By Erin McFarlane, Vice President: Services, Fairmarkit
If you have recently joined an organisation or moved into a new role that is directly related to procurement, it can be challenging to know where to start. Even if you have been in the role for a while, the whirlwind of daily activity can distract you from having a strong holistic view of your organisation’s relationship with its supply base.
There are hundreds of valuable metrics to help you better understand your company’s supply chain. But like any professional, you have limited time and reporting requests can distract your team from critical activities. If you are in procurement and trying to better understand the commodity or category that you have been assigned, understanding the numbers is especially important to getting off to a great start.
Here are the top five spend analytics measures, along with how to define them, where to find them and what influence they have on your company:
1. Total vendor spend
From the beginning, you need a trusted source to track total vendor spend (which does not include things such as employee payments) and a date that allows you to be consistent with reporting. It can be tempting to run reports simply on approved purchase orders, but this might not be inclusive of different payment methods, such as purchasing cards and suppliers who are paid as part of a transaction − not to mention invoices that might not have been paid at all.
Engage with your finance partner to determine a company standard for considering something a vendor expense, and aligning your number with the company’s general ledger dates and categories. Be sure to account for multiple systems and the company structure, keeping an eye on recent mergers and/or acquisitions. This is a number that you need to be solid on, especially if you are going to mention it in the company of executives. This should apply to all spend analytics metrics as a foundational rule.
With total vendor spend, you need to ask yourself: How big is the pie? How many companies does it cover and how many systems of record? How hard was it to get?
These answers will help you to understand the complexities that procurement has to navigate to accomplish its objectives and how difficult it might be to apply policies against an organisation.
If you want to really impress, you should also know how this number stacks up as a percentage of your organisation’s revenue and how that compares with industry standards.
2. Direct vs. indirect spend
In the simplest of terms, direct spend refers to purchases directly incorporated in your company’s products; indirect is those that are not. It is widely understood in manufacturing and retail, but could be harder to define in other industries, especially services. If your company is fulfilling its customer obligations via sub-contracting, or if a vendor product is being directly resold to your customers, you should consider this a direct expense. Direct spend must be sourced more carefully, in tight co-operation with product designers, but it can represent great opportunities when considering the supply chain. (Lean/Six Sigma approaches often yield great results.) It is very important that your procurement and sourcing team understand the influence of their decisions on the quality of the product that you provide to your customers.
Indirect spend is where you can take on substantial savings challenges − the things your company buys to support its operations. This is often less industry-specific and ripe for savings if you leverage the marketplace. Try not to focus only on strategic spend, but also look all the way down the report to your tail spend − the 20% of spend that is usually spread across 80% of your vendors.
Bottom line: you should understand what percentage of your spend is direct and indirect, and be able to break down all of the following metrics for both.
3. Influenceable and managed spend
Influenceable spend is spend that procurement has the ability to change, either through negotiation, choosing different suppliers or changing demand. This is primarily an organisational decision, which varies significantly between companies and leadership. Loan repayments, rent or lease payments, employee reimbursements, charitable donations, postage, taxes and more may fall into areas that leadership has marked ‘out of bounds’ for procurement. Sometimes this is a surprising conversation, where assumptions can be costly.
Managed spend is the amount of spend that procurement actually has its hands on. This is usually defined as spend under contract, but really it represents any transaction where procurement has been involved in sourcing or negotiation.
4. Strategic suppliers
Strategic suppliers are a combination of your highest spend suppliers and those who your company depends upon to deliver products or services to its customers. You should be familiar with the total spend, commodities provided, number of departments buying from suppliers and, most importantly, the risk those suppliers pose to your company’s operations. These are the suppliers whose performance really matters to the operations, security and reputation of your organisation.
At a minimum, review the suppliers who provide 80% of your purchases. You might be surprised at how few there are. From there, engage with your risk or business continuity partners to understand how they think about supplier risk and who they consider to be the most critical suppliers for each organisation or business unit.
5. Tail spend
On the other side of your strategic suppliers data is tail spend. These purchases represent only 20% of your spend, but often 80% or more of your vendor count. The tail can be both a productivity killer and a great way to save money. Is there a way for you to better automate your tail spend management and consolidate suppliers? Tail spend is a great place to look for automation opportunities.
Questions to ask yourself include: How is your company currently working to manage this? Is it using catalogues and, if so, are they actually driving costs down? How much time is spent ‘pushing paper’ to manage these small dollar transactions?
Good data can help companies save as much as 12% on their tail spend. But regardless of your area of spend, understanding top spend analytics and metrics will allow you to make smarter purchasing decisions and mitigate risk.