SCM

Supply Chain Management:
Sourcing, Pricing and Procurement Process
Rajendran Ananda Krishnan
https://www.facebook.com/ialwaysthinkpretty
things
Topics to be covered
Sourcing and Pricing
Sourcing In house or Outsource
3rd and 4th PLs
Supplier Scoring and Assessment
Selection, Design Collaboration
Procurement Process, Sourcing Planning
and Analysis
Pricing and Revenue Management for
multiple customers, Perishable products,
seasonal demand, bulk and spot
contracts
https://www.facebook.com/ialwayst
hinkprettythings
Sourcing In-house or Outsource

The
decision of a firm to perform its

activities internally or get those
activities done from an independent
firm is known as the make versus
buy decision.
Bharti Airtel, Indias number one
private telecom service provider
announced its decision to outsource
key network management activities,
IT
services
and
call
centre
operations also
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Bharti Airtel : Outsourcing of Network

Operations
Network
Management to Ericsson, Nokia and

Siemens Manage the existing network and deploy
and operate new base stations in the future.
IT Management to IBM IBM manages all IT services
(billing, CRM), operates data centres, help desk for
IT support and application development.
Customer Service call centres to Hinduja, TMT,
Mphasis & IBM Daksh Managing customer service
call centres for all customers except corporate
clients and high-value clients. Bharti itself is
maintaining customer service for these high-end
customers.
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Out sourcing Vs Off

shoring
Out
sourcing - Owning the

facilities and giving them to third
party and getting manufactured .
-Off shoring
Not owning any facilities, but
making others to acquire facility
and getting manufactured:
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Benefits from effective sourcing decisions

Better
economies of scale can be achieved if orders within a

firm are aggregated.
More efficient procurement transactions can significantly
reduce the overall cost of purchasing.
Design collaboration can result in products that are easier to
manufacture and distribute, resulting in lower overall costs.
Good procurement processes can facilitate coordination with
the supplier and improve forecasting and planning. Better
coordination lowers inventories and improves the matching
of supply and demand.
Appropriate supplier contracts can allow for the sharing of
risk, resulting in higher profits for both the supplier and the
buyer.
Firms can achieve a lower purchase price by increasing
competition through the use of auctions.
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In-house or Outsource
The decision to outsource is based on the growth in
supply chain surplus provided by the third party and
the increase in risk incurred by using a third party. A
firm should consider outsourcing if the growth in
surplus is large with a small increase in risk.
How do Third parties increase the Supply Chain
Surplus
Third parties increase the supply chain surplus if they
either increase value for the customer or decrease
the supply chain cost relative to a firm performing the
task in-house.
Third parties can increase the supply chain surplus
effectively if they are able to aggregate supply chain
assets or flows to a higher level than a firm itself.
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Capacity
aggregation A third party can increase

the supply chain surplus by aggregating demand
across multiple firms and gaining production
economies of scale that no single firm can on its own.
One of the reasons that Dell outsources design and
production of the processors in its PCs to Intel is that
Intel supplies many computer manufacturers and
gains economies of scale that are not available to Dell
if it designs and produces its own processors.
Inventory Aggregation A third party can increase
the supply chain surplus by aggregating inventories
across a large number of customers. Aggregation
allows them to significantly lower overall uncertainty
and improve economies of scale in purchasing and
transportation. They carry significantly less safety
and cycle inventory than would be required if each
customer decided to carry inventory on its own.
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Transportation
Aggregation UPS, FedEx and a

host of LTL carriers are examples of transportation
intermediaries that increase the supply chain surplus
by aggregating transportation across a variety of
shippers. Each shipper wants to send less than the
capacity
of
the
transportation
mode.
The
transportation intermediary aggregates shipments
across multiple shippers, thus lowering the cost of
each shipment below what could be achieved by the
shipper alone.
Warehousing Aggregation The growth in
surplus is achieved in terms of lower real estate
costs as well as lower processing costs within the
warehouse.
Savings
through
warehousing
aggregation arise if a suppliers warehousing needs
are small or if its needs fluctuate over time.
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Procurement
Aggregation A third
party increases the supply chain
surplus if it aggregates procurement
for many small buyers and facilitates
economies of scale in production and
inbound transportation.
Lower costs and higher quality If
these
benefits
come
from
specialization and learning, they are
likely to be sustainable over the long
term. A specialized third party that is
further along the learning curve for
some supply chain activity is likely to
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Risks of using a Third Party

The
process is broken The biggest

problems arise when a firm outsources
supply chain functions simply because it
has lost control of the process as it will
make it worse and harder to control.
Underestimation
of
the
cost
of
coordination Underestimate the effort
required to coordinate activities across
multiple entities performing supply chain
tasks. This is especially true if a firm plans
to outsource specific supply chain functions
to different third parties.
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Reduced
Customer/supplier contact A firm

may lose customer/supplier contact by introducing
an intermediary. The loss of customer contact is
particularly significant for firms that sell directly to
consumers but decide to use a third party to either
collect incoming orders or deliver outgoing product.
Loss of internal capability and growth in third
party power A firm may choose to keep a supply
chain function in-house if outsourcing will
significantly increase the third partys power.
Companies such as HP and Motorola have moved
most
of
their
manufacturing
to
contract
manufacturers but are reluctant to move either
procurement or design even though contract
manufacturers have developed both capabilities.
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Leakage
of sensitive data and

information Using a third
party requires a firm to share
demand information and in some
cases intellectual property. If the
third
party
also
serves
competitors, there is always the
danger of leakage.
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Third and Fourth Party Logistics

Providers
A
third party logistics provider performs

one or more of the logistics activities
relating to the flow of product,
information and funds that could be
performed by the firm itself.
Traditionally, 3 PLs focused on specific
functions
such
as
transportation,
warehousing
and
information
technology within the supply chain.
Most 3PLs started out by focusing on
one of the functions in the supply
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third-party
logistics
provider
(abbreviated 3PL, or sometimes TPL) is a
firm that provides a one stop shop service to
its customers of outsourced (or "third party")
logistics services for part, or all of their
supply chain management functions.
Third party logistics providers typically
specialize
in
integrated
operation,
warehousing and transportation services
that can be scaled and customized to
customers
needs
based
on
market
conditions and the demands and delivery
service requirements for their products and
materials.
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Types of 3PL
Freight forwarders
Courier companies
Other companies integrating & offering subcontracted
logistics and transportation services
Hertz and Alfredsson describe two categories of 3PL
providers:
Standard 3PL provider: This is the most basic form of
a 3PL provider. They would perform activities such as,
pick and pack, warehousing, and distribution
(business) the most basic functions of logistics.
Service
developer: This type of 3PL provider will offer

their customers advanced value-added services such
as: tracking and tracing, cross-docking,
specific
packaging, or providing a unique security system.
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third-party logistics provider (3PL) is an

asset based company that offers logistics
and supply chain management services to
its customers. It commonly owns and
manages
distribution
centers
and
transport modes. A fourth-party logistics
provider (4PL) integrates the resources of
producers,
retailers
and
third-party
logistics providers in view to build a
system-wide improvement in supply chain
management. They are non-asset based
meaning that they mainly provide
organizational expertise.
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4th Party Logistics Services (4PL)

With
the Increased globalization of SC ,

customers are looking for players who can
manage virtually all aspects of their supply
chain. This has led to the concept of fourth party
logistics provider.
Anderson Consulting ( Accenture) defined 4th PL
as An integrator
that assembles resources,
capabilities and technology of its own and other
Organizations, to design,
build and run
comprehensive SC solutions.
3PL
targets a function, 4PL
entire
Process
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A Fourth-party logistics provider

(abbreviated 4PL), lead logistics
provider, or 4th Party Logistics
provider, is a consulting firm
specialized
in
logistics,
transportation, and supply chain
management.
Typical fourthparty logistics providers are
CPCS,
SCMO,
BMT,
Deloitte,
Capgemini, 3t Europe, Accenture
and Geodis.
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4TH PL company examples

Menlo
logistics manages all aspects of the

supply chain for Home Life , national home
furnishing retail chain
Integrates
transportation,
warehousing,
home
delivery, product set-up, repair, and reverse
logistics.
Kuehne & Nagel AG - Swiss Freight forwarder, served
as 4th PL for Nortel Network for outbound logistics to
customers. Handles 35 to 40 forwarders, warehouse
managers, truckers, and other log functions.
Li & Fung- served Reebok, managing sourcing and
production across1000s of factories in 32 countries.
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The main factors behind the increasing role of 3PL and 4PL are:
The
international division of production associated with
globalization helped set a global network of manufacturing
activities, implying that producers and consumers tend to have an
acute geographical separation requiring complex transportation
services.
An increasing focus of manufacturers and retailers on their core
business (known as core competencies) and sub-contracting
activities such as logistics where they have less expertise.
Productivity gains in supply chain management in terms of costs
and reliability that can be derived from the managerial and
information technology expertise provided by 3/4PL.
Better utilization of transportation assets and resulting economies
of scale. 3PLs can make better use of transportation assets by
balancing the needs of multiple client shippers across
transportation and distribution.
3/4PLs
are more prone to implement novel supply chain

management practices requiring a higher expertise on material
flows such as transloading , crossdocking and shipment tracking.
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Key Sourcing- Related

Processes
1. Suppliers Scoring and assessment
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Supplier Scoring and Assessment

In addition to quoted price, the following factors must
be considered when scoring and assessing suppliers :
1. Replenishment Lead time
2. On- time performance
3. Supply Flexibility
4. Delivery Frequency / Minimum lot size
5. Supply Quality
6. Inbound Transportation Cost
7. Pricing Terms
8. Information coordination capability
9. Design Collaboration capability
10. Exchange rate , Tax and Duties
11. Supplier Viability
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When scoring and assessing suppliers , the following

factors other than quoted price must be considered:
Replenishment Lead Time As the replenishment
lead time from a supplier grows, the amount of safety
inventory that needs to be held by the buyer also
grows.
On-time performance It affects the variability of
the lead time. A reliable supplier has low variability of
lead time, whereas an unreliable supplier has high
variability. As the variability of lead time grows, the
required safety inventory at the firm grows very
rapidly.
Supply Flexibility Supply flexibility is the amount of
variation in order quantity that a supplier can tolerate
without letting other performance factors deteriorate.
The less flexible a supplier is, the more lead time
variability it will display as order quantities change.
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Delivery
frequency/minimum lot size Affect

the size of each replenishment lot ordered by a
firm. As the replenishment lot size grows, the
cycle inventory at the firm grows, thus increasing
the cost of holding inventory.
Supply quality A worsening of supply quality
increases the variability of the supply of
components available to a firm. Quality affects
the lead time taken by the supplier to complete
the replenishment order.
Inbound transportation cost Sourcing a
product overseas may have lower product cost
but
generally
incurs
a
higher
inbound
transportation cost, which must be accounted for
when comparing suppliers.
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Pricing
terms Include the allowable time delay

before payment has to be made and any quantity
discounts offered by the supplier. Allowable time
delays in payment to suppliers save the buyer
working capital.
Information Coordination Capability Affects
the ability of a firm to match supply and demand.
Design Collaboration Capability Good design
collaboration for manufacturability and supply chain
can also decrease required inventories and
transportation cost.
Exchange rates, taxes and duties- Significant for
a firm with a global manufacturing and supply base.
Supplier viability Supplier should be around to
fulfill the promises it makes.
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Supplier Selection - Auctions and

Negotiations
A firm must decide whether to use
single sourcing or multiple suppliers.
Single
sourcing
guarantees
the
supplier sufficient business and
proper coordination is possible if
there is a single source.
Multiple sources ensures a degree of
competition and also the possibility of
a backup should a source fail to
deliver.
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Selection of suppliers is done using:

1. Auctions in the supply chain
. Sealed-bid first price auction requires each
potential supplier to submit a sealed bid for the contract
by a specified time. Contract is assigned to the lowest
bidder.
. English Auctions The auctioneer starts with a price
and suppliers can make bids as long as each successive
bid is lower than the previous bid. The supplier with the
lowest bid receives the contract.
. Dutch Auctions The auctioneer starts with a low price
and then raises it slowly until one of the suppliers agrees
to the contract at that price.
. Second Price Auctions Each potential supplier
submits a bid. The contract is assigned to the lowest
bidder but at the price quoted by the second lowest
bidder.
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Basic Principles of Negotiation

Negotiation is likely to result in a
positive outcome only if the value the
buyer places on outsourcing the
supply chain function to this supplier
is at least as large as the value the
supplier places on performing the
function for the buyer. The difference
between the values of the buyer and
seller is referred to as the bargaining
surplus. The goal of each negotiating
party is to capture as much of the
bargaining surplus as possible.
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Contracts and Supply Chain Performance

Buyback
or Returns Contracts Allows a

retailer to return unsold inventory upto a
specified amount, at an agreed upon price.
Revenue-Sharing
Contracts
The
manufacturer charges the retailer a low
wholesale price and shares a fraction of the
retailers revenue.
Quantity Flexibility Contracts The
manufacturer allows the retailer to change
the quantity ordered after observing
demand.
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Design Collaboration (with Suppliers)

It is crucial for a manufacturer to collaborate with suppliers
during the design stage if product costs are to be kept low.
Working with suppliers can speed up product development
time significantly. This is crucial in an era when product life
cycles are shrinking.
Finally, integrating the supplier into the design phase allows
the manufacturer to focus on system integration, resulting in a
higher quality product at lower cost.
Helps to reduce cost, improves Quality and reduce time to
market.
Eg; Ford designed the car THUNDER BIRD through suppliers

involvement, they not only manufactured the components, but
also responsible for the design. This allowed Ford to bring the
New model to market with in 36 months of program approval..
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The Procurement Process

There are two main categories of
purchased goods : Direct and Indirect
materials.
Direct materials are components used
to make finished goods. For eg.
Memory, hard drives and CD drives
are direct materials for a PC
manufacturer.
Indirect materials are goods used to
support the operations of a firm. PCs,
stationary items are examples of
indirect materials for an automotive
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Difference between Direct and Indirect

Materials.
USE
Accounting
Impact on production
Direct Materials
Indirect Materials
Production
Maintenance. Repair
and support
operations
Cost of Goods Sold
Power , Fuel and

other Packing
materials used
Any delay will delay

in Production
Less direct impact
Processing cost
relative to value of
transaction
Low
Number of
Transactions
Low
High
High
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Product Categorization by Value and Criticality

High
Critical Items (Nuts &

Bolts)
Long LT, Ensuring
Availability is
Critical Items important
than Price
LOW
General Items
Indirect Materials
Goal is To keep
the cost of
acquisition or
transaction cost
low.)
LOW
Strategic Items
(Electronics for
Auto manufacturers )
Buyer supplier
relationship is long
term.
Bulk purchase Items
Chemicals , Packaging
materials. Use of well
designed auctions for
procurement.
Value / Cost
High
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Sourcing Planning and Analysis

One
important analysis is the aggregation of

spending across and within categories and
suppliers. Aggregation provides visibility into
what a company is purchasing and from whom
the product is being purchased. Managers can
use this information to determine economic
order
quantities,
volume
discounts
and
projected quantity discounts on future volumes.
The second piece of analysis relates to supplier
performance. Supplier performance should be
measured against plan on all dimensions that
affect total cost, such as responsiveness, lead
times, on-time delivery, and quality.
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Suppliers Portfolio
Spending
and supplier performance should

be used to decide on the portfolio of
suppliers to be used and the allocation of
demand among the chosen suppliers.
Portfolio of suppliers with complementary
strengths, to be balanced
Cheaper, but lower performing, suppliers to
be used to supply base and regular demand.
Higher performing but more expensive,
suppliers should be used to buffer against
variation in demand.
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Pricing and Revenue Management (PRM)
Revenue Management is the use of

pricing to increase the profit generated
from a limited supply of supply chain
assets.
Revenue management may also be
defined as the use of differential pricing
based on customer segment, time of
use, and product or capacity availability
to increase supply chain surplus.
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Contd.
Revenue management adjusts the pricing and available supply

of assets to maximize profits. Revenue management has a
significant impact on supply chain profitability when one or
more of the following four conditions exist :
1. The value of the product varies in different market segments.
2. The product is highly perishable or product wastage occurs.
3. Demand has seasonal and other peaks.
4. The product is sold both in bulk and on the spot market.
Airline seats are a good example of a product whose value
varies by market segment. A business traveler is willing to
pay a higher fare for a flight that matches his or her
schedule. In contrast, a leisure traveler will often alter his or
her schedule to get a lower fare. An airline that can extract a
higher price from the business traveler compared to the
leisure traveler will always do better than an airline that
charges the same price to all travelers.
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Pricing and Revenue Management for

Multiple Customer segments
1. Example of multiple customer segment:

- Business traveler, willing to pay high a higher
fare to travel a specific schedule.
- Leisure traveler, ready to shift their schedule to
take advantage of lower fares.
2. Trucking firm has 6 Trucks :
6000 Cft x $ 2.50 = $15,000 A1
(Ordinary)
3000 Cft x $ 3.50 = $ 10500
3000 Cft x $ 2.00 = $ 6000
A2 ( By
PRM)
Total = $ 16500
Additional Revenue......$ 1500 hinkprettythings
Allocating Capacity to a Segment

under Uncertainty
In
most instances of differential pricing, demand

from the segment paying the lower price arises
earlier in time than demand from the segment
paying the higher price. A supplier may charge
a lower price to a buyer willing to commit far in
advance and a higher price to buyers wanting
to place their orders at the last minute.
The basic trade off to be considered by the
supplier with production capacity is between
committing to an order from a lower price buyer
or waiting for a high price buyer to arrive later
on.
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Contd.
The
two risks in such a situation are spoilage and
spill.
Spoilage occurs when the capacity reserved for
higher price buyers is wasted because demand from
the higher price segment does not materialize.
Spill occurs if higher price buyers have to be turned
away because the capacity has already been
committed to lower price buyers.
Another approach to differential pricing is to create
different versions of a product targeted at different
segments. Publishers introduce new books from bestselling authors as hard-cover editions and charge a
higher price. The same books are introduced later as
paperback editions at a lower price.
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Different
versions can also be

created by bundling different options
and services with the same basic
product. Automobile manufacturers
create a high-end, a mid-level and a
low-end version of the most popular
models based on the options
provided.
This policy allows them to charge
differential
prices
to
different
segments for the same core product.
Many contact lens manufacturers sell
the same lens with a one-week, onehttps://www.facebook.com/ialwayst
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Tactics to be followed when serving

Multiple Customer segments
1.
Price based on the value

assigned by each segment
2. Use different price for each
segment
3. Forecast at the segment level
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Pricing and Revenue Management For

Perishable Assets
Any
Asset that loses Value over Time is called

perishable.
Fruits, Vegetables, Pharmaceuticals etc,

Products such as computers and cell phones that lose value
as new models are introduced.
High fashion apparels
All forms of production, transportation, storage capacity,
seating capacity, travelling capacity etc, that is wasted if not
fully utilized.
Example of revenue management for a perishable asset is
the use of overbooking by the airline industry. An airplane
seat loses all value once the plane takes off. Given that
people often do not show up for a plane even when they
have a reservation, airlines sell more reservations than the
capacity of the plane, to maximize expected revenue.
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Two RM tactics used for perishable assets

1.
Vary price dynamically over time to

maximize expected revenue ( Dynamic
Pricing)
2. Overbook sales of assets ,to account for
cancellations (eg. In Airlines and Railways)
Dynamic Pricing is the tactic of varying price
over time, is suitable for assets such as
fashion apparel that have a clear date
beyond which they lose a lot of their value.
Apparel designed for the winter does not
have much value by April.
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Pricing & Revenue Management For

Seasonal Demand
Seasonal
peak of demand is a common occurrence.

1. For Amazon.com, Peak sales period is December.
As a result of the seasonal peak, there is a significant
increase in the requirement for picking and packing as
well as transportation capacity. Bringing in short- term
capacity is expensive and decreases Amazons margin.
Off-peak discounting is followed for shifting demand to
November. Free pickup and shipping is offered to
customers in Nov, encouraging customers to shift
demand from December to November.
2. Tactic is, to charge a higher price during the peak
period and a lower price during off-peak period . Tradeoff between revenue increase due to low-price should
be more than the loss due to high-price. (eg. Hotel
rooms sale )
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Marriott Corporation ( Hotel)

Hotel
industry uses differential pricing by day of

week and time of year. Here goal is not to shift
demand- but to increase demand during periods of low
demand by attracting price-sensitive customers, such
as vacationing families, with a price discount.
For business customers, peak demand days occur in
the middle of the week.
Lower rates during weekends to encourage families to
use the hotel.
Charge customers a Lower rate if families stay over a
longer period that also covers low demand days.
This tactics increase the profit of the owner of assets,
and brings in potentially new customers during the
off-peak discount period.
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Pricing & Revenue Management for

Bulk and Spot Contracts
Most
firms face a market in which some customers

purchase in bulk at a discount and others buy single units
or small lots at a higher place.
Warehousing capacity may be leased in bulk to a large
company or in small amounts to large companies for their
emergency needs or to small companies.
In most instances, owners of supply chain assets prefer to
fulfill all demand that arises from bulk sales and try to
serve small customers only if any assets are left over.
For a firm that wants to be a niche player, targeting one of
the two extremes is a sensible strategy. It allows the firm
to focus its operations on serving either only the bulk
segment or only the spot market. For other firms, however,
a hybrid strategy of serving both segments is appropriate.
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PRM - Guidelines
1)
2)
3)
4)
Evaluate your market carefully The first step in

revenue management is to identify the customer
segments being served and their needs.
Quantify the benefits of Revenue Management
It is critical to quantify the expected benefits from
revenue management before starting the project.
Implement forecasting process To use
overbooking with any degree of success, an airline
must be able to forecast cancellation patterns.
Apply optimization to obtain the revenue
management decision The goal of optimization
is to use forecasts of customer behavior to identify a
revenue management tactic that will be most
effective.
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Contd.
5) Involve both sales and operation
Salespeople must understand the revenue
management tactic in place so they can align
their sales pitch accordingly.
6) Understand and Inform customer
Customers will have a negative perception of
revenue management tactics if they are simply
presented as a mechanism for extracting
maximum revenue.
7) Integrate supply planning with revenue
management The point is not to use revenue
management in isolation, but rather to combine
it with decisions on the supply side.
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Thank
You
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SCM

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Supply Chain Management:

Sourcing, Pricing and Procurement Process

Rajendran Ananda Krishnan

Sourcing In-house or Outsource

decision of a firm to perform its

Bharti Airtel : Outsourcing of Network

Management to Ericsson, Nokia and

Out sourcing Vs Off

sourcing - Owning the

Benefits from effective sourcing decisions

economies of scale can be achieved if orders within a

aggregation A third party can increase

Aggregation UPS, FedEx and a

Risks of using a Third Party

process is broken The biggest

Customer/supplier contact A firm

of sensitive data and

Third and Fourth Party Logistics

third party logistics provider performs

developer: This type of 3PL provider will offer

third-party logistics provider (3PL) is an

4th Party Logistics Services (4PL)

the Increased globalization of SC ,

A Fourth-party logistics provider

4TH PL company examples

logistics manages all aspects of the

are more prone to implement novel supply chain

Key Sourcing- Related

Supplier Scoring and Assessment

When scoring and assessing suppliers , the following

frequency/minimum lot size Affect

terms Include the allowable time delay

Supplier Selection - Auctions and

Selection of suppliers is done using:

Basic Principles of Negotiation

Contracts and Supply Chain Performance

or Returns Contracts Allows a

Design Collaboration (with Suppliers)

Eg; Ford designed the car THUNDER BIRD through suppliers

The Procurement Process

Difference between Direct and Indirect

Cost of Goods Sold

Power , Fuel and

Any delay will delay

Less direct impact

Product Categorization by Value and Criticality

Critical Items (Nuts &

Sourcing Planning and Analysis

important analysis is the aggregation of

and supplier performance should

Pricing and Revenue Management (PRM)

Revenue Management is the use of

Revenue management adjusts the pricing and available supply

Pricing and Revenue Management for

1. Example of multiple customer segment:

Allocating Capacity to a Segment

most instances of differential pricing, demand

two risks in such a situation are spoilage and

versions can also be

Tactics to be followed when serving

Price based on the value

Pricing and Revenue Management For

Asset that loses Value over Time is called