Procurement terms: I

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Incentives in procurement refer to the ‘carrots’ that may be offered to suppliers to motivate the supplier to perform to or above agreed standards. For example, a risk and reward contract will typically feature a bonus payable to the supplier if they exceed agreed performance standards. Another incentive that may be used is an extension of the contract. For example, the contract may be for an initial two-year period with an option to extend for a further one-year and then another one year, subject to satisfactory performance. The contract extension is an incentive to motivate the contractor to perform. In practice the use of incentives seeks to equip the buyer with some way of motivating performance once competitive tension is no longer present. See also Performance Regime.

Incoterms is shorthand for International Commercial Terms and is a registered trademark of the International Chamber of Commerce [ICC]. Incoterms is a series of pre-defined rules relating to particular terms used in international commercial transactions to ensure that both parties understand their rights and obligations. The primary intention of Incoterms is to clarify ‘who does what’ and ‘what each pays for’ in terms of the transportation, insurance and delivery of goods, especially across international boundaries or where the parties do not have a trading history. The terms were updated in 2011 and the number of terms was reduced, but there are still ‘E’ terms, ‘C’ terms, ‘F’ terms and ‘D’ terms. The ‘E’ term is EXW, for ‘ex-works’, and means that the seller makes the goods available for collection from their premises. This method places maximum obligation with the buyer and minimum with the seller. ‘F’ terms, for example FCA, (free carrier at a named place of delivery) means that the seller hands over the goods, cleared for export, to a carrier at a named place as decided by the buyer. The seller pays for delivery of the goods to the named place, and risk passes to the buyer when the goods are transferred to the nominated carrier from the seller. The buyer has significant obligations with this method and typically uses a 3PL logistics provider to manage the supply chain from receipt of the goods to delivery at the buyer’s location. ‘C’ terms, for example CIP, (carriage and insurance to a named place of destination) mean that the seller pays for delivery and insurance to the named point of destination, but risk passes earlier in the supply chain, when the carrier receives the goods from the seller. ‘D’ terms, such as DDP, (delivered duty paid to a named place of destination), means that the seller bears the responsibility for delivering the goods to a named place in the country of the buyer, with all logistics and insurance costs paid, as well as import duties and taxes. This method places the maximum obligation with the seller and the minimum with the buyer. Many buyers choose to ask suppliers to quote prices on more than one basis. For example, a buyer might ask for two quotations, the first on the basis of ex-works at the supplier’s facility [Incoterm: EXW] and the second quotation on the basis of the goods being delivered to the buyer’s premises [Incoterm: DDP]. By using the Incoterms, EXW and DDP, both the supplier and the buyer are clear as to what is covered in the quotations as regards transportation, insurance and delivery. Comparison of the two quotations allows the buyer to determine if it is more cost effective to engage a freight-forwarder to manage the supply chain or rely upon the supplier.

The current or existing supplier or vendor that currently holds the contract to provide goods or services to an organization

An indemnity is a promise to compensate another party in the light of certain events occurring which cause that party to incur a loss. As an example, indemnity provisions may help a buyer cover any costs that they incur as a consequence of their supplier performing poorly. Indemnities are typically sought against suppliers making mistakes in advice or guidance, negligence, breach of confidentiality or another’s intellectual property rights, or breach of contract. Conversely, buyers often include a ‘hold harmless’ indemnity clause to prevent the supplier from claiming damages from the buyer for losses incurred by the supplier. If the clause is drafted using the terms ‘indemnify’ or ‘hold harmless’, then the Courts may interpret the clause as an obligation on the other party to prevent loss. The use of terms such as ‘make good’ or ‘compensate’ are more likely to be interpreted as obligations to compensate the buyer for actual loss.

Indicators are predictors of future trends. For example, the Procurement Manager’s Index is a leading indicator of levels of business activity and the number of job advertisements is a leading indicator of employment levels. Both indicators provide an ‘early warning’ of the trends in key dimensions of the business environment. Conversely, lagging indicators occur in retrospect or simultaneously with the trend to which they relate. Extended lead times are a lagging indicator of supply shortages, and consumer price inflation indices are a lagging indicator of changing prices. See also Scenario Planning.

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Inflation is the term given to a rise in the general level of prices in the economy over a period of time. If prices are falling the term used is deflation. Most procurement practitioners are familiar with two indices of inflation - the consumer price index [CPI] and the producer price index [PPI]. Inflation has been a key target of economic policy for most governments as high levels of inflation devalue the value of assets and of earnings.

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Information can be defined as structured data. For example, a list of all purchase orders is raw data. The list is then sorted by supplier, to provide meaning over and above the raw data, by revealing patterns. Typically there will be many suppliers having received only a few purchase orders. That information could be a factor in a decision to reduce the supply base. There may also be suppliers who have received multiple purchase orders, and that information may be a factor in a decision to change the method of purchase, perhaps to a procurement card.

Innovation refers to the creation of new products, technologies, processes and/or ideas that are thought to be better or more effective by the innovator. Most organisations value their suppliers as potential sources of innovation and so the procurement process should facilitate the legitimate transfer of ideas from suppliers to the buyer. Similarly, when outsourcing or sourcing internationally, careful consideration should be given to the transfer of technology to sub-contractors who may become competitors.

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The opposite of outsourcing, insourcing, or ‘contracting in’, is usually defined as the deliberate sourcing of services from internal providers. Insourcing may be chosen to ensure control is maintained of critical processes or because the external supply market lacks capacity or capability. See also Sourcing.

A contract under which the insurer agrees to compensate the insured party for losses specified in the contract (e.g. theft, freight loss). Insurance is a form of risk management, as risk is transferred from one organisation to another in exchange for payment, i.e. the insurance premium. When seeking to insure against loss, the buyer has a duty of ‘utmost good faith’ to advise the insurer of all relevant facts so that the insurer can reach a balanced judgement on the risk involved. See also Risk.

The documentation provided by one party (usually the contractor or vendor) to the other party (the client or purchaser) as evidence of having valid insurance coverage.

This is a form of vertical integration that involves a participant in a supply chain acquiring ownership of an upstream supplier. An example would be a steel mill that used to purchase iron ore from a supplier and then decided to acquire the iron ore supplier in order to secure access to the ore, in the hope of securing some competitive advantage. See also Integration, Vertical.

Vertical integration refers to the common ownership of participants in the same supply chain. An example would be a steel mill that acquires a mine that supplied the mill with iron ore. Integration may be forwards or backwards. The steel mill acquiring the mine is an example of backwards integration; if the steel mill acquired a steel distributor it would be an example of forward integration. See also Integration, Backward.

Intellectual property [IP] refers to ‘creations of the mind’. There are two broad classes of intellectual property: artistic creations covered by copyright, and industrial property. Industrial property includes patents to protect inventions, industrial designs, trademarks, service marks, commercial names and trade secrets. Most sets of terms and conditions have clauses addressing ownership of intellectual property, as many procurement contracts seek to acquire intellectual property as deliverables of the agreement. For example, terms may seek to clarify that pre-existing IP belongs to the respective owners, but new IP that the parties plan to create as part of a new contract, belongs to the buyer.

An intermediary is a third party that acts as a ‘go-between’ between two or more trading parties and as a conduit for goods or services in the supply chain. As an example, travel agents are intermediaries in the travel industry, providing value for customers by consolidating demand and creating a ‘one-stop shop’ and also by providing an additional sales channel for travel providers. Many supply chains have been subject to ‘disintermediation’, or ‘cutting out the middleman’, as distributors, agents and importers have been reduced in number and buyers now deal with fewer intermediaries. See also Supply Chain.

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The International Article Number [EAN] - once known as the European Article Number - is a standard for bar coding products.

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Vendor Managed Inventory refers to a business relationship between two parties in the same supply chain, in which the buyer outsources to their supplier the stock control of the materials purchased by the buyer from the supplier, which are typically held in stock on the buyers’ premises. The additional responsibility for inventory control changes the role of the supplier from simply a provider of goods, to the provision of a comprehensive service. Vendor managed inventory is a natural development from consignment stock, in that the buyer only pays for the materials when they are issued from stock and hence there is a degree of risk sharing between the parties.

Maintaining a minimum level of inventory. While reaching a zero inventory level is improbable, reducing inventory to a minimum should result in lower costs (for example, of warehousing and spoilage) and therefore increased profitability. Contemporary concepts such as lean supply regard inventory as a non-value adding activity, or waste. Supply processes are designed to synchronise supply with the need, so that the need for inventory is minimised. Approaches like ‘just in time’ [JIT] work well when demand is predictable and driven by a master forecast. See also Just in Time.

An evaluation of the attractiveness of a proposed investment using a variety of quantitative methods. Businesses seek to achieve a greater return on invested funds than the bank rate, and so when there is a proposal to invest in a new project, the project needs to be evaluated in terms of whether it will make a return, and if so what that return will be? Organisations use a number of appraisal methods, with net present value and payback period being the most common. The role of procurement in investment appraisal is threefold: first to ensure that the risks associated with the project are identified and addressed; second, to ensure that the benefits realisation program is realistic and third, to ensure that any contractual agreements entered into as part of the investment align the suppliers with the project’s goals and outcomes. See also Net Present Value and Payback Period.

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Invitation to treat is a legal term that means that a buyer is signalling their willingness to negotiate with a supplier. The term is relevant to procurement practitioners who issue requests for quotations, proposals or tenders. When the buyer issues the request for offer, the buyer is seeking an offer from the supplier, which the buyer may subsequently accept. This implies that the request for offer issued by the buyer is not itself an offer, but an invitation to the supplier to make the buyer an offer. See also Battle of the Forms and RFx.

An invoice is a document issued by a seller to the purchaser, describing what has been done or purchased, in what quantities and at what prices. The invoice will also include the agreed payment terms, which will trigger the payment process. Some organisations undertake a two-way match before paying invoices, reconciling the invoice with a purchase order, while a three-way match involves the purchase order, invoice and a receipt note. As invoice payment processes are part of acquisition costs, there has been a focus on minimising the transaction costs of raising orders and paying invoices, especially for low-value transactions where the cost of the transaction can be more than the value of the invoice. e-Commerce, procurement cards and recipient-created tax invoices are all mechanisms to streamline the payment process. See also Cost, Acquisition; Invoice, Recipient Generated; Three Way Match and Two Way Match.

A recipient-generated invoice is an invoice generated by the buyer on behalf of the seller. It is a government prerequisite in Australia and New Zealand for both parties to be registered for GST, and the parties must enter into a written agreement describing the arrangement, the terms and the categories of goods and/or services covered. For example, supposing a tyre supplier delivers 100 tyres to a car assembly plant every day. In a traditional relationship, the supplier would invoice the buyer, who would match the invoice with the purchase order and goods receipt note and pay the account. But if the parties are in a stable trading relationship, and the cars coming off the production line all have five tyres on them, the tyre supplier must have delivered the tyres, so the purchase order and invoice and subsequent reconciliation do not add value. Instead, the buyer can calculate the number of tyres received from the supplier and generate a payment at the agreed rate for each tyre, and send the recipient-generated invoice and the payment direct to the supplier. See also Muda.

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