Chapter 1

Purchasing:
*Importance of Purchasing:Purchasing is important because...... 1. Purchasing cost account for 60 to 70 % of the total cost i.e (any saving in purchasing cost can be directly increase profit of the firm). This can be seen with the help of the Page | 1 following table. Items Raw Material Overheads Profit TOTAL Firm A 60 10 30 100 Firm B 70 10 20 100 Firm C 80 10 10 100

It can be seen from the above table that A is best firm making 30% profit and C is below average firm making only 10% profit. 2. Purchasing is important because purchasing function affects the entire organisation such as production process, marketing, sales etc. Thus purchasing is the most important function of the management.

*steps in purchasing or purchasing cycle:The steps involved in purchasing.... [1] Demand forecasting / Sales forecasting. Purchase requisition (requirement). Inviting Quotations. Selection of supplier purchase order. Receiving of materials / inspection / payment.

1. Demand Forecasting / Sales Forecasting:The first step in the purchasing is demand forecasting and sales forecasting. Demand forecasting is done at macro level i.e(All India Level).while sales forecasting is done at micro level i.e(Company Level). For example: Demand for car is 12 lack car and if maruti has 50% market share then sales will be 6 lacks car. i.e the company must plan, production, raw material requirement, labour requirement on the basis of 6 lacks cars. 2. Purchase Requisition (Requirement). The next step in purchasing is to invite purchase requisition from different departments. For example: Production department wants 1000 shirts for which they will required fabric and other accessories. Thus they will give the requirement to the purchase department by sending requisition note. A Performa of purchasing requisition can be seen as below.

Date......... Ref...........

The purchasing Officer,

Kindly purchase the following items required in our department.

Sr no

Items

Description

Quantity

Purpose

Remark

Signature............... Department..........

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3. Inviting Quotation: The purchase department after receiving purchase requisition will decide total requirements of total items which are to be purchased. After deciding this the purchase department will invite quotation from different suppliers for the purchase of different items (requirement). Some times in case of big purchase (high value item) the purchase department also invites sealed tenders. 4. Selection of supplier purchase order: After receiving purchase quotations, the purchase department will analyses this quotations in terms of quality, price and services offered. However before deciding supplier, the supplier has to be evaluated on the following criteria. Quality of the product provided. Price offered or discount. Service provided (After sales and Before sales). Company reliability. Market good will. Financial position. Level of Technology. Nature of Industrial relations.

Thus after considering the above parameters the supplier is to be decided. However for every item there should be atleast 2 suppliers. So that there would be some competitions amongst the suppliers. Once the supplier is decided necessary purchase order issue d to the supplier. A purchase order is a request made by the buyer to the supplier. To supply certain goods or materials as per the terms and conditions agreed upon. The supplier must acknowledge the receipt of the purchase order and must supply material as specified in the purchase order.

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A purchase order contains the following details.

Name and address of the supplier. Name and address of the buyer.
Description of goods.

Price and total value. Other terms and conditions.

A Performa of purchase order can be seen as below. XYZ & Co

Purchase Order Date............ Ref............... The supplier, Kindly supply the following items as per the terms and conditions mentioned below.

Sr no

Iteams

Description Quantity

Value

Remark

Delivery at____________

kindly acknowledge the receipt of this order.

Freight________________ Mode of Transport_______ Payment Terms__________ Taxes__________________ Purchase Officer (Name and Signature)
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Generally 6 copies of purchase order is prepared of in a large organisation. The supplier after receiving the purchase order acknowledge supply goods as specified in the purchase order. 5. Receiving of materials / inspection / payment: When the good are received in company the store keeper verifies the goods whether they are as per the order or not. Sometimes inspection is carried out to find out the quality of the product. After inspection some goods may be rejected for which are separate note is prepared. The goods received are recorded in the stores ledger. In the form of GRN (goods received note) then the goods are sent to the store department to the storing and finally payment is made to the supplier as per the terms and conditions.

*Essential of the purchasing / scientific purchases:

Introduction:Purchasing is not simply buying. It involves many complicated decision like what to buy, How much to buy, When to buy etc. Thus the essential of scientific purchasing are. Right Quantity. Right Quality. Right Price. Right source. Right Time.

1. Right Quantity: The most important decision which the purchase department has to take is to decide about right quantity. Right quantity means that quantity at which the total cost is the least. It means economic order quantity (EOQ). EOQ is that quantity at which the ordering cost equal to inventory caring cost. (ICC) thus, there are two types of cost involved namely. Ordering Cost. Inventory Carying Cost (ICC).

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Ordering cost is the cost of placing the order. It is the administrative cost incurred in placing the order such as stationery, staff etc. For example: The ordering cost for 1 order is Rs 100 for 2 orders Rs 200 and for 10 orders Rs 1000. Thus , there is a direct relation between no of orders and ordering cost. ICC is the cost of maintaining the inventory such as rent of store, salary of store keeper, cost of maintenance of store, insurance, interest on lacks of capital etc. There is an inverse relation between stock level and ICC. i.e Higher the stock lower will be ICC. Thus the total cost is equal to OC+ICC i.e economic order quantity is that quantity at which the total cost is the list or at which OC equal to ICC. This can be seen from following figure. EOQ.jpg

ICC

OC B C quantity A

In the above figure O.C is ordering cost curve which slopes upwards ICC is inventory caring cost which slopes downwards. The ordering cost cut ICC at point B and the economic order quantity is CA at which the total cost is the list (AB).

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Economic order quantity is calculated by the following formula.

EOQ=2*C*OC/ICC
Where, C = Consumption. O= Ordering Cost. ICC= Inventory Carying Cost.

Problem:In a factory 800 units of material are consumed annually. The ordering cost is Rs 100 per order and the ICC is Rs 4 per unit. Calculate economic order quantity.

EOQ

Proof:No. of Order 1 2 4 8 10 Quantity 800 400 200 100 80 Stock 400 200 100 50 40 OC 100 200 400 800 1000 ICC 1600 800 400 200 160 TC 1700 1000 800 1000 1160

Stock :- Quantity / 2 OC ICC :- Depending upon the No. of order. :- Stock X 4 (Per unit)IC
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TC

:- OC + ICC

2.] Right Quality :- Another essential of Purchasing is the Right Quality. Right Quality does
not means the best quality. Right quality mans the quality as specified by the customer or buyer in terms of product features like color, design, shape, finished, weight and durability etc. Thus quality means 2 things mainly conformances to specification and fit to use.

3.] Right Price :- Right price means the value of money. It is neither high price or low price but the price as per the quality of the product i.e. whenever the purchase department wants to purchase material they must invite Quotations from suppliers so that there is competition among the supplier and the buyer gets right price.

4.] Right Source :- Right source means the right supplier, the following factors must be considered while selecting the right supplier. a.] b.] c.] d.] e.] f.] g.] Quality of the Product Provided. Price offered or Discount Service Provided (After Sales / Before Sales) Company reliability. goodwill of Company. Level of Technology. Nature of Industrial relations.

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5.] Right Time :- Right time means the time when the stock level reaches re-order level. This can be seen from the following chart.

Maximum Level

Reorder Level

Minimum Level

Danger Level

In the above figure maximum level is 800 units and minimum level is 300 units. The reorder level is 600 units. Thus when the stock reaches reorder level or 600 units, fresh order must be placed for the purchase of material as it takes some time to receive the material. The time interval between placing an order and receiving of material is called lead time thus by the time materials are received the stock level reaches minimum level. This is continues process.

Q. :- What are the essential of scientific purchasing? Q. :- What is economic order quantity? How it is determined? Q. :- Calculate economic order quantity from the following data. Annual consumption = 500 units. Order Cost ICC = 1000 per order. = Rs. 1 per unit. [9]

TYPES OF PURCHASING
Centralized & Decentralized Purchasing.
Purchasing is a special activity carried out by a separate department under the control of purchase manager. Purchasing is of extreme important particularly to a manufacturing concern because it has impact on quantity, quality cost efficiency, economy & delivery etc. It is by the Purchasing that much money can be saved or closed.

Purchasing can be :1.) Centralized 2.) Decentralized

In the case of Centralized Purchasing all requirements of the organization are purchased by on department or one authority i.e. Purchase department. In the case of Decentralized purchasing different departments purchase as per their requirements.

The advantage of centralized purchasing are :-

1.] Avoid Duplication :- Centralized purchasing avoids duplication of efforts and cost.

2.] Favourable Terms :- Centralized purchasing ultimately result in favorable terms due to trade
discount and low transport cost etc.

3.] Unified Purchasing Policies:As a result of centralized it is possible to adopt unified purchasing policies procedures practices as well as product standards.
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Centralized Purchasing allows development of greater knowledge and skill by purchase officers. They specialize in buying a number of parts and materials and a large for the entire organization. 5.] Economy in recording and accounting:As all records are kept at one place, centralized purchasing leads to economy in recording and according the purchase transactions.

6.] Emphasize major corporate function:Centralized purchasing is a major corporate function and it should not be subordinated.

7.] Prompt reporting on scraps:Centralized purchasing ultimately leads to prompt reporting on scrap, outdated stocks and losses in strong. The advantage of decentralized purchasing & Disadvantages of centralized purchasing are as under. 1.) Plant Manager all powers :Decentralized purchasing gives plant managers all powers over purchasing. This is essential if the plant has to be operated as a profit centre. 2.) Reduce Procedure :Decentralized purchasing reduces costly ordered processing procedures, cat, Down lead time, provides greater flexibility, cuts inventory requirements and production scheduling

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3.) Close Relationship :In the case of decentralized purchasing there is close relation between purchases Department and production department. 4.) Familiarity with Materials :Decentralized purchasing gives purchase people an intimate familiarity with Technical properties and uses of materials being purchased. Person working at distant corporate headquarters are less likely to develop such knowledge. 5.) Authority and Responsibility :Decentralized purchasing give purchasing agent authority and responsibility Which ultimately leads to employee motivation and satisfaction? 6.) Develop Local Sources :Decentralized Purchasing agent the opportunity to develop local sources. This may ultimately help in bringing down the cost. TYPES OF PURCHASING SYSTEMS:The difference types of Purchasing system are as follows:1.) Forward Buying. 2.) Speculate Buying. 3.) Hedging. 4.) Tender Buying. 5.) Rate Contract. 6.) Blanket Order. 7.) Cash Purchase. 8.) Sub Contracting. 9.) Bulk Buying. 10)Just in time buying.
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1.) Forward Buying :The buyer commits to buy at a future date a contracted quantities act contracted Price. The normal time period is 1 year. In most cases forward buying involves a certain amount of speculation regarding the price. It reduces the risk of inadequate delivery due to material Shortage, transportation problem and unreliable performance by supplier. 2.) Speculation Buying :It involved buying an item with the intention of making profit, thus whenever Prices are low large quantities are purchased and when price rises a part of the stock is sold out to make quick profit. 3.) Hedging :It is associated with speculative buying. A buyer tries to profit to protect himself in the future by entering into two transactions, a purchase and a sale in two markets thus profit or loss in the buying transaction is compensated by loss or profit in the selling transaction. 4.) Tender Buying :This system is generally adopted in government department. The prime objective is to avoid nepotism (corruption) and give opportunity to all vendors. Tender System is adopted to purchase materials at the most competitive rates and to eliminate undue favour to one supplier.

5.) Rate Contract :This system is also common in government department. The rate of an item is Fixed by tender system. Normally the rate contract specifies only the rate and not the quantity of materials.

6. Blanket Order :Blanket order are generally entered for low value items e.g. Stationary items such Orders are entered for a period on one year. The price can be agreed upon or prevailing marketing price.
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7. Cash Purchase :Cash Purchase is contained to urgently needed small items. The departmental Heads are authorized to make such purchases.

8. Sub Contracting :Sub Contracting means giving a contract to another contractor to manufacture a Particular materials. Sub Contract is based on Factors like technology, cost of manufacture capacity utilization etc. 9. Bulk Buying :In the case of bulk buying all the requirements of materials are purchased in 1 lot Or 2 lot. The main objective is to get higher discount, better services and to reduce transport cost, handling cost and storing cost.

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