Over the last two decades, great change has taken place in the complexion of modern business. Now, more than ever before, businesses look to their suppliers to provide not only the core goods and services for which they are contracted, but also increasingly for the new ideas, innovative approaches and transformational processes that enable companies to perform and develop year on year.
Across the FTSE-350, an average of 68 per cent of a companys revenues are spent with third parties, compared with 12 per cent on in internal labour costs.
There is a problem, though. Research shows that management practices have not kept up with the pace of change. Largely, it is a problem of perception, with senior leaders not fully aware of the gap between third-party supplier costs and internal labour costs, and, in turn, the potential benefits of making supplier relationships more value-focused.
The other side of the problem is that apart from the very biggest, companies simply do not have the resources to manage the sheer number of supplier tasks that are commissioned every day. By and large, procurement teams necessarily have to take a more general overview of their purchasing activity.
Suppliers can enhance value
However, if each member of the procurement or supply management operation was able to specialise in a single spend area of the business, bringing greater insight, knowledge and intelligence in each area, the strategic decision making capability of the business would exponentially increase, ensuring that all revenues spent to deliver greater value to the business, not a cost saving.
And senior leaders often are not fully aware that suppliers can enhance value to this degree. But it is in value that the key measures of success lie. Instead of a focus on cost and incremental savings, executives and leaders can deliver stronger and longer term improvements by thinking differently about how and why that investment is made, together with a stronger and more open relationship with their supply base.
More open, collaborative relationships intrinsically align suppliers delivery with companies long term objectives, meaning that goods and services are better attuned to a clients needs.
The result is better quality, stronger performance and ultimately enhanced value delivered by the relationship. Companies often prescribe great importance to the incentives and recognition offered to employees in return for consistent delivery and outperformance. It therefore logically follows that to maximise the delivery from suppliers, similar strategies are required.
“Why are we spending this “
This different approach also delivers a number of operational improvements. Purchasers evaluate supplier delivery on value not just cost which provides a better indication of supplier performance and the effectiveness of the goods and services they provide. The key question then moves to: Why are we spending this instead of just How much does it cost .
Take a music publishing business. Every day, hundreds of thousands of albums are produced. But production costs were spiralling. Financial controllers were unaware that multiple versions of the same album were being produced for different markets, increasing the artwork production costs several-fold.
A solution was suggested. A reduced number of versions of albums being printed and smaller print runs, favouring a just in time delivery model, rather than pressing anticipated volumes up front. The result was reduced outlay on production, less waste and more efficient logistics. But, crucially, it also enabled a closer and more collaborative relationship between vendor and client, bringing procurement and the supplier to the table when planning decisions were being made.
The missing link, then, is a coordinated, well-qualified, skilled and knowledgeable supplier management team, which is able to integrate with both corporate finance functions and suppliers from a position of knowledge and influence. This combination is essential and often underestimated.
Best value = more profits
The key is for procurers to understand their companys objectives and budgetary constraints and transpose that information into guidance for suppliers to ensure that their delivery fully supports long term goals. Without this coordinated approach, procurers are not empowered to seek the best value from suppliers and suppliers are not properly incentivised to deliver value enhancing services and goods.
These factors combine to paint a picture of stronger alignment between a companys needs and the goods/services it procures. It means stronger return on investment in third party providers. It means better control of costs through a more coordinated roster of providers. And it means better financial and operational performance over the longer term.
In cash terms the FTSE-350 stands to gain more than 10bn of profits a year through a one per cent improvement in supplier costs. Even with the economic conditions improving, that is a level of potential shareholder return that no leader can afford to ignore.
Guy Strafford is chief client officer at Proxima.