Question

1) Martin Ltd has always had a strategy of product differentiation; that is, providing high quality products and extracting a price premium from the market. During the recent economic downturn Martin Ltd has seen its customer base diminish, and decided to move strategically to a cost leadership strategy, that is, to try to sell more products at a lower price.

(a) What are the implications of this strategy change for the expenditure cycle?

(b) What changes would you expect to see in the expenditure cycle?

(c) What are the implications of this strategy change in terms of the usefulness of historic sales data for decision making related to demand predictions?

Answer 1

Requirement a

This strategy change will have big implications for the expenditure cycle, which is fundamentally driven by the level of demand for products and services. All existing policies and procedures will be geared around volume, pricing and quality targets flowing from the product differentiation (high price / high quality) strategy. To move to a cost leadership (high volume / low price) strategy requires revisiting and realigning existing policies and procedures.

Requirement b

Assessing changes in the order of the processes in the expenditure cycle:

1.0 To accurately determine demand for goods will require careful reassessment of all policies and operational procedures relating to raising a purchase requisition. As an example, current purchasing policies may encourage creating a purchase requisition on immediate receipt of a request for a product, whereas under a cost leadership strategy this policy may need to be updated to include the ability to achievecost efficiencies. The effect of the strategy change may well be to slow down this stage of the process,as requests which were previously processed on receipt may be stored and accumulated to achieve efficient ordering quantities. Depending on the degree of automation of existing demand calculations it may be necessary to check and adjust any heuristics used to calculate future demand for systems dealing with inventory management

2.0 Supplier choice will be impacted by the strategy change; high cost high quality high service providers deemed appropriate under a differentiation strategy may no longer be the best choice under cost leadership. All existing suppliers would need to be reassessed for suitability using metrics suited to the new strategy (for example product cost would tend to be weighted more highly, and quality and service dimension may be ranked as slightly less important). New suppliers may need to be located and assessed to meet the differing demands of the cost leadership strategy, for example an existing high quality low volume supplier may be unable to meet predicted demands under the new strategy so a larger supplier may need to be located for any affected products. Creation of purchase orders may be affected by the need to consolidate multiple purchase requisition in order to achieve volume related cost efficiencies.

3.0 The activities around receiving and recording goods would be affected by volume and speed considerations. Handling higher volumes of goods may require changes to be made to physical working spaces and the related logistics considerations. It may be effective to introduce technology to automate some previously manual functions, such as use of bar codes and scanners to verify delivery quantities. Policies would need to be reviewed to check for the presence of internal controls designed to promote ultra high quality outcomes as it may be possible to relax some of these controls, (assuming that expected increases in error rates will be acceptable) in order to receive goods more efficiently during this phase of the expenditure process. Operational procedures relating to quality checking of goods received may need to be revised to allow for slightly lower quality controls over receiving products, where appropriate.

4.0 Volume considerations would also be a consideration when making payments to suppliers. Depending on how automated the payment cycle currently is at Martin Ltd they may need to consider introducing a higher degree of data integration and automation to ensure payment efficiencies are achieved. Martin Ltd may also need to consider a complete revamp of their payments system to allow payment on receipt of goods rather than on receipt of a supplier invoice (i.e. adopt invoiceless trading). This would reduce costs in relation to these activities as a three way reconciliation (purchase order, goods received, and invoice) reconciliation would no longer be required. If Martin Ltd electedto introduce this option they wouldneed to ensure that controls are tightened around the activities related to generation of purchase orders and recording goods receipt.

Requirement c

Careful modelling and analysis would be required before historic sales data would be suitable for use in any decision making task. Sales data is used in most decisions relating to calculation of demand for products and services, so the implications of the strategy change are immense. Martin Ltd may need to adopt a heuristic to deal with this issue, for example they may assume that volumes under a cost leadership strategy are likely to be historic volumes multiplied by a factor of x and adjust all analysis to allow for this. Martin Ltd would need to be very careful whatever approach they take, as even a slightly incorrect assumption could have a large effect on variances to the actual demand encountered.