Procurement Management

Session 1
 Chapter 2: Purchasing
Operation and its Structure
 Chapter Index
S. No Reference No Particulars Slide No.

1 Learning Objectives 33

2 Topic 1 Purchase Orders and Payment 3442

3 Topic 2 Vendor-Managed Inventory (VMI) 4345

4 Topic 3 Stockless Buying and MRO Purchase 4647

5 Topic 4 Open and Closed Tendering 4849

6 Topic 5 Internal Conflicts during Purchasing Operatio 5051

n

7 Let’s Sum Up 52
• Explain the steps involved in the purchasing cycle
• Explain the concept of blanket purchase orders and their purpose
• Discuss the concept of vendor-managed inventory
• Explain the role of stockless purchasing
• Differentiate between open and closed tendering
• Discuss various internal conflicts that affect the purchasing operation
 1. Purchase Orders and Payment

• Purchasing is the formal process of buying products and services.

• The process of purchasing can vary from one organization to another. However,
there are some common key steps that are followed by all organizations. They are
as shown below:
Purchasing Cycle
 2. Purchase Orders and Payment

1. Identifying the need: In this step, the requirements of materials are determined by the use.
2. Specifying the need: It involves determining the exact quantity of materials to be purchase.
3. Selecting a source: The purchase department is responsible for selecting the right source for procuring
materials.

4. Determining the price: It is important for the purchase department to analyze its budget, perform
market research and determine the best price for procuring materials.

5. Placing a purchase order: A purchase order is a legal contract that specifies the entire agreement
between the purchase department and the supplier.

6. Acknowledging the order: Acknowledgement is all about getting confirmation from the supplier about
the timely delivery of materials.

7. Following up and expediting: It ensures that the items are delivered by the supplier on time.
8. Checking the invoice and approving the payment: If there is no mismatch between the materials
ordered and received, payment is made to the supplier.
 3. Purchase Orders and Payment

Purchase Agreement for Standard Purchase Orders

•The Chartered Institute of Procurement and Supply (CIPS) defines purchase order (PO) as a document
issued by a buyer to his/her supplier that defines what is needed, in what quantity, when performance
is required, and on what terms, including price and payment terms.
•The required raw materials and component parts for manufacturing any particular finished product would
not vary with every production plan. Only the quantity of raw materials and components may change.
•Similarly, procurement of standard inventory items that are required on a day-to-day basis usually involves
the same set of suppliers who have already been approved (through a supplier selection process) by the
organization for sourcing its inventory requirements from them.
 5. Purchase Orders and Payment

What information and details are included on a standard PO?

A standard PO typically includes these details:
•Terms and conditions of the order
•The list of which items will be purchased
•The quantity of each item
•The price of each item
•The delivery date for each item (or for the entire PO)
•The delivery location for each item (or for the entire PO)
 5. Purchase Orders and Payment

Purchase Agreement for Standard Purchase Orders

•To fulfil their standard, repetitive purchase requirements, organizations enter into long-term purchase
agreements with suppliers. These purchase agreements envisage a long-term partnership with suppliers in
terms of procurement commitment from the buyer organisation.
•Standard purchase orders are similar to framework agreements as they do not have a legal contract but only
an offer to purchase. A purchase order becomes a contract only after the supplier accepts it by acknowledging
the same and committing to supply products/services as per the terms mentioned in the purchase order.
•Standard purchase orders are used only for one-off purchases from new suppliers.
 6. Purchase Orders and Payment

Blanket Orders
•The term ‘blanket purchase order’ is used differently in the context of different organizations
and ERP modules.

•The APICS (Association for Purchasing and Inventory Control Specialists) dictionary defines a
blanket purchase order as a long-term commitment to a supplier for material against which
short-term releases will be generated to satisfy requirements.

•The CIPS definition says blanket purchase orders are purchase orders placed on suppliers that
cover a range of products or a time period that commits to a volume of one product.
 7. Purchase Orders and Payment

Blanket Orders
•The buyer will enter into a blanket purchase order through due negotiations after
which ordering of any item covered by the blanket purchase order only requires a
release order.
•Most purchases in the organisation covering routine standard items happen only
through blanket purchase orders.
•The blanket purchase order reduces transaction processing costs which can have a
significant positive impact on the total acquisition costs of materials.
•On shipment, the supplier raises the invoice for payment .
 8. Purchase Orders and Payment

Blanket Orders
•Release orders (also called material purchase releases) are authorization issued to suppliers
to make shipments as and when required as per the blanket purchase order agreement. A
copy of material purchase releases is also sent to purchasing, accounts payables and stores
departments. Release orders specify the current quantity to be shipped, delivery date and
ship-to location. These orders are based on material requirements identified by the MRP
system.
•In an ERP system, automatic release orders for components will be directly issued to the
suppliers. Such release orders are called system-generated purchase orders/release orders. In
the real world, most purchases happen only through such automatic system-generated
release orders.
 8. Purchase Orders and Payment

What information and details are included on a Blanket Purchase order?

A BPO typically includes these details:
•Terms and conditions of the order
•The list of which items will be purchased

A BPO sometimes includes these details:

•Discounts and discount milestones based on item quantities purchased
•Confirmed pricing details for each item

A BPO does not include:

•Confirmed delivery dates for each item (or for the entire PO)
•Confirmed delivery locations for each item (or for the entire PO)
 9. Purchase Orders and Payment

Open-end Orders
•Open-end orders are similar to blanket purchase orders. However, they allow for
inclusion/deletion of additional items over a period of time.

•Such orders are useful for procuring MRO and production support items.

•Usually, these items are of low cost, high volume and large in number. The required items
can also change and can be unpredictable.
•Open-end orders allow the convenience of modifying standard blanket purchase orders.

•The period of the order could be up to one year or till renewal.

9. Purchase Orders and Payment
Lets revise Purchase order by means of a video !!!
 1. Vendor-Managed Inventory (VMI)

• One of the important goals in supply chain management is to keep inventory levels as
low as possible.
• Organizations keep inventory of raw materials, component parts, work-in-progress
(WIP) and finished products to manage fluctuations in material requirements and
finished goods demands.

• Procurement management can play a major role in supply chain optimization.

• In blanket purchase orders, purchasing and inventory functions overlap. Blanket

purchase orders allow system-generated release orders that are sent as and when a
shipment of raw material is required, thereby reducing unnecessary purchasing and
maintenance of raw material inventory.
 2. Vendor-Managed Inventory (VMI)

• The Vendor-Managed Inventory (VMI) is a more sophisticated concept that merges

purchasing and inventory management functions.
• It is a streamlined system or approach of managing inventory and meeting purchase orders.
• In this system, the purchase department gives information related to a product requirement to
a supplier/vendor of that product. In turn, the supplier fulfils the orders by ensuring that an
adequate level of inventory of that product is normally available at consumption centres.
• A third-party logistics provider can also get involved to make sure that the customer
(purchasing organisation) gets the required product by plugging the demand and supply gaps.
 3. Vendor-Managed Inventory (VMI)

• In VMI, the vendor decides the level of inventory to be maintained and manages it based
on information-sharing between the manufacturer and vendor.

• VMI helps the vendor in specifying product quantities that need to be sent to the
manufacturer by the use of data received through Electronic Data Interchange (EDI).

• Just-In-Time (JIT) manufacturing shifts the problem of holding unnecessary inventory

at the supplier’s end, though the overall quantum could be lesser.

• This burden of holding additional inventory can be eliminated if there is a close

coordination between the manufacturer and the supplier.

• The concept of VMI greatly helps in efficient collaboration between the supplier and the
buying organisation.
Vendor-Managed Inventory (VMI) Model
Vendor-Managed Inventory (VMI) Model
Lets understand VMI model with help of video
 1. Stockless Buying and MRO Purchase

• Stockless buying is another method that aims at zero-inventory at the buyer’s end.
• In stockless buying, the supplier only maintains a quantum of inventory at the manufacturer’s
site for consumption.
• In the stockless purchase system, the supplier holds the items ordered by the buyer in its own
warehouse and releases them only when required by the buyer.
• This method is applicable for MRO and production support items where inventories are
characterised by low-value items but form a significant part of purchase order costs.
 2. Stockless Buying and MRO Purchase

• In the case of stockless buying, the supplier stocks inventory at a convenient location
and keeps replenishing it periodically when items are drawn for production. The supplier
has the financial responsibility of holding the inventory.

• The pre-requisites for a successful stockless buying process for MRO and production
support items:
– ‰‰The supplier should be selected for long-term partnership based on quality.

– ‰‰The supplier should have warehousing skills and economy of scale to facilitate
lower cost.
– ‰‰A limited storage facility near production site should be feasible.

– ‰‰Efficient and cost-effective arrangement for small and frequent deliveries.

Regular vs JIT vs Stockless
Let's understand JIT with help of a
classic Toyota JIT Case study.
 Question 1
• In case of VMI, who is responsible for
managing inventory to meet the demand
requirements?
the supplier
the operations team of the manufacturer
the purchase manager at the manufacturer or
assembler's location
Logistics specialist
 Question 1
• In case of VMI, who is responsible for
managing inventory to meet the demand
requirements?
the supplier
the operations team of the manufacturer
the purchase manager at the manufacturer or
assembler's location
Logistics specialist
 Question 2
• Which option does not represent a benefit
provided by VMI to a manufacturing
organization.
Fewer stock outs
Reduced total cost of ownership
Low replenishment costs
Increased sales volume
 Question 2
• Which option does not represent a benefit
provided by VMI to a manufacturing
organization.
Fewer stock outs
Reduced total cost of ownership
Low replenishment costs
Increased sales volume
 Question 3
• Which orders allow for inclusion or deletion of
additional items over a period of time?
Blanket orders
Closed-loop orders
Open end orders
Purchase flex orders
 Question 3
• Which orders allow for inclusion or deletion of
additional items over a period of time?
Blanket orders
Closed-loop orders
Open end orders
Purchase flex orders
 Question 4
• Open-end orders are similar to _________
orders
Static
Standard
Blanket
Requistion
 Question 4
• Open-end orders are similar to _________
orders
Static
Standard
Blanket
Requisition
 1. Open and Closed Tendering

• There are two major categories of supplier selection – competitive bidding and
negotiation.
• In the case of competitive bidding, tenders are floated for prospective suppliers.

• This process is meant to ensure that as many suppliers participate in the bidding process
as possible.
• The objective is to select a bidder who can provide the solution at the lowest price.
Another objective is to remove subjectivity and provide a level-playing field for all
prospective suppliers.
• This process of tendering where any supplier who meets the qualification criteria is
allowed to bid is called the open tendering process.
 2. Open and Closed Tendering

• In contrast to open tendering, the buying organisation may decide to shortlist a specific
group of suppliers and circulate the request for tender only to them.
• In this process, all suppliers are not allowed to participate in the bidding process. The
buying organisation may consider only a group of suppliers eligible to participate based
on prior market intelligence or by issuing a Request for Information (RFI) or through a
similar pre-qualification process.
• This supplier selection process is called closed tendering (also termed as ‘selective
tendering’).
• Closed tendering is used for more complex products where supplier selection is based
not only on price but also on other factors.
 1. Internal Conflicts during Purchasing Operation

• According to the researchers, procurement management professionals frequently come

across some of the most interpersonally demanding situations.

• They often need to deal with organisational fault lines through their interpersonal
conflict resolution skills.
• Some of the conflicts that can arise when dealing with internal customers are as follows:

– The goals of the procurement department may be in conflict with strategic goals of
other departments.
– The marketing or design departments may complain that they have no role in the
supplier selection process.
 2. Internal Conflicts during Purchasing Operation

– When manufacturing a new product, design and engineering departments.

– might require a new supplier to be selected for a component. However, the

procurement department may have the opinion that the existing supplier can resolve
issues arising out of changes in the engineering design owing to the long-term
trusted relationship with the supplier.
– The finance department may be worried about high overhead costs involved in the
purchase of MRO items.
– The supplier may insist that the quality problem is due to issues in the product-
manufacturing process and ask for a review of the same. The design department
may suggest a change in the supplier.
 Let’s Sum Up

• Purchasing is the formal process of buying products and services. The process can vary
from one organization to another.
• Manufacturing organizations mostly deal with standard items that are required for the
manufacturing process of a given product. Hence, there is no need to raise a separate
purchase order every time a material is requisitioned.
• Organisations handle routine and repetitive material requirements by issuing blanket
purchase orders.
• ‰The Vendor-Managed Inventory (VMI) is a concept that facilitates the efficient flow
of material within a supply chain by leaving inventory management to the vendor.
 Link of Video shared in Chapter

Video 1 – Types of Purchase Order

https://www.youtube.com/watch?v=zHoDWICYcp8&t=7s

Video 2 : VMI

https://www.youtube.com/watch?v=yotjJXRhrQY&feature=youtu.be

Video 3 : Toyato JIT study

https://www.youtube.com/watch?v=-2huDogfXS8&feature=youtu.be
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