We are fresh out of the shopping, I mean holiday, season. Before, during, after the holidays – the sales/"savings" never end… or at least that is what we are told. You know how the commercials go, “The more you spend, the more you save!” This is “spaving.”
Yes, as procurement savvy professionals, we scoff at it. We know that a cotton t-shirt that “retails for $299” that sells for $9 might mean a “savings” of $290, but that is meaningless, right? This is why we’re comfortable not getting hard savings credit for savings off a meaningless list price, although we’d like some credit for driving savings after an initial competitive bid (or average bid).
But how about the volume affect? Buying in bulk leads to lower unit prices, so it’s a no brainer, right? Well, there clearly are “lot”/bulk level costs that get spread over the consumed units. It’s the same economic argument as the lot sizing production/inventory problem. But what about those volume discounts? Are they warranted? Well, if you are very savvy procurement professional, you have a good sense of the suppliers’ fixed versus variable cost structures and can see where the true economies of scale exist from a cost standpoint. So, problem solved.
Yet what about the glass being half full? What about the mental accounting of savings as beneficial? What about when we put those benefits in a separate bucket of value. In the consumer world, people love rewards programs and “cash back.” The hangover from the spending and the money being gone is mitigated when we have a little “house money” in the kitty to reward us for being so wasteful in the first place. Such dysfunctional mental accounting is not a new idea and is discussed in behavioral economics (e.g., you can read about this in an academic paper here).
But, procurement professionals are immune to this, right?
Maybe. Or maybe not. Even if you strip out non-justifiable volume discounts, negotiate down rebates (e.g., p-cards) and forego GPOs because of “moral high ground” (i.e., which is misguided in our opinion if the GPO is indeed getting you a better deal than you could get on your own), the effect of “spaving” still looms over procurement with the perverse effects it has based on typical procurement metrics.
Most procurement groups get credit for cost reductions that result from of price savings (usually a year’s worth rather than contract duration because of the annual budgeting process and an inability to efficiently manage multi-year savings accrual beyond spreadsheet hell) multiplied by volume. The greater the spend volume, the greater the savings that procurement gets credit for. Spaving is indeed alive and well!
But, what if we only spent what we truly needed? What if we reduced consumption that didn’t impact customer value? What if we avoided the costs in the first place? Well, most procurement groups don’t get real, hard credit (i.e., the kind that impacts bonuses) for cost avoidance, which is unfortunate because spend completely avoided is in essence a 100% savings. We discussed this in depth here and here.
It’s funny (sad, really) that quite often the designer of this scorecard, finance, also runs an annual use-it-or-lose-it spending process called budgeting that creates an incentive for spending (and spaving) all the budgeted money rather than creating incentives to save money via avoidance (rather than spaving) that could then be re-allocated to potential high-impact/high-ROI projects (or passed on to employees and/or shareholders).
So, spaving almost always exists in the enterprise, and it’s just important to recognize it and try to get some consensus on how best to deal with it. As a side note, the issue of misaligned metrics, and performance management more broadly, is a massive topic. If you want to take a closer look at it to help you unwind some of the dysfunction, then do check out our webcast here on the topic. You only need to be a Plus+ member to view these webcasts, so if you do have some unused budget, then, ahem, we do offer multi-user spaving opportunities, and single-user Plus+ access is definitely under priced (IMHO) at less than $20.
Don’t get me wrong, if you really need something, then of course pull out the full arsenal of sourcing practices. And in a business context, you can’t “save your way to zero,” nor would you want to. It’s often very important to spend more, especially when that spend is indeed truly an investment, as my colleague Peter Smith points out here and here.
But if you’re taking solace in your spending vis-à-vis your saving, then you should be self-aware of it, and perhaps it’ll make you think whether you need to spend, and spave, in the first place!