Increasing Purchasing Clarity
Cost
management principles encompass the strategic allocation and utilisation of an
organisation's financial resources for management accounting. This involves a
comprehensive approach to overseeing and optimising the costs associated with
operations, production, and other business activities.
Category
management, on the other hand, involves a systematic and strategic procurement
method. In this approach, an organisation categorises and segments its
expenditures on products or services with high precision and clarity. This
approach allows a more nuanced understanding of where resources are allocated
and how they align with the organisation's objectives.
The
segmentation of these expenditures into discrete groups is tailored to the
organisation's primary functions, ensuring that resources are allocated to best
support the organisation's strategic goals and operational needs. Some of the
major categories into which an organisation might rationalise its spending
patterns could include:
- Overheads.
- Warehousing
& Distribution.
- Finance.
- Operations.
- Direct
/ Indirect spend areas.
- IT.
Defining Spend Categories
Category
management is a systematic cost analysis approach describing financial resource
use. The descriptive process allows the understanding of past and present
spending patterns and is used to determine the best method for achieving cost
benefits. Preserving and improving on commercial cost savings involves the
apportioning of direct and indirect spending patterns by:
- Value.
- Supplier.
- Type.
- Volume.
Associated
theories that help dissect product or service spending patterns include the Pareto
(80/20 rule) and ABC Analysis. From the assimilation of category spend groups,
high levels of spend are discerned, where attention should focus on leveraging
the most significant cost and efficiency savings. Category management is the
most evolved strategy of the three common management approaches, which include:
- Tactical
purchasing.
- Strategic
sourcing.
- Category
management.
Category Management Strategies
The
simplest form of cost management is tactical purchasing, a standard process of
executing orders through the typical three-bid and buy routine. In contrast,
higher levels of strategy are employed at strategic sourcing stages to capture
increased levels of supplier value and consolidate the supply base. The use of
category management captures the following advantages:
- Uses
in-depth market insight to drive value to entire categories to evolve in
real-time as the supply market changes, based on continuous evolution and
improvement of total lifecycle costing.
- Is
a dynamic approach that requires proactive management and a shift toward
peak effectiveness and efficiency in purchasing practices, which is a
moving target that changes with market dynamics.
- Is
classified as the strategic sourcing of products or services based on a
long-term approach to monitoring supply trends, marketplace dynamics and
the supplier landscape within a particular spend area, often adjusted to
reflect changing organisational and supply conditions.
One
of the primary roles of category management is guiding stakeholders using a
series of targeted questions. However, one of the biggest misunderstandings of
organisational stakeholders is that the category management process tries to
take over the stakeholders' role in purchasing. A proactive purchasing function
should be working with stakeholders by highlighting and helping them to answer
the critical questions about:
- Demand
and forecast patterns.
- Financial
and commercial bottlenecks.
- Operational
requirements.
- Quality
issues.
Realigning Spending According to Business Needs
To
realign category management strategies with business needs and objectives,
typical outputs of the category management process might include:
- The
examination of historical purchasing patterns.
- Understanding
critical financial systems.
- Alignment
of features and requirements of the products or services necessary.
- A
collaborative understanding of what quality looks like.
- Deciding
how quality should be delivered.
While
there is no standard categorisation or grouping of requirements within category
management, the process should start with grouping spend areas with similar
characteristics. Organisations could use the following to define spending
categorisation standards:
- United
Nations Standard Products and Services coding.
- UK
Government Common Procurement Vocabulary (CPV) coding
Defining
demand patterns and allocating spending categories is an uphill task. It can
entail the assimilation of data streams and analysis to transform the data into
meaningful information, which is enacted by considering the following:
Defining Internal Needs
Defining
and exploring spending patterns establishes a foundational framework for
strategically managing spending categories. It aims to provide a comprehensive
understanding of the various sub-categories within an organisation, identify
and evaluate significant suppliers, outline essential requirements for
effective category management, recognise critical stakeholders involved in the
process, and assess the internal controls and policies currently in place to
support these activities.
Spend Analysis
To
establish an effective category management strategy, it is essential to have a
comprehensive understanding of both historical and anticipated spending
patterns. Organisations can develop more precise and actionable category plans
by gaining accurate insights into past spending and making informed projections
for the future.
A
thorough spending analysis should encompass a detailed breakdown of
expenditures by sub-category, supplier, location, and business cost centre.
This detailed approach will facilitate formulating well-informed
recommendations for stakeholders, enabling strategic decision-making and
resource allocation.
Supply Market Analysis
To
develop a resilient category management strategy, it is essential to have a
comprehensive understanding of the supply market. Organisations gather market
intelligence and benchmarking information from various sources, including
industry reports, competitor analysis, supplier assessments, and market trends.
This information is vital for making informed decisions and ensuring the
success of the category management strategy.
Category Segmentation
Segmentation
modelling is a critical tool that enables organisations to analyse and
categorise their sourced products or services based on various parameters such
as customer demographics, purchasing behaviour, or product
characteristics.
By
doing so, organisations can effectively prioritise and manage strategic
categories, allowing them to allocate resources and focus their efforts where
they will have the most significant impact. This approach helps identify the
most valuable segments, optimise procurement strategies, and drive better
business outcomes.
Category Planning
A
Category plan will define a list of initiatives, projects, or tactics to
deliver results. The Category Plan should:
- Initiate: Define the categories that the
organisation will manage.
- Prepare: Once the categories are defined,
plans must evolve to enable an organisation to manage purchasing patterns
in alignment with its needs and requirements.
- Prioritise: Objectives must be set to achieve
the organisation's needs and requirements. For example, the organisation
could source 50% of direct-cost products from suppliers in the local area
or only from environmentally conscious suppliers.
- Define: The strategies that should be set
need to reflect the organisation's needs and requirements. For example, it
could be to contact all suppliers within a 50-mile radius and invite them
to tender for all indirect cost-related spending areas.
- Implement: Once the strategies have been
agreed upon and approved, the Procurement function needs to work with
stakeholders to gain their "buy-in" to the Category Management
strategies. Everyone must support these to effectively achieve the
organisation's needs and requirements.
- Maintain: The Procurement function will set
Key Performance Indicators (KPIs) or Service Level Agreements (SLAs) to
monitor and evaluate supplier performance. A typical KPI could be
on-time-in-full delivery, or "OTIF."
- Improve: Procurement is a constantly
evolving function, so a relevant category may become obsolete,
non-critical, or move from direct to indirect at the start of a period.
The review process is critical to ensuring that categories remain
relevant.
A
Category Management plan is an organisational tool that allows budget managers
to understand how financial resources are used to enable priorities to define
the highest risks regarding commercial and legal issues, allowing the
organisation to mitigate them efficiently and effectively.
The Benefits of Spend Categorisation
Organisations
that fail to analyse how they spend their finances regularly may spend 16 – 21%
per annum more than organisations that closely monitor their spending patterns.
To be cost-effective, an organisation must periodically review what it spends,
as increased spending patterns may be incurred through:
- Spending
ineffectively by purchasing products and services that aren’t required.
- Paying
prices 7 – 9% ahead of the open market.
- Incurring
increased commercial, legal and Health and Safety risks.
Analysing
the items and services an organisation acquires is essential in gaining
insights into how it uses its financial resources. This understanding is
necessary before taking steps to ensure the resources are utilised
effectively.
By
identifying the areas where spending adds value and eliminating unnecessary or
ineffective expenses, organisations can significantly enhance their spending
efficiency and the overall effectiveness of their financial expenditure. This
process involves an in-depth examination and evaluation of every aspect of the
organisation's procurement and purchasing practices to optimise financial
management.
Additional articles can be found at Materials Management Made Easy. This site looks at the flow of materials to assist organisations and people in increasing the quality, efficiency, and effectiveness of their product and service supply to the customers' delight. ©️ Materials Management Made Easy. All rights reserved.
