How to reduce costs by 37% through transfer of procurement to outsourcing

Anton Trunin, Head of Procurement for the Russia and Eastern Europe Autoglass department of JSC “AGC Glass Russia” plant in Bor city, shared his experience of cutting spend through outsourcing in procurement.

In 2013, I worked as a project manager and concurrently as a chairman of the Corporate Tender Panel in AGC Flat Glass Klin, where among other responsibilities, I was in charge of managing all procurement expenditure, including within the IT, marketing and administrative departments. The procurement department dealt with industrial category contracts, while vendor selection and contract negotiation for non-core supply contracts was carried out by internal business functions.

For example, the administrative department negotiated with mobile service providers and travel agencies, while the responsibility for selection of a fixed telephony and data services vendor was assigned to the IT department.

Purchases took place as per company procedure, justifications for the vendor choice at the tender panel sounded reasonable, and the vendor proposed by the functional division (at that time, the procurement department didn’t cover indirect procurement areas) operated seamlessly. However, we weren’t confident as to the fairness of prices, nor did any opportunity arise to be convinced otherwise. When all’s said and done, this is the IT department, with its own specifics, and so many pitfalls.

What if something were to break down, and end up halting all the operations supposing there was a change in supplier? Better to let the service be delivered by a reliable current partner, especially since he fully satisfies the functional unit’s requirements. A procurement department, meanwhile, will focus on optimizing the costs of primary raw materials… Sounds familiar, doesn’t it?

Perhaps, I wouldn’t have had the opportunity to share with you a business case of indirect procurement, if there were no challenging market conditions. Expecting a crisis to unfold, management was willing to reduce procurement costs without compromising production.

Targets of the sourcing project

One of the options to reduce costs was a proposal by a PrECA company specializing in procurement outsourcing. They promised to reduce our expenses for mobile communications by 20%. The project work terms and conditions seemed attractive to us: a service payment option based on a positive ROI set positive expectations for results. The possibility to agree upon the outcomes of services rendered and step-by-step confirmation of further actions reduced any risks. On the other hand, we were afraid of letting a third-party company take over procurement:  this still isn’t all that common practice in Russia.  What if our procurement data is revealed to other companies? And, what if the service provider ends up doing a shoddy job and production stops as a result of his actions? It’s also uncertain, how vendors would react, when instead of an in-house procurement department, a third-party company dealt with them on our behalf.

However, similar projects already implemented in indirect categories of the large companies spoke in favour of the outsourcing company. So, after long discussions and upon finally obtaining management approval, we decided to launch a pilot project; we signed a contract taking into account business and operational risks and started working together.

We set out cost savings and higher service quality as the project targets:

  1. Cost reduction per mobile communications category by 20%;
  2. Improving payment conditions;
  3. Improving operator service;
  4. Reducing paper trails;
  5. Additional business options for subscribers.

Looking ahead, I can tell you that we were able to achieve all of the targets without there being any risk whatsoever to the business.

Project timeline

We discussed the project timeline which helped us to achieve savings on tariffs already within four months. The project was divided into four main blocks:

  1. Cost and current tariff analysis – 1 month.
  2. Collection of alternative proposals and benchmarking – 1 month.
  3. Negotiations with suppliers – 1 month.
  4. Signing the contract and introducing new tariffs – 1 month.

To begin with, the staff of the partner-company analysed the consumption of services over the past 12 months. Benchmarking with peers showed that our costs were higher than the market average. Then the procurement experts came up with the tariff plans required by AGC, negotiated with the major telecom operators, identified obsolete services, set up a reporting system from the service provider and came up with a savings algorithm using macros.

Strategic sourcing: more than savings

We’ve applied a strategic sourcing approach, in which the mobile communication category was assessed comprehensively – not only in terms of direct costs but also in terms of subscriber support, document flow and quality of service. There was, however, a risk that our staff would be opposed to the new tariffs. But we had notified all the company’s employees in advance of the scheduled changes and convinced them that the quality and the extent of connection available would not be affected.

As a result, we saved 37% on mobile communication operating costs. The included minutes and traffic package was increased by using packaged deals, the quality of service improved thanks to SLA and a dedicated service manager who promptly solved the issues relating to service connection and communication quality, and payment terms were also extended from 10 to 30 days. Meanwhile, we were still served by the same mobile provider, thus avoiding the risks entailed through moving from operator to operator.

The company’s management appreciated the approach of the experts employed and the results achieved, so we went on to work with the partner on optimizing costs in the other categories, such as third party labor, business travels, safety equipment and clothes, office supplies and fixed phone lines.

Savings as a result of optimizing the costs for each of the categories ranged from 5% to 25% depending on the project. Bear in mind these figures that reflect actual monetary savings only, confirmed by the finance department and entered in P&L, and do not include labour savings on staff, who before were performing these responsibilities outside of the realms of their own job roles.

The right outsourcing for Russian companies

The practice of procurement outsourcing is well established in Western countries, so our international office is in partnership with one of the global market players in procurement outsourcing. With all their merits, it’s worth pointing out the difference in the approaches to sharing responsibility with the client and formulation of service costs. For example, global companies’ services are rewarded in terms of the labour cost of the experts involved, and their business hours are costly. Furthermore, these costs are calculated in hard currency. In addition, global players do not monitor the impact of their activities and do not work flexibly enough; moreover, they adhere to their own rules and methodology.

In our case in particular, we linked remuneration in major part to the actual results achieved. In addition, the outsourcer committed himself to calculating the savings achieved over 12 months to monitor the validity of supplier’s invoices and their compliance with the signed contract, as well as to participate in negotiations with the supplier in the event of a breach of his obligations. This was a significant support for us.

To be objective, I would mention some downsides in working with a local player.

First, Russian experts in procurement do not have a powerful corporate brand and cannot boast a large number of major international companies within their client portfolio.

Second, they operate only in Russia and CIS countries.

Finally, in contrast to the global providers of similar services, their methodology is not worked out to the last detail, and a number of issues therefore have to be negotiated not at the project start, but over the course of their implementation.

I would also note that outsourcing does not mean an entire process transfer to a third party. The company’s management somehow has to be involved in the process, and time must be spent on it. For example, as a project manager from the AGC side, I participated in the strategic negotiations and in approving the criteria, based on which we evaluated the achieved results. In addition, the project leader has to be involved when introducing new suppliers, business terms or new models of service delivery. Otherwise, this can lead to resistance within the company – something the external experts alone will not be able to confront.

Brief guide to optimization

For companies that want to optimize costs, as a first step I would recommend assessing internal potential. For example, start with setting goals for procurement functions to cover non-manufacturing categories, the introduction of procurement procedures and creation of a competitive environment in indirect procurement. If you do not have expertise in strategic sourcing or in specific categories, then it makes sense to look for external experts.

When evaluating the outsourcing company, it’s important to be in line with the future partner in approaches to business and cooperation with suppliers. It is no less important that the outsourcing professionals’ methods fit your business. Try to find out whether they have carried out similar projects in similar-sized companies, what way in particular they had been implemented, and some of the results yielded. It is desirable to obtain independent feedback from the customers themselves.

If, in the end, you decide to work together, to start with, conduct a small pilot project to see how you can team up and cooperate in major cost categories. If the project was successful, make a plan to optimize costs for each category for the next 12 months. I strongly recommend that no more than three or four projects be implemented at the same time, since the company cannot cope with the scale of changes. And experts will have to work in emergency mode: the more projects there are, the more resources they will have to involve, which may affect their performance and final results.

I hope professionals will find reading about our experience in strategic sourcing useful for their own practices. If you have any further questions on how we’ve optimized procurement expenditures, don’t hesitate to get in touch. I’d be happy to offer advice and recommendations.

 

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