Category: Sourcing

Procurement is often viewed as a function reserved for larger organizations. However, businesses of any size can reap significant benefits from effective procurement practices whether that is by establishing an in-house procurement function or hiring temporary support to ensure the company’s success.

This article explores the value procurement can deliver to small/medium businesses and scenario where companies start benefiting from procurement processes and answer the following questions :

• How is procurement a key vector for profitability and efficiency ?
• When Does a Business Really Benefit from applying procurement processes in terms of Sourcing? Procure to Pay?
• And what type of benefits can be expected ?

As this article studies the benefits for small to medium businesses, it will focus on the sourcing value since it benefits appear earlier than the Procure to Pay value which requires a certain “mass”.

I. How is procurement a key factor for profitability and efficiency?

Overview of procurement value

Procurement is much more than a cost-cutting tool. It brings a multitude of values to a business, impacting both the sourcing process and the procure-to-pay (P2P) process. Let’s quickly review the value that procurement can deliver :

Sourcing Process

1. Cost Savings: Procurement helps in achieving significant savings, directly impacting the bottom line.
2. Supplier Management: It aids in building and maintaining strategic supplier relationships, essential for long-term success.
3. Market Analysis: Procurement teams provide valuable market insights, guiding strategic decisions.
4. Risk Management: The process helps mitigate risks related to supply chain disruptions and compliance breaches.
5. Innovation: Procurement encourages innovation by fostering supplier collaborations.

Procure-to-Pay (P2P) Process

1. Efficiency: Streamlining P2P processes reduces costs and errors, speeding up operations.
2. Compliance: It ensures adherence to internal policies and external regulations.
3. Data Analysis: Procurement offers data analytics to enhance spending patterns and forecasting.
4. Supplier Performance: Regular assessment of suppliers ensures they meet their obligations.
5. Technology Integration: Using e-procurement tools enhances control and efficiency.

The material impact of procurement sourcing

Sourcing :

Procuring products and services at the right price can help your business thrive. A decrease in cost impacts more than proportionally the profit compared to sales so if executing a procurement process can cut cost by 5%, this is equivalent to increasing sales by 12% to achieve the same profit levels; which is a lot harder to attain.

Sales of $ 50 million with 15% profit =7.5 million profit
Purchase of Goods and Services : 40% or 20M€
5% savings on PCOGS: 1M€ in additional profit (8,5 total)
To reach the same level of profit, you need to increase sales to: 56M€ which is a 12% increase in sales.

Also, since procurement tends to look at the picture from a holistic point of view with the Total Cost of Ownership, it helps businesses make the best decision for them, and not one just based on the “price tag”. Procurement typically will look at all other costs (maintenance, spare parts, energy consumption etc…) to compare solutions and identify the lowest total cost.

And this is just the price aspect, as we have seen, the procurement process can leverage a number of other benefits regarding risk mitigation (on-time delivery, price increase, reputational risks etc..) and bringing innovation in.

Procure to Pay (P2P) :

The act of procuring goods and services costs businesses a lot of money, and this can become a major burden for companies as they grow. With low levels of digitalization, the cost of a Purchase Order can easily reach 100€/PO and the time your teams spend raising these is time they won’t spend adding value to your business. So having a procurement team can ensure that this process is as efficient (and digitalized) as possible, and ensure your costs stay down while your teams remain focused on what they are hired for.

According to a study from Opstream, a company of 1,000 employees emits 3000 Purchase Orders annually (300k€ spent !), each of these PO involves 7 to 9 people to approve and review and sometimes takes weeks to be issued, slowing down the whole business. Optimizing this is therefore a key opportunity, that only grows as much as your business.

II. When Does a Business Really Benefit from applying procurement processes

In short, it is best to follow practices from any size, but having a dedicated resource to work on procurement is particularly relevant in certain cases. We will cover the general spend level required and use cases where procurement can leverage value through sourcing, and then Procure to Pay activities.

Sourcing

General spend level: from what level of spending is procurement more or less guaranteed to bring in money?

As seen previously, any price reduction impacts profit at a higher rate than an increase in sales does. Therefore, procurement processes and tools (e-auction, negotiations etc) can be really decisive for your future and your organization’s efficiency. Yet, procurement resources come at a cost so at what point is it really worth it?

Assuming a meager 3% savings (It’s meant to be very conservative and I don’t think I’ve ever delivered a project with less than two digits savings), you need :

Cost of an in-house procurement professional: About 150k€ per annum
Number of sourcing projects handled: 2 (also conservative)
Cost per project: 75k€
Minimum spend per project: 2,500k€ (75k€ per project as 3% of total spend)

So if you have 2 sourcing contracts per year with a minimum spend of 2,500k€; or one 5M€ spend opportunity, having an in-house procurement resource will pay itself off, on top of all the other additional benefits that a solid procurement approach brings: better contracting and SLA, risk identification and benchmark, innovation etc… Below these amounts, it is hard for procurement to justify a clear ROI.

Sourcing for new or existing spend: How can procurement deliver value?

With these amounts in mind, the procurement process can really make a difference on both existing spend (typically an existing relationship that is contracted or not) or new spend (Sourcing of goods or services that were not acquired before).

Existing spend :

As seen, the financial benefits of procurement on existing spend are straightfoward : cost reduction, TCO consideration etc.. but procurement can also leverage a number of benefits that are maybe harder to quantify but are nonetheless critical.

• Value delivery: Procurement, through RFx, negotiation and contracting, can help mitigate supply chain risks and protect against poor supplier’ delivery. Everyone in the business can negotiate deals but often, KPI and SLA are omitted and the negotiated value is never delivered as contracts do not permit enforcement of this “negotiated value”. Procurement can help by framing good contracts (and executing contract management) and ensure your business is protected against poor performance, and value delivered.
• Risks (financial, data, public relations, etc..) and sustainability: Procurement can also add value with its vetting process, which brings impartiality, and looks at the wider picture. Through RFI, and proper RFx; the risks are usually identified and discussed through the process, guaranteeing the best outcome for the company and the planet.

As businesses mature, the management of existing spend moves away from tactical sourcing and move to more advanced models of category management.

New spend :

While procurement activities are often centered on existing spend categories, they can help with new spend and ensure :

• a good benchmark is run, ensuring that the best total cost is achieved from the start instead of starting “quickly with the historical supplier and see later”. A procurement approach will also ensure a contract is made protecting you against future risks (quality, delay etc..)
• and that competition will not undermine you immediately after by negotiating a better deal, because they took this extra step. (in some cases, negotiating some exclusivity in the contract will also delay your competition)
• the company is protected against value leakage and reputation risks, as discussed previously.

Eventually, a good procurement process can lead to a durable competitive advantage (think of IKEA) as you are able to go to market with the best terms. I’ve seen many companies not caring about negotiating or even contracting their new initiatives’ spend under the excuse of speed, but the whole approach can fail without this extra step. However, it remains critical to execute procurement with agility and pragmatism: delaying a new product or service by 6 months is often not acceptable.

Procure to pay efficiency :

The second aspect of a procurement job is about bringing efficiency – and compliance to the company buying process: the Purchase Requisition (PR) to Purchase Order (PO) and Payment processes. With over 100€ per Purchase order, digitalising and automatising the P2P process becomes a priority for businesses. Note that this number can be doubled if your invoice processing is manual (200€ for the end-to-end process), but let’s leave this outside of the argument for now, even tough procurement can influence the Account Payable process significantly and fairly easily.

Assuming again the same salary of 150k€ per annum and a reduction in cost per PO of 20% (20€ per PO of savings), a business needs to emit about 7,500 PO per year to make a dedicated procurement resource profitable – this is about 35 PO per day so again, not this much. If we consider the previously mentioned study, and assume linearity, it means a company needs to reach about 2,000 employees before it gets beneficial (from a simple economic point of view).

When businesses grow, the amount of purchases increases, and it can start to take a lot of time for your employees to buy compliantly. Usually, the first purchaser a company hires is hired to place these orders on behalf of the business.

• The levers for optimization are usually the following :
  • Digitalise the P2P process
  • Reduce the number of POs and invoices through consolidations

I will cover this in more detail in another article, as this aspect of procurement tends to affect companies that are maybe more mature, or simply bigger since they require a critical mass that is higher than the spend amount (yet they represent a key opportunity !)

So in summary, procurement can always add value to your organization, whether you need to negotiate one critical deal or just make sure your organization remains agile.

The procurement category management role has become a staple of the procurement organizations around the world. Moving away from local and siloed procurement approach, organizations have set up these centralized teams that aim at optimizing the spend on strategic segments.

As I started to work in such an organization which was setting up a category manager team across Europe, I found myself a little confused about my role: I was supporting buys in a category where budgets were defined by Finance, and buying decisions were made by the business partners so where exactly would I fit in this? One day, while pondering these thoughts, I discussed with a very senior (soon retired) procurement manager who said: “It should be very straightforward, think of your category as your own business, and look at each part of your process and optimize it. These words resonated a lot with me, and throughout the next couple of years, I tried to think of my category as a business in itself, where I had to remove frictions to make the “machine” more efficient and create more value for my customers.

Understanding your environment

As a category manager, or a procurement entrepreneur, you first need to understand your environment. That is you need to make sure you have clarity on :

• Your customers: Who are your key customers (stakeholders), what are they looking for, and what is their vision and objectives. Take time to map out these people and understand their motivations, goals and aspirations otherwise, it may be very difficult for you to propose solutions that actually fit their needs.
• The spend data: Any entrepreneur should have clarity on what it buys, how much it spends, where does it spends it, etc. Getting this data can be challenging in some organizations but even if not perfect, any category manager should have a big picture of this to start with.
• Your suppliers: Understand who are the players in your market, who are the incumbents, and why they were selected. Meeting incumbents and other key competitors is one of the key activities any new category manager should undertake in the first weeks of their role. If you don’t yet know the account manager in charge of your account, find them through Linkedin or through the supplier website.
• Your buying process: Understand each part of the P2P process, how efficient is it? How much time does it take your requestors to place an order? Are suppliers acknowledging the order fast enough? Are their invoices processed easily and correctly?

Identify the opportunities

Your role is going to be to create value for the business, at that stage, you understand your business stakeholders’ vision and objectives, where the spend goes, who are the key players and what they offer. With these pieces of information ask yourself what would help my customers the most ? From there, you can start making plans to create value in many ways :

• Renegotiation: If your analysis suggests that the opportunities lay in old, historical or no longer relevant contracts, you can aim at renegotiating existing spend. Old contracts are not always the sure way to big savings, but it’s often a good start. Whether through tender or direct negotiation, the goal is to obtain better terms so that the business could either reduce the budget or get more for the same amount.
• Process improvement: Savings from process improvements are my favorites, as they can come from anywhere in your P2P process. Where are the inefficiencies in your buying process? You will be amazed by just how many opportunities there are to simplify the ordering process or improve your suppliers’ invoicing flow, and this include making processes to save your stakeholder’s previous time !
• Risk management: If your procurement function is new, there are likely opportunities in managing risks. Is your business too reliant on one supplier? Do your suppliers have enough capacity to deliver you on time? Do you have contracts in place to provision for any dispute?
• Innovation: At other times, the opportunity can come from innovation that has not yet been adopted by the business but can have a tremendous impact on costs and the way you are doing things. Your discussions with incumbents and other suppliers’ account managers should give you good indications on this.

Capture the value :

Now that you have identified the opportunities, you will need to convince your stakeholders and sell them on the vision. To do this, the best practice is often to define a category strategy document it so that you have a clear plan for unlocking these opportunities over the next couple of years. It should outline the following :

• Where you are now: This is basically the summary of the first section’s questions.
• Where you want to be: Design the desired state including the operational model (who does what when and through what process or tools?) and benefits to achieving this result (savings but also value created, time saved etc…)
• How you plan to go there: Establish planning with timelines, resources needed and mapping of all stakeholders (RACI).

With this document validated by your stakeholders, you will have set the right foundations for your category and its execution will guarantee you have found your place within the organization and will deliver value for the business, beyond the simple cost reduction.

Conclusion

In conclusion, effective procurement category management is essential for organizations looking to optimize spend and create value in strategic segments. By understanding the environment, identifying opportunities, and capturing value through techniques such as renegotiation, process improvement, risk management, and innovation, category managers can drive significant benefits for their organizations. It’s crucial for category managers to view their categories as individual businesses and continuously seek ways to improve efficiency and deliver value to stakeholders. Through clear strategic planning and stakeholder engagement, category managers can unlock opportunities for cost savings, process optimization, and innovation, ultimately contributing to the overall success of the organization’s procurement function.

The procurement category management role has become a staple of procurement organizations around the world. Moving away from the local and siloed procurement approach, organizations have set up these centralized teams that aim at optimizing their spend on strategic segments.

As I started to work in such organizations, which was setting up a category manager team across Europe, I found myself a little confused about my role: I was supporting buys in a category where budgets were defined by Finance, and buying decisions were made by the business partners so where exactly would I fit in this? One day, while pondering these thoughts, I discussed with a very senior (soon retired) procurement manager who said: “It should be very straightforward, think of your category as your own business, and look at each part of your process and optimize it. These words resonated a lot with me, and throughout the next couple of years, I tried to think of my category as a business in itself, where I had to remove friction to make the “machine” more efficient and create more value for my customers.

Understanding your environment

As a category manager or a procurement entrepreneur, you first need to understand your environment. That is you need to make sure you have clarity on :

• Your customers: Who are your key customers (stakeholders), what are they looking for, and what are their vision and objectives? Take time to map out these people and understand their motivations, goals, and aspirations otherwise, it may be very difficult for you to propose solutions that actually fit their needs.
• The spend: Any entrepreneur should have clarity on what it buys, how much it spends, where does it spends it, etc. Getting this data can be challenging in some organizations but even if not perfect, any category manager should have a big picture of this to start with.
• Your suppliers: Understand who are the players in your market, who are the incumbents, and why they were selected. Meeting incumbents and other key competitors is one of the key activities any new category manager should undertake in the first weeks of their role. If you don’t yet know the account manager in charge of your account, find them through Linkedin or through the supplier website.
• Your buying process: understand each part of the P2P process, how efficient is it? How much time does it take your requestors to place an order? Are suppliers acknowledging the order fast enough? Are their invoices processed easily and correctly?

Identify the opportunities

Your role is going to be to create value for the business, at that stage, you understand your business stakeholders’ vision and objectives, where the spend goes, who are the key players and what they offer. With these piece of information ask yourself what would help my customers the most? From there, you can start making plans to create value in many ways :

• Renegotiation: If your analysis suggests that the opportunities lie in old, historical, or no longer relevant contracts, you can aim at renegotiating existing spend. Old contracts are not always the sure way to big savings, but it’s often a good start. Whether through tender or direct negotiation, the goal is to obtain better terms so that the business can either reduce the budget or get more for the same amount.
• Process improvement: Savings from process improvements are my favorites, as they can come from anywhere in your P2P process (LINK). Where are the inefficiencies in your buying process? You will be amazed by just how many opportunities there are to simplify the ordering process or improve the invoicing flow of your suppliers.
• Risk management: if your procurement function is new, there are likely opportunities in managing risks. Is your business too reliant on one supplier? Do your suppliers have enough capacity to deliver to you on time? Do you have contracts in place to provision for any dispute?
• Innovation: At other times, the opportunity can come from innovation that has not yet been adopted by the business but can have a tremendous impact on costs and the way you are doing things. Your discussions with incumbents and other suppliers’ account managers should give you good indications on this.

Capture the value

Now that you have identified the opportunities, you will need to convince your stakeholders and sell them on the vision. To do this, the best practice is often to define a category strategy and document it so that you have a clear plan for unlocking these opportunities over the next couple of years. It should outline the following :

• Where you are now: This is basically the summary of the first section’s questions.
• Where you want to be: Design the desired state including the operational model (who does what when and through what process or tools?) and benefits to achieving this result (savings but also value created, time saved, etc…)
• How you plan to go there: Establish planning with timelines, resources needed and mapping of all stakeholders (RACI).

With this document validated by your stakeholders, you will have set the right foundations for your category and its execution will guarantee you have found your place within the organization and will deliver value for the business, beyond the simple cost reduction. Don’t forget to remain agile and flexible to adapt to external and internal changes.