Spend Management: Don’t let the tail wag the dog

Dave HenshallSRMLeave a Comment

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Spend Management: Don’t let the tail wag the dog

 

Spend Management: Don’t let the tail wag the dog – Procurement must get control of the long tail of spend to avoid the loss of value this distraction can impose on the strategic end of spend management:

 

As the pressure on supply management increases, so too does the demand on its resources. It is therefore important that the attention of procurement professionals remain focused on those activities that will generate greatest value to their organisation. Unfortunately, there are still many who let the ‘tail wag the dog’ by spending too much time ‘fire fighting’ non strategic, but ‘noisy’ spend.

1. The Problem of the long tail:

Every procurement professional wants to devote the most time managing the core areas of spend, which deliver the larger savings, are more quickly won and gain the greatest return internally. In less mature organisations however, there can be a significant distraction from this goal, caused by the 80% of transactions that typically make up only 20% of the companies spend; the tail.

Often the ‘tail’ is not well managed and serves as a constant distraction from more strategic value adding activities.

Whilst low value purchases will never disappear, by managing this ‘tail’ more effectively, procurement can deliver significant savings, through time and transaction cost reduction, and in unit price reduction, freeing up cash and valuable resource. These resources can then be redeployed toward value added activities that are more likely to result in competitive advantage.

2. Make the long tail visible:

To stimulate desire to address this problem you must first make it visible. This is usually done by applying the Pareto principle to a spend analysis exercise. This is an investment well worth undertaking as it separates out the critical areas of spend (the strategic few) from the tactical spend and in turn identifies the key suppliers.

Practically all organisations will find that approximately 80% of the spend will be covered by 20% of the suppliers and conversely 20% of the spend will be comprised of a long ‘tail’ of suppliers (80%), each with progressively smaller amounts of spend. They will also find that cumulative spend versus cumulative orders will follow the same principle in that 20% of the spend will be comprised by 80% of orders. With this visibility, organisations can analyse its composition in order to determine the best strategies to managing it.

There is typically little business case for any significant efforts to drive down the spend for each individual supplier in the tail. Even if the cost of the items in the ‘tail’ were reduced by 20%, the impact on the cost of goods and services would be less than 0.5%. Clearly, unless there are other mitigating circumstances or the items are of a critical nature, the effort cannot be justified. With this conclusion the overall strategy for most organisations will logically be to increase the efficiency of processing ‘tail’ transactions and reducing the size of the ‘tail’ itself, freeing more time and resources to manage the critical few.

3. Challenges of the long tail:

Primary challenges lie in; data quality, data cleansing, and data classification.

The limiting factors for tackling these issues are usually the availability of  resource, appetite and the ability to execute the required changes. Most companies these days share a goal of ‘operational excellence’, and so managing the ‘tail’ can be a significant efficiency contributor towards this goal. In turn, the efficiency improvements help to fund the continuous drive to improve effectiveness.

There are a number of alternatives to addressing these issues. Either do it yourself, hire temporary staff or use the services of an external specialist. The ability to execute is key, as without a systematic approach to managing the ‘tail’, as fast as you are removing suppliers new suppliers will be added.

Whichever approach is taken, the need to manage the ‘tail’ is relevant for all organisations, from large blue chips down to SMEs. The challenges are the same and the results can be equally rewarding.

4. Tactics for addressing the long tail:

The tactics adopted will clearly be influenced by the strength of procurements mandate. Enforcement, collaborate and influence, or acting as policeman are all roles in use. Organisations who are well advanced in managing the ‘tail’ will implement a wide range of tactical channel management  approaches within the so called ‘req to cheque’ processes which can include the following spend channel management tactics:

Authorisation Channels:

  • Allowing users to contact vendors directly below an agreed threshold
  • Automated requisition approval

Commitment channels:

  • Procurement cards
  • Online electronic catalogues
  • Electronic commerce through the internet
  • Consolidation of purchase requirements between units
  • Electronic data interchange (EDI)
  • Consignment stock/VMI

Payment channels:

  • Electronic funds transfer
  • Automated accounts payable systems
  • Consolidated invoicing
  • Self billing

Most contracts associated with purchases in the ‘tail’ are short term focused over 1-2 years and managed via the competitive nature of their markets.

5. Benefits derived from managing the long-tail:

The benefits come from a systematic, managed approach built on a strong foundation of industry knowledge to secure sustainable benefits which should include:

  • fact based data needed to justify the necessary budget and policy changes to drive supply management initiatives
  • improved use of available resources shifting from tactical to strategic
  • significant cost savings
  • improved payment terms freeing up cash
  • improved visibility of where money it spent and who is spending it
  • significant reduction in maverick and improved compliance
  • significant reduction in the number of invoices to process
  • increased value and return from time spent managing suppliers


6. Conclusion

Spend visibility allows organisations to separate the ‘tail’ from the dog and drives access to timely, accurate, complete, and detailed data which offers invaluable intelligence on spending patterns, compliance and performance. This insight helps identify savings opportunities, drive compliance, and to develop sourcing strategies which reduce cost significantly. Fact based spend data can also arm procurement executives with the leverage needed to secure budget and policy changes to transform supply management performance.

Presuming you overcome the organisational inertia to tackle spend visibility and intelligence, the top challenges remaining lie in data quality, data cleansing, and data classification. Best in Class companies excel in spend intelligence through more automation, more frequent spend analysis, and above average spend visibility. External specialist that offer services, such as spend analysis, may be able to relieve the organisation of this burden if the specialist has more expertise and can do the work cheaper and more efficiently than if the organisation were to do it themselves.

Most likely, your competitors are already undertaking this initiative and gaining the cost saving benefits, efficiency improvements and a more effective and robust supply chain.

So don’t let the tail wag the dog, as we all know, if you can’t see it – you can’t manage it.

Nuff said …