Do You Know the Difference Between Direct and Indirect?

Direct materials are typically classified as raw materials, standard or specialized parts, and sub-assemblies required to manufacture a product. As a result, direct goods and services are typically classified as those goods and services that are strategically important to the organization. For example, for a CPG it is the goods it sells, for a Pharmaceutical it is the chemicals and biological materials it uses for research and drug production, and for a Bank it is the systems and market intelligence feeds it uses to run.

Indirect goods are those goods and services that are not strategically important to the organization. For example, for a CPG it is back office systems, for a Pharmaceutical it is office suppliers, and a and for a Bank it is office supplies.

However, these back office systems for the CPG are strategic for a software and services reseller. Office supplies are strategic for the office supplies vendor and janitorial services are strategic for the janitorial services provider.

But it’s not just the type of organization that determines whether a good is direct or indirect, it’s the organization’s place in the supply chain. What’s direct at one level is indirect at the next. And knowing where you are in the chain not only lets you know how to approach the category but how your supplier approaches the category. And, more importantly, where in the chain the most savings can be obtained.

Benchmarks Will Re-Define (Re-)Sourcing .. but that is Just the Beginning!

Today, benchmarks are used to determine how well an organization has performed to date. While constant measurement is important, it doesn’t really add value. Tomorrow, benchmarks will be used in conjunction with optimization to not only measure progress, but to help the analyst determine the most appropriate method for re-sourcing an existing category that will be the most likely method for delivering additional savings going forward.

Tomorrow, before a category is re-sourced, an optimization will be re-run on market-adjusted historical data to compute a market baseline, which is the proper definition of a benchmark, that will be used to determine a if there is a potential savings opportunity using strategic sourcing decision optimization. If there isn’t, then a better approach will be defined for the category.

More specifically, the current market pricing for the commodities, as defined by the benchmark, will be compared to current organizational pricing and the differential will be used to adjust all of the historical prices for a baseline optimization. In addition, the distribution model will be updated as appropriate (with new lanes, new carriers, and new temporary storage options added) and current rate tables will be included. If this baseline optimization indicates a reasonable savings opportunity, then the category will be re-sourced using a multi-round negotiation process backed by strategic sourcing decision optimization.

If, on the other hand, this baseline indicates that costs are likely to rise, then the organization knows that it should change the sourcing approach and instead try for a contract extension at current, or only slightly increased, rates.

More details can be found in SI’s recent white-paper, sponsored by Trade Extensions, on Optimization, What Comes Next, but this is just the beginning. Automated Optimization, Stratified Optimization, and TVM Optimization will find opportunities that your organization never knew existed (and never will without these techniques).

To find out how optimization, when taken to the next level, will completely redefine your strategic sourcing and category management, download SI’s latest white-paper on Optimization, What Comes Next.

Source-to-Settle: More than Just a Set of Service Modules

Having Source-to-Settle capability involves having more than Source-to-Contract and Procure-to-Pay solution modules. As explained in our last post, if an organization wants to achieve the best results, just having both solutions is not enough. Certain categories of savings and value only materialize when the Source-to-Settle solution is integrated end-to-end.

For example, due to the existence of multiple, disconnected solutions which rely on multiple, disconnected databases, there are huge accuracy issues.

First of all, there is a proliferation of manual errors due to duplicate data entry. When data has to be manually re-entered into other systems, or selected for export and import to other systems, human error always creeps into the process. The average error rate for keystroke entry is approximately 1%, as tabulated by Raymond R. Panko at the University of Hawaii, and this human error can be very costly. For example, assume the contract pricing for laser cartridges has been erroneously entered into the Procurement system as $70 a unit when it should be $60 a unit. Further assume that the organization buys 1,000 of these a year and that the old rate was $69.95. If the Procurement system has a tolerance of error of 0.1%, then it will never detect if the Supplier continues to charge the old rate and the organization will overspend by $11,940. Now assume that the organization buys 10,000 units a year and all of a sudden the organization is out $119,400!

But this is just the tip of the iceberg. With multiple systems, there is no single version of the truth. So, if there is disagreement between the P2P and the ERP system, which system is correct? And which system do you run the analysis on to identify the target categories for sourcing? It makes a difference. The greatest value comes from identifying the category with the greatest opportunity. And that can only be done with complete, accurate data.

For more information on these missed opportunities, along with fourteen other opportunities that only materialize with an integrated Source-to-Settle solution, download Sourcing Innovation’s latest white-paper on how An Integrated Source-to-Settle Platform Brings Unparalleled Benefits to Supply Management and register for Ivalua’s upcoming webinar on how to Help Build Your Business Case Today on January 28 @ 11 PST / 14 EST / 19 GMT!

Societal Damnation #38: The Sharing Economy

Sharing is a good thing? Right? Isn’t that what we’re all taught when we are young?

Well, yes, unless you are the one who isn’t being shared with, or the one who refuses to share. And if you are the one who refuses to share, you may find that not only are you without partners, but without means as well.

As covered in our recent series on the “Future” of Procurement in our first Shiny New Shoes post, The Sharing Economy is one of the few true future trends of the space. And while it’s a breath of fresh air to one who is constantly inundated with futurist drivel, to the average Procurement Professional that is still trying to come to turns with the foundational values of strategic sourcing and the collaboration it requires with core suppliers, it’s downright scary. So scary, in fact, that it can be considered the next in a wave of plagues to descend upon an average Procurement department, still struggling to replace the fax machine with a web-enabled e-Sourcing Solution.

While this sharing economy is currently in the domain of individuals like you and I, and a handful of small businesses who have latched on, this share economy is going to migrate to medium sized businesses en-masse and, when properly utilized, give these businesses access to the latest and greatest technology and economies of scale that these medium-sized businesses will be unable to acquire on their own. Can’t afford to buy that new automation and production system that increases throughput, improves quality, and decreases natural resource consumption? No problem. Form a cooperative with quasi-competitors, build a new factory with the new production technology, and effectively time-share it (for the operating cost). This will put medium-sized businesses on the same playing field as large enterprises and level the playing field in ways that have not yet been thought of. The hippies succeeded and their ideas changed the world — 50 years later.

But it might not be a world your organization gets to conduct business in if it cannot accept, embrace, and form the new reality to its advantage. How will it do this? It will start by identifying opportunities that it cannot achieve on its own. Then it will have to identify what partners it would need to bring those opportunities within its grasp. Finally, it will need to put together a plan to unite those partners and execute it to completion.

This may sound easy, but adopting the necessary mindset, convincing others inside and outside of the company, and then working together across organizations as a team while each member collectively fights on behalf of their respective organization for what they perceive their share of the market to be will not be easy. It will be challenging, but the persistent will prevail. It’s just one labour. Hercules had twelve.