The 4C team offer their predictions for 2012 for business leaders faced with a cost imperative.

 1. Inflation will fall but some prices will remain volatile.
Overall, although in the UK inflation is expected to decline, prices will still rise above growth in income. This is likely to have continuing implications for output prices, as it will remain difficult to pass on rises in input prices to customers. However, commodity and other input prices will continue to be volatile. Although, energy prices could remain static, other inputs are likely to increase. This points to another year of tight cost management.

2. Growth will be very slow in UK and Europe.
Growth is, at best, expected to be slow if not in decline for the UK and Europe. Companies in competitive markets will only be able to get revenue growth from winning share, with lower cost providers at an advantage.

3. The dollar will rise against the pound and the Euro.
A surprise of 2011 was that this didn’t happen. The economic fundamentals of the US are much stronger than Europe and given the UK’s trade pattern the pound is linked to the Euro’s success (or failure). Without a big deal the Euro will (probably) muddle through, although there
is an ever present danger that Greece will leave.
The implications: have a contingency plan for any US bought goods or services. Greece leaving the Euro will seriously impact security of supply from Greek suppliers.

4. There will be more of a focus on the link between cost reduction and shareholder value.
As costs get put under the spotlight in all companies there will be more questions about the return on investment of cost reduction. What is the return that we are getting, and should we get more?
“ 2012 will be a year of very slow growth and rising input costs.”
A number of conferences have adopted this as a theme for their 2012 events. It’s an area that we have been looking at for the past 12 months and will continue to research. If structured in the right way the returns are high, however programmes poorly structured can deliver minimal value. In addition, companies will introduce procedures to provide tighter measurement of saving. Linked with (4) there will be a demand for tighter measurement of savings and clear links between savings and the P&L and financial statements.

5. Significant savings will come from broader company-wide cost reduction programmes.
Most companies have successfully tackled the ‘low hanging fruit’. To deliver further savings companies will have to look broader, combining supply chain, organisation, demand management and procurement to deliver new savings. We call this approach cost transformation.

6. Social networks and collaboration will enable new benefits, especially in larger companies.
Internal knowledge management and experience sharing have long been holy grails for large corporates. Business social networks give the opportunity for that information to be unlocked within and across companies. 4C has been experimenting with using social networks in 2011 and we will be extending this in 2012. However, also remember despite the hype, business is conducted between people and there is no substitute for getting together good analysis and building understanding.

7. Data analysis tools allow the use of data to find more opportunity.
More processing power and better data analysis tools are enabling analysis of more data and much easier combining of data sets together, allowing better identification of opportunities and savings across a broader spectrum.

8. The pendulum is swinging back there is a changing balance of onshore versus offshore provision.
Three or four years ago everyone thought it was cheaper to get almost any volume product manufactured in China and any service offshored to India. However now the balance is changing. The costs of high quality offshore goods and services have risen, against a decline in costs of UK production, especially when the costs and risks of extended supply chains are taken into account. There is more of an understanding of the costs of moving offshore, and an understanding of the benefits of remaining onshore.

9. There will be tremendous innovation in IT requiring new skills to manage.
IT is changing from centrally provided corporate service to being a set of individual consumed applications. The technical requirements of the IT team are changing and understanding the customer requirements are becoming more important. Furthermore there are a number of innovations that can fundamentally change the cost structure of IT; Google Apps; Cloud computing; bringing in your own devices. Companies will get a cost advantage from being on top of all of these changes.

10. This year the CEO starts to look at IT costs, forcing measurement of the business value delivered by innovation.
Corporates are still lavishing multi-million pound investments on core IT systems and the grandee providers are adept at rebadging and reconfiguring them into Cloud, Big Data, Appware or Software as a Service models without losing their hold on their customers and their associated margins. CEOs will now ask IT departments to deliver true business value through this so-called innovation. In response, they should focus their strategic suppliers in bringing additional returns to their considerable investments, looking at their total spend across all categories (licensing, maintenance, consultancy, support, implementation services and the rest).

11. Public Sector decline will increase competition in the private sector.
The reduction in the Public Sector, both in terms of staff numbers and investment levels, will have a significant impact on those companies which earn a large proportion of their revenue from the Public Sector. Unless these companies have a very flexible organisation, they will need to focus on increasing their share of private sector revenues, making often crowded marketplaces even more competitive. This will put further pressure on margins and cost controls.

12. High fuel costs and environmental concerns will drive the need for the next level of supply chain optimisation.
All organisations will take a critical look at their logistics and supply chain costs and look for ways to further reduce costs through optimisation and restructuring. The change in balance between energy and other costs also changes what an optimal network looks like.

People can come up with all manner of solutions to fix an immediate problem. At a financial services organisation in Japan, I arrived on a transformational engagement to find the entrance to the office clouded by a bank of fax machines along one wall, and someone frantically running back and forth removing faxes, making copies, and ringing a small metal bell. This activity was followed by someone running over and collecting the photocopies. It turns out that this process was designed to efficiently handle new business and customer applications that were coming in from the brokers and distributors. While it’s not a particularly efficient way of working, it shows the creativity that exists in the workforce, and the ability to design solutions that solve for an immediate problem, but may be harder to change in the longer term.

In this case, the company had just been through a period of tremendous growth, and the organisation hadn’t really prepared for it. As a result, these types of solutions were rampant across the organisation as the staff struggled to deal with the high volumes of business that they were doing. The goal for me was to build a company that could function in a paperless, location-independent, and efficient way, using global resources contained both internally and externally.

In today’s environment, the reason behind the need to drive strategic change can often be very different. Companies may be looking for ways to right-size the business as a result of a divestiture or merger, adjust for changes in market demand that have caused costs to increase disproportionately to revenue, or they may just need to increase shareholder value and driver better quality and performance at an overall lower cost.

There are many ways that businesses may choose to drive out costs or improve performance and scalability. This can include implementation of business improvement programmes, such as Six Sigma or Lean. The benefit of these programmes is that they can often identify the low hanging fruit quickly, and reap generally good return on investment. In prior engagements around business improvement, I have often been able to achieve overall cost reduction in the 10-15% range, without large amounts of effort. The changes from a process improvement programme can have major impacts, while lessening the change management that a large scale programme can achieve. If the overall organisation is generally clear on activities, on processes, and ways of working, this can be a way to take the game up a notch and to drive further improvement out of the cost structure, while also improving quality.

Another way that organisations address change is to conduct a complete transformational redesign of the ways of working. This can include changes to things like organisational structure, IT architecture and systems, processes, and even products. A good example of this in practice is a company like IBM, which has completely reinvented itself away from its earlier beginnings around computer production, and is now a more service oriented organisation, relying in larger part on its consulting activities.

The transformation route of change is the more aggressive but it can drive much higher benefits in the long term. Although more complex, benefits in the 25-40% range are normal. Transformation also comes with some unique challenges.  Driving large scale change into an organisation is always challenging. It’s possible to use the analogy of dropping a rock into a pond of water, the larger the rock, or change, the bigger the ripples throughout the pond, or organisation.

It’s important that the transformational programme is managed effectively to minimise any impacts from the changes that you need to make. This is done in several key areas including some quite basic components, such as ensuring the vision is clear and consistently repeated, and that the road to the future organisation is well documented, step by step, with appropriate individuals leading the activities at each point.

Commitment is also important. Unlike the process improvement approach, which relies on smaller continual improvements in the environment to drive change, Transformation is a longer journey that relies on a clear vision and strong commitment and leadership to deliver. Transformation is changing from a caterpillar to a butterfly, and that requires tremendous amounts of work. Ask the butterfly! Several organisations have begun the journey and have given up, as they perceived the changes to be too difficult, or they lacked the commitment in other ways necessary to carry through to completion. I have worked for several companies that started transformation programmes in the past, but had given up each time. By the time I was brought in to drive change, often it had now become critical to their overall success.  In the end the programmes were successful, but the amount wasted on prior initiatives ran into the millions. The costs of failure can often be quite high not only financially, but also in staff morale and the ability to compete effectively in the marketplace as other companies continue to improve and make leaps forward through their own change initiatives.

The success of a large scale change programme also relies heavily upon key sponsorship from the leadership team, including meaningful communications that filter through all levels of the company. It is critically important to bring people along the journey mentally as well, while building excitement about the future organisation and the potential opportunities that it can bring at the individual level. This can be done by detailed analysis of the changes and impacts on each part of the company to build a good understanding of the positives and negatives (at the individual level) about what the outcome will be, and then effectively communicating the positive results, while recognising the downsides as well. For example, on a more simpler scale, the introduction of the blackberry revolutionised the workplace, meaning that people were online and had access to emails 24/7, driving higher access and productivity in (and out) of the workplace. Most people didn’t mind, because it was a trendy accessory and it made managers and staff feel more important. The downside was acknowledged because individuals understood why it was important, but they also were excited about the change and felt there was something in it for them individually. The WIFM (what’s in it for me) component is one of the most important tools that you can use to bring individuals along on the journey and fully reap the benefits of your transformation programme.

While I’ve only touched on a few key things, there are many components to a successful transformation programme that must be managed. In the end, the goal is to make the organisation leaner, more successful, and more cost effective, while driving optimal levels of quality. What happened to the bank of fax machines in Tokyo? The method was completely redesigned to allow seamless processing of the new business operations. I recently spoke with the person that had the responsibility for the faxes, and she ended up in a more challenging role that allowed her to ultimately advance further. That’s true transformation at work.

We are working with a number of organisations on ensuring that they are fully compliant with the Bribery Act 2010. While it was not expected by the government that many organisations would need to change, lots of companies are taking the approach that they should set their internal standards higher than is required by the act.  This has led to reviews of marketing (particularly for business to business focused organisations), setting up of databases to record and track gifts and hospitality. Many companies are conducting full audits of their supplier base. It has also highlighted the need to know for sure, who your suppliers are and that they are compliant with all regulations and policies. Who do they work with and how do they do business? We access a range of databases and use a structured methodology to ensure that you know who you are working with.

The main purpose of the Agency Worker Directive (AWD) is to ensure the appropriate protection of temporary agency workers through the application of the principle of equal treatment and to address unnecessary restrictions and prohibitions on the use of agency work. The AWD follows similar directives on fixed-term and part-time work (which were based on European social partner agreements). Under the Directive 'equal treatment' relates only to basic working and employment conditions of temporary agency workers (e.g. pay, working time). The Directive does not affect the employment status of temporary workers.

The Directive allows the UK to implement the agreement reached on the 20 May 2008 between the CBI and the TUC, which means that after 12 weeks in a given job, an agency worker will be entitled to equal treatment (at least the basic working and employment conditions that would apply to the worker concerned if s/he had been recruited directly by that undertaking to occupy the same job).

All of our clients are wrestling with this issue. Overall inflation in the UK is now falling (down from 4.4% in February to 4.0% in March, see chart) however this overall decline masks large swings in specific prices.

• Oil, energy and logistics costs are increasing
• Labour and people based costs are remaining stable
• Technology costs continue to decrease
• Costs of goods and services from ‘low cost’ countries are increasing

Overall the level of 4% is higher than at any time in the past 10 years.  However, the current economic environment is making it difficult for organisations that sell services or manufactured products to raise their prices (last month manufactured food prices fell) making development and implement mitigation strategies critical.

We are working with a number of our clients to mitigate the impacts of this price volatility and inflation. For example

• Optimisation of the sales order process and associated logistics network to reduce the unit cost of deliveries. The change in prices has increased the relative cost of distribution relative to warehousing and made it economic to change the structure. Many organisations are also facing cost pressure on their driver staff, as this is now a group in high demand. It has also made it more important to ensure that all day-to-day optimisation tools are used to the maximum.
• Looking for additional sources of collaboration with other businesses. We have our own collaboration programme that identifies categories where collaboration can create significant savings. Typically these are in categories with a steep scale curve, where the client is at a relatively high point.  We are working with a number of private equity groups to implement savings opportunities across their portfolio.
• Using strategic relationship management to drive out additional costs of the full supply chain. Our approach to SRM combines a focus on cost with innovation and quality.  We have always found, especially now, a structured process of asking the suppliers for cost reduction ideas, then working to implement them provides significant savings.

I highlighted economic fundamentals as one of the key influencers in procurement at the moment. For UK based companies the current enviroment is showing two clear trends:

·         The recovery is distantly mixed. Unemployment is down, but mainly due to part time work. Growth remains uncertain. Public spending cuts will make a big difference to particular sectors including construction, IT and business services.  Overall, this is resulting in many supply markets remaining soft, and suppliers keen to do competitive long term deals. We are finding in our work and also in the data that now is a very good time to put in place longer term creative deals with suppliers.

·         The pound is strengthening in particular against the dollar and euro. Economic news,  the potential for interest rate rises due to high inflation is at 3.2% (down from 3.4%), and the governments debt reduction approach are all contributing to the pound being at its highest level since November 2008.  Inflation I expect that there will be more fluctuations in the level of stering that need to be factored into any long term supply agreement. However now is a very good time to consider creative European or American options. (See chart below of £ vs Euro).

Both of these trends are creating opportunities for companies to deliver additional in year benefits, and requiring companies to work hard to prevent inflationary increases.

Earlier this month we held a round table on procurement innovation with a number of leading CPOs.  Most of the discussion was around the key trends of economics, sustainability and technology that we’ve written about here. However, in the discussion at the end we asked what were the key issues that all of these procurement heads were concerned about now? The stand out issue was getting and retaining top procurement talent.

As procurement teams are looking to achieve more through collaboration, change and influence, these skills rather than category skills are coming to become more important. The feeling was that category and procurement skills could be trained (or accessed from knowledge management systems). It’s much harder to train someone in change and influencing skills who doesn’t have them in the first place. Many companies were reviewing their procurement teams and putting a premium on those with consultative skills.

Innovation is coming from organisations looking at using an understanding of psychology as they look to build teams. ‘You can’t make good procurement people unless they have lived the life at other departments’ said one participant.  More companies are looking at developing innovative talent management programmes to retain top talent. One CPO told us, ‘We formed a club with non-competing companies such as a bank etc. We had really smart people involved for example a really smart IT procurement person. No one single company needed this person full time for the whole year, so this person was shared among all these companies  and was really effective for all of them. The person gained expertise they would never have got from working for just one company.’

Although, one company was finding many candidates for some top positions everyone was finding it difficult to attract top talent, even in the current economic environment, ‘High calibre people get snapped up.’

Over the past three years technology evolution has accelerated with the rise of new applications, particulary social networking applications (such as Facebook, Linkedin and Twitter). The chart below shows the exponential growth of Facebook.

In addition, the growth of open source software now makes it lower cost and more straightforward to develop and integrate new applications.

What are the implications of social networking for procurement, and how are these implications changing procurement?

People are getting information in new ways and this is changing their buying behaviour both in their business and personal enviroment. Already, Twitter, Blogs and Facebook are rated in surveys as very influential in organisations buying decisions , even if the usage is low (see chart below).

Source - http://www.b2bm.biz

It is now much easier to research and identify alternative supply options and understand the strengths and weaknesses of different suppliers. Social Networking sites effectively magnify everyone’s network exposing them to more supplier information. They also raise expectations of the benefits of collaboration.

Top performing procurement teams will tap into these information sources, enabling them to credibly suggest more options and alternatives and quickly evaluate alternatives. Collaborative technology will dramatically reduce the traditional request for information cycles.

It will be easier to find and test creative supply options, and technology will help validate what is possible and not possible.

In addition, new forms of collaborative procurement will be possible, enabling additional savings and value.

There is little doubt now about the impact of C0₂ on the environment. Keeping global average temperature change below 2 degrees will require major change for the world economy. Much of the responsibility for this change will be put on business through regulation and economic incentives. In addition, the massive investment in clean technology and new environmental solutions is creating new opportunities for organisations to reduce cost through exploiting this technology.  For example, it is now possible for an organisation to reduce its energy cost by up to half:  energy efficient building and plant provide half of the savings, and using waste streams and renewable fuels can provide a 20% saving in energy cost. Good procurement can make up the remainder.

Source: AMR Research

The chart above shows that the reasons for why organisations participate in enterprise sustainabiity is changing. In 2008 the top reason for sustainability was ‘corporate advantage/corporate brand’ at 33%.  Now the top reasons are more hard nosed - Business Value at 29%, and Compliance to regulatory requirements at 27%. In other words companies are running sustainability initiatives because they are worthwhile or because they have to, and less so because of a drive to build the corporate brand.

This trend will continue and, in leading companies, sustainability will be incorproated into all of procurement. In the next few years green issues will become embedded in the business. As this happens, the need for a separate sustainability officer, or sustainability as part of the corporate and social responsiblity agenda, will fall away.

What are the implications for procurment?

Sustainable procurement breaks down into three areas:

·         Minimising the impacts of the supply chain, both social and environmental

·         Minimising the impact of the product or service produced, including waste minimisation and the use of renewable energy.

·         Buying resource efficient products, including:

• Recycled content products
• Energy-effiecient appliances
• Fuel effeicent vehicles

Everyone knows the UK and European economy is going to be tough, however I don’t think that we’ve realised how tough. The UK economy shrank by more than 6% between the last quarter of 2008 and the end of 2010, its biggest fall in modern times.

The chart below from the Office of National Statistics shows that growth is maybe predicted to be 2%, with a significant chance of a ‘Double Dip’ recession. The government budget deficit is running at 10% of GDP, which will have to be taken out of the economy, acting a further break on growth.

Many leading economic writers are pessimistic; Larry Elliott in the Guardian writes ‘Get ready for the austerity decade. Forget all thoughts that the economic storm of the past 30 months is about to blow over. We've had what Mervyn King (the Governor of the Bank of England) once called the NICE period of non-inflationary constant expansion but now we face a long DRAG – deficit reduction, anaemic growth. The lessons of economic history, the current configuration of the economy, and inescapable long-term challenges that have to be faced provide the same message: it's payback time.’[1]

In this environment revenue growth is very difficult and almost impossible without price cuts. Mainly large organisations (for example British Telecom) no longer even budget for price increases. Procurement has now switched from providing useful value and regulatory compliance to processes that are essential for cost management and profit growth.  This increased pressure on procurement under an intense spotlight will result in fundamental implications for how procurement operates. We see this macroeconomic trend driving four levers.

·         Boring is the new black. Continuous driving out of value will be the norm through excellent strategic cost management. Furthermore, ensuring 100% compliance through systems and mandates will be critical.

·         Ensure savings are genuine. Savings will have to be linked back to the bottom line and corporate value. In a low inflation environment, ‘real’ savings measures will not be relevant, procurement must demonstrate that it is reducing costs.

·         Pressure on the costs and return of procurement. Many large companies now have procurement departments in 100’s or even 1000’s of people. The total procurement budget can be up to £100m. These companies face the challenge that meaningful savings can come from reducing the size of procurement. They will have to demonstrate high returns from all aspects of spend, and have a leaner procurement team.

·         Cash is king (again).  Procurement will be involved in optimising cash flow as much as cost, as all companies continue to rebuild their balance sheets.