by

Matt McKenna
mckenna_matthew@bah.com

Harriet Engel
engel_harriet@bah.com

Putting the Strategic Back

Into Sourcing

Putting the Strategic Back Into Sourcing

The vice president of purchasing at a major
high-tech company emerged from another beating at the monthly leadership team meeting.
He had just proposed the centralization of the
purchasing department, including the idea of
bringing the companys supplier quality and component engineering groups under the purchasing
umbrella. Not only did none of the other managers support this concept, but his boss rejected
the idea outright without any hope of future discussions. The VP was sure that the only way to
control spending and increase savings in this
key part of the supply chain is to centralize the
department. He was similarly rebuffed when he
initially proposed a supplier scorecard last year,
cross-enterprise sourcing teams the year before,
and the use of e-Sourcing tools the year before
that. When those initiatives were eventually implemented, they reaped millions of dollars in cost
savings for the company. Nevertheless, the VP
continues to encounter roadblocks whenever he
tries to introduce the latest sourcing concepts
into the company. Why, he wonders, does it feel
like he is trying to move a mountain every time
he proposes new ways to increase cost savings
through purchasing?
As the case of this high-tech company illustrates,
despite the fact that strategic sourcing programs

began to proliferate in the 1990s, sourcing is still

largely relegated to a nonstrategic position. Purchasing
departments do not gain the respect that they deserve,
although sourcing-related programs have produced
hundreds of millions of dollars in cost savings for
many companies. At issue is the manner in which
purchasing departments usually seek these cost
savings. Initiatives are generally piecemeal, tactical,
and narrowly focused. Last years supplier scorecard
is not linked to this years department reorganization
or previous strategic sourcing efforts or technology
implementations. Management is continually asked
to support these disorganized programs with precious
resources. Upon completion of these initiatives,
budgets often get cut throughout the organization, and
business units, which bear the brunt of the budget
cuts, are asked to back yet another new purchasing
plan that will monopolize additional resources in the
following years.
When companies choose to back strategic purchasing
programs, savings are usually achieved, but these savings are curtailed when enterprise support is limited.
The primary reasons: Without full buy-in from the entire
company, contracts arent adhered to, policies arent
followed, and technologies arent fully utilized. A recent
Booz Allen Hamilton survey found that when there is
cross-functional participation in supply chain planning,
purchasing savings increase by more than 20 percent.
Despite the difficulties and company friction, we believe
that now is the time to take the procurement agenda
to a higher level, by adopting a strategic, integrated

approach to purchasing throughout the organization.

To reach the full potential of the procurement agenda,
organizations must take a broader, more holistic, and
more strategic approach to purchasing.
A successful procurement agenda needs to address
four key dimensions: processes, organization, technology, and performance management (see Exhibit 1).
These dimensions must be developed into a comprehensive plan and should be addressed one by one on
the basis of corporate and business unit objectives,
goals, and strategies. The Booz Allen supply chain
survey found that companies that are willing to take
a broad approach and break the constraints of their
supply chains achieve purchasing savings 55 percent
higher than those of companies just optimizing the
chain within its current constraints.

Evolution of Procurement
For many years, the purchasing department served
largely as clerical support for the business units.
Its primary function was to send suppliers purchase
orders based on requisitions received from other
departments, which, in many cases, had already
selected the supplier and negotiated the price.
Purchasing would also follow up on the orders and
make sure that the proper paperwork was completed.
In addition, the purchasing department was occasionally involved in administering contracts, and it kept
track of supplier contact information.
In the 1980s, many companies began to recognize the
importance of the purchasing function as they reduced
their vertically integrated structures and began to look

Exhibit 1
Strategic Purchasing Agenda

Source: Booz Allen Hamilton

outside for suppliers. As a result, purchased goods

and services became a bigger part of the cost structure of many companies. The purchasing department,
however, was typically not equipped to take a larger
role in managing these outlays, and the business units
were hesitant to cede this control.
With costs of purchased goods and services growing,
in the 1990s there was a proliferation of strategic
sourcing programs designed to cut back on expenditures. Companies organized cross-functional commodity teams to pursue more effective supplier strategies.
The number of suppliers was reduced on many commodities so that companies could build stronger relationships with fewer, more critical suppliers. Moreover,
new purchasing ideas began to attract attention. For
example, Booz Allens Balanced Sourcing concept
described a methodology for reducing costs and at the
same time building cooperative relationships with suppliers (see Balanced Sourcing, page 4). Long-term
corporate contracts were signed, especially for indirect
items (i.e. expenditures not directly related to production, such as travel and office supplies). Later in the
1990s, with the Y2K upgrades, technologies flooded
the market with promises of revolutionizing purchasing and the Internet age introduced new concepts like
Web-based exchanges and auctions, e-Sourcing, and
other online transactional programs.
Many companies claimed huge savings as a result
of such initiatives. These nascent strategic sourcing
efforts yielded cost cuts on indirect materials of an
average of 10 to 15 percent. Furthermore, reverse
auctioneers touted savings of up to 35 percent on a
variety of custom and commodity products in many
industries. But despite these gains, purchasing departments have continued, in many cases, to maintain an
arms-length relationship with the business units, their
clients and the mechanism to realizing those savings.
And too many companies have adopted the latest purchasing fad without connecting it to other initiatives.
Consequently, these sourcing efforts often generate
confusion within the organization, especially with regard
to how they fit into an overarching company strategy
and how business units or the company will benefit.

To overcome this chaotic approach to purchasing and

to gain the greatest returns from procurement initiatives, companies should start by viewing procurement
as a broad, cross-functional activity that extends
well beyond the purchasing department. They must
address the multidimensional nature of procurement,
and develop and execute a coordinated multiyear
internal transformation program to adopt a successful
purchasing strategy.
The Home Depot Inc. has done this, and to good
effect. The home improvement chains approach to purchasing dovetails perfectly with the companys strategy
of everyday low prices and regional variety. In 2001,
Home Depot CEO Robert Nardelli consolidated its
purchasing of core products75 percent of the items
the retailer sellsin a central purchasing unit at corporate headquarters in Atlanta. The main reason for this
move, Mr. Nardelli said, was to gain better control over
inventory (the number of products that Home Depot
carried had proliferated in the previous years) and to
use bulk procurement leverage to purchase goods at
the lowest cost. And even while instituting this strategy, Mr. Nardelli continued to allow regional units to
make purchasing and inventory decisions regarding
specific products needed to satisfy their own markets.
Today, the company backs this approach with proprietary technology used to forecast materials needed
and to track both imported and domestic materials in
real time. Technology is also used to control maverick
buying, as only invoices from system-generated orders
are processed. In addition, systems provide exception
reports that measure anomalies in the performance of
suppliers. With this strategic approach to purchasing
as a critical earnings driver, Home Depots operating
income rose 14 percent between 2001 and 2003.
Setting the Agenda
To achieve purchasing success similar to that of
Home Depot and other leading companies, the
strategic agenda must address the four elements
identified earlier.

Balanced Sourcing
Tim Laseter wrote the book Balanced Sourcing: Cooperation and Competition in Supplier Relationships
(Jossey-Bass) in 1998 while a Vice President at Booz Allen Hamilton to establish a framework and
methodology for developing cooperative relationships with suppliers and simultaneously achieving needed
cost savings. Based on the firms experience and research, the book discusses the development of a broader
set of organizational purchasing capabilities:
1. Modeling Total Cost
2. Creating Sourcing Strategies
3. Building and Sustaining Relationships

4. Integrating the Supply Web

5. Leveraging Supplier Innovation
6. Evolving a Global Supply Base

The first three capabilities are the core processes for defining and developing the supply base; as such, they
are universally applicable to any type of company. The second three highlight different ways to leverage the
supply base for competitive advantage. Most companies focus on one of these latter capabilities at most;
only the largest and most sophisticated companies can afford to pursue all three.
1. Modeling Total Cost
Understanding the economics and the cost drivers of purchased goods and services through cost modeling
is the most fundamental capability. It provides focus to cooperative efforts and ensures that prices reflect
underlying economics.
2. Creating Sourcing Strategies
A sourcing strategy is analogous to a business strategy. Done well, both can create a competitive advantage
that will deliver superior returns. Just like a business plan, a well thought-out sourcing strategy reflects a
deep understanding of industry economics and dynamics and, by quantifying the potential returns, presents a
compelling case for investment.
3. Building and Sustaining Relationships
How a company approaches the challenge of building and sustaining supplier relationships sets the tone
for long-term cooperation. Setting improvement targets, structuring incentives, and investing in supplier
development all play a role in finding the right balance.
4. Integrating the Supply Web
As companies relationships with suppliers grow ever more complex, the supply chain increasingly resembles
a web. Managing such a complex network becomes even more critical because the cost of an inefficient
supply web can be dramatic. Opportunities for improving the supply web have been a focal point for many
years, but are far from tapped out.
5. Leveraging Supplier Innovation
Companies employ a variety of techniques to manage technology development with suppliers. Setting
aggressive but valid supplier cost targets, for example, drives cost improvement without ruining a cooperative
relationship. In recent years, many companies have shifted their attention from cost reduction to growth,
enhancing their ability to innovate.
6. Evolving a Global Supply Base
Expansion of the supply base outside a home market may be prompted by a desire to find low-cost suppliers
or to support global expansion of the companys operations. Whatever the motivation, the challenges of
purchasing materials and parts from a distant location, currency exposure, and cross-cultural communication
mandate a substantial upgrade in capabilities for most organizations.
These six capabilities still resonate today. However, in addition to the development of procurement
processes and relationships with key suppliers, businesses also need to think about organizational
attributes, technology, and performance management. And the procurement agenda should include the
development of a vision to achieve results that can be measured in the form of profitable operations and
competitive advantage.

Exhibit 2
Best Practice Procurement Process Framework

Source: Booz Allen Hamilton

1. Processes
Procurement process development needs to span the
strategic, tactical, and executional (see Exhibit 2).
Well-defined processes should be driven by the overall company strategy and should bridge the extended
enterprise by connecting customers needs (via the
business units) to the supply base. Strategic processes should be defined by the overall procurement
policy. These processes establish which commodities
will be needed and from whom they should be procured. Tactical processes address product and service
specifications, as well as how much of each commodity will be needed and when. In addition, companies
must determine the types of supplier relationships that
they require and design a plan to achieve those relationships. Executional processes set up the procureto-pay system: how requisitions, purchase orders, and

invoices should be processed. All processes should be

interlinked to form the overall aligned process architecture. For example, a decision to employ a global sourcing strategy should define supply base relationships
and require executional processes that govern how
purchase orders must be processed.
2. Organization
Purchasing processes need to be supported by the
appropriate organizational model. Organizational design
can frequently be a point of real contention within a
company. Business units want their own employees
managing their procurement to ensure that decisions
are made in their best interest, but corporate management wants to ensure that initiatives benefit the organization as a whole. Many companies view the organizational model as a decision between centralized,

Exhibit 3
Purchasing Organizational Options

Source: Booz Allen Hamilton

decentralized, hybrid, and other structures (see Exhibit

3). But a full organizational strategy needs to address
questions of:

Spend Segmentation: How should commodities be prioritized to reflect the companys strategic priorities?
Roles and Responsibilities: What role should purchasing play for the various commodities (e.g.,
managing the program, driving the agenda)? How and
when should the business units be included in the
sourcing process?
Organizational Alignment: Will a centralized, decentralized, or hybrid structure best meet the organizations
needs? Should any purchasing be outsourced? What
positions should be internal to purchasing and which
functions in other parts of the organization need to
have dotted-line reporting relationships to purchasing? Should purchasing employees be organized by
commodity or by business unit?

Organizational Skill Matrix: What skills does the purchasing organization need to have? What skills are
currently in place? What is the training plan to ramp
up the necessary skills?
Incentive Plans: What incentives does the organization
need to have in place to ensure that the company is
motivated to support the purchasing strategy? How
can employees be rewarded for their contributions?

The overall organizational design not only needs to

mirror the overall company organizational approach
(e.g., a centralized purchasing organization would be
out of sync in a decentralized model), but also needs
to honestly assess the needs of the entire organization. A staged approach to redesign may be necessary.
For instance, if the department does not currently possess the skills needed to support a change from a
decentralized to a centralized model, it may ultimately
make more sense to build the skills first and change
the structure later.

Exhibit 4
Procurement Performance Management Framework

Source: Booz Allen Hamilton

3. Technology
Companies have multiple tools at their disposal to
enable a successful purchasing strategy. Tools can
help with strategic, tactical, and executional processes
(EDI, electronic auctions, electronic RFPs, online catalogs, e-Sourcing, contract databases); performance
management (supplier scorecards, compliance management); and strategy development (expenditure
analysis, cost modeling). Individual tools might be right
or wrong for any given company. The key is for technology investments to be made as integral components of
the purchasing strategythey cannot be bolted on
as an afterthought. In addition, the company needs to
have a realistic view of how these systems fit into the
overall systems architecture, how much training will be
made available, and what the expected benefits will be,
as well as a realistic view of the extent to which users
will actually employ the technology.

4. Performance Management
To ensure that the processes and organization are
functioning at the highest level, companies should
design performance metrics that provide ownership,
visibility, transparency, and accountability (see Exhibit
4). Metrics need to be robust and explore the management of both internal stakeholders and suppliers. It
is critical that information be timely so that the organization can react to problems quickly before they go
too far. It is also important to understand the drivers
behind performance so that appropriate corrective
action can be taken. For example, a supplier who is
failing to meet stated lead times could be doing so
either because of its own poor performance or because
it chronically receives last-minute orders from the company. These two scenarios would lead to vastly different corrective actions.

Leaders recognize that creating a strategic sourcing

program is a multiyear journey, and they think and
plan accordingly. Each of the four elements described
above must be addressed in an organizations three- to
five-year plan. The order in which the elements should
be addressed will depend on recent initiatives and
the current state of the company. It is essential not
to bite off more than an organization can chew at one
time. Companies should work to ensure that each
element is linked to the others and the overall company agenda with a common strategy. Furthermore, the
strategy should be self-funded. Credibility is quickly
established when executives apply a portion of savings
to future purchasing initiatives rather than request
additional investments. In this way, the business
recognizes the benefits, and purchasing is viewed as
a core contributor to the company strategy and bottom

line. For example, one of our clients, a major oil and

gas company, paid for multiyear initiatives through
significant post-merger savings racked up by the purchasing department.
For those companies looking to implement comprehensive strategic purchasing programs, a first step is
to conduct a quick calibration of where the organization stands relative to cross-industry best practices
in purchasing to assess the major gaps. Over time,
companies can make an assessment of their progression toward best practice to determine if the strategy
is working or if some element needs to be tweaked.
Taking a strategic approach to purchasing will allow the
organization to fully recognize what sourcing practitioners have known for years: Purchasing can and should
drive sustainable results across the organization, and
it therefore merits CEO-level attention.

What Booz Allen Brings

Booz Allen Hamilton has been at the forefront of management consulting for businesses and government for
90 years. Booz Allen combines strategy with technology
and insight with action, working with clients to deliver
results today that endure tomorrow.
With more than 16,000 employees on six continents,
the firm generates annual sales of $2.7 billion. Booz
Allen provides services in strategy, organization, opera-

tions, systems, and technology to the worlds leading

corporations, government and other public agencies,
emerging growth companies, and institutions.
To learn more about the firm, visit the Booz Allen
Web site at www.boozallen.com. To learn more
about the best ideas in business, visit www.strategybusiness.com, the Web site for strategy+business, a
quarterly journal sponsored by Booz Allen.

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