Procurement-managed expenditure accounts for an average of 65-75% of many organisations’ outflows. Tough economic situations, therefore, require procurement professionals to continually implement and manage cost reduction programmes.
As many organisations continue to search for ways to reduce costs, there should be an agreed and well-defined programme for and by supply chain professionals to cut costs. Gibson Sibanda (MCIPS), general secretary of CIPS Zimbabwe branch, outlines eight initiatives and contributions that procurement practitioners can adopt to reduce and contain costs, in this month’s SmartProcurement.
1. Challenge specifications or designs – Specifications are the detailed statement of needs by the user. In many instances this is not thoroughly nor systematically analysed. Experience shows that users tend to draw up specifications with a supplier in mind, hence they give little consideration to alternatives.
There are two approaches to specifications:
Conformance specifications lay down clear and unambiguous requirements. They detail the product required and not the application, restrict innovation, are technical in nature and are not negotiable.
Performance specifications provide a clear indication of the function, application, and performance expected. Such specifications are outcomes oriented and the supplier must offer an appropriate product. Performance specifications allow for increased competition by enabling suppliers to suggest new or improved ways of meeting the expected performance.
A conformance specification leads to a certain brand preference, whereas a performance specification overlooks the brand. In a drive to reduce procurement costs, performance specifications give wide room for alternatives and allow for early supplier involvement. Furthermore, they allow the use of concurrent engineering, implementation of ‘design for lean’, use of a value analysis methodology and facilitate easy adoption of the 80/20 cost rule analysis.
2. Challenge existing contracts for price competitiveness – Contracts that have existed for a long time offer another cost-reduction avenue.
Reviewing contracts from five years ago should offer some savings opportunities. The economic situation at the time the contract was drawn up could be different: consumption patterns would likely have changed, volatile market conditions could have stabilised or currencies could have become unstable.
During a review of existing contracts it is important to benchmark the market through thorough research. When challenging existing contracts for competitiveness, there is a need to establish cost drivers and tailor-make or target your negotiations to high-impact cost drivers.
3. Adopt standardisation – Reducing variety helps to reduce the amount of inventory. If an organisation supplies a single brand of vehicles then it can keep a minimum of stock items as opposed to an organisation with 5 brands of vehicles. Spares compatibility will mean that the firm with a single brand will only stock spares used by many vehicles, keeping stock-holding costs at low levels. Furthermore, economies of scale can be easily achieved during the sourcing process and supplier relationship management can be improved.
4. Challenge supply chain costs – Carrying out supply chain mapping is very important in determining costs at every stage of the supply chain.
Organisations sourcing from abroad must scrutinise the implication of Incoterms as the improper acceptance and use of wrong Incoterms will only add costs to the supply chain. Instead of paying insurance for every shipment through CIF, why not have a blanket insurance for all the annual shipments? Also, consider carrying out a value analysis on the packaging costs.
Furthermore, procurement planning helps reduce costs by ensuring the use of effective and efficient modes of transport. Poor procurement planning leads to emergency procurements requiring fast and expensive modes of transport and increasing costs.
5. Eradication of uncompetitive suppliers
Sustainable cost-reduction initiatives come from your suppliers as they have the best knowledge of the cost drivers.
- In some cases competitive tendering helps to find new and competitive suppliers, while single sourcing can provide the benefits of economies of scale.
- Cost cutting and containment opportunities should be communicated to suppliers. Those suppliers who do not take steps to reduce costs should be removed from your database.
- A review of the existing sourcing policy helps identify opportunities. Challenging the current sourcing strategy and carrying out cost benefit analysis is a good practice.
6. Consider outsourcing – Outsourcing is a management strategy through which non-core activities or functions are transferred to specialist, efficient, external providers. The three steps of outsourcing are to (1) select non-core activities, (2) conduct a market test and (3) set sights high. When making outsourcing decisions, the total cost of ownership takes centre stage.
The most popular outsourced services in Zimbabwe’s manufacturing sector are security, canteen services and some transportation and distribution services. The major non-core functions in the manufacturing sector by value are transportation and distribution.
7. Make better use of working capital – Procurement professionals play a role in managing an organisation’s working capital. Properly negotiated payment terms will go a long way in ensuring a firm’s viability. At a bare minimum, advance payment systems should be avoided (unless it is part of a supplier development practice). Managing working capital through reducing inventory helps to contain costs. In manufacturing organisations, adopting build-to-order systems as opposed to make-to-stock has a great affect on costs.
8. Centralise procurement – A centralised procurement function facilitates proper expenditure analysis. In a devolved procurement structure, duplication of purchases is high, opportunity areas become hidden and economies of scale are difficult to make use of.
The rationalised supplier base under a centralised procurement strategy leads to increased competition among suppliers and reduced supply costs. It also helps in strategic supplier relationship management.
In a centralised environment staffing requirements are reduced, category management expertise is created and procurement segmentation can facilitate proper formulation of a clear category sourcing strategy.
For more information contact Gibson on firstname.lastname@example.org