Supplier Evaluation and Selection

This assignment delves into the crucial process of supplier evaluation and selection. It guides you through utilizing financial ratios to assess the performance and risk associated with potential suppliers. Additionally, it introduces Kraljic's Matrix, a powerful tool for categorizing suppliers based on their value and complexity, enabling strategic decision-making in sourcing. The assignment encourages you to apply these concepts to real-world scenarios, ultimately enhancing your understanding of building strong supplier relationships.

Financial management

Table of Contents
INTRODUCTION ..........................................................................................................................1
a) Evaluate the finances of this organisation highlighting the strengths and weaknesses of their
position........................................................................................................................................1
b) Provide a justified recommendation as to whether you would consider this organisation for
a sourcing
exercise for Facilities Management Services.............................................................................6
CONCLUSION................................................................................................................................9
REFERENCES..............................................................................................................................10

Illustration Index
Illustration 1: Kraljic’s matrix for suppliers evaluation...................................................................2

Index of Tables
Table 1: Financial ratios of the supplier..........................................................................................3
Table 2: Performance of the supplier...............................................................................................7

INTRODUCTION
Financial management is a specialized function which is carried by the top management.
It involves efficient use of funds to accomplish the goal of the organisation. It focusses on
planning, allocating, organising and utilization of funds. It ensure that the financial resources are
utilized in an efficient manner (How to evaluate potential buyers, 2012). All the investment,
financial and dividends decisions are taken after proper evaluation and analysis. The report
focusses on the evaluation of the financial statement, technical and commercial capabilities of an
organisation. Furthermore, the use of ratio analysis for the evaluation of potential suppliers is
also been included in the report.
a) Evaluate the finances of this organisation highlighting the strengths and weaknesses of their
position.
Purchasing is the an important element for a company. It is a highly complex procedure
and it takes into consideration the performance of the suppliers before choosing him. There are
five major sections in which the entire process can be divided (Cheung. and et.al., 2014). It
includes supply continuity, developing supply base management, alignment of stakeholders,
management of sourcing process and integration of purchasing strategies into the goals of the
organisation (Kiondo, 2004). The basic procurement process includes:
 Specification of the needs: Initially a company as to identify the needs of the organisation
(Krishnamurthy and Vissing-Jorgensen, 2013). The needs can be products, services or a
specific function of the organisation. The company has to decide whether they will make
the product or purchase it from others.
 Development of contract terms: Then all the terms and conditions including the cost,
quality, quantity, delivery and technological capabilities are developed (Krzysko. and
Marciniak, 2001).
 Identification of potential suppliers: The next step is to identify the type of supplier that is
needed by the company. It can be from a single source or multiple sources, short term or
long term contracts, domestic or foreign suppliers etc (Lavoori and Paramanik, 2014).
 Appraisal or evaluation of suppliers: After the identification of potential suppliers, the
next step is to evaluate each one of them. In order to accomplish this many companies
use Kraljic’s matrix (Marciukaityte and Szewczyk, 2011). It describes the relationship
between the company and their suppliers. The complexity of the supply market increases
1

if the goods are from strategic items. There are many ways which can be used to evaluate
the financial health of the supplier (Maxwell, Ogden and McTavish, 2007). If the contract
is of high amount then it becomes necessary to involve financial analysis in the
evaluation stage. It will ensure that the suppliers maintain the quality of the goods and
continue the delivery of the goods.
Financial ratio
Financial ratio analyses can be an effective way to determine the the capabilities of the
supplier. It will allow the company to find out the profitability, efficiency, liquidity and solvency
of the supplier. It can be used to analyse the overall performance of the supplier. It will allow the
company to make decisions about the future (Murphy, 2001). It gives insights about the
efficiency of the management. It ensure that the supplier continue to supply the products over the
given time frame. The ratio which can be used for evaluation of supplier are:
Profitability ratios: It measures the performance and the capacity of the company to
make profits (Ryan, 2009). It is useful method to calculate the revenues and profits of suppliers.
It will ensure that the supplier is making enough operational profits to continue its business.
Liquidity ratios: It measures the liquidity position of the company. It gives essential
details about the ability of the supplier to meet its short term obligations. The suppliers are not
2
Ill
ustration 1: Kraljic’s matrix for suppliers evaluation
(Source: The purchasing process, 2014)

required to pay anything to the company but it affects the sustainability of the company (Seiver,
Haddad and Do, 2014).
Gearing ratios: It calculates the solvency position of the company. It takes into
consideration debts and equity of the company (Shea, 2000). It gives details about the financial
leverage of the suppliers and the risk in his business.
Investment: It measures the profitability of shareholder's funds and the Price to Earning
(PE) ratios of the suppliers (Smit and Trigeorgis, 2012).
Table 1: Financial ratios of the supplier
Financial ratio Formula 2014 2013
Profitability ratios:
Gross profit margin Gross profit/ sales
*100
0.22 0.18
Mark up Gross profit/ COGS
*100
0.29 0.22
Net profit margin (Net profit/ net sales)
*100
0.02 -0.009
Activity ratios:
Stock turnover ratio Cost of goods
sold/Inventory
171.7 77.9
Debtors turnover ratio Net sales /Account
receivables
4.48 4.54
Debtors days receivables* Months
or days in a year / net
credit sales
81 days 80 days
Gearing ratios: Total long term debt/
shareholders fund
0.06 0.09
Investment ratios:
Earnings per share NPAT/ number of 23.6 -11.9
3

(EPS) equity shares
Profitability:
Current ratio Current assets/ current
liabilities
1.12 1.10
Quick ratio Liquid assets/ current
liabilities
1.10 1.06
It can be seen from the above table that the gross profit margin of the supplier was 0.18 in
2013 which gone up to 0.22 in the year 2014. It shows that the company has improved their
profits from the last year. Their mark up cost has also improved from 0.22 in 2013 to 0.29 in the
year 2014. The supplier has improved their profitability and this is a good sign for the client.
Their Net profits have gone up from -0.009 to 0.02 in 2004 (Sofat and Hiro, 2011). The supplier
was making losses in the last year but in 2014 they have shown good performance. It can be seen
from the profitability ratios that the supplier has done significantly well in increasing their
profitability. The Stock turnover ratio of the supplier was 77.9 which has increased to 171.7 in
2004. Higher Stock turnover ratio implies that the company has been performing well and their
sales have increased (Srinivasan, 2012). Their Debtors turnover ratio has decreased from the last
year. It means that the suppliers take 80 days to collect the receivables. It will help the client to
get the goods on credit from the supplier. The gearing ratio of the supplier in 0.06 in 2014 and it
was 0.09 in 2013. Low debt turnover ratio is good for the company (Tugas, 2012). It means that
the supplier has less long term obligations. Furthermore, it gives an idea about the solvency
position of the company. The company of supplier if funded by the shareholders rather than the
lenders. Their leverage is also very low which is a good sign for the client (Weaver and Weston,
2007).
Investment ratios shows how much money will an investor get from the company. The
EPS of the supplier was -11.9 which was not favourable. It cannot be considered a good
company for an investor (Weygandt and et. al., 2009). But in the year the supplier has been able
to improve their EPS to 23.6. It manes for every $100 an investor would get $123.6. He will
receive the profit of $23.6 over the money invested. Current and quick ratio measures the
liquidity of the company. Is shows the ability of a company to pay of its short term obligations.
The ideal current ratio is 2:1 while the ideal quick ratio is 1:1. The current ratio of the supplier
4

was 1.10 in 2013 which increased to 1.12 in 2014. The supplier has improved its liquidity
position from the last year (Weaver and Weston, 2007). Their quick ratio has also improved from
the last year. Both the liquidity ratio have improved but it can be seen from the table that they
have less stock in the inventory. They have more cash and other marketable securities which has
improved their liquidity. It is important for the client to ensure that the supplier maintain more
inventory and improves their current ratios. It will allow them to fulfil the requirements of the
client. But still, their liquidity position has been good and the supplier can be considered for the
procurement of goods.
 Invitation of tenders: Tenders are price quotations in which large number of suppliers
take part. Tenders have a particular deadline in which the suppliers can bid for the
agreement (Zohra and et.al., 2015).
 Analysis of quotations: After obtaining all the tender, the company compares the
quotations ans select the most appropriate from them.
 Negotiation: The company negotiates with the suppliers about the terms and conditions
mentioned in the tender (The purchasing process, 2014).
 Monitoring the performance: It is important for the company to measure the performance
of the supplier because the performance of the supplier also affect their own profitability.
Strengths of the supplier
The supplier has been able to recover from the losses of last year. This shows that the
company has great potential to grow their business. Their profit margins and mark up has
improved significantly. They have increased their fixed assets and debtors from the last year. The
company has managed to cut down their expenses and improve their efficiency. They have the
resources to meet their obligations in future (How to evaluate potential buyers, 2012). The best
of the supplier is that their business is funded from the equity shares and not the debts. It reduces
their leverage and risk of the business. There is no obligation of the company to pay off interest
rate irrespective of losses. Even the supplier can meet the growing demands of the raw material
of the client (Supplier evaluation and selection, 2007). They can easily take loans from the
external parties because their gearing ratio is very low. It is a favourable situation and the suppler
can be chosen on the basis of its financial performance.
Weaknesses of the supplier
5

The biggest problem in the ratio analysis of the supplier is that they have not performed
well in 2013. Their performance has been very low and it cannot be overlooked. Though the
company has significantly improved in the next year but the client has to remain cautious about
this (Seiver, Haddad and Do, 2014). The client has analyse the data of 3-5 years to see if the
supplier as been stable or not. Furthermore, Their liquidity ratios are low and they have less
investment in the goods. It has to be improved but the supplier because it projects that the
supplier won't be able to meet the demands of the client. They have more investment in the liquid
assets and mostly in cash. They have to invest the excess in their business and manage it
properly. If the supplier can improve all these aspects of their business then they can be a
profitable investment for the client (Maxwell, Ogden and McTavish, 2007). They can go ahead
with the sourcing exercise for Facilities management Services. Furthermore, they can check the
ratings of the supplier from any authentic credit agencies which can be helpful for them to find
out their credit position.
b) Provide a justified recommendation as to whether you would consider this organisation for a
sourcing
exercise for Facilities Management Services
The above analysis shows that the supplier can be chosen for the sourcing
exercise for Facilities Management Services. They have performed exceptionally in 2014 and
their growth rate is high (Krishnamurthy and Vissing-Jorgensen, 2013). The liquidity and
solvency position if the supplier is also good. It would be beneficial for the client to choose the
company as it has shown improvements in their business. Furthermore, the supplier is also
capable to meet the demands of the client in the future. Some of the financial information which
justifies the selection of the supplier are :
Balance Sheet
Balance sheet shows the summary of the financial performance of a company. The
supplier has good amount of fixed assets in the company. Their total assets have also increased
from the last year even though the company was in losses (Kiondo, 2004). They have also kept
funds for the future uncertainty which reduce the risk of the business. They have funds for tax,
pension and lease on the property. The supplier has also paid off its hire purchase amount. The
balance sheet also shows that their is less external funds in the company. Most of the business
activities are funded with the equity. It reduces the risk and leverage of the company. In future
6

they can take loans from the bank to expand or grow their business (Krzysko. and Marciniak,
2001). Supplier has shown good performance in the year 2014 and it can be chosen for the
sourcing
exercise for Facilities Management Services.
Profit and loss statement
Profit and loss statement shows the profit and expenses of the business for a given period
of time. The performance of supplier in 2013 has been very disappointing but it has shown
significant growth in 2014. Their sales have increased from 138 million to 161.4 million. Their
gross and net profits have also increased. The company has been able to cut down their operating
expenses and it has improved their revenues. The best thing about the supplier is that they have
become efficient and their profitable (Maxwell, Ogden and McTavish, 2007). Their tax on
ordinary activities has reduced their profits and the supplier has to take this into consideration.
There are no external debts of the company so they are not required to pay any interest. Interest
payments reduce the profitability of the company. It furthermore creates burden on the
organisation as they have be to paid no matter if there are losses in the business.
Cash flow statements
The client can also make use of cash flow statement so understand the flow of cash (Smit
and Trigeorgis, 2012). It has three major activities which are financing, investment and dividend
decisions.
Performance of the supplier
Table 2: Performance of the supplier
Financial ratio Performance
Liquidity ratios Poor
Activity ratios Good
Gearing ratios Very good
Investment ratios Very good
It can be seen from the table that the supplier has performed well. They have maintained
high level of efficiency in the company which will also benefit the client. It will reduce the cost
of the product for the client as well. Both the companies will be benefited from it. Their gearing
and investment ratio has also been good (Weaver and Weston, 2007). It means that the supplier
7

has great potentate to growth in the future and it has enough funds to pay off its debts. Supplier
has maintained its solvency and liquidity position. The biggest weakness for the supplier is that
they have less investment in the goods. Their lot of funds are in the form of cash which is lying
idle in the business. They need to find a way and use the extra cash in the business.
Recommendations for the company
The client should analyse other factors apart from the financial statements of the supplier.
It will ensure that they have selected the right company for the sourcing
exercise for Facilities Management Services. It will benefit them in short run as well in the
future. Some of the recommendations for the company are as follows:
Altman Z score: The client can use the formula of Altman Z score for the evaluation and
appraisal of the supplier. It helps to find out the solvency position of the company. It takes into
consideration liquid assets, earning power, operating efficiency, leverage, market dimensions ans
asset turnover ratios of the industry (The purchasing process, 2014). The supplier should have
total points +4.48 which indicates stability of the company. On the other hand, -0.25 points
indicates insolvency. The formula for Altman Z score is as follows:
Z= 1.2T1 + 1.4T2 + 3.3T3 + 0.6T4 + 0.99T5
Scoring criteria: The scoring criteria has range of questions which helps in the appraisal
of the potential supplier. The purchaser or the client can include all the aspects of his business
and use it to evaluate the performance of the supplier (Supplier evaluation and selection, 2007).
A scoring criteria includes QA system, track record, employment policy, environmental systems,
financial stability and technical capacity of the supplier. It will ensure that all the criteria are
fulfilled by the potential supplier.
Suppliers surveys: It helps the client to gather the information about the supplier. It
includes referrals, surveys, questionnaires, Profit and loss history, defect arte and quality
management system.
Third party analysis: These are organisations which are hired to evaluate and audit the
performance of the suppliers (How to evaluate potential buyers, 2012). They have all the
resources to analyse different aspects of the business like profitability, management efficiency,
employees turnover, litigations and process of handling of hazardous wastes.
8

Facility visits: Weighted scorecards are used to evaluate the process of a business. Many
of the suppliers look good on the paper (Seiver, Haddad and Do, 2014). So it would be better for
the client to visit the premises of the supplier and check all the processes of the business.
Quality capability analysis: Quality is very essential when purchasing a product. The
client has to ensure that the goods are manufactured or sold as per the requirements of the other
business (Marciukaityte and Szewczyk, 2011). Low quality can affect the business of the the
client. So, it would be better for them to ensure that the supplier provides the same quality of the
products throughout the contract.
Evaluation conference: It involves personal interaction between the client and the
supplier. The supplier can be specified about the complex situations that may arise in the
business.
It is recommended to the company that they do a contract with the supplier on a short
term basis (Krishnamurthy and Vissing-Jorgensen, 2013). They can enter into a contact for about
a year and they should also specify the contract amount. The performance of the supplier and
quality of the goods that he provides has top be monitored by the company in the term of the
contract.
CONCLUSION
It can be concluded from the above report that the sourcing is a complex procedure and
all the aspects of the supplier's business has to studied. The supplier in the given case has been
performing and he should be chosen for the sourcing
exercise for Facilities Management Services. But before choosing, the clients has to evaluate its
performance. There are many methods which can be used to analyse the supplier like financial
ratios, surveys, technical analysis, scoring criteria, Altman Z score etc.
9

REFERENCES
Books and journal
Cheung, Y.L. and et.al., 2014. Management earnings forecasts, earnings announcements, and
institutional trading in China. Emerging Markets Finance and Trade. 50. pp.184-203.
Kiondo, E., 2004. Around the World to: The University of Dar es Salaam Library: Collection
Development in the Electronic Information Environment. Library Hi Tech News.
21(6) .pp.19 – 24.
Krishnamurthy, A. and Vissing-Jorgensen, A., 2013. Short-term debt and financial crises: What
we can learn from US Treasury supply. unpublished, Northwestern University. May.
Krzysko, G. and Marciniak, C., 2001. Optimising real estate financing. Journal of Corporate
Real Estate. 3(3). pp.286-297.
Lavoori, V. and Paramanik, R.N., 2014. Microfinance impact on women’s decision making: a
case study of Andhra Pradesh. Journal of Global Entrepreneurship Research. 4(1). pp.1-
13.
Marciukaityte, D., and Szewczyk, H. S., 2011. Financing Decisions and Discretionary Accruals:
Managerial Manipulation or Managerial Overoptimism. Review of Behavioral Finance.
3(2). pp.91 – 114.
Maxwell, G.A., Ogden, S.M. and McTavish, D., 2007. Enabling the career development of
female managers in finance and retail. Women in Management Review. 22(5). pp.353-370.
Murphy, K. J., 2001. Performance Standards in Incentive Contracts. Journal of Accounting and
Economics, (30), pp. 244-275.
Ryan, S. J., 2009. Managing Your Personal Finances. 6th ed. Cengage Learning.
Seiver, D.A., Haddad, K. and Do, A., 2014. Student Learning Styles And Performance In An
Shea, M. C., 2000. Handbook of Public Information Systems, Second Edition. CRC Press
Smit, H. T. and Trigeorgis, L.,2012. Strategic investment: Real options and games. Princeton
Sofat, R. and Hiro, P., 2011. Strategic Financial Management. PHI Learning Pvt. Ltd.
10

Srinivasan, P., 2012. The value relevance of consolidated financial statements in an emerging
market: The case of India. Asian Review of Accounting. 20(1) pp.58 – 73.
Tugas, F.C., 2012. A comparative analysis of the financial ratios of listed firms belonging to the
education subsector in the Philippines for the Years 2009-2011. International Journal of
Business and Social Science. 3(21).
Weaver, S. and Weston, 2007. Strategic Financial Management: Application of Corporate
Finance. Cengage Learning.
Weaver, S. and Weston, 2007. Strategic Financial Management: Application of Corporate
Finance. Cengage Learning.
Weygandt, J. J. and et. al., 2009. Managerial Accounting: Tools for Business Decision Making.
John wiley & sons.
Zohra, K.F. and et.al., 2015. Using Financial Ratios to Predict Financial Distress of Jordanian
Industrial Firms''Empirical Study Using Logistic Regression''.Academic Journal of
Interdisciplinary Studies. 4(2). p.137.
Online
How to evaluate potential buyers. 2012. [Online] Available through:
<http://www.cpapracticeadvisor.com/news/10775373/advising-your-small-business-
clients-how-to-evaluate-potential-suppliers>. [Accessed on 12th May 2016].
Supplier evaluation and selection. 2007. [Online] Available through:
<http://facultad.bayamon.inter.edu/jcotto/BADM%204820/WCSM%20Supplier
%20Evaluation%20%26%20Selection%20Chapter%2007.pdf>. [Accessed on 12th May
2016].
The purchasing process. 2014. [Online] Available through:
<http://www.informit.com/articles/article.aspx?p=2165644&seqNum=7>. [Accessed on
12th May 2016].
11