Diploma

in Procurement
and Supply
M3: Commercial Contracting
Section 2: Specs & KPIs

By/ Almahi Suliman

2.0 Understand the fundamentals of specifications and key
performance indicators that are included in contractual
arrangements made with suppliers

• Analyse the content of specifications for

2.1 procurements

• Appraise examples of key performance

2.2 indicators (KPIs) in contractual agreements
 2.1 Analyse the content of
specifications for procurements
• Drafting specifications and developing market
dialogue with suppliers
• The use of standards in specifications

• Typical sections of a specification

• Standardization of requirements versus increasing the
range of products

• Including social and environmental criteria in specifications

• The role of Information Assurance in developing

specifications
 Drafting specifications and developing market dialogue with suppliers

Specifications is one of the key documents comprises a contract.

Any mistakes, ambiguity or poor drafting will lead to dispute

If the buyer has no clear specifications, it should engage with the market and
start dialogue with suppliers as early as possible before the actual time of buying

If specifications differ from supplier to an other then the buyer may ask for
proposals

Proposals take different weights and rates and prices will be only one factor
among other factors comprise the technical proposal like experience, techology,
etc
(2.1) The use of standards in specifications
Benefits of using published standards
Specifications can be shorter –no need to repeat the detail of the
standard.
Suppliers can understand specifications more quickly – they’ll know
whether their offer meets the standard indicated.
Using international standards removes a barrier to trade, as
suppliers from other countries are more likely to be familiar with
them than organisational standards.
Allows for different approaches to be offered which will meet the
desired outcome.
Use of the most up-to-date international standard should ensure
that all recent influences (up to a point in time) have been
considered.
Risks of using published standards
Procurement staff may not be familiar with which standards apply,
so simplification opportunities could be missed.
Staff may not fully understand the implication of the standards that
they quote, and inadvertently create conflicts within the
specification.
Staff may not fully understand either the quoted standard or their
own operating environment and use standards that weren’t
designed for their situation.
Staff may give insufficient thought to what needs to happen when
the standard is updated.
SMEs may not be as familiar with international standards as larger
companies, but may be capable of doing what is actually required.
Can prevent SMEs from responding to advertised opportunities.
Slide 11
Quoting standards and codes of practice
can be used as shortcuts when writing
specifications
• A standard (as defined by the ISO) – a document that provides
‘requirements, specifications, guidelines or characteristics that can be used
consistently to ensure that materials, products, processes and services are
fit for their purpose’.
• A code of practice – a recommended means of acting in order to achieve a
given aim; there may be other approaches that are equally acceptable. Can
be written by an organisation, trade body, or national or international
organisation, the ISO.
Standards

In specifications, cite the number and date of publication of the

standard. Date of publication critical to ensure everyone references
the same version.
Standards may be updated from time to time. This can cause
confusion if it occurs in the middle of a contract.
Two options for referring to standards in contracts:
• Fix the date of publication of the standard at the date of contract
• Or state the publication date as the standard to apply at the
commencement of the contract but include wording that requires
compliance with subsequent editions.
Activity

Find out what standards are used in your organisation.

What areas do they relate to?
When was the last time they changed? What was the change?
Is there a default approach for what happens if standards are updated
mid-way through the contract, or it is reviewed on a case-by-case basis?
(2.1) Standardisation vs differentiation
Advantages of standardisation
Clarity of specification: for the buyer and the supplier
Economies of scale: enables rapid production which increases efficiency and
reduces costs
Reliability: flaws in materials or production processes can be eliminated.
Service enhancement: the personnel can become more adept at delivering or
producing a standard product
Time-saving in the procurement process: reduces the amount of time purchasers
spend writing specifications
Accuracy of quotations: suppliers will make fewer errors in quoting for a standard
product
Wider supply market: more suppliers can provide standard products, which leads
to increased competition
Narrower supply base: due to a narrower variety of items needing to be
purchased. This can improve the bargaining position of the purchaser and reduce
cost of managing suppliers
Inventory savings: due to smaller range of products
Reduced risk: easy to find an alternative supplier if incumbent is unable to fulfil an
order
Advantages of differentiation
Innovation: a new technology or new product can have significant benefits to the
firm that is first to bring it to market.
Economic factors: producing simpler cheaper versions of a product aimed at less
affluent markets and more complex, more expensive versions for the richer
consumers creates more sales in more areas.
Cultural differences: an increased range of products allows access to different
markets or improves the success within those markets.
Product differentiation: allows for increased competition in a saturated market.
Increasingly, product differentiation is being achieved more through branding and
marketing than it is through real differences in the product itself, e.g. in the
clothing industry where there may be no real difference between items from
different brands.
Flexibility: an increased range of products can help an organisation be better able
to respond to changes in the market.
Slide 12
Standardisation vs Differentiation
Standardisation – the process of
making products or processes
conform to a standard.
Has many benefits – refer to
advantages of standardisation
column on slide
Increased standardisation reduces
the range of products available,
but there might be cases where
increasing the range is a better
option.
Differentiation – increasing the
range of products available.
Has many benefits – refer to
advantages of differentiation column
on slide
Example of differentiation: soft drinks
manufacturer Red Bull uses red,
silver and blue on its cans in the
USA because of the associations of
those colours: red for courage and
blue for youth. In China, the cans are
red and gold - the Chinese colours
for wealth and luck.
Individual activity

• Take a look at the products produced by your organisation.

• Based on this, does your organisation tend towards standardisation or
differentiation?
• Review the items in the category that you’re responsible for. Would
standardisation or differentiation bring any advantages?
(2.1) Social and environmental criteria
Driver or motivation for including social or Examples of criteria
environmental criteria

Ethics ∙ Labour conditions (including modern slavery, child labour ∙ Compliance with international labour standards
etc) ∙ Support for education programmes aimed at reducing child labour
∙ Bribery and corruption ∙ Adult education programmes aimed at ensuring workers understand their rights

Consumer-led ∙ Changing demands ∙ Organic production

∙ Willingness to pay premium prices ∙ Ethical trading labels (e.g. Fairtrade)
∙ Brand reputation ∙ Environmental labelling (e.g. ????)
∙ Boycotts and protests in response to an organisation’s ∙ Avoidance of certain inputs, ability to trace raw materials (e.g. conflict minerals)
damaging actions

Stakeholder ∙ International agreements ∙ Waste reduction

pressures ∙ Government policies ∙ Waste separation and recycling
∙ Proposed regulations (not yet implemented) ∙ Energy use / carbon footprint measures
∙ Internal policies and marketing strategies ∙ Water conservation
∙ Funding agreements ∙ Community initiatives
∙ Training and employment initiatives
∙ Use of local and/or SME firms in the supply chain

Economic incentives ∙ Cash savings ∙ Waste reduction

∙ Process efficiencies ∙ Energy and water use reduction
∙ Skills shortages/talent management ∙ Training and apprenticeships

Slide 13
Social and environmental criteria
Social and environmental criteria – increasingly being included in specifications.
The inclusion of social and environmental criteria can be driven by various factors, for
example: (refer to table on slide for more detail)
● Ethical considerations can drive the inclusion of criteria such as compliance with
international labour standards.
● Consumers are the driving force behind criteria that specify production is organic,
is Fairtrade, and that certain ingredients or minerals can be traced to source.
● Pressure from stakeholders such as international agreements or government
policies and regulations can result in criteria such as measures to reduce the
carbon footprint, and
● Economic incentives such as cash savings, process efficiencies and talent
management can result in criteria such as reductions in waste, energy and water.
The social and environmental criteria:

• Should tie into the organisation’s overarching strategy in relation to the social
and environmental objectives.

• Need to be defined alongside individual specifications.

• Should be written into the contract in the same way as any other requirement,
using international standards where possible and ensuring they don’t conflict with
other aspects of the specification.

• Need to clearly indicate whether the requirement is a minimum standard, a

mandatory level, an aspiration or a target.

• Have a cost associated and this might be larger for some suppliers than others,
depending on their current practices.
Learner activity

• Obtain a copy of your organisation’s social and environmental objectives,

or CSR statement.
• Obtain a copy of a contract and identify the social and environmental
objectives included.
• Can you identify similarities between the organisational and contractual
objectives?
• Are there any aspects not included in the contractual objectives that you’d
expect to see, based on the organisational objectives? If so, what are they,
and why do you think they might have been omitted in this instance?
2.2 Appraise examples of key performance
indicators (KPIs) in contractual agreements

Defining contractual performance measures or key

performance indicators (KPI)

The use of service level agreements

Typical KPI measures to assess quality

performance, timeliness, cost management,
resources and delivery
Key performance indicators (KPIs)

● Included in contractual agreements to indicate levels of performance

required of the contract.
● Over time, measuring performance against the KPIs tells you how well
the individual contract is performing.
● Performance can be affected by the structure of the contract itself.
● Contract-specific KPIs can be included to measure the buying
organisation too, for example, the number of payments made within
terms, and the timeliness, accuracy and completeness of orders.
Contract KPIs can be used to assess:

• The quality performance

• Timeliness

• Cost management

• Resources

• Delivery of a contract
 (2.2) Key performance indicators - KPIs

Key points:
● Set targets that enable improvements to be monitored
● Set targets that are SMART
● Consider what value an improvement in a particular KPI will deliver to the business.
● Consider what it will cost to deliver the improvement, and who will bear that cost
● Consider whether there likely to be any unintended consequences of the KPI?

Slide 14
(2.2) Process for defining KPIs
Step Factors to consider

1. Decide what matters. What are Remember the IPA rule: focus on the things that could indicate potential improvement, potential
you going to measure? problems or things you have the ability to change?

2. How are you going to measure What data are you going to use? Does it already exist or will it need to be created? What type of
it? measure is most appropriate? How will you analyse it?

3. Who is going to measure it? Who will collect the data and provide initial analysis? Costs of data collection need to be measured
against level of trust in the other party’s information. Ideally, there should be a shared data source.

4. How often will it be measured? How often do you need to measure, and how often do you need to score? Can an excellent result in
one quarter offset a poor result in the next?
5. How does the measure convert What does ‘good’ look like? Consider what is required by the specification, what level of tolerance is
into a score? allowed, and will there be penalties? Whether excellence is rewarded with a bonus.

Slide 15
The process for defining KPIs
The process for defining KPIs is as follows

1. Use the IPA rule to decide what to measure, applied so only KPIs that are important, relate to a
potential improvement, or fall within the authority of the parties to change are included.

2. Determine how it will be measured and what data you will use to measure it.

3. Determine who will collect the data – supplier or buyer.

4. Determine how often the data will be collected, how frequently it will be scored, and what costs
are associated with collection. The costs of capturing and analysing the KPI information must
never exceed the potential benefits from improvement or likely costs of the potential problems
occurring.

5. Determine what ‘good’ looks like. Can there be tolerance? What level is rewarded?

Ensure the specification and KPIs align, e.g., if the specification states that all deliveries are to be
made within 28 days, but the KPI target for deliveries within 28 days is 95%, it would create a
contractual conflict. Where tolerances are allowed, the specification should refer to the KPI target.
(2.2) Typical KPI measures
Activity description
Delivery: Average lead time
Product quality: usability
Administration: Management
information
Continuous improvement:
Supplier innovation
KPI How is it measured Cost, risk or potential unintended
consequence
current lead time compares as a percentage shorter lead times may not reduce the
favourably with previous lead improvement on the overall duration of a project; buyer could end
time previous period. up with additional inventory costs
The product/service is Periodic user surveys Cost of survey. Ensure sample is
user-friendly representative.
Supplier issues no more than a a count of the credit can result in credit notes being delayed in
stated number of credit notes notes order to stay below the target for a month
per month
Supplier is proactive in No. of innovations Resource might be diverted to innovation
suggesting innovative implemented rather than delivering the core contract
workable solutions
Slide 16
Examples from different categories

Examples from different categories and the issues that may accompany
them – refer to table on slide
For delivery compliance, an example KPI for lead time could be ‘current lead
time compares favourably with previous lead time’.
• This can be measured as a percentage improvement on the previous
period.
• Note that shorter lead times may not reduce the overall duration of a
project, and the buyer could end up with additional inventory costs if orders
are delivered before they’re required.
Examples from different categories

For product or service quality, an example KPI for usability could be ‘the
product or service needs to be user-friendly’.
• This can be measured by user satisfaction surveys.
• Issues include the cost of surveys, whether the sample is representative,
and whether the reasons for good or poor scores are captured.
Examples from different categories
For administration, an example KPI for credit notes could be ‘Supplier issues no more
than a stated number of credit notes per month’.

• This can be measured by a count of the credit notes.

• Although this is aimed at ensuring the accuracy of invoices, it can result in credit
notes being delayed in order to stay below the target for a month.

For best practice and continuous improvement, an example KPI for supplier
innovation could be ‘supplier is proactive in suggesting innovative, workable
solutions’.

• It’s measured by the number of innovations implemented.

• This can result in resources being diverted to seeking innovation rather than
delivering on the core contract.
Learner group activity

Each group with a worksheet containing examples of KPIs and ask them to
consider how each KPI could be measured, and what cost, risk or potential
unintended outcome could occur as a result, for example:
• Supermarket contract specifies that all deliveries from a fresh fruit supplier
should be in full.
• Broadband supplier’s contract with an outsourced call centre provider
states that all calls need to be answered within 30 seconds.
• Construction contract states that if more than x accidents are reported
within a month, there will be penalties imposed.
(2.2) Collecting KPI data
Aspect
What data do you need to collect?
Where is the data held?
Are there costs associated with
collecting the data?
Things to consider
Is this information already collected? If so, by whom?
Do they collect all of it, or is additional detail needed?
How easy is it to collect?
How accurate is it?
How transparent is it? (can you trust it, or is there a chance of under-reporting?)
Do both parties have direct access to it?
Does it involve duplicating inputs? Can that be avoided?
Will the benefits resulting from KPI-driven improvements warrant the cost of
measurement?
Can the data be gathered more cost-effectively?
Slide 17
Collecting KPI data

● All KPIs are dependent upon the availability of the relevant data. What
do you need to collect?
● Does it already exist in the buyer’s or supplier’s systems? For example,
Delivery of goods and services will be evidenced through ordering and
receipting records.
● Ensure KPIs are based on the IPA rule, and not on the availability of
data.
● If a KPI is important, then it is worth collecting the data for it.
Types of Data

There are three main types of data used in KPIs:

● Binary measures
● Numerical measures
● Qualitative or subjective assessments – which is usually converted into
a numerical measure, e.g., ‘very poor’ is often converted to ‘1’; and
‘excellent’ is ‘5’ on a 5-point scale.
Using KPI data:

● Performance management should highlight, encourage and reward

excellent performance as well as controlling poor performance.
● Contractual remedies for enforcing KPIs can only work if the
performance level can be determined with a reasonable degree of
certainty.
● Each party should to have a right to audit the information used by the
other party to determine KPI outputs.
Learner activity

For a specific contract from your organisation, identify:

● What KPIs are in place

● Who is responsible for supplying the data
● Where the data comes from, e.g., already recorded as part of another
activity, or recorded specifically for reporting on KPIs
● What are the KPIs aiming to achieve?
When using KPIs, remember:

● Part of the purpose of having KPIs is to drive improvements in

performance, therefore targets should be set against which any
such improvements can be compared.
● All targets must be SMART, that is, specific, measurable,
achievable, realistic and time-bound.
● To consider what value an improvement in a particular KPI will
deliver to the business.
● What will it cost to deliver the improvement and who will bear that
cost?
● To consider whether there likely to be any unintended
consequences, for example if the supplier diverts resource to one
aspect, will it cause detriment in another?
Mateo Case Study
Mateo works in the head office an organisation that has flower shops in 9 towns in the South of England.
He is responsible for the procurement of the flowers and all associated packaging for all of the flower
shops.
He has set up contracts with several flower suppliers, some of which are responsible for delivering all of
the flowers for a particular shop, and others that deliver a narrower range of specialist flowers to all of the
shops, as well as packaging suppliers that deliver to all of the shops.
Most of the suppliers deliver on time, but a couple of the shops have reported that deliveries from one of
the flower suppliers have started arriving late – after the shop has opened, rather than before, which is
proving disruptive when they’re trying to serve customers. They are not always full orders.
Work in groups to discuss the following questions:
1. Suggest three KPIs that could be included in the flower-delivery contracts.
2. Should they be included in all of the contracts with flower suppliers, or do they just need to be
implemented in the contract with the supplier they are having difficulty with?
3. Might there be any costs, risks or unintended consequences of the KPIs you’ve suggested?
Learning exercise: Mateo’s KPIs
Work in groups to discuss the following questions:
1. Suggest three KPIs that could be included in the flower-delivery contracts.
2. Should they be included in all of the contracts with flower suppliers, or do they just need
to be implemented in the contract with the supplier they are having difficulty with?
3. Might there be any costs, risks or unintended consequences of the KPIs you’ve
suggested?

Slide
Slide 918