Master Thesis:
Choosing proper purchasing strategy-
An empirical research in international purchasing centre
Student Name Min Fang Student number s1741713
Company company X Taiwan
Department International Purchasing Centre
University University of Groningen
Address P.O. Box 72, 9700 AB Groningen,Netherlands Department Faculty of Economics and Business
Supervisors (Company) MY Choi
Fiona Wu
Supervisors (University)
Primary supervisor: Dr. M.P. Mobach Secondary supervisor: Dr. G.A. Welker
Table of contents
PREFACE
MANAGEMENT SUMMARY
Chapter 1 The organization 8
1.1 Overview 8
1.1.1 Product characteristics and organizational structure 8
1.1.2 Supply chain and task 9
1.2 IPC description 9
1.2.1 Taiwan IPC history and structure 10
1.2.2 Order-to-delivery process 11
1.3 Research motivation 12
Chapter 2 Research design 13
2.1 Problem analysis 13
2.2 Problem statement 14
2.2.1 Research objective and questions 15
2.2.2 Sub-questions 16
2.3 Conceptual model 17
2.4 Research method 17
2.5 Restrictions 19
Chapter 3 Theoretical concepts 20
3.1 Definition of purchasing strategy 20
3.2 Variables which affect purchasing strategies 21
3.2.1 Variables in literature 21
3.2.2 Dependence on supplier 21
3.2.3 Percentage of purchased cost 22
3.3 Four different purchasing strategies 22
3.4 Formulating a purchasing strategy to improve delivery performance and employee morale 23
3.5 Summaries and conclusion 26
Chapter 4 Diagnosis phase 27
4.1 Two variables in IPC 27
4.1.1 Percentage of purchased cost 27
4.1.2 Dependence on supplier 28
4.2 Purchasing items category 32
4.3 Purchasing strategies and performance in the IPC 33
4.3.1 Purchasing strategies 33
4.3.2 Performance under current purchasing strategies 34
4.4 Summaries and conclusion 36
Chapter 5 Design phase 37
5.1 Designing a purchasing strategy for strategic items in the IPC 37
5.1.1 Purchasing strategy for strategic items 37
5.1.2 Operating the purchasing strategy for strategic items 38
5.2 Designing purchasing strategy for bottleneck items in the IPC 39
5.2.1 Purchasing strategy for bottleneck items 39
5.2.2 Operating the purchasing strategy for bottleneck items 40
5.3 Summaries and conclusion 41
Chapter 6 Conclusion and recommendations 42
6.1 Research objective and questions 42
6.2 Recommendations 44
Reference 46
Appendix 1 Detailed Order-to-delivery processes 49
Appendix 2 Interview questions with sourcing team
5 0
Appendix 3 Interview questions with logistics team
5 1
Preface
This is the final version of the thesis about finding the appropriate purchasing strategy for company X Taiwan IPC. Before I began the master program in the University of Groningen, I worked at Taiwan IPC as the purchasing specialist for almost two years. I gained a lot of practical experiences from this job and it raised my interest to the field of operation and supply chain. This working experience is also the main reason for me to choose my specialty of master program. Thus, when I have to decide the research object for my master thesis, Taiwan IPC was my first choice. I would like to provide some contribution to Taiwan IPC after study the field about operation and supply chain two years in RuG.
Here, I have to show my deeply appreciation to all my formal colleagues in Taiwan IPC for continuous providing the data for this thesis. Especially my formal manager, Mr. Choi, his fully support makes this research can smoothly proceed. And I would like to thank Fiona Wu, Eva Huang and Jack Chen for their time to assist me to collect the information.
I sincerely thank Dr. Mobach from RuG for his continuous and patient instructions. Particularly the effort made in reading and criticizing the thesis several times, by Dr. Mobach is worth
showing special gratitude. Meanwhile, I would like to thank my second supervisor from RuG, Dr.
Welker, for giving me some useful suggestions which makes this research more complete. And I would like to thank all my classmates who gave me advices and ideas during our discussion.
Finally, I want to thank my dearest families in Taiwan and especially my boyfriend Alisher for supporting and encouraging me all the time. Without their loving care it is impossible for me to finish this master.
Groningen, Sep. 2009 Min Fang
Management summary
This research is a case study of an international purchasing centre in Taiwan. This IPC takes charge of all purchasing activities in Taiwan for company X. For this purchasing centre, as for others, providing the correct material on time so as to not delay production plans is of paramount importance.
However, the managers of this IPC currently experience poor delivery performance, stemming largely from the difficulties posed by rush orders, and this poor performance has in turn increased pressure on employees. The fast life cycles, and high variation among, electronic products make it difficult to predict future demand. This volatility in demand results in numerous rush orders, which give suppliers shorter than the normal lead time for delivery. The IPC’s difficulty in managing supply status is at the root of its poor delivery performance, and consequently of the low employee morale.
A review of the scholarly literature addressing such problems suggests an appropriate purchasing strategy would allow the company to manage supply status better and improve delivery
performance. More specifically, the literature demonstrates that the company should apply different purchasing strategies according to the characteristics of the items purchased. There are two variables which determine the pertinent characteristics of items: percentage of purchased cost and level of dependence on supplier. The present research, based on the above ideas, will proceed with the following research question:
Based on the dependence on the supplier and the items’ percentage of the total purchased cost, which purchasing strategy should the Taiwan IPC apply in order to improve delivery performance and employee morale?
The literature demonstrates that the purchasing items can be divided into four categories by purchasing amount proportion and level of dependence on supplier. The four item categories are:
z Strategic items: high percentage of purchased cost , high level of dependence on supplier
z Bottleneck items: low percentage of purchased cost, high level of dependence on supplier
z Non-critical items: low percentage of purchased cost, low level of dependence on supplier
z Leverage items: high percentage of purchased cost, low level of dependence on supplier The consensus derived from the literature suggests the company should use different purchasing strategies based on which category a purchasing item belongs to. The literature suggests nine different purchasing strategies for managing supply status. A detailed review of the literature is found in chapter three of this thesis.
This empirical study found that currently the purchasing items at the root of the IPC’s problems belong to the strategic items and bottleneck items categories. Panels, ICs, and sensors are the strategic items due to their high purchasing amounts and highly depended-on suppliers. All the other items belong to the bottleneck items category, since the dependence level on suppliers is medium and the purchasing amount is not high. The interviews conducted herein showed
currently the IPC does not use the strategy recommended by the literature for strategic items and bottleneck items, and that the current purchasing strategy has resulted in poor performance results and low employee satisfaction. Thus, the results of this research suggest that the IPC should adopt the recommended purchasing strategies for strategic items and bottleneck items.
In the design phase, I found that given the current conditions, there are two purchasing strategies IPC should use. For the strategic items -- panels, ICs, and sensors -- IPC should begin to develop partnerships with its suppliers. Such partnerships should be approached through: cooperative negotiation with suppliers; collaboration with the suppliers via sharing of strategic information;
and commitment to long-term relationships.
The first step, cooperative negotiation, mainly focuses on a problem-finding and -solving process, requiring IPC and its suppliers to provide open and accurate information with which to find the main cause of the problem, and to find solutions which are considered equally beneficial to both sides. Afterward, the IPC should collaborate with suppliers by continuously sharing strategic information, including inventory levels and production plans. Exchanging this kind of
information would bring about the sort of collaborative interaction between IPC and its suppliers which would help to strengthen those partnerships. Finally, the IPC should commit to long-term relationships with the strategic items suppliers. As IPC makes its decisions, it should consider the long-term advantages both for itself and its suppliers in order to create win-win results, the final goal of such partnerships. To make this strategy more practical, IPC can consider integrating its SAP system with the suppliers’ IT system to exchange the information. Or IPC can use the vendor managed inventories (VMI) system to let the suppliers to control the inventory for company X’s factory.
For the bottleneck items -- PCBs, motherboards and others -- the IPC should adopt another purchasing strategy. Given current conditions, the IPC can increase its number of alternative suppliers. The IPC should extend its supplier base by carefully selecting more suppliers. This selection process should take suppliers’ technological skill, quality, cost, and delivery
performance into consideration. Moreover, the IPC should evaluate the suppliers’ performance regularly and rank its suppliers accordingly. The IPC can then issue orders according to these performance rankings. Meanwhile, the IPC should remove poor-performance suppliers from the supplier base. The supplier performance evaluations would encourage suppliers to provide better
service and keep better-performing suppliers in the supplier base. The IPC can evaluate the suppliers quarterly and integrate the rating into the SAP system. So the logistics members can select the top rating suppliers when they issue the new orders.
When these new strategies are appropriately implemented in the IPC, its managers can expect better delivery performance and improved employee morale. However, there are bound to be some difficulties for the IPC presented by changing the current strategy all at once, and the influences of the new strategies will need time to show their effects. The top managers should continually consider long-term benefits and be certain to lend their full support as the IPC implements its new purchasing strategies.
Chapter 1 The organization
In this chapter the company X and the international purchasing centre (IPC) will be introduced, beginning with a general overview of company X, including company history, product
characteristics, and organizational structure, then proceeding to a discussion of the four parts of the supply chain and their tasks. After that, the chapter will focus on the IPC activities, structure, and order-to-delivery processes, and then introduce the scenario currently faced by the
managers in the IPC which motivates this research.
1.1 Overview
Company X, headquartered in South Korea, is one of the world's largest electronics companies, and a market leader for more than 60 products, including: semiconductors, such as DRAM, SDRAM, flash memory, and hard drives; digital displays, such as LCD displays, plasma displays, and OLED displays. It also enjoys a large market share for TVs, DVD players, Blu-ray players, home cinema systems, set-top boxes and projectors. Company X is famous for its mobile phones, MP3 players, digital cameras and camcorders, and it also produces computing products and home appliances. Company X, established in 1969, belongs to the company X group. At its inception the company’s strategy was mass production, embracing a goal of low prices rather than high quality. However, the strategy was changed in the late 80’s, at which time the company began to focus on quality and design. Because of this new strategy, company X was successful in becoming one of the most popular brands in the world.
1.1.1 Product characteristics and organizational structure
The strategy to focus on design made innovation a hallmark of company X’s product lines. The characteristics of innovative products are fast product life cycles, unpredictable demand, high profit margin, high product variety, high average forecast error at the time production is committed, and high average stock out rate (Fisher, 1997). All these characteristics tend to increase the level of uncertainty in the supply chain.
Company X uses a divisional structure under which the company is split into four product units plus an independent R&D centre. According to Duncan (1979), such a structure is good for adapting in a fast-changing environment, achieving higher customer morale, achieving a high level of coordination across functions, adjusting for different regions and customers, and
decentralizing decision-making. However, such a structure tends to reduce in-depth competence and technical specialization (Duncan, 1979). To avoid this problem, company X established technological development and research as an independent department. The organizational structure of company X is presented in figure1 below.
Figure 1 Organizational structure (Company X purchasing conference, 2008)
1.1.2 Supply chain and tasks
The supply chain of company X can be divided into four main parts: purchasing, production, distribution and retail. Company X has built sales offices and owns retailers all over the world. It has 14 main factories in Korea, China, the Philippines, India, Hungry, Slovakia, Mexico, and the United States. It has also set up seven IPCs in Taiwan, Singapore, Japan, Hong Kong, China, the UK, and the US to control materials supply. Currently, the headquarter teams in Korea take charge of planning and controlling, while the daily operations are managed by the local teams around the world. The supply chain is represented in figure 2.
Figure 2 Supply chain and tasks
1.2 IPC description
Given that company X’s product lines emphasize innovative electronics, which by nature have fast life-cycles and are subject to dynamic demand, the whole supply chain should ideally be able to respond fast enough to keep and win the market. The main challenges of the supply chain are increasing product variety while reducing production lead times (Simchi-Levi, 2007:288). To better control supply status, Company X set up IPCs in countries which have large numbers of suppliers. The functions of the IPCs include evaluating local suppliers, negotiating prices, and monitoring suppliers through site visits. Moreover, the IPCs are in a position to develop and maintain better information on local conditions such as materials shortages, labor issues and governmental actions (Dobler, 1996: 277). For the supply chain as a whole, the headquarters purchasing team takes charge of making forecasts (planning) and negotiates seasonal prices (controlling). The IPCs, on the other hand, have as one of their main tasks to ensure daily supplies and to seek out new local suppliers.
1.2.1 Taiwan IPC history and structure
Company X established the Taiwan international purchasing office in 1991. As the purchasing amount increased, company X changed the purchasing office into a purchasing centre in 2001. In recent years, The Taiwan IPC has reached the largest purchasing amount among the seven IPCs around the world (2007: 52 hundred million dollars. 2008: 70 hundred million dollars). There are 30 employees in the Taiwan IPC, and they are divided into four parts based on the headquarters’
structure and material characteristics. There are five employees in charge of sourcing the new suppliers and new materials while the other 18 employees deal with logistics. The logistics activities include issuing orders to local suppliers, confirming delivery times, and arranging shipments. They also take charge of return and replacement processes when there are quality problems with the materials. The organizational structure of the Taiwan IPC is shown in figure 3.
Figure 3 IPC structure
1.2.2 Order-to-delivery process
The organizational structure of the Taiwan IPC shows that it uses more than half of its human resources for logistics functions. The main logistics process begins when factories issue orders and completes when the factories receive the goods. The order-to-delivery process can be divided into four sub-processes, with four parties involved (Forslund, 2009). The four sub-processes are as follows:
Figure 4 OTD processes
1. The ordering sub-process for the customers (Company X’s factories):
Starts with orders from the factory and ends when orders are received by the supplier.
This process begins when the IPC gets an order from a company X’s factory in the SAP system, whereupon IPC logistics members check the price and then issue the order through the SAP system to local suppliers. Here, one order from a factory might include ten different products which are provided by ten different local suppliers, requiring the IPC logistics employees to divide the order in the SAP system and issue the orders to the correct local suppliers one by one.
The SAP system will automatically send emails to inform the suppliers of these new orders. This process takes only a matter of several minutes for the IPC logistics employees to complete.
However, when the factories post the wrong price or an order quantity is less than a supplier’s minimum quantity per order, the IPC will need the factories to correct the order, a process which might add a few days to the time frame for completion of the order.
2. The delivery sub-process at the local supplier
Starts when the supplier receives the order and ends when the goods are available to ship.
The local suppliers of the IPC take charge of this process when they get the orders through email.
At the same time, the suppliers check the delivery date and inform the logistics employee at the IPC. When the suppliers have inventories, they require only about two days for the goods to be ready to ship. However, when the suppliers have insufficient inventory, the average lead time is from five to eight weeks.
3. The transportation sub-process at the logistics service provider (LSP)
Starts when the ordered goods are available to pick up and ends when the goods arrive to the customer.
When the goods are ready to ship, the suppliers inform the particular LSP which has been
assigned by the IPC. The LSP takes the goods and ships them to company X factories around the world. At the same time, the LSP provides shipping information, such as tracking numbers, flight or vessel numbers, and arrival times to the IPC. The total shipping time depends on the factories’
locations and the shipping method. A shipment delivered by air takes two to five days to arrive at
the factory. A shipment by sea, by contrast, might take one to two months.
4. The goods receipt sub-process
Starts when shipments arrive at the factory and ends when the goods are available for use.
This process occurs at a company X factory when it receives a shipment. The factory will input the goods into the available materials in the SAP system and wait for production. The time for this process depends on the factory’s production plan, and also on other materials necessary in the overall production.
Appendix 1 presents a detailed order-to-delivery process in the IPC. Currently there are 14 company X’s factories issuing orders to the IPC, and the IPC has 260 suppliers in Taiwan and 40 logistics service providers.
1.3 Research motivation
The fact that ensuring daily supplies is the main task of the Taiwan IPC explains the Taiwan IPC’s allocation of more than half of its human resources to the logistics team. The logistics team takes charge of issuing orders to local suppliers, confirming delivery times, and arranging shipments. The main goal of the IPC is to provide the best possible supply status to company X’s factories. However, the IPC currently receives a great number of complaints from factories about long lead-times and late shipments. The late shipments have a greatly adverse effect on the factories since they delay the entire production plan. Thus, once a delivery date cannot match a factory’s request date, the factory will issue demands for the IPC to hasten the shipment.
Because the fast life-cycle of electronics products makes predicting market demand difficult, factories often ask the IPC to deliver materials within a time-frame much shorter than the normal lead time. However, it is difficult for the IPC to consistently fulfill such requests, a situation which engenders a great deal of dissatisfaction and a corresponding number of complaints.
Meanwhile, the complaints from both the factories and headquarters also result in low employee morale at the IPC. Sometimes the IPC even gets complaints from local suppliers because of the effort involved in arranging short-notice deliveries.
The phenomenon of the complaints concerning late shipment and the concomitant low employee morale motivated this research. For the IPC, it is difficult to avoid having the factories issue urgent orders. The managers of the IPC are interested in how the IPC can improve this situation when considering better management to the local suppliers. It will provide an in depth overview of the current situation about the late shipment status in the next chapter.
Chapter 2 Research design
The former chapter describes the general background of the organization and the motivation for this research. This chapter will first analyze the current situation at the Taiwan IPC, moving thence to a description of the objective of the research and the research questions. Finally, the conceptual model and methodology of the research will be discussed as well as the research restrictions.
2.1 Problem analysis
The IPC receives complaints from factories because of late shipments, as discussed in the previous chapter, which also discussed the limited time for processing orders. Generally, each department tries to develop an orderly and systematic pattern of operation that efficiently utilizes the resources of that department. However, a special procedure for processing rush requisitions is needed to handle the emergency demand (Dobler, 1996:78). In the Taiwan IPC, this emergency demand not only costs logistics team members much more effort for processing an order, but also increases the pressure on the employees. The time from the order release to order delivery is called the product lead time, and is provided by the suppliers (Schönsleben, 2007: 10). The average lead time of the Taiwan IPC suppliers is from five to eight weeks. An order which for some reason must be filled in less than the normal lead time is called a rush order (Dobler, 1996:78). The logistics employees in the IPC, however, feel that orders which need to be delivered within two weeks greatly increase their job pressure, since without any notice; the likelihood of suppliers delivering products within two weeks is very low. These rush orders greatly increase the chances of late shipments.
Most companies use order-on-time rates to evaluate their delivery performance. This rate refers to whether the order has been delivered on the agreed date (Simchi-Levi, 2007:288). However, at the IPC, the delivery dates are decided exclusively by the factories when they issue a new order.
As long as the IPC cannot deliver the shipment within a factory’s request date, that shipment will be counted as a late shipment.
In order to gain a better understanding of the interrelationship between rush orders and delivery performance; presented here are the data for orders in 2008 from the SAP system. According to the data, there were a total of 13,567 orders to the IPC in 2008. For the Taiwan IPC, orders for which a delay is within one week of the target still count as on-time deliveries. According to this standard, the average order on-time rate was 70 percent in 2008, a result far lower than the 90 percent target set by the headquarters. Among all orders, 25 percent were requested to be delivered within two weeks, and another 25 percent were requested to be delivered within three to five weeks. As mentioned previously, the normal supplier’s lead time is from five to eight weeks. Therefore, fully half the orders to the IPC are rush orders, and half of these rush orders might become late shipments. Figure 5 presents the relationship between the requested delivery
time by factories and the delivery performance. The requested delivery time counts from the date a factory issues the order to the date it wants the delivery to be made. Delivery times later than the requested date are shown as negatives in Figure 5. The figure illustrates that the shorter the time factories requested for delivery, the higher the chance the deliveries were delayed;
especially for orders which were asked to be delivered within two weeks. Clearly, rush orders and delivery delay status were highly related.
Figure 5 Relationship between requested delivery time and delivery on-time status
2.2 Problem statement
As mentioned previously, the order on-time rate is one of the indicators for evaluating delivery performance. Slack (2002:42) divided delivery performance into two performance objectives:
speed and dependability. The definition of speed is the time between the beginning of an operations process and its end (Slack, 2002:44). Thus, the time of the order-to-delivery process can be used to determine the speed of delivery of the IPC. The definition of dependability is keeping delivery promises, which is equal to the difference between the due delivery time and actual delivery time (Slack, 2002:45). Delivery performance is highly related to the uncertainty in the supply chain. As the level of uncertainty of a supply chain increases, delivery performance worsens (Milgate, 2001). The uncertainty of a supply chain comes from two sources: upstream suppliers and downstream customers. Late delivery or poor quality materials increase the
uncertainty from upstream suppliers (Davis, 1993). Variability of demand results in downstream uncertainty and affects delivery performance as well (Fisher et al., 1997). Thus, controlling uncertainty from suppliers and customers will help to improve delivery performance.
The previous section gives ample evidence that frequent rush orders increased downstream uncertainty, which caused poor delivery performance. The employees in the IPC also point out that the main reason for the frequently late shipments is the prevalence of rush orders. However, from the perspective of the IPC, it will be difficult to prevent these rush demands. Since material
control and production planning are managed by the headquarters and the factories, the IPC does not have the authority to change the planning processes to decrease the number of rush orders.
Thus, rather than controlling the uncertainty from downstream, it will be more feasible for the IPC to decrease the uncertainty from the upstream suppliers. Doing so, it is hoped, could help the IPC to improve delivery performance even given a large number of rush orders.
2.2.1 Research objective and questions
This research will focus on controlling upstream supplier uncertainty to improve both current poor delivery performance and concomitant low employee morale at the IPC. Migate (2001) suggested a company should utilize accurate purchasing strategies to manage upstream uncertainty. Accordingly, this research aims to help the IPC derive an appropriate purchasing strategy to improve present problems. There are many different kinds of purchasing strategies suggested by the literature. These will be further discussed in the next chapter. Throughout the literature, however, many researchers have argued that given a large number of different purchase items in a company, purchasing managers should use different purchasing strategies according to the characteristics of the items. At the purchasing centre for company X in Taiwan, there are a great number of items of various kinds purchased by the IPC. It follows that the Taiwan IPC should use different purchasing strategies according to the purchase items’
characteristics. The purchasing managers report that they generally consider two variables to distinguish purchase items’ characteristics. First, they consider how important the item is to the IPC. The IPC measures this variable by the item’s percentage of total purchased cost. A high percentage here means the IPC spends more on this item, thus increasing the importance of the item. Secondly, the IPC considers how much it relies on the item’s suppliers. However, the IPC does not have a unified definition for this variable, but makes a rough judgment based on the purchasing employees’ “feeling” toward the item’s supplier. Thus, for the same item, the
employees might have different opinions about the level of reliance on the supplier. This research nevertheless takes this variable into consideration, but will seek to clarify its definition from the literature in the next chapter. To the IPC, these two variables constitute the purchase items’
characteristics which the IPC should use when choosing accurate purchasing strategies.
The main research objective is to find the appropriate purchasing strategies for the IPC which will improve its current material supply status. Better material supply status is expected to bring better delivery performance and improve employee morale. The objective is formulated as:
To find ways to improve delivery performance and employee morale by applying an appropriate purchasing strategy.
The research question below was designed based on the research objective. As mentioned previously, there are two variables the company uses to determine proper purchasing strategies.
Thus, the research question focuses on using these two variables to determine the purchasing strategies. This research aims to answer the following question:
Based on the dependence on the supplier and the items’ percentage of the total purchased cost, which purchasing strategy should the Taiwan IPC apply in order to improve delivery performance and employee morale?
2.2.2 Sub-questions
In order to comprehensively answer the research question, there are three groups of sub-questions which will be discussed in the following chapters:
1. Theoretical background: the literature review will be used to derive a basic understanding of purchasing strategies and the two variables. The following questions will be answered from the theories of purchasing strategy.
1a: What is purchasing strategy?
1b: What variables affect the purchasing strategy? What are dependence on supplier and percentage of purchased cost?
1c: What different purchasing strategies can be distinguished in reference to dependence on supplier and items’ percentage of purchased cost?
1d: According to the literature, how should the IPC choose a purchasing strategy that will help to improve delivery performance and employee morale?
2. Empirical study of the IPC: Based on the theoretical findings in the previous chapter the purchasing strategies of the IPC will be analyzed. This analysis will first clarify the purchase items’ characteristics by evaluating the two variables. Afterward, it will check whether the IPC uses the purchasing strategy recommended by the literature. The following questions will be answered by practical data provided by the IPC and through interviews with the IPC employees:
2a: What data should be collected when evaluating dependence on supplier and percentage of purchased cost? What is the empirical result for the IPC?
2b: What different categories of purchasing items does the IPC use?
2c: Does the IPC use the strategy suggested by the literature for its purchasing items categories?
What is the state of IPC delivery performance and employee morale currently?
3. Design of an appropriate strategy: This section will undertake to derive a proper purchasing strategy for each type of item based on the literature while taking the current conditions in the IPC under consideration. Meanwhile, it will deliver some practical approaches for the IPC to implement the new strategy. For each type of purchasing item, the following two questions will be answered:
3a: Given the current conditions, which purchasing strategy should the IPC use?
3b: What practical approaches can the IPC pursue in order to improve delivery performance and employee morale?
2.3 Conceptual model
The conceptual model helps to clarify the research objective and research question. The core of this research is to derive an appropriate purchasing strategy for the IPC based on the notion that the company should choose its purchasing strategy according to the characteristics of its
purchased items. According to the guidelines used by IPC managers, they distinguish the characteristics of the purchasing items by dependence on the item’s supplier and the item’s percentage of purchased cost. Thus, this research uses these two variables in the conceptual model as the factors which affect the purchasing strategy, and it will delineate this relationship from the literature review in the next chapter. It is expected that the uncertainty from upstream can be managed through using a more accurate purchasing strategy, which is in turn expected to achieve the research objective: improving delivery performance and employee morale.
Combining all these factors, the study will proceed on the conceptual model as shown below and as further discussed in the following chapters.
Figure 6 Conceptual model
2.4 Research method
The difference between scientific and practical research is that the latter recognizes a concrete demonstrable customer who has a need for knowledge. The distinction between the two fields of research is based on the final product each delivers. Both types of research are scientifically justified, but the knowledge objectives are not the same. While scientific research tends to contribute to a universal knowledge base, practical research aims at delivering data, methods and concepts which help to solve problems (De Leeuw, 2001:74). This research can be classified as practical research, which aims to deliver solutions to the Taiwan IPC.
This research will use the diagnosis, design and change (DDC) model which was designed by De Leeuw (2001). The DDC-model is a three-step approach consisting of diagnosis, design and change (figure 7). This three-step model will be used as a methodological framework in this research. However, the third step will not be used since the main target of this research is to define the problems and provide the suggestions. This framework can also be seen as the structural framework of this research. These two phases will be combined with the three groups of sub-questions covered in the previous section. As figure 6 shows, before the diagnosis phase, the literature review concerning the purchasing strategies will be discussed as well as the two variables. Answering the first group of sub-questions will help to provide the theoretical background of this research. Later, the diagnosis phase will answer the second group of sub-questions, which analyze the current conditions of the IPC by empirical study. The design
phase aims to find proper purchasing strategies by answering the third group of sub-questions.
Figure 7 DDC-model
Given that this is practical research, it is important to collect evidence from the company in order to analyze the situation. Evidence used for the diagnosis phase may come from six sources:
documents, archival records, interviews, direct observation, participant-observation, and physical artefacts (Yin, 2002: 83). In this research, it will use archival records, participant-observation and interviews as the evidences. The evidence type and source related to the five factors in the conceptual model are listed in table 1.
Factors in conceptual model Evidence type Source Dependence on supplier Interviews Sourcing team
Archival records SAP system Percentage of purchased cost
Interviews Planning & control team Interviews Sourcing / logistics team Purchasing strategy
Participant-observation Researcher personal experience Delivery performance Archival records SAP system
Interviews Logistics/ sourcing team Employee morale
Participant-observation Researcher personal experience
Table 1 Evidence type and source
The interviews with the sourcing and logistics team will be divided into several rounds based on the product line each is in charge of. Meanwhile, the interview questions will be clearly defined to avoid misunderstanding and to create similar perspectives among the interviewees. The interview questions will be made by email to every sourcing team members first. Later, I will compare their answers and make the conclusions. When the interviews produce conflicting opinions, I will recheck with the interviewees via phone calls to clarify results. Every interview will be made as the circle begin from the interview questions by email, clarify conflicts by phone calls and conclude the final results by me. The final results will also send to all the interviewees to receive their agreements by emails. The archival records will be collected from the SAP system IPC uses and the data will be provided by the planning and control team. In order to get a better understanding of the data, interviews with the planning and control team will be conducted as well. This SAP system is a comprehensive IT system used by all the business units of
company X. It integrates the data used by the purchasing, production, sales, and HR departments.
However, each department can change or check data only after the headquarters authorizes them
to do so. All the hard data used in this research will be collected from this SAP system. The last evidence source is participant-observation which comes from my two years experience working in this company. As a logistics team member, I have been intimately acquainted with the
working environment and atmosphere in the IPC, experience which can provide participant-observation evidence for this research.
2.5 Restrictions
There are some limitations of this research which help make the following research feasible. The limitations are:
z The thesis should be on a scientific level and written in English.
z The thesis should not exceed 60 pages.
z The research should be finished within a period of 5 months.
z The research will be conducted by company X Taiwan IPC.
z The research field will focus on company X Taiwan IPC and all the suppliers of Taiwan IPC. The headquarters of all company X’s factories and the logistics service providers will be out of the range of this research.
Chapter 3 Theoretical concepts
In this chapter purchasing strategies will be presented in their theoretical context by answering the first group of sub-questions. In order to introduce the field of research, the definition of purchasing strategies will first be given, after which the variables which affect purchasing strategy and the different types of purchasing strategies will be discussed.
3.1 Definition of purchasing strategy
This section seeks to answer sub-question 1a:
1a: What is purchasing strategy?
BNET defines ’strategy’ as “a planned course of action undertaken to achieve the goals and objectives of an organization. The term was originally used in the context of warfare to describe the overall planning of a campaign as opposed to tactics, which enable the achievement of specific short-term objectives.” Thus, in order to understand purchasing strategy, one needs to know the objectives of purchasing first.
According to Dobler (1996: 41) the objectives of purchasing can be defined on three levels:
general managerial, specific functional and practical detail level. The first level is from the top managerial perspective, which views purchasing objectives as to achieve “five rights.” The five rights are:
1. Of the right quality 2. From the right supplier 3. In the right quantity 4. At the right time 5. At the right price
Organizations are expected to achieve all these five objectives. However, it is not practical to reach all these objectives at once. Purchasing strategy is a planned course of action which helps the organization to achieve these purchasing objectives and to optimize trade-offs at the same time (Dobler, 1996: 43).
Similarly to the different levels of the purchasing objectives, purchasing strategies also fall into different levels. Some of the purchasing strategies provide only the general ideas that
organizations should consider, such as negotiation, sourcing, developing and maintaining good relations with suppliers, as well as protecting the cost structure of the company and minimizing costs (Kiser, 1976). Others tend to focus on a more detailed level. Articles by Laura Birou (1997) and Fox (1976) list 43 different purchasing strategies for organizations to apply. Compared to the managerial level strategies, these detailed strategies provide systematic instructions for
organizations. However, the above theories did not consider that there may be a great many different purchasing items of organizations which require different purchasing strategies. Kraljic (1983) first introduced a purchasing strategy portfolio matrix which divided purchasing items
into four categories. The next section will discuss the variables suggested by the literature which affect purchasing strategy.
3.2 Variables which affect purchasing strategies
This part will discuss the variables which determine different purchasing strategies by answering sub-question 1b:
1b: What variables affect the purchasing strategy? What are dependence on supplier and percentage of purchased cost?
3.2.1 Variables in literature
Karljic (1983) first suggested that purchasing should be made part of supply management. In his theory, he suggested a company’s need for a purchasing strategy depends on two factors: The first is the strategic importance of the item in terms of the value added on the production line, or the percentage of the item in terms of total purchasing cost or the items’ impact on profitability.
The second factor is the complexity of the supply market which considers suppliers’ technology, materials substitution, entry barriers, and supply scarcity. The two factors can be thought of more briefly as the financial impact and supply risk of the purchasing item. His theory has been
developed by many followers with similar ideas. Some used different variables in their research, such as re-terming the variables as profit/value potential and supply vulnerability
(Elliott-Shircore and Steele, 1985). Olsen and Ellram (1997) suggested using strategic
importance and difficulty of managing the purchasing situation as the variables. However, all those following Karljic use financial impact as the first variable and risks from suppliers as the second. Later, many researches argued the supply risk results from the buyers’ dependence on their suppliers (Sritam, Krapfel and Spekman, 1992; Ganesan, 1994; Gelderman, 2003). As to the financial impact, since the task of the IPC is simply to purchase the raw material, there is no value added on the production line or impact to profitability. Thus, it can use the percentage of the item in total purchasing cost as the financial impact. These two variables, the item’s
percentage of purchased cost and dependence on item’s supplier, are also the variables which the IPC uses to distinguish the purchasing items’ characteristics. Hence, this research will apply these two the variables to determine an appropriate purchasing strategy.
3.2.2 Dependence on supplier
All companies depend on their trading partners. Mutual dependence and power are closely related concepts. The buyer’s dependence on the supplier is the source of power for the supplier, and vice versa. If A depends on B more than B depends on A, then B has power over A (Pfeffer, 1981). Similarly, Bacharach and Lawler (1981: 65) define relative power as ‘‘the dependence of one party compared to the dependence of the other party’’ (Caniels, 2006). The
dependence-power concept has frequently been discussed in the research as it pertains to buyer-supplier relations.
Regarding how to determine dependence on supplier, scholars have suggested various ideas from different perspectives. Some have argued from the social actor perspective, which discusses how suppliers can control important resources (Eerson, 1962; Pfeffer and Salancik, 1978). Still others have worked from the organizational perspective, which suggests that dependence on supplier results from the essentiality of the resource and availability of other resources (Thompson, 1976;
Mintzberg, 1983; Bourantas, 1989). Integrating all the ideas from previous research, Gelderman (2003) concluded four factors determine dependence on supplier. These four factors provide a clear idea of what should be considered in measuring dependence on supplier. These factors are:
z Logistical indispensability: reliability of shipment is important for continuous production
z Technological expertise: the buyer needs the technological expertise of the supplier
z Alternative suppliers: the product can be supplied by other suppliers immediately
z Switching cost: the replacement cost of changing to a new supplier
In his research, Gelderman demonstrated that the higher the logistical indispensability and switching cost, the higher the dependence on suppliers. Moreover, the supplier’s technological expertise also increases the buyer’s reliance. On the other hand, the presence of many alternative suppliers decreases the dependence of buyer on supplier (Gelderman, 2003: 179).
3.2.3 Percentage of purchased cost
The purchasing amount is one of the most common factors used to evaluate financial impact (Kraljic, 1983, Elliott-Shircore, 1985, Bensaou, 1999, Van Weele, 2000). Some researchers have suggested that the financial value of the purchasing item depends on how much value it adds on the production line. However, it is not always easy to define the added-value of each item. Others have suggested the financial value of the purchasing item depends on the percentage of the item among the total purchasing spending. This ratio can show how important the item is from a financial perspective. By checking each item’s percentage of the purchased cost, buyers can find out where the majority of purchase spending lies (Gelderman, 2003: 14). This ratio can be formulated as follows:
Figure 8 Percentage of purchased cost
3.3 Four different purchasing strategies This section will answer sub-question 1c:
1c: What different purchasing strategies can be distinguished in reference to dependence on supplier and items’ percentage of purchased cost?
Considering the above two variables, one can divide the purchasing items for one organization into four categories set forth by Kraljic (1983):
z Strategic item- high dependence on supplier with high percentage of purchased cost
z Bottleneck item- high dependence on supplier with low percentage of purchased cost
z Leverage item- low dependence on supplier with high percentage of purchased cost
z Non-critical item- low dependence on supplier with low percentage of purchased cost
While Kraljic divided the purchasing items into the above four categories, he focused primarily on the purchasing strategy which should be applied for strategic items. For the other three categories he merely put forward some “main tasks” which a company should follow instead of strategies (Caniels, 2006). Other scholars filled this gap in later research and derived appropriate purchasing strategies for each of the four item categories (e.g. Elliott-Shircore and Steele, 1985;
Syson, 1992; Van Weele, 2000). For the strategy items, they suggested building a form of partnership with suppliers. To this end, buyers should provide accurate demand forecasting to their suppliers, perform detailed market research, develop long-term supply relationships, and analyze the supply risk regularly. The idea is that buyers should develop such partnerships based on win-win results with the suppliers. Meanwhile, these researchers suggested the buyer should secure inventories, find more alternative sources, and control the suppliers for bottleneck items to assure supply. For the leverage item category, they suggested buyers should exploit their purchasing power through controlling price and optimizing order volumes. They also argued that buyers should ensure efficient processing for non-critical items by standardizing the purchasing items and simplifying the order processes. The items and the suggested strategies are
summarized in figure 9.
Figure 9 Purchasing strategy matrix (modified from Kraljic, 1983)
3.4 Formulating a purchasing strategy to improve delivery performance and employee morale
This section will answer sub-question 1d:
1d: According to the literature, how should the IPC choose a purchasing strategy that will help to improve delivery performance and employee morale?
Many scholars worked from the idea of Kraljic’s model to develop their own purchasing
matrices. The recent research of Gelderman (2003) paid more attention to the practical use of this purchasing model. His research included three in-depth case studies of organizations in the Netherlands which used this model to evaluate their purchasing strategies. Through these empirical case studies, he determined that a company should adopt a purchasing strategy based not only on the purchasing items’ characteristics, but on the practical purchasing situation as well.
He further explained that a company should always adjust its purchasing strategy when it no longer fits the recent purchasing conditions and targets. Regular correction of the purchasing strategy can improve such aspects of purchasing performance as on-time delivery, and cost control (Gelderman, 2003: 189). The company can shift purchasing items into another item category when adjusting its purchasing strategy. Based on that idea, he developed nine
purchasing strategies from the original four. Besides the original purchasing strategies (kept in the same category), he suggest another four “moving” purchasing strategies (Gelderman, 2003:
212). These are presented in figure 10. He suggests that the company should consider the purchasing items’ characteristics and the recent purchasing conditions to choose the proper purchasing strategy from among the nine. These nine purchasing strategies, summarized in table 2, can help the company to improve purchasing performance:
Figure 10 Overview of purchasing strategies (Caniels, 2006)
Item Category
Keep in same category Move to another category
Strategic
1) Maintain strategic partnership; the strategy is to develop win-win partnerships 2) Accept locked-in partnerships; the buyer is forced to accept a close relation with the supplier since there is no other choice. The strategy includes searching for other suppliers while developing the partnership
3) To leverage items category – End the partnership by finding new suppliers; a partnership with the supplier is no longer appropriate.
Finding new suppliers can shift this item from the strategic to the leverage category.
Bottleneck
4) Accept the dependence on the supplier;
the supplier has the niche, so the buyer has no better choice. The strategy is to avoid negative consequences.
Preparation of reasonable inventory should be a priority in this situation.
5) To non-critical items category – Reduce dependence on the supplier;
move from bottleneck to non-critical items category. The strategy is to consider some substitute solution, such as finding more suppliers or sourcing new substitutes.
Leverage
6) Exploit purchasing power; the strategy is to search for the cheapest price among many suppliers.
7) To strategic items category – Develop strategic relationships with a few suppliers; the strategy is to reduce the number of suppliers and develop closer partnerships in order to increase benefits to both sides.
Non-critical
8) Keep individual orders; the strategy is to issue orders only upon demand. Using the EDI system to increase the efficiency of the ordering processes is recommended.
9) To leverage items category – Pooling demands; the strategy is to try to combine individual orders for the same item (or same supplier). By increasing the purchasing amount proportion the item moves from the non-critical to the leverage item category.
Table 2 Gelderman’s nine purchasing strategy
3.5 Summaries and conclusion
Purchasing strategy is a planned course which helps the organization to achieve purchasing objectives. The purchasing objectives are to make purchases at the right quality, from the right supplier, at the right quantity, time, and place. However, it is difficult to reach all the purchasing objectives at once, and trade-offs always have to be made. Employing the proper purchasing strategy helps to strike a balance between these trade-offs. Thus the purchasing strategy is the guide which helps an organization to optimize trade-offs among the purchasing objectives under different conditions. There are two kinds of variables to determine the purchasing strategy which have been frequently discussed in the literature. The first is the purchasing item’s financial impact, and the second is the risk from suppliers. The first variable can be presented according to the item’s percentage of purchased cost. The supplier risk can be measured by evaluating the company’s dependence on the item’s supplier. The literature supports the relationship between these two variables and purchasing strategy, which is discussed in the conceptual model.
Combining these two factors together, a division of the purchasing items into four categories presents itself. The four item categories are: strategic items, bottleneck items, leverage items, and non-critical items. Kraljic (1983) developed four basic purchasing strategies for each purchasing item. Later, Gelderman (2003) suggested the purchasing strategy should always be adjusted to fit recent conditions. Using a strategy which fits both the items’ characteristics and the purchasing conditions will improve purchasing performance. Thus, Gelderman expanded the purchasing strategies from four to nine based on his practical research results. The literature reviewed in this chapter suggested a company should choose different purchasing strategies according to the purchasing item’s characteristics (Caniels, 2006), that is, based on the dependence on supplier and the item’s percentage of purchased cost. At the same time, the company should adjust the strategy according to recent conditions. Adopting a purchasing strategy which fits item
characteristics and present purchasing conditions will help companies achieve better purchasing performance, and will thereby help to improve delivery performance and enhance employee morale.
Among these four categories of purchasing items, buyers will be more dependent on the
suppliers of strategic items and bottleneck items. This supplier dominance increases the buyer’s risk, since the buyer does not have many alternatives. Thus, delivery problems are more likely occur for these two item categories. Currently, the IPC suffers from delivery issues, so it stands to reason that many purchasing items for the IPC belong to the bottleneck and strategic items categories. The empirical study in the next chapter will first analyze level of dependence on suppliers and the items’ percentage of purchased cost for the IPC. By using the results of these two variables the purchasing items’ category can be determined, and the prediction here can be verified. Later, a diagnosis will be made to see whether the IPC uses the recommended strategies as derived from the literature in this chapter.
Chapter 4 Diagnosis phase
This chapter discusses the empirical study of the Taiwan IPC, designed to derive a better understanding of the present purchasing strategies of the Taiwan IPC. The literature in the previous chapter suggested the company should choose a strategy based on the dependence level on suppliers and the items’ percentage of purchased cost. Thus, the study uses the research method discussed in chapter two to collect evidence in support of this research. First, the chapter will distinguish what data the IPC should collect in order to better apply these two variables and to assign purchasing items’ categories. Afterward, the chapter will examine whether the IPC uses the purchasing strategies suggested by the literature in the previous chapter. Finally, the chapter will evaluate the current performance of the IPC to whether the IPC uses appropriate purchasing strategies.
4.1 Two variables in the IPC
This section aims to answer sub-question 2a:
2a: What data should be collected when evaluating dependence on supplier and percentage of purchased cost? What is the empirical result for the IPC?
4.1.1 Percentage of purchased cost
The literature review in the previous chapter demonstrated that the purchasing amount ratio can show where the major spending lies for one company. As discussed in chapter two, purchasing order data for the IPC will be collected from the SAP system. This data is provided by the planning and control team members. Thus, interviews with the team members will also facilitate understanding of the data they provide.
From the SAP system the planning team provides the raw data for all the amounts purchased in 2008 by material code. Since the products may be in the same product line but have different design, size, and so on, each is given a distinct material code. Thus, a team member first helps to categorize the items within the same product line into several product groups, whereupon it can sum the purchased amount of each product group. Compared to the total purchased cost in 2008, it can conclude the percentage of purchase cost of each product group. Here in Table 3 are listed the five highest product groups:
Table 3 Percentage of purchased cost
