Finance leaders around the world are at a pivotal juncture. Despite the need to address economic and political volatility, the past year has created unique opportunities for growth that require clear thinking, speed to pivot strategically and tactically when necessary, and deft management of personnel. Procurement specialists are emerging as key partners for the finance function and crucial allies in delivering revised investment priorities and new business plans.
Sourcing, procurement, and supply-chain management open an organization’s window to the supply market by dealing with the commercial aspects of finding and working with external partners. Most such specialists report into the CFO, once the holder of purse strings and now increasingly the owner of business planning and growth strategies. The sourcing and procurement functions have historically aligned themselves with an organization’s primary suppliers, while management of the supply-chain function gets more involved in the sequential supplier relationships that often sit behind a product or service. Procurement is a one-stop shop for managing an organization’s external expenditures.
You may ask, “What can procurement do for my organization?” In the Proxima Finance Leaders Outlook 2021 research report, most finance leaders in the United States (96%) indicated that procurement was a significant part of their strategy in facing the challenges of the COVID-19 pandemic. Further, the large majority agreed that procurement will continue to play a relevant role for the recovery of their business this year and beyond.
PROCUREMENT’S SHIFTING ROLE
Most business leaders may have thought that procurement was specifically focused on supporting a cost-reduction agenda. This view is widely accepted, as 65% of procurement functions report into finance leaders in large corporations. This shouldn’t be dismissed. If procurement isn’t about delivering cost-reduction targets, then what’s it about? The answer may lie primarily in the role of suppliers.
Statistically speaking, three-quarters of the incurred external costs of any business start with suppliers. It varies by sector, and different businesses have different needs and purchase requirements. The guiding principle remains the same, with the vast majority of Fortune 500 companies all incurring far greater external costs than internal ones, making effective supply-chain management an asset to the finance function.
Procurement’s higher purpose is to get the most from this asset base, and it’s up to leadership to define what “the most” means. In 2020, the definition may have changed several times as organizations navigated supply, demand, cost, and cash challenges on a daily basis. The role of procurement shifted, and its strategic importance to the business increased.
Similarly, as organizations turn their attention to recovery, key capability and capacity sit within the supply base that the procurement function oversees. Organizations are looking to drive growth through bolstering the company’s innovation, speed, and flexibility, much of which will come from finding and securing fair agreements with the right suppliers.
But above all, many businesses are seeking to underpin their strategic plans for growth by embedding greater resilience into their organization’s individuals, operations, and supply chains. The procurement function will be a key ally to accomplish this.
RESILIENCE: A TOP PRIORITY
In 2020-2021, the lens has been focused on suppliers, and finance and procurement professionals are asking them new questions. In principle, it became evident that a business couldn’t function and wouldn’t thrive without its suppliers functioning smoothly. Are we getting value for money? Do we have flexibility in our contracts? Are our suppliers aligned to our purpose? Who’s going to help us grow out of the crisis? These are all questions that were being asked, but principally, resilience took center stage. Respondents to the Proxima survey saw it as the primary measure of procurement impact by U.S. finance leaders, moving cost savings to the top of the priorities list. The proximity of the next three objectives—social value, sustainability, and revenue generation—point toward the value that finance leaders seek from procurement in the coming period, but, for now, resilience rules.
While 2020 may have been an extreme, it also pointed us to the areas where greater resilience is required and thus where finance and procurement should focus their best efforts. We can group these into four broad themes:
- Cost optimization and cash flow,
- Internal resilience,
- Supply-chain management striving for resilience, and
- Specific business strategies.
Underpinning this thinking is some basic financial hygiene. You need to know what you spend, with whom, and on what terms. This sounds obvious, but it’s a concept that many fail to grasp. There has been significant investment in data and monitoring processes and systems in 2021, either installing new platforms or optimizing preexisting deployments.
COST AND CASH RESILIENCE
A year ago, the first instinct of many business leaders facing reduced revenues and budget pressures due to the pandemic was to cut staff. It would be wrong to suggest that none of these cuts were necessary, but often there are greater savings available in the company’s supply base. It’s more difficult to unlock cost savings if you don’t know the best places to look. When asked what specific strategies CFOs would implement to drive greater business resilience, it isn’t surprising that both cash-flow management (first) and cost optimization (fourth) were featured prominently.
The relationships between supply and demand shifted in 2020 to such an extent that it sent shock waves across global supply chains. As COVID-19 spread all over the world, suddenly goods weren’t being delivered and invoices weren’t being paid. Contracts defaulted, and companies failed. The net effect was that conventional models of market dynamics ceased to apply to what was actually happening to the global supply chain.
When a previously predictable relationship between supply and demand becomes volatile, uncertainty is introduced throughout the buying cycle, from forecasting and labor supply to production cycles and purchases made. A form of risk-adjusted repricing takes place. Put simply, prices change, and the current cost base becomes out-of-date. This presents finance leaders with challenges, but also an opportunity to drive their company toward a lower cost base and to embed greater resilience.
While finance leaders’ first instinct may be to cut budgets, doing so in isolation can encourage budget holders to cut corners and take more risks, which is the opposite of what executives want to achieve. We’ve seen success when budget cuts are accompanied by a cost-conscious program consisting of a series of activities aimed at resetting key cost lines and embedding a new commercial culture in the organization. Let’s look at the three basic focus areas for the finance and procurement functions to address.
- Why spend? Implementing a “stop cost” program or adopting a “zero base” approach to supplier expenditure is a radical but effective way of encouraging businesses to think before they spend. This approach fundamentally reevaluates the decision-making process for budget holders before spending is approved.
- Optimize what you spend. Running a rapid cost-optimization program can quickly rebalance costs to market levels and focus on the contractual commitments the company has made and is considering, as well as the degree of risk it takes on with each supplier. Markets move quickly, new innovations appear, supply and demand impact prices, and organizational needs change. The CFO should regularly temperature-check value for money spent, asking, “Is external spend optimized against what we need?” Finance leaders may need to recommend a course correction, which could lead to savings that they can bank or invest elsewhere.There are numerous short-term levers for management to pull, such as reducing consumption, renegotiating prices, or changing the level of service. Additionally, there are more strategic approaches that often take longer but deliver much more value. Think about reengineering products or services, changing suppliers, outsourcing, doing a make-vs.-buy cost-benefit analysis, digitization, and automation.
- Working capital. To many in finance and procurement, working capital had been a moniker for extending payment terms. In the U.S., in particular, and perhaps shunning a global trend, payment terms in excess of 100 days are becoming a familiar if unsustainable feature of supplier contracts. In the current climate, resilience means ensuring that your organization and key suppliers in critical supply chains are liquid, that is, easily able to convert their assets into cash.
Cost and cash resilience should focus on delivering savings and improving cash flow without compromising the assets required to drive recovery. Reducing external supplier costs also typically yields far greater earnings before interest, taxes, depreciation, and amortization (EBITDA) benefits than a proportional reduction in head count.
BUILDING INTERNAL RESILIENCE
Cost and cash aside, the organization must continue to function well in the face of further change. Depending on what sector you operate in, you’ll likely have a view on what this means for your company and where its weaknesses were exposed through the pandemic. For most, this means making some adjustments in the workforce, workplace, and possibly reassessing the goods and services that a business needs to function.
To put a figure on it, this means focusing on the 25% of staff costs, plus a proportion of the costs incurred that enable them to do their jobs. These indirect costs typically make up 15% to 25% of the total. So, we’re talking about optimizing roughly a third to a half of all business costs, a significant chunk of money, but also a key part of what makes the business’s wheels turn, and thus a significant point of strength that must not be weakened to the point that it becomes a vulnerability.
There are a few key steps that organizations are taking in this area. At one end of the spectrum, there’s a lot of focus on the future workforce, which often has a more variable skills base and flexible mind-set that can grow with a company. This highlights the current relationships with contingent labor, consultancies, and service providers and how these work alongside the internal workforce. Often these relationships have been built for the business as it was pre-pandemic and thus should be recalibrated around revised business needs and market conditions.
At the other end of the spectrum, there’s a focus on a healthy and happy internal workforce. There has been an explosion of activity in the employee well-being and benefits space. Employers see this not only as a core pillar of a more resilient workforce but also as a key driver in acquiring and retaining talent and future-proofing the skills and capabilities of the workforce.
The future workplace will have to be resilient. Forty-seven percent of U.S. finance leaders in the Proxima Finance Leaders Outlook 2021 report expected some form of remote working to remain in place permanently. This means that “office space” becomes a pressing opportunity, both in terms of asset rationalization and, more likely in the short term, space optimization. The home office has become a new end point, creating new health, safety, and IT vulnerabilities that are seeing an influx of buyer investment and supplier propositions. The goal is to create a safe, healthy, and collaborative working environment at home and in the office. The procurement function can play a role in increasing workplace resilience.
Analyzing a cost base doesn’t only mean reducing costs, but also making strategic plans for reinvestment. There’s a myriad of other goods, systems, and services that companies are purchasing for operational reasons. Finance and procurement professionals should studiously examine these cost lines with future strategic plans in mind. The pandemic provides a window of opportunity to accelerate change and adoption of new technologies and experiment with new ways of working that improve business operations and employees’ productivity.
When a majority of a company’s costs are tied up in its supply chain, you can expect that its pursuit of innovation could expose more risks. Supply chains have been under the microscope during the pandemic. Many failed, and the lack of data and contingency plans hampered the emergency response.
There has been a lot of talk about the fragility of supply chains worldwide, but the reality is that most are highly specialized, geared global networks. They exist because they’re functional and impossible to replicate domestically overnight. The benefits of supply chains shouldn’t be consigned to the trash bin of history without developing acceptable alternatives. Finance and procurement professionals can learn lessons about embedding greater resilience through various actions, including:
Look for greater transparency. Some of the first questions that finance and procurement leaders had to grapple with in 2020 were: What are we spending, with whom, and where are we exposed to potential disruption? The failure to answer these questions with precision highlights a challenge faced by most organizations that there’s often little transparency of data or management of supply chains beyond the primary contractor in supplier relationships.
In 2021, this is no longer acceptable in critical supply chains. Procurement is being tasked with taking more responsibility for what’s happening down the chain and the sorts of risks that those suppliers may carry. Data isn’t just about resilience; it’s also important for growth. Better data is usually a prerequisite to make faster and better decisions.
Explore several choices whenever possible. In reaction to the mass shortages experienced across some supply chains, there’s been a lot of focus in the media about the onshoring of critical supply chains. The pandemic may have highlighted where sole-source supply chains have hindered or halted operations, whereas having multiple choices to consider can open a pathway to resilience.
Identify dependencies and vulnerabilities. After doing so, leaders need to make strategic decisions to set up complementary supply chains to suit new business norms. Onshoring and automation must be part of the decision process, but they aren’t necessarily always the default answer. Global markets are complex, and procurement is uniquely tooled to support finance leaders’ decision making.
Finance leaders see new product development and new market entry as key strategies in the search for greater business resilience. These growth strategies further offer procurement a chance to shine and impact real business objectives. Business executives’ views of procurement are evolving beyond the conventional ones as they work to drive greater resilience in the future by adopting new networks, strategies, and solutions.
Accelerating into new products and markets will most likely involve a high degree of supplier collaboration, adding innovation and increasing the speed of the development process. Finding the right partners, getting to the right contract terms, and collaborating effectively are core elements of forward-thinking companies’ emerging procurement offering.
Expect to read and hear much more about how successful businesses in 2021 harness the power of their suppliers for positive growth. Be prepared to work differently and deploy different commercial models in hyper-growth markets.
PROCUREMENT’S SEAT AT THE TABLE
Procurement, like many other functions, has consistently sought a seat in the C-suite with influence in the boardroom. Now should finally be that time. The business challenges that procurement should be addressing are great, and they’re certainly on the finance function’s agenda.
Getting a seat is one thing; deserving to keep it is another. Finance leaders should be able to depend on procurement to help them achieve their resilience and recovery goals. A collaborative working relationship with finance is a prerequisite to getting a potential restructuring right, as would a sufficiently tooled and skilled procurement team. Optimizing your company’s expenditures means finding the right partners, striking mutually beneficial deals, and managing those relationships—all tasks that procurement and supply-chain-management specialists must be able to tackle.
The pandemic has shone a light helping finance professionals to differentiate between the good and the not-so-good procurement practices deployed by companies worldwide. For those that do get it right, the future of effective collaboration between finance, procurement, and supply-chain-management professionals looks bright.