Chapter 1Options for sourcing requirements

There are two main ways for an organisation to procure its requirements:

1. Make: buy the materials and produce things in-house
2. Buy: contract the work out to an external provider

What is sourcing?

• It explores where products can be found in the market

What is outsourcing?

• Contracting the work out overseas is called offshoring
  • Popular categories for outsourcing are logistics, ICT services, Facilities Management (FM) and even procurement activities
  • Sometimes employees are transferred from the organisation to a third party when a function is outsourced to a third party. In this case, the UK requires employees' terms of employment to be preserved, under the TUPE regulations
• Business process outsourcing is becoming popular: this is the procuring of business services that were done in-house
• Non-core competencies should be outsourced if there are identified benefits to doing so. Core competencies should be kept in-house

The key factors to consider when deciding to outsource are the competency of suppliers and the importance of the activity.

Outsourcing differs from subcontracting.

• Outsourcing is a long-term and strategic approach, whereas subcontracting is more short-term to fill work that the buyer can't do itself
• In other words, outsourcing is a strategic decision to contract out certain activities that used to be done internally
• Subcontracting can be used by contractors in order to fill gaps in their skillset that other entities can provide, when fulfilling obligations under a contract

Make or buy decisions

What do we make in-house, versus procure from suppliers?

• Strategic make or buy decisions: these decisions outline the long-term strategy of the organisation's capabilities. What services will it offer? Which resources will it keep in-house, and where will it invest?
• Tactical make or buy decisions: a decision made based on short-term trends, responding to the organisation's current capacity and customer demand
• Operational / component make or buy decisions: decisions at the component level about whether something is produced in-house or not

Make or buy decisions require collaboration across functions. Procurement will be involved with estimating the costs of externally sourced inputs (Make), and the evaluation of an externally sourced service to provide the product (Buy).

Intra-company trading

This refers to commercial trading between companies that are part of a larger group of companies i.e. they are owned by a common parent company.

• Subsidiary companies under the parent company may be grouped together as Strategic Business Units (SBU)

Each subsidiary company will have its own budget, profit and loss reporting. Some subsidiaries might only trade with other subsidiaries, whereas others trade with external companies too.

• The principles of procurement apply as usual between subsidiary companies, as they are still different entities

Transfer prices

• These prices can be reached through negotiations between the two parties, or through a head office decision
• The transfer price reached affects the profitability of both parties, and their competitiveness in external markets

Transfer pricing needs to be regulated because it can cause manipulation of markets (undercutting other companies) and enable transnational tax avoidance by funnelling profits to entities in different countries.

• Profits might be shifted to 'tax havens' through transfer pricing, so regulations have tried to stop this to some extent

There may be internal policies for intra-company trading, which instruct subsidiaries to buy from each other, regardless of price.

• This creates a risk for procurement staff, as it might stop them from identifying the best goods to meet the demand
• From a procurement perspective, it would be preferable to allow buyers to competitively evaluate internal quotations with external suppliers' quotations, and go with the best supplier
• What happens if there is a breach of contract? There are more limitations in the routes for buyers to claim compensation

Strategic and tactical sourcing

Strategic sourcing: planning for an organisation's activities to be conducted by external suppliers under long-term relationships.

Tactical sourcing: short-term approach, mostly one-off decisions about sourcing a product from somewhere based on select criteria e.g. price. This could be under time pressure.

• You might use tactical sourcing for low-risk procurements, and use strategic sourcing for large quantities or critical services for the business

Costs and benefits

Strategic costs: costs of internal production or outsourcing that are long-term are strategic costs.

Tactical costs: costs of switching between internal and outsourcing are one-off costs / tactical.

Costs and benefits can be financial and non-financial.

Long-term / strategic financial costs

There might be an opportunity cost of internal production if the organisation has limited resources that it could have dedicated elsewhere.

There might be hidden costs of outsourcing, that are difficult to estimate or anticipate:

• Extra procurement and other administrative staff required to manage the contract
• Loss of experience and knowledge within the organisation
• If the supplier fails to deliver, what costs are there on the business to cope with this?

Moving from internal production to outsourcing generally means a move away from fixed costs towards variable costs.

• In-house production involves fixed costs such as staff, property and maintenance bills
• Outsourcing is more of a variable cost because the organisation only pays for the service, not the fixed costs it would otherwise need to pay
• This doesn't mean that outsourcing is necessarily cheaper: this only shows that the type of cost is different

Short-term / tactical financial costs

If a company chooses to outsource a service that was done in-house, it might need to:

• Make some employees redundant, which incurs a cost
• Retrain employees to do other things, which has a cost involved

There might be short-term benefits, such as now-redundant assets that you can sell.

Non-financial costs

Make or buy decisions have effects that aren't quantifiable, such as a loss of in-house control, skills and impacting morale of staff, if things are outsourced.

Chapter 2Sourcing requirements from suppliers

Types of sourcing options

1. Multiple sourcing: using 3 or more suppliers
2. Dual sourcing
3. Single sourcing

Single and dual sourcing comes with a strong relationship and level of trust. This is sometimes called 'partnership sourcing'. Single sourcing is generally more strategic, whereas multiple sourcing is more tactical.

Tendering

5 criteria that need to be met for competitive bidding to be used:

3 types of tendering:

1. Open tendering: bidding process open to any supplier
2. Restricted tendering: process limited to pre-approved suppliers
3. Negotiated tendering: small number of suppliers. Straight into contract negotiations with each of them, instead of issuing ITTs and receiving bids

Negotiations

Types of negotiations:

• 'Win-lose': one side wins at the expense of the other. Zero sum because they cancel each other out
• 'Win-win': cooperation eliminates waste and leads to performance improvement
• Compromise: a win-lose approach usually leads to compromise

Types of negotiating styles:

• Competitive dialogue: win-lose approach taken
• Collaborative: both sides take a win-win approach
• Compromise: negotiator sets out from the start seeking a compromise that both sides will accept
• Accommodating: negotiator doesn't want to annoy the other, so accepts 'losing'

Stages in negotiations

Types of relationships with suppliers

• Spot buying: one-off procurements
• Regular trading: repeat business with a supplier
• Framework agreement/call-off contracts: agreed terms with a supplier, and call-offs issued during the framework period
• Single sourcing: exclusive with one supplier

Supplier selection criteria

Quality

Quality: will contain different dimensions for buyers, such as excellence, comparison to the market, fitness for purpose.

• Quality control: systems for detection and correction of defects
• Quality assurance: systems for prevention of defects

Quality management system (QMS): a set of processes for systematic quality assurance. Certifications such as ISO 9001 quality management standard can help with this.

Total quality management (TQM) is where quality expectations are applied to all resources and relationships, internally and within a company's full supply chain. I.e. continuous improvement.

ESG

ESG: comprises environmental, social and governance.

• Environmental: things like compliance with environmental laws, level of pollution, environmental policies
• Sustainability: meeting needs of the present without compromising the ability of future generations to do the same. The 3Ps: Profit, People and Planet are useful.
• Governance: maintaining fairness, things like rooting out corruption.

Technical capabilities

Refers to ability to fulfil buyer's current and future requirements. E.g. innovation, kind of item produced, production capacity etc.

Systems capabilities

Supplier's operating system may need to be compatible with the buyer's systems, or simply need to function effectively. E.g. IT systems, logistics, order processing etc.

Financial capabilities

Suppliers need to maintain their finances and be stable. Credit rating agencies may assess creditworthiness of corporate bonds, which may be an indication of financial stability.

Financial stability is important so that buyers get stable flows of supply. Supplier appraisals (due diligence) will need to explore this.

Financial statements (covered later) are a good source of information.

Value for money

Value for money: the 3Es are often referred to here.

• Economy: minimising cost of resources
• Efficiency: improved operational efficiency
• Effectiveness: meeting buyer's objectives

Economic data

Commonly used indices of economic data:

• Country indexes e.g. GDP
• Consumer price index (CPI)
• Producer price index (PPI): useful for procurement to monitor changes in producer prices
• Commodity price indices
• Purchasing Managers' Index (PMI): expectations of purchasing managers

Commodity prices are volatile. One feature of commodities is that they have spot and forward prices:

• Spot prices: today's price
• Forward prices: futures contracts are sold for a commodity. These mean delivery at various later dates e.g. 3 months, 1 year. Futures prices are the prices for delivery in these future periods

Analysing potential sales:

• Sales forecasts: expected volume of sales will feed into expected amount of purchases, and suitable levels of inventory
• Potential sales: volume of sales that might be achievable. This is a longer-term planning process, based on possible market share, market potential etc

RFIs, PQQs, RFQs and RFPs

RFIs: Requests for information

RFIs aren't a promise by buyer to award contracts.

• They don't ask suppliers to submit a quote or tender
• It's not detailed engagement with supplier
• Questions are high level and answers are brief

PQQs (Prequalification questionnaires) could be used after RFIs, or as the first step itself. PQQs are more detailed, and identify which suppliers will be invited to submit quotes/tenders.

RFQs (Requests for quotations) are supplier selection based on price. Will generally be lower complexity procurements where lowest price wins.

RFPs (Requests for proposals) are similar to ITTs, but for lower complexity. They ask suppliers to submit proposals that will be evaluated on price as well as other criteria.

RFIs, RFQs and RFPs are sometimes collectively referred to as RFXs.

Financial statements

Profit and loss accounts

• Will differ between sectors: manufacturing companies report gross profit (sales – manufacturing cost of sales). Service companies don't have manufacturing costs, and just use operating expenses in costs list

Balance sheet

• It's a statement of financial position, with three main elements:
  • Assets
  • Liabilities
  • Equity (capital of shareholders)

Cashflow statement

• Shows where company got cash during FY, how it spent and net cashflow
• Three main categories of cashflow:
  • Cashflow from company operations
  • Cashflow from purchase or sale of investments e.g. assets
  • Cashflow from financial transactions e.g. borrowing, repayments

Financial ratios

Examples of aspects of added value:

• Financial
• Quality
• Speed of delivery
• ESG

Product standards and safety standards

Safety standards: compulsory standards on certain products to remove safety risks.

Product standards: technical standards that are voluntary. Two main types of voluntary product standards:

• Technical standards: technical specifications to ensure a certain quality
• Management system standards: a framework to manage processes

Product standards organisations develop and amend product technical standards. E.g. British Standards Institution (BSI), International Organization for Standardization (ISO).

Chapter 3Compliance issues in international sourcing

Shipping documents

• Bill of lading
• Waybill
• Consignment note

Bill of lading

• A document issued by carrier (transport company) to the shipper (seller) containing details of goods
• Acknowledges contract between carrier and shipper
• A negotiable bill of lading gives holder legal title to the goods
• Several types of bill of lading, including ocean bill of lading (transport by sea) and multimodal bill of lading (more than one mode of transport)

Waybill

• Can be used instead of bill of lading, serves most of the same purpose
• A receipt from the carrier to acknowledge goods have been received
• Evidence of a contract to transport the goods
• Unlike bill of lading, it's not negotiable, and doesn't give holder legal title to the goods
• Commonly used for air travel, "air waybills"
• Rail waybill is known as CIM

Consignment note

• Used for freight transport by road. Confirms that carrier has received goods and contract exists between sender of the goods and the carrier

Import tariffs and duties

• Import tariffs are tax rates on imported goods
• Import duty is the actual amount of import tax paid
• Duties can be calculated ad valorem (by value), meaning fixed % of goods value. Or specific (by unit, measurement or weight)

Arrangements for making payments

• Payment in advance: importer makes payment before exporter ships the goods
• Payment on open credit account: normal arrangement, where exporter submits invoice when goods are delivered, and importer then pays

Bills of exchange can be used as part of payment mechanism. It's a "you owe me" for a specified amount. This is then accepted and becomes legally enforceable as an "I owe you".

Letter of credit: exporter draws bill of exchange on the importer's bank. When the bank accepts the bill, it will make the payment. Bills of exchange are either:

• A sight bill (payable on sight)
• Term bill (payable at specified date after it's been accepted)

In letter of credit, the importer's bank is the issuing bank. They ask a bank in the exporter's country (advising bank) to send the letter of credit to the exporter. Advising bank also becomes confirming bank if they add confirmation to the letter of credit.

Incoterms

Every Incoterm has three letters, first letter is E, F, C or D:

• E – Goods available to buyer at the supplier's premises. Buyer collects goods from supplier
• F – Goods available to carrier appointed by importer at a place in the supplier's country. Importer pays for transport
• C – Goods available to carrier appointed by importer at a place in buyer's country. Supplier pays for transport
• D – Goods delivered to specified place in importer's country. Supplier bears all costs / risks

Ex Works: minimum responsibility on seller. Importer responsible for transportation from seller's premises.

DPU, DAP and DDP: opposite extreme to EXW. Seller responsible for transportation to importer's country.

• Delivered at Place Unloaded: seller delivers unloaded goods at place. Buyer responsible for after unloading activities e.g. duty, taxes, onward carriage
• Delivered at Place: DPU + onward carriage. Seller needs to deliver to potentially importer's premises
• Delivered Duty Paid: DAP + seller responsible for import clearance

FAS, FOB, CFR, CIF: only for sea transport. Goods need to be loaded onto ship.

• Free Alongside Ship: seller delivers goods alongside a ship at a port in the seller's country
• Free On Board: FAS + on board ship
• Cost and Freight: seller does transport to a port in the importer's country, and bears cost. But seller's responsibility for goods condition ends at the port of shipment i.e. importer is responsible for arranging cargo insurance
• Cost Insurance and Freight: CFR + seller needs to pay for cargo insurance

FCA, CPT and CIP: other Incoterms used across any transport.

• Free Carrier: seller arranges transport to a place in seller's country. Used for multimodal transport, in containers, ro-ro shipping
  • Similar to FAS, but for all modes of transport
• Carriage Paid To: specifies place of delivery in importer's country
• Carriage and Insurance Paid: CPT + seller buys insurance of goods

Customs import declaration: contains info about imported goods. Documents may be needed to support this, such as commercial invoice, certificate of origin etc.

International trade and laws

WTO is an organisation designed to promote free trade and resolve trade disputes (is very slow). Countries can choose to make trade agreements, or just operate under WTO rules:

• National treatment principle: imported goods treated same as domestic goods after they've been cleared to enter the country
• Most favoured nation (MFN) principle: if a member lowers trade barrier to one WTO member, must do it to all

UN Convention for the International Sale of Goods (CISG)

There's no definitive law for international trade between organisations. But UN charters become binding for transactions if countries have ratified them.

There should also be agreement between both parties in a transaction as to which country's laws would be used in a dispute.

Arbitration might be used as a resolution mechanism, to avoid litigation. UNCITRAL is a framework for this. Award given by arbitrator is enforceable in most cases.

ESG: Human rights

Universal Declaration of Human Rights (UDHR): 30 articles setting out various aspects of human rights.

International Bill of Human Rights: incorporates UDHR with other protocols.

European Convention on Human Rights, and the Court (ECHR): countries in it have legislation to implement the Convention and recognise the authority of the ECHR (the court).

ESG: Employment rights

International Labour Organisation (ILO): has a system of International Labour Standards. The Conventions are legally binding, recommendations are not. 4 fundamental principles:

ILO also encourages companies to develop ESG and EDI policies.

Ethical Trading Initiative (ETI): commitment to ethical trade and adopt a code of labour practice affecting e.g. wages, health and safety.

Social Accountability International (SAI): SA 8000. The SA 8000 standard is based on UDHR and ILO. Companies can get certified.

UK has Modern Slavery Act 2015 (companies need to make an annual statement disclosing their activities to prevent modern slavery), and ILO has a standard against modern slavery.

CIPS Code of Conduct

1. Enhance and protect the standing of the profession
2. Promoting eradication of unethical business practices
3. Maintaining the highest standard of integrity in all business relationships
4. Enhancing proficiency and stature of the profession
5. Ensuring full compliance with laws and regulations

This should be familiar from L4M1, hence is not expanded in further detail here.

Whistleblowing

The whistleblower will report to someone other than their line manager, and there will be a specific process for this. There may be a Compliance Officer for example.

How can ESG be embedded into assessments of suppliers?

• Prequalification questionnaires can contain questions about suppliers' ESG practices, including requiring certain certificates
• Due diligence could be conducted on suppliers. This should end with a due diligence risk assessment of the supplier
  • Desk research
  • Visiting suppliers' premises
• Tenders may include criteria on ESG
• Compliance with ethical standards could be a term/condition in contracts e.g. maintaining SA 8000 compliance

Ethics audits are formal investigations to establish whether ethical standards are being complied with.

Environmental audits are formal investigations into compliance with environmental legislation/standards.

Both of the above audits can be conducted by external agencies or the organisation's internal audit dept. They will examine:

• Systems and procedures
• Organisation structure
• Personnel
• Supervision
• Management

Standards

• ISO 14001: environmental management
• ISO 26000: Social responsibility (guidance standard – no certification)
  • Covers things like human rights, labour practice, environment, consumer issues
• ISO 20400: Sustainable procurement (guidance standard – no certification)
  • Covers: policy and strategy, organising procurement function, and the procurement process

UN Sustainable Development Goals: 17 goals e.g. ending poverty, zero hunger, gender equality etc.

Fairtrade movement is a worldwide movement promoting fair prices for small businesses.

Global Reporting Initiative (GRI): seven different GRI Standards that businesses can use and report their sustainability.

Offset / industrial participation (popular in defence sales to governments)

Direct offset: exporter might agree to firms in the buyer's country benefitting in some way through the transaction e.g. using those firms in the supply chain, knowledge transfer etc.

Indirect offset: customer getting something else in return for buying equipment from the country. This will require the country of the exporter to agree.