From rising inflation and supply chain disruptions to a looming global recession, today's procurement managers are facing mounting pressure to cut costs and curb their unmanaged spend. While tail-end expenses are an all-too-familiar concept, it's often overlooked in cost reduction. At the same time, it can account for around 20% of an organization's total expenses.
So how can you unlock significant savings by managing tail spend? Let’s take a closer look at what it actually is, why it matters and how you can develop a successful strategy with the right tail spend management solution.
Tail spend, refers to all of the ad hoc, uncategorized and unmanaged purchases that an organization makes — often without consulting its strategic sourcing or procurement team. Generally, this type of spending includes the low-value, low-frequency, low-volume purchases that fall outside contracts with a strategic supplier network. As a result, tail spend can involve millions of dollars spread across a vast supplier base.
How does it all break down?
Let’s use the famous economic principle, the Pareto Principle, or the 80/20 rule. When we apply this principle to procurement, it states that roughly 80% of your total spend is with around 20% of your suppliers. Inversely, tail spend makes up 20% of your total spend while using 80% of your suppliers. When laid out clearly in these ratios, it’s easy to see how tail spending can start to add up.
Before you dive into your spend analytics to find cost-saving opportunities, it’s important to understand what tail spend actually looks like in your procurement process. Organizations classify tail spending in a number of different ways depending on their unique definitions, procurement practices and business objectives, but it often falls into several categories, including:
What’s interesting to note is that tail spend can be part of both direct and indirect spend.
Direct Spend
Direct spend refers to those costs associated with the goods and services related to production or your end product or service. It can include anything from components to manufacturing services and raw materials. Although there is the potential for tail spend in direct goods and services, the amount spent in this category generally leads to organizations managing it more strategically.
Indirect Spend
Indirect spend refers to all the expenses and overhead costs that are required for your business to operate but aren’t directly tied into the total cost of your products or services. This includes a litany of important spend categories, such as:
While indirect spend might account for a smaller portion of your overall business expenses, McKinsey estimates it’s growing at an alarming 7% per year. Since these costs make up the majority of your tail spend, they hold the greatest opportunity for cost savings.
As organizations and procurement professionals face increasing pressure to reduce costs, they’re starting to pay closer attention to their tail spend. Why is this? Some of your biggest savings can come from effectively managing all of those smaller purchases.
With the right tail spend management solution, organizations can gain numerous benefits, including:
Strategic spend management provides a competitive advantage for any organization, enabling you to save both time and money on the thousands of purchases that go under the radar. According to a recent CPO Survey by Deloitte, driving operational efficiency has now replaced reducing costs for the first time in 10 years.
Because of its low-profile, tail-end spend is complicated to manage effectively. In addition to the time and effort required to track this data, many procurement professionals are reluctant to deal with tail spend because they view it as strategically less important than bigger purchases.
Perhaps the most common and significant challenge for businesses in managing tail spend is the historically poor data visibility. This is due to a variety of reasons, such as:
Tail spend is generally defined by the vast number of categories and fragmented supply base it spans, These factors generate huge amounts of disparate data that can complicate spend analytics. Organizing and managing all of this information can be incredibly tedious and time-consuming for your procurement team.
Without a common tail spend strategy, it can quickly become difficult to track and monitor purchasing activities for one-off or fragmented purchases. It is not uncommon, for instance, for two sites to be buying the same materials from the same vendor without the other’s knowledge. This inevitably leads to one site paying more for the same materials resulting in overall higher costs for the organization.
Organizations using disparate systems for procurement and inventory management functions can result in difficulties finding the right supplier data. This results in inefficiencies that harm employee productivity, slow down your operations and run the risk of the wrong products being ordered.
When departments within an organization are working in silos without a unified procurement process, it can create significant barriers for people to access the information they need. Consolidating this information without a management platform and cohesive strategy often requires a lot of time and effort that could be better spent on more productive tasks.
So, how do you develop a successful supply chain strategy to manage these expenses? Here are five steps you can take to turn your tail spend into strategic spend:
You can’t change what you don’t measure, so implement robust KPIs to keep track of your progress. Some key KPIs include:
Manage tail spend effectively with DSSI’s disciplined source-to-pay process
DSSI’s Source-to-Pay solution delivers a comprehensive and professional purchasing solution that includes capabilities to help you manage and reduce tail spend effectively including industry-leading technology, proven processes and experienced purchasing teams. To learn how your organization can benefit from our solution, contact us today.