Spend management is the way in which companies control and optimize the money they spend. It involves cutting operating and other costs associated with doing business. These costs typically show up as "operating costs" or SG&A (Selling, General and Administrative) costs, but can also be found in other areas and in other members of the supply chain.
Whether it is the money spent on goods or services for direct inputs (raw goods and materials used in the manufacture of products), indirect material (office supplies and other expenses that do not go into a finished product), or services (temporary and contract labor, print services, etc.), a company needs a mechanism by which they are not only able to save money but control costs.
Spend Management is meant to represent a holistic view of the activities involved in the "source-to-settle" process. This process includes spend analysis, sourcing, procurement, receiving, payment settlement and management of accounts payable and general ledger accounts.
In an enterprise, spend management is managing how to spend money to best effect in order to build products and services. The term is intended to encompass such processes as outsourcing, procurement, e-procurement, and supply chain management. Since the "spend manager" could have a significant impact on a company's results, it has been advocated that this manager have a senior voice in running the company.
Cost reduction vs revenue generation
Companies divide money into two major buckets - revenue and cost. In hard economic times, when revenue is harder to come by, companies often turn to cost cutting initiatives. Cost cutting will increase net income. An increase in net income leads to a greater earnings per share and ultimately a higher market value (higher market capitalization).
Because cost cutting affects a company's bottom line directly, certain types of cost cutting can be the quickest way companies can increase their market value. The typical consensus is that the revenue to cost ratio is about 3 to 1; for instance, increasing revenue by $300 has about the same effect as cutting costs by $100.
This is why, in hard times, companies typically turn to cost cutting measures such as layoffs and product quality reductions. However, most analysts agree that this short term tactic creates little long term value, nor any long term sustainable savings. This is why "Spend Management" has become a key long term strategy for companies seeking to maintain long term and sustainable value.
How spend management saves money
- Decreasing "maverick" spend -- "Maverick" spend is the process whereby requestors (those who are creating a request for an item or service that will be turned into an order to a supplier) buy items or services that are outside the preferred process or system. This often means that a "maverick" purchase typically results in an individual or department buying an item in an ad-hoc fashion that results in paying a 20% premium for that item. Instead of buying from a preferred supplier with which the company has negotiated a contract with discount pricing, an individual goes outside the normal process and purchases that same item at retail.
- This is often hard to enforce unless some control mechanism (often technological) is put in place that:
- 1) prohibits this type of purchasing
- 2) sets up penalties for these types of purchases
- 3) puts into place some type of approval or check and balance system.
- Increase of spend economies of scale -- By directing more spend toward a particular supplier, a company can negotiate more favorable pricing based on how much money it spends with that supplier in a given year. Many companies may purchase like items from many suppliers at different prices. By consolidating this "spend", and directing it toward one or a few suppliers, companies are able to get bigger discounts.
- The activity that a company goes through is called strategic sourcing (also called "supplier rationalization"). This takes a commodity-by-commodity look, taking into account business unit, location, and other requirements to find opportunities for economies of scale savings.
- Increase process efficiencies-- Automating sourcing, procurement and payment processes can greatly improve the efficiency of paper based and manual processes. However, different companies have had varying degrees of success in this area. The general idea is not to just automate, but also use the technology to improve upon these processes.
- Process savings can be measured in various ways such as: how long it takes to process a purchase order, how many individuals need to touch the purchase order before it can be sent ("touch points"), how long it takes to reconcile and pay the supplier, as well as many other methods to measure these process improvements.
- Increase procurement efficiency -- This involves using e-sourcing tools for the bidding and contract award process (similar to eBay, in which you may have one buyer and many suppliers, or one supplier and many buyers). These supply chain management tools also help to develop product requirements that can be sent to suppliers (typically called an "RFP" or Request For Proposal).
- A buyer (i.e. an individual at a company that has determined a need for a particular product) will develop a document that lists the need (i.e. the type of product they need and why), specifications, the bidding process (how the process will work and how suppliers will be scored), rules for the bidding process, and other factors.
- Buyers will then invite suppliers to register online, and open the event for a set period of time so that suppliers can bid. At the end, the buyer awards the contract to one of several suppliers. The award can be based on price, delivery time (the time it takes the supplier to fulfill an order), or other factors such as quality or how closely the product meets the needs.
- The e-sourcing of direct items (raw materials) is often much more complex than indirect (office supplies, etc.), as the deciding factor is not just price but also the way the product fits into the overall manufacturing of a product.
- The way a company collaborates and transacts with their suppliers is a critical part of spend management as well. This is sometimes called "Supplier Relationship Management". This term is often incorrectly used in place of "Spend Management".