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The operations department of ABC Ltd has recently launched a new product. The product is manufactured within a large factory and then sent to retailers for sale. The department has a system in place which details the components required for the product and the quantities required to fulfil customer demand. The system works online and links to other areas of the business including HR and finance.
So far, several large orders have been placed for the product from different retailers. The Chief Operations Officer (COO) has decided to programme the completion of the orders based on when the orders were placed. The benefit of this strategy is that it will give each customer a similar lead time. Thus far no buffer stock has been created as products are only created when orders are received.
Three teams are required to make the product and the product flows from team one to team two to team three, each team adding a component to the product. Unfortunately, team two are short staffed and are completing their work at a slower rate than the other two teams. This is a huge consideration for the COO as it will impact upon the capacity of the organisation.
The retailers have all signed contracts with ABC Ltd and the COO is extremely happy that they are long term contracts. Contract 1 is with retailer X and the price is set for three years. Contract 2 is with retailer Y and is a five year contract where the price will be reviewed annually in line with CPI. Contract 3 has a variable pricing mechanism based on the volume of products ordered.
What pricing mechanism is being used with supplier Y?
Indexation is the correct pricing mechanism because the price is adjusted based on CPI (Consumer Price Index), which is a form of indexed pricing. This ensures that prices fluctuate in response to inflation or other economic indicators. (See LO 3.3)