Will You Know World-Class Purchasing When You Get There?

Author(s):

Lewis (Bill) Poole, CPIM
Lewis (Bill) Poole, CPIM, Materials Manager, Eastman Kodak Co., Rochester, NY 716/722-0543

81st Annual International Conference Proceedings - 1996 - Chicago, IL

Excellence in planning has frequently been measured by achieving MRPII Class "A" certification. Achieving excellence in Materials Management requires integrating both "Class A" planning and purchasing functions. Companies that are successful in doing this are the companies that will ultimately be World Class. This paper will share the steps necessary to attain this status by development of a world class purchasing organization.

Purchasing's traditional role had been:

• Cost reduction through negotiation, competitive bidding and buying large lot sizes.
• Delivery improvements utilizing longer lead times versus reduced cycle times.
• Quality improvements through complaints, not quality improvement initiatives.
• Relationships involving only the buyer and the salesman, excluding planning and manufacturing.
• Finding success in negotiating downward requested price increase, not eliminating costs.

Those actions have typically led to a focus on the price of material, not the actual value of the material.

Selection of vendors can be a time-consuming task in today's work environment. This activity is usually characterized by:

• Using current standbys, saves time and effort.
• Using those designated by engineering, often leading to elimination of looking for the best supplier.
• Using request for quote with contracts based on lowest price, not best value.
• Selecting those who have the material available.

Much of today's buyers time is spent:

• Phoning in orders, not exploring better sources of supply.
• Processing individual orders including handling purchase requisitions and getting them typed. (in many companies all purchase orders pass through the buyer for sourcing/approval)
• Expediting past due orders through phone calls and letters; non value adding efforts.

Price negotiation has frequently been viewed as the key measure of success of a buyer. While certainly and important aspect, this method seldom leads to the optimum value for their company. today's focus tends to be very short term in nature, utilizing very tactical techniques such as:

• Playing one supplier off against the other.
• Negotiating prices down from quotes, not striving for value added conditions.

I am sure all of this sounds familiar in describing many of America's current purchasing departments

In the truly integrated materials management function there is a major opportunity to transform buyers to the role of strategic managers of material cost (value). The keys to such a metamorphoses will be achieved through the following:

• Training
• Commodity strategies
• Understanding the market
• Benchmarking
• Supplier quality programs
• Managing suppliers who are not cost effective
• Managing the supplier selection process
• Understanding the difference between material price and total cost (value)

As in most situations, the best performers are also the best trained. An aggressive training program for buyers should include the following broad based programs.

• Negotiations skills including those that rested in a "Win-Win" situation for both the supplier and your company.
• Accounting techniques that focus on cost of inventory, present networth, etc.
• Statistics that teach SPC, PCI, and CPK, as well as how to do pareto analysis and reading run charts.
• Value analysis that teach buyers how to breakdown product prices to material costs to see where greatest improvements are possible.
• Target costing that focuses on setting a price for an item and working with suppliers to meet or be less than that price while maintaining quality standards.

Another key to having successful buyers is their educational background. World class purchasing organizations will need not just college educated personnel, but more importantly individuals that have skillsets in the areas they are responsible for. An example is chemical buyers should have degrees in Chemistry, or Chemical Engineering. There is a world of difference between being able to pronounce complex chemical names and understanding the production processes. Packaging buyers might well be those who have a packaging engineering degree. In all cases, an MBA should be expected to solidify the technical and business skills needed to best manage the business.

Commodity strategies are table stakes for an effective purchasing organization. These serve the purpose of providing a written understanding of any commodity; they also are a key parameter in allowing a smooth transition as buyers change responsibilities. In some research I have conducted, I have found few companies have commodity strategies. A good commodity strategy contains the following:

• A summary of the current suppliers and the use(s) of the material.
• Other potential suppliers in the marketplace.
• A breakdown of the raw materials used to manufacture the item and the current price of raw materials.
• A contingency plan if the commodity is sole sourced.
• Energy source used at the suppliers plant to evaluate potential price concerns if fuel costs escalate.
• Labor union and date of contract expiration if the manufacturer is a union plant.
• Location of plant(s) and transportation sources from that area.
• Current specification for the commodity and process capability of the suppliers manufacturing the item.
• Research and development budget of the supplier.
• Data on the current delivery and quality performance versus specification.
• A breakdown of the current raw material, labor and burden prices the supplier is paying.
• Improvement initiatives at the supplier such as MRPII, ISO9000, empowerment, etc.
• Financial status of the manufacturer including a balance sheet.
• Key management of their site and company.
• Other customers of the company to make sure development efforts you are engaged in with them are managed properly.
• Current leadtimes and leadtime reduction efforts the supplier is engaged in.
• Capacity of the plant and what portion of the capacity your commodity requires.

By compiling these key items, buyers will be able to manage their commodities rather than being managed by others.

Armed with these basics the next key item for any buyer is to determine where their items fall in the overall market. This understanding will allow the buyer to maximize the use of their time. Commodities can best be isolated into four quandrants. The strategic management is determined by the sector the commodity falls in.

1. The first is where there are many suppliers, but small amounts of dollars expended. For these commodities the buyer should expend minimal efforts, for the payback will be small. These may not even require contracts. In some cases it may be useful from a leadtime and inventory standpoint to utilize distributors. Where possible these items should be consolidated with suppliers of larger purchases for price leverage. These items typically constitute only 5% of the dollars expended by a company.
2. The many suppliers and large dollar expenditure sector is the area where most of the buyers time should be spent. In this sector such techniques a partnerships and quality supplier programs are a must. This is also an area to utilize target costs of the item(s). typically over 70% of a company's expenditures occur here; the area where even small percentage cost improvements can lead to large dollar savings. Commonly these are known as commodity items.
3. The third sector is where there are few suppliers, but a minimal amount of dollars, generally less than 5% spent. These commodities should be managed by multi-year contracts to minimize effort. Also, due to the typically small expenditure for these items it is appropriate to carry large safety stocks in inventory.
4. In about 20% of the items we find large expenditures but few suppliers. Again, those should be managed with multi-year contracts. In some cases these require larger inventories, perhaps having the supplier carry the. These are the items that should be first on the list to move to the category of many suppliers by redesigning the materials. Where these are key components, the buyer, planner and manufacturing must have a backup plan to assure continued supply.

The late Dr. W. Edwards Deming in his seminars repeatedly asked the question "How do you know ?" The best way I answer this is to have an aggressive benchmarking program for both your planning and purchasing endeavors. It is amazing how much one can learn from others; this is also an excellent process to find potential improvements in your operation. To be effective you should benchmark companies, or other locations in your own company, that excel in the materials management profession. A number of items need to be evaluated to understand how effective your operation really is and what improvement opportunities exist. Data points to examine include:

• Dollars per purchasing organization person including clerical support and management.
• Suppliers per buyer, in order to evaluate vendor base and workload.
• Number of items per buyer, again workload related.
• The organization of the purchasing community and the relationship to the planning arm of the materials management organization.
• Review of the information and process flow maps of their function.
• What expectations they set for their employees.
• What they consider measures of a successful buyer or planner.

Having participated in a number of these ventures, I can assure you they can be quite rewarding in showing the path to quantum improvement.

Most successful companies feature active quality programs with their suppliers. These are aimed at getting suppliers to, at a minimum, attaining product control for their manufacturing processes. For key materials process control with high CPK'S are a must. To avoid starting and stopping of activities this program should be focused on suppliers that you plan to do business with over the long haul. To maximize efforts they should follow an ABC approach, working on the commodities most critical to you operation; those with the most potential for cost reduction. The need to expand the relationships well beyond the salesman and buyer is also critical. You need to include the planner and manufacturing personnel from both companies in order to gain maximum results,. This will allow the supplier to provide suggestions of improvement opportunities that may not have been apparent to manufacturing. It will also allow the planner to make supplier quality and on time delivery reliability. as the quality improves, waste savings will be experienced; incoming inspection can be eliminated. A well run quality program should also mean savings for the supplier as well as more business in addition to lower manufacturing costs.

Not all companies are in a position to drive such quality efforts without significant training. In many cases your company needs to be prepared to provide the training to assure success. In some cases this might require going into a plant and changing the layout of the manufacturing flow. Other times is might require assisting in eliminating setups to allow smaller batch sizes. In still other cases efforts might be directed at teaching shop floor people how to create and read run charts to monitor the process. Such assistance should be kept to a minimum; preferably they will be reserved for sole source suppliers.

The last two topics on our list tie together. These are managing the supplier selection process and achieving best value in the procurement function. This is truly where the integration of the planning and purchasing function comes together. For years the purchase price of the material has been the measurement of a successful buyer. While not to be ignored, this is only one part of the equation. In fact there are numerous others that should be included.

• The impact on inventories as a result of large lot sizes, poor quality and undependable delivery significantly erode the benefit of low prices when they are included in the overall value measurement. These also drive up warehousing costs and prevents savings from KANBAN or JIT programs that are not possible. The absence of high quality may mean retaining incoming inspection as an additional cost.
• Often freight costs and terms of payment are not reflected in unit costs and again can change what appears on the surface to be a low price, into a more expensive situation.
• Defective material that gets into the manufacturing operation will mean reduced efficiency and high waste cost. Worse yet, material that gets in to finished goods and is shipped to customer will drive higher costs and my result in loss of business.
• Finally, suppliers that cause your staff added efforts to reconcile bills or unsnarl improperly marked order, resulting in delays and phone calls, only increase non-value added work and increase operating costs.

These are not "soft costs"; they are measurable and should be included in your selection of suppliers to make sure you are really getting the best value for your company.

The world class companies will be successful only when they are able to integrate the functions of planning and purchasing. This will culminate in a truly world class materials management operation; for remember "If you are not the lead dog in the race, the scenery will always be the same."

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