Last week, in our post on why Higher Adoption is Where the True Value of Optimization Lies, we emphasized the importance on not just having optimization, but an optimization-backed sourcing platform that can be used by the most junior of buyers. We focussed on the efficiency, time savings, and value such a platform would bring, but didn’t give you any hard numbers. While the hard numbers will be hard to come by, SI expects that the savings that hit the bottom line from such a platform will increase by at least 150% over using stand-alone optimization, and more than likely will double what an organization would see if it just used a regular strategic sourcing platform without optimization. We know that 2.5X is not a very impressive number when vendors go around talking about 10X ROI, but the ROI that vendors promise is relative to the cost of the platform, not the ROI relative to the organization’s bottom line, and that’s what really counts.
The reality is that, at the end of the day, after COGS, depreciation, taxes, etc. are factored in, a good Procurement organization might only take 2% off of the bottom line. This doesn’t sound that impressive, unless the organization is a 10B organization where 2% is 200M, in which case it’s knock your socks off impressive. Now imagine if that same Procurement organization could increase the straight to the bottom line savings by 150% and show a bottom line savings of 5.2%. That’s another 320M in annual savings for a total savings of 520M! That’s buy everyone on the Sourcing team a custom made Jaguar savings because no other initiative is going to take that much off the bottom line.
But you don’t have to be a 10B organization to see the impact. Imagine you are a small mid-size organization with only 100M in annual spend. Instead of seeing an average year-over-year impact of 2M, you’d see 5.2M. If a fully burdened FTE is 200K and you had a small Procurement department of 5 people managing your spend, the department’s ROI would go from 2X to 5.2X in a single year, and that is quite significant.
So where are these, quite conservative, numbers coming from?
- A Best In Class Organization has 80% of spend under management (Hackett, Gartner, etc.)
- A Best in Class Organization will strategically source approximately 1/3 annually (due to resource restrictions) (Crowd Wisdom approximation used by many vendors)
- A Best In Class Organization with stand-alone or hard-to-use optimization capability will only put the top third of complex, strategic, or high volume spend through the organization (Generous crowd wisdom approximation based upon SI’s interaction with optimization vendors)
As a result, (at most) one-third of one-third of four-fifths of spend gets optimized on an annual basis, or about 9% gets optimized using strategic sourcing decision optimization and the full extent of its capability.
However, if the organization has an optimization-backed sourcing platform that is configured for one-click evaluations and automatic weighted auction awards for low-cost / standard categories,
- 98% of spend can be under management (as it can flow through the platform as easy as it can flow through an auction or spot buy RFP),
- one half of that can be sourced annually due to efficiency gains
- and all of this spend will be subject to optimization.
This means that about one half of organizational spend, or about 48% of spend, can get at least partially optimized on an annual basis. In other words, an organization can subject 5x its spend to optimization on an annual basis.
The net result is that an organization that adopts an optimization-backed sourcing platform that can be used by every buyer will see at least 150% more savings hit the bottom line every year. Why?
If we look at the numbers:
- the average return from Procurement at a world class organization is 4.7% (Hackett Group)
- the average return on tail spend (which is never strategically sourced) is 7.1% (Hackett Group)
- the average return from SSDO on a strategically sourced category where the full power of the solution is enabled is 12% (Aberdeen)
This leads to the following (where we assume 20% of spend is “tail spend”):
09% using SSDO @ 12.0% savings = 1.0% savings
18% using SS @ 04.7% savings = 1.0% savings
TOTAL = 2.0% savings
38% using SSDO @ 12.0% savings = 4.5% savings
10% using SSDO @ 07.1% savings = 0.7% savings
TOTAL = 5.2% savings
Now, mileage will vary among organizations, but this example should make it pretty easy to see that optimization is a huge value driver that will have a significant impact on your bottom line when it is widely deployed.
So if you want to know what to look for in an optimization-backed sourcing platform, download Optimization: Higher Adoption is Where True Value Lies (registration required) today and find out what you need to take optimization from a success to a smashing success in your organization.