Finance departments are tightening their control of corporate spending through technologies that give them great insight into what they're getting for their money.
When Al Castino took over as CFO of San Rafael, Calif.-based software vendor Autodesk a couple of years ago, he knew that business as usual wasn't going to make the grade. In August 2002, the company's operating margins had sunk to 3 percent and its stock price stood at less than $12 per share. "We were remarkably unproductive in a lot of areas," he recalls. "We had way too much infrastructure and cost structure." The organization, which had 2004 revenues of $952 million, was "vulnerable to private buyout firms, a hostile takeover and intense criticism from investors," Castino recalls. "We were running the company as if we were a $10 billion firm with no conscience about spending. We had gotten completely off track."
The new CFO quickly reeled in spending. He ransacked initiatives that had led the company astray, consolidated layers of management, crumpled cost structures and shored up the organization's leadership. This comprehensive initiative began to pay dividends almost immediately. Today Autodesk's operating margins are 21 percent, and the company's stock price has zoomed above $65 per share. "Autodesk is stronger, healthier and poised for greater success," Castino says.
Controlling spending is one of the biggest challenges any business faces. As an organization grows, its expenses expand and its cost structures may fall out of alignment. "Most companies do not have a basic understanding of where they are spending money," says Brian Desmond, vice president of supply chain management and strategic resource management for PeopleSoft in Pleasanton, Calif. "You can't improve what isn't measured." The transition from conventional procurement -- in which departments and individuals buy on their own -- to a centralized e-procurement system can improve the organization's management of procurement in a number of ways.
"Spend management is attracting a lot of attention," states Christa Degnan, research director at Aberdeen Group, a Boston-based market research and consulting firm. "Organizations want to know more than just where they are spending money. They're looking to manage buying and spending processes more strategically and oversee suppliers more effectively." As e-business software has become more sophisticated, it has enabled executives to look at spending patterns holistically, which helps them manage their organization far more efficiently.
Procurement executives are essential to the success of a spend-management program, but the CFO and other finance leaders also play a central role -- particularly in developing metrics and benchmarks.
When such a program is successful, its results are worth the effort. Desmond estimates that a $3 billion company which reduces spending by just 1 percent can increase its net income by $18 million and its earnings per share by about 3 cents. "Companies that have executed on spend management as a top corporate initiative have seen dramatic returns," he says.
Designing a New Cost Structure
Spending has always been a double-edged sword for companies. Spend too freely, and the organization will wind up watching margins and profits erode. Cut costs too severely, and the same company will undercut its future performance and growth. Striking a balance is essential; procurement decision-makers need a view across the organization of spending by supplier, product category and business function.
At Autodesk, Castino analyzed the corporate structure and identified numerous procurement inefficiencies. One glaring problem he found was that the company had become excessively "divisionalized" over a period of years. Not only did different divisions buy the same products and services at different prices, but they also duplicated accounting, finance and other staff members needed to manage procurement, he says.
To cut costs, Autodesk reorganized and consolidated its operations worldwide, creating a shared-service center for each of its three geographic regions: the Americas, Asia, and Europe and the Middle East. The move slashed finance and accounting staffing by as much as 75 percent, accelerated transaction processing, and trimmed paperwork and administrative spending.
At the same time, Castino discovered that Autodesk wasn't doing a good job of negotiating worldwide contracts for travel, computer hardware, networking and telecommunications. By consolidating vendors and using its shared-service centers to negotiate better pricing, the company cut millions of dollars in costs. Similar initiatives in research and development, marketing, and sales further trimmed expenses. "We were able to pluck a lot of low-hanging fruit," Castino says.
Degnan explains that companies which establish standardized, centralized procurement systems and procedures reap rewards in both hard- and soft-dollar savings. The Aberdeen Group has found that, on average, best-in-class companies realize hard-dollar savings of 14 percent in their spending budgets, 12 percent in their procurement-processing costs, and 25 percent in their supply chain costs.
Nevertheless, obstacles to achieving these results are significant. Degnan points out that expenditures such as certain service purchases cannot fit neatly into an online catalog. What's more, the consolidation of disparate buying processes and the creation of a single point of sourcing are easier said than done. "Without a process to track the spending, it's next to impossible to know where the dollars are going," she observes. If a spend-management initiative fails, budgets may topple and pricing may disintegrate.
Further, the complexity of spending within a typical organization is on the rise. While the procurement of IT equipment is relatively easy to manage, other types of spending, such as compensation for contingent workers, can prove daunting. Ultimately, business processes and software systems must support the specific requirements of a company's procurement program as well as the organizational behavior associated with them.
Drilling Into Savings
To develop a solid spend-management strategy, executives must examine myriad processes throughout the organization. Helmerich & Payne International Drilling Co. (H&P), a Tulsa, Okla., company that owns and operates 128 drilling rigs worldwide, has taken spend management beyond the flat earth of procurement.
The rigs operate on a 24(sum)7 basis, which means they must have access to replacement parts at all times. In the past, rig managers purchased goods by calling a local supplier. Some buyers obtained multiple quotes; others didn't. Prices varied wildly from one location to another. The size of H&P's rig fleet has grown by 49 percent since 2000, and its U.S. procurement costs now exceed $50 million a year, so more efficient purchasing has become a top priority.
That's why the company undertook an initiative to design and install an efficient supply chain and financial management system, for which it forecast a savings opportunity of 5 percent right out of the gate, according to Scott Milliren, vice president of international marketing and business development. "It's money that goes straight to the bottom line," he adds.
The project aimed to reduce spending by automating and standardizing processes, aggregating purchasing and establishing strategic relationships with select suppliers. Monitoring compliance with procurement policies -- thereby reducing maverick spending -- and creating synergies that could lead to reduced costs were additional objectives.
Last year, H&P implemented a Microsoft Axapta enterprise resource planning (ERP) system. Then it transitioned to a procurement system that provides a corporate supply catalog via a Web portal. Instead of a three-quotes-and-buy process, H&P's new policy is to negotiate fixed pricing with the approved vendors in its catalog. The company's processes are also evolving from offering no procurement tracking to providing full visibility throughout the organization. The software is helping H&P reduce its total vendor count from 4,000 to about 2,500.
Several departments have been using the system on a pilot basis; it will roll out companywide in April 2005. Milliren reports that the $4.5 million investment in the ERP software and the complete supply chain redesign will result in first-year savings of more than $5 million.
H&P is already saving money on everything from drilling equipment to electrical supplies. One example: The organization discovered that managers were buying 10 different types of cotton gloves when they needed only two types. Simply consolidating glove vendors has led to savings of about 15 percent. In addition, H&P expects to realize soft-dollar gains as it reduces administrative and paperwork overhead. Milliren says, "Comprehensive spend management has allowed us to take a giant leap forward. The ROI is enormous."
Sophisticated spend management would not be possible without software that gives managers insight into the complexities of purchases across the organization. The right application helps a company identify opportunities and integrate data among numerous departments and spending categories.
Michael Schmitt, executive vice president and chief marketing officer of spendmanagement software vendor Ariba Inc. in Sunnyvale, Calif., says the best applications cover a lot of ground. They handle traditional cost management, but they also point out operational best practices, push regulatory compliance (including Sarbanes-Oxley), incorporate nontraditional categories of spending, accommodate procurement outsourcing, and facilitate the oversight of supplier management.
Putting together all the pieces isn't easy. Loews Cineplex Entertainment, a New York City-based operator of 1,400 movie screens across the United States, has focused its spend-management effort on leveraging volume pricing and transforming procurement into a strategic process. Eliminating paperwork and stream-lining buying processes are key to Loews' operational efficiency, says Tom Hogan, vice president of procurement and strategic supply.
The company formerly used mostly nonautomated systems and processes for purchasing. Its Lotus Notes forms; communication with employees via e-mail, faxes and phone conversations; and paper order forms and requisitions made procurement difficult to manage. When Loews conducted a detailed analysis of its spending in 2003, it discovered that workers were scattering purchases throughout a wide universe of suppliers.
The lack of vendor consolidation prevented the company from achieving savings through volume buying, so as Loews prioritized the improvements in its supply chain, developing a list of preferred suppliers received top billing. Loews implemented PeopleSoft eProcurement and began to consolidate buying across 138 theaters. Its goal was to ensure that more than 75 percent of office-supply purchases went through preferred suppliers. The company set up an online catalog that included photographs and detailed product descriptions for more than 25,000 items, and it negotiated pricing far below what theaters had previously paid for many of the products.
Loews introduced the system in October 2003 and rolled it out across the company during the first half of 2004. The end result? Loews has trimmed transactional costs by 33 percent and cut the time it takes to fulfill a purchase order from five days to one day. The company is also saving between 4 percent and 5 percent on the $20 million it spends annually on goods now in its online catalog.
The theater chain plans to further expand the initiative over the next couple of years. "E-procurement has allowed us to gain a more comprehensive view of purchasing. Spend management is a great way to drive dollars to the bottom line and view the business in a more strategic way," Hogan explains.
Aberdeen Group's Degnan couldn't agree more. She thinks spend management represents the next frontier in overseeing the general ledger. It can help finance play a more strategic role in shaping the organization and bring greater understanding and order to the chaotic world of spending. "It's an opportunity for finance to dig under the surface and identify areas ripe for savings. The strategic gains are often significant."
5 Steps to Spending Control
According to Aberdeen Group research director Christa Degnan, an effective spend management initiative encompasses five basic steps: