But what does that have to do with procurement?
Procurement functions traditionally benchmark their unit prices against prices in companies which they see as comparable. However, many do not realise that it is rarely feasible to do a 1:1 benchmark of prices as e.g. volume can make a critical difference from one company to the next. The companies would be better of benchmarking their procurement processes instead. The processes will be the same across company size and industry, and a comparison with other companies’ procurement processes will therefore allow for a far clearer picture of the procurement function’s efficiency and potential for optimisation. Such a benchmark will be able to identify far larger potentials than solely pricing optimisation. And in many ways, the process is similar to the doctor’s method for making a diagnosis on the patient’s health.
How do you make the diagnosis?
As CFO, you can use the doctor’s method of diagnosis as inspiration. The doctor asks the patient a series of questions to identify the cause of the patient’s condition. Similarly, a category-specific procurement diagnosis can identify the underlying problems of an ailing category based on a series of questions. The questions should cover the entire procurement process to ensure they cover all possible elements of the category’s management. This will provide the CFO the opportunity to identify the health of the individual sub-elements of procurement and enable a holistic overview of the general health of the procurement function.
In brief, the company’s procurement practice can be identified by analysing the processes within the three main areas of demand, supplier and process, including taking a closer look at:
- Internal process
- Demand and specification optimisation
- Market leverage
- Offensive negotiation, etc.
The diagnostic questions can help clarify whether the company e.g. applies standards for specifications, and whether procurement teams are involved which consist of resources from several different departments throughout the organisation. All relevant questions irrespective of company size and industry when you want to diagnose the procurement function’s process efficiency.
The individual questions are critical
The doctor will often draw on his experience as well when assessing the patient’s health. There will often be steps in the initial phase where the patient’s responses could lead the doctor to make more than one diagnosis. In these case, it is critical that the doctor uses his experience and sound judgment.
The same applies when making a procurement diagnosis to map the organisation’s procurement maturity. The diagnosis should take both industry- and business-specific issues and context into account and this naturally requires both insight and experience. For example, one category-specific question could be the key to value creation in one company and still be of limited relevance in another company. The requirement specification for procurement of toilet paper could for example be critical in one type of company whereas it would be irrelevant in another company.
It is therefore important to keep in mind that no two businesses are the same when designing the analysis and the subsequent processing. This is also why it is often a good idea for the CFO to use external advisors with this type of experience from similar companies. The advisor will be able to give a clear indication of what would be realistic EBIT savings on the basis of the diagnostic questions. The advisor will also have experience in finding the most cost-efficient initiatives to launch with a view to optimisation of procurement processes to ensure that resources are used optimally and that benefits are realised.
Procurement is more than just price negotiation
The shift from benchmarking unit prices to benchmarking processes represents a shift in focus from generating price savings to efficiency improvements in the collective procurement function and resulting EBIT savings. The well-executed process benchmark can provide the CFO with the framework for an optimally driven procurement function, realising significant EBIT savings. So CFO, get out your thermometer.
Originally published in Børsen Ledelse.