Chap - 12 Business Planning and Functional Strategy

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The Institute of Chartered Accountants in England and Wales, March 2009 523

ContentsContents

chapter 12

Business planning andfunctional strategies

Introduction

Examination context

Topic List

1 Business planning

2 Budgets and budgetary control

3 Marketing planning

4 Human resources planning5 Research and development planning

6 Operations planning and management

7 Purchasing

8 The role of the finance department

Summary and Self-test

Answers to Self-test

Answers to Interactive questions


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524 The Institute of Chartered Accountants in England and Wales, March 2009

Introduction

Learning objectives Tick off

Describe, in a given scenario, the relationship between a business's overall strategy and itsfunctional strategies

Draft a simple business plan, or extracts there from, which will achieve given or impliedobjectives

Critically assess an entity's business plan

Specific syllabus references for this chapter are: 3a, b, c.

Practical significance

Functional strategies are essential for carrying out the broader business strategy. So far, detailed discussion

has been given to marketing only. Later chapters will consider the key functions of IT/IS and change. Thischapter considers marketing planning, human resources management, operations, procurement and the role

of the finance function.

Stop and think

The glamour of strategy seems to be reserved for the most senior management and, to a large extent, the

marketing function.

Popular stereotypes present accountants as gloomy bean-counters.

What role do accountants in industry play in the carrying out of business strategies?

What role do other functions like HR, Procurement and Operations play?

Working context

To pass judgement on the quality of a firm, a client perhaps, it is essential that you believe that its business

processes are carried out correctly.

You will come in contact with professionals from other functional disciplines and you need to have an

understanding of what they do.

Syllabus links

This chapter builds on several of the topics covered earlier, notably marketing, corporate social

responsibility and sustainability.

The development of operational plans to implement business plans received brief coverage in your

Finance and Management exam.


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Examination context

Exam requirements

There are two key elements in this chapter. Firstly, in the exam you might be expected to draft elements of

a business plan for a client or to identify weaknesses and omissions in a given business plan and suggest

improvements. Secondly, the chapter looks at functional strategies. These would normally be examined in

the context of the overall objectives and strategy of an organisation. So for example you might be expected

to look at how the organisation could develop an HR strategy to better support its generic strategy of

differentiation.


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1 Business planning

Section overview

Business planning converts longer-term business strategies into actions to be taken now.

Plans are also used to apply for funding.

1.1 Planning

Chapter 1 covered strategic planning as a way of determining the long-term success of the business.

This chapter looks at planning as an activity concerned with implementation of strategy.

The long-term corporate plan serves as the long-term framework for the organisation as a whole, but for

operational purposes it is necessary to convert the corporate plan into a series of short-term plans

relating to sections, functions or departments, perhaps covering one year.

Business planning may assist with:

Co-ordinating the activities of different functions behind the achievement of the strategic goals for the

year

Putting the case for finance to funding sources (e.g. small businesses may approach a bank with a

business plan or a charitable organisation will approach potential donor organisations)

Gaining the approval of the Board (e.g. a national car dealership requires the manager of each

showroom to submit an annual business plan for its approval)

Winning contracts where the potential client wishes to be convinced that the firm will fully support

the product or service being offered

The development of the annual budget.

Worked example: Planning at an airline

A major global airline operates two levels of planning.

Strategic planning: This considers the development of the business over the coming 10 to 15 years, a

long period coinciding with the lifespan of its major capital investments. Here management will consider the

development of emerging markets, the airline's market position, issues such as carbon and noise pollution

and consolidation in the airline industry.

Business planningmay concern the coming 12 months and is driven by route planning, i.e. which planes

will fly which routes and where route schedules will be increased or cut-back. From this route-planning will

come estimates of staffing needs, the number of aircraft required, fuel and maintenance requirements and

the number of passengers, and the promotional activity to be undertaken. These will then form the basis ofthe annual budget of costs and revenues.

The annual business plan is in effect an annual instalment of the airline's strategic plan. Of course, given the

inherent uncertainties of the industry, the strategic plan is very flexible.

1.2 Creating the business plan

The process of creating a business plan from a bigger picture strategy leads to questions being asked, and

issues raised, which require detailed resolution.


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Frequently business plans are created using a pro-forma supplied by the approving body, say a bank or

government development agency.

Worked example: Small business plan template

The Small Business Administration website provides the following template and advice to users:

'There may only be one sure-thing in starting your own business, and that is that you will not get a loanwithout a complete business plan. No plan no loan no business'.

Here, from the Small Business Administration, is a suggested outline for a business plan.

Elements of a business plan

1 Cover sheet

2 Statement of purpose

3 Table of contents

(i) The business

(a) Description of business

(b) Marketing

(c) Competition(d) Operating procedures

(e) Personnel

(f) Business insurance

(g) Financial data

(ii) Financial data

(a) Loan applications

(b) Capital equipment and supply list

(c) Balance sheet

(d) Breakeven analysis

(e) Pro-forma income projections (forecast income statements)

Three-year summary

Detail by month, first year

Detail by quarters, second and third years

Assumptions upon which projections were based

(f) Pro-forma cash flow

Follow guidelines for letter (e)

(iii) Supporting documents

Tax returns of the business and owners for last three years

Personal financial statement (all banks have these forms)

In the case of a franchised business, a copy of franchise contract and all supporting

documents provided by the franchisor

Copy of proposed lease or purchase agreement for building space

Copy of licences and other legal documents

Copy of resumes of all owners and senior managers

Copies of letters of intent from suppliers, etc

Small businesses frequently request the help of their accounting advisers in the preparation of these

business plans.


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Interactive question 1: Business plan [Difficulty level: Intermediate]

Five years ago Elliott Davis established a firm to provide accounting services to small businesses. It has

grown rapidly and today has over 100 clients, mainly coming to Elliott by personal recommendations. Many

of them employ ten or fewer people, and as small businesses were receiving less than satisfactory service

from their current accountants or spending time trying to do their own accounts and getting into

difficulties. Elliott has deliberately kept the costs of his business down. He is responsible for dealing with allthe clients, he employs three accountants part-time to do work for clients and his wife runs the office.

Elliott has recently met Saima Ahmed who runs her own similar sized accounting firm. A business

partnership has been proposed, Davis & Ahmed Associates. They need funding to launch the business.

They have been asked by their bank to provide it with a business plan setting out how the partnership

intends to grow and develop.

Requirement

Write a short report for Davis & Ahmed Associates giving the key features that you consider to be

important and that you would expect to see in the business plan for the business

2 Budgets and budgetary control

Section overview

The existence of an annual budgeting process compels planning and enable the establishment of a

system of control by comparing budgeted and actual results.

To do this properly it needs to link with the overall business strategy.

Budgets also act as forecasts against which resourcing decisions are made.

2.1 Short-term planning and budget preparation

A budget is a plan expressed in financial terms. Short term plans attempt to provide short-term

targets within the framework of longer-term strategic plans. This is generally done in the form of a budget.

The diagram shows that the five-year strategic plan is to grow annual profits. This gives annual profit

milestones and these are taken as the starting point for each annual budget.


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2.2 Roles of budgeting

Budgeting is a multi-purpose activity. Here are some of the reasons why budgets are used.

Function Detail

Ensure the

achievement of the

organisation's

objectives

Quantified expressions of objectives are drawn up as targets to be achieved

within the timescale of the budget plan.

Compel planning Budgeting forces management to look ahead, to set out detailed plans for

achieving the targets for each department, operation and (ideally) each

manager and to anticipate problems.

Communicate ideas

and plans

A formal system is necessary to ensure that each person affected by the

plans is aware of what he or she is supposed to be doing. Communication

might be one-way, with managers giving orders to subordinates, or there

might be a two-way dialogue.

Coordinate activities The activities of different departments need to be co-ordinated to ensure

maximum integration of effort towards common goals. This implies, for example,that the purchasing department should base its budget on production

requirements and that the production budget should in turn be based on sales

expectations. Co-ordination is remarkably difficult to achieve, however. We look

at this issue in more detail below.

Resource allocation The budgeting process involves identifying the resources required and those

available for the forthcoming period. Budget holders may be asked to justify

their resource requirements in the light of the expected level of activity for

their budget centre. Managers will discuss the allocation of available

resources in order to use them in the optimal way.

Authorisation A formalised budget may act as an authorisation to budget managers to incur

expenditure. As long as the expenditure item is included within the budgetthere may be no need to seek further approval before incurring the

expenditure.

Provide a framework

for responsibility

accounting

Budgets require that managers of budget centres are made responsible for

the achievement of budget targets for the operations under their personal

control.

Establish a system of

control

Control over actual performance is provided by the comparisons of actual

results against the budget plan. Departures from budget can then be

investigated and the reasons for the departures can be divided into

controllable and uncontrollable factors.

Provide a means of

performanceevaluation

Budgets provide targets which can be compared with actual outcomes in

order to assess employee performance.

Motivate employees

to improve their

performance

The interest and commitment of employees can be retained if there is a

system which lets them know how well or badly they are performing. The

identification of controllable reasons for departures from budget with

managers responsible provides an incentive for improving future

performance.

2.3 Key performance indicators

In Chapter 11 described the importance of linking Key Performance Indicators (KPIs) to the Critical Success

Factors (CSFs) of the business and industry.


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Budgetary control focuses on efficiency resource use and costs of production and service provision. It

should be recognised that costs are not the only CSFs in and therefore budgetary control systems are

usually supplemented by other performance management systems, leading to a balanced scorecard of

performance measures.

3 Marketing planning

Section overview

Marketing planning is one way by which corporate strategy is implemented.

This requires a detailed plan of implementation and also of control.

3.1 The marketing plan

The main concepts and tools of marketing received detailed coverage in Chapter 7.

The implementation and control of the marketing effort might take the form of a marketing plan:

Section Content

The executive

summary

This is the finalised planning document with a summary of the main goals and

recommendations in the plan.

Situation analysis This consists of the SWOT (strengths, weaknesses, opportunities and

threats) analysis and forecasts.

Objectives and goals What the organisation is hoping to achieve, or needs to achieve, perhaps in

terms of market share or 'bottom line' profits and returns.

Marketing strategy This considers the selection of target markets, the marketing mix and

marketing expenditure levels.

Strategic marketing

plan

Three to five (or more) years long

Defines scope of product and market activities

Aims to match the activities of the firm to its distinctive competences

Tactical marketing

plan

One-year time horizon

Generally based on existing products and markets

Concerned with marketing mix issues

Action plan This sets out how the strategies are to be achieved.

Marketing mix strategy

Product People

Price Processes

Place (distribution) Physical evidence

Promotion (advertising etc)

The mix strategy may vary for each segment.

Budgets These are developed from the action programme.

Controls These will be set up to monitor the progress of the plan and the budget.


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3.2 Corporate strategy and marketing strategies

So, what is the relationship between marketing and overall strategic management? The two are closely

linked since there can be no corporate plan which does not involve products/services and customers.

Corporate strategic plans aim to guide the overall development of an organisation. Marketing planning is

subordinate to corporate planning but makes a significant contribution to it and is concerned with many of

the same issues.

Thestrategiccomponent of marketing planning focuses on the direction which an organisation will

take in relation to a specific market, or set of markets, in order to achieve a specified set of objectives.

Marketing planning also requires anoperationalcomponent that defines tasks and activities to be

undertaken in order to achieve the desired strategy. The marketing plan is concerned uniquely with

productsand markets.

The process of corporate planning and the relationship with marketing strategy is shown in the following

table.

Corporate Marketing

Set objectives For the firm as a whole: e.g.

increase profits by X%.

For products and market: e.g. increase

market share by X%; increase revenue.

Internal appraisal

(strengths and

weaknesses)

Review the effectiveness of the

different aspects of the

organisation.

Conduct a marketing audit: a review of

marketing activities. Does the firm have a

marketing orientation?

External appraisal

(opportunities and

threats)

Review political, economic,

social, technological, ecological

factors impacting on the whole

firm.

Review environmental factors as they

affect customers, products and markets.

Gaps There may be a gap between

desired objectives and forecast

objectives. How to close thegap.

The company may be doing less well in

particular markets than it ought to.

Marketing will be focused on growth.

Strategy Develop strategies to fill the

gap: e.g. diversifying, entering

new markets.

A marketing strategy is a plan to achieve the

organisation's objectives by specifying:

Resources to be allocated to marketing

How those resources should be used

In the context of applying the marketing

concept, a marketing strategy would:

Identify target markets and customer

needs in those markets

Plan products which will satisfy theneeds of those markets

Organise marketing resources, so as

to match products with customers

Implementation Implementation is delegated to

departments of the business.

The plans must be put into action, e.g.

advertising space must be bought.

Control Results are reviewed and the

planning process starts again.

Has the firm achieved its market share

objectives?


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The following diagram summarises the relationship of marketing planning to the corporate plan.

Marketing and corporate planning

3.3 Controlling marketing activities

Once marketing strategies are implemented, there needs to becontrol and performance measuresin

place to support the purpose of the plan. Marketing strategies are developed to satisfy corporate

objectives and may reflect the results of the marketing audit.

Themarketing control processcan be broken down into four stages.

Development of objectives and strategies

Establishment of standards

Evaluation of performance

Corrective action

Part of the corrective action stage may well be to adjust objectives and strategies in the light of experience.


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The marketing control process

Typical quantitative performance levels might be as follows.

Market share, perhaps by comparison with a major competitor.

Operational targets may also be relevant to marketing performance, for example having the rightproducts available.

Other measures can include measures of customer satisfaction, if these are regularly monitored.

Performance is evaluated by comparing actual with target. Control action can be taken.

3.4 The marketing audit

A marketing audit is a wide ranging review of all activities associated with marketingundertaken by

an organisation.

In order to exercise proper strategic control a marketing audit should satisfy four requirements:

It should take a comprehensive look at every product, market, distribution channel and ingredient inthe marketing mix.

It should not be restricted to areas of apparent ineffectiveness such as an unprofitable product, a

troublesome distribution channel, or low efficiency on direct selling.

It should be carried out according to a set of predetermined, specified procedures.

It should be conducted regularly.


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Interactive question 2: Marketing plan [Difficulty level: Intermediate]

(a) What is a SWOT analysis and how does it lead to an understanding of realistic market opportunities?

(b) Explain the importance of marketing planning for a new consumer product to be launched in your

country.

(c) Using examples, identify the main steps involved in the marketing planning process.

4 Human resources planning

Section overview

Human resource management(HRM) is the process of evaluating an organisation's human

resource needs, finding people to fill those needs, and getting the best work from each employee by

providing the right incentives and job environment with the overall aim of helping achieveorganisational goals.

This requires planning resource needs for the future and succession planning for existing staff.

Staff appraisals are a vital part of this process.

4.1 Scope of human resource management (HRM)

Definition

Human resource management (HRM):'A strategic and coherent approach to the management of an

organisation's most valued assets: the people working there who individually and collectively contribute tothe achievement of its objectives for sustainable competitive advantage'. (Armstrong)

4.1.1 Goals of strategic HRM

Serve theinterests of management, as opposed to employees.

Suggest astrategic approach to personnel issues.

Linkbusiness mission to HR strategies.

Enablehuman resource development to add valueto products and services.

Gainemployees'commitmentto the organisation's values and goals.

The HR strategy has to be related to the business strategy.


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Worked example: HR issues in the airline industry

Most airlines are trying to become global companies to avoid dependence on one country.

Business strategy HR implications Airline example

What business are we in? What people do we need? Air transportation requires pilots,

cabin crew, ground crew etc.

What products/markets,

level of output and

competitive strategy, now

and in future

Where do we need people, what

are they expected to do, and how

many? Location and size of

workforce? Productivity expected

and output?

The airline is going global and

therefore it needs cabin crew who

are skilled in languages and are

sensitive to cultural differences.

What is the culture and

value system? Is it the

right one?

The need to change culture and

values.

A cultural change programme;

recruiting people to fit in with the

right value system; attitudinal

assessments.

Tomorrow's strategies,

demands and technologies

Tomorrow's personnel needs must

be addressednow, because of lead

times. New technology requires

training innew skills.

Recruitment, training, cultural

education.

Critical success factors How far do these depend on staff? Service levels in an aircraft depend

very much on the staff, so HRM is

crucial.

4.2 Human resources planning

HR must keep abalancebetween the forecast supplyof human resources in the organisation and the

organisation'sforecast demand for human resources.

Forecast internal supply Forecast demand

HR Planning

Numbers of people

Skills/competences

Experience

Age/career stage

Aspirations

Forecast natural wastage

New skills required

New attitudes needed

Growth/contraction in

jobs/roles

New technologies

Assessed from:

Human resource audits

Staff appraisals

Historical records of

staff turnover

Forecasts of economic

outlook (lose staff in

boom)

Derived from:

Business strategy

Technological

developments

Competitor behaviour

Outlook for the industry


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4.3 Closing the gap between demand and supply: the HR plan

The HR plan is prepared on the basis of personnel requirements, and the implications for productivity and

costs. The HR plan breaks down into subsidiary plans.

Plan Comment

Recruitment plan Numbers; types of people; when required; recruitment programme

Training plan Numbers of trainees required and/or existing staff needing training; training

programme

Redevelopment

plan

Programmes for transferring, retraining employees

Productivity plan Programmes for improving productivity, or reducing manpower costs; setting

productivity targets

Redundancy plan Where and when redundancies are to occur; policies for selection and

declaration of redundancies; re-development, re-training or re-location of

redundant employees; policy on redundancy payments, union consultation

Retention plan Actions to reduce avoidable labour wastage

The plan should include budgets, targets and standards. It should allocate responsibilities for implementation

and control (reporting, monitoring achievement against plan).

4.4 Succession planning

Succession planning should be an integral part of the HR plan and should support the organisation's chosen

strategy. The developed plan should also be compatible with any changes that that are foreseen in the way

the organisation operates. It is likely that strategic objectives will only be obtained if management

development proceeds in step with the evolution of the organisation.

4.4.1 Benefits of succession planning The development of managers at all levels is likely to be improved if it takes place within the context

of a succession plan. Such a plan gives focus to management development by suggesting objectives that

are directly relevant to the organisation's needs.

Continuity of leadership is more likely, with fewer dislocating changes of approach and policy.

Assessment of managerial talent is improved by the establishment of relevant criteria.

4.4.2 Features of successful succession planning

The plan should focus on future requirements, particularly in terms of strategy and culture.

The plan should be driven by top management. Line management also have important contributions to

make. It is important that it is not seen as a HR responsibility.

Management development is as important as assessment and selection.

Assessment should be objective and preferably involve more than one assessor for each manager

assessed.

Succession planning will work best if it aims to identify and develop a leadershipcadrerather than

merely to establish a queue for top positions. A pool of talent and ability is a flexible asset for the

organisation.


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4.5 The human resource (HR) cycle

A relatively simple model that provides a framework for explaining the nature and significance of HRM is

Devanna's human resource cycle.

Selection is important to ensure the organisation obtains people with the qualities and skills required.

Appraisalenables targets to be set that contribute to the achievement of the overall strategic objectives of the

organisation. It also identifies skills and performance gaps, and provides information relevant to reward levels.

Training and developmentensure skills remain up-to-date, relevant, and comparable with (or better

than) the best in the industry.

Thereward systemshould motivate and ensure valued staff are retained.

Performancedepends upon each of the four components and how they are co-ordinated.

4.5.1 The role of staff appraisals

The setting up of a systematic approach to staff appraisal (otherwise called a performance review) is

essential to good human resources management. It has the following benefits.

A forum for agreeing objectives for the coming year that ensure the individual pursues goals that are

congruent with the business strategy

An opportunity to outline or respond to difficulties affecting the individual's performance

Provision of feedback will motivate and develop the individual

Identifies personal development needs of the individual e.g. for future roles

Identifies candidates for succession and development

Interactive question 3: ScannerTech [Difficulty level: Intermediate]

ScannerTech is a fast growing hi-tech company with expertise in electronic scanners. It has 100 employees

and aims to double in size over the next three years. The company was set up by two researchers from a

major university who now act as joint managing directors. They are intend leaving ScannerTech once the

growth objective is achieved and it is large enough to be sold.

ScannerTech makes sophisticated imaging devices used by the airline security and health industries. These

two markets are very different in terms of customer requirements but use the same basic technology.

Because of growing sales from exports the current strategic plan anticipates a foreign manufacturing plant

being set up within the next three years. Present managers are staff who joined in the early years of the

company and have their expertise in research and development. Further growth will require additional staff

in all parts of the business, particularly in manufacturing and sales and marketing.

Olivia Marcuse is HR manager at ScannerTech. She is annoyed that HR is the one management function not

involved in the strategic planning process shaping the future growth and direction of the company. She feels

trapped in a role traditionally given to HR specialists, that of simply reacting to the staffing needs brought

about by strategic decisions taken by other parts of the business. She feels it is time to make the case for a

strategic role for HR at ScannerTech to help it face its challenges.


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Requirement

Prepare a short report for Olivia Marcuse to present to Scannertech's board of directors on the way a

Human Resource plan could link effectively its growth strategy.

5 Research and development planning

Section overview

Applied research is essential for product and process improvement.

The need to ensure that R&D has a commercial application forms a link between R&D and other

disciplines such as Marketing, Operations and Finance.

5.1 Types of R&D

Research may be pure, appliedor development. It may be intended to improve productsor

processes. R&D should support the organisation's strategy, be properly planned and be closely co-

ordinated with marketing.

Definitions

Pure researchis original research to obtain new scientific or technical knowledge or understanding.

There is no obvious commercial or practical end in view.

Applied research:Research with an obvious commercial or practical end in view.

Developmentis the use of existing scientific and technical knowledge to produce new (or substantially

improved) products or systems, prior to starting commercial production operations.

Many organisations employspecialist staffto conduct research and development (R&D). They may be

organised in a separate functional department of their own. In an organisation run on a product division

basis, R&D staff may be employed by each division.

5.2 Product and process research

There are two categories of R&D.

Product research new product development

The new product development process must be carefully controlled; new products are a major source of

competitive advantage but can cost a great deal of money to bring to market. A screening process is

necessary to ensure that resources are concentrated on projects with a high probability of success.

Process research

Process research involves attention to how the goods/services are produced. Process research has these

aspects.

Processesare crucial in service industries (e.g. fast food), as part of the services sold.

Productivity: Efficient processes save money and time.

Planning: If you know how long certain stages in a project are likely to take, you can plan the most

efficient sequence.

Quality management for enhanced quality.


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R&D should be closely co-ordinated with marketing

Customer needs, as identified by marketers, should be a vital input to new product developments.

The R&D department might identify possible changes to product specifications so that a variety of

marketing mixes can be tried out and screened.

Worked example: R&D at NestlAn example of the relationship of R&D to marketing was described in an article in The Financial Times about

the firm Nestl, which invested CU46m a year in research and approximately CU190m on development.

Nestl had a central R&D function, but also regional development centres. The central R&D function was

involved in basic research. 'Much of the lab's work was only tenuously connected with the company's

business... When scientists joined the lab, they were told Just work in this or that area. If you work hard

enough, we're sure you'll find something '. The results of this approach were:

(a) The research laboratory was largely cut off from development centres.

(b) Much research never found commercial application.

As part of Nestl's wider reorganisation, which restructured the business into strategic business units

(SBUs), formal links were established between R&D and the SBUs. This meant that research procedures

have been changed so that a commercial time horizon is established for projects.

5.2.1 Strategic role of R&D

Despite the evident costs and uncertainties of R&D expenditure its strategic importance can be understood

by reference to some of the strategic models discussed earlier:

Porter's generic strategies:Product innovation could be a source ofdifferentiation. Process

innovation may enable differentiation or cost leadership.

Porter's value chain:R&D is included within the support activities oftechnology development. It

can be harnessed in the service of lower costs or improved differentiation.

Ansoff matrix:R&D supports all four strategic quadrants. Strategies of Market Penetration and

Market Development can be served by product refinement. Product Development and Diversification

will require more significant innovations to product.

Industry and product lifecycles:The obsolescence of existing products can be accelerated by

product R&D and so R&D is required to provide the firm with replacements.

6 Operations planning and management

Section overview

Operations management is concerned with the transformation of 'inputs' into 'outputs' that meet the

needs of the customer.

It is characterised by the four Vs of volume, variety, variation in demand, and visibility.

Capacity planning and some of the modern IT/IS applications supporting them are reviewed.

Quality assurance and TQM are essential components of many modern manufacturing approaches.


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Type Implication

Variation in

demand

For some operations, demand might vary

with the time of the year (for example,

operations in the tourist industry) or

even the time of day (e.g.

telecommunications traffic and commuter

travel services). Variations in demandmight be predictable, or unexpected. For

other operations, demand might be fairly

stable and not subject to variations.

When the variation in demand is high, an

operation has a problem with capacity

utilisation. It will try to anticipate

variations in demand and alter its capacity

accordingly. For example, the tourist

industry takes on part-time staff duringpeak demand periods. Unit costs are

likely to be high because facilities and staff

are under-utilised in the off-peak periods.

When demand is stable, it should be

possible for an operation to achieve a

high level of capacity utilisation, and costs

will accordingly be lower.

Visibility Visibility refers to the extent to which an

operation is exposed to its customers,

and can be seen by them. Many services

are highly visible to customers. High

visibility calls for staff with good

communication and inter-personal skills.

They tend to need more staff than low-

visibility operations and so are more

expensive to run. Some operations are

partly visible to the customer and partly

invisible, and organisations might make

this distinction in terms of front office

and back office operations.

When visibility is high, customer

satisfaction with the operation will be

heavily influenced by their perceptions.

Customers will be dissatisfied if they have

to wait, and staff will need high customer

contact skills. Unit costs of a visible

operation are likely to be high. When

visibility is low, there can be a time lag

between production and consumption,

allowing the operation to utilise its

capacity more efficiently. Customer

contact skills are not important in low-

visibility operations, and unit costs should

be low.

Performance objectivesoften relate to quality, speed, dependability, flexibility and cost.

6.3 Formulating operations strategy

Six items that should be incorporated into an organisation's operations strategy:

In broad terms, operational planning will include many of the following concepts.

Settingoperational objectivesthat are consistent with the overall business strategy of the

organisation.

Translatingbusiness strategyor marketing strategyintooperations strategy, by means of

identifying key competitive factors (referred to perhaps as order-winning factors or critical success

factors).

Assessing the relative importance of differentcompetitive factors.

Item Comment

Capability required What is it that the organisation wants to 'do' or produce?

Range and location of operations How big does the organisation want to be or can it be?

How many sites and where should they be located?

Investment in technology How will processes and production be performed?

Strategic buyer-supplier relationships Who will be key strategic partners?

New products/services What are the expected product life-cycles?

Structure of operations How will staff be organised and managed?


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Assessing current operational performance bycomparisonwith the performance ofcompetitors.

Using the idea of a 'clean-slate' or 'green-field' approach to strategy selection. Managers are asked to

consider how they would ideally design operations if they couldstart again from scratch. The ideal

operations design is then compared with actual operations, and important differences identified.

Strategy decisions are then taken to move actual performance closer towards the ideal.

Formulating strategy could be based on other types ofgap analysis, such as comparing what the

market wants with what the operation is actually achieving, and taking decisions aimed at closing thesignificant gaps.

Emphasising the iterative process of strategy selection: Strategies should becontinually reviewed,

refined and re-developed through experience and in response to changes in the environment.

6.4 Capacity planning

Three general approaches to balancing capacity and demandare outlined in the following table.

Balancing capacity and demand

Resource-to-

orders

When demand is dependent, an operation will only purchase the required

materials and start to produce the products or services required when it needs

to. For example, a construction company might receive a major order to

construct a new road bridge. It will only start to plan the acquisition of the

necessary resources when the contract has been signed. However, planning and

control activities can then be carried out with a knowledge of what the

operational requirements will be. The planning and control needed for this type

of operation is called resource-to-order planning and control, because resource

acquisition does not start until the order is received.

Made to

order

With some operations, the organisation might be sufficiently confident that future

demand will arise to hold inventories of some or all of the resources required to

meet future orders. For example, it will keep its labour force and facilities inplace, but will not begin to produce the product or service until an actual order is

received. An example is an aircraft manufacturer. The manufacturer will not start

to build a new aircraft without a firm customer order, but it will keep in place its

skilled workforce and production facilities, in anticipation of future orders. It

might even keep some materials stocks. This type of planning and control is called

make-to-order planning and control, because production does not start until an

order is received.

Make to

stock or

make to

inventory

Many companies make products or provide a service in advance of receiving any

order or without knowing what the volume of demand will be. In manufacturing,

this is known as make-to-stock (or inventory) planning and control. Although

most easily associated with manufacturing, this system is also used in some

service operations, such as the supply of utility services such as gas and water.


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Worked example: Capacity control on an aircraft

Fast turnaround time is important for airlines because, by minimising time on the ground, an airline can

maximise the productivity of its planes in the air (i.e. maximise capacity).

To help airlines achieve the benefits of a fast turnaround time, the Airbus A320 family aircraft has the

following features.

Larger passenger doors

Wider aisles

Larger overhead storage compartments

Convenient access to underfloor baggage holds

Wider outward-opening cargo doors

There are four planning and control activities associated with balancing capacity and demand.

Loading: The amount of work that is allocated to an operating unit. The term is frequently applied to

the allocation of workloads to a machine or group of machines, although it has more general

application than just machines.

Sequencing: The order in which different jobs will be done or different orders fulfilled and may be

set by priority rules e.g. customer priority, due date, first in first out.

Scheduling: Preparing a detailed timetable for the work to be done, specifying the time that jobs

should be started and when they should end. When a job goes through several stages or processes, a

schedule will specify when each stage should begin and end.

Monitoring and controlling: Monitor the operation to make sure that the work is carried out as

planned. Any deviation from the plan should be identified as soon as a problem becomes apparent so

that corrective measures can be taken if possible, or so that the work can be re-scheduled.

Interactive question 4: Capacity management [Difficulty level: Intermediate]

Gourmet Cuisine runs high class restaurants in high wealth areas. Each establishment can cater for

approximately 150 guests at any one time, although over an evening it may well serve more guests if tables

are 'recycled' (able to be booked more than once). The evening lasts from 6pm to 12pm. Over weekends

some establishments might serve as many as 300 guests in an evening. Each establishment usually employs 8

waiters.

Comment on the following possible ways of allocating each waiter's workload.

Allocate certain areas to each waiter?

Allocate a spread of tables in different locations of the restaurant to each waiter?

Allocate tables in turn to a waiter as each table is occupied?

Various types of capacity plan may be used.

Level capacity planis a plan to maintain activity at a constant level over the planning period, and to

ignore fluctuations in forecast demand. In a manufacturing operation, when demand is lower than

capacity, the operation will produce goods for inventory. In a service operation, there will be idle

resources. In a service operation, such as a hospital, restaurant or supermarket management must

accept that resources will be under-utilised for some of the time, to ensure an adequate level of

service during peak demand times. Queues will also be a feature of this approach.


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Chase demand planaims to match capacity as closely as possible to the forecast fluctuations in

demand. To achieve this aim, resources must be flexible. For example, staff numbers might have to be

variable and staff might be required to work overtime or shifts. Variations in equipment levels might

also be necessary, perhaps by means of short-term rental arrangements.

Demand management planning: Reduce peak demand by switching it to the off-peak periods such

as by offering off-peak prices.

Mixed plans: Capacity planning involving a mixture of level capacity planning, chase demand planningand demand management planning.

6.5 Capacity control

Capacity control involves reacting to actual demand and influences on actual capacity as they arise.

Techniques used in manufacturing operations include:

Materials requirements planning (MRP I): The quantities of each type of materials required for

the product or service will be defined in its bill of materials. Estimates of firm and likely demand can

therefore be converted into a materials requirements schedule.

The materials requirements are calculated from:

Known future orders, i.e. firm orders already received from customers, plus

A forecast of other future orders that, with a reasonable degree of confidence, will be received.

Manufacturing resource planning (MRP II), evolved out of (MRP I): It is a plan for planning and

monitoring all the resources of a manufacturing company: manufacturing, marketing, finance and

engineering.

MRP II is a computerised system that incorporates a single database for different functions within the

organisation. Hence the engineering department, manufacturing function and finance function will all be

using the same version of the bill of materials. All functions work from a common set of data.

Enterprise resource planning (ERP)software attempts to integrate all departments and functions

of an organisation in a computer system able to meet the needs of users from across the whole

organisation. An ERP system includes a number of integrated modules designed to support all of thekey activities of an enterprise. This includes managing the key elements of the supply chain such as

product planning, purchasing, stock control and customer service including order tracking. ERP is now

being rapidly extended to the growing number of e-business applications being developed over the

Internet, connecting customer, supply chain and other activities. ERP may also include HR modules

enabling control of staff scheduling and staff payments. One of the most popular ERP systems has been

the R/3 system supplied by SAP.

6.6 Just-in-time systems

Definition

Just-in-time:An approach to planning and control based on the idea that goods or services should be

produced only when they are ordered or needed. Also called lean manufacturing.


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Three key elements in the JIT philosophy

Element Comment

Elimination of waste Waste is defined as any activity that does not add value. Examples of

waste identified by Toyota were:

Overproduction, i.e. producing more than was immediately needed

by the next stage in the process.

Waiting time: Waiting time can be measured by labour efficiency

and machine efficiency.

Transport: Moving items around a plant does not add value. Waste

can be reduced by changing the layout of the factory floor so as to

minimise the movement of materials.

Waste in the process: There could be waste in the process itself.

Some activities might be carried out only because there are design

defects in the product, or because of poor maintenance work.

Inventory: Inventory is wasteful. The target should be to eliminate

all inventory by tackling the things that cause it to build up. Simplification of work: An employee does not necessarily add value

by working. Simplifying work is an important way of getting rid of

waste in the system (the waste of motion) because it eliminates

unnecessary actions.

Defective goods are quality waste. This is a significant cause of

waste in many operations.

The involvement of all

staff in the operation

JIT is a cultural issue, and its philosophy has to be embraced by

everyone involved in the operation if it is to be applied successfully.

Critics of JIT argue that management efforts to involve all staff can be

patronising.

Continuous

improvement

The ideal target is to meet demand immediately with perfect quality and

no waste. In practice, this ideal is never achieved. However, the JIT

philosophy is that an organisation should work towards the ideal, and

continuous improvement is both possible and necessary. The Japanese

term for continuous improvement is Kaizen.

JIT is acollection of management techniques. Some of these techniques relate to basic working

practices.

Work standards: Work standards should be established and followed by everyone at all times.

Flexibility in responsibilities: The organisation should provide for the possibility of expanding the

responsibilities of any individual to the extent of his or her capabilities, regardless of the individual's

position in the organisation. Grading structures and restrictive working practices should be abolished.

Equality of all people working in the organisation: Equality should exist and be visible. For

example, there should be a single staff canteen for everyone, without a special executive dining area;

and all staff including managers might be required to wear the same uniform. An example of this is car

manufacturer Honda.

Autonomy: Authority should be delegated to the individuals responsible directly in the activities of

the operation. Management should support people on the shop floor, not direct them.

Development of personnel: Individual workers should be developed and trained.

Quality of working life: The quality of working life should be improved, through better work area

facilities, job security and involvement of everyone in job-related decision-making.


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Creativity: Employees should be encouraged to be creative in devising improvements to the way

their work is done.

Use several small, simple machines, rather than a single large and more complex machine. Small

machines can be moved around more easily, and so offer greater flexibility in shop floor layout. The

risk of making a bad and costly investment decision is reduced, because relatively simple small

machines usually cost much less than sophisticated large machines.

Work floor layout and work flow: Work can be laid out to promote the smooth flow ofoperations. Work flow is an important element in JIT, because the work needs to flow without

interruption in order to avoid a build-up of inventory or unnecessary down-times.

Total productive maintenance (TPM): Total productive maintenance seeks to eliminate

unplanned breakdowns and the damage they cause to production and work flow. Staff operating on

the production line are brought into the search for improvements in maintenance.

JIT purchasing: With JIT purchasing, an organisation establishes a close relationship with trusted

suppliers, and develops an arrangement with the supplier for being able to purchase materials only

when they are needed for production. The supplier is required to have a flexible production system

capable of responding immediately to purchase orders from the organisation.

Interactive question 5: Lean manufacturing at Toyota[Difficulty level: Intermediate]

Japanese car manufacturer Toyota was the first company to develop JIT (JIT was originally called the Toyota

Production System). After the end of the world war in 1945, Toyota recognised that it had much to do to

catch up with the US automobile manufacturing industry. The company was making losses. In Japan,

however, consumer demand for cars was weak, and consumers were very resistant to price increases. Japan

also had a bad record for industrial disputes. Toyota itself suffered from major strike action in 1950.

The individual credited with devising JIT in Toyota from the 1940s was Taiichi Ohno, and JIT techniques

were developed gradually over time. The kanbansystem for example, was devised by Toyota in the early

1950s, but was only finally fully implemented throughout the Japanese manufacturing operation in 1962.

Ohno identified wastes and worked to eliminate them from operations in Toyota. Measures that weretaken by the company included the following.

(a) The aim of reducing costs was of paramount importance in the late 1940s.

(b) The company should aim to level the flow of production and eliminate unevenness in the work flow.

(c) The factory layout was changed. Previously all machines, such as presses, were located in the same

area of the factory. Under the new system, different types of machines were clustered together in

production cells.

(d) Machine operators were re-trained.

(e) Employee involvement in the changes was seen as being particularly important. Team work was

promoted.

(f) Thekanbansystem [production on demand] was eventually introduced, but a major problem with its

introduction was the elimination of defects in production.

Requirement

Can you explain how each of the changes described above came to be regarded as essential by Toyota's

management?

The JIT philosophy can be applied to service operations as well as to manufacturing operations. Whereas

JIT in manufacturing seeks to eliminate inventories, JIT in service operations seeks to remove queues of

customers.


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Type of cost Definition Examples

Appraisal

cost or

inspection

cost

This is a cost incurred after

a product has been made or

service delivered, to ensure

that the output or service

performance meets the

required quality standard orservice performance.

The cost of inspecting finished goods or services, and

other checking devices such as supplier vetting.

Customer or client feedback forms (although these

may be a way of keeping service staff 'on their toes').

Internal

failure cost

This is a cost arising from

inadequate quality, where

the problem is identified

before the transfer of the

item or service from the

organisation to the

customer or client.

Cost of materials scrapped due to inefficiencies in the

procedures for goods received and stores control.

Cost of materials and components lost during

production or service delivery.

Cost of output rejected during the inspection process.

Cost of re-working faulty output.

Cost of reviewing product and service specifications

after failures or customer dissatisfaction.

Loses due to having to sell faulty output at lower

prices.

Not charging for a service so as to pacify dissatisfied

and angry customers or clients.

External

failure cost

This is a cost arising from

inadequate quality, where

the problem is identified

after the transfer of the

item or service from the

organisation to the

customer.

Cost of product liability claims from customers or

clients.

Cost of repairing products returned by customers,

including those forming part of service.

Cost of replacing sub-standard products including

those included with a service.Delivery costs of returned units or items.

Cost of the customer services section and its

operations.

Loss of customer goodwill and loss of future sales.

The demand for better quality has led to the acceptance of the view that quality management should aim to

preventdefective production rather than simply detect it.

Most modern approaches to quality have therefore tried to assure quality in the production process,

(quality assurance) rather than just inspecting goods or services after they have been produced.

Total Quality Management (TQM) is a popular technique of quality assurance. Main elementsare:

Internal customers and internal suppliers: All parts of the organisation are involved in quality

issues, and need to work together. Every person and every activity in the organisation affects the work

done by others.

TQM promotes the concept of the internal customerand internal supplier. The work done by an

internal supplier for an internal customer will eventually affect the quality of the product or service to

the external customer. In order to satisfy the expectations of the external customer, it is therefore

also necessary to satisfy the expectations of the internal customer at each stage of the overall

operation. Internal customers are therefore linked inquality chains. Internal customer A can satisfy

internal customer B who can satisfy internal customer C who in turn can satisfy the external

customer.


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Service level agreements: Some organisations formalise the internal supplier-internal customer

concept by requiring each internal supplier to make a service level agreementwith its internal

customer. A service level agreement is a statement of the standard of service and supply that will be

provided to the internal customer and will cover issues such as the range of services supplied,

response times, dependability and so on. Boundaries of responsibility and performance standards might

also be included in the agreement.

Quality culture within the firm:Every person within an organisation has an impact on quality, andit is the responsibility of everyone to get quality right. This means not just those individuals directly

involved with production and dealing with customers, but also everyone in support roles and

performing back office functions.

Empowerment:Recognition that employees themselves are often the best source of information

about how (or how not) to improve quality. Empowermentincludes two key aspects.

Allowing workers to have the freedom to decide how to do the necessary work, using the

skills they possess and acquiring new skills as necessary to be an effective team member.

Making workersresponsible for achieving production targets and for quality control.

The TQM quality cost model is based on the view:

Prevention costs and appraisalcosts are subject to management influence or control. It is betterto spend money on prevention, before failures occur, than on inspection to detect product or service

failures after they have happened.

Internal failurecosts and external failure costs are the consequences of the efforts spent on

prevention and appraisal. Extra effort on prevention will reduce internal failure costs and this in turn

will have a knock-on effect, reducing external failure costs as well.

In other words, higher spending on prevention will eventually lead to lower total quality costs, because

appraisal costs, internal failure costs and external failure costs will all be reduced. The emphasis should be

ongetting things right first time and designing qualityinto the product or service.

7 Purchasing

Section overview

Purchasing is a major influence on a firm's costs and quality.

Sourcing strategy is developing from the use of many suppliers to get a better price to the fostering of

strategic procurement relationships with just a few.

Definition

Purchasingis the acquisition of material resources and business services for use by the organisation.

7.1 The importance of purchasing

Cost: Raw materials and subcomponents purchases are a major cost for many firms.

Quality: The quality of input resources affects the quality of outputs and the efficiency of the production

function.

Strategy: In retailing, buying goods for resale is one of the most important activities of the business.


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7.2 Sourcing strategies

There are a range of possible strategies open to an organisation when deciding who they will purchase their

supplies from.

Supply sourcing strategies

Option Comment

Single Description

The buyer chooses one source of supply.

Advantages

Stronger relationship with the supplier.

Possible source of superior quality due to increased opportunity for a supplier

quality assurance programme.

Facilitates better communication.

Economies of scale.

Facilitates confidentiality.

Possible source of competitive advantage.

Disadvantages

Vulnerable to any disruption in supply.

Supplier power may increase if no alternative supplier.

The supplier is vulnerable to shifts in order levels.

Multiple Description

The buyer chooses several sources of supply.

Advantages

Access to a wide range of knowledge and expertise.

Competition among suppliers may drive the price down.

Supply failure by one supplier will cause minimal disruption.

Disadvantages

Not easy to develop an effective quality assurance programme.

Suppliers may display less commitment.

Neglecting economies of scale.

Delegated Description

A supplier is given responsibility for the delivery of a complete sub-assembly. For

example, rather than dealing with several suppliers a 'first tier' supplier would be

appointed to deliver a complete sub-assembly (e.g. a PC manufacturer may delegate

the production of keyboards).

Advantages

Allows the utilisation of specialist external expertise.

Frees-up internal staff for other tasks.

The purchasing entity may be able to negotiate economies of scale.

Disadvantages

First tier supplier is in a powerful position.

Competitors may utilise the same external organisation so unlikely to be a source

of competitive advantage.


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Interactive question 6: PicAPie Ltd [Difficulty level: Intermediate]

Gourmet PicAPie Ltd employs a total quality management program and manufactures 12 different types of

pie from chicken and leek to vegetarian. The directors of PicAPie are proud of their products, and always

attempt to maintain a high quality of input at a reasonable price.

Each pie has four main elements:

Aluminium foil case

Pastry shell made mainly from flour and water

Meat and/or vegetable filling

Thin plastic wrapping

The products are obtained as follows.

The aluminium is obtained from a single supplier of metal related products. There are few suppliers in

the industry resulting from fall in demand for aluminium related products following increased use of

plastics.

The flour for the pastry shell is sourced from flour millers in four different countries one source of

supply is not feasible because harvests occur at different times and PicAPie cannot store sufficient flour

from one harvest for a year's production.

Obtaining meat and vegetables is difficult due to the large number of suppliers located in many

different countries. Recently, PicAPie obtained significant cost savings by delegating sourcing of these

items to a specialist third party.

Plastic wrapping is obtained either directly from the manufacturer or via an Internet site specialising in

selling surplus wrapping from government and other sources.

Requirement

(a) Explain the main characteristics of a Total Quality Management (TQM) programme.

(b) Identify the sourcing strategies adopted by PicAPie and evaluate the effectiveness of those strategies

for maintaining a constant and high quality supply of inputs. Your answer should also include

recommendations for changes you consider necessary.

7.3 The purchasing manager

Where purchasing is of strategic importance, the most senior purchasing executive may be on the board of

directors or, at least, report to the managing director.

Responsibilities

Inputs for production: Acquiring raw materials, components, sub-assemblies, consumable stores and

capital equipment for the production function.

Inputs for administration: Purchasing supplies and equipment for all areas of the business (e.g.

microcomputers, motor cars, telephone systems, office furniture, paper and other stationery items).

Cost control: Ensuring that the organisation obtains value for money over the long term consistent

with quality.

Liaison with the R&D department to find suppliers for materials which are to the specifications

required by the designers.

Supplier management: Locating suppliers and dealing with them (e.g. discussing prices, discounts,

delivery lead times, specifications; chasing late deliveries; sanctioning payments).

Obtaining information on availability, quality, prices, distribution and suppliers for the evaluation of

purchasing alternatives.

Maintenance of inventory levels.


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7.4 The purchasing mix

The purchasing manager has to obtain the best purchasing mix.

7.4.1 Quantity

The size and timing of purchase orders will be dictated by the balance between two things:

Delays in production caused by insufficient inventories Costs of holding inventories: tied up capital, storage space, deterioration, insurance, risk of pilferage

A system of inventory control will set optimum reorder levels (the inventory level at which supplies must

be replenished so as to arrive in time to meet demand) to ensure economic order quantities (EOQ) are

obtained for individual inventory items.

7.4.2 Quality

The production department will need to be consulted about the quality of goods required for the

manufacturing process, and the marketing department about the quality of goods acceptable to customers.

Purchased components might be an important constituent of product quality.

7.4.3 PriceFavourable short-term trends in prices may influence the buying decision, but purchasing should have an eye

to the best value over a period of time considering quality, delivery, urgency of order, inventory-holding

requirements and so on.

7.4.4 Delivery

The lead time between placing and delivery of an order can be crucial to efficient inventory control and

production planning. The reliability of suppliers' delivery arrangements must also be assessed.

7.5 Strategic procurement

Strategic procurement is the development of a true partnership between a company and a supplier of

strategic value. The arrangement is usually long-term single-source in nature and addresses not only the

buying of parts, products, or services, but product design and supplier capacity.

This recognises that increasingly, organisations are recognising the need for and benefits of establishing

close linkswith companies in the supply chain. This has led to the 'integrated supply chain' model (the

second model in the following diagram).

There seems to be increasing recognition that, in the future, it will be whole supply chainswhich will

compete and not just individual firms.

Traditional and integrated supply chain models


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Traditional supply chain above shows each firm as a separate entity reliant on orders from the downstream

firm, commencing with the ultimate customer, to initiate activity. The disadvantages of this are:

It slows down fulfilment of customer order and so puts the chain at a competitive disadvantage

It introduces possibility of communication errors delaying fulfilment and/or leading to wrong

specification products being supplied

The higher costs of holding inventories on a just-in-case basis by all firms in chain

The higher transactions costs due to document and payment flows between the stages in the model

The integrated supply chain shows that the order from the ultimate customer is shared between all the

stages in the chain and that the firms overlap operations by having integrated activities as business partners.

Cousins conducted a twelve-month research project to investigate the level of strategic maturity in the

purchasing function of UK/European companies. In particular, the research aimed to establish the level of

collaboration between leading UK companies (i.e. suppliers) and their major customers.

The research examined the 'relationship type', using a simple classification of 'opportunistic' (low level ofco-operation with the supplier) versus 'collaborative' (high level of co-operation).

The results showed thatthe more collaborative the relationship the greater the degree of

strategic alignment required (between overall strategy and purchasing strategy).

7.6 Suppliers and e-procurement

7.6.1 From the buyer's perspective

Good business practice is to reduce all unnecessary costs wherever possible and, due to their spending

nature, purchasing departments have traditionally been identified as business functions that need to be

better managed.

As such, the advent of e-procurement is a welcome technology to companies which can facilitate cost

savings through conducting purchasing over the Internet. Today most companies still undertake purchase

orders and invoice settlements in a labour-intensive fashion, and any online activity is usually centred on

basic buying and selling, not the whole process, i.e. all of the back office activity is still done traditionally.

This is predominantly due to the fact that a fully-automated solution is technically complex, challenging and

requires a substantial commitment from an organisation to make such an implementation successful.

There are huge savings to be had, especially for large corporate organisations with vast levels of

procurement. Siemens believes that, since it embarked on its fully-integrated e-procurement system, this

purchasing strategy saved $15 million from material costs and $10 million from process costs in the one

year alone, close to a 1,000% increase in savings from the previous year and only the second year into

implementation.


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Apart from direct financial benefits there are many other benefits, some of which are:

Faster purchase cycle

Reductions in inventory

Control indirect goods and services

Reduces off-contract buying

Data rich management information

Online catalogues High accessibility

Improved service levels

Possibly the most strategically important of the above list is the management information. Activities that are

undertaken digitally produce real time data that can be used in statistical analysis. In the search for efficiency

this type of information will undoubtedly prove to be an invaluable tool for implementing cost reductions

and future trend predictions.

Already e-procurement software is adding this type of functionality, especially in the area of cost reduction,

where it was traditionally impossible to control corporate spending from a single directive. Centrally-

controlled e-procurement systems can now inflict varying degrees of control over expenditure as and when

necessary, e.g. if low profit margins are expected over a given period it is possible to switch off the ability to

buy new computers, i.e. making departments wait a little longer with their current computers in return for

reducing expenditure.

Furthermore, all purchases that are available to the organisation can be subject to immediate cost analysis

across the e-marketplace. Purchasing can be quite confident that the best price is sought as e-procurement

software is able to check prices automatically through the Internet and configure purchase orders to the

cheapest supplier. Financially a very attractive utility promising cost reductions whilst enforcing an 'efficient

market' on suppliers which must compete directly on price.

In practice, however, companies do need to be able to measure the value of their e-procurement

investment. Much of the hype regarding the uptake of such a system is fundamentally based on the promise

of cost savings; if ROI cannot be accurately measured then there is no indication that e-procurement is

actually delivering on what it was supposed to do, and no reason why a company should adopt the process

at all, especially if it is very unlikely ever to reduce costs.

7.6.2 From a supplier's perspective

Undoubtedly, e-procurement has much promise for business-to-business purchasing. Efficiency is set to rise

and, although implementing e-procurement is costly and requires highly skilled people to make it work, the

perception of increases in profit margins will be the driving force for this process.

However, maybe it is not quite the same reasoning for suppliers. Traditionally the business of supplying

goods has been about branding, marketing, business relationships, etc. In the expanding e-procurement

world the dynamics of supplying are changing and, unlike the expectations of companies implementing e-

procurement systems for cost savings, suppliers are expecting to feel profit erosions due to the e-

procurement mechanism.

Nevertheless, there are obvious advantages to suppliers: Faster order acquisition

Immediate payment systems

Lower operating costs

Non-ambiguous ordering

Data rich management information

'Lock-in' of buyers to the market

Automate manufacturing demands

None of the advantages comes close to increasing revenue which, at the end of the day, is what suppliers

are seeking from the equation. Common sense tells suppliers that they should have a system that is as

simple and cheap as possible but is able to generate good, strong and consistent profits. Clearly, e-

procurement is not going to take them in that direction; most suppliers will determine that it will take them


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Working hours are not excessive

No discrimination is allowed

Regular employment is provided

No harsh or inhumane treatment is allowed.

We expect all suppliers to comply with our policy and we reserve the right not to do business with

companies where it can be demonstrated that significant violations of the policy exist. Our approach with

in-contract suppliers is to work together in a spirit of continuous improvement, but we do expect suppliersto enter into and commit to complete corrective action plans. We began a programme of ethical audits in

2004 with some of our existing and potential suppliers in South East Asia and Eastern Europe. As a direct

result of these visits, one of the companies has since developed its own ethical procurement policy. We will

continue to develop our approach to auditing in line with anticipated industry standards and protocols. You

can read about ouraudit policieswithin this section.

Environmental procurement policy

Our suppliers are expected to comply with all relevant local and national environmental regulations and we

work with them to help minimise the effects of their activities.

Our policy supplements O2's internal efforts to help protect and sustain the environment. This is stated in

our Group-wide environmental strategy and it aims to drill our objectives for sustainable development

deeper into the supply chain.

We benchmark suppliers against the ISO 14001 standard [Environmental Management Standard] and will

adopt an industry standard self-assessment questionnaire to ascertain their compliance with our policies.'

Source: O2 website 2007

8 The role of the finance department

Section overview

In many companies, the finance function is one of the most important expert roles in the

organisation. Its role encompasses:

Raising money, ensuring it is available for those who need it

Recording and controlling what happens to money, e.g. payroll and credit control

Providing information to managers to help them make decisions

Reporting to stakeholders such as shareholders and tax authorities

8.1 The importance of finance and finance management

A distinction can be made between 'financial management' and 'treasury management'. Financial management

Investment decisions

Financing decisions (how to pay for investments)

Dividend decisions (how much to give to shareholders)

Operating decisions that affect profits (such as decisions on cost reductions or price increases)

Treasury management is the responsibility for the handling of cash, invoices and other financial

documents and for recording the affairs of the business in the books of account.
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8.2 Raising money: sources of finance

A company might raise new funds from the following sources, using the expertise in its treasury department

if it has one.

The capital markets, such as a full listing on the Dhaka Stock Exchange. Capital markets are markets

for trading long-term financial instruments such as equities and bonds. Companies will go to them for

three services.

New share issues, for example by companies acquiring a stock market listing for the first time

Rights issues (i.e. when existing companies issue shares to investors for money)

Issues of bonds

Money markets, on the other hand, are markets for trading short term financial instruments, bills of

exchange and certificates of deposits.

Cash generated from trading operating cash flows from profits earned in a year may be kept in the

company as opposed to being distributed to shareholders.

Bank borrowings (on a short or long term basis) interest payments cannot be reduced to reflect

changed circumstances.

Government sources (grants, tax reliefs)

Venture capital

The international money and capital markets (commercial paper, bonds and currency borrowing)

Management at this level involves

Decisions as to the right mix of share and loan capital

Decisions as to when that capital should be raised (e.g. to fund a major acquisition)

Keeping these important shareholders and lenders informed about the company and its prospects.

Much of the internal financial management of a company is conducted with the shareholders' return in mind.

For example, a company embarking on an investment project will assess its worth by the return or value

expected.

8.3 Financial accounting

Recording financial transactions: Financial accounting covers the classification and recording of

transactions in monetary terms in accordance with established concepts, principles, accounting standards

and legal requirements. It presents as accurate a view as possible of the effect of those transactions over a

period of time and at the end of the time. The Companies Actrequires directors of companies to maintain

adequate records to show transactions, assets and liabilities and from which accounts can be prepared to

show profit or loss for the accounting reference period and a balance sheet, detailing assets and liabilities

and capital at the end of that reference period.

Reporting to shareholders: In addition, the information must be reported to the shareholders in

accordance with the detailed disclosure requirements of theCompanies Act. All this information will be

subject to statutory audit. Other organisations, such as building societies and chari

Documents

Chap - 12 Business Planning and Functional Strategy