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.

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.

Our work at 4C, together with the opportunity to discuss issues with the heads of procurement at large companies gives us a unique insight on how procurement is evolving. As a result we expect leading procurement organisations to change substantially over the next decade.  The best organisations will adapt quickly providing their companies with increased value. 

Before looking forward, it is worth looking back ten years so we can understand how much procurement has changed in that time. The year 2000 was actually very different from today. Tony Blair was a very popular Prime Minister in the UK, George W Bush had just been elected in the closest American election in history. The internet boom was at its peak, with the Dow Jones index at 11,700 and the FTSE 100 hit almost 7,000. Now the Dow Jones index hovers around 10,000 and the FTSE is below 5,000.   There were no iphones, 3D TV or hybrid cars.

The world of procurement was very different. 4C was founded in 2000, at that time few organisations had large teams that focused on indirect procurement. Procurement’s focus in  most (especially non manufacturing )organisations was very much transactional and tactical.  Looking back at many of the articles in supply management shows some common themes of the times:

- Many companies were starting integrated strategic sourcing projects and creating more strategic procurement functions. Anglian Water was restructuring its procurement department of 10 in a more strategic one of 62.[1]  British Airways was merging its purchasing and operations contract divisions.[2]

- E-commerce hadn’t really started but expectations were high[3]. Suppliers like i² , Commerce One, Vertical Net, and many others were aggressively making the ecommerce case. Only Ariba of those firms remains in the large corporate market. There was much talk of mobile enablement via WAP.

- Investments were being made for strategic reasons  by some companies in a way that I don’t think that we would see today . For example Rover Cars was planning at £40m investment in a 4km rail link.[4]

Today, in the overwhelming majority of companies procurement covers all categories, mostly from a strategic and tactical perspective. Good technology is in place to enable buying across the organisation. Compliance is to procurement processes is high and monitored. Savings that genuinely impact the business are being delivered. Skills and capabilities are high.  This is a world very different to the one of ten years ago. I expect that procurement in ten years time will look very different from today.

What do we expect to drive this fundamental change? We’ve identified three key long term trends that we can see are already having an impact on leading procurement departments and are driving changes in procurement now.  We expect these trends to continue to drive changes for many years into the future. The three trends are:

1.  Macro Economic: The impact, extent and length of the economic slowdown has been under-estimated. The tough environment will force us to rethink how we maximise the value to ensure we are buying everything at benchmark levels.

2.  Sustainability: Buyer and supplier markets are changing as they seek to reduce the environmental impact either because it is more economic to do so, or because they have to.  This will change process and factors that we use in making a buying decision.

3.  Technology: New collaborative applications (for example, Facebook and Twitter) are changing how people get product and service information. In addition, open source software is changing the specialist procurement systems market.  This technology will open up new avenues of supply and also enable highly collaborative procurement processes that are just too complex with current ways of working.

Each of these trends promises to force the procurement of today to be very different in the future. The combination of the three will drive fundamental change. I'll be blogging further about each topic