Your organization is working to improve its sourcing processes and strategy. Like areas of spend have been grouped together to determine what the organization spends annually. The department or division responsible for sourcing has identified areas of spend where savings can be realized.
But, as the organization delves deeper, they find that reducing outside drivers of cost isn’t the only hurdle they face.
There are materials and services within the organization that people have been dependent on for years, perhaps decades. Leaning these materials and services, or removing them altogether, will be a major culture shock. Senior management is even wary of cutting off these materials and services.
Senior management wants to save money, but the sourcing group knows that changing how materials and services are sourced, what will be sourced, and when will have a major impact on the organization’s processes as well as its budget.
Sourcing the material and/or service is just one part of the larger sourcing strategy. A lot of work goes into transforming the rest of the organization and how it does business in order for the wins in sourcing to have their full effect – one more part of total cost ownership. Process improvement in other parts of the organization are just as important as improvements in the sourcing function itself.
Total Cost Ownership
As discussed in a previous blog post, Total Cost of Ownership is everything that goes into before, during, and after the sourcing of a material and/or service.
Generally speaking, this includes administrative processing costs, technology costs, overhead, freight, the cost of lead times, if items are damaged, and rework that needs to be done.
Rarely do organizations look at total cost of ownership in terms of what their own organization is doing.
Does each project manager or department use the freight carrier they like the best?
Is there a service the company uses, but could be eliminated if project managers were held to better standards of planning?
Do employees make parts runs because favored suppliers “don’t deliver”?
It’s internal processes like these that need to be looked at in tandem with the improvement of sourcing the material(s) and/or service(s) and organization buys. They are as much a part of Total Cost Ownership as overhead or lead times on materials.
Let’s use an example from my experience.
The company I work for uses a freight service that only delivers between facilities in my company in the city we’re in. This freight service costs about $300,000 per year for them to move material from one facility to the other. We love this external freight service so much, their drivers park their trucks at our facilities.
Why do we use them?
Because sometimes project managers cut work orders associated with one facility, only to draw the material out of another. So materials needs to be shuttled around to ensure the proper materials are in the proper place at the proper time.
We also junk out some of our larger equipment, and this service transports the junked out equipment (they’re rather large) to our central processing facility here in town.
On the face of it, this is $300,000 expended by my company per year.
Immediately some will note that, if PM’s were held to a standard, and their work orders assigned to the correct facility, this would eliminate the need for this service. And can’t we use internal personnel (we have personnel qualified) to load the equipment and drive it to the central processing facility?
But it goes deeper than that. PM’s not assigning work orders to the right facility forces them to draw from that facility, which causes work in the warehouse, and then those materials aren’t there for jobs that are properly assigned to that facility, creating wait times as items are shuffled between facilities. Sometimes its time sensitive jobs that are forced to wait as the warehouses figure out where material went and what needs to be brought in from other warehouses. Sometimes people get lazy, and instead they just put in an order to have it bought from the supplier, costing the District even more.
So it’s not costing the company I work for $300,000. It’s costing them hundreds of thousands, or perhaps even millions, in additional man hours, rework, opportunity cost of inventory, and delays on projects.
Why do we still use this “shuttle” service then? Because we’ve had them for almost twenty years. Because no one has pushed back on PMs and other internal business partners to assign work orders to the correct facility. Because our warehouse personnel are doing the best they can within this system and the shuttle service is a Band-Aid that people have become comfortable with.
In this case, it’s not just a process – it’s a part of the culture.
Where to Begin
So where does a sourcing professional begin?
Start with the sourcing strategy.
The sourcing group has identified a need, and then they go and gather their facts. But they don’t just gather the facts on the surface. They have to dig deeper.
- What are like materials/services that can be grouped with the one being looked at?
- What vendor(s) provide this material/service and those grouped with it?
- What internal stakeholders use these?
- Why are they using them?
- Why are they using them the way they are?
- Are they still needed?
- What would need to be done to consolidate or remove materials/services?
- If this is done, how will it affect the processes and procedures of the different divisions and departments of the company?
These are just some of the questions that must be asked to challenge the status quo, especially if that status quo is costing the company substantial amounts of money.
And it has to be the group responsible for sourcing in the organization that must do this.
While part of sourcing strategy is definitely cost savings and value adds, it’s also process improvement around what is being sourced, and how it will affect the organization.
I caveat this with the organization should not mold itself around its sourcing department. The organization should mold itself around its overall strategy, and the sourcing strategy should support this. But if there are procedures (low level/tactical) changed by sourcing that will help the company achieve its goals, then these should be pursued.
As the sourcing organization moves to change the processes – and perhaps even some of the culture – of the organization, they cannot operate in a vacuum.
Any change initiative needs a guiding coalition, preferably upper management, and buy-in from managers at all levels. It will be up to the Director/Division Manager of the sourcing organization in the company to win that buy-in, and to communicate with upper management for their support.
This isn’t unique to sourcing. Any change initiative requires this. I would argue that sourcing needs it more since most people view sourcing or supply chain management generally as order takers, and resistance to change coming from this area may be greater.
The processes surrounding and effected by sourcing strategies within the organization for different areas of spend are just as much a part of total cost ownership as external factors. Sourcing professionals must take this into account when sourcing materials and services from a strategic level. Some organizations call these individuals Category Managers, and category management is a discipline all of its own with that broad focus. It’s up to the organization to determine how they will conduct their strategic sourcing, and they must do so with an eye to internal process improvement.
The Office Space Effect
Many remember (and chuckle, and seethe) at the scenes in the movie “Office Space” when the consultants are grilling the employees of the company to determine what they do to see if they are needed. Many in today’s workforce can relate to this. When companies need to save money or are trying to find efficiencies, where is the first place they look to cut?
The men and women that do the actual work in the company.
I am not advocating that executives cut their pay (though, that may help image-wise). I am a firm believer in free market capitalism and the freedom of people to amass as much wealth as they see fit. If the executives’ pay is the thing hurting the company though…
But cut the people that are making the company operate every day? Especially if those people are effective at their job? That makes no sense to me. (Note: I said if the people were effective at doing their job. If they’re not: fire them.)
Rarely do companies look at their sourcing activities, as well as other internal processes within the company, to cut the budget.
Developing more effective sourcing techniques and improving processes, and reducing total cost ownership will do more for a company, both up front and long term, than slashing headcount.
NOTE: I use the following terms here interchangeably.
- RFP/RFQ/Solicitation for Bids
Developing More Effective Sourcing Techniques and Improving Processes
This is anecdotal and I don’t have any hard data to back it up, but I am finding that many medium and even larger companies don’t have a central procurement/sourcing department, or a department within their organization that leads and monitors that function. Purchase orders are done as lists on excel spreadsheets, or over the phone. Many times supervisors or crew leaders simply go to the vendor with a credit card. This is an ineffective way of sourcing the company’s needs.
How do these companies know they’re getting the best price? Because the vendor tells them? Unfortunately, “Our supplier tells us we are getting the best price.” is the answer I hear time and time again, both in other companies and in the company I work for.
Developing effective sourcing techniques can help reduce costs almost immediately. Just a simple RFP can produce lower purchase prices. (We’ll talk more about purchase pricing below under reducing total cost ownership.)
The company I work for did this with their MRO. They discovered on some items which suppliers were telling us we were getting the best price we were being charged a 400% mark-up. When we asked the supplier why, the supplier’s response was, “You never asked.” It was no wonder these suppliers “loved us” so much – we took them at their word when they said we were getting the best price, and were able to overcharge us exponentially.
Control of bidding, purchase orders, and contracts – everything that goes into sourcing – with a central sourcing department, or at least one department within the organization that is given responsibility and accountability for this function, helps, too. They can work to set company policies, processes, and procedures around sourcing and, with upper management support, enforce it.
This is where your Lean and Six Sigma ninjas come in, too. Perhaps there are already procurement processes within the company, but there is clearly room for improvement. Mapping the processes and their sub-steps, and leaning them out by removing steps and/or red tape will save in work hours alone – and time is money. It doesn’t take spending millions on a consultant like McKinsey and Company, or Accenture to do this. Companies can do this themselves.
Developing better negotiating tactics and techniques can help, too. The Institute for Supply Management (ISM) includes many techniques for negotiations in their CPSM Study Guide. And there are lower cost consultants and webinars out there that can help your company hone their negotiating skills. (Yes, I do have a bias against the bigger supply chain consultants. There might be some bitterness there. (There’s definitely bitterness.))
Finally, control of the procurement process, and by extension payment of suppliers, helps save. While there are some instances where parts or services are needed in less than 24 hours – I emphasize some – 95% of the time this is due to poor planning on the part of the Project Manager, the sourcing department, and the warehouses. (Note my use of and not or. It’s a team effort, and if one fails, they all fail.)
The company should limit who can input requests for orders, who can approve and issue these requests and orders, and then keep a close eye on invoices to ensure they match quoted pricing.
Working closely with the company’s warehouses can help set minimums and maximums (min/max) on materials so that what is needed most is in stock when it’s needed, while working estimates and forecasts on past spend and usage and upcoming project earlier can ensure that if additional materials or services are needed they are sourced well in advance. Having pre-negotiated agreements across the company with a handful of suppliers can ensure that support is provided when needed, and new one-off contracts aren’t being constantly issued.
Reducing Total Cost Ownership
So your company has a handle on its sourcing of materials and services. Controls are in place, and the processes have been made lean, mean, sourcing machines. Money is being saved.
But not enough.
The next thing a company should look at is the total cost ownership of the materials and services they are sourcing.
Here’s an example:
Lean Corp wants to go out for bid for buying and installing widgets. (Very original, I know.) They send out a RFP to five vendors. The bids come back, and Lean Corp short lists two of the vendors: Cheapo Co, and Quality Co.
Cheapo Co can provide the widgets for $10, and charge $10/hour for installation.
Quality Co can also provide the widgets for $10 (widgets are probably a commodity, like steel), and charge $20/hour for installation.
At face value, Cheapo Co is the low bidder.
But there’s a catch.
Cheapo Co takes 3 hours to install each widget! That’s $30 of installation per widget!
Quality Co, on the other hand, only takes an hour to install each widget; $20 of installation per widget. And the equipment is up and running faster, meaning less downtime, meaning Lean Corp can produce more, sooner.
Lean Corp brings both vendors in for negotiations.
Cheapo Co won’t budge on their pricing, and offer very little extra for their services. C’mon, they’re clearly the low bid! They know it! They’ve been working with Lean Corp for over a decade and the working relationship is great. And Cheapo Co’s owner is golfing buddies with two of the VPs of Lean Corp. Why would Lean Corp want to award to anyone else?
Quality Co, on the other hand, offers extended warranties on the widgets they install, and they offer up to 10 business days of training per year at no charge, a value of $15,000.
That training has downstream effects in Lean Corp: the training which Quality Co provides increases the knowledge of Lean Corp mechanics and reduces rework they have to do, and reduces downtime of the equipment by dozens of hours per year – remember time is money. The additional cost reduction is compounded by the value added services Quality Co provides.
This is an extremely simplified example, but it gets the point across well.
Total Cost Ownership is a pricing model that takes into account everything before, during, and after the sourcing of a material or service. This includes (but is not limited to) materials that go into producing the thing being bought, labor hours that go into producing the material/service, overhead, freight, mark-up, how long it takes to provide the material or service, number of deliveries per week/month, estimated downtime, and inventory holding costs, to name a few.
Reducing the total cost ownership of the materials and services sourced, while working to increase the value added services the supplier provides, should be the goal of the organization trying to cut its costs, especially when trying to not cut overhead.
This can be done through negotiations with suppliers, or through internal efficiencies within the company itself.
Companies looking to reduce costs should develop more effective sourcing techniques and processes, and reduce their total cost ownership of materials and services before slashing headcount. This will not only create short-term wins, but a long-term, sustainable model of keeping costs low. It is up to senior and middle management of companies to enforce this so that it takes hold in the company’s culture.
Don’t misunderstand me: I am not advocating for never cutting headcount. If positions are completely outdated and unneeded, then they need to go. No need having the ten Accounts Payable clerks that were kept because that’s how many they had in the time before computers and now everything is automated so six of those clerks are being paid to check social media. And if individuals are truly underperforming, even after corrective actions, then they need to go.
Improving sourcing is where companies should start to cut their costs.
You, like many of your supply chain/procurement brothers and sisters in the United States, and probably around the world, have dealt with stakeholders in your organization getting cozy with the vendors you purchase from. This coziness leads to shady sole source justifications, or that vendor always being the preferred vendor even if they aren’t the low bid or the best service level.
Your vendors are selling your stakeholders, and your stakeholders are helping them out, usually by jumping at the latest shiny thing the vendor has to offer. Sometimes there’s even some tit-for-tat deals. Other times, your stakeholders, or even your very own supply chain organization, have become comfortable with the “demon they know” as opposed to the one they don’t.
In this post we will take managing your stakeholders and your vendors, and the many challenges that come with that.
Stakeholders and Vendors
I’d like to start off by saying that your organization and your vendors have a good working relationship is not a bad thing. It’s a great thing! It helps both the company and the vendor communicate candidly with one another about what’s going on in both of their organizations and their respective markets, and how the two are interacting with one another. A great working relationship with your vendor can ensure that any problems that come up are handled quickly and efficiently, and that both parties are kept generally happy.
A good working relationship can be an open door to work with the vendor’s key decision makers. Have you ever had a problem with your salesman, and a quick talk with the supplier’s head manager seems to smooth everything over? It can also ensure that head manager understands the importance of your account, how much you appreciate them, and keeps them updated on their own company’s performance. A quick word about a supplier’s lagging performance and, generally, that head manager or corporate office is digging into his people to shape up.
There’s a flip side to all of this, of course. Such a working relationship can also be open door for vendor to subvert you and your supply chain/procurement department. The worst case scenario happens, and one of your offices demands that you buy Product Z from Vendor C. No formal request for quote process. No negotiations. No pitting the vendor off against others. Their Division Manager or Director comes to tell you that, yes, you are buying Product Z, despite your protests to the vendor’s quotation and the fact that other suppliers could provide a similar product for less.
The vendor marketed “the latest shiny thing” and sold your stakeholder(s) on it.
But how do you prevent this?
There are several ways that your supply chain organization, and the company has a whole, can manage internal stakeholders.
Written policies go a long way to prevent the kind of supplier subversion so many buyers and contract specialists despise. Things like “single point of contact for RFPs/RFQs” and “formal bidding process requirements” can stop over-zealous project managers in their tracks. Having a review process/team that vets the business need and budgetary requirements can also help this.
Of course with policies comes the need to communicate said polices. In his book “Leading Change”, John Kotter states that the change agent must communicate the change vision (Kotter, 1996). Whether your polices are part of a change, or have been part of the organization’s policies for years, the supply chain organization, along with upper management, must constantly communicate these policies. Kotter provides an excellent framework: keep it simple; utilizing metaphor, analogy, and example; multiple forums; repetition; leadership by example; explanation of seeming inconsistencies; and give-and-take (Kotter, 1996, p. 90).
Along with this communication comes relationship building. You cannot have your supply chain/procurement organization sit secluded from the rest of the company. Constant interaction with your regular stakeholders, their management, and upper management helps build that open communication and flow of ideas so that written policies, new and old, are repeated regularly and don’t blindside people.
And any good policy needs enforcement. You can have HR include as much written policy on procurement activities and contracts as you want. It is for nothing if no one in the organization with the power to do so doesn’t enforce it. If that’s the case, your policies are nothing but a paper tiger. But, if senior management gets the directors and their staff to toe the line on theses policies, then such policies have teeth and those who break them can be dealt with. It’s not nice to think about, but those that break the rules, some that could hurt your company, must be dealt with.
Stakeholders aren’t the only ones that need managing. Your suppliers and contractors have to be watched, too.
First and foremost don’t give out an organizational chart of your company. Sure there are those websites that promise “the most accurate organizational charts for companies across the United States.” In my experience those websites are five to ten years behind, and you want to keep them that way. Giving a supplier an organizational chart is like giving the opposing team in football a list of all of your plays. Suddenly they know the vice president of the group that deals with the project they are bidding for and will work to bend his ear towards their cause. Such influence can hurt negotiations with them, or even other vendors.
Next, only put supply chain points of contact on RFPs/RFQs. Force the suppliers to only go through you for any and all communication. This can get tiresome, and your project managers and other stakeholders will get sick of it. But it keeps the suppliers from applying undue influence on the decision makers. If everything goes through you, all information from all bidders are given equal consideration, and information returned to them is consistent, as opposed to a stakeholder playing favorites with what information is given to which supplier.
There will be instances where the vendors already have key points of contact in your organization. Many times it’s just part of the business you do. Just ensure your stakeholders refer vendors back to the supply chain organization, and not make any decisions, written or verbal, without first communicating what’s going on with you first. (This goes back to that whole written policies and managing stakeholders thing.)
I cannot stress the importance of having key Directors, Division Managers, VPs, and board members on board policies and the need to distance themselves as much as possible from vendors. Having a VP that gets a call from the VP of the supplier organization telling them no, and routing them back to you speaks volumes, makes your job easier, and the supplier’s job harder – especially if that supplier is a bidder on a RFP/RFQ.
Back to communication, make sure that the supply chain organization and the higher ups are on the same page. I find it’s better to over communicate a little as opposed to under communicate. The more they know, the more informed decisions vice presidents and boards can make in favor of the company. It also ensures they are brushed up on the latest policies and support them. If they don’t support them, such communication can facilitate working out what their issues are, and addressing them before that VP becomes a liability to your, and the company’s, efforts.
In “Leading Change” John Kotter states that you need to create a guiding coalition for your change initiative, and the key de jure and de facto decision makers within the organization are key to that whether policies and initiatives are just being rolled out or have been out there for decades (Kotter, 1996).
What If You Get Derailed?
At some point in your career you will get derailed from everything you are trying to do to effectively and responsibly manage your supply chain/procurement department/group. A bidder snags the right ear in your organization and gets them on board with their offering. Someone in your company is absolute poison to any cost savings initiatives, but no one will fire them. So what do you do?
First to the stakeholder: – what happened, how it affects the organization as a whole, and why it’s a risk to the organization.
They just bought offer A without consulting anybody and signed the supplier’s very stringent, disadvantageous terms and conditions? Express to them how they hurt the budget of the whole company, and how if the company decides they don’t like the offering anymore there could be even more money lost, or how it could lead to legal proceedings.
Document it for your own records to cover your own skin, and as a lessons learned. Having documentation can keep you out of legal trouble. It can also serve as a guide for others in your company, new and old, if organized, published, and distributed properly.
Take it to upper management – yours and theirs.
Yours so that your higher ups know what’s going on and what you did to try to stop it.
Theirs for the very same reason. And, of course, it’s about covering your own skin as much as it’s about helping the company.
Sometimes, though, there’s nothing you can do. The stakeholder has more political clout than you, or the project is a “company initiative” and no amount of argument, numbers, kicking, or screaming will change it. That $12 million was a rip off? Well it’s gone now, and the board and VPs all approved it. (I have run into the “company initiative” issue a lot lately in the organization I work for, and it’s frustrating because I know we could get better pricing, but those at the top say “jump”, and we jump and ask how high later.)
Sometimes you can’t win. Don’t get down. Document it. And work harder on the next project next time.
Managing your stakeholder and your vendors is just as important as managing the master purchase agreements and contracts that keep your company running. Communication with those within your organization and those within the suppliers’ organizations goes a long way in deconflicting a lot of issues, but sometimes things get derailed and your company loses out.
Remember to keep building those good working relationships, consistent, regular communication, and to keep working your hardest to ensure that you are getting the best pricing and service for your company. You may not always win, but when you do it will be noticed and appreciated.
“Leading Change”, John P. Kotter, Harvard Business Press, Brighton, MA, 1996.
I can’t count the number of times in my career when I had stakeholders or team members come to me and say,”I need X done, and I need it done this way.”
A few “why” questions, and a little investigation reveals that, no, it actually doesn’t need to be done that way, it’s simply the way the individual thinks it should be done. What do they actually need? What is the overall end state that must be accomplished?
Once we have that figured out, we can then start researching solutions.
What is a need?
In this instance, the need is what the end state is. Materials, such a maintenance, repair, and operations (MRO) procurement; a service, such as company-wide maintenance; or software for something like managing your supply chain. Identifying this to its simplest source can help you and your organization find the best solution.
What is a solution?
Here, a solution is the process or way that the need to achieved. There are times when a project manager or upper management says, “We must do this from A to B to C.”
A Solution Vs. A Need
But many times this is not the case. In my experience (this is anecdotal), more often than not the stakeholder/requestor/project manager has conceptualized a need, and has built a solution to fit it.
“We need program Y because our manager and department need it for work.” This is another sentence I hear very often. And, just as often, it’s not true. The IT department or one of the maintenance departments gets a visit from an account manager from a software company, manufacturer or distributer, and are sold on their offering.
The specific software or certain product is rarely what that department or business unit actually needs.
A need looks like the following:
- We need a work glove that is ANSI cut resistance five, is fire resistant, and made of a material that won’t melt to the worker’s skin in sizes small to triple-XL.
- We need a program that manages and integrates our procurement, contracting, warehouse operations, that talks to our current ERP system.
Those are model needs.
From these needs, scopes of work written and requests for proposal/quote can be created. Or, if working with an incumbent vendor on a blanket contract/master purchase order, your team can work with them to find the most cost effective solution from their offerings to meet your actual need.
The Role of Supply Chain/Procurement/Material Management
Here I call it “Supply Chain”, but your business unit or department may have a different title.
Regardless, it’ll be the job of you and your department or business unit to work with your stakeholders to identify their actual needs and not allow the latest shiny thing to derail good company and/or project budgetary goals.
This can be hard, as there are individuals within organizations who have de facto authority over others where they shouldn’t, and you will have to work with your manger, director, and perhaps even your VP and other stakeholders to overcome these people.
It’ll also be your job to make sure that all suppliers and contractors go through your department. I can’t count the number of times I have been getting a vendor to meet our needs at or near our desired pricing, when they get the ear of a supervisor or manager in the department I’m working with, and all of a sudden all of my had work is derailed. Time that could have been used completing the agreement is used getting everyone back on the same page, or renegotiating things that we thought were already locked in.
Working with your stakeholders, maintaining good relationships, and using the “5 Why’s” method (which is actually as many “why’s” as needed to get to the bare bones need) will help you and your organization identify these actual needs of your internal customers.