Purchasing organizations have been tasked for years with a familiar refrain – go to your suppliers and find us X amount of savings this year. They have been very successful at this, but after 20 years of these hard-nosed negotiations, many companies are left with “nowhere to go,” says one procurement professional.
“Strategic sourcing, as powerful as it has been and as effective as it has been, has largely run its course,” claims David Clevenger, vice president at Corporate United, a group purchasing organization (GPO) based in Cleveland, Ohio, that provides indirect spend services for approximately 200 clients. In his view, companies will achieve more by establishing much closer and more transparent relationships with their suppliers and building contracts based on best practices rather than continue perennial rounds of bidding out contracts.
Clevenger is part of a growing chorus of voices citing the benefits of more collaborative and transparent relationships in the supply chain. In a new report, Chad Autry, a professor at the University of Tennessee’s Global Supply Chain Institute, writes: “Developing collaborative relationships with suppliers and customers is a game changer because so few firms really accomplish true win-win partnerships. But the few that do have experienced dramatic and even breakthrough improvements in product availability, cash flow, cost, and shareholder value.”
Autry notes that such relationships require not just mutual trust but carefully crafted agreements and discussions that define the outcomes both parties seek. As an example, Autry cites the collaboration between DuPont Chemical and Excel Logistics to find ways to reduce DuPont’s landfill waste and make it more sustainable. Based on a series of meetings between senior executives at the two companies, Autry writes, Excel “crafted solutions such as composting, reutilization, and waste-to-energy. These reduced landfill volume more than 20% and reduced CO2 emissions by nearly a million metric tons within five years.”
Companies looking to reduce their indirect spend should adopt a model similar to what a company such as Toyota does with its suppliers, Clevenger says, where they work together “from product concept to design to production to delivery.” Similarly, he says, companies should work together to develop a best-in-class contract structure rather than use the bidding process to attack cost drivers after a contract has been signed.
Clevenger advocates holding a “business advancement meeting” with a supplier in which the characteristics of a best in class performer are outlined. The meeting is designed to identify the cost drivers at work for a spend category and how they impact the two companies. The objective, says Clevenger, is to replace contract bidding every two or three years with a “buy quality and never sell” approach.
As an example, Clevenger talked about a self-insured company shopping for pharmacy benefits. It sits down with a supplier and asks for help in understanding the major cost drivers associated with pharmaceutical programs.
“In this case, it might be generic utilization, network access or specialty trend management. These are some of the components that will heavily impact what your pharmacy program will look like,” Clevenger explains. “As a buyer, I ask the expert supplier to ‘show me across your book of business what is best in class.’ Let’s say 89% is best of class for generic utilization and I am at 63%. What I want you do to do is take these cost drivers and I never want to have another business review again. It is totally irrelevant to me how much Lipitor I bought last quarter. Tell me what the company at 89% is doing. Give me a list of recommendations for how to get from 63% to 89%. And for each of those recommendations, tell me what the impact of the change will be and what the cost of the change will be.”
Armed with this information, Clevenger says, the company can decide what changes it will make in its program and then the two firms can work together to define them and implement them.
Next, says Clevenger, the companies might look at network access for prescriptions. The company might find that if it changed from using a large drug store chain to a setup where prescriptions were only filled at Wal-Mart and through the mail, it could save significantly on dispensing fees. Then it would have to decide if the savings were worth the inconvenience that might cause employees if they had to drive farther to get prescriptions filled. By deciding on that and other changes, the company could save money and enhance performance.
“Pharmacy is a great example because some of those changes can literally save millions of dollars, but the principles of doing that understanding the cost drivers, getting the recommendations, getting a more consultative relationship with your supplier – are the same across categories,” Clevenger says.
Creating a Runway for Continuous Improvement
Won’t this type of consultative relationship take more time? Clevenger says no, that much more time is spent on preparing RFPs and working with new suppliers. But more importantly, he says, “If you are doing some of those things on the front end, you have created a runway to have a continuous improvement culture on the back end.”
While the process is designed to produce long-term relationships, Clevenger cautioned, that doesn’t mean that companies should not carefully monitor the situation.
He also stresses that moving to this type of procurement demands not only a different type of relationship between buyer and supplier but also a change in how companies manage procurement. Clevenger emphasizes that this new approach must be enterprise driven and accepted by the CFO if it is to be successful.
“The CFO historically has only ever given purchasing managers credit for saying, ‘This pen cost a dollar last year and this year it will cost $.87,’” he says. “If you are going to look at quantifying continuous improvement and a much more strategic partnership with your supply community, you’ve got to figure out a way to quantify that and sell it to your CFO so they count that as savings the way they used to count strategic sourcing improvements. That is going to be the biggest challenge.”