Supply Excellence — In Defense of Soft Cost Savings

In Defense of Soft Cost Savings

August 2nd, 2006 · by Tim Minahan · No Comments · best practices, sourcing, supply management

As an analyst during the inception of the “e” craze in the 1990s, I heard a common refrain from supply management executives: “Process or productivity improvements are nice, but I can’t build a business case on such soft cost savings.”

Instead, supply managers (and newly coined “e-business executives”) targeted hard-dollar reductions in material and services costs. Their logic was simple: productivity savings were difficult to defend to doubtful CFOs and CIOs. By contrast, material cost savings had the wow factor: they were large and could be linked directly to improvements in the corporate balance sheet.

With the first wave of supply management automation improvements over, process and productivity benefits seem to be making a comeback. In the past month, I’ve had with senior supply management executives with more than a half dozen different companies. All of them have highlighted the very tangible benefits resulting from the productivity and process improvements of sourcing automation (e-sourcing) solutions.

However, the renewed focus on the impact of process cycle time improvements is dramatically different. Early examinations tried to quantify the administrative cost savings resulting from improved productivity. Indeed, I pursued this in my own research of early e-procurement implementations, finding that the typical user was able to reduce the both the cycle time and cost to process a requisition by more than 70%. These did in fact turn out to be soft-cost savings because few enterprises actually eliminated full-time employees performing these tasks, electing instead to redeploy such personnel to other activities.
Now supply management executives are measuring the hard-dollar return of automation-generated process efficiencies.

The below table illustrates how productivity improvements might translate into measurable quantifiable savings for an average company with $1 billion in annual revenue. (Click image to enlarge.)

Assumptions for this financial model come from studies conducted by both the Center for Advanced Purchasing Studies (CAPS) and Aberdeen Group:

About half of every revenue dollar is spent on external goods and services. Total spending: $470 million.
The average company applies strategic sourcing to less than half its overall spending.
Average sourcing cycle times are 4.2 months. e-Sourcing users report an average of 55% reduction in sourcing cycles.
Average cost savings negotiated via e-sourcing is 14.3%. (I have taken an extremely conservative approach and halved these savings in this financial model.)

In short, cycle time improvements from e-sourcing free up supply managers to apply strategic sourcing principles to a larger portion of spending and a wider range of spend categories. The result? Process and productivity improvements from e-sourcing can yield more than $42 million in additional hard-dollar savings for a company with $1 billion in annual revenues.

Now, if we can only figure out a way to quantify the economic benefits generated from process standardization and knowledge transfer enabled via e-sourcing.

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