Procurement and Vendor Management

UNIT: I
Framework of Procurement Management
Agenda of the class

 Introduction to sourcing
 Sourcing vs Procurement
 Purchasing Cycle
 8Rs of Procurement
 Role of a purchasing manager
 Risks associated with purchasing process
and its mitigation
 Orders
 Make or buy decisions
 Sourcing in retail
 Centralized vs decentralized approaches
 Single sourcing vs multiple sourcing
 Sourcing Management
A supply chain cannot truly be managed without the upstream activity of sourcing being
given a recognized status within the organization. Sourcing is the identification of
organizational need, analysis of the marketplace, identification of risk, summary
negotiation and implementation of appropriate contracts and purchase orders.

It is the process of identifying, selecting, and developing suppliers. It is that part of the
procurement process concerned with ‘how and where services or products are obtained’.

Levels of Sourcing Decisions in Organisations

Tactical Sourcing
This relates to procurement decisions on sourcing that are made at the lower level
management, on low risk, low profit, and noncritical/routine items or services. Tactical
sourcing is also employed in the formulation of short-range decisions as to how specific
supply requirements are to be met, in response to changing or temporary conditions in the
organisation or supply market; for example supplier failure, supply disruption or
fluctuations in demand.
Strategic Sourcing
These are long-term sourcing decisions made at the top level management relating to items or
services that are of high value, high risk and those items or services that contribute to high
profits in a business. Sourcing, from a strategic point of view, can be defined as a systematic
process that directs procurement and supply managers to plan, manage, and develop the supply
base in line with the organization’s strategic objectives. These decisions balance internal and
external activities; and aligns business strategy , business processes and product requirements.
These decisions always address the ‘what if’ questions; for example:
What if there is a deterioration in an existing supplier’s quality on performance?
What if there is a delivery failure or poor services by the existing source?
What if there is a large price increase of prime raw materials?

 Sourcing Decision Making

A good sourcing decision process must lead to the ultimate selection of the best supplier, in the
most economical manner possible. In order to reduce time and costs, a buying organisation
ought to check if there is already a long-term contract, in which case an order could be placed.
In the absence of the long-term contract, it has to be established if there is an existing supplier
whose performance is satisfactory, of which to order from; or a need to enlist and evaluate
possible suppliers available on the market.
 Difference between sourcing and procurement
Sourcing is the group of procurement activities related to identifying and assessing potential
suppliers; and selecting and managing suppliers to ensure best value for your company.
• Before you can procure materials from your suppliers, you must first find and vet those
suppliers. Sourcing is a balancing act between quality and affordability. The less you can
spend on materials, the more profit your business can earn. But, if you are too cheap and
buy shoddy materials, your product becomes worse.
• Sourcing includes requesting quotes, obtaining vendor information, determining lead time,
setting up contracts, pricing, minimum order quantities, and more. This is done one time for
each supplier except when updating pricing information.

The main difference between sourcing and procurement is that sourcing focuses purely on
suppliers, while procurement also focuses on purchasing. Sourcing is a subset of the
procurement process and happens before a company makes purchases. Sourcing teams
analyze supplier lists and performance while paying close attention to the risk each supplier
poses. Sourcing is most concerned with how to get products that meet all business needs—
time, quality, location, and quantity—at the best price. Procurement is a larger process that
begins with sourcing and goes all the way through payment and supplier relationship
 Sourcing Procurement
Focuses on finding and vetting suppliers Focuses on the entire procure-to-pay
process
Ensures suppliers are identified to fulfill Ensures the business gets what it needs to
business needs operate
Includes request for information (RFIs), Includes RFIs, RFPs, and RFQs as well as
request for proposals (RFPs), and purchase orders (POs), invoices, and
request for quotation (RFQs) payments
Evaluates supplier and supply chain Manages internal and external risks and
risks relationships
 Purchase and purchasing cycle
For companies of all sizes, from local small businesses to global megacorps, the purchasing cycle
begins with needs analysis and ends with payment and record keeping. In between, they may
generate a purchase order, pay for goods directly, or invite tenders (also known as bids) to
encourage more aggressive and price-effective competition between suppliers wishing to fulfill a
specific need. Purchasing is the organized acquisition of goods and services on behalf of the buying
entity. Purchasing activities are needed to ensure that needed items are obtained in a timely manner
and at a reasonable cost.

1. Needs Analysis: This stage of the purchase cycle is dedicated to identifying the need to be met,
whether it’s a reorder, raw materials for a new product produced by the company, or office
supplies.
2. Needs Clarification: Once the need’s been identified, the variety (e.g., brand), amount required,
and delivery schedule need to be established.
3. Purchase Requisition and/or Purchase Order: With the details settled, the requesting party has
a couple of options. Generally, those without the authority to approve direct purchase orders will
first create and submit a purchase requisition, which is an internal document requesting that
approved parties obtain goods and services. Upon approval, the purchase requisition is used to
create a purchase order, which is the actual order sent to the supplier for the goods and services
4. Authorization: The purchase order (generated from a purchase requisition or not) must also be
approved. The purchase order process benefits from automation and artificial intelligence (AI), usually
through the use of purchase order software that’s part of a comprehensive procurement software
package.

5. Supplier Review: If you’ve already integrated an automated procurement solution into your
workflow, chances are the list of approved and available suppliers will obviate this step in the process—
especially for repeat orders. But if you’re adding new products, or new suppliers for existing products to
the system, then each candidate must be reviewed for compliance, performance, and reliability.

6. Supplier Selection: At this stage, the purchaser chooses the supplier who’ll be filling the order,
either from the pre-vetted list in their software catalog or through other means.

7. Price and Term Negotiations: This step is also made infinitely easier if your workflow is built
around procurement software automation. Centralized contract and document management and
information sharing means previously-negotiated contract terms and best price are already available for
each vendor on the approved list. New vendors being added to the system will have this information
added as your legal team completes and certifies your company’s agreement(s) with the vendor. If your
company doesn’t use automation, then your team will need to sit down with the vendor to negotiate
payment terms and conditions.
8. Order Placement: At this point, the buyer officially places the order and creates a
binding purchase agreement between your business and the vendor.

9. Receiving and Inspection: For material goods, arriving shipments are inspected for
completeness and integrity, with any shortages and broken goods marked to be credited back
to the buyer. The invoice is either included with the goods or sent separately by the vendor.
Inventory management is either manually updated or handled automatically by the
procurement software, which links the shipping documentation to the original purchase
order, invoice, related correspondence, and other documents for data analysis and auditing
purposes.

10. Payment: The invoice is reviewed for accuracy against the purchase order, invoice, and
other documentation. Depending on the terms established for the supplier and the approval
of the reviewing party, payment is issued (usually within 30, 60, or 90 days).

11. Records Management: Businesses still using manual systems follow up by updating
their inventory totals and purchasing ledger. Purchasing software automates this step, as
 10Rs of purchasing
Right Place
Right Quality
Right Time
Right Source
Right Quantity
Right Price
Right Contracts
Right Material
Right Transportation
Right Place of Delivery
 Role of purchasing manager
studying the market to identify price trends and future availability of materials and goods;
locating suppliers;
negotiating prices;
preparing requisitions and purchase orders; and
maintaining purchase records
 Procurement risks
Inaccurate Needs Analysis
Inadequate Vendor Management & Sourcing
No Supply Chain Risk Management
Underdeveloped Contract Management Processes
Lack of Automation
Poor Procurement Planning

Mitigate Procurement Risks

Strengthen Supplier Relationships
Streamline and Automate Procurement and Supply Chain Risk Processes
Mitigate Procurement Risk and Supply Chain Risk
 Order Management
Order management is the process of receiving, fulfilling, tracking, and
shipping a customer's order. This process begins as soon as an online shopper
places an order and ends when they receive their package.
It also entails communicating with customers in the case that an interruption
occurs during the order fulfillment process, such as out-of-stock items or
product unavailability. Additionally, an effective order management system
will ensure that the right goods are shipped out and delivered to consumers in
a timely manner.
 Importance of Order Management Accuracy
Prevent Over-Stocking and Under-Stocking
Eliminate Mistakes in Order Fulfillment
Have Reliable Data
Enhance Productivity and Time Management
 5 Steps in the Order Management Cycle
Receive Customer Orders
Picking
Packing
Shipping
After-Sales Processes
 Make or buy decision
A make-or-buy decision is an act of choosing between manufacturing a product in-house or
purchasing it from an external supplier.
There are many factors at play that may tilt a company from making an item in-house or
outsourcing it, such as labor costs, lack of expertise, storage costs, supplier contracts, and
lack of sufficient volume.
Companies use quantitative analysis to determine whether making or buying is the most
cost-efficient method.
Managers must incorporate in-house production costs when considering in-house
production. It includes all the transaction costs involved in creating the product or service.
It can also include extra labor needed for production, monitoring costs, storage
requirements costs, and waste product disposal costs resulting from the production process.

Similarly, businesses must focus on both the production and transaction costs when
considering outsourcing from outside suppliers. For example, the product’s price, sales tax
charges, and shipping costs must be factored in. Companies must also include inventory
holding costs, which comprise warehousing and handling costs, as well as risk and ordering
costs.
Benefits of a Make-or-Buy Decision
Lower costs and higher capital investments
Source of competitive advantage
Centralized purchasing
It means that one department oversees all of the organization's purchases using a process
known as centralized purchasing. The purchasing or procurement department often operates
from the organization's head office, where it oversees and carries out all of the business's
purchases. Even if there are multiple branches or divisions for example, all the purchasing
needs will be fulfilled by this singular department.

In essence, with centralized purchasing, the designated purchasing department acts as the
link between the many staff members and divisions within the organization and the external
vendors. Orders from within the organization are gathered by the purchasing department,
which then decides how best to fulfil orders through a network of suppliers.
Advantages of centralized purchasing
Better management of spend, that leads to benefits of scale
Implementation of holistic categorization strategies and tactics
Improved compliance and standardized processes
A specialized, dedicated team for purchasing
Centralized management of data and information
Risk mitigation
Centralized management of environmental, sustainability, and governance agendas
Better relationship management and one point of contact for key suppliers

Disadvantages of centralized purchasing:

High initial costs to staff and set up a purchasing department
Inefficiencies as the operation may grow too big or complex to run
May not be suited to geographically dispersed organizations
Misunderstanding of local requirements
Missing out on localized discounts
Delays in the delivery of goods and services to end-users
Decentralized purchasing
Where purchasing is fully decentralized, each business unit or geographic unit is responsible
for its own purchases. This means that purchasing activities are spread over many countries,
locations, and stakeholders. For geographically dispersed companies, decentralization is
generally a matter of practicality. If an organization has locations all over the country, it may
not be realistic to direct all purchases through a single office, however, where decentralized
processes exist without controls, the risk of overspending increases.

Advantages of decentralized purchasing:

Supplier diversity and use of local alternatives
Interpersonal relationships and supplier knowledge
Faster decision-making
Short delivery times
Specialization for local requirements
Agility and fast, easy replacement of defective goods
Disadvantages of decentralized purchasing
Suboptimal management of spend
Unexpected spending that is out of contract or unauthorized
Missing out on benefits of scale
Missing out on bulk discounts
Scattered management of information and disorganized data
Duplication of effort in vendor and contract management
Non-compliance with corporate policy and processes
Single-sourcing: The age-old concept of economies of scale. Single-sourcing is the strategy
of passing all purchase orders for a particular product to one supplier. By buying in bulk,
consistently, from one single vendor, theoretically, a business can benefit from better costs,
quality of service, quality of the product, and payment terms.

Multi-sourcing: As global economies grow more and more advanced, you can make pretty
much source any product on any continent. With seemingly infinite production options for
most industries, multi-sourcing is a strategy that leverages a large pool of suppliers to satisfy
business needs.
 Single Sourcing Multiple Sourcing
Advantages Partnership between buyers and suppliers Alternatives sources of materials in case of
allows cooperation shared benefits and long delivery stoppage by a suppliers.
term relationship based on high levels of
trust.
Reduction of risk of opportunistic behavior. Reduced probability of bottlenecks due to
insufficient production capacity to meet peak
demand.
Large commitment of supplier that is willing Increased competition among suppliers leads to
to invest in new facilities or technologies. better quality, price, delivery, product and
innovation and buyers negotiation power.
Lower purchase price resulting from reduced More flexibility to react to unexpected events
production costs due to better knowledge of that could endanger suppliers’ capacity.
manufacturing process by supplier and
achieved economies of scale.

Disadvantages Great dependency between buyer and Reduced efforts by supplier to match buyer’s
supplier requirements
Increased vulnerability of supply Higher cost for the purchasing organization
(greater number of orders, telephone calls,
records and so on).
4 Steps of Business Budget Allocation
Businesses can improve their budget allocation by following 4 key steps.
1. Identify Spending Requirements: Management teams should outline all of the
expenditures and financial obligations they plan to cover with their budget. These areas of
spending usually include staff salary, inventory, and supplies.

2. Determine Methods of Funding: To ensure that expenditures are paid, businesses must
determine how they generate or locate revenue. For existing companies, this can be through
sales, while new brands will typically depend on investments. The revenue is then split and
assigned to various budget items. In the case that the organization does not have enough
resources available, executives will have to return to the first step and make cuts in the amount
of money they want to spend on a budget item or remove the item in its entirety.

3. Execute the Budget: At this stage, the budget has been thoroughly planned and businesses
can start spending the funds they allocated for the different items in the budget. Oftentimes,
circumstances may arise that require managers to make changes to their budgets. Businesses
that experience this should conduct a thorough review of their resources to make sure they
have enough funds to meet all needs.
4. Monitor and Maintain Budget Allocations: Finance teams should regularly monitor
budget allocations to make sure that the business is following established spending plans. It is
helpful to create a spending record to allow managers to assess all purchase orders and bills,
and compare them to budget allocations. Recording spending will also promote accountability
by enabling executives to check whether procurement activities were done correctly.

Direct and Indirect Costs in Budget Development

When developing a budget, management needs to classify their different expenditures into
standard budget categories. These two classifications are-

Direct Costs: It refers to expenses that are directly tied to a project or production of a product
or service. This includes using funds for raw materials, labor, and distribution.

The most common direct costs a business will encounter are-

Personnel - These are costs related to employee salary, holiday pay, and health insurance.
Allowance for Travel and Subsistence - This refers to round-trip airfare, lodging, meals,
and transportation expenses.
Vehicle - Typically, vehicle costs, such as renting and maintenance, will be included in the travel
and subsistence item. If employees or managers drive their cars for business purposes, they can
claim a certain amount per mile.
Consumables and Supplies - This includes money reserved for supplies and activities to
complete a project. Some of the most common consumables are software, stationary, and
batteries.

Indirect Costs
Indirect costs are expenses that are not related to the production of a good or service. Also referred
to as overhead expenses, this type of cost cannot be simply traced back to a project, product, or
activity. For example, the most common forms of indirect costs are-
Utilities - Expenses for electricity, gas, and water are the main costs of operating and
maintaining buildings and warehouses.
Premises Rent - Businesses will typically have to pay their monthly or yearly rent to continue
working in their office or to operate their brick and mortar locations.
Depreciation of Equipment - When equipment and machinery wear out and become obsolete,
they lose value.
Security Expenses - Some offices and warehouses will employ security guard personnel or
Long term Sourcing
Strategic sourcing helps an organization build long-term relationships with its
suppliers. By reinforcing the focus on the core capabilities of the suppliers and
assuring the right suppliers for the right sourcing objective, strategic sourcing
helps create a synergy between organizations and its suppliers.
Thank You