Strategic Sourcing is a process targeted at the optimization of the supply base at the same time with minimizing the Total Cost of Ownership. This process is based on a broad analysis of spending patterns as well as a clear definition of the needs and requirements of the business. The concept of the Total Cost of Ownership applies to the strategic sourcing decisions as it is the main driver for delivering value to the company.
Moreover, Total Cost of Ownership is able to allow companies to account financially for every activity that occurs along the supply chain. Another aspect of Strategic Sourcing decisions is the obsolete inventory that constituted a major part of the company’s spending. To reduce the obsolete inventory introduction of smart pricing should ensure that the majority of inventory is sold and there is no need for extra payment to cover it. Supplier-managed inventory is key in optimizing the supply chain performance in which the supplier holds full responsibility for maintaining the necessary levels of inventory.
Nowadays managers find themselves torn between two aspects of the business: the demand of the customers and the profitability of the company they work for. Many have seen the potential in keeping the balance between two aspects and be successful by keeping the supply chain management under control.
Experienced managers underline two important things connected with supply chain management. First, a manager has to think about the supply chain as a whole entity and recognize all the connections on the product flow, services and know the information from the supplier of the supplier to the information to the customers of their customers. Second, a manager very often pursues material outcomes that are coined with cost, revenue growth and the utilization of assets. By rejecting a standard view of a company, a successful supply chain manager realizes that the real success indicator is how well all activities cooperate across the supply chain for creating value for customers while increasing the company’s profitability on every link of the supply chain (Anderson, Britt and Favre 1).
Application of the concept of Total Cost of Ownership for Strategic Sourcing Decisions
Strategic Sourcing is about finding the highest value and the highest service at the lowest possible cost of supply while making sure that the availability of materials and services are the value-adding activities. It is a disciplined process that buying organizations implement to purchase materials and services from their suppliers. Strategic sourcing, as a rule, should embrace all activities within the procurement cycle, from the product specification to receipt and payment of products and services.
It is also about involving procurement earlier in the process in order to ensure that value and cost are considerations in every sourcing decision made. Above all, strategic sourcing should be able to enhance revenues, not just reduce costs, something that has become increasingly important in ever-competitive markets. The key principles involved with strategic sourcing are the Total Cost of Ownership (TCO), fact-based negotiations, and Supplier Relationship Management (SRM).
Total Cost of Ownership is the driver for delivering value through strategic sourcing decisions. While the primary purchase price is a common business starting point, organizations must move away from their traditional focus on the purchase price, towards minimizing TCO and enhancing supplier capability and flexibility. Quality, price, delivery, and service all contribute to the total cost of the goods and services. Costs other than product purchase price are not as obvious (Gattorna 328).
Unlike standard sourcing that is mainly connected with price, the basis of decisions with the Total Cost of Ownership (TCO) model is the cost factors as well as aggregated risk (Moser and Beyer 1). Supply chain activities include the costs for the acquisition of necessary materials and their transportation, storage, and selling of bought products or services (Total Cost of Ownership. Supply Chain Strategy 2).
The Total Cost of Ownership is a cost accounting application that is able to push decision-makers into combining value with price while making sourcing decisions. The analysis of the TCO calculates all costs connected with using or acquiring new offers that include transaction costs on purchases and the costs that go toward resolving poor quality. All activities connected with the TCO scope can occur within the purchasing department of the company or in other departments as well.
Trading-off and understanding differents costs that relate to the sourcing decisions becomes very relevant because of an increased emphasis on companies that operate in business markets that place market offerings based on value, both from the perspectives of suppliers and customers. Moreover, the Total Cost of Ownership is able to facilitate companies in solving issues connected with pressure on the market as well as enable them to make decisions based on value (Wouters, Anderson and Wynstra 3).
Purchasing is the main catalyst in combining all available data and promoting the use of the Total Cost of Ownership while reinforcing its strategic application. For example, plant maintenance is one of the first functional areas for TCO use, as it aids in achieving the reduction of the total cost of the maintenance, repair, and operating supplies. Plant maintenance is the best functional area for applying TCO as the necessary data can be acquired from the maintenance management systems.
The Total Cost of Ownership considers the price of the product as well as the associated costs during the lifetime of the product. These costs are visible and include the cost for implementation, various upgrades, maintenance, and disposal. There are also tangible costs that include management, support, training, and downtime. Using the TCO approach may also involve some changes in the buyer’s perception of the product price. For example, the Gartner group has estimated that the annual TCO of a $455 Palm handheld is $2,798 per year. This needed to be put in perspective, as the average laptop TCO was $9,650 per year.
The importance of Total Cost of Ownership in pricing also came in during the Microsoft and Linux fight. Microsoft argued that the Linux TCO was higher than Windows in the long run, mostly because of the costs connected with staffing, training, and maintenance. In 2002, a study conducted by Robert Frances Group showed opposite results, stating that over three years the Linux running cost was only 40% of that of Microsoft Windows. In any case, such an approach in pricing allows marketers to redefine what actually constituted the value of a high-tech product (Viardot 254).
Introduction of the Smart Pricing to Reduce the Cost of Obsolete Inventory
Obsolete Inventory is one of the biggest aspects of inventory costs, and it is very often larger than managers admit. Some may even suggest that there is no obsolete inventory, as everything will sell eventually. Many studies show that obsolete inventory does exist, although, the most important question is how to avoid it in the first place but not how to get rid of it.
Obsolete inventory builds up because of a disbalance between the supply and demand of the product in the market. When this disbalance is reduced, then the company’s exposure to obsolete inventory is diminished. There are three ways for reducing disbalance between the supply and demand. They include sales and operations planning, the ramp-up or ramp-down discipline, and the auto-replenishment systems.
If a company is experiencing an increase in obsolete inventory, it’s advised to consider the Sales and Operations Planning. The Sales and Operations Planning strategy is closely connected with the supply and demand process of planning that is able to allow the company to provide appropriate products or services at the appropriate time at the cost that is as low as possible. A tight cooperation between sales demand planning and the operation capabilities can enhance the company’s profitability as well as its performance and client satisfaction while decreasing the exposure to obsolete inventory (Pay 1).
Nowadays corporations that produce high-technology products deal with the challenge of keeping the costs in order, especially at times of economic instability. For businesses based on inventories, the significant cost is wrapped up in the inventory itself. Keeping obsolete inventory under control has numerous benefits, including a positive impact on the business in the long run.
By reducing the obsolete inventory levels, the company can save some warehouse space as well as reduce the working costs connected with product maintenance. Reducing the levels of obsolete inventory is able to lessen the tax burdens. The continuous monitoring of obsolete high-technology inventory eliminates the necessity of writing down the costs of a large inventory volumes, thus incurring a great charge against profit. For identifying the potential obsolete inventory, an operating manager should very often analyze different statistics promptly.
Inventory control systems usually range from reserve stock systems to eyeball systems. The valuation of inventory as well as its pricing is usually stated at the original cost of the product, its value on the market, otherwise said, any cost that is the lowest possible. This particular practice can be used in cases of minimizing the possibility of obsolete assets.
A perfect inventory and proper turnover of the merchandise usually varies from one market to another. A too-large product inventory is not justified because its turnover rarely guarantees investment. On the contrary, because some products cannot meet the demand of the customers. Too little inventory can easily minimize sales, especially when it comes to high-technology products because customers will go to another place for satisfying their demand.
The Eyeball System is the standard inventory control system performed by the majority of large companies. A supply manager stands in the middle of the store or an area of manufacturing and looks around the inventory. If he or she sees that any particular product is out of stock, it is reordered. Thus, with an introduction of smart pricing on high-tech products, the eyeball method of inventory control is the most effective (Inventory Control 2).
A periodic review of the inventory for the detection of the obsolete stock and identification of the fast-selling one is crucial for proper management of the inventory. For a supply chain manager, taking regular inventories should be more than totaling all the costs. However, the main responsibility of the main management is to review and study all the figures to make important decisions that are based on the disposal, replacement, or the discontinuance of various inventory base segments.
Introduction of Supplier-Managed Inventory Throughout the Supply Chain
Supplier (or Vendor) Managed Inventory is a concept in that the stock of the products is monitored, managed, and planned by the supplier based on the expected demand and the threshold levels that were previously established.
Through the Supplier-Managed Inventory program, the seller is able to estimate future demands better as well as provide the value-added services by receiving the demand forecasts from buyers and performing the replenishing planning tasks for them. By increasing the seller’s stock level, Supplier-Managed Inventory programs are able to allow sellers to make better decisions on how to deploy goods across different sellers. This leads to better customer service levels, reduced inventory levels, stock-out situations, and lower sales costs. Both buyer and seller parties can benefit from the reduced cycle time and lower overhead since the process can be highly automated (Bansal 69).
In order to plan the production of the high-technology products and ensure the reliable supply of the products, a supply chain manager needs information regarding the actual demands of the customers. By introducing the Supplier-Managed Inventory can have a variety of benefits for retailers. These benefits include:
- Never running out of product stock. Running out of stock can majorly affect the levels of the company’s services and leave the customers dissatisfied. Even if the supply chain manager places a new purchase order the moment the levels of inventory hit the point of reordering, it is possible that the supplier may not have complete information about the speed of the sales, and is unable to adjust the schedule of product delivery as necessary. Moreover, there is a great chance that the supplier sells the products to other companies and has to keep them satisfied as well. However, switching to the Supplier-Managed Inventory system means that the suppliers take full responsibility for keeping the inventory in stock, and will improve the management of the inventory.
- Lower Carrying Costs. A company will not have to worry about the suboptimal product quantities when the supplier delivers the required quantity of the products. In this situation, with the supplier taking care of the required quantities of the products, the supplier chain manager is able to manage the inventory as sufficiently as possible. This also allows the manager to decrease the carrying costs, as the carrying excess stock is reduced; in turn, the cost of carrying it is reduced.
Sharing important information is crucial for the success of the Supplier-Managed Inventory program. By choosing to enter a Supplier-Managed Inventory program both parties, the company, and the supplier are forced to work together to make this management method work. After all, there is a great amount of shared risk, with companies giving up the control over the part of their business, and suppliers taking more responsibility for managing their inventory (What is vendor managed inventory and how your business can benefit 10).
The goal of the Supplier-Managed Inventory relationship is to make sure that the retailer only buys what can be definitely sold. The retailer maintains closer contact with the supplier with the help of the technology so that the stock is purchased frequently in smaller batches. Another important aspect of the Supplier-Managed Inventory is that the burden of the inventory management is given to the manufacturer or the seller that pushes the inventory down to buyers, basing the actions on the demand in real-time.
At the end of every supply chain is the customer that uses the product sold by the company. They have literally no control over the chain of supply, but they have a massive role at the end of it. If the customers don’t buy the product, no one in the supply chain will have any profit. The Supplier-Managed Inventory program makes sure that the retailer always has the right stock for their customers. Moreover, having the right amount of products in stock is not only a financial advantage. Making sure that the right amount of products is in stock creates a better customer experience that encourages repeat purchases as well as the promotion of the company (Lunka 18).
To conclude, the main purpose of the supply chain manager is the success of the company based on the supply and demand theories. Many may differentiate between the demand of the customers and the profitability of the company, but the success lies in the combination of the two. The supply chain management aids in streamlining every aspect of the business from the everyday product flows to unexpected disastrous situations. With the tools and techniques that include the Supplier-Managed Inventory, Smart Pricing to Reduce the Cost of Obsolete Inventory, and the concept of Total Cost of Ownership for Strategic Sourcing Decisions, a supply chain manager is able to properly diagnose the most important problems and work around any disruptions.
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