affect customer service or commitments.

 THE PROCURE-TO-PAY CYCLE
• A receiving discrepancy report details any shipping or receiving discrepancies noted by the
receiving department.

• It is often the job of purchasing or material control to investigate and resolve material
discrepancies.

• Material discrepancies usually result from incorrect quantity shipments.

• They can also result from receiving an incorrect part number or a part number that has been
incorrectly labeled.
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• Settlement and Payment

• Once an item or a service is delivered, the buying firm will issue an authorization for payment to
the supplier.

• Payment is then made through the firm’s accounts payable department.

• As with ordering, this is increasingly being accomplished through electronic means.
• Suppliers are often paid through electronic funds transfer (EFT), which is the automatic transfer of
payment from the buyer’s bank account to the supplier’s bank account.
THE PROCURE-TO-PAY CYCLE

• Records Maintenance
• After a product or service has been delivered and the supplier paid, a record of critical
events associated with the purchase is entered into a supplier performance database.
• The supplier performance database accumulates critical performance data over an extended
period.
• These data are often used in future negotiations and dealings with the supplier in question.
THE PROCURE-TO-PAY CYCLE

• Continuously Measure and Manage Supplier Performance

• One way to identify the best suppliers is to track performance after awarding
a contract.
• Supplier measurement and management is a key part of the purchasing cycle.
• Continuous measurement is necessary to identify improvement opportunities
or supplier nonperformance.
THE PROCURE-TO-PAY CYCLE
• A desired outcome from performance measurement is improved supplier performance.
• If no formal evaluation takes place, a buyer has little insight into supplier performance over time, and tracking
any performance improvement that results from supplier development efforts is not possible.
• Without a measurement and evaluation system, a buyer lacks the quantitative data necessary to support future
purchase decisions.
• A major issue when evaluating supplier performance is the frequency of evaluation and feedback.
• For example, should a buyer receive a supplier quality performance report on a daily, weekly, monthly, or
quarterly basis? Although most firms recognize the need to notify suppliers immediately when a problem
arises, there is little consensus about the frequency for conducting routine or scheduled supplier evaluations.
For many firms, this overall evaluation may occur only one or two times a year. Regardless of the reporting
frequency, supplier performance measurement is an important part of the purchasing process cycle.
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• Centralized purchasing is where a single purchasing department, usually

located at the firm’s corporate office, makes all the purchasing decisions,
including order quantity, pricing policy, contracting, negotiations and
supplier selection and evaluation.
• Decentralized purchasing is where individual, local purchasing
departments, such as at the plant level, make their own purchasing decisions.
THE PROCURE-TO-PAY CYCLE
•Companies with multiple facilities (e.g., multiple manufacturing plants or multiple
retail outlets) must determine which items to purchase centrally and which to allow
local sites to purchase for themselves.
•Unmonitored decentralized purchasing can create havoc.
•For example, different plants for Nestle USA’s brands used to pay 29 different prices
for its vanilla ingredient to the same supplier!
•Important cost, efficiency, and “single-voice” benefits often accrue from a centralized
purchasing function. Typical benefits of centralized purchasing include:
• Leverage purchase volume for better pricing
• Develop specialized staff expertise
• Develop stronger supplier relationships
THE PROCURE-TO-PAY CYCLE

• Maintain professional control over the purchasing process

• Devote more resources to the supplier selection and negotiation process
• Reduce the duplication of tasks
• Promote standardization

• Decentralized purchasing has the advantage of awareness of differing “local” needs and being better able to
respond to those needs.

• Decentralized purchasing usually can offer quicker response than centralized purchasing.
• Where locations are widely scattered, decentralized purchasing may be able to save on transportation costs by
buying locally, which has the added attraction of creating goodwill in the community.
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• Some organizations manage to take advantage of both centralization and decentralization
by permitting individual units to handle certain items while centralizing purchases of
other items. For example, small orders and rush orders may be handled locally or by
departments, while centralized purchases would be used for high-volume, high-value
items for which discounts are applicable or specialists can provide better service than
local buyers or departments.

• Often firms use a hybrid approach—using centralized purchasing for some items and/or
sites while allowing local purchasing for others.
E –PROCUREMENT

• E-procurement
• E-procurement is using the Internet to operate the transactional aspects of
requisitioning, authorising ordering, receiving and payment processes for the required
services or products.
• E-procurement speeds purchasing, reduces costs, and integrates the supply chain.
• It reduces the traditional barrage of paperwork and, at the same time, provides
purchasing personnel with an extensive database of supplier, delivery, and quality data.
SUMMARY

• The strategic sourcing process

• Procure to pay cycle