Developing Purchasing Strategies With NAPM Business Survey Data: What's Available and How To Use It
Ralph G. Kauffman, Ph.D., C.P.M.
Ralph G. Kauffman, Ph.D., C.P.M., Chair, NAPM Business Survey Committee 1113 Huntington Dr., Richardson, TX 75080, 214/680-1127
John H. Hoagland, Ph.D., C.P.M.
John H. Hoagland, Ph.D., C.P.M., NAPM Professor Emeritus, Michigan State University N-116 Business College Complex, East Lansing, MI 48824, 517/332-4460
81st Annual International Conference Proceedings - 1996 - Chicago, IL
Abstract. Purchasing business surveys provide extensive and excellent information for tracking, analyzing, and forecasting many business and commodity trends. Illustrations of how purchasing managers can apply this and other information to their companies, suppliers and commodities are presented.
(Charts will be presented but space limits them from these proceedings).
National Business Survey. NAPM provides some of the best monthly data and information for tracking the national business system. These data are available sooner and have had track records superior to all other known data. The national business survey is now widely recognized and internationally mimicked.
The NAPM national business survey is compiled from responses from over 300 conscientious and reliable purchasing executives. They routinely report through a unique survey system confidential information which is compiled and published as "Report on Business®" in NAPM Insights.
Early Availability. One important advantage of the national business survey is that it is available sooner than other monthly data. The report is widely anticipated and immediately makes the major news programs. It should be noted that about the time the NAPM report is released, the federal government releases its so-called Leading Economic Indicators for the prior month.
Measuring Change. The national and regional business surveys are primarily based upon a survey technique that provides direct measures of change. These measures are achieved by noting whether activities have increased, decreased, or remained the same this month in comparison to the previous month. Measures of change are like measures of acceleration or deceleration in comparison to speed. Statistically, turning points in measures of change occur prior to turning points of an activity.
Change data are now collected nationally on production, backlog of orders, new orders, inventory, supplier deliveries, employment, and prices. A variety of indices can be calculated from these data. Usually a graph of these data is presented as fluctuating about a centerline. Points above the centerline indicate increases (acceleration), and points below the centerline indicate decreases (deceleration). The distance from the centerline indicates magnitudes of change.
Other Advantages. Research has shown that the national business survey data are less erratic than comparable government data. Furthermore, on average, each month's data have a greater than 80% cyclical component. These data have an unusually high degree of reliability for indicating the trends and magnitude of the current and past business cycles.
PMI. The widely followed Purchasing Manager Index (PMI) is a type of change index. It is a weighted compilation of the new order, production, supplier deliveries, inventory and employment data. PMI has been correlated with Gross Domestic Product data.
Forecasting Index. A useful forecasting index can be compiled by subtracting the inventory index from the new order index. This too fluctuates about a centerline. A low positive or a negative forecasting index signals trouble ahead.
The forecasting index has a logical base, measuring the relationship between new orders and inventories. As long as changes in new orders are above change in inventories, the future should be growth. When changes in inventories become greater than changes in incoming orders, there are periods of adjustment ahead.
Lead/lag. Statistically, the forecasting index has led the new order and production indices by five months. The new order and production indices have led the PMI and supplier deliveries by two months, employment by three months, and inventory and price indices by five months.
Turning Points. When analyzing business trends, reliance is placed on turning points in data, (i.e., peaks and troughs). National business survey data lead the government turning points by many months. For the past forty plus years the NAPM data has led by six months to several years at peaks and by zero months to a year at troughs. An important reason for this is that the NAPM data measure change.
Other National Business Survey Information. Other important information available from the national business survey is the rank ordering of industry types for each category measured. Also, at the end of each report is a listing of items that are "in short supply", "up in price", and "down in price". A careful examination of this information can help purchasing executives know more about their industry, competitors, suppliers, customers, and commodities. Historically, changes in supply have usually preceded price changes. This has also been true for individual commodities.
Regional Business Surveys. Many useful regional purchasing business surveys have been developed since Detroit started one in 1935. The regional surveys include Arizona, Austin, Boston, Buffalo, Carolina - Virginia, Chicago, Cleveland, Georgia, Grand Rapids, Houston, Mid-America, Milwaukee, New York, Oregon, South Bend, Southwestern Michigan, etc. Although these surveys do vary in quality, they provide useful additional information. For example, Milwaukee and New York do commodity breakouts; Detroit has automotive and non-automotive indices; New York reports manufacturing and non-manufacturing, and Oregon provides a wholesale index. Various regional surveys index the quantity of purchases. More should be done to develop relevant purchasing survey questions.
Some regional purchasing surveys report extensively on comments from respondents. These are often very revealing and helpful as to what is happening in industries and commodities.
Steel Survey. Much of the data provided by the NAPM steel survey is useful. Some of their data are measures of change and some are not. Care should be exercised when interpreting data. Their survey makes use of comparative indices including such measures as inventory levels vs demand, and receipts vs shipments. They also use expectation questions, such as next 3 months receipts vs current receipts; inventory policy for next 6 months; order backlog expectations next 3 months; incoming order expectations next 3 months; expected trend of general economic activity next 6 months; and expected trend of industry sales and production next 6 months. Other survey questions compare current shipping to 3 months ago; strength of selling prices; work force on short time or layoff; new hirings; plans to build new facilities; expected shortages in next 6 months; months of orders on hand; and months of inventory on hand.
Purchasing vs GDP. Many people seem not to know that Gross Domestic Product (GDP) concentrates on final consumption and specifically excludes most business purchases. Research has shown that the amount of business purchases excluded from GDP is larger than GDP. Our overall business/economic system is certainly much larger and of different proportions than most people realize. Consumer buying is definitely not two thirds of all economic activity, as is so often stated (it is only 2/3 of GDP).
Operational Purchases. Operational purchases are those items consumed by business in less than one year. Operational purchases are greater than final consumption, wage and salaries, and capital expenditures. How and when operational purchases are made dominate and determine our business trends.
Dominant Industries. Total business purchases are concentrated in a few industries and operational purchases are probably similarly concentrated. The industries of concentration are food, petroleum and associated products, and steel and associated products. Overall food purchases fluctuate relatively little. Petroleum is relatively stable except in time of war or embargo. The major cause of business fluctuation has been strikes or threats of strikes endangering steel output. The secondary trigger has been war or threat of war.
Reduced Recessions. Earlier research revealed that the unified labor bargaining by steel companies after World War II was causing most business recessions. Revealing this research led to many changes in steel and other bargaining with the result that the frequent occurrence of recessions has been reduced. Purchasing executives and others need to keep this in mind when making historical comparisons of trends.
General Summation. Use purchasing business surveys as the best source of information about many important business trends. Be careful of potential purchasing problems that cause overbuying and then underbuying in large operational purchases. These will be primarily threats of strikes, wars, or major financial disruptions. You purchasing executives are important to your companies and the total business system. Understand and improve your operations and you will help us all.
The Four-Step Process For Using Economic Data to Develop Purchasing Strategy. Data from NAPM business surveys can be used by purchasing managers by applying a four-step process. This process includes collection, analysis, and application of economic information pertinent to individual companies' purchasing and supply situations and development of strategic responses to take advantage of economic changes as they occur.
Step 1. Follow economic information in the news media to determine what expectations for the general economy are. Read your local newspaper, the Wall Street Journal, your NAPM affiliate's business survey reports, group reports, the Report on Business in NAPM Insights each month, Purchasing magazine, and publications for your particular industry; watch Wall Street Week, etc. on TV. This will give you ideas what economists are expecting to happen in the coming months.
Step 2. Relate your industry, company, and suppliers to the overall econom. Most NAPM and other general economic data are "macro", i.e., they apply to the economy in general and not directly to an individual firm. To use such data, you must know how your company and your suppliers are related in the general economy and whether they are affected at the same time as general economic changes.
Step 3. Examine relative differences in how you and your suppliers are affected by changes in the general economy. Not all companies are affected to the same degree by changes in the general economy. To set strategies and priorities, you need to know such differences regarding your company and your suppliers.
Step 4. Assess implications of potential effects and priorities and devise strategies and tactics accordingly. Consider potential effects of general economic changes on your company and your suppliers, and the timing, amount and priority of such effects, and then determine the appropriate strategies to turn such events to the best advantage for your company.
Application of the Four-Step Process to An Example Company. Assume you are the purchasing manager for a company that makes electric motors, it is November 1995, and you are working on purchasing strategies for 1996. Since your company sells motors nationally and to a variety of end user industries, you are concerned about possible impact of changes in the general economy.
Step 1. You have read in newspapers and trade publications that economies in general expect gross domestic product (GDP), an indicator of general economic activity, to grow as follows: +2.0% for the fourth quarter of 1995, +2.5% for the first three quarters of 1996, and +4% for the fourth quarter of 1996. Since you are working on purchasing strategies for the entire year, you decide to use +3.0% as an average for analysis purposes. You know that your company is part of the Standard Industrial Classification (SIC) group 36 - Electrical and Electronic Components and Equipment. You also know that you have three main supply industries: Wire and Castings - from the Primary Metals SIC group 33, steel stampings - from the Fabricated Metals SIC 34, and motor controls - from your own SIC group 36.
To keep up on industry economic information you read NAPM Insights, American Metal Market, and Electronic Buyers' News. You noticed in the November 1995 NAPM Insights that among the most improved industries overall from October to November, Electrical, Primary Metals, and Fabricated Metals were 4th, 6th and 7th respectively. Also, some or all were ranked among those with the greatest month to month increases for production, new orders, employment, order backlogs, and delivery times. In addition, you see that bearings were reported in short supply for the 6th month while copper and steel were reported with decreased prices. This gives you a somewhat mixed scenario of the present state of your buying markets - some are indicating increased activity but price decreases indicate potential softness.
Step 2. To try to zero in and get a better feel for how a stronger economy next year might affect you, you look in your copy of the October 1994 NAPM Insights to get the coefficients of industry sensitivity for you and your supplier industries. You remember reading in that article that these coefficients would give you some idea of how different industries are affected to different degrees by changes in overall economic activity. You find that your industry, Electrical and Electronic Equipment, has a coefficient of 1.63. This means that it was historically determined that if GDP changes from one time to another by 1%, the real (uninflated) gross product (value added) of your industry would change, on average, by 1.63%. Your estimate of GDP growth change between now and next year is +1% (GDP is now growing at 2% and you are using a prediction of 3% for next year). Therefore your coefficient is also the historical average change you can expect since 1.63% * 1 = 1.63%. For your industries you find coefficients of 3.44 for primary metals and 2.56 for fabricated metals. Your motor control supplier is part of your own industry SIC group and thus has the same coefficient, 1.63.
You know that each of the industry groups for which the coefficients have been calculated is very large and varied, and an individual company may not react to GDP changes to the same extent or at the same time as the industry group as a whole. You therefore need companies' activity changes compared to their industries in general. Some companies' activity leads and some lags general activity, and some react similarly to their industry and some react more or less than their industry. To keep this example simple, we will assume that the magnitudes of change for both your company and your suppliers are proportional to their particular industries and the timing of effects on them coincides with changes in the general economy.
Step 3. You look at the coefficients for your industry and your supplier industries and see that your suppliers of wire and castings, with a coefficient of 3.44, are likely to be most affected by your expected 1% change in the GDP growth rate. In fact they may encounter about twice the potential effect indicated by the 1.63 coefficient for your own company and your motor control supplier. Your supplier of steel stampings, with a coefficient of 2.56, would feel an effect about midway between your other two supply industries. To use this information to set priorities for purchase planning attention you also need to determine how close to production capacity your suppliers are currently operating. If they have a moderate amount of unused capacity they should be able to accommodate the relatively small increases in output that the expected increase in economic activity may generate. On the other hand, if they are currently running flat out, increases of even 2 to 4 percent could affect their delivery performance, for example.
Step 4. The final step in the analysis is to determine what purchasing and other business may need to be added, changed, or deleted as a result of the information you have accumulated thus far. Some of the factors to consider include:
- Possible effects of increased output at your company on the amount and type of materials you require from your suppliers.
- Ability of your suppliers to provide additional quantities of material.
- Possible effects of increased production on your suppliers' product quality.
- Possible effects of increased demands on your suppliers on the prices they may want to charge you.
- Ability of your suppliers to provide additional quantities of materials at the times you may need them. Possible need for additional suppliers or substitute materials.
This list is not exhaustive but illustrates some items that should be considered. From review of these and other potential situations, various "what if" and other analyses can be conducted and strategies appropriate to your particular company can be developed and implemented. Continued regular following of NAPM and other business survey reports and other economic news and data combined with periodic application of the four-step process described here will enable you to maintain your purchasing strategies current and appropriate to your requirements and the economy as it affects your company.
This would be particularly important in this example situation since the indications for your supply industries that you found in your initial reading of the November 1995 Report On Business were mixed and may or may not change into definite trends as time unfolds.
By having the coefficient information for your supply industries you have the ability to address potential effects of changes in economic activity on your supply industries. The coefficients provide a guide to the relative effects of GDP changes in industries but you must examine these, considering your own particular circumstances. It must be emphasized that you look at your own individual company situation and that of your particular supply companies and their industries and tailor your analysis accordingly.
The NAPM Report On Business and other NAPM business survey reports provide purchasers with insight and information on development and forecasts for the economy in general and for various individual business sectors. Use of this information by purchasers for analysis and planning as described in this paper will enhance their ability to develop and apply the best purchasing strategies and achieve increased recognition for the strategic role of purchasing in their companies.
Hoagland, John H., Ph.D., C.P.M. Numerous references. Can be provided on request.
Kauffman, Ralph G., 'Make the NAPM Report On Business Work For You." NAPM Insights, October, 1994, 62-64.
Kauffman, Ralph G., "Report On Business." NAPM Insights, November, 1995, 23-25.