White Paper: Understanding Tail-spend Management

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Many organizations, and external consultants, often develop an approach to tackle only the "theoretical" Tail-spend, which fit criteria such as bottom 10 percent, low volume, non-contracted, etc. A numerical definition often makes isolation of such spend itself a daunting task. GEP defines Tail-spend as everything that is not under active management. Find out more about how maximizing spend under management is the only way to address Tail-spend.

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White Paper: Understanding Tail-spend Management

  1. 1. WHITE PAPERUnderstandingTail-spend Management www.gep.com Ive wondered why it took us so long to catch on. We saw it, and yet we didnt see it. Or rather we were trained not to see it… Truth knocks on the door and you say, "Go away. Im looking for the truth." And so it goes away. Puzzling. - Robert M. Pirsig © 2011 GEP. All Rights Reserved.
  2. 2. Understanding Tail-spend ManagementIntroductionWorld-class organizations have a good level of control over most of their cost structure. As this visibility and controlincreases, eventually a point is reached when the effort required to go further appears to be greater than thebenefits. At this point, a number of challenges arise:• Poor data visibility• Lack of effective controls• Little market leverage• Low potential savings• Lack of interest from other stakeholders• Lack of category expertise in the very high number of categories remainingOrganizations often find it difficult to define and execute a unified approach which allows them to get their armsaround this last portion of sourceable spend. Traditional strategic sourcing approaches need to be flexed and mademore resource-efficient, while technology and transactional procurement processes also play a critical role.Attempts to address this challenge have led to the appearance of a new vertical within Procurement departments:“Tail-spend Management” (TSM). In challenging economic conditions, where CFO’s are leaving no stone unturnedin the quest for cost reduction, TSM is becoming a hot topic in medium to high maturity procurement organizations. 1
  3. 3. Understanding Tail-spend ManagementDefinition of Tail-spendThe term tail spend comes from the Pareto principle, which states that only 20% of your suppliers will account for80% of your spend. Accordingly, 80% of your suppliers will account for 20% of your spend, and this ever-thinningseries drawn in a block graph looks like a tail. Note that the Pareto principle works more or less exactly depending ondata sets, while the 80/20 ratio will vary from firm to firm depending on a number of variables. In some firms, 80%of suppliers may account for more or less than 20% but in most cases the true figure will be close to 20%. SpendMany organizations, and many external consultants, develop an approach to tackle only the “theoretical” tail-spend, which fits criteria such as the bottom 20% by value, low PO volume, non-contracted spend and so on. Atheoretical definition often makes the isolation of such spend a daunting task in itself. GEP prefers to use a different,wider definition based on the realities of the challenges faced by our clients over the years. For GEP, tail-spend isquite simply unaddressed spend, by which we mean spend on commodities and categories which have not beenformally addressed by Procurement in the last 2 to 3 years. (If you have not addressed those categories accountingfor at least 60-70% of your spend in the last 2 to 3 years, it is unlikely that your focus is going to be on tail spendanyway.) By using this definition we believe organizations can avoid wasting time on theoretical definitions and canmuch sooner get to work tackling the real issue: unaddressed spend and new savings opportunities. 2
  4. 4. Understanding Tail-spend ManagementQualities of tail-spendThe large number of categories within tail-spend varies from firm to firm, but regardless of the specific categories,tail-spend displays a number of common characteristics: • It rarely includes direct materials • It contains a disproportionately high percentage of spend from the furthest-flung subsidiaries of the organization • It often contains suppliers that no one in the procurement team has heard of • Non-compliance and maverick spend often lurk here • A majority of it is either not low-price, or not low-volumeThis last point may seem surprising, but it is one of the most important things for organizations considering tacklingtheir tail-spend for the first time to understand. Significant parts of tail-spend can be addressed using wellestablished sourcing techniques. The key is how to execute effective sourcing strategies while maximizingefficiency. The low value of tail-spend categories means that return on investment (ROI) is always going to be lowerthan for core categories. Successful approaches will have an eye on both sides of the efficiency/effectivenessequation. Efficiency Effectiveness Maximize ROI Deliver Savings Harness technology Reclassify data Adopt appropriate Improve compliance processes and policies Harness category expertise Consolidate spend across countries 3
  5. 5. Understanding Tail-spend ManagementApproaching tail-spend managementThere are many ways to approach tail-spend management (TSM) and the best results are achieved by following avariety of approaches simultaneously. Like other types of sourcing, an iterative loop is involved, whereby data isconstantly reviewed in the light of previous sourcing activities and changing business requirements. Spend Analysis Filtering P2P Sourcing Spot Buying1. Spend AnalysisThe starting point here is data. Best-in-class spend analytics software, such as GEPs eSpend tool, will take data froma variety of sources, such as Accounts Payable, General Ledger, ERP systems, etc., and typically classifies around95% of your data at the first iteration, already deep into a 20% tail. Over time this classification can improve evencloser to 100%; indeed proactive TSM will actually improve data classification over time. Good spend analyticsolutions will also allow you to drill right down to the line item level, critical in the next stage, which is classifying tail-spend data. 4
  6. 6. Understanding Tail-spend Management2. FilteringDeep dive data analysis will allow you to filter and reclassify your tail-spend so that appropriate strategies can beemployed by category. We typically use filtering models like the one below to ensure that different types of tail-spend are addressed in an appropriate manner: E.g. French fries classified Misclassified in “electronics‐other” Reclassify and incorporate in Items because European office existing contracts calls them “chips” E.g. Welders and fitters in Strategic Sourcing with 3 Low price, high factories, corporate gift year+ contracts to achieve frequency articles ti l volumes l E.g. Macbooks bought for Eliminate the spend, Maverick supermarket checkout introduce checkpoints to Spend counters ensure compliance Tail Spend T il S d E.g. Construction of a Rapid RFP or e‐auction, One‐time, but warehouse, office shifting, ensure procurement is high amount consultants for an involved in negotiations acquisition E.g. Spend on coffee at Fragmented 1760 facilities worldwide Consolidate and source spend classified under “Misc” by centrally each of them Low price, low E.g. ID badges for new Distilled true tail-spend volume employeesRight from the start managing tail-spend effectively involves reducing the size of the tail. Following dataclassification sourcing opportunities will be identified and some will normally be handed to core category managersto address. 5
  7. 7. Understanding Tail-spend Management3. SourcingAs per the classification above, some tail-spend categories will be identified as appropriate for more traditionalsourcing approaches. Here the key is efficiency. Online eRFx and eAuction tools, such as those in GEPs technologysuite, hugely improve efficiency by leveraging standardized templates and engaging multiple vendorssimultaneously. The time, effort, and number of vendors included can also be flexed in line with value and sensitivityof spend. Kickoff with Stakeholder Collect/validate data Consult SME, finalize plan Bid and buy One source Mini RFP (3-5 weeks) (2-3 weeks) (6-10 weeks) Request bids Request break Create and from suppliers -down of cast issue RFP Collate and analyze responses Negotiation rounds Final savings sign-offAccelerated sourcing projects match effort to reward and ensure that a higher volume of projects can be runsimultaneously by TSM resource. Of course, carrying out sourcing projects on tail-spend categories drives an ever-higher percentage of spend under contract and has many benefits in terms of risk management and sustainabilityas well as cost savings. 6
  8. 8. Understanding Tail-spend Management4. Spot buysWhile the approach has been top-down and data driven so far bottom-up approaches to address spend at the pointof requisition are also excellent ways to realize benefits from proactive tail-spend management. Spot buys willfrequently follow an even more accelerated sourcing process than those shown above, and here again filtering andclassification is essential for proper prioritization and optimal results. PO Data User Supplier database Bring under Contract existing Database contract Requisition Requisition Sole Sourcing definition Assessment Ÿ Scope of services Ÿ What is the estimated annual Ÿ Criticality of service spend for requirement? 3-Bid and Buy Ÿ Specifications Ÿ Are there existing contracts for or Quick RFQ Ÿ Urgency of requirement similar service in the company? with select Ÿ Frequency of requirement Ÿ Are there existing suppliers for suppliers Ÿ Estimate Spend/Budget the similar service in the Value and amount database? Ÿ Business requirements Ÿ What is the total spend for the leverage Accelerated Ÿ Must have and good to category across company? sourcing project have supplier capabilities Ÿ How critical and urgent is the requirement? (mini-RFP) Ÿ Establish baseline and savings methodology Ÿ Access category expertise to establish savings potential and Strategic appropriate alternative vendors Sourcing Project Tail spend sourcing methodology frameworkIf spot buys are channeled through Procurement then repeat spot buys in low-volume categories can be identifiedand driven onto contract through sourcing over time, while ongoing spot buys can benefit from acceleratedsourcing techniques such as 3-bid and buy.5. P2PAnd finally, also in terms of a bottom-up approach, driving as much low-value spend onto technology platformssuch as P-cards, online catalogues and punch-outs gives Procurement much greater visibility and control over tail-spend and greatly reduces manual effort. GEPs ePurchase module allows our clients to manage all of theseplatforms in one place. As more spend is driven online, data quality is improved, so that when spend analysis isrefreshed an ever-greater percentage of data visibility is achieved and the iterative loop can start again. 7
  9. 9. Understanding Tail-spend ManagementCritical success factorsA good understanding of the nature and challenges of tail-spend is not difficult for procurementprofessionals to grasp, but given an expectation of low ROI, data challenges and at best lukewarm interestfrom the rest of the organization, knowing what to do and how to do it is not so clear cut. GEP has beenworking with global clients on TSM for the last ten years, and our experience demonstrates that thefollowing are the three critical success factors: 1. Procurement technology At the time of writing there is no single tool on the market specifically for tail-spend management, nor do we expect to see such a tool, but having the right tools in place for all of your spend management is a critical contributor to the efficiency required for cost-effective TSM. In addition, the more integrated your different procurement tools are, the more efficiency you gain. Best-in class spend analytics is invaluable when it comes to addressing tail spend, but we also believe all of this data should speak to your supplier management, contract management, P2P and eRFx/eAuction tools: once you have identified a tail-spend vendor you can quickly check if a contract is in place, if there are any performance issues, include them in a RFQ. Even simple things like allowing vendors to pre-register themselves online can be hugely beneficial in the high vendor volume environment of TSM. A high degree of process automation throughout the category management cycle allows TSM resources to dedicate themselves to value-add activities, while P2P technology is a huge help in driving compliance and improving data quality over time. 2. Simplify processes and increase control To work within the limits imposed by low spend, procurement processes need to be simplified. Exceptions should be obtained from Legal and Finance approvals for projects in low spend and low risk categories. RFPs can be reduced to RFQs. NDAs can be dropped in low sensitivity categories. Lengthy negotiations can be replaced by a 3-bid & buy process process or an e-auction. In short, each process needs to be examined and simplified, and the effort justified in terms of the potential benefits. While procurement processes should be simplified, controls need to be tightened elsewhere. Once a TSM team is put in place, effective controls have to be in place to ensure that all tail-spend is sourced through them. For low-spend items, functional teams can get complacent and bypass Procurement, which can derail the process. Effective controls need to be coupled with extensive communication to drive awareness within the organization. 3. Establish dedicated resource and manage performance Our starting point for defining tail-spend was Pareto, and one of the most prevalent interpretations of the Pareto Principle is that you should ignore the bottom 20% and focus on the top 80%. Addressing tail-spend flies in the face of this and the danger with any TSM approach is taking focus away from the true priorities. Expecting existing category managers to deal with tail- spend is unrealistic and is really tantamount to ask them to focus on the wrong things. For this reason dedicated TSM resource is critical to ensure a positive impact has been made. TSM is a prime “category” for outsourcing. An outsourced service provider will be able to leverage much broader category expertise, scalable technologies and processes and can flex resource over time. For CPOs, tail-spend can be managed through a single commercial relationship underpinned by a robust service level agreement (SLA) and agreed ROI. If savings is the principle measure of any Procurement team, the need to justify investment is even more intense in TSM. 8
  10. 10. Understanding Tail-spend ManagementConclusionsWith tail-spend management, take unaddressed spend as your starting point and deploy a variety of approaches toreduce this spend and bring it under control. Having the right tools and processes in place is vital in tackling tail-spend, but having dedicated and specialist TSM resource is equally crucial. Making significant advances in datavisibility and contracted spend will help you further your risk management and sustainability objectives over time,while a difficult economic environment is paradoxically the perfect time to tackle your tail-spend head on. Do itnow, before someone remembers the Pareto Principle again. 9
  11. 11. ® GEP (Global eProcure) is a leading procurement services firm dedicated to helping enterprises add value and reduce costs through procurement and supply chain transformation. With a comprehensive portfolio of services and solutions, GEP helps many of the worlds largest organizations uncover savings opportunities, and deliver these savings to the bottom line. We have managed over $50 billion of spend on behalf of these clients, across industry sectors and geographies. Our blended model combines management consulting, strategic sourcing support, implementation and outsourcing services with a full suite of best-in-class procurement tools and technology solutions. Our global footprint helps us to deliver these services wherever our clients need them. Headquartered in New Jersey, USA, we have offices in London (UK), Prague (Czech Republic), Mumbai & Hyderabad (India), Shanghai (China), São Paulo (Brazil) and Willoughby (Australia).Access our free knowledge resources at http://www.gep.com/Resources100 Walnut Avenue, Clark, NJ 07066 | P 732.382.6565 | F 732.382.6363 | www.gep.com© 2011 GEP. All Rights Reserved.

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