Cost Savings and Cost Avoidance

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Procurement is the process of purchasing external goods and services for an organisation, that facilitates its ability to operate in an efficient and profitable manner. At its core, the process looks to increase savings and drive down costs, all in all enhancing a company’s profitability. Because of this, procurement is principally associated with cash savings – i.e., savings obtained through supplier acquisition or the renegotiation of existing contracts. However, whilst this is a core aspect of successful procurement, there are a number of other ways in which a procurement strategy can drive up your bottom line. Read on for our handy guide on procurement savings, exploring supplier management, total cost management and purchase demand management as well as cost avoidance.

A deeper diver into cash savings

First, let’s look at the most comprehended aspect of procurement savings – supplier management. In short, this area of procurement looks at reducing costs related to supplier contracts. This is typically manoeuvred through:

·  Supplier Diversity & Competition

Increasing supplier diversity refers to seeking a wider range of suppliers in order to attain the best rate for each individual service – as opposed to bulking multiple services up into one package delivered by a single supplier. Additionally, enhanced supplier diversity also helps to protect businesses from losses if a single supplier is unable to deliver on their contracted services.  

Further to this, organisations can also increase inter-party competition between suppliers, by 1) requesting proposals from external suppliers on a periodic basis. Or 2) through sourcing a single product or service through multiple suppliers to drive ongoing competition. Both methods encourage suppliers to offer their best available rates in order to maintain business with your organisation.

·  Suppler Relationship Management:

Cultivating supplier relationships is at the heart of successful procurement management; allowing organisations to forge long-lasting relationships with key product and service suppliers. Significant cost savings can also be made through leveraging strong supplier relationships.

Total Cost Management

Another way to enhance company savings is through total cost management. This involves getting a comprehensive overview of secondary or ‘hidden’ costs such as transaction costs and the total cost of ownership (TCO) of services and products, as well as through the strategic management of direct purchases. Let’s explore these in more detail below:

·  Transaction Costs

Transaction costs refer to any costs associated with purchasing a product or service and can often be overlooked (particularly with small businesses). In today’s digital era – and further exacerbated by the pandemic – few organisations accept cash as their main transaction type; instead, debit and credit cards are the most accepted forms of payment. However, most card companies will charge merchant and processing fees as a percentage of each sale. Though small per transaction, these can soon add up to sizeable chunks from your potential profit.

Be sure to review your chosen payment system provider periodically and to compare their processing fees against the market average and their competitors.

·  Total Cost of Ownership (TCO)

In our recent IT procurement series, we explored the meaning of TCO, how it can often mislead businesses and ultimately, drive-up operational costs.

TCO refers to all of the costs associated with a product or service that are not included with the implementation cost. This includes purchase cost; delivery; installation; training; operation labour; maintenance; upgrades and security. In particular, small to medium sized businesses are often caught out by TCO, lacking the in-house expertise to investigate these costs before entering into a contract with a supplier.

Nonetheless, an assessment of the TCO of supplies can be a good source of opportunities for organisations to realise cost reduction opportunities.

·  Direct Purchasing

Direct purchasing refers to purchases that go directly into the creation of the final product or service that your organisation sells. There are multiple considerations that organisations can make to reduce costs associated with direct purchasing, such as weighing up the pros and cons of buying supplies in bulk vs. the increased inventory costs for storing additional materials.

Purchase Demand Management & Cost Avoidance

Another pivotal aspect of procurement is purchase demand management – an area which can offer significant savings to businesses if managed strategically. Put simply, purchase demand management is the process of reducing costs through the management of requirements, ensuring that your business only purchases what it needs. So how can an organisation improve its purchase demand management?

·  Analysis of current spend

First and foremost, purchase demand management can only be successful if organisations have a clear view of what they are spending in the first place. A spend analysis is a quick and easy way to address this.

·  Streamline organisational consumption

Next, the dedicated purchase demand manager must look to cut organisational consumption through cutting down on non-essential spend. This could include, for example, the replacement of business class flights with economy travel, or the replacement of travel with international video conferencing.

·  Improve supplier specifications

Finally, specifications can be fine-tuned to ensure they fully detail exact organisational requirements. This can help suppliers to offer bespoke proposals tailored directly to the specification, as well help organisation stakeholders to stay focussed on necessity – rather than getting carried away with sophisticated business solutions that exceed the procurement need.

Detailed supplier specifications can also help stakeholders with cost avoidance by streamlining organisational requirements, or through discovering solutions that resolve multiple needs. This helps organisations to avoid unnecessary costs in the future.

What is Cost Avoidance?

Though often used interchangeably with cost savings, cost avoidance is avoiding the incurrence of costs in the future. Whilst there is some overlap – particularly with purchase demand management – cost avoidance does differ in that it focusses on long term cost avoidance. To this extent, cost avoidance strategies sometimes increase organisational spend in the short term in order to reap long-term benefits.  One such example of this is the regular maintenance of company equipment. Whilst this may incur additional costs in the short term, this avoids costly breakdowns in future – avoiding emergency maintenance and the coinciding costs.

Get in touch today

For more information on the different procurement savings types, or to find out how your business can implement them, get in touch with our team today.

We can help your business understand what your true requirements are before you make any decisions. Our expertise allows us to assist you when it comes to utilising proper procurement practises that will pay dividend. We can guide you in reviewing your existing supplier contracts and what to look for in new ones, so you avoid any automatic price increases, capacity limits, cancellation restrictions and beyond.

We also offer to oversee procurement projects from start to finish – managing your contracts and leading the transition process to ensure that new systems are delivered on time without supplier disputes.

For further advice or an initial consultation please get in touch at info@athena-commercial.co.uk.

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