PROCUREMENT PERFORMANCE

Logistics Insight Asia, 1/5/2008

Why are some industry sectors able to achieve higher procurement performance levels than others?

ANDREW COX provides an explanation.

Most senior procurement managers want to know how competent their organization is compared with others. This means that they need to know how many of the currently available operational processes and systems that support "good practice" their organizationpossesses.

This is straightforward enough, but understanding what is "good practice" for a specific organization can be problematic. This is because managers have difficulties in defining the difference between "world-class"and "best–in-class" performance.

Does world-class mean what a particular organization is currently doing, or is it an ideal to be aimed at, that can never be achieved? Is world-class the same as best-in-class, or are these different concepts? An attempt is made in this article to shed light on these issues. The general thrust of the argument is that the concept of world-class can only be useful if it is seen as a moving ideal that is unlikely to be fully achieved by any organization, but against which organizations (operating within particular public and private sector circumstances) can compare themselves.

Using this definition it is possible to understand what is meant by best-in-class: it refers to the current performance of an organization relative to both world-class (the ideal), and also relative to other comparable organizations within specific public and private sector contexts.

The argument is supported by evidence from benchmarking studies into organizational competence undertaken in Europe, the Middle East and the USA. The evidence shows that some organizations & sectors perform better than others when the ideal is defined, but also that some organizations and sectors should be expected to perform better than others.

This is because it is easier for some organizations to perform close to world-class (or the ideal) than others. Understanding why some sectors are unlikely to be able to achieve the same competence or performance levels as others is extremely valuable. It provides a means by which the targets for bestin- class performance can be defined in context – at the specific sector (Automotive/ FMCG/ Oil & Gas/ Government, etc) level.

EMPIRICAL EVIDENCE
Over the last two years, Newpointhas undertaken a series ofbenchmarking studies to assess thecurrent performance of over 200organizations in adopting currentlyavailable processes & systems for the management of procurement and supply chain activities. The benchmarking exercise has so far assessed the performance of 173 private sector and 32 public sector organizations.

The studies analyzed performance across fi ve main attribute categories – Business Buy-in and Functional Role, Stakeholder Management, Strategic Sourcing Process, Organizational Structure, Systems & Processes – with two of these attribute categories sub-divided into 11 further subcategories.

Each organization was scored against 184 attributes of currently known organizational process & system competence, using a scoring system of 5 for "the currently available idea performance’’ (world-class), with a score 1 for a very basic, current competence/ performance, and a score of 0 for no competence at all. The results reveal considerable variation between organizations. The highest score (out of 100 percent – the world-class score) across all sectors was recorded in Retail (80.2 percent); with Automotive (79.3 percent) second; and Consumer/FMCG (76.4 percent)the third highest.

The lowest individual organizational score in the study was recorded in the Public Sector (national government 11.3 percent, followed by regional & local government at 14.6 percent); and a public sector organization in Oil & Gas scored only 24.4 percent. What these results demonstrate is that there is a wide gap between the top and the bottom scores of almost 70 percent. Furthermore, the majority of organizations analyzed are not in the Top Class category (i.e. scoring over 75 percent).

Only three private sector companies scored over 75 percent, and none of the top three reached the very highest scores attainable (85 percent+). This means that even for supposedly leading-edge companies, there are still some major gaps between current performance and what is organizationally feasible.

Most organizations are "middling" in the sense that the majority receive scores of between 40 percent and 56 percent. This means that they have most of the attributes required for managing the procurement process, but do not achieve the highest levels of sophistication and/or on-line capability in their systems and processes compared with what isnow feasible.

The major gaps appear to be around online capabilities for Systems & Processes, a lack of effective Buy-in & Stakeholder & Risk Management and, perhaps most importantly of all, a lack of resourcing and rigor in the management of the overall Strategic Sourcing Process.

The data also reveal that the organizations with the highest individual scores also tend to be in the sectors that record the highest average scores.

The highest performing sectors on average are Retail (63.9 percent), followed by Automotive (56.7 percent); and Consumer Goods/FMCG (55.2 percent), with Industrial Manufacturing and Pharmaceuticals not far behind (both recording 54.1 percent). The large number of sectors scoring between 50-55 percent indicates that there is considerable scope for process and system improvement within these sectors.

The figures indicate that public and former public sector (but now regulated) industries have the lowest performance scores, and also receive the lowest resourcing for implementing organizational process and system innovations.

TAKING STEPS
In trying to understand how to be "world-class" in the creation and management of a strategic sourcing process the first task is to identify all of the "steps" (activities & tasks) that are required for any, and all, types of organization. This is depicted in the 8-Step Sourcing model, which encapsulate the key activities and tasks that all organizations have to manage when they manage procurement and supply pre- andpost-contractually.

Some might argue that strategic sourcing process only needs fi ve, six or seven steps. However, the exact number utilized is not in critical; what is important is that all of the key activities & tasks that must be included within a strategic sourcing process are covered. Furthermore, a rigorous and robust approach must cover all of the pre-contractual and all of the post-contractual activities and tasks required of a competent procurement and supply chain management organization.

Using our benchmarking methodology, for each Step in the process we have identified – through extensive review of current theoretical knowledge and by benchmarking empirical practice across 22 industrial and governmental sectors – all of the key activities and tasks that are currently synonymous with world-class practice.

To describe the activities and task attributes of each Step is one thing, but it tells us little about whether performance is good, bad or indifferent. To fully understand world-class best practice managers also need to understand the performance variables for each activity or task.

In our approach to benchmarking, not only do we provide a holistic ideal vision of world-class organizational process design, but we also score activity and task performance on a scale defined by what world-class practice is in the ideal, given the current theoretical knowledge available, and in relation to the current best form of delivery technologically. The use of this methodology can be illuminating.

For example, many organizations use the "purchasing portfolio analysis" methodology developed over 25 years ago, and believe this is a ‘world-class’ approach to segmentation and sourcing optionsselection.

Unfortunately, in our methodology, the possession of such an approach is not evidence of world-class performance. This is because there are superior segmentation and sourcing option selection methodologies available using online, rather than paper-based, tools and techniques.

The problem for managers is, therefore, clear. Unless they are aware of all of the potential tools & techniques and delivery mechanisms that are available they will never be able to understand what a worldclass approach is for any Step (activity or task) in the strategic sourcing process.

This raises however, an interesting dilemma for practitioners: should everyone strive to be world-class and always adopt the very latest practices and technologies? Our view is that whether or not one seeks to adopt world-class practices and technologies, or how many of them, depends on organizational circumstance (context).

Even if managers do know what is the current world-class way of managing there will always be circumstances when what is possible for one organization may not be feasible for another. A simple example explains this.

In defining business requirements and managing demand in Step 2 of the strategic sourcing process, effective forward demand and capacity planning is normally evidence of a world-class process management competence – and the ability to undertake effective planning over fi ve years is normally preferable for supplier and supply chain optimization than the ability to do it for only one or two years. But benchmarking approaches must always recognize the difference between the evaluation of the possession of an attribute, and the variable use of it in particular contexts.

The key learning for mangers here, however, is not just in understanding that forward demand and capacity planning over fi ve years is a demonstration of world-class process competence, but the realization that it is not feasible – or indeed always desirable – for managers in all organizations to undertake this activity.

In many industries, especially those faced with short-term, ad-hoc and/or episodic demand profiles, like Construction, Upstream (E&P) Oil & Gas, and Fashion Goods, there are often only limited opportunities for managers to build fi ve-year forward demand and capacity plans.

This means that while understanding what is a world-class approach and where the organization stands in relation to it may be beneficial in general terms, it is not the only benchmark that is relevant. In many ways, the benchmark that is most relevant is the relative performance of an organization against comparable organizations in their own sector (faced with similar demand, supply and resourcing constraints).

PUTTING INTO CONTEXT
In this light, benchmarking becomes a more complex activity because organizations must understand their position both against the ideal and also against those in the same, or similar, sectors. This also means that, while some organizations may fi nd it easy to perform close to the ideal of 100 percent, others may fi nd this inherently difficult, and their realistically achievable target performance score may be much lower, in the 80 or 90 percent range.

Our studies demonstrate that organizations in process-based industries tend to record higher benchmark scores that those operating in project-based industries. This in itself is interesting because it provides at least one reason why some organizations can operate closer to world-class than others.

It is not just because they are better managed; it is because the context they operate within allows them to pursue more of the worldclass processes and systems than organizations operating in less than ideal contexts.

This insight is interesting because our benchmarking studies have allowed us to arrive at an understanding of why certain organizations in particular sectors tend to be seen as exemplar cases of good practice. Those that that achieve scores close to world-class performance are characterized by the following three factors:

• Tend to operate in process-based industrial sectors, where high volume and frequent demand allows the adoption of leading edge demand and supply management practices

• Make heavy use of outsourcing

• Have relatively low returns The matrix (depicted below) shows that in some sectors adopting worldclass procurement and supply chain management processes and systems is unlikely to be seen by senior managers as of much value.

For example, in Professional Services and Software Development companies (Quadrant A , Transactional), the delivery of services is mainly undertaken inhouse, and there is only sourcing of transactional support activities and so little need for complex tools and techniques for the management of procurement and supply. This is because profits are normally high and the need to reduce costs, or buy goods and/or services that providethings that customers’ value, is low.

Contrast this with the situation in Quadrant D (Critical), where profits tend to be low and most of what is provided to customers is sourced from suppliers because of the very high incidence of outsourcing. In such organizations, the role of procurement and supply chain management is critical to corporate success. It is hardly surprising, therefore, that most of the organizations that tend towards world-class are to be found in sectors with a high incidence of operational outsourcing and very low profitability.

Hence, the Automotive, Retail & Consumer Goods/FMCG sectors tend towards world-class performance in procurement because they must leverage external resources for competitive advantage and as a matter of survival, not just because they are better managed than others.

In Quadrant B (Cyclical) the role of procurement is often difficult. This is because – due to the heavy incidence of outsourcing – the competence may be of high operational significance, but the relatively high profitability in these industries tends to preclude an organizational focus on sourcing issues, unless of course profits decline.

For instance, in the Upstream (E&P) Oil & Gas industry it is normal for procurement to be ignored in the good times (when profits are high) and then, when the pendulum swings and profits decline, the function becomes much more strategically important. In such a cyclical environment the lot of the procurement manager can be very hard – sometimes ignored as tactical and sometimes the strategic savior of profitability. Implementing world-class approaches to sourcing in such circumstances is precarious and subject to cyclical financial circumstance and managerial fashion.

In Quadrant C (Operational) the role of procurement is rarely of strategic importance because the key supply operations of the company that generate profitability are heavily insourced, with only transactional and tactical operational requirements (direct and indirect) being sourced. Despite this, the relatively low levels of profitability in these organizations does make it possible to implement procurement process and system improvements. This is because of the need to continually consider make/ buy in order to reduce operating costs; and also because of a need to continually fi nd lower cost sourcing solutions to improve the overallprofitability of the company.

In these organizations the procurement role is normally seen primarily as operational rather than strategic, and resourcing is always an issue for process and system improvement initiatives.

WHAT IS FEASIBLE?
Given the above, it seems obvious to conclude that when undertaking benchmarking, while it is sensible to know where an organization stands in relation to current world-class best practice, managers need to understand what is feasible within the sectors in which they operate.

At Newport Consulting, our response has been to devise a benchmarking process that not only provides organizations with a comparative benchmark of their performance against current world-class best practice (100 percent), but also a way of understanding what the current feasible targets should be for the sector in which they operate (varying between 80 percent and 100 percent), so that they can understand what is a realistic target.

This then provides the basis for benchmarking against the ideal, as well as understanding who is best–inclass within the specific sector in which they operate. And as our benchmarking studies have demonstrated, it may not be feasible for all organizations in all sectors to fully adopt, or fully implement, the same approaches to process and system improvement.

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Andrew Cox is Chairman, Newpoint Consulting(www.newpointconsulting).