Case Background
NMD had bagged an order for 250 electro static precipitators by
quoting aggressively, as the engineering sector was down in the
dumps. The transformer, being the heart of the recently obtained
order, formed a good percentage of the total value. NMD had
procured a similar component in the previous year from one of its
two suppliers. NMD had an in-house manufacturing capability for the
above discussed component. Information about its manufacturing
option and procurement policy is shared below.
Manufacturing Option
In one of the divisions of NMD, spare capacity to manufacture
the transformer was available. Sourcing the component from within
would have led to capacity utilization at NMD. This was considered
to be essential by the corporate management since the company was
passing through a lean phase with a dearth of orders especially in
the division where the transformer could be manufactured and
assembled.Although the technology available within the company was
slightly outdated, it could still manufacture marketable products.
While the item was made up of two discrete components that were
hard-wired externally, there were suppliers in the market who could
supply an integrated version (with the two components merged into
one product). The high internal cost of manufacture, combined with
its old design, led to a towering price of ?1.04 million per
piece.
Procurement Policy
The procurement policies of NMD were limited as it happened to
be a PSU. The company had a written document indicating unified
purchasing policy which was followed across various divisions of
the company. This procurement policy had its own advantages and
disadvantages, both of which have been mentioned below. The major
disadvantages were: Procurement of materials could be through
tender system only - Orders could be placed only with the bidder
who was ranked the lowest (L1) in the tender - Negotiations, if
any, could only be an exception - Negotiations could be conducted
only with the L1 supplier.(The third and fourth limitations were as
per the guidelines issued by the Central Vigilance Commission (CVC)
of India to which all PSUs were subjected.) The major advantages of
this policy were: Each division of the company had a well-organized
database of suppliers (with records of the supplier performance
measured and recorded for each order executed) - Purchase enquiries
could be limited to the suppliers in the approved material
directory of the division- Provision was also available for the
company to resort to buying through Reverse Auction (RA), which was
considered to be a transparent mechanism for conducting
negotiations (electronically), with all the participants in a
tender enquiry.
Vendor Details: The company’s vendor base essentially had only
two strong contenders, Syskatech Industries and Tyco Technocorp.
Both these firms had their products built on the same design
philosophy.
Supplier of Vendors: One key and major ingredient of the
equipment was a special type of oil, which was supplied by only one
supplier in the world located in the USA. Therefore, the price
element of the equipment with respect to this major item which they
had to import was at par since the US based supplier had uniform
worldwide pricing for all its customers. The other major raw
materials that went into the equipment were copper windings and
sheet metal steel. While the price of the copper fluctuated highly,
the price of steel had been stable over the past one year. Thus,
the overall price of the inputs remained constant for both firms
(Syskatech and Tyco Technocorp).
Manufacturing Process of Vendor: The manufacturing processes
adopted by both parties (Syskatech and Tyco Technocorp) were
similar and therefore the costing structure for both remained quite
similar. The annual (financial) turnover of both these competitors
(Syskatech and Tyco Technocorp) was also comparable. However, both
the parties competed fiercely in the market to secure the available
orders for themselves.
Past Procurement: In the year 2013–2014, NMD resorted to buying
about ?392 million worth of transformers. The procurement was made
through the RA process. There was stiff competition in the RA. The
RA yielded NMD a saving of about ?31.63 million. The average unit
price obtained then was ?400 thousand. This was what Aabid termed
as the ‘dream-price’. The RA produced about 30 ‘hits’ with both
suppliers vying with each other for taking the order. The market
condition was such that both contenders were starving for orders
and an order of ?392 million would form a major portion of their
order book. Syskatech, one of the contending firms, had a turnover
of ?531 million in the last year, of which ?392 million was from
the single order that they had bagged from NMD. Although Aabid was
very happy at the price he got during the previous year, he was
apprehensive about the quoted price, feeling that Syskatech might
end up making a loss in executing the order and therefore he
personally and carefully monitored the progress of the supplies
which stretched throughout the year. The supplies were slow, but
nevertheless it did not affect the operations at NMD. To some
extent, in the course of the year, Aabid found the supplies were
received on a start-stop-start manner, as Syskatech made a ‘lot’ of
supply and waited for the release of payment by NMD before taking
up the manufacture of the subsequent lot. Syskatech was unable to
mobilize the necessary working capital for maintaining an
uninterrupted flow of supply to NMD. At one point, Aabid had to
intervene by talking to a funding agency to extend monetary support
(credit) to Syskatech based on the strength of the order placed.
The contracted payment term between NMD and Syskatech was 45 days
of credit from the date of receipt of the goods.
Current Situation: While preparing the quote for the new orders,
the Chief Marketing Manager (CMM) of NMD, Mr. Chowdary, had a
discussion with Aabid as to what price the marketing department
should factor in for the transformer. It was Chowdary who shared
the data of internal costs of in-house manufacture with Aabid.
Chowdary also informed Aabid that, in consideration of the high
cost of in-house manufacturing, he had taken a special dispensation
from the Divisional CEO to outsource the manufacture of the
transformer by buying the item through the purchasing department.
As Aabid felt that the previous price was a one-time ‘dream’ price,
he informed Chowdary that the next price would be about +40.5 per
cent on the previous price, which Aabid noted, would still have
been about 50 per cent lower than the in-house manufacturing price.
Chowdary did not agree with Aabid about the raise in the price and
insisted that he could only take the current price in his
estimates. Since Aabid and Chowdary were not in agreement, Aabid
privately approached the CEO. To his dismay, the CEO also insisted
that NMD had to acquire the orders somehow. The CEO took sides with
Chowdary and overruled Aabid’s objections. However, the CEO
conceded to the fact that Chowdary would not take into
consideration the previous price in his estimates but would
escalate it by 20 per cent. Aabid was unhappy, but he could not do
anything in the face of the insistence of the CEO who went to the
extent of saying that Chowdary should be a part of the team and
that he was paid to contain the material costs which alone could
increase the competitiveness of the company in the market and also
led to the profitability of NMD. Knowing it to be a difficult task,
as a matter of caution, Aabid had a separate discussion with the
Engineering Manager to contain the cost. The Engineering Manager
assured Aabid that he would concentrate on reducing the material
content (steel) while making the detailed design, so that the
anticipated price increase of the transformer could be off-set with
lesser steel material input for the overall system. With this
verbal assurance from the Engineering Manager, Aabid shared his
thoughts with his team and instructed them to keep the price
increase to a minimum. He also assured his team that he would be a
part of every step of the purchasing process. In the team meeting
Aabid recalled that the Chief Operating Officer (COO) of Syskatech
had been replaced. The COO was eased out of the company on account
of the loss-making order that he had booked with NMD during the
previous year. At that point in time, the order book of Syskatech
was very lean and the action was taken by the COO with the
intention to augment the top-line. However, the management was not
pleased with the loss booked by the COO of Syskatech and therefore
had asked the COO to leave. Aabid had a gut-feeling that Syskatech
would have booked a loss of around 15 per cent during the previous
order and shared the same with his team. During discussions, Aabid
had a hunch that the management at Tyco Technocorp would also have
undergone changes, since both the suppliers were aggressively
competing in the market.
Supplier Current Status: Aabid shared his hunch with Mr Roberto,
the Senior Buyer at NMD. Roberto revealed that Tyco Technocorp did
not only replace its COO but also the Regional Representative (RR)
of its firm. Roberto informed that the replacement had been
affected two years back at the top and six months back at the
region level as a fall-out of a loss-making order booked by the COO
in a government contract. With such management changes at Syskatech
and Tyco, NMD’s buying team felt that the current COOs would be
cautious and circumspect in quoting their prices for the fresh
requirement of the company.
Options With CPO: Aabid invited ideas from his team members for
the best approach that should be adopted for the present purchase
so that the company could get the material at the optimum price. He
said that the options available were: Insist with Syskatech to take
a repeat order at the same rate, terms, and conditions - Proceed
with tendering and the adoption of the RA process - Go ahead with
tendering on paper-mode bidding with the first lowest price taking
the order and follow it up with face-to-face negotiations, if
required - Place an order with Tyco Technocorp on nomination basis
subject to their acceptance to supply the material at the current
price levels. In this scenario, Aabid wanted the team to adopt the
buying process which would allow NMD to get the best price.
Referring to the above case study, Answer the following
questions: (Total word count for all questions is 2000 words as
minimum)
1- Assume now that both suppliers had a meeting with Aabid
before the tender to negotiate the price informally. Suppose that
Syskatech followed integrative bargaining while the other supplier
followed the distributive bargaining. What tactics would each of
these suppliers follow to achieve their goals?