Make-Versus-Buy

An important aspect of value analysis is to determine whether it would be more economical for your firm to manufacture a component part or to buy the part from a supplier.

Even if you have a supplier who gives you a good price on materi­als you purchase in fairly large quantities, it may be worthwhile to determine how much it would cost your firm to make such materi­als. Sometimes such an analysis provides valuable insights for negotiating price with a supplier. In this way, you have a better knowledge of what the breakdown of costs are to manufacture the component, and will be in a better position to realistically evaluate the price and discount schedule which the supplier offers. Obviously, if your firm can make the same part less expensively than it could buy it from a supplier, you should seriously con­sider manufacturing it yourself.

Many small businesses will make parts where they feel they have the know how and equipment and will buy where the technology is beyond their expertise, or where the part cannot be handled with existing equipment. However, since capabilities improve and technology changes from year to year, it is important to consider the make-versus-buy decision on a regular basis.

Companies in highly competitive industries often have to find ways to make as many of their own parts as possible to reduce costs. Firms in growth industries, on the other hand, usually can make better use of their capital to expand product lines, rather than investing it in equipment, materials and additional space for making components.

One very important thing to remember when making the decision whether to make or buy components, is to base the decision on all the facts. Often, the facts are incomplete and misleading at first glance. Quick decisions are therefore best avoided where possible. Here are two summary checklists which you might want to consider before you make a "Make-versus-Buy" decision.

SUMMARY/CHECKLIST: FACTS TO CONSIDER BEFORE DECIDING TO MANUFACTURE A COMPONENT

If, at first glance, a make - buy decision seems obvious, look again: Can better suppliers than current ones be found?

Can a lower price, without loss of quality, be obtained?

Consider all costs involved in production:

Labor

Material

Overhead - make sure the normal overhead is applicable and that the 'real' overhead is not exceptionally high or low; for instance, waste or space requirements should not be significantly higher than normal

General administrative costs

Will you depreciate the required capital as quickly as you would if you invested it elsewhere?

Consider that production efficiency may be low at first, since you will need time to iron out any bugs in the operation.

Consider whether the required quantities will be large enough to justify the set-up costs and manpower training needed to produce the component, but not so large so as to disrupt production schedules.

Determine whether the demand for the part is stable, seasonal or temporary.

Be sure your company can produce the desired quality with the con­templated production process.

Check for patent considerations which would require you to obtain a license in order to make the part.

Determine whether present knowledge and personnel are adequate for producing the part, or a special skill is involved.

Determine whether you can use present equipment, or whether new equipment must be leased or bought.

Determine whether special considerations will affect scheduling manpower and production.

SUMMARY CHECKLIST: FACTS TO CONSIDER

BEFORE CHOOSING TO BUY A COMPONENT

If, at first glance, it looks better to buy a component rather than make it, look again!

Consider all costs involved in buying the component:

Packaging costs

Freight and shipping expenses

Receiving costs

Any extra handling costs

Determine whether the supplier is reliable.

Determine whether the supplier can meet the quality standards for producing the component.

Check to see if the supplier guarantees the quality of the com­ponent.

Check the supplier's defect rate for producing this component, and how much would it cost you to make repairs on returned items due to the defective component.

Determine whether you will normally receive deliveries on time.

Determine the probability that the supplier might be unable or unwilling to supply you due to a strike, fire, or the needs of more important customers.

Selecting Suppliers

Every business must periodically review and evaluate its present suppliers and compare them with alternate suppliers. In some cases where you have a very limited selection of suppliers, this may be an easy task. However, if you can buy nationwide, or worldwide, you can never be certain that you have the very best supplier.

Furthermore, for every important component which you buy, more than one supplier should be available so you are protected in case of emergency.

What Makes a Desirable Supplier

When evaluating a supplier, several characteristics should be considered:

Reliability of the material - Is quality consistent from one unit to the next? This may concern the physical characteristics of the product, as well as efficiencies and durability in operation and the number of units that fail to stand up during use the way customers have the right to expect.

Price - There are many aspects to price in addition to a low price. Lowest price is not necessarily a primary indication of a good supplier. A desirable supplier can be counted on to charge fairly when something has to be ordered urgently and price cannot be established. When orders are increased, when changes in specification have to be made or when misunderstandings occur which lead to damage or rework, in these situations it is important to have a supplier who is fair and reasonable. Reasonable quantity discounts and credit terms are two other aspects on which the quality of a supplier can be judged.

Delivery - Quick and reliable delivery from a supplier is always desirable. When delivery is unreliable, problems of stockout can occur which creates the need to keep un­necessarily high safety stocks in inventory. Slow delivery can also result in the need to maintain larger average in­ventories because it is more difficult to predict how many units will be required between order date and delivery.

Servicing Problems - Another aspect of supplier quality concerns the way the supplier adjusts shortages in delivery, and provides repair or replacement of unsatisfactory or de­fective material.

Stability - You want suppliers who have the financial and managerial resources to provide an uninterrupted flow of goods or services.

Special Services - Suppliers who agree to space deliveries are more desirable than those who don't. They allow you to take advantage of quantity discounts by purchasing larger quantities yet do not make it necessary for you to increase storage space or inventory carrying costs by delivering the entire order at once. Other services that may make some suppliers more desirable than others include creativ­ity in problem solving and in making suggestions for im­provements in usage of the materials they supply.

Accessibility of Seller - Sellers that are difficult to contact, are less desirable than those whose decision makers are available for quick quotations or for discus­sions to rectify any problems that may come up.

Everyone needs To be knowledgeable about the Decision Making Process. We all rely on advice, and tools or techniques, to assist us
in our daily lives.

When we head out To eat, the restaurant is the instrument which provides us with all the information needed to decide what to
purchase and how much to spend.

Running a Business also requires making decisions using techniques and information - how much stock to maintain, what price to
sell it at, what credit arrangements to offer, just how many people to hire.

Decision Making Process in business is the systematic process of identifying and solving problems, of asking questions and finding
answers. Decisions usually are created under conditions of uncertainty. The future isn't understood and sometimes even the past is
suspect. This manual opens the door for company owners and managers to find out about the variety of techniques that may be used
to improve your decision making process in a world of uncertainty, change, and uncontrollable circumstances.

A General Approach to Decision Making Process. Whether or not a scientist, an executive of a significant corporation, or a small
business owner you are able to gain from improving your decision making abilities. The general approach to systematically solving
issues is the same. The following 7 step approach to enhance management decision making can be used to examine nearly all issues
faced by a business enterprise.

State the problem. A problem first must exist and be recognized. What is the problem and why is it a problem. What's ideal and how
do current operations vary from that ideal. Describe why the symptoms (what's going wrong) and the causes (why is it going wrong).
Try to specify all terms, concepts, factors, and relationships. Quantify the problem to the extent possible. If the problem, not
accurately and quickly filling customer orders, then try to ascertain just how many orders were incorrectly full and how long it
took to fill them.

Define the Objectives. What are the goals of the analysis. Which goals are the most crucial. Objectives usually are said by an
action verb like to decrease, to increase, or to improve. Returning to the client order problem, the major goals is: 1) to raise
the proportion of orders filled correctly, and 2) to reduce the time it takes to order and process. A sub-objective could comprise
to simplify and streamline the order filling procedure.

Grow a Diagnostic Framework. Next set a diagnostic framework, that is, determine what approaches will be utilized, what kinds of
information are needed, and how and where the information is available. Is there going to be a customer questionnaire, a review of
business records, time and movement tests, or some thing different. Which are the assumptions (facts assumed to be right ) of this
analysis. Which are the standards used to evaluate the study. What time, funding, or other limitations are there. What type of
qualitative or other special techniques will be used to examine the data. (Some of that will be covered shortly). To put it
differently, the diagnostic framework establishes the scope and methods of the whole study.

Collect and Assess the Data. The next step is to gather the data (by following the procedures created in Step 3. Raw data is then
tabulated and coordinated to ease analysis. Tables, charts, graphs, indicators and matrices are some of the standard tactics to
organize raw data. Analysis is your important prerequisite of sound business decision making. What does the data show. What facts,
patterns, and trends can be seen in the information. Many of the qualitative methods covered below can be used during the step to
ascertain details, patterns, and trends in data. Of course, computers are used widely during this measure.

Generate Alternative Solutions. After the analysis was completed, some specific conclusions about the nature of the issue and its
resolution must have been reached. The next step is to create alternative solutions to the problem and position them in order of
their net benefits. But how are alternatives best generated. Again, there are some well established techniques such as the Nominal
Group Method, the Delphi Method and Brainstorming, among others. In these methods a group is involved, all of whom have reviewed
the information and analysis. The approach will be to get an informed group indicating a variety of possible solutions.

Grow an Action Plan and Implement. Pick the ideal solution to this issue but be certain to understand clearly why it's best, which
is, how it achieves the objectives created in Step 2 greater than its alternatives. Then develop a productive method (Action Plan)
to implement the solution. At this point an important organizational thought arises - who will be responsible for seeing the
implementation through and what power does he have. The selected manager ought to be accountable for seeing that all of tasks,
deadlines, and reports have been performed, met, and composed. Details are important in this step: schedules, reports, activities,
and communication will be the key elements of any action program. There are lots of methods available to decision makers
implementing an action plan. The PERT method is a way of setting out an entire period like an action program. PERT will be covered
soon.

Evaluate, Obtain Feedback and Monitor. After the Action Plan has been implemented to Solve a problem, management must evaluate its
effectiveness. Evaluation Criteria have to be ascertained, feedback stations developed, and observation performed. This Step
should be done following 3 to 5 weeks and again at 6 months. The target is to answer the bottom line question. Has the issue been
solved?

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