CIPS L3M3 revision Benefits and risks of spot purchases (+Q&A)

Introduction

Contracts are legally bidding agreements. Which means not all agreements are contracts.

There are several ways commercial contracts can be categorized for instance;

1. Spot-purchase contracts
2. Term contracts
3. Framework agreements
4. Call offs

Benefits and risks of spot purchases is what we intend to look at here and that means were going to look at spot purchase contracts.

WHAT IS A SPOT PURCHASE?

Spot purchase refers to buying goods or services to meet an immediate need (usually at the time needed) rather than to hold in stock for future user.

An example of a spot purchase is when you need ink for your printer and you order for one immediately.

When dealing with spot purchase care has to be taken since these sorts of purchase make up about 40% of indirect spend.

Indirect spend means cost that are not directly associated with what is being manufactured

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WHERE ARE SPOT PURCHASE CONTRACTS MOSTLY USED?

Before we look at the benefits and risks of spot purchases, you have to understand that spot purchase contracts are normally used for;

• Urgent or emergency requirements. Basically, unplanned requirements like a situation where a key equipment breaks down
• One-off purchases like hiring a tutor to teach a course for a day
• Purchasing low value items such as a stationery to use in a one-day seminar

Having said all that, it is worth noting that spot purchase contracts can be simple or complex and just because you are using it for a one-off purchase doesn’t mean that you through caution to the wind

Example of a simple spot purchase

You can have a simple verbal contract where you make a call to a restaurant and request for lunch to be delivered to your business place. In this agreement you can agree on the menu, the number of people and the food

The point here is, depending on what is being bought, the contract documents, if needed may be quite simple. Also, the contract may not even be in writing, like in the example of ordering office lunch.

The whole thing may not be made up of more than the price, specification, delivery arrangement and a guarantee or warranty.

Example of complex spot purchases

At time spot purchase contracts are used for more complex projects like a minor building or renovating some part of an office.

The contract in this case is going to be more formal and detailed than just ordering some part of a machine, but still there is the general principle of lack of planning and urgency still applies.

BENEFITS AND RISKS OF SPOT PURCHASES

Benefits of spot purchases

Let’s look at the benefits of such to the purchaser and these will include;

1. Quick delivery of whatever is being procured
2. They can take advantage of the current prices in the market, assuming the prices are favourable
3. Since most of this buying doesn’t involve a lot of procurement team, the end user can specify what they want faster and get it

The supplier will also enjoy some benefits in spot purchases, for example;

1. Lack of competition means the supplier can set their own prices
2. Total income may be significant even if individual orders may be of low value
3. Ability to set the terms and conditions the supplier desires

Risks and disadvantages associated with spot purchases

And to start us off let’s look at the risks and disadvantages from the purchaser’s perspective. These will include things like;

1. Lack of price control since orders are placed at whatever price is available on that day
2. There is limited investigation of the market to get the right quality and pricing options
3. End users are rarely trained in procurement and they may end up making ill-informed decisions that can put the business at risk, for instance they may not check if the supplier meet legal standards and regulations

The risks and disadvantages from a supplier’s point of view will include;

1. Ad hoc orders make it difficult to plan production
2. Small quantity orders may require ‘breaking up’ standard boxes or may be uneconomic to produce

BONUS: CIPS L3M3 Questions and Answer to help with your exams

CIPS L3M3 study guide summary questions

Question 1

Which of the following shows the difference between a contract and a simple agreement?

1. All agreements are legally binding.
2. A contract must have mutual consent, while an agreement doesn’t have to.
3. Contracts are enforceable by law while agreements may not be.
4. Agreements require consideration, but contracts do not.

Question 2

Which of the following is an example of an agreement that is not a contract?

1. A written promise to pay for goods received.
2. An invitation to dinner between friends.
3. A signed lease for a property.
4. A formal purchase order accepted by a supplier.

Questions 3

What is a spot purchase contract?

1. A long-term agreement for purchasing goods over time.
2. A one-time agreement for an immediate purchase of goods or services.
3. A framework agreement with multiple suppliers.
4. A contract for leasing equipment.

Question 4

What documentation is typically required for a spot purchase contract?

1. Detailed performance reports.
2. A simple invoice and purchase order.
3. A comprehensive supply chain agreement.
4. Long-term delivery schedules.

Question 5

Spot purchase contracts can help buyers avoid which of the following?

1. Price fluctuations.
2. Unwanted taxes
3. Inventory shortages during emergencies.
4. Long-term supplier performance issues.

ANSWERS AND EXPLANATIONS

Question 1

Answer: C

Explanation: Contract are legally binding and will be enforced by the law, which is not always the case with most agreements.

Question 2

Answer: B

Explanation: Social arrangements, like invitations to dinner, lack the intention to create a legal relationship, which is what makes them general agreements and not contracts

Question 3

Answer: B

Explanation: Spot purchase contracts are mostly one-off agreements that are designed for immediate procurement needs.

Question 4

Answer: B

Explanation: Spot purchases usually involve minimal documentation to speed up the process.

Question 5

Answer: C

Explanation: These contracts allow buyers to respond quickly to emergencies, avoiding disruptions due to inventory shortages.

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