Executive Summary
Supply chain and procurement are essential for better cost performance in any industry or business. Many organizations center their procurement efforts on cost optimization, yet such an approach may not be sufficiently effective in the modern, highly volatile market. The improvement of profitability through supplier collaboration, the enhancement of the overall supply chain structure, and the utilization of efficient decision-making frameworks are critical activities that may help counteract a plethora of market factors and thus open up more significant value opportunities.
For this report, an analysis of procurement and expense management practices related to the purchase of safety equipment in the oil and gas industry was conducted. To narrow its focus, it addresses the case of Abu Dhabi National Oil Company (ADNOC), a large oil and gas producer in the United Arab Emirates. A brief company description is provided at the beginning, along with an explanation of the reasons safety equipment is important for various stakeholders.
After that, a market assessment using Porter’s five forces framework is carried out. The evaluation concentrates on such aspects as the threat of market entrants and substitutes, the bargaining power of suppliers and buyers, and the level of competition. The latter two categories play a more central role in the global oil and gas industry and have the potential to influence equipment procurement the most.
Following the market analysis, the report proceeds to a discussion of price and cost management practices, as well as ways they may help companies produce value for financial outcomes. The findings of the literature review make it clear that implementing holistic approaches to supply chain management, incorporating the concept of total delivered value, and striving to consider as many direct and indirect cost categories as possible through strategic sourcing, is advantageous for organizations in many ways. Based on this, the final section with recommendations for ADNOC emphasizes the importance of adhering to the total supply cost (TSC) framework because it can help the company to link stakeholder needs with supply activities and, in this way, enhance current value propositions.
Introduction
ADNOC was founded by the late Sheikh Zayed bin Sultan Al Nahyan in 1971 as a major enterprise with a mission to manage the newly discovered oil and gas resources in the emirate. Since then, the company has developed into a fully integrated business that currently operates across the hydrocarbon chain and engages in a wide range of exploration, production, refining, and distribution activities. In light of the significance of natural resources for the United Arab Emirates and Abu Dhabi in particular, ADNOC plays a vital role in the state’s economic growth and the promotion of community welfare. Acknowledging this role, the company’s management is committed to safety and regards it as one of its primary corporate values.
ADNOC has developed and enacted a Health, Safety, & Environment Policy, which obligates it to manage all possible risks to human, community, and environmental health through effective hazard prevention methods (Abu Dhabi National Oil Company). Therefore, the procurement and the utilization of safety equipment are important for the organization and its stakeholders.
The processes of safety equipment procurement may impact various stakeholder groups, both directly and indirectly. First, the product itself can generate value for money. For instance, the use of safety equipment in the oil and gas industry can have favorable impacts on the company’s profitability and stock market performance. According to statistics provided by the National Safety Council (NSC), each $1 invested in workplace safety and risk prevention is associated with a return of $2 or more, as well as a 40% increase in productivity (2).
Additionally, Fabius et al. state that the implementation of comprehensive strategies aimed at the reduction of health risks in the workplace can have significant positive effects on the rate of healthcare costs, employee productivity, and overall organizational performance (993). Therefore, not only shareholders but also employees as a stakeholder group can benefit from the purchase of safety equipment because greater workplace safety minimizes the risk of harm to individual health and thus increases job satisfaction.
Overall, the use of safety equipment can help the company gain multilateral advantages. In this report, various possibilities for producing value for money will be described by using high-quality evidence. The paper will start with a brief market analysis and will then proceed to a review of price and cost management activities related to the safety equipment supply. Finally, conclusions and recommendations for ADNOC regarding its procurement functions will be provided.
Market Analysis: Porter’s Five Forces Framework
The structure of an industry determines the level of competition in it and participants’ ability to gain profits. According to Porter, the industry structure is constructed of five competitive forces, including the threat of entrants, the threat of substitutes, the bargaining power of suppliers, the bargaining power of buyers, and the degree of rivalry in the market (Hokroh 77). In this section, an analysis of these forces in the global oil and gas industry in which ADNOC operates will be carried out.
The threat of Potential Entrants
The global oil and gas industry is characterized by significant barriers to entry, and consequently, there is little risk of the emergence of major new players that could gain substantial market share. Hokroh notes that the primary factors reducing the threat of potential entrants into the market are large capital requirements, patents on critical technologies, strict government regulations, ownership of resources, and so on (77). For example, to operate in the industry efficiently, a company must have technical know-how and equipment and employ a highly skilled and expensive workforce.
Additionally, most of the resources are owned by governments, while local policies and regulations often do not allow independent markets to thrive. Due to these reasons, few organizations are able to enter either the global or the national oil markets.
Threat of Substitutes
Renewable sources of energy are the main substitutes for hydrocarbon products nowadays. It has been observed that “a substitute’s threat is high when it offers an attractive price trade-off to the industry’s products or when the buyer’s cost of switching to substitute is low” (Hokroh 78). Thus the threat posed to the oil and gas industry by alternative energy sources is currently low because the prices for these alternative energy sources are much higher. Nevertheless, their attractiveness and interest in their exploitation will likely continue to increase because of their association with increased production safety and lower risks of adverse impacts on the environment—two of the significant stakeholder interests.
Bargaining Power of Suppliers
Suppliers can influence the market by changing prices, reducing production, and integration. For instance, if the supply of equipment is not vertically integrated and insufficiently controlled by the organization, the risk of greater costs arises, and the opportunity for profitability decreases. Notably, the bargaining power of suppliers within the industrial equipment market that offers specific patented technologies is somewhat higher than that of suppliers in the personal protective equipment market because the number of players operating in the former is smaller, and therefore they do not need to lower prices to remain competitive. In light of this, to increase the cost-efficiency of supply, it is important for buyers to implement appropriate sourcing and supplier relationship strategies.
Bargaining Power of Buyers
In any industry, buyers can affect prices by demanding higher product/service quality and a greater amount of value per item. In the oil and gas industry, buyers (for example, petroleum enterprises) may require oil producers to add such a value as safety to the final product, and if the company fails to fulfill this requirement, they may switch to other firms. Overall, this factor plays a major role in driving market competition on a global scale because of the growing demands for quality and stakeholder accountability.
Rivalry
At the national level, competition among market rivals is low because the oil and gas industry in the United Arab Emirates is highly monopolized. However, at the global level, the rivalry is intense and is predicted to increase over time due to an expected oil production slowdown, potentially resulting in a price war (Hokroh 78). A possible negative consequence of this trend is a reduction in profitability and the need to develop new revenue opportunities.
Market Influences on Procurement Processes
These market dynamics substantially define the composition of a procurement plan. The maximization of competition and the obligation to meet stakeholder needs are the main forces that will drive supply decisions. If rivals in the market implement more efficient price and cost management practices and address the interests of various stakeholder groups by generating values associated with the purchase of optimal safety equipment, they will gain more competitive advantage, and their attractiveness and profitability will rise.
Additionally, substantial bargaining power in the hands of suppliers can also have a significant, direct impact on the size of supply chain management expenses and, as a result, can decrease the rate of net profits. Organizations working in the safety equipment market adjust their prices based on demand trends and the costs of materials used in the production process. For example, the demand for personal safety equipment has drastically increased in recent years and had led to a moderate rise in product prices (Young). On the whole, to ensure organizational growth and increase profit margins, the company should take into account all current business requirements, stakeholder needs, and supplier interests during procurement planning.
Price and Cost Management
Leveraging buying power, engaging with strategic suppliers, and strategic sourcing are the main activities included in price and cost management during the supply of materials and products. These practices can be part of a holistic approach to supply management based on the concept of total value delivered, which in turn is focused on the enhancement of profitability rather than cost savings (Parniangtong 6).
The essential prerequisite for the effective implementation of this supply management strategy is the alignment of organizational and stakeholder needs with long-term supplier relationships. However, management should always start with the establishment of an excellent and disciplined procurement process “by ensuring that standard processes, such as supplier analysis and qualification, as well as financial and commercial controls, are in place” (Frayer et al. 6). Without this, the company would not be able to conduct a comprehensive and consistent analysis of all options available in the market and choose those that best meet its current interests.
As for specific saving strategies, one of the most effective ways to gain leverage with suppliers is the consolidation of orders/purchases. According to Young, this means that the company should strive to reduce the number of suppliers with whom it works and increase the number of products purchased per order. This approach can increase cost efficiency because major vendors of safety equipment provide bulk discounts for their partners (Young).
Based on this, it is clear that the quality of relationships with major suppliers plays a decisive role in the outcomes of procurement activities. To reduce expenses and select the most cost-effective option during sourcing and supplier relations management, one can implement the total supply cost (TSC) principle. According to Parniangtong, this framework utilizes a preliminary analysis and comparison of prices, usage costs, and administrative/process costs associated with each supply option (10).
The main advantages of TSC are the generation of in-depth knowledge about major cost categories and the quantification of savings (Parniangtong 10). Notably, the TSC method can be utilized when choosing between such options as owning and outsourcing assets or between various sourcing strategies (for instance, off-shoring versus near-shoring), because it can help assess their potential impact on inventory-level expenses.
Value Creation through Procurement of Safety Equipment
In the sphere of supply chain management and procurement, in particular, the lowest total cost may be regarded as the primary unit in the overall value creation process. According to Frayer et al., nowadays, companies mainly focus on supply chain cost tradeoffs and the ultimate impact of purchase/supply decisions on the full value picture (4). This means that the purchase of a product at the lowest price may often be unfavorable in terms of money outcomes if that product is of poor quality.
For example, in the case of safety equipment, insufficient quality can demonstrate an inappropriate level of employee protection, and as a result, the decision to buy such equipment may lead to excess employee health and injury costs. The NSC states that direct costs due to a lack of proper workplace safety include worker compensation, civil liability damages, property losses, and other expenditures, while indirect costs may include production delays, loss of skilled workforce, investigation expenses, and so on (5-6). Therefore, a focus on unit price savings in the procurement of safety equipment is a suboptimal choice because the lower price is frequently linked to poorer quality, and consequently to a higher total cost in the long term.
Overall, cost reduction strategies are of great importance in supply chain management, but there are some other ways to produce value as well. As stated by Frayer et al., “supply chain professionals also have the ability to impact revenue through ideation with suppliers and by gaining access to innovative technologies, better quality, and improved service offerings” (5). For instance, innovation in the oil and gas industry not only revolves around production processes but also around safety.
A recent report by PwC notes that in order to remain competitive in the global market and establish sound relationships with various stakeholder groups, companies operating across the hydrocarbon chain should always strive to ensure service and product integrity, as well as better ways for monitoring, inspection, maintenance, and repair (2). For instance, there has been a growing trend toward integration of digital safety technologies in the oil and gas industry in recent years. According to the Verdict Media report, this innovation has led to a 40% improvement in organizational safety.
Along with the improvement of safety monitoring, the primary benefit of digitalization is access to data analytics, which allows organizations to detect the most accident-prone areas, equipment, and processes (Verdict Media). Thus this innovative technology increases the value-creating capabilities of a firm by helping it increase efficiency and minimize safety-associated costs in the long run.
Innovation as a primary method of coping with market fluctuations and demands may also take place in the supply chain processes. In other words, value may be produced through collaboration with those suppliers that can make strategic contributions to business by offering innovative services. According to Sanderson et al., output-based or performance-based specifications in terms of improved supplier innovation are linked to better value-for-money outcomes for buyers (59). Moreover, collaboration with innovative suppliers that have unique knowledge may help a company outpace competitors because it is often associated with improvements in supply quality and the company’s value proposition (Frayer et al. 6).
However, the primary output-based specifications established by buyers should aim to increase the overall reliability of the supply chain, and only focus on additional benefits after that. The internal variables that may negatively affect the efficiency of supply include poor delivery performance, defective products, improper filing of documentation, and so on. A supplier’s unacceptable performance on at least one of these variables induces supply process expenditures. In this case, the buyer may make the supplier aware of the substandard performance and encourage it to remedy the identified flaws in order to continue the partnership, or the buyer may choose to find a suitable replacement if changes in supplier performance do not occur.
Recommendations
It is recommended for ADNOC to implement different procurement strategies for purchasing personal safety equipment (namely, head and eye protection items, and so on) and specialized industrial safety equipment (digital monitoring technologies, among others) because of the differences in the supply markets. The personal safety equipment market is relatively simple and is characterized by high availability, sufficient substitution possibilities, and a large number of suppliers.
Thus it is easy to purchase products in this category and there is no need to devote a lot of time and effort to procure them. However, the industrial safety equipment market is more complex because the goods are essential and of high value. This means that each dollar spent on a product will be significant in the long term, and ADNOC should undertake all possible efforts to reduce various purchase costs. To achieve this, it is suggested to use the TSC decision-making framework.
When implementing TSC, the company must evaluate its existing suppliers according to price (cost structures, discounts, leverage volumes, performance expenditures, and so on), product usage cost (life cycles, standardization, design, and other item specifications), and administrative/process costs (strategic planning, inventory, payables, and so on) (Parniangtong 10). Along with the directly incurred costs of safety equipment procurement and supplier/buyer performance factors, it is recommended for ADNOC to consider policy factors when choosing a supplier.
It is vital for the company to ensure that its partners meet various social policy requirements because it claims to integrate its corporate social responsibility principles into all its activities. Therefore, working with those suppliers that do not value environmental sustainability and stakeholder accountability may undermine ADNOC’s reputation and impede its financial outcomes. According to Parniangtong, the management should establish a monetary value for each of the existing policy criteria (for instance, material recycling, workplace diversification, and others) (11). Collaboration with suppliers that have similar attributes of performance and corporate culture will make a strategic contribution to ADNOC’s business by expanding its value proposition.
Conclusions
The utilization of high-quality safety equipment is a primary prerequisite of robust workplace safety, which in turn has a direct impact on operational performance and revenues. Safety equipment is important for many of ADNOC’s stakeholders, including shareholders who benefit from increased safety-supported productivity, employees who benefit from prevention of injuries or fatalities, and the local community that benefits from the minimization of accident-induced environmental risks.
The growing demand for higher workplace safety is one of the leading market forces that drive companies’ intent to purchase the specialized equipment because an ability to address stakeholder interests and meet their needs leads to greater competitiveness and attractiveness for the organization. At the same time, during supply chain and procurement planning, it is essential to consider the bargaining power of suppliers, as it has a direct impact on financial outcomes.
Overall, to achieve a better strategic impact during the purchase of safety equipment, ADNOC should connect stakeholder preferences with supplier factors within an integrated supply chain management strategy. It is not enough to pursue the generic goal of cost reduction alone. On the contrary, the literature review suggests that the company should strive to take into account all possible internal and external connections, a multitude of performance attributes, and direct and indirect costs.
The TSC framework, which focuses on the total delivered value and not simply on price, may allow ADNOC to improve the efficiency of supply chain processes and increase the value for money outcomes.
The primary practice included in the framework is the assessment of suppliers based on their ability to make strategic contributions to the firm’s business and to optimize profitability. A comprehensive analysis using the TSC model will assist ADNOC in making fact-based decisions regarding potential partnerships. Moreover, it will provide opportunities for conducting evidence-based negotiations and better information sharing with potential and existing partners. As a result, the company will become more capable of developing long-lasting relationships with strategically important suppliers that would lead to win-win outcomes.
Works Cited
Abu Dhabi National Oil Company. “Safety.” ADNOC, 2018. Web.
Fabius, Raymond, et al. “The Link between Workforce Health and Safety and the Health of the Bottom Line: Tracking Market Performance of Companies That Nurture a ‘Culture of Health’.” Journal of Occupational and Environmental Medicine, vol. 55, no. 9, 2013, pp. 993-1000.
Frayer, David J., et al. “Supply Chain Management: Beyond the Horizon. Creating Value through Procurement and Sourcing Efforts in Integrated Supply Chains.” APICS, 2016. Web.
Hokroh, Mohammed A. “An Analysis of the Oil and Gas Industry’s Competitiveness Using Porter’s Five Forces Framework.” Global Journal of Commerce & Management Perspective, vol. 3, no. 2, 2014, pp. 76-82.
National Safety Council. “Journey to Safety Excellence: The Business Case for Investment in Safety – A guide for executives.” NSC, 2013. Web.
Parniangtong, Sathit. Supply Management: Strategic Sourcing. Springer, 2016.
PwC. “Gateway to Growth: Innovation in the Oil and Gas Industry.” PwC, 2013. Web.
Sanderson, Joe, et al. “Towards a Framework for Enhancing Procurement and Supply Chain Management Practice in the NHS: Lessons for Managers and Clinicians from a Synthesis of the Theoretical and Empirical Literature.” Health Services and Delivery Research, vol. 3, no. 18, 2015, pp. 57-74.
Verdict Media. “The State of Safety in the Oil and Gas Industry – 2018.” Power Technology, 2018. Web.
Young, Kevin. “Review the Trends Driving Price Changes in Safety Equipment.” Construction Business Owner. 2015. Web.