Spend Analysis to Manage Supplier Risk

Most procurement executives that do not use spend analysis tools today, sort their suppliers only by approximate spend with their companies. They focus their attention on the top 20% of suppliers that make up 80% of the spend. The policy is not altogether incorrect but as the presseure these days on the whole supply chain to improve the efficiency and reduce the costs, it becomes imperative to look at each and every supplier. Additionally, low-spend suppliers can also be a source of significant risk. For example, a cheap part in an expensive engine can cause the engine to fail. Data theft enabled by the poor security practices of a small IT provider can cause irreparable damage to a retailer's brand, and lead to lawsuits. Using spend analysis, procurement organizations can find the low-spend suppliers that pose risks like this.
This post, though, will not talk about the technical failures due to parts supplied by low spend suppliers so let me come ot the main topic of spend analysis need in terms of supplier risk and the challenges in it. We already use spend analysis to minimise risks in the supply chain (by taking informed decisions with the help of spend analytics data) and to reduce the cost of procurement, but there's no measurable return from a supplier risk management initiative until the risk materializes and you can quantify the avoided loss. Until then, it's only possible to estimate the impact using a metric that takes the probability of the risk and the expected magnitude of the loss. In any event, even the most successful risk management programs cannot eliminate the risk, they can only reduce its impact and spend analysis can help in this endeavor. In addition of determining the supply chain risk, the information it provides can help procurement executives categorize suppliers by spend, commodity, industry and geography, which they can use to create a short list of target suppliers. It allows the procurement organization to enrich the supplier information with data from external sources and internal supplier performance metrics, so that they can perform a risk assessment of that short list. Investment in spend analysis is the starting point to a comprehensive supply risk management initiative.
Spend analysis gives procurement executives answers to such questions so they can prioritize which suppliers to focus on, as well as identify opportunities for cost reduction such as rationalizing supply base, increasing contract compliance and reducing maverick spending.
The major challenges that a spend analysis exectutiove will face are:
  • Spend data sits within multiple systems that need to be aggregated in order to get visibility into overall spend
  • Different codes are often used to describe the same supplier or commodity across these systems. Aggregated spend information from multiple systems may not be accurate.
  • Item codes used by systems do not relate an item to an industry standard classification. Consequently, it becomes difficult to aggregate similar and equivalent data and identify opportunities to save money by combining spend across commodities, locations, suppliers and programs
  • Systems rarely identify relationships between suppliers. Your system may not tell you that Lab Safety Inc. is a subsidiary of WW Grainger. You may be spending a lot more money with WW Grainger than you thought
  • Minority status of suppliers, shipment performance and quality data from last 12 months or even D&B credit rating usually does not exist within these systems. Such information is critical to assessing risk

Due to these issues, it is impossible to do a comprehensive spend analysis simply by bringing data from all the systems into a spreadsheet or a business intelligence system. The data has to be cleansed to remove errors, normalized to ensure that suppliers are represented in a consistent manner, and finally enriched with commodity classification data, subsidiary relationships and supplier performance data. Only then can the data analysis be performed to get a picture of the overall spend.

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