Planning 14 Purchasing performance measurement Cengage Learning Purchasing

Planning 14. Purchasing performance measurement © Cengage Learning – Purchasing & Supply Chain Management 4 ed (1 -84480 -024 -5)

Program n n n Factors that influence purchasing performance measurement Why measure purchasing performance? Problems in measuring and evaluating purchasing performance What should be measured? Purchasing audit as a management tool Establishing a purchasing evaluation system © Cengage Learning – Purchasing & Supply Chain Management 4 ed (1 -84480 -024 -5)

Factors that influence purchasing performance measurement On of the most important factor that influences the way in which purchasing results are measured, is how management looks upon the role and importance of the purchasing function Management may look at purchasing as a (1) 1. Operational and administrative activity: Management evaluates purchasing operations primarily on parameters such as order backlog, administrative lead-time, number of orders issued, numbers of requests for quotations issued, adherence to existing procedures, etc. 2. Commercial activity: Management is aware of the savings potential which purchasing may represent. Parameters being used here are the total savings reported by purchasing, number of quotations issued, variance reports, inflation reports, etc. © Cengage Learning – Purchasing & Supply Chain Management 4 ed (1 -84480 -024 -5)

Factors that influence purchasing performance measurement Management may look at purchasing as a (2) 3. Part of integrated Logistics. Management becomes aware that price hunting has its drawbacks and may lead to sub-optimization. Evaluation is aimed at quality improvement, lead time reduction and improving supplier delivery reliability. 4. Strategic business area. Purchasing is actively involved in deciding the company’s core business and reinforces the company’s competitive position. Management evaluates purchasing amongst others on the number of changes in its supply base, number of tenders and e-auctions, and its contribution to the bottom line in terms of savings realized. 5. The way purchasing activities are measured and judged will differ for every company considered; this makes it almost © Cengage Learning – Purchasing & Supply Chainto Management 4 ed (1 -84480 -024 -5) impossible develop one uniform method or system for

Factors that influence purchasing performance measurement Management’s view on purchasing… Hiërarchical position purchasing Performance indicators Operational and administrative activity Low in the organization Number of orders, order backlog, authorization, … Commercial activity Reporting to management Savings, price variances, number of RFQ’s, number of single/sole sources, … Part of integrated Logistics Purchasing is integrated with Quality, purchasing lead time, delivery other materials related reliability, … functions Strategic business area Purchasing is represented in Early involvement in purchasing top-management process, ‘Should cost’ analysis, makeor-buy, number of tenders and eauctions, changes in its supply base, … © Cengage Learning – Purchasing & Supply Chain Management 4 ed (1 -84480 -024 -5)

Why measure purchasing performance? What benefits can be derived from a systematic performance evaluation? § § Better decision making Better communication with other departments Better visibility of purchasing performance Better motivation of buyers Collectively, these comments indicate that purchasing performance evaluation Should result in higher added value of the purchasing function © Cengage Learning – Purchasing & Supply Chain Management 4 ed (1 -84480 -024 -5)

Problems in measuring and evaluating purchasing performance Several problems make a systematic and objective assessment of purchasing performance problematic (see below): § Lack of clear definitions § Lack of formal objectives and performance standards § Problems of accurate measurement § Difference in scope of purchasing © Cengage Learning – Purchasing & Supply Chain Management 4 ed (1 -84480 -024 -5)

What should be measured? Inkoopresultaat: twee begrippen zijn bepalend n Inkoopeffectiviteit: de mate waarin men erin is geslaagd – door voor een bepaalde werkwijze te kiezen - de doelstellingen en taken die waren gesteld, te realiseren. n Inkoopefficiency: de relatie tussen verwachte en werkelijke kosten die werden gemaakt om het vooraf overeengekomen doel te bereiken. Inkoopresultaat kan dus worden opgevat als de mate waarin de inkoopfunctie in staat is haar vooraf vastgestelde doelen en taken te realiseren tegen zo laag mogelijke kosten © Cengage Learning – Purchasing & Supply Chain Management 4 ed (1 -84480 -024 -5)

What should be measured? Purchasing performance is considered to be the result of two elements: § Effectiveness: Results actual / Results planned § Efficiency: Cost actual / Cost planned (e. g. material costs, quality, logistics, innovation. . ) (e. g. administrative lead times, orders per purchaser. . ) Purchasing performance thus can be defined as the extent to which the purchasing function is able to realize its predetermined goals at the sacrifice of a minimum of the company’s resources (i. e. costs) © Cengage Learning – Purchasing & Supply Chain Management 4 ed (1 -84480 -024 -5)

What should be measured? There are four dimensions on which measurement and evaluation of purchasing activities can be based § § Price / cost dimensions Product / quality dimensions Logistics dimensions Organizational dimensions These dimensions are strongly related with each other… © Cengage Learning – Purchasing & Supply Chain Management 4 ed (1 -84480 -024 -5)

Purchasing performance Key areas of purchasing performance measurement Purchasing effectivenes s Purchasing Materials costs/ prices Product / quality Materials price/cost control Materials price/cost reduction Purchasing’s involvement in new Product development Purchasing and Total Quality control Adequate requisitioning Purchasing logistics Order and inventory policy Supplier delivery reliability Personnel Purchasing efficiency Purchasing organization Management Procedures & policies © Cengage Learning – Purchasing & Supply Chain Management 4 ed (1 -84480 -024 -5) Information system

What should be measured? Purchasing Materials price/cost dimension n This dimension refers to the relationship between standard and actual prices paid for materials and services. A distinction is made between: § Price/cost control Continuous monitoring and evaluation of prices and price increases as they are announced by suppliers (e. g. ROI measures, materials budgets, price inflation reports) § Price/cost reduction Continuous monitoring and evaluation of activities initiated to reduce costs in a structured way (e. g. searching new suppliers, value analysis, substitute materials) Budgets are important instruments for performance planning and monitoring with regard to the price/cost dimension. © Cengage Learning – Purchasing & Supply Chain Management 4 ed (1 -84480 -024 -5)

What should be measured? Purchasing Product/Quality dimension n This dimension refers to purchasing’s responsibility to secure that products and services are delivered by suppliers in conformance with specifications and requirements. § Purchasing’s involvement in new product development Examples of measures: number of man hours spent by purchasing on innovation projects, number of technical change orders and initial sampling reject rate § Purchasing’s contribution to Total Quality Control Examples of measures: reject rates on incoming goods, number of approved / certified suppliers © Cengage Learning – Purchasing & Supply Chain Management 4 ed (1 -84480 -024 -5)

What should be measured? Purchasing Logistics dimension n This dimension refers to purchasing’s role to contribute to an efficient incoming flow of purchased materials and services. This includes the following major activities: § Control of the timely and accurate handling of materials requisitions § Control of timely delivery by suppliers § Control of quantities delivered Supplier evaluation and vendor rating are techniques used to monitor and improve supplier performance in terms of quality and delivery reliability. © Cengage Learning – Purchasing & Supply Chain Management 4 ed (1 -84480 -024 -5)

What should be measured? Purchasing’s Organizational dimension n This dimension includes the major resources that are used to achieve the goals and objectives of the purchasing function: § Purchasing staff § Purchasing Management § Purchasing procedures and guidelines § Purchasing information systems © Cengage Learning – Purchasing & Supply Chain Management 4 ed (1 -84480 -024 -5)

What should be measured? Examples of purchasing performance indicators Dimensio Measurement aimed at n C/I* Examples Purchase d materials prices and costs Purchased materials cost control C Materials budgets, variance reports, price inflation, reports, purchasing turnover Purchasing cost saving and avoidances, impact on return and investment Product / quality of purchase d materials Early purchasing involvement in design and development Incoming inspection quality control and assurance Purchased materials cost reduction C Purchasin Monitoring requisitioning g logistics Delivery reliability (quality and quantity) supply I C I/C Purchasin Training and motivation of I * Note: and I = Incidental g staff. C = continuous purchasing staff © Cengage Learning – Purchasing & Supply Chain Management 4 ed (1 -84480 -024 -5) and Purchasing management quality Time spent by purchasing on design and engineering projects, sampling reject rate (%) Reject rate (%), line reject rate (%), quality costs per supplier Purchasing administration lead times, order backlog (per buyer), rush orders, delivery reliability index per supplier, materials shortages, inventory turnover ratio, JIT deliveries Time and workload analysis of purchasing department, purchasing budget, purchasing and supply audit

What should be measured? Each of the four dimensions can be measured and evaluated at different levels of aggregation, such as: § Line item level § Individual supplier level § Level of the individual buyer § Department level § Overall company level © Cengage Learning – Purchasing & Supply Chain Management 4 ed (1 -84480 -024 -5)

Purchasing audit as a management tool n Through a purchasing audit, management may assess the extent to which goals and objectives of the purchasing department are balanced with its resources. n The audit must be conducted in such a way that people do not feel threatened and in a way which builds trust and generates professionalism n Audits can be preventive or corrective in nature: ¨ Preventive audits can be compared with periodical check-ups ¨ Corrective audits focus on acute problems apparant in the functioning of the department © Cengage Learning – Purchasing & Supply Chain Management 4 ed (1 -84480 -024 -5)

Purchasing audit as a management tool Elements of a purchasing audit © Cengage Learning – Purchasing & Supply Chain Management 4 ed (1 -84480 -024 -5)

Purchasing audit as a management tool Factors that influence final purchasing performance: § Requirements that the corporate system lays down for the purchasing function § Changes in the company’s supply chain § Opportunities provided by the supplier market to fulfill the materials requirements © Cengage Learning – Purchasing & Supply Chain Management 4 ed (1 -84480 -024 -5)

Purchasing audit as a management tool Goals and objectives n Goal orientation ¨ ¨ ¨ n What are the purchasing department’s goals? What are the purchasing department’s responsibilities? To what extent are the purchasing department’s tasks stated in objective and verifiable terms? Client orientation ¨ ¨ ¨ n Part 1 Does the purchasing department communicate efficiently with its internal customers? Is there adequate reaction to the requirements and wants of the internal customers? Is the purchasing department sufficiently aware of new internal developments and changes in the supplier market? Risk What are the major risks with regard to price behavior of high-value items and with regard to availability of critical materials? ¨ Is purchasing sufficiently aware of these risks and what measures have been taken in order to cope with them? ¨ In general, is continuity of supply and purchasing operations sufficiently guaranteed? ¨ © Cengage Learning – Purchasing & Supply Chain Management 4 ed (1 -84480 -024 -5)

Purchasing audit as a management tool Resources n Part 2 Results and resources To what extent does purchasing meet its tasks and objectives? Is the purchasing department adequately equipped in terms of people and systems to be able to meet expectations? ¨ What measures are taken in order to improve on results on the one hand systems and human resources on the other hand? ¨ ¨ n Flexibility Does purchasing adequately react to changing materials requirements and internal customer needs? ¨ Is purchasing sufficiently interested in and pursuing new technology? ¨ What important changes have taken place in the service and organization of the purchasing department? ¨ n Management Is teamwork within purchasing department sufficiently developed? Is the purchasing department a well-respected partner for discussion of internal customer problems? ¨ What measures have been taken in order to keep the quality of human resources up to date? ¨ ¨ © Cengage Learning – Purchasing & Supply Chain Management 4 ed (1 -84480 -024 -5)

Establishing a purchasing evaluation system Common methods of establishing performance measures, norms and standards in purchasing: § § Subjective by management Expert opinion Time series analysis Inter-company and inter-industry comparison (benchmarking) The most common method is to keep track of specific measures over time - standards and norms may be derived from analysis of trends, i. e. by extrapolating historical data © Cengage Learning – Purchasing & Supply Chain Management 4 ed (1 -84480 -024 -5)

Establishing a purchasing evaluation system Initial steps involved in the development of a systematic performance measurement system: • • • Management must determine which activities are most important and justify the effort of evaluation Determine the frequency and format for data reporting, as well as which personnel will assume these responsibilities Develop a systematic procedure for collecting historical and statistical data Analysis of the data: management should look for interrelationships between means and ends Following the analytical stage, various measures are developed, implemented and subsequently refined. Prevent measures becoming too complex and too numerous, Simplicity is the key! Final step is the timely reporting of the results to those who should use them. © Cengage Learning – Purchasing & Supply Chain Management 4 ed (1 -84480 -024 -5)