We recently published an article in this magazine entitled “ Supplier Audits to Reduce Costs and Improve Compliance.”
The article encouraged organizations to audit suppliers on a periodic basis to verify compliance with price, terms surcharges, etc. While supplier audits are helpful to most organizations and often return a positive ROI, there is another source of “Cost Savings Leakage” that can have a more profound and costly effect on your bottom line than supplier overcharges – internal non-compliance.
In the exciting world of purchasing, the term “contract leakage” is often used to describe lost savings due to employee non-compliance. Lost savings can be significant to an organization. The larger you are, and the larger your spend for supplies and services, the greater the impact from this leakage and reduced profitability. Savings leakage for a good size organization can easily rise to $100K per year or more.
Not all employees like change. Not all managers like change. In fact in our experience, we tend to see more resistance to change from managers than employees as a rule. As business leaders, it is our responsibility to bring solutions and strategies to the organization that will reduce costs, improve client satisfaction, improve quality etc. and have sustainability over time. But there are times however, when some of our management and employees don’t share in those objectives and they begin to drift away from established suppliers, core products and processes that end up costing the employer significant dollars each month and annually. This non-compliance happens in every organization and the degree to which it occurs has a direct correlation to management oversight and clear expectations set by management.
- Internal non-compliance defined
Non-compliance within an organization(suppliers, supply selection, processes, etc.) can cost much more than supplier price non-compliance. The problem however is much more subtle, harder to identify, and may go unrecognized for quite some time. Internal non-compliance typically occurs when management and employees ignore the designated suppliers, processes, guidelines or procedures established by senior management.
- Types of non-compliance
- Not using the designated supplier(s)
- Not using the standardized supplies and services that were agreed upon
- Introduction of new suppliers where designated suppliers already exist
- Unauthorized personnel entering into agreements with suppliers when no authority exists
- Not using the most beneficial payment methods
- How non-compliance manifests itself (and solutions)
Management and employees may be resistant to change, overworked, or purely uncooperative in some cases. Typical justification or explanations for non-compliance within the supply base includes the following:
- Sales Rep isn’t as friendly as last one (if true, ask supplier to assign a new Sales Rep.)
- Product quality isn’t the same (if true, what failures have been realized and what cost?)
- Service levels have declined with new supplier (Ask for specifics – contact sales rep)
- The designated or “core products” are not right (Define the correct core products)
- Employee has a “relationship” with supplier (at what cost to employer?)
- Supplier had a great price on this item this month ( Cost of adding new supplier and lack of price locks could cost employer even more than short term savings).
- Examples of expense categories where this problem is prevalent
Expense categories where we see high levels on non-compliance include but are not limited to the following:
- Impact to an organization
Employers who don’t manage and intervene when these situations occur will realize higher on-going costs of supplies and services, thereby reducing profitability:
- Adding additional suppliers costs real money in back-office invoice processing, checks, etc.
- Ignoring designated suppliers can reduce cost savings for those items by up to 50%
- The use of premium vs. lower cost “core” items can cost an organization another 5% or more in supply costs – try to prevent shopping trips in catalogs and on web sites
- Failure to adhere to designated suppliers wastes all of the time spent sourcing, quoting, analyzing and recommending
- Solutions to improve internal compliance
- Management needs to set clear expectations about the use of designated suppliers and then back up those words with action
- Require management and employees to use designated suppliers
- Require designated suppliers to provide monthly or quarterly “sales reports” to see if your organization is using them according to expectations
- When complaints arise over new suppliers (and they will), require specifics, contact the supplier and bring the parties together to investigate. If employees know you will chase down the issue to resolve it, they will be less likely to conjure up weak arguments about quality, representation and service levels.
- Publish your designated supplier list monthly, reminding staff that only those designated suppliers are authorized, and introduction of new suppliers is not acceptable unless pre-approved.
- Have Controller or A/P Clerk run reports by vendor name to ensure only designated suppliers are being used and paid.
If your organization has invested time, energy and money into securing solid suppliers, competitive pricing and business terms, your leadership needs to make sure that those projected benefits are flowing to your bottom line. Savings leakage occurs in most organizations, but those with weak controls and management oversight can realize reduced cost savings and profitability by up to $100K annually.
Setting clear expectations with employees about the use of designated suppliers, where competitive pricing and terms have been negotiated, is required to realize the benefits you have come to expect. Periodic management review of supplier usage reports and internal spend information by suppliers will assist management in reducing “savings leakage” and ultimately reduce costs and improve your bottom line.