In Deloitte’s 2016 Global CPO Survey 2016 report, 74% of respondents stated cost reduction as their top priority in 2017. Also, 70% of the surveyed procurement executives cited indirect spend as a top focus for controlling and reducing costs.
Recent studies have found that indirect spend can account for up to 50% of a company’s purchases, and manufacturers specifically can spend 20% or more of their total revenue on indirect expenditures. It is clear the next profound impact area for procurement professionals is in accessing hidden and unexploited areas of indirect spend.
The Problem with Indirect B2B Purchasing Today
The traditional indirect purchasing model is to consolidate suppliers, negotiate strong discounts, set up an e-procurement or marketplace system (using hosted and “punchout” e-commerce web catalogs) and compel users to purchase from preferred vendors at pre negotiated contractual pricing. This approach is a natural extension of direct supply chain models requiring focus to optimize the full lifecycle of critical suppliers. Organizations have done an excellent job of optimizing direct supply relationships and have turned toward indirect procurement for the next area of incremental savings. In indirect, with large numbers of suppliers and potential suppliers to manage, this optimization becomes difficult.
Hosted catalogs are easy to use, but the information is usually updated only periodically. Once supplier contracts are finalized, the products and pricing immediately become stagnant and quickly outdated. With punchout (web) catalogs, users must search one at a time to find the items they are seeking and are exposed to many products not under contract or approved for purchase.
This purchasing process is usually clunky and time-consuming, leading to poor user adoption of the procurement system. Employees who are forced to deal with exhausting product searches and outdated information are more likely to get discouraged with the purchasing process. Thus, user commodity purchases are often made from the same vendors (without comparing alternative pricing options) or via “rogue spending,” which are purchases made outside of the ERP or e-procurement system that nullify the benefits of the pre-negotiated discount pricing. Both scenarios result in a significant loss of savings.
The Reality of Real-Time Data
Rather than follow traditional procurement approaches of rationalizing suppliers to drive compliance and efficiency with each relationship, it is much more impactful (and practical) in indirect procurement to optimize across the complete pool of available suppliers by creating a competitive, real-time marketplace. Supplier products and pricing aren’t — and shouldn’t be — static. Suppliers such as Staples, Amazon Business, Dell, Fisher Scientific and thousands more are continually discounting commodity segments and products on a 24/7 basis (even below the best-prenegotiated pricing costs).
As a result, any one vendor will not be the best choice at every given moment in time. Real-time product/pricing data and alternative supplier choices for end users are essential to delivering significant, untapped savings on indirect and long tail spend. While end users have come to expect this type of online competitive shopping in their personal lives, most e-procurement or procure-to-pay (P2P) software solutions have never been able to truly deliver on the shopping experience or savings promised.
Real-time technology makes it possible to rethink the traditional indirect procurement business model and provide users with true comparison shopping within corporate purchasing processes alongside procurement guidance and visibility.
An Evolution to Real-Time Procurement
Procurement and financial leaders need to evolve the way they think about B2B e-commerce, supplier relationship management, procurement savings and ROI. It is time to realize the indispensable value that real-time data deliver to their organizations and to understand that procurement needs to move at the speed of now.
Having the ability to quickly search and aggregate real-time product information — from all approved supplier websites and hosted catalogs — and instantly offer lower-price alternatives for the same or related products at the time of checkout can deliver previously unattainable savings for procurement organizations. This is based on making intelligent choices and takes advantage of an online marketplace reality economists call “price dispersion.”
“Price Dispersion occurs when different sellers offer different prices for the same good in a given market,” says Ed Hopkins, professor of economics at the University of Edinburgh. “Thus, it differs from price discrimination under which a single seller offers different prices to different groups of buyers or in different geographical locations. A simple explanation for price dispersion is that it arises from imperfect information on the part of consumers who do not all buy from the lowest price seller because some at least do not know who the lowest priced seller is.”
Instead of constraining users to purchase only from one or two large suppliers with stale, pre-negotiated pricing, procurement and financial leaders can empower users to become champions for savings at their organizations, by providing visibility to all prices in real time, allowing them to choose the lower-priced options at any specific moment of purchase. Studies indicate that these previously untapped savings can be significant.
“Price dispersion is found to be significant and persistent. Baye et al. find an average coefficient of variation of about 9% for goods being sold online,” says Hopkins.
Beyond Theory: True-Life Case Studies
On behalf of a large global enterprise, the Aquiire data team conducted an experiment to measure actual missed savings opportunities by not leveraging alternative competitive supplier pricing against their current, negotiated contract pricing. The savings results were quite astonishing. Here are the testing scenarios:
Real-Time Pricing Comparison — Scenario 1
The study compared around 65,000 purchased items made with the client’s negotiated pricing from two of its major suppliers (MRO and office supplies), together with a large e-commerce supplier that also provided the items it purchased. We then calculated the savings the client could have achieved if its buyers selected the lowest-priced option between at any given point in time.
Real-Time Pricing Comparison — Scenario 2
Our research analysts then compared the savings opportunities when pricing from two of the enterprise’s buying cooperatives was brought into the competitive e-procurement marketplace, along with its two negotiated suppliers and the large e-commerce supplier. We measured the potential savings opportunities if the client’s users had picked the lowest-priced option available at the time of purchase between all five suppliers.
Scenario 1 Results of 65,000 Items Purchased
Office Supplies Cost Comparison:
- Negotiated Supplier: $1,237,012 (total cost per negotiated contract discounts)
- Third Party E-Commerce: $1,541,440 (24.61% higher cost if all items were purchased through website)
- Chose the Best Option: $1,071,252 (13.4% lower cost if users purchased the lowest-priced option)
MRO Cost Comparison:
- Negotiated Supplier: $1,072,110 (total cost per negotiated contract discount)
- Third Party E-Commerce: $1,140,725 (6.4% higher cost if all items were purchased through website)
- Chose the Best Option: $974,333 (9.12% lower cost if users purchased the lowest-priced option)
Scenario 1 — Combined Cost Comparison Totals:
- Negotiated Suppliers: $2,309,122 (total cost if all items per negotiated contract suppliers)
- Third Party E-Commerce: $2,682,165 (16.15% higher cost if all items were purchased through website)
- Chose the Best Option: $2,045,585 (11.41% lower cost if users purchased the lowest-priced option)
As you can see, if the enterprise users purchased the lowest-priced item in a competitive marketplace environment, the company would have saved $263,537 over its negotiated supplier pricing. And this is just a small sample of the total company spend per year.
Now let’s look at Scenario 2 total cost results when including products and pricing of two buying cooperatives into the marketplace.
Scenario 2 Results of 65,000 Items Purchased
Total Cost Comparison:
- Negotiated Suppliers: $2,309,122 (total cost iof all items purchased through all suppliers)
- Third Party E-Commerce: $2,682,165 (16.15% higher cost if all items were purchased through website)
- Buying Cooperative 1: $2,241,119 (2.94% lower cost if all items were purchased through cooperative 1)
- Buying Cooperative 2: $2,193,018 (5.01% lower cost if all items were purchased through cooperative 2)
- Chose the Best Option: $1,860,921 (19.41% lower cost if users purchased the lowest-priced option)
These test results show that as more competition and pricing options are brought into the e-procurement marketplace, the higher the savings potential is for the organization when the lowest-priced option is selected at the time of purchase. In this scenario, the enterprise would have saved $448,201 on the 65,000 items purchased.
Case Study Overview (Click to enlarge)
Scenario 1 Results (Click to enlarge)
Scenario 2 Results (Click to enlarge)
The Numbers in Perspective
If the enterprise’s annual indirect spend is $100 million, and the organization averaged an additional 19% savings by utilizing the lowest alternative supplier pricing model, that would equate to an annual savings of $19 million. Even if we conservatively predict that overall savings would balance down to theoretical savings predictions of 9%, this organization would have saved $9 million per year by introducing real-time competition into their indirect marketplace. This is worthy of a pat on the back from any CFO or CEO.
Even More Savings Potential with Supplier Renegotiation
Not only does real-time pricing allow organizations to measure their true realized savings, but capturing alternative supplier data in real-time is also an invaluable tool during renegotiations with suppliers. This historical data can be used to show suppliers the commodity areas and items where they are not competitive across each moment of end-user purchase. Armed with this information, procurement teams have better tools to prompt suppliers into offering lower pricing and incentives, knowing that they are contending for the sale in a competitive, real-time pricing environment. This will drive even more savings potential on their annual indirect spend.
Proper vetting and negotiating aggressive discounts with suppliers is still an important part of capturing indirect savings and delivering value for stakeholders. But it is time to evolve the purchasing process to the “speed of now” by enabling real-time price comparisons across a dynamic, competitive marketplace. Utilizing real-time data, comparison shopping, alternative supplier pricing and advanced spend visibility analysis tools, procurement leaders can truly deliver and measure the untapped savings on indirect spend they are bringing to their organizations, as well as the additional value they are providing to their stakeholders. It is time to invite more suppliers to the indirect purchasing opportunity, not less.
By Paulie Anthony | Aquiire