CPO Holy Grail Addressable Spend

By Eugene Fernandez SCMP, CPSM, CPM, CPP, P.Log, PMP

(Presentation at SIG Symposium June 9 2014, Toronto)

V1.2

What will we accomplish?

•  What is Addressable Spend •  Why is Addressable Spend Important •  Does type of Procurement Organization impact

Addressable Spend •  How higher Addressable Spend considerably increases

Net Profit – ‘All spend is Addressable’ •  Case Studies of non-traditional spend Categories that

increase Addressable Spend – ‘Seeing the Invisible’ •  CPO Holy Grail is increasing Addressable Spend to sit at

CEO table •  Q&A

What is Addressable Spend

•  The spend value (in billions/millions) that Procurement/Supply Chain CPOs/CSCOs claim is in their domain of control

(Example: $10 billion Revenue company has Addressable Spend say $6 billion)

•  Procurement/Supply Chain function effectiveness is often measured as a percentage of savings of Addressable Spend value achieved every year

(Example: Savings 5% per year of Addressable Spend = $300 million per year -- 5% of $6 billion Addressable Spend)

Why is Addressable Spend Important •  Addressable Spend could also be stated as a

percentage of Revenue ($6 billion = 60% of Revenue)

•  Larger the Addressable Spend as percentage of Revenue, means more spend effectively managed by Procurement and consequently larger savings

•  The larger savings can increase Net Profit before Tax by 27% to 62%.

•  The size of Addressable Spend as a percentage of Revenue, may depend on: a) Type of Procurement Organization b) Maturity of Procurement Transformation c) Type of Industry – Telecom, Bank, Insurance, Retail, Automotive,

Manufacturing, Public Sector, etc.

Type of Procurement Organizations •  Decentralized – Procurement negotiation and contracting handled

independently by employees in Departments/Business Units

•  Centre-Led - Procurement negotiation and contracting handled by employees in Departments/Business Units with some support from a central place

•  Centralized – Procurement aggregates spend, negotiates and contracts with full support of Departments/Business Units, often with decentralized executions of transactions. (CPO may be at CEO table)

•  Orchestrated – Procurement and Business Units fully aligned to the objective of Sales Growth, Vendor Innovation first, Risk Reduction, and Spend Savings. So Corporate and Business Unit Strategies and decisions are evaluated and roadmap set by both Procurement and Departments/Business Units from the start. (CPO is at CEO table)

What is the current type of your Procurement Organization? (Show of hands)

•  A) Decentralized (Procurement handled mostly by other Departments/Business units) ( ?)

•  B) Centre-Led (Procurement handled with some central support) (?) •  C) Centralized (Centralized Procurement with some decentralized transactions – PO, etc.)

(?)

•  D) Orchestrated (Procurement and Business Units fully aligned and determine business

strategy, decisions, and roadmap together from start) (?)

Current type of your Procurement Organizations in Canada (Results from small survey in Canada - Q1 2014)

•  A) Decentralized (Procurement handled mostly by other Departments/Business units) (25%)

•  B) Centre-Led (Procurement handled with some central support) (25% - Most report to CFO/COO) •  C) Centralized (Centralized Procurement with some decentralized transactions – PO, etc.)

(25% – Most report to CFO/COO - Many in Public Sector)

•  D) Orchestrated (Procurement and Business Units fully aligned and determine business

strategy, decisions roadmap together from start) (3% - Report to CEO) •  No response - Balance (22%)

Addressable Spend percentage may also be linked to the starting year of Procurement

Transformation The percentage of Addressable spend of Revenue may also be related to the decade (or

year) in which Procurement Transformation (Spend Analysis, Strategic Sourcing, etc.) started/will start, in the Canadian organization.

It now reflects the maturity of Procurement Transformation after so many years.

When did Procurement Transformation start in your Organization? (Show of hands)

•  A) 1990 to 1999 (or earlier) (?)

•  B) 2000 to 2009 (?)

•  C) 2010 to 2014 (?)

•  D) Not started / Do not know (?)

Procurement Transformation start in Canada

(Results from survey in Canada in Q1 2014)

•  A) 1990 to 1999 (or earlier) (0% – Perhaps 0% as none were from Retail,

Electronics, or Automotive Industry which have mature Procurement Organizations and had started Procurement Transformation in that time frame)

•  B) 2000 to 2009 (11%)

•  C) 2010 to 2014 (22% - A number of organizations in Canada have just started Procurement Transformation in last 4 years)

•  D) Not started / Do not know (67% – Canada is several years behind US in Procurement Transformation and most organizations have yet to start it, to realize 10% to 15% savings per year)

Spend Categories commonly included in Addressable Spend by most Procurement

Organizations

•  Direct Spend Raw Materials, Parts, Equipment, Metals, Services, etc. •  Indirect Spend

MRO, Office Supplies, Equipment, Outsourcing (IT, Contact Centre, Logistics, etc.), Energy, Contract/ Temporary Labor, Travel & Expenses, Network/Telecom, Packaging, Furniture & Fixtures, Facilities, etc.

Additional Spend Categories included as Addressable Spend in ‘leading’ Procurement

Organizations •  Direct Spend

Commodities (with Spot Buying/Hedging), etc. •  Indirect Spend

MARCOM (Marketing, Advertising and Communication), Legal Services, HR Services, Benefits, Meetings, Professional Services, Real Estate, etc.

Current Addressable Spend in Telecom in Canada

Current Addressable Spend (50% of Revenue)

% of Revenue

% Increase in Net Profit

Revenue 100.0%Operating Expenses 61.9%EBITDA 38.1%i) Depreciation & Amortization 16.3%ii) Interest 3.4%Net Profit before tax 18.4% 0%Traditional Addressable Spend a) Direct Spend 40.0%d) Indirect Spend 10.0%Total Traditional Addressable Spend = ( c ) 50.0%Targeted Savings per year Savings %Decentralized Procurement* 4% 2.0% 11%Centre-Led Procurement* 6% 3.0% 16%Centralized Procurement 10% 5.0% 27%

Actual Addressable Spend c) Traditional Addressable Spend above 50.0%d) Salaries, Wages & Benefits (SG&A) 19.8%e) Depreciation 16.3%f) Interest 3.4%h) Salaries & Wages included in Direct Spend -7.9%Total Addressable Spend (Revenue - Net Profit) 81.6%Targeted Savings per year** Savings %Decentralized Procurement* 4% 3.3% 18%Centre-Led Procurement* 6% 4.9% 27%Centralized Procurement 10% 8.2% 44%Orchestrated Procurement 14% 11.4% 62%

Telecommunication Canada (Rogers-Bell-TELUS)

Canada Telecom - Impact of increasing Addressable Spend - Net Profit increase up to 62%

* Give away at Contract Management by Business Unit of 2% to 3 % included ** Savings % could be slightly lower as Addressable Spend is much larger

% of Revenue

% Increase in Net Profit

Revenue 100.0%Interest Income 52.9%Non-Interest Income 47.1%

Operating Expenses 59.2%Net Profit before tax 34.2% 0%Total Traditional Addressable Spend ***= ( a ) 28.3%Targeted Savings per year Savings %Decentralized Procurement* 4% 1.1% 3%Centre-Led Procurement* 6% 1.7% 5%Centralized Procurement 10% 2.8% 8%

Actual Addressable Spend a) Traditional Addressable Spend above 28.3%b) Salaries, Wages & Benefits 30.9%Total Addressable Spend (Revenue - Net Profit) 59.2%Targeted Savings per year** Savings %Decentralized Procurement* 4% 2.4% 7%Centre-Led Procurement* 6% 3.6% 10%Centralized Procurement 10% 5.9% 17%Orchestrated Procurement 14% 8.3% 24%

*** Includes Occupancy, IT, Depreciation, Communication, Professional Fees, Marcom Marketing & Advertising), Capital and Business Taxes, Training, Other

Canada Banks - Impact of increasing Addressable Spend - Net Profit increase up to 24%Banks Canada

(TD-RBC-CIBC-Scotia)

* Give away at Contract Management by Business Unit of 2% to 3 % included ** Savings % could be slightly lower as Addressable Spend is much larger

Non -Traditional Addressable Spend Categories can be a source of Competitive Advantage and fuel for company growth

(Case Studies) •  CAPEX – Large project purchases often handled directly by Technical functions.

However savings by Procurement involvement from start and not at RFP or Contract stage can save over 20%.

(Examples: 3 Distribution Centres height - 35% saving, Manufacturing Plant equipment – 20% saving. Office Furniture for office – 30% saving on $2 million)

•  R&D – Placement of Procurement person in R&D can reduce costs by 20% to 35%. (Examples: Design and Reuse parts increased - 25% to 65%. Electronic Parts

availability and sunset lists on components for R&D Engineers – 20% saving. Value Analysis - 15% saving)

•  Interest/ Bank Charges – Impact of Inventory Management, VMI/Consignment

(Home Depot hardboard), Dynamic Payables Discounting, Payment Terms, Import Financing, Bonded Warehouse/Manufacturing, etc. can all increase cash flow and reduce Interest

(Examples: Pension Funds interest increased 7.5% to 12.5% by Monte Carlo Simulation. $150 million P-Card payments – over 15% savings)

•  Insurance – Earthquake Insurance, Assessable Value, Claims (Examples: Eliminated Earthquake Insurance for 10 plants distributed over many

States. Marine Insurance - 75% Saving. Fridge packaging - wood crate to grass rope dropped damages by over 99% with 99% savings. See picture last page)

(So all Spend is Addressable and can increase Net Profit by 27% to 62%)

Non-Traditional Addressable Spend Categories can be a source of Competitive Advantage and fuel for company growth (continued)

(Case Studies)

•  Salaries and Wages – Not just Outsourcing of Logistics/Distribution/IT but also of Procurement, Marketing, Finance, HR, Manufacturing (by Virtual), R&D, Field Services, etc. is possible

(Examples: Retailer 1,000 US Stores – Outsourced 30 Category Managers managing $600 million Revenue to a Far East Agent to enable increase from 5% to 95% Sourcing from Far East in 6 months. Largest PC Manufacturer – Outsourced Procurement and used free Vendor Staff - 100% procurement staff savings. Apple, Nike – Outsource Manufacturing so wages savings)

(So what is left to Outsource in Salary and Wages by Procurement – CEO? A joke) •  Taxes – Excise, Customs Duty, Municipal/Business Taxes, HST, Corporate Tax (Examples: Won Supreme Court Case in India after 5 years that Excise is Manufacturing Tax not

Seles Tax – IRs 5 Crores saving. SR&ED Tax credits - $1 to $5 million. PC Manufacturer Customs Duty -- 1.54% eliminated and 2 years duty drawback enabled $3 million savings)

•  Revenue – Sales Growth (by using Vendor Innovations first and Vendor Risk reduction) (Examples: LP in two manufacturing organizations by product mix optimizations - 100% Gross

margin increase. PC Manufacturer - 300% increase in sales by Outsourcing procurement with Merge-in-transit and 9 days to 2 days customer delivery. Business Development Main Frames - 200% sales increase. PC Distributor - 300% increase in rebates and sales increase 25%)

•  Depreciation – Sell and Lease back (Examples: Trucks and Trailers leased back - $300 million cash flow generated) •  Profit – Eliminate Returns and Obsolescence write off, Risk Reduction (Example: Profit Insurance by Lloyd’s, UK) •  Audit – Financial, Special (Example: SMB Audit – 50% reduction in Audit Fees) (‘All Spend is Addressable’. Cost reductions in non-traditional spend categories are

sometimes over 25%, a game changer, and can increase Sales and reduce Risks)

Summary ‘Think out of the Box’ & ‘See the invisible to do the

Impossible’ •  Procurement needs to be fully aware of functions of all Business

Units to increase Addressable Spend Categories (How many from Procurement have taken

courses/webcasts in Digital Marketing)

•  Humans created ‘Spend’ so Procurement can control ALL spend not just the spend allowed to be controlled (Adopt Zero Based Budgeting approach to get Zero Based Spend approach)

•  Any spend in an organization is Addressable and can lead to

savings with Procurement assistance and so increase Net Profit 20% to 120%

(‘Think out of the Box’ and see the gold) •  Some spend is difficult to get savings and needs CEO full support

(By Change Management of Stakeholders, and Orchestration)

(Keep an ‘Open Mind’ and ‘Trust but Verify’)

So increasing Addressable Spend can be the CPO objective -- the Holy Grail ?

•  Larger the Addressable spend (as percentage of Revenue) the more is the impact by Procurement on Net Profit (27% to 72% increase)

•  The more the impact on Net Profit the more would be the support from CEO to CPO/CSCO

•  So which comes first, support from CEO or increase in Addressable Spend to get CEO full support (chicken or the egg)

•  Is low Addressable Spend the reason why fewer CPOs are at the CEO table

•  Is Addressable Spend the Holy Gail CPOs are searching for all these years, to go to the top

(Persistence, Change Management of Senior Stakeholders and use of leading best practices are required to increase Addressable Spend)

‘Thinking out of the Box’ – Solving the world’s oil problem

(Learn to run on all fours at 80 km per hour)

‘Seeing the Invisible’ – 70% Damage to Fridges reduced to 0% when wood crate packaging

replaced by grass rope during delivery

% of Revenue

% Increase in Net Profit

Revenue 100.0%COGS 74.7%Gross Profit 25.3%SG&A 17.3%Depreciation & Amortization 2.0%Interest 0.5%Net Profit before tax 5.5% 0%Total Traditional Addressable Spend ***= ( a ) 74.7%Targeted Savings per year (at Half)** Savings %Decentralized Procurement* 2% 1.5% 27%Centre-Led Procurement* 3% 2.2% 41%Centralized Procurement 5% 3.7% 68%

Actual Addressable Spend c) Traditional Addressable Spend above 74.7%d) SG&A 17.3%e) Depreciation & Amortization 2.0%f) Interest 0.5%Total Addressable Spend (Revenue - Net Profit) 94.5%Targeted Savings per year (at Half)** Savings %Decentralized Procurement* 2% 1.9% 34%Centre-Led Procurement* 3% 2.8% 52%Centralized Procurement 5% 4.7% 86%Orchestrated Procurement 7% 6.6% 120%

Canada Retail - Impact of increasing Addressable Spend - Net Profit increase up to 120%Retail

(WalMart-Target)

* Give away at Contract Management by Business Unit of 2% to 3 % included ** Savings % cut to half as margins are lower in Retail and Addressable Spend is much larger

Look forward to sharing leading Best Practices

The End

Eugene Fernandez

(EugeneFernandez@hotmail.com) Cell 416 346-1940