“Where your money is going, that’s where your heart and mind ought to be as well.”
By Emmanuel Nzombe (MCIPS | CIPP)
In my inaugural installment on Strategic Sourcing, I mentioned spend visibility as one of the key benefits of Strategic Sourcing. In this article, I zoom in on the subject of Spend Analysis more closely as a way of achieving greater visibility.
What is Spend Analysis?
This refers to the process of extracting, cleaning, enriching, classifying, and evaluating historical spend data with a view to bringing out insights into the business’s spend footprint. These insights become the objective basis for making strategic decisions for the business.
Why Spend Analysis?
The business environment is increasingly becoming riskier, with the costs of externally sourced goods and services spiralling out of control, revenues constantly being squeezed, and corporate survival becoming much more difficult to guarantee. Given the nexus between business spend and profits, the focus is now on spending smarter through data-driven sourcing decisions as opposed to guesswork and ill-informed assumptions. Our wits alone, no matter how sharp, can no longer be trusted to lead us into making the right business decisions at all times. Having intimate knowledge and visibility into where and how the business is spending money, down to the tiniest detail, is invaluable.
By laying bare the business spend, it becomes much easier to discern the proverbial “silver lining” of cost-saving opportunities that typically lie hidden and untapped within otherwise disorganized spend data. At the same time, it will also expose the “can of worms” that would otherwise gnaw away at your profits silently and often undetected—until it is too late. As I quoted in the previous article, “If you torture the data, it will confess.” Rogue spending behavior will be revealed, highlighting where the business is receiving suboptimal value from its suppliers, exposing areas where bargaining power is not being fully leveraged, and uncovering irregularities and flaws in procurement processes, among other issues. These “confessions” will then prompt you to ask probing, investigative questions about your spending patterns, leading to deeper insights that enable you to spend more judiciously and achieve significant cost savings.
Why Your ERP Matters
Your ERP—Enterprise Resource Planning tool—is your primary source of spend data, from which useful insights will be derived to guide sound decision-making. This makes it a “gold mine” that, when leveraged, can generate immense strategic value. The ERP houses your taxonomy, which in turn determines the content and quality of spend data. Therefore, choosing the right ERP, best tailored to your business, is just as important as the information and insights you need to make sound decisions.
One of the gravest mistakes corporates make when choosing an ERP is the failure or inability to clearly define the value outcomes they want or expect from the system, or not properly aligning those outcomes with the strategic goals of the business. What they end up with is not a robust ERP but merely a rudimentary “mechanism” for capturing and storing basic or shallow transactional data, which barely addresses the mission-critical KPIs of the business.
A good ERP must elicit not only pertinent and content-rich data but also data that comes in a form readily amenable to granular and exhaustive spend analysis. All the data relevant to your KPIs—those you want to measure and track—must be embedded within the ERP right from the onset. Remember, every bit of relevant data missing from your spend reports means it was not built into the ERP from the beginning. This creates an information gap that will need to be filled manually to enrich the data. Not only does this consume time, but it can also compromise data integrity and the quality of all subsequent outputs. Conversely, irrelevant data adds unnecessary volume to spend reports, further complicating and lengthening the data cleaning and preparation process.
Care must be taken to ensure the ERP is not ironclad—addressing only current business information needs while ignoring ever-evolving future business needs—lest you be forced to purchase a new ERP.
Determining an Appropriate Taxonomy
Determining a taxonomy best tailored to your business is an essential prerequisite for meaningful and exhaustive spend analysis. A taxonomy acts as a framework under which spend data accumulates in the ERP and from which the KPIs your business seeks to track will be derived. It determines the content and quality of the data you will extract from the ERP.
The depth of your taxonomy determines the level of granularity of spend analysis that can be conducted. The more comprehensive the taxonomy, the greater the depth and granularity of the analysis, and the richer the insights derived. Conversely, the shallower the taxonomy, the scantier the data and the poorer and more misleading the insights.
Therefore, it is essential to think ahead and determine your information needs before creating the taxonomy by asking yourself:
- What KPIs of the business do we need to measure and track?
- How and to what depth do we want to measure them?
- What data do we need to effectively measure them?
Just like any system with inputs, processing, and outputs, the quality of the data input underpins the efficiency of the analysis process and, consequently, the quality of the insights. One of the key challenges in spend analysis is cleaning and sifting through the data to remove unnecessary or irrelevant “chaff”—hence the need to begin with the end goal in mind. This allows you to work backward with clarity to determine the most appropriate taxonomy best suited to your business’s specific needs.
What to Analyze and Why?
The parameters of spend analysis vary widely from business to business, depending on the industry, strategic goals, and specific information needs. For example, the parameters of a manufacturing or mining firm may differ in some aspects from those of a hospitality firm.
The best spend analysis should be guided by the business’s strategic priorities. After all, the essence of strategic sourcing (of which spend analysis is a key component) is to align sourcing activities with business objectives.
Some common key dimensions of business spend analysis include:
1. Spend per Category of Goods and Services
Analyzing spend data by broad categories provides a “helicopter” view of how money is allocated across key cost centres. This is particularly useful for C-suite executives who may not have time to dive into granular spend details. It highlights strategic spending priorities and helps procurement teams focus on categories that offer the greatest cost-saving opportunities.
2. Spend by Key Individual Commodities or Products
High-level analysis alone masks detailed spending patterns. A deep dive into individual commodities within each category reveals which products drive business spend the most, their frequency of purchase (trend analysis), pricing, suppliers, and standardization opportunities.
3. Spend by Supplier
Analyzing spend data by supplier identifies key strategic suppliers, over-reliance risks, and potential areas for supplier diversification or consolidation. This ensures the business optimally leverages supply market opportunities.
4. Spend Over a Defined Period
Some business expenses follow cyclical trends. Analyzing spend over time helps predict future spending patterns, align inventory levels with business activity cycles, and avoid costly overstocking or understocking.
5. Pareto Analysis
Cost optimization efforts must be strategic, not random. The Pareto Principle (80/20 rule) helps focus on the vital few categories, suppliers, or products that drive the majority of costs, ensuring that optimization efforts yield the most significant value.
Conclusion
Business spend analysis must be the pivot around which strategic decisions are made. The era of relying solely on expert opinions to determine competitive advantage is long gone. Objectivity—based on accurate, high-quality data—should be the norm, not the exception.
Views expressed in this article reflect the personal opinions and experience of the writer.
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