What Are the Metrics You Need to Look For in Procurement to Become Strategic?

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What Are the Metrics You Need to Look For in Procurement to Become Strategic?

Kissflow

@Kissflow

June 24, 2022

Cloud Computing

148

All organizations need to procure goods and services from external suppliers in order to run their operations successfully. To do so, procurement teams, or entire departments, are created that dedicatedly work to cater to organizational needs. Maintaining the performance of these teams is necessary to ensure that the organization minimizes its risks and manages its expenses.

Strategic procurement entails ensuring a timely, long-term, risk-minimizing supply of critical goods and services to an organization. It incorporates plans to improve vendor management systems, save costs, and ascertain compliance. If you want strategic sourcing to become effective, you will need to calculate and monitor the following metrics:

Cost Savings

Enabling savings has long been seen as one of the leading roles associated with the procurement department.

Cost savings show the negotiating power of your procurement team. It is a metric that shows the organization's savings because of securing products at lower prices. You can calculate this by multiplying the cost saved per unit by the total number of orders.

Let’s go through an example.

Suppose a bidder offers a price of $10 per Good A, and you have to buy 1,000 units. In this case, your total cost is $1,000 x 10 = $10,000.

Now, consider the scenario where your procurement team manages to bring the cost down by 10%, or $1. Now, the total cost you are incurring is $1,000 x 9 = $9,000. So the amount you’re saving on costs is $10,000 - $9,000 = $1,000.

An easier way of achieving this result is by multiplying the amount deducted by the number of orders: $1 x 1,000 = $1,000.

High values of this metric indicate that the procurement team is landing good deals, whereas a low value indicates that the department may be lagging on the negotiating or research end. Proactive market research, improved long-term relationships with suppliers, and stronger negotiating power can increase the value of this metric.

Spend Under Management

Visibility into expenditures is vital to effective procurement processes and planning. The spend under management (SUM) metric gauges this.

The Spend Under Management metric shows the fraction of an organization’s addressable procurement expenses that are effectively overseen by the procurement function. You obtain it by dividing the actively managed spend by the total organizational spend on materials and services.

Consider the example where an organization’s total expenditure on sourcing comes out to be $1,000,000. On the other hand, the procurement team says that the money it spent on purchases from approved suppliers was $850,000. So the value of addressable spend as a percentage of total expenditure will be calculated as $850,000/1,000,000 *100% = 85%.

High values for SUM indicate high visibility and more robust management. If the value of this metric is not up to a certain benchmark, it means that your organization might be a victim of dark purchasing or maverick spending.

Spend Against Budget

Every organization has a pre-determined budget for each department and each project. Budgets are developed before the expenses are actually incurred with the input of various teams. They are used to forecast organizational spending for a certain period of time while considering every possible expense. They also provide a guideline to teams on where they can spend and to what limit.

During a financial year or project's lifetime, expenses may occur that deviate from the budget. This is called budget variance. If the budget variance is higher, it means that the teams are spending more than they should. This can also be an alert for maverick spending or dark purchasing. When comparing expenditures to budgets, budgeting accuracy, rather than cost reduction, is used to determine success.

For example, the set budget for office supplies for the year 2021 was $100,000, which included purchases of pens, notepads, pencils, staplers, glue, and so on. These cost estimates were made based on past purchases along with leaving a considerable cushion. At the end of 2021, it was realized that actually $200,000 had been spent on office supplies. This shows that there has been more purchasing than planned, which raises red flags and helps managers make certain needed decisions after holding individuals accountable.

Percentage of Core Spend Suppliers

The core suppliers in an organization are those that account for eighty percent (or more) of your purchase expenses. An organization needs to know how well the procurement team is managing the supplier base. For this purpose, the percentage of core suppliers is calculated.

To calculate this, you will have to arrange your suppliers in descending order according to the amount of money your company spends on their products or services. Say your organization has 10 suppliers. Within them, you spend 35% on Supplier A, 20% on Supplier B, 15% on Supplier C, 15% on Supplier D, and so on. Note that these four suppliers account for 85% of the spend. So your percentage of core suppliers will be 4/10 x 100%. This yields 40%.

High values of this metric imply a scattered supply base and little to no supplier consolidation. In contrast, low values indicate that the procurement team has identified suppliers of strategic importance and is working with them. However, a low value can also mean that the team is not looking for better suppliers and opportunities but only working with the ones they know.

Percentage of Structured Spend

A business’s spending can be scattered and dominated by chaotic, manual purchasing processes. The Percentage of Structured Spend is a KPI used to understand exactly how many purchases go through an electronic catalog. You can simply calculate it by dividing your electronically processed spend by the total spend.

For example, if your electronic catalogs show that they processed $25,000 but your total purchases for the year were worth $75,000, the percentage of your structured spend will be ($25,000 $75,000) x 100% = 33.3%

The higher the value of your structured spend, the better you will be able to manage your spending, streamline purchasing processes, and enforce contract terms.

Endnote

Procurement processes need to be visible, enable cost reduction, and allow for the development of good relationships with suppliers. The more centralized the procurement channel is, the better your organization can keep a check on it. However, manual centralization can pose a bottleneck to speed.

For this reason, businesses around the globe are moving toward automation and digitalization solutions to streamline their procurement processes. Utilizing technology can make KPI measurement and tracking much easier and more accurate. You need to start analyzing numerical data to assess your business’s performance as soon as possible so that you can identify grey areas and work on improving them.

Author Bio:

Prasanna Rajendran is the Vice President at Kissflow, where he heads the business operations of Kissflow Procurement Cloud, a flexible procurement software for procurement teams to streamline all their purchasing processes in a single place. He has over 20 years of experience in technology and has helped Fortune 500 companies with custom solutions in the sourcing and procurement space.

digital procurement

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Kissflow

Kissflow is a leading SaaS software company offering award-winning low-code & no-code work management solutions used by organizations in over 160 countries. Kissflow’s offerings include product platforms for workflow management, low code application development, procurement cloud solution, digital workplace and community management, all of them designed to simplify work. Kissflow powers more than 50 Fortune 500 companies such as Airbus, McDermott, Reckitt Benckiser and Olympus. Kissflow is featured as a leader in G2, the world’s largest user reviews aggregator and by renowned analyst firms Gartner & Forrester. Kissflow has a globally distributed workforce of close to 400 employees.