Cost Management: Cutting the Fat From Procurement

There are pockets of cost saving potential hidden across every organization. For example, according to the Hackett Group, every dollar invested in the procurement function can yield up to three dollars in spend savings.
 
The value of effective sourcing and procurement has come into the spotlight as companies face a constant need to cut costs and raise efficiency. According to a PwC survey, the global market for sourcing and procurement is predicted to flourish, with countries in the Asia-Pacific region serving as key areas of growth.
 
The same survey identifies cost reductions as being the main driving force behind this rising trend. Yet numerous companies remain unsure of their cost savings, as reflected by 21% of the PwC respondents who stated that they do not know what savings to expect.
 
There is a need to better understand cost savings, and one way of doing so is through what is known as the Sourcing Maturity Model, a valuable tool for any CFO looking to pinpoint opportunities for continuous saving. There is value in attaining maturity, as companies at the highest end of the scale derive greater value from their procurement.
 
The model involves a company analyzing its sourcing and procurement practices, understanding key personnel involvement and calculating procurement spend.
 
In this article, I will discuss the process of interviewing key individuals within the organization, and pinpoint several necessary questions that will help determine an organization’s level of sourcing maturity. This will then transform the process of determining savings potential into one that is more objective and fact-based.
 
Considering that there are numerous elements involved in this exercise (such as multiple sourcing stakeholders, spend data, vendor data, interview process), how do we put them all together?
 
The following points serve as a guide through the exercise of determining organizational maturity.
 
Who to interview
The best candidate to speak to may be the organization’s sourcing team due to its responsibilities in strategic sourcing and category management.
 
However, it is important to gain a holistic view through interviewing colleagues from other areas as well, such as the stakeholder community that holds the spend budget or the purchasing department that is responsible for actual procurement.
 
Ultimately, the interview should feature adequate representation from all categories of indirect spend, as well as business units that contribute greatly to the spend.
 
The importance of involving all stakeholders who contribute to the spend is that it serves to align their understanding of the decisions made. By integrating all aspects of the decision-making process, such as procurement and operations, the company would thus be able to develop an approach that is profitable and better suited to operations.
 
What to ask
This is a bottom-up exercise whereby the maturity level of an organization is determined through the aggregation of maturity rankings in different categories. Each category manager or stakeholder will be asked questions pertaining to their category that will determine the ranking of that particular category.
 
An organization’s position on the maturity scale is determined by a list of key attributes. Each attribute will be ranked according to the answers received for questions in each category.
 
An example of such an attribute would be ‘sourcing maturity.’ Interviewees may be asked a series of questions pertaining to this theme. For instance, how often has competitive sourcing been used for this category? Another potential question focuses on whether savings targets have been defined in an annual planning process. The answers will then be graded on a scale of 1 to 5, with 1 being the lowest.
 
In addition to maturity attributes, there will also be questions on other aspects such as the unique characteristics of the interviewee, recent contracts, openness of stakeholders to allow spend to be managed by a co-sourcing partner, supplier dynamics and preferential relationships with the supplier community.
 
The responses from various interviewees are analyzed and put through a weighting system that determines the overall maturity of a category. Upon determining category maturity, the spend in each category is then run through a model, which is based on industry benchmarks and the experience of the co-sourcing partner.
 
The model takes the spend and maturity as inputs and determines the appropriate savings as an output, which is further adjusted for a number of factors such as addressability, timing of contracts, supplier dynamics, and so on.
 
The outcome
The exercise has multiple benefits. Firstly, it takes the guesswork out of cost-saving analysis, thus providing organizations with tangible estimates. It also adds a process of due diligence and generates findings that can be presented to senior executives as part of a business case for procurement.
 
This is important, as approval from senior management is an essential part of implementing corporate innovation, in addition to funding. As such, the Sourcing Maturity Model exercise – though a significant commitment – is handy for both.
 
Ultimately, though, the model forms the basis for delivering significant cost reductions, freeing up valuable funds to invest in product and service innovation, which in turn drives business growth.
 
About the Author

Ed Cross is Executive Director, Procurement Services and Member of the Executive Board at Xchanging, which provides services in business process outsourcing, technology and procurement. This article was first published in Enterprise Innovation and was re-edited for clarity and conciseness.

 

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