Over the past 15 years strategic sourcing emerged as a leading methodology and ultimately became a standard practice across the global corporate procurement landscape. Originally designed and promoted by top consultants at McKinsey Associates, A.T. Kearney and others, and later accelerated by e-commerce providers; the discipline fundamentally altered the way that companies purchased everything from custom components to paper clips.
The results of this activity have been far-reaching, but perhaps most notable was the impact of the practice on the vendor community. By restructuring the process through which requirements were being fulfilled, suppliers’ offerings were, to a great extent, commoditized.
Process and technology combined to limit suppliers’ abilities to “work the system.” Requirements were being better defined, suppliers better qualified, negotiations more transparent, and the resulting market dynamic put providers in a box. The intent of strategic sourcing wasn’t to ignore the value of a supplier’s total offering, it was simply to quantify it.
The success of this approach, like so many other professional practices, was propelled by the consulting industry. This was due in large part to the fact that there was a tremendous amount of money to be made in executing strategic sourcing projects. This is not meant to question the viability or the earnestness of these recommendations; on the contrary, the consultants were thought-leaders who saw a need and designed a solution. In the spirit of full disclosure, I should mention the fact that I have collected a few of those strategic sourcing consulting dollars myself.
Strategic sourcing as a solution, however, is beginning to show its age – or at least its limitations. In perhaps the ultimate irony, the process that commoditized nearly every spend category it touched has itself become a commodity. As a skill and a process, strategic sourcing and its related tool set now have a clearly defined value. No longer are these capabilities the high-priced intellectual domain of a handful of consultants; nearly every Global 2000 company practices comprehensive strategic sourcing – and has for a number of years.
The thrust of this commoditization is that the piece-price savings aspect of nearly everything a company procures has been exhausted. The low-hanging fruit has been harvested several times over, and the rest of the tree is beginning to look pretty bare. Spend management professionals can only reduce costs through sourcing to a certain extent or risk disrupting their business or bankrupting their suppliers.
As the function of strategic sourcing has been commoditized, its importance to the overall spend management process continues to ebb. The future of spend management lies in a combination of advanced supplier and contract management, combined with sophisticated supplier development and analytics to identify and quantify new generations of savings to buying organizations.
Everyone Who Wants to Change Suppliers Raise Your Hand
There was never any mystery about why an organization should employ strategic sourcing processes; companies needed a more effective way to drive savings to their bottom lines. Indirect spend management was an undiscovered science, and the time to rationalize those markets had long since passed. Strategic sourcing was a great solution to that problem, and the application of those principles successfully helped to bring services and indirect goods markets into line.
That same application has left spend management professionals with a “now what” scenario that strategic sourcing does not address. With strategic sourcing having been applied to indirect categories over three to five iterations, there is no more low-hanging fruit. Yet economic conditions have created even more pressure on companies to save money. This dilemma calls for a new way of thinking, one that in some ways is counter to the ideals of strategic sourcing.
The continuing need to save will not be solved by strategic sourcing negotiations, particularly within more advanced sourcing organizations that have spent the last 15-20 years repeatedly sourcing these categories. The successful spend managers of the future will be thinking in terms of partnerships – real, productive and lasting relationships with suppliers that create substantive value for buying organizations.
The good news is that no one really wants to switch suppliers anyway. The challenges of internal stakeholder alignment, implementation, systems integration and contract compliance are each exacerbated by a move to a new supplier. While players on both sides of the equation say that they want these types of relationships, can both buyers and sellers do their part to ensure that real partnerships are established and maintained?
While there exists any number of alignment, reporting, and value creation issues that will have to be discussed in more detail, the key elements to successful partnerships are easy to identify. The buying organization must:
• Eliminate the constant threat of being “bid out”;
• Invest the appropriate time and personnel in managing the relationship;
• Implement and track supplier recommendations for total cost of ownership improvements;
• Develop ways to quantify and report total value savings.
The selling organization must:
• Be forthcoming with aggressive pricing and market-leading terms;
• Invest the appropriate time and personnel in managing the relationship;
• Make viable and impactful recommendations to support continuous improvements;
• Adapt to customer requirements for benchmarks.
Being easy to identity and being easy implement and execute against are two distinctly different things. The strict examination of business fit will be complemented by a keen focus on cultural fit. Organizational readiness to adopt a partnership approach must be recognized early in the process if an approach of this nature is going to work. Even in a “trust but verify” environment, trust is half of the equation. A company that is not prepared to have this type of relationship is not going to be successful in employing this approach.
Those organizations that are prepared to take this step have an unprecedented opportunity; the potential to dramatically impact their bottom lines with the support of their internal stakeholders and without risking the functionality of their indirect supply chain.
Showing a United Front
In the vast majority of companies, procurement doesn’t “own” any spend categories. The era of strategic sourcing gave spend management professionals more visibility, more influence and, in some cases, actual control over a handful of spends. With that said, decision power over how to handle most indirect categories has been retained by Human Resources, IT, Marketing, Facilities, Finance and the other functional groups within companies that manage these spends.
This dynamic has long been a source of friction and counter-productivity for companies both large and small. In rare situations, when strategic sourcing initiatives have been forced on these functional groups from leadership, the resulting dynamic was one of distrust between the function and procurement. Grassroots efforts by Procurement to create internal relationships with stakeholders take a long time to gain traction and require a commercial approach that most purchasing departments do not possess the skills to apply.
Most of the disagreements between the groups stem from a common set of conceptions; the functions think that Procurement will accept the lowest-cost solution regardless of service and quality requirements, while Procurement believes the function will ignore cost and risk management to maintain relationships with incumbents.
While both of these positions are unfair generalizations, they are based on truths. Suppliers are not ignorant to these dynamics, and they have historically used this fundamental disagreement as a point of leverage in their own dealings with customers. A refined approach to sourcing, with partnership as a base, will allow the functions and Procurement to align their objectives and show their suppliers a united front.
Creating a Reliable Supply Chain
As the volatility of global supply markets continues to increase, it is more important than ever that procurement professionals become risk management professionals. Having a good deal is important; having a reliable deal is even more important.
The potentially contentious environment created by a series of ongoing strategic sourcing initiatives does not lend itself to the kind of relationship-building that companies need in order to secure their supply chain. I am certainly not recommending that buyers pay too much to ensure that they have happy suppliers. However, I am suggesting that suppliers who are engaged in more substantive relationships with buyers are the most likely to extend payment terms, share savings and work with buyers to navigate through the myriad challenges that can arise during the tenure of an agreement.
Buyers need suppliers that will be able to consistently deliver quality products and services in a timely and cost-effective way. If you find a supplier who can do those things, switching providers is at least shortsighted and at most a risk to your business. An environment of partnership on the heels of years of strategic sourcing projects allows an organization to manage risk by working with qualified suppliers to create continuous improvements.
The application of these principles creates less disruption to the business, avoidance of costly implementations and opportunities for greater compliance to corporate contracts.
Next-generation Procurement: Strategic Category Management
Most of us are quick to decry the football player who leaves our favorite team as a free agent. But how much loyalty can we truly expect them to show to a team that will cut them if they tear their ACL? We know that the teams that are able to sustain a consistent roster are the most successful, but so few seem willing to do it. Players want guaranteed contracts, owners want performance, and in the end the system never really changes all that much.
Spend management professionals face the same problems. And while stories of their travails are unlikely to be carried on a major network, they can learn a lot from this familiar dynamic. Procurement already looks at their vendor base and recognizes the importance of being a “customer of choice.” They want to be important to their suppliers so that they can optimize the value that they drive out of those relationships. However, if a company views its contracts as being no longer than 30 days because every contract has a 30-day “out,” then the company’s suppliers will view the relationship the same way.
The risk facing the owners of football teams is that their players will leave in search of more financially rewarding and secure situation. While this disruption makes it more difficult to win, the risk of overpaying an underperforming player can be just as damaging. The risk that a company faces in constantly sourcing agreements is that good suppliers won’t perform at a high level for what they feel are unacceptable margins. Companies won’t deal with suppliers that can’t support their needs to reduce cost over time.
It seems there has to be a better way to manage this problem, and the analogy to football provides the answer: coaches.
Instead of owners dealing directly with players, they have hired an army of experts. Not experts on negotiating contracts, but experts in doing what the players themselves do. They have committed to helping to develop players physically and mentally, to giving them the tools and planning they need to be successful to meet the goals of the franchise. Companies should be doing the same thing with their supply bases, and they can. It’s called strategic category management – or what we’ll refer to here as “SCM” (not to be confused with “supply chain management”).
The Components of Strategic Category Management
The future of procurement lies in a combination of disciplines designed to address spend management challenges in an evolving, global economy.
Strategic category managers are the coaches that help to develop suppliers and make them better, more effective contributors to the supply chain.
In order to successfully take hold of this dramatic new approach in the post-strategic sourcing era, companies must be organizationally prepared to do the things that are necessary to managing the whole lifecycle of their contracts. This includes the adoption of six skill sets not currently present within most corporate spend management organizations.
Analysis: The identification and realization of savings will not be dismissed in the SCM approach. However, the ability to quantify and report those savings will be a more complex and challenging process. Having the skills to measure total cost of ownership improvements and demonstrate the dollar value of those changes to the chief financial officer (CFO) is paramount to the success of implementing SCM.
Supplier Management: Relationships take time to cultivate, and good ones take a lot of time. Companies that want to see the fruits of SCM must be prepared to invest time in all aspects of supplier management, including advanced reporting, auditing and relationship building. The supplier relationship manager is the tip of the spear of SCM efforts.
Contract Management: Creative relationships must be governed by creative contracts, and advanced contract management is the centerpiece of effective SCM. By employing the systems and skills required to be best-in-class contract managers, companies create significant efficiencies while mitigating the risk associated with long-term contracts.
Talent Management: When companies moved from traditional procurement practices to strategic sourcing, they identified a talent gap, and the migration to SCM will be no different. Developing the right people is perhaps the biggest obstacle to companies becoming leading SCM practitioners. A deep understanding of what skills will be required, where to find them and how to keep them is fundamental to the next generation of spend management.
Information Management: “Trust but verify” means having something to verify. The ability to gather information from suppliers, users and outside sources is a critical element of SCM. In the absence of this information the ability to understand market dynamics and what represents best of breed is lost. Furthermore, companies cannot just rely on having this information; they also must know how to read and respond to it.
Supplier Development: With the impact of strategic sourcing ebbing and the need to create savings on the rise, the final component of SCM is arguably the most important. Supplier development means the ability to apply the category expertise and supplier relationship management to identify opportunities to create total cost savings above and beyond piece price reductions.
Applied together, these functions give procurement groups the ability to create dramatic and sustainable value for their companies. But with so many parties involved, the risk of confusing the situation is elevated. The following is an example of how this approach works.
The SCM approach begins by marrying the critical skill sets within the buying organization to ensure that all of the objectives of the company are being met and that a unified front is being shown to the supply community. This approach is important for a lot of reasons, but most notably because it gives supplier relationship managers access to the category knowledge resident within their organizations.
In this example, the HR lead and the supplier relationship manager work together to develop a strategic category management strategy for the relocation services category. This includes, but is not limited to:
• An evaluation of the current state of the supplier relationship.
• A high-level of analysis of the market.
• What pricing and service improvements are required by the organization.
• How the category can be best promoted to optimize compliance.
• What information and reporting are crucial to the ongoing monitoring of the supplier.
• A plan for the future of the contract and the supplier relationship.
In putting this plan together the HR lead and supplier relationship manager will interact with both their internal teams and the supplier or suppliers. They may determine that this is a category that still needs to be rationalized by means of strategic sourcing, but for the purpose of this example, let’s presume that the company is already beyond that point.
Once the information in the plan is populated, the HR lead and supplier relationship manager team up to execute on it, with support from their respective teams. Over the lifecycle of the relationship, they combine to solicit feedback from end users, practitioners and the supplier for use by the SCM team in making improvements to the agreement and the relationship.
In this situation, the agreement can be framed as a “lifetime contract,” with safeguards put into place to avoid falling out of market. This increases the importance of both the contract management and analysis functions that will have primary responsibility for periodic benchmarking and auditing of the agreement to establish the consistency of its value.
Organizationally each role within the SCM team should scale, as the primary functions of analytics, contract management and supplier management are not category-specific. Since the category expertise is being provided by the functional group (in this case, Human Resources), the SCM team should be able to move from category to category without missing a beat.
The only exception to this approach would be to optimize the interactions to assign a dedicated supplier relationship manager to each functional group. This approach will help to reduce the organizations reliance on “tribal” knowledge while allowing the core of the SCM group to act as a shared service across functions. The structure is efficient, but it also helps to maintain clear and open lines of communication between spend owners, Procurement and suppliers.
Obstacles to Successful Strategic Category Management
While this approach has some clear benefits, it is not without its challenges. Perhaps the most notable among these is talent management.
In speaking with spend management professionals across industries and continents, the division of labor is consistent. Buyers of indirect goods and services spend about 80 percent of their time selling and about 20 percent sourcing. Separate to the issue of whether or not it makes sense to ask the people to work so hard to do their jobs, this dynamic begs a very important question: why are we still hiring buyers?
An effective SCM approach requires spend management professionals to be proficient in analysis, relationship management and commercial savvy. This is very different from the set of skills possessed by the average strategic sourcing expert, and most companies are unlikely to be able to move from zero to a fully effective staff overnight.
However, it is important to remember that 20 years ago almost no one had the right staff to tackle strategic sourcing projects either. The legacy of strategic indirect procurement is one of either nonexistent functions or administrative order takers. The early days of strategic sourcing saw companies supplementing their staffs with consultants while they built the competency internally. The early days of SCM are likely to feature some of the same dynamics.
What’s important is that companies not avoid this element of building a productive SCM staff because, given the changes in the market, their only other option is to have a procurement organization that is unprepared to meet the challenges of the future.
Selling the “C’s”
CFO’s, to their credit, are single-minded. If a solution cannot be clearly quantified as a reduction in cost, then they will not count it as savings...nor should they. They have managed their organizations to this end, and procurement groups are measured on the delivery of implemented, hard dollar savings. There is no need to change this approach, but it is a necessary to get the CFO to recognize that there are more ways to skin the savings cat.
This dynamic speaks again to the importance of analysis and information management as a component of the SCM solution. It’s one thing for supplier development and functional stakeholders to identify “soft cost” improvements and administrative efficiencies; it’s quite another to be able to quantify the value of those improvements to make finance agree to count them as savings.
It goes without saying that some of the improvements identified and implemented by the SCM team will result in hard dollar savings. Since others will not, SCM professionals will need to have a firm grip on market conditions, benchmark sources and contributing factors to total cost of ownership in order to avoid missing the value of major non-piece-price savings.
Involvement with the C-suite has to go beyond convincing them to reconsider their approach to evaluating savings calculations; it also means showing them why it is important to have SCM involved in their planning and measurement cycles.
Today, in many instances, the functional leads plan, Procurement executes and the CFO measures. The system is inherently flawed because so much of the knowledge resident in the organization is not being applied to key aspects of the process. How, for example, can a CFO be expected to provide the function with a meaningful budget if she doesn’t know what cost reductions SCM might be able to provide?
This important element of successful SCM means an effort at silo-busting that is often discussed but rarely implemented. The new generation of Procurement will be a much more sophisticated and effective approach than previous iterations of strategic procurement, and its involvement in planning and measurement should be more obvious to both the function and corporate leaders.
Expanding the Scope of Procurement
While procurement is the only function within most companies primarily tasked with saving money, it is far from being their only task. Spend managers are also responsible for MWBE and related initiatives, Sarbanes-Oxley compliance, reducing the carbon footprint and a number of other key corporate initiatives.
Unfortunately, the traditional model of selling to functional stakeholders and sourcing categories does not lend itself to pursuing these strategic projects. However, SCM does.
At its core, strategic category management is focused on knowledge. It means earning a deep understanding of categories, housing that information in an accessible and refreshable format, and leveraging that knowledge to make meaningful changes to a company’s bottom line. This approach positions practitioners not only to create savings but also to understand and affect issues such as regulatory compliance and others that fall on Procurement’s shoulders.
At the same time, the majority of these efforts will be aimed at tackling the savings issues that lie beyond the reach of strategic sourcing methods. The fruit at the top of the tree must also be harvested, and SCM will bring the kind of focus and skills necessary to reach those objectives.
By creating a mutually beneficial environment of continuous improvement with suppliers, savings can be achieved without sacrificing the strength of vendor relationships. In maintaining these relationships, the SCM approach helps to secure a corporation’s business by creating consistent and lasting approach that protects service and delivery.
Nothing lasts forever, nor should it. Just as strategic sourcing was right for its time and ultimately ran the course of its effectiveness, so too will strategic category management.
For now, however, companies cannot afford more of the same, and delaying a transition to a new mode of doing business is just that. In order to meet savings objectives moving forward, simply increasing sourcing activity will fall flat regardless of the sophistication of the approach or the tools applied.
Instead, the application of knowledge, information management and relationship management and development are the keys to success in the next generation of spend management.