Procurement’s role in business strategy
Effective strategy can be achieved in two ways — by performing different activities from those of competitors or by performing the same activities better. Procurement plays an important role in either approach. It can provide support for a differentiated strategy and it can serve as an organisation’s distinctive competence in executing similar strategies better than the competitors.
In today’s turbulent supply markets, procurement professionals are expected to develop options that can help their organisations stay competitive. To begin with, procured inputs constitute a large portion of the organisation’s resources and offer a potential source for helping an organisation develop leverage against its competitors. Procurement actions must be devised such that they are consistent with each other and with the organisation’s competitive strategy. Furthermore, procurement actions should also be designed to reinforce the organisation’s competitive priorities. Figure 1.7 shows the components and linkages for procurement strategy.
Figure 1.7 Components of procurement strategy
Source: Adapted from page 21 of the book by Benton, W C Jr. (2007). Purchasing and Supply Management, McGraw-Hill/Irwin, New York, USA.
As mentioned earlier and again depicted in Figure 1.7, competitive priorities are one means of articulating an organisation’s competitive strategy. For instance, an organisation competing on cost should drive the overall costs down. On the other hand, an organisation competing on differentiation must devise actions that enhance its uniqueness on values perceived by customers, be it cost or quality or flexibility or speed, or on any combination of the four.
The competitive priorities are also a key determinant of the importance given to different criteria in procuring material. However, the buyer performance measures or reward criteria are other factors that also influence the buying criteria. The competitive priorities define the intended or desired buying criteria, and the reward criteria determine how closely the objectives are met.
First, the criteria in procuring material must reflect the organisations’ competitive priorities. Procurement decision-makers must consider the organisation’s competitive priorities in choosing the criteria on which the material is procured. An organisation competing on cost must give high priority to procurement costs. On the other hand, an organisation competing on flexibility must give high priority to lead time in buying material. With short lead times, the organisation can be more flexible; it can develop the ability to respond to changing situations quickly. Lead times are also important in achieving speed for superior customer service. Suppliers with short lead times and those that are reliable in meeting their due dates minimise the problem of material shortages for the manufacturer. As a result, the organisation’s production can be more dependable in meeting the customer’s due dates. An organisation emphasising speed for superior customer service will need to carry more inventories to buffer against uncertainties if the supplier is unreliable. Inventory is an expensive alternative.
Next, the criterion in which the buyer’s performance is evaluated can greatly influence the effectiveness of procurement actions and in making the organisation competitive. Cost variance seems to be the dominant criterion in evaluating performance of procurement decision-makers. This emphasis on cost can drive procurement decision-makers to take actions that keep material costs low, but other criteria may be neglected, and the procurement actions may end up being inconsistent with the competitive strategy. The reward criteria determine the organisation’s actual priorities. The closer the reward criteria reflect the performance on the competitive priorities, the narrower will be the gap between intended and realised objectives. In short, if reward criteria emphasise cost, procurement decision-makers will emphasise cost in making decisions, irrespective of the competitive priority.
Strategic procurement is all about the linking of procurement decision-making and actions to corporate business strategies. In practice, the extent to which procurement is involved in the formation of organisational strategies is largely dependent on the extent to which procurement is perceived by top management as contributing to competitive advantage. Kraljic (1983) as cited by Lysons, K and Farrington, B (2006) states that such will often depend on:
1. The strategic importance of procurement in terms of the value added by the product line and the percentage of materials in total costs.
2. The complexity of the supply market, gauged by supply scarcity, pace of technology and/or materials substitution, entry barriers, logistics cost or complexity, and monopoly or oligopoly conditions.
Kraljic further claims that ‘by assessing the company’s situation in terms of these two variables, top management and senior Procurement executives can determine the type of supply strategy the company needs both to exploit its procurement power vis-à-vis important suppliers and reduce its risk to an acceptable minimum.’
Figure 2.1 on page 36 in your textbook shows the involvement of procurement at strategic, tactical and operational levels. We shall discuss the development of the different types of supply strategies later in Unit 3.
|Question to activity 1.5
||Suggested answer to activity 1.5