In an economy where lowering costs can mean the difference between survival and success, most organizations have already found many of the obvious areas for savings. For procurement departments that have implemented cost-cutting measures this year, the low-hanging fruit of direct spend categories will likely no longer yield further savings. That’s when it’s time to delve into more opaque areas like tail spend. But even though tail spend can be a gold mine of savings, it isn’t easy to unearth—which is why it often goes overlooked.
Here are some methods for calculating your tail spend and unlocking extra savings for your organization:
Understanding the basics of tail spend
Most procurement leaders know tail spend as the low-value spend items that are non-core yet essential to their organization (think: petty cash and expensed items, custom catalog purchases, tactical and spot buys). A tried and true way to approximate your tail spend is the 80/20 rule—roughly 80% of total transactions, which makes up about 20% of the company's spend by volume. But while this rule is a good starting point, for procurement professionals to make tail spend truly tangible and maximize potential savings, they will need to dig deeper.
Set out a plan for using your tail spend insight
Tail spend has five dimensions—spend category, transaction costs, breadth of suppliers, geography of purchases, and the business units making the purchases. You must assess each dimension to understand the characteristics of tail spend and identify opportunities for cost-cutting. Once the dimensions of spend are understood, procurement departments need to conduct spend analyses, segment their suppliers, and define the tail.
Is your tail spend a problem?
A quick survey of your procurement operations can indicate whether you have a problem with tail spend. You likely have a problem if at least two of these statements are true:
- Two-thirds of your suppliers supply just 5% of spend.
- Preferred suppliers account for less than half of all transactions.
- Your supplier roster goes up by at least 10% each quarter (or around 40% each year).
- Most of your purchases are not automated.
- The procurement department negotiates less than 70% of orders.
- You have more suppliers than employees.
Segment your tail spend
Identifying the overall size and source of your tail spend is incredibly useful. But not all parts of the tail are equal, and each segment often requires its own management strategy. Divide it up to include its head, middle, tail, and hidden segments.
Head of the Tail:
This is the spend that isn’t strategically managed, even though spend per supplier may range from $50,000 to $1 million a year. In this segment, procurement teams can search for quick supplier consolidation opportunities—not to create immediate savings, but instead to move the spend into strategically managed spend.
Middle of the Tail:
These purchases include many suppliers in the range of $2,000 to $200,000 each—a segment of the tail that the procurement team does not strategically manage because spend per supplier is too small. While the middle might contain some opportunities for automation or migration into strategically managed spend, most savings will likely come from establishing a spot buy desk to tender smaller spend.
Tail of the Tail:
The Middle of the tail contains suppliers with small annual spends—less than $2,000. The Tail of the Tail is highly transactional and fragmented, often involving one-off purchases with lots of suppliers. With a massive number of low-value transactions, savings come from rationalizing buying channels—establishing alternative channels that let non-procurement staff buy without the department’s involvement, such as user-friendly, self-service systems, and e-catalogs.
Finally, strategically managed spend and professionally negotiated contracts do not cover every core supplier transaction. Core supplier purchases outside contractual arrangements and strategically managed spend is a Hidden Tail that is often overlooked in tail spend analysis. Contract management is critical to cost savings in this segment. Procurement teams must identify spend excluded from negotiated contracts and implement mitigation measures. In general, the hidden tail is easier to manage if contracts are easier to find and enforce.
Use your new-found tail spend information
Once you’ve calculated tail spend and identified cost-cutting targets, digital tools are crucial for realizing those savings. Automated sourcing platforms and analysis tools help you craft smart distributor strategies, consolidate suppliers, produce automated requests for quotes and manage procurement documents.
Process is also critical. With insight from your tail spend analysis, review your procurement processes, and supplier engagement policies with the aim of minimizing tail spend. Reviews—of spend, process compliance and supplier management—should be done at least annually to ensure price transparency of tail purchases.
For every segment of the tail, there are specific strategies to deliver cost savings and efficiencies. It’s time to get carving.