1

Chapter 5

Reasonable Purchase Price and the Criteria for its
Determination
(Knowledge of Reasonable Purchase Price)

Abstract

This chapter describes a basic view of the reasonable purchase price required in the DTCN/DTC methods
and the criteria for determining it.

The basic view includes:
1. Steplist for a reasonable purchase price
What determines a reasonable purchase price ? This is a practical article published by the author in
1973, and is the origin of all the activities connected with developing the methods described in this book.
2. How to use a price/cost breakdown table for cost control
Appropriate and reasonable cost control requires that we know the details of the keys. A price/cost
breakdown table provides the details. This subsection describes the requirements for a table, how to
make, use, and check a table, and important principles.
3. Price determination criteria
Whereas subsection 1 describes the step-by-step method for determining a reasonable price, this
subsection describes more general and fundamental criteria for determining a reasonable price.

06-Chap 5 R2
DTCN/DTC method Copyright Michihiko Esaki 1998/2000 ISBN 0-941243-00-1
2
Chapter 5.

Reasonable purchase price and the criteria for its determination

5.1 Steplist for a reasonable purchase price
5.1.1 Introduction
5.1.2 Viewpoints on preventing personal loss
5.1.3 The way of thinking about a reasonable purchase price
5.1.4 Steplist for a reasonable purchase price
5.1.5 Discussion

5.2 How to use a price/cost breakdown table for cost control
5.2.1 Introduction
5.2.2 What is a price/cost breakdown table?
5.2.3 Price/cost breakdown table to understand cost
5.2.4 Price/cost breakdown table to provide room for cost control
5.2.5 Discussion

5.3 Price determination criteria
5.3.1 Introduction
5.3.2 Pricing principles
5.3.3 Purchase price policy and the overall adjustment factors of the policy
5.3.4 Types of prices
5.3.5 Viewpoints required for a purchase price policy
5.3.6 Purchase price patterns and the factors to change them
5.3.7 Purchase market investigation
5.3.8 Technical purchasing ability
5.3.9 Discussion

06-Chap 5 R2
DTCN/DTC method Copyright Michihiko Esaki 1998/2000 ISBN 0-941243-00-1
3
5.1 Steplist for a reasonable purchase price
5.1.1 Introduction
5.1.2 Viewpoints on preventing personal loss
5.1.3 The way of thinking about a reasonable purchase price
5.1.4 Steplist for a reasonable purchase price
5.1.5 Discussion


5.1.1 Introduction

(1) In response to the questions, "What is a reasonable purchase price, and what determines it? ", this
section introduces the way of thinking to practically justify a new price when the old price must suddenly
be changed after reconsideration.
(2) Taiichi Ideriha and the author jointly created and published this way of thinking in the proceedings of
Society of J apan Value Engineers in 1973. This way of thinking is the origin of the methods introduced in
this book and is the starting point for all the techniques in the DTCN and DTC methods. Although it
contains some things which are difficult to understand, it is introduced to reflect the social thinking in
1973.

There have been discussions on how to introduce value engineering methods into enterprises.
Investigators have reported that "it is important to obtain the direction and understanding of top
management," "experiences are essential for understanding VE," and "the method for persuading the top
management to introduce VE must be taken into account before proposing VE."
Lawrence D. Miles stated in Chapter 11-6 of his book "Techniques of Value Analysis and Engineering,"
his point of view with respect to "minimizing the risk of personal loss":

Minimizing the Risk of Personal Loss
A series of research studies brought forth the surprising information that most decisions are made
on the basis of avoiding or minimizing personal losses, such as reduction of authority, dismissal, or
embarrassment. This finding seemed so improbable and so startling that it caused the writer to think
back through several of his most difficult decision-making experiences, especially a considerable
number which he knew were wrong, but which had to be made in a certain way. Surprisingly, every
one of these decisions was made to avoid or minimize personal loss. Again it is suggested that the
reader stop to reflect on and analyze some of his own decision-making experiences before proceeding.
06-Chap 5 R2
DTCN/DTC method Copyright Michihiko Esaki 1998/2000 ISBN 0-941243-00-1
4
A few examples of situations in which the danger of suffering personal loss occurs may further
illustrate the point in question:
A purchasing agent may for years have purchased a product from one supplier, even though this
supplier may not have kept pace with either technical progress or value innovation. A decision by the
purchasing agent to change over to what seems to be a better product at a lower price brings
immediate danger of personal loss. Every change brings risk.
The engineer who traditionally used a certain type of assembly for accomplishing a certain function
and has decided to change to the use of what he believes to be a simpler, more reliable, and certainly
much more economical assembly is certainly taking a chance of personal loss. So, in order to reduce
the cost dramatically, it is important as a first step "to take every measure possible to minimize fear
of embarrassment or personal loss which comes, or may come" as these fears are apt to cause
opposition to the change.

From this viewpoint, measures to prevent personal loss resulting from a sudden change in price were
considered, and the framework of the following "Steplist for a reasonable price" was created (Note 1).
Because the steplist seemed to be able to not only prevent loss, but also allocate staged decisions from
various grounds, it was enlarged to the management control cycle of new products in mass production.

(Note 1) Needless to say, "the case where the way of thinking introduced here can be applied partially and
as a whole" is limited to "the case where the way of thinking is accepted by both parties as the relation of
offer and acceptance."


5.1.2 Viewpoints for preventing personal loss

A reasonable price steplist was prepared in the following situation. When an enterprise examined the
possibility of reducing the cost of their products, the price of the product could be reduced by about 90%
after simple examination. The author was consulted by the Senior Manager of the Purchasing
Department. (Disclosure of this fact would cause criticism about their work as well as of the person in
charge and his/her superior.) The Senior Manager of Purchasing Department needed to explain the
reduction in price in a reasonable way. In other words, the price could not be reduced unless the loss of the
authority of the persons in charge was prevented. The author, therefore, used the following very general
viewpoint to solve the problem. That is, the viewpoint, "discussing from future results side is much easier
than discussing from past side in details" was used.
06-Chap 5 R2
DTCN/DTC method Copyright Michihiko Esaki 1998/2000 ISBN 0-941243-00-1
5
The original price, which was 10 times higher than the reconsidered price, was based on insufficient
information at the time that it was decided. The price was reduced because the production line stabilized
and more information was obtained. The reconsidered price does not acknowledge the presence of a
contract specifying that no mutual price reconsideration will be performed.
This way of thinking can be theoretically explained if price reconsideration over time is stratified. That
is, the loss can be prevented by proving the time sequence of the previous and new figures. This theory is
affirmed by those who understand that everything has to be reconsidered and that a decrease in unknown
elements may result in unexpected outcomes. Therefore, the purpose of publishing his paper is to remove
the useless resistance to drastic cost reduction, which seems discontinuous with the previous phase.


5.1.3 The way of thinking for a reasonable purchase price

A reasonable purchase price is decided based on the relationship between offer and acceptance [Note 2].
The price becomes the knot of cooperation between the purchaser and supplier. The general background
factors of the offer and acceptance include the following facts:
(1) No enterprise can purchase products unless their prices are agreed on.
(2) The function and price of a product purchased by an enterprise must be socially related to those of the
upstream product or system produced by the enterprise.
(3) In the above framework, a reasonable price must be based on business trading principles beginning
with the offer including reconsideration.
(4) The price initially agreed on by both the purchaser and supplier within a limited time should be
reconsidered within a limited period if the price is found to be unfair or partial.
(5) When it becomes evident that the system project cannot be continued as a result of reconsidering the
price, and in spite of various overall examinations, adjustments, or actions, the project is socially useless.
Replacing the project or discontinuing it should be examined.

Figure 5.1-2 shows the above relations..

(Note 2) The Uniform Commercial Code in the United States (U.C.C.: something like a combination of
commercial and civil law in J apan) best covers the relations between Offer and Acceptance from a
business trading viewpoint. Figure 5.1-3 shows Article 2-206, which is the basis of the Code. This is
essential in trade with US companies and is also helpful in J apan.

06-Chap 5 R2
DTCN/DTC method Copyright Michihiko Esaki 1998/2000 ISBN 0-941243-00-1
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5.1.4 Steplist for a reasonable purchase price

The previous subsection described the basic way of thinking about a reasonable purchase price.
If we make the step breakdown of the process from the concept of a product to its production phase, we can
recognize the process in which the viewpoint of evaluation and judgment to look at things will vary
considerably from a vague stage to a confirmed stage.

Figure 5.1-1 shows the steplist for a reasonable purchase price. The relationships of reasonability in the
above evaluation and judgment standard about a reasonable price were broken down into steps, and the
contents of each step were divided into inputs and outputs. The relationships of reasonability in each step
were arranged so that the output in a step would be acknowledged before proceeding to the next input.
This steplist is divided into the following phases:
(1) Concept phase
(2) Breakdown phase
(3) Implementation phase
(4) Steady phase
(5) Review phase

Although the steplist starts from the concept phase of a new product, any phased step can be used to
examine the price. Moreover, any phased step can be used for purchasing any product by adjusting the
content of each item. Furthermore, the following principles can be derived using the steplist:
(1) When it is necessary to reconsider or review a product already in production through VE examination,
the review work should start by reaching an agreement on preconditions before reconsideration or review
work is done. Figures 5.1-4 and 5.1-5 are examples of the pre-condition discussion and agreement for the
reconsideration or review. Format A is designed for a product to be developed and Format B is for review of
a developed product.
(2) When there is compensation for results gained through reconsideration or review work in cooperation,
it is better to determine each receiver's share by the degree of contribution and utility after the result is
obtained (it is also possible to pay compensation as a reward for reconsideration- related labor). The
discussion, or the share or the compensation before a result is obtained may shift the point of discussion to
deal with the share of the result. This may lead to withholding good ideas to get a good result. Therefore it
is enough to discuss the share of the result after a good result is obtained.

06-Chap 5 R2
DTCN/DTC method Copyright Michihiko Esaki 1998/2000 ISBN 0-941243-00-1
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5.1.5 Discussion

The above subsections mainly describe the history of the steplist for a reasonable purchase price.
Because the steplist was developed for a specific product, it would be necessary to adapt it to meet the
needs of each industry.
The author would be happy if the steplist helped various optimization activities in the present changing
management environment.
See Subsection 1.2 "Decision-making mechanism by information of difference" and Subsection 5.2 "How
to use a price/cost breakdown table for cost control" for the method to compare similar products, the
essentials for the condition of estimate specifications, and the requirements for a price/cost breakdown
table.

References
[1] The United States UCC (Uniform Commercial Code, 1958-1968) accepted in each state of the United
States
06-Chap 5 R2
DTCN/DTC method Copyright Michihiko Esaki 1998/2000 ISBN 0-941243-00-1
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Fig. 5.1-1 Steplist for a reasonable price
i Note j P D Approved by manager or chief of section is required beforeany output step is tobeutilized for next input step.
Q D In casenosolution is availableat each step, it is necessary toreturn totheprevious step.
Input Output
Step
Steps
Items Pre-assuranceactivity Items Post-assuranceactivity
Pricestandard Notes
Output
approval
level
T
Definition of
task
requirements
Selecteditemsubject to
purchaseor system (Eng.)

Chooseperson whotakescare
of settlingcompanys
international matters&
person relatedin each
department
E Specification of our
company(draft)(Eng.)
Specificationsof
estimatetermsand
conditions (Production
andMaterial Dept)
Check contentsof spec.
accordingtochecklist
Approvethetermsand
conditionsof estimation

U
Selection of
applicablevendor
for
estimate
(Qualitative)

List of applicablevendors
andpart No..
Specificationsof our
company(draft)
Termsandconditionsfor
estimation
Advertisefor applicable
vendor (domesticandforeign)
Reviewvendorsyear book
SendRFP toapplicable
vendor
VendorsSpecifications
Vendorsestimation i T j
Evaluation of vendors
design/production facility
Evaluation of vendors
financial ability

Evaluation of abilityistobemade
accordingtopast & present business
accomplishments

E






























C
o
n
c
e
p
t


p
h
a
s
e

V
Evaluation of
fulfillment for
price&
engineering
requirements
Vendors
specifications(draft)
Vendorsestimation( U j
Budget/target price
Datafor similar item
(specificationsandprice)
Reviewspecificationsand
estimation.
Combinespecification of our
company& vendor.
Vendorsre-estimation with
price& cost data i U j
Implementationplan
Preliminarytest plan (as
required)
Comparison tableof
potential vendors.

Evaluatethetechnical &
financial accomplishment for
requirements.
Check if theproduct already
on themarket
Comparewith master
schedule& seeif thereis
enough time.
Clarifycritical path
Makecomparison worksheet
for final selection of each
purchasepart item.
Similar price
Budget price
Functional price
Evaluatequotation bypriceandcost table
of maker isrequiredtoprovidetheprice
andcost table.

W
Selection of
vendor
E Combined
specificationsof our
companyandvendor
E Vendorssecond
estimate i U j
E Schedule(draft)
E Plan for preliminary
test (asrequired)
Comparison worksheet for
final selection
Examineof requirementsby
functional test andinspection
of initial product;Q/T,FAI
Examinepatents
Negotiatethepriceandfixthe
quotation
Preliminaryselectedvendor
Final specifications
Implemetation plan (draft)
Final quotation (Y )
i Accordingtonegoresult.)
Priceandcost data
andtable (W)
Tocheck adequacy(Major
assurance)
Check that price& cost table
dataareconsistent by
sampling (usetechnique
of sampling,similar part,
weight,etc.)
Takecontingencyplan leadinguptofirst
deliveryof lot 1& other risks.


B
r
e
a
k
d
o
w
n


p
h
a
s
e


X
Placingorder
andcarryingout
plan
Implementationplan
Final quotation ( W j
Final negotiation prior to
contract (deliveryterm,price
etc.)
Examination of final
quotation
Purchaseorder
Actual scheduleupto
deliverydateof first
lot.(includingfunctional test
& inspection requirements
for initial product;Q/T,FAI.
Makecontract
Check detail schedule(to
clarifycritical path)
Makeperiodicreport for
schedule,anddeterminewho
isresponsibleat each
checkpoint of schedule.
Similar price
Budget price
Arrangedprice
Price& cost
eanalysis
Toclarifythedivision responsible& person
in chargewhen follow-upisscheduled.

I
m
p
l
e
m
e
n
t
a
t
i
o
n

p
h
a
s
e

Y
Stagein practice
uptodeliveryof
first lot
Submittedmanufacturing
schedule
Engineeringdesign
Actual manhour
Graspedachievementsfor
standard amount of
material
Pricecost table i W j
Termsandconditionsof
estimation(Y )
Obligatevendor toprepare
cost dataof lot 1and2
Determineprocessing
man-hour bydividinginto
SET & RUN
Standardmanhourson
mfg.shoporder
Product result
Itemtobeimproved
Manufacturingproblem,
Performanceandthe
improvingschedule
Price& cost datatableby
actual result(Y )(Divideinto
non-recurring& recurring
expenses)
Check theresult accordingto
checklist
Select of drill-check point.
Clarifytheitem(draft)for
improvement.(Estimate
necessaryamount moneyfor
improvement)
Decidewhich pricesystemcan
betaken fixpriceor lot size
pricing(Seeremarks)
Reviewanddeterminethe necessary
matter between our companyandvendor,
andtheengineeringandpurchasing
person in chargetosummarizetheactual
result in manufacturingand
performance.
Applythelearningcurve.
Takecorrectiveactionfor material and
partsbyactual measurement & actual
purchasingprice.
Clarifyprocesscost bythedifference
between actual andthestandard time.
In lot sizepricing,thepriceisdecided
accordingtothelot sizeorderedin
proportion tonon-recurring& recurring
expense.

S
t
e
a
d
y

p
h
a
s
e

Z
Stagewhere
stabilization
begin after lot 3.
Re-evaluation for
reasonableprice
Scheduletoput into
practicethedraft for
improvement of
production
Extraction of controversial
points fromcontingency
standpoint
Terms& conditionsfor
improvement i Z j
List of what pricesare
consistent i Y j
Datatoreview
establishment of price&
deliveryterms
Proceedtechnical survey
Calculation of standard
manhours
Check andfindthedifference
in techniquebycomparing
standardmanhoursbetween
twovendors.
Periodicreport of theresults
executedfor promotion.
Establishedpractical
methodbyeliminatingthe
contingencyfactors.
Examinedresult byour
companyof theprice,cost
data,profit &
re-establishment of unit
priceasrequired
Established scheduleto
proceedannual review
Reviewtheresult byspecialist
Refer tostandardquality
Check accordingtochecklist
Equalization of profit
Decidethethemetobe
reviewedannually
Establish VAplan toproceed

Pricestandard
manhours ~
rate+G.C.I.P
Usecost
analysis
technique
Uselearning
curvecosting
technique.

(Check accordingtocost analysis
techniquebyusingcost andprice
breakdown table)

R
e
v
i
e
w

p
h
a
s
e

[
Annual
review&
stage of
analysis)
Submittedthemeto
bereviewed
Submitteditemstobe
examinedwith VA contract
Policyand
examination of
design changes

Settlethecontents
of VAcontract
Settlethecontract
Design changesas
necessary

E Itemsput into
practiceasaresult of
review.
E Summarization of V.A.
activityresults.
Enforcement schedulefor
design change.
Reviewandnegotiatethe
reasonablepriceduetoa
recommendableprice,
accordingtodesign
change
Methodof cost
analysisby
usingpriceand
cost breakdown
table.
Wagerate
Standardprice
of material
Escalation
clauseswith
indices
ERelatedmatter tobediscussed
EStandardof VAcontract(draft)
E 1
st
year topay vendor 50%of money
saved byV.A.after subtractingthe
moneytoproceedV.A.activity.
E 2
nd
year ; Pay 40%
E3
rd
year; V V 30%
E4
th
year, V V 20%
E5
th
year, V V 10%
(Note:Thisclauseisnot necessarywhen
investigation cost for improvingis
allocatedandcontractedtobepaid)


06-Chap 5 R2
DTCN/DTC method Copyright Michihiko Esaki 1998/2000 ISBN 0-941243-00-1
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Fig. 5.1-2 Position of reasonable price and categorization by name
Note 1. Means one way,, means possibility of mutual adjustment.
Reasonable price
(I ncluding reviewed price)
Delivery plan
Polcy of purchasing
price
Principle of
purchasing
Purchasing budget
Budget plan
Profit plan
Management policy of
project
D
e
s
i
g
n

S
p
e
c
.

a
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d

p
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n

S
p
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c
.
(
V
a
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s

d
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n
d
i
n
g

o
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p
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a
s
e

s
t
e
p
)

Note2. Policy of purchasing price consists of the following elements:
1. Sort of price
(1) From the viewpoint of cost price : Consistency, expenses, accounting, special price, actual
expenses and estimate price
(2) From the viewpoint of contract : Compromise, agreement, negotiation, contract, large
demand,rough estimate, reasonable, fixed, custom, precedence, billing, proposal,
J ASDF,development, reviewed and correct price
(3) From the viewpoint of free market : Freedom, market, fixed price, precedence, contract,
acquired matter, domestic, international, uniformity, competition, supply, price of demand,
whole sale price, official quotation, open price
(4) From the standpoint of control : Control, official rate, distinction, uniformity, accounting,
compensation for expenses set up by Defence Agency
(5) From the standpoint of monopoly : Monopoly, exclusive, one-sided, agreed price based on
supply and demand
(6) From the standpoint of domestic industry protection G Official rate, control, negotiation,
contract, encouragement, compensation of cost price, distinction, duplication, precedence,
existing price
(7) From the standpoint of calculating skill G Rough estimate, schedule, budget, precedence,
cost accounting, solidity, bareness, rate of diminution, standard cost & basic price
QDExample of background rule to be mainly picked up
(1) The rule of maintaining degree of operation
(2) The rule of adequacy
(3) The rule of proper timing
(4) The rule of sharing burden of proportional expenses.
(5) The rule of traditional system
(6) The rule of techniques
(7) The rule of solvency
(8) The rule of substitution
(9) The rule of maintaining position in the market
3DThe rule of maintaining position in market of purchasing price
(1) A type of active priceGThere are price plotting & initiative types
(2) A type of passive price
06-Chap 5 R2
DTCN/DTC method Copyright Michihiko Esaki 1998/2000 ISBN 0-941243-00-1
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Fig. 5.1-3 UNI FORM COMMERCI AL CODE 2-206



Basic concept to form a contract by relationship of offer and acceptance
in UNI FORM COMMERCI AL CODE Chapter2~206

UNI FORM COMMERCI AL CODE

2-206. Offer and Acceptance in Formation of Contract
(1) Unless otherwise unambiguously indicated by the language or circumstances
(a) an offer to make a contract shall be construed as inviting acceptance in any
manner and by any medium reasonable in the circumstances;
(b) an order or other offer to buy goods for prompt or current shipment shall be
construed as inviting acceptance either by a prompt promise to ship orby the
prompt or current shipment of conforming or non-conforming goods, but such a
shipment of non-conforming goods does not constitute anacceptance if the seller
reasonably notifies the buyer that the shipment is offered only as an
accommodation to the buyer.
(2) Where the beginning of a requested performance is a reasonable mode ofacceptance
an offeror who is not notified of acceptance within a reasonable time may treat the
offer as having lapsed before acceptance.


06-Chap 5 R2
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Fig. 5.1-4 Conditions format of estimate for product to be developed (Format A)
Division
To; Date of issue Person in charge
Date of answer Person in charge
Conditions Estimate (Form A) Date of decision Person in charge
The purpose of these estimate conditions is to clarify and agree before product estimation.
However adjustments can be made if circumstances and time are changed.
Part No. Nomenclature Qty^
Aircraft
Year
No.of
aircrafts

Delivery

No.
I tem Our proposal
Your
proposal
Agreed Note
P Delivery price
This column item can be skipped
before going to the next step.
Q Specification
Drawing
Engineering Spec.
Vendor must write the conditions
to agree to our requested price
as necessary
R
Manufacturing
hourly rate

S
Category of
man-hour rate
(in house,
sub-con)


T Lot size


U Material cost
Actual result
or estimated

Clarify whether result or estimate.
V J ig cost
Show plan of
number of tools

Show a price/cost structure table
for high cost tools and jigs.
W
Development
cost
Cost must
be developed
to phase plan

Use price/cost table.
X Yield rate


PO G.C.I .P


PP
Price
contingency
negotiating
conditions


PQ
The risk until
first delivery
Your company owes
cost of development

I f you do not need to owe the risk cost,
how much does the price changes?
PR
Escalation
formula

PS
Learning
curve %

06-Chap 5 R2
DTCN/DTC method Copyright Michihiko Esaki 1998/2000 ISBN 0-941243-00-1
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Fig. 5.1-5 Conditions format of estimate for reviewing the product price (Format B)
To Division
Date of issue Person in charge
Estimate conditions (Format B) Date of answer Person in charge
Date of agreement Person in charge

Part No. Nomenclature Quantity
^Aircraft
Note



No. I tem Our proposal Your proposal Agreed Note
Set

P

Learning %
Run


Q
SET TI ME
Standard time

R
RUN TI ME
Standard time

S Manhour rate

T Yield rate

U Amotizing expenses

V G.C.I .P

A I tem
Each part
Each process

B
Manhour
rate



C
Std. Time
Basis

D Lot size

E
Number of
aircrafts
for
allocated
expenses

W
C
o
n
d
i
t
i
o
n
s

f
o
r

m
a
k
i
n
g

t
h
e

p
r
i
c
e
/
c
o
s
t

s
t
r
u
c
t
u
r
e

t
a
b
l
e


F Others

X Material to explain the
jig cost

PO
Material to explain the
development cost

PP Others

06-Chap 5 R2
DTCN/DTC method Copyright Michihiko Esaki 1998/2000 ISBN 0-941243-00-1
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5.2 How to use a price/cost breakdown table for cost control
5.2.1 I ntroduction
5.2.2 What is a price/cost breakdown table
5.2.3 Price/cost breakdown table to understand cost
5.2.4 Price/cost breakdown table to provide room for cost control
5.2.5 Discussion


5.2.1 I ntroduction

This section describes the objectives of a price/cost breakdown table and how to use it
effectively in cost control.


5.2.2 What is a price/cost breakdown table ?

A price/cost breakdown table (Figure 5.2-1) shows the details of a product, or the product's
component prices and process costs.
To clarify or try to clarify the details of price and cost, the table provides a map and scale, or
a draft plan for all the fields where reasonability is required, such as technique, quality control,
cost control, cost itself and production span. When this is further divided to clarify the details
of cost, the table:
(1) provides a map to check any cost mistakes (i.e., the cost is too high or too low) and any room
for improvement, and
(2) provides a map and scale for cost control
Subsections, 5.2.3, "Price/cost breakdown table to understand cost" and subsection 5.2.4
"Price/cost breakdown table to provide room for cost control" will describe the way of thinking
and viewpoints for (1) and (2).


5.2.3 Price/cost breakdown table to understand cost

The price/cost breakdown table indicates the details of a price and is effect in any situation
where price reasonability is required. To concentrate on the points of the table, this subsection
describes the effectiveness of the table in understanding cost, and eight principles for
06-Chap 5 R2
DTCN/DTC method Copyright Michihiko Esaki 1998/2000 ISBN 0-941243-00-1
14
understanding cost. The basic thinking behind the eight principles is based on the doctrine of
the DTCN/DTC methods, that is, "the utmost purpose of an enterprise is to create customers;
to create customers, the enterprise must survive; and to survive, it must earn a reasonable
profit." I t is also based on the thinking of the steplist for a reasonable price.
When the price/cost breakdown table is used on the basis of this thinking, prices and costs
can be understood by recognizing and introducing the following 8 principles:

First principle
Most of the cost of a product consists of labor cost, appropriate profit, and a small sum of tax,
excluding raw minerals and ore that can only be purchased at the market price.

Second principle
I t is always possible to find an reasonable cost through "reconsideration", taking account of
wage increases. The following explains why and outlines the measures to find the reasonable
cost:
(1) Some cost estimates may be on the safe side, whereas others may include missing costs. The
missing costs must be recovered.
(2) Cost is improved as time passes, without exception. I n particular, because risk cost is
removed after completion of a prototype and when production has stabilized, the total cost can
be reconsidered and improved (based on the thinking of a steplist for a reasonable purchase
price).
(3) Closely examining the details of price and cost using a price/cost breakdown table yields
several views. As for man-hours, on which labor cost is based, Figure 5.2-2 shows a learning
curve indicating the relation between production quantity and man-hour reduction.
There are the following 2 views of the estimated man-hours using the learning curve.
@Estimated man-hours using the learning curve, starting from initial results (curve from the
direction of A in figure 5.2-2)
A Estimated man-hours using the learning curve, starting from standard manhours (bottom
of learning curve) (curve from the direction of B in the figure 5.2-2)

Based on the above views, A, and B, C, and D in Figure 5.2-2 can be explained as follows:
A: Man-hours after sufficient reduction, or when work contents are well known and controlled.
According to the late Hisaichi Yano of the J apan Defense Agency, who proposed the man-hour
learning curve rate, the learning curve rate should be used only when the man-hours are not
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known.
B: The difference between the standard man-hours (bottom of learning curve) (A) and
estimated man-hours when a certain Serial is set as the bottom of the reduction and man-hours
are returned to younger Serials by a learning curve.
C: Remainder after subtracting A and B from the actual result line (almost any cost collected
from an actual site (Genba) can be said to not have been sufficiently improved), from the
viewpoint of exhaustive cost reduction.
D: Remainder after subtracting A from the actual result line (result in C).

D is the "difference of information" for finding a reasonable cost. Negative D indicates that
man-hours have been greatly improved over standard man-hours. Positive D indicates that
there is room for improvement.
The positive D is viewed as including insufficient control or effort. The review, or cost
reduction, can be processed according to the following principles, and actualized according to
the 3-5 phase improvement method.

Third principle
I t is always possible to obtain, prepare, or investigate a price/cost breakdown table for any
object when the following conditions are met:
(1) There is no in-house or intra-organizational obstruction to providing and investigating a
price/cost breakdown, as long as there are reasonable purposes and standpoints, and
(2) The basic material contract transaction (see Material 5.2-1) has been concluded.
This contract is usually concluded when J apanese corporations make a transaction. Article 5
allows for a request for a price/cost breakdown table, and Articles 20, 27, and 38 allow for an
investigation at Bs facilities. I nvestigating the price/cost breakdown table provides a map that
indicates which part of the cost can be examined and improved through the cooperation of both
parties (Material 5.2-2 indicating the notification of the Ministry of I nternational Trade and
I ndustry on the next page of Material 5.2-1 is the guideline for examining and improving the
cost between companies).
(When an enterprise, such as a trading company, exists between the purchaser and the
manufacturer, Article 20 of the contract should be revised so that it also applies to the third
party and so on.)

Fourth principle
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Before requesting or "reconsidering or reviewing" a price/cost breakdown table, it is
necessary to reach an agreement on the reconsideration for review policy as in Table 5.1-4, or
the estimate conditions for reviewing the product price, as in Table 5.1-5. This is essential for
directing subsequent jobs and avoiding possible disputes.

Fifth principle
A price/cost breakdown table for each part or process will provide technical experts on
general processes with a map for looking through and understanding the detailed purchase
part and the man-hours of the process to be improved.
I t also helps us:
(1) approach problems and find solutions by assuming numerical gaps to be technological gaps
(note: the technique includes control or management technology),
(2) detect processes containing unnecessary man-hours, and
(3) compare "similar parts" more easily.
(Note) The following story exemplifies (1) (See Figure 5.2-3).
A price/cost breakdown table showed that the process of cutting a 1 inch diameter steel rod
required 1 man-hour. Although the experiences of the author suggested that the work required
10 to 15 minutes at most, he did not immediately discuss the matter, but investigated the field
site of the process. As a result, it was shown that the steel rod was cut with a reciprocating
metal saw instead of the cutting-off tool of a lathe. As shown in this example (Fig. 5.2-3), a
numerical difference in the estimate of man-hours becomes evident when there is a difference
in technology.

Sixth principle
The most important principle when a problem is detected or suspected after reconsidering or
reviewing a price/cost breakdown table is to observe the field side (genba) or facilities and make
an opinion based on observation without requesting an explanation of the problem. I t is an
important principle to start from an opinion based on the field (genba) site and have frank
discussions about the possible improvements.
Treating the problem from the opposite process direction will lead to unproductive disputes,
failure, or bad relationships (See Figure 5.2-3 left side bad approach process). To start from
observation at the field (genba) site is an absolute principle.

Seventh principle
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The final reasonable price is obtained from the following formula:
Final reasonable cost ={minimum standard cost } overall adjustment factors
Minimum standard cost: minimum cost that can be understood
Overall adjustment factors: factors to be taken into account of the period and plant rate of
operation before the minimum standard cost is obtained
See Section 5.3 "Price Determination Criteria" for the overall adjustment factors.

Eighth principle
A reasonable profit added to the final reasonable cost is essential for a company to survive.
When a project cannot keep a reasonable profit due to competitive market prices, the impartial
profit or transitional negative profit must be allocated to each party before getting reasonable
profit. When there are no future prospects of reasonable profit, the project must be
discontinued.


5.2.4 Price/cost breakdown table to provide room for cost control

Cost control is adjusting various costs in order to manage a company or implement a national
budget. Cost control is easy when each cost is accurately understood. The previous subsection
described how to use a price/cost breakdown table to understand costs. This subsection
describes the clues for using the price/cost breakdown table for cost control.

Table 5.2-1 exemplifies the checklist of purposes to make a price/cost breakdown table in cost
control. Table 5.2-2 is the checklist for cost control original check.

(1) Summary of a price/cost breakdown table as a place to give keys to controlling costs

A price/cost breakdown table that reveals cost details in numerical values is effective in any
field where reasonable costs and prices are required.
Because the price/cost breakdown table can express cost factors of processes, parts, or
functions using numerical values, it can provide the place and scale for cost control by the
following:

@ The cost factors, when expressed using numerical values, can be compared with standard or
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empirical values, or those obtained in other companies or at other job sites.
A The difference obtained by the comparison of numerical values can be considered to be the
difference in technology, control level, or way of thinking, and can be the starting point of an
approach (the difference in technology includes that of cost control technology).
B As for the compared numerical values, the difference can be considered the possible width of
improvement. The rate can be considered the possibility of realizing the improvement.
C The difference and rate obtained from the comparison can be used as the order of the
improvement work, and as the parameter that indicates the investment limit for the
improvement.

To make the price/cost breakdown table effective as a method of cost control, the "preparation
of estimating conditions" or "estimate condition specifications" have to be decided according to
the following criteria:

D Cost may vary according to standpoint, time, conditions, criteria, and other materials as
time passes.
E Therefore, to make the price/cost breakdown table effective as a contact of cost control, it is
necessary to clarify the purpose and preconditions for making the table. Then, based on mutual
agreement, improve the matter or thing.
When the stepwise preparation and use procedures of the price/cost breakdown table are
considered from the above viewpoints, the "steplist for cost control procedures" and the "steplist
for budget preparation procedures" can be formed.

(2) Preparation of the price/cost breakdown table for cost control and the steplist for the
procedures to use the price/cost breakdown table
The steplist in Table 5.2-3 summarizes the general procedures for preparing and using the
price/cost breakdown table for cost control.


5.2.5 Discussion

This section discusses the way of thinking of a price/cost breakdown table for a case in which
an agreement was reached concerning wage rate. However, because the calculation of the
man-hour rate is affected by the plants rate of operation, the wages of the laborers, and the
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plant equipment amortizing cost, the calculated man-hour rate is not always applicable (also
due to the competition with other companies in the same industry). This may affect actual price
determination. I t is necessary to refer to the cost calculation manual for each industry (such as
the airplane manufacturers' cost calculation manual; J apan; 1959) to calculate man-hour rates.

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Fig. 5.2-1 Price/cost breakdown table
Paqge of
Prepared by : Purpose prepared : Caution :
Part No. Part Name Manufacturer Referenced Document Grade of Estimate:
Note:(1) Category means machine & assembly. (2)(3) enter standard M/H. (4) Learning coefficient, burden factor, the coefficient of difficulty/easiness and Date :
current direct labor rate are to be multiplied by standard M/H, and explanations of the content of coefficients are to be made as attached data.
Direct material cost Processing Costs Cost of development or tools & equip.
I tem No.Breakdown Part or processNomenclature Qty/swt Eng. Material StandardUnit MaterialPurchae M/H ProcessingOutside I tem namePrice or AmortizingAverage
sequence No. Code DescriptionUnit Qty Price Cost Part Cost Category(1) Set(2) Run(3)Cost Processingor tool & expense Number amortized
(GOZI NTA) Cost equip. No. expenses
Net Amount
Excess(%)
Total
Delivery Grand
Royalty Cost Others Total GCI P( %) Total
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Fig. 5.2-2 Two ways of looking at the learning curve
Actual line
Number of products
D
Bottom of learning curve
C
B
A
M
a
n
h
o
u
r
s
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Reference material 5.2-1: A extracted Example of Basic Contract of Material Transaction
prepared by J apan Purchasing Management

BASI C CONTRACT OF MATERI AL TRANSACTI ON

AA Co, Ltd,(hereinafter called A) and BB Co, Ltd,(hereinafter called "B") agree here as follows
concerning to the basic items which are required for the contract of sales of material,
equipment, and parts or consignment manufacturing (including consignment repair; same in
the following).

SECTI ON I CONTRACT

Article 1 Basic Contract and I ndividual Contract
l) The details specified in this Basic Contract shall be applied to an individual transaction
(hereinafter called "I ndividual Contract") based on this contract between A and B unless
otherwise specified.
2) A and B shall fulfill the contract according to the terms of orders placed by A and the
dealing procedures, specifications, drawings and standards specified by A in addition to the
terms of this contract.
3) A and B may exclude a portion of this contract or determine other terms than this contract
in I ndividual Contracts.
Article 5 Submission of Quotation
1) B shall submit quotations at the request of A. And when requested by A, breakdown details
of the quoted price shall be submitted promptly according to the forms requested by A.
2) I n case of quotation, B shall not make any unfair action such as consulting before the bidding
and other matters.
Article 20 I nspection on Demand
I f required, A may perform I nspection on Demand, in addition to the Acceptance I nspection
mentioned in Article 16, of material, parts, jigs and tools, equipment, facilities and so on which
are used for the items of consignment manufacturing, and even of the way of manufacturing,
fabrication or repair of the ordered items at B's manufacturing facilities,
Article 27 Quality Control
When requested by A, B shall establish the Quality Control system to maintain quality of
consignment manufacturing items according to the common quality control specification
separately specified by A,
Article 38 I nstruction
When it is necessary, A may indicate or instruct B in manufacturing technique, quality,
delivery control, facility improvement and safety control etc. on the object items contracted.


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Reference Material 5.2-2: Extract of Promotion Standard based on Subcontractor and small
Business Promotion Law Article 3, Paragraph 1.



Promotion Standard
based on Subcontractor and Small Business Promotion Law
Article 3, Paragraph 1


J une 11, 1986
Advisory No.209 issued
by Ministry of I nternational Trade and I ndustry



No.3 I tems relating to modernization of facilities, improvement of techniques and mutual
collaboration among subcontractors.

1) Modernization of facilities
2) I mprovement of techniques
3) Modernization of management control etc.
(1) Subcontractors shall make an effort to modernize management control and labor
management by adopting an effective management method which is adequate to the actual
situation of corporation management such as establishment of management plan for long range,
management policy, profit plan, funding plan, facilities plan, production plan and so on, and to
conduct value analysis and numeric management control system.


No.4 I tems regarding the improvement of pricing method, delivery inspection method and other
dealing conditions.

1) I mprovement of pricing
(l) Dealings price shall be settled by negotiation between subcontractor and parent contractor
based upon reasonable calculation method to include proper amount of profit with consideration
of quantity, delivery, payment, quality, material cost, labor cost, other expenses and market
price trend.
(2) The above-mentioned negotiation shall be made periodically for the items of continuous
orders, or whenever orders are placed for the items of non-continuous orders. A record of such
negotiation shall be kept by both parties.


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Fig. 5.2-3 How to comfortably fill the technology gap difference which is found using price/cost
structure table
Look at
"GENBA"
before
discussion
. . . . P O OQT P O OQT
H H H H

I dentify technology
difference

Take countermeasure







Opening mind

Good relation

By using the
result at
"GENBA"
exchange
opinions and
knowledge
with each
other

Losing face

From price/
cost table
Check side
He insists on why
it is necessary to
take one hour to
cut steel bar
Looking at
"GENBA"
after
disputing
with one
another
Bad relationship
From price/
cost table
Check side
Process to
cut steel
bar
Verbal dispute
Bad approach to fill the gap Good approach to fill the gap
0.75 " difference
0.75 " difference

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Table 5.2-1 Checklist of purpose to make price/cost breakdown table
( Contents will vary depending on the purpose)

P .For outside use
(1) To obtain the budget
(2) To decid sales price
(3) To propose a preliminary estimation for customer
(4) To explain or understand the practical result of the present status
Q.For inside use
(1) To proceed design to cost
(2) To proceed design value analysis
(3) To select vendor
(4) To decide inside production or outside production
(5) To sum up or allocate the budget
(6) To decide and manage the target of each assignment or working group
(7) To create a place to do the following jobs:
aD To express the process in numerical form in order to analysis and make
improvement
b. To find waste by expressing the process and cost in numerical form
c. To analyze manufacturing engineering problem
d. To analyze how to keep the rate of operation of each working place
e. To compare with standard superior benchmark
f. Comparison of companies
g. To establish parameters to allocate jig cost etc. for improvement
(8) To allocate the target


Table 5.2-2 Cost control original check

The baseline of cost control is to control the following four(4) items from the standpoint
of profit ratio over operating capital.
Profit
Profit ratio over operating capital
Operatimg capital
i Operating cost is the sum of current assets and fixed assetsj

P .How to reduce the fixed cost in total cost
Ex. a. Sell surplus equipment (Reduce the depreciation ratio)
b. Reduce or move unnecessary staff
c. Reduce overhead administrative expenses
Q.Reduce recurring costs
Ex. a. Change transportation vehicles (air sea, sea air)
b. Reduce the operating costs of manufacturing
c. Reduce material costs by improving material layout
d. Reduce cost by changing design
e. Reduce waste
R .Reduce fixed asset ratio or obtain profit
Ex. a. Sell surplus equipment
b. Reduce iventory( safety stock )
S .Reduce variable/current assets
Ex. a. Collect bills quickly, reduce credit
b. Rotate stock quickly and reduce inventory
c. Reduce making span
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Table 5.2-3 Steplist for making and using price/cost structure table to proceed with cost control
I nput Output
Pha
se
No.
Ste
p
Step contents
I tem Pre-assurance activity I tem Post-assurance activity
Notes
Output
approva
l level
I
Objective concept to
make price/cost
structure
1.The purpose
2.The object
3.The target
1.Use cost control purpose
checklist
2.Use of this steplist
1. Specifications and
conditions to make price/
cost structure table(draft)
(Estimate conditions)
1. Start to partially fill in
the price/cost structure
Table
2.Check by cost control
purpose checklist

I I
Conditions to make
price/cost structure
table (Conditions to
estimate)
1.Specification and
conditions to make
price/cost structure
table(draft)
(Conditions to
estimate)
2.Material which can be
obtained
1.Extract and adjust the
problem and conditions to
make price/cost structure
table

2.I dentify data level(which
will show WBS level)
3.Use grade of estimate
4.Use design steplist
5.Use reasonable price
steplist
6.Choose the practical result
record or just the
estimation
1. Specification and
conditions to make price/
cost structure table
(Estimate conditions)
1.Fill in the format 1.Agreement or decision must be
made about specifications and
conditions by;
a Agreement among related
people, or
b. As the policy of the highest level
person

I I I
Procedure for
making
1. Specifications and
conditions to make
price/cost structure
table(draft)
2. Format of price/
cost structure table
1.Fill in the following items
in price/cost control table;
a The purpose
b The standard reference
c Caution(e.g. for outside
or
inside company)

1.Cost item level
2.Detailed level of cost items
3.Who is responsible for that
cost item and its contents
1.Follow the policy to fill in
the price/cost table
depends on the purpose
1. The meaning of who is
responsible to that cost item and
conditions is what group
is responsible, e.g.
a Design group, or
b Manufacturing planning group

I V
Procedure for
making details
1. Cost item
2. Detailed level of cost
item
3. Who is responsible for
that cost item and its
contents
4.The purpose
1.I n order to attain the
target, review and adjust
who and how to make
price/cost table
1.Summarized policy who
will fill in the data of each
item
2.Price/cost table making
schedule

1. Follow the policy of data
a Standard manhours
b Resultant manhours
c Allocated manhours
d Similar part cost
e Book value
f Year price
1.As necessary, each data has to be
accompanied by e.g.
a Safety factors
b I mprovement rate
c Margin

V
P
l
a
n
i
n
g

p
h
a
s
e

b
y

p
r
i
c
e
/
c
o
s
t

s
t
r
u
c
t
u
r
e

t
a
b
l
e

Work to make price/
cost structure table
1. Data policy
2. Who is responsible to
fill in the data
3.Schedule
1. Make price/cost table of
company
1.Specs. and conditions
2.The data-filled price/cost
structure table
3.Focus point to attain the
target
Compare data with;
1.Standard cost list
2.Function cost list
3.Market cost list
1.After comparison of data;
a The larger the ratio is, the easier
it is to improve
b The larger the difference is, the
greater the improvement
Therefore, focus on the larger
priority of a or b

VI
Cost control action
by price/cost
structure
table(Plan)
1.Specs. and conditions
2.completed price/cost
table
3.Focus to realize the
target
4.Review policy
1I dentify starting focus is to
starting focus to be start
with difference between
sum of the price/cost table
and target cost.
1.Do cost control policy
2.Action item priority
3.Extracted conditions to
proceed
4.Schedule
5.Allocation of assignment
1.Use the difference and
ratio priority to proceed
2. Raise the adjustment
level if lower level
Management has
difficulty adjusting the
conditions to proceed the
project
1.Example how to decide priorities;
a. Difference priority +ratio
priority =Do priority
b Add the weight of importance to
the items, as necessary

VI I
I mplementation of
cost control(Do)
1.Do cost control policy
2.Action item priority
3.Extracted conditions to
proceed
4.Schedule
5.Allocation of
assignment
1.Proceed Do of cost
reduction or cost control
work
1.Atain ratio % of each
implemented work item
1. Evaluate the attained
Result
2. Compare with other
Results of cost reduction
or cost control activities

VI I I
C
o
s
t

c
o
n
t
r
o
l

p
h
a
s
e

Result review of cost
control
(See-Check)
1.Rato % of
implementation result
2.Evaluation of ratio %
3.Comparison result with
other cost
reduction/cost control
activities
1.Find the problem and
engineering work from the
difference of compared
ratio % and make a plan
to resolve it
1.The still unsolved problem
and priority
2.Next countermeasure
3.next step schedule
1. I mprove
countermeasure
2. Accumulate the
learned results as a
base
of know-how


1.I f a big problem still exists, return
to appropriate step above


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5.3 Price Determination Criteria
5.3.1 Introduction
5.3.2 Pricing principles
5.3.3 Purchase price policy and the overall adjustment factors of the policy
5.3.4 Types of prices
5.3.5 Viewpoints required for purchase price policy
5.3.6 Purchase price patterns and the factors to change them
5.3.7 Purchase market investigation
5.3.8 Technical purchasing ability
5.3.9 Discussion


5.3.1 Introduction

This section describes the principal price design standards that form the background for the "steplist for
reasonable purchase price" and "how to use a price/cost breakdown table" from the viewpoint of
purchasing control. The standards clarify the basis for determining prices. The materials which are used
are supplied by the J apan Association of Purchasing Management and are commented on by the author.


5.3.2 Pricing principles

To purchase the optimum quantity of a material at the optimum price with optimum timing is the
principle of quantity, price, and timing. Therefore, material purchasing must be based on the purchase
request of a material plan, be in accordance with a purchase standard, and be done at an optimum
purchase price. To determine the optimum purchase price, suppliers are selected whose estimates are
compared with each other as well as with reference and budget costs. Moreover, other factors, such as
market conditions, must be taken into account. It is also essential to make a purchasing contract.

(1) Since the optimum purchase price varies according to the moment of evaluation, the price is decided by
the following formula:
Optimum purchase price ={Minimum standard price} the overall adjustment factor
Therefore, the person in charge of purchasing decides an optimum purchase price by finding or confirming
the minimum purchase price at each time point, and considering the overall adjustment factors. The
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overall adjustment factors are one or more of the factors described in the purchase price policy in the next
subsection, 5.3.3.

(2) The minimum standard price is based on the following factors:
@ estimate conditions;
A the technical requirements, such as standard and quality assurance conditions, shown at evaluation;
B cost standard (standard man-hours based on a certain technical standard and material cost standard);
and
C the lowest price among similar products


5.3.3 Purchase price policy and the overall adjustment factors for the policy

5.5.3.a Overall adjustment factors explained in this subsection

Purchasing price policy is the single or combined policy established by the purchasing department of the
company to determine reasonable prices according to the principle for purchasing budget preparation and
purchasing. The overall adjustment factor(s) taken into account as a single factor, or weighted and
combined factors, are meant to lead the buyers and sellers policies to the final agreement on reasonable
prices. This subsection describes the following items in the purchase price policies and the overall
adjustment factors:
(1) Types of price
(2) Viewpoints required for purchase price policies
(3) Purchase price patterns and factors to change them
(4) Purchase market investigation
(5) Technical purchasing ability

5.3.3.b Other adjustment factors
Other than the above, there are the following adjustment factors:
(1) Operation rate
(2) Actual GNP growth rate (See note)
(3) Nominal GNP growth rate (See note)
(4 ) Rate of increase in labor costs and prices

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(Note) These increase scales are effective in detecting any abnormal changes in price because the scales
become linear when converted to logarithmic scales, such as in land prices.


5.3.4 Types of prices

Prices can be classified from various angles. Any price can be called by a different name when different
viewpoints are taken. The following introduces various names under which to categorize the ways of
determining prices.

5.3.4.a From the standpoint of cost
(1) Stratified price
(2) Expense plus profit price
(3) Calculated price
(4) Specific price (when purchased from multiple companies)
(5) Cost plus profit price
(6) Expended lost result indemnifying price
(7) Planned price

5.3.4.b From the standpoint of contract
(1) Compromised price
(2) Agreed price
(3) Technology price
(4) Contract price
(5) Bulk demand price
(6) Provisional price
(7) Approximate price
(8) Appropriate price
(9) Fixed price
(10) Traditional price
(11) Previous price
(12) Bid
(13) Proposed price
(14) Defense Agency price
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(15) Development price
(16) Reviewed price
(17) Conventional price

5.3.4.c From the standpoint of a free market
(1) Free price
(2) Market price
(3) List price
(4) Net price
(5) O.E.M. price
(6) Official price
(7) Custom price
(8) Previous price
(9) Contract price
(10) Acquired price
(11) Domestic price
(12) International price
(13) Fixed price
(14) Bid
(15) Competition price
(16) Supply price
(17) Demand price

5.3.4.d From the standpoint of control
(1) Controlled price
(2) Official price
(3) Agreed price
(4) Discrimination price
(5) Fixed price
(6) Calculated price
(7) Cost result indemnifying price
(8) Defense Agency price

5.3.4.e From the standpoint of monopoly
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(1) Monopoly price
(2) Oligopoly price
(3) One-sided decision price
(4) Historical price
(5) Natural law price

5.3.4.f From the standpoint of domestic protection
(1) Official price
(2) Controlled price
(3) Negotiated price
(4) Contract price
(5) Promotion price
(6) Expended result cost indemnifying price
(7) Specific price
(8) Dual price
(9) Previous price
(10) Existing price

5.3.4.g From the standpoint of calculation technology
(1) Approximate price
(2) Planned price
(3) Budget price
(4) Previous price
(5) Calculated cost price
(6) Fixed price
(7) No profit price
(8) Leaning curve price
(9) Cost standard reference price

5.3.5 Viewpoints required for a purchase price policy

In the previous subsection, prices were classified by name. This subsection introduces the viewpoints for
politically considering each of the strata constituting a price.
When a price is determined, the following viewpoints have to be taken into account as occasion
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demands.
(1) To keep and improve the plant rate of operation
Actions to minimize an allocated fixed cost per unit by eliminating idle facilities and keeping full
operation
(2) Appropriate quality
To keep quality in compliance with technical requirements
(3) Appropriate timing
Keep appropriate timing of delivery, reasonable price with appropriate evaluation of time and the
evaluation time, deadline, and technical requirements (See the steplist for a reasonable purchase price)
(4) Compensation of proportional cost at minimum level
To keep minimum plant operation cost by compensating only proportional cost even at the sacrifice of
the fixed cost, if necessary
(5) Tradition of technology
To keep the quality and the tradition of technology in wartime by taking on a one-company or
two-company policy.
(6) Priority given to technology
Emphases on developmental and production technologies, and to owning specific facilities.
(7) Solvency
Not placing a strong emphasis on discounting by bulk purchasing, but confirming the relation between
the solvency of each purchaser, and the bulk purchasing and possibility for products to become outdated
during long-term storage.
(8) Replace-ability
Examination of whether a currently used product can be replaced with other products, and whether
there is a way to improve it
(9) Maintenance of market position
Maintaining the current market position by taking several measures.


5.3.6 Purchase price patterns and the factors to change them

The types of purchase prices and the viewpoints about the STRATA in each price were described in the
previous subsections. This subsection describes what kinds of patterns are used to combine the viewpoints
to determine a purchase price. The pattern to combine them depends on the adjusted steplist for a
reasonable purchase price and the situation of each project.
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(1) Active price type

@ Price determination by cost planning
The profit plan of a company includes the plans of both profit earnings and costs. A cost plan is made by
considering a given market and the sales conditions, expenses, and prices. A purchase policy is decided on
the basis of the cost plan, and the pattern of a component purchase price from a vendor must be decided as
a part of that policy.
Therefore, to achieve a flexible price policy required by top management, such as the determination of
active sales price and the release of a new product, it is necessary to establish a purchase policy and a
purchase price plan based on the policy for each project.
A Initiative price determination
This type of price determination takes advantage of the dominant position of the purchaser. As in @, a
purchase price is determined so that it complies with the policy and plan of the purchasing department. It
is necessary to determine the base of minimum profit and cost to survive (naked cost) or lowest reference
price for this type of price determination.

(2) Passive price types
Pattern of an auto-passive price restricted by the market and its conditions
(3) Supply-demand variation price
(4) Monopoly price
(5) Competition price
(6) Controlled price
(7) Free competition price
(8) Incentive price
(9) Cost compensating price (appropriate profit and compensating price )

When this purchase price pattern is used, it is necessary to maintain a system in which expenses
generated by insufficient control are minimized and other factors are not confused with actual expenses.


5.3.7 Purchase market investigation

To systematically perform a purchase market investigation and survey, a purchase manager decides on
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the policies concerning the following points every term, and reports and accumulates purchase results so
that they help establish subsequent purchase policies, and performs purchase activities.
(1) The items to be investigated or surveyed
The items are selected from important items.
(2) Appointment of person
At least 2 persons are appointed: one must be able to understand man-hours by looking at the plant and
process at the site (genba); and the other is a coordinator.
(3) Scope of the research

@ Domestic and overseas trends in general economic conditions
Because trends are also investigated in sales market research, it is best to do joint research with the
sales department, or obtain necessary materials from the control and planning departments, and arrange
them in a form fitting the purpose.

A Trends in the same product industry.
Production and consumption amounts, and price trends are investigated.

B Trends in industries with similar products
The following are investigated and put together:
A. Trends of companies with similar products
B. Alternative product trends
C. Trends of technologically new products

C Investigation of distribution process
The following are put together. Special attention is paid to the traditional results and difference from the
previous year.
A. Distribution organization trends
B. Customer trends
C. Price statistics trends
D. Transportation trends
E. Packaging-style and method trends


5.3.8 Technical purchasing ability
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The purchasing department has to have technical purchasing abilities. They include purchase policy,
and planning ability, which is the ability to purchase things at reasonable prices compatible with the
purchase budget, without compromising "purchase principles." They also include the ability to reduce
prices on the basis of sufficient engineering knowledge of the purchased product and skills, as well as the
purchasing functions, which I will discuss next.

To obtain these abilities, it is necessary to have cooperation from other departments and that there be a
person who is concurrently in charge of both purchasing and other department jobs.

The functions required for the purchasing department include:

(1) Reasonable price policy planning for each project (through the combination of conventional purchasing
and engineering abilities)
(2) Preparation and use of abilities of a standard man-hour manual, standard purchase cost and standard
materials cost
(3) Estimate and calculation ability of material costs and product cost from materials including drawings,
process figures and tables, and suppliers' price/cost breakdown tables
(4) Analysis and evaluation ability of the adequacy of the price/cost breakdown tables for various materials
(5) If necessary, reduction of purchase prices by providing reasonable methods for reducing costs and
examples, thereby coordinating the improvement at the supplied plant rather than forcing discounts
(6) Combining the abilities of the engineering, manufacturing, planning, and quality assurance
departments in negotiating with suppliers to purchase quality and reliable products at desired prices
(Application of the thinking for the steplist for a reasonable purchase price)

To be concrete, the purchasing department plays the following role in the application of the Design to
Cost method described in Chapter 7 and the development of new products. When the engineering
department finishes an outline (draft) of the specifications of a product, the purchase department asks the
engineering department to release the tentatively fixed specifications, the tentatively fixed outline (draft),
the estimate conditions (number of models, period, and expected rate with allowances), and the desired
purchase prices to a supplier. Then, it requests the supplier to submit a DTC plan to produce the product
at the desired price as well as additional ideas, technical conditions, requests, and opinions. Through these
procedures, the purchase department makes the framework for mutual adjustment, and guides the
adjustments of the contents and prices after the purchase has been decided.
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5.3.9 Discussion

This chapter describes a standard for thinking about prices, which is the premise of the introduction to
the Design to Cost method described in the next chapter. The information in this chapter provides the
clues to making a final decision on prices.

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DTCN/DTC method Copyright Michihiko Esaki 1998/2000 ISBN 0-941243-00-1