By Serge Milman
Procurement and Strategic Sourcing teams continue to struggle to meet their primary Management Business Objective, which for the vast majority is directly related to generating cost reduction.
Vendor spending for the vast majority of Fortune 500 firms is increasing comparable to, and for many, faster-than revenue growth, suggesting that sourcing efforts are not generating bottom-line results.
The performance of sourcing programs of Fortune 2000 firms is even less impressive. As noted by one industry expert, “The best most Procurement departments can say today is that they’re keeping the lights on.”
Based on dozens of strategic sourcing advisory engagements with firms across industry sectors, the following 10 principles are the primary contributors for generating 15 to 20 percent savings:
1. Consolidate Spend Data Across the Enterprise
Peter Drucker is famously quoted as saying, “You cannot improve what you cannot measure.” Never have truer words been spoken, and they apply in spades to the world of strategic sourcing. Understanding the totality of vendor spend across geographies and business units provide insight into potential opportunities for greater efficiency and effectiveness. Consolidating data across different ERPs, pcard, travel and other data systems exposes unique value-creating levers, often much to the surprise of procurement leadership and business stakeholders alike.
2. Categorize Spend to Sourcing Needs, Instead of Only Using ERP Hierarchy
In most cases, ERP spend categorization is ineffective for strategic sourcing purposes. While spend categorization is a difficult and often intensive effort, the investment yields enormous ROI. Categorizing spend based on sourceable categories presents consolidation opportunities to build scale for sourcing efficiency, which is essential to creating meaningful bottom-line results.
3. Enhance Detailed Spend Data, Including Data Cleansing and Enrichment
Vendor spend data for most—if not all—firms is dirty and incomplete. Data cleansing includes simple things, like normalizing vendor name structure, associating vendors to their parent organization, normalizing various date fields, currencies, cost centers, GL accounts, among others. More involved—yet still essential—activities include enriching invoice-level data with unique product information, quantity, unit price and other fees and charges to determine what is purchased, how many units are purchased, and for what price each unit is purchased.
4. Update or Develop Business Requirements and Specifications
Business requirements for products and services are an essential input into the sourcing process. Defining discrete specifications for products, services, and external resource capabilities enables product/service consolidation within and across business units, as well as communication of streamlined requirements to the vendor community. Unambiguous business requirements eliminate, or at least minimize, the uncertainty and risk premium charged by vendors, and also aid in managing demand, including the elimination of over-spending.
5. Collaborate with Business Units to Define Future Spend
Strategic sourcing is a forward-looking process, meaning that we source spend based on future demand, rather than on history. Yet, forecasting is typically uncertain, and many business units prefer to avoid the activity. Nevertheless, procurement, in collaboration with each business unit, should use historical spend patterns as a fact-based tool to develop a (non-binding) three to five-year forecast for each product/service type to establish purchasing power scale which is one of the key value drivers.
6. Solidify Alignment with Stakeholders by Defining Goals and Objectives
In addition to developing business requirements and defining future spend, procurement should define specific goals and objectives for each business unit to increase alignment and ensure that the sourcing effort is equally valued by the parties. Above and beyond savings (that is, enabling BUs to do more with less), it is important to define other factors that are important to stakeholders. These factors should then be converted into business requirements, terms and conditions (T&Cs), and/or vendor screening criteria.
7. Identify and Engage with Challenger Vendors
The ultimate goal of RFPs is to create pricing, including SLAs and T&Cs, transparency and validate vendor capabilities given specific business requirements. Achieving these goals almost always requires creating a competitive landscape consisting of incumbent and challenger vendors. Challenger vendors should include second-tier vendors, regional providers, and emerging vendors, many of whom will be effective in providing unique product and service insights, offering non-traditional business models, and providing pricing transparency.
8. Develop RFP(s)
Ideally, an RFP should represent each defined spend category, while offering vendors the flexibility to bid on all or part of the demand. RFPs (other than the legalese and overview sections) should be tailored to each product category, including:
– Business requirements
– Disaggregated product/service pricing
– Alternative pricing models
– KPIs and SLAs with specific performance requirements
– Incentive and penalty structures related to SLAs
– Key terms & conditions
9. Embed Improvement Incentives and Monitoring Mechanisms into the Contract
The RFP(s), negotiations, and vendor contract should be focused on creating alignment in the near-term and longterm. Given that vendors and procurement are each focused on maximizing value for themselves, the inherent conflict and friction cannot be avoided. Thus, creating incentives for vendors to do the right thing is essential for both the near-term and long-term viability of the relationship. Moreover, continuous improvements and the incentive structure should be quantifiable, measurable, reportable and actionable to ensure that it is meaningful and valuable for the buying organization.
10. Negotiate Based on Data and Facts Versus Emotion
The days of “squeezing” a few percentage points out of vendors via strong arm tactics, relationship longevity, or the firm’s marquee name are long-gone. Most vendors are astute negotiators, and in most cases, they have far more information and insight about the buyers’ needs and market realities than most buyers. This information asymmetry can only be corrected using the above-described approach. Applying the above principles will create actionable insight by which procurement can leverage its scale and optimize its purchasing.
About the Author
Serge Milman is a Partner of Sourcing Advisors Group (https://SourcingAdvisorsGroup.com), a Strategic Sourcing advisory firm that works with F2000 firms to accelerate and increase value creation, averaging 15%-20% savings across a portfolio of spend categories on a guaranteed basis. Milman has over 20 years of experience in operational efficiency, including procurement enhancement and strategic sourcing.