Solve your business problem-supplier cost and quality monitoring

Continuing our previous discussion on quantity in the last blog, let’s discuss the excess quantity tolerance for objective bidding in this blog.

What do you think will happen if the supplier provides excess quantity?

1.       The organization may have to rearrange logistic arrangement

2.       For shelf life applicable items, less shelf life span availability before use.

3.       Blockage of excess money for the unused inventory

4.       Storage cost

Case 1 is applicable only for the companies who arrange transportation themselves. The organization must review and adjust logistic arrangement based on excess quantity from the supplier.

The second issue can be resolved by considering the consumption pattern of the item. If there is a higher probability that the item will be consumed within balanced shelf life, no problem in accepting excess quantity.

The third issue is vital. Blocking excess money for the unused inventory erodes operating profit margin. The organization should conduct a brainstorming session to discuss the impact of blocked finance on operating margin. For the 1% tolerance on excess quantity, the organization has to bear a burden of $12000 for the spending of $1200000. As the spending rises, this figure will go up. So, calculate it wisely along with a CFT of the supply chain, finance and top management. After deciding tolerance, convert it into the quantity for each SKU based on the cost of SKU. Calculation of allowance will have a known-effect on financial fitness of the organization and clear excess quantity limit can be provided to the supplier during objective bidding.

The last parameter, storage cost is comparatively easy to calculate and most of the organizations are aware of their warehouse cost. So, we will not discuss it here in detail. But consider the storage cost and fine-tune excess quantity allowance.

Though we have informed objectively about excess quantity allowance, sometimes supplier may insist for excess quantity. In such a case, notify the supplier of the financial impact which the supplier may have to bear. Also, instead of paying the excess component cost upfront, consider it as an accrued liability. Pay it to the supplier when MRP calls for the excess components.

Till now we have finished only two factors –Quantity and price for the objective bidding. We shall discuss the Quality factor in the next blog.

     In my last post, we discussed four factors for the objective bidding process. (I would appreciate if you provide me feedback about additional factors which can be added in the monitoring system) Let us discuss one by one the process of deciding base limit or tolerances for such elements.

     The first factor – Quantity. As you are aware that shortage quantity can cause a loss of sale value for the product, what shall we do calculate the lost value? Just apply a thumb rule.

     Does that mean to provide simple shortage-quantity percentage tolerance to all SKUs? The answer is – “NO.” You must be sensible about value loss.

     For example, if you are selling $10 million value every month through various products & services, how much value you can afford to lose? Be careful! The study must be accompanied by proper brainstorming with sales, marketing along with operation & top management. Of course, the supply chain will be the initiator for such an exercise. Now after grilling discussion, all team members have finalized a figure of 1% as an acceptable limit. In the business language; the organization has decided to reduce losses due to its supply chain value uncertainty less than $100000.

     Now let us extend it to the component level. Let say you have three components – A, B & C used in two products. Refer below simple product structure for understanding the concept.

     Based on the product structure study, calculate value loss for shortage per piece. Refer table below for sample calculation. In this example, the single-unit quantity of the component is considered being used in the product. So, if one battery or dial will not be available, one product will not be sold.

Therefore, components used in the related product will cause loss of value based on the product sale value.

Now, based on the limit of 1% decided by the organization, flowing calculation to be performed to set the baseline or tolerance of shortage quantity.

Similarly, the calculation for the body and dial can be performed. The shortage quantity which can be accepted is 3 units & 10 units respectively for body and dial. The final value tree will be as below -

The value loss can be complicated at times due to the following –

·       Demand planning

·       Company product BOM structure and

·       Use of components in various products.

The organization can utilize this value to set a baseline for shortage quantity. Also, the organization must inform the effect of the shortage of supply to the supplier during the objective bidding stage itself.

             I will discuss the limit-setting for the excess quantity in my next blog. I am awaiting your feedbacks & replies which will help me to develop a comprehensive system.

 NOTE:  that the system must not be used to penalize supplier until it reaches to a maturity level. Finally, the aim of developing such a system is to establish a win-win situation.

Sandeep Gambhirrao

     I am glad to write this third blog in my series about supplier performance monitoring system.

After setting a benchmark for price negotiation by using zero-based costing and regional survey, you are ready for the next step.

Although price of the component is an important factor, there are few other factors which may erode hard-earned price benefit. Below are to mention a few-

 - Quantity (excess or shortage)

 - Delivery time ( late or early)

 - Quality ( excess rejection)

Why dont we ask these expectations to suppliers at the time of ordering the item itself?

But how do we ask it while placing the order?

My answer is - objective bidding!

1. Flag a bid open for the requirement of a component. Registered and approved component sources should able to bid

2. Bidding factors will be the price, delivery date, quantity and quality level. The supplier must bid for all these factors ( provide suggestions for adding factors which may erode component value).

3. Supplier should be notified the effect of his bidding. I.e. how much a 2 days late delivery will cost to supplier? How much shortage or excess quantity will affect supplier price?

4. With all the information available, the supplier should bid correctly anticipating all risk associated.

Since the risk is evaluated, whole system of the purchase will become proactive insread of reactive.

Sheer negligence about these factors can erode value of the component. 

We will discuss it in next blog along with setting target for each factors for objective bidding.

Note: 

Kindly provide suggestions to incorporate in the software to make objective bidding much comprehensive.

The system should not be used as a tool to snatch money from suppliers for appraising indivisual personnel value. Organizations must put surveillance mechanism to avoid such situations.

Also, the system may not be applicable for all manufacturing organizations, but definitely can be adapted by few modifications.

Sandeep Gambhirrao

Refer to the article link by McKinsey & Company - Matt Jochim, Rehana Khanam, Cecilia Martensson, and Curt Mueller. In our new system development context, we can utilise the information about zero based productivity.

https://www.mckinsey.com/business-functions/operations/our-insights/zero-based-productivity-going-granular-and-end-to-end-across-the-supply-chain

But what exactly we shall provide? In my opinion, suppliers should provide cost based on all the four factors mentioned. By using periodic regional surveys and data, we can set a benchmark for each category. This information will be useful for a customer to set a base for their purchasing price.

Moreover, if the customer has implemented zero based productivity system at his organization, it will help that organization monitor the value of component versus value of warehousing. Organization can use such information to transfer the component to a third party for storage and in turn can make their value chain efficient

Professionals, requesting you to respond to my opinion about including such system for development of ‘supplier performance monitoring system’. We can build it to the next level by incorporating your thoughts.

Reference

          Today world is coming closer using internet and social media. Our life is now faster than before. This pace will explode in near future. But are manufacturing firms geared up to cope with the pace? what do you think?             There can be the difference of opinion. But the bird's-eye view will give an idea that there is a need for few advancements in this area.            How does that make sense to the top management’s grilling problem of uncertainty in supply? Yes, although world has come closer, finding right supplier is still an issue by the manufacturing organizations. The burning problems of this area are - 1. Finding suppliers 2. Benchmarking cost 3. Reducing supply miles 4. Taking quotations and processing samples 5. Conveying requirements to new suppliers 6. Long approval cycles 7. After bearing all the above, questions about reliability 8. Continuous pressure of cost cutting along with quality. These problems reiterate the need for research and innovation in this area and that is the ultimate aim of my blog. By building a wide network of the professionals from different segments of industries, functional areas with versatile experience, I will attempt to collect comprehensive requirements of actual users. In my blogs, I will raise points to discuss and will seek opinion from the talent pool.

Hoping to enjoy the development of a new and advanced ‘Supplier performance monitoring system’ along with all of you. This will be an attempt towards contributing to the industry in which we are working.