Strategic Procurement on Capital items, Common items, Constructions and Services

By Kazibila

Buying Capital investment purchase

Capital equipment is more likely to be bought centrally than products of continuous consumption such as materials and components parts. Decisions are made by decision centres with users, managers. The greater the technical nature and complex of the item the greater influencing technical staff

Capital items
Capital goods are in the form of fixed assets used to produce goods, such as plant, equipments, rolling stock et.c Capital assets are used to generate revenue on cost savings by providing production, distribution services for more than one year Capital expenditure: an expenditure on acquisition of tangible productive assets which yield continuous service beyond the accounting period.

Factors to consider when buying capital equipments

Purpose: what is a prime purpose Flexibility: How versatile is the equipment Spares: cost and ease of availability Compatibility and existing equipment Life Reliability-breakdown means greter costs Durability etc

New or Used equipments

Used equipment may be either rebuilt or reconditioned.

Financing the acquisition of capital

The acquisition of new or capital equipment may be financed by i. Straight purchase ii. Hire purchase iii. Leasing

Straight Purchase
Is buying the equipment on cash, this increases fixed equipment and reduce current assets (cash). The capital cost of acquisition and the revenue cost of maintenance may adversely affect the working capital of the firm.

Hire purchase:
Provides a compromise between straight purchase and leasing, hire purchase agreements are easily negotiated and available. To procure the temporary use of something belonging to someone else in exchange for payment

Lease
A contract by which the owner of asset agrees to let someone else use it for a stated period of time in return for payment such as six month lease. The leasing company buys and owns the asst that the lessee require The customer hire the asset from the leasing company and pays rental over a predetermined period for the use of asset.

Leasing or Buying
Decision to lease or buy depends on operating, legal and financial consideration Operational factor: advantages to trial period before purchase, cost saving equipment, the hedges provided against obsolescence and inflation. Legal factor: leasing agreements are one side in that most risks are transferred to the lessee. Terms and conditions should be examined carefully

Leasing or Buying
Financial factor : deciding whether to lease or buy include i. Opportunity cost-if purchase price of equipment would be used for other purpose and invest else where ii. Discounted cost of meeting the periodical rental payment over the period of the lease.

Production Materials
They are found under: Raw Materials such as agricultural products and extractive industries such as mineral, ores, timber, petroleum, fruits vegetables sold to a processor Semi finished goods and processed materialssuch as rods, sheets, tubing, wires, castings, cloth, leather, sugar and paper Component parts and assemblies: used a part of more complicated product to other

Raw Materials
Often sensitive commodity Recognition of commodity markets Safeguard in many organization by backward integration strategies

Commodities at the right price

Specialists use tow approaches to determine the right price i. Fundamental analysis: considers the market trend of raising and falling determine amount of stock to be purchased (bull and bear market) ii. Technical Analysis: past records of price predicts the future price. Plot the data

Fundamental analysis
i. Fundamental analysis: where in bull or rising market, when prices rises stocks tend to be held by producer or merchants thus forcing consumers to bid higher for available stocks of the commodity. In case of falling or bear market, consumers hive off their stock and buy less of the commodity than they are using, which producers reduce prices to a level at which they can turn unsold stock into cash

Construction and bills of Quantities

Construction supplies are purchased for use on a site They are found in highbulk relative to their value, such as bricks, steel Specification of construction supplies often be the basis of i. Instruction given by the client to an architect or civil engineer

Construction and bills of Quantities

Specification of construction supplies often be the basis of i. Instruction given by the client to an architect or civil engineer ii. Architects speicification

Construction and bills of Quantities

Construction supplies are purchased and delivered to the site Subcontracting is done for construction project. Example would be contracts for foundation, drainage, air condition, lift installation, ventilation, structural steelwork etc. Some construction supplies involves intra company purchasing. Such as stone, sand and gravel quarries that supply other companies within the group

Bill of quantities
BOQ are documents prepared by quantity surveyors from drawings and specifications prepared by architect or engineers, setting out as priceable items the detailed requirements of the work and the quantities involved.

Six Sections of Bill of Quantities

Section 1: Preliminary items and general conditions: it sets out the terms and conditions of the contract and responsibilities of the contractor, architects and other parties involved in the contract, provisions for the settlement of disputes arising from the contract

Six Sections of Bill of Quantities

Section II: Trade preambles: This sets out the general requirements relating to such aspect of a construction contract as: i. Excavation and earthwork ii. Concrete work iii. Brickwork and block work iv. Roofing v. Woodwork

Section II (cont)BOQ
vi. Structural steelwork vii. Metal work viii. Plumbing installation ix. Foul drainage above ground x. Holes/covers/supports for service xi. Electrical and heating installation xii. Floor, wall and ceiling finishes xiii. Glazing xiv. Painting and decorating

BOQ
Section III: Demolition and spot items Foundation Work. Set out the quantities of work to be done Section IV: General alteration and refurbishment work: Quantities of work to be done Section V: Provisional sums and contingencies: Quantities of work to be done Section VI: Grand Summary: Quantities to be done

Aims of BOQ
Enables tenderers to show against each item on the unpriced bill of quantities a price pre unit covering labour, materials, overheads and profit and when totalled in the grand summary the items will provide tender price for the contract Enables the quantity surveyor, on receipt of the successful tender, to ensure that the contractor has made no serious errors that could cause complication at a later date

Aims of BOQ
To avoid the inclusion by the tenderer of a large amount for contingencies Assist in verifying the valuation of variation due to changes in design requested or agreed by the client after the contract has been placed

Procurement and Construction contracts

Procurement will be involved at both the tendering and implementation stage of construction contracts. At tendering the procurement provides the estimates with price for materials and subtracted work on which tender can be based. Procurement will : i. Ensure that transport costs for materials are kept low by purchasing building items from sources as close to the site.

Procurement and Construction contracts

Procurement will : i. Ensure that transport costs for materials are kept low by purchasing building items from sources as close to the site. ii. Negotiate with subcontractors iii. Obtain the best quality commensurate with the life of the item iv. Affect suitable delivery arrangement to ensure that supplies are delivered to site

Procurement of Service
Services are intangibles such as economic activities that are intangibles and imply an interaction to be realized between service provider and consumer Intangibility the result of a service transaction is not a transfer of ownership as with physical goods. They can not to stocked, custody

Processing the procurement of services-Six steps

Step I: Determine the appropriate process for procuring the service: consider i. Nature and strategic importance of the service as to Kraljic matrix- routinised noncritical and leveraged are identified ii. Purchasing such as insurance, advertising, transport or energy is done by non purchasing personnel, provide training in specialist

Processing the procurement of services-Six steps

Step II: prepare a statement of work: A statement of work is outlining the specific services a contractor is expected to perform, generally indicating the type, level and quality of service as well as the time schedule require. Statement of work should clearly indicate: i. The services required ii. Where, when and to whom the services are to be provided

Processing the procurement of services-Six steps

Statement of work should clearly indicate: i. The services required ii. Where, when and to whom the services are to be provided iii. Under what conditions iv. Standard or level of performance required v. Period of initial provision and renewal interval

Processing the procurement of services-Six steps

Step III: list the statement of work as the basis of request for proposal (RFP) or quotation (RFQ) i. Request that potential suppliers suggest their solution(s) ii. Provide scope for supplier innovation and suggestions iii. Such document are useful for locating solutions or resources

Processing the procurement of services-Six steps

Step IV: Obtain quotations or tenders from potential suppliers. Tender advertisement to all potential suppliers Where RFP or RFQ used restricted to three or four selected suppliers are considered. StepV: Evaluate quotations or tenders. Evaluation is a cross functional team. Individual evaluator should rank the offers received. The team should discuss the ranked.

Processing the procurement of services-Six steps

Step VI: Notification and issue of contract. Notify the successful and unsuccessful suppliers and issue the contract.

Service Level Agreement (SLAs)

An agreement between the provider of a service and its use which quantifies the minimum quality of service which meets business needs. This is a part of the outsourcing agreement and is regarded as a schedule to the agreement.

Advantages gained from the Service Level Agreement (SLAs)

The customers for and providers of specific services are clearly indentified Attention is focused on what a particular service or services actually do Customer are more aware of what services they receive and what additional services provider can offer Services and service levels adding values can be distinguished from those that do not

Advantages gained from the Service Level Agreement (SLAs)

Customer are aware of what a service or level of service costs and can then evaluate the service or level of a cost benefit basis Monitoring of services and service levels is facilitated Understanding and trust is fostered between customers and provider

Reasons for failing oc the Service Level Agreement (SLAs)

Lack of commitment by customers and service providers Inadequate support structure, such as failure to implement the SLA concept Additions to workloads require an additional reporting system they are too detailed They are not detailed enough Inadequate staff training relating to the purpose , advantage and implementation of SLA

Outsourcing
A management strategy by which major non core functions are transferred to specialist, efficient, external providers. Outsourcing manufacturing: This is concerned with make or buy decision. Strategic make or buy decisions determines the shape and capability of the organization's manufacturing operation by influencing : what product to make What investment to make Ability to develop a new product Selection of suppliers

Outsourcing-what not to outsource

Management of strategic planning Management of finances Management of management consultancy Control of supplies Quality and environmental management

Drivers of outsourcing
Quality: actual capacity is temporarily insufficient to comply with demand Cost: Outsourcing is a possible solution to increasing costs and is compatible with a cost leadership strategy. Finance: A company has a limited investment budget. The funds must be used for investment in core business activities.

Drivers of outsourcing
Core business: A core business is a primary activity that enables an organization to generate revenues Cooperation: Cooperation between companies can lead to conflict

Types of outsourcing
Body shop outsourcing- a means to meet a short tem requirement such as short in house skills Project management outsourcing such as IT project, training in new skills, management consultancy Total outsourcing : where the outsourcing supplier is given full responsibility for selected area such as catering, security

Benefits of outsourcing
Gain access to world class capabilities Improve organizational focus Make capital funds available

subcontracting
A secondary contract where the person or company that is initially hired to do a job then hires another to carry out the work. It is a short tactical short term decision while Outsourcing involves the total restructuring of an enterprise around core competences and outside relationships. What ever degree of outsourcing, enterprises must retain certain core capabilities. Outsourcing is a strategic long term decision.

Reasons for subcontracting

Where the buyers organization is the employer or client entrusting work to a main contractor who , in turn subcontract part of the work Where the buyers organization is the main contractor and subcontracts work for a reason as Overloading of machinery or labour To ensure completion of work on time Lack of specialist machinery or specialist know ho

Reasons for subcontracting

Reasons to subcontract i. Overloading of machinery or labour ii. To ensure completion of work on time iii. Lack of specialist machinery or specialist know how iv. To avoid acquiring long term capacity when future demand is uncertain v. Subcontracting is cheaper than manufacturing internally

Partnering
Is a commitment to both customers and suppliers, regardless of size to a long term relationship based on clear, mutually agreed objectives to strive for world class capability The term partnership sourcing refers to all forms of non adversarial collaborative relationships. The concept of partnering is generic and refers to range of collaborative relationships

Degree of partnerships
Type I: Partnership involving organizations that recognize each other as partners and on limited basis, coordinate activities and planning which has short term focus which involves few areas within each organization. Type II: Partnership involving organizations that have progressed beyond coordination to integration of activities such partnerships have a long term view of partnership and involve multiple areas within both firms

Degree of partnerships
Type III Partnership: involve organizations sharing a significant level of operational an strategic integration. In particular each partner can make changes to the others systems without getting approval and such partnerships are of long term duration.

Pricing Agreement
Negotiation results to the price to be paid to the supplier. Pricing models: Suppliers aims to cover their costs and achieve a margin of profit that will provide for future growth, meet long term borrowing ,update plants and equipment built up, reserves and reward shareholders.

Pricing Models
1. Price cost models: 2. Market driven models

Price cost model

i. Cost mark up pricing model (cost plus pricing). Usually supplier adds a mark up percentage to the estimated cost. Estimated cost may be product cost such as direct materials,+ labor , +production overheads or Total cost (product cost +general , administrative and marketing overheads) ii. Marginal pricing model: The supplier fixes a price (based on product or total cost)

Price cost model

ii. Marginal pricing model: The supplier fixes a price (based on product or total cost) that will yield a predetermined percentage of the quoted price. iii. Rate of return pricing models (known as target return pricing). The supplier places the profit on the desired return on the investment rather than the estimated cost per product.

Market driven models

Prices volume model-involves break even analysis Make share model: depends on the market share or penetration achieved by the supplier. Market skimming price model- set during introduction stage to attract buyers Current revenue pricing model : covers operating cost rather than achieve profit. etc

Procurement considerations in pricing agreement

The risk attached to the purchase The purchasers position in the market Type of purchase whether is leverage, strategic, non critical or bottleneck product Where rebuy, modified rebuy or new buy Number of suppliers in the market Price paid by competitors Period for which the price is to be agreed Price analysis etc.

Procurement considerations in pricing agreement

The risk attached to the purchase The purchasers position in the market Type of purchase whether is leverage, strategic, non critical or bottleneck product Where rebuy, modified rebuy or new buy Number of suppliers in the market Price paid by competitors Period for which the price is to be agreed Price analysis etc.

Risks of different pricing arrangements to the purchaser

High Product or service Performance risks

Firm price Fixed price Predetermined fixed price

maximum price Cost price + Fixed% Target cost incentive with maximum price Target cost incentive with no

Low

Low

Financial risks

High

Price analysis
A. Price analysis as comparison; The process of examining and evaluating a proposed price without evaluating its separate elements of cost and profit. It is done by comparing with i. Competitor offer on the immediate purchase ii. Established catalogue prices iii. Market price indexes iv. Prices set by law or regulations (Std prices) v. In house estimate

Price analysis
B. Price analysis as price breakdown: Brokendown of quoted price into its constituent elements for the purpose to determine the reasonableness of proposed charge. Analysis of price is based on
i. Cost experience of the buyers company ii. Cost estimates prepared by costing staff iii. Cost information by vendor

Negotiation
Negotiation is a bargaining process for terms and conditions in arriving to the agreements Is the finest opportunity for the buyer to improve his/her companys profits and obtain recognition Is the process whereby two or more parties decide what each will give and take in an exchange between them

Two approaches to negotiation

i. Adversarial negotiation: termed as distributive or win to lose negotiation. It focus on positions staked out by the participants and the assumption is that every time one party wins, the other loses ii. Collaborative negotiation-also called integrative or win to win negotiation. Creative problem solving, one or both parties can gain without the other having to lose rather than adversary

Factors in negotiation
i. The negotiator: buyer and supplies are individuals who are acting as representatives A. Personality in external appearance such as facial features, colour, physical aspects together with their personal behavior such as vulgar, aggressive, friendly courteous

Factors in negotiation
i. The negotiator: buyer and supplies are individuals who are acting as representatives A. Negotiator as representatives The level of authority is consider in representatives in negotiation, the responsible person

Negotiating situation related to strength and weakness of negotiators

The buyers negotiating position: The buyer becomes strong when i. Demand is not urgent and can be postponed ii. Suppliers are anxious to obtain the business iii. There are many potential suppliers iv. The buyer is in a monopolistic or semi monopolistic position v. Demand can be mate by substitute products

Buyers strength (cont)in Negotiation

i. ii. iii. iv. Demand is not urgent and can be postponed Suppliers are anxious to obtain the business There are many potential suppliers The buyer is in a monopolistic or semi monopolistic position v. Demand can be mate by substitute products vi. Make or buy alternatives are available vii. Buyer has a reputation for fair dealing and prompt payment viii. Buyer well briefed about supplier business

The suppliers strength-negotiation position

i. Demand is urgent ii. Suppliers are indifferent about accepting the business iii. Supplier is a monopolistic or semi monopolistic position iv. Buyers wish to deal with the supplier due to their reputation for quality, technology, reliability etc. v. The supplier own a necessary machine, tech vi. Supplier well briefed about the buyer

Negotiation process-Prenegotiation
Matters to consider during prenegotiation are i. Who is to negotiate-individual or team player approach. ii. The venue to negotiate-prepare a conducive meeting room for negotiation iii. Intelligence gathering: collecting necessary data iv. Negotiation objectives: determine objective to be achieved v. Strategy and tactics: plan the order of issues to be dealt

Team approach in negotiation

Allocate roles typical player: the spokesperson the presenter of the case as a captain, the recorder, who takes notes of the negotiation, the expert, such as management accounting, engineers for technical matters Avoid disagreement between team members while negotiation are in progress Avoid goup-think for team members to hold illusion of group

Gathering intelligence
Ascertaining the strengths and weakness of the respective negotiating position Assemble relevant data relating to costs, production, sales etc Prepare data to be presented at the negotiation in the form of graphs , charts, tables etc.

Gathering intelligence
Use negotiation tools such as i. Cost and price analysis ii. Situational analysis iii. Value analysis

Actual negotiation
Use philosophy of collaborative negotiation, in all stages Use the techniques of Framing an agenda to ensure more difficult issues to appear later Questions to mean both eliciting and keeping pressure on the opponents to control the pattern and process

Negotiation behavior
All negotiation are interpersonal skills. Avoid shouting, because it will cause shouting back of the other part Ploy manoeuvre in negotiation aimed at achieving a particular result.

Post negotiation
Drafting a statement detailing as clearly as possible the agreements reached and circulating it to all parties for comment and signature Selling the agreement to the constituent of both parties-what has been agreed, why it is the best possible agreement and what benefits will accrue. Implement the agreement, such as planning contracts, setting up joint implementation team Establish procedure for monitoring implementation of the agreement.