Purchasing is one of the basic functions in many organizations, it represent an important part in the company budget. It can be difficult to make judicious purchasing decisions because there are currently so many different products on the market. A buyer cannot make a purchasing decision based off of impulse or feelings. A careful purchasing decision requires a serious attention before, during and after the purchase process. To ensure a beneficial purchase process, companies can follow five purchase objectives: the ‘five rights’. But do the ‘five rights’ answer to real needs of the modern businesses?
This essay explains in a first part what purchasing is and how performance measurement contributes to management. Then in a second part, it defines the ‘five rights’ framework. Finally the last part considers the relevance and suitability of this framework when planning industrial purchasing activities. What is purchasing? In order to evaluating the ‘five rights’ framework and its relevance to purchasing, we need first to explain what the industrial purchasing is. Purchasing is a very wide concept, defined differently by many authors. According to W. Dobler and David N.
Burt (1996) purchasing is simply “the acquisition of required materials, departments and equipments” in a company. The Van Weele definition of purchasing is more detailed: “The management of the company’s external resources in such a way that the supply of all goods, services, capabilities and knowledge which are necessary for running, maintaining and managing the company’s primary and support activities is secured at the most favourable conditions” (2010). Why is purchasing so important in business management? In his Value Chain, Porter represents the purchasing as a support activity in the business.
Support activities are aimed at maintaining the company’s infrastructure. The purchasing or procurement must provide support to the primary activities of the firm: the inbound and outbound logistics, the operations, the marketing and sales and the service (Porter, M. 1986). Therefore, purchasing department is an essential key in enterprise. It has to coordinate the supply of materials in a company, and every company need materials so purchasing is a necessary function within most of firms. The purpose of any industrial activity is the development and manufacture of products.
This purpose is fulfilled by the five M’s: machines, manpower, materials, money and management. Without materials, an industry cannot work. The functions and objectives of the purchasing department in a firm are numerous. First, the purchasing department has to obtain all necessary materials for the production of the firm. It is necessary to keep inventory ordering at an acceptable level. This department must define the purchasing specifications of the required material, in terms of quality and quantity, and determine the time of delivery. Then, the purchasing department has to evaluate the price of products.
It is important to have the best possible because it has a direct impact on the firm profitability. So, the department is supposed to find the best supplier and conducting negotiations with him. But purchasing departments are also responsible for controlling the performance of their supplier and the quality. “A purchasing department is the hub of a large part of a company’s business activity,” (Dobler and Burt, 1996). Indeed, the purchasing department has also an important link with all other departments in a company: engineering, production, marketing or finance.
For instance, the purchasing department can’t make a decision without consulting financial department because it determines budget forecast, then the modality of payment or the financial situation of suppliers. A company sets a number of objectives in the purchase process, and they allow measuring the resulting performance. The purchase process and the performance of the company must be measured and analyzed. Indeed the measurement can allow to take betters decisions because the results are exposed to the company. So, it is possible for the organization to have nformation about the areas in which performance is a success or a failure, and to act about it. Measurement thus provides a kind of feedback of the company performance. We can only manage what we can measure. Without an effective measurement of the performance, a company cannot know how well its suppliers are doing. The measure of the purchasing department success is the amount of money saved by the firm. There are many performance measurements that companies can use: cost performance, purchaser quality or delivery improvement, inventory turnover.
So purchasing has a crucial role in a company, but how a company can be most effective possible? In a second part we will see that purchasing department have to answer to five specific objectives for being the most efficient possible. The ‘five rights’ framework The traditional goals of purchasing are described in the ‘five rights’ principles. Purchasing is often define using the model, for instance Baily et al. (2008) and Lysons and Gillingham (2003) define purchasing as “to obtain materials of the right quality, in the right quantity from the right source, delivered at the right time and at the right price”.
But what are exactly the ‘five rights’? Quality has a different meaning to different people. It is a very subjective concept. But it is the consumer who will ultimately decide if the quality is right, and the best quality is not always the right quality. The right quality has to be defined clearly; it cannot be described simply as ‘high’ or ‘poor’. According to David Garvin (1984), the product quality has eight different dimensions which can be measured: performance, features, reliability, conformance, durability, serviceability, aesthetics and perceived quality.
One of the main questions answered by a company is how much we need to buy? Most firms have a materials management function which determines the right quantity depending on production schedules. When purchasing these materials, the right quantity can be determined by a formula such as the economic ordering quantity (E. O. Q). This mathematical figure is essentially the balance between ordering costs and inventory carrying costs. The EOQ model allows to order the right quantity needed by the manufacturing firm and to minimize the costs.
This tool can be used in conjunction with others model such as the MRP systems. The materials should be purchased at right time because early deliveries cause problems as do late deliveries. Indeed, when the production is scheduled, materials must been delivered because it is very important to provide a continuous flow of the production. So it is essential to have good relationship with suppliers. Some tools also exist to provide information about when to order, for instance firms can calculate the ROP (Reorder point). Price of supply can be determined by the market force and by the supply and demand.
Buyers will compare the supplier price with the market price. But to know if the price is right, an organization has to use a Cost Analysis approach. This tool is used to assist in the negotiation process so it allows getting a better price for the buyer. It is very important to procure the materials at the lowest price because it will impact on the profit of the firm. Heinritz, S. Farrell,P et al. explain that the most basic and important job in the purchase process is to find a supplier able and willing to provide – consistently – quality, service and competitive price (1991).
Indeed, the selection of the right supplier is the answer to obtaining the needed level of quality, at the right price and on time. There are different steps in the supplier sourcing process, first the buyer has to make a list of possible sources, and then he must obtain quotations and other information. To finish, when the supplier is selected, it is crucial to agree with the prices and terms. According to numerous authors, the five rights allow the industry to have a perfect purchasing process. But the ‘five rights’ framework is it really adequate?
In the last part we will see that this model is somewhat simplistic and doesn’t really match to the reality. The suitability and relevance of the ‘five rights’ in the purchase processes Respect the model of the ‘five rights’ is it sufficient to have a perfect purchasing? Are there no other factors that can influence on the industrial purchasing? The ‘five rights’ is a model that suggests a very simple description for the purchasing objectives. It is a good base for purchasing, but only in theory. In a modern global business, it is very difficult to only base the purchasing operations on it.
Firstly, we can say that the term ‘right’ is subjective and depend on the situation of the company. Indeed, it will be defined differently depending on the firm. Which of the ‘five rights’ is the most important? The different ‘rights’ have not the same importance for all companies. For instance, it will be more important for some firms to get the product at right time than at the right price. Or, there is a bigger need to have ‘approved’ supplier for some products than for others (for instance with the fair-trade). Then, the ‘five rights’ can be inadequate. Some companies must rely on others factors.
Heinritz, S. Farrell, P. et al (1991) they proposed others objectives set up by several companies: -To do so with the minimum investment in materials inventory, consistent with safety and economic advantage. -To avoid duplication, waste and obsolescence with respect to materials. -To maintain the company’s competitive position in its industry, and to conserve its profits. -To search the market continually for new and alternative ideas, products, and materials whose adoption might improve company efficiency. Companies can also follow others models for improve their purchasing.
For instance, Peter Kraljic presented a method of analysing the company purchasing portfolio in 1983. The purpose of the process is to define the right purchasing strategies for strategic products. Therefore, we can say that the ‘five rights’ framework’ cannot really match to the reality. In the modern global businesses, others factors are importantes and have to be took into consideration. Capital, personnel and materials are three important resources in companies. We have seen that material purchasing has an essential role in the activity and is linked with all others parts of the company.
The management of the purchasing department is important because a fail of it will lead a fail of other departments or in inverse a success on it is a very good thing for the company effectiveness. Thus, measuring purchasing performance is important for a company because it allows knowing if the objectives are reached. Furthermore, the cost of the purchasing management is more and more expensive so its management becomes more and more a crucial task of companies. Lots of researches had been carried out to know how increase this performance and how to manage the purchase process.
Many authors maintain that a good use to the five rights is a success’s element; it allows the industry to have a perfect purchasing process. But in reality, this model is too simplistic and is not really accurate. Companies need to use many others tools to manage efficiently the purchase process: MRP, J-I-T or financial analysis (ABC Analysis). Modern management softwares are also available to help businesses, for instance they can use the software Puridiom or Fraxion which are both purchasing software programs.