The Analyst Corner: Sourcing

Continued pressures to reduce costs and improve spending visibility and control are fueling a strategic sourcing revolution among midsize enterprises

Most midsize enterprises missed out on (and bore the brunt of) the first wave of supply management automation and improvements, being forced to compete as suppliers in price-based reverse auctions and drive year-over-year cost reductions in the face of rising energy and commodity prices. With continued pressure to reduce costs and compete in global markets, many midsize companies view strategic sourcing improvements not just as a priority but as a necessity for survival.

Research Findings

Most midsize enterprises continue to rely on inadequate, fragmented and largely manual procedures to analyze spending and negotiate, collaborate and manage suppliers. Aberdeen's benchmark identified the following hindrances to sourcing effectiveness at most midsize firms:

  • Lack of formal sourcing procedures: More than a third of midsize enterprises lack formal and written strategic sourcing processes that are used consistently across the company. Another third only use disciplined and formal sourcing methods for their most critical or strategic spend categories (Figure 1).
  • Lack of sourcing and commodity skills: Midsize enterprises rated the lack of strategic sourcing process expertise among the top challenges to sourcing transformation at their companies. Respondents also reported that their companies lack basic strategic sourcing principles as well as domain expertise for key spend categories and supply markets.
  • Insufficient systems infrastructures: More than 80 percent of mid-market enterprises use a hodgepodge of homegrown sourcing automation "solutions" and offline communications to facilitate negotiations and manage sourcing projects. These homegrown solutions primarily consist of word-processing or spreadsheet-based RFx templates and analytics. Such inadequate "systems" limit the feasible number of suppliers evaluated, diminish productivity, elongate sourcing cycles and stifle knowledge transfer.

Figure 1: Mid-size companies have mostly fragmented or limited sourcing efforts

Adding to these challenges, midsize enterprises often lack the spending clout to aggressively negotiate the best pricing and terms with suppliers, making it even more imperative that midsize firms capitalize on every dollar and advantage.

As a result of such issues, the typical midsize enterprise applies disciplined sourcing methods to only a third of total spending. These factors lead Aberdeen to estimate that inadequate sourcing competencies are costing midsize U.S. firms more than $134 billion in missed supply savings opportunities annually.

Overcoming Impediments to Strategic Sourcing Improvements

Challenges to improvements also include internal resistance to standardizing and centralizing sourcing procedures, poor visibility into spending data, and a general lack of strategic sourcing and category management competence within the enterprise. Many midsize firms also report difficulties in securing sufficient budget and resources to acquire and deploy sourcing automation.

Midsize firms have prioritized the following strategies to overcome these challenges (Figure 2):

  • Secure executive support for strategic sourcing and automation investments.
  • Recruit a proven procurement executive to lead the development of a strategic sourcing organization and program.
  • "Upskill" the procurement team by hiring sourcing, process and category experts.
  • Adopt sourcing automation to improve negotiation leverage, sourcing process standardization, buyer skills and productivity, and spend visibility and control.
  • Use consultants to develop and accelerate sourcing competence and programs.

Figure 2: Top Strategies Used to Overcome Sourcing Challenges

Mid-market Takes New Approach to Sourcing Automation

Looking to leapfrog and avoid the mistakes of early adopters, midsize enterprises have prioritized investments in sourcing and supply management automation solutions that are broader, better integrated and more strategic than those employed by early adopters. Midsize firms have the added benefit of new, flexible shared instance ("on demand") delivery and usage-based pricing models that can accelerate deployment, reduce total cost of ownership (TCO), and circumvent internal budgeting and resource requirements.

As a group, midsize firms have prioritized supplier performance measurement, contract management and broad e-sourcing platforms for investment within the next 12 to 24 months. Upper-midsize enterprises (annual revenues between $500 million and $900 million) have prioritized e-sourcing and spending analysis solutions for investment. Companies in this segment have had greater experience and maturing results from initial investments and are now looking to adopt more advanced sourcing capabilities to identify new savings opportunities; enable collaborative, total-cost based negotiations; and support sourcing process standardization, project management and knowledge transfer.

Planned approaches to sourcing automation and service adoption vary greatly from those of early adopters:

  • Greater interest in broader sourcing project management and collaborative and optimization-based negotiation capabilities, rather than the priced-based reverse auctions that fueled the first wave of online sourcing. Part of this motivation can be attributed to the fact that many midsize firms lack the buying clout to mandate and capitalize on reverse auctions, particularly in tightening supply markets.
  • Broader adoption of a new shared application delivery model that provides sourcing functionality to multiple clients from a single and centrally hosted application instance. Midsize firms will mostly use this model for online negotiation capabilities.
  • Prioritization for sourcing application to effectively integrate with execution and compliance solutions. Having learned from the compliance challenges of early adopters, midsize firms list the ability to integrate with or deliver contract management and procurement execution — as well as enterprise resource planning (ERP) systems — as critical criteria they will use to select their sourcing solution providers.
  • Increased reliance on third-party consultants to help define strategic sourcing processes and train internal employees on commodity costing models, sourcing automation tactics, and category and supply market assessments.

A more straightforward reason for the uptick in solution adoption is that sourcing automation delivers rapid, measurable benefits in the form of material cost savings, process efficiencies and performance enhancements when incorporated into a well-designed sourcing program. Many users have achieved full ROI from their solution investments after a single sourcing event.

Successful Strategies Used by Best-in-class Companies

Aberdeen uncovered the following common characteristics among the midsize enterprises that demonstrated the greatest return from their strategic sourcing initiatives:

Development and enforcement of standard sourcing procedures Not surprisingly, midsize enterprises recording the greatest strategic sourcing effectiveness and returns have been at it the longest. Nearly 90 percent of top-performers have had formal and written sourcing policies and procedures for more than a year. Similarly, most high performers have standardized sourcing processes company-wide, including use of disciplined sourcing procedures for all categories of spending. The remaining best-in-class firms have standard procedures at least for their companies' most critical and strategic spending categories.

Standard procedures ensure consistent results, minimize regulatory and supply risks, foster knowledge transfer, and elevate the skill set of the entire procurement organization.

Hiring sourcing and commodity expertise, including consultants Best-in-class companies have aggressively hired sourcing and commodity experts, including procurement executives, to build the right procurement operating model, define best-practice processes and recruit talent. Having ample staffing is critical, but sourcing excellence cannot be achieved by just adding new talent. On the contrary, best-in-class companies are managing more spending and sourcing projects and returning greater results with fewer resources than average and below-average performers. These firms are focused on results, both in terms of cost savings and supply quality and continuity.

Best-in-class companies are also using consultants to improve sourcing processes and organizational structures, increase the portion of spending that is strategically sourced, and attack categories of spending where internal expertise is deficient.

Improving access, quality and analysis of corporate spending With their initial sourcing improvement and automation initiatives maturing, and with supply markets tightening, best-in-class midsize enterprises are looking to improve their ability to aggregate, cleanse, classify and analyze spending data. Related Aberdeen benchmarks revealed that access to timely, accurate, complete and detailed spend data offers invaluable intelligence on spending patterns, compliance and performance ratings, inventory status, and part attributes. Such insight is critical for identifying hard-dollar savings opportunities and developing sourcing, budgeting, planning and product strategies.

Due to these factors, not only have best-in-class performers prioritized improving spend data accuracy and analysis, they will also utilize commercially available solutions and services to aggregate, classify and cleanse spend data for analysis.

Enlisting executive support for resources and policy changes Best-in-class performers cited garnering the support of top brass — particularly the chief financial officer (CFO) and senior vice president of supply chain — as the leading contributor to their success. Executive support is critical for securing the requisite budget and resources to augment staff and fund sourcing automation investments. Executive backing is also critical to drive mandates and policy changes to ensure business unit support and accountability for strategic sourcing and cost savings, as well as compliance goals and guidelines.

Leveraging of sourcing management automation All top performers utilize some form of sourcing management automation to accelerate and support their strategic sourcing improvement initiatives. More than 80 percent of this top-performing group has been using sourcing automation for more than a year. Best-in-class companies use sourcing automation to reinforce process standards, improve productivity, and increase negotiation and knowledge sharing capabilities. But what truly differentiates top-performers is their approach to sourcing automation:

  • Use of commercial sourcing solutions: Nearly all best-in-class firms use commercially available sourcing automation solutions. A number of industry norm and laggards use homegrown solutions that often have limited functionality (primarily data store and retrieval), lack scalability, security and audit trail capabilities, and are often custom-built for specific sites or groups.
  • Leveraging of dedicated hosting or shared hosting delivery models: 67 percent of best-in-class companies have deployed sourcing automation in either a dedicated hosting environment or a shared, multi-tenant ("on-demand") model. As mentioned earlier, shared, multi-tenant models offer flexible, usage-based pricing models that are more affordable and pose a lower deployment risk for midsize firms.

Enterprises employing these methods, structures and technologies outperformed their peers in every major category of sourcing performance and effectiveness. In fact, best-in-class performers apply strategic sourcing to more spending and derive four times greater cost and performance results with fewer resources than their peers (Figure 3).

Figure 3: Strategic Sourcing Performance Gap Among Midsize Enterprises

Sidebar: Strategic Sourcing Defined

Strategic sourcing essentially is the process of identifying, evaluating, negotiating and configuring the optimal mix of products, suppliers and services to support supply chain and other business objectives at the lowest total cost. While there are a number of approaches to strategic sourcing, the primary goals are similar.

  • Select the combination of products, services and suppliers that offers the lowest total cost solution. Total cost is the sum of multiple price and non-price factors, such as quality, delivery and warranty terms. Modeling and understanding the total cost of a supplier bid, product or program is fundamental to effective sourcing.
  • Ensure sourcing decisions support supply chain and business objectives. Sourcing strategies must be aligned with supply chain and business initiatives to ensure sufficient supply to support requirements and optimize cost and performance.
  • Enhance and institutionalize knowledge and proven sourcing methodologies across the enterprise. To be successful, a strategic sourcing program must incorporate standard procedures and metrics. It must also provide an environment that fosters continuous improvement.

About the Author: Tim Minahan, chief services officer at Aberdeen Group, provides analysis and assessment of software and services that automate and streamline procurement, sourcing, design, and supply chain management operations.