Transcript Chapter 6 - Arjan van Weele

Chapter 15
Preparing for partnership
with suppliers: cost
approaches and techniques
Program
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How is the purchasing price determined?
Pricing methods
The learning curve
Assessing suppliers
Supplier development
How is the purchase price
determined?
The price ultimately paid for materials and services is
the result of environmental factors (internal and
external):
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Internal factors: can bring about a change in the cost of
materials before the finished product is placed on the market
(logistical, technical or organizational factors).
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External factors: those factors that change the availability
of a product in a given market (economic, socio political or
technological factors).
Environmental factors
Internal factors
Logistics
factors
External factors
Technical
factors
Economic
factors
Organizational
factors
Supplier
Trying to raise
the price
Sociopolitical
factors
Technological factors
Black box
Influences on
the price
buyer
Trying to reduce
the price
Van Eck et al. (1982)
How is the purchase price determined?
Corey (1978) considers prices to be based on three
models:
1.
2.
3.
Cost-based pricing: The supplier’s offering price is directly
derived from his cost price.
Market-based pricing: The price of the product is determined
on the market and is generated by market circumstances
(demand, supply, stock positions, economic factors etc.)
Competitive bidding: The price is influenced by market
factors as well as cost factors. This situation is most common.
Pricing Methods
based on
cost
factors
based both on market and
cost factors
emphasis
on cost
factors
purchase product
group
50/50
Raw materials
emphasis
on market
factors
x
Semi-manufactured goods
based on
market
factors
x
x
x
x
x
x
Components
Standard
Non-standard
x
x
x
Finished products
x
x
x
x
x
x
x
x
x
MRO
Services
x
x
Van Eck, de Weerd and van Weele (1982)
Pricing Methods
Factors suppliers have to take into account to set the
selling price:
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Expected demand
Number of competitors
Expected development of the cost price per product unit
Customer’s order volume
Importance of the customer to the supplier
Value of the product to the customer
Pricing Methods
The following pricing methods can be distinguished:
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Mark-up pricing, a fixed percentage is put on top of the cost
price.
Target-return pricing, predetermined total profit per product
group. The price depends on the fixed costs and the selling
volume.
Pricing based on the buyer’s perceived value. Base price
on what the market can bear, not on the cost price.
Value pricing, high quality offerings for fairly low prices
Going rate pricing, based on competitor prices
Auction type pricing, tender where the lowest offer is
awarded.
Pricing Methods
A special characteristic of pricing policies for industrial
products is the discount policy:
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Cash discount: e.g. 2% discount for payments within 10 days
Quantity discounts: to stimulate larger quantity orders.
Volume bonus: linked to the amounts purchased from a specific
supplier for a specific period.
 Geographical discount: given to customers located near the
supplier.
 Seasonal discount: applied to improve capacity utilization in periods
when sales decline.
 Promotional discount: provided to temporarily stimulate the sale of
a product.
Pricing Methods
The following list can help the buyer to gain insight into
the supplier’s cost structure:
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Materials cost: to be itemized according to the major components
Direct labor cost: information can be obtained by consulting the
collective labor agreements for each particular industry
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Transportation cost
Indirect cost: divided into general management costs and sales
costs
The higher the share of the fixed costs in the cost
price of the end product, the greater the
supplier's price elasticity.
The learning curve
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It was discovered (in American Airline Industry) that
the cost price per unit decreased at a fixed
percentage as experience increased..
The learning effects result from:
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Reduced supervision as experience with production grows
Increased profits, from improved efficiency through
streamlining the process
Reduced defects and line reject rates during production
Increased batch sizes (less time spent on resetting
machines)
Improved production equipment (after a while)
Improved process control
Reduced engineering changes
The learning curve
Basic principle
Each time the cumulative production volume of a particular
item doubles, the average time required to produce that item
is approximately x % less of the previously required number
of hours.
80% Learning curve
Cumulative
amount
produced
1000
Required
time in hours
per unit
20
2000
16
4000
12.8
8000
10.24
16000
8.2
The learning curve
The learning curve is preferably used:
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When it concerns customized components, manufactured by
a supplier at the customer’s specifications
When large amounts of money are involved
When the buyer cannot request competitive quotations
because, e.g., a considerable investment has to be made in
moulds and specific production tooling which lead the buyer to
single sourcing.
When direct labor costs make up an important part of the cost
price.
Supplier assessment
The need for objective assessment of suppliers increases as the
role of the supplier in the business chain grows.
Supplier assessment may take place at four different levels:
1.
Product level: Focuses on establishing and improving the
2.
3.
4.
supplier’s product quality
Process level: Not the product, but the supplier’s production
process is closely investigated.
Quality assurance system level: The entire supplier quality
organization is subject of investigation by the customer.
Company level: Besides quality aspects also financial aspects are
taken into consideration. Also auditors want to get an idea of the
quality of management (how competitive is the supplier in the
future?)
Supplier assessment
Two types of assessment may be differentiated:
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Subjective methods are used when companies evaluate
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suppliers through personal judgments.
Objective methods attempt to quantify the supplier’s
performance.
The following techniques and tools can be used (1)
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Spreadsheets; used to systematically compare and asses
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quotations obtained from suppliers. Important criteria are listed on
one axis and the supplier quotations on the other.
Qualitative assessment; used for suppliers with whom exist
close business relationships. Specialists who have experience with
the suppliers rate them according to a agreed checklist
Supplier assessment
Techniques and tools (2):
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Vendor rating; Limited to quantitative data only. Entails measuring
the aspects of price, quality and delivery reliability per supplier.
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Supplier audit; Entails that the supplier is periodically visited by
specialist(s) from the customer. They investigate the production
process and quality organization.
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Cost modeling; Specialist from the buying company estimate,
based on the production technology, the cost of the product. This may
lead to ‘should cost’ discussions with the supplier.
Supplier assessment
Framework for identifying the most important cost drivers:
Category
Description
examples
Design
Costs attributable to product
design trade-offs
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Costs related to the size of the
facility, equipment and process
technology employed
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Facility
Geography Cost associated with the location
of the facility relative to the
customer
Operations Cost that differentiate a well run
facility from a poorly run facility
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Materials
Product line complexity
Facility scale
Degree of vertical integration
Use of automation
Location related wage rate
difference
 Transportation costs to
customer
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Labor productivity
Facility utilization
Rejection rates
Laseter (1998)
Supplier assessment
Difference between supplier auditing and vendor rating:
Aspect
Supplier auditing
Vendor rating
Orientation
Focus on future
Based on historical data
Application
New and current suppliers
Current suppliers
Nature
Mainly qualitative
Mainly quantitative
Scope
Broad, many aspects
Limited, few aspects
Work
Time consuming
Standard data
Data processing
Subjective, manually
Factual, computerized
Relation with suppliers Co-operation
Based on internal
administrative data
Supplier development
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Actions for development of suppliers:
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Supplier suggestion program: actively ask for
suggestions for improvements of suppliers
 Supplier development, ask questions like:
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What is going well in the cooperation?
What could or must get better?
What is needed for improvement?
How to measure the improvements?
Supplier satisfaction survey, collaborative
relationship between business partners requires that
expectations between all stakeholders involved are
made explicit.
Supplier segmentation BASF
Liker et al. (2004)
Conclusions
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Pricing and cost structures of suppliers are always interrelated, but
the effect they have on one another is not always clear.
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It is crucial to buyers to be able to lift the veil that covers the
supplier’s pricing policy
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Some methods to do so:
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Closely monitoring the supply market
 Monitoring individual supplier financial performance
 Make analysis of supplier’s cost price
 Monitor developments in the supplier’s performance on price, quality,
delivery, etc.