Many organizations let this spend fall through the cracks, focusing on larger, more prominent spend. This makes sense to a degree – tail spend, by definition, is small in scope and less strategically significant. However, organizations are coming to the realization that “there’s gold in them thar hills.” Tail spend represents largely untapped savings potential. They’re also realizing the consequences of leaving those hills unexplored. Given the advantages and risks, they need ways to reign in this otherwise dark spend.
So, what are these advantages gained? What risks we need to avoid? And, ultimately, how can we go about managing our tail spend moving forward?
Defining Tail Spend
Starting these discussions as I often do, I’d like to spend some time defining our key term: What is tail spend, exactly? Every organization has its own way of splitting spend into the logical units of “core” versus “tail.”
- From a cost perspective, some organizations draw a specific line in the sand. Using the good ol’ Pareto rule, tail spend may describe the 80% of suppliers that make up about 20% of overall spend. Other organizations play with a looser term, simply stating that spend is in the tail if it is “low-value.”
- From a supplier perspective, organizations may consider any spend not under management or covered contractually as tail, regardless of size. Or, again more generally, any suppliers not considered “core” from a strategic standpoint may be lumped together as tail.
- Categorically, tail spend can occur across a taxonomy. However, some organizations consider all indirect spend, as opposed to direct CoGS spend, as tail.
Which definition is best? There’s no right answer. Organizations adopt the definition that best suits them, based largely on their industry, goals, and how they conducts business.
At the end of the day, I don’t want to dwell here too long. Why? Because I’m only concerned with one key point that all of these definitions invariably lead to – Regardless of the method used to sort spend into that tail bucket, it will go largely ignored once it lands there.
Tail Spend: Why You Should Care
Regardless of how we define tail spend, there are a few reasons we should care about it. Some are carrots, others are sticks. All of them should be given at least a little consideration on the road to deciding if we need to spend more time worrying about our tail spend.
Let’s start with the carrots and, for the sake of argument, stick to our Pareto definition. Even if 20% of spend is small in the relative sense, it can still be a huge amount in terms of absolute dollars. The metric we want to worry about here is ROI. If there are strategies that can net us a win here quickly and with low investment, the ROI may justify the initiative. And that’s considering the spend only in isolation. One of the hallmarks of tail spend is poor classification and visibility. Consider a standard industrial supplies agreement you may have in place today:
- Free shipping
- Net-30 terms
- 20% discount on selected spend categories
- 10% base discount across the board on remaining spend
Not bad, but also not relevant for the ad-hoc purchases made on the corporate card during local trips to Home Depot. Consolidating Home Depot tail spend will not only immediately lead to savings in this case, it could also give us the leverage we need to establish a deeper discount structure. This last point leads directly to our first negative “stick” consequence.
Plenty of discount agreements follow tiered structures. Spend a certain amount, earn a percentage back; spending more with a supplier nets a larger discount, while spending less could kill your discount entirely. It can be hard work hammering out the most competitive rebate or discount structures – and it can be frustrating to have the deal fall apart when employees insist on those Home Depot trips and spend just enough to knock our discount down a tier. That’s money lost for entirely avoidable reasons.
I’m doing tail spend a disservice by staying in the realm of small fry industrial supplies spend. While tail is often made of a large number of small-scale purchases, this isn’t always the case. Our tail may include some relatively big ticket items that are infrequently purchased. In situations like this, odds are good that Procurement doesn’t have a deep knowledge base or expertise in that spend’s category. When this is the case, scopes have a habit of creeping and costs have a habit of ballooning. Left unchecked, that tail spend will push its way into the critical spend spotlight soon enough, potentially catching Procurement off-guard. Here’s an oldie-but-goody: The IT maintenance agreement that allows for price increases of up to 15% annually. Years may go by as that 15% mark gets hit over and again without Procurement noticing… Hey, it’s just tail spend, right? We’re left with egg on our collective faces when management demands to know why that spend doubled and we don’t even recall inking the deal.
Coming up next: Controlling Tail Spend
As with all strategic sourcing endeavors, managing tail spend requires an investment. Procurement needs to commit resources and time to tackle a subset of spend that, by all means, will need a good bit of work. The natural question you may be asking at this point is, “is it worth it?” I've discussed this topic previously, most recently in my series on Supplier Relationship Management. Not all spend needs to be reviewed as strategically important or viable for big initiatives.
Tail spend reviews certainly can be viable and, if I’ve done my job, I’ve given some compelling rationale for doing so. However, I can’t say that managing tail spend is always a valuable next initiative for any given organization – that depends entirely on what other initiatives are slated and how much of a project this tail spend management initiative will be from a time and resource perspective.
If you think its time to tackle tail spend in your organization, or are on the fence and need more intel before pulling the trigger, then join me next week as we review a few key strategies that make tackling tail spend easier.