Category Archives: Finance

Dealing with Price Volatility in the Turbulent Global Marketplace

In the Hackett Group’s recent insight on “Taming the Inflation Dragon”, we find out that the average company is facing a 9% drop in corporate profits this year due to rising prices and other inflationary pressures and that this translates into a 150 Million hit to the bottom line for a typical Global 1000 company with 27.8 Billion in revenue. Ouch!

Obviously, the company is counting on the supply management organization to control costs despite the rampant price increases in a market where commodity inflation has not only increased by 30% overall but where price volatility has increased nearly 60% since before the recession. Not an easy challenge, especially since speculation in commodity markets is having a major impact on 43% of companies and a moderate impact on 17% more. And with the majority of suppliers passing on increased cost, every company is feeling the squeeze. So what can a supply management organization do to improve the situation?

Use rigorous input price/cost forecasting processes
that integrate data from a large number of sources (public indices, private indices, third party market intelligence, etc.) and internal purchase price history. The processes should include years of historical data in the analysis and apply multiple forecasting models to arrive at most likely prices given current trends and models that traditionally work well under similar levels of price volatility.

Augment input cost forecasting with scenario-based business planning processes
that integrate input price/cost forecasts into a pro-forma profitability plan. The scenarios should consider the extreme cases where demand explodes or demand plummets so that the organization can also develop supply risk management contingency plans and estimate their associated costs so that the overall price/cost models are reasonable and capable of being rapidly adjusted if needed.

Employ advanced demand forecasting models
that create good demand forecast ranges to lock down supplier capacity and pricing. Given that one in four companies experiences significant price volatility by having to pull against limited supply, the last thing a supply management wants to do is have to spot buy in a tight market.

Centers of Excellence that use deep predictive analytics
to not only identify input costs that are likely to increase significantly or undergo increased volatility, but to develop detailed should cost models to support negotiations against undue supplier increases, to reduce supply needs of cost-inflated items by changing specifications or identifying alternate materials, and to identify non-price items that can be traded to off-set price increases (such as better payment terms, new business, or supply management support from your supply management organization). Analytics is a key technology for cost reduction and avoidance across the board.

Clear direction and strategy
for hedging and decision making. This needs to start with a cross-functional consensus on what the business objectives are. Is it to “beat the market”, even if it comes at the cost of establishing complex hedging processes? Is it to “smooth” supplier pricing? Or is it to “smooth” margins by the simultaneous optimization of sell-sie and buy-side commercial strategies. Supply Management and Finance must be aligned.

Outsourcing is More Than Throwing It Over the Wall

While outsourcing may be on the rise, it’s still not the holy grail of cost savings. The number of companies that bundled two more or more core F&A processes into an outsourcing deal may have doubled in 2010 (as compared to 2009), but it’s still no reason to rush into one. Even if it is, on the surface, getting cheaper (as the average contract value appears to have shrunk almost 40% since 2004), it will not necessarily save you money. First of all, there has to be money to save. If the organization has a global services unit that is best in class in a process, the organization is not going to save much by outsourcing. Maybe a few percentage points if the organization contracts to a best in class outsource provider that can leverage economies of scale, but that’s it. It is hardly worth the risk of losing the knowledge. Secondly, and this is the usual reality, if the process is broke, throwing it over the wall is not going to gain any efficiencies or savings, at least in the long term.

A recent article in CFO Magazine on how “outsourcing matures, slowly” did a great job of making this point with a quote from Mark Satchel of Skandia, a European investment firm that signed a 175 million dollar multi-year outsourcing deal with HCL Technologies. Skandia hired HCL to develop applications and manage the infrastructure of Skandia’s legacy systems, and absorb 250 of Skandia’s IT employees in the process. While it probably sounded great on paper, as it likely would have taken at least 25 Million in fixed recurring costs off the books, as well as the huge headache of managing legacy systems, which is something an investment firm wouldn’t be an expert in (or want to do), it was a poor decision.

Not only does such a deal “result in a great deal of inflexibility”, as Mark Satchel noted, but it doesn’t address the core issue. The reason that Skandia needed so many IT employees and a sophisticated data warehuse was because it was running on legacy systems. Skandia should have first modernized its systems and processes and then thrown it over the wall. Then, instead of having to go back and renegotate the outsourcing deal to contain the flexibility it needed to serve the “peaks and troughs” of its needs, including the need to update systems, it would have negotiated the right deal the first time. (And “the right deal” would have been considerably less as it’s a lot more cost effective to support new systems than legacy ones.) And Mark would have spent a lot less time wondering whether the gain on one side is lost on the other.

So before you throw that process over the wall, ask yourself:

  1. Is the process (and supporting technology) ready for outsourcing?
    If it’s not, fix the proces (and / or update the supporting technology) first.
  2. What can I reasonably expect to save by outsourcing?
    If only a few percentage points, it’s probably not worth it. If over 10%, then it’s definitely worth pursuing.
  3. What could happen and what flexibility do I need in the agreement to insure I don’t get caught holding the hot potato?
    Flexibile staffing? Variable throughput levels (because more invoices have to be processed over the holidays, for example)? The ability to include additional resources for system updates or replacements at pre-defined costs?

If you do, you’ll be better off.

Ariba Vision 2020: I Hope It’s Just a Ruse!

This post addresses the four predictions in Ariba’s “Vision 2020 – The Future of Procurement” report that were totally off base. SI is not sure whey they came from as they’re not even close to any reasonable expectation of Supply Management reality in 2020.

05. Data predicts the future

Yeah, and monkeys might fly out of my butt!

We will never reach the point where we can be confident that a supplier’s performance will always fall within our customers’ requirements. We will never predict all defects. And we will never predict all disruptions before they happen. Predictive analysis will get better, our value models will get better, and supply chain reliability will increase, but it will never be perfect and never known in advance. Just like we likely won’t see true AI within our lifetime as current approaches just don’t cut it. (And if we do, the machines will realize how inferior we are, and as soon as we forget to encode Asimov’s three laws of robotics into a single robot, we’re doomed!)


Data, data everywhere
and all our minds will shrink
data, data everywhere
sanity on the brink

08. Outsourcing explodes

Actually, outsourcing will suffer a massive implosion as freight costs make moving goods globally prohibitively expensive and exploding labor costs in emerging economies make outsourcing key service functions more expensive than keeping them in-house in major metropolitan centers. What will actually happen is an emergence of Global Service Centers that are part of the organization and employ the right talent for the job at the right locales. Tactical functions will be executed in low cost locales. Strategic functions will be executed where the organization gets the most value. And while some functions will be outsourced to massive third party Global Service Organizations, they will be managed by a Global Service Center that will push out or pull in as market conditions dictate.

10. So long, sourcing geeks
Not by a longshot. While most tools will become so intuitive that even a novice will be able to execute most sourcing and procurement events, there will still be situations where advanced modeling and analysis will still be required and where only sourcing geeks with a keen understanding of the business needs and the strategic analysis required will be able to perform that analysis. While it’s true that the number of sourcing geeks needed may shrink in relative terms, the skill sets required by these geeks will actually increase.

12. Budget fuss fizzles out
As Woody Woodpecker would say, ha ha ha Ha ha, ha ha ha Ha ha, ha ha ha Ha ha, heh-heh-heh-heh-heh-heh-heh-heh-heh! Budget fuss is never going away. Finance drives the business and budgeting is so ingrained in financial professionals that there will always be fuss and muss. While more CPOs will be involved in the budgeting process since day one, they will still have to make their case over and over and over again, no matter how obvious it is.

This ends our review of the 31 predictions in Ariba’s “Vision 2020 – The Future of Procurement” report. Our next, and final, post will discuss the report as a whole.

Ariba Vision 2020: Tomorrow’s Shoes (Part I)

This is the first of two posts that address the fourteen predictions that were dead on in Ariba’s “Vision 2020 – The Future of Procurement” report. Any Supply Management organization that recognizes the truth of these predictions is well on its way to formulating a plan to be a leading Supply Management organization in the decade ahead.

01. Everything is automated

This prediction is dead-on. Next Generation Supply Management shops are investing heavily in technology to automate all non-strategic and low-value supply management activities, leaving the sourcing professionals to focus on strategic and high-value categories where they can extract the most value for the organization.

07. Spend management shrinks

I’ve said it before, and I will say it again: Spend Matters Not. It’s not how much you spend, how you store it, how you cube it, or how you report on it — what ultimately matters is how much you get from it, profit from it, and derive value from it. Next Generation Supply Management organizations are focussed on improving business outcomes, not cutting costs until quality and stability of supply suffer. Spend Management will shrink as true Supply Management focussed on value takes its place.

09. Service providers excel

Given the increasing cost of outsourcing complex and strategic functions to emerging economies where labour rates are rising exponentially, in order to maintain cost competitiveness and deliver value, the service providers will provide service that constantly improves in efficiency and execution.

13. Let’s get financial

Since overall financial success will still be the ultimate measure of value generation in public enterprises, Supply Management will revolve around the financial supply chain and will be heavily involved in optimizing cash flows, working capital, and financing programs from NPD through return and disposal.

14. SM pros get sophisticated

Supply Management professionals will definitely be much more sophisticated in 2020 than they are today. As the secret agents that essentially drive all aspects of the business, their business savvy, analytical capabilities, relationship skills, and overall execution abilities will be, for the most part, a level above where they are today.

15. Supply pros expand expertise

This is the obvious result of a supply managmeent professional getting more sophisticated. It should not have been included as a separate prediction because it’s impossible to get more sophisticated in Supply Management without expanding depth of expertise in key areas.

16. Strategy scope widens

One does not get to the next level by maintaining a narrow focus, so it should also be obvious that the scope of strategy addressed by an average Supply Management organization is going to expand as well. The strategy will be more closely aligned with the needs of the organization’s end customers and be more cognizant of the needs of the current, and future, customer base. Supply Management will be increasingly called upon not only to analyze merger and acquisition possibilities, but to lead the initiative as success will depend upon succesfull integration of the end-to-end supply chains. And it will be involved in all NPD from day one to help identify customer needs and supplier capabilities before any decisions are made.

The next post will address the other seven predictions that were dead-on.

Afraid of a Hostile Take-Over? Get a Shareholder’s Rights Agreement!

Also known as a “poison pill”, a shareholder rights agreement can be a valuable anti-takeover device for a company that wnats to remain independent. Given that M&A activity is likely to go on an upswing as the economy slowly recovers, any company that sees itself as a likely takeover target that wants to remain independent should consider taking any steps it can to stay that way. As per this recent Industry Week article on how “poison pills still offer protection”, especially if the poision pill triggers below the 5% IRS threshold.

It also summarizes a few suggestions from a new report from the Conference Board, titled Poison Pills in 2011, that recommends that board members absain from certain defensive tactics, such as introducing supermajority voting requirements or disallowing action by written consent or limiting the ability to call special meetings, because they could cause the ire of ISS and attract activist shareholders.