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In this guest blog, Procurement Leaders invites Optimum Procurement’s Gerard Chick to take a close look at the misconceptions and missed opportunities around tail spend.
As the strategic scope of procurement widens, so its value proposition is increasingly linked to pro-action and cash-flow optimisation. At the same time, many of the less strategic activities of the function are being outsourced and accordingly the quantity and quality of third-party procurement service providers is increasing and surpassing what can be achieved in-house.
A case in point is effective management of tail spend. The term tail spend is derived from the Pareto principle, which asserts in this instance, that 20% of an organisation’s’ suppliers will account for 80% of its spend. Conversely, 80% of their suppliers will account for 20% of spend. It is this ever-thinning series which figuratively draws into a long tail.
Most organisations have a reasonable handle on their cost management structures for the larger procurement activities; but tail spend is often complex and a costly challenge in businesses today, many of these purchases are too small to be handled by strategic sourcing or made too infrequently to be included in their catalogue systems - they can be anything from office refurbishment to purchasing mobile telephony.
Invariably, this ‘tail’ falls outside of the purview of managed spend. For many, the effort required to manage the tail appears to be greater than the benefits they perceive can be derived from it. For these reasons alone, organisations will not deploy their professional procurement expertise to manage the tail and this in itself is a fundamental reason as to why tail spend management should be outsourced.
Procurement in the tail is left to employees who don’t have the appropriate purchasing expertise to make them, but make them they do! Procurement leaders should not underestimate how this dilutes their professional impact within the organisation.
Typically, tail spend comprises around 10% of an organisation’s indirect procurement. So if an organisation has an indirect spend of £1bn, then the tail will be valued at £100m. It is commonly accepted too that the waste in tail spend ranges from between 15%-20%, ergo £1bn of indirect spend results in £15m - £20m wasted every year by not managing the tail.
Clearly CPOs are not irresponsible and yet many avoid focusing on their tail spend as it is deemed non-core expenditure and the benefits to be gained appear inconsequential.
Outsourcing the tail delivers the necessary scale and expertise ensuring that these anomalous purchases are handled professionally by specialists. The PSP also brings incremental category knowledge and leverages that knowledge across many clients, supporting tail spend management at a much lower cost than the client enterprises would ever achieve unaided. Compliance too is simplified when tail spend is outsourced. The PSP has a service agreement, which it must meet. If it doesn’t then they have failed.
The pressure on CPOs to reduce costs and add value will remain their fundamental deliverables. Hope is simply not enough to ensure that this significant waste will somehow evaporate. Tail spend will remain problematic because of the ‘costs vs benefits’ conundrum; and for many it will increasingly make sense to outsource the management of tail spend to PSPs who view it as a core service, delivering economies of scale and other benefits which cannot be achieved in house.
Gerard Chick is chief knowledge officer of Optimum Procurement