Category Archives: Best Practices

There are No Economies of Scale … Just Economic Production Quantities

As the public defender likes to point out on a regular basis over on Spend Matters UK / Europe, economies of scale is a procurement myth. The idea that the more you buy, the bigger discount you can get because the cost diminishes is a myth because, if it were not, if you could buy a large enough quantity, then the cost would eventually get close to 0 per unit.

But the reality is that there are always hard costs that cannot be reduced in the supply chain … particularly those components that involve human labour — product creation, product transportation, product component creation, product component transportation, raw material mining, raw material component transportation, security guards for storage, etc. — and facility leases, utility cost, taxes, etc.

And there are always limits to “economies of scale” production lot sizes. If the line can only do 60 units per hour, then the line can only do 2400 in a normal workweek, 4800 in a double shift work week, 7200 in a triple shift work week and maxes out at 10,080 a week … assuming no downtime (and most lines will require some maintenance). In this case, the major economies of scale are 2400, 4800, and 7200 — as this insures that the labour cost (and facility costs) are spread over the maximum number of units.

In other words, there are economic production quantities (EPQ) where the price per unit is minimized, and this is the optimal economy of scale.

So if you really want to minimize your costs, you can start by minimizing your supplier, and carrier costs, which can be done by appropriately distributing the award across suppliers in economic production quantities that can allow them to give you larger discounts (and still retain a reasonable margin). So how do you do that? Considering that each supplier has a different EPQ, each carrier has a different EPQ, and this varies by product (and plant location), how can you possibly figure out how to split in such a way that you can enable suppliers to reduce their bids?

If you’re a regular reader of Sourcing Innovation, you know the answer. A decision optimization platform …

Why do you need a process for Procurement?

Procurement is the action of procuring …

To procure is to obtain with care …

Just doing a random search on your favourite web store and clicking “buy” on the first product that might fit your needs does not involve the application of care.

That’s why you need a process … and preferably a platform to back it up.

Simple enough explanation?

The More Things Change … Negotiations

Ten years ago we posted timeless principles to steer you through negotiations and, looking back, they truly were timeless. Each is as true today as it was then as they were a decade before we summarized them.

Negotiating is not about dividing up a limited pie in ways that are divisive. It is about making a bigger and better pie.

If each side sees the pie as small, then each side is going to want a bigger piece of that pie. But if the pie is large, both sides will be happy with a piece that is about half.

Conflict is at the heart of negotiation but only a positive view of conflict will result in a successful outcome.

Both sides must believe that a resolution will occur that both sides will be happy with.

There is a time to speak and a time to shut up in negotiations. When you do more listening than speaking, you actually increase your power.

If you don’t understand what the other side wants, really, really wants, then how do you know what you really need to give up and what you don’t? After all, you must

Recognize that you will only reach agreement by understanding the deeply-held needs of the other side.

Both sides make a lot of demands, but at the end of the day, only a few of the demands will generally be non-negotiable.

In power negotiations, when the stakes are high, let the other side believe what you or they want them to believe. But don’t lie or be dishonest.

If you can distract them away from what the biggest value is to you, it might help.

You can only succeed in negotiations with a win-win attitude.

As per our first point, you have to be focussed on enlarging the pie so you can divide it up in a way that both sides see a win.

Negotiating is an essentially human way of interacting.

That’s why you will get to keep your job when Procurement bot takes over inventory, re-ordering, spot-buying, and the vast majority of your job.

The More Things Change … Outsourcing and Procurement Mastery

This week we’re revisiting posts from ten years ago to demonstrate that, to date, the more things change in Procurement, the more they have, unfortunately, stayed essentially the same.

Ten years ago we penned a post on outsourcing and procurement mastery that summarized the results of an Accenture study that found that, on 1B of controlled (normalized) spend, procurement masters achieved 30% higher savings with costs that were 50% lower.

Nothing has changed. If you have been following the Hackett group publications for the past decade, you’ll note that top performers always perform significantly better than average performers. Maybe not 30% cost reductions, but pretty close. For example, in Hackett’s most recent study, World Class Procurement organizations see 35% process cost reduction, which is quite significant. And just about every GPO publishes typical category-based cost reductions in the 10% to 30% range, which is easily achievable through advanced sourcing technologies such as spend analysis (to identify the opportunity) and decision optimization (to capture the opportunities).

The only thing that has changed is how disturbing it is that there is still so much overspend in the average organization — and how easy it is to identify it. By now the majority of organizations should own advanced sourcing and procurement technologies and be identifying the majority of these savings on a regular basis. But it’s still not the case. Over 40% of organizations don’t have a single modern sourcing or procurement solution.

We’re still way behind where we should be. In this regard, unfortunately, nothing significant has changed in a decade.

The More Things Change … Global Product Development

This week we’re going to revisit posts from ten years ago and demonstrate that, to date, the more things change in Procurement, the more they have, unfortunately, stayed essentially the same.

We’re starting with a piece we published a decade ago on the benefits and risks of global product development. In this piece we noted that while the risks of global product development are many, so are the benefits as outsourcing can often open the organization to talent pools it wouldn’t have otherwise.

However, as we pointed out, the benefits won’t materialize if the risks aren’t mitigated, as any risk can destroy an entire sourcing and new product development plan. And the strategies for mitigating risk, as identified in the original article, are as relevant today as they were then.

NPD (New Product Development) still requires product road-mapping and portfolio management, iterative design and validation, product architecture and system design across the value chain, knowledge management so nothing gets lost, IP management, talent management, and, most importantly the right Product Lifecycle Management platform.

Without an integrated platform to track what is coming from where in the supply chain, who is doing what, what events are occurring, which of those impacts could cause a disruption, and what the potential (cost) impact could be, the organization is literally flying blind.

However, we still don’t have one platform for NPD that also manages end-to-end supply chain risk. And this is risky business. We have great platforms for NPD and product costing (including, but not limited to, Apriori, I-Cubed, and Supply Dynamics) and great platforms for risk identification and management (Achilles, Resilinc, and Risk Methods) — but not an integrated risk-centric new product design platform.

The missing strategy is still missing. Will it finally materialize ten years from now?