McGraw-Hill/Irwin Copyright © 2010 by The McGraw-Hill Companies, Inc. All rights reserved.

Chapter 18 Contract and Relationship Management 18-2

Key Concepts Need For Better Contract Management Pre-award Conference Monitoring And Controlling Project Progress »Gantt Charts »CPM And PERT »Closed Loop MRP Systems Monitoring And Controlling Total Supplier Performance »Supplier Performance Evaluation 18-3

Key Concepts Motivation »Punishment »Rewards Assistance »Training »Quality Audits And Procurement System Reviews »Problem Solving »Collaboration »Managing The Relationship 18-4

Need for Better Contract Management Several changes in business have increased the need for better contract management: »Collaboration is continuing to becoming more important »Large inventories are no longer available »Quality is expected »Deliveries are expected to be on time, not early or late »Schedules must be integrated and maintained »Processes must be balanced »Waste must be reduced or eliminated »Communication must be in real-time 18-5

Pre-Award Conference All terms and conditions Delivery or operations schedule Staffing and supervision Site conditions, work rules, safety Invoicing procedures and documentation Materials purchase procedures 18-6

Pre-Award Conference Background checks and security clearances Insurance certificates Permits Possible conflicts with other work Submission of time sheets Buyer responsibilities Collaboration milestones 18-7

Monitoring and Controlling Project Progress Operations Progress Reports Gantt Charts CPM And PERT Closed Loop MRP Systems 18-8

Production Schedule and Progress Chart (Gantt Chart) Description of WorkJanFebMarAprMayJun Engineering Drawing Bill of Materials Tooling, Etc. Raw Material Proc. Raw Material Rec’d. Long-lead Proc. Parts Production Planned Actual 18-9

Project Example: Capital Equipment Acquisition Process LabelDescriptionTime Predecessors Activity Activity Activity Immediate Preliminary Discussion Solicitation of Information Budgetary Estimates Funding Authorization Request Qualification of Potential Suppliers Request for Proposal Processing Proposal Analyses Economic Impact Analyses Exceptions to Specifications Side-by-side Demonstrations Notify Selected Supplier Plan Negotiations Conduct Negotiations Execute Contract Record Project Details Contract Inspection Purchase Contract Closeout 5 days 4 days 1 days 12 days 6 days 14 days 3 days 5 days 8 days 2 days 12 days 1 day 2 days 1 day None ,8,9,10 4, , ,

Project Example: View of a PERT Chart in Microsoft Project 18-11

Critical Path Scheduling Critical Path is the longest path through the network As a manager we need to know the critical path to identify which activities we should focus our efforts on controlling A delay in a critical path activity delays the expected project completion time Critical path analysis also lets us know which activities do not need to be managed as strictly 18-12

Monitoring and Controlling Total Supplier Performance Supplier Performance Evaluation »Categorical Plan »Weighted-Point Plan »Cost-ratio Plan 18-13

Categorical Plan Requires continual evaluation Qualitative ratings are generated »usually on a 3-point scale Individuals in departments conduct the evaluation: »Supply »Engineering »Quality »Accounting »Receiving –Receiving’s evaluation factors might be: tardiness, quantity, quality, completeness, packaging, etc

Categorical Plan 18-15

Weighted Point Plan Step 1: Development of factors (selection criteria) and weights »Weights represent supply management’s judgments concerning relative importance Step 2: Assignment of ratings »Supplier performance on each factor must be expressed in quantitative terms 18-16

Example: Weighted Point Plan Weight, Factor = Formula »50%, Quality performance = 100% - rejects% »25%, Service performance = 100% - 7% per failure »25%, Price performance = Lowest price offered divided by the price actually paid 18-17

Example: Weighted Point Plan Continued Factor WeightActual PerformancePerformance Evaluation Quality 50% 5% Rejects 50 x (1.00 – 0.05) = Service 25% 3 Failures 25 x [1.00 – (0.07 x 3)] = Price 25% $ x ($90 / $100) = Overall Evaluation: = Table

Another Example: Weighted Point Plan FactorweightABC Technology Delivery Price Stability Quality Rating total

Cost Ratio Plan Steps 1.Additional costs incurred when doing business with a given supplier are identified 2.Costs are separated by quality, service, and price elements of supplier performance 3.Each costs is then converted to a “cost ratio” 4.The ratio expresses the cost as a percent of the total dollar purchase from that supplier 5.The individual cost ratios are totaled, producing the supplier’s overall additional cost ratio 6.Supplier’s price is adjusted using its overall ratio 7.Adjusted prices are then used in supplier evaluation 18-20

Cost Ratio Plan Example Assume that for one supplier: »Quality cost ratio = 2% »Delivery cost ratio = 2% »Service cost ratio = -1% »Price = $72.25 The sum of all cost ratios is 3 percent Hence, the adjusted price for this supplier is: »[ (0.03  72.25)] = $74.42 This is the price used for evaluation purposes 18-21

Motivation Punishment »Litigation and punitive damages »Not awarding future business »Downgrading a supplier »Billing the supplier for failures Rewards »Follow on business »Recognition 18-22

Assistance Transformational Training Quality Audits and Supply System Reviews Problem Solving 18-23

Supplier Surveys How knowledgeable are our supply managers? How accurate are our engineering specifications? How clearly do we state our quality requirements? How timely are our payments? 18-24

Additional Approaches to Improving Supplier Relations Annual Supplier Meetings Supplier Roundtables Supplier Workshops 18-25

Collaboration Most successful supplier management results are generated in collaborations The ultimate in collaborative relationships is a virtual integration, wherein two independently owned entities integrate their energies for as long as the relationship benefits both parties One- or two-page memoranda of agreement replace lengthy contracts, change orders, and other legalistic and defensive procedures 18-26

Actions to Ensure Success of Supply Alliance Relations Establish an inter-firm cross-functional team Team members should receive training Develop an inter-firm communication system Develop plans to increase and measure trust Arrange for co-location of key personnel and for periodic visits to each other’s facilities Additional plans should be developed and implemented for training on critical issues 18-27

Actions to Ensure Success of Supply Alliance Relations Continued Establish measurable quantifiable objectives Monitor and report improvements Ethics should win over expediency Inter-firm team members need to embrace the philosophy of collaboration Inter-firm team members should become champions who ensure that their organizations understand and support the alliance’s goals 18-28

Closing Remarks Without question, management of supply contracts is a critical and challenging activity. Perhaps the most challenging aspect is the evolution from controlling to managing the relationship New attitudes and skills are required 18-29