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Understanding strategic vs tactical procurement outsourcing

Posted by Vinny Patel on Wed, Sep 05, 2012 @ 03:26 AM
  
  
  
  
  
Vinny Patel Proxima

Research undertaken by Proxima & NelsonHall found that many procurement outsourcing engagements, when led by the CPO, are tactical in nature (single categories, short term, department focussed). Conversely, outsourcing engagements are far more strategic (longer term, business focussed) when the CFO or even CEO are involved.

In many organizations the procurement function is resource-constrained and under-invested in and, while personnel in the function are often well regarded by their colleagues, there is clearly room for improvement in terms of the overall management and control the function provides in support of the wider business goals.

However, few businesses are actively engaging with specialist third-party providers, with a small minority actually outsourcing indirect procurement, as a strategy to increase the focus on supporting the goals of the wider business whilst providing deep commercial insight and change management.

Our research shows that a significant minority (17%) of organizations today are using external service providers to support their work in indirect procurement. The tendency is to use external service providers for:

  • Discrete specific services which support the sourcing and supplier management activities: these include support for supplier identification, catalogue management and spend analytics. As such, organizations are using external services providers for support in specific activities, rather than an end-to-end process outsource, or
  • Transactional activities: around invoice processing and disembursements.

Spot purchasing, an area in which many organizations feel they lack strong capabilities, is less commonly outsourced. Many indirect procurement BPO engagements are tactical in nature. This is particularly the case when the outsourcing engagement is instigated by the procurement function itself (rather than by the Chief Financial Officer/Chief Executive Officer).

However, CPOs still tend to think of outsourcing indirect procurement activities as a tactical initiative. Just 25% express a belief that this outsourcing would likely lead to a significant increase in the effectiveness of the indirect procurement function within their organizations. Importantly, CFOs express a significantly higher degree of confidence than CPOs about the likelihood of outsourcing indirect procurement leading to major increases in effectiveness.

This caution by CPOs perhaps reflects a lack of awareness by many CPOs of the various forms that indirect procurement BPO can take, as well as a fear of loss of control and perceived influence. The fact that outsourcing could be used as a strategy to extend their ability to work more closely with the wider organization is not widely understood.

The below chart highlights the two polar ends of the procurement outsourcing spectrum – comparing tactically focused outsourcing engagements with strategic focused outsourcing engagements. There are of course exceptions to this simplified classification (with areas such as supplier performance management, savings measurement, supplier innovation initiatives, etc sitting in between the two sides), but most procurement BPO arrangements fall into one of these two camps. Procurement outsourcing as a tactical decision, is usually instigated from inside the procurement function and the activities tend to be geared towards a support service rather than a transformational service.


tactical vs strategic procurement outsourcing

Procurement outsourcing, as a strategic decision, is an investment to save substantial sums of cash, impacting profitability. The outsourcing provider needs to bring to the table all the capabilities that can help the client to improve business performance, catalyse or impact big change programmes, realign cultural attitudes towards cost management and positively change spend behaviours. This type of arrangement is seldom (currently) instigated by the CPO, much more commonly by the CFO, COO or even CEO and it’s clearly a strategic move.

Why do CPOs often fail to look outside their department and take a wider, business perspective on outsourcing as a strategy? Is it something to do with past experiences? An issue with education of benefits and pitfalls? A misfit with company culture?

 

 

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Register your details to access the complete Redefining Procurement Series including a 60 minute webinar, three research-led whitepapers and a series of thought pieces covering:

  • Current perceptions of the indirect procurement function and its desired future role within the organization
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  • Why businesses struggle with delivering indirect procurement effectively
  • The role of procurement outsourcing in enabling the indirect procurement function to take on a business partner role within the organisation.

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Comments

I think it depends if an organization has a strategic objective to outsource (eg to reduce working capital) or only has the objective to be a low cost producer. Outsourcing for corporate strategic purposes, the CEO and CFO are very involved. With no strategic imperative to outsource and with cost reduction as the only objective , the CPO generally leads that initiative. Outsourcing in that case only occurs if it can bring in long term cost benefits.
Posted @ Wednesday, September 05, 2012 6:09 AM by Gary Lajoie
Good points Gary – I think you might be interested in this discussion around the purpose of procurement, and how savings are the wrong metric to measure its performance against - see the link. The discussion is predicated on the view that budgets are not spent to save money, so targeting the procurement function in this way is misaligning it to the business.
Posted @ Wednesday, September 05, 2012 6:10 AM by Vinod Patel
In my view, this also reflect whether the organization treats procurement as a strategic function on profit-making, the importance of whole value-chain to its success.
Posted @ Wednesday, September 05, 2012 6:14 AM by Ingrid Zheng
Purchasers are typically measured on cost reduction only; hence a focus on short term saving over the long term TCO. Purchasing without a strategy is shopping.
Posted @ Wednesday, September 05, 2012 6:14 AM by Mark G Smith
Agree, purchasers typically measured on cost reduction, but the better cost measure on performance to quality, new design contribution, as well as savings. See Harley-Davidson, Deere, Honda, etc. They tend to be more strategic because it improves the profit margins repeatedly and consistently. Also worth mentioning Nissan - they are maintaining high 8% profit margins and opening new plants, plus new designs each year. A Mill Girl at Blue Heron Journal.
Posted @ Wednesday, September 05, 2012 6:14 AM by Patricia Moody
To (hopefully) elaborate on Gary's response, CFO/CEO's are engaged for strategic outsourcing as there are, as you highlight, longer term arrangements, and they typically involve core functions (not to say tactical outsourcing is exclusively non-core), but they are functions which might directly impact people, brand, customer experience etc, so being exec management they want more involvement. Where the outsourcing is back-office, little to no customer impact or line of sight, all you are doing is having an external agent do what you can do but cheaper, then the CFO should be able to handle that as the business case is simple - same function (maybe better) at a lower cost. I don't think CPO's fail to look outside of this, they probably do, but it takes that executive sponsorship to get the momentum.
Posted @ Wednesday, September 05, 2012 6:15 AM by John Houston
Until now, outsourcing has been considered by most companies, particularly in the financial services industry, as little more than a tactical form of reducing the cost of acquiring outside services. However, financial services providers have come to focus less on achieving incremental cost improvements (10% - 20%), and, instead, are evaluating all their capabilities to define a winning global sourcing strategy.
Posted @ Wednesday, September 05, 2012 6:15 AM by Emily Rakowski
What is 'strategic' sourcing/procurement? what makes a sourcing project strategic rather than tactical? A company may make a strategic decision to outsource a function to a foreign shore for whatever reason - is not the sourcing of that solution then a task of that strategic decision? another company may decide to deliver a new product or service. Is the sourcing of the components to deliver that good or service tactical? When is procurement strategic?
Posted @ Wednesday, September 05, 2012 6:16 AM by John Houston
Another way of looking at this may be that when you go through your strategic analysis (spend/market/portfolio/supplier/stakeholder/internal requirements/specification etc etc) that this is indeed a tactical approach! Hence it becomes a strategic and tactical approach to the market!
Posted @ Wednesday, September 05, 2012 6:16 AM by Terence Coggan
I think the key is to determine whether there's an interest in having a tactical or strategic solution. As your research shows, the outsourcing engagement was at the behest of an internal customer that was just thinking singularly for their function. Often times that customer is not motivated to be concerned about leverage that could be had were the CPO to perform a strategic outsourcing engagement that looked across other lines of business. Consequently, the CPO has little backing for performing a strategic solution and the outcome is strictly tactical. Consequently, the solution is for the CPO to work harder to "sell" what the benefits of a strategic solution would be to the entire enterprise and get buy-in from all interested parties, thus performing a larger strategic outsourcing engagement.
Posted @ Wednesday, September 05, 2012 6:17 AM by David E. Rupert
Agreed, David. The CPO's main responsibility is that of an influencer, not a project director/manager. In fact, save for the CEO and CFO, perhaps the most important stakeholder(s) the CPO needs to influence in any organization is the owner(s) of corporate strategy. Understanding the industry and, subsequently, the relative profit-position aspirations of the company within the industry will guide the CPO to expend effort and energy on defining the supply acquisition strategy in those macro-categories that most impact the company's goals.  
 
Viewed through that lens the CPO can quickly understand if the opportunity affords something greater than cost-savings, something more meaningful to the company's future profits. It's at that point that the CPO can assess as to whether the opportunity is one whose impact is merely consolidate-to-save or one where the impact could affect the company's overall competitive advantage within its industry. 
Posted @ Wednesday, September 05, 2012 6:17 AM by Michael Hicks
There may be good reasons for a short term approach but often greater overall benefit can be derived through a whole life approach to a contract. The main thing is the sourcing organisation needs to pursue the approach which meets the business issue(s) the procurement is addressing and is not dictated by either an initial 'wow' saving or 'jam tomorrow' benefit that is always just round the corner.
Posted @ Wednesday, September 05, 2012 6:18 AM by Andrew Porter
Agree with Mark G since purchasing mainly viewed as a source of bolstering profit with cost reductions which is short term sine how to sustain these year-on-year especially for long life products? Additional point is inventory reduction which is important to reduce capital tied up and how to improve turn times for inventory that generates capital but beyond these 2 items purchasing is not often involved or overlooked in major changes such as outsourcing. Yes can be too short sighted but is this due to how the function is viewed in the organisation?
Posted @ Wednesday, September 05, 2012 6:18 AM by Neil Williams
Although out sourcing is perceived as a way of cutting costs it is sad to note that some procurement professionals abuse this. when outsourcing we don’t expect us to spend more than what we were spending before. some suppliers do not justify why they revise their prices few months after entering into contract agreement and buyers allow this to happen and spend more on the outsourcing. strategically we need to monitor this closely.
Posted @ Wednesday, September 05, 2012 6:21 AM by Hastings Manda
CPO is a valuable contributor but is often remunerated on cost savings alone. There is no individual in any large organization capable of assessing all of the business benefits or otherwise. Such exercises need to be conducted by a team in order to fully assess the total cost of ownership, risks and benefits especially on international assignments where it is unlikely that a CPO will completely understand employment, SLA's, taxation and exchange rate implications.
Posted @ Wednesday, September 05, 2012 6:22 AM by Douglas Robertson
I agree a team approach is needed properly to assess business costs and benefits but, too often, the focus is only on the one "function" to be outsourced. There also needs to be an examination of the real as opposed to documented internal linkages around the function being looked at. There is a need to bring together the operational team around the function to identify where informal links may be broken in outsourcing that could cause major problems down the road.
Posted @ Wednesday, September 05, 2012 6:24 AM by Ralph Leishman
It is said that CPOs fail to take strategic decisions since they do not have wider business outlook. Historically, procurement professionals have focused on narrow functional domain of purchasing at lowest cost by pitting suppliers against each other.  
 
Sometimes, purchase managers feel threatened of losing job if long term contracts (relationships) are concluded with specialized suppliers. Also, long term contracts look like outside the domain of purchase managers as these are strategic decisions about collaborations (partnering in innovations). 
 
However, in present scenario, where outsourcing is core function to many companies, purchase managers must shed their historical inhibitions to take a bigger role in strategic decisions for business 
Posted @ Wednesday, September 05, 2012 6:25 AM by Harpreet Singh Pruthi
I think, considering a constant and stable market buying conditions and all other factors affecting Procuremet being in a sustainable and realistic state then considering this a strategic subject is quite viable. Yea I would agree that CPO's should now not be short sighted on immediate buying costs but should look beyond this and make necessary suggestions to their CFO's and CEO's. Participation of CPO's in these decision making round tables is very crucial.
Posted @ Wednesday, September 05, 2012 8:02 AM by Blessing
Very interesting article, however this tactical mindset is not restricted to a CPOs approach to procurement outsourcing. In my experience as an outsourcing specialist advising over 50 companies I have seen the same effect with all types of C-level execs and senior mangers. That’s why the management of significant outsourcing projects and the ongoing governance of outsourcing deals, requires direct C-suite engagement.
Posted @ Wednesday, September 05, 2012 12:37 PM by Chris Lawn
A very interesting question / statement! One possible issue that I've found to be true in a few cases is that CPO's and / or CFO's are unsure of how much candidate functions really cost and so are unable to compare and thus decide. Furthermore, and that seems to be the case in Portugal, there is insufficient offer in outsourcing services regarding procurement functions (as a whole or for specific categories of purchases). 
What is your opinion and experience on this?  
Posted @ Friday, September 07, 2012 3:48 AM by Frederico Barreto
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