L4M5- Chapter 2- Preparing for negotiation Flashcards
What are direct and indirect costs?
Direct costs are associated with the production of a good or service
e.g. materials, utilities directly related to manufacturing or delivery, hourly labour of staff in production, expenses
Indirect costs are general running costs of an organisation that are hard to attribute to a specific product e.g. rent, insurances, head office labour, office consumables
What is a fixed and variable cost?
Fixed costs- remain the same irrespective of the volume of activity of a business
e.g. factory rent, equipment, security, salaried staff
Variable costs- costs change in proportion to output
e.g. raw materials
What is a firm cost?
Fixed to some extent but can move in line with predetermined criteria such as through a certain index
What is addressability of spend?
Spend that is influenceable through negotiation or applications of other savings efforts or leverage with suppliers
e.g. you may not be able to negotiate on things like statutory minimum wages, regulation costs
What is value analysis?
Process of analysing costs with the aim of identifying cost reduction and control opportunities to ensure efficiency and maximise profits
What is value engineering?
Review and amend new products to reduce costs and increase value to customers
The STOPS WASTE acronym can be used to consider the key cost reduction ideas, but what does it stand for?
Standardisation
Transportation (is it appropriate)
Over engineered (is the spec too tight)
Packaging
Substitutes (e.g. another material)
Weight (can it be taken out of the product)
Any unnecessary processing?
Suppliers input (can the suppliers knowledge help with reductions)
To make (can you make it yourselves cheaper?)
Eliminate
Why is it important to consider the vendors supply capacity when negotiating?
Average costs will be higher at low and high capacity utilisation (when a factory first opens there will be significant overheads or fixed costs to recoup and at high capacity costs may also rise as equipment fails and staff costs may increase)
So you want to find the right sweet spot
What is the advantage of early procurement involvement?
If involved in design at the spec stage then they can feed in prices and costs to designers so they are aware of the likely budget implications of choices being made
If procurements are brought in at the end it may limit their negotiation leverage
What is the BE point?
Break even point
The level of output where revenue equals cost
What is the calculation for break even point?
Price - variable cost = contribution
Fixed cost/ contribution = break even point (volume of units to sell to break even)
What are overheads (OHD)?
Costs relating to the overarching business structure and existence, usually independent of sales/turnover
What are the types of costing methods?
Absorption
Marginal/variable costing
Activity based costing
What is absorption costing?
Where overheads are absorbed proportionally or by a defined mechanism into the product prices
What is marginal costing?
The cost to produce an additional unit of output
e.g. if the cost to produce 100 units is £1000 it is £10 per unit. But if the cost to make 101 units is £1005, then the marginal cost is £5
Absorption costing includes a % based on the overheads, even if the overhead costs have already been covered. Marginal costing does not include this.
What is dynamic pricing?
The practice of varying price of a product or service to reflect the change in market conditions, in particular charging higher prices at a time of greater demand
Think about what airlines do online
What is activity based costing?
A costing model where costs are allocated proportionally to the usage
Works well with lean thinking, ie. by selecting more efficient usage the costs are reduced
There are some ethical issues with this type of costing as there could be challenges with equity (in that customers may all be paying different rates, e.g. rural areas pay more for internet vs urban areas)
What is cost plus?
Contract where the pricing is split by itemised cost and then adding an agreed margin
Associated with cost transparency but also sometimes the contractor may have limited incentives to find the most economic solution because of guaranteed income
What is the difference between margin and mark up?
Margin= profit given as a percentage of the sales price
Mark up= profit as a percentage of cost
What is the difference in calculation for gross profit vs net/operating profit
Gross profit = sales revenue - costs (direct costs)
Operating profit = gross profit - indirect costs
PBIT (profit before interest and tax) and EBIT (Earnings before interest and tax) are ways of measuring net/operating profit
What is a ZOPA?
Zone of potential agreement
The overlap between the buyers and sellers most desirable outcome (MDO) and least desirable outcome (LDO) where a deal is feasible
What is P2P?
Procure to pay
System that connects the steps of the procurement process from commencement of the acquisition through to final payment
What are the different types of pricing strategies used by suppliers?
Cost plus- supplier calculates total variable and fixed costs, adds a %
Skimming prices- Adoption of a high price to take advantage of early excitement and high demand
Premium pricing- very high price not connected with cost structures
Penetration pricing- Enter a new market so price reduced to increase volume (price may steadily increase)
Marginal cost pricing- supplier recovers only the variable cost element in its price (normally if fixed prices are covered)
Market pricing- sells in line with what the market is willing to pay
What levers can be used to create savings?
Volume concentration (pooling, consolidation, buying consortia, standardisation)
Demand management
Best price evaluation (should costs, benchmark internally, compare TCO, hedging)
Global sourcing
Spec improvement
Joint process improvement
Relationship restructuring- make vs buy, outsourcing, alliances, joint ventures
