Module 1

Make or Buy Decisions

BU-SSBE-F16

And all for the want of a horseshoe nail!

For want of a nail the shoe was lost,
For want of a shoe the horse was lost,
For want of a horse the rider was lost,
For want of a rider the battle was lost,
For want of a battle the kingdom was lost,
And all for the want of a horseshoe nail.

Why Purchasing is Important!

In manufacturing sector the percentage of purchases to

sales averages 55%. It is not difficult to see why purchasing

is clearly a major area for cost savings.
However, savings come in different forms;
traditional approach: bargain hard for price reductions
newer approach: build relations with suppliers to jointly pull

costs out of the product or service

Strategic Importance of Make or Buy

Decisions

What is Make-or-Buy?

A.k.a Build vs Buy

The act of choosing between manufacturing a product in-

house or purchasing it from an external supplier.

Reasons for Making

The quantities are too small and/or no supplier is interested or

available in providing the goods.

Quality requirements may be so exacting or so unusual as to require

special processing methods that suppliers cannot be expected to

provide.
There is greater assurance of supply.
It is necessary to preserve technological secrets.It helps the

organization obtain a lower cost as the purchase option is too

expensive.
It allows the organization to take advantage of or avoid idle equipment

and/or labour.
It ensures steady running of the corporations own facilities, leaving

suppliers to bear the burden of fluctuations in demand.

Reasons for Making

It avoids sole-source dependency.
Competitive, political, social or environmental reasons may

force an organization to make even when it might have

preferred to buy.

The distance from the closest available supplier is too great.

A significant customer required it.
Future market potential for the product or service is

expanding rapidly and forecasts show future shortages in the

market or rising prices.

Management takes pride in size.

Reasons for Buying

The organization may lack managerial or technical expertise in

the production of the items or services in question.

The organization lacks production capacity.
Certain suppliers have built such a reputation for themselves that

they have been able to build a real preference for their

component as part of the finished product.
The challenges of maintaining long-term technological and

economic viability for a noncore activity are too great.

A decision to make, once made, is often difficult to reverse.

It assures cost accuracy.
There are more options in potential sources and substitute items.

Reasons for Buying

There may not be sufficient volume to justify in-house production.
Future forecasts show great demand or technological uncertainty

an d the firm is unable or unwilling to undertake the risk of

manufacture.

A highly capable supplier is available nearby.

The organization desires to stay lean.
Buying outside may open up markets for the firms products or

services.

It provides the organization with the ability to b ring a product or

service to market faster.

A significant customer may demand it.

It encourages superior supply management expertise.

Considerations Favoring Making

Cost considerations (less expensive to make the part)
Desire to integrate plant operations.
Productive use of excess plant capacity to help absorb

fixed overhead.
Need to exert direct control over production and/or quality.
Design secrecy required.
Unreliable suppliers.
Desire to maintain a stable work force (in periods of

declining sales).

Considerations Favoring Buying

Limited production facilities.
Cost considerations (less expensive to buy the part).
Small volume requirements.
Suppliers research and specialized know-how.
Desire to maintain a stable work force (in periods of rising

sales).
Desire to maintain a multiple source policy.
Indirect managerial control considerations.
Procurement and inventory considerations.

Determining Make or Buy Costs

A make-or-buy cost analysis involves a determination

whether to make it or buy it.

To Make

Delivered purchased material

costs.
Direct labour costs.
Any follow-on costs stemming
from quality and related problems.
Incremental inventory carrying
costs.
Incremental factory overhead
costs.
Incremental managerial costs.
Incremental purchasing costs.
Incremental costs of capital.

To Buy

Purchase price of the part.

Transportation costs.
Receiving and inspection costs.
Incremental and inspection
costs.
Any follow-on costs related to
quality or service.

Insourcing & Outsourcing

Insourcing:

Reversing a previous buy decision

Outsourcing:

Reversing a previous make decision

A New Competitive Environment

Increasing # of world-class competitors, you have to

improve internal processes to stay competitive.

Sophisticated customers demand price reductions!
Information available over Internet will continue to alter

balance of power between buyers and sellers.

Abundance of competitors/choices have conditioned

customers to want higher quality, faster delivery, tailored

solutions at a lower total cost.
If a company cannot meet these requirements, they will

find someone who is more accommodating.

Importance of Suppliers
60s ,70s focused on improving customer loyalty, leading to social

engineering

Organizational capabilities improved in 90s, managers realized inputs

from suppliers has major impact on ability to meet customer needs

Led to increased focus on supply base & responsibilities of purchasing

Quality not enough - right products at the right time, cost, place,

condition & quantity - new type of challenge

Time-reducing information technologies and logistics networks
Low-cost alternatives led shifts toward outsourcing and offshoring

The impact of China

All these changes have made 21st-century organizations realize how

important it is to manage their supply base

Factors Driving Emphasis on Suppliers

Cost and availability of information resources between entities in the

supply chain allow easy linkages that eliminate time delays in the network
Level of competition in both domestic and international markets requires

organizations to be fast, agile, and flexible

Customer expectations and requirements - much more demanding
Ability of supply chain to react rapidly to major disruptions in both supply

and downstream lessen the impact on lost sales. Must be responsive or

face the prospect of losing market share

Competition today is no longer between firms, it is between the

supply chains of those firms. The companies that configure the
best supply base will be the market winners and gain competitive
advantage.

Supplier Perspective in SCM

Strategic Orientation
Supply management requires pursuing strategic

responsibilities, which have a major impact on longer-term

performance
These longer-term responsibilities are not pursued in

isolation, but are aligned with the overall mission and

strategies of the organization. They exclude routine,
simple, or day-to-day purchasing decisions
The routine ordering and follow-up of basic operational

supplies is not a strategic responsibility. The development

of the systems that enable internal users to order routine
supplies, however, is considerably more important.

Managing Supply Base

Supply management is a broader concept than purchasing
A progressive approach that differs from a traditional arms-

length or adversarial approach with sellers

Requires to work directly with suppliers that are capable of

providing world-class performance and advantages to the

buyer

Process Driven Approach

Supply management often takes a process approach to

obtaining required goods and services.

We can describe supply management as the process of

identifying, evaluating, selecting, managing, and

developing suppliers to realize supply chain performance
that is better than that of competitors.
We will interchange the terms supply management and

strategic sourcing throughout this course

Cross Functional Groups

Supply management is cross-functional, meaning it

involves purchasing, engineering, supplier quality

assurance, the supplier, and other related functions
working together as one team, early on, to further mutual
goals.
Except for ownership, the supplier almost becomes an

extension of the buying company.

Supply management also involves concrete, on-site, and

frequent help to suppliers in exchange for dramatic and

continuous performance improvements, including steady
price reductions

Reviewing Supply Chain

A Cereal Manufacturers Supply Chain

A Car Manufacturers Supply Chain

Business Case
Value Addition through Sourcing

Outsourcing
Process of moving aspects of your own company to another

supplier.
Outsourcing is giving functions of your organization such as

buying, manufacturing, warehousing and transportation to

another supplier, referred to as the 3rd Party Logistics (3PL)
provider.

Considered when your company doesnt have the capability

to perform the specific task, or when your company believes

that another organisation can perform the task better.

Businesses can outsource majority of their activities.

Benetton or Nike outsource their manufacturing, distribution

and retailing, focusing on marketing their apparel.

Growth Drivers in Outsourcing

Globalization

Increasing complexity

Emerging markets

Value in Outsourcing
The most common reasons for a supply chain to engage in

outsourcing are:

Increase operating flexibility

Reduce fixed assets (no cyclical losses, no stuck-up finances,

increased choices)

To increase efficiency (quality, focus on core activity, reduced

costs etc)

Supply Chain & Value Chain

Michael Porter, who first articulated the value chain

concept in the 1980s, argues that a firms value chain is

composed of primary and support activities that can lead
to competitive advantage when configured properly.
One way to think about the difference between a value

chain and supply chain is to conceptualize the supply

chain as a subset of the value chain.

Supply Chain & Value Chain

Extended Supply Chain

Original value chain model focused primarily on internal

participants
The extended approach includes suppliers and customers who

reside well upstream and downstream from the focal

organization
Multiple levels of suppliers and customers form the foundation

for the extended enterprise concept (success is a function of

effectively managing a linked group of firms past first-level
suppliers or customers)

The extended enterprise concept recognizes explicitly that

competition is no longer between firms but rather between

coordinated supply chains or networks of firms

Case Study
Make or Buy decision at a valve
manufacturing company

Risk Assessment & Mitigation in

Supply Chains - Supplier Selection &
Bids Evaluation as a Risk
Management Tool

What is a Risk?
Generally, risk can be defined as the probability of an

unwanted outcome happening.

Risk management involves three key activities:

risk analysis,

risk assessment, and

risk mitigation.

Risk Analysis
Identify potential problems and estimate their probability

of occurring

Risk Assessment
Estimate the impact of a potential supply problem (glitch or

disruption) on company operations

Managing Risks
Avoiding

Refuse to engage; may incur revenue losses.

Transfer

Letting other bear the potential loses; e.g insurance. Supplier

Selection?

Acceptance

Retain risk; when potential profits far outweigh potential losses.

Mitigation

Lessen negative consequences; when risks unavoidable.

Supplier Selection?

Risk Mitigation
Design plans to prevent potential supply disruptions and

allocate risks and responsibilities to people/departments

that will be responsible for their management
Outsourcing/ Purchasing and effective selection of suppliers

is itself one of the most widely used tools for mitigating

risks.

It involves carrying out a cost-benefit analysis of a particular

activity, both in case of potential make or buy decisions.

The activities above a pre-set threshold of risk profile

(probability/ severity) are outsourced.

Remember: A high probability/ severity risk for you may

(should?) not be a high probability/ severity risk for your supplier.

Mapping Stakeholder in Make or Buy

Decisions

Stakeholder Analysis
Process of identifying the individuals or groups that are

likely to affect or be affected by a proposed action, and

sorting them according to their impact on the action and
the impact the action will have on them

Used to assess how the interests of those stakeholders should be

addressed

Consists of weighing and balancing all of the competing

demands by each of those who have a claim on it

Does not preclude the interests of the stakeholders overriding

the interests of the other stakeholders affected, but it ensures
that all affected will be considered

Process of Managing Stakeholders

Start

Identify
Stakeholders

Analyze
Stakeholders

Manage
Stakeholders

Review
Performance

End

Stakeholders
Map

Communications
Plan

Sample - part of final stakeholders map

Sample - part of final stakeholders map

Stakeholder Mapping
PROMOTERS

APATHETICS

DEFENDERS

Power

LATENTS

Interest

Other Dimensions
Power (high, medium, low)
Support (positive, neutral, negative)
Influence (high or low)
Need (strong, medium, weak)
Attitude (Positive, Neutral, Negative)

etc.

Class Activity

Make a stakeholder matrix for your business (a small

airline operating between 3-4 major cities in Pakistan)

when making a decision of whether to make or buy inflight food.

Make assumptions for required data.

Questions?

Assignment
What is a stakeholder circle? Make a stakeholder circle for

your business (a small airline operating between 3-4 major

cities in Pakistan) when making a decision of whether to
make or buy in-flight food.

Make assumptions where required!

Submission: Before start of next class.