Module 3 : Value Enhancement Strategies. Ch.7 Buying and Supply Strategy. Edited by Dr. Seung Hyun Lee (Ph.D., CPM) IEMS Research Center, E-mail : lkangsan@iems.co.kr
Buying Strategies with Forecasts. - 1 - Buying Strategies Requiring Forecasts. Buying Strategies. Hand-to-Mouth Buying. This is a short-term strategy, with frequent purchase in small quantities to meet only immediate short-term requirement. Cash flow constraints, or goods that are perishable or subject to rapid technological change, are other factors that might make this approach appropriate. Buying to Requirements. Advance purchases for use in the three weeks to three months timeframe might be classified as "buying to current requirements." This practice is probably the most common, because it ensures supply while avoiding excessive inventory carrying costs.
Buying Strategies with Forecasts. - 2 - Buying Strategies Requiring Forecasts. Buying Strategies. Forward Buying. Frequently, conditions such as potential supply constrictions or inflationary markets cause purchasing managers to hedge price or supply by buying more of a product than is required. This practice is called "forward buying" and protests the organization from shortages, or delays the impact of rising prices. Speculative Buying/Volume Purchase Agreements. Speculative buying refers to purchases made not for internal consumption, but with the intent to resell at a later date for a profit. These speculative goods may be the same as those purchased for consumption, but quantities purchased will be in excess of current or future needs.
Buying Strategies with Forecasts. - 3 - Buying Strategies Requiring Forecasts. Buying Strategies. Life-Of-Product Supply. For several reasons it may be desirable to award contracts to suppliers of raw materials or components for the life of the product. If duration of the need is limited, it may not be cost-effective to rebid or renegotiation. Familarity with need, use, or special supplier capabilities are other reasons for this type of supply strategy.
Buying Strategies with Forecasts. - 4 - Buying Strategies Requiring Forecasts. Buying Strategies. Just-In-Time. Supplier selection, single sourcing, supplier management, and supplier communication become critical issues for purchasing and materials managers in implementing JIT. Critical issues in JIT supplier selection include quality control methods, proximity, manufacturing flexibility, and reliability. JIT organizations and their suppliers develop close collaborative relationships supported by long-term, single source contracts. The concept of partnering is often applied to the JIT purchaser-supplier relationship.
Buying Strategies with Forecasts. - 5 - Buying Strategies Requiring Forecasts. Buying Strategies. Just-In-Time. Following supplier selection, careful supplier performance measurement and management often lead to supplier certification - a designation reserved for those suppliers whose quality, on-time-delivery, and reliability have been proven over long period of time. Close, frequent JIT purchaser-supplier communication is essential in both directions. Suppliers are given long-range insight into the purchaser's production schedule. Often this look ahead spans a dozen weeks or more, with the nearest several week's schedule frozen. This allow the supplier to acquire raw materials in a stockless production mode, and to supply the purchaser without inventory build-ups. Suppliers provide daily updates of progress, and production schedules and problems.
Buying Strategies with Forecasts. - 6 - Buying Strategies Requiring Forecasts. Buying Strategies. Consignment. Inventories that are owned by a supplier but are stored at the purchaser's facility are said to be "on consignment." These goods are billed to the purchaser only after they have been consumed. This practice seems to be advantageous to both purchaser and supplier. The supplier has a guaranteed sale, while the purchaser has the security of on-site inventory without inventory investment. There are potential problems with this procedure. The supplier may want to remove some items to sell to another customer, while the purchaser is counting on those items to cover his/her own requirements.
Buying Strategies with Forecasts. - 7 - Buying Strategies Requiring Forecasts. Buying Strategies. Supplier Replenishment Systems. With supplier-managed inventories the supplier is responsible for ensuring stock levels are maintained at appropriate levels in the purchaser's facility, and for replenishing items when stocks are low. Outsourcing. Outsourcing is the use of a supplier to provide a product or service that the organization may have the ability to supply internally.
Implementation Techniques. Implementation Techniques for Buying Strategies. - 8 - Several Common Techniques. Hedging. Hedging typically involves the sales of a future contract to offset the purchase of a cash commodity. With a future contract, the organization can protect itself against price fluctuation in raw materials. Spot Buying. Spot buying is the practice of buying a commodity on the "spot" or open market. Dollar Averaging. When purchasing a commodity or component over a long period, the value of the items in inventory is an average, based on the mix of quantities and price of items bought at different times.
Implementation Techniques. Implementation Techniques for Buying Strategies. - 9 - Several Common Techniques. Contracting. Rather than selecting a supplier and placing an order each time a requirement occur, today most organizations select suppliers for longer-term agreement. Agreements such as this may take many different forms, including multi-year contracts, life-of-product contracts, future delivery agreements, contract for a percentage of a supplier's capacity, or options on products or capacity. Decision Tree Analysis. The assessment of subjective probabilities can be combined with certain techniques into a mathematical framework for analyzing a proposed project. In its simplest form, a decision tree is a diagram that shows several decisions or courses of action and the possible consequences of each.
Implementation Techniques. Implementation Techniques for Buying Strategies. - 10 - Several Common Techniques. Decision Tree Analysis.
Buying Strategies with Forecasts. - 11 - Purchasing with Forecasts. Determining Annual Requirements. Hand-to-mouth purchases, system contracts, life-of-product agreements, and other purchase agreements are tools the purchaser uses to relate volume forecasts of need with supply market conditions. Sales and marketing studies and volume forecasts, coupled with historical usage data, allow purchasing managers to forecasts needs, ranging from amounts of raw materials and components, to MRO supplies, to capital equipment purchases. Part or Product Life. At times it is useful to forecast requirement volumes not by the month or year, but over the entire life of the product. This part or product life projection can form the basis of life-or-product contracts.
Buying Strategies with Forecasts. - 12 - Purchasing with Forecasts. Long-term Requirements. Analysis and research necessary to support forecasts will vary, depending on the importance and duration of the need. As the need becomes more critical, the forecast becomes more thorough and complex. Long-term, more critical needs dictate extensive studies, including : - Current and future technological impact assessments. - The possibility and availability of material substitutes. - Worldwide supply and demand. - Price Analysis. - Development and use of other tracking mechanism and information systems.
- 13 - Performance Check. 1. A director of purchasing is negotiating the purchase of pig tin from a producing country whose currency has been fluctuation widely in relation to the U.S. dollar. The purchasing director could attempt to minimize the resulting risk by doing which two of the following? Ⅰ. Obtaining a trust receipt on the contemplated cargo. Ⅱ. Executing a firm currency exchange contract. Ⅲ. Hedging in the foreign currency futures market. Ⅳ. Hedging in the tin futures market. A. Ⅰ and Ⅱ B. Ⅰ and Ⅳ C. Ⅱ and Ⅲ D. Ⅲ and Ⅳ
- 14 - Performance Check. 2. A commodity buyer purchases copper on four separate occasions, in different amount and at different prices. The purchases are as follows : Date May 15 July 30 Sept. 19 Nov. 9 Amount 25,500 lbs 6,000 lbs 13,000 lbs 9,000 lbs Price $2.10 per pound $2.36 per pound $2.18 per pound $2.20 per pound What is the approximate dollar averaged price of the copper? A. $2.10 per pound. B. $2.17 per pound C. $2.21 per pound D. Cannot be determined from above information.
- 15 - Performance Check. 3. Price adjustment clauses provide for an upward or downward change as a result of fluctuation in which of the following? Ⅰ. Labor rates. Ⅱ. Material prices. Ⅲ. Overhead. Ⅳ. Profits. A. Ⅰ B. Ⅰ and Ⅱ C. Ⅱ and Ⅳ D. All of the above. 4. Which of the following is LEAST likely to be a reason to engage in forward buying? A. To ensure an available supply of materials. B. To ensure an acceptable level of quality. C. To obtain sizable transportation savings. D. To take advantage of current low prices.
- 16 - Performance Check. 5. A decision tree contains all of the following elements EXCEPT A. Courses of action. B. Expected value. C. Probabilities associated with courses of action. D. Expected standard deviations. 6. Which of the following is the LEAST likely short-term action to be taken by a buyer facing a scarcity of a critical raw material? A. Redesigning the product. B. Using improved salvage techniques. C. Expanding import efforts. D. Seeking substitute materials. 7-9 refer to the following situation. For years, the Board of Directors of JKL, Inc. has emphasized return on investment (ROI) as the main measure of the financial performance of the firm. Recently, however, they decided to emphasize return on assets (ROA) as the primary measure of general
- 17 - Performance Check. business performance. The established the following priority. ROA first, profit on sales second, and sales volume third. ROA is a percentage derived from the following equation : ROA = Operating Profits Assets Operation profits equal sales minus the costs of labor, labor burden, material, material burden and general overhead. They are the profits before taxes and interest on indebtedness. Asset equal the total of cash, accounts receivable, inventories, and fixed assets. The Board of Directors decides that an acceptable ROA for the firm will be 18%, which is slightly above the industry average as reported by Dun and Bradstreet. The vice president of materials management at JKL has the power to directly influence four of the factors affecting ROA: labor, material, material burden, and inventories. Accordingly, the vice president announces to the staff that the department will have to become more involved in the product planning and requirements process, and will have to be more creative in searching out savings that can be directly related to profitability.
- 18 - Performance Check. 7. On sales of $100 million last year, with purchased material at $50 million, JKL had a return of $5 million. The return could have been doubled by increasing sales 100%, or by generating savings in purchased materials costs of A. 5% B. 10% C. 15% D. 20% 8. With a return of $5 million per year, JKL can meet its 18% of ROA objective as long as assets employed to not exceed A. $27.8 million. B. $30.3 million. C. $33.8 million. D. $35.3 millioin. 9. Payment term (including progress payments) negotiated by JKL buyers would directly affect which of the following factors in the ROA computation? A. Cash B. Labor burden C. Account receivable D. General overhead
- 19 - Performance Check. 10. A purchaser buys a commodity in excess of current needs solely to take advantage of expected increases in price, in order to profit from the resale of the goods. This practice is known as A. Speculative buying. B. Hedging. C. Hand-to-mouth buying. D. Dollar averaging.
- 20 - Performance Check. Solutions. 1 2 3 4 5 6 7 8 9 10 C B B B D A B A A A