Category Archives: Procurement Innovation

Cost Reduction … it Starts With Cost Increase

It used to be cost reduction, which was focussed on cost cutting, started with the one-trick pony of cost cutting by any means necessary, which typically took the form of e-Auctions, RFPs to new suppliers, and GPOs that could aggregate and leverage huge volumes — all tricks that are rearing their ugly heads again with the rapidly rising costs thanks to inflation, tariffs, and global instability.

They all work just fine in the short term, but they all come back to bite you in the backside in the long term. Here’s why:

  • e-Auctions: find savings by squeezing margins, and you can only take those out once, and once inflation comes back, costs go up
  • RFPs: designed just to find the absolute lowest price attracts suppliers who cut corners, underpay their staff, and offer no service while alienating your current, more trustworthy, suppliers
  • GPOs: can aggregate volumes and lower prices, but then you are dependent on them, and paying their markup … forever

None of these is the long term answer.

When we first started discussing cost reduction two decades ago, the key methods we focussed on were:

  • strategic supplier relationships and customer of choice: so that they put the effort into being your supplier of choice and finding their own ways to keep costs down (streamlined operations, better raw material sourcing, etc.)
  • supplier investment and development: if the supplier is smaller, or not as advanced, they’ll only do so much on their own, so your efforts to invest, improve, and guide them (through early payments, low-cost new line financing, etc.) could greatly lower your costs over a multi-year engagement
  • strategic sourcing decision optimization: where you did a multi-objective optimization that took all of the cost factors (unit, transportation, warranty, service, waste etc.) into account as well as risk (that could cause “savings” to evaporate over night) and quantitative assessments of other key factors

And those are all good techniques in (semi) normal times. But these are not (semi) normal times. These are almost unprecedented times. Between natural disasters, geo-political conflicts and wars, and terrorism, we are dealing with unprecedented simultaneous reductions and closures of major maritime shipping lanes (the Panama Canal, the Red Sea, the Strait of Hormuz), unstable (and rapidly escalating) fuel costs, regular supplier and carrier failures, unpredictable crop and raw material availability, etc. all at the same time. Old friends becoming foes, or at least frenemies; friend-shoring, near-shoring, and home-shoring finally gaining ground (despite being promoted and the right answer for decades); and supply chains being swapped whenever possible.

We’re in times where these techniques, while still good, can’t always address all of the situations. Plus, if you’re constantly adapting to what’s available now, versus focussing on what you should be building, you’ll be in a constant, unstable, state of affairs, caught off guard with every flux, and constantly on the brink of ruin.

You need to stop working sourcing event to sourcing event, procurement to procurement, and disruption to disruption and start working on transforming your supply chain to a more resilient long term supply chain. This will require identifying which safe countries and regions (likely to have long term geo-political and trade stability with your home and/or destination countries) you should be doing business with, where solid supply bases could be, and how you could construct a real supply chain from the source countries to the destination countries that don’t depend on unstable source points.

Then you have to engage the carriers, find partners to help you manage the export and import requirements and take advantage of FTZs (free trade zones), build or acquire intermediate warehouses and cross-docks, and be ready for trade with the local suppliers. Those will typically include multiple suppliers you are not currently working with, and they may need to upgrade their production lines, operations, services, etc. to serve you to your level of expectation. This will incur costs that your suppliers and partners will need to incur, which will need to be passed onto you. Which means, in the short-to-mid-term, your costs will increase. But if you design the right, stable, supply chain networks that you can use for years (or decades), develop the right suppliers, and maintain volumes, as operations improve, up-front costs get amortized, and economies of scale get optimized, costs will go down, and with long-term agreements, over multiple years, your company will see previously unrealized savings while your peers see their costs go through the roof.

So if you want to save money, you better be prepared to spend.

What Data Do You Need For Successful Procurement?

In a comment to a recent post over on Linked in, Mr. Buckingham asked Do you think that data driven decisions are clearly the correct thing to do, but that they tend to maintain the status quo and can be restrictive to innovation?

I couldn’t leave this one alone and responded that:

“They only maintain the status quo IF the data collected and constraints created are limited to those that support the status quo … which, sadly, they usually are …

As the Sourcing Optimization Grand Master Paul Martyn recently pointed out — the real context never gets mentioned, stakeholders just add “necessary” constraints, costs, and weightings that they know will heavily favour the incumbent

And as the Sourcing Simplifier Garry Mansell regularly points out, organizations fail because they only include the best lagging indicators in board presentations to ensure they can keep doing the same old, same old

But if you instead collect [only] external data on the market, and not internal data that supports the status quo, the tendency will be to focus heavily on innovation and change.

Data is the way to go, but it has to be evenly distributed across internal and external so you can get the full picture.”

Seemed like this is something that should be elaborated on.

For example, let’s say Procurement is trying to gauge the effectiveness of their category sourcing in a key category. They could demonstrate this through internal or external metrics. Internally they could show the average price per unit decreased year-over-year by a significant percentage. Externally, they could retrieve the average market price for the primary products and show they are paying less. If they only ever use one of these metrics, and it stays good, as Mr. Buckingham notes, it maintains the status quo, even if it shouldn’t. In order to truly gauge effectiveness it has to, at the very least, measure both. Just reducing costs doesn’t mean you are getting the best price, and just beating the market doesn’t either. In some categories, market quotes / GPO rates / etc. are never the best price, which is dependent on what you actually need, who, and where, you are getting it from.

Digging deeper, if the specs are over engineered, you restrict to a suppliers in a certain geography, or only deal with incumbents, you’re not getting the best price. So you not only need to take internal and external measures and benchmarks, but ensure you are taking the right internal and external measures and benchmarks.

And then, if there are hidden costs (from increased risk, revised shipping / order lead times, quality reductions, etc.), take this into account as well. (Which is why you need strategic sourcing decision optimization with what-if scenarios, as we’ve been telling you for the past 20 years.)

Only when you identify the right data and collect the right data can you make the right decision, which might reinforce the status quo, might tell you do do something completely different, or tell you to split your bets and do both!

The reality is, you should always make data-driven decisions, but you can only do so if you are collecting the right data for your needs.

For a Successful Procurement, you need Lagging, Lasting, and Leading Indicators!

A recent post by Garry Mansell on why some businesses fail while the numbers still look fine really makes the case on why you need all three types of indicators to be successful.

According to Garry, it happens more often than people admit. The revenue doesn’t collapse first. The reputation wobbles first. And once reputation wobbles, revenue follows on a delay. You can usually see it early, but it appears as weak signals. A different tone from customers. Partners becoming slower to commit. Hiring taking longer. Senior candidates asking slightly sharper questions. Suppliers quietly tightening terms. Teams becoming cautious about promising anything externally. It’s never announced. It’s felt.

The reason boards get surprised by this is that most board packs are built around lagging indicators. By the time the numbers reflect the problem, the organization has already lost something harder to regain … belief.

Revenue numbers are lagging indicators, but those are key indicators in the board pack. What are needed are lasting — sales cycle time — and leading — sales cycle time trend changes — indicators. If the revenue cycle time is increasing, and has been for the last two or three quarters, that’s a really bad sign, even if revenue is more-or-less staying constant because a flat organization can only support so many sales cycles, and revenue will start falling if they drag out much longer.

The same problems appear in Procurement presentations, which typically have the opposite problem, especially when trying to sell new processes or technologies just implemented. They will quote leading indicators like identified savings, and ignore the lasting, average cost per unit reduction adjusted for inflation, or lagging, actual savings vs. projected savings 12, 24, and even 36 years ago (for three year contracts). After all, as far as the CFO and CEO are (rightly) concerned, it’s not savings if it doesn’t hit the P&L!

So make sure to include all three indicators. In Procurement:

  • leading indicators define what should be possible
  • lasting indicators define what path the organization is on
  • lagging indicators define what the Procurement organization has actually achieved

Just like, in Sales:

  • lagging indicators define what happened in the past
  • lasting indicators define what is happening now
  • leading indicators define what is going to happen … and how good, or bad, it’s likely to be

To remain successful, revenue must, at least remain on track, if not increase in an organization just like Procurement success must also remain on track, if not increase.

Another Reason You Can’t Wait Too Long for the CPO!

In our last post, we reviewed a post by the Great Garry Mansell on the rule of two where he outlined when an organization needs to hire a COO in order to continue to grow. We noted that you can use the same same logic to determine when you should hire the CPO, which should happen earlier than most organizations believe.

In a follow up post on the hidden tax, Garry gave us another great reason to hire a CPO early.

Basically, as organizations grow, they spend money to feel professional. It’s a hidden tax that grows over time that not only (greatly) reduces their EBITDA and profit, but also decreases their resiliency.

As Garry points out, as companies grow, they spend money to feel professional. They add tools because someone recommended them. They add layers because it feels grown-up. They add process because it looks like control. They add roles because it feels safer than making a hard choice about what to stop. And then they end up with three to ten times as many tools as they should (just look at the average number of SaaS tools in an organization), and spend two to three times as much as they should be. And the processes they add are not the right processes because they don’t have the expertise to define best-in-class sales, marketing, procurement, etc. processes because they don’t have a seasoned CRO, CMO, or CPO to define them. They hire people they don’t need to get stuff done that should be automated or simplified by better processes (that could only be defined by the right senior people who should be hired at the right time, and funds saved until they can be).

This is another reason why you need a CPO early. A CPO will vet not only the reason, but the ROI, of every proposed product/platform and prevent unnecessary purchases and, if something is required, find the best product/platform. They will prevent processes that don’t add value. And they can even help determine when hires are really needed or when better platforms and processes can delay the need.

Procurement will focus their spend on the things that improve outcomes. And they will happily cut the things that improve optics because optics don’t carry you through volatility. Cash and speed do. And Procurement will help you conserve cash and act as fast as it is prudent to.

As Garry states A “good company” that has protected margin and kept agility will outlast a “professional company” that has simply become expensive. And a good company is one that puts Procurement front and center. After all, as Coase clarified, Procurement is the reason a company exists!

Don’t Wait too Long for a True #2: The CPO

Garry Mansell recently wrote a great post on the a rule of two that dictates when the founder of a growing start-up needs to hire a COO to help manage the day-to-day to keep the start-up on the growth track. Garry labels the position the second-in-command — a true strong number two! But he should call it number one, because the role of this CEO’s right hand is to create pace without drama … absorb ambiguity and turn it into clarity … make the founder less central … and allow the organization to scale without burnout.

As Garry points out, when it hits the wall where the company struggles to scale, the company is in a state where it looks like the founder being busy, but not effective. It looks like things moving, but not compounding. It looks like decisions being made, but not sticking. It looks like the organization waiting for the founder to be present to progress. As a result founders often try to solve this with many more heads. Another manager. Another lead. Another layer. It can help in the short term … until the founder becomes the bottleneck for alignment across those layers. They don’t admit that the hardest part is not finding talent. It’s letting go of the belief that ‘only I can do it properly’. They don’t realize it becomes the thing that limits growth.

But when the organization has a good COO, she doesn’t just take tasks. She takes load. She takes ownership of outcomes … and they make the founder better by refusing to let everything sit in the founder’s head. And Garry’s right on all accounts.

The same logic more-or-less dictates when the organization needs to hire a CPO. Even if the CPO is the entire team. Once an organization is big enough for the founder to hire a COO, a true #1, one of the hats the COO inherits is the CPO hat — and takes over the Plague of Purchasing. But as the organization continues to grow, more and more divisions/teams need to buy more and more products and services of all shapes and sizes, which requires more and more decisions and analysis, more policy, and more decisions … which get made, not properly codified, forgotten in the heat of the moment, and made again. Just like when the organization reached the point it needed a CEO, we again have the situation where it looks like the COO being busy getting Procurement done, but not effective. It looks like things moving, but not compounding. It looks like decisions being made, but not sticking. It looks like the organization waiting for the COO to be present for Procurement to progress.

Even though the organization might only be spending a few million, and the savings might only be a few hundred K, which would barely cover the cost of a CPO, making it look like it’s too early to hire the CPO, but it’s the right time. Hiring early allows the CPO to define proper processes and procedures, define platform and automation needs, determine the right time to pull the trigger on platforms and applications, identify when category managers / senior buyers are needed and the team needs to expand, and because processes and platforms were built into the organization as it grew, the CPO will be able to delay hires longer than peers because Procurement will be efficient from the get-go.