“Winning with procurement in Asia” with Bain and Company (part 3)

Earlier this week, we looked at the Bain and Company report on procurement in Asia – “Winning with procurement in Asia”. There’s a fair amount of space devoted to a case study of LG Electronics, makers of TVs and other consumer electronics. LG recognised some years ago that procurement costs represented over 70% of the company’s revenues, so “the only way to boost performance would be to overhaul its procurement structure”.

So the procurement function was re-organised, “into separate groups repre­senting each stage of the manufacturing process, regard­less of the product. Press, injection, electronic and circuit, cutting, and mold and die casting groups now manage spending across the companies” Basically, an organisation–wide category management structure.  No problem with that, sounds sensible.

And the results, according to Bain, were amazing.

“... the transformed organisation focused on saving $4.7 billion in direct material spending in 2008. By adding in indirect spending the following year, the company saved nearly $6 billion out of $24.8 billion in total spending.  Procurement’s impact on the bottom line is estimated at $30 billion from 2008 to 2012...”

That’s a very impressive story. A 25% saving on total third party spend just one year on from the start of the initiative! But I did a bit of research into LG’s financial results. (Note the figures are approximate and take a 1$ = 1000 Korean dollars as a rough exchange rate here).

Profits for LG did go up from 2007 to 2008 by just over one billion dollars, from around $3 billion to over $4 billion. (That’s on revenues of some  $55 billion, so margins weren’t that great). But what happened to the other $3.7 billion of procurement savings (total savings, remember, were $4.7 billion)?

But profits then dropped by over a billion dollars in 2009, back to under $3 billion -  despite the claimed $6 billion procurement savings!  And looking over the five years, the $30 billion procurement saving claimed from 2008 to 2012 is almost four times greater than the entire cumulative profit made over the that period. (LG didn’t make much profit at all in 2010 and 2011).

Now this doesn’t mean that the LG procurement function isn’t good, perhaps even excellent. Maybe all those ‘savings’ got re-invested into the business, rather than returned to shareholders as bottom line profits, although frankly it is hard to believe that $6B in a year simply disappeared into a ‘re-investment’ bucket.

Perhaps profits would be been much lower without the procurement efforts? Again, we cannot know. But they certainly don’t appear to have given LG any sort of competitive advantage either. Their share price today is some 30% lower than it was in 2008, when this procurement work started. (In February 2008 it was around 90,000 KD, now it is around 62,000 at time of writing this).

Now I’m being harsh here and really, LG might have the best procurement function in the world. But I’ve been a huge cynic about procurement savings reporting for many years, and this does nothing to change my views. I’d be delighted to have Bain take me through their savings methodology (or indeed the LG methodology) and prove me wrong, and happy to feature that here – perhaps they use Sievo software and have this really tied down. But at the moment, as Victor Meldrew would have said, “I just don’t believe it”.

Anyway, back to the start of all this of all this – do have a look at the report, focus perhaps on the findings around the Asian procurement perspective, and some of the material on diagnostics.  And to finish on a positive note, the last sentence makes absolute sense.

“...advancing to 4th generation procurement begins with a simple step: performing a basic diagnostic to learn, in important detail, where you’re starting from and what you stand to gain by taking the journey”.

 

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