As a consultant in the procurement space it is my job to listen to my client’s goals and identify strategies to help achieve and exceed those targets. Hands down, the most common need a client has is to achieve hard dollar cost savings in a particular time frame. They often come to us with aggressive savings goals set by upper management with no clear direction on how to hit those numbers. While there are countless strategic sourcing strategies that can be executed to achieve these results, the fact of the matter is that a focus on only hard dollar savings can negatively impact the bottom line in the long run.
Let me back up to define what I mean by “hard” and “soft” cost savings. A hard cost saving is a cost reduction metric that is quantifiable and traceable. For example if you purchased 1000 widgets at $2.00 last year and we negotiated the cost of the widget down to $1.00, that is a $1,000 (50%) savings achievement. A “soft” cost saving is an improvement that cannot be tied directly to a quantifiable dollar amount such as a reduction in lead time.
Focusing on hard dollar savings is typically viewed as a slam dunk for both upper management and procurement. Upper management is able to accurately track the impact these savings are having on the bottom line, Procurement can accurately measure their departmental ROI, and shareholders are pleased. The issue arises when these hard goals become so aggressive that soft cost savings are completely ignored because they are not feeding into meeting a direct requirement. Cost savings will always have diminishing returns year over year unless a large event like an acquisition or unexpected organic growth occurs to increase spend leverage and shake up the supply base. A well-oiled Procurement machine will not achieve 5% cost savings annually, yet targets set by some organizations require exactly that. So how can an organization ensure continuous improvement in supply chain and procurement functions without exhausting resources chasing dollars that simply are not there? The answer is giving soft cost savings a seat at the table.
Process improvement and innovation should be at the forefront of any Procurement strategy. While the cost to process an invoice, or execute a contract, or extended payment terms aren’t as black and white as a price on a catalog – these things still have associated costs and value. Assigning goals associated with these types of improvements will ensure that your organization is maintaining an edge, even when pricing in the market is undergoing increases or remaining stagnant. Whether you are General Motors or a mid-market fleet repair shop, the price of a hammer can only be reduced so much. What will happen when you are paying the same price for that hammer as your competitors? Where will your competitive edge come from at that point? Could it be an industrial vending machine that ensures the lack of hammer inventory will never stop production? Could it be strengthening the relationship with your suppliers to ensure that in a stock-out your organization takes priority in getting the hammers? When price is no longer a factor, it is important to understand how your organization measures up.
The fix for this is easy. Management should take on the challenge to include these initiatives within annual goals. Make process improvement, relationship building, supplier introduced innovation, or other activities that may not impact the bottom line in a way that is quantifiable mandatory. Award achievement in these areas the same way it is done for hard dollar cost savings. This is what takes an organization from being a “performer” to being best in class.