Master Thesis
“PRIMA is the architect of their own destiny”
By:
Femke Weenink
State university Groningen
Faculty: Business administration
MSc Business Administration – Operations & Supply Chain
9 February 2009
E-mail: femkeweenink@hotmail.com
Index
1. Introduction ...4
2. Overview of the organization...5
2.1. PRIMA Products...5
2.2. The market...5
2.3. The purchasing department ...6
2.4. The purchasing process ...6
3. Research design ...7
3.1. Problem statement...7
3.2. Research Questions ...8
3.3. Research Methodology ...9
3.4. Research structure...10
3.5. Limitations / Research constraints...11
4. Theoretical part...12
4.1. Basic assumptions and boundary conditions...13
4.2.1. Position of suppliers ...14
4.3. Internal analysis ...15
4.3.1. Spend analysis / Creditors analysis ...15
4.3.2. 80/20 analyses ...16
4.3.3. ABCD Analysis ...16
4.3.4. Time dedication analysis ...17
4.3.5. Portfolio thinking ...18
4.4. Appreciation and choice of strategy ...20
4.5 Elaboration and planning ...21
4.6 Implementation and monitoring ...21
5. Case study ...22
5.1. Basic assumptions and boundary conditions...22
5.2. External analysis ...25 5.2.1 Model of Porter...25 5.2.2. Position of suppliers ...26 5.3. Internal analysis ...29 5.3.1. Spend analysis...29 5.3.2. 80/20 analysis...29 5.3.3. ABCD Analysis ...29 5.3.4. Time management ...29
5.3.4.1. Time dedication analysis ...29
5.4 Appreciation and choice of strategy ...29
5.4.1. Purchasing performance indicators ...29
5.4.2. Purchasing organization and procedures ...29
5.4.3 Outsourcing and supplier management ...29
5.4.4 Purchasing strategies ...29
5.4.5 Contract management and cost management...29
5.4.6 Purchasing systems ...29
5.4.7. Human resources / Habitus ...29
6 Purchasing policy and objectives ...29
6.4. Purchasing plans ...29
7 Elaboration and planning ...29
7.2. Purchasing strategy ...29
7.3. Implementation and monitoring...29
8. Conclusion...29
9. Literature ...29
Summary
In this research, the purchasing department of PRIMA is explored. In many organizations became purchasing a strategic part within the business. However, PRIMA runs behind time on this aspect. The consciousness of the importance of the purchasing process is insignificant, which results in insufficient attention to the purchasing department.
The current structure on the purchasing department is missing. The mission, vision, policy and strategy of the purchasing department are totally unknown on the work floor. This is noticeable inside and outside PRIMA.
The external analysis stated, through the model of Porter, that the current market position of PRIMA is far from optimal. The suppliers criticized that the supply chain management and the communication on management level below average.
The internal analysis described that the purchasing department criticized the current purchasing process as unsatisfactory. The relation between the total purchasing value, the number of employees in the purchasing department, the number of suppliers, the number of contracts, and the number of invoices is out of balance. Portfolio thinking and relationship management are declared as very important for PRIMA, but through lack of capacity and time, has the operational process priority on the strategic process.
Currently the rhetoric differs form handling. To regain the trust, reputation and perception inside and outside the organization, PRIMA must consider their structure, organization and procedures, strategies and human resources. Improvements have to start with the behaviour and mentality of the employees, subsequently the processes; communication, cooperation, information, knowledge, and capacity and time. Finally the policy can be improved.
1. Introduction
In the last years not only has Supply Chain Management been a hot item in many industries, but purchasing has also become increasingly important. Purchasing has now become a strategic part within the business, because it is more than just buying things at the right price and getting them in at the right time. This should not be a surprise, considering the increased dependability of enterprises who are concerned about their conduct of business and the external suppliers. This increased dependability is a consequence of the persisting specialization which can be noticed in international business. This specialization connects with the increased attention for outsourcing and global sourcing.
Considering the branch of industry and market, the biggest part of the total cost related is on the purchased commodities and services, and the purchasing function determines, for many industrial businesses, an important profit. The increased pressure on the sales and margins leads to an increased pressure on the purchasing prices- respectively material committed costs (van Weele, Maarssen, 2001). This means that in a lot of cases the market becomes a more buyer oriented market, which also means that the purchaser plays a more leading role than several years ago.
These days, purchasing activity is defined as ‘selecting those suppliers and dealing with them in such a way that enables the organization to implement its market strategy best in the way it has decided to serve the end customers’ needs’ (Carter et. Al. 1997; Kamann, 1999). Now, no company can allow purchasing to fall behind other departments in acknowledging economic changes. Such an attitude is not only obsolete but also costly.
To accomplish my final master thesis I have selected the Dutch company “PRIMA Nederland BV” (from now PRIMA). This master thesis is written as required by education “Business administration” and the course ‘Operations and Supply Chain’. This master thesis is a part of my graduation and will take place over a period of six months.
In this research, the purchasing department of PRIMA will be explored and necessary improvements will be advised.
Picture 2.1
2. Overview of the organization
PRIMA originated in 1983, through a takeover of the company Benraad. Since then, PRIMA has developed into a successful organization with approximately 140 employees. PRIMA are specialized in high-efficiency technology for central heating and hot water. They are a company who is supplying products and services of excellent quality for both customers in the domestic and commercial sectors. PRIMA is constant in its ambition to be the leading innovator in technology, performance and design. The head office is located in Lichtenvoorde and has several subsidiaries in the UK, Italy, and Belgium. Production takes place in Lichtenvoorde. The sales areas of PRIMA in Europe are presented
in picture 2.1.
2.1. PRIMA Products
Offering an extensive range, PRIMA is leader in compact, wall hung, condensing, system boilers and combination boilers for the domestic and commercial market. This appliance has established a long series of success because of its inverted pre-mixed burner coupled with a full stainless-steel heat exchanger. The same technology goes into the PRIMA Premier and the new Q and E series boilers giving "Super-High Efficiency" through continuously variable modulation over an extremely large range, complemented by self-regulating weather dependant controls.
In 2006 and 2007 PRIMA produced respectively 27,382 and 26,478 appliances, which lead to a profit of approximately 50 million euro per year. In the last few years PRIMA has been focused on the installer. This is because they have to sell the product to the end user. Through offering an excellent margin, PRIMA wants to reach a high level of devotion and loyalty from their customers. Finally PRIMA wants to create a preferable position between their competitors.
2.2. The market
2.3. The purchasing department
At this moment the purchasing department employs consists of 5 employees- two operational purchasers, two initial purchasers and one purchasing manager. The two operational purchasers are responsible for the availability of materials and services. One of the two initial purchasers is completely responsible for several projects, and the other is responsible for: the relationship with all the current suppliers, the agreements
with all the suppliers, the quality of the purchased products, and support and control of the operational purchasers. The purchasing manager is responsible for the managing, guiding, control, and evaluation of the purchasing department and the related employees. The purchasing manager is also responsible for the relationship with other departments within PRIMA. See figure 2.1 for the hierarchy.
2.4. The purchasing process
The purchasing process includes; specifying what must be purchased, selecting the most appropriate supplier, contracting the supplier, inclusive negotiation of the conditions, the actual ordering of the needed commodities, as well as, controlling and evaluation of the order. See figure 2.2.
This process will be further applied in the internal analysis in the case study, chapter 5.
Figure 2.1
3. Research design
This part of the thesis will concentrate on the design of the research and the methodology pursued. First, the definition of the problem will be described and the research questions will be outlined. After this the research structure and research limitations will be described.
3.1. Problem statement
PRIMA for which the research will be performed is a manufacturer and distributor of high quality CH- devices and sun-power systems. PRIMA is constant in its ambition to be the leading innovator in technology, performance and design. Occupying a leading position in the development, production and marketing of high value heating products and services, PRIMA promotes and delivers the key product characteristics of A-brand quality.
3.2. Research Questions
As mentioned earlier, the aim of this research is to concentrate on the purchasing department of the organization, especially the strategic purchasing process. Different aspects like; structure, objective, vision and mission, cooperation, capacity, balance of power, choice of supplier, etc. will be discussed. On the bases of these subjects an appropriate policy and strategy will be created. First, the main question of the research is defined along with the supporting sub questions. The sub questions will guide the main question step by step.
Main Question:
“What kind of purchasing policy and strategy should PRIMA formulate and implement to become a successful strategic purchasing department?”
Sub-questions:
1. - What is the current policy and strategy of the purchasing department? What does the current operation process look like?
In order to develop a purchasing policy and strategy that best fits the conditions and needs of PRIMA, its sourcing situation must be understood. Extensive research of the current operation process is not only needed to consider the long term strategies of the purchasing process, but also to find a fit between this and the long term strategies of the whole organization. Another important aspect in this step is the performance criteria. What characteristics of the supplier’s performance the company sees as important and how these characteristics formulate the current process. In this step of the research, the methodology being followed is desk research. This is based on the researcher’s knowledge through observation of PRIMA and its situation (primary data).
2. - Which adjustments are necessary to obtain the ideal situation and the required performance?
To design a purchasing policy and strategy that enables PRIMA to improve their operation process, adjustments are needed. In this step, the current situation will be attached to a purchasing model, see figure 5.7. The purchasing manager sees this figure as the SOLL situation of PRIMA. Adjustments are recommended through utilizing this model. To find the ideal situation, trade-offs and choices have to be made. During this step, it is important to find out which appropriate situation will fit with the organizational structure, the environment, and the purchasing department. The methodology used to answer this question is desk research using primary and secondary data, based on the researcher’s knowledge through observation of PRIMA its situation, and available theoretical data.
3. – Does the policy fit the purchasing department and how should the purchasing policy be implemented?
of the adjustments will be advised through consecutive steps to become a successful strategic purchasing department. For that reason, these aspects will be addressed by the research as concluding remarks.
3.3. Research Methodology
The relevance of the research is mainly practical and this is because it is a case study. After the research is completed, advice for purchasing policy, insight into the supplier base, and advice for a proper strategy will be suggested. This is part of the assignment but it is also important information for PRIMA to be aware of. The research will be conducted using problem solving techniques, which will not only address the policy support concerns and accomplish identify the concrete customer, but takes the entire problem into account. The report will deliver an answer with substantial and desired knowledge.
The research will not only be problem solving, but also design oriented. This will form a closer emphasis on the problem oriented solutions. The purchasing department is looking to formulate all the different processes and identify a clear policy. The policy and strategy have to fit with the process within the organization, the environment of PRIMA, the target of the PRIMA, and the current policy of PRIMA. The case study will not only focus on the practical aspect, but will also be combined with literature to support the quality and possibilities of the solutions- see figure 3.1.
The ‘Company aspect’ represents the practical information. This is assembled through observation, surveys, questionnaires, interviews, and primary data that was available within PRIMA. The received information within this aspect is during this research as veritable accepted. The ‘Science aspect’ represents theoretical information. This is assembled out of preliminary research and literature, as mentioned in the literature list. This information is acquired during the purchasing course at the “Business administration study” at the University of Groningen, available information in the library, and available information in books and literature on the internet. This information is accepted as reliable and veritable. The ‘Researcher aspect’ represents the action investigation. With the received theoretical and the practical information the researcher accomplished several analysis within the purchasing department of PRIMA.
The products of this research are; Adding theoretical knowledge Adding practical knowledge
Adding information for the practice of the purchasing department of PRIMA
The research will utilize the DDI theory of de Leeuw (2000) and it will begin as problem finding oriented research. Then, when the problems are clearly determined, a diagnosis will
follow. Once the diagnosis is clear, the intervention will start, and finally, an evaluation will take place. The problems are mentioned in the case study and the solution is presented in the conclusion.
3.4. Research structure
The research is divided in three main stages:
The organization analysis of the current situation;
The survey to develop and formulate a purchasing policy; The given advice and implementation of the policy.
In this section of the chapter, each of these stages will be described.
First stage: Company analysis
First of all, to acquire a theoretical framework, books, articles and other research on purchasing and supply chain has been studied. After this is accomplished, the current situation of the purchasing department has been analyzed. The goals, vision, mission, strategies, products and markets where the organization operates, have been explored. The performance criteria are important to consider and played an important role in formulating the operational process strategy at a later stage. Through the BOP-model of Kamann, the current policy, organization and the purchasing process have been analyzed. To distinguish the different type of suppliers, the supply has been categorized by means of the Kraljic matrix (portfolio matrix). The suppliers of the organization and the four quadrants of this model have been discussed. Other aspects that have been touched on are; the purchasing situation (Hakansson e.a.), the typology of the market (Van Weele), the appearance of purchasing (Kraljic), and the level of dependency (Gelderman). Based on this classification, performance criteria and relationship management is presented and criticized where possible. This stage resulted in a literature review and an overview of the current situation.
Second stage: Survey of purchasing policy
This stage includes the research used to find information on designing a purchasing policy. The current situation have been discussed and modified where possible. This stage provides information through participation of the organization and their suppliers. Through interviews and questionnaires within the organization, questionnaires to the supplier’s understanding of the current situation, and theoretical research- primary and secondary data have been found. Relationship management and the supplier selection process have been explored, and possible improvements have been made. Trade-offs and choices are made. The outcome of this stage led to results of the survey and its statistical analysis. This stage provides improvements where possible.
Third stage: Design purchasing policy
aspects, improvements, measuring systems and advice have been written out. This is discussed within the organization, in order that the improvements fit with the organizational goals. When the policy is formulated, the strategy is computed. When needed, adjustments and advice for the current process were given and the implementation of the improvements and adjustments were reproduced. Recommendations for further improvement and research have been mentioned when it was necessary. The outcome of the last stage is a purchasing policy and strategy.
3.5. Limitations / Research constraints
During this research are there a few limitations that could influence the results of the research, like;
The accessibility of secondary data Limited period of time
Language Confidentiality
The research is based on the accessibility of secondary data. The purchasing department in the organization is small however, and does not have the capacity to help the researcher every minute of every day. The researcher depends on a few people.
The research will permit a period of five months. This is too short period to go into broad depth about all of the problems in the organization, therefore the researcher preferred to focus on the given problem, see page 7. The problem is still wide and complex, so a result, the research will operate within the following format. The research will aim on a few aspects, namely;
Structure and clarity of the purchasing process Relationship management
Supplier selection process
Other aspects and problems in the purchasing process and other departments within the organization will be omitted in this research.
Another limitation is the language. The present work is in English and the language of the organization is in Dutch. This could lead to different translation of terms. These three points could influence the result of the research, so these possible deviations must be taken into account.
4. Theoretical part
According to many reports, Supply Chain Management is the 21st century global operations strategy for achieving organizational competitiveness. In these reports there are many authors who agree with this statement, and every author has his explanation and perception of Supply Chain Management. In this research the perception of ‘Van der Vaart’ and ‘van Donk’ will be utilized: The goal of integrated supply chains is to remove barriers to ease the flow of materials and information.
To satisfy the end customer, companies need cooperation throughout their network. It is not a company, but a network of companies that together serves the customer (Kamann, 2005). Network coordination is not only important for cooperation and information, but also for the competition these days. Each organization has to coordinate and adjust their value chains in such a way, that the final customer selects their own network above the competitive network. Supply Chain Management has been a hot item for many years. A close relationship, intensive cooperation, and sharing of information are the basic elements for a supply chain. The final customer wants their product fast, cheap, and with the right quality. That is why it is important to act pro-active, professional, fast and cooperative with your network partners to satisfy the final customer (Kamann, Bakker, 2004). Suppliers should be seen as resources (Kamann, 2005). Instead of simply monitoring current developments, management must learn to make things happen to its own advantage. That is why Kraljic stated; ‘Purchasing should become supply management’.
A good and successful purchasing strategy is determined by organizing the process of strategy forming (Streefkerk, 2006). A new or redesigned purchasing policy could be implemented through a few logical steps, namely;
1) Basic assumptions and boundary conditions: This research will start to generate a mission, vision and the level of ambition.
2) External analysis: An analysis of developments in the direct and the indirect environment of the purchasing function.
3) Internal analysis: An analysis of the quality and quantity of the purchasing function within the organization.
4) Comprehension and choice of strategy: Formulate a risk analysis and estimate if its is achievable to determine strategic choices.
5) Elaboration and planning: Explore the choice of strategy to a consistent set of measures and objectives.
6) Implementation and monitoring: To establish the new purchasing strategy and adjust, quickly if required, the reached results.
4.1. Basic assumptions and boundary conditions
To develop a new or redesigned purchasing policy and strategy, a close cooperation with the purchasing department is necessary. Cooperation is needed especially from the purchasing manager, because her wishes and objectives from the different purchasing functions should be considered. The main information should be gathered with the purchasing manager and the initial purchasers, because they install and accomplish the strategic purchasing policy. Depth interviews, meetings and questionnaires should be used to get useful information. The operational purchasers are also important to the research, because they know how the suppliers operate, and how the current cooperation with these suppliers is maintained.
At the start of the research, the researcher should make clear to all the employees of the purchasing department what the significance of the research is. What could be reached when the researcher has full cooperation and support of all the employees, and what the objective is of the research. The employees should reserve time for interviews, meetings and other questions.
Another important aspect is the gathering of data. How should the research be filled in? To have an understandable and obvious view of this objective, close cooperation with the principal, the purchasing manager, is needed.
This first step is very important to keep consensus between the expectations of the different persons who are involved in this research. Picture 4.1 demonstrates that there are a lot of different aspects which involve the research, and should be considered. It also presents that the basic assumptions and boundary conditions are very important for the rest of the organization.
4.2. External analysis
Spekman et al (1994) supported the view that purchasing must take on a strategic role through nurturing the firm’s supply relationships in such a way that it can build competitive advantage. Many other authors agree. In most firms, purchasing determines an important part of the competitive position. According to Herbeling (1993), purchasing accounts for 60 to 70% of total expenditures. Specify and selecting the right suppliers becomes more and more important. In uncertain times like this, the need to build flexibility, agility and mutual support into networks is a better way to secure long-term continuity (Kamann, 2004). Purchasing, or supply management, is becoming a strategic function. The purchasing function will be
valuated differently in each organization. It depends on the availability of the product, the strategic importance of purchasing (f.e. production or assemblage organization), and the complexity of the supply market. The greater the uncertainty of supplier relationships technological developments, and/or physical availability of those items, the more important supply management becomes (Kraljic, 1983).
The world of purchasing is changing rapidly. New technologies are available, which makes it possible to collect information much faster. The quantity of information about customers, competitors, markets, substitutes, governments, and suppliers could change the market position rapidly (Streefkerk, 2006). Porter described this situation in a model, see figure 4.2. The model strives to offer a clear insight of market relationships and dynamics.
This analysis should not be analyzed very deeply, but it could give insight in existing perceptions. It could, for example, show that the organization is too dependable on one supplier. To amplify their own competition position, searching for other suppliers to replace the current supplier, could be a solution (Berenschot, 2006).
4.2.1. Position of suppliers
When an organization wants to create a more supplier focused purchasing process, the position of the suppliers will be very important. Small firms have smaller financial resources to invest in quality or performance improvements and are probably able to draw on less comprehensive management experience (Gulbro et al, 2000). Supplier selection and assessment are widely seen as means by which improvements in supply relationships can be achieved through engendering close co-operation, communication and interaction (Hines et al, 2000; Lamming, 1993; and Quayle, 1998).
Lamming and Harrison (2001) concluded that the difference in size between a smaller customer and larger supplier is an issue in applying the theories and classifications of strategies and relationships in supply chains and networks, but that is not in itself a reason to eschew them. A small company operating in a niche market, or offering specific expertise to its customers, may hold a more important position in the view of its larger supplier than might be expected prima facie, given its size (Lamming and Harrison, 2001). Also in mature markets, the potential exists for smaller customers to benefit from working with enlightened larger suppliers (Lamming and Harrison, 2001). It appears that larger suppliers scan their sales market for smaller customers for their potential to grow. It was also apparent that suppliers thought smaller firms might offer the advantage of being easier to work with than larger companies (Lamming and Harrison, 2001).
The research of Lamming and Harrison concluded that “Partnership” is being an overused and misused concept, but during the last years suppliers and customers felt they needed to work more closely together. The research of Lamming and Harrison presented that any formal supplier assessment should be undertaken selectively by smaller customers.
To understand the actions of the supplier side, Hugh (1998) made a method that does take the supplier’s perspective into account. Picture 4.3 will present this method. The vertical axis
describes the complexity of the buyer market (the amount of buyers from the suppliers) and the horizontal axis describes the complexity of the supply market (the amount of suppliers). This method finds four quadrants, namely;
Generic items; Standard commodities Tailorized items; Mass customization Proprietary products; Monopolistic products Custom design; Custom made products
Generic and proprietary items have standard specifications. With tailorized items, some customization can take place, and the custom design items will be one-to-one relationships.
4.3. Internal analysis
When an organization wants to make changes in their purchasing policy and strategy, the current situation, first off, must be visible. Inside the organization it is very important to gather the right information quickly and effectively, through qualitative and quantitative purchasing diagnosis. The quantitative diagnosis will exist out of:
4.3.1. Spend analysis / Creditors analysis
Spend analysis is one of the most important parts of strategic sourcing. Spend analysis is the systematic review of historical purchase data (Dominick, 2007). Before you can source anything strategically, you have to know how much you're spending, whom you're buying from, how much you are spending with each supplier and what parts, materials and other tools you're getting from each supplier. This form of analysis is indispensable to create savings and to improve the purchasing function.
Reports describe the order of work in purchasing improvements programs as follows: first it is necessary to identify the savings potential, subsequently, to realize the savings and finally, to hold these savings. Theoretically this appears very simple, but the practical issue is much more difficult.
To identify the savings potential, you need the results of the spend analysis. The expenditure for the specific period of time will then be visible. Who purchased what, from which supplier, and for which amount. When this data is surveyed, possible savings can be identified. Certainly the current contracts with the suppliers will be taken into account into the analysis. The necessary input for this analysis is; ‘the name of the supplier, the number of invoices, the amounts of the invoices, the definition of expenses, and the definition of the place of expenses (user, department) (Kamann, 2001). The output of a spend analysis is a summary of purchases by various variables, the suppliers with the highest turnover, and the suppliers who are responsible for the greater part of the invoices will be visible. The costs of each invoice will convince the management, and the costs of each step of the purchasing function will be visible.
The alert purchaser allocates a spend analysis in the context of the 80 / 20 rule and the Kraljic matrix. This makes it possible to define the savings potential of each purchasing strategy.
4.3.2. 80/20 analyses
To consult the whole spend analysis for a specific period of time, the organization will get inside in the relation between the number of creditors and the belonging purchasing value. A lot of theories (Berenschot, 2006; Kamann, 2001) state that 80% of the purchasing volume is acquired with just 20% of the number of suppliers, while 80% of the suppliers just
represent 20% of the purchasing value, see figure 4.4. The Pareto diagram could be used as graphic report for the Pareto-analysis, to indicate the share of each product in the total turnover (Berenschot, 2006). When less than 20% of the suppliers are responsible for 80% of the purchasing turnover, this will indicate that the organization is dependent to a limited number of large suppliers.
When this primary analysis is completed, the option of bundling purchasing volumes will visible and understandable. The same analysis could be accomplished for the average number of invoices. The amount of invoices should be matched to the average administrative costs of the invoices in order to discover any outstanding discrepancies. After this analysis is completed, it could determine what amount (in percentages) of invoices will be sent by the suppliers who deliver 80% of the purchasing turnover (Kamann, 2005).
The purchasing turnover of each supplier might be compared with the number of invoices of each supplier, to find out what the ideal fit will be.
4.3.3. ABCD Analysis
The ABCD Analysis is a more profound analysis of the turnover. It gives each classification of turnover:
The percentage of the turnover of the supplier in the classification The percentage of suppliers in the classification
The percentage of all invoices who are sent by the concerning supplier
An invoice is essentially a detailed bill left by vendors and outside suppliers for goods or services rendered to a company. A typical invoice might list the quantity of each item, prices, billable hours, service description and a contact address for payment (Wikipedia, 2007). Through the number of invoices sent by each supplier, the division of frequency, and the value of each invoice, classification of the suppliers will be possible. The value of the invoices will be divided in four classes (Kamann, 2005), namely;
Less than 250 250 till 500; 500 till 2500; 2500 and more.
A graph will present these results, and make them tangible. Most likely, 45% of all invoices a company receives amount to less than 200 Euro (Kamann, 2005). In the routine products, usually more than 85% of all suppliers are found, supplying less than 10% worth of all inputs
and causing at least 60% of all invoices and therefore organizational costs (Kamann, 2005). This will make the routine products or needless services expensive. These results should convince the management and stimulate them to take action. The purchasers must come to terms with the concerning suppliers about sending invoices, reducing small suppliers within the head of expenses, and bundling small expenses by the same supplier.
The purchasing department should ask themselves how many suppliers and invoices satisfy the current need, and what is the reason they buy the product with the concerning supplier.
4.3.4. Time dedication analysis
During this analysis the costs of the purchasing process will be calculated. In the literature there are many different descriptions and divisions of the purchasing process. In this research the definition of Kamann will be used. According to Kamann (2001), the purchasing process is divided into 9 steps, namely; Perception / Market scanning, Specification, Supplier selection, Contracting, Ordering, Expediting, Registration, Paying, and Evaluation.
To calculate the total costs of each order, the different steps of the purchasing process should be analyzed. The total cost of each order will be the sum of the costs of all the different steps. Each step should be discussed and give answer to the following questions; “ Who is acting during this step, what kind of actions should be accomplished during this step, how much time does each step take, and how much does each step cost (time x salary)?”
The initial purchasing process will count the first four steps of the purchasing process (perception, specification, selection and contracting).
Perception: In the first step, the organization will notice that they need something. At the end of this step, the organization has a clear view about what they need.
Specification: The specification step will define a start for the next step. During this step, a clear, precise, and understandable specification of the needed materials or services will be written down.
Selecting: In this step, the organization will find a solution for the specified need. A supplier will be selected.
Contracting: To sign a clear and unambiguous agreement is the focus of this step, therefore, during this step it is very important to have a clear view of the expectations of both sides and see that there is consensus between the two parties. At the end of this step a contract will be signed. The degree of contracting is determined for the success of the discipline (Vos, 2006). The focus during these steps will concentrate on obtaining and maintaining optimal delivery contracts. This will not only be focused on costs, but also on selecting the supplier who delivers the most attractive economic conditions and fulfils the wishes and requirements of the organization.
The operational process will count the last five steps of the purchasing process (order, expediting, registration, paying and evaluation). In the operational purchasing process, the specifications and purchasing conditions are already fixed. The focus during these steps will be on optimizing of the operational processes.
Expediting: In this step, the ordered materials or services will be received. During this step it is very important to control the incoming goods and store them in the right place in the warehouse.
Registration: The registration of the fact sheets will be handled in this step. The issue of what was arranged and that what is desirable will form the basic element for leading and adjusting the suppliers and their own organization. The Key Performance Indicators (KPI’s) will form an important source of information for effective supplier and contract management. Through reporting the facts, purchasing could provide insight to their added value.
Paying: In this step the ordered materials or services will be administrated and paid. It is very important to pay within the agreed period, to satisfy the suppliers.
Evaluation: In this step the purchasing process will be discussed. Measurement of the results will take place. During the evaluation the organization will find out how the process went, and if the required objectives are obtained. This step will be the basic element for success and is very informative. Learning and comparing with others will help the organization to guide the further purchasing improvements.
This analysis will result in an overview of the cost of each step, the costs of each invoice, etc. The return on investment-model (ROI) by DuPont is a model to calculate the effect of purchasing savings on the earning capacity of the investment capacity (DuPont, 1999). This model shows that a saving on the purchase bounded expenses of 2% presides an improvement of the earning capacity on their own capacity of 25%. Small percentage purchasing savings have a great positive impact on the affectivity (Berenschot, 2006). This will give direction to necessary improvements and taken actions. The costs of each step will depend on the classification of the different suppliers.
A lot of research states, that purchasers make a clear distinction between alternative purchasing strategies (Caniëls and Gelderman, 2005). The Kraljic purchasing portfolio approach divided these strategies in four quadrants to develop strategies for single products or product groups (Caniëls and Gelderman, 2005).
4.3.5. Portfolio thinking
The way an organization deals with their suppliers depends on the kind of product that is purchased. The portfolio approach of Kraljic differs in two dimensions, which a specific and directed supplier strategy can be elaborated:
1) The influence of the trading-results: the focus will mainly be on the relation between the purchasing value and the cost-price of the final product.
2) The purchasing risk: this risk will mainly be established by the complexity of the buyers market. Delivery reliability and substitute suppliers play an important issue in this risk.
Kraljic
The first ambitious portfolio approach for purchasing and supply management is introduced by Kraljic (1983). Kraljic presents a four-stage approach as a framework for developing supply strategies for single products or product groups (Caniëls and Gelderman, 2005), see figure 4.5. Different supplier strategies can be positioned into a 2 x 2 matrix and creates a classification in four quadrants, namely: strategic, bottleneck, routine and leverage items. To divide the current suppliers in these four quadrants will simplify and make the selection and relationship of suppliers understandable.
Previous research and empirical evidence presented that the division line between the upper and lower part can be set a 3% of the total spend on inputs (Kamann, 2003). When an article costs less than 3% of the total spend in a year, the article will be positioned below the line and articles that costs more than 3% of the total spend will be positioned above the line. The boundary line between the left and the right is highly an issue of intuition. To asses this boundary line, two points will be considered in this research, namely: “Is the product very unique and supplier specific, or customer made? Is the supplier easy to substitute and what is the value of the product?”
The lower-left quadrant is the routine quadrant. In this quadrant, the organizational costs are more important than the invoiced costs (Kamann, 2003). These items require efficient processing, product standardization, order volume and optimum inventory (Gelderman and Van Weele, 2003). The organizational costs will be reduced as much as possible through electronic ordering systems, 2-bin methods, etc. The products that are placed in this quadrant are easy to obtain, the value is low, and contracts usually last 1-2 years.
The top-left quadrant is defined as the leverage and service quadrant. In this quadrant are the products easy to obtain, but because of the high volume of products, discounts are interesting and needed to create the leverage effect. Leverage items allow the buying company a way to exploit its full purchasing power, for instance through tendering, target pricing and product substitution (Gelderman and Van Weele, 2003).
Third, the top-right quadrant, defines itself as strategic partnership. This quadrant marks itself with high costs and unique suppliers (Kamann, 2003). In this quadrant are close, intensive, cooperative and long term relationships which are both appropriate and desirable.
Finally, the lower-right quadrant is defined as the bottleneck quadrant. This quadrant characterizes itself with specialized products, a low availability of suppliers, but the value of the products is not intrinsically high. When an organization has items in this quadrant, they need to look for standard and available substitutes.
The general idea of Kraljic’s model is to minimize supply risk and make the most of buying power (Kraljic, 1983). To create a clear and understandable overview of the most important suppliers of the organization, depth interviews and meetings are necessary. Meetings with all
Figure 4.7
the employees who have contact with the concerning supplier will give an comprehensible view of the supplier, and to locate the suppliers in the Kraljic.
To fill in the Kraljic model, appointments should be made with the different purchasers of the organization. A questionnaire should be sent to the 30 biggest suppliers, to get information about the perception of the organization from the side of the supplier. All the purchased articles and the suppliers should be discussed. To control changes in purchasing situations of product groups (commodities, specialties), maximum added value should be reached. The different products or services could be divided to different purchasing situations with the help of portfolio models (Zijtveld, 2006).
4.4. Appreciation and choice of strategy
First of all, the results should be analyzed and further discussed, and the prominent issues must be separated from the side issues. This detailed analysis should lead to a new, or redesigned, purchasing vision and mission. Facts
might be discussed with the employees of the purchasing department. Finally, the new vision and mission should be elaborated into strategic options. To make improvements to the purchasing process, it is important to consider the human aspect; the Habitus. The Habitus is a structured structuring structure (see picture 4.6), through which the process influences the employees (Kamann, 2006). The past experiences built up a cultural organizational memory. The modus operandi, a specific way of doing things, should be broken through. This also counts for the mental map,
which is a frame of reference. This should be expanded as well, which means that the organization has brought new ideas into the organization. A fresh look on the current way of doing things and social interaction in networks leads to people influencing and conditioning each other. The group process should get a fair chance, without dominance of management or individuals in the group. Creativity is needed to find equality and realism, in consensus with the level of aggregation, to determine a new purchasing policy (Kamann, 2006).
The culture of the organization will determine the importance of the purchasing policy and purchasing strategy. The purchasing process depends on the employees, the materials, the structure, and the supply chain or the value chain, see figure 4.7.
The purchasing function will be a reflection of the policy, organization and processes (POP) of the organization. When the organization makes a decision about a new or redesigned purchasing policy and strategy, it must fit with the policy and strategy of the organization. The added value of purchasing will be determined by the degree of support to the organization (Kamann, 1999). Choices should be made, and to fulfil these choices, elaboration and planning is needed.
4.5 Elaboration and planning
During this step, the choice of strategy will be explored to a consistent completeness of measures and objectives. When the organization wants to elaborate on the made choices, a punctual planning and a detailed timetable will be needed.
The strategies for the suppliers can be filled in step by step. The POP model will be used in combination with analysis, guiding, and deciding of the purchasing policy, organization and processes. Based on observed bottlenecks, optimum purchasing processes could be looked at. (Berenschot Procurement, 2006).
4.6 Implementation and monitoring
5. Case study
5.1. Basic assumptions and boundary conditions
The objective of this research is to review the current purchasing operation process, and when possible, give advice for improvements. Before making assumptions and improvements, the current purchasing process should be clear. In this part of the research, an overview of the current process will be presented. The importance of this research is the visibility of the “zero situation”. To compare this “zero situation” (the actual situation), with the theoretical situation, it will get through possible tangible misconceptions about the current working process, and will it be the start for the improvement process. The process will be accomplished on the lowest level of aggregation. This will lead to the lowest level of the value chain, the bill of materials of the purchased components (not sub-assemblies). This means that this research will be focused on the purchased components that are acquired with external suppliers.
The following paragraphs will present a current overview of the organization, conclusions and possible recommendations. In the first paragraph the ‘zero situation’ will be evident. Conclusions will be made in the subsequent paragraph, and in the final paragraph, the possible recommendations will be provided. The sub-question that will be answered in this paragraph is:
What is the current policy and strategy of the purchasing department? What does the current operation process look like?
Through answering this sub-question, it will be possible to make conclusions, statements, and other remarks to the current purchasing process. The current purchasing process will be analyzed, and can be compared to other processes within the organization. It could also be compared to theories or other purchasing processes of comparable organizations to make improvements. This case study will concentrate on the current way of operating in the purchasing department. The current purchasing wallet will be described in figure 5.1.
Cost of sales Personnel costs Warranty costs
Advertising and marketing costs Housing costs car costs Freight costs Development costs Other costs Extraordinary costs Other personnel costs Advisory costs etc. IT-costs Stationary Communication costs Insurance cantine costs Warehouse costs Cost of sales Personnel costs Warranty costs
Advertising and marketing costs Housing costs car costs Freight costs Development costs Other costs Extraordinary costs Other personnel costs Advisory costs etc. IT-costs Stationary Communication costs Insurance cantine costs Warehouse costs
In the circle diagram above, it is clear that the cost of sales is the biggest part of the purchasing wallet, namely 64 percent. This study will be focused in this area, not only
because this is where there are the most opportunities to improve, but also because improvements here will have the greatest results.
After a few months examining the purchasing department of PRIMA a lot of information from the current working process came to the light. Given that PRIMA is a small player in the market, it is difficult to stay competitive. To compete against larger competitors PRIMA has the vision to stay a niche player in the market, with exclusive, high quality products, with excellent service and a high level of ambition. To accomplish this position, PRIMA has stated the mission;
Deliver a high quality CH boiler, which is unique and delivers an attractive margin to the customer.
This mission indicates that the whole process of PRIMA should take the customer into account. This means also that the purchasing department must be aware of the requirements of the customers. The customers of PRIMA are wholesalers and dealers. They will advise and install the boilers to the final customer. For that reason it is very important to understand the needs and requirements of the customers, thereby staying an attractive player in the market. There is only one problem; does PRIMA know how attractive their margin is and what their customer wants? The answer is no, because PRIMA does not know how high the margin per boiler of their competitors is. It is very difficult to determine when their margin would be attractive for their customer. During the research various customers in the north of Holland where questioned undercover and asked; “Which boiler would you recommend?” Conclusions based on this research concluded that 99% of the customers recommended a boiler from a competitor. This could mean that the PRIMA boilers are too expensive, or that they where not satisfied about the quality. This also indicates that the customers of PRIMA prefer to sell a boiler of a competitor, providing good concern that the wants and needs of their customers is missing.
Another important aspect for a good strategy is a clear policy within the whole company. The mission, vision, and strategy will give a clear picture of the goals for the future. Through this clear picture, PRIMA can anticipate their processes. The future will prove if the vision, mission and strategy will work out. It is very important to have these three points in the back of your head to give direction to the development of the organization. After many interviews with employees from different departments of PRIMA, it was obvious that the vision, mission and strategy of the organization are not clear within the organization. Each employee has their own picture about these items and this leads to different working strategies between the departments. This divides the organization in several free-standing islands where cooperation is hard to find.
The vision, mission and strategy of the purchasing department are totally unknown on the work floor. The most employees stated that they have the feeling that the vision and mission of the organization changes day by day. Generally the employees stated that the mission, vision and strategy focus too much on maximizing the turnover.
It could be stated that at this moment the purchasing department has another vision and mission than the other departments, for example, like the sales department. This leads to disorder and confusion internally and externally in the organization. Figure 5.2 presents several links that are missing within and around PRIMA at this moment. The circles present the keys to a successful operation. The lines between these circles describe the missing links, or problems, to determine the right keys for PRIMA.
The mentioned problems in this model will be further discussed in the internal analyses. Research has shown that the level of ambition exists in the organization, but a start has to be made.
5.2. External analysis
Specify and selecting the right suppliers becomes increasingly important. Not only should the internal situation be considered, but also the external situation must be taken into account. The PRIMA process should correspond with the environment of PRIMA. Before designing a purchasing policy, it is important to understand your environment. To describe the environment of PRIMA, this research will use the model of Porter. The model of Porter will reproduce a clear insight of the market of PRIMA, which will be illustrated below.
5.2.1 Model of Porter
Industry rivalry
The competition against PRIMA is intense, national and affects the level of service, relation and margin. The competition exists out of strong and great international competitors (BBT, Remeha, Vaillant, Baxi) who also have strong local players in each country (Daalderop, Intergas, Keston, Wolf, MAN, etc.).
The competitors are often greater than PRIMA, which could create advantages, like economy of scale. PRIMA is too small to compete on quantity, and according to PRIMA, economy of scale is not an option. The sales department of PRIMA declares that there is no competition in the area of quality. The management of PRIMA also proclaims that PRIMA wants to be a niche player in the luxury segment. According to the sales department, PRIMA is distinguishing them self through delivering high quality in the luxury segment. The biggest competitors in this segment are ‘Nefit excellent’ and ‘Daalderop’. PRIMA wants to compete in this segment with less maintenance, less falling-out, producing warmer, water and gas. PRIMA competes with a unique product, which will diversify them from the compatible products. The positive side of this, is that the European market is extremely damaged, which means that there are a lot of opportunities to survive. The negative side of selling a unique product is that through training and composition, the boundary to switch over is reasonable high. This is also a positive point, because this is precisely where PRIMA leaves a lot of competition behind. It will be difficult, for the competitors and for PRIMA, to focus on another market.
Increasing competition will appear in the margin for the dealer. PRIMA offers the dealer a higher margin, which must result in good advertisement for PRIMA. This could also create long term relationships with the wholesaler and representative. The internal analysis will further attend to this matter.
Power of suppliers
cost of changing equipment of PRIMA (steel). Later in this chapter this subject and the opinions of several suppliers be discussed.
Availability of Substitutes
PRIMA management stated that substitutes and innovations will provide a threat after a certain amount of time. PRIMA has the perception that they are an innovative organization which is of great importance for positioning in the market, but contradictory to this statement, PRIMA is preparing very few actual innovations. They know that the needed investments are high and this should be seriously considered in the future.
Power of customers
PRIMA operates in a conservative branch, which means that you have a customer for many years. In the last few years the power of bargaining for customers is increasing. The increasing competition of manufacturers as a result of repression in developed countries (the Netherlands, Germany, United Kingdom) will give the customers more power. The four main customer groups for PRIMA are:
Renza
Technische unie Vihamij
Vegro
Customers require a strong level of knowledge and increasing participation as the dealer in the chain. PRIMA offers the dealer a high margin, which must result in good advertisement to the final customer for PRIMA. Research showed that the practice differs from this situation, plus the dealer or wholesaler is not always satisfied with the service of PRIMA. A visit to different dealers and wholesalers in the north of the Netherlands told us that these customers are not always that positive about PRIMA boilers. Most dealers advised boilers from competitors and presented other leaflets. When the brand PRIMA was mentioned by the final customer, the dealer said that the boilers are of good quality, but they did not know why the boiler was better than the boiler of the competitor. Because of the difference in price, it is important for PRIMA to convince the customer of the good quality. Some of the dealers did not have a leaflet of PRIMA in their showroom, and could only find one in the back of closet. PRIMA depends on these dealers and wholesalers, because they sell the product to the final customer. A good relationship with your customers is of significant importance.
Barriers to Entry
The risk of new entries is possible, because suppliers could choose for independent presence to the market. Another risk could be a new developed boiler with an acceptable switch technology. This barrier is quite high, because of the sensitivity of innovation (knowledge and costs).
5.2.2. Position of suppliers
PRIMA wants to create a more supplier focused purchasing process, so the positioning of the suppliers will be very important. The questionnaire is composed out of several questions which are answered on a ‘Likert scale’. The suppliers could answer from a range between 1 to 7. 1 means that the supplier is in disagreement with the question and 7 means that the supplier agrees with the question. The answers were neutral in general. The questions addressed the following topics: Supply Chain Management, communication at management level, communication at an operational level, the current relationship, the buyer-supplier relationship, conflicts, and cooperation. These several points will be discussed below;
Supply Chain management
The questions about Supply Chain Management stated that the suppliers are in general, slightly informed about the wants and needs of the final customers. The suppliers gave a 5 to the question regarding the needs of PRIMA, and disagree (2.9) with the statement regarding the needs of the customers from PRIMA are.
Communication
PRIMA scores not very good concerning the communication on management level. In general, the suppliers answer that PRIMA does not inform them frequently about the new developments in the market (score is 2.9) or about new developments at PRIMA (score is 3.5). All of the suppliers stated that PRIMA does not regularly discuss the progress of the relationship with the relating supplier, and gave a general value of 3.7. The suppliers indicated with a score of 4.5, that they send useful information that helps PRIMA with their process. The questions about communication on a management level are rated between disagreement and neutral.
The communication on operational level scores a little bit better. The suppliers allocate a score of 4.6 because PRIMA always sends the supplier the right information to perform as optimally as possible. The question regarding if quality demands are communicated clearly to the suppliers was criticized with a 5.3. The communication on an operational level will be rated on a neutral level.
Current relationship
The questions about the current relationship were answered neutrally. The suppliers indicated that they trust the business method of PRIMA with a 5.4, and gave a score of 5.5 to the faith in the relationship with PRIMA. The integrity of PRIMA is appreciated with a 5.4. The statement that PRIMA always keep their promises is rated with a 4.6. Overall, it could be generally stated that the current relationship is rated as a little bit above neutral.
The question about the part of the suppliers was very positive. The suppliers indicate with a value of 6, that they do their best to maintain the relationship with PRIMA and to support continuity. A score of 5.7 stated that the suppliers are very dedicated to the relationship with PRIMA. The suppliers also agree, indicated with a value of 6, with the statement that the relationship with PRIMA is a long term alliance and that they have a strong loyal feeling towards PRIMA. A general score of 5.7 indicates that the supplier would like to have a more intensive relationship in the future.
Conflict and Cooperate
The subject conflict is rated with a 5.9, and that is very positive. Suppliers indicated that problems between them and PRIMA will be solved on an equal base. Problems should be seen as ‘usual’ and will result in advantages for both sides, according to suppliers this should be rated with a score of 5.3.
For the subject cooperation the suppliers adjust their processes for PRIMA mainly in the area of product characteristics (rated with a 5.2), Stockpile management (rated with a 4.7), and neutral on Engine compound, tools, or other production equipment (rated with a 4.4), and less on employees (rated with a 4). This concludes that the suppliers do not adjust their processes very much to the process of PRIMA.
The suppliers mention that they consider the current relationship with PRIMA as cooperative (rated with a 5.1), but disagree with the fact that PRIMA discloses their product development process (3.9), and that the targets are formulated together (3.8). The score of 2.5 indicates that the relationship between PRIMA and the suppliers is not considered as cold and passive, but both sides do what they need to do, and nothing more.
A neutral response to the statement of a combined planning means that the planning sometimes will be carried out together, but mostly PRIMA makes their own planning.
The suppliers disagree with the statement that PRIMA has a great share in the turnover of our organization, and rated this with a 2.7. A rate of 2.1 for the dependability of PRIMA concluded that the suppliers do not depend on PRIMA. According to the suppliers, they do business with PRIMA on an equal level and rated this with a 4.9.
The suppliers think that their product is important for the production process of PRIMA, and valuated this with a 5.1, but they disagree with the fact that there are no alternative suppliers who can make the same product (3.4). The same counts for the availability of alternative products on the market, which is answered neutrally with a score of 4.
Unfortunately the number of participants (suppliers) should be considered in this research. Despite making many inquiries about the reality of these answers, the small response could interpret the answers differently than from the actual situation. On the other hand, PRIMA must ask itself why the number of participants is that small. After so many kinds of connections, PRIMA must consider why the suppliers did not answer the questionnaire, especially when it declared to make improvements to the several relationships, see attachment 2.
-10% 10% 30% 50% 70% 90%
Ta ilorize d Custom design
V
a
lu
e
Gene ric Proprieta ry
Amount of suppliers Few Many
5.3. Internal analysis
Where the external analyses mainly attend to circumstances of the market, the internal analysis will treat the relative strong and weak points of the organization in comparison with the direct competition. Areas of consideration are: education, experience, know how, innovation, marketing strategy, internal organization, goodwill, turnover, spend analysis, profit margin, production quality, investment space, etc.
This section will create an overview of the current situation, so that it will be possible to give advice about possible improvements. A clear overview of the current purchasing portfolio will describe the current Spend Analysis.
5.3.1. Spend analysis
The Spend Analysis helps PRIMA reduce enterprise spend across suppliers and commodities through increased visibility into procurement information. PRIMA can control corporate buying power for improved cost savings and determine how to buy more effectively and efficiently from valued suppliers.
This strategic solution lets PRIMA identify not only from whom they purchase, but also what, when, and how these items were purchased. The current spend of PRIMA is described beneath:
(Euro’s x 1000)
Purchasing value 2004 2005 2006
Sales turnover € 46.636,00 € 37.096,00 € 41.175,00 Total purchasing value € 45.995,00 € 32.893,00 € 31.437,00 Primary purchasing process € 29.550,00 € 24.217,00 € 25.620,00 Purchasing investment goods € 1.852,00 € 1.432,00 € 732,00 General and technical services € 14.593,00 € 7.244,00 € 5.085,00
Purchasing value as % of the turnover 99% 89% 76%
