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Article # 0037

In this discussion, "Strategic Sourcing" is defined as the activity of consolidating certain generally common materials and service requirements across a business enterprise followed by securing written agreements for these needs with a relatively few select suppliers. Done correctly, this effort can result in annual savings of 10-15%, and the author has seen as much as 40% in certain areas. Previously, the author has indicated how engineering technical and analytical expertise can be value added to these efforts (Article #0027).

The following are typical steps in the process:

Assess Opportunities-Collect spend data, analyze savings potential and form cross functional operational teams affected by the process outcome. This critical beginning step is to separate the wheat from the chaff and find what’s really "sourcable". An engineer’s view can be helpful here.

Profile internally & Externally-Validate current and future spending patterns understand the supply market and profile the sourcing category.

Develop Strategy-Build total cost of ownership (TCO) model and determine potential sourcing strategies.

Screen Suppliers & Selection Factors-Develop supplier qualification standards (including financial, proven expertise, track record, safety & environmental specifications), supplier bid list and profile supplier capabilities.

Conduct Bid Process-Create Requests for Proposals (RFP) based on well defined specifications; select candidate supplier recipients. Again, this is a critical step where an engineer can add value, particularly to the technical aspects of the bid specifications.

Evaluate the Bids-Clarify and get all bids on the same basis. Another place where the engineering professional can be of significant value added.

Shape and Negotiate Value Propositions-Create negotiation strategy, conduct fact-based negotiations with finalists and determine final supplier match. Sometimes, organizations switch personnel gears here a bit and utilize proven commercial personnel (with proper sourcing briefing and background) with experience in day to day agreement negotiating.

Write the Agreement-This is usually starts the final negotiation process to specifically define responsibilities, liabilities, warranties, insurance requirements, performance standards and other details.

Implement the Agreement-This may involve a kick off "road show" to the affected locations on the part of the Corporate Strategic Sourcing Department, the Supplier and select members of the Sourcing Team. This explains the who, what and how details of the agreement to the end users.

(Follow up) Supplier Management Process-Involves implementing a jointly supplier-client staffed process to continually assess both under the agreement with continuous improvement being the goal.

After looking at all those steps, one may wonder about the feasibility of the effort. It’s no small endeavor, but the bottom line is that it can be a win-win for both the client company and their suppliers. As mentioned before, it’s not unusual to see evident savings of 10-15% by offering system volumes to a few suppliers, not considering back office savings. In exchange for that, the supplier receives a larger, ratable business demand plus a longer term contract (usually at least three years.) This helps immensely in the suppliers’ future business (growth) planning and financing.

A defined and well communicated paradigm shift from the conventional "Bid and Buy" Purchasing approach to "Strategic Sourcing" for selected materials and services.

Active, engaged management support-both corporate and line organizations.

Compliance metrics and user driven management accountability for using Sourced Suppliers. These metrics should be on a par with the normal required metrics used for promotability and merit increases—i.e. opex control, capex control, and environmental, health and safety metrics to mention a few.

A well staffed, qualified Corporate Strategic Sourcing Group to provide guidance, savings tracking/reporting, supplier management, day to day advice and expedite issues resolution with suppliers.

Well defined roles & responsibilities of Corporate Sourcing Group, Suppliers, and Users. Although the Corporate Sourcing Group can provide the process and initiate the effort, the user groups need to "buy in" to providing qualified cross functional team members and in the day to day execution of the agreement.

A realization of the need to initially and ongoing effectively communicate to the end users the answer to the "What’s in it for me?" question.

 

The main challenge is the apparent paradox of implementing what may be seen as a "Corporate Driven" effort in this day of decentralization and local empowerment. For good reasons, many field managers and supervisors have a close affinity for local suppliers of goods and services fostered by years of favorable experience. A strategic sourcing effort may be seen as threatening those relationships. Another challenge is the assimilation of new divisions or companies in this day of mergers and acquisitions. If a company that has a well entrenched corporate strategic sourcing paradigm acquires another company that does not, it can create difficulties. Effective communication, clear executive management direction with established policies and known performance metrics for compliance to "the program" can help in this. Finally, in an era of frequent asset divestitures, significant volumes of the selected supplier’s business can "go away" at the drop of the hat requiring the supplier to rethink and maybe even have to rebid the agreement. In these cases, both the client company and the supplier need to be reasonably practical for the ongoing mutual benefit.

The Good-Includes overall savings, stable and secure supplier relationships, fixed pricing over a defined period (resulting in better business efficiency and planning models), and lower back office accounting costs (fewer suppliers to deal with.)

The Bad-Includes dealing with major corporate paradigm change issues, some selected suppliers self proclaiming an improper sense of "entitlement" unless managed properly, sometimes putting the small local "mom and pops" out of business, and users that want to "cherry pick" sourced suppliers while maintaining their locals—i.e. not totally using sourced suppliers, but purchasing certain goods/services from the sourced supplier if cheaper and convenient while maintaining local arrangements.

The Ugly-When the sourced volumes don’t materialize as portrayed, there can be a potential breach of contract issue. Also, unmanaged over a long period of time, "Alliance" arrangements that haven’t been under the light of bid comparisons for some time can get overpriced and out of control. In other words, what started out as a good thing can actually turn into a detriment long term if not managed properly.

Here are some things to consider and watch out for:

All that glitters isn’t gold

In assessing a potential sourcing spend category, beware that the gross numbers one pulls out of the accounting system aren’t likely the true "sourceable" amount. Working with Accounting, an Engineer’s critical eye can discern and filter out duplicate expenditures, one time capital type expenditures, and miscoded items that should be in another category. Also, some locations may be so remote that they cannot be economically served other than be current localized suppliers. Finally, beware of certain situations that may render spend "unsourceable"—i.e. "political hot potatoes" (where a company’s executive management has made a decision to support smaller, local businesses), or existing written contracts that may prevent another supplier from being used until the term is up.

Beware of Consultants bearing gifts

The proper consultant can be a tremendous asset, especially on an initial effort. However, the consultant needs to fit the category. The author was fortunate with his experience in that the assigned consultant was experienced in the chemical, oil and gas business. Unfortunately, that type fit isn’t always the case. If one does employ a consultant, make sure they’ve handled similar efforts and check references (and others) thoroughly. In the author’s opinion, consultants should be employed only for the initial effort and for training company personnel to move the process forward. A constant, ongoing consultant presence shouldn’t be necessary if the company provides their own personnel. Additionally, do not rely solely on consultants to come up with what’s "sourceable." Sometimes they’re paid on commission (percentage of identified savings) and they have a vested interest in keeping the "sourceable" numbers high. One is usually better off working consultants on an hourly basis, or some variation thereof to avoid this type potential of conflict of interest.

Words without Action

If the organization management professes to want to move to Strategic Sourcing, but doesn’t provide the proper resources to move in that direction at the outset but continues to maintain the conventional "Bid & Buy" Purchasing operations, then the effort will go nowhere.

"Houston, we’ve got a problem..."

Once a contract is engaged, inevitably there will be issues. When things go awry, the vendor will have their side of the story of what went wrong and the user will have their side. Although it’s important to know who signs your paycheck, it’s also important to be fair and objective in these situations. It’s very important to have in place an effective Root Cause Failure Analysis (RCFA) process. Usually, when all the facts come out, the real problem lies somewhere in between and may not even closely to the "apparent problem" initially voiced by one party or the other.

Lack of proper specifications in the RFP process

This is one of the areas where an engineer can help the cause. Getting valid and universally accepted technical specifications down on paper is very important.

Mistaking Price for Value

The lowest bid isn’t necessarily the best value. A vendor’s responsiveness, technical expertise, problem solving ability, accounting system compatibility, customer service and overall proven track record is likely be more important than the bid dollar amount, especially if a client company is involved in 24/7 field operations.

Getting the RFP bids "apples to apples"

This is another area an engineer can be of great value added. Although the RFP’s specifications may be specific as to how the vendor should quote, inevitably suppliers usually put a twist or qualifier in that requires reading the fine print, filtering or clarifying.

Change

This can happen both on the client company or supplier side. Personnel and/or the complexion of the business may change over time. Companies change executive management, or suppliers may change their business philosophy. Sometimes this can cement relations even better than before, but also it can lead to a diminishing and a falling into total agreement disrepair if a new direction is desired. Also, the needs of the client company and/or the supplier may change over the course of the agreement. If the agreement isn’t flexible or the personnel involved aren’t empowered or inclined to deal with this, it can cause stagnation and even adversarial situations.

No supplier management process

Some companies don’t close the loop on this. It’s one thing to develop a sourcing strategy and execute it to a final agreement, but it’s quite another to provide for the ongoing "care and feeding" of that relationship. Sometimes that requires different skill sets of Corporate Sourcing personnel, as well as close ongoing interaction/coordination between the users and suppliers.

"Where’s the beef?....."

There has to be an ongoing, reasonably accurate method of identifying and reporting real savings vs. what was envisioned for the agreement. Also, this is critical for line management’s performance metrics, a real sense of accomplishment, and for budgeting purposes. The absence of realistic, ongoing user friendly savings reporting can discourage participants.

"It’s Supply Chain’s job……."

This is perhaps the biggest pitfall in the whole thing. If the field users don’t feel a vested interest (hence necessity of line management performance metrics) in making the process work or the result thereof, then the ongoing relationship (which day to day should be between the user and the supplier on site) can be relegated as forever a Corporate Supply Chain responsibility. This absolutely won’t work in the long term. Initially, Supply Chain needs to assist and support, but long term, the process must be line driven (not staff driven) to effectively survive.

Done properly, Strategic Sourcing can result in significant savings for common materials and services purchased across a business enterprise from multiple suppliers. Done improperly, it can result in much needless expenditure and frustration for everybody. Strategic Sourcing isn’t for every company. The author’s advice on this matter is to (1) go into this consideration with "eyes wide open", considering all aspects of the matter (2) talk to other companies with similar operations who have successful processes up and running, and (3) talk to others that perhaps have had less than optimal experiences and find out why. The bottom line is don’t go into this without recognizing the effort required and balance that with the potential benefit and cultural fit for your organization.

Outside resources could include your local chapter of the National Association of Purchasing Managers (NAPM), Institute for Supply Management (http://ism.ws/), and Houston based Resources Connection-Supply Chain Management: 713-403-1960 - (http://www.procurementcentre.com).

Robert (Bob) Langley, P.E. holds a B.S. Degree in Chemical Engineering from the University of Oklahoma. For over 30 years he worked for Fortune 500 midstream (natural gas processing) companies as Process Engineer, Plant Supervisor, Plant Manager, Supply and Distribution Operations Manager, Manager of Environmental, Health & Safety, and almost three years as Director of Supply Chain-Services Strategic Sourcing to support midstream operations. He served on the industry (Gas Processor’s Association) Legislative and Regulatory Advisory Committee for seven years. Recently he has worked as an independent contractor/consultant in the positions of Sr. Accounts Payables Auditor, Sr. Contracts Compliance Auditor, Buyer, and Assistant Procurement Director.

Article # 0037         TEST QUESTIONS:

1.   "Strategic Sourcing" is defined as the following generally common requirements that keep a business running:

1. Materials

2. Services

3. IRS Forms

4. a & b

2.   Typical savings from a successful strategic sourcing effort can be

1. <5%

2. 5-10%

3. 10-15%

4. 15-25%

3.   In assessing annual repeatable spend within a category, the following items can skew the results beyond what is really "sourceable" :

1. One time capital expenditure

2. Duplicate accounting entries

3. Miscoded entries (into wrong category)

4. All of the above

4.   Engineers can add value all along the sourcing process as well as in implementation, but the following steps are areas that fit particularly an engineering background:

1. Critically assessing potential sourcing opportunities

2. Conducting the Bid Process-developing bid specifications

3. Evaluating bids & getting bidders "apples to apples" on comparison

4. All of the above

5.   If there’s a problem event between the user and supplier, it’s important to realize

1. The necessity of performing a fact based RCFA

2. The User is always correct

3. The Supplier is always correct

4. The Sourcing Group is always at fault

6.   One of the key functions that many forget to attach or emphasize toward the end of any strategic sourcing effort is

1. Establishing ongoing Supplier/Agreement Management

2. IRS Reporting of Savings

3. Human Resources

4. Accounting

7.   The biggest challenges of any Strategic Sourcing effort include

1. Corporate initiated efforts in a decentralized (user) organization.

2. Integrating acquisition companies into the effort

3. Supplier hardship in divesting user assets

4. All of the above

8.   One should consider the vendors ____ in determining the best value.

1. technical expertise

2. responsiveness

3. customer service

4. All of the above

9.   Which of the following is NOT a typical step in the Strategic Sourcing Process?

1. Assess Opportunities

2. Develop Strategy

3. Evaluate Bids

4. Have coffee and donuts with the local supplier

10.  If a consultant is used to help set up a strategic sourcing program, one should ____.

1. Check his references.

2. Ensure they are paid by commission based on the identified savings.

3. Keep the consultant "on the payroll" as long as the strategic sourcing program is in place.

4. All of the above

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