Unleash the war on procurement spend and increase profitability
?Â The key question on the minds of many business managers in the Middle East is how to manage a company in 2009 and maintain profitability. Here in the United Arab Emirates (UAE) we have witnessed many companies opting to lay off many employees in an attempt to reduce expenses. Anticipating a reduction in the growth rate in 2009, organizations are now also exploring other alternatives to reduce expenses to improve the bottom-line.Procurement provides the answer.Depending upon the industry, most organizations spend more than 60% of their revenues on procuring products and services from the market. The ratio of revenue to procurement spend varies from one industry to the other. For example, this ratio could be could be as high as 70% for a manufacturing firm .Therefore, it is extremely important for organizations to conduct a detailed analysis of their annual procurement spend to identify spend categories which can result in major savings for the organization. Due to massive growth in the last four to five years, many organizations in the middle east have not been carefully managing their procurement spend. Although procurement departments are assigned with the task of managing the spend while maintaining the quality however the speed at which organizations have grown in the last ?Â five years have forced the procurement staff to focus more on the operational aspect of procurement function more than the strategic objectives.The arrival of the year 2009 has changed all that. So what are the strategies that can be implemented to reduce supply costs? This article aims to provide some answers to this question. Spend Management team: The first step is to form a team within the organization with the sole objective to manage the procurement spend. This team should not only include individuals from within the organization but also suppliers and customers whenever required. The key roles and responsibilities for the team members and the objectives should be clearly defined. The organization should aim to create a permanent team with the strategic task of analyzing the annual spend and identifying new systems, processes and technologies to mange the procurement spend. Conduct Detailed Spend Analysis: The second and the most important step is to conduct a detailed spend analysis exercise. This would require extracting the procurement related data from the Enterprise Resource Planning systems – ERP (accounts payable module and the purchasing modules) to cleanse the data. The data extracted from the ERP’s usually requires a massive amount of cleaning or ‘ scrubbing ‘ in order to standardize the format of data to an internationally recognized nomenclature. The most commonly used nomenclature is called the UNSPSC or United Nations Specified Products and Services code. CPV or the common procurement vocabulary is another popular categorization structure. A spend visibility exercise, conducted properly, will be able to answer many questions related to the procurement spend , for example , questions like :?Â ?Â ?Â ?Â ?Â ?Â What is the organization buying and how much ?Â ?Â ?Â ?Â ?Â ?Â Who are the suppliers to the organization??Â ?Â ?Â ?Â ?Â ?Â What is the organization buying in what quantities from the suppliers??Â ?Â ?Â ?Â ?Â ?Â Who?Â are the top 20 key suppliers for the organizations and what materials do these suppliers provide?Â ?Â ?Â ?Â ?Â ?Â How many suppliers provide the same category of items or the same item to the organization??Â ?Â ?Â ?Â ?Â ?Â Who are the main requesters for the various items that are been procured and how much is requested every year ?Â ?Â ?Â ?Â ?Â ?Â Is there an opportunity to combine spend for a category and benefit from volume discounts?Analyze the spend data: Once you have a detailed insight into the spending habits of your organizations, the cost reduction team needs to start the analysis process to identify areas of opportunities for cost savings. You may be able to identify savings opportunities through ?Â ?Â ?Â ?Â ?Â ?Â Supplier Rationalization (Supplier ‘right sizing’): The 80/20 rule can usually be applied to the supplier base of most organizations. More than 80% of the procurement spend is usually procured from less than 20% of the suppliers. This is certainly true for organizations based in the middleeast. However, there is usually a huge list of many other suppliers which supply less than 20% of the total annual procurement spend. Organizations need to identify ways to reduce or ‘right size ‘ the supplier base by standardizing the products being procured and by reducing off-contract or maverick buying. Standardization alone will help organizations shave a mot from their annual procurement spend.?Â ?Â ?Â ?Â ?Â ?Â ?Â Reduce maverick buying (off Ã¢â‚¬â€œ contract buying): One of the biggest challenge for organizations in this region is off- contract or maverick buying by members of staff which are not part of the procurement team. It has been observed that sometimes around 50% of the items procured are from non-contracted suppliers (without the involvement of the procurement team) and usually at a 15- 20 % higher price than the price negotiated with the contracted suppliers. ?Â ?Â ?Â ?Â ?Â ?Â ?Â ?Â ?Â Product Standardization: Another important step to reduce the supplier base and save cost is to standardize on the products being procured by the organization. A good example would be a photocopier machine where sometimes the same organizations may procure 5 to 6 different brands of photocopiers which means that the organization is not availing volume discounts and the company is paying more to deal with 5 to 6 different suppliers and is also spending more time to manage the service contracts with the same suppliers.?Â ?Â ?Â ?Â ?Â ?Â ?Â Volume Leveraging: As mentioned above companies do lose the benefit of volume discounts when the products are not standardized and the products and services are being bought from many different sources. Companies can avail discounts of up to 8- 10 % more in certain categories due to volume leveraging?Â ?Â ?Â ?Â ?Â ?Â ?Â ?Â Purchase price variance between locations: Spend visibility provides a detailed insight into the prices being paid by the buyers at different locations for the same category. It has been observed sometimes that the same supplier might be delivering the same product with the same specifications to different locations at different prices. In a consulting assignment for one chain of hotels in UAE, it was observed that the hotel chain could potentially save upto AED 4 million by simply bringing all the prices to lowest level offered by the same supplier.Spend visibility exercise allows organization to truly analyze the annual procurement spend to identify categories of spend ripe for cost savings oppurunities. As far as the major categories sourced by the organization, the next goal is to bring as many items /categories under contractual agreements with the suppliers and to give access to individuals in the organization to the items contracted so that the requests for the items can be raised as and when required as per the terms and conditions of the contract.The next step is to convert the opportunities indentified during the spend analysis process into real savings for the company. The first step to achieve this objective is to agree on the following: ?Â ?Â ?Â ?Â ?Â ?Â Identify the items/categories to be contracted?Â ?Â ?Â ?Â ?Â ?Â Establish the quantities required based on historical data as well as the expected demand?Â ?Â ?Â ?Â ?Â ?Â Finalize the specifications and other details ( delivery , payment terms etc )?Â ?Â ?Â ?Â ?Â ?Â Identify a competitive bidding platform ( esourcing platform )?Â to invite all suppliers to bid for the items to be sourcedThe last point mentioned above or the use of the esourcing technology to bring suppliers for the Reverse Auction in a competitive bidding platform is perhaps the most important of all steps. eSourcing technologies allow buyers to create what is a called a ‘reverse auction’. A reverse auction (also called procurement auction, e-auction, sourcing event, e-sourcing or eRA) is a tool used in B2B (business-to-business) procurement. It is a type of auction with the primary objective to drive purchase prices downward. In an auction (also known as a forward auction), buyers compete to obtain a goods or a service. In a reverse auction, suppliers compete to win business.Organizations in the region can use the esourcing technologies offered by Tejari to allow suppliers to bid in a competitive environment. Tejari is the eight largest sourcing platform in the world and the biggest in the MENA and Asia Pacific region with buyers and suppliers based in more than 55 countries of the world.By using an esourcing platform like Tejari organizations can expect to save up to 10 Ã¢â‚¬â€œ 15 % of their annual procurement spend, however the savings percentage for each category varies from one organization to the other.This is the time for organizations to use the power of technologies to reduce cost but technologies alone may not help if spend visibility is not available.