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This report studies supplier evaluation and strategies that could be used to procure raw material based on Kraljic Matrix. This report discusses the sourcing strategies that can be used for procuring these new materials. This report discusses the supplier selection criteria. It also Provide a negotiation method for the procurement department, and point out the main points to be discussed for the contract. This report includes a risk analysis on the sourcing strategy. It also suggests models and frameworks can be used to evaluate the EOI's.
Automobile industry overview
The Automotive industry of Geelong has diversified into product development. Automotive industry is growing and design is a significant development. This industry offers high value adding activities, expanded career path development and thus offer opportunity to grow in Geelong. The leading companies in Geelong are Ford Motor Company, MHG Glass, Backwell IXL and Australian Automotive Research Centre. The auto parts suppliers in Geelong are catering local market and are not involved in exporting due to tough competition. Socobell is supplier for Ford which supplies dashboard and filters. The number of direct suppliers to Ford, Holden and Toyota is 20 and there are second and third tier suppliers also. Major suppliers are Tenneco Australia, SMR Australia and for-sale Futuris Automotive.
Procuring raw material
Procurement of raw material includes all the elements that are part of finished product such as parts, components and raw material. The company is planning to procure some new material for interior of the car such as components of dashboard, fabrics for the seats and the buttons used to control the electric windows (Chang.et.al, 2011) On the basis of consumption pattern, procurement activities can be divided into two categories – direct and indirect (non-production related) procurement. Direct procurement is applied in case of manufacturing and indirect procurement is related to repair, maintenance and operating supplies. Both these procurement differ in the frequency, quantity, value, nature of material.
Required raw material: Kraljic Matrix
Strategic items are those which are critical for production, hard to find, difficult to deliver and directly influence company’s profitability.
Leverage items are those with high financial risk but the risk related to supply is low as there are many alternatives available to procure raw material.
The strategy used in procuring leverage items is competitive bidding (Dudek, 2013)Bottle necks items are those with low financial risk but high risk related to supply as there are few suppliers available in the market. The strategy used to procure bottleneck items is to develop relationship with supplier.
Non-Critical items are those with low financial and supply risk. The strategy used in procuring non-critical items is to cut cost.
Thus, procuring raw material here refers to the material required for the new car model i.e. components of dashboard, fabrics for the seats and the buttons used to control the electric windows (Giannakis, 2012). All these materials are bottle neck item as they have low financial risk but high risk related to supply as there are few suppliers available in the market. The strategy used to procure bottleneck items is to develop relationship with supplier.
Strategy to procure new material
From the above Kraljic Matrix, it is concluded that the new materials required for the new model of car are bottle neck items. The strategy adopted to procure these materials is to build relationship with suppliers.
An organization can develop relationship with suppliers by following the given suggestions such as paying on time, set achievable and clear goals, to have knowledge of their other customers, fulfill the expectations of supplier from company, extend an helping hand during problem, build a friendly relationship with supplier and prepare them for the quality of raw material required by company (Giannakis, 2012).
- The suppliers of auto-parts operate at very low margins. Timely cash inflow is very vital for their business, thus they expect timely payment. Company can gain credibility by paying on time and develop good relations with suppliers.
- The company should set clear and achievable goals for production so that they can clearly state the order of raw material to supplier. Changing the orders and asking for raw material immediately without any planning will hamper the relationship between company and supplier.
- To develop a better relationship with suppliers, it is important to understand that the supplier is serving to other clients also (Fu.et.al, 2010).
- Additionally, the company should provide the documents related to orders through proper channel to suppliers. This will help to maintain the relationship with suppliers.
- There may be situations when supplier may face problem in timely supplying the raw material. To maintain good relation, it is required that company understand the problem and cooperate with supplier. This will help the company at the time of contingency.
- A friendly behavior with supplier is required as corporate strategy which may help in getting discounts.
- It is better to communicate clearly to supplier the quality to goods require by the company. Once good relation with supplier has been developed, the company can even train them according to company’s requirement (Ho.et.al, 2010).
Thus, strategy to procure new material involves building relationship with suppliers. The relationship with supplier can be developed by paying on time, set achievable and clear goals, to have knowledge of their other customers, fulfill the expectations of supplier from company, extend a helping hand during problem, build a friendly relationship with supplier and prepare them for the quality of raw material required by company.
Supplier selection criteria
According to quality management standards for automotive sector such as ISO 16949 requires companies to establish criteria for selection of supplier as per the requirement of company (Ho.et.al, 2010). The broad head under which criteria to select supplier can be categorized are- quality, price and promotion, delivery and service, company capabilities and company structure. These categories can be further explained into –
- Quality of product or service
- Overall quality of supplier
- Price and Promotion
- Price of product
- Discount rate of quantity
- Terms of payment
- Insurance and transportation fees
- Delivery and service
- On-time delivery every time
- Restriction of quantity in delivery
- Lead time length
- Service after sales
- Accessibility of spare parts
- Capabilities of company
- Capability related to technology
- Capability related to production
- Company structure
- Organizational culture
- Financial stability
Thus, the selection criteria for supplier includes quality, price and promotion, delivery and service, company capabilities and company structure.
Negotiation method for procurement department
Negotiation is the process to obtain the best price with the best terms and condition related to each item procured from supplier. Negotiation method for procurement of raw material has become important for automotive companies to reduce their expenditure and increase their purchasing power.
- The challenge in front of Automotive Company is that the number of suppliers is less and the company wants to maintain the quality also. Secondly, the company has to maintain a long term relationship with the supplier (Fu.et.al, 2010).
- Thus, negotiated long-term contracts in case of automobile companies and their supplier will be a relationship of partners. It will be a relationship beneficial for both rather than competitive. The company will encourage supplier to increase the quality and service while the supplier will get a guaranteed sale of their product.
- While negotiating with supplier, the company should maintain communication to get leverage in future negotiations. For successful communication, it is important for company to be attentive and responsive.
- While negotiating with suppliers related to price, it is important for company to understand the cost of production for suppliers. This will help company to negotiate fairly with the suppliers.
- A company is required to develop credibility to determine the terms of negotiation with supplier. It is already stated that the company should make its payments on time to develop credibility (Ho.et.al, 2010)
- There are other factors also apart from price in negotiation such as mode of payments, installments, bulk purchase discounts and time for credit purchase, etc.
- While negotiating, the company should communicate that it want to develop a long term relationship and it view supplier as a company providing quality service.
- A company can have more negotiating power if it promises a 50-70% down payment. It is already stated that supplier wants timely payment as they have very few profit margin.
- Thus, the most successful strategy for Automobile companies to negotiate is to treat suppliers as partners. Company should enter into a long-term negotiation contract with suppliers (Fu.et.al, 2010)
Risk analysis on sourcing strategy
The strategy suggested for Automobile companies is to treat suppliers as partners. The risk associated with is operational service failure risk, business continuity risk, contractual risk, dependency risk, financial risk, capacity risk, quality risk, strategic risk, reputational risk, etc.
- The supplier operational service failure is a significant risk for companies as it will directly affect the production, reputation and finances of company. It may cost company to legal consequences.
- Business continuity risk of supplier is another significant risk for company as the continuity of supply of raw material will stop and the company has to again perform the selection of supplier and procurement of raw material.
- Contractual risk is that the company has to wait for a particular period to enter into contract with other supplier. The contract binds the company for the stated tenure for the stated price.
- Dependency risk arises when company depends on single supplier for raw material. A company depends on single supplier when the switching cost is high, low availability of substitute, etc. In case of automobile companies, they develop a relationship with suppliers as partner. These relations are intended for long term and thus companies get depended on suppliers (Dudek, 2013).
Supplier financial risk arises when the supplier company fails to operate and the risk is even more if company has made advanced payments. Supplier capacity risk arises when the company requires additional demand and it will hamper the production. Relationship quality risk arises when dispute occur and the contract is breached. Strategic risk arises when there is change in strategic direction of either supplier or company. Reputational risk arises when there is impact on reputation of company because of supplier. It may be environment, legal or ethical risk (Giannakis, 2012)
All these risks can be summarized under this table:
Models and frameworks to evaluate EOI’s
EOI stands for Expression of Interest which is a multi-stage process which is used to shortlist suppliers. It is used when the company is not sure about whether or not the required service and goods will be provided by the supplier.
The framework of evaluating EOI includes developing applicable criteria and deciding the score for each. This framework ensures that only those suppliers are selected who ensures highest quality.
Evaluation criteria will include the criteria of selection of suppliers and the weightage will be a score on the scale of 0 to 5. The scale defines the following assessment:
0 stands for when the observer fail to address the criteria
1 stands for very poor i.e. unsatisfactory manner
2 stands for poor i.e. serious weakness
3 stands for fair i.e. weakness that need correction
4 stands for good i.e. well but scope of improvement
5 stands for excellent i.e. successful
Company has to decide a threshold score to reject or select the expression of interest. Observer is required to provide the justification of score. The rejection of expression of interest is required to be informed in writing with report (Lintukangas, 2010)
The matrix for evaluation of expression of interest is as follows:
This framework will help company to select the supplier when the company knows little about the supplier. All the suppliers will present an expression of interest. On the basis of expression of interest, the observer will evaluate the supplier by scoring scale. Every company can determine its own cut off rate or threshold. Company has to decide a threshold score to reject or select the expression of interest (Hong and Kwon, 2012).
The Automotive industry of Geelong has diversified into product development. Automotive industry is growing and design is a significant development. The auto parts suppliers in Geelong are catering local market and are not involved in exporting due to tough competition. In this study the company is planning to procure some new material for interior of the car. The new materials required for the new model of car are bottle neck items. The strategy adopted to procure these materials is to build relationship with suppliers. An organization can develop relationship with suppliers by following the given suggestions such as paying on time, set achievable and clear goals, to have knowledge of their other customers, fulfill the expectations of supplier from company, extend an helping hand during problem, build a friendly relationship with supplier and prepare them for the quality of raw material required by company.
Chang, B., Chang, C.W. and Wu, C.H., 2011. Fuzzy DEMATEL method for developing supplier selection criteria. Expert systems with Applications,38(3), pp.1850-1858.
Dudek, G., 2013. Collaborative planning in supply chains: a negotiation-based approach (Vol. 533). Springer Science & Business Media.
Giannakis, M., 2012. The role of procurement in the management of supplier relationships. International Journal of Procurement Management, 5(3), pp.368-408.
Fu, Q., Lee, C.Y. and Teo, C.P., 2010. Procurement management usingoptioncontracts: random spot price and the portfolio effect. IIE transactions,42(11), pp.793-811.
Ho, W., Xu, X. and Dey, P.K., 2010. Multi-criteria decision making approaches for supplier evaluation and selection: A literature review.European Journal of Operational Research, 202(1), pp.16-24.