Spend Analysis, Part 1

As stated in our previous article, the importance of spend analysis to support Procurement cannot be over emphasised. At the same time, the spend analysis topic is also one of the most misunderstood among business users and Procurement alike. So the intention of this and the next few articles is to dispel some myths about spend analysis, and answer the questions that were seldom asked about the topic.

 

Spend Aggregation

The most fundamental objective of spend analytics is to create transparency on spend patterns by aggregating and reporting actual spend on several key dimensions. For direct procurement and smaller organisations, this need to aggregate spend may be lesser, as procurement and purchasing activities are usually centralised and are narrowly directed at a small pool of suppliers. But as an organisation scales up in size, the purchasing of indirect supplies is likely to be de-centralised and end-users could engage a large pool of suppliers with or without the knowledge of the Procurement function. Functional units and business users could also be buying similar or the same commodities from different suppliers, foregoing the economies of scale that could have been used as bargaining power with appointed suppliers.

 

Hence, spend analysis should aim to create transparency on the spend patterns of an organisation, and empower the Procurement function to bundle the demand of the whole organisation and establish strategies for sourcing the required commodities at market prices or better. There will be other side benefits from spend analysis, including better control of expenses, improving compliance to contract terms and reducing maverick spend.

 

Firstly, it is worthwhile to note the difference between spend and expenses. Spend is a simple aggregation of payments made to external parties, while expenses relate to the costs of running a business accounted with financial reporting rules. A more detailed explanation of this concept is in the article that defines the types of spend.

 

Example of Spend Analysis

Many Procurement organisations use the term “Spend Analysis” to denote a program of collecting, cleansing and reporting spend data. An international logistics company gave their spend analysis program the name of “Spend Cube”, and illustrated it with the following:
cube

This company went as far as stating that actual spend figures can be viewed and reported on the following dimensions:

– Business division (unit, entity, department)

– Geography (location, country, region)

– Supplier (local, parent)

– Commodity (item, sub-category, category)

– Time

 

In reality, the company’s Spend Cube program captured more than the 5 dimensions stated, and the 3D view of a cube was an over-simplification of the entire program. Another aspect which is not shown in the simple illustration is the fact that multiple management systems were feeding their data into Spend Cube for aggregation. The company deployed enterprise-level IT tools to enable and drive the Spend Cube program, processing multiple millions of data records a year. As a result, the company was able drive a strategic sourcing initiatives that delivered significant savings to the business units over the years.

 

Spend Analysis Process

The Spend Analysis program can be summarised by a single business process:
process

As with any business initiatives, the process starts with the definition of objectives of the program. Key design criteria at this definition phase should include the following:

 

  • Spend – Even though spend is defined as the payments made to external parties and suppliers, there remains more than one way of stating it relative to the organisation’s business. Details of the more common definitions of spend will be revealed in our next article.
  • Sources of data – Once the definition of spend was decided, the source of data and methods for data extraction is pretty much narrowed. Depending on the size and scale of the organisation, one or more management systems may be identified as the sources of spend data. Organisations with a significant portion of their business processes outsourced to external parties should include data records of the outsourcing partner as probable sources of spend data.
  • Granularity of spend – It is important to define the granularity required from spend data and match it to the data sources available. For example, larger organisations who operate on departmental lines may wish to have spend reported on the department level. Expecting spend data on a lower or more granular level than the department level would only complicate the program unnecessarily, as such data may not be captured in the source systems consistently. So reality checks are needed to avoid excessive demands on the spend analysis program at this definition phase.
  • Recurring cycle – Determine how often spend data is required, and balance it with the quantity of data that will be extracted and processed. Small and medium sized organisations with a fairly stable spend pattern and moderate data volume may start with a quarterly (three monthly) cycles and increase the frequency when the need arises. Large scale organisations who have fairly established Procurement function and automated processes to extract data from the source systems would typically set monthly cycles. Keep in mind that spend reporting on a real-time basis is not possible and is neither helpful to the organisation.
  • Technology enabler – As potentially large amounts of data will be processed, it is inevitable that technology is deployed to enable the program. Organisations that process upwards of a million data sets a month will likely turn to business intelligence or data warehousing technology. Smaller organisations with up to fifty thousand data sets a month may be able to use desktop database or spreadsheet applications effectively. Besides acquiring the technology in-house, the alternative Is to “buy” a solution from the market. A number of suppliers offer cost effective spend solutions that cover the extraction, validation, cleansing, aggregation and reporting of spend data on a recurring basis. As with all business programs, there are benefits and risks to building an own spend analysis program versus buying an off-the-shelve solution. Organisations who are implementing spend analysis is well advised to consider the make-buy decision diligently.

 

In the continuing article on Spend Analysis, we will examine the different types of spend and spend categorisation in more detail. Stay tuned for it.

 

Chee Kin has extensive experience in developing and implementing business strategies to transform business practices. In his career, he held responsibilities in the structuring and operation of strategic procurement in a logistics company both on the global and regional levels.

ThunderQuote is the most comprehensive business services portal in Singapore, Australia and ASEAN , where hundreds of thousands of dollars of procurement contracts are sourced every month by major companies like Singapore Press Holdings, National Trade Union Congress and more.

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