Sourcing For Direct Spend: The New Sourcing Frontier

Umesh Verma

Savings in spend have always been a top priority for chief procurement officers (CPOs). While key performance indicators (KPIs) for process improvement, compliance, people initiatives, etc. have always been important to produce value for stakeholders, early engagement into sourcing opportunities has been a key driver to deliver savings. New or improved technology has been a key component of such initiatives.

It has been relatively easy to automate and standardize processes and tools in indirect spend (relating to indirect costs), but processes relating to direct spend (relating to direct costs) are still driven in a siloed application environment glued together manually or through custom coding. While automation is one value proposition for sourcing, to fully realize higher amounts of value, organizations need to apply advanced thinking to their sourcing processes, such as cost component analysis, supply chain principles (lead times, inventory optimization), and analytics/optimization.

Buying channels: Types of spend in an organization

Organizational spend can be categorized into various groups such as capital expenditure, contingent labor and services, travel, maintenance, repair, and operations (MRO), and indirect and direct spend. Indirect spend is typically accounted for as an operating expense that does not go into the production or manufacturing processes.

Some examples of indirect categories include office supplies and IT equipment for employees. Individual employees typically initiate the buying transaction to fulfill a need for themselves or their business unit. Direct goods and services, on the other hand, represent the items that go into the production and manufacturing process. They get incorporated into the final products that are sold. Some examples of direct items include the chemicals that go into producing paint or the processor and other components that go into a laptop assembly. These items are accounted for as cost of goods sold.

What makes the direct spend sourcing process special?

In the direct category, sourcing needs are driven by processes relating to the sales forecast, which generates a production plan and a list of items to be sourced. Each industry has unique processes and master data associated with it.

In discrete manufacturing, some commonly used terms are materials requirement planning (MRP) and bill of materials (BOM); while retail has its own nomenclature, including article master and merchandising categories; and process industries have their recipes. There are processes around new product development that are iterative by nature across multiple stakeholder groups (both external and internal) as well as multiple systems such as enterprise resource planning (ERP), product lifecycle management (PLM), contracts, and supplier management systems.

Savings opportunities in direct spend

The opportunity lies in having tight integration across the many parts of the business, leveraging a consistent set of master data across the various systems. A consistent platform across different spend categories improves user adoption by minimizing resistance to transition or change.

The way to win the savings for the enterprise is managing the entire source-to-contract process using an integrated solution for both indirect and direct spend, one that is tightly integrated to ERP and other related applications such as PLM and contracts. Many organizations have achieved success with a limited set of spend (typically the most strategic), and the question to ask is how to apply the right processes to all your spend and scale the best practices and savings.

If you would like to learn more about direct spend sourcing, please read IDC’s latest whitepaper. To discover the benefits SAP Ariba solutions for direct spend can bring to organizations, join our webinars on March 3 featuring customer Natura (Americas) or March 26 featuring customer VELUX (Europe).

Umesh Verma

About Umesh Verma

Umesh Verma is director for Sourcing Solutions for Direct Spend at SAP Ariba. As part of the Product Management organization, he works closely with customers in diverse industries – such as discrete manufacturing, retail, and high tech – to address their sourcing technology needs. Prior to SAP Ariba, Umesh worked in various roles in procurement and supply chain in Fortune 500 companies such as Intel aand Amgen, and as a management consultant with PwC. Umesh has a Master’s in Business from University of Iowa and a Bachelor’s degree in Chemical Engineering from the Indian Institute of Technology, Kanpur.