If Value Matters, Why am I Measured on Cost?
100% of the CEO’s we surveyed want purchasing to deliver value, only 58% think value is being delivered. When we look at the metrics used to measure performance we often find:
- Purchasing is measured on price reductions alone, not on value provided
- Purchasing alone has ownership of the cost/value goal
- Metrics are short term/current year focused
Price vs. Value
Our experience indicates that Chief Purchasing Officers are measured on purchase order price reductions. We rarely find that they are measured on value. We have found that this PO-to-PO price focus can lead to the following types of behavior in organizations:
- Buyers pursuing cost reduction activities without considering the cost of implementation on budgets managed by other functions like operations or engineering.
- Organizations making investments to implement cost reductions without considering return-on-investment criteria that are routinely applied to other decisions. Needless to say, items get implemented that do not meet the ROI threshold.
- Purchasing trumpeting cost reductions on items which are near the end of their production life.
- Suppliers front-loading their pricing to provide room for annual price reductions.
Instead of measuring on PO-to-PO price reductions we believe that purchased materials cost metrics should include items like:
- How the savings was achieved
- Implementation costs
- Offsets for savings passed along to the customers
What are the top methods that move specific commodities costs towards optimal?
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Purchasing should own the goal and metrics for material cost reduction. However, careful consideration needs to be given to what other company functions share in the purchased materials cost reduction metrics and how they are shared. In organizations where purchasing alone owns material cost reductions:
- Acrimony exists between functions in the company
- Buyers have a difficult time gaining cross-functional support for cost reduction efforts
- Decisions are made without consideration for the impacts on customers
Current Year Focus
Most frequently, we find that purchasing is measured on the impact cost reductions will have on the current year’s financial results. This can lead to buyers delaying the implementation of cost reductions from the current year to the beginning of the next year to get a full year’s credit.
Instead, the value metrics should focus on the longer-term impact of the effort by including roll-over from one financial year to another.