Process Validation for Cost Reduction

Case Study

Process: Procurement Payment [P2P]

Industry Item

Automobile Packing Material

Background:• No review of P2P process since inception.• Top Management suspected collusion between suppliers and its own employees

responsible for P2P functions for packing material.• Management asked us for recomendations to improve P2P process that should lead

to cost reduction.

P2P Process Actual Status [Validation]

R&D

Finance

Purchase

Indent/ Stores/

QC

• Release of original specs & its modifications

• Receive quotations • Cost comparison• Selection of vendor• Raising of PO on vendor

• Prepare Indent• Receive & confirm

quantity/quality as per PO & vendor Invoice

• Prepare GRN

• Verify Invoice with PO & GRN

• Payment to Vendor

Specs document for items not in order. Specs are modified by purchase/ store (unauthorized)

No criteria for vendor selection/evaluation and PO terms & conditions not clear (e.g: absence of conversion rate for U.O.M.)

No Segregation of duty to perform different function and no check to confirm quality /quantity at receipt stage itself

No reference to vendor category leads to preferential payments to ineligible vendors

One man show / Maker checker method not followed High risk for collusion with vendor

Critical Observations

Specs

PO Specs

PO Specs

GRN

PO

GRN

Invoice

Payment

Acronyms: R&D = Research & Development | Specs = Specifications | PO = Purchase Order | GRN = Goods Receipt Note | UOM = Unit Of Measurement | QC = Quality Control

Process Flow

Methodology

Challenges faced Non co-operation from related staff for access to records/critical information/vendor

R&D

Finance

Purchase

Indent/ Store/

QC

• Verify specification document control• Verify specification maker/revision/modification authorization control

document

• Review of bill passing/payment process• Verify record of documents (Invoice, PO, GRN) to release payment with

authorization level

• Review of vendor selection & evaluation process• Review and verify records of vendor quotation, cost comparison document,

vendor master, purchase orders • Joint visit to vendor with purchase department personnel

• Verify indent, GRN and rejection documents • Physical verification of material at receipt, main store, dispatch area and

finished goods store • Study of Job responsibility with authorization matrix

Acronyms: R&D = Research & Development | PO = Purchase Order | GRN = Goods Receipt Note | QC = Quality Control

Implications

Auditee’s comment It has shaken us!

R&D

Finance

Purchase

Indent/ Store/

QC

High rejection costPoor handling of specs documents Receipt of material of different specs & inferior quality Transit damages to finished goods High rejection cost

Interest lossNo reference to vendor category Non-utilization of credit period Preferential payments to ineligible vendors Interest loss

High cost & inferior qualityNo criteria for vendor selection No periodic vendor evaluation Selection of wrong vendor Vendor monopoly/inconsistent deliveries High cost & inferior quality

Excess payment to vendorNo segregation of duty No “Maker- Checker Control” Collusion with vendor Acceptance of inferior quality/short qty Excess payment to vendor

Acronyms: R&D = Research & Development | PO = Purchase Order | GRN = Goods Receipt Note | QC = Quality Control

Recommendations

Recommendations appreciated and implemented by Management; Disciplinary action taken against concerned employees

R&D

Finance

Purchase

Indent/ Store/

QC

• Introduce strict control on specs document specifically with reference to modification - Must be only by authorized person of R&D

• Strictly follow 3-Way matching principle (Verify Invoice > PO > GRN) for payments

• Establish vendor selection criteria and introduce periodic evaluation process of vendor

• Make clear PO terms for correct judgement by Stores , QC and Finance

• Define job responsibility to ensure “Maker- Checker ” principle• Identify rejection before release of GRN• Training of personnel for quality inspection

Acronyms: R&D = Research & Development | PO = Purchase Order | GRN = Goods Receipt Note | QC = Quality Control

Case Study – Reference Data

Excess outflow of 19% of total packing material procurement cost on account

of inferior quality of material.

(Packing material forming 4% of total procurement cost)

Excess outflow of 7% of total packing material procurement cost

on account of non-availability of conversion rate for U.O.M.

81%

19%

Total packing material cost Loss due to inferior quality

93%

7%

Total packing material cost Excess outflow

Acronyms: U.O.M = Unit Of Measurement