Back to Operations Blog

The seven investment priorities for a resilient procurement function

Standard cost-cutting tools do little to improve a procurement function’s long-term resilience—and may even do more harm than good. Here’s where to focus instead.
Mauro Erriquez

Mauro is leading the McKinsey Procurement and Product development service line in Europe. He has almost 20 years of experience supporting clients in significantly improving their performance in Operations and Procurement through better strategies, performance management, and execution.

Samir

Samir is the global leader of the McKinsey Source-to-Pay service line. He has 25 years of experience serving clients on complex digitally-enabled procurement transformation programs, from strategy through execution.

The COVID-19 pandemic has exposed supply-chain vulnerabilities across industries—from food and beverage to computers and electronics. While the acute shock created by the pandemic put supply-chain disruption on newspapers’ front pages and resilience on the CEO agenda, the reality is shocks have been growing more frequent and severe well before the crisis hit.

Our recent research, Risk, resilience, and rebalancing in global value chains, found that disruptions lasting a month or longer now occur an average of once every 3.7 years. The financial toll associated with the most extreme events has also been climbing; on average, companies can expect to lose more than 40 percent of a year’s profits every decade.

In this context, procurement functions have a dual imperative: margin resiliency and business resiliency. With the typical playbook no longer fit for purpose, seven investment priorities can help procurement functions rise to the challenge—while building a competitive edge and boosting company performance.

The role of procurement functions in mitigating risk

COVID-19 caught the procurement functions of many companies unprepared, revealing larger-than-expected risks due to overreliance on sole-source procurement and geographically concentrated suppliers. Nevertheless, many have been quick to respond to the challenges posed by the pandemic, acting with purpose, speed, and agility to source new suppliers.

The challenge now is not only to diversify—that’s just a tactical reaction—but to build a risk-based approach to procurement in order to prepare for the inevitable next shock.

One proven method companies across a range of industries have successfully adopted is the implementation of risk control towers (RCTs), led by the chief procurement officer (CPO) (Exhibit 1). RCT task forces can play an important role in building resilience. Typically installed for a period of three to six months, they convene daily or weekly meetings to review high-risk suppliers, approve or reject mitigation requests, and track the implementation of detailed risk-mitigation plans. Many companies go further and embed the RCT concept into their daily operations.

A CPO-run risk control tower is a proven method to start realizing and mitigating financial and operational supply chain risk.
We strive to provide individuals with disabilities equal access to our website. If you would like information about this content we will be happy to work with you. Please email us at: McKinsey_Website_Accessibility@mckinsey.com

Creating a risk-monitoring dashboard is one critical component of establishing an RCT. This can help companies understand where their own risks may exist, and achieve greater visibility into those of their suppliers and their suppliers’ suppliers—in many cases leveraging digital tools that enable supplier-buyer collaboration to map the supply-chain risks from end to end. This transparency enables procurement functions to assess the potential impact of shocks and respond with agility by tapping alternative sources of supply more quickly.

Creating win-win solutions

As companies look to reduce costs, many of the usual levers they previously had at their disposal are no longer available. Reducing costs from suppliers may become more difficult as it could significantly harm the suppliers’ operational viability, or damage longstanding relationships in the context of the current crisis. It’s no longer enough to rely on the typical cost-reduction toolkit, leaving procurement functions with a constraint-based response. They will need to find win-win solutions that enable them—and their suppliers—to weather the storm.

Our recent survey of more than 100 large organizations across multiple sectors showed that companies that regularly collaborate with their suppliers can achieve higher growth, lower operating costs, and greater profitability than their industry peers.

The three levers that companies can use instead include:

  1. Pursuing joint process improvements, identifying areas where both organizations can benefit by acting as partners, rather than adversaries.
  2. Collaborating on demand planning, tracking changes in customer behavior and purchasing patterns to adapt quickly during the crisis and forecast future demand.
  3. Identifying potential changes to specifications in order to reduce complexity, minimize disruption, and cut costs.

These are opportunities procurement functions can seize in order to protect margins and emerge from the pandemic stronger.

Breaking the reactivity cycle: Seven investment priorities to build resiliency

Beyond these initial cost-reduction actions, companies can also look to the future and invest in creating resilient procurement functions in anticipation of further shocks ahead. As our recent report revealed, many companies still focus their efforts reactively, preparing for the types of disruptions and catastrophes they have encountered in the past rather than planning proactively.

However, by investing across seven key areas, companies can build resilient procurement functions that are prepared to respond to a range of events—including those they might not anticipate today.

  1. Spend accuracy: Creating a common organization-wide category structure to facilitate cross-region and cross-business-unit spend visibility and reporting accuracy.
  2. Closed-loop value delivery: Pursuing a balanced focus on value creation and value preservation.
  3. End-to-end value-chain cost management: Implementing ongoing annual productivity improvements through an integrated set of total-cost-of-ownership (TCO) levers.
  4. Supplier collaboration: Carrying out structured and proactive collaboration to reduce costs, mitigate risk, and drive product and process innovation.
  5. Organizational agility: Creating flat(ter) organizational structures with agile teams and streamlined processes, and establishing centers of excellence (COEs) and shared services centers (SSCs) to achieve headcount efficiency and organizational scalability.
  6. Next-gen capabilities: Programmatic development of core procurement, leadership, and digital skills.
  7. Digital adoption and data analytics: Ensuring broad availability and adoption of digital source-to-pay (S2P) tools and advanced analytics to make procurement automated, proactive, and predictive.

Collectively, these investment priorities can help companies develop procurement functions that can respond effectively to shocks and deliver significant performance benefits.

Procurement has a tangible, measurable impact on companies’ performance. The global financial crisis revealed that these companies were not only able to manage costs down, but were most proactive in preparing for recovery, which improved their valuation as they emerged from the crisis. They didn’t simply wait for opportunity to come their way—they had a through-cycle mindset and acted decisively.

In the next blog post in this series, we will explore two case studies illustrating how companies in different industries have seized this opportunity amid the COVID-19 pandemic. Both have gone beyond viewing procurement as a tactical function, maximizing its impact on the bottom line and preparing for success in the next normal.

Connect with our Operations Practice