Most corporate supply chain organizations have the ability to impact 50 to 70 percent of their corporation's total cost structure. Here are best practices to translate supply chain improvements into significant corporate financial results.
When it comes to saving money from strategic sourcing, outsourcing or supply chain improvement initiatives, "perception" isn't enough. Businesses have always strived for bottom-line impact from programs like these, but for years they have struggled with quantifying savings and creating tangible corporate financial results. This is particularly evident in supply chain improvement initiatives, for which the "facilitating" department, typically supply chain, procurement or logistics organizations, do not have direct control over the budgets that are impacted by the improvements.
Denali Consulting recently conducted research to identify common enabling practices that differentiated companies that have successfully quantified and driven strategic supply chain improvement savings to their corporation's bottom line from those companies that were not successful.
The research included an analysis of best practices from the past 10 years over dozens of companies and various industries. Denali found that those companies that were successful at translating supply chain improvements into significant, tangible corporate financial results consistently applied most of the following practices:
1. Use of a single, consistent and formal savings tracking methodology, based on total cost of ownership (TCO).
2. Formation of a cross-functional financial steering group comprised of financial representatives from impacted organizations that review, approve and make budgetary reductions for all supply chain improvement initiatives.
3. Expansion of the roles of strategic sourcing and supply chain improvement project teams beyond an analysis and recommendation role into implementation responsibilities.
4. Utilization of broad unit-based cost metrics, balanced by service and quality metrics, to track savings at the spend category and initiative level.
5. Linkage of savings realization targets to supply chain departmental goals and personal development plans.
Best Practice No. 1: Use of a Consistent, Formal Savings Tracking Methodology, Based on Total Cost of Ownership
One of the most visible differentiators that Denali found between companies that are successful at realizing supply chain savings and those that are not is the use of a formal process for quantifying total supply chain costs, which is then used to create detailed savings estimates by spend category, supply chain initiative and impacted department.
There are many types of models used, but they all have the following characteristics:
* Each is based on TCO, and most use some type of activity-based costing approach to quantify the total cost of ownership for a specific spend category or business process.
* Successful companies consistently use one common approach for modeling total cost savings, regardless of the type of initiative (strategic sourcing teams, logistics redesign teams, procurement redesign teams). Unsuccessful companies have a very inconsistent approach to quantifying savings, resulting in low organizational credibility and buy-in.
* Savings models clearly differentiate between "soft" savings and "hard" savings. Generally, soft savings are defined as those which result in productivity improvements, but are not significant enough to be able to translate into direct budgetary reductions, while hard savings have direct budgetary impacts.
Best Practice No. 2: Use of a cross functional financial steering group comprised of financial representatives that reviews, approves and makes budgetary reductions for all supply chain improvement initiatives
Most companies reviewed have a senior cross-functional steering group that is responsible for approving strategic sourcing or supply chain improvement recommendations and providing overall organizational support, but few companies utilize an additional financial steering group that focuses specifically on approving savings and making budgetary reductions.
Denali found that utilizing this auxiliary financial steering group dramatically improves companies' success in driving savings to their corporation's bottom line. Most senior steering councils are comprised of senior vice presidents, whose support is the cornerstone of a successful strategic sourcing or supply chain improvement program. But these senior representatives typically do not have the time or interest in understanding the financial details of the teams' recommendations.
The auxiliary financial steering groups are typically comprised of finance managers that have budget responsibility for each impacted organization, and have the skills and interest to review the details of each team's recommendation, the total cost models used for the basis of savings estimation and the specific budgetary areas impacted. This secondary oversight group adds significant credibility to strategic sourcing and supply chain improvement initiatives, and creates the "missing link" in translating reported savings to specific corporate budgetary actions.
Best Practice No. 3: Expansion of the roles of strategic sourcing and supply chain improvement project teams beyond an analysis and recommendation role and into implementation responsibilities
One of the most common failures confessed by those companies that are not successful at realizing supply chain cost savings is the adoption of a project-based approach in which the strategic sourcing or supply chain improvement "project" ends with a formal recommendation to senior management.
Successful companies are able to expand the use of strategic sourcing and other strategic supply chain initiatives into a "way of doing business" in which the teams that conduct the analysis and make the initial recommendations are also responsible for implementing, tracking and managing the improvements.
This approach creates several benefits:
* It causes the teams to be more realistic in developing recommendations and quantifying savings, since they are going to be held accountable for implementing their recommendations.
* It provides a seamless transfer of skills and knowledge from the analysis and strategy phase of a project into the implementation phase.
* Appropriate resources are dedicated to the implementation phase a phase that is traditionally under-resourced for many corporate improvement initiatives.
* This approach helps to institutionalize the types of initiatives that are being addressed into a normal way of doing business.
Best Practice No. 4: Utilization of broad unit-based cost metrics, balanced by service and quality metrics, to track savings at the spend category and initiative level
One approach that many companies use to drive savings to the corporate bottom line is to reduce budgets once the financial steering group approves them. While this approach is highly effective in ensuring that estimated savings results in improved corporate financial performance, as well as creates a significant incentive for organizations to implement supply chain improvements, it is also important to be able to track the actual realization of savings from supply chain improvement initiatives.
Most companies acknowledge that while the total cost modeling approach is a valuable tool for understanding total cost of ownership, driving the appropriate behavior in expanding supply chain improvement efforts beyond price, and identifying savings at very detailed levels, it is not easily updated on a frequent (weekly or monthly) basis.
The most advanced companies utilize unit-based cost metrics to track cost performance on a frequent basis, usually weekly or monthly. These metrics are often automated and create a simple and often visual way to track cost progress. They are typically balanced by service and quality metrics to ensure that teams are not singularly focused on cost, and to ensure that quality or service are not negatively impacted by cost reduction efforts.
The unit-based approach (e.g. cost per person, per unit of length, per weight, per unit of output, etc.) is useful for creating a usage independent benchmark that can clearly show progress over time, as well as for comparing performance to other companies or industries. The more complex cost models are typically updated on an annual or semi-annual basis, and are used for identifying future continuous improvement opportunities.
Best Practice No. 5: Linkage of savings realization targets to supply chain departmental goals and personal development plans
In order to institutionalize strategic supply chain initiatives, the most successful companies are able to create a direct linkage between corporate goals and objectives to supply chain departmental goals and objectives down to the personal goals and objectives (and development plans) for supply chain employees. The savings identified from strategic sourcing and other strategic supply chain initiatives are almost always clearly linked, either as specific objectives at the corporate or supply chain department level, or as key planks that are enablers of the corporate and supply chain cost objectives.
The most progressive companies expanded the inclusion of savings into personal development plans for not only supply chain employees, but additionally for selected business unit (client) employees. Inclusion of savings targets in individual performance plans and objectives is the final key to creating incentives for driving savings to corporate financial results.
Conclusion
Improving corporate financial performance is certainly not the only strategic role for supply chain organizations, but it is inarguably a very important one. Most corporate supply chain organizations have the ability to impact 50 to 70 percent of their corporation's total cost structure, so creating a model that can optimize this lever is critical to any supply chain organization's success. Furthermore, the ability to track savings directly to organizations' budgets ensures the ongoing success of supply chain management initiatives.
About the Author:
John Evans is a founding partner of Denali Consulting, a U.S.-based supply chain management consultancy. John can be reached at [email protected].
