Explore tail spend in indirect purchasing

Situation

In order for hospitality brands to operate smoothly and deliver high levels of service to their customers, branches require access to a host of different consumables and indirect categories. Yet, within this service-based industry, these categories don’t directly generate profit. Conversely, the busier branches become, the more of these expenses are incurred – eating into profits.

By controlling these expenses, hospitality brands can redirect purchasing overheads into profit. In this way, optimising the indirect supply chain can help achieve competitive advantage.Large organisations typically source several different product and service categories from a network of different suppliers, resulting in large volumes of separate transactions. As a result, their supply chains become over-complicated.

Within organisations of all sizes, procurement resource is often limited. As a result, efforts to optimise the supply chain are usually limited to high priority areas. For instance, most procurement teams start with the areas where the largest impact can be felt. Namely, the largest spend categories and the top contracted suppliers, products and services. Indeed, many organisations will already have identified their largest suppliers and formalised these relationships by negotiating secure long-term contracts, whilst monitoring compliance. However, scarce procurement resource means the same best practice approach to cost reduction is not always applied consistently to the remainder of the supply chain. As a result, inefficiencies in less high profile areas of the supply chain often go unchecked.

Inefficiencies in less high profile areas of the supply chain often go unchecked”

Efforts to optimise the supply chain often fail to address the much larger base of low value or ad hoc suppliers at the tail end of the supply chain. Often referred to as the ‘tail spend,’ this portion of the supply chain frequently includes categories within an organisation’s Goods not for Resale (GNFR) or indirect procurement, alongside occasional elements of direct spend.

What is tail spend?

Tail spend is a concept based on the Pareto principle, often referred to as the 80/20 rule. The Pareto principle states that, for many events, roughly 80% of the effects come from 20% of the causes. This rule can be applied to several business practices such as:

>>    80% of your profits come from 20% of your customers

>>    80% of your sales come from 20% of your products

>>    80% of your sales are made by 20% of your sales staff

The principle has been observed in many business supply chains, where approximately:

“80% of your suppliers account for 20% of your spend”

Although low in value, this small proportion of spend usually encompasses a raft of different suppliers across a variety of GNFR products and indirect services categories. As a result, the tail supply chain can be overly complex and disproportionately labour intensive to manage.

This leads to repeated landed costs, duplicated labour and inefficient processes – each generating unnecessary expense. As a result, optimising the tail supply chain presents a significant opportunity for businesses looking to achieve purchasing efficiencies.

Why the tail gets overlooked

Organisations often find it difficult to gain control of the tail of their indirect supply chains. Six key reasons include:

1. Poor data visibility

Complex supply chains, large numbers of suppliers and high numbers of stakeholders make data visibility a major issue in analysing and assessing tail spend.

2. Lack of effective controls

Large numbers of suppliers, high transaction numbers and low transaction values mean that businesses often find it difficult to apply central control over tail spend purchases. Suppliers are often subject to minimal accountability, with product usage and/or consumption rarely facing the same scrutiny as more significant transactions.

3. Non-compliance

Low value transactions and small volume suppliers often work outside of traditional supply chain and procurement supply chains. Often this is due to a specific product or service being sourced directly by internal stakeholders or ordered on an emergency or ad hoc basis, rather than through the business’ general framework and compliance procedures.

4. Low market leverage

Large numbers of suppliers and low transaction values effectively rule out economies of scale and bulk buying principles.

5. Low potential cost savings

Large numbers of suppliers and low transaction values make it difficult for large companies to effectively reduce spend as they are unable to apply bulk buying and cost reduction principles effectively and in the same manner they would with larger providers. Smaller suppliers require alternative methods of negotiation and are often restricted on margin and price due to the nature of their businesses.

6. Lack of category expertise

Due to the large variety of products and services it contains, the tail spend often requires a wide selection of specialist knowledge to procure effectively. Within many large organisations, such broad specialist knowledge is frequently unavailable due to constraints on human resource capital.

 Introducing tail management

Tail Management refers to the strategy of consolidating and optimising the long tail of your supplier base to achieve cost and process benefits across your business. There are four key areas which can be addressed:

1. Supplier base optimisation & consolidation

The main method of change is to apply the principles of compliance and consolidation to your company’s tail spend. The process should begin with a full review of all suppliers to gain a proper understanding of the existing supply chain. Tail suppliers (particularly non-compliant suppliers) should be removed and the spend transferred to selected preferred suppliers that are fully-compliant. This kind of consolidation can drastically reduce supplier numbers (up to 80% according to the Pareto efficiency) across this small portion of spend to achieve immediate cost and process benefits across your business.

2. Process & technology

Supplier consolidation and reduction makes it easier for processes to be aligned and streamlined across all aspects of the business, from supply chain to finance. Compliance and demand management can be improved across the supply chain by addressing issues in the supply chain and P2P process, including ensuring early intervention for invalid requests in the requisitioning process and early visibility of new demands. This will help to prevent new vendors being created outside of existing contracts and allow preferred suppliers to manage demand more effectively. Synchronisation of IT systems and software alongside reduced supplier numbers will provide greater visibility of stock inventory across the supply chain. This simplifies the logistics process, often resulting in lead time reductions and lower on-site inventory levels, plus environmental benefits associated with fewer separate deliveries to the same premises.

3. Payables

Once compliancy is applied to the tail spend of the supply chain, sub-optimal payment terms can be removed. Consolidation across the supplier base can generate transparency and accounting efficiency due to reduced invoice numbers and clearer visibility of spend.

4. Outsourcing

Outsourcing your tail management allows you to cut the time and resource spent managing the large number of small purchasing contracts. Appointing a single (or significantly lower number of) supplier(s) to manage your long tail of suppliers on your behalf makes it very easy to impose compliance, increase visibility of spend, increase control and leverage economies of scale across multiple product categories. Small suppliers can be sub-contracted to the primary outsource partners ensuring any valuable non-compliant suppliers are still contained and effectively managed within the supply chain. The logistics of the tail supply chain can be self-contained and managed by the outsource partner(s).

“Outsourcing your tail management allows you to cut the time and resource spent managing the large number of small purchasing contracts.”

The benefits

By adhering to best practice procurement and optimising your tail spend, your business can realise the following benefits:

1. Reduced procurement costs

Through streamlining your supplier base, you can achieve significant cost reductions on your procurement by greatly reducing the time and internal resources that are currently spent managing a large number of small purchasing contracts.

2. Leveraged spend for cost reductions

Consolidation provides the ability to leverage spend across multiple product and service categories to reduce costs by bulk buying and applying the principles of economies of scale to the tail spend.

3. Reduced supplier numbers

Consolidation across suppliers, products and services results in greatly reduced supplier numbers. The streamlined, consolidated supply chain results in reduced internal workloads for accounting, finance, and procurement.

4. Logistics and technology alignment

Synchronisation of IT systems and software across reduced supplier numbers provides improved ordering and logistics. This will enable you to benefit from reduced lead times, greater visibility of inventory and more effective stock management.

5. Increased visibility of expenditure

Fewer suppliers, transactions and invoices, alongside increased compliance, will greatly improve visibility of spend. Product selection and consumption can be more effectively monitored to ensure that the most efficient solutions are used.

6. Increased purchasing control

Increased compliance, higher visibility of spend and reduced supplier numbers make it much easier to control expenditure across the tail spend. Rogue spend becomes clear and is easy to eliminate. Sub-optimal payment terms can be eliminated too.

7. Reduced risk

Eliminating non-compliant suppliers and consolidating with larger suppliers increases levels of compliance and reduces risk across the supply chain.

In summary

Many organisations overlook the tail end of their indirect purchasing spend, dismissing this 20% as a lesser priority than their top tier suppliers. However, this spend represents 80% of the supplier base. So, leaving it unaddressed maintains a sprawling base of suppliers, who are often non compliant. This leaves the door open for unnecessary expenses associated managing a protracted supply chain – including duplicated labour, multiplied landed costs and non compliant purchases.

By embarking on a Tail Management strategy, organisations can release these costs. Transferring low volume, low value spend to larger, compliant suppliers enables you to drastically reduce supplier numbers, achieving immediate cost and process benefits.

A smaller, consolidated supply chain takes less time and resource to manage and results in fewer separate transactions to process. This allows soft costs to be released by reducing internal workloads for accounting, finance, and procurement. Meanwhile, driving spend through a smaller base of compliant suppliers releases purchasing costs by leveraging economies of scale and de-duplicating landed costs.

On top of these cost reductions, fewer suppliers, transactions and invoices boosts visibility – making it easier to identify and eradicate rogue spend. In this way, optimising the tail end of your indirect supply chain can yield significant savings for organisations seeking competitive advantage.

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