Profit from Procurement. Jose Oliveira Valentede
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Providers to Raw Materials to Components…), each with totally different suppliers and its own internal stakeholders. Since a Procurement effort is best structured around category teams (see Chapter 3: Sourcing Execution), then this creates a natural portfolio effect across your target—one category may fail, but another will over-deliver. This portfolio effect is critical in Procurement economics, in that it significantly mitigates the risk of non-delivery.
At the end of the day, it would be difficult to find opportunities with as much potential impact on EBITDA as Procurement, without the need to reduce headcount, close offices, or make major investments. So, at least on paper, the Procurement opportunity is significant.
That's all very well in theory. But what about in practice? How do I know that the 10% is actually there? Why is there an opportunity in this cost base? Answer: Because in many companies, Procurement is not optimized. Let's examine why that is the case.
Why Is Procurement Not Optimized?
The opportunity in Procurement exists because in many companies, Procurement is not optimized. There are a number of reasons for this:
Procurement comes from an administrative background, and oftenlacks the remit to take a strategic or proactive approach.
Procurement therefore doesn't have the right cross-functional operating model, and sometimes adopts unhelpful mindsets.
This results in an under-investment in people and tools, creating a vicious cycle of under-performance and under-investment.
The end result is a spend base that's not optimized—not aggregated across locations, and with inconsistent specifications and dated supplier relationships.
Let's explore some of these points in a little more detail.
Remit
The point regarding remit is fundamental: it asks the question, what is expected of Procurement? Unfortunately, many Procurement functions do not have a remit to “work with the budget holders to proactively optimize their cost base using the full suite of supply and demand levers.” Rather, the expectation is that Procurement will come in at the last minute to negotiate and execute the contract. That remit will allow Procurement to achieve maybe 25% of its potential. And therein lies the problem, or the opportunity…the Procurement function is probably doing a good job—but based on an overly narrow remit.
The root of this problem is that Procurement's history lies in administration. The function started life as a mechanism to legally procure goods and services on behalf of the business and is therefore seen as a support function—one that ensures that supplier contracts get signed and materials show up. Over time, Procurement teams have been built on these administrative foundations as their functions have evolved. In many organizations, the budget holder actually makes most of the decisions—from deciding what part is needed, to deciding to go with the OEM (Original Equipment Manufacturer) part to, very often, talking to the OEM and agreeing to a price. Only then is Procurement brought in, to close the deal, sign the contract, and order the part. And that's the typical remit…which ensures that probably 80% of the cost is already locked in by the time Procurement comes to the table, thereby severely constraining Procurement's potential contribution from the get-go.
Given this restrictive remit, it comes as no surprise then, that Procurement often hasn't developed anywhere near the right cross-functional operating model: see Chapter 5: Operating Model, for a more detailed discussion of this. To make matters worse, in the absence of a clear role, buyers can sometimes adopt unhelpful mindsets. Instead of adopting a service mentality along the lines of “I am here to help you with your spend,” there is often a mindset based on perceived authority.
Mindset
We've seen unhelpful Procurement mindsets at countless companies; the most common ones I would describe as “the policeman” and the “Procurement professional.”
The policeman is a historical legacy. Most Procurement organizations were set up to help get control of external spend, with a focus on purchase orders and necessary draconian policies of “if it doesn't go through Procurement, it doesn't go through.” This has set them up for decades-long fights with stakeholders; fights in which Procurement is the policeman, chasing down the non-compliant stakeholders (sounds like a Procurement Blade Runner!).
As a result, many Procurement teams have cast themselves (often unintentionally) in a “policeman” capacity vis-à-vis “the spenders.” Nowadays, this legacy mindset really doesn't wash with sophisticated and intelligent stakeholders in functions such as Engineering, Manufacturing, Technology, or Marketing. In fact, the opposite is required—a collaborative, open, intelligent approach, not a “you have to go through Procurement” approach. To this day, I see vestiges of this mindset in Procurement teams, and it's not helping the cause.
The other thing that doesn't help is when Procurement positions itself as too much of a profession. Rather than credentializing Procurement, this can sometimes create a barrier—the message here being, “We have techniques that you guys don't understand” and “We're better negotiators than you are.” I've found that the strongest Procurement people are the ones who never feel the need to mention their professional skills. They just relate well to the stakeholder, and they do good work.
These somewhat dysfunctional mindsets, when coupled with an already weak remit, can act to severely undermine Procurement's potential impact.
Vicious Cycle…and Opportunity
The lack of remit, the lack of cross-functional engagement, and, ultimately, the lack of impact of Procurement, have in turn led to a vicious cycle of under-investment in the function. In many organizations, Procurement is therefore seen as a strictly back office function that's largely ignored by senior management.
But what this historical neglect brings with it is an enormous opportunity. Most of the external spend will be ripe for Strategic Sourcing: the spend will not have been leveraged or aggregated across countries or manufacturing plants. The specifications will be outdated, “what Engineering has always used;” and there will be longstanding supplier relationships that are never tendered, ready to be shaken up with a bit of competition. In short, significant savings potential will exist across the entire third party spend.
But of course, to capture that potential, you need to work backwards and fix the remit, fix the resources available to Procurement, and fix the investment level in Procurement. We need to find a better way. Well, the good news is, that better way has been around for over 30 years.
The Birth of Strategic Sourcing—Dawn of a New Era…or Not?
Back in the 1980s, a new way emerged for Procurement when General Motors placed its engineers and buyers in cross-functional teams and told them to “go to town” on components, changing the specifications, changing the drawings, bidding GM's combined demands in the market globally—and it worked magically and gave birth to “Global Sourcing.” This was soon replaced by “Strategic Sourcing,” but the concept was the same—work cross-functionally to problem-solve a chunk of the cost away, please. It's now the bread-and-butter of the auto OEMs and their direct suppliers.
This model is still widely held up as Procurement best practice today. But, outside of Big Auto, the large pharma companies, and select multi-national manufacturing companies, few have reached a truly “world class” level of sophistication in Procurement—neither in direct spend nor in the “indirects” arena. We all know what best practice looks like, because companies like GM and Ford have been doing it for half a century. At Ford Motor Company, the CPO sits on the board. Procurement is seen as career-enhancing, and the Procurement function has strong