(This is the first in our series of articles about the role, aims, objectives and priorities of CPOs and other senior procurement professionals).
One of the paradoxes of procurement is that it is clearly so important to the success of most organisations, yet it is so hard to measure exactly what contribution it is making. Every procurement consultant or senior executive can wheel out an analysis that shows taking 10% out of the cost base, through effective procurement, will make more difference to bottom line profit than a 20 or even 30% sales growth.
So the theoretical benefits of procurement are clear, but actually measuring whether that effectiveness is being delivered is an altogether more difficult task.
Finance can be measured by the lack of audit issues; by tax management data; cash flow, working capital ratios and so on; bad debt percentages; all are pretty tangible. Marketing are measured by market share, brand awareness or growth; again very easily tracked and measured. Sales has very obvious measures of success (or failure!) Even HR, which at first sight seems a tougher nut to crack, has factual measures such as staff turnover, or surveyed satisfaction metrics.
But what are the equivalents for procurement? We would argue that, of all the business functions, procurement is the most challenging in terms of developing meaningful performance measures.
That’s both a positive and a negative for procurement practitioners and the entire profession. On the positive side, it is not too hard to appear successful, and to come up with metrics that make you and the function look good. On the negative, that means poor performers are not always easily spotted, and it also leads to issues of functional credibility. If the CEO isn’t sure what the procurement function is really delivering, or doesn’t believe the savings numbers being presented, there is less chance of major investment in the function, or perhaps of the CPO being promoted to the main board.
So we would argue that coming up with appropriate performance measures is in everyone’s long term interest (other than the incompetent members of our profession)! What might those measures be – and how do they compare with how most senior procurement executives are currently measured?
The vast majority of functional leaders - CPOs and similar - will have some sort of savings target. That may well form part of their overall functional/departmental target or KPIs, and will also be one element of their personal set of objectives. It seems reasonable for most organisations that “savings” should be on the list of objectives – managing the cost base is a pretty fundamental role for the function.
However, how well “savings” can be measured though is a very different issue (and one we’ll return to at a later date). For now, let’s just say that in many organisations, the savings measurement is virtually meaningless given the lack of rigour around baselining, defining a “saving”, understanding the difference between cashable and non-cashable savings...and so on.
Below the CPO, inclusion of a savings target for individuals will usually depend on their role. A category manager or similar may well have a savings target, while it may not be an appropriate measure for someone who leads large one-off projects, where a baseline is almost impossible to define.
If anything, we perceive CPOs becoming more wary of savings targets at individual level. Procurement is usually a team effort, and even a category manager may rely on a colleague who perhaps can help them engage with key stakeholders or budget holders in that category area. So how do we define who is responsible for the ultimate savings? There is a danger of getting into perverse incentives territory, where colleagues will not co-operate because of ownership of savings and bonus structures – the same issues have been faced, of course, by sales organisations for many years.
One myth is that CPOs or other senior procurement staff get a cut of the savings. We’ve seen suppliers explaining to their bosses why they didn’t win a contract by claiming, “the procurement director was only motivated by low price – he gets a percentage of the saving as his bonus”!
If only that were so – I would be writing this from my chalet in Zermatt rather than at the keyboard in Surrey. We have never seen a fellow professional rewarded in this manner. Salespeople might also be surprised at the level of bonuses generally in procurement: while a top salesperson can double their basic salary with bonus, that doesn’t happen in procurement. 10-20% potential is far more likely, perhaps a little more for a CPO in a large organisation.
So a typical CPO bonus structure might look something like this.
Total bonus potential: 20-30%
- A third of that linked to overall company performance – hitting targets for profit, return on assets (in line with other senior executives)
- A third linked to hitting a savings target; perhaps 3-5% of spend under management.
- A third linked to a set of other objectives.
We’ll come back in Part 2 to what those other objectives might typically look like.