I hope that you enjoyed the article “10 Strategic Procurement Ideas.”
The first idea was “Reduce costs in a way that enables your organization to price its products/services more competitively.”
I phrased this point in this manner because it is finally time to address some questions procurement professionals have been pondering for decades. Questions like:
- “If I buy 10,000 units of an MRO item like safety goggles and I save $1 per unit, is that less valuable than saving $1 per unit on 1,000 units of a purchased component for an item that my company manufactures?”
- “On which categories should I be focusing my procurement efforts?”
- “Does achieving procurement cost savings on direct spend matter more than procurement cost savings on indirect spend?”
Here’s the conclusive answer…
In most organizations, it is generally more important to focus your procurement efforts on direct spend than indirect spend.
A cost savings on a direct spend category is more valuable than a cost savings of equivalent value on an indirect spend category.
The reason is this: if you reduce the direct cost of a product or service that your organization sells, then you have given your organization a valuable choice:
- Pocket the additional profit and continue selling the same number of units; or
- Reduce the price to the market/customer and sell more units with the goal to achieve higher aggregate profits than selling the same number of units at a higher profit margin per unit
If your organization is able to act upon the second option, it can produce an upward spiral. It can result in gains in market share. Enough gains in market share can put competitors out of business, which will result in even more market share and profit.
While cost savings on indirect spend are certainly valuable, they don’t produce the ripple effect on profits that cost savings on direct spend do.