I interviewed Paulo Moretti who discussed Measuring Cost Savings, Capital Reductions and Avoidances in Purchasing.
Please provide a brief background of yourself?
I have worked 35 years at Dow Chemical where I developed experience in diverse areas as: Manufacturing, R&D, Sales, Marketing, Business, Finance, Economic Evaluation, Strategic Planning, e-Business and Purchasing.
Since 2012 I have a consultant company (PM2Consult) with focus in Purchasing and market analysis for chemicals and plastics.
What is the starting point for developing effective purchasing metrics?
It starts with Purchasing leadership. Effective leadership is able to elaborate critical questions like:
• How do you know where to improve?
• How do you know how you compare with others?
• How do you know whether you are improving or declining?
In one of my written articles published at on-line magazine MyPurchasingCenter.com , I suggested a framework that relies on the main activities in Purchasing: Internal Client, Suppliers and Sourcing Activities.
Just as an example, we can mention Satisfaction Level for Internal Clients; KPI’s as part of Supplier Scorecard and Savings from Sourcing Activities.
How do you track the savings and benefits?
I have developed an Excel tool called SAS - Sourcing Activity and Savings. This tool calculates and tracks five elements: Addressable Spend, Cost Savings, Capital Reduction, Avoidance and Total Procurement Benefits (TPB).
Addressable Spend = It is the amount of spend that generates reported benefits.
Cost Savings = Also known as EBIT Impact, this is the impact on the income statement relative to the previous period (i.e., previous year). This is the difference between the costs in the previous period and the costs after the sourcing activity. For example: buying a pump for maintenance.
Capital Reduction = This is the impact on the balance sheet, the difference between the levels that existed before and the levels after the sourcing activity. For example: buying a pump for a capital project.
Avoidance = It is the price increase avoided based on forecasted existing price vs. new price paid. The formula is a soft savings to reflect value creation relative to potential or anticipated negative impact to the future Income Statement or Balance Sheet.
Total Procurement Benefits (TPB) = It is the total value created by Purchasing (the sum of cost savings, capital reduction, and avoidances). This is the difference between the outcomes if Purchasing had not done the project.
Where have you seen success?
Companies who use this kind of tool must engage Finance to validate the methodology, so the businesses will trust in the final results.
I think the tool and the methodology had a strong success because the article I wrote about it was the third most read article in 2015 at MyPurchasingCenter. I have received several e-mails from different companies asking specific question to implement the tool. So, I’m glad and honored to have so much interest in the tool and concept, and I hope your audience will find also useful for their needs.
Your audience can download the tool.
About Paulo Moretti
Principal - PM2Consult