The yellow brick road to professional procurement often runs through the indirect spend countryside. Employees who are new or recently promoted to the profession are often assigned indirect spend commodities like maintenance, repair and operating supplies (MRO). These purchases were considered low cost and low value, allowing the newly minted buyer cover in case they made errors in sourcing or ordering.
The importance of indirect spend was immediately diminished by awarding it to the rookie buyer who was expected to gain their experience on unimportant commodities.
After a successful turn with indirect spend, the buyer was often promoted to the direct side of the procurement organization, usually buying low value inventory items like hardware and labels, and then slowly began to gain greater commodity responsibilities.
It was considered the traditional pathway out of procurement purgatory ... but all the while missing the big picture.
The real activity in indirect spend was not in the new buyer’s procurement of low-risk MRO supplies. Rather, the CIO was the one negotiating large contracts for IT services, the human resources manager was negotiating the latest healthcare contract, the company’s executive chef was negotiating the food services contract and the summer intern was signing the new web design contract. Large indirect spend contracts were being completed outside of the purview of the procurement department, putting the company at financial and operational risk.
Poor management of purchasing indirect goods and services can be a drag on the bottom line.
The difference between direct and indirect spend can be confusing. Direct materials are used in the manufacturing process, are planned, typically have a part number and an inventory position and are eventually resold to customers as part of a finished product. Goods and services used by an organization but that do not become part of finished goods are considered indirect.
The amount of indirect spend can actually be more than direct spend in many companies. While the focus is often on micro-managing all aspects of direct materials, poor management of indirect goods and services purchasing can be a drag on the bottom line.
Here are seven steps to improve the management of indirect spend.
1. Take control of all (direct and indirect) company spend
Companies that best manage their indirect spend look at their procurement process, whether for direct or indirect spend categories, in a holistic and professional manner. Supply management tools like strategic sourcing, supplier performance monitoring, a strong negotiation process, enhanced communication and comprehensive contract management should be used for all procurement activities, not reserved for direct spend only.
Active supplier management is critical in all procurement categories. The supply management organization has the fiduciary responsibility to spend a company’s money ethically and responsibly. By allowing procurement activities by those who are not formal agents of the company, the company is in legal jeopardy, potentially invalidating important contracts and agreements.
2. Analyze the spend
Use commodity management tools to analyze the indirect materials spend. Identify critical path suppliers, including those that are sole source. Develop an indirect spend supplier list and codify purchases to determine spending patterns. Spend patterns should be analyzed regularly and key suppliers should be reviewed on a regular basis.
3. Review all indirect spend contracts
Indirect spend is often fragmented and contracts can be just about anywhere. Locate and take ownership of all contracts. Review them for inappropriate terms such as evergreen clauses that keep contracts renewing on an annual basis. Pay careful attention to service contracts to ensure that the material still under contract is indeed being used. Renegotiate contracts as needed. All contracts going forward should be signed by procurement officials.
4. Elevate the status of indirect spend
Recognize the importance of indirect spend and bridge any perceived status gulfs by creating organizational importance for the commodity area. Some companies address the importance of indirect spend with senior management positions, and in some cases, they are at the executive level. Use appropriate staffing and leadership in this area.
5. Create indirect supplier performance criteria
Tracking indirect supplier performance is significantly different from tracking ERP driven direct material supplier performance. It is often subjective in nature and depends on the internal user’s perception of the quality of a service or the delivery or functionality of a piece of equipment.
Work with key indirect suppliers to see how they track their own performance and integrate that into a feasible performance tracking model. Surveying key internal users of indirect materials also provides insight into supplier performance. Make performance management part of the contract.
6. Use subject matter experts
Taking control of indirect spend might not be a popular activity in many companies as those with functional responsibility may feel that they are the best judge of supplier selection and management. Mitigate political fallout by incorporating them as subject matter experts (SME) on the negotiating team to leverage their involvement and expertise. In many cases, they are relieved to offload the supplier selection and contract management to the appropriate function.
Communication throughout the supply chain is important, and many companies have extensive protocols to communicate information on forecasts, performance information and important company information like changing business conditions or changes in industry regulations.
Supplier communication to indirect suppliers is important as well, making sure it is relevant to them. The local plumbing supply company or the printer would welcome some additional company insights. Even the mega health insurance or travel companies have local account managers who are responsible for the business and would welcome a deepening relationship. Invite important indirect suppliers into your supplier community.
This story was first published in our weekly newsletter, Supply Chain Dive: Procurement. Sign up here.