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Organisations everywhere look to procurement in order to save money. But there is more that procurement can do than simply try to put an even tighter squeeze on suppliers’ prices. For one thing, don’t underestimate the value of great paperwork. Once the contract has been agreed, good contract management provides the necessary transparency to ensure not only that savings are achieved but that promised performance levels are delivered.
Virtually every procurement function is under pressure these days. In UK local government, the situation became particularly urgent in 2010 when the central government announced funding cuts of 33% to be brought in over the following five years. With the councils duty-bound to provide certain services to local residents, they became desperate for savings.
One membership group, the Local Government Association (LGA), noted that almost £30bn was being spent on third-party contracts. Its research, published in 2013, showed that better management of these contracts could save local authorities between 3% and 15% of the contract value.
Rob Woodstock, Accenture managing director, operations strategy for UK and Ireland, says the same lesson is true for all organisations. And while procurement has been successful in creating savings during sourcing and tendering, better management of contracts represents an untapped opportunity to improve performance.
“Contract management is critical in the procurement landscape,” he says. “As procurement matures, it is harder to achieve high-impact savings based on tendering. Businesses are now looking at alternative ways to find savings,” Woodstock says.
A holistic approach to contract management can improve collaboration between the procurement, finance, legal and even sales teams, which helps shorten time-to-value, accelerate contract cycles and identify new revenue opportunities.
As the LGA report makes clear, good contract management is about more than ensuring suppliers meet their contractual obligations. It can help to identify and manage their own and their suppliers’ risks, and achieve savings and continuous improvement throughout the life of the contract. It can also identify efficiencies, avoid unnecessary costs, enforce penalty clauses and share additional income from growth.
Fragmented, dispersed, complex
Woodstock says, however, that procurement’s approach to contract management is often fragmented. Contracts are dispersed throughout the organisation, stored in various departmental databases, thereby creating unnecessary complexity. Procurement cannot manage what it cannot even find.
“There is, generally, visibility of contracts [that have been] negotiated centrally by procurement, but many are negotiated and concluded in the business locally. There may have been legal oversight, but no procurement involvement. This creates a mixed picture in terms of visibility,” he says.
Trying to get to the bottom of this is difficult, complicated and expensive. “In contract management, there is a lack of automation and overreliance on manual processes. Procurement spends more time on administration than it ought to, and less on creating value,” Woodstock says.
This fragmented, complex picture of contract management can mean organisations miss opportunities to save money and face increased legal risks, Woodstock says. It also leads to difficulties understanding the pricing schedules across multiple contracts. “Even for those that are available, a large number are out of date,” he says, adding that there is often no visibility as to when contracts come up for renewal.
This means there is a large opportunity for savings through more simplified, efficient contract management. It can improve compliance of spending through the contract, ensure the business is on the right pricing schedule and monitor supplier performance to make sure it is in line with key performance indicators. Organisations targeting, say, 8% savings across procurement activity could see a two-point uplift through better contract management, Woodstock says. Conversely, poor contract management could drag performance two points short of target.
“As well as savings, businesses are looking to procurement for growth,” he says. “Innovation and supply chain support for growth means dealing with different types of suppliers, leading to different types of contracts, so procurement needs to be fast and agile in the way it finds [its] contracts [and manages them].”
At the same time, there are increasing pressures to better manage risk, both in terms of financial exposure and regulatory requirements, he adds.
Tools for new and current contracts
Woodstock identifies two approaches to simplifying contract management.
The first is to exploit contract-authoring tools, which standardise the way contracts are built. Such tools ensure agreements employ the right terms, use standardised terms and that they adhere to the correct governance rules. They can also build clear, coherent relationships between ‘parent and child’ contracts, where terms and conditions flow logically from main contractor to subcontractor, or from framework agreements to specific deals.
The second approach concerns contracts already in play. Software tools can now flow contract terms directly into the procure-to-pay process, so pricing and terms are pushed automatically from sourcing to requisitioning. These can be deployed in the cloud as easily as in-house, Woodstock says. “As well as storing contracts, they aid analytics and create alerts, to help pick up missing links between price breaks and transactions,” he adds.
Some industries have very mixed capability in these approaches. In the media industry, for example, there are mature systems for the management and collection of content royalties.
In construction and infrastructure, the industry tends to be good in direct procurement where there is a long-standing approach to contract authoring and management, says Andy Haworth, a procurement consultant specialising in this field.
“In our industry, there are tight margins on large volumes, so people pay a lot of attention to contract management. They focus on money issues: if something is not delivered on time, you can make a claim in the contract.
“Construction contracts are quite complex. We flow down certain requirements from main contractor to subcontractors, so everyone has a standardised model,” says Haworth, whose career includes senior procurement roles at construction firm Balfour Beatty and project managers Amec. These activities are supported by widely-used contract management tools, he says.
However, it has been quite a different story for the construction sector’s indirect spend categories such as security, cleaning or IT, where there has traditionally been a more fragmented approach to contracts, driving up complexity.
“It is only more recently that these categories have become well managed,” Haworth says. “There is growing recognition of the benefit we can get out of indirect contract management. It comes straight to the bottom line – not out of cost of sales – so through the downturn many organisations focused more on managing contracts for indirect categories to reduce their own costs.”
Money on the table
Since the recession, however, companies have been working at reducing the number of contracts in these spend areas through category management and to manage each one better, Haworth says.
Michael Koch, director of solutions marketing at procurement technology supplier Ariba, says that, without systems that simplify contract management, there is a real risk of leaving money on the table. “The technology provides a central repository that allows visibility and reporting. You can see how many contracts are coming up for renewal, what their financial terms are and the volumes of the contract.” It also provides the foundation for better supplier relationship management, he adds.
But when the business tries to implement a contract management initiative, it can struggle to find volunteers, Koch says. “It is not the most glamorous job. It is cumbersome and labour-intensive and people shy away from it. But in reality you could save millions.”
The legal department can become a key ally in driving a contract management project through the business, he says. Contracts are a leading cause of corporate litigation which creates significant risks and costs to the business, so the legal department will be keen to get on board with such a project.
More generally, however, as Koch points out, the problem with implementing a contract management project is resources. “It could take one or two people three months to a couple of years, depending on the size of the organisation. It could be part-time, but it needs to be focused,” Koch says.
And with potential benefits that include cash savings, improved transparency, reduced risk, better supplier performance and even additional revenue, contract management can’t be sidelined. The tools for the job are available; it is up to businesses to learn how to use them.
This article has been written by an experienced journalist, commissioned by Procurement Leaders. It is part of a sponsored editorial product, published in partnership with SAP Ariba.