When it comes to maximizing business performance, the primary focus of any vendor management initiative is on cost savings. While the cost savings that can be realized with vendors are critical to an organization, there are associated process and performance benchmarks related to these contracts that can add additional value to the bottom line.
As the adage goes, “If you don’t measure it, you can’t manage it.” Applying the wisdom of this statement is vital to understanding where additional value beyond cost savings might be uncovered in existing processes and performance levels. For example, quantifying overall spend is important. This requires documenting your company’s total number of vendors and the spend per vendor. In addition to providing a context for these numbers, an organization should also evaluate how much of the volume of business done with these vendors is governed by formal contract terms as opposed to being managed through simple purchase orders.
Performance Factors
While no rule of thumb exists for an optimal number of suppliers, some level of vendor consolidation is part of any successful vendor management strategy. When putting a company’s business out to bid, managers must create market baskets with sufficient volume to motivate bidders to sharpen their pencils and offer the best possible terms. One approach is to analyze the number of vendors an organization uses by assessing whether each justifies their value proposition.
There may also be diversity targets or other state/local commitments to consider. Exclusive relationships (or primary/secondary supplier designations) may be warranted in many cases, but only if diligence has been done to confirm plans to offset any risk of supply disruption due to geopolitical or weather factors.
Although customer satisfaction is a natural objective, procurement managers should focus on drivers of satisfaction more directly under their own control: on-time delivery, defect rates, lead times, etc. Customer challenges can often be traced back to such supplier-driven root causes.
Soft-dollar vs. Hard-dollar Savings
Supplier-driven factors can also begin to cross into the area of process. For instance, the number of vendors has significant back-office implications in terms of legal contract review, invoice processing, etc. These “soft dollar” savings are at times overlooked, but can ultimately be very valuable to a firm when managed correctly. Hard dollar savings like unit price concessions, signing bonuses and rebates are easily calculable, and apply to the agreed formula through which the sourcing management partner is compensated. By contrast, flow-through savings in other areas of the organization accrue 100 percent to the firm’s benefit.
Process and Performance in Action
Consider a real-world example: Our firm was recently engaged to optimize a $150 million supplier budget, and based on the initial information provided, we set a 10 percent savings target. We soon discovered, however, that our client roster included 7,000 suppliers, and that they received daily and/or weekly invoices from these vendors at each of their 30 production sites. Based on operational input from both the facility heads and senior management, we issued Requests for Information (RFIs) both internally and externally to better understand site-level production and inventory needs. The resulting data developed a Statement of Work, which set forth parameters for best-in-class logistics and pricing while ensuring that all locations and low-volume specialty components were accommodated.
Our targeted supplier count of 1,500 for this client is still a substantial number, but it equates to a nearly 80 percent reduction from the baseline yet allows for significant diversity and geographic coverage. Moreover, with national providers issuing consolidated monthly invoices with plant-level detail, the firm’s accounts payable shop stands to eliminate the processing of thousands of monthly invoices (compared to the baseline of 30 facilities receiving daily invoices from hundreds of vendors). Additionally, by instituting a Master Vendor Agreement, the need for legal contract review will also be greatly reduced.
Based on these changes, we have upgraded our estimate of the client’s hard dollar savings to 15-20 percent, in addition to the back-office efficiencies noted above that maximize business performance even further. At the same time, incumbent suppliers have been energized by the opportunity to grow their business relationship through consolidation.
While a roster of 7,000 suppliers may sound extreme, it is not out of the ordinary in multi-site, manufacturing environments. Minor exceptions and other inefficiencies tend to accumulate over time as more pressing, daily challenges are addressed. Savings opportunities in the eight-digit range are enough to warrant any firm’s attention, especially when a sourcing partner can be engaged to provide the necessary focus and expertise.
