Procurement and Supply Management

This article will focus on the relationship between purchasing, procurement and supply chain management. Many high profile organizations in the United States have implemented systems of supply chain management as a way of integrating strategic purchasing and logistics goals. Supply chain management is a tool which allows organizations to improve quality, customer service and competitive advantage within the 21st century. Gene Richter, a former chief procurement officer at IBM, developed a framework that defined four stages of maturity in the procurement function. His work allows procurements officials to understand what it means to be strategic in the purchasing/procurement/supply chain management process.

Keywords Logistics; Logistics Management; Procurement; Purchasing; Supply Chain Management; Value Chain

Management > Procurement & Supply Management

Overview

"Economic forces and technological advances have combined over the past 20 years to increase the impact of procurement/supply management on company profitability and long-term business success. Procurement is now in a position to affect company profitability faster and more dramatically than any other corporate function" (Fitzgerald, 2002, p. 1). Many high profile organizations in the United States have implemented systems of supply chain management as a way of integrating strategic purchasing and logistics goals. Supply chain management is a tool which allows organizations to improve quality, customer service and competitive advantage within the 21st century (Tan, Lyman & Wisner, 2002).

Origin

In the beginning, there was purchasing. Purchasing has been considered a part of the business function for years. However, it was not considered a management function until the early 1970s when the oil crisis and increased competition made it necessary for companies to manage purchasing in order to maintain their cost structure (Fung, 1999). The purchasing function focused on how to buy cheaper materials and how to buy and supply materials cheaply. Purchasing can be defined as the process from origination to fulfillment of needs (Baily, 1987). The overall objectives of purchasing are to buy quality materials at competitive prices, in bulk quantities, at the required time, and from reliable sources (Fung, 1999).

The traditional approach to purchasing focuses on the internal role of purchasing. Purchasing professionals oversee an operation which requires analyses of how the organization is able to acquire the necessary material at the lowest cost. This concept is used heavily in the government and service sectors. Unfortunately, this concept neglects the fact that the primary focus of most businesses is marketing the organization's products and services, not purchasing. In order for an organization to make money, it has to promote its goods and services to the customer base. Otherwise, there may not be any money to purchase material. The quality, price, quantity and time aspects of purchasing should be evaluated based on their relationship with the differentiation, value, lead-time and responsiveness strategies of the organization (Fung, 1999). Another downside of the internalized approach is that it does not fully recognize the efforts of marketing professionals soliciting and securing business. Although “proactive purchasing techniques can be developed within an integrated operations system” (Burt, 1984), there is a void for creative responses to internal customer requests. As a result, decision making in the purchasing area has been viewed as administrative versus strategic (Ansoff, 1987).

Evolution of Purchasing

The late 1990s were a high point for the purchasing departments. Since many companies were experiencing profitability, the purchasing departments did not have much pressure to stay within budget. Those days disappeared as organizations began to question the costs of purchases. As product life cycles began to shrink and global competition intensified, procurement officers became responsible for bottom line accountability. Manufacturers began collaborating with their suppliers in order to improve quality and lead time. In addition, wholesalers and retailers began integrating their logistics functions to improve their competitive advantage. The changes that were occurring in these two functions led to the idea of making the purchasing/procurement function more strategic.

In order to make the purchasing process strategic, there was a need to redefine the concept and process. Purchasing could be viewed in terms of the relationship between its internal and external exchange functions. Fung (1999) provides an example which captures the new concept using the following illustration:

• Every purchase is also a sale. In this example, the focus is on the internal exchange because it describes the transactional aspects of purchasing decisions that contribute to marketing and organizational goals. The internal exchange function of purchasing emphasizes the relationship between input and output of the organization. Every organization has to buy goods and services so that they can convert them into a product that can be sold. The organization needs to successfully master this process in order to survive in the business arena.
• Purchasing is more than buying. In this example, the focus is on the external exchange because it describes the interactional aspects of complex exchange relationships with suppliers in markets. The relationship between the purchaser and supplier is interactive based on the assumption that both have similar tasks. Both have to prepare purchase orders, locate material, negotiate and attempt to control the transaction. Often, short term exchanges between the purchaser and supplier can turn into long term institutional practices (Hakansson, 1982). Marketing strategies of suppliers can turn into purchasing strategies of buyers. In the "big picture," purchasing becomes more than buying and marketing becomes more than selling.

Purchasing as Supply Chain Management

Once the definition of purchasing was redefined in terms of the relationship between internal and external exchange functions, it became a part of the strategic focus of the organization. Other areas of the industrial purchasing process — “measuring internal customers' perception of purchasing's service quality” (Young and Varble, 1997), “making entrepreneurial ventures through innovation, risk-taking and proactiveness” (Morris and Calantone, 1991), and developing buyer/seller relationships that compliment an organization's competitive position (Landeros and Monczka, 1989) — can be combined with the new definition of purchasing. As a result, contemporary purchasing can be viewed as a part of the supply chain management system. Supply chain management (SCM) can be defined “as the chain linking each element of the manufacturing and supply process from raw materials through to the end user, encompassing several organizational boundaries and treating all organizations within the value chain as a unified virtual business entity” (Scott and Westbrook, 1991; New and Payne, 1995). The scope of supply chain management was further expanded to include recycling (Baatz, 1995). Supply chain management “focuses on how firms utilize their suppliers' processes, technology, and capability to increase competitive advantage” (Farley, 1997), “and the coordination of manufacturing, logistics, materials, distribution and transportation functions within an organization” (Lee and Billington, 1992).

According to Fung (1999), the corresponding functions become:

• Strategic procurement — aligning procurement tasks and suppliers' performance with the corporate and business strategies of the firm.
• Supplier-base management — managing the structure and culture of supplier relationship that is demonstrated in strategic purchasing.
• Lean supply organization — energizing organizational teams for strategic procurement and supplier-base management through flexible structures and responsive information systems.

Purchasing practices should be based on the following supply chain management principles:

• Supply chain as a single entity — the recognition of the supply chain as a single entity versus fragmented responsibilities being delegated to various functions such as purchasing, manufacturing, distribution and sales (Houlihan, 1985). Strategic procurement incorporates suppliers' performance with organizational strategies. Purchasing professionals will be required to focus on strategic and critical materials that would give the best leverage opportunities; perform organizational analyses for materials management activities in the value chain; and appraise the two-way relationship between market conditions of strategic materials and the corporate and business strategies of the organization.
• End-customer focus — an integrated approach to the planning and control of material flow from suppliers to the end-customer. The objective is to manage and control relationships so that all parties involved benefit from the process as well as make attempts to maximize the efficient use of resources in an effort to achieve supply chain's customer service goals (Ellram, 1991). “Supplier-base management sustains profitable relationships with capable and motivated suppliers. Therefore, purchasing has to employ cross-functional teams to evaluate suppliers in a total quality management perspective; ensure value-added services from suppliers through a range of transactional and relational contracting arrangements; and assess changes in supplier networks and initiate changes in supplier structure in order to seek cooperative efforts from suppliers” (Fung, 1999).
• “Process-oriented system — the implementation of process-oriented business activities that do not emphasize the functional structure within and between organizations” (Cooper, Lambert, & Pagh, 1997). “Lean supply organization develops a structure for the supply chain management process. Purchasing is required to develop an information platform for transactional, decision-support and audit functions in order to streamline the supply chain activities; establish a responsive organizational system using empowered teams; and cultivate internal and external teams in an effort to sustain competitiveness and innovations of the supply chain” (Fung, 1999).

Applications

Procurement — Being Strategic

Although many procurement officials support the concept of a strategic approach, they still focus on the functional issues because it's comfortable and familiar. Taking a strategic approach can be seen as vague. Some believe that there are no real parameters and are unclear of the actual meaning. Gene Richter, a former chief procurement officer at IBM, developed a framework that defined four stages of maturity in the procurement function. His work allows procurements officials to understand what it means to be strategic in the purchasing/procurement/supply chain management process.

• Phase 1 — In this stage, most organizations are young. The procurement departments are decentralized and tend not to communicate with other departments. As a result, these departments are overwhelmed with transaction processing and cannot tackle the "big picture" issues because there is no "big picture" plan. These departments are not accountable to the bottom line. They tend not to keep records of actions that they have taken. Most of their time is spent reacting to situations.
• Phase 2 — This is the stage in which most organizations lie. Most major commodities are being negotiated and leveraged and most transactions are automated. Supplier pricing is under control, and the function works well with Accounts Payable. However, the procurement function is not a part of the discussions regarding strategic issues facing the organization.
• Phase 3 — At this stage, most procurement departments will start to connect with other departments within the company, and the procurement leaders participate in the discussions surrounding the projects of the organization. Sourcing decisions are made on price, quality, delivery and technology performance. There are usually approximately five suppliers in each global commodity/category. All commodity categories are managed by a multifunction diverse team, and these individuals report to the procurement official. In addition, policy is in place to serve as a guideline for how the procurement function should operate.
• Phase 4 — Organizations at this level have been working with the other departments of the company for a period of time, and the procurement department is an established team player in the decision making process. All procurement decisions are aligned with organizational goals and objectives. Within each commodity/category, each supplier's percentage of the business correlates with their performance ranking. Suppliers rate organizations at this level as their best customers. Other functions within the organization will give the procurement function a high approval rating. The whole supply chain — manufacturing, logistics, distribution, and accounts payable — work well with the procurement function, and succession plans are in place for all critical roles.

Viewpoints

Forming the Ideal SCM Function

There was a meeting of top purchasing executives in the private and public sector organizations in 2003, and there the topic of discussion was the changing role of procurement. Although the participants were from different industries, they shared one common interest — the evolution of procurement into a more strategic function within their organizations. Furthermore, the participants agreed that if the following characteristics were in place, a company could claim to have a strategic procurement plan in their organization. According to the SAS Group, these characteristics were:

• Procurement has to be proactive, not just reacting to problems from other departments.
• The organization's total expenditures are accurately known across units, geographies, and categories.
• The procurement function visibly contributes to profitability and competitive advantage.
• Senior management knows of procurement's role in profitability and comparative advantage and supports the supply chain organization accordingly.
• The procurement function reports to the CEO or one level below.
• The supply chain function is seen as an essential career path or destination of choice.

Although the characteristics mentioned above pose an ideal environment, the majority of the participants at this conference indicated that they did not know of a purchasing function possessing all of the above qualities. Only 50 to 60 percent of companies in the United States use advanced supply chain management (SCM) techniques. Fewer than 10 percent are positioned to fully explore the concept, and less than 1 in 100 has fully implemented it. Legacy systems, lack of buy-in from internal customers, lack of endorsement from senior management and the inability to assemble a cohesive picture of spending across the organization, were some of the barriers that procurement officers faced in taking full advantage of SCM techniques. Given these revelations, the participants discussed what they could do in order to evolve. Their collaborative efforts produced five common keys for getting to the ideal state of strategic procurement. The five keys were:

1. Establish a cohesive purchasing function, with strong people, central governance and an optimized supplier base.

Many line functions desire autonomy; however, decentralized decision making can become expensive if too many people are making purchases and no one is keeping record. Although an organization has to decide on whether or not a centralized function is ideal, the purchasing function can be effective in a decentralized or centralized environment. If the organization elects to have a decentralized function, all of the decision makers in the different functions should report to one chief procurement officer.

The selected decision makers have to be strong. Therefore, it is important that organizations spend time finding, hiring, training and retaining the best people. In order to make sure that these individuals are prepared for the tasks, a list of key components for a training program has been identified. The aspects include:

• Establish relationships with universities and colleges by offering co-op/internship opportunities to their students and get to know the faculty teaching in the supply chain management discipline. This proactive plan will give organizations the opportunity to develop relationships with graduates and obtain recommendations from the faculty who know their performance and potential.

• Support alternative college programs in the continuing education programs and distance education programs. Adult learners have to juggle many responsibilities. Therefore, they seek educational opportunities that will fit into their schedules. Current employees may elect to take this path, and this provides organizations an opportunity to support the current workforce by increasing their knowledge base. Organizations will be investing in their human capital.

• Support non-credit programs even when the budget is tight. Training budgets tend to be one of the first areas to be reduced when an organization needs to tighten the budget. However, procurement professionals should be prepared to present a quantitative report reflecting how investing the money benefits the organization's bottom line.

• Support long-term development plans that demonstrate a clear career path and gives employees exposure to different functions by placing them on a departmental rotational schedule so that they can develop their level of expertise in the different functions that affect the procurement function.

• Create a formal succession plan, which identifies individuals who are being groomed for every level of position within the procurement function.

• Embrace creativity and solicit feedback from the workers who tend to find creative solutions. Although having an understanding of policies and procedures can provide stability and continuity in the procurement department, there will be times that the department has to "think outside of the box" in order to come up with a solution to a problem.

2. Gain a big picture perspective, which transcends organizational lines, price/cost, and national boundaries.Instead of reacting to problems on a regular basis, set aside some time to understand the overall goals and objectives of the organization and determine how the procurement function fits. It is important that procurement officials understand the big picture and are able to validate its existence as well as map out how its services can add value to the bottom line.

3. Engage with internal customers early in the process, trading a control mentality for a service mentality — a partnership approach that wins the function greater control at the end.

In many organizations, the procurement department is seen as the bad guy. Its reputation is one that symbolizes the procurement officials as "the hatchet people." There is a perception that procurement will decrease quality in order to save money. Therefore, it's imperative that this department educates internal customers about its purpose and plans.

4. Earn buy-in from the top levels of the organization, from plant managers to the boardroom, by using credible metrics that prove the value of procurement.

As with any other department in an organization, it is important to have the support of senior management. Otherwise, barriers may be created when attempting to implement changes. In addition, internal customers will provide support if they know that procurement plays a role in the functions of all departments.

5. Implement the technology to make it possible.

Although issues such as risk management, total cost of ownership, and price forecasting continue to be areas that advanced capabilities in technology could assist, data management and expenditure management have been identified as areas where technology may assist the procurement department in becoming more efficient and proactive. It is important for procurement departments to began transforming transactional data into intelligence. Many organizations already use transactional to execute and track supplier interactions. These systems tend to focus on event-driven and short term reporting of information. In an effort to take the department to the next level, organizations will need to transform to an analytical system where implementing a customized layer of intelligence will support best practices (i.e. cost savings, quality improvement and supply base reduction) across the organization. Improving the quality of data is key in obtaining support from senior management and buy-in from internal customers.

Conclusion

The procurement function should strive to become a part of the strategic planning of the organization. Participation at the topic level will establish the department’s importance to the company, and employees in the function can work on establishing a positive, proactive rapport with internal customers. According to Tan, Lyman & Wisner (2002), “a fully integrated supply chain management system requires commitment from all members of the chain. Buyers may have to overhaul purchasing processes and integrate suppliers’ teams into their decision-making processes. Since the cost of changing a partner in the supply chain can be high, the purchasing function can “be held hostage” to its suppliers.” Poor supplier performance is one of many risks that procurement functions must be concerned with. Organizations will also need to monitor the “possibility of a supplier passing trade secrets to competitors or venturing out as a competitor” (Tan, Lyman, & Wisner, 2002).

Terms & Concepts

Logistics: The management of energy, information, products, services and people in order to most efficiently and profitably transfer products and services to market.

Logistics Management: The planning and implementation aspect of meeting customer needs; involves the treatment and handling of goods, services and information.

Procurement: The obtaining of goods or services at most convenient and beneficial moment; at the best cost, the best time, the best place.

Purchasing: Accessing materials, goods and services that are most appropriate for their intended purpose and are at the lowest cost.

Supply Chain Management: The coordination and integration of materials, information and finances all the way through the production process from supplier to manufacturer to wholesaler to retailer to consumer.

Value Chain: Refers to the value-adding elements of an organization; includes: logistics, marketing and sales, and service. Ultimately concerned with maximizing value and minimizing cost.

Bibliography

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SAS Group (2004, March). Five keys to transforming you procurement organization into a strategic force: Top procurement executives share their views on evolving procurement from transactional to strategic. Retrieved April 20, 2007, from http://jobfunctions.bnet.com/whitepaper.aspx?&kw=procurment+and+supply+management+best+practices&docid=140252&promo=110000

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Tan, K. C., Lyman, S. B., & Wisner, J. D. (2002). Supply chain management: A strategic perspective. International Journal of Operations & Production Management, 22, 614-631.

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Suggested Reading

Burgess, K., Singh, P. J., & Koroglu, R. (2006). Supply chain management : A structured literature review and implications for future research. International Journal of Operations & Production Management, 26, 703-729.

Lambert, D., Garcia-Dastugue, S., & Croxton, K. (2005). An evaluation of process-oriented supply chain management frameworks. Journal of Business Logistics, 26, 25-51. Retrieved April 20, 2007 from EBSCO Online Database Business Source Premier. http://search.ebscohost.com/login.aspx?direct=true&db=bth&AN=16574666&site=ehost-live

Ogden, J., Peterson, K., Carter, J., & Monczka, R. (2005). Supply management for strategies for the future : A delphi study. Journal of Supply Chain Management : A Global Review of Purchasing & Supply, 41, 29-48.