|
As companies weigh the relative costs of various methods to increase profitability, the value of cost reduction, through a more strategic focus on procurement, becomes self-evident. Companies typically spend between 50% and 80% of revenues on the procurement of external goods and services (see Figure 1). Even small cost improvements to these expenditures can quickly yield significant bottom line benefits. And when correctly executed, these improvements can create sustainable year-over-year cost reductions to support continued profitability and growth.
Figure 2 illustrates this point by showing the financial impact of a conservative cost reduction when applied to a company with a 15% operating margin and a typical expense profile (65% of revenues are spent on direct and indirect materials). In this example, a 5% reduction in indirect expenses alone generates a 34% improvement in earnings per share for a company with a 10% operating margin.
Procurement
While the financial impact of procurement is dramatic, the associated risks and savings are costs are relatively low, especially when compared to other cost reduction initiatives a low risk, such as decommissioning plants or layoffs. Rather than contending with the negative positive impact impact created by more drastic cost-cutting measures, procurement initiatives alternative generate the best kind of results: positive reports of improved profitability.
High-value Opportunities to Drive Immediate Savings
Thoroughly reviewing accounts payable history and mapping expenditures can provide tremendous insight into corporate savings opportunities. In-depth analysis and classification of more than $80 billion in spend reveals the following common issues and findings:
- Companies buy the same or similar products from many different suppliers, which means they are not leveraging total company buying power and they are managing more suppliers than necessary.
- Companies have not fully defined product requirements or established standard SKUs for many items. In such cases, companies may be buying items that exceed their needs when a less expensive item is perfectly suitable.
- Companies have not established formal supplier agreements for a large number of product categories or optimized their sourcing efforts by engaging a broad supply base and creating a competitive negotiation environment.
- Even in cases where companies have implemented a formal sourcing process, compliance against negotiated contracts is often low, resulting in increased costs and supplier proliferation.
While these problems may appear overwhelming, there are a variety of solutions to address them and drive bottom line savings.
Doing Procurement Right: A Comprehensive Approach for Immediate and Sustained Savings
To extract the maximum value from procurement, companies need to understand their spend, select the best approach to source and procure each set of goods and services, and continuously monitor performance. By focusing on these steps, companies can create the highest overall return with the greatest immediate benefit. Companies often skip the spend analysis step and start with the familiar, neglecting potentially large areas of cost reductions. Today?s sourcing and procurement solutions can help companies begin saving in a matter of months, providing significant early returns that can fund longer term initiatives. Closing the loop with compliance and performance management secures cost reductions and creates opportunities for additional savings.
So how can a company effectively achieve measurable and sustainable cost savings? They must address the entire procurement value chain from savings identification, to negotiation, and most importantly, realization. The five essential steps are described below:
1. ASSESS for insight and opportunities.
Any savings initiative should start with a thorough understanding of what a company buys, and from whom they buy it. A complete spend assessment will provide immense visibility into a company?s needs, their total buying power, and the degree to which they are leveraging that power. While this process may appear complicated, there are many solutions to help companies conduct a spend analysis-from custom data warehouses to spot consulting support to existing supplier databases and tools that can quickly categorize data up to 80% in weeks.
2. SOURCE for savings.
Equipped with an understanding of needs and opportunities, companies discover a majority of savings through effective sourcing. An effective sourcing methodology will address product specification rationalization, recommend standard buying practices, use the most appropriate sourcing and negotiation strategy for the category, and achieve the lowest total cost. To maximize sourcing results companies need to obtain category specific expertise, deploy the right sourcing strategy, and apply today?s available technologies.
|
