DIRECT AND INDIRECT PROCUREMENTS: WHY THE DIFFERENCE?
Direct and indirect procurements the distinction
A business that is serious about its undertakings will need to clearly learn about the difference between direct and indirect procurements activities. Direct procurements refers to the procurement of inputs and consumables used in the primary activities of the organization, that is, activities that lead to revenue generation, for instance, raw materials used in the production of what the customers are paying for. Indirect procurements on the other hand refers to purchase of inputs that are used in support activities in the business, that is, activities concerned with supporting the primary business functions, inputs like, Maintenance , Repair and Operating (MRO) supplies and other operating expenses.
Why should the difference matter?
There are a number of reasons why one has to be on top of things when it comes to direct and indirect aspects of procurements, here are some of the reasons:
- The quality of goods produced will depend on quality of direct procurements, meaning if one is careless about their procurements quality at this point the results will be reflected in the increase in quality costs, wastage, rejection of goods and eventual reduction in customer numbers. This is not entirely the case with indirect procurement, I mean, the impact of cheap pens used by the head of production to take notes won’t necessarily affect goods being produced
- There is always an ongoing need to ensure that direct procurements are in stock if one is to maintain service levels, otherwise you risk disrupting production flow or lose an opportunity for re-sale in the case of returning customers. Indirect procurements, by contrast, are usually made as and when required, that way you minimize the amount stock held as well as the associated costs. This is why it kind of is pointless to have a lot of staplers hanging around unless you are in the business of selling office stationaries.
- When it comes to supplier relationships and negotiations tactics, direct procurements requires collaborative supplier relationships to ensure security and continuity of supply. Indirect procurements on the contrary, it is advisable to go with transactional relationships, meaning since they are one off purchases one can leverage price competition to their advantage without bothering with supplier relationships.
Conclusion
The chief purpose of a business is to make profit and looking at it from the profit angle the cost of direct procurements will be included in the cost of goods sold hence if we reduce these costs we increase the gross profit which is a way to ensure increase in net profit. Indirect procurements on the contrary, will be reflected in the costs associated with overheads basically, indirect costs while. While reducing these costs will improve on the net profit, they have no effect on gross profit. The reality in organisations is that the costs of direct procurements is often very high and that means a need for procurement and supply chain functions to be improved on for better bottom-line profit.