In Part 1 of this two-part post, I talked about the importance of separating the notion of procurement VALUE (how strategic is the value delivered to the enterprise by Procurement's services?) from procurement PERFORMANCE (how effective and efficient is the performance for each service?). In this part, I'll talk about how to better measure that performance … and I’ll also ask for your help.
Measuring procurement EFFICIENCY is relatively straightforward in terms of looking at procurement FTEs, process costs, cycle times, etc. That said, it can be more complex than many think. For example, dividing your procurement budget by your total number of POs is a REALLY stupid way to measure a "Cost per PO" metric! I won't tell you why (hint: think activity-based costing).
Anyway, EFFECTIVENESS is a trickier metric, especially as you move from Price to TCO to Spend Magnitude and finally to the Value of that Spend (e.g., faster time to market, better innovation, better sustainability, etc.). In other words, increase your bang for the buck -- don't just reduce the number of bucks.
When you measure effectiveness, this includes not just spend/cost savings, cost avoidance, supply base leverage, internal customer satisfaction, supplier performance, and other well-known metrics, but also more strategic outcomes such as performance-to-market, innovation performance, time-to-market performance, sustainability, and so one. The definitions get very tricky, and there's a very real trade-off between the insights of these metrics and the effort to measure them. Part of the difficulty in measurement is the definition of the metric itself. It's a good idea to find a good balance between the ease of measurement of the metric and the importance/impact of that metric.
The first step in all this is to understand the variation of measurement across the various procurement value streams. By seeing how your peers as well as top performers measure procurement value, you can make a case to your stakeholders that you're measurement system is too narrow relative to the delivered value that you provide the enterprise.There's a dimension of measurement definition to this, and a dimension of process (e.g., how do realized savings get tracked to the bottom line?).
Again, it's harder than many might think. In terms of definitions, think about cost savings: old price versus new price, multiplied by volumes. But … current or future volumes? Savings horizon: one year or duration of contract? If one year, current calendar year or split across the next few years? What if there is no baseline? Do you use initial bid? Average bid? If list price exists, is it allowed? And of course, what about realized savings versus negotiated? If you negotiate a deal, and then take down the budgets, is that “closed-loop spend management”? What about if savings aren't realized because of weak compliance? Then all you've really done is “forced demand management,” which might be fine for the CFO, but not the budget holder who now sees you as a budget reducer rather than value creator.
Procurement must shift from being a perceived as a budget reducer to a partner who helps get more value out of supply markets. Of course, budget owners still need to negotiate with Finance how much budget is passed on to shareholders vs. retained/re-invested, but as long as procurement can keep adding new value streams, and then ensuring that the value metrics are defined and moving in the right direction, procurement will be well positioned within the firm.