(3, 2) - Pursuing Cost Advantage Flashcards
What is the difference between price and procurement cost?
Price is the monetary value the supplier requires in return for the goods / services provided whereas procurement cost is the price plus all the associated costs of the procurement process and the costs of owning, operating, maintaining and disposing of goods at the end of life.
What methods are there of setting prices?
Fixed Pricing – supplier bears all the risk for cost variance.
Cost-plus Pricing – the price is based on allowable costs plus an agreed mark-up. The buyer bears all risk for cost variance and there is no incentive for the supplier to act economically.
Variable Pricing – the price is linked to escalation index for example PLATTs might be used for the fuel market.
Why might prices not always rise throughout the contract even though inflation naturally takes costs up?
The first year of the contract is the most expensive for the supplier due to selling costs and set-up costs which don’t occur later. They also have the learning curve effect where staff becomes more efficient at work from their experience and productivity increases.
What is Target Pricing?
Where you set the price you want to pay and the level of profit you think the supplier should make and then encourage the supplier to challenge the specification, materials and methods of working to bring their costs down while maintaining quality. This works well when you have knowledge of the capabilities of the supplier and can use open book costing.
How can you incentivise performance of a contractor?
Bonuses – usually linked to KPI’s
Award – an award fee based on qualitative aspects of a service contract. Subjective fee payable for ‘application of effort in meeting the buyers stated needs’
How could you operate a risk/reward mechanism on a contract?
Pay the contractor 85% of the contract value with a further 30% available based on performance.
What is a gain share pricing mechanism?
Where any benefits that joint working has produced is split in a pre-agreed way. Gain share only works if there is complete trust e.g. Supplier reduces costs and the reduction in costs means the price can be reduced by a portion of the saving.
When trying to achieve cost reduction, you may wish to negotiate with a supplier. What methods are there of negotiating?
Competitive negotiation is the traditional approach to cost reduction but its likely to squeeze suppliers profit margins and may result in an unhappy supplier
Collaborative negotiation concentrates on the cost base rather than the profit margin. Here is might question alternative manufacturing techniques or different materials.
What sourcing options are there for achieving cost advantage?
Sole suppliers can provide an opportunity for collaboration, leading to better levels of service and better prices but increased supply risk.
Dual sourcing enables the buyer to capitalise on the benefits of a narrow supply while reducing the risks of over-dependency on a single supplier.
What is supplier rationalisation?
Supplier rationalisation is reducing the number of suppliers of a particular product or service to the optimum amount for your business. This requires purchasing control rather than letting individuals choose their own suppliers. The optimum number of suppliers is based on balancing effective management of external resources and the value generated against customer needs and the market risk.
What is aggregation and how can it be done?
This is where you place fewer, larger orders to try and achieve economies of scale and negotiate a better rate. Plans for aggregation can be helped by:
Consortium purchasing
Standardisation exercises to reduce the range of items being procured
Centralising procurement function in multi-site organisations
What is Value Analysis (VA)?
A systematic procedure aimed at ensuring that necessary functions are achieved at minimum cost without detriment to quality, reliability, performance and delivery. It is usually a post-production activity. This process is looking at an existing product and asking questions such as…
- Could the component be modified to make it better?
- Could materials be substituted?
- Could the assembly sequence be improved?
- Could it be combined with other components?
What is Value Engineering (VE)?
VE is the application of Value Analysis at the pre-production or design stage.
