There is hidden value in your indirect spend: Where is it? (1 of 3)
With pressure only increasing on businesses to be more profitable, every source of potential value – even those hard to reach, like indirect spend – needs to be considered.
After over a year of business restrictive measures, due to the government response to the COVID-19 pandemic, it is reasonable to suggest almost every business in the UK is under pressure to improve profitability. Revenues for many have shrunk considerably, but costs have not shrunk proportionately.
Costs that scale with revenue (referred to as direct) are material, highly visible and addressable, not least in volume terms. These costs are rightly considered, as ‘strategic’. Cost that do not scale with revenue are, referred to as indirect costs or spend. These are incurred for items that are not for direct resale and are consumed by the business itself. These are typically fixed and do not present an intrinsic volume negotiation attribute.
Indirect costs as compared to direct costs are not as material, less visible and critically usually difficult to address. As a result, many business leaders may miss the inherent value and risk imbedded in these indirect costs.
Materiality presents in the aggregate. While the absolute proportion of the overall purchasing spend will vary from sector to sector and even business to business, it is typically in the range of 15% to 30%. According to a McKinsey & Co report: “Since 2011, indirect spend has been growing by an estimated 7 percent per year globally. Even so, many organizations fail to give indirect categories the attention they deserve”1
Visibility is indeed a real issue for many businesses. As there is less focus on indirect spend there may be less control over what is being paid for and from which suppliers these purchases are being made. Wasting the opportunity to make savings.
The crux of the challenge is in its addressability in a cost-effective manner. Given the absolute spend amount and the perceived limited potential for savings from the indirect spend categories most business leaders will be reluctant to incur project costs to mine from this source of value.
We are now, however, in 2021- the ‘digital age’ and COVID-19 has dragged even the ‘digital-luddites’ into the online world. So, finding the hidden value in indirect spend needs to be considered afresh in this world of ubiquitous B2B digital connection.
One of the benefits of the digital connectivity that businesses now have is in the reduced transaction friction it provides. In business friction means “costs”. The digital connectivity enables the undertaking of certain activities with less friction and therefore at lower costs!
There are many examples, such as; the reduced need for personal physical presence and traveling; real time communication; automatic audit trails; transparency and visibility of information and actions; easier collaboration between parties; to name a few.
McKinsey & Co note that “There’s a new vision for indirect procurement, enabled not just by new technologies but also by a radical new understanding of the value indirect procurement can generate.” 1
So, ‘Where is it?’- this value embedded in a business’ indirect spend.
It is in the amount of money that a business pays by accepting; a higher price, less favourable payment terms and in wastage from maverick spend. It is also in the additional processing costs in the; sourcing, procure-2-pay and control functions. Finally, it is in reducing the risk of business interruption by ensuring the; quality, availability and continuity of supply of indirect spend items.
These sources of value are enabled by two key shifts in the world of commerce. The digital connectivity of business and the adoption of a more open stance to cooperation between entities to secure ‘win-win’ outcomes.
In the next two articles we will address the questions:
There is hidden value in your indirect spend: ‘Is it reachable?’ (2 of 3)
There is hidden value in your indirect spend: ‘How to get it?’ (3 of 3)
1 McKinsey & Company. https://www.mckinsey.com/business-functions/operations/our-insights/revolutionizing-indirect-procurement-for-the-2020s
Author: Andrew Boyes-Varley
Andrew is a Managing Director at In4trade Limited. In4Trade is a new platform created to unlock value by bundling the indirect spend of 'affiliated' companies, including: Private Equity owned, Industry Association and Chamber of Commerce members. In4Trade Limited is a member of the Coventry & Warwickshire Chamber of Commerce.