Recently, Pierre Mitchell of The Hackett Group asked you if you knew the difference between procurement value and procurement performance (part I and part II) and invited you to participate in a study that would help you identify where you were on your procurement journey by way of 18 value streams that range from “naive apprentice”, where you’re measuring performance at an elementary (tactical) level, to “expert sourcerer”, where you’re extracting procurement value at a very advanced (transformational) level. (Pierre also posted a link to a corresponding finance study that you can share with your finance associates, which will help Hackett compile a full view on the problem.) Hopefully, by now, you took the survey and are eagerly awaiting the result and insights that Pierre has promised to share with you on Spend Matters and Sourcing Innovation. (Note that the posts will be distinct and that you need to follow Spend Matters as well as anything posted on Sourcing Innovation will not duplicate whatever he posts on Spend Matters!)
In my post last week where I directed you to the survey, I told you that I would be sharing some of the value streams with you and explaining their importance as a lead in to Pierre’s forthcoming posts. The goal is to help you understand the value that can result from a procurement journey that takes you from a tactical outlook, that results in minimal ROI, through a strategic perspective, that results in moderate ROI, to a transformational realization that results in significant, long term, ROI.
The first seven value streams, which are still representative of the procurement that takes place at the majority of organizations today, are tactical. You’ll generally see some “savings”, but not very much. And the savings are not very sustainable. They range from:
The purchase price of an item is negotiated down from a list price
through
A fixed price is created and cost increases are avoided when the market price subsequently rises
to
The price stays the same but demand/consumption is reduced/delayed to reduce total spend
The purchase price of an item is negotiated down from a list price
This is old-school style procurement, and doesn’t represent “real” savings because suppliers expect you to negotiate them down no matter what price they list, so they build some negotiating room into the price, pretend to cave, get the deal, and get back to enjoying their relatively fat margins and traditional, fat, way of doing things. And then you start the cycle all over again when the renewal comes up and have to renegotiate the savings that were never there in the first place.
A fixed price is created and cost increases are avoided when the market price subsequently rises
This is another classic example of tactical procurement. If you’re in an industry where the raw prices traditionally inrease steadily over time, you know that if you lock in prices, the price will go up, and you can claim “savings” that you never really negotiated in the first place. And then, as before, you have to start all over again from the new list price at renewal time, lock in a new rate, and then watch the “savings” evaporate at contract expiration.
The price stays the same but demand/consumption is reduced/delayed to reduce total spend
While still tactical, this represents the transition point to truly breaking into the realm of strategic because it gets away from simply beating up the supplier in a negotiation and locking the price in a contract and moves toward thinking about ways to reduce costs and identify sustainable savings. However, since you’re simply delaying an order until you need it, or being careful not to waste supplies, instead of finding a way to reduce demand in the long term, it’s still tactically focussed. But it hints at sustainable savings, because if you become more efficient at JIT ordering and delivery, and better at reducing waste, over time, the small amount of savings you do find will be sustainable.
In Part II, we’ll dig into a few of the strategic value streams and explain how they represent real cost savings and lay the foundation for truly sustainable cost reductions that are fully realized when you eventually become transformational in your procurement strategy.