Executive Briefings

Automated Procurement Offers Dramatic Savings, Fast Payback

Until recently, purchasing in most corporations was a fragmented, paper-based, labor-intensive activity with little or no value-add. That picture is changing dramatically with the advent of the internet and new e-procurement solutions.

Using the internet and specialized software to automate and centralize procurement offers companies tremendous savings potential. According to a recent survey of more than 200 companies by Deloitte Consulting, return on investment averages 300 percent in the first two to three years following e-procurement implementation. This ROI is based on a capital investment of $2m to $4m and annual procurement savings of nearly 9 percent.

Such stellar performance no doubt accounts for the fact that the vast majority of companies using e-procurement solutions are highly satisfied with the results - an outcome that contrasts starkly with many other, often more expensive, technology investments.

"Clearly, the question for today's company should be, 'how soon can we move to an e-procurement solution in order to fundamentally change our competitive position?'" says John Ferreira, a principal at Deloitte and co-author of the survey, Leveraging the e-Business Marketplace. "The days when businesses bought and sold their products and services by slogging through time-, effort-, and cost-intensive processes are fast disappearing. Companies are looking everywhere they can to reduce overhead, and where better than in the millions of dollars they spend each year just to run their business?"

The compelling benefits of e-procurement are fueling a tidal wave of adoption by major organizations, according to Deloitte. The consulting firm predicts that by 2002 the vast majority of companies (more than 80 percent) will have implemented an e-procurement solution. "Not only will this be a boon to the software companies that lead the e-procurement revolution, but it will fundamentally change the dynamics between companies and their suppliers," says Len Prokopets, senior manager at Deloitte and co-author of the study. "The traditional purchasing department will cease to exist. Its focus, instead, will be on understanding the requirements of the business, coordinating information exchanges and improvements with suppliers, and developing negotiation and sourcing strategies."

Indirect Leads Trend
To date, the most popular spending categories for e-procurement have been "indirect" expenses, such as office supplies, office equipment and computer hardware and software. Increasingly, however, companies are looking to implement e-procurement solutions for raw materials and manufacturing components as well. Commerce One of Walnut Creek, Calif., the leading vendor in this field, announced in February that its MarketSite Portal Solution will be expanded to support internet-based procurement of direct materials and materials for mission-critical maintenance, repair and operations (MRO).

Ariba Inc. of Sunnyvale, Calif., also has staked out a major claim in this market space and, i2 Technologies, Dallas, recently made a big splash when it acquired Aspect Development and Supplybase. Smaller players include Bowstreet Software, Portsmouth, N.H.; Calico Commerce, San Jose, Calif.; Extricity Software, Redwood Shores, Calif.; Tempest Software, New York; and Viewlocity, Stockholm, Sweden.

Savings are realized from reduced inventory costs, lower order cycle times, decreased administrative expenses and optimized asset utilization for suppliers and manufacturers. In other words, says Chris Lange, vice president of operations and supply chain at Commerx Inc., these tools "enable companies to squeeze inefficiencies out of their supply chains." Commerx is a Chicago-based company that developed PlasticsNet.com, an electronic trading exchange for the plastics industry.

E-procurement products include features that allow manufacturers to design and automate integrated business models that mimic complex business transactions. The systems can be set up to follow existing business rules and to take advantage of the web by offering more self-service functions. While the tools have chalked up early successes, they still are at a relatively nascent stage of development. "Vendors have only been shipping their products for about 18 months or so, so the market is still quite young," says Kit Robinson, director of corporate communications at Commerce One.

As previously noted, corporations to date have used these systems primarily to place orders for indirect or non-mission-critical goods. Such systems are easier to deploy for two reasons. One, they generally rely on catalogs that consist of static data typically updated on a monthly basis, whereas procuring direct goods requires access to current product information. Two, direct goods' procurement requires more interaction between buyers' and sellers' computer systems. With an order for indirect goods, a user fills out a request and then leaves the rest of the work to the supplier. That is not the case with direct goods, where there is a tight correlation between shipment status and work activities.

A number of pieces need to fall into place for procurement tools to receive wide adoption for the purchase of indirect goods. For one, standards have to be developed so companies can easily exchange information like purchase orders or shipment data. "The problem is companies rely on a variety of ERP applications and they all format information in a number of different ways," says Jennifer McGhee, a research analyst with ARC Advisory Group, a Dedham, Mass. market research firm.

Emerging e-commerce tools are designed to work with a variety of existing applications and often include integrated connectors to ERP systems, but these connectors are complex and can require a great deal of maintenance. And they do not solve the problem of having information formatted in different ways. Common standards would ease the installation process and transfer of data. These are beginning to emerge with efforts that include Open Buying on the internet; RosettaNet, which is developing standards for the high-tech industry; Ariba's Commerce Extensible Markup Language (cXML), and Microsoft Corp.'s BizTalk. In addition, ad hoc groups have emerged to take on data formatting work in vertical markets, such as the automotive industry.

Technology Infrastructure
Another issue that could be a barrier to adoption is that many companies still need to implement the technology infrastructure necessary to move supply-chain data to trading partners. Business-to-business procurement solutions combine two components: one that automates internal processes and a second that connects buyers and their suppliers. Together, these two components provide end-to-end management of various operating resources, from requisitions to authorizations and payments. The tools also can support supply-chain integration and help organizations with collaborative planning and engineering, work-in-process tracking, channel assembly, and vendor-managed inventory. These are complex interactions that require a wide range of data exchanges and a robust infrastructure.

Successful implementation also requires a strong business focus, according to the Deloitte study. "Corporate procurement workflows are often undocumented and hard to change, with policies and procedures that are not often followed," it states. "While many companies are concerned with the technology and the need to have a broad range of products and services available, the greatest challenge ... will be the ability to redesign internal business processes." Three-quarters of companies in the Deloitte survey cited the need to streamline the approval and workflow process and to assign clear responsibilities regarding who can buy what, and when. "For most companies, this is a major organizational and cultural shift and will require a strong business leader to champion the effort," according to the study.

The payoff appears to be worth the required effort and investment, however. Savings in administrative costs alone are substantial for businesses drowning in the swamp of traditional order processing. By the time a purchase order travels through a paper maze of approvals to the purchasing department, administrative costs typically run $40 to $150, possibly exceeding the cost of the product itself. By moving to an electronic system, a company can shave 15 percent or more off its costs.

Also, organizations gain more visibility, control, responsiveness, and speed over their interactions. A supplier can set up real-time access to production information and even enter instant updates as goods are produced or shipped. These features enable corporations to decrease order lead times and reduce inventory levels and costs by quickly communicating current stock availability.

For example, Adaptec Inc., a $1bn supplier of high-performance network and I/O connectivity products, decided two years ago that it needed to match the cycle times of competitors that operated with their own silicon-fabrication plants, a function that Adaptec outsourced. The California-based supplier needed to accelerate front-end processes by sending complex documents to their contract manufacturers in Asia.

At the time, e-procurement tools were just emerging and Adaptec determined Extricity's AllianceSeries was the most mature package available. To ensure that the Extricity package would function as needed, Adaptec ran the software internally during a six-week trial in the spring of 1997. After getting its suppliers aboard, Adaptec began a test run in the fall of 1997 and found the system offered many potential improvements. No longer would employees have to manually enter purchase orders. Such information as well as engineering diagrams could flow securely over the public network directly into its partners' systems.Adaptec had the new connectors in place with its major suppliers by early 1998 with the goal of reducing product cycle time from 105 to 55 days. The initial results were impressive: product development time was lowered to 56.5 days.

"We were a little off with our projections, not because of any limitations with the software but because of a few of our own internal business processes," says Dolores Marciel, vice president of worldwide materials at Adaptec.

The company tweaked these processes to achieve the 55-day goal. By adopting the new system, Adaptec also reduced its product development time by 50 percent, cutting 4 weeks out of the pipeline, a change that resulted in a $9m saving. In addition, the firm saved $2m by reducing the volume of slow moving materials and $2m by turning its inventory over faster. In the first three years, the payback is expected to be 15 times its investment.E-procurement systems also help companies make smarter purchases. Most e-procurement products include analysis and reporting features so a company can evaluate its purchasing patterns. Traditionally, a company's buying power may have been fragmented among different divisions, each having relationships with its own suppliers. The new systems enable firms to create larger, more efficient, company-wide marketplaces where business controls are automated and consistently applied. This, in turn, enables a company to lower the number of suppliers it deals with and to take advantage of volume discounts. Moreover, it helps corporations reduce off-contract, maverick buying and directs aggregated spending toward preferred suppliers at lower prices.Benefits are possible even before a product enters the supply chain. "We build a lot of complex components and products for high-tech companies," says Mike Webb, worldwide IT director at Flextronics Inc., San Jose, Calif. "These new tools should enable us to exchange design data earlier in the production cycle, which should increase our efficiency."Flextronics is moving down the path to electronic procurement and purchased Calico software and services for its initiative. "In six months, I expect us to have a dozen suppliers - including two to three large ones - sending us information electronically," Webb predicts.

Portal StrategiesTo increase adoption, vendors have started to change how they offer their products. They are moving away from having customers purchase, install, and maintain packaged applications to delivering managed services. Here, manufacturers hand over application installation and maintenance chores to vendors, a change designed to speed up deployment, reduce implementation costs, and enable customers to focus more on core business functions.Such services are being packaged as business-to-business portals or marketplaces. These go beyond supplier-to-supplier connections. They not only provide information on products from many companies but the ability to purchase them online. Most also support automated transactions and host workflow applications, such as those for purchase approvals and accounting. Buyers log on to a marketplace web site using a browser, register, and set up a method of payment before shopping for goods. The site handles the transaction, routes the order to the vendor, takes a fee - usually a small percentage of the transaction's value - and transfers payment to the vendor's account. The vendor then ships the product.While some sites let users access information on products and order goods using a web browser, the more useful sites let buyers download information into an electronic procurement application, so transactions can be routed through an approval process and a purchase order created.

Interest in these new services is high for a number of reasons. Companies can connect to many buyers without having to create point-to-point connections to each of them. Also, they can reach new customers, and leverage information from competitors to increase sales. Marketplaces handle the tricky task of integrating large amounts of product information from a variety of vendors using different systems. Some sites also are adding software applications for conducting online auctions, which let sellers unload excess inventory and outdated models more efficiently.Rapid ChangesThere is significant competition in this space. At the end of 1999 there were 1,000 online marketplaces and that number was expected to increase to 10,000 by the end of 2000. "This market is changing so fast and there is so much interest that I'm not sure who our main competitors will be in six to 12 months," says Lange at Commerx, which has 35,000 buyers at its PlasticsNet site.

Among others, ERP giants Oracle Corp., Redwood Shores, Calif.; PeopleSoft Inc., Pleasanton, Calif.; and SAP America Inc., Philadelphia, Pa., are eyeing this space. These companies have plenty of experience automating procurement of direct goods and have been signing a number of agreements to add electronic procurement portals to their product lines. SAP and PeopleSoft invested in Commerce One while PeopleSoft and Oracle have strategic alliances with Ariba.

Faced with fierce competition, the procurement vendors are trying to change their focus from horizontal sales to vertical ones. They are aligning with top companies in various markets and developing purchasing sites that they hope will become de facto standards for specific industries. For instance, General Motors turned on its procurement site, TradeXchange, in December. The company's catalog lists 200,000 items available to GM and its suppliers through five companies: W. Grainger Inc., Boise Cascade Inc., Corporate Express Inc., Direct Sourcing Solutions Inc. and Graybar Inc. During the first week, GM processed its first purchasing orders totaling more than $500,000 in maintenance, repair and operating equipment on the exchange, which was developed in partnership with Commerce One. By the end of the first month the number had reached $1.7m. "Our initial tests have shown we will be able to cut the cost of processing a purchase order from $100 to $10 by sending the information electronically," says Doug Maulbetsch, chief information officer at TradeXchange.

Using the internet and specialized software to automate and centralize procurement offers companies tremendous savings potential. According to a recent survey of more than 200 companies by Deloitte Consulting, return on investment averages 300 percent in the first two to three years following e-procurement implementation. This ROI is based on a capital investment of $2m to $4m and annual procurement savings of nearly 9 percent.

Such stellar performance no doubt accounts for the fact that the vast majority of companies using e-procurement solutions are highly satisfied with the results - an outcome that contrasts starkly with many other, often more expensive, technology investments.

"Clearly, the question for today's company should be, 'how soon can we move to an e-procurement solution in order to fundamentally change our competitive position?'" says John Ferreira, a principal at Deloitte and co-author of the survey, Leveraging the e-Business Marketplace. "The days when businesses bought and sold their products and services by slogging through time-, effort-, and cost-intensive processes are fast disappearing. Companies are looking everywhere they can to reduce overhead, and where better than in the millions of dollars they spend each year just to run their business?"

The compelling benefits of e-procurement are fueling a tidal wave of adoption by major organizations, according to Deloitte. The consulting firm predicts that by 2002 the vast majority of companies (more than 80 percent) will have implemented an e-procurement solution. "Not only will this be a boon to the software companies that lead the e-procurement revolution, but it will fundamentally change the dynamics between companies and their suppliers," says Len Prokopets, senior manager at Deloitte and co-author of the study. "The traditional purchasing department will cease to exist. Its focus, instead, will be on understanding the requirements of the business, coordinating information exchanges and improvements with suppliers, and developing negotiation and sourcing strategies."

Indirect Leads Trend
To date, the most popular spending categories for e-procurement have been "indirect" expenses, such as office supplies, office equipment and computer hardware and software. Increasingly, however, companies are looking to implement e-procurement solutions for raw materials and manufacturing components as well. Commerce One of Walnut Creek, Calif., the leading vendor in this field, announced in February that its MarketSite Portal Solution will be expanded to support internet-based procurement of direct materials and materials for mission-critical maintenance, repair and operations (MRO).

Ariba Inc. of Sunnyvale, Calif., also has staked out a major claim in this market space and, i2 Technologies, Dallas, recently made a big splash when it acquired Aspect Development and Supplybase. Smaller players include Bowstreet Software, Portsmouth, N.H.; Calico Commerce, San Jose, Calif.; Extricity Software, Redwood Shores, Calif.; Tempest Software, New York; and Viewlocity, Stockholm, Sweden.

Savings are realized from reduced inventory costs, lower order cycle times, decreased administrative expenses and optimized asset utilization for suppliers and manufacturers. In other words, says Chris Lange, vice president of operations and supply chain at Commerx Inc., these tools "enable companies to squeeze inefficiencies out of their supply chains." Commerx is a Chicago-based company that developed PlasticsNet.com, an electronic trading exchange for the plastics industry.

E-procurement products include features that allow manufacturers to design and automate integrated business models that mimic complex business transactions. The systems can be set up to follow existing business rules and to take advantage of the web by offering more self-service functions. While the tools have chalked up early successes, they still are at a relatively nascent stage of development. "Vendors have only been shipping their products for about 18 months or so, so the market is still quite young," says Kit Robinson, director of corporate communications at Commerce One.

As previously noted, corporations to date have used these systems primarily to place orders for indirect or non-mission-critical goods. Such systems are easier to deploy for two reasons. One, they generally rely on catalogs that consist of static data typically updated on a monthly basis, whereas procuring direct goods requires access to current product information. Two, direct goods' procurement requires more interaction between buyers' and sellers' computer systems. With an order for indirect goods, a user fills out a request and then leaves the rest of the work to the supplier. That is not the case with direct goods, where there is a tight correlation between shipment status and work activities.

A number of pieces need to fall into place for procurement tools to receive wide adoption for the purchase of indirect goods. For one, standards have to be developed so companies can easily exchange information like purchase orders or shipment data. "The problem is companies rely on a variety of ERP applications and they all format information in a number of different ways," says Jennifer McGhee, a research analyst with ARC Advisory Group, a Dedham, Mass. market research firm.

Emerging e-commerce tools are designed to work with a variety of existing applications and often include integrated connectors to ERP systems, but these connectors are complex and can require a great deal of maintenance. And they do not solve the problem of having information formatted in different ways. Common standards would ease the installation process and transfer of data. These are beginning to emerge with efforts that include Open Buying on the internet; RosettaNet, which is developing standards for the high-tech industry; Ariba's Commerce Extensible Markup Language (cXML), and Microsoft Corp.'s BizTalk. In addition, ad hoc groups have emerged to take on data formatting work in vertical markets, such as the automotive industry.

Technology Infrastructure
Another issue that could be a barrier to adoption is that many companies still need to implement the technology infrastructure necessary to move supply-chain data to trading partners. Business-to-business procurement solutions combine two components: one that automates internal processes and a second that connects buyers and their suppliers. Together, these two components provide end-to-end management of various operating resources, from requisitions to authorizations and payments. The tools also can support supply-chain integration and help organizations with collaborative planning and engineering, work-in-process tracking, channel assembly, and vendor-managed inventory. These are complex interactions that require a wide range of data exchanges and a robust infrastructure.

Successful implementation also requires a strong business focus, according to the Deloitte study. "Corporate procurement workflows are often undocumented and hard to change, with policies and procedures that are not often followed," it states. "While many companies are concerned with the technology and the need to have a broad range of products and services available, the greatest challenge ... will be the ability to redesign internal business processes." Three-quarters of companies in the Deloitte survey cited the need to streamline the approval and workflow process and to assign clear responsibilities regarding who can buy what, and when. "For most companies, this is a major organizational and cultural shift and will require a strong business leader to champion the effort," according to the study.

The payoff appears to be worth the required effort and investment, however. Savings in administrative costs alone are substantial for businesses drowning in the swamp of traditional order processing. By the time a purchase order travels through a paper maze of approvals to the purchasing department, administrative costs typically run $40 to $150, possibly exceeding the cost of the product itself. By moving to an electronic system, a company can shave 15 percent or more off its costs.

Also, organizations gain more visibility, control, responsiveness, and speed over their interactions. A supplier can set up real-time access to production information and even enter instant updates as goods are produced or shipped. These features enable corporations to decrease order lead times and reduce inventory levels and costs by quickly communicating current stock availability.

For example, Adaptec Inc., a $1bn supplier of high-performance network and I/O connectivity products, decided two years ago that it needed to match the cycle times of competitors that operated with their own silicon-fabrication plants, a function that Adaptec outsourced. The California-based supplier needed to accelerate front-end processes by sending complex documents to their contract manufacturers in Asia.

At the time, e-procurement tools were just emerging and Adaptec determined Extricity's AllianceSeries was the most mature package available. To ensure that the Extricity package would function as needed, Adaptec ran the software internally during a six-week trial in the spring of 1997. After getting its suppliers aboard, Adaptec began a test run in the fall of 1997 and found the system offered many potential improvements. No longer would employees have to manually enter purchase orders. Such information as well as engineering diagrams could flow securely over the public network directly into its partners' systems.Adaptec had the new connectors in place with its major suppliers by early 1998 with the goal of reducing product cycle time from 105 to 55 days. The initial results were impressive: product development time was lowered to 56.5 days.

"We were a little off with our projections, not because of any limitations with the software but because of a few of our own internal business processes," says Dolores Marciel, vice president of worldwide materials at Adaptec.

The company tweaked these processes to achieve the 55-day goal. By adopting the new system, Adaptec also reduced its product development time by 50 percent, cutting 4 weeks out of the pipeline, a change that resulted in a $9m saving. In addition, the firm saved $2m by reducing the volume of slow moving materials and $2m by turning its inventory over faster. In the first three years, the payback is expected to be 15 times its investment.E-procurement systems also help companies make smarter purchases. Most e-procurement products include analysis and reporting features so a company can evaluate its purchasing patterns. Traditionally, a company's buying power may have been fragmented among different divisions, each having relationships with its own suppliers. The new systems enable firms to create larger, more efficient, company-wide marketplaces where business controls are automated and consistently applied. This, in turn, enables a company to lower the number of suppliers it deals with and to take advantage of volume discounts. Moreover, it helps corporations reduce off-contract, maverick buying and directs aggregated spending toward preferred suppliers at lower prices.Benefits are possible even before a product enters the supply chain. "We build a lot of complex components and products for high-tech companies," says Mike Webb, worldwide IT director at Flextronics Inc., San Jose, Calif. "These new tools should enable us to exchange design data earlier in the production cycle, which should increase our efficiency."Flextronics is moving down the path to electronic procurement and purchased Calico software and services for its initiative. "In six months, I expect us to have a dozen suppliers - including two to three large ones - sending us information electronically," Webb predicts.

Portal StrategiesTo increase adoption, vendors have started to change how they offer their products. They are moving away from having customers purchase, install, and maintain packaged applications to delivering managed services. Here, manufacturers hand over application installation and maintenance chores to vendors, a change designed to speed up deployment, reduce implementation costs, and enable customers to focus more on core business functions.Such services are being packaged as business-to-business portals or marketplaces. These go beyond supplier-to-supplier connections. They not only provide information on products from many companies but the ability to purchase them online. Most also support automated transactions and host workflow applications, such as those for purchase approvals and accounting. Buyers log on to a marketplace web site using a browser, register, and set up a method of payment before shopping for goods. The site handles the transaction, routes the order to the vendor, takes a fee - usually a small percentage of the transaction's value - and transfers payment to the vendor's account. The vendor then ships the product.While some sites let users access information on products and order goods using a web browser, the more useful sites let buyers download information into an electronic procurement application, so transactions can be routed through an approval process and a purchase order created.

Interest in these new services is high for a number of reasons. Companies can connect to many buyers without having to create point-to-point connections to each of them. Also, they can reach new customers, and leverage information from competitors to increase sales. Marketplaces handle the tricky task of integrating large amounts of product information from a variety of vendors using different systems. Some sites also are adding software applications for conducting online auctions, which let sellers unload excess inventory and outdated models more efficiently.Rapid ChangesThere is significant competition in this space. At the end of 1999 there were 1,000 online marketplaces and that number was expected to increase to 10,000 by the end of 2000. "This market is changing so fast and there is so much interest that I'm not sure who our main competitors will be in six to 12 months," says Lange at Commerx, which has 35,000 buyers at its PlasticsNet site.

Among others, ERP giants Oracle Corp., Redwood Shores, Calif.; PeopleSoft Inc., Pleasanton, Calif.; and SAP America Inc., Philadelphia, Pa., are eyeing this space. These companies have plenty of experience automating procurement of direct goods and have been signing a number of agreements to add electronic procurement portals to their product lines. SAP and PeopleSoft invested in Commerce One while PeopleSoft and Oracle have strategic alliances with Ariba.

Faced with fierce competition, the procurement vendors are trying to change their focus from horizontal sales to vertical ones. They are aligning with top companies in various markets and developing purchasing sites that they hope will become de facto standards for specific industries. For instance, General Motors turned on its procurement site, TradeXchange, in December. The company's catalog lists 200,000 items available to GM and its suppliers through five companies: W. Grainger Inc., Boise Cascade Inc., Corporate Express Inc., Direct Sourcing Solutions Inc. and Graybar Inc. During the first week, GM processed its first purchasing orders totaling more than $500,000 in maintenance, repair and operating equipment on the exchange, which was developed in partnership with Commerce One. By the end of the first month the number had reached $1.7m. "Our initial tests have shown we will be able to cut the cost of processing a purchase order from $100 to $10 by sending the information electronically," says Doug Maulbetsch, chief information officer at TradeXchange.