Chapter 17

Purchasing

Purchasing is one of the key functions in the operation of a modern manufacturing concern.

Profits of manufacturers are affected by good purchasing practices based on sound principles. It
has already been pointed out that the purchase requisition is the “key to material control” since it
initiates the purchasing activity.

Purchasing and the Control of Material

Purchasing is an important phase in the control of the flow of materials into the manufacturing
plant form the vendor or supplier. The classes of inventory thus controlled are purchased parts
and raw material. In addition the inventory of supplies is controlled by the purchasing activity.
We have already pointed out the importance of having material available when required for
manufacturing operations, as well as the additional costs incurred if large quantities or expensive
items are received too far in advance of the required date. Control of the flow of incoming
material is an important responsibility of the purchasing group, particularly when just-in-time
delivery of goods takes place.

Objectives of Good Purchasing

As a part of the overall material control activity, the statement of the objectives of the purchasing
group will include most of the objectives of inventory management and control discussed in
earlier chapter. However, let us review them and then discuss these objectives from the view
point of the purchasing function.

The primary objective is to contribute toward the profits of the manufacturing activity. Another
important objective is to ensure the availability of materials so that delivery schedules can be
maintained, thus keeping the customer satisfied. Specific objectives that support these goals are:

1. Procurement of the right material, in the right quantity, and of the right quality.
2. Receipt or delivery of this material at the right place at the right time.
3. Purchase of the material from the right source at the right price.

Purchasing Procedure

The complete purchasing cycle consists of the following steps:

1. Receipt and analysis of the purchase requisition

2. Selection of potential sources of supply
3. Issuance of requests for quotations
4. Receipt and analysis of quotations
5. Selection of the right source
6. Determination of the right price
7. Issuance of the purchase order
 8. follow –up to ensure scheduled delivery
9. Analysis of receiving reports
10. Analysis and approval of vendor’s invoice for payment.

The above 10 steps are explained in details below:

Purchase Requisition

Purchase requisitions normally originate with the inventory control group. Regardless of the type
of inventory – perpetual or bin- a recorder point is established. When existing stock reaches this
level, a purchase requisition is usually prepared and forwarded to the purchasing group.

Sources of Supply

A purchasing group must constantly keep itself informed as to the best places to buy all items of
material required. This is no small task. Effective purchasing cannot be accomplished on a status
quo basis. It is true that in a going situation old established sources will in all probability be the
best sources; however, new sources should be investigated from time to time and the
performance of old sources reevaluated periodically. If the purchase requisition is for a new item,
then a selection should be made for inquiry from the list of potential sources by use of the
request for quotation.

Request for Quotation

The title of this form is self-explanatory. It is sent by the purchasing group to all the selected
possible sources of supply. It should be as complete as a purchase order except for the statement
of the price to be paid. It is up to the vendor to submit the price; this is the vendor’s quotation.
Because this form is so nearly like the purchase order form, it is common practice to print this is
NOT an ORDER in bold type across the form.

Selection of the Right Source

Upon receipt of many quotations from the vendors, if then becomes the job of the purchasing
group to select the right source. A comprehensive discussion of all the factors that enter into this
decision is beyond the scope of this book. Briefly, the purchasing group is interested in the
reliability of the prospective source of supply.

Determination of the Right Price

This is a major responsibility of the purchasing group. Many factors influence what is a “right
price” and, again, a comprehensive discussion is hardly possible. In a broad sense, a right price is
one that is “right” for all concerned – the purchaser, the vendor, the buyer’s customer, and the
public,. Obviously, the purchaser must be able to buy material at a price that makes it possible to
sell the product at a profit- but profits are also essential to the vendor. Modern industry is too
complex and interrelated to permit sharp buying tactics that drive prices to a level at which the
supplier cannot make a profit.
Purchase Order

Once accepted by the vendor, a purchase order constitutes a contract for the delivery of the
goods in accordance with the terms of the purchase agreement. This constitutes a legal
document, and it usually contain many other terms of agreement in addition to the quantity,
quality, delivery, and price.

Follow-up and Delivery

The plan for the flow of material into a manufacturing plant is established by purchasing
procedure. Determination of the actual performance and comparison and evaluation of this
performance with respect to the purchasing plan can only be accomplished by effective follow-
up of purchase orders.

Receiving Reports

Careful inspection of all incoming material and parts is essential to effective material control.
The purchase order is the basic source of reference. Of course, it is often supplemented by
engineering specification and blueprints.

Payment of invoices

Invoices received from vendors for goods shipped should receive the approval of the purchasing
group. This is the final control step in the purchasing procedure. Invoices should be checked to
ensure that quantities billed conform with the quantities accepted by the receiving and inspection
departments.

Value Analysis

Although value analysis has been discussed earlier, it requires further amplification here
inasmuch as the value analysis function is commonly thought of as part of the purchasing
activity. The basic idea of value analysis is simply that of a cost-reduction technique, and as
such, it might logically be treated as a part of methods engineering. However, as it is frequently
used, purchasing people have a very definite role to play; so perhaps it is logical for value
analysis to be under their general direction.

Factors Affecting Purchasing

In the following sections we attempt to list the many factors that influence both purchasing
practices and the results of the work of the purchasing group.
Sub contracting

Items purchased on subcontracts are actually purchased parts or components. However,

subcontracting generally takes place when it is not possible to produce the parts in the local
plant. In placing this type of purchase order, the vendor is in competition with the purchaser.

Standardization of Product

We discussed the advantages of the standardization of products and their component parts. Often
it is overlooked that suppliers also attempt to standardize the items that they sell. One of the
principal activities of the purchasing group is to encourage the inclusion of vendors’ standards in
the product design of the purchaser’s product.

Economic Purchase Lot

Earlier, we mentioned the economic purchase lot. It is similar to the economic manufacturing lot
only the cost factors are different. Larger quantities of goods can usually be purchased for lower
unit costs. These savings must be balanced against the increased costs for the carrying charges,
the same as in the manufacturing lot. In manufacturing we saved in setup costs, here we save in
the cost of preparing the purchase order and on all the other steps in the purchasing procedure.
Owing to the cost factors involved, it is easier to calculate economic purchase lot quantities.

Short and Controlled Markets

We have already said that purchasing people have to know where to buy the required items of
material. Even if we know the purchasing source, it is not always easy to buy. Some markets are
“short”; that is, there is not enough material to meet the demand. Other markets are “controlled”,
material is available but total sales are restricted.

Cancellations

Cancellations of purchase orders cannot be totally avoided. If work has been started by the
vendors, or they have made other commitments on the strength of the order, they may loose a
considerable amount of money.

Trade Relations

Industry is so specialized and extensive that many purchases are made from vendors who in turn
buy back their material in the form of the purchaser’s product. This is termed reciprocal buying.
Too often this presents a real problem to the purchasing group.
Purchasing Organization
The Law of Agency

Purchase order and contracts are signed by individuals, each of whom acts as an agent of the
company or corporation. As agents, they have been given either specific or implied authority to
act for their employer in the purchase of material, supplies, and services, or in any other type of
agreement constituting a purchase. As a consequence, such a person is known as purchasing
agent.

Organization Structure

There is no set pattern of purchasing organization. The same sound principles of organization
apply to purchasing as to all the other functions in the manufacturing enterprise. The position of
the purchasing group in the overall organization is largely dependent on the importance of the
function.

Centralization and Decentralization

In large organizations- particularly in multi-plant industries – there is a problem of centralization

or decentralization of purchasing activities. A full discussion of the advantages and
disadvantages of each is beyond the scope of this book. However, decentralized operations are
more flexible, and the trend toward increased decentralization of large corporations indicates that
this method of organization is currently the most popular. Major contracts for principal materials
may be retained on a centralized basis to gain bargaining advantage.

Purchasing Group

The purchasing group in larger organizations usually consists of several purchasing agents,
buyers, expediters, and the necessary clerical and stenographic personnel. Organization of this
group may be on the basis of product line or purchased material. If the latter, one agent may
specialize in the purchase of steel, another in plastics, another in supplies, and so on, the entire
organization being developed along these lines.

Purchasing Practices

It might be well to discuss a few of the many practices of the purchasing function.

Salesperson Relations

Both purchasing and selling are rapidly gaining professional recognition. The continuing
technological advance in both materials and processes requires that purchasing and sales
personnel be more than “glad-hand artists”- they have to know what they are selling what they
are buying. “Sharp trading” is no longer accepted practice.
Discounts

Industrial purchases are usually subject to cash, trade and quantity discounts. Purchasing agents
and buyers must be thoroughly acquainted with these discounts as they apply to the purchases
that they are making – and with the legal aspects of the same. To promote fair trade, free from
restraint and undue favoritism, laws such as the Robinson-Patman Act, Sherman Act, and
Clayton Act must be common knowledge of purchasing personnel and their requirements must
be observed.

Blanket Purchase Order

With many more or less standard items, companies will often negotiate blanket purchase orders
for a period of time with an agreed- upon price. As the items are required in the plant, a request
for shipment against the purchase order is made to the vendor without any additional paperwork.
Reduction in purchasing costs could be considerable with this procedure.

Traveling Requisition

For stock items that must be replaced from time to time, a traveling requisition is often used.
This could be a standard form or a computerized transaction initiated by stores personnel. The
requisition would be linked to information on file such as

1. A short item description

2. Possible sources of the material
3. Past prices
4. Recorder point and economic lot size
5. A record of historical use.

Multiple Sources

It seldom is advisable to “put all your eggs in one basket.” Where large quantities are involved, a
good purchasing practice is to develop more than one source of supply and divide requirements
among these sources. This takes considerable tact on the part of the buyer, especially in a JIT
situation, but ensures against the loss of delivery that may result from fire, flood, labor troubles,
or other causes that may interfere with production at a single source of supply.

Forward Buying

Although quantities to be purchased are normally determined by inventory management and

control, it is often advantageous to purchase quantities in excess of the normal operating
requirements of the manufacturing plant. If operational considerations or supply conditions
indicate the need for such an inventory reserve, these purchases are termed forward buying.
Speculative Buying

This is not forward buying. In speculative buying materials are bought and held for resale, the
hope being to gain advantage of a rise in prices.

Ethics

Ethical conduct is a concern of departments and sections of a manufacturing organization;

however, it should be of particular concern to the purchasing group because of authority vested
in them to spend money. The purchasing executive is constantly walking the tightrope of ethics
in everything that he or she does. Of the 10 standards of purchasing practice specified by the
National Association of Purchasing Management, five deal with the question of ethics.

International Procurement

As the world shrinks in economic terms, international procurement – the buying of goods and
services outside the continental limits of the United States – has added one more dimension to
the buying practitioner’s arsenal for locating qualified suppliers. Indeed, the search for the best
materials at the best price and quality should not be limited in geographical terms.

Evaluation of Purchasing

It is difficult to make a valid evaluation of purchasing as on overall activity. General measures

such as the ratio of the cost of purchasing to the value of material purchased, or to the value of
sales, may provide a useful index within a given organization. It is easier, however, to set up
measures related to the more specific objectives of the purchasing group: Is the right material of
the right quality and in the right quantity being procured from the right source at the right price
and delivered at the right place at the right time? Continuous rating of the accomplishment of
these objectives will indicate the success of the function, if not the total efficiency. Insofar as
these objectives might be accomplished at excessive cost by the purchasing organization, it
might be well to consider the ratio of purchasing costs to the profits of the concern – but again,
so many other factors affect these profits that a valid measurement is highly doubtful. Continued
research in the field of purchasing will no doubt result in effective ways of measuring this
principal activity in the control of material in manufacturing.

Traffic

Because it is normally the prerogative of the purchaser to designate the route and method of
shipment of material, in smaller manufacturing operations the function of traffic management is
included in the purchasing operation. However, in larger companies traffic departments are
charged with traffic responsibilities.
Traffic function includes:

1. Planning of routes for incoming material, including the selection of the method of
transportation.
2. Preparation of rate charts for delivery of material.
3. Tracing of shipments to ensure prompt delivery.
4. Auditing and approval for incoming freight and other transportation bills
5. Coordinating the receipt of large shipment to avoid demurrage charges.
6. Handling the adjustment of claims for good damaged or lost in transit.