PURCHASE MANAGEMENT

Purchase Management is a function of materials management in a company. Their basic function

is procuring the inputs for production function. This function encompasses suppliers in the
market external to the organization and several internal to the organization.
Importance of purchase management: purchase management is considered to be very
important function of materials management in a company. Its importance is felt even outside the
formal scope of materials management. As the purchase decisions commit a very large portion
of financial resource of the company purchase function is said to be highly important. Purchase
personnel deal with large number of external agencies while performing their functions. Hence
they represent company’s reputation in the out side world. As they negotiate and finalize deals
worth lot of money for the company their integrity is of utmost importance for the organization.
Objectives or goals of purchasing: primary objective or goal of purchasing function is making
inputs available to the conversion process at minimum cost to the final output of the company.
Thus focus is on system out put rather than on micro level objectives.
The inputs to be made available are raw materials, semi finished items, bought out items etc.
There are certain parameters to be monitored for fulfilling the system objectives. We can call
them goals of purchasing. These goals are popularly known as 5Rs of purchase namely, right
price, right quantity, right quality, right place and right time. In simple terms, if the above 5Rs are
achieved primary objective is fulfilled.

Right material: right material is the one chosen as a result of value analysis, standardization,
variety reduction etc.
Right price: right price is determined by costing the production process of the supplier. Right
price is determined by allowing reasonable profit for the supplier and insisting and helping to
reduce cost. Tender system should be used to identify lowest responsible bidder rather than
lowest bidder. Principles normally used to ensure right price are cost structure and learning curve
Right quantity: right quantity of purchase is the one that ensures no excess and no shortage.
High priority items are subjected to EOQ analysis to determine the right quantity for purchase.
This ensure overall minimum cost for inventory.
Right quality: in an item purchased should ensure adhering to mutually accepted standard by
supplier and customer at the time of finalizing the purchase order. The accepted standard may be
a drawing, a sample, a grade or a universal standard like DIN, IS, BS etc.
Right place: is the one where the item is going to enter the value stream. If the item is not
available here, when needed, it is in short supply for the process.
Right source: right source meets the QCD expectations of the customer
Right time: is as decided by production schedule for meeting customer’s requirements.
Right terms of contracts: terms in a contract are legally enforceable. In case of dispute between
supplier and customer, courts will go by the terms decide who is wrong. Hence right terms are
those which protect the interests of the company. At the same time right terms ensure that neither
parties do anything illegal.
Purchase Systems
In an organization all activities are carried out according to systems and procedures for reducing
variations and errors arising out of individuality. This makes performing the function simple and
less prone to errors. Purchase organization also consists of such systems established for smooth
running of purchasing function. These systems are pre purchase system, ordering system, post
purchase system.
1. Pre purchase System
This system lays down how purchase activity is initiated. Various activities controlled by this
system are requisitioning, selection of suppliers and obtaining & evaluating quotations.
Requisitions: Requisition for an item may be made by anyone in the organization. Pre purchase
system prescribes separate requisition form for capital equipment as this purchase activity is
controlled by a separate system. Requisition for an item shall be made in a standard format. This
format ensures that indenting person furnishes all relevant information like quantity,
specifications etc. and gets the purchase authorized by competent authority in the organization.
Thereby making purchase activity easier and less time consuming. This system shall identify the
hierarchical level competent to authorize the purchase depending on the nature and value of the
item
Traveling requisitions: in an inventory system where an item is made a stock item to be
perpetually maintained at a minimum level, purchase activity is triggered by stores function based
on ROL. The requisition is a permanent document with specification, authorization and quantity
required permanently marked on it. The traveling requisition returns to indenting department after
purchase is initiated
Inquiries: pre purchasing system prescribes standard formats for making inquiries in the market
for supply of a particular product. These are standard forms boldly declaring that they are not
explicit or implicit purchase orders
NEGOTIATIONS?

2. Ordering system
Purchase order is the most important element in ordering system. Purchase manager releases the
purchase order after selecting the supplier and finalizing the price and other conditions of sale.
Once the purchase order is raised and accepted it becomes a legal document. Contents of the
purchase order are
purchase order reference number
description of materials and specifications
quantity required and delivery schedule
price and discounts
shipping instructions
location where the material is to be shipped
signature of the authorized officer
detailed terms and conditions
several number of copies made to be forwarded to various recipients. Many companies colour
code the copies making the colour destination specific.
Original and a copy is sent to the supplier for acknowledgment of the original order. This
acknowledgment is acceptance of terms and conditions of purchase order.
One copy is sent to the receiving department for making necessary receiving arrangement
One copy is sent to the indenting department for information
One copy is sent to finance department for organizing payment to the supplier
3. Post purchase system
This system includes follow up procedures, receipt and checking invoices.
[a] Follow up procedures: follow up is an expensive activity for an organization. Hence this
should be minimized and made more effective. A sound procedure for follow up is required to
eliminate duplication and ineffectiveness. After conducting FSN analysis follow up frequency
should be fixed for follow up according to FSN status so that follow up doesn’t become wasteful.
Follow up responsibility is assigned to buyers responsible for areas in which suppliers are
situated.
[b] Receipt: receipt system should ensure that defects in receipt process are eliminated
proactively. A systematic record of all receipts, carrier details and descriptions is maintained.
This record is in chronological sequence of arrival of supplies. The system ensures that inspection
of consignments received is arranged in time and payment to suppliers for accepted consignments
is organized. In many organizations a receipt section handles this activity centrally
[c] Invoice checking
supplier sends his invoice to customer’s finance department for payment for the goods supplied.
Invoice checking system ensures that the invoice is checked against the PO terms, reciept details,
quantity received, inspection reports [accepted quantity and rejected quantity], losses, damages
etc. this system helps materials management to coordinate with finance department for payment
to suppliers.
Special purchasing systems
Forward buying: when an organization enters into a contract with another company for buying
an item for a period as long as a year or more it is called forward buying. Forward buying is a
commitment for a long period. This commitment is made after studying availability of the item,
financial position, EOQ for that item, discounts, staggered deliveries etc. there is no speculation
in this buying.
Tender buying: tender buying is practiced in public sector companies and in private companies
for purchases above specified limits. There are two types of tendering systems in practice. One is
called open tendering system that is adopted by public sector companies. In this case bids are
invited by advertisements in papers. On the day of opening the tenders the lowest bidder is
chosen for awarding the contract of purchase. This method is time consuming and expensive.
Private companies make a list of well known and serious bidders known in the market and invite
tenders from these bidders. When the tenders are opened lowest bidder is identified. Care is taken
to ensure that the lowest bidder is also a responsible bidder and capable of meeting QCD
expectation
Blanket orders: order covers a long period like a year. Price is fixed. Delivery is as and when
customer desires. Supplier to hold inventory. Benefits are no of orders are less, inventory is
passed on to the supplier
Zero stock: Supplier holds the stock for the buyer. Supplier and customer are close to each other
and the inputs flow in a pipe line or on a conveyer. Obsolescence is minimized. Suppliers
production schedule is as per customers. Dedicated supplier and customer
Rate contract: after finalizing the rates through negotiations for a definite period, customer shall
buy required quantity from the specified supplier. Railways and other government organizations
practice this method. Price shall not be negotiated once again. Rate contracts normally do not
specify lead time. Hence suppliers demand higher rates for early delivery.
Reciprocity
Organizations resort to reciprocal buying when they find it difficult to do business in highly
competitive environment. Reciprocal buying is buying form one’s own customers. If this is done
in conditions of competition, there should not be anything wrong about this. But, in this situation
one tries to take care of the other as each one keeps changing the role of customer & supplier.
This leads to over all deterioration of product quality and downfall of the pair.
Systems contract
Purchase order is used as a single document during the course of completing entire transaction.
Same document is used as delivery challan at the time of delivery. The document is updated at
every stage of the process. Reduction in number of documents and documents preparation is
major saving in administration expenses. This results in cost reduction to the value chain.
Importance of source
Source is the place from where we procure our inputs. These inputs may be in the form of raw
materials, out sourced components or semi finished items. Manufacturing companies out source
large number of items as they slim down processes.
As outsourcing is gaining importance in business, importance of source is becoming high.
Following reasons are considered to be making source an important element in materials
management.
1. Source of market intelligence: source is a window through which the buyer organization
looks at the world outside. Source provides access to the real time information about the
 phenomenon. Information about current trends and industrial climate is obtained from the
sources.[market conditions, industrial climate, what is new?]
2. Crucial for product quality: buyer organizations depend on out sourced components for
producing the product which central to the objectives business. Reliance on capabilities of
supplier to meet tough quality standards is very high in current business environment.
3. Member in the value chain: supply source is an important element in the value chain. Any
cost added to the value chain reaches the end user as price. Hence effectiveness and
efficiency of the source becomes vital to business.
4. Import substitution, cost reduction, value improvement: as indigenization of sub
assemblies, components and spare parts is necessary to reduce the cost of product in
competition, buyer organizations turn to supply sources to develop these items. Several trials
and corrections may be required to finalize the substitute. In house capacity is generally not
available for this kind of trials. A resourceful supplier is very useful in this process. Same
logic holds good in other exercises for cost reduction and value improvement. It is quite
logical that entire process is not outsourced but isolated developmental activities are
invariably done. It is common knowledge that many small scale companies do not have full
fledged tool rooms but rely on sources for all tool room activities.

Searching for source

Trade magazines: Source being such an important element in the value chain searching for a
reliable source assumes importance. A buyer constantly looks for sources as new requirements
keep cropping up to meet the challenges of business. You will find desks of purchase managers
stacked with national and international trade magazines. These magazines carry information
about who makes what and where.
Telephone directory: yellow pages in telephone directory is full of telephone numbers and
addresses of manufacturers and service providers
Trade shows: trade shows are held periodically by industry organizations and or government to
bring sources for various industrial products on one forum to demonstrate their products for the
benefit of users. Sources set up their stalls and expert know how is provided at these stalls. Buyer
companies get the benefit of viewing products of competitive sources at one place. Technical and
some times even commercial decisions are facilitated at such places. Eg. IMTEX at Godrej.
Publications by offices of DGTD [Director General for Technical Development], DGS&D
[Director General for Supply and Disposal]: these two are central government organizations
dealing with technical development. They publish details of various supply sources they deal
with.
Internet: this is a rich source of information for products and services.
Inquiries by buyers and request by suppliers: buyers float inquiries in the market to find
potential source, some times formally through advertisements or direct mailing or informally
through friends and other acquaintances. Responses received to these inquiries and visits of sales
representatives who come to promote the products of their companies are sources of information
needed by a buyer.
Meetings and or visits subsequently help buyers to identify capable suppliers.
preliminary screening and selection
sources of supply discussed above are quite large in number. A buyer short lists supply sources
by evaluating them with respect to some critical factors like physical separation and any other
feature. This would short list the sources to a manageable size. The sources so selected should
visited by buyer’s representatives to conduct a preliminary screening to further short list them.
During this exercise the buyer rates the supplier on various critical factors on a zero to ten scale.
Various factors generally selected for evaluation are listed below. A buyer may identify other
factors as critical and add them to the list, or delete some of them if considered superfluous.
• general house keeping and maintenance: cleanliness and general upkeep. Specific, well
marked places for all items, general feeling of orderliness and sleekness. Upkeep of building
and equipment.
• production and technical competence: technical qualification and experience of employees.
• quality control and inspection facilities: in house facility to check quality parameters specific
to the product buyer has in his mind.
• financial resources: general worth of the company, may be in terms of share value, bonus and
other emoluments paid to the employees.
• other companies supplied to: an up to date client list, the status of the clients in the market.
• Progressiveness of management: Does the management attach importance to training? Are
there any initiatives to improve total quality? ISO certification? Inventory reduction? Etc.
• Morale of the work force: are the workmen proud of the company?
• Ability to meet QCD expectations: evidence of existence of systems in the company to
handle QCD demands of customer.
• Cordial relations and courtesy: how are the visitors treated? Same curtsey to suppliers and
customers?
Individual factors can be awarded weightage as per relative importance of the selected factors for
evaluation. Marks scored on a 0 to 10 scales are to be multiplied by this weightage factor. Total
the scores for all factors. Compare the total scores of all sources visited. A simple ABC analysis
would reveal top 2 or 3.
Negotiations and trial orders
Call the top two or three supply sources and negotiate with them for a trial order. Terms of
delivery, price and quality are negotiated and finalized. A trial order is placed for a small quantity
to gauge mutual acceptance between supplier and customer.
What strengthens customer supplier relations?
 Clear cut need described fully, quantity and technical needs are clear. A constant source of
irritation between supplier and customer is rejection. Incomplete and ambiguous specification
is at the root of rejection. Nothing should be left to the judgment of supplier in terms of
customer’s QCD expectations.
 personal rapport between buyer & supplier for establishment of communication.
 vendors’ meet to discuss performance of supplied materials, quality and technical
performance: many good buyers organize an annual meet for suppliers. A forum is provided
where performance of suppliers product on customers production lines is discussed with
individual supplier. Supplier can easily draw up a list of corrective and preventive actions to
iron out the problems faced by customer. Supplier also gets a forum to place forward his/her
problems with customers systems.
Vendor rating
Vendor rating is a system generally used for eliminating or blacklisting a bad supplier. This is
also used to apportion buyers need of supplies to various suppliers. Vendor rating is allotment of
marks based on QCD performance to suppliers.
How evaluation is done?
As discussed earlier, evaluation is done on QCD performance of supplier.
1. Delivery performance: delivery performance has two aspects, time and quantity.
a. adherence to time schedule: Proportion of consignments reaching the customer on time to
total consignments sent during a specific span of time is a measure generally accepted to assess
delivery performance with respect to time.
b. Adherence to quantity schedule: Proportion of quantity received by the customer to the
quantity demanded by the customer during a specific span of time is a measure generally
accepted to assess adherence to quantity schedule.
2. Quality performance: Proportion of consignments meeting mutually accepted standard of
performance on customers production lines to total consignments sent during a specific span of
time is a measure generally accepted to assess quality performance.
3. Price performance: proportion of price expected by the customer to the price accepted by the
supplier during a specific span of time is a measure generally accepted to assess price or cost
performance.
Special aspects in source selection
Local sources and outstation sources, merits demerits: local sources are easily accessible to
the customer. The fact that they are physically close to the customer places them at an advantage
over the suppliers away. A rapport easily develops between these suppliers and customer. They
respond to the customer’s need promptly. These sources can easily be reached in situations where
the customer needs any help for fulfilling urgent requirements. If you observe the industrial map
of India, you will find that there are isolated areas who excel in production and supply of specific
items, like ko;hapur for castings, mumbra for sand, kokan for mangos, panjab for sports goods. If
we stick to local suppliers we shall be deprived of the expertise available elsewhere.
subcontracting - better utilization of man power, better scheduling of facility for critical operation
Small suppliers and big suppliers, merits, demerits: small suppliers are always keen to serve
the customer as they are small and would like to expand their business. They generally do not
have many customers. They are readily accessible and take extra efforts to satisfy the customer.
Response time to customer is very short. A big supplier always has number of customers and not
very keen to spare extra efforts for one customer. He is not as keen as a small supplier to run an
extra mile to please a customer. But a big supplier has better infrastructure, well organized
systems for quality performance and R&D setup. This makes a big supplier more competent than
a small one to meet QCD expectations.
Make or buy decisions
What do we make? Why & When do we make?
♦ Whatever is crucial to the quality of final out put of the organization is always made in house.
Such operations should be carried out under direct supervision of manufacturer.
♦ Core competence of the company: Core competence is developed around the critical
operations to the product quality. Operations falling within the core competence of the
organizations are always done in house.
♦ Propritorial knowledge and confidential design: operations with respect to these issues are
never outsourced but done in house as these are to be guarded against competition in the
interest of company. Just as weapon design should never reach the enemy.
♦ Special skills and technology: such operations are done in house as the skills and technology
is available only in house.
♦ In house capacity is unutilized: when the capacity in house is unutilized outsourcing would
only add cost to the product.
♦ Fear of monopoly by supplier: if the operation is such that supplier can hold the buyer to
ransom after product development of product, one should never resort to outsourcung.
♦ Suppliers are unreliable and not transparent: unreliable suppliers make the customer company
vulnerable in the market with respect to their customer’s QCD expectation. A supplier who is
not transparent also is equally undesirable. In the context of modern business supplier and
customer collectively add value to the supply chain. Reluctance to be transparent obviously
hides cost sources that ultimately makes the product uninteresting to the price paying
customer.
♦ Order quantity is small: a small order quantity is not viable commercially as the supplier
would certainly quote high price.
what & Why do we out source or buy?
♦ Important but not critical: only such operations that are not critical but important to the final
product are outsourced by an organization.
♦ Core competence of supplier: if the operation happens to belong to the area that is in the core
competence of the supplier, it is sent out as there is advantage of quality.
♦ High overheads of buyer organization make production in house very expensive. So
noncritical operations are always made outside.
♦ To balance the production line outsourcing is a known method. In this case we exploit full
potential of production line by balancing.
♦ Planned maintenance programs render the equipment unavailable for production during
maintenance schedule. During this period one has to plan outsourcing to meet the
commitments given to the customer.
♦ Sudden breakdowns send production schedules haywire and purchasing department comes
under pressure to procure material from outside until the breakdown is set right.