Opportunities for Action in Industrial Goods. Making E-Procurement Real Now

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1 Making E-Procurement 1/29/01 1:38 PM Page 1 Opportunities for Action in Industrial Goods Making E-Procurement Real Now

2 Making E-Procurement Real Now Electronic procurement is supposed to be the slam dunk of e-commerce: easy, fast, and fun, not to mention lucrative. Indeed, many companies have started to conduct at least some of their procurement activities over the Internet, and they are reporting impressive savings: 20 to 30 percent on the cost of indirect goods and 0.5 to 2 percent on the cost of direct materials (for which most companies already have wellestablished purchasing programs). In addition to achieving these savings, pioneering companies are starting to realize other promised advantages of e- procurement, including a broader choice of products and services, a wider geographic range of suppliers, and improved supplier performance. But not everyone is finding e-procurement to be that simple a shot. Some companies that have taken tentative steps to begin buying over the Internet find themselves struggling against resistance from their suppliers, as well as from their own procurement or engineering departments. And many others are saying they want to get into the game but don t know how to begin. If your company has not yet taken the plunge, a waitand-see strategy is no longer viable. In fact, for any company, proceeding slowly is risky. The potential for savings is just too big to pass up, and your competitors are moving too fast. In a survey of North American manufacturers conducted in 2000, The Boston Consulting Group found that the typical company active in e-procurement is already saving 2.3 percent on its gross purchases and anticipates increasing those savings to almost 6 percent. By putting real energy into e-procurement efforts as soon as possible,

3 you will enhance your understanding of your current procurement tradeoffs, engage your managers imagination, and begin to build the momentum necessary for a broader program. The following five steps can help you get started and get it right. Run an Auction Any Auction Begin by choosing a nonstrategic purchase say, commodity packaging or a nonessential service. Use a service provider such as FreeMarkets or one of the consortium marketplaces to set up and run a reverse auction for you that is, an auction sponsored by a buyer, not a seller, in which the bids generally go down rather than up. The process of specifying what you re willing to buy and go without is powerful. In developing the bidding specification for an auction, one buyer of commodity metal found that its supplier was actually providing, in addition to the physical product, a very valuable set of related services, including technical advice, precise delivery times, and custom-billing terms. The buyer learned that it needed either to include these services in the terms of the auction or to prepare to forgo them, as well as the value they conveyed. In our experience, a well-designed auction, in addition to lowering prices, almost invariably helps the buyer sharpen its focus on what it values and wants to pay for. Use E-Commerce Tools to Aggregate Your Spend Many companies have already aggregated at least part of their procurement spending through strategic

4 sourcing initiatives but have not done it for other purchases, such as MRO (maintenance, repair, and operations) supplies. In your own organization, how many different kinds and brands of writing implements pens, pencils, roller balls, markers, and so forth do you buy? From how many vendors do you buy them? It is not unusual for a large company to find that it is buying more than 50 types and brands of even the most common items. Focus at first on things that don t matter strategically. Know what you buy, then aggregate your purchasing. Many software vendors, such as Commerce One and Ariba, can put the necessary software on your organization s desktops, allowing you to automate and easily aggregate your buying transactions, even across hundreds of locations. Once you can specify what and how much you buy, you can standardize and use the power of your purchasing scale to negotiate advantageous prices and delivery terms, just as you do in classic non-electronicsourcing initiatives. In its experience with leading companies, BCG has found that aggregation alone can generate savings of 5 to 10 percent. This does not include other process-related savings. Although e- commerce isn t required for aggregation, it does make aggregation easier, faster, and cheaper. E- commerce brings the power of consolidated buying to products and locations for which consolidation was not previously cost justified. Take a (Global) Risk Use the Web to expand the geographic reach of your supply base. Start with relatively easy purchases items that are simple to manufacture, easy to specify,

5 and not core to your final product. Use electronic marketplaces and participating vendors that have solid track records. Most full-service providers of auctions and many of the consortium marketplaces are building substantial databases of suppliers offerings, capabilities, and performance. As the databases continue to expand, they will include increasingly detailed information on an ever widening pool of potential suppliers. Such resources, coupled with vendor qualification procedures that are already in place at most companies, can greatly expand the number of qualified suppliers available to a given company. Increases of 300 to 500 percent are not uncommon. You may be surprised at how much you can save by venturing a bit farther afield than usual. For example, one Fortune 100 company has started to buy many of its tools directly from China, and another has started to buy carton-packaging products from the Middle East. In both cases, by moving to electronic sourcing, the purchasers broadened the range of suppliers they examined, and they built the confidence to move even more widely in the future. The savings from such geographic explorations can exceed 50 percent, depending on the products companies buy and the choices they make. Track Your Suppliers E-Readiness The advantages of enabling your supply chain to collaborate electronically can be significant. As Cisco and Dell have demonstrated, the ensuing lower costs, build-to-order processes, and short lead-times can be powerful competitive weapons. The first step is determining where you and your suppliers stand today. Ask yourself these questions about each company in your supply base:

6 Are we currently doing business electronically? If so, what portion of our purchases is electronic? Which functions are already online? Information sharing? Negotiation? Contract management? Order status monitoring? Order receipt and confirmation? Payment? How long will it take before we are able to do business system-to-system, and what specifically must we do to make that happen? Choose the Right Champion Every successful initiative needs a champion. Your procurement organization is clearly the place to look for that leader. It is likely, however, that you will find the right person a bit outside the organization s core. That is because the switch to e-procurement threatens established ways of doing things and can strain relationships with suppliers. The right leader is someone who can think very strategically about what the company buys: What products are (or should become) commodities? And which products really provide differentiation and require true supplier partnerships? Some of BCG s clients have instituted programs for systematically reviewing their purchases with an eye toward increasing the percentage that they are prepared to put up for auction. It s important to make these decisions carefully and to have solid justification for your plan, because you are likely to get complaints from your long-term suppliers and even from some of your own buyers. We have seen promising e-procurement efforts hamstrung by reluctant procurement organizations.

7 Another trait of a successful champion is the ability to move beyond the tyranny of the metrics. Most purchasing organizations are measured on the percentage of price reduction they achieve. A successful auction that generates substantial decreases in prices invariably raises questions such as, Why were we overpaying in the past? One company executive, when told that one of his buyers had conducted an auction that had yielded a 25 percent price cut, responded by asking whether that buyer had been fired yet. Your e- procurement champion will need to educate others in the organization about the unprecedented power of these new tools, as well as act boldly in the face of resistance. Finally, your champion will need to know when and where it makes sense to move beyond e-procurement to e-supply-chain management. For many companies, the greatest benefit of e-commerce will come not from lower prices but from new levels of collaboration all along the value chain, from product development through production and distribution to managing the customer relationship. The ability to use e-commerce tools in order to collaborate with suppliers, distributors, and customers in all these activities will help determine tomorrow s winners. And the right e- procurement champion can both deliver savings today and position your supply chain for future strategic advantage. * * * E-procurement is a high-return investment. General Electric estimates that it will soon be saving $10 billion per year through e-procurement. If your company hasn t even started to experiment, you need to get going. Accelerate your pilot programs. Expand

8 the range of products you buy online. Understand the process and then aggregate your purchasing. Reach beyond your current supplier base. Start moving, saving, and learning now. James P. Andrew James P. Andrew is a vice president in the Chicago office of The Boston Consulting Group. You may contact the author by at: andrew.james@bcg.com The Boston Consulting Group, Inc All rights reserved.

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