Supplier Performance Evaluation

Measurements drive behavior, from defining, monitoring to taking actions.

Traditional Measurement
Price, Delivery and Quality in an order.

Price
Established Price (Standard Accounting System) vs. Last Paid Price, Budget Amount, or Engineering Estimate (Target Cost Accounting Systems)
However, these comparison methods can lead to political games / behaviors which would distort the results.
Other better solutions include: Price Trends, Cost Savings / Cost Avoidance, Contribution to Profit, and Affordable Cost.

Price Trends as a Dynamic measurement, by showing context and history, is always better than static measurement

Cost Savings Report should include Prior Price, New Price, Date, Quantity, Unit Price, Extended Dollar Savings, and Description of How and Why.

Cost Avoidance is the remission of charges that are legitimate - that purchasing negotiates away and the supplier agrees to waive (e.g. legitimate penalty charges, set-up charges, and cost increases). Cost Avoidance Report should include Documentation of the Charges from the Supplier, the Final Settlement of the Charges, Total Dollar Savings, and Description of How and Why.

Contribution to Profit (A Bottom-Line Approach)
Five steps to determine Contribution to Profit:
1. Prepared a costed bill of material for an end product or service
2. Record all price changes to components in that bill of materials
3. Following reduction of cost, the total cost content will decrease
4. Following increase of cost, the total cost content will increase
5. Net difference in the total material cost content = Purchasing's contribution to profit, of that product

On-Time Delivery
Three considerations to measure delivery performance.
1. Data integrity is a major issue: Purchased Date vs. Supplier's Promise Date vs. Requester's Need Date
2. Definition of "on-time"
3. FOB point

Quality
Reject Rate of Incoming Inspection can not provide a complete picture of a supplier's quality performance. Right correlation of measurement between the supplier's and purchaser's quality system must be established in order to yield the same results.

Combining the Data
Using a cut-off score to determine supplier list by combining Objective and Subjective Acceptable Performance

Questioning
Continuous questioning whether price, delivery, and quality are sufficient to measure supplier's performance
Three advanced measures include Affordable Prices, Delivery When Needed, and Product Lifelong Quality Tracking (Through the Process and as Perceived by the End Customer)

Affordable Prices in a Changing Market
Cost Reductions, Process Improvements, Redesigns, and Material Substitutions as well as the Acceptability of Quoted Prices, can all be measured against the what is Affordable.

Is Inventory an Asset or Cost? The true cost of carrying inventory should plus overhead costs.

The Cost of Quality (Price of Nonconformance)
ABC (Activity-Based Costing) is helpful to seek the root causes of quality problems and understand the associated costs.

Measuring Total Cost Impact by combine Price, Delivery, and Quality into a single measure of Contribution to Profit.

Putting Cost, Performance, and Policy performance measurement All Together

Calculating Total Cost
Calculating Unit Total Cost Per to determine Unit Monetary Impact. Estimates and/or Approximations are acceptable as long as they are comparable and/or relatively valid.

Incorporating Cost of Nondelivery, Cost of Nonquality, and Leadtime into Total Cost calculation by using the nondelivery performance percentage as a price adder.

Measuring Subjective Performance by using percent nonperformance, Define and Track.

Unit Total Cost, which calculating cost factors, performance factors, and policy factors in dollars. Evaluating Unit Total Cost can be the basis of supplier selection and measurement of changing performance over time.

Using Unit Total Cost
Four business objectives to use Unit Total Cost
1. Combine disparate issues into coherent measurement plan
2. Allow all groups within an organization to access the supplier selection, measurement process, and ensure all issues are included
3. Clarify the basis of supplier selection and educate decision making behavior
4. Educate suppliers what and how performance matter

Measuring Service Suppliers
Potential difficulties:
1. Uncertain final product
2. Unrealistic and/or unclear expectations
3. Inconsistent assumptions
4. Personal perceptions
5. Changing job definition
6. Changing staffs within the organization and involved parties
7. Unforeseen
8. Changing funding

Purchasing's job is to assist all parties to define and incorporate their Performance Expectations, Costing Formulas, and Acceptance Criteria into the purchase order. Possible examples are as followings. However, it is important to track all the major issues.
1. What? define the project and its scope
2. Who? people and skills
3. Time frame
4. Progressing reporting
5. Acceptance criteria? when to be informed about the completion?
6. Legal issues
7. How are inevitable changes approved and documented?
8. How to determine costs?
9. Method of payment

Excerpt from: The Purchasing Handbook - A Guide for the Purchasing and Supply Professional


References & Readings:

Harding, M. L. ‘‘Creating Your Own Supplier Evaluation Formula,’’ Purchasing Today, November, 1997, pp. 12–13.
Harding, M. L. ‘‘Understanding Total Cost of Ownership,’’ NAPM InfoEdge, vol. I, no. 14, August 1996.
Harding, M. ‘‘Purchasing Performance Measurements on the Leading Edge,’’ NAPM InfoEdge, vol. 2, no. 5, January 1997.
Harding, M. and M. L. Harding, Purchasing, Barron’s Press, 1991.