McGraw-Hill/Irwin

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Chapter 1
The Progression to

Professional
Supply
Management
1-4

Key Concepts
Purchasing, Supply Management, and
Supply Chain Management Defined
Increasing Importance of Purchased Materials.

Supply Managements Impact on the

Bottom Line
Increased Sales
Faster to Market or Time-Based Competition

Supply Management and Return on

Investment
The Progression to Proactive Supply
Management
1-5

What Is a Profession?
A calling requiring specialized knowledge and
often long and intensive preparation
including instruction in skills and methods as
well as in the scientific, historical, or scholarly
principles underlying such skills and methods,
maintaining by force of organization or concerted
opinion high standards of achievement and
conduct,
and committing its members to continued study
and to a kind of work which has for its prime
purpose the rendering of a public service.
(Source: Webster's Third International Edition)
1-6

Purchasing: A Dynamic Profession

Is purchasing a profession?
Do the required skills have a historic
foundation?
Does the supply management profession
render a public service?
Is the profession undergoing changes?

1-7

Six Key Business Functions

(Supply Managements Role in Business)
1. Creation, the idea or design function, frequently
based on research and development
2. Finance, the capital acquisition, financial
planning and control function
3. Personnel, the human resources and labor
relations function
4. Supply, the acquisition of required materials,
services, and equipment
5. Conversion, the transformation of materials into
economic goods and services
6. Distribution, the marketing and selling of goods
and services produced
1-8

Evolution of Purchasing Function

Purchasing: a Dynamic Profession
Origins of Purchasing and Supply
Management
Transition to Supply Management
Wider in Scope
Value-Adding Benefits
Strategic Focus

ValueAdding Benefits
Strategic Focus
1-9

Supply Management
A Five Stage Process
Identification of item or service required
Identification of best supplier
Establishment of a fair and reasonable price
Creation of an enforceable agreement
Management of the relationship

Supply Management utilizes Strategic

Sourcing
1-10

Strategic Sourcing
Strategic sourcing is understanding the markets
you're purchasing from inside and out
and learning from your own organization and
your suppliers' organizational processes,
working as a mediator between suppliers and
your organization,
and capturing information and using it to
improve relationships.
Strategic sourcing requires two-way continuous
improvement process work from each
organization
1-11

Four Principles of Strategic Sourcing

1. Define the total value of the relationship
between purchaser and suppler,
2. Develop solutions based on a deep
understanding of the supplier's economics and
business dynamics,
3. Use differentiated purchasing tactics in order to
optimize the economic relationship for both
purchaser and suppliers, and
4. Imbed the required changes in the organization
so the purchaser achieves not only a near-term
measurable performance improvement but also
the ability to continuously improve
1-12

Four Step Process of Implementation

Research the industry economics and
dynamics of the team's assigned
commodity;
Evaluate sourcing strategies and
suppliers' capabilities;
Structure the supply relationship jointly
with suppliers and develop action plans to
build the required infrastructure;
Implement the plan and organize for
continuous improvement
1-13

Increasing Importance of Purchased Materials

The Five Ms of Business: Machines,
Man/Womanpower, Material, Money,
Management
Materials costs have increased
As a percentage of the cost of goods sold

Labor costs have decreased

Machine power has replaced much of human
(and horse) labor over the last 150 years

The result?
Materials costs are increasingly the focus of
management
1-14

Power Source Relationships: The Reduction of

Labor Content in Products
Figure 1-1

98%

98%

Key
50%

50%

Machine Power
Horse and Human

2%
1850

2%
1900

1950

1-15

Supply Management and the Bottom Line

Purchased items account for a large
percentage of the cost of goods sold.
Outsourcing allows firms to focus on their
core competencies.
Organizations outsource when they decide to
purchase something they had been making inhouse.

A dollar saved in materials cost is usually

considered a dollar increase in profit

1-16

Supply Managements Impact on Net

Income and the Bottom Line

Figure 1-2

Increased Sales:

Faster to Market
Improved Quality
Pricing Flexibility
Innovation

Lower Total Cost:

Acquisition Cost
Processing Cost
Quality Cost
Downtime Cost
Risk Cost
Cycle Time Cost
Conversion Cost
Non-value Added Cost
Supply Chain Cost
Post Ownership Cost
1-17

Supply Management and Return on Investment

Operating cost elements

Labor
$700,000

Materials
$2,300,000
($2,185,000)
Overhead
$800,000

Sales
$5,000,000
Minu
Costs of
Goods Sold
$3,800,000
($3,685,000)
Plus

Net income
$400,000
($515,000)
Divided by
Sales
$5,000,000

Profit
margin
8%
(10.3%)

Other costs
$800,000
Multiply

Return on
Investments
10.0%
(13.0%)

Inventories
$500,000
Assets

What if we
decrease
materials cost
by 5%?
(or $115,000)

Sales
$5,000,000

($475,000)
Account
receivable
$300,000

Current assets
$1,100,000

Divided by

($1,075,000)
Plus

Total assets
$4,000,000

Cash
$300,000

Fixed assets
$2,900,000

($3,975,000)

Asset turnover
rate
1.25
(1.26)

Figure 1-3
1-18

The Impact on ROI of Reducing Materials Costs

vs. Increasing Sales
If the same profit increase were to be
generated by increasing sales, what sales
increase would be required?
At the existing 8% profit margin, the
following calculation provides the
answer
Profit increase = new sales X .08
$115,000 = new sales X .08
new sales = $1,437,500
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The Impact on ROI of Reducing Materials Costs

vs. Increasing Sales
therefore..
($1,437,500 / $5,000,000) X 100 = 28.8%
or a sales increase of 28.8% is required to
match the profit increase generated by a
5% reduction in materials cost

1-20

A Definition of Supply Chain Management

Supply Chain Management is a set of
approaches utilized to efficiently integrate
suppliers, manufacturers, warehouses, and
stores,
so that merchandise is produced and
distributed at the right quantities, to the right
locations, and at the right time,
in order to minimize system wide costs
while satisfying service level requirements.
Source: Simchi-Levi, Kaminsky, and Simchi-Levi, Designing
and Managing the Supply Chain, Irwin, McGraw-Hill, 2000.
1-21

The Supply Chain

Figure 1-4

Mother
Earth

Extractors
Miners
Harvesters

Converters
(suppliers)

Materials and Service

Original
Equipment
Manufacturers
(OEM)

Information/Funds/Relationships

1-22

The Value Chain

Figure 1-5

Mother
Earth

Extractors
Miners
Harvesters

Converters
(suppliers)

Original
Marketers
Equipment
Distributor
Manufacturerss
(OEM)

End Customer
(the source
of funds)

Materials and Service

Information/Funds/Relationships

1-23

The Supply and Value Networks

Flexible virtual systems linked by
communication systems and alliances.
Simultaneous activities.
Focus is on the ultimate customer to
deliver:
Value creation through innovation
Value delivery through order fulfillment
Value maintenance through after sales service
1-24

The Extended Enterprise

When a group or network of firms
collaborate in partnership (alliance)
fashion, this is sometimes referred to as a
strategic network, virtual corporation, or
extended enterprise
When the group of firms view each other
as partners and collaborate effectively for
the good of the larger group, then they
leave established an extended enterprise
characterized by virtual integration
1-25

Implementing Strategic SCM

Figure 1.6

1-26

Concluding Remarks
Purchasing is the foundation of Supply
Management and a basic activity common
to all organizations.
Effective Supply Management has an
overwhelming impact on the firms bottom
line giving organizations a competitive
edge.
Supply Management provides tremendous
career opportunities
1-27