What is indirect procurement?
Indirect procurement refers to supplies and services that keep the business running:
Spending categories such as facilities, utilities, maintenance services, HR, and office supplies. One of the challenges of indirect procurement, also known as indirect spend, is that it often flies under the radar. While businesses are able to optimize costs for direct spend, indirect spend contributes to tail spend — and can be challenging to manage.
[Read more: 3 indirect procurement challenges]
At large enterprises, indirect procurement can often be fragmented among multiple locations, business units, and categories. This makes it hard for the procurement team to identify and manage indirect procurement. Nevertheless, there are crucial benefits to doing so.
The benefits of managing indirect procurement
Traditionally, organizations focus more on managing direct procurement. However, McKinsey estimates that indirect spend has been growing by an estimated 7% per year globally since 2011. The few organizations that do take an active approach to managing indirect procurement reap the benefits.
By some estimates, indirect procurement can account for 15 - 30% of an organization’s total spending. That’s a huge amount of costs that are potentially unexamined. Simply by tackling indirect procurement, an organization can reduce service and product costs by 10 - 15%, and reduce the manual effort required to manage suppliers by 30 - 50%, according to McKinsey’s research.
Beyond improving the company’s bottom line, managing indirect procurement helps reduce risk and maintain compliance. Direct suppliers are usually put through due diligence, legal checks, and monitoring over the course of the business relationship. This helps businesses manage reputational, compliance, and operational risk. Indirect procurement partners aren’t vetted and monitored in the same way. Nearly 75% of spending is left unchecked by compliance policies and processes.
And, finally, managing indirect procurement gives businesses a competitive advantage in the marketplace. Managing indirect procurement often requires building strong supplier relationships. When there are supply chain issues, or material shortages, you can rely on trusted partners to keep your business running. Businesses that build close relationships with their indirect procurement partners work together to innovate better solutions and identify potential problems early.
How to manage indirect procurement
How can procurement teams begin to bring fragmented, opaque indirect procurement together to harness these benefits?
Digital transformation is a key part of managing indirect procurement. McKinsey outlines a number of opportunities for digital transformation in indirect procurement, including:
- Intelligent spend engines: these tools pair with machine-learning to classify and categorize spending. “Full transparency into analytical opportunities and validation status is enabled by automated data extraction from enterprise resource-planning (ERP) systems and databases, along with automated harmonization and classification,” writes McKinsey.
- Advanced analytics solutions: these tools are able to help organizations identify cost-saving and process-optimization opportunities.
- Online B2B ordering platforms: e-marketplaces for supplier evaluation and selection can be leveraged to reduce costs and increase service levels. “Price reductions enable savings of 6 to 15 percent, while access to an expanded assortment eliminates a company’s dependency on single suppliers,” reports McKinsey.
- Automated P2P: adding automation to a procure-to-pay system helps to ensure supplier payment and improve cash-flow management. Analysis shows that companies that deploy an automated P2P achieved 15 - 25% savings in most transactions and reduced processing times from days to minutes.
Adding technology isn’t the only way to improve indirect procurement. Analysts also recommend using a budgeting approach called zero-based budgeting. This method allocates funding for indirect procurement based on necessity, rather than budget history. No item is automatically included in the next budget; instead, every purchase is reviewed and justified at the beginning of the budget cycle.
This may seem like a time-consuming approach to indirect procurement, but with the right budgeting tools, this process can help companies capture 10-20% more savings. Inefficient spending can be reallocated to important business priorities, and companies can reduce tail spend in meaningful ways.
Ultimately, managing indirect procurement is about bringing greater visibility to this spending category, using technology to automate, track and analyze your purchases, implementing rigorous processes for controlling indirect spending, and employing intelligent spend platforms to make the process easier and more efficient. In doing this you can achieve a greater number of RFQs which will result in more competitive and transparent prices.
To learn more about indirect procurement check out our blog, The Source.