Posts Tagged ‘Procurement’

The path towards successful importing from China is surrounded with broken dreams, misplaced trust and suppliers with questionable integrity. Henry Ford rightly pointed out that coming together is a beginning; keeping together is progress; working together is a success. This same maxim applies aptly to sourcing products from China.
To be successful in sourcing from China, it is essential to have a strategy, collaboration and well-documented expectations. Success is not a destination but rather a journey. The journey of converting pain into gain is a long drawn-out process heavily dependent on trust, commitment and the integrity of both parties.

China is still a default supplier to the world

STATISTICS: On examining the numbers it is evident that China plays a dominant role in supplying a wide variety of merchandise globally. The total global merchandise in 2014 was US$18.494 trillion; China alone exported worldwide an estimated US$2.282 trillion in 2015 and this was down by 2.6% compared to 2014.[1] If we summarise these numbers based on estimated conversions, 13% of the world trade was exporting from China. This proves that China is still a default supplier to the world with Australia importing $52.0b[2] from China in 2014 – this contributed 21% to our total imports and $57.105b in 2014–2015.[3]

No Strategic Management of China Supply = FAILURE & PAIN

TRAPS: Some of the fundamental mistakes committed by importers include lack of strategy, research and benchmarking, and failing to set and achieve targeted product quality. When cost is the main driver of strategy, quality takes the back seat. Rick Frasch identified eight common mistakes that US companies make during the sourcing process from China;[4] these include:
1. Lack of a well-defined strategy
2. No well-defined standards for suppliers
3. Inadequate due diligence performed on suppliers
4. Lack of protection for payment and quality issues
5. No written contracts
6. Written contracts not reviewed by attorneys
7. Ignorance of the U.S. Foreign Corrupt Practices Act (FCPA)
8. Not having a Mandarin speaker on the team.

Manage Sourcing as a Core Competency = GAIN

PROCESS: Strategy is critical to sourcing with the first point to ponder is the make or buy decision; once that is addressed the second point to reckon is whether to source from a low-cost country (LCC) or a low-cost product (LCP). The third important point to be considered is the cost impact on all facets of the supply chain that delivers effective operating profit after the capital charge (OPACC).
Once the sourcing strategy is finalised, the second strategy that needs organisational attention is the core competency strategy. Core competency is described as “a harmonised combination of multiple resources and skills that distinguish a firm in the marketplace.[5]” Some organisations may not consider sourcing as a core competency and instead focus on managing KPIs instead of transactions.
The outsourced activities include the decision whether to source from LCC or LCP, managing cultural barriers – including working at the micro level, maintaining quality standards, and meeting the organisational goals with regard to cost, velocity and quality. China is considered as an LCC and Australia imports anything and everything.

China Sourcing Best Practice is Critical = GAIN
BEST PRACTICE: Best practice differs from insourcing and outsourcing from China. There are also differences related to complete goods sourcing and component sourcing. As outsourcing is out of context, the best practice discussed is insourcing practice.

Critical elements to be considered in sourcing from China include, but are not limited to:
• Product life cycle
• Timing of new product introduction
• Product cost to the market
• Inventory carrying costs
• Cultural issues
• Supplier’s integrity reflected in the quality
• Commitment to delivery time.

Sourcing from China does not mean there is no responsibility attached to the sourcing organisation. The onus is on the sourcing organisation in the form of due diligence in identifying the right supplier, negotiating a watertight contract with well-defined payment and delivery terms, owning the product quality before it is shipped and, last but not least, the collaboration with the supplier. It is also critical to develop a well-conceived exit strategy.


A 2010 survey conducted using case studies and the survey found that the total cost of sourcing from China is usually under-estimated in practice.[6] Sourcing from China will be a success story if importers follow a well-structured process and use a well-developed strategy with clarity about the outcome of the decision/strategy. This process will eliminate surprises and business risks. To summarise, if the quality, supplier relationships and cultural issues are well addressed, then sourcing can be a success story rather than a painful process often ending with bitter experience and negative financial impact.

[1] WTO – International Trade Statistics 2014
[2] Australian Bureau of Statistics
[3] Department of Foreign Affairs and Trade – https://dfat.gov.au/trade/resources/Documents/chin.pdf
[4] 8 Common Mistakes U.S. Companies Make When Sourcing Goods and Suppliers In China – Forbes
[5] Concept in management theory introduced by C. K. Prahalad and Gary Hamel
[6] The total cost of sourcing from China by K.W. Platts and N. Song University of Cambridge, Cambridge, UK

Source: https://cheezburger.com

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“Business must have an appetite for category management…and procurement must create that appetite” – CPO, FTSE 100 Engineering Company, UK

We often hear the word category management, what is it? And is it different to procurement? These questions are quite common in the minds of non-supply chain professionals. We also hear sourcing, is it procurement? It is not complicated, let clear the clutter.

Category Management

Let us establish clarity about category management first. It is an organisational strategic tactic to organise the procurement function to focus on specific areas of spend. It is a silo approach to procurement. Each category is considered as a profit centre and to ensure value addition and value realisation is achieved. This approach enables the category managers to conduct in-depth market analysis to fully leverage competitive product differentiation. In summary, it is a silo approach to procurement to focus on a specific category and it could be a direct or an indirect category.


Sourcing, as the name implies, is a finding a source from where the goods and services can be procured. It is a subsection of the procurement, where, procurement is a function and concerned with acquiring of goods and services, sourcing is proactive activity in finding the least expensive supplier for those goods or services. Since the business profits heavily rely on finding the best source of suppliers it is considered to be the first step taken by the business before its first sale.

One can observe from the graphic that the steps involved in identifying a new component or product or service as the first step starts with requirements definition and ends with supplier management. This is very popular in the NPI (new product introduction) process.
Graphic Source:http://www.tendersinfo.com


Finally, what is procurement, as mentioned earlier, it is a function of acquisition of the products or services identified either through category management or sourcing function. It is time to discuss a myth that one of the procurement function is to identify the need for goods and services. In the ERP/MRP era, it is the MRP that defines what product and quantity to be purchased from the selected vendors based on demand forecasting input. Whereas services are procured based on procurement requisitions. Apart from the function of purchasing, procurement function also takes care of vendor selection (in the absence of category management and sourcing function), negotiating contracts, regulatory compliance and the critical aspect of the procurement function is the total cost of ownership (TCO). What is the total cost of ownership should be explained if not this article will not be incomplete and people have to go back to google?

“Total cost of ownership (TCO) is a financial estimate intended to help buyers and owners determine the direct and indirect costs of a product or system. It is a management accounting concept that can be used in full cost accounting or even ecological economics where it includes social costs.”

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Procurement/Purchasing is a critical function within supply chain.  I was part of some great organizations where Procurement aggressively contributed to the supply chain success by providing sustainable cost advantage over competition.  In order to maximize the competitive spirit among the suppliers, organizations classify the suppliers into three different categories such as Strategic suppliers, Tactical Suppliers and Transactional Suppliers. This classification helps organizations to develop customized strategies for the three categories.  Some organizations do classify suppliers into two categories. The first category is known as Relationship purchasing and the second category is known as transactional purchasing.  Depending upon the organization and product characteristics, companies classify the suppliers in order to maintain healthy relationship and micro manage each supplier in order to avoid organizational fraud in the procurement process.

But what is Fraud?

According to Chartered Institute of Management Accountants (CIMA), “Fraud Risk Management: A guide to good practice”.

“Dishonestly obtaining an advantage, avoiding an obligation or causing loss to another party”

In short fraud means gaining undue advantage over competition deceitfully.  Some fraud could end at winning the business, some may extend up to compromising product quality, and some may go beyond and systematically demolishing the organization.  In my opinion fraud cannot be committed by one party.  Both supplier and a representative/s of buying organization would be involved in order to fulfil their personal objectives.

The possibility of procurement fraud is a great threat to integrity of any organization.  The fraudulent practices within the organization could work against Total Customer Experience (TCE). TCE deals with providing satisfactory experience to customers in the buying process apart from providing quality products and services.  The fraudulent process may lead to compromised product quality which in turn could harm the TCE.  Hence, it is essential to recognize the fraud and eliminate such processes in order to maximize the TCE. Supply Chain Managers world wide recognize the importance of maintaining integrity in the buying process and constantly look for indications of procurement fraud.  Again, it is not a rocket science to identify fraud, it is just common sense.  Some of the indicators include the following:

  • No formal supplier audits and visits;
  • Supplier payments unchallenged;
  • In a multiple supplier environment, one supplier being favored;
  • Product specifications favoring one particular supplier;
  • Suppliers enjoying questionable influence within buying organizations;
  • Increasing production line rejections;
  • Inconsistent delivery schedules;
  • Huge variance in total cost of the product when compared with competition;
  • Supplier hospitality to select few in the organization;
  • Change in life style of procurement staff;
  • Increasing Inventory levels;
  • Absence of alternative source of supply.

The Fraud Prevention:

We all agree that “prevention is better than cure”.  In order to prevent fraud, organizational culture plays a vital role.  Organizations which encourage integrity and transactional transparency end up avoiding fraud to great extent.

What is Employee Integrity?

Truthfulness of an employee in discharging his/her day to day job responsibilities without favouring any one and maintaining transparent business process and also exposing his/her actions for audits.  There are several tests to test the integrity of a prospective employee at the time of recruitment.  I personally believe a clever guy can fake the test results.  In my opinion, organizational culture encourages integrity among employees.  A corrupt organization will never encourage integrity within their workforce.

Cartoon source: http://www.opendemocracy.net/content/articles/260/images/0164_Bendell_cartoon2_240702.gif

Transactional Transparency:

Transactional transparency is about establishing clear and visible business process in executing the transaction to enable truthfulness.  In case of procurement process, there are several ways one can establish transparency.  Some of them include:

Approved Vendor List:

One of the important steps in the procurement process is to identify and establish pool of approved vendors who meet the criteria identified by the organization.  The selection criteria include; sustainability, quality, competitive pricing, integrity and willingness to collaborate.  In case of multiple suppliers for the same component/product, all are treated based on their past performance recorded through Supplier Performance Score Card.  Never allow procurement from outside approved vendors, if necessary qualify the new vendor and add the vendor to the approved list.

Creating checks and balances:

It is important that “checks and balances” are created in the process.  This means distribution of power among the executives and also able to audit/influence the actions of another executive in the business process.  According to Cary Meiners, VP of Financial and Professional services at St. Paul Travellers, an insurance company, “For example, you can’t have the same person approving contracts and doing the audits.”  This means there are no checks and balances in the process.  Encourage more external audits in order to develop a robust business process.  The audit reports from these external audits should reach the top management.

Take employees/customers feedback seriously:

Every organization will have whistle blowers.  Allow employees involved in the system should be allowed to share their feedback without fear.   Organizational fraud is most likely detected by the tip from an employee than by the audits.  What is the guarantee that auditor is not part of the fraud?  Hence, allow feedback to flow though seamlessly and at the same time avoid rumour mongering.

Some times poor quality feedback from customers could lead to procurement fraud detection within the organization.  Take customer feedback with regard to product quality seriously.

Observe Employee Life style change:

Easy money makes people to invest on their life style needs.  If the employee displays un-proportionate wealth or assets, it is an initial indication of easy money.  A deep investigation could reveal the secrets of unexplainable life style of an employee.

Disband cartels:

Fraud is generally a group activity.  According to Association of Certified Fraud Examiners (ACFE) one of fraud report, “When multiple perpetrators conspire to commit a fraud, this makes it easier to circumvent anti-fraud controls”.  Identify such groups who work towards their collective individual goals by defeating organizational objectives.  The ACFE estimates business losses at $400 billion per year or about 6% of total annual revenue in US alone.

Reward Ethical Behaviour:

Organizations develop practice to reward employees not only for meeting financial goals but also for ethical behaviour. Procurement personnel should know that meeting price competitiveness is not only measure of success and integrity at work place will also get them rewards.

Employee Dishonesty Liability Insurance:

It would be a smart move to insure organization against the fraudulent practices of an employee or a group of employees involved in the procurement process.

Above are some of the fraud preventive recommendations. Of course, they do not make organization fraud free.  According to Schnatterly, “There are always going to be smart people who are going to find ways of getting in under the radar”. However, above steps will help organizations to dodge the bullet if not make organizations bullet proof.

Who are these fraudsters?

“Male employees commit four times as much fraud against their employers than do female employees. Business losses due to fraud by employees over 60 years old are 28 times greater than those by employees 25 years old or younger. Approximately 58 percent of reported fraud is committed by non-managerial employees, 30 percent by managers, and 12 percent by owner executives.” (Source: Criminal Law, Business Fraud and Theft – http://criminal-law.freeadvice.com).

“According to a report by KPMG’s forensic division, the procurement function of an enterprise is the area that is targeted second most by fraudsters. According to national head of the forensic department of KPMG in the United Kingdom stated that the procurement function always faces a higher possibility of fraud, as this is the way in which many enterprises spend money.

David Sherwin, an Ernst & Young partner, concurs with the previous statement and adds that collusion between the procurement function of the enterprise and suppliers is the most common form of corporate fraud of all. It appears that procurement functions are globally targeted by the perpetrators of fraud and that this occurrence may cause financial and other economic damage estimated at millions of rands.” (Source: “A procurement fraud risk management model” by AC Venter, Department of Auditing, University of Pretoria).

“The first and worst of all frauds is to cheat oneself” – Philip James Bailey. Unless we exercise personal integrity, it is very difficult to avoid fraud practices. In order to encourage personal integrity, organizations should encourage and reward ethical behaviour.  There is no full proof methodology/model/process to prevent fraud in the system, but organizations should focus equally in preventing as well as detecting and eliminating the fraud from time to time.  Apart from encouraging personal integrity, organizations should create checks and balances in the system and encourage transparent business processes to avoid fraud. I would like to end this article with my favourite quotation, “Rather fail with honour than succeed by fraud.”

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